Did Gogo’s Earnings Surprise Create a Good Selling Opportunity?

Gogo (NASDAQ: GOGO  ) is a wireless-services leader in commercial and business aviation, providing communication and Internet solutions. On Monday, May 12, the company reported a surprisingly strong first quarter, with revenue growth of 35.2%. Yet, given the recent news of AT&T's (NYSE: T  ) market entrance and the unknowns surrounding Verizon (NYSE: VZ  ) , should Gogo's 7% stock gain serve as a good opportunity to sell?

Looking good at the surface
Gogo operates in two key segments: commercial and business aviation. In the commercial segment, it earned $57.1 million and ended the first quarter with 2,056 aircraft online, which create nearly $9,200 per aircraft on a monthly basis. As the company continues to grow its total number of online aircraft, this becomes a valuable asset to Gogo -- one that's profitable, with $5.8 million of income during the first quarter.

Gogo's business aviation segment accounts for the other half of its revenue, and has even higher margins, creating profit of $16.5 million in the first quarter, or a 43% profit margin. The company offers solutions for wireless connection and also text and talk, having 2,250 systems online to end the quarter.

Lastly, Gogo has an emerging unit called commercial aviation, or worldwide flying. This segment is expected to be rather lucrative for the company, as it will attract larger aircraft and create more usage due to longer flights. However, it's costly, and in the first quarter Gogo lost nearly $17 million from this segment.

With that said, building networks from scratch at 35,000 feet in the air is no easy task. Nor is it cheap, as the company is trying to grow fast and therefore had $105 million in operating costs. Aside from the losses in its commercial aviation business, Gogo reported $28.6 million in capital expenditures during the quarter, and looking ahead, these costs are expected to continue.

Nonetheless, when you look at Gogo's business model, combined with the average flight traffic both in the U.S. and throughout the world, this could become a gigantic opportunity -- and a great investment.

The curve ball and reason to sell
With a market cap of $1 billion and annual revenue below $400 million, Gogo is small but hindered by the rate at which it can grow. This fact creates a rather large risk for the company, as it's always a day shy of some massive telecom company deciding to enter the space with deep pockets and build an exceptional network to steal its market share.

That exact scenario is what AT&T announced late last month. The company disclosed that it will leverage its spectrum to offer Wi-Fi service courtesy of a 4G air-to-ground network. The company also said this service could be ready by late next year.

Moreover, AT&T did not boost its CapEx budget, saying the expenses won't be excessive in relation to its current spending plan. When you have $35.4 billion in operating cash flow, it's a lot easier and faster to build a large network for this type of service. Such a service should really affect Gogo, as it can't keep pace with AT&T's spending, and AT&T already has millions of customers who would likely use such a service.

What does this mean for AT&T?
Gogo has a large existing network, and based on AT&T's press release, it doesn't appear that the company is planning to enter international markets. Therefore, Gogo might still have a market presence, but it's unlikely that the company will create $9,200 per aircraft once AT&T's services are up and running.

With that said, ground-to-air services alone are not an investment catalyst for AT&T. Gogo is the current market leader, yet it did not earn $100 million in first-quarter revenue. The fundamental impact of this news relating to AT&T is likely marginal. However, what it does do is provide an advantage versus Verizon, which is likely the incentive for making such a move.

At this point, with networks constantly upgrading, pricing always competitive, and the top telecom companies being well-saturated in the U.S., most moves by either Verizon or AT&T are attempts to gain a competitive edge. Neither company had tapped the market of air travel, which may be insignificant in dollars, but is significant in creating convenience for customers.

Final thoughts
The U.S. Travel Association estimated there were more than 2 billion seats filled on domestic flights last year of 50 miles or more, which translates into an enormous number of potential customers. If AT&T offers wireless services in the air and Verizon doesn't, it gives the company quite an advantage, and it might persuade frequent travelers to switch carriers.

It's tough to imagine that Verizon will sit back and let this happen. Perhaps Verizon responds immediately with its own initiative. If so, this is even worse news for Gogo, and Monday's stock pop is without question a strong signal to sell. However, if Verizon sits on this news and waits for AT&T to complete its network, then it might acquire Gogo to save on time. Either way, Gogo looks like a sell today, but if Verizon doesn't respond in a timely manner, it might be a buy later.

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Comments from our Foolish Readers

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  • Report this Comment On May 14, 2014, at 2:21 PM, zephyrlue wrote:

    Please at least do some research before your post your article, the guidance and the consensus for annual revenue is not below 400 million. Technology development is not always the key factor. The idea and the dominant into the market means more to the development for a company. The battle between the big and small is not always favorable to the big boys.

  • Report this Comment On May 14, 2014, at 2:33 PM, Magila wrote:

    Well if your analysis is right and AT&T and Verizon both get into the airborne market to attract/ steal customers, wouldn't the easiest way to create a network with a large base of Airliners already wired for service be to buy out GOGO? Remember that even if the service is cheap all these services depend on installed equpiment on the airplanes, which are installed under long term contracts guaranteeing exclusive access to an entire airline's fleet, so American, United, Delta, US airways, and Virgin are already locked in with GOGO. If a cell carrier war breaks out GOGO's existing contracts with these airlines may be worth their weight in gold.

    You do understand that a very powerful system installed in the plane in necessary to provide internet access onboard, and exclusive contracts already exist that give GOGO the right to install those systems for all the largest airlines in the country?

    If GOGO keeps growing by 35% a year or if the big boys of cellular buy them out it smells like big returns for GOGO's investors. Only a lukewarm scenario, with only one carrier slithering slowly into the market would actually hurt GOGO and with a Duopoly like ATT and Verizon that seems absurdly unlikely.

  • Report this Comment On May 14, 2014, at 3:17 PM, ChrisSanders111 wrote:

    OMG!

    Clearly the author didn't listen to the earnings conference call or watch the CNBC interview with Michael Small, CEO:

    When asked about GOGO's competition from AT&T's recent announcement to try to develop in-flight wifi, the CEO said CONFIDENTLY:

    "Too little, too late!... We've been winning by getting our best solutions into the market. And our new solutions, which we call GTO & 2ku, are faster and will arrive sooner than the proposed AT&T solution.

    "We continually see competition talk about what they're going to do in the future and compare to what GOGO did in the past. That's an erroneous comparison when compared to the marketplace today. We win, we won in the past and will continue to win in the future..."

    -----

    AT&T's "entrance" into this niche will turn out to be of no consequence to GOGO because by the time AT&T gets their stuff up and running in 2015, GOGO will already have locked up long term contracts. They've already got Boeing signed to install GOGO Air for new aircraft.

    Just how could the author miss this key issue of first-to-market advantage and timing of contract wins?

    Does the author think when GOGO rolls out 2Ku wifi on international flights soon, are the airlines going to sit around and wait for AT&T's technology to come to market?? Seriously?

    A more likely scenario is we'll see VZ making a buyout offer for GOGO to thwart AT&T.

  • Report this Comment On May 15, 2014, at 12:38 AM, BrianNichols wrote:

    Maquila, I do think Gogo is an intriguing buyout opportunity, especially if Verizon is late to the party. AT&T has essentially said it's building its network, and that it won't be hard to connect ground to air. But if this sways Verizon frequent flyer subs to switch carriers, then yes, I could see Verizon snatching GOGO quickly. Either way, we're talking a year at least, unless Verizon wants to establish its network before AT&T.

  • Report this Comment On May 15, 2014, at 12:39 AM, BrianNichols wrote:

    Chris, what's the CEO supost to say, "we don't stand a chance"?

    AT&T is building its network without even increasing CAPEX budget, which I think it telling. GOGO just doesn't have the scale, and it's a rather easy market to penetrate IMO

  • Report this Comment On May 15, 2014, at 9:47 AM, jab5140 wrote:

    Obviously this author knows noting about this business and shouldn't be writing about it. You don't just flip a switch and have internet available in an aircraft flying at 30000 feet. For AT&T or Verizon to get into this business is not that simple. Wasted my time on this article.

  • Report this Comment On May 15, 2014, at 10:15 AM, zephyrlue wrote:

    Worst author ever on MF.

  • Report this Comment On May 15, 2014, at 6:36 PM, seththefox wrote:

    Not sure that AT&T can really launch that fast. As previous commenters noted, they have to negotiate agreeements with carriers, and then start installation. Since AT&T has not announced any agreements with carriers, it's likely these negotiations are still in progress.

    Not only that but their equipment needs to qualified by the FCC, and more importantly by the FAA. I know FCC quals can go pretty fast for a large carrier, but I doubt FAA will give them any slack.

    AT&T's rollout will not be a slam dunk.

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