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The telco's Jan. 8 announcement that it's still losing customers has some wondering whether it could become a takeover target
It wasn't the first time Sprint Nextel CEO Gary Forsee hit investors with a negative surprise. Ever since Sprint acquired Nextel in 2004 in a $35 billion deal designed to help the company compete against larger rivals Cingular (T) and Verizon Wireless, the merged giant has struggled with spikes in customer defections and drops in per-user revenue.
But the telco's Jan. 8 preannouncement stood out as perhaps the worst since the 2004 merger was announced. Sprint Nextel (S) announced it actually lost 306,000 postpaid customers in the fourth quarter of 2006, seasonally the year's strongest period. And, citing problems with subscribers who wouldn't pay up, Forsee expects to lose customers again in the first quarter of 2007. He expects Sprint to return to growth after that. But many on Wall Street aren't so sure the company is close to hitting the proverbial bottom, which is why Sprint shares fell 11%, to $17.45, on Jan. 9. In fact, the stock is now nearing its 52-week low of $15.92, hit in August.
Analysts blame some of Sprint's problems on Nextel's habit of signing up many nonpaying consumers compared with the high-end business customers Sprint hoped to acquire. Other woes, such as the network quality problems Nextel subscribers have experienced and the lack of a strong corporate advertising message, can be traced to Forsee and his team's execution missteps since the merger.
Rivals Are Getting Stronger
What's becoming increasingly clear is that the troubles at Sprint could, potentially, continue for months to come. And that's revving up speculation that Sprint could become an acquisition target of Verizon (VZ) or a cable company sooner rather than later.
Here's why: Sprint is trying to digest its 2004 acquisition of Nextel just as competition from rivals, which have grown bigger and stronger, is intensifying. With AT&T's deal for BellSouth completed, competitor Cingular is now backed by a company whose sales are more than twice those of Sprint's. And these larger rivals are increasingly forced to pursue competitors' customers.
With the wireless market saturated, this year U.S. wireless service providers such as Cingular, Verizon Wireless, Sprint, and T-Mobile will collectively add only about 16.1 million new users, 17.4% fewer than last year, figures Mark Winther, an analyst with consultancy IDC. To avoid drops in the crucial metric of net subscriber additions—and, unlike Sprint, both Verizon Wireless and Cingular have been adding more than a million subscribers per quarter—the rivals are converging on Sprint's customers like a pack of hungry wolves. "Every misstep of Sprint is magnified several times by extraordinary execution of Verizon and Cingular," Winther says.
These competitors have greater resources, and they are not hampered by Sprint's costly integration missteps and the massive spending needed to bring Nextel into the fold. They are ramping up their advertising, forcing Sprint, whose latest marketing campaign hasn't been as effective as hoped, to follow suit. This year, to stem customer losses, Sprint will also raise its handset subsidies, according to the company. An ugly price war on wireless plans could ensue as well. Clearly, for Sprint, 2007 won't be pretty. Already, the company is signaling flat revenues and an operating income before amortization and depreciation that's down 12% year over year. Sprint's equity cash flows, a measure of its ability to generate cash, should fall 40% vs. 2006, according to UBS (UBS) estimates.
Sprint isn't making life easier for itself by continuing to revamp its management team (see BusinessWeek.com, 8/22/06, "Sprint's Post-Lauer Crossroads"). In its latest round of executive changes, in December, Sprint Executive Chairman Tim Donahue retired and was replaced by Forsee. The company has also gone through executive changes in marketing. A new president and chief operating officer are expected to take the helm in the next few months.
The customer losses and management upheaval add to the pressure on Forsee, who's already under the gun from some investors and board members to get the Nextel integration back on track (see BusinessWeek.com, 10/11/06, "Is Time Running Out for Sprint's Forsee?"). They'd also like to see an end to the frequent management changes to bring much-needed stability and focus to the company's turnaround strategy.
Risks in Rolling Out WiMAX
To right its ship, Sprint plans another 5,000 job cuts this year. It also hopes to complete further network improvements and weed out the Nextel customers who aren't paying. Most analysts believe Forsee's strategy is sound: "Remember how HP (HPQ) was beaten up and now it's riding high?" says Bob Rosenberg, president of consultancy Insight Research Corp. "There's an analogy here. Wall Street is very impatient. But long term, they've got a good strategy." Yet, full integration of Nextel could take another 12 months, says Shailendra Pandey, an analyst with consultancy ABI Research. "The problems won't be over until at least the end of 2007," he says.
Risks surrounding Sprint won't end there, either. Wall Street's hopes hinge on a WiMAX wireless broadband network Sprint will spend up to $800 million this year to build. But what if wireless broadband is slow to take off? It's still unclear just how much users will pay for it. And competitors like Clearwire, whose deep-pocketed investors include Motorola (MOT) and Intel (INTC), are already offering the WiMAX service, moving a step ahead of Sprint (see BusinessWeek.com, 12/20/06, "WiMAX IPOs Are on the Way").
All these uncertainties and problems could hasten another megadeal in the telecom land. With Sprint's rivals strengthened through mergers, "the competitive urgency has been increased, and it makes it more possible that another huge deal might happen," says Michael Shinnick, a co-fund manager at 1st Source Monogram funds who has been buying into Sprint's shares on price weakness since September. If Verizon is unable to gain full control of Verizon Wireless, its joint venture with Vodafone (VOD), Verizon might swallow Sprint, he suggests, to fight off competition from the mighty AT&T. San Antonio-based AT&T is the new sole owner of Cingular, the largest U.S. wireless carrier. It will soon be rebranded as AT&T Wireless.
Leader in New Services
An even more likely scenario is that Sprint will be bought by a large cable operator such as Comcast (CMCSA) or Cox. In late 2005, both joined Sprint and other companies to form a venture to provide a wireless service to their customers (see BusinessWeek.com, 11/3/05, "Sprint Nextel's Watershed Deal").
As a company, Sprint has much to offer: It continues to be a leader in new services such as mobile TV and converged offerings such as Sprint Wireless Integration, a service that rings an incoming call on a business customer's desk and mobile phones simultaneously. Of course, an acquirer still would be forced to deal with the same integration problems surrounding Nextel.
Sprint Nextel spokesman James Fisher wouldn't comment on merger speculations. "We have a very strong operational plan and a lot of assets, and we feel very confident about executing on that plan," Fisher says. Now if only Wall Street could feel as confident.