Sprint's iPhone: The Gift That Keeps on Taking

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Sprint Nextel (NYSE: S  ) CEO Dan Hesse has put great emphasis on the iPhone being the key to good fortune ahead. At the beginning of Sprint's third-quarter conference call he stated, "We believe the number one reason new customers don't try Sprint has been 'No iPhone.'"

And his point was proven with Sprint's fourth-quarter earnings announcement that of the 1.8 million iPhones Sprint sold during the fourth quarter, 40% went to new customers. Those new subscribers helped the carrier to a net gain of 1.6 million users for the quarter, bringing up the company's total base to more than 55 million. That breaks down to 33 million postpaid, 14.8 million prepaid, and 7.2 million wholesale customers.

However, the lure of the iPhone came at a price. Check out the chart below. It shows Sprint's revenues for the fourth quarter (beginning in October, which was also when Sprint began offering the iPhone) zooming up precisely as its operating margin falls.

Sprint's revenues vs. operating margin

Source: YCharts.

Sprint's deal with Apple (Nasdaq: AAPL  ) was for the carrier to buy $15 billion worth of iPhones over a four-year period, but from the chart it looks like the more iPhones Sprint sells, the deeper in the hole it's going to get. For during the fourth quarter, that hole became $1.3 billion deeper. That wasn't helped by Sprint's OIBDA, or operating income before depreciation and amortization, falling to 9.5% during the quarter, down from 16% during the same period last year.

Could this be what CEO Hesse meant during his third-quarter conference call when, in a tortured Moneyball analogy, he compared Sprint's getting the iPhone to a baseball team signing A-Rod to score runs and fill the seats in the stadium? "iPhone has an expensive contract, but he's worth every penny," he said.

To be fair, Sprint is not the only carrier facing the iPhone paradox, the need to entice customers to sign long-term contracts by offering the iPhone even though the company must eat much of that phone's cost. AT&T (NYSE: T  ) , which sold 7.6 million iPhones during the fourth quarter, saw the same rising-revenues-with-falling-margins-iPhone phenomena:

AT&T revenues vs. operating margin

Source: YCharts.

Verizon (NYSE: VZ  ) , which sold 4.2 million iPhones, wasn't immune, either:

Verizon revenues vs. operating margin

Source: YCharts.

Apres iPhone: LTE
Capital expenditures also contributed to Sprint's negative bottom line. The costs of building and maintaining the company's infrastructure ate up $3.13 billion for the year, compared to $1.94 billion for 2010. But to stay competitive with rivals AT&T and Verizon, Sprint must be able to produce a 4G LTE network. Verizon already has 195 markets covering 200 million people. AT&T has 26 markets covering 75 million. Sprint plans on have six markets served by its LTE network by mid-2012.

Sprint's LTE plans have been much discussed in 2011. It's continuing partnership with Clearwire (Nasdaq: CLWR  ) faced doubt when the carrier signed a deal with LightSquared as its future LTE provider. But as LightSquared's continuing problems with the FCC -- the company's inability to put to rest doubts about its network signals not interfering with GPS devices -- and the specter of a bribery accusation from Sen. Chuck Grassley (R-Iowa) hanging over its head, Clearwire's future with Sprint has started looking more secure.

Indeed, Hesse, when asked about the Clearwire-Sprint relationship during the conference call, said that Sprint would continue to use Clearwire's 4G WiMAX network services for the foreseeable future, and that " … probably, in the 2013 timeframe, you'd begin to see devices that we'll start offering that will work on Clearwire's new LTE network."

Sprint has also announced that it will be phasing out its push-to-talk iDEN network, the "Nextel" part of Sprint Nextel. The decommissioning of iDEN in the 250 Nextel markets will begin in 2013, with the Sprint planning on migrating those customers over to the same service on its CDMA network. The company will also be ridding itself of 44% of its cell towers, dropping down to 38,000, which, it says, will reduce 3G and 4G roaming costs. Some would say that the whole Nextel deal was a no-go from the beginning.

Inside a bad baseball analogy
But going forward, there is still going to be the law of the iPhone's diminishing profit margins for Sprint to contend with. To torture the baseball analogy a bit more: It's like the Washington Nationals signing A-Rod to a $15 billion four-year contract with a $1 million bonus for each home run he hits. After a while, the owners may start hoping he'd become a singles hitter instead.

Apple obviously has certainly pulled in large profits from its iPhone, but investors shouldn't overlook those companies that supply the chipsets and other bits that Apple and the other smartphone makers need to produce their devices. For an inside look at three such companies that The Motley Fool's analysts think are good bets, get this special report. It's free!

Fool contributor Dan Radovsky owns shares of AT&T. The Motley Fool owns shares of Apple. Motley Fool newsletter services have recommended buying shares of Apple. Motley Fool newsletter services have recommended creating a bull call spread position in Apple. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Read/Post Comments (4) | Recommend This Article (11)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On February 09, 2012, at 9:57 PM, motleyinfo7 wrote:

    The carriers are taking a big risk selling the iPhone with such high subsidy, I know in our store we have large number of customers taking the iPhone and within 30 days transferring their number over to no contract service providers such as Simple Mobile ( ) and they are offering a $40 plan for unlimited talk, text and web with no contract and the iPhone does not even need to be unlocked.

    Beware of the numbers and check how much the carriers are actually losing in devices being switched out within 90 days which are not reported in the churn figures.

  • Report this Comment On February 09, 2012, at 10:57 PM, Raymondpoppy wrote:

    The fact remains that Sprint is the only U.S. carrier to offer new and existing customers the iPhone experience with unlimited data plans starting at $79.99 per month. An investment writer recently summed it up best: “Sprint now offers the best value proposition for a new smartphone user. I got my first smartphone on Sprint this fall because a new AT&T or Verizon data plan, without being grandfathered in with an earlier, lower price, is outrageous. My plan includes 450 afternoon mobile-to-landline minutes, unlimited other minutes, and unlimited texting and data for $79.99. Unlimited AT&T or Verizon plans would have approached $150, and to get a comparably-priced package, I'd have to settle on limited data or texting plans, which I'd have to constantly try to not blow through. Why get a smartphone if you can't have fun using it?”

  • Report this Comment On February 10, 2012, at 9:01 AM, fvgetcom wrote:

    Very cool graphs. Thanks.

  • Report this Comment On February 10, 2012, at 11:32 AM, spokanimal wrote:

    It's hardly a surprise that "continue to use Clearwire's 4G WiMAX network services for the foreseeable future"...

    ... because...

    1. The I-phone knock-offs that Samsung and

    HTC offer for 4G WiMax require a far lower subsidy for Sprint to have to pay;

    2. Sprint pays a flat fee to clearwire for the use

    of the WiMax network (meaning that each

    incremental subscriber that sprint activates

    on it is essentially free of any associated

    network cost);

    3. WiMax subs don't add a burden to Sprint's

    own network, thus freeing it up to

    accomodate 3G and future LTE subs.

    Furthermore, WiMax is hardly un-competitive. In

    the 3rd quarter, Clearwire signed up 900,000 net new subscribers VS Verizon's 1.2 million net new. Since Verizon's 1.2 million net new included all 3G and I-phone 3G subs, it's hardly a stretch to see that Clearwire's WiMax significantly out-sold Verizon's LTE for the 4th, consecutive quarter since Verizon first launched LTE.

    Verizon's LTE may be really fast, but it's expensive and it's not unlimited... and that matters a lot to today's WiMax smartphone users.


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