Pacific Century CyberWorks (PCCW) has at long last managed to seal a deal with Telstra, albeit on terms very different from those outlined when the transaction was first announced in April. The removal of the uncertainty as to whether or not a deal would be struck should be a positive factor for PCCW’s shares, the price of which has fallen 70% since it peaked in February to HK$7.65 – the price at which it last traded before being suspended.
Although this should happen, we will find out on Monday - judgement day – exactly what is the market’s view of this deal. PCCW Chairman Richard Li needs to earn some shareholder goodwill given that Telstra has already secured the approval of its shareholders. Telstra’s shares were not suspended today and rose A$0.10 to A$5.95 on a day when the ASX All-Ordinaries Index fell 22.80 points to 3,157.60.
So what was agreed? The key difference is that Telstra now only puts up $2.055 billion, instead of the $3 billion it would have paid under the original deal. What’s more, it gets more for less.
Originally, Telstra was going to buy a $1.5 billion unsecured convertible note from PCCW. This convertible had a strike price of HK$23.69, paid interest of 3% for the first four years and 5% for the next two. Telstra is buying a more modest $750 million convertible note secured on PCCW’s stake in a 50/50 IP backbone joint-venture being formed as part of the deal. This convertible, which can be redeemed at any time by PCCW, has a strike price at a 15% premium to PCCW’s average share price over the next 45 days and pays 2% a year more interest.
On the mobile phone side, Telstra was going to pay $1.5 billion for 40% of PCCW’s mobile phone business (HKT Mobile). Now it is getting 60% of the business (and hence management control) for $1.68 billion. This business will assume the costs of securing licences and technology for 3G telephony. There are plans to get another strategic investor aboard, to help pay for these costs.
On the IP backbone side, PCCW and Telstra are forming a 50/50 joint-venture. This business was always going to take on debt – in the event a figure of $2 billion is planned – and pay PCCW and Telstra for their IP backbone assets. Telstra is getting $375 million for its IP assets, which is less than was originally planned, and PCCW is getting $1.125 billion for its IP assets. For PCCW, the move shifts some of its debt off its balance sheet.
There is also a 50/50 internet data centre joint-venture, which will have offices across the Asia-Pacific region. No details were given regarding how much each party will be investing in this business.
PCCW’s Li says: "We will receive $3.555 billion in cash. This will allow us to reduce our debt to less than $5.5 billion – a level few thought possible when we acquired Hong Kong Telecom just seven weeks ago." He does, of course, ignore the fact that the convertible note’s terms and size have changed dramatically in Telstra’s favour, the terms of the mobile business sale have changed dramatically in Telstra’s favour and the IP backbone business will be taking on $2 billion of debt.
Still, at least the company can get on with securing a credit rating and then get to work on around $6 billion of refinancing, not to mention some HK$7 billion ($898 million) of financing for the construction of its CyberPort development.
From Telstra’s perspective: "The revised terms are expected to have a number of positive implications for Telstra including a reduced cash commitment by about A$1 billion ($529 million) and increased asets, security and control compared to the previous position. On a pro forma basis for the year ended 30 June 2000, the transaction will be less dilutive to net profit after tax compared to the previous position."
