Story Stocks^®

Yesterday afternoon, the Wall Street Journal broke a story that telecom giant Verizon (VZ) was nearing a deal to acquire Frontier Communications Parent (FYBR), sending shares of FYBR rocketing higher by 38%. That report was confirmed this morning when the two companies announced a deal valued at $20 bln with VZ agreeing to pay $38.50/share in an all-cash transaction. Shares of FYBR are trading materially below that buy out price, though, reflecting the uncertainties of the deal closing, due to either shareholder or regulatory approvals.

• As is typical for the company making the acquisition, shares of VZ have dipped lower by nearly 4% since the WSJ published its story yesterday. In this particular case, the drop isn't related to dilution issues since VZ is financing the acquisition with cash. Rather, we believe the concern mainly revolves around VZ's use of capital and its high debt balance. As of June 30, 2024, the company's total debt balance totaled $146.8 bln and that figure stands to increase should this deal go through.
• After emerging from bankruptcy in 2020, FYBR's financial health is still far from pristine as its total debt surpassed $11.0 bln at the end of 2023 and as its free cash flow has languished in negative territory over the past three years. If VZ completes this transaction, FYBR's debt would be tacked onto its balance sheet, putting more strain on its ability to pay interest, cover its dividend, and reinvest in the business.
• It's probably not a coincidence that VZ also announced a small dividend increase after the close yesterday, raising it to $0.6775/share from $0.665/share. VZ seems to be signaling that its dividend is safe, even as it prepares to shell out $20 bln for FYBR and potentially take on more debt.
• From a strategic standpoint, we believe the acquisition is a good fit because it would significantly expand VZ's fiber broadband business at a time when the wireless equipment business in slowing. In Q2, VZ saw a 13% decrease in wireless upgrades, reflecting sluggish smartphone demand within a persistently soft discretionary spending backdrop. On the flip side, total broadband net additions reached 391,000 in Q2, marking the eighth consecutive quarter with more than 375,000 net additions.
• Similarly, FYBR's fiber broadband business was strong in Q2 as the company added a record 92,000 fiber broadband customers, good for an 18.6% yr/yr increase. Looking ahead, the high-speed internet business should continue to thrive amid soaring data usage, especially with the emergence of AI technologies. Overall, a combined VZ/FYBR would boast approximately 9.1 mln consumer fiber subscribers, making the combined company the largest pure-play fiber internet provider in the U.S.
• Financially, the deal has some attractive qualities as well, including the expectation that it will be accretive to adjusted EBITDA and revenue growth rates upon closing. Additionally, VZ expects to realize at least $500 mln in run-rate cost synergies by year three, due to benefits related to increased scale and distribution.

The main takeaway is that an acquisition of FYBR would catapult VZ into a leading broadband company, providing it with a competitive edge over rivals AT&T (T) and T-Mobile (TMUS). Investing in its fiber footprint at a time when data usage is set to increase substantially as AI technologies launch looks like a sound strategy, but it would come at the cost of leveraging its balance sheet even more as it takes on FYBR's debt.