Some operators struggle to balance expansion with profitability as the industry undergoes a round of aggressive price wars.
It all started in January, when Boost Mobile launched a $50 per month, all-you-can-eat talk, text and data plan on its nationwide iDEN network.
The plan was lower than rival offers from T-Mobile USA and Virgin Mobile USA and was touted by the carrier as having no hidden charges. All fees included, it still came in at $50.
A few months later, Virgin Mobile cut its unlimited plan to $50 from $80 and launched a Pink Slip Protection program for unemployed subscribers. In July, TracFone Wireless unveiled a prepaid $45 per month plan complete with unlimited text messaging and 30 MB of data. Not to be outdone, MetroPCS Communications added features to its $40 unlimited voice, text and data plan. Boost soon extended its unlimited plan to its CDMA customers, all the while denying it was engaged in price wars.
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| Prepaid carriers have to be especially careful in managing the balance between growth and costs. |
News that Leap Wireless International subsidiary Cricket Communications would expand its $40 monthly plan soon followed. Unlimited Web, 411 and expanded service were added to the plan, which already included unlimited voice, long distance, domestic and international text and picture messaging.
Boost's seemingly innocuous campaign to draw in more subscribers back in January helped to set off a pricing war, and fierce competition for cash-strapped subscribers fueled the flames. With prices on unlimited plans approaching the $40-per-month range, the battle has resulted in shredded profits, customer defection and the lingering sense that more harm than good may have come from the effort.
Maintaining the Books
Prepaid carriers must maintain a fine balance between expansion and profitability because they lack the economic moat of their postpaid brethren. Aggressive price competition exasperates this pre-existing vulnerability, as was demonstrated in second-quarter financial results from MetroPCS and Leap Wireless.
"As prepaid carriers add new subscribers, their costs go up. They have to make sure they have subscribers coming in at an equivalent rate at which their costs are rising," says Chris Collins, analyst with Yankee Group.
Competing aggressively on pricing makes it harder for prepaid carriers to manage the balance between expansion and profitability. Collins cites MetroPCS as an example. The carrier had 12 straight months of strong net additions aided by pricing cuts to its plan offerings. But its rapid expansion into the northeastern United States and its increasingly competitive prices led to a precipitous drop in profitability: MetroPCS' second-quarter profit was cut almost in half, falling to $26.2 million from $50.46 million during the same period in 2008. To make matters worse, ARPU fell by $1.53 and churn skyrocketed to 5.8 percent, an alarming development even by prepaid standards.
"All their expansion costs hit the books in Q2 and their profitability fell through the floor," Collin says, citing the carrier's 37 percent increase in operating expenses. "MetroPCS didn't manage the balance between expansion and costs carefully enough and they took a big hit."
Leap Wireless met the same fate. The company had competed aggressively against MetroPCS, going head-to-head in shared markets and offering plans priced to compete with those offered by MetroPCS. Leap took a major hit in the second quarter when its ARPU fell, churn rose to 4.4 percent and its losses more than doubled to $61.2 million.
The quarter also was a tough one for Virgin Mobile, which lost almost 270,000 customers and saw its ARPU slip to $18.98.
Such fatalities, it seems, are the price they paid to play.
Considering that Boost could be called a catalyst for the prepaid wars, it's more than a little ironic that it then refused to participate. While Leap, MetroPCS and Virgin Mobile were all duking it out at the expense of their bottom line, Boost kept its unlimited plan at the $50 price point in unveiled earlier in the year.
Boost suffered no ill effects from its price point despite the fact that its competitors were offering lower rates on similar plans. Instead, Boost's customer base remained intact and its finances stayed healthy. In fact, it saw its best quarter ever – adding 777,000 customers in the second quarter. Helped along by its backing from parent company Sprint Nextel, Boost kept a careful eye on both its bottom line and the competition.
Convergence, Competition & the Economy
The industry is probably through most of the pricing discounts, but that doesn't mean the prepaid space has fallen quiet. Quite the opposite, in fact.
Growth in the wireless space will slow from 10 percent in 2008 to the low single digits in 2009 as market saturation begins to take hold, estimates Yankee Group. As a result, carriers are likely will turn toward mergers and acquisitions to gain market share.
This has already started to take place. In late July, Sprint announced it would acquire its remaining stake in Virgin Mobile for $483 million, giving Sprint two prepaid brands to manage. Speculation is mounting that a merger of Leap and MetroPCS could come to fruition, although as of presstime, nothing official had been announced.
The growth in the prepaid space also has attracted some attention from AT&T and Verizon Wireless, which could be hugely consequential for the Tier 2 carriers in the space. Verizon took a bigger step in the prepaid space when it allowed TracFone to use its brand to promote the prepaid carrier's $45-per-month Straight Talk plan. AT&T offers prepaid through its GoPhone plans.
As the economy takes tiny steps toward an eventual recovery, it remains to be seen whether the prepaid market will cool off. If that happens, prepaid providers could be in for a different kind of turbulence.