The March 19 announcement that CIP Canada Investment Inc. would acquire Stratos Global Corp., the largest distributor of Inmarsat services, in a deal funded in part by Inmarsat, has clouded many a crystal ball as to what the deal may mean for the Mobile Satellite Services (MSS) industry.

The transaction, including the assumption of net debt, is valued at $576 million, with CIP Canada offering $6.40 Canadian ($5.52) per share. Inmarsat will lend CIP Canada, an investment firm focused on satellite companies, $250 million with Inmarsat to hold an option to buy Stratos in 2009. The move comes 19 months after Stratos closed a $191.3 million acquisition of rival satellite communications company Xantic B.V., giving Stratos a then 44 percent share of Inmarsat mobile satellite telecommunications revenue.

While terms of an existing commercial framework agreement (CFA) prevent Inmarsat from consolidating its distributors, the agreement expires in 2009, and Inmarsat’s option to buy extends from April 2009 to December 2010 (at a price basically equivalent to its loan, subject to assuming Stratos’ net debt of $327 million).

As Inmarsat spokesman Chris McLaughlin explained, "Inmarsat, prior to agreement with partners for its IPO, had made a distributor agreement till 2009 which prevents it from making a bid before that date. CIP has chosen to bid for Stratos, and approached Inmarsat for the idea in return for a call option. If we choose at that time, we have the surety to do so. We may choose not to, but it would depend on our plans going into the future."

Once there were 10 or more companies distributing for Inmarsat around the world, he said, but the picture has changed. In February 2006, Stratos completed its purchase of Xantic, giving it 46 percent of Inmarsat’s distribution. In July, France Telecom was bought by Apax Partners France, which in October agreed to purchase Telenor of Norway, and represents some 42 percent of Inmarsat’s distribution.

"So we would have had a situation in which nearly 86 percent of our distribution would have been in two hands," McLaughlin said. "The logic pure and simple is that Inmarsat cannot bid before 2009, and we wanted to take the uncertainty of going forward out of the mix. So we can choose or not choose [to buy Stratos] as we decide it, but it ensures competition and choice in the marketplace."

McLaughlin’s assertion intrigues analyst Tim Farrar of TMF Associates in Menlo Park, Calif., who believes that Inmarsat’s involvement reflects the company’s "rising concerns about whether its existing distributors will sell BGAN as actively as it desires, especially while the CFA remains in place, and restricts Inmarsat’s freedom of action."

In a March 20 research note, Farrar wrote "one of the most interesting comments on their analyst call was Inmarsat management’s assertion that the option ‘creates stability for new services’ and would encourage distributors to ‘sell both existing and new services’ providing ‘choice for customers.’ Our sense is that Stratos has not been terribly enthusiastic about BGAN’s potential, even compared to Telenor, and in fact Telenor/FTMSC had probably activated around 3000 terminals in total at the end of 2006, compared to 2049 for Stratos (despite our belief that Stratos has a higher share of Inmarsat’s overall land mobile revenues than Telenor/FTMSC)."

Farrar added that "while Inmarsat clearly has no direct control over Stratos, it is not hard to see why Stratos would have an incentive to favor Inmarsat services (and ultimately accept Inmarsat’s terms for replacement of the CFA), since if Inmarsat does not exercise its option, the interest rate on Inmarsat’s loan to CIP increases substantially (from 5.75% to 11.5%) and Stratos’s MSS business may become less rather than more valuable over time."

In an interview, Farrar said "clearly, from Inmarsat’s point of view, [the option] helps them a lot with renegotiation of the CFA. The outlook for the distribution business is not terribly rosy. With Inmarsat operating the Earth stations with 70 percent of end-users compared to 50 of the existing end-users, there’s a squeeze on distributors."

Thus, "from a purely financial basis, that decline in value was something that might make them want to think twice about owning their distributors," he added. "But I think what might have tipped the balance is that the distributors aren’t as enthusiastic about BGAN as Inmarsat wants them to be. They may not push people to migrate. BGAN has been a disappointment in most people’s eyes – so from that point of view, that leverage over Stratos can hopefully persuade people to migrate, which is something they need to do. That’s probably enough to tip the scales, even though Stratos isn’t going to be hugely valuable in the future. Also, they don’t want Apax to scoop up Stratos or even renegotiate the CFA and make life difficult for Inmarsat in that regard."

McLaughlin downplayed a published suggestion by Desjardins Securities analyst Joseph MacKay that stockholders ought resist CIP Canada’s offer for an offer between $7 or $9.25 Canadian ($6.03 or $7.97), saying "that suggestion is a non-starter, to put it bluntly. It isn’t going to happen. There’s not a regulator in the world that would allow that. Nice try, I think, is the saying."

Conversely, Farrar suspected that Inmarsat itself has left some matters for regulators to sort out. By McLaughlin’s own reckoning, he wondered, "why the hell wouldn’t that apply to Inmarsat?"

He observed "it is clear that maneuverings over Inmarsat’s future distribution agreements have now begun in earnest, but we suspect the full implications have yet to emerge," and thought "it would be logical to expect a more contested regulatory approval process for the Stratos transaction than Inmarsat has suggested, as well as a possible counter-bid from Apax. The next six months are likely to be very interesting for all participants in the MSS market."