Leap Wireless Needs a Big iPhone Jump

Of the domestic wireless carriers that offer Apple's (AAPL 1.27%) iPhone, Leap Wireless (NASDAQ: LEAP) and its Cricket brand is the one playing its activation figures closest to the chest.

The top three carriers have no problem sharing how many iPhones they activate on their respective networks, which serves as a fairly good proxy in the long run for Apple's domestic unit sales, even if there's some choppiness on a quarterly basis.

On the other hand, Leap has never disclosed specific data on how many iPhones it's been able to activate or sell on its network. Cricket became the first prepaid carrier in the U.S. to offer the iPhone last summer, and was followed shortly by Sprint Nextel's (S) Virgin Mobile pre-paid brand.

With Leap recently filing its 10-K, the company is finally giving a glimpse into how its faring with the iPhone -- and it's not good.

A deal's a deal
Like all other carriers, Leap is on the hook for a minimum purchase commitment. In May 2012, Leap entered into a three-year purchase commitment with Apple putting it on the hook for $900 million worth of iPhones. The company estimated that it would only need to reach iPhone penetration of 10% or less in order to hit this minimum requirement.

Sprint also made headlines in 2011 when it said it made a $15.5 billion iPhone purchase commitment in order to carry the device. Sprint appears to have met $5.5 billion of that commitment over the past five quarters, based on its activation figures and average selling prices, which would put it ahead of schedule on meeting its four-year obligation.

At the rate at which Leap is currently selling iPhones, the company now believes it will only meet half of its obligation for the first year through June 2013. If Apple forces Leap to stick to its word, then Leap is looking at buying a ton of extra iPhones that it may or may not be able to sell to consumers.

These are the estimates of how much in additional iPhone purchases it may have to make that is in excess of its current selling rate.

Source: 10-K.

Those figures go up because the iPhone purchases that Leap has committed to go up each year. That's $450 million worth of iPhones that Leap may be stuck with unless it can increase the rate at which it sells iPhones.

What's more disconcerting is that COO Jerry Elliot specifically told investors the exact opposite on the conference call last week:

We are not concerned about in terms of meeting the Apple commitment. We think that's going to be fine. So we're not going to give a blow-by-blow update on exactly where we stand on the total commitment. But, we are not concerned about meeting those obligations over the lifetime of that contract.

How things can change in just one week. Leap needs a big iPhone jump.

Crank it up
Why is Leap having so much trouble? First off, Cricket is a pre-paid brand that targets lower market segments, and typically pre-paid customers pay closer to full retail price for smartphones. I say "closer" because Leap is making the risky move of actually offering a modest subsidy for the iPhone without any type of service contract.

Leap sells the entry-level iPhone 5 (retails unsubsidized for $650) for $500. Right now, it's even offering a $50 mail-in rebate that brings that price down to $450. So Leap is effectively offering close to a $200 subsidy with no guarantees that customers will maintain service and they could theoretically purchase an iPhone and immediately cancel their plan and all of a sudden Leap is out $200. The devices are still locked to Leap's network, so consumers can't easily swap to a larger carrier.

The iPhone fares the best when subsidies mask the full retail price and it sits at fully subsidized price parity with other high-end devices. When there's a price differential, especially among the price sensitive pre-paid segment, the iPhone's success is far less certain. Decent low-end Android devices can be had on Leap for $80 to $140.

If Leap can't crank up its iPhone selling, it's going to be stuck with hundreds of millions of dollars' worth of them.