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Will prepaid wireless carriers take over the low end of the market?

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May 10, 2011

Will prepaid wireless carriers take over the low end of the wireless market sometime this year? Do you think this is something that's achievable? Well it would make some sense at the individual level, and, in the case of MetroPCS Communications, at the family level as well. Then again, it's not as simple as it looks at first glance. We will try in shedding some light here.

But can prepaid mobile operators such as Wal-Mart, Leap Wireless, Cricket Communications, MetroPCS and the divisions of T-Mobile USA and Sprint Nextel really make an impact for all of 2011? And can they hold on to gains made in a particular quarter through subsequent quarters? With mobile handset availability being driven to new heights, can this part of the wireless industry really outperform the AT&T and Verizon's of this world?

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Most likely not, but let's analyze this in more detail.

As far as prepaid is concerned, this year is an initial trial year, certainly not a breakout year. And 2012 will most likely be the 'real year'. But for 2011, Android does matter, but LTE matters even more more. A new network, post-paid handsets and compelling monthly price points equals gains for several carriers. Also, don't forget that LTE technology is superior and uses wireless spectrum more efficiently.

So let’s have a glimpse at this part of the wireless segment and analyze what makes the carriers earn the most money. The most important element about the prepaid segment of the wireless industry is that it’s growing-- and it's growing very fast, more than what most industry insiders had predicted last year.

And here are some concrete numbers that you can bank on: Sprint Nextel added 2.1 million net prepaid subscribers in the past 12 months. MetroPCS 1.6 million. T-Mobile USA 670,000. Leap Wireless just over 500,000. Wal-Mart, which usually counts in the carrier wholesale/reseller figures, added at least 2 million new customers in the last year. With Wal-Mart, it looks like 6.9 million prepaid net additions in the past year, versus 3.6 million postpaid.

The end result and the one that really matters here: Lots of growth, almost two-times post-paid.

So let's carry on with ARPU (average revenue per user). If there's one industry parameter that really makes all the difference, this is it. ARPU needs to keep on growing all the time if a wireless carrier really wants to make a difference and earn a higher profit margin. It's all about numbers and the size of all those individual sales.

Prepaid carriers are receiving about $10 more for smartphone plans, and another $5 to $10 for 4G. Remember that these are just averages and they can vary a bit from one company to another, but it's still offers a pretty good idea of the true story.

But now, with the transition to smartphones comes the increase in subsidy. Most wireless carrier today sells smart phones with a subsidy. That means they are selling the phone at an actual loss. Of course, when you're in business, you're not supposed to sell a product or service at a loss. So the only way for them to correct the situation is to have the new subscriber sign up for a minimum of 2 years, even sometime three years. That's how the carriers recuperate their loss and change it into a profit.

Sprint Nextel and Leap/Cricket both reported increased handset subsidy activity related to smartphones in the last few months. But the subsidy is nothing compared to postpaid on a per-unit or absolute basis, therefore it makes all the difference in the world.

And as you might expect, overall and net profitability is a lot harder to determine than ARPU. The real profitability leader of prepaid today is MetroPCS, with an average 27 percent earnings before interest, taxes and depreciation margin (up from 26 percent in 2010). MetroPCS now earns slightly more per dollar of revenue than T-Mobile USA. Sprint Nextel and Leap Wireless also bring up the rear in profitability-- at least for now, although Sprint Nextel’s overall profitability scenario does continue to improve somewhat, thanks in large part to postpaid data plan price increases.

Profitability is largely a function of two factors: Smartphone migration and overall data consumption. Given Sprint Nextel’s ownership of a tier-one IP backbone, and their direct connections to major carrier hotels and data centers around the U.S., it's still surprising to see that Sprint Nextel’s profitability isn't greater than what it is.

At any rate, outside of profitability concerns, the impending next issue prepaid providers will have to overcome soon is simply handset availability. Last year’s winner was the LG Electronics Touch handset. Thanks to ZTE Corp. and Huawei Technologies and the pressure that they will place on LG, we’ll have Android handsets available at lower price points for the foreseeable future. And that's a good thing.

In 2009, the thought of having a postpaid smartphone for free was nearly impossible. Now you can go to T-Mobile USA and get a Samsung Fascinate with a 1 Ghz processor or a BlackBerry Bold for free. We saw similar offers on the Verizon Wireless Droid product line through in December. Is it impossible to think about a $49 Android smartphone from MetroPCS or Leap with a 600 MHz or 800 Mhz processor for the end of 2011?

Well MetroPCS seems to think so. Here’s their quote from their latest earnings call. Philip Cusick, JP Morgan Chase & Co. says "Here’s the challenge-- the four prepaid providers plus Wal-Mart have about 46 million subscribers, and about half of them will be upgrading to a new device, most likely Android sometime this year. That’s 23 million total new devices sold in the prepaid channel, and about 12 million of those are Android smartphones."

Cusick added "AT&T Mobility and Verizon Wireless have 152 million postpaid retail subscribers, and half of them will be out of contract this year. Judging from the latest reports, about 68.3 percent of the base that is upgrade eligible will upgrade to a smartphone. That leaves 152 million smartphones sold into the postpaid channel this year. Assuming Apple takes a 50 to 52 percent market share of smartphone decisions, that leaves about 24 to 26 million non-Apple smartphone decisions for the remaining handset makers for AT&T Mobility and Verizon Wireless (40 million if you include T-Mobile USA and Sprint Nextel). The mobile handset makers are seeing at least one-third of the opportunity coming from the emerging carriers, and with Apple out of the picture, establishing a beach head is probably a good investment."

And here's another question: How do you expect the sort of retail pricing of 4G handsets to go this year? Right now we've got one at $300, that's the older. We've got the Android at $400. Could we see this sort of sub-$200 by the end of the year?

Roger Linquist, CEO of MetroPCS says "I don't think that you can see that this year. I do very well think you will see that next year, however. Linquist then later clarified in the transcript that he was speaking about the pre-subsidized cost, not the offered price to the end consumer. If the consideration is a $199 premium smartphone from Verizon Wireless or Sprint Nextel vs. a $199 1 Ghz smartphone from MetroPCS, will the decision be difficult for an individual user? The bottom line is: the closer the walk out costs converge between postpaid and prepaid offerings, the higher the probability of success for the prepaid providers."

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So the market is growing at about 40 million subscribers, IE: it's growing at about 1.25 million per quarter, and the ARPU is growing as the mix of customers change. The handset makers are highly interested in the volume provided by an industry churning at 40 to 50 percent per year, and distribution channels remain strong thanks to simplified pricing.

Historically, prepaid has been treated as a segment-specific detail of the existing 3G network structure-- and soon it will be 4G. And the wild card now is in fact 4G. When consumers now have to make a clear choice about a new network technology, who will win?

The investments that Metro and Leap pour into their already efficient network infrastructure add additional instability to both Sprint Nextel and T-Mobile USA and eventually AT&T Mobility and Verizon Wireless postpaid models. The differences between Angry Birds Rio at 900 kilobits per second and 5 megabits per second is immaterial.

As long as the 300,000 apps in the Apple and Android mobile apps stores are written for minimal network interaction, the need for 5 Mbps becomes less compelling. Video calling, perhaps, once you have re-trained FaceTime users to use your network as opposed to Comcast’s Internet connection. By that time, well tuned OoVoo, Fring, QiK and FaceTime servers will be in place in most metro areas.

And there’s a big debate occurring right now between the applications and the wireless carrier community already starting on this topic and a few others.

But until next year, this one is the celebration of Android. And next year could be a dual year with both Apple products and LTE technology. And this could spell the end of the post-paid market as we know it. Then again, we won't know for sure until we get there since this industry is changing so fast.

In other wireless news

According to a retail ranking conducted by marketing firm Millward Brown, AT&T’s brand has never been stronger globally, and continues to increase in the U.S. Millward's ranking found that the AT&T brand is worth nearly $70 billion, tops among global phone companies and wireless service providers. “AT&T's service-centric approach to its mobile, fixed line and Internet services greatly benefited the company as convergence of these platforms complete themselves,” the firm stated, adding that the AT&T brand was No. 7 worldwide across all telecom segments.

And second on the list of the largest and most valuable telecom providers and their brands was China Mobile Ltd. valued at about $57.3 billion, followed by U.K.-based Vodafone Group at $43.6 billion, United States-based Verizon Communications at $42.8 billion and German firm Deutsche Telekom AG at $29.8 billion.

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Rounding out the top ten were Spain-based Movistar at $27.2 billion, French-based Orange at $17.6 billion, Japanese telecom operator NTT DoCoMo at $15.4 billion, U.K.-based 02 at $11.7 billion and finally Telecom Italia at $11.6 billion.

Beyond the value of easily recognizable consumer brands, the report also found that China Mobile was feeling competitive pressure at home from the 3G rollouts of rivals China Unicom and China Telecom.

Pricing pressure in Latin America has resulted in customers carrying devices from multiple operators as a less expensive alternative to paying excessive toll charges. Consumers in developing markets look towards developed countries for trusted brands. As a whole, more expensive brands tend to be more desirable to wireless consumers.

In other AT&T news...

Verizon Wireless and AT&T Mobility are both getting ready to unveil data pricing for the new Apple iPad 2 that they plan on selling beginning today at 5 PM local time throughout various retail locations in the U.S., though AT&T said online sales are expected to begin at 1 AM PST. For the media to declare the launch of the iPad 2 a success there needs to be thousands of people camped outside of every retail location, everytime there's a new product launch.

AT&T Mobility's plans won't require a contract and will be priced at $15 for 250 megabytes or $25 for 2 gigabytes. For users choosing to pay for service using a credit card on a monthly basis, customers on the $15 plan can purchase an additional 250 MB for the same $15, while those on the 2 GB plan can purchase an additional 2 GB for $25.

AT&T Mobility recently unveiled that pricing model for all of its tablet devices. AT&T is also offering what it calls a “monthly statement” or “postpaid” plan that will allow customers signed up for the $25 to purchase incremental usage for $10 per gigabyte.

For a limited time, those customers will also be presented with a free 2 GB of service when they activate an account. AT&T will also extend its Personal Hotspot feature to the device that allows for multiple devices to connect to the Internet through the iPad for an additional $20 for 2 GB of data transmission on top of the $25 plan.

For those choosing their 3G connectivity through Verizon Wireless, the carrier is offering a handful of no-contract options. The plans begin at $20 per month for 1 GB, ratchet up to $35 for 3 GB, then to $50 for 5 GB and topping out at $80 for 10 GB.

The plans mirror those that AT&T already offers for access through its mobile hotspot devices on the low end and its mobile broadband pricing on the high end.

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Source: WNT.

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