Sprint Narrowed Losses on Higher Equipment Revenue

Telecom service provider reported 5% growth in net operating revenues to $8.5 billion

Telecom services provider Sprint Corp. (NYSE: S) announced its Q3 FY16 financial results on January 31st, 2017.

The Overland Park, Kansas-based company, along with its subsidiaries, offers a range of wireless and wireline communications products and services that are designed to meet the needs of consumers, businesses, government subscribers and resellers. It operates through two segments: Wireless and Wireline.

The Company offers wireless and wireline services to subscribers in approximately 50 states, Puerto Rico, and the US Virgin Islands under the Sprint corporate brand, which includes its retail brands of Sprint, Boost Mobile, Virgin Mobile and Assurance Wireless on its wireless networks with technologies including third generation (3G) code division multiple access (CDMA), fourth generation (4G) services utilizing Long Term Evolution (LTE). Sprint served 59.5 million connections as of December 31st, 2016. Read more about Sprint’s financial results below.

Q3 FY16 financial highlights

During Q3 FY16, Sprint reported over 5% Y-o-Y growth in net operating revenues to $8.5 billion as higher equipment revenue was partially offset by lower wireless and wireline service revenue. The growth in equipment revenue Y-o-Y was primarily driven by higher leasing revenue and more installment billing sales.

During Q3 FY16, Sprint’s wireless service revenue of $5.9 billion declined $300 million Y-o-Y and $71 million sequentially, due to lower prepaid revenues related to customer losses, in addition to lower postpaid phone Average Revenue Per User (ARPU), as customers continued to migrate to rate plans offered in conjunction with device financing, partially offset by growth in the postpaid phone customer base.

During Q3 FY16, Sprint’s wireline revenues of $497 million declined $84 million Y-o-Y and $24 million sequentially, due to lower voice volumes as the company continues to de-emphasize certain voice services.

Cost of services of $1.9 billion for the quarter decreased $423 million Y-o-Y and $176 million sequentially, due to lower labor expenses associated with the renegotiated Ericsson agreement, lower roaming expenses including the impact of the NTelos transaction.

Selling, general, and administrative expenses of $2.1 billion for the quarter decreased by $49 million Y-o-Y and increased $85 million sequentially. The Y-o-Y reduction was mostly driven by lower customer care and sales expenses, partially offset by higher bad debt expense related to an increase in installment billing sales, as more bad debt expense is recognized at the point of sale relative to the leasing model. The sequential increase was driven by seasonally higher sales and marketing expenses.

Cost of products of $2.0 billion for the quarter increased $396 million Y-o-Y and $292 million sequentially, driven by the significant increase in the installment billing mix of sales in conjunction with the decrease in the mix of leasing sales.

Adjusted EBITDA grew to $2.5 billion for the quarter compared to $1.9 billion in the year-ago same period due to higher net operating revenues and lower cost of services expenses, which was partially offset by higher cost of products expenses. Operating income of $311 million compared to an operating loss of $197 million in the year-ago corresponding period. The current quarter included $47 million primarily related to asset dispositions and severance costs, while the year ago period was impacted by $209 million of severance and exit costs and $21 million of litigation and other contingency expenses. As a result, Sprint was able to narrow its net loss to $479 million, or $0.12 per share, in Q3 FY16 from a net loss of $836 million, or $0.21 per share, in the year earlier same period.

Sprint’s focus on delivering the best value proposition in wireless resulted in 368,000 postpaid phone net additions in the reporting quarter, its ninth consecutive quarter of Y-o-Y improvement. Even in a highly competitive scenario, Sprint was able to add more postpaid phone customers than both Verizon Communications Inc. (NYSE: VZ) and AT&T Inc. (NYSE: T) and reported its highest postpaid phone net additions in four years. The company also remained postpaid net port positive for the third quarter in a row and achieved its highest postpaid phone gross additions in four years.

Total net additions were 577,000 in the quarter, including postpaid net additions of 405,000, prepaid net losses of 501,000, and wholesale and affiliate net additions of 673,000. Total postpaid churn was 1.67% and postpaid phone churn was 1.57% in the quarter.

Customer metrics

Net additions: During Q3 FY16, Sprint had 577,000 net additions compared to 491,000 in the year ago same period and 740,000 in the prior quarter. Sprint ended the quarter with 59.5 million connections, including 31.7 million postpaid, 11.8 million prepaid, and 16.0 million wholesale and affiliate connections. The prepaid base was reduced by approximately 1.2 million as a result of tightening the customer engagement criteria and aligning all prepaid brands under one churn and retention program. Sprint added over 2.1 million net additions over the last four quarters.

Postpaid: Postpaid net additions were 405,000 during Q3 FY16 compared to 501,000 in the year ago same period and 344,000 in the prior quarter. The Y-o-Y decline was due to higher tablet net losses, while the sequential increase was driven by higher phone net additions combined with a reduction in tablet net losses. Postpaid phone churn was 1.57% compared to 1.53% in the year-ago same period and 1.37% in the prior quarter. The Y-o-Y change was impacted by aggressive promotional offers from competitors. Sequentially, the higher phone churn was primarily driven by typical seasonality combined with more aggressive promotional offers from competitors.

Postpaid churn of 1.67% for Q3 FY16 increased from 1.62% in the year ago same period and 1.52% in the prior quarter. Year-over-year, churn was primarily impacted by higher tablet churn related to fewer promotional offers. The rise in churn from the prior quarter was due to higher phone churn.

Postpaid phone net additions of 368,000 in Q3 FY16 compared to net additions of 366,000 in the year-ago period and 347,000 in the prior quarter. Sequentially, seasonally higher gross additions were partially offset by seasonally higher churn. This quarter was the sixth consecutive quarter of positive phone net additions; Sprint ended the quarter with over 26 million phone connections.

Prepaid: Prepaid net losses of 501,000 during Q3 FY16 compared to 491,000 in the year-ago period and 427,000 in the prior quarter. Year-over-year, an increase in Boost net losses was offset by fewer net losses within the Virgin brand. The sequential decline was mostly driven by increased competitive pressure and less promotional activity. Prepaid churn was 5.80% during Q3 FY16 compared to 5.82% for the year-ago same period and 5.63% for the prior quarter.

Retail sales: Retail sales fell to $7.7 million during Q3 FY16 compared to $8.2 million in the year-ago period and $6.8 million in the prior quarter. Lower prepaid gross additions was the biggest driver of Y-o-Y decline, while the sequential increase was driven by seasonally higher postpaid sales.

Other highlights

Cash flow: Cash provided by operating activities fell to $650 million for Q3 FY16 compared to $806 million in the year-ago comparable period and $1.7 billion in the prior quarter. Year-over-year, the $156 million decrease was driven by unfavorable changes in working capital that were partially offset by improvements in Adjusted EBITDA. The $1.1 billion sequential decrease was primarily due to unfavorable working capital changes.

During Q3 FY16, adjusted free cash flow went into negative territory at $(646) million compared to positive $339 million in the year-ago same period and positive $707 million in the prior quarter. Q3 FY15 included $1.1 billion of proceeds from the first sale-leaseback transaction with Mobile Leasing Solutions, LLC (MLS), while this quarter included a net cash outflow of approximately $370 million related to the repurchase of devices sold in the first MLS transaction. The sequential decrease was driven by unfavorable changes to working capital. During Q3 FY16, the company made net repayments of $231 million related to device financing and sales of future lease receivables.

During Q3 FY16, cash capital expenditures were $1.2 billion compared to $1.6 billion in the year-ago period and $828 million in the prior quarter.

Cost reduction program: Sprint made continued progress on growing revenues and improving the cost structure of the business. Total net operating revenues of $8.5 billion grew by $442 million Y-o-Y, and cost of service and selling, general and administrative expenses declined by nearly $500 million Y-o-Y, bringing the year-to-date cost reduction to more than $1.6 billion.

As part of its ongoing cost reduction program, the company modified the terms of its vendor agreements associated with the service and repair program on January 01st, 2017, which are expected to be accretive to adjusted EBITDA by approximately $25 million to $50 million per quarter. Under terms of the new agreements, the Company will now only record the net margin and therefore expects the reduction to wireless service revenues of approximately $200 million per quarter to be more than offset by a greater reduction in cost of service expenses. Sprint remains on track to achieve its goal of a sustainable reduction of $2 billion or more of run-rate operating expenses exiting FY16 and has plans for further reductions in FY17 and beyond.

Bolsters credit rating: During Q3 FY16, Sprint issued $3.5 billion of spectrum-backed senior secured notes at 3.36%, which is about half of Sprint’s current effective interest rate, as part of a $7-billion program aimed at diversifying the Company’s funding sources, lowering its cost of capital, and reducing future cash interest expenses. The Company also retired $2.3 billion of debt maturities with significantly higher coupon payments and repurchased the devices sold in the first MLS transaction, thus eliminating the associated future lease obligation.

Total liquidity was $9.1 billion at the end of Q3 FY16, including $6.1 billion of cash, cash equivalents and short-term investments. Additionally, the Company also has $1.2 billion of availability under vendor financing agreements that can be used toward the purchase of 2.5GHz network equipment. Based on the Company’s sustained operational performance and improved liquidity, Moody’s Investor Service recently upgraded Sprint’s corporate family rating from B3 to B2. In addition, the Company is in the process of refinancing its $3.3 billion unsecured revolving credit facility and expects to complete that process in the coming weeks.

Network improvements: Sprint continued to improve its network with High Performance User Equipment (HPUE). Sprint continues to unlock the value of the largest spectrum holdings in the U.S. by densifying and optimizing its network to provide customers the best experience. Third party sources continue to validate the Company’s network performance improvements.

Independent mobile analytics firm RootMetrics® awarded Sprint a company record 246 first-place (outright or shared) Metropolitan area RootScore® awards for reliability, speed, data, call, text, or overall network performance in the second half of 2016, including more call RootScore awards than Verizon, AT&T, or T-Mobile US Inc. (NASDAQ: TMUS) for the first time ever. Additionally, Sprint has received nearly 50% more total awards compared to its award tally in the prior testing period.

Sprint’s overall network reliability continues to beat T-Mobile and performs within 1% of Verizon and AT&T, based on an analysis of Nielsen data. The Sprint LTE Plus network, which includes advanced technologies such as antenna beam-forming and two-channel carrier aggregation, is now available in more than 250 markets, with three-channel carrier aggregation deployed in more than 100 of those markets. Sprint also recently announced a breakthrough innovation called HPUE, a new technology that can extend the coverage of its 2.5GHz spectrum by up to 30% to nearly match its mid-band 1.9GHz spectrum performance on capable devices, including indoors where the majority of wireless traffic is generated. HPUE-capable devices are expected to be available in the coming months.

Updated guidance for full year FY16

For the full-year FY16, Sprint revised its outlook and now expects adjusted EBITDA of $9.7 billion to $10 billion, at the high end of its previous expectation of $9.5 billion to $10 billion. The company now expects operating income of $1.4 billion to $1.7 billion, at the high end of its previous expectation of $1.2 billion to $1.7 billion. The company forecasts cash capital expenditures, excluding devices leased through indirect channels, of $2 billion to $2.3 billion. Sprint’s previous expectation was less than $3 billion. The Company continues to expect adjusted free cash flow around break-even.

Stock Performance

Sprint’s stock finished the day at $9.00, slipping 1.32% at the close on Thursday, February 16th, 2017, having vacillated between an intraday high of $9.20 and a low of $8.92 during the session. The stock’s trading volume was at 10,531,902 for the day. The Company’s market cap was at $35.12 billion as of Thursday’s close.

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