Sprint’s iPhone Bet Is Starting To Pay Off, $3.75 Fair Value

Sprint (NYSE:S) announced a mixed set of Q1 results in its earnings report Wednesday. The company said that its revenues grew 5% over the same period last year and that it added a net 263,000 postpaid subscribers to its Sprint network (excluding Nextel losses). ^[1] However, that did not stop its net losses from mounting as it incurred heavy operating costs on the execution of its ‘Network Vision’ strategy and accelerated the depreciation of its outdated Nextel network. Net losses for the quarter came in at $863 million, up from $439 million incurred a year ago. Still, the fact that it added so many postpaid subscribers in a quarter when giants AT&T(NYSE:T) and Verizon (NYSE:VZ) have seen big drops in new customers gives us reason to believe that Sprint’s expensive iPhone strategy might be working after all.

We have a revised price estimate of $3.75 for Sprint, about 55% ahead of the current market price.

See our complete analysis of Sprint here

iPhone strategy paying off

Sprint has been incurring heavy annual postpaid subscriber losses for a long time now and its decision to carry the iPhone came as a solution to that problem. However, since Sprint was a tad late in jumping on the iPhone bandwagon, it had to make a huge upfront commitment of nearly $15.5 billion to Apple over a four-year period. This was a massive bet considering that the company already has a highly leveraged balance sheet with about $26 billion in debt on its books compared to a market capitalization of only around $7.5 billion.

That bet seems to be paying off now that the company has had two strong quarters of postpaid net adds on its core Sprint network. Sprint added a net 263,000 subscribers to the Sprint platform this quarter, below last quarter‘s 539,000 but a tad more than net adds posted a year ago. This came even as an increasingly saturated wireless market has caused behemoths Verizon and AT&T to add fewer postpaid subscribers this quarter.

Excluding tablet sales, which bring in lower average fees, Verizon added about 250,000 net contract-based subscribers and AT&T only around 7,000 in the March quarter. Sprint’s postpaid net adds would also include tablet sales but the proportion would be insignificant since it doesn’t sell the iPad.

The iPhone has had a big role to play in this as it brought in about 660,000 new subscribers to Sprint, 44% of its total iPhone sales. Also, Sprint seemed to be the least impacted by the seasonal slowdown in iPhone sales in the U.S. as it activated about 1.5 million iPhones during the quarter, just 16% lower than it did last quarter. AT&T and Verizon meanwhile saw sequential declines of 43% and 24% in iPhone sales respectively.

Margin recovery

The continued strong performance of iPhone sales saw margins continue to remain depressed versus a year ago but they still rebounded over the previous quarter’s low. Sprint’s OIBDA margins for the March quarter was 470 basis points (4.7%) lower than during the same period last year. Still, it recovered from the previous quarter’s subsidy shock by over 440 basis points (4.4%) as iPhone sales brought in higher service fees.

Sprint’s postpaid ARPU generated from its core Sprint platform (excluding Nextel) increased by over $4 versus the year-ago quarter, driving wireless revenue growth of 16% year-over year. As smartphone penetration increases and Sprint realizes the benefits of the $10 add-on data charge that it had implemented in 2011, the higher data ARPUs that the added smartphone customers will generate over the life of their contractual period (two years) should help margins in the long term.

LTE

Sprint also gave an LTE update saying that it was on track to launch it in 6 major cities by the mid-year. With Verizon and AT&T far ahead in the LTE race, it will need its LTE network up and running in at least a few key cities before the iPhone 5 launches (which we expect will be LTE-compatible), otherwise it runs the risk of losing a lot of new potential customers to its rivals. (see Sprint’s LTE Plans Are Coming Up Short As iPhone 5 Approaches)

Understand How a Company’s Products Impact its Stock Price at Trefis

1. Sprint Nextel’s CEO Discusses Q1 2012 Results – Earnings Call Transcript, April 25th, 2012 [↩]