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dallas weatherGreetings from Dallas, where the traditional summer heat is breaking for two days (Minneapolis is forecasted to be 10 degrees warmer today and 15 degrees warmer tomorrow than Dallas).  However, there is no break from the blistering pace of telecom news that occurred this week.

On Friday, AT&T announced that they were acquiring Leap Wireless for $15 per share in cash.  The transaction, including the acquisition of $2.8 billion in net debt as well as proceeds from the sale of the Chicago “A Block” 700MHz spectrum, is valued at just under $4.2 billion.  While this transaction represents an impressive premium to Leap’s closing share price on Friday, it’s one fifth of the amount MetroPCS was willing to pay for Leap’s assets just six years ago (see the Fierce Wireless article here.  It’s a “What were you thinking?” moment for the Leap Board).

Leap Wireless (a.k.a, Cricket) has a lot of spectrum, particularly in the AWS band, that AT&T can pair with its spectrum portfolio to produce a large LTE coverage area.  Here’s the AWS coverage areas for Leap (the hashed area is the result of Denali Holdings’ win of the Great Lakes spectrum band) as well as for Cingular:

leap wireless aws licenses including denali

cingular wireless aws licenses

While is important to note that the large swaths of blue above are not in the same AWS block, they are in the same band.  This improves AT&T’s coverage in the Great Lakes area, and complements AT&T’s 700MHz LTE coverage in the Eastern US.  For a good spectrum band chart, click here for Phone Scoop’s tutorial.

That announcement dropped late Friday, and it’s nearly certain that there will be another bidder for the Leap Wireless asset.  Regardless, this transaction will drive up spectrum values for remaining holders of 700MHz, 1900MHz, and AWS spectrum bands.  C-Spire, US Cellular, Ntelos and other smaller (private) companies will be receiving phone calls.  It’s a good day to be an asset owner.

It’s not a good day, however, to be a smartphone provider.  This week, we learned just how bad sales of the Blackberry Z10 were in the second quarter as AT&T commenced a fire sale on the newly released Blackberry.  Here’s the listing on Amazon – $49.99 (down from $199.99).  Best Buy has the Blackberry Z10 listed at FREE.

blackberry z10This does not appear to be because the phone itself is defective.  Over 225 people have reviewed the device on www.verizonwireless.com and it is clear that those who own the phone adore it (4.4 stars out of 5.0; 85% or reviewers recommend the phone).  However, it lacks enthusiasm from shartphone switchers, at least compared to the other new phone entrant, the Nokia Lumia 928.  It’s one of the highest rated devices on Verizon Wireless with 4.8 stars and a 95% recommendation level.

Blackberry’s CEO, Thorsten Heins, referred to “lessons learned” at Blackberry’s annual shareholder meeting this week.  One of those lessons learned is that the bar for switching phone manufacturers and operating systems is very high.  Blackberry has a real price point problem on its hands as they ready the US rollout of the Q5 in a few months.  Not much room for a “scaled down” version of the Z10 or the Q10 with pricing for the Z10 at or nearly free.  There are many chapters left to unfold with Blackberry, but the Z10 launch will be remembered as one of the most taxing times in the Canadian company’s history.

On the opposite end of the spectrum comes the super-premium Nokia 1020.  As one reviewer put it, “You can sum up Nokia’s just-unveiled Lumia 1020 in three words:  41, mexapixel, camera.”  Nokia held a pretty well attended launch in New York City this week, where reactions to the camera were generally positive.  C|Net proclaimed, “The Lumia 1020 puts the mega back in megapixels.”  However, there are concerns that there is too much camera focus in this model, and more than one analyst worried that it could relegate Nokia to the “niche” market.

nokia lumia 1020

I think there is a much larger market for image capture than many expect, especially with the social media-focused crowd.  This is a phone that consumes LOTS of data (even with a 5 MP “shrunk for social” version of the picture, there’s the potential for many more uploads), and with the blogosphere continuing to demand higher resolution photography, there are many who will want this device.  The accessories are fantastic.

Admittedly, this is not a device for everyone, and Nokia will need to balance this with a lineup that satisfies a palate of diverse smartphone budgets and interests.  Without a doubt, Blackberry owns the keyboard phone.  And now, without a doubt, Nokia owns the picture phone.  They are both feet in the very large and unforgiving doors of smartphone incumbency.  If Nokia can turn the corner on (business) applications, and then offer free Gigabytes of wireless data usage over AT&T for new 1020 buyers, we could have a challenger to the Galaxy S4 in the making.

In case you missed the significance of the last statement, let me reiterate:  Smartphone differentiation, particularly for challengers, can be achieved with a) more storage (Microsoft Drive) and also b) application-driven subsidy (e.g., first 500MB of data charges to and from Microsoft Drive are free for the first year).  AT&T can accommodate these changes today, and I would not be surprised if a “limited time offer” is extended to new Lumia 1020 users to allay fears about the increased data usage a 41MP/ 5 MP phone can drive.

As Nokia moves to change its position in the US phone market, their chief partner, Microsoft, announced a substantial restructuring on Thursday.  The chief outcome of the reorganization was a functional structure, led by four engineering-focused groups:  OS, Apps, Cloud, and Devices.  This change should help Nokia as they integrate the Lumia product line into the Xbox2 and other products Microsoft will introduce.

There have been many debates about Separate Business Units (SBU) versus functional organizational models.  Clearly, Microsoft sees a more integrated software/ hardware future (which seems to be the trend), and the change from traditional PC to Mobile/ Tablet computing is occurring at a very rapid rate.  However, the SBU function allowed Microsoft to be competitively focused in the Enterprise space against business-oriented companies like Oracle and Cisco.  This is not impossible in a functionally-aligned organization, but it’s certainly a lot harder to hear the voice of the customer when there is no division “lead” with P&L authority and responsibility.

microsoft org leads

The New Functional Leads at Microsoft

Also, Windows 8 has not been wildly embraced, which goes to show that too much change can backfire.  At the end of June, Microsoft announced Windows 8.1, which contains a host of features specifically designed to ease the transition from Windows 7 to Windows 8.  A full recap of the Windows 8.1 features is here.  Any reorganization should be able to definitely answer the question “How will Microsoft’s customers benefit?”  I’m not sure that the Windows user community benefits from this reorganization.  If anything, it’ll result in more changes with less regard to the velocity of the user impact which could backfire on Microsoft’s PC-based business.

Microsoft’s reorganization helps apps.  It definitely helps their consumer business, especially Microsoft Drive integration.  But will it improve customer interest in Windows, and will it create a more competitive Enterprise presence?  That appears to be seen.

If spectrum-driven acquisitions, super-premium smartphone announcements, and the reorganization of one of the most important forces in technology aren’t enough, we had individual and family pricing plan changes announced from two of the four largest US wireless carriers this week.  Given the length of this week’s article, we’ll devote the entirety of next week’s Sunday Brief to an economic analysis of T-Mobile’s JUMP (Just Upgrade My Phone) and Sprint’s Unlimited, My Way plans.

Until then, if you have friends who would like to be added to this email blog, please have them drop a quick note to sundaybrief@gmail.com and we’ll add them to the following week’s issue.  Have a terrific week!

The Sunday Brief: Earnings Drivers for the Second Quarter (Part 3)

 

san diego fourth of julyGreetings from San Diego and Dallas.  Hopefully most of you are reading this after your Fourth of July weekend has ended.  This has been a busy week in telecom.  Late Friday, as we predicted, the FCC unanimously approved the Sprint/ Softbank and Sprint/ Clearwire mergers.  This paves the way for the Clearwire shareholder vote on Monday (July 8) and then the synergy expectations game begins.  Exciting changes are afoot, and, as I indicated in my Bloomberg interview last Monday, they must execute with an unprecedented degree of precision.

Many of you commented on the interview through LinkedIn or through direct emails/ texts.  A couple of you asked me for my sources on the EBITDA and debt levels that I mention in the interview:  Sprint is here, Clearwire is here, and Verizon Wireless is here (click on the transcript for the net debt comment and the financial and operating information for the trailing 12-month EBITDA).  The exact numbers (and I have excluded the EBITDA for Sprint and Verizon’s wireline operations in this metric) are Sprint wireless + Clearwire adjusted trailing 12-month EBITDA = $4.3 billion; Sprint + Clearwire adjusted net debt as of 3/31/2013 = $20.2 billion; Verizon Wireless net debt = $6.2 billion, and Verizon Wireless trailing 12-month EBITDA = $31.0 billion.

This equates to a debt-to-EBITDA ratio of ~ 4.7x for the combined Sprint/Clearwire and 0.2x for Verizon Wireless.  Clearly two different ends of the spectrum (pun intended) when we are looking at financial “wiggle room” should synergy expectations be delayed.   The 4.7x is better than it would have been under Dish, and there are few doubts about Sprint’s ability to pay their debts for the next few years, but Verizon’s options are far greater.  It’s why Verizon has returned more equity value to their shareholders in the past six months than the entire market capitalization of Sprint (see chart below).

We’ll talk about Sprint more after their earnings announcement on July 30, but, as I said in the interview, a new captain (Softbank) with discarded (iDEN) ballast and cash availability filling their sails makes the Sprint ship more formidable.  But the straits they must navigate are narrow, and the room for error is slim to none.

In the “missing expectations is everything” column, Samsung Electronics reset second quarter expectations this week – consolidatedApple vs. Samsung 5-yr chart revenues would only be 20% higher, and operating profits only 47% higher (to $8.3 billion).  The stock was not bludgeoned as Blackberry was, but it did add to the chorus of ecclesiastical analysts who are convinced that smartphone growth will never return to the good old days of 2011/2012.  Here’s one analysis by The New York Times who almost feels obliged to quote Mark Newman from Sanford C. Bernstein at the end.

The reporting misses two key factors that affected smartphone sales – 1) the Galaxy S4 really did experience supply chain/ inventory shortages with Sprint and T-Mobile at the end of April (and expectations did not adjust); and 2) Verizon and AT&T adjusted their handset upgrade programs from 20 to 24 months, creating potential confusion among the current subscriber base (these changes do not take effect until January and March, 2014, respectively).  As others begin to aggressively adopt T-Mobile’s “Pay for your device each month” model, the power of high-end devices like the Galaxy S4 become affordable to tens of millions of additional users.  This is also will be very good news for Apple.

In the “It’s good to be king” column, Amazon is facing a fresh set of charges alleging that it is taking price increases on books where there is less demand (and as a result less competition) for the title.  The first report of this came from The New York Times on Friday.  This is an excellent article, but leaves me at a loss – don’t most publishers have their e-book formats distributed across multiple operating systems (Amazon, Google, Apple, Nook)?  Did Amazon simply raise the price to the Google Books level (I spot checked several popular books and they all happen to be nearly or exactly the same price)?  Regardless, this article could not come as a less opportune time for Amazon as the Apple price fixing trial awaits a decision.

Basic RGBIn the “Every dog has his day” column, Xobni (Inbox spelled backwards), an innovative yet aging contact management application was purchased by Yahoo! for a rumored $30-40 million (although there appear to be another $30 million or so in earnouts according to TechCrunch).  I was a Xobni user during the Mobile Symmetry (MS) days.  The software in 2009 was better than anything else in the market – it tried.  But, as my former MS colleague, Neil Tenbrook, said, “This contact management stuff is hard!”  Xobni raised $42 million (not even a 1x return before earnouts), had 100 million+ Microsoft Outlook downloads, and some success in the iOS, Blackberry and Android formats.  But it missed the restructuring of information, the demise of email as a communications medium, and the rise of contact management through social/ business networks.  Good luck to the team as they integrate into Yahoo – if done right, I might even rethink using a Yahoo email account.

Finally, in the “Just Weird” column, we have Prince.  In a wide-ranging interview with V magazine, he is asked whether he owns an 1372803915_prince-v-magazine-cover-467iPhone.  Prince’s response:

“Are you serious?” he says. “Hell, no.” He mimics a high-voices woman.  “Where is my phone?  Can you call my phone?  Oh, I can’t find it.”    

 

I think there is a bit of Prince in all of us.  Even if it’s a very tiny amount.

This week, we continue our evaluation of second quarter earnings.  Here are our findings to date:

  1. The beginnings of a meaningful metrics (but not EBITDA) change will appear at T-Mobile.
  2. Verizon’s lead in profitability will widen because of their high mix of LTE-based traffic.
  3. Sprint’s 2Q will be driven by networks in transition (iDEN to CDMA; 3G to 4G; contract to no contract; government-subsidized to consumer-driven).
  4. No one will see an EBITDA dip due to new phone brand launches (Samsung, HTC, and Blackberry numbers all back this up).
  5. AT&T will (slightly) surprise on LTE footprint and postpaid additions (thanks to Sprint’s iDEN turndown), but disappoint on many other metrics.

That leaves us with cable and LEC/ CLEC wireline earnings.  As you can see from the table at the end of this column, publicly traded cable stocks have been driven up in the past month by M&A speculation.  Through mid-April, only Comcast and Charter had posted gains for the sector.

Outside of synergy speculation, there are two reasons to be excited about cable and, to a lesser extent, LEC/ CLEC broadband.  First, the housing sector is beginning to recover.  As the chart from the St. Louis Federal Reserve shows, new housing starts are beginning to come back from historical lows.

new housing starts graph

Because we suffered a 75% decline in new housing starts over three years, it’s hard to see the bottom.  Clearly, however, we hit it in 2009 and a have recovered about half of the expected gains.  (Note:  that leaves at least 500,000 new units to get back to a median historical level for the industry, or about $600 million in new telecommunications services opportunity).

Turning housing starts into profits depends on strong and steady plant investment, especially in high growth areas such as Texas, Florida, Georgia, North Carolina, Arizona and California (see here and here for ADP job figures).  This favors cable companies such as Brighthouse Networks (Tampa/ Orlando), Comcast (Houston, Atlanta, South Florida), Time Warner (North Carolina, LA, Dallas, Austin, San Antonio), Cox (Orange County, Phoenix, San Diego), and Suddenlink (West Texas, who is having an economic boom like no other).

However, with the exception of Arizona, the states mentioned are in the heart of AT&T territory (although parts of FL and NC are managed by CenturyLink).  This is where they have concentrated much of their fiber investments for the past decade.  When the South and West recover, AT&T’s opportunity grows.  This is one of the reasons why we started to see consumer revenues grow in Q1 (+2% annually) and why 2013 will be the fastest growing year for U-Verse since their early launch days (2008).  With “mover” activity on the rise into and within these markets, it’s a promising time for AT&T.

On the enterprise front, fiber and Ethernet connectivity from office buildings to geographically redundant and secure servers is growing.  The transition from client-based servers to private and “hybrid” clouds began in 2005 (if not earlier).  Much (although not all) of the server growth for the mid-market and non-essential enterprise information is occurring offsite.  This is driving up the need for bandwidth and accompanying managed services.

Since this issue is running a bit long, I’ll reference the latest earnings and investor conference presentations from tw telecom (TWTC) as reference for fiber/ Ethernet trends.  They are investing $350-370 million in 2013 to densify their networks in 75 markets and satisfy the “fiber to the building” need.  While they will face formidable competition from Verizon, AT&T, CenturyLink/ Savvis, Zayo, Level3, and Comcast (and Time Warner) Business, the dynamics of the recovery are covered in their earnings and investor conference discussions.  Companies that are successful in this space are unwavering, consistent, and patient.  There are no “quick bucks” with metro fiber.

Next week, we’ll take a closer look at Dish’s options after Sprint/ Clearwire (opinions welcome).  Until then, if you have friends who would like to be added to this email blog, please have them drop a quick note to sundaybrief@gmail.com and we’ll add them to the following week’s issue.  Have a terrific week!

ytd stock returns

Earnings Drivers for the Second Quarter (Part 2)

softbank sprint

Greetings from Dallas.  This is the first time in 17 weeks I have not included a list of cities before or after Dallas.  A week without travel – very sweet indeed!  However, this was no time for a vacation, as news was busting out all over.  With the vast majority of shareholders approving Softbank’s revised offer for Sprint, and with Dish deciding not to counter Sprint’s latest $5/ share offer for Clearwire, the path has been cleared for Sprint’s resurgence.  More control does not equate to a higher probability of success, however.  I’ll be speaking more on this and other telecom topics on Bloomberg Business News Monday morning at ~ 8:30 or so CT.  (Here’s the link to the last interview.  I was a little rusty).   UPDATE:  The new interview has been posted.  Thanks, Bloomberg News, for having me on!

But Sprint was not the only telecom company making news this week.  On Tuesday, Mary Dillon abruptly left her role as CEO of US Cellular and went to Ulta, a Chicago-based cosmetics producer.  Here’s the chart comparing the two-year performance of USM and ULTA:

us cellular vs ulta

Clearly, there was some friction that led to the departure.  After Mary’s excellent panel facilitation at CTIA, as well as her brilliant sale of non-performing properties to Sprint (which raised $480 million), it was hard to see anything but long-term tenure for the former McDonald’s executive.  Best wishes to incoming CEO Kenneth Meyers.

US Cellular made news on Friday as well, selling AWS spectrum to T-Mobile for $308 million.  The price of 95 cents per MHz pop is 37% more than Verizon Wireless paid for the Spectrum Co (cable company consortium) spectrum last year.  The $788 million in cash from this and the Sprint transaction will help US Cellular accelerate its LTE deployments and make the carrier more attractive in the future to Sprint and others.

Blackberry reported earnings that even disappointed and surprised skeptics of the stock.  As a result of a 16% decline in service revenues, and the failure to report any separate sales statistics on the Z10, shareholders went running for the exits on Friday.  As a result, the stock gave back all of its 2013 gains plus $1.25 in one day.  As we have noted in several previous columns, Blackberry has no foothold in the US – they are an afterthought in 2014 strategic planning, even in their enterprise and government sweet spot.  More details below.  Tough times for the smartphone pioneer.

With this week’s focus on the handset makers and Verizon, it’s completely appropriate to end the weekly news with a discussion of Verizon’s rumored bid for Canadian operator Wind Mobile.  This article from Canada’s Globe and Mail outlines a three pronged strategy:  a) buy and consolidate Wind and Mobilicity; b) leverage handset and network scale; and c) participate in Canada’s upcoming 700MHz auctions.  Here’s Verizon’s coverage from Buffalo to Detroit – it’s not hard to see from this map Verizon extending its reach into southern Ontario:

What this does indicate is that despite all Vodaphone buyout hype, Verizon Wireless has other options, including an aggressive Canada deployment strategy.

verizon LTE coverage canada

What should we expect from Verizon when they report earnings on July 18?  Here are a few things we know are on their list from recent investor presentations:

  1. Average Revenue per Account.  This figure is rising (from $146.80 to $150.26), even as overall postpaid accounts fell in Q1 by a nominal 114K or 0.3%.  This means that the customers who are most connected are growing their business with Verizon Wireless (from 2.64 to 3.67 connections per account).
  2. Customers who subscribe to an LTE device (and the traffic they drive).  As of the end of Q1, nearly seven out of ten Verizon postpaid smartphone and Internet connection (Mifi, other postpaid device) subscribers were confined to 3G speeds.  Driving this figure to 33/35/37% and the corresponding tonnage to 60% or more is going to be critical to increased profitability.
  3. 3G network utilization/ Wholesale strategy.  Verizon has a reputation of being an inconsistent wholesale provider, but they are coming off the back of an incredible first quarter as a result of supplying data to TracFone for the WalMart Straight Talk iPhone.   If the 3G network is being drained of retail megabytes, it’s going to be important to keep it full through the TracFone relationship.
  4. Cost reductions.  This is not confined to improved gross margins (which greater 4G usage will naturally drive), but covers sales/ marketing and customer service improvements as well.  With Share Everything plans including unlimited voice and data, the ability to grow the customer base and close additional call centers is inevitable.
  5. Cash flow/ overall capital expenditures.   AWS deployment costs money to deploy.  But it does not have the same backhaul and backbone effort that was required with the initial LTE rollout.  Verizon Wireless has capital opportunities through the second half of 2013.

As we discussed in last week’s Sunday Brief, it’s likely that Verizon adds a few hundred thousand post-paid retail subscribers this quarter due to Sprint’s iDEN transition, and that they add an additional several hundred thousand data-focused connections to existing accounts.  Given no significant handset dilution from a blockbuster smartphone launch (although the Samsung Galaxy S4 has been at Verizon since late May), it should be an extremely profitable quarter, well above Q1’s 50.4% EBITDA margin.

Many analysts will try to plot linear growth trends for Verizon from second quarter results, particularly for data growth.  However, it’s important to understand that there is an upper bound for the Share Everything model.  We were reminded of this with the release of the latest Bankrate.com survey, which showed that only 50% of Americans have saved enough to cover three months of savings, and that 27% of Americans have no savings at all.   There is a spending ceiling, even for LTE.

Also, it’s not hard to see Sprint or T-Mobile really taking aim at the unlimited voice and text part of Share Everything prior to the completion of their LTE networks.  With average minutes used decreasing for most smartphones, Verizon’s $40 charge for unlimited voice and data is $10 higher than many MVNOs (network resellers) are charging for the same coverage.  When there’s $25 or more (depending on usage) of operating profit per account each month generated through breakage, it’s likely that competitors will devise plans to curtail that profit stream.

BlackBerry-Q10 imageMany of you sent me thoughts on Blackberry’s earnings.  It’s easy to pile on Blackberry, and, as an applications software developer, I have no sympathy as the pain Blackberry put applications developers through during 2009-2011 was immense.  They are in the first innings of a double-header transition period with no stable base or geographic stronghold from which to position a comeback.  Here’s their US results to date (using a blend of online “most popular” results from several sites as well as discussions with Dallas store reps):

  • Verizon:  Blackberry does not register as a retail option. The store rep I talked to put it perfectly:  “If I am asked about Blackberry, I will show them the Z10 or Q10.  If I am asked about a smartphone, I show them Samsung and Apple.”   On Amazon Wireless, Blackberry Z10 and Q10 models rank 7th and 8th (Amazon figures exclude Apple products).  Most importantly, Blackberry trails HTC and Nokia at Verizon.
  • AT&T:  Blackberry scores better, but still lags behind HTC and ties with the Nokia Lumia brand.  Resuming a leadership role at AT&T is going to be very difficult given the stronghold Apple has in the consumer/ prosumer (professional consumer) segment.  “It’s easy to upsell an iPhone5, especially when the customers see the speeds.  The trade-in bonus is accelerating the change.”  This leaves the enterprise segment at AT&T, which is going to sell a lot of Blackberry Q10 devices, but also a lot of Galaxy S4 with SAFE/ KNOX capabilities.
  • Sprint:  Sprint does not offer the Q10 or the Z10 at this time.  It required real sleuthing to even find the Blackberry Bold in the store.  The store rep put it in succinct terms when he said “I have yet to sell a Blackberry to an individual user that is under 40, and I’ve been at this store for over a year.”  Rumor has it that launch date will be either the weekend of July 27th or August 3rd.

With service revenues languishing (even with adjustments, a 10% quarterly decline is alarming), Blackberry has a limited window to reinvigorate its US presence, particularly with LTE subscribers.  For HTC, Apple, Nokia and Samsung, this means more opportunities to pick away at their lucrative base.  It’s possible yet hard to see a scenario where Blackberry succeeds globally without first being successful in the US.  And it’s even harder to see Apple iPhone users returning to Blackberry under any circumstances, especially with Blackberry’s PlayBook aspirations on hold.

Next week, we’ll look at the quarter from the perspective of wireline and enterprise sectors.  Until then, if you have friends who would like to be added to this email blog, please have them drop a quick note to sundaybrief@gmail.com and we’ll add them to the following week’s issue.  Have a terrific week!