Why Shares of Mitel Networks Corp. Slumped Today

By Markets Fool.com

Although we don't believe in timing the market or panicking over market movements, we do like to keep an eye on big changes -- just in case they're material to our investing thesis.

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What: Shares of Mitel Networks slumped on Monday after the company announced that it was acquiring Mavenir Systems for about $560 million. By 12:30 PM, Mitel stock was down around 13%.

So what: The acquisition is large relative to Mitel's market capitalization, and it will require the company to finance the cash portion of the deal. Mavenir shareholders will have the option for either an all-cash or an all-stock payment, receiving $17.94 per share based on Mitel's stock price on Feb. 27. The amount of debt that Mitel will ultimately take on to finance this deal is yet to be determined.

Mitel provides communications services to enterprise customers, and the company expects that its total addressable market will expand by about $14 billion by 2018 thanks to the acquisition. Mavenir's existing relationships with service providers and mobile operators will also allow Mitel to expand its footprint in that area.

The transaction is expected to be completed in the second quarter of 2015.

Now what: Mavenir is an unprofitable company, and Mitel is paying a bit more than four times sales. It's an expensive acquisition that will likely hurt Mitel's profitability, due to both Mavenir's losses and the additional annual interest payments Mitel will need to pay in order to finance the deal.

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The deal will also cause some dilution for existing Mitel shareholders, and the market is reacting in a way that suggests that investors don't believe the acquisition will be a net positive. It will help Mitel grow revenue, which it struggled with from 2011-2013. In 2014, Mitel nearly doubled its revenue thanks to its merger with Aastra.

Companies growing purely by acquisition can be dangerous, since a deteriorating core business can be hidden behind impressive nonorganic revenue growth. Mitel's most recently reported quarter showed that its revenue adjusted for the Aastra acquisition actually declined year-over-year. Investors should always have a good understanding of where a company's revenue growth is coming from before investing in the stock.

The article Why Shares of Mitel Networks Corp. Slumped Today originally appeared on Fool.com.

Timothy Green has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.