Weak iPhone 7 Sales Will Mean Problems For This Telecom Giant

Joseph Hogue's picture

Friday, September 23, 2016 - 12:30pm

by Joseph Hogue

Shares of Apple (Nasdaq: AAPL) jumped more than 12% last week after telecom carriers reported stronger than expected preorders for the iPhone 7. Apple has said that it will break with tradition by not reporting first weekend sales of the iPhone, so carrier comments have been crucial in gauging demand for the new phones.

One telecom carrier reported preorders up 375%, compared to those of last year's 6s series. Another carrier set a single day sales record across its network. Inventory of the larger Plus model iPhone 7 in all colors was sold out through pre-orders before Friday's release. 

By most accounts, the release of the new phones should be a boon to wireless providers trying to get people back in their stores to renew contracts.

But one carrier was noticeably more doubtful on its own preorder news, according to comments from an executive at a recent investor conference. 

Weak iPhone sales may not be the company's only problem, as costs to maintain its network escalate and its large fixed-line network continues to weigh on results.
 
The weakness in preorders may just be a turning point that takes this telecom leader lower, even if the market hasn't realized it yet.

One Telecom Giant May Be Missing Out
Shares of Apple got a huge boost last week on comments from two wireless carriers. Sprint (NYSE: S) reported that preorders of the iPhone 7 and iPhone 7 Plus were up more than 375% in the first three days compared to the same period for last year's iPhone 6s series.

T-Mobile (Nasdaq: TMUS) CEO John Legere tweeted that preorders for the iPhone 7 series were up nearly four-times, compared to the next most popular iPhone and that sales set a single day sales record for any smartphone in the network's history.

Shares of T-Mobile jumped nearly 5% while Sprint ended higher by almost 1.5% on the week.

The enthusiasm was considerably more subdued from the nation's largest wireless network. A Verizon Communications (NYSE: VZ) executive said at an investor conference on Wednesday that preorders for the new smartphone were in the normal range for Apple launches. 

Sprint and T-Mobile are smaller networks, and a sales beat versus weakness on Verizon sales may not move the needle as much for Apple, but it could forecast significant weakness for Verizon. 

Both of the smaller rivals have launched aggressive campaigns to steal customers from the larger players. Sprint is offering a 50% off deal on its Unlimited Freedom plan and advertising that customers switching from other carriers save half off competitors' standard rates. T-Mobile is offering trade-ins of the iPhone 6 or 6s a free iPhone 7 handset and promoting its advanced LTE network.

Shares of Verizon closed just 0.33% lower on the week, but it could be the start of a longer trend in underperformance.

Verizon's fixed-line business, which still accounts for 25% of sales, as struggling as customers give up their land lines and competition increases with cable providers. Morningstar analysis estimates that Verizon now serves fewer than 35% of the households in its fixed-line geographic, down from 50% just five years ago.

Capital expenditures jumped 58% last year to $27.7 billion, including $10 billion spent at the AWS-3 spectrum auction. While capex over the last four quarters has been on par with 2014 spending, Verizon is having to spend heavily to maintain its network. The company is also being tasked to build out its FIOS network to maintain share in the cable & broadband segment. New York City officials have argued since 2015 that the company has not met promises to build out the network throughout the city and expand coverage equitably. 

Shares of Verizon trade for 1.6 times sales over the last year, a 33% premium on the five-year average of 1.2 times sales. Shares of T-Mobile and Sprint trade relatively cheaply at just 1.1-times and 0.8-times trailing revenue.

The promotions at T-Mobile and Sprint threaten to increase customer churn at Verizon, which already posted weak subscriber growth last quarter, reporting net post-paid gains of 86,000 on a loss of 83,000 accounts. 

While much smaller, T-Mobile has continued to post solid growth in sales and subscribers. The company reported a 12% year-over-year growth in wireless services last quarter and an increase of 646,000 net post-paid customers. The increasing scale to operations has driven profitability as well with costs per customer down 11% from the prior year.

Verizon isn't expected to turn things around over the next year. Sales are expected 2.4% lower to $127.1 billion, though analysts expect cost cuts to produce a 1.3% gain in earnings to $3.98 per share. T-Mobile is expected to post 16% sales growth to $39.3 billion and similar earnings growth to $1.51 per share as the company continues to win market share. Earnings at the smaller rival have surprised higher in three of the last four quarters, beating expectations for trailing earnings by 73% over the period.

Investors have been hanging on to Verizon for its 4.4% yield and share repurchase plan last year, but could see future returns wiped out by a slumping stock price. Flexibility and a focus on wireless could help T-Mobile continue to gain market share and boost its own shares.

Risks To Consider: Verizon still operates the largest wireless network in the country with 112 million customers and can use that size to squeeze out smaller rivals in a pricing war.

Action To Take: Avoid shares of Verizon Communications on the potential for lost market share on iPhone 7 reports and ballooning network spending. Consider a long position in faster-growing upstart T-Mobile as the company reaches scale and cuts costs. 

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This article was originally published on TopStockAnalysts.com: Weak iPhone Sales May Signal Trouble Ahead For This Blue Chip

Joseph Hogue does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.