Feature Article

August 07, 2012

Handsets Now a Material Factor in Mobile Service Provider Operating Results

Handsets now have become a material factor in mobile service provider operating results. At Leap Wireless, second quarter results were negatively affected by handset issues, while at US Cellular the cost of handset subsidies was a drag on earnings.

At the same time, there are some growing signs that the economy is continuing to shape consumer behavior around churns, downgrades and a shift to prepaid rather than postpaid accounts.

At the same time, the potential pool of new customers is shrinking dramatically. “The gross add pool is shrinking,” said Stewart Douglas Hutcheson, Leap Wireless CEO.

“Gross additions were also impacted by device selection and certain device quality issues regarding some of our more popular devices,” said Hutcheson. “While we had substantial handsets supply throughout the quarter, certain popular handsets were not – either not available for sale because of quality issues or did not meet changes in customer needs over time.”

Leap Wireless unit margins have grown since June 2012, when Leap Wireless began selling the Apple iPhone on an unsubsidized basis.  

One might also argue that the market fortunes of second-tier carriers now are deteriorating, relative to the tier one providers. The issue, some analysts will note, is that not even 100 million POPs (potential customers) is enough “to really generate an attractive amount of free cash flow,” according to Jonathan Chaplin, Crédit Suisse AG analyst.

Chaplin argues Leap Wireless would have better performance if it were an mobile virtual network operator, not a facilities-based competitor.

Handsets also have been an issue for US Cellular. With Apple charging about $620 for each iPhone, according to UBS, carriers have to offer a subsidy of about $420 in order to sell customers the device for just $200. That is significantly higher than the roughly $300 carriers pay to subsidize some high-end Android phones.

US Cellular’s second quarter 2012 financial results illustrate the problem. Results were “mixed,” said Mary N. Dillon, U.S. Cellular president and CEO, and those mixed results are largely a result of stronger smartphone adoption. On the good side of the ledger, US Cellular saw a strong increase in postpaid gross customer additions, lead by smartphone sales.

Smartphones as a percent of total devices sold increased to 51.9 percent from 39.6 percent; smartphone customers increased to 36.8 percent of postpaid customers from 23.1 percent.

But postpaid churn was high, which US Cellular somewhat oddly attributes to expanded iPhone distribution. US Cellular’s net loss on equipment for the quarter was $117 million – up $20 million from 2011, primarily as a result of increased smart phone sales and higher costs related to 4G LTE devices.

The average loss per device sold increased year-over-year due primarily to the shift in mix to smartphones, US Cellular said.

Operating cost will be affected by the continuing shift in mix to smartphones and the continuing introduction of 4G LTE devices throughout the year.

Smartphone subsidies, especially for the Apple iPhone, are an issue for all mobile service providers, both those who sell it and those who don’t. And as it turns out, there are business issues whether a service provider sells the iPhone, or does not.

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Edited by Braden Becker

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