Sprint Earnings Preview: Postpaid Subscriber Adds, Free Cash Flow In Focus

Sprint (NYSE:S) is scheduled to announce its Q3 fiscal 2015 earnings on Thursday, February 5. The third largest wireless carrier in the U.S. is facing intense competition for new subscribers, with rival T-Mobile stepping up its “Uncarrier” promotions, market leader Verizon (NYSE:VZ) banking on its superior network quality and “More Everything” offerings and AT&T (NYSE:T) responding aggressively with its Next plans. Sprint has also been lagging rivals Verizon and AT&T in LTE coverage and network quality, which is proving key to retaining and adding new subscribers in a saturated market. In the quarter ending September 2014, Sprint lost 272,000 net postpaid subscribers, compared to a loss of 181,000 postpaid subscribers in the previous quarter, though it was better than its loss of 360,000 posted in the same period last year. The 272,000 figure included tablet net adds of 261,000, which means that Sprint’s loss of the more lucrative handset subscribers was even worse.

As part of the preliminary subscriber data released recently, Sprint announced that its postpaid net additions returned to positive territory (30,000) in Q3 FY15 after three quarters of consistent declines. With prepaid net additions of 410,000 and wholesale net additions of 527,000, Sprint reported overall net additions of 967,000 subscribers in the quarter ending December 2014. Sprint ruffled a few feathers in the market with its innovative offerings, which was apparent from a spike in the quarterly postpaid churn figures of market leaders Verizon and AT&T, both of which reported earnings last month. A return to positive postpaid subscriber adds is certainly good news for Sprint, but this may not be enough to allay fears about the sustainability of its turnaround strategy. In addition to postpaid subscriber adds, it will also be interesting to look at the carrier’s network coverage and cash flow situation in the upcoming earnings release to better gauge its overall performance. ((Sprint Press Release, Jan 8 2015))

Our price estimate for Sprint is about $8.50, which is significantly ahead of the current market price.

See our complete analysis for Sprint

Key Metrics: Subscriber Growth, ARPU, Margins, Free Cash Flow

Since Sprint’s new CEO Marcelo Claure took over in August last year, the company has launched a number of innovative offerings to attract customers, including the “Cut Your Bill in Half” event, “Double the Data” and “iPhone for Life”. Sprint’s marketing efforts so far have focused on the fact that it is significantly cheaper than its competition, namely Verizon, AT&T and T-Mobile. Whether users will enjoy comparable quality of network and service across the country is another question, with the carrier and subscribers having contrasting opinions. Nonetheless, the important question from an investor’s perspective is this – how can a company with $26 billion in net debt, negative free cash flows and negative operating margins afford to engage in aggressive price wars?

The carrier is burning cash to improve its market share, and gaining postpaid subscribers is perhaps the only sure way to remain competitive. The company is willing to compromise on margins and average revenue per user (ARPU) in the process, because these won’t matter if subscribers continue to leave. The more important question is – how long can it sustain such aggressive pricing? The company’s balance sheet and cash flow situation does not present a positive picture, and it will definitely need to raise capital to fund its turnaround plans. Therefore, the company does not have a lot of time to turn around its ailing fortunes. The company needs rapid gains in postpaid user adds and an overhaul in customer perception of its network. If subscribers regain trust in its network, it will be a lot easier for them to seriously consider its innovative offers. So, in the near term, the company can continue with its aggressive price cuts to gain subscribers, but it will need to bank on network quality and strong ARPU for sustainable growth going forward.

Watching For Coverage Expansion Plans

Sprint’s LTE coverage – another important consideration for subscribers and a concern over the last few years – reached 254 million PoPs (points of presence) in September 2014 and is slightly ahead of rival T-Mobile, which reached 250 PoPs by the end of last year. There is usually a lag associated with churn figures improving after network upgrades, and as a result the subscriber recovery should be gradual. Now that the Network Vision upgrade is complete, we expect Sprint’s Spark plans to pick up speed and help the carrier become more competitive in the near to medium term.

Sprint’s Spark strategy will help it make use of Clearwire’s 2.5GHz spectrum to add data capacity and potentially push 4G speeds to more than five times what is currently prevalent in the industry. However, the implementation of Spark will require significant capital expenses. It will be interesting to see what Sprint sets as its coverage expansion target (markets or PoPs) for the 2.5 GHz spectrum for fiscal year 2015. T-Mobile recently announced its ambitious target of increasing its LTE coverage to 300 million people in the country by the end of 2015 compared to its current coverage of about 264 million. For perspective, market leader Verizon’s LTE network presently covers about 303 million people in the U.S.

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