Monday, September 16, 2013

As Verizon Losses an International Partner, Sprint Struggles Forward with One

Verizon Communications Inc. (NYSE: VZ) bought out Vodafone Group PLC’s (NASDAQ: VOD) minority interest in Verizon Wireless for a staggering sum. Vodafone dumped its 45% in the joint venture, and fled the U.S. market. Perhaps the sale happened because Verizon offered $130 billion in cash and stock. Perhaps Vodafone believed that its minority position would always prevent it from having a decision-making role in Verizon Wireless. Or, perhaps Vodafone just made an intelligent decision. Wireless is no longer a growth industry in the United States. Ironically, Softbank clearly believes otherwise. Just weeks ago, Softband closed a $21.6 billion transaction that gave it a 72% ownership in Sprint Corp. (NYSE: S), the third-largest company in the American market. Five billion dollars of that money will go to strengthen Sprint’s balance sheet, which in turn gives Sprint leeway to aggressively market its products and services.

In the U.S. wireless market, there is AT&T Inc. (NYSE: T) and Verizon, and then a string of much smaller competitors, among which Sprint is the largest. Yet, Verizon’s prime position has not been enough to drive any significant expansion. Revenue from Verizon’s wireless in the first half was $39.4 billion, up only 7% from the same period in 2012. AT&T’s wireless results actually were worse for the same period. Revenue rose less than 5% to $34 billion. Despite their sizes, each of these companies has fought a zero-sum game for a long time. There are about 300 million wireless subscriptions in the United States, only slightly fewer than there are people. The marketing efforts of the wireless companies largely revolve around stealing one another’s customers.

The theory that the wireless industry in America will improve over time is based on the presumption that people will be forced to pay more for the data used by their smartphones and tablets. That has yet to be proved, and most analysts don’t believe in this supposition. The price wars hardly allow for sharp increases in fees of any kind, and it is these fees that drive profit.

The largest price war in the history of the wireless industry probably will be started soon by Sprint. Masayoshi Son, the high-spirited CEO of Softbank and new chairman of Sprint, knows he has only one chance to take away business from his two larger rivals. Sprint’s network is no better than those of AT&T and Verizon. All sell the same products. That leaves price as the only realistic differentiator for customers. And price wars are expensive when millions of customers are the prize.

Softbank’s initial plan for Sprint shows why Vodafone wanted out of the American market. The $5 billion war chest that Softbank will supply will not go to either creating new smartphones or some equally radical new services such as introducing 5G just as 4G has gotten its footing. Son can provide money to allow Sprint to weather sharp profit margin compression (Sprint rarely makes money, so margins will actually grow negative more rapidly). Son can sell phones at lower prices or offer better priced subscription programs. However, either of the two larger wireless companies, which have extraordinary balance sheets, can raise the ante in a battle for customers based on rates. Put bluntly, Sprint does not stand a chance.

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Verizon Wireless does stand a chance, but not a very good one. Its best period of growth is over. It can market new devices, new data products and multimedia offerings in an attempt to raise its yield per subscriber. However, price wars generally exclude the opportunity for these tactics. Vodafone, one of the largest wireless companies in the world, can see the future of U.S. wireless. It is ugly, something Masayoshi Son has ignored.

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