Another Great "Backdoor" Play

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There's nothing we like better than discovering a "back" way into the current hot deal.

It's just so gratifying to find that sorta-secret way to bag profits from the IPO or merger that's dominating the headlines and that everyone you work with is so excited to talk about.

We did that for you with the Alibaba Holdings Inc. initial public stock offering (IPO). In our special research report, How to Make a Fast 153% From the Alibaba IPO, we give you three "backdoor" ways to profit from the upcoming stock offering of the China Internet giant.

Today we're coming back with a different "backdoor-profit-play" strategy.

This strategy offers an alternate way to profit from the already-announced $67.1 billion bid that AT&T Inc. (NYSE: T) has made for DirecTV (Nasdaq: DTV).

It's also a way to profit from the surprisingly strong tech sector that's emerging right next door...

The Action Is South of the Border

Mexico's push into high-tech makes a lot of sense. The country needs to attract foreign investment, and it wants to create high-value jobs and generate economic growth at a pace that greatly exceeds its richer neighbor to the north. But it wants to do all this using industries that don't create pollution or use too much water.

Tech fits the bill perfectly.

The area in and around Mexico City - the country's capital - is focusing on clean industrial development: call centers, information-technology (IT) operations, pharmaceutical research, and so-called "BPO" (business processing outsourcing) operations.

Indeed, Jose Merino, founder of Data4, a Mexico City-based multimedia startup, recently told Forbes writer Nathaniel Parish Flannery that, when it comes to high-tech and new media, "there's hardly a better country than Mexico. The number of engineers, quantitative social scientists, and programmers is really unparalleled."

Monterrey, an industrial outpost north of Mexico City, has emerged as the "capital of Mexico's programming scene," Flannery wrote. But Mexico City has a work force of nearly 4.5 million people - more than the entire population of Los Angeles. And its economy - worth an estimated $200 billion annually - ranks as the eighth-largest urban economy in the entire world.

According to Flannery, "Mexico City Mayor Miguel Mancera has also invested directly in the city's digital sector, drawing in IT and software professionals to a Laboratorio Para La Ciudad (Lab for the City) to help connect citizens to the government."

In short, Mexico is an economy - and a tech sector - that's on the rise.

In roughly the last decade, incomes in Mexico have increased some 60%, according to figures compiled by the World Bank. The agency says the country's gross national income (GNI) per capita was $16,140 in 2012, the last year for full data. That compares with $10,400 in 2003 - and is still well below the comparable figure of $52,340 for the United States.

But Mexico is moving in the right direction. Businesses from bakeries to the auto sector - which has created more than 100,000 new jobs there since 2010 - are calling Mexico home. In fact, auto companies now employ more folks in Mexico than they do in the U.S. rustbelt, where Detroit was once the world capital of car making.

The Mexican government obviously wants to keep this going.

In July, for instance, the Mexican government announced an ambitious program to invest $300 billion in infrastructure projects through 2018. Of that, roughly $100 billion will go toward new highways, rail lines, and telecommunications facilities. There's also a plan to upgrade the country's ports, since that could spur export growth.

The goal: The central Mexican government wants to rev economic growth up to 6% a year - well above the 2.3% to 3.3% that Mexico's central bank is projecting for 2014.

"This is really a tech-investor's dream," Radical Technology Profits Editor Michael Robinson told me the other night. "Bill, I know you like to identify specific 'catalysts' for your subscribers, and let me tell you ... there are plenty of them at work in that economy. The government's vision extends well beyond just employing the country's citizens, and turning them into a big mass of consumers who can afford smartphones, mobile plans and some of the other trappings that mark middle-class life. The central government sees a real opportunity to use high-tech to industrialize the entire country, creating meaningful growth and meaningful wealth. A recent report by nonprofit researcher Brookings Institution estimates that we're looking at about $10 billion in new investment over the next few years. And that is what I call a catalyst."

As our resident tech guru, Michael's usually right about these things.

But Michael and I both know that investments alone won't achieve the lofty goals that Mexico's leaders have set.

As I know from my drag-racing days, it's one thing to build a super-high-performance vehicle. But once that vehicle is ready to run, you can't have a "governor" on the gas pedal. In short, if you want maximum acceleration, the driver has to have the ability to mash the "go pedal" down to the floor.

And removing that "governor" means one thing - deregulation.

As part of its growth agenda, Mexico wants to focus heavily on deregulating its telecom industry.

And that's where our "backdoor" strategy for the DirecTV deal and Mexico's tech sector come into play.

In fact, it's where the two converge ...

Art of the Deal

U.S. regulators have some concerns about AT&T's desire to buy, own, and operate DirecTV.

And regulators in Latin America have some worries of their own.

"To raise about $6 billion in cash to finance the deal - and to appease regulators in Mexico and elsewhere in Latin America - AT&T is selling its 8% stake in a company that dominates mobile services in that region," Michael said.

The company in question is América Móvil SAB de CV (NYSE ADR: AMX). The company ranks as the world's fourth-largest wireless firm and has 19.7 million pay-TV customers and 246 million wireless subscribers in Latin America. In Mexico, it is the heavyweight, controlling 70% of the mobile market and 80% of the business for wired services.

"The roots of América Móvil go back decades... when it was part of Telefonos de Mexico SA, the state-run monopoly also known as Telmex," Michael said. "Billionaire Carlos Slim, one of the world's richest men, owns roughly 40% of América Móvil, making it a key part of his financial empire."

Mexico's Congress of the Union has approved a reform of the country's telecom laws. The objective there is to nurture growth and attract more foreign investment by creating more competition.

That means that América Móvil will lose some of its de facto monopoly status.

That's not all bad, however.

In 1989, Fortune magazine did a study of U.S. telecom deregulation - specifically, the breakup of "Ma Bell."

The magazine arrived at an intriguing conclusion. AT&T shareholders who kept their stock - and rode out all the changes - more than doubled their money in less than six years.

And with all the wheeling-and-dealing and buyouts that have followed, investors who stayed for the entire telecom-deregulation party have made out very well, indeed.

Michael believes we'll see a similar scenario play out in Mexico, meaning today's AMX shareholders - the ones who display patience - will reap a hefty windfall in the next few years to come.

"Granted, Bill, the Mexican government has yet to describe how or when it will deregulate its telecom sector," he said. "But it has a big incentive to bring about U.S.-style deregulation: Right now only about 20% of the population has a broadband subscription and fewer than 40% of the folks there have Internet access. More competition will mean more participants - creating a virtuous cycle of tech adoption that can only feed into the broader economic-development initiatives."

Let's run some numbers.

Trading at roughly $20 a share, América Móvil has a $70 billion market cap. It has operating margins of 19% and a 27% return on stockholders' equity (ROE). The stock has a forward Price/Earnings (P/E) ratio of just 11.35, meaning the shares are trading at about a 40% discount to the Standard & Poor's 500 Index.

"At current valuations, we have a good margin of safety based on solid empirical data," Michael said. "Over the past year, América Móvil shares haven't closed below $18.95, which is only about 6% below current prices. The stock also pays a 1.7% dividend."

"Both those factors, I believe, limit the downside. But investors are worried about deregulation. The way I see it, that makes this stock one of those profit opportunities where the current perceived risk is much higher than the risk investors actually face."

In other words, the risk is less than most folks think, and the potential return is actually much, much greater. We're set up perfectly for another backdoor winner.

About the Author

Before he moved into the investment-research business in 2005, William (Bill) Patalon III spent 22 years as an award-winning financial reporter, columnist, and editor. Today he is the Executive Editor and Senior Research Analyst for Money Morning. With his latest project, Private Briefing, Bill takes you "behind the scenes" of his established investment news website for a closer look at the action. Members get all the expert analysis and exclusive scoops he can't publish… and some of the most valuable picks that turn up in Bill's closed-door sessions with editors and experts.

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