A funny thing happens when you pay attention to what your customers want. They stick around and tell their friends about the value you provide.
Such has been the case for T-Mobile U.S. (TMUS 0.47%) over the past year and a half or so. The UnCarrier, as it calls itself, is the fastest growing carrier in terms of wireless revenue growth and net subscriber additions since the second quarter of 2013. In that time, T-Mobile has added over 10 million total subscribers, and revenue has followed suit, increasing more than 36% in those six quarters on a trailing-12-month basis.
That fantastic growth has paid off in stock price appreciation, with investors seeing nearly a 30% increase in share price since April 1, 2013. That includes a huge drop in share price after disappointing analysts with its first-quarter earnings results that year. So, how did T-Mobile provide such good returns for investors, and can they expect the good times to continue?
You've got to spend money to make money
A large part of T-Mobile's success comes from spending more money on its customers. That includes customer acquisition costs such as paying early termination fees to spending to expand its LTE network. The list of perks for T-Mobile customers is constantly growing with each new UnCarrier initiative, and each one comes at some cost to the company.
As a result, T-Mobile's Wireless operating margin has slowly declined over the last two years from the low-teens to close to 0%. Meanwhile, competitors AT&T (T 1.30%) and Verizon (VZ 0.88%) have maintained operating margins between 25% and 35% from their wireless businesses while continuing to grow revenue (albeit at a slower pace than T-Mobile).
Investors will also see the impact on T-Mobile's free cash flow, which has moved sharply negative over the last two years. Without free cash flow, the company has taken on a significant amount of debt in the last two years. Debt increased from $2.5 billion at the end of 2012 to nearly $20 billion at the end of the third quarter this year. A lot of that debt will go toward purchasing spectrum at auction to improve coverage and service.
When does it start paying off for investors?
The question investors need to ask is if it's worth it for T-Mobile to continue destroying profit margins in order to grow. While it's not uncommon for companies to forgo profits now in exchange for a better payoff tomorrow, T-Mobile is historically bad at investing money for its investors.
Before John Legere took over as CEO in 2012, the company had a return-on-invested-capital rate of just over 5% for the trailing 12 months. Legere's high spending and restructuring has caused that rate to drop to 0.46% over the past 12 months. In other words, for each dollar T-Mobile invested in its business last year, the company earned less than half a penny back. In the same period, both AT&T and Verizon have improved their ROIC to provide much better results for shareholder.
TMUS Return on Invested Capital (TTM) data by YCharts
To be fair, T-Mobile doesn't have very many options to improve its position in the market. It either spends money to grow its market share with the hopes that it can improve operating margins later (even though it has no track record of doing so), or it continues losing subscribers and waits to be absorbed by a larger competitor. Investors, on the other hand, do have several other options when it comes to where it can invest their money.
It takes a certain kind of investor
An investment in T-Mobile is an investment in John Legere and his skills as an investor and manager. He's got a great team in place, and the company is growing revenue extremely well.
However, that revenue has come at a high cost thus far, and continued revenue growth is bound to continue running up the bill for T-Mobile and its investors. Management has no intention of slowing down these UnCarrier initiatives with at least two already in the works for next year.
For investors looking for a company with a strong track record, however, T-Mobile doesn't make the cut.
