September 11, 2009
Telecom Services
Lowering Leap/PCS Estimates
on Prepaid Pressures
Competition intensifying: The unlimited prepaid market
has gone from a segment with a few participants and
a regional focus to one that is increasingly competitive
and nationally focused. In 2Q it became evident that a
new entrant disrupts growth. Applying this to our belief
that Straight Talk will expand distribution nationally
along with Pageplus and its national presence, we expect
a less pronounced 4Q seasonal lift for each prepaid
carrier. Also, any promotional activity by T-Mobile and
Sprint ahead of the holidays could pressure results. We
believe increased competitive activity will carry into 2010
and beyond, making future growth more challenging.
What's new: 1) We revised our estimates down for PCS
and Leap on increased competitive concerns. We are
below consensus for revenue and EBITDA for 2010
onward. 2) The increased competitive environment and
recent press articles prompted us to revisit a potential
combination of MetroPCS and Leap. Using the exchange
ratio from PCS’s original offer in 2007 of 2.75
PCS shares for every Leap share and assuming $684
mn of expense synergies, we reach a $12 valuation.
Pricing pressure – More for less: Picking a winner in
the unlimited prepaid segment over the next 12 months
will be difficult, in our view. This will most likely be a
contest of endurance where short term gains can be
quickly erased by competitive responses due to the
absence of contracts. The danger is that we are seeing
a downward spiral in prepaid pricing which impacts
ARPUs, margins, and free cash flow. MetroPCS, Leap
and Boost, who own their network, are better positioned
than the MVNOs (e.g., Straight Talk and Page Plus) to
compete on price though. Also rising competition could
damage the exclusive independent dealer channels and
force them to diversify their offerings. If this happens,
growth at MetroPCS, Leap, and Boost who leverage this
channel will be negatively impacted. We recommend
playing the increased competitive pressure theme
through our underweight rated Sprint and TDS.
What’s next: We do not anticipate any major market
launches for MetroPCS and Leap from now through
2010. We expect Straight Talk to expand its distribution
nationally before the holidays. This and other price
moves could trigger a response by Boost and others.