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End of year greetings from Fraser, CO and Lake Norman, NC. This has been a week of reflection, not only on the year but also on the decade that was. Taking some time to contemplate the changes that have occurred over the past ten years is instructive and helpful. Scheduled broadcasts (except for live sports?) died over the last decade – the term “binge” was most likely preceded by “spending” in 2010, as opposed to referring to online watching today. Our digital “wait time” expectations shortened (try to pull up a full version of any content-rich website in a poor coverage area). The quality of our smartphone (video) cameras improved and became the “lead” or replacement for our social media posts. And many of us now answer messages and calls that appear on our wrist from Bluetooth earbuds using speech recognition.
Against this technological whirlwind we evaluate the breakup of AT&T in this week’s TSB, an event that started on November 20, 1974, and culminated on January 1, 1984. Many books have been written on the topic in addition to Steve Coll’s “The Deal of the Century: The Breakup of AT&T” (including “The Fall of the Bell System” by Peter Temin and Louis Galambos and “Network Nation: Inventing American Telecommunications” by Richard John), and when applicable we will draw on them in this review. Our focus, however, will be on Coll’s chronicle. As we mentioned in Tim Wu’s The Master Switch (see TSB here), the study of history helps us understand the influences and beliefs that shaped business decisions, many of which parallel those seen in today’s world.
Understanding AT&T’s World in the Early 1970s
Against post-WWII prosperity, America came of age in the 1960s, with baby “boomers” going to work, battling communism in Vietnam, or pursuing university degrees. Science and technology were national interests, and, as a result, subject to increased federal (and sometimes state) attention. The Cold War embers were still hot, although the fiery and dramatic rhetoric of Kennedy and Johnson had evolved by the end of the 1960s – détente was in, shoe-banging was out.
For the two decades following the end of WWII, “systems development” was popular – components working in concert to achieve a particular national or social objective. In the case of telephony, the system consisted of
- terminating equipment
- local networks
- switching (which was often assisted by personnel called operators)
- long-distance networks
- interconnection facilities (to complete calls to independent phone companies)
- operations support: customer service, billing/ collection, research & development, product management
To AT&T executives, the quality of the network was directly correlated to system control. This was not necessarily, as some back-casting historians presume, a vestige of power-hungry monopolists eager to satisfy increasingly demanding shareholders. No doubt that there were some malevolent managers at Ma Bell (as discussed below), but there is a fundamental difference between a stalwart belief in operational efficiency (providing telephone service to everyone at affordable rates) and overt anti-competitive monopolism. Keeping the system together created consistent stability in an increasingly less stable world.
Equally as important, the system control depended on a delicate mix of businesses and consumers. Too many consumers, particularly in high-cost rural locations, and profitability would be compromised. Too many businesses, and capital and service costs would skyrocket. Customer mix was a Jenga puzzle, and MCI’s focus on enterprise voice and private line services threatened its balance.
MCI and AT&T’s Initial Interconnection Discussions
Despite AT&T’s arguments to the contrary, the Federal Communications Commission (FCC) and the capital markets were very interested in MCI’s plans to disintermediate the Bell system. Coll ends Chapter 1 summarizing MCI’s $100 million equity raise in June 1972 (and follow-on $72 million line of credit later that year) and begins the following chapter with a recap of the roundtable discussion that ensued at MCI. Rather than a complete overbuild, MCI would negotiate connections to AT&T’s switches in St. Louis and Chicago (it’s hard to imagine the first interconnection negotiation given their commonplace nature today), and AT&T had complete leverage.
In March 1973, Jack McGowan, MCI’s Chairman, met with AT&T Chairman John deButts and George Cook, an AT&T attorney, at AT&T’s headquarters in New York City (195 Broadway). McGowan dictated a memo after the meeting, saying:
“On the one hand, they piously state a willingness to be fair and are willing to believe it themselves while at the same time they interpret their mandate to compete hard by actions which they know will result in a denial of their position on fairness… It would be incorrect to be encouraged by the potential impact of antitrust action, although it might receive a very favorable reaction at 195 Broadway simply by having them spend more time being advised by counsel. ”
For the next nine years, dozens of attorneys would be employed by each side engulfed in the largest antitrust lawsuit to date. The system was breaking, and MCI cracked open AT&T at its most vulnerable point – interconnection.
The AT&T Chairman Speaks
Competition intensified over the summer of 1973, and AT&T Chairman John deButts used the fall meeting of the National Association of Regulatory Commissioners to respond. Coll spends an entire chapter describing deButts’ speech, which culminates with the following recommendation:
“The time has come for a thinking-through of the future of telecommunications in this country, a thinking-through sufficiently objective as to at least admit the possibility that there may be sectors of our economy – and telecommunications [is] one of them – where the nation is better served by modes of cooperation than by modes of competition, by working together rather than by working at odds.
“The time has come, then, for a moratorium on further experiments in economics, a moratorium sufficient to permit a systematic evaluation not merely of whether competition might be feasible in this or that sector of telecommunications but of the more basic question of the long-term impact on the public.” 
The crowd of regulators stomped and cheered. Bernie Strassburg, the head of the FCC Common Carrier Bureau for the past decade and a 21-year staff lawyer at the Commission prior to that, was in the audience and, according to Coll, took deButts’ comments to mean that AT&T was above the law.
Meanwhile, MCI continued to test the regulatory waters, expanding service from private lines (voice calls between two regional offices) to something called Foreign Exchange or FX, which can best be described as a precursor to toll-free 800 service (Coll offers the example of an airline customer calling a local New York City phone number and being serviced by a customer service representative in Chicago). The challenger had moved from connecting two company locations to connecting customers to company locations. Both private line and FX were highly profitable services.
AT&T took the case to court, and, after losing the first ruling, won on appeal. Coll describes their activities after that decision:
“As soon as the appeals court decision was handed down, it was ordered that all of MCI’s FX lines be disconnected immediately. AT&T engineers worked an entire weekend unplugging the circuits, inconveniencing MCI’s customers and infuriating McGowan. John deButts would later say that the decision to disconnect MCI’s customers was one of the few he ever regretted. The FCC ruled that MCI was, in fact, entitled to sell FX lines, and AT&T was forced to reconnect all of MCI’s customers. The damage, however, was already done. ”
It is tempting to draw some analogies of “above the law” behavior seen today by trillion-dollar market cap companies, but the behavior described above would be akin to Apple removing Google Maps, Netflix or Spotify from the iTunes store. As we have described in very early TSB editions, there’s always been a delicate balance (Apple’s relationship with Google Maps in 2012-2013, for example) initially, but today’s systems, thanks to the role of applications, has been much more friendly than the early days of telecommunications competition.
Attorney General William Saxbe: “I Intend to Bring an Action.”
Thanks to the administrative turmoil created by Watergate (Nixon resigned in August, 1974), most of the attorneys in the Justice Department thought that the AT&T case would be placed on hold. Nixon had appointed William Saxbe, an elder senator from Ohio who enjoyed the golf links much more than the office, as Attorney General earlier in 1974.
The recommendation to file an antitrust suit against AT&T made its way to General Saxbe’s desk in November, 1974. After being briefed by two senior DOJ lawyers working on the case, it was AT&T’s turn to make their case. Coll describes this situation as follows:
“John Wood, a Washington lawyer retained by AT&T, stood up to begin AT&T’s presentation. Mark Garlinghouse, the company’s general counsel, was seated beside him.
“Mr. Saxbe,” Wood began, puffing on a pipe, “before we start our presentation, I’d like to know exactly what your state of mind is on this case. It might help me shape my arguments to you.”
Saxbe paused, spit [tobacco juice], looked at Wood, and said, “I intend to bring an action against you.”
Within an hour of this statement, the SEC stopped trading in AT&T’s stock. John deButts, who happened to be the chairman of the United States Savings Bond campaign in 1974, called Treasury Secretary William Simon to let him know the news. Even President Ford, who was in Japan while all of these actions unfolded, was caught unawares. According to Coll, “Simon then tried to call Saxbe, but the attorney general had left the office for the day. He had gone pheasant hunting.”
Enter George Saunders
Of all of the characters in the AT&T drama, few rise to the importance of George Saunders, a partner at Chicago-based Sidley & Austin who would devote eight years of his life to defending AT&T from the attacks of MCI and the Justice Department. Coll describes Saunders as follows:
“Saunders was an unabashed fat cat, a smooth, luxuriant attorney who wore expensive suits, drank martinis like they were water, and smoked more than a dozen cigars a day. He had been born and raised in Birmingham, Alabama, the son of a house painter, and the first member of his family to ever attend college. He went because even at age fifteen… his extraordinary intellectual gifts were obvious – his mind was like some strange machine. He had nearly total recall of the most complex and obscure facts, and he could effortlessly organize knowledge in sophisticated, well-developed models. The lawyers who worked with him later tried to describe this capacity to others by saying that it was like Saunders had a giant flip-chart in his head that he could summon up instantaneously, search for the information he needed, and then flip forward to make his next point without ever skipping a beat.”
Saunders scored his first victory after a hearing before Judge Joseph Waddy in February, 1975, when he requested, purely as a tactic, that the federal government be required to preserve every document in its possession that might be relevant in the AT&T case (in the pre-email/ server environment, this is a bold request to say the least. Saunders backed off the request from all federal agencies to a mere 44).
After some vigorous conversation (described by Coll in vivid language), Saunders convinced Judge Waddy that AT&T’s fate should be a decision of the FCC and not the courts. He convinced Judge Waddy to postpone any discovery until the jurisdictional case was settled. A mere three months after filing, the case against AT&T was dead and, due to Judge Waddy’s terminal illness, jurisdiction would not be decided for three years.
Enter Ken Anderson
One of my favorite characters in Coll’s book is Ken Anderson, chief of the Special Regulated Entities section of the Department of Justice and the owner of the AT&T case when it resumed in late 1977. Coll describes Anderson as follows:
“Anderson’s approach to life and to the practice of law was somewhat unorthodox. Though he worked in the heart of the city, he lived on a farm in rural Virginia, and on summer weekends he liked to ride around on his big tractor under the hot sun, and then pull off his shirt and bale some hay…. He was a health food enthusiast, and when he rode into Washington on the train he often carried a large paper sack full of raw vegetables. He kept the sack on a shelf in his Justice department office, and during important meetings he would wander over, pull out a carrot stick or a piece of cauliflower, and take a large, loud bite.”
With the previous DOJ attorney (Phil Verveer) off of the case, AT&T saw an opportunity to test the settlement waters as they sized up Anderson. Hal Levy, an AT&T staff lawyer who was working side-by-side with George Saunders, proposed that the parties discuss injunctive relief with AT&T self-sourcing less equipment, and the government agreeing to keep AT&T intact. After hearing Levy out, Anderson replies:
“I’ll tell you one thing. This case is going to be a severed limbs case. We’re going to have severed limbs, AT&T limbs, on the table dripping blood. That’s the way this case is going to be settled. We’re not going to settle this thing with injunctive relief.”
AT&T was also preparing for a transition as John deButts was preparing for his planned retirement (announced in late 1978). George Saunders’ boss, Howard Trienens, left his position as the managing partner of Sidley & Austin to become VP and General Counsel of AT&T under new Chairman Charles Brown in early 1979.
Enter Judge Greene
Of the characters in this multi-act drama, none is as important as Judge Harold H. Greene, who was assigned the case in August, 1978. Coll describes the influence of politics on Greene in the following manner:
“A Jew, Greene was raised in Germany during the 1920s and 1930s. His father owned a jewelry store, and in 1939, as the terror of Hitler’s Reich reached fever pitch, his family fled to Belgium, where it had relatives. Greene was just sixteen years old. When the Germans invaded Belgium, the Greenes fled again, this time to Vichy France. From there, they made their way to Spain, and later Portugal, before emigrating to the United States in 1943. Young Harold Greene was immediately drafted into the U.S. Army and sent back to Europe with a military intelligence unit to work against the Nazis. He saw combat action in his former homeland, but he escaped injury.”
Greene grew up in the youthfulness of Attorney General Robert Kennedy and, according to Coll, wrote the Civil Rights Act of 1964 and the Voting Rights Act of 1965. After leaving the Justice Department in 1967, Greene served as chief judge of the District of Columbia’s Court of General Sessions (municipal court for the District). He would remain there until Jimmy Carter was elected to the presidency, when he was appointed a federal judge. In his new role, he inherited the caseload of the late Joseph Waddy, and was thrown into the middle of a nearly four-year dispute.
Judge Greene was a strong believer in due process and the strict preservation of constitutional rights. He also supported a strong judiciary to check the executive and legislative branches (a hot topic on the heels of Watergate). Unsurprisingly (given his German descent), he was also focused on continuous improvement and courtroom efficiency. Greene was very different from both Saunders and Anderson – his goal was to run his courtroom like clockwork.
1981 marked the beginning of the fourth presidency to span the AT&T antitrust trial. Conventional wisdom indicated that AT&T would finally be vindicated. That was the case until President Ronald Reagan nominated Bill Baxter to lead the antitrust division of the Justice department. While a conservative, Baxter strongly supported the Justice department lawsuit because he strongly believed that regulated local telephone divisions were subsidizing their unregulated counterparts.
This was not the position of other members of Reagan’s incoming cabinet. Secretary of Commerce Malcom Baldridge, Secretary of Defense Casper Weinberger, and counselor Ed Meese all had publicly stated their preference to dismiss the lawsuit. But Attorney General William French Smith was forced to recuse himself form the case due to his previous affiliations with Pacific Telephone. And James Baker, who managed now Vice President George H.W. Bush’s 1980 campaign, was Reagan’s Chief of Staff. Assisting Baxter was Jonathan Rose, an assistant attorney general for the DOJ Office of Legal Policy under Nixon.
Rose ultimately proved an effective partner to Baxter, carefully running point for Justice within the White House. Over the July 4th weekend in 1981, after great deliberation, Baker decided to wait to dismiss the case.
Meanwhile, in Judge Greene’s courtroom, the prosecution had finished calling their witnesses and AT&T made a bold move to dismiss the case. Judge Greene’s response denying the dismissal was succinct:
“Whatever the substantive merits of the motions and the case generally turn out to be, I don’t believe the government’s evidence justifies such cavalier treatment. The government has presented a respectable case that the defendants have violated the antitrust laws, … Defenses have been raised, but I certainly could not say that these defenses are self-evident and will prevail…
I don’t propose to act on the basis of press reports or someone’s concerns unrelated to this lawsuit. The court has an obligation to deal with this lawsuit under existing antitrust laws, and it will do so irrespective of speculation outside the judicial arena.”
The judge would later deny a proposal to continue the case until Congress could pass comprehensive telecommunications legislation (known as bill S. 898). The defense continued to call witnesses throughout the fall of 1981, and, by a 90-4 vote, the Senate passed comprehensive telecommunications legislation to the House, led by Tim Wirth. With a new report on competition released in November, it appeared to AT&T Chairman Brown that pursuing a solution other than complete divestiture was going to be difficult if not impossible.
On January 8, 1982, AT&T and the Justice department signed a consent decree that separated the local phone companies into independent operating units. The concept of intra-LATA vs. inter-LATA access was established, and AT&T retained control of its equipment unit (Western Electric). Over the next two years, AT&T would structurally separate and become independent companies on January 1, 1984.
While Coll’s book ends in 1988, we have the benefit of seeing the full effects of the breakup of AT&T: The rise of multiple fiber-based networks, rapidly decreasing costs to call between states and globally, the rise of wireless spectrum and the rise of the Internet. Had AT&T controlled the network, it’s unlikely a subsequent Telecommunications Act would have been enacted in 1996, the development of the enhanced services provider would never have occurred, and companies such as AOL would have raised capital to quickly establish early Internet infrastructure. While it’s difficult to hang too many events on the AT&T tree, it’s important to understand and evaluate the fundamental changes the consent decree and Modified Final Judgement enabled.
That’s it for this week. Next week, we’ll preview the 2020 Consumer Electronics Show. Until then, if you have friends who would like to be on the email distribution, please have them send an email to email@example.com and we will include them on the list.
Also, I’ll be at CES this year on the 7th and 8th. We have set up a special Sunday Brief table at Gordon Ramsay’s Pub & Grill at 7:30 p.m. on Wednesday January 8 – only three additional slots available, but please reply to firstname.lastname@example.org if you are interested in attending.
Have a great week… and GO CHIEFS!
 IBM, and to a lesser extent, Apple, shared this belief in systems efficiency.
 Coll, p. 26
 Coll, p. 43
 Coll, p. 52
 Coll, p. 68
 Coll, p. 71
 Coll, pp. 75-76
 Coll, p. 115
 Coll, p. 120
 Coll, p. 125
 Coll, p. 234
Greetings from our nation’s capital (now home to the World Series champion Washington Nationals) and Lake Norman, NC. This was a very busy week for earnings with Apple, AT&T and T-Mobile all announcing earnings. We are going to start with AT&T given their 3-year guidance but will also devote time to both Apple and T-Mobile earnings.
Given the level of earnings-related news, we will not have a TSB Follow-Ups section this week but will resume this section in an upcoming Brief. First up – AT&T.
AT&T’s Multiple Headlines: Legacy Bottom Within Sight, New Wireless Pricing Plans, Fiber Penetration Coming, and Renewed Reseller Focus
AT&T led this week’s earnings with a detailed assessment and lengthy earnings call hosted by CEO Randall Stephenson and CFO John Stevens. At the end of the earnings presentation, they showed the following waterfall chart outlining how they would improve earnings per share:
There are many important things to note in this slide. First, the 2.0% (200 basis point) improvement in overall margins. AT&T’s reported 3Q EBITDA was ~ $15.4 billion when you exclude Puerto Rico operations (entire PR and US Virgin Islands P&L is held in Corporate & Other) on a base of $44.6 billion in 3Q operating revenues (34.5% EBITDA margin).
To improve 200 basis points, AT&T will need to remove ~$890 million in quarterly costs or about 5.5-6.0% of their total expense base across the corporation AND replace each lost dollar of EBITDA (e.g., from premium video or DSL or legacy business voice) with a dollar of EBITDA from new sources (higher value-added fiber subscribers, mobility ARPU increases from service upgrades, higher revenues from smartphone insurance).
On top of this, AT&T will need to cut an additional $350 million in quarterly costs ($1.4 billion annually) to cover the HBO Max investment (which will not significantly impact revenues and EBITDA until early 2Q 2020). Roughly speaking, the operating expense net improvement will need to be ~$1.24 billion per quarter or about $5 billion per year (again, some of this improvement may come from the differential between higher new product and lower legacy product margin differentials, as we will explain below with fiber).
Highlighted throughout the earnings call was the need to penetrate more households with fiber. On the residential side (small business and enterprise were not reported), AT&T ended 3Q with 3.7 million fiber customers on a total base of 20 million fiber homes and businesses passed. This equates to a 19% penetration. Assuming 10% of the 20 million represent business locations passed, the residential penetration rate comes out at 21%, within the 20-25% range mentioned by Randall Stephenson on the earnings call.
Assuming the fiber penetration in the chart above is achievable, AT&T is targeting growing the 3.7 million base to ~ 9 million (on an 18 million homes passed with fiber base) over the 2020-2022 period. An incremental 5.3 million broadband customers (at a $55 ARPU – 10% higher than current) represents 440,000 net additions every quarter for the next 12 quarters and would generate $3.5 billion in incremental annual revenues and $1.8-2.0 billion in annual incremental EBITDA by the end of 2022. Bottom line: Increased fiber penetration to homes is a big part of AT&T’s profitability improvement plan.
To put this in context, Comcast’s rolling four quarter High Speed Internet additions quarterly average is 304,000 and Charter’s metric is around 350,000. Assuming that Comcast and Charter are ~100% share of decisions (including DSL migrations), the 440,000 net additions figure assumes that AT&T reverses that trend nearly overnight AND take some legacy share from cable (!). All this in light of the DOCSIS 4.0 rollout of cable to multi-Gigabit speeds at very low incremental capex costs.
To reemphasize, AT&T’s average growth in the fiber base (much of it from fiber-fed DSL, also called IP broadband) over the last several quarters has been between 300,000-320,000. Assuming growth comes from net new growth (not DSL conversions), the operation will need to grow 30-40% overnight.
More to come here, as we have assumed a 10% premium and cable is either matching or 10% lower than AT&T pricing, and we have not begun to talk about T-Mobile’s plan to acquire wireless high speed data customers using their combined spectrum holdings. Bottom line: There’s little reason to believe that AT&T will be able to materially move the share of decisions needle and grow 20-30% market share points in Los Angeles (Charter), Dallas (Charter), Chicago (Comcast), Atlanta (Comcast), or Miami (Comcast) at a market premium in light of T-Mobile’s (and others) market entry. As a duopoly, it’s a stretch – with three or four players, it’s a pipe dream.
Another source of growth mentioned on the call was Reseller. As we noted in other blog posts, Reseller losses were almost perfectly offset by Cricket (Prepaid) gains. As AT&T explained on the call, this was largely by design due to spectrum capacity constraints. Asked in the earnings call Q&A whether AT&T would consider an MVNO relationship with cable, Randall Stephenson replied:
Yes. We would actually be open to that. So you should assume that, that’s something we’d be open to. And not just cable guys, but there are a number of people in the reseller space that are reaching out. And it’s just as John said, we got a lot of capacity now in this network, and we’re at the point of evolution in this industry where we ask, how do you monetize most efficiently, capacity? And so we’re going to look at all those channels.
As we discussed in last week’s TSB, the cable operators want more call control. Would AT&T really offer that? At what cost? At what margin? Could Altice convert their new T-Mobile core + AT&T roaming relationship into a true wireless least cost route mechanism which would only use AT&T in areas where their own (CBRS, C-Band, other) network and new T-Mobile could not reach?
This was a surprising comment to say the least. AT&T has not courted large wholesale customers since Tracfone in 2009. A simple glance of the Wikipedia AT&T MVNO list includes a number of smaller players as well as AT&T-primary providers such as Consumer Cellular, PureTalk USA, and h2o. It’s very hard to imagine a major MVNO play that would not harm Cricket (which grew 700,000 net additions over the last four quarters) or the core business.
Lastly, the mobility business, even in the “golden era” of relative price stability, video compression, and low device upgrades, did not improve adjusted earnings much in Q3. Here’s their income statement:
Unlike Verizon, who still has a large base of traditional subsidy-oriented plans (for every dollar of equipment revenue, Verizon has $1.06 in equipment costs) AT&T has minor if any equipment subsidies. The implication is that for every dollar in reduced equipment revenues, operations and support costs should decrease a dollar. This did not happen on a sequential basis (equipment costs +$303 million, operations costs +$426 million) and the 3Q to 3Q reduction is negligible (equipment revenues down $136 million, costs down $156 million). If incremental scale is driving incremental profitability, it’s being offset by other spending.
Embedded in these numbers is FirstNet, now with close to 900,000 connections across 9,800 agencies per the most recent Investor Handbook. In the second quarter, the same figures were “over 700,000” connections. Given our understanding of the public space, let’s assume this translates into 175,000 net additions from FirstNet in 3Q with 125,000 (70%) of these coming from phones. Bottom Line: AT&T reported 101,000 postpaid phone net adds in the quarter, and without FirstNet, it’s very likely they would have been negative.
Bottom line: AT&T continues to integrate into an end-to-end premium content and network communications provider. They made a big three-year earnings promise that depends on new and different execution (particularly broadband growth and reseller market penetration) that has not been seen from AT&T in decades. We are confident that AT&T can cut costs but equally skeptical that they can grow share.
Apple Card Launches, and 0% a.p.r Financing is Announced. The First Impact is Device Financing.
On Wednesday, the Cupertino hardware (and now services) giant announced strong, broad, and expectations-beating earnings. iPhone sales, while down 9% from last year’s quarter, were still strong and Apple CEO Tim Cook gave very bullish guidance on this quarter’s device sales. In this light, Apple announced that trade-in volumes were more than 5x greater than they were a year ago (recall that Apple highlighted lower monthly payments and device values with trade-in starting with last September’s announcement. The 5x figure is therefore based on a few weeks – this figure could be much higher after a full quarter is measured).
The big announcement came through Tim Cook’s discussion of Apple Card performance:
… I am very pleased to announce today that later this year, we are adding another great feature to Apple Card. Customers will be able to purchase their new iPhone and pay for it over it over 24 months with zero interest. And they will continue to enjoy all the benefits of Apple Card, including 3% cash back on the total cost of their iPhone with absolutely no fees and the ability to simply manage their payments right in the Apple Wallet app on iPhone. We think these features appeal broadly to all iPhone customers, and we believe this has been the most successful launch of a credit card in United States ever.
A customer purchasing an iPhone 11 (64 GB) with their Apple Card would pay $21 less using this plan than purchasing through Verizon or AT&T (T-Mobile offers the 3% cash back Apple Card feature) or $28.25 per month prior to trade-in. This represents a $71 reduction ($2.96/ month) from what a customer would have paid for the iPhone XR (64 GB) in 2018 and produces an optically significant sub-$30/ month price point.
On top of this, Apple is offering slightly better than average trade-ins per our comments with analysts who follow store activity (hence the 5x increase described earlier). If customers believe that using Apple directly delivers a better financial outcome, they will go direct.
The 0% a.p.r, 24-month term mirrors the offer Best Buy currently gives to their My Best Buy Visa Credit Card customers (more on that offer here). While unlocked Android devices are currently covered (including the Samsung Galaxy S10 and Note 10), it remains to be seen if/ how the interest-free offer might be extended to Best Buy.
As we have discussed in previous Sunday Briefs, Best Buy and Apple recently extended their service relationship (more on that here), and Apple announced that their Authorized Service Provider locations had grown to over 5,000 globally. Extending this relationship into financing is not a slam dunk, especially given the current success Apple experienced last quarter without Best Buy, but the option exists to tie Apple Card promotions to Best Buy distribution. If this were to happen, the wireless carriers would need to demonstrate more value (financial, bundling, services) than both Apple and Best Buy.
As Apple disclosed on the call, this was the best quarter for Apple Care revenues on record. As was also disclosed on the AT&T and Verizon calls, device protection was a driver for their wireless service ARPUs in the quarter. This business is profitable to the carriers ($5-7/ mo. in incremental EBITDA for every device protection plan is material to customer lifetime values), and the consequence of the loss of this profit stream should not be ignored. There’s more to this than the loss of revenues – service margins will be impacted by any move to Apple Card.
In the August 25 Sunday Brief, we suggested an enhancement that would significantly accelerate Apple Card usage and iPhone upgrades: Multiply the Daily Cash savings (we suggest 2x) when it’s applied to your iPhone 0% a.p.r plan. This would shift marginal purchases (especially for multi-line accounts) to the Apple Card (driving up transaction fees and potentially interest charges) while providing the benefit of potentially paying off the device faster. Fully paid devices could encourage additional upgrades and improve customer satisfaction. This would also be more difficult for the wireless carriers (or Samsung) to duplicate.
Five-fold increases in trade-ins with only a partial quarter of measurement… best-ever Apple Care revenues… now Apple Card 0% a.p.r financing and 3% daily cash for 24-months. That would be a lot to digest even if iPhone sales were missing expectations. But, as we will show in a TSB online post in a few days, the iPhone 11/ Pro/ Pro Max inventory levels are still tight heading into the Holiday season. This may not be the time to push the idea of Daily Cash sweeteners. The opportunity, however, is almost too good to pass up.
T-Mobile’s Stellar Quarter – Only Treats from Bellevue
Caught between AT&T’s earnings, the HBO Max announcement, and Apple’s surprise financing offer was the continued strong performance of T-Mobile. They reported the following:
- 754,000 branded postpaid phone net additions (versus 101,000 for AT&T – see above – and 239,000 for Verizon). Most importantly, T-Mobile’s net additions beat Comcast + Charter’s combined figure of 453,000.
- Branded postpaid monthly phone churn of 0.89% (versus 0.95% at AT&T and 0.79% at Verizon)
- Service revenue growth of 6% (versus 0.7% total mobility services growth at AT&T and 1.83% at Verizon)
We were very close to our early September estimates of 205 million POPs covered by 600 MHz (200 million actual) and 235 million POPs cleared (231 million actual). T-Mobile also updated their estimate of POPs cleared by the end of 2019 to 275 million, slightly down from previous guidance of 280 million.
We think that the addition of 100-110 million new POPs in the second half of 2019 provides plenty of room to grow even without Sprint. Also, T-Mobile’s total debt (including debt to Deutsche Telekom) is down to $25.5 billion from $27.5 billion at the end of 2019, and the resulting debt to EBITDA ratio stands at 2.0x, down from 2.3x in 3Q 2019.
We will have a full readout of T-Mobile’s earnings in next week’s TSB (which should be viewed against Sprint’s earnings due Monday and T-Mobile’s special Uncarrier announcement this Thursday).
Bottom line: T-Mobile had a spectacular quarter, outpacing AT&T and Verizon in nearly all consumer metrics and is well prepared to thrive in a post-merger environment. We still anticipate a settlement of the AG lawsuit in the next month or so, but believe that a trial outcome is likely to be found in T-Mobile’s favor for reasons stated in previous TSBs.
That’s it for this week. As mentioned earlier, we will be posting the latest Apple inventory charts to www.sundaybrief.com in the next day or so. Next week, we have Sprint and CenturyLink earnings as well as the T-Mobile Uncarrier announcement to cover. Until then, if you have friends who would like to be on the email distribution, please have them send an email to email@example.com and we will include them on the list.
Have a terrific week… and GO CHIEFS!