Notes on China Unicom Merger

China Unicom (CHU - Analyst Report) announced it was merging with China Netcom (CN) and selling its CDMA business to China Telecom (CHA - Analyst Report). The new China Unicom will become a full telecom service operator after the deal and won’t operate two wireless networks at the same time. However, China Unicom will have difficulty integrating China Netcom’s fixed-line telecom business. Overall, the stock appears fairly valued, considering its 3G opportunities in China. Thus, we maintain our Hold recommendation on the shares.

China Unicom can focus only on GSM business after it sells its CDMA business. The company will also have enough cash to spend on its capital expenditure. Moreover, with a 23% market share in one of the world's fastest growing wireless markets, the new China Unicom should be capable of generating consistent annual earnings growth in the future. China Unicom is also well-positioned to leverage the considerable opportunity in the Internet field.

Currently, China Unicom is trading at a forward multiple of 23.0x our 2008 EPS estimate, which is higher than industry mean and the industry median. China Unicom is trading at a forward multiple of 21.8x our 2009 EPS estimate, which is similar to the industry mean and higher than the industry median. Thus, we set a target price of $20.75 per ADS based on a modest increase in the company's price/earnings ratio which we believe is a more appropriate valuation measure.

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