Sprint Earnings: Focus On Network Upgrade As Postpaid Subscribers Fall Again

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Sprint (NYSE:S) announced a weak set of fiscal second quarter results on Monday, November 3, as it continued to lose retail subscribers due to sustained negative customer perception of its network quality as well as heightened competition in the industry. The third largest wireless carrier in the U.S. lost 272,000 net postpaid subscribers during the quarter, compared to a loss of 181,000 postpaid subscribers last quarter, though it was better than its loss of 360,000 posted in the same period last year. The 272,000 figure includes tablet net adds of 261,000, which means that Sprint’s loss of the more lucrative handset subscribers was even worse. Despite continued retail losses, net subscriber additions on the Sprint platform were 590,000 for the fiscal second quarter, primarily aided by net addition of 827,000 wholesale subscribers, which were boosted by increased adoption of connected devices (related to connected vehicles). ((Sprint Earnings Call Transcript, Seeking Alpha, Nov 3 2014))

The carrier is facing intense competition for new subscribers, with rival T-Mobile stepping up its “Uncarrier” promotions, AT&T (NYSE:T) responding aggressively with its “Next” plans and market leader Verizon (NYSE:VZ) banking on its superior network quality and “More Everything” offerings. Sprint has also been lagging rivals Verizon and AT&T in LTE coverage and quality, which is proving key to retaining and adding new subscribers in a saturated market. However, management stated that most of the company’s network upgrade has been completed and its 4G LTE network now covers about 260 million people across the country. Its Spark upgrade program is also underway and currently covers 92 million people, with a target of covering 100 million people by the end of the calender year. We expect this to help the carrier reduce its high churn levels and improve net monthly additions going forward. ((Press Release, Sprint, Nov 3 2014)) ((Presentation, Sprint, Nov 3 2014))

The company stated in its earnings call that the turnaround strategy adopted by new CEO Marcelo Claure was bearing fruit. This was reflected in its performance in September, when postpaid phone gross additions grew by 37% sequentially and also increased year-over-year (y-o-y) for the first time in 2014. Sprint expects to get back to positive net user adds by next quarter. The LTE build-out, coupled with the iDEN shutdown, helped the carrier improve network efficiency, which together with company-wide cost reductions and lower subsidy costs helped Sprint’s adjusted EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) grow by 3% y-o-y to $1.4 billion. However, this was far below the 30% y-o-y growth witnessed in the previous quarter and can be attributed to lower service revenues driven by the carrier’s declining postpaid subscriber base. On account of continued postpaid subscriber losses, the company significantly revised its EBITDA guidance from $6.7-$6.9 billion to $5.8-$5.9 billion for calender year 2014.

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Highest Postpaid Churn Rate In 6 Years

With the wireless market becoming increasingly saturated, carriers have become aggressive with their pricing strategies in order to gain market share. T-Mobile started the trend with its “Uncarrier” initiatives, stealing market share from rivals in the process. AT&T’s aggressive response to T-Mobile, when it pushed its “Next” installment plans and discounted the service prices of its Mobile Share plans, further intensified the competition. Although reluctant to get into a price war initially, Verizon raised it up a notch with its “More Everything” and “Edge” plan offerings. The promotional activities and discount offerings seem to have worked well for T-Mobile, Verizon and AT&T, with the carriers reporting postpaid subscriber gains of 1.8 million, 1.5 million and 785,000, respectively, in the three month period ending September 30 this year.

The adverse impact of rising competition on Sprint is demonstrated by the fact that it reported a net loss of 272,000 postpaid subscribers and a loss of 500,000 postpaid phone subscribers in the last quarter. The rising postpaid subscriber losses resulted in the carrier reporting its highest retail postpaid churn rate in six years, at 2.18%. The company also attributed this to a high proportion of sub-prime subscribers in its overall base, leading to a lot of involuntary deactivations. Management stated that it had already taken certain steps to improve this mix going forward, but involuntary deactivations are likely to negatively impact churn rates in the next quarter as well.

CapEx Guidance Reduced On Focused Network Deployment Strategy

Sprint’s LTE coverage – another important consideration for subscribers and a concern over the last couple of years – reached 260 million PoPs (points of presence) by the end of September, meeting the company’s target. With the carrier’s “Spark” plans underway and expected to pick up speed after the LTE rollout, we expect Sprint to become more competitive in 2015. The Spark strategy will help it make use of Clearwire’s 2.5 GHz spectrum to add data capacity and potentially push 4G speeds to more than five times what is currently prevalent in the industry. The company stated in its last earnings call that its median data downlink speeds increased about 20 times from last year to over 30 Mbps. This result was obtained in a study conducted by RootMetrics for O’Hare International Airport (ORD) in Chicago. [1]

Considering that the implementation of Spark was likely to require significant capital expenses, Sprint maintained its elevated capital expenditure forecast of $8 billion for calendar year 2014 in the first quarter. However, since the Network Vision rollout had been substantially completed by the second quarter, and the company was seeing high levels of efficiency in its capital spending, it reduced its 2014 CapEx forecast by 12.5% to $7 billion. Now, the company has announced another change in its network deployment strategy and reduced its CapEx forecast further by $1 billion to $6 billion for calendar year 2014.

The carrier intends to follow a three-step approach, which aims to 1) Complete the 800 MHz LTE deployment across the country; 2) Utilize the 2.5 GHz spectrum to resolve network congestion issues in affected markets; and 3) Deploy the 2.5 GHz spectrum across the country for improving overall network quality and speed. It is important to note that the carrier’s network deployment strategy does not focus on its existing 3G network or its upgrade, and that is the primary reason why it has has further reduced its CapEx guidance to $6 billion.

Cost Cutting Efforts Stepped Up

In order to improve profitability, the company will need to increase its top line as well as reduce costs. While focusing on data usage and new subscriber additions takes care of the former, the company announced several initiatives in the earnings call to cut costs, as part of its cost optimization program.

The company announced that it would eliminate about 2000 positions from its workforce, in addition to job cuts announced last month, and expects to save about $400 million in labor costs on an annualized basis going forward. In addition to this, the company expects to save about $100 million on account of lower product, procurement and distribution costs and $150 million by improving IT and customer care services. All such efforts are part of Sprint’s larger plan to cut $1.5 billion in costs on an annualized basis going forward, compared to its spending in 2014.

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Notes:
  1. Q1 2014 Presentation (Page 18), Sprint, July 30 2014 []