In 2005, Sprint merged with Nextel, and acquired several of that company’s affiliates, to form Sprint Nextel (S). The following year, to focus on the wireless market, management spun off local wireline assets to investors, under the Embarq moniker. CenturyTel, now known as CenturyLink (CTL), eventually acquired Embarq. During 2006 and 2007, it became apparent that the Nextel system, based on iDEN (Integrated Digital Enhanced Network) technology, needed serious upgrades. Dropped calls and poor customer care caused heavy account defections. Too, a less-than-stellar handset lineup helped to push subscribers into the arms of others, notably AT&T (T) and Verizon Wireless, a Verizon Comm. (VZ)/Vodafone (VOD) partnership.
During 2008, a severe recession took hold, accelerating subscriber losses. Businesses slashed employment and terminated wireless service contracts. Also, consumers, suffering from job losses and having much less discretionary income, cancelled or did not renew their accounts. At a growing rate, subscribers switched from high-margined, postpaid contract service to more-economical, unlimited, prepaid, no-contract offerings, such as those provided by peers America Movil (AMX), Leap Wireless (LEAP) and MetroPCS (PCS). Sprint did offer Boost Mobile prepaid service, which enabled it to hold on to a fair number of customers.
Market saturation was, and continues to be, another concern. At this time, U.S. wireless sector penetration is near 100%. Over the next couple of years, penetration likely will exceed this level, since subscribers commonly own more than one cellular phone, but sector growth will moderate. Competition for market share among the telcos is intensifying. In most cases, monthly average revenue per user is eroding and operating margins are under strain. We estimate that Sprint’s revenue and operating margin will be $32.2 billion and 19.0% this year, down from $41.0 billion and 29.4% in 2006, respectively. In 2006, the telco earned $0.34 a share, and we estimate a loss of $0.75 a share for 2010.
Over the course of 2008, Sprint lost 4.07 million net postpaid subscribers. Dan Hesse assumed the office of CEO late that year, and was able to bring the losses under control in 2009. Indeed, by beefing up network performance, customer care, and handset availability, he cut the quarterly postpaid loss rate from about one million to the 500,000-600,000 range in the two most recent reporting periods (December and March). Total net subscriber losses, including prepaid and wholesale, narrowed from a September 2008 quarter peak of 1.32 million to a low of 75,000 in the March 2010 period. This allowed the company to report its first sequential-quarter revenue gain since June 2007.
Sprint has a good measure of unused capacity on both its iDEN and legacy CDMA (Code Division Multiple Access) networks, and Mr. Hesse intends to fully utilize the available spectrum. Management is implementing a competitive, multibrand, customer-category-specific, prepaid marketing strategy, which should soon hike Boost Mobile and Virgin Mobile revenues. Additional wholesale agreements will aid in meeting the CEO’s network utilization goal.
A new fourth-generation (4G), wireless fidelity, broadband service, known as WiMax, along with smartphone introductions, is helping to bring back more premium, postpaid customers. This service, provided via a partnership with Clearwire (CLWR) and a few cable operators and tech companies, is the first of its kind to market and should be available to as many as 120 million potential subscribers by the end of this year. AT&T, Verizon Wireless and MetroPCS are developing competing 4G, Long-Term Evolution services.
Recently, AT&T, with the aim of resolving network congestion problems, announced that it is shifting away from an unlimited price plan strategy to a tiered policy based on capacity usage. It seems likely that Verizon Comm. will also make this change. Sprint and Clearwire, with their ample spectrum resources, however, will stick to unlimited pricing, at least for the next couple of years. This could give them a competitive advantage. Low-cost service providers Leap Wireless and MetroPCS don’t appear inclined to immediately follow AT&T’s lead either. Rumors persist that these two telcos could merge or be acquired by a larger peer, thereby eliminating some competition. Note, however, that the Federal Communications Commission recently stated there has been too much consolidation in the industry over the past decade.
Sprint wants to reclaim net profits as soon as possible. Growth in both the prepaid and postpaid segments would stabilize revenue and allow for eventual incremental advances. During the recent recession, the company cut overhead, and cost-control initiatives are ongoing. Free cash flow is strengthening, providing the means to fund existing operations and lighten the debt burden. We believe that the telco can turn a profit in 2012.
Ahead, assuming a sustained U.S. economic recovery, telecom services demand should improve. Nevertheless, pricing pressure will stay constant, and telcos will have to deliver the most appealing offerings, while keeping their cost of service and capital outlays under control, to be successful and earn a solid profit, which is by no means an easy task.