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(Reuters) - AT&T Inc, the biggest U.S. phone company, said on Tuesday that it would sell its wireline operations in Connecticut to regional telephone operator Frontier Communications for $2 billion in cash, to help fund network upgrades.
Frontier shares rose more than 8 percent after it said the deal would boost its dividend payout ratio, generate savings and improve its adjusted free cash flow.
Since many people are disconnecting home phones in favor of wireless services, regional operators such as Frontier have had to look to acquisitions for growth. AT&T, which depends on wireless for growth, and has said it would look to sell non-strategic wireline assets.
Citi analyst Michael Rollins said the addition of AT&T customers would help boost Frontier's valuation.
"With broadband penetration above Frontier's average already, we view the transaction as largely a financial opportunity for Frontier to present better near-term free cash flow metrics," said Rollins, who said its shares could rise as high as $5.15 as a result of the deal.
Frontier shares were trading at $4.77, up 36 cents in midafternoon trade on Nasdaq.
Credit Suisse analyst Joseph Mastrogiovanni said the price implies an enterprise valuation of 4.8 times earnings before interest, tax, depreciation and amortization for the phone lines and compares with a multiple of approximately 4.5 times for assets Verizon Communications sold to Frontier in 2009.
Atlantic Equities analyst Chris Watts said it made sense for AT&T to exit its Connecticut wireline business as it is the only state in the U.S. Northeast where it operates traditional phone service. Its main operations are in the South and Midwest.
AT&T cited the deal as a source of funding for ongoing upgrades of its wireless and wireline networks. But along with its sale on December 16 of wireless towers to Crown Castle for $4.83 billion, the Frontier deal could also help support global ambitions as AT&T is considering expanding into Europe.
"Two billion dollars in additional cash financing wouldn't harm that at all." said Watts.
But on its own, the deal does not move the needle much financially for AT&T, which said the Connecticut operations bring in $1.2 billion in annual revenue, or less than 1 percent of its expected 2013 revenue.
AT&T said the deal will not affect its 2013 results and that it does not expect significant changes to its project VIP network upgrade, which involves a wireless upgrade with faster data speeds and an expansion of its U-verse service.
AT&T said it still plans to keep serving wireless consumer and business clients in Connecticut and will continue with its planned wireline network upgrades in its remaining 21 states.
Under their agreement, Stamford, Connecticut-based Frontier will buy more than 900,000 phone lines, about 415,000 broadband connections, and about 180,000 of AT&T's U-verse video subscribers.
The deal, expected to close in the second half of 2014, is subject to review by federal and state regulators.
Frontier, which operates in rural areas and smaller towns in 27 U.S. states, said it expected the deal to improve its adjusted free cash flow per share in the first year after closing and help it achieve annual savings of $200 million after integration.
It also promised a 5 percent increase in its dividend pay-out ratio for the first year after the deal close.
About 2,700 AT&T employees, most of whom are part of the Communications Workers of America union, will join Frontier after the deal closes and Frontier has agreed to honor their existing labor contract, according to the companies.
AT&T shares were down 30 cents at $33.85 on the New York Stock Exchange.
(This version of the story fixes spelling of Rollins' first name)
Additional reporting by Sruthi Ramakrishnan in Bangalore; Editing by Kirti Pandey, Chris Reese and Leslie Gevirtz