Sprint’s path forward: acquisition, wholesale, or bankruptcyNovember 2015
Gene Dolgin, Principal, Endeavour Partners
Sprint is in dire straits. This morning, I spent a bit of time reading and listening to Sprint’s Q3 2015 earnings. I can’t say I—or, it would seem, much of the industry—am surprised by the (lack of tangible) results: everyone has already piled on with hold/underperform ratings, and creditworthiness downgrades, and even in spite of this, the stock still got pushed down about 7% on Tuesday. However, I wanted to discuss a) exactly how dire this situation is for Sprint, b) some options for the company, and c) the potential implications of those moves on the US wireless industry as a whole.
Sprint’s debt position is precarious. As of late October, Sprint has $33B of debt, with a massive portion due within the next five years. It’s in a precarious position, with Debt-to-EBITDA and Cash flow-to-Debt ratios (see Table 1) far outside the bounds of normalcy compared to its peers, and to the broader telecommunications industry. The company has a lot of debt to pay off over the next few years, and to service that debt, it needs to have either a) an organization capable of generating significant cash flow, or b) the ability to refinance that debt.
Sprint is the least competitive of the Big 4 carriers. Unfortunately, neither increasing cash flow nor refinancing seem to be an option for Sprint. Sprint’s quarterly reported cash flow has tanked (see Figure 1). The company has spent far too much money fighting T-Mobile (as well as Verizon and AT&T) for subscribers (as reflected in its positive net adds, which came at a hefty price — looking at you $1 iPhones and Direct 2 You program), and spending whatever is left to patch up a network which, for a while, routinely performed worst among the Big 4. The company has announced drastic cost-cutting efforts, attempting to eliminate $2.5B in CapEx and OpEx spend, but it may just be too little, too late.
A recent debt downgrade exacerbates Sprint’s poor position. Refinancing its debt obligations doesn’t seem like an easy path to follow either. With a recent downgrade to Moody’s B3 rating, or six levels below investment grade, the options available to the company will only get pricier. Sprint’s coupon rates are already 2x those of its competitors (~10% vs. ~5%), and the gulf will only widen as Sprint’s financial position worsens. We can discuss at length about why Sprint is in a bad position, but let’s just assume that ‘business as usual’ will mean an untimely end for the organization, and that it needs to consider some drastic moves as soon as possible. So let us consider some (but by no means all) options and their implications:
Option 1: Sprint gets acquired
Realistically, there are only a handful of potential suitors for Sprint. All in, we’re looking at $50B in debt and equity for the organization. There aren’t many suitors willing to take on that kind of financial burden, especially with >50% of it coming via (relatively) high-interest debt.
So who are potential acquirers?
T-Mobile? – Highly unlikely
Leaving aside T-Mobile’s appetite for Sprint, the combination of the 3rd- and 4th-place carriers in the market, with ~100M subscribers each, would certainly make for a strong 3rd-place carrier. However, this option is highly unlikely for a number of reasons, least of all the animosity between these two organizations which have polar opposite views of the world, of the evolution of wireless technologies, and of customer experience and satisfaction. Furthermore, the FCC would likely take issue with only three carriers in the market (based on how some of the EU regulators have reacted to similar propositions), and we’d be in for a long, drawn-out process. Finally, merging the operational assets (especially network assets) of the two carriers would be extremely difficult, given that they’re each themselves cobbled-together networks (T-Mobile + MetroPCS + Sprint + Nextel + Clearwire gives me a headache).
DISH? – Somewhat unlikely
This one is an interesting option, and has been bounced around quite a bit before. Charlie Ergen and DISH certainly seem to want to play in the wireless space. Ergen lost to Masayoshi Son in the Sprint bidding war a few years ago but may be the ultimate winner if he can buy the organization at a steep discount. But the ultimate play for DISH may be to rent its ample spectrum, rather than to operate a network.
A cable operator? – Highly unlikely
Just a few days ago Comcast announced that it will likely activate its MVNO agreement with Verizon (penned in 2012). That means Comcast, the most feasible acquirer (in terms of financial capability), likely won’t be chasing Sprint anytime soon, as it’ll be busy building its own retail offering. That leaves Charter as the only realistically capable cable operator, and it has shown no real desire to come back after its failed SpectrumCo venture.
A tech powerhouse? – Somewhat unlikely
The traditional options seem unlikely, so we should at least explore the possibility that a tech giant might want to finally step into the fray. Google’s Project Fi certainly shows the company’s interest in spurring mobile innovation, and it’s not afraid to get its hands dirty when necessary (e.g. Google Fiber), but the company knows little about operating a nationwide wireless network, let alone a major retail operation like Sprint’s. Microsoft could theoretically be a contender here, but the organization seems laser focused on re-building a full stack of software and services for the modern world. Apple may also be a contender, given its $200B in cash on hand, but the company seems to enjoy beating up on carriers from a distance, and has shown no desire to become one. No other US-based organization seems to have the right mix of consumer-facing capabilities and technological chops to even attempt running Sprint.
Option 2: Sprint goes wholesale
Over the last several years, each of Sprint’s competitors have carved out specific niches for themselves: Verizon as the high quality provider, AT&T as the sensible alternative, T-Mobile as the iconoclast — leaving Sprint with little room to define itself. The company has teetered between focusing on network quality to being the low-cost alternative, but nothing seems to be compelling enough for consumers to stick around (see Figure 2, but note this is not yet updated with the 2015 Q3 results, in which Sprint’s churn dropped to ~1.5%, still the highest of the bunch).
Could Sprint survive as a wholesale-only operator? Though wholesale operations, for now, represent a fraction of its retail operations, the company could feasibly move to a low-cost, wholesale-only operator, letting others assume the risk (and reward, of course) of building a retail operation, squabbling with device manufacturers, and other associated headaches. Sprint added nearly 1M wholesale subscribers in the last quarter, lending more credence to the model’s potential. I’m sure Sprint could find a buyer for 50M retail customers, which would in turn stabilize Sprint’s financials and provide it capital for bettering its network operations. It would be interesting to build a financial case for doing so.
Option 3: Bankruptcy or restructuring
This is probably the least interesting of the options, but it is a very real scenario for which Sprint, its investors, and particularly its creditors and vendors should prepare. Without a major infusion of debt-free (or debt-light) capital, say from Sprint’s parent company SoftBank, Sprint is approaching a financial cliff. Given the current rate of cash burn, the company has at most two years to figure out its financials, or face restructuring. A restructuring would have nasty reverberations up and down the industry and would be particularly painful for the device and network equipment vendors, who are running particularly thin margins, and for whom a write-off of Sprint’s obligations would be significant.
Regulatory angle. As a small aside, from a regulator perspective, a Sprint bankruptcy or restructuring would likely be welcomed. The company to emerge, whether as a whole or in parts, would be free of many of the obligations currently preventing Sprint from really investing in either its network, or its operations.
Whatever happens to Sprint, consumers stand to benefit. These are a few of the options available to the company. Whether any of these becomes reality, or Sprint really does pull out of its apparent tailspin, we can expect the consumer to benefit. The reality is that increased competition and a leaner Sprint, whether run by Sprint or as part of an acquisition, will likely mean lower costs, and (hopefully) novel business models for consumers to consider.
*Figures and table will be updated to 2015 Q3 when all data has been released
This is an opinion piece exploring some potential options for Sprint – if you have thoughts or want to generally discuss the piece, I’d be happy to talk. Contact me at firstname.lastname@example.org
Gene is a Principal at Endeavour Partners, where he focuses on telecommunications infrastructure, mobile health, and healthcare. He has led several projects for the firm including those examining the evolution and growth of wireless infrastructure, heterogeneous networks, and Wi-Fi, and the potential competitive offerings that infrastructure owners, carriers, and others should be considering.