April 30, 2015 – Craig Moffett, senior research analyst and founder, MoffettNathanson Research, set about to debunk several myths about the superior financial performance of the wireless carriers in his keynote address at the Wireless Infrastructure Show in Hollywood, Florida, yesterday. But even as he described the carriers’ rough financial waters, Moffett maintained optimism that capex will continue to flow and wireless infrastructure will continue to be built.
“You need to understand your customers,” he said. “It is probably a different picture than what you are used to thinking about the carriers, but the generally accepted notion that the carriers are strong, deep-pocketed and healthy is probably not right.”
Underperforming on Wall Street
Moffett noted that in the last year Verizon has underperformed 5 percent compared to the S&P; T-Mobile’s stock rallied late in the year to break even on the year; after underperformed in 2014, AT&T cut its losses in half in the last week; and Sprint dropped from $10 to less than $6 in the last 12 months. AT&T has underperformed the S&P nearly 60 percentage points over the last three years.
“It has been another year of underperformance for the telecoms on Wall Street. If you roll back three years, the performance is similar. Everyone except T-Mobile has underperformed,” Moffett said. “The notion that this is a growth sector from the investor standpoint should be under question.”
Price Wars Affect Carrier Bottom Line
Because of the acceleration of tablets, the connected car and the Internet of Things, unit growth at the carriers is growing at 7 percent, but service price is down 7.1 percent. Profits stifled by the price war.
Free cash flow was flat in the industry last year, and in 2015 free cash flow will be -$20B, partially because of the payments due for the AWS-3 spectrum auction. “That is not a healthy picture. You can argue that it was an anomaly because of the spectrum purchases, but there is another coming around next year,” Moffett said.
Aggregate EBITDA, or cash flow, fell double digits for the carriers in 2014, according to Moffett’s analysis. But it may have stabilized.
“[Allowing for an accounting distortion], aggregate carrier EBITDA fell 20 percent in 2014. That is an astonishing number for an entire industry,” he said. “There are signs of an inflection point in service prices or at least that the declines have stabilized. It is no longer preordained that prices will continue to go down.”
One ray of hope, Verizon’s EBITDA got back in the black in the fourth quarter with an increase of 6 percent, better than all of 2014.
“Whether this will lead to a sustainable recovery in the telcos and an end to the price wars is up for debate,” Moffett said. “ARPU per phone is still falling at an accelerating rate.”
Through it All, Carrier Build Out Will be Unfazed
Previously, carriers competed on handset selection, network quality and price, but now smart phones are widely available and they compete only on networks and price, which has a direct impact on infrastructure build out. Despite two consecutive spectrum auctions and a decline in the traditional capex in the current year of 5 percent, Moffett forecasts capex will recover and remain stable.
“It may be hard to reconcile the view that capex will bounce back and will be reasonably stable given the challenging picture I have painted of the industry’s cash flows and profitability,” he said. “But to discontinue investment in network quality would effectively concede that there is no strategy left other than being cheap, which is difficult to win.”
Carriers will continue capex spending, though it will drop as a percent of revenue from 15 percent to 13 percent, Moffett said. Each carrier has its own issues. Sprint is in the most challenging position with a negative cash flow that makes it difficult to sustain capital spending. AT&T is in the second most challenging position, followed by T-Mobile and Verizon as the healthiest carriers.
J. Sharpe Smith is the editor of AGL Link and AGL Small Cell Link.