Sprint’s (NYSE:S) gross margins have suffered in recent years falling from 75% in 2006 to around 67.5% in 2009. We believe this is due to a decline in Sprint’s subscriber base and the use of promotional activities in an effort to retain clients.
Sprint competes primarily with other telecom providers like Verizon (NYSE:VZ) and AT&T (NYSE:T) in the wireless business. These two companies have enjoyed subscriber gains over past few years at Sprint’s expense, and we believe this is due to: 1) Sprint’s poor brand image vis-a-vis its peers, and 2) an inferior smartphone product offering, causing it to lose subscribers to other networks.
However, Sprint appears to be righting itself with a first class smartphone offering and more focus on brand improvement. We believe these changes should lead to higher gross margins, which is the biggest driver for our current price estimate of $4.35, which is about 8% above its current market price.
Improving its Brand Image
Sprint’s brand image has improved in recent quarters along with improvements in customer satisfaction, according to a J.D. Power & Associates survey on network and customer service.  Postpaid subscriber additions were 354,000 in Q3 2010 and positive for the 4th consecutive quarter .
With an improving image and customer experience, Sprint will continue to see subscriber additions and can shift away from costly promotional offers that tend to put pressure on margins.
Upgrading its Smartphone Lineup
Sprint is making efforts to improve its smartphone lineup to bring it on par with its rivals like AT&T and Verizon. According to the company, its Samsung Epic 4G (launched in Q3 2010) and HTC EVO (launched in Q2 2010) are the two best rated smartphones on the market in PCWorld’s rankings, ranking ahead of the iPhone 4 and Android based device .
Higher Margins Can Lift Sprint’s Stock
While we currently forecast that Sprint’s wireless gross margins will remain under pressure in the near term and stabilize around 66%, we believe that Sprint is showing positive improvements that could lead us to upgrade our estimates.
For instance if gross margins grow to 70% by end the of our forecast period, we see an additional 12% upside to our price estimate.
You can modify our forecasts above to see how wireless gross margins can impact Sprint’s stock.
- See Sprint’s SEC filings
- Taken from Q3 2010 earnings transcript
Disclosure: No positions