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Executives

Steven L. Elfman - President of Network Operations & Wholesale

Daniel R. Hesse - Chief Executive Officer, President, Director and Chairman of Executive Committee

Joseph J. Euteneuer - Chief Financial Officer

Yijing Brentano - Vice President Investor Relations

Analysts

John C. Hodulik - UBS Investment Bank, Research Division

Michael McCormack - Nomura Securities Co. Ltd., Research Division

Philip Cusick - JP Morgan Chase & Co, Research Division

Michael Rollins - Citigroup Inc, Research Division

Jason Armstrong - Goldman Sachs Group Inc., Research Division

Simon Flannery - Morgan Stanley, Research Division

Jonathan Chaplin - Crédit Suisse AG, Research Division

David W. Barden - BofA Merrill Lynch, Research Division

David Michael Dixon - FBR Capital Markets & Co., Research Division

Sprint Nextel (S) Q3 2011 Earnings Call October 26, 2011 8:00 AM ET

Operator

Good morning. My name is April, and I will be your conference operator today. At this time, I would like to welcome everyone to the Sprint Third Quarter Earnings Conference Call. [Operator Instructions] Thank you. I will now turn the call over to Yijing Brentano, Head of IR. Ma'am, you may begin.

Yijing Brentano

Thank you, April. Good morning, and welcome to Sprint Nextel's Third Quarter 2011 Earnings Call. Thanks for joining us this morning.

For the format of the call, Dan Hesse, our CEO, will discuss operational performance in the quarter; and then our CFO, Joe Euteneuer, will cover the financial aspects of the quarter. Before we get underway, let me remind you that our release and the presentation slides that accompany this call are both available on the Investor Relations page of the Sprint website.

Slide 2 is our cautionary statement. I want to point out that in our remarks this morning, we will be discussing forward-looking information, which involves a number of risks and uncertainties that may cause actual results to differ materially from our forward-looking statements. We provide a comprehensive list of risk factors in our SEC filings, which I encourage you to review, including Part I, Item 1A Risk Factors of our annual report on Form 10-K and, when filed, Part II, Item 1A Risk Factors of our quarterly report on Form 10-Q for the quarter ended September 30, 2011.

In addition, we are in the process of finalizing our 2012 budget. As a result, we will not be providing formal guidance beyond 2011. However, we will be covering some illustrative 2012 impacts to help discuss liquidity expectations and et cetera. We will provide 2012 guidance on our fourth quarter earnings call.

Turning to Slide 3, throughout our call, we will refer to several non-GAAP metrics. Reconciliations of our non-GAAP performance and liquidity measures to the appropriate GAAP measures for the third quarter can be found on the attachments to our earnings release and also at the end of today's presentation, which are available on our website at www.sprint.com/investors.

Let's move onto earnings per share on Slide 4. Basic and diluted loss per common share for the third quarter were $0.10 compared to the $0.28 in the second quarter and $0.30 in the year ago period. The loss per share decreased as compared to the second quarter, partly due to drivers that also impacted the sequential change in adjusted OIBDA, which Joe will discuss in more detail later on in the call.

In addition, loss per share decreased sequentially due to lower equity losses in unconsolidated investments and other, as well as lower net tax expense.

The current period loss per share includes $0.09 in equity losses of unconsolidated investments and other, net of the effect of increased devaluation allowance.

During the second and third quarter of 2011 and the third quarter of 2010, there were no adjustments made to OIBDA. As a result, we will refer to adjusted OIBDA as OIBDA throughout our call this morning.

We recorded a net tax expense of $12 million in 3Q '11. As a reminder, 2Q '11 included a one-time $52 million expense resulting from the cumulative effect of changes in Michigan's corporate income tax law enacted in the second quarter.

For the full year 2011, we continue to expect our net tax expense to be approximately $200 million to $250 million. Also please keep in mind that Clearwire's third quarter 2011 results from operations have not yet been finalized. Please refer to the press release in our Form 10-Q for additional detail.

I will now turn the call over to Sprint's CEO, Dan Hesse.

Daniel R. Hesse

Thank you, Yijing, and good morning, everyone. I’ll organize my remarks as usual around our 3 key priorities: the customer experience, the brand and cash.

Beginning with the customer experience. Earlier this year, we mentioned we had reached at least a tie for first place in the customer satisfaction ratings among major wireless carriers by well-respected independent evaluators like Consumer Reports and The American Customer Satisfaction Index. We went from last to first in a short period of time.

If you turn to Slide 5, I am pleased that in this third quarter, we received 3 more awards from highly regarded J.D. Power and Associates for the purchase experience for the Sprint brand and for both customer service performance and for the purchase experience for Boost. Customer satisfaction is also reflected in churn. Prepaid churn achieved its best level in 6 years and postpaid churn was best ever for third quarter. The best 6 quarters of postpaid churn in our company's history have been the last 6 quarters.

Sequentially, churn did increase, driven primarily by an increase in involuntary churn due in part to a tougher U.S. economic climate. Voluntary churn, the part of churn driven by customer satisfaction and brand, improved significantly year-over-year.

Moving onto the brand in Slide 6. We continue to make progress with our key Brand Health metrics: Most want to investigate, Purchase Consideration, positive brand momentum, and first brand preference, each achieved all-time bests in the third quarter.

Please turn to Slide 7. As I have discussed with you in the past, the most tangible evidence of brand improvement is subscriber performance and a strong brand is especially critical to generating gross adds or attracting new customers. As this chart depicts, Sprint's gross adds had been declining steadily since late 2005. The brand had weakened enough that gross adds dropped for 13 of 14 quarters, the downward momentum being strong enough to blow right through seasonality, dropping by over 2 million postpaid gross adds per quarter.

We hit bottom in the second quarter of 2009 and we've been building momentum ever since. Driven by brand health, we estimate our share of postpaid gross adds increased by 170 basis points versus the previous quarter. The number one reason customers leave Sprint or churn is no iPhone, and we believe the #1 reason new customers don't try Sprint has been no iPhone.

Our early results of selling the iPhone 4 and iPhone 4S have confirmed the iPhone's ability to attract new customers. What one hopes to see from a device is a high percentage of gross adds, new customers and new revenue to Sprint. The time we have been selling this device is very short, but early results indicate the iPhone is breaking the previous Sprint record held by the EVO in terms of the percentage of device buyers who are gross adds or new to Sprint in the weeks following the launch.

We believe 2 weeks in the market is not enough time to constantly estimate expected gross add percentages, but we plan to provide you with that estimate after the full fourth quarter results are in. But early indications are extremely encouraging.

I'll discuss the iPhone's economic impact shortly, as will Joe. But a high gross add percentage translates to revenue growth and provides an even more compelling reason for Sprint to carry the device.

Please turn to Slide 8. In terms of overall subscriber performance, we generated almost 1.3 million net adds, the highest number in 5.5 years. It represents our fourth quarter in a row of over 1 million net adds and our 11th consecutive quarter of year-over-year improvement.

Slide 9 shows year-over-year postpaid net add improvement or decline. As many of you know, Sprint's largest decline was from 2005 to 2006, but we began improving sequentially beginning in 2009.

For the third quarter of 2011, our postpaid net adds improved sequentially and also improved year-over-year for the ninth consecutive quarter.

In terms of the year-over-year improvement needed to be net add positive for calendar year 2011, the 654,000 you see on this chart shows that we're more than 3/4 of the way to the goal of 855,000, which we need through 3 quarters.

If you would please turn to Slide 10. Further proof of the strengthening of the Sprint brand has been the continuing strong performance of Sprint branded services. As you can see from the chart, in terms of annual subscriber growth, the Sprint brand is the fastest-growing major postpaid brand in America. Sprint brand net adds grew sequentially and were positive for the eighth consecutive quarter. The Sprint brand was net port positive for the sixth consecutive quarter, meaning more customers are switching from competitors to the Sprint brand than vice versa, Sprint's longest such streak ever. Being good stewards of the environment is an important element of our brand.

Please turn to Slide 11. If you haven't seen the current release in Newsweek, they have an article on America's 25 greenest companies. We're the only telecommunications or wireless company on the list, moving up to the #3 spot from #6 last year.

We have also recently been named to the Dow Jones Sustainability Index North America and to the World Wildlife Fund's Climate Savers Program, only the 28th company named to this elite program since 1999.

Moving onto our cash priority, which Joe will cover in more details in his remarks, perhaps the strongest element of Q3 performance was financial.

Please turn to Slide 12. This quarter, we had the largest year-over-year improvement in postpaid ARPU this century and the highest sequential improvement in 6 years. Year-over-year improvement in CDMA ARPU also set an all-time record.

Turning to Slide 13, as a result of postpaid ARPU growth and prepaid subscriber growth, total operating revenues were up year-over-year for the fifth consecutive quarter. Total service revenues and wireless service revenues saw the largest year-to-year percentage increases since 2006, driving the best third quarter OIBDA improvement percentage since the third quarter of 2005, which was the first time that Nextel's OIBDA was added in. Otherwise, the third quarter sequential OIBDA percentage improvement would have been our best in 11 years.

We averaged $1.4 billion in OIBDA per quarter in the first half of 2011, the same number we achieved this quarter and without the iPhone, we would have expected a similar number in this year's fourth quarter.

Our bottom line performance has benefited from a number of steps we have taken recently, which also put us in a position to maximize customer lifetime value with the iPhone.

You may have noticed by now that I mentioned independent customer satisfaction recognition but I have not mentioned sequential improvement in Customer Care Satisfaction. I had been able to report that improvement for 14 quarters in a row. Every quarter since I've been here, it was quite a streak. I can't report a 15th consecutive quarter of improvement because of a number of financially prudent steps we have taken recently, not all of which are popular with customers.

Earlier this year, we increased the monthly rate for our unlimited mobile-to-mobile text and data plans by $10 per month for new customers and for upgrades. This has been the largest driver of our ARPU improvement.

In the third quarter, we increased the number of fees including upgrade fees and early termination fees. We have also been increasing our efforts to enforce our network usage terms and conditions.

We have also eliminated the Premier Loyalty Program and with it, the associated early upgrade provisions. You've seen this effect with fewer upgrades last quarter.

All of these changes have been put into the market in a short period of time, making a 15th consecutive quarter of Customer Care Satisfaction survey improvement too much of a challenge.

Part of the reason to make these changes in areas like upgrade policy and early termination fees was to prepare for the potential launch of and maximize the profitability of the iPhone. I recently attended the movie Moneyball with my youngest son, and I couldn't help but be reminded of Sprint's situation. The Oakland A's, think Sprint, for trying to compete and win with a fraction of the financial resources of its deep-pocketed adversaries, the Yankees and the Red Sox, think AT&T and Verizon. No one bats an eye with one of these high payroll teams signs a superstar. But in Sprint's version of the movie, Dan Hesse, played by Brad Pitt look-alike, and Joe Euteneuer, played by Jonah Hill, I won't say anything, had done detailed statistical analyses that a particular player, Isaac Phone, better known as iPhone, versus A-Rod, will not only deliver the runs on the field to win the game but also help draw the crowd and fill the seats in their high-fixed costs stadium. iPhone has an expensive contract but he’s worth every penny.

Turning to Slide 14, this is a depiction of single customer profitability, what we call customer lifetime value. Dollars are the y-axis; time, the x-axis. The green line represents total costs. On day 1, the carrier invests in subscriber acquisition costs also known as CPGA, the largest component of which is the phone's subsidy. Then over time, a number of customer support costs are incurred, the most significant being network usage.

Building to Slide #15, we've added the revenue line, the slope of which is ARPU. A higher ARPU means you reach breakeven sooner. After the breakeven date, the carrier starts to make money. The vertical line on the right depicts customer life or the inverse of churn. The further this line is to the right, the better. The shaded triangle is the customer lifetime value, which is the area between your revenue and cost lines in between the breakeven date and churn date.

This is a real chart representing a top-selling Sprint postpaid smartphone today. If this were a typical prepaid device chart, you’d hit breakeven sooner because of the lower CPGA. But customer lifetime value is generally lower than postpaid, primarily because churn is usually much higher, therefore customer life is shorter.

Turning to Slide 16. We've superimposed our expected economics for the iPhone. For confidentiality reasons, we have taken the legends off the axes, but these graphs are true to scale. These are genuine internal Sprint charts plotted using actual numbers and projections. We expect the customer lifetime value of an iPhone customer to be at least 50%, yes, at least 50% greater than a typical smartphone user, driven primarily by more efficient use of our network and lower churn.

In addition, not reflected in this chart is the upside of more new revenue to Sprint, new fans to offset the fixed costs of our stadium, if you will, because we expect the iPhone to generate a significantly higher number of new users to Sprint. Joe has a chart which depicts the net present value for Sprint of carrying the iPhone. We expect the improved customer lifetime value I have just described to contribute $6 billion to $6.8 billion and new gross adds to contribute another $1 billion to $1.2 billion for a total net present value benefit of $7 billion to $8 billion over the life of the customers which choose the iPhone during the 4 years of our agreement with Apple.

There is a misperception that our launch of the iPhone will increase the load on Sprint's 3G network and require us to spend more 3G capital. The reverse is true. iPhone users are expected to use significantly less 3G than the typical user of a dual-mode 3G, 4G device. Even adjusting for more total new customers being added to the network, we believe will put less load on our 3G network than they would have if we did not carry the iPhone.

We're pleased to announce that we have signed a non-binding cooperation agreement with Clearwire to work together on the technical specifications of the Clearwire LTE network and to ensure a superb customer experience for Sprint customers on the Clearwire LTE network. The cooperation extends to the design and operations of the network and ensure seamless handoffs in service layer control that meets Sprint's customer experience requirements, cover the cell site selection and timing of site builds and involves working with OEMs to design devices and to include certain chipsets in devices.

As you should each understand, it was necessary to reach this agreement in order to clear the way to begin the negotiations of commercial terms under which Sprint may utilize and pay for access to the Clearwire LTE network. A definitive agreement would allow Sprint to meet its objective to further improve the customer experience and to manage its fixed network costs by offloading some 4G usage from its own LTE network onto the Clearwire LTE network and thereby benefit from Clearwire's large spectrum portfolio on a resale basis.

Those discussions are ongoing and the terms resulting from those discussions, if any, will be disclosed only at such time that a definitive and binding agreement has been reached by the parties.

So in conclusion, strong ARPU growth and wireless subscriber gains drove a strong year-over-year and sequential improvement in adjusted OIBDA. This quarter, we received more accolades for the improvements we've made in the customer experience and our brand continues to strengthen as measured by brand metrics and by subscriber growth.

We believe the investments we're making in Network Vision and in the iPhone will be very beneficial for Sprint's customers and for our shareholders over the long term.

Our CFO, Joe Euteneuer, will now discuss our financial picture in more detail.

Joseph J. Euteneuer

Thank you, Dan. Good morning, everyone, and thank you for joining us today. I want to start by apologizing to everyone on the call for not having provided enough information and clarity on October 7. On hindsight, there were things we could've done to better address marked concerns. We believe you will find today's call to be a demonstration of our willingness to continue to provide fulsome, concise disclosures.

On today's call, I will discuss our third quarter results, update our forecast and provide additional detail on liquidity, financing, Network Vision and the iPhone.

Like to begin by discussing revenue performance for the third quarter. Total consolidated net operating revenues grew by $181 million, or 2%, year-over-year, primarily due to higher postpaid ARPU and growth in the number of net prepaid subscribers, partially offset by lower wireline revenues and lower wireless equipment revenues.

Sequentially, total consolidated net operating revenues remained relatively flat at $8.3 billion as growth in wireless service revenues was offset by lower equipment and wireline revenues.

Now let's discuss wireless service revenues on Slide 17. Third quarter wireless service revenues, which include retail, wholesale and affiliate revenues, improved by $465 million, or 7% year-over-year, and by $138 million, or 2%, sequentially. The year-over-year and sequential improvements were primarily due to higher postpaid ARPU and growth in net prepaid subscribers.

Postpaid ARPU improved by nearly $3, or 5%, year-over-year, and $1, or 2%, sequentially to $58. This was the largest quarterly sequential increase in 6 years.

Our $10 premium data add-on charge, along with other fee increases including $1 for a 14% increase in our handset protection plan drove this sequential postpaid ARPU growth in the third quarter. We expect the $10 premium data add-on charge to result in additional postpaid ARPU improvement in the fourth quarter of this year.

Prepaid ARPU declined approximately 2% year-over-year and 1% sequentially. Prepaid ARPU performance was stable across the individual brands and the sequential decline was primarily due to a higher mix of assurance customers.

Looking forward, as we stated previously, shifts in the mix of our prepaid subscriber base among our brands can cause overall prepaid ARPU to fluctuate.

Switching to wireless expense trends on Slide 18. Total net wireless subsidy expense increased $92 million, or 9%, year-over-year, and increased $12 million, or 1%, sequentially.

The sequential increase based on customer activations was driven by a lower postpaid subscriber upgrade volume of 8%, offset by higher postpaid gross customer additions of 12% and an increase in the average subsidy rate for postpaid devices of 3%.

The elimination of the Premier Loyalty Program contributed to the decline in the upgrade volume.

Wireless cost of service increased $195 million, or 9%, year-over-year and $95 million, or 4%, sequentially. The sequential change in wireless cost of service includes $55 million, or 58%, that relates to smartphone subscriber growth and seasonal increases in roaming, service and repair and network site utilities.

An additional $35 million, or 37%, is driven by network related expenses, including Network Vision. The higher service and repair costs were related to the increased mix of smartphones and third quarter seasonality.

Wireless selling, general and administrative cost increased $29 million, or 1%, year-over-year and improved $81 million, or 4%, sequentially. The sequential improvement was a result of our planned marketing reduction in the third quarter, partially offset by higher bad debt, primarily associated with an increase in our reserve for doubtful accounts as a result of increases in our aging buckets combined with higher average write-off per account.

Now let's move to consolidated OIBDA on Slide 19. Consolidated OIBDA margin increased 10 basis points year-over-year and approximately 100 basis points sequentially to 18.2%. Consolidated OIBDA increased $63 million, or 5%, year-over-year and $88 million, or 7%, sequentially, to slightly over $1.4 billion for the third quarter. Sequentially, OIBDA improved primarily due to higher postpaid and prepaid wireless service revenues and reduced marketing expenses, partially offset by higher wireless cost of service.

In the third quarter, our OIBDA results include $30 million of operating expenses related to Network Vision. We now expect the full year operating expense impact of Network Vision to be between $100 million and $150 million, which is down from our prior estimates of between $200 million and $250 million.

Wireline OIBDA declined $87 million, or 32%, year-over-year and by $26 million, or 12%, sequentially, primarily due to lower revenue resulting from the continued migration of wholesale cable voice over IP customers off of Sprint's wireline platform. We continue to expect the full year 2011 impact of the migration of cable voice over IP customers to cause wireline OIBDA to decline by approximately $150 million for the full year 2011.

Before we discuss our third quarter liquidity, I wanted to provide an update on our revolving credit facility. We are pleased to announce the expansion of our credit facility by $150 million.

In addition, we are now seeing an amendment modifying the debt to OIBDA covenant ratio to adjust for the subsidy impact of the iPhone. The amendment provides an exclusion of net subsidy costs up to $2.7 billion during the next 6 quarters. We are very pleased with the vote of confidence from our bank group in providing us this amendment and the increase in our revolver.

Let's move on to cash and liquidity on Slide 20. We ended the third quarter with a total liquidity position of approximately $5 billion, including about $4 billion in cash and $1 billion of undrawn borrowing capacity under our revolver. Our next note and loan maturities totaling $2.25 billion are due in March of 2012. After maturities in the first quarter of 2012, our next note maturity of $300 million occurs in May of 2013, followed by a $1.5 billion maturity in the fourth quarter of 2013.

Accrued capital expenditures, excluding capitalized interest of $103 million and including $115 million of Network Vision capital, were $760 million in the third quarter and compared to $640 million in the second quarter and $462 million in the third quarter of 2010. We continue to expect that full year 2011 capital spending will be approximately $3 billion, excluding capitalized interest and spectrum spend related to rebanding, driven largely by CDMA capacity.

We now expect rebanding spend for the calendar year 2011 to be between $250 million and $300 million as public safety licensees continue to need additional time to work through their rate configurations, which is down from our previous estimate between $300 million and $350 million. As of September 30, 2011, we have approximately $500 million to $800 million of rebanding work still remaining.

Now let's discuss free cash flow on Slide 21. Free cash flow was a negative $273 million for the quarter compared to a positive $384 million for the third quarter of 2010 and a positive $267 million for the second quarter of 2011. While quarterly OIBDA was relatively stable year-over-year and sequentially, free cash flow was reduced by quarter year-over-year increases in capital expenditures of $328 million, as well as year-over-year and sequential increases in working capital of $483 million and $697 million, respectively, partially offset by LightSquared prepayments. The quarterly year-over-year change in working capital is primarily associated with increased inventory balances related to second quarter handset purchases in anticipation of a parts shortage later in the year and reductions in accounts payable. The quarterly sequential change in working capital is primarily associated with the reduction in accounts payable of $847 million, of which $700 million was related to payments associated with second quarter inventory purchases, partially offset by reduced inventory purchases during the quarter.

In addition, third quarter also included higher cash interest payments of $90 million as a result of timing and higher capital expenditures of $59 million.

Now let's move to a discussion of the iPhone on Slide 22. As Dan discussed, we believe the iPhone will be value accretive for Sprint.

In addition, we believe that the iPhone will strengthen our competitive position. We expect iPhone customers to be among our most profitable as the higher upfront acquisition costs are expected to be offset by longer customer tenure and lower support costs, including data efficiency.

I want to share some additional specifics about the iPhone and our estimate for what it means to our business. Initially, we expect the cost per gross addition for an iPhone customer to be nearly 40% higher than the average non-iPhone customer, roughly $200 driven entirely by the cost of the device. As depicted in the top graph, it is anticipated that the total net present value of iPhone customers we bring on during the 4-year term of the agreement is expected to be $7 billion to $8 million.

Think of the total net present value in 2 large categories. The incremental new gross adds that the iPhone will allow us to generate, which represents 15% of the NPV, and the remaining 85% of the NPV results from the higher profitability of an iPhone subscriber as a result of expected lower churn, more efficient use of the network and overall lower support costs.

As you can see in the bottom graph, iPhone OIBDA begins improving in 2013 and continues to build momentum through 2015, when the benefits exceed the incremental acquisition cost of new customers.

As a result of the popularity of this device, we anticipate the iPhone could be 20% to 40% of our postpaid gross additions and upgrades. The upfront costs are estimated to impact 2012 and 2013 OIBDA by $900 million to $1.2 billion each, but are quickly recovered as we expect iPhone customers to generate approximately 20% higher monthly margins than our other smartphone customers. We have a 4-year agreement with Apple that is subject to a confidentiality agreement. Our ultimate spend with Apple will depend on many variables, including anticipated rate of future subscriber growth, number of different devices offered and the cost of devices offered. We anticipate outperforming the current contract minimum commitment of $15.5 billion for the iPhone over the 4-year period.

Now let's move onto Network Vision on Slide 23. We're excited about the opportunity created by the acceleration of Network Vision deployment and the ability to begin recognizing the financial and operational benefits sooner rather than later. I've provided the breakout of gross benefits and gross costs related to Network Vision. From 2011 to 2014, gross expected benefit is approximately $4 billion, of which 40% is a result of cost savings from the iDEN network, and 50% comes from expected reduction of 3G and 4G roaming expenses and backhaul.

In calculating the full 7-year benefit that we presented on October 7, we estimated 3G and 4G roaming costs, assuming a compounded annual growth rate for subscribers of approximately 7% to 8% and increasing usage per subscriber.

In addition, we estimated the decommissioning of over 25,000 iDEN sites. In looking at the gross operating cost as a result of the Network Vision from 2011 to 2014, over 90% of these costs are from the following 2 items: 50% comes from migration efforts and incremental churn related to the iDEN subscriber base; and 40% from an increase in expenses related to cell sites, such as rent entitlements for additional equipment on the towers, access and backhaul as we switch from the T1s to Ethernet fiber.

As you can see in 2014, cumulative gross benefits exceeded cumulative gross cost associated with Network Vision. The operating expense reductions from Network Vision are expected to generate between 400 and 600 basis points of OIBDA margin improvement by 2014.

We expect Network Vision to generate a total net benefit of $10 billion to $11 billion over 7 years with a projected NPV of approximately $6 billion.

Let's move on to Slide 24. The purpose of this slide is to illustrate our estimated financing needs over the next couple of years. Let me start by discussing exactly what is represented on the chart. Each of the bars represent the incremental cash impact for Network Vision and iPhone, including both capital and operating expenses net of benefits. The dotted line illustrates an assumed targeted cash level. The black lines on the chart represent the estimated ending cash balance as a result of the incremental cash impact from Network Vision and the iPhone. Additionally, the black lines include scheduled debt maturities and assume a range of potential cash generation from our core business, excluding Network Vision and the iPhone.

The way to think about cash generation from our core business for purposes of this slide is that the bottom black line assumes stable core OIBDA levels as we exit Q3. While the top line represents potential opportunities that exist in our core business to expand our operating margins and grow cash flow.

If you assume that these margin opportunities for both revenue and expense generate an OIBDA that had a compounded annual growth rate of 10% starting in 2012, you would achieve the top black line. Our externally reported OIBDA will be the net result of core business performance, net of the iPhone and Network Vision, all of which will be different than what is illustrated here today. As we get more operating results with the iPhone and start rolling out Network Vision, we'll provide better information. As mentioned earlier, we are in the process of completing our 2012 budgeting process, which we will include evaluating those core business opportunities and the development of our operational plan.

In looking at 2012, we expect the costs related to Network Vision and the iPhone to impact cash by roughly $5.5 billion, partially offset by the benefits generated from Network Vision and the iPhone of $1.1 billion, where we expect positive growth.

Taking into account these impacts and the potential cash generation from our core business along with our scheduled debt maturity in March of $2.25 billion, the cash shortage in 2012 ranges between $1.2 billion and $2.2 billion.

For 2013, we expect the combined iPhone and Network Vision costs to be $5.7 billion and the benefits to be $4.3 billion. As depicted by the black line, this results in a cumulative cash shortage of $3.2 billion to $5 billion after growth in cash generation from the core business and scheduled debt maturities of $1.8 billion.

As discussed earlier, in 2014, we expect Network Vision benefits to exceed costs by $3.4 billion, while the net iPhone costs will exceed benefits by less than $400 million.

Combined, we expect cash accretion of approximately $3 billion in 2014 from Network Vision and the iPhone.

In 2015, the benefits outweigh the costs for both Network Vision and the iPhone, resulting in greater cash accretion, which is approximately $4.7 billion. So what I want you to take away from this slide is that we estimate the peak of our cash shortfall to occur in 2013 and to be between $3.2 billion and $5 billion.

As a result, if you assume a targeted cash balance of $2 billion, we would project financing needs to range between $5 billion and $7 billion.

To adjust our projected financing needs during the next couple of years, we expect to refinance our $4 billion of upcoming debt maturities through October 2013 through the public debt markets and raise incremental vendor financing of approximately $1 billion to $3 billion to cover a portion of Network Vision costs.

Now let me update our forecast. We expect net postpaid subscriber additions for the full year 2011 and to improve total net wireless subscriber additions in 2011 as compared to 2010. The company expects full year capital expenditures in 2011 excluding capitalized interest to be approximately $3 billion.

In addition, the company expects free cash flow between negative $200 million and a positive $100 million for 2011 subject to the performance of the iPhone.

Sequentially, from the third to the fourth quarter, we expect growth in the volume of retail wireless gross adds and upgrades driven by the availability of the iPhone, normal industry seasonality for the fourth quarter and continued success of our already compelling device line-up and industry-leading unlimited plan offerings. We expect the combination of both increased volume and rate impacts associated with the iPhone to result in a reduction in fourth quarter OIBDA of between $500 million and $700 million. The more often customers choose Sprint as their iPhone carrier and the more inventory that is available, the greater the OIBDA impact.

In addition, we expect total Network Vision expense of $60 million in fourth quarter. This results in OIBDA in the range of $600 million to $800 million and a margin of less than 10% for the fourth quarter of 2011.

Remember, we are just beginning our operational experience with the deployment of the iPhone and our flexible technical platform of Network Vision. These will allow us to achieve future growth over time. We plan to provide a forecast for 2012, including OIBDA on our fourth quarter earnings call. I want to take the time to thank all of you for your support and your constructive suggestions over the past few weeks. We will continue to make progress to improve clarity of our disclosures.

Thank you, and now let me turn the call back over to Yijing.

Yijing Brentano

Thank you, Joe. In just a minute, April will instruct our listeners on how to queue up for the question-and-answer session. I want to point out that you may access an audio replay or webcast of our presentation on www.sprint.com/investors.

We will now open the lines for your questions. April, please instruct our participants.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from Phil Cusick.

Philip Cusick - JP Morgan Chase & Co, Research Division

Let me -- so I think I'm still sort of thinking about what the guidance was and what those last couple of slides implied, but maybe we can start with the credit facility change. So the -- if you could explain that for us a little bit, it seems like the EBITDA impact from iPhone is a little bigger so getting that out of the covenant change helps. And then if you could also talk -- excuse me, talk a little bit more about the Clearwire deal, those would help.

Joseph J. Euteneuer

Sure. In regards to the covenant change, we didn't want to run getting too close to the existing covenant. We knew it's hard to predict what the ultimate volume of the iPhone will be, so we went to our bank group who is very, very supportive in getting the amendment to give us total flexibility to get through 2012 and the first quarter of 2013.

Daniel R. Hesse

This is Dan. With respect to Clearwire, it's a non-binding MOU, but clearly very important. If you remember when we discussed our 4G situation, Clearwire in particular, on October 7, we have an existing agreement contract that takes us through the end of 2012 and we said we would continue to sell and market WiMax devices through the end of 2012 and that we mentioned that Clearwire had announced its intention to move to LTE TDD and that we still needed to work out technical details and specifications. It may sound simple to you and me, but it's really fairly complex to make sure that networks work well together, particularly that there's an architecture so there's a seamless handoff. Because what we are intending to do with Network Vision and also with thinking of Clearwire as a part of that list of -- group of assets that we have in terms of different spectrum bands, we want our network to be able to seamlessly hand off very quickly based upon the most efficient low-cost best coverage, best capacity alternative we have for any particular call. But if, let's say, if a call’s moving from the 2.5 gigahertz to the 1.9 gigahertz or to the 800 megahertz frequencies, we want that to be very seamless. So this was really the technical teams, the network teams of Clearwire and Sprint, working through all the technical details to make sure we both really felt we had a good technical plan, and that is now the foundation that we needed that we can begin to discuss, if you will, the commercial agreement going forward.

Operator

Your next question comes from Jason Armstrong.

Jason Armstrong - Goldman Sachs Group Inc., Research Division

I guess one question on Network Vision. You talked about the cost being lower this year, maybe just a little bit more granularity there, is this reflective of sort of slower deployment than expected? Are you getting better equipment, sort of vendor costs? Maybe just help us think through that. And then when you talked about sort of the iPhone from a gross add versus upgrade perspective, I think there were comments that the early momentum suggested this was more weighted to gross adds than many of us would've thought. Could you just help us maybe frame that? It think you said it exceeded the EVO. What was the EVO in terms of gross adds versus upgrades? Just help us frame the percentage.

Steven L. Elfman

This is Steve Elfman. I'll answer the first one. Think that there's been no slowdown, but basically, we projected a spend for this year and as we've been going through the fit testing and putting together the arrangements with the tower companies and putting the plans together with the 3 major OEMs, Ericsson, Samsung and ALU, we've really just got more clarity on the timing of spends.

Jason Armstrong - Goldman Sachs Group Inc., Research Division

And so, Steve, would you say did this push you out a quarter or 2, or what's the interpretation?

Steven L. Elfman

No, not at this point in time. We basically, as we said on October 7, we're looking to largely complete by the end of 2013 with some of these smaller markets and rural markets being completed in the first quarter of 2014.

Daniel R. Hesse

And Jason, this is Dan. With respect to the iPhone, we have not disclosed or nor will we the percentage of gross adds, if you will, that we had early on with respect to the EVO, but what I will say is that the percentage of iPhone customers that are gross adds are significantly higher in the first 2 weeks than they were for the EVO and also significantly higher than our expectations or business plan as well. So as I said in my comments, you don't declare victory after 2 weeks, it's too early to change our assumptions with respect to gross add percentage based upon just how good the early indications have been. So we have not so, for example, in the numbers that Joe went over, we haven't, if you will, adjusted our business plan or expectations based upon early results, actually even being better on gross add percentage. So we'll give you a feel for that after we get a longer period under our belt. But the gross add percentage has been very, very strong early on.

Operator

Your next question comes from Michael Rollins.

Michael Rollins - Citigroup Inc, Research Division

A few things, one is can you just reference where your smartphone penetration is currently? Secondly, as you look at your iPhone guidance for dilution, if you look at the $1.9 billion in upgrades and handset sales with commissions, right now, you spend about $4.5 billion on subsidies. Is that $1.9 billion for 2012, is that all incremental to what the current subsidy and commission picture is or some of that potentially cannibalistic, i.e., there is some share shift so it's not purely incremental? And then just one other thing, if I could please, it looks like on the Vision operating expenses, if you total up the chart over the multiyear period that you provided, the OpEx looks higher than what you originally guided when you originally put together the Vision program. Can you just give a little bit more detail as to what's happening over time with the totality of that OpEx?

Daniel R. Hesse

Mike, I think that was 3 questions, but I'll take the first one. With respect to smartphones, I’ll do this with respect to CDMA, that postpaid CDMA. 80% of the devices we sold in the third quarter were smartphones and that brings our CDMA postpaid base to 58% -- 62%, okay, that's right, second quarter was 58%. Yes, that's right, brings our percentage of our CDMA base up from 58% to 62% at the end of the third quarter. And the 80% being CDMA, or being smartphones on CDMA compares to 76% in the previous quarter.

Joseph J. Euteneuer

And your second question, it is cannibalistic. So you're right, I mean, the iPhone will definitely take a portion of people who would normally buy an EVO or some other devices will have -- be buying an iPhone. The last question, I think, Mike, the original guidance when we launched Network Vision was about an incremental $5 billion, which had been estimated at about a 50% split between operating and capital, and I think the realities are that the split is a little more operating-oriented than cap.

Operator

Next question comes from John Hodulik.

John C. Hodulik - UBS Investment Bank, Research Division

Two quick ones. First, you guys recently changed pricing on non-handset 4G devices to include effectively usage based pricing on those devices. Can you give us a sense of maybe why you did that or the savings you expect to incur if going forward? Or maybe, if you can't go that far, what percentage of the traffic generated on the WiMax network that this would affect? And then, I guess, following up on the last question about the potential Clearwire agreement, is that to say that, does that change your plans in terms of how you're going to use 4G capacity that you guys outlined on the 7th in terms of building out LTE, using that organic capacity? And then sort of beyond 2013, using the Clearwire LTE capacity, if it's ready at that point? Is that sort of what we're talking about in terms of moving towards an agreement with Clearwire?

Daniel R. Hesse

Let me take that Clearwire piece first, and then I'll let Yijing perhaps clarify the first question. Our first choice, our most economic choice will always be to utilize our own capacity first. But what this does is it allows us to begin to offload. We can also, by the way, save capital though. So we, as soon as the -- and the plan is, right now, it hasn't been announced officially and we're still working through it, but you're right to think of 2013 as the period of time that Clearwire LTE capacity would begin to come on, that we would use Clearwire's LTE capacity to augment our own network capacity going forward.

Yijing Brentano

And John, could you ask the question again on the pricing? Just want to make sure we understand the question regarding the changes you're talking about.

John C. Hodulik - UBS Investment Bank, Research Division

Sure, yes. I -- there's some press release that you guys have changed some of the pricing in your 4G devices to move away from sort of unlimited. And that there would going to be some usage caps imposed on some of these 4G devices, non-handset devices, and I was wondering how that could potentially affect payments to Clearwire, as it -- if it affected the usage that you were seeing?

Daniel R. Hesse

Basically, because of usage patterns and economics, you're exactly right. We have maintained unlimited pricing plans on handsets. Other devices like data cards tend to be much heavier users, much more heavy users of tonnage, both 3G and 4G, so we did for economic and because of the competitive environment, felt we could put usage caps on those devices and it would reduce, if you will, a tonnage or usage both on our network and on the Clearwire network.

John C. Hodulik - UBS Investment Bank, Research Division

Basically, I was trying to get to can you give us a sense of what percentage of that traffic would be affected? Is it relatively de minimis or is it a meaningful amount of traffic that would – or savings that you guys would incur?

Daniel R. Hesse

We're to not going to disclose that particular -- disclose that, but we will see what the impact is over time.

Operator

Your next question comes from David Barden.

David W. Barden - BofA Merrill Lynch, Research Division

Two, if I could. Just maybe, Dan, to return to the Clearwire question. I think that the message that we're getting now is that for the most of the call we've heard nothing about LightSquared. We've signed an initial agreement with Clearwire, which is on the critical path to signing a wholesale agreement and that I think the headlines that are coming across is that Sprint needs Clearwire now and you need an agreement to make the network capacity work. If you could kind of elaborate a little bit about that and how that view has changed at all from the Analyst Day, it would be helpful. And also, what kind of financing you've budgeted for in the slides that we saw as a function of that? The second question, if I could, maybe for Steve, would just be with respect to kind of getting the organization ready for Network Vision. We've now seen all the PowerPoint slides, we've set up all the expenses and the targets and the goals, but in terms of getting ready on the ground to touch 40,000 cell sites in a 2-year time frame, recognizing that Verizon has taken 3 years to try to get their LTE network done, T-Mobile spent 3 years trying to get their AWS network built, it's a lot to try to get done. Can you convince people that you're ready to get it all done in a 2-year period?

Daniel R. Hesse

David, let me take part one. There really has not been a change since October 7. Perhaps there is in terms of people's understanding of what we meant to say, okay? So let me kind of clarify it that way. What we talked about on the 7th is that our own spectrum resources, if we just basically used our own would take us into 2014, of course, and assumed the continuation of, if you will, the existing agreements with Clearwire. What we said was that if LightSquared and our numbers did not include or assume that LightSquared capacity would be used, but if we were to -- if they were to get FCC approval and if they were to get financing and if this was to move forward, it would probably add another year's worth of capacity growth onto our network. Clearwire, if we were to reach agreement with Clearwire, again we have not yet, but the MOU that I've described today lays that foundation to do that, would add additional years plural to that capacity as well. So really, nothing has changed. We just make progress. And again, if LightSquared comes online, that gives us another potential use of capacity. But we're making very good progress, we believe, on the technical front with Clearwire and I'll leave it at that. There's a part 2, I think, for Steve.

Steven L. Elfman

Good question on how we ramp up to be able to largely be done by the end of 2013. Like to remind you that actually we've been going at it this year and with -- pardon me, I didn't have my mic on so I'll repeat that. Good question about can we be done by the end of 2013 largely, and we've been at this really for about a year. I think you need to look at the fact that we're using 3 vendors here, plus really a fourth, which is the Ericsson Managed Services, each one of those have been ramping up over the last year and putting their plans together. And we, basically, pay them for an outcome. And so in getting the tower companies’ agreements together, getting the plans put together by each one of the vendors that -- remember, we've divided the country into 3 and each -- and we measure every month how many more people and feet on the street they've got to do it. So we're feeling fairly confident, so are the OEMs at this point in time because we've really trifurcated the number of companies that are building out.

David W. Barden - BofA Merrill Lynch, Research Division

If I could just a quick follow up, Dan, on that Clearwire comment, Joe, what is in the financing slide that you put out there for the potential for a new big financial relationship with Clearwire?

Joseph J. Euteneuer

Well, actually we haven't announced the financial relationship. We announced the engineering cooperation relationship on LTE. So their deployment of LTE will come off of their capital expenditures and not ours. So the numbers we've presented in regards to the financing and stuff is for the business case that we presented to you. If there's stuff to announce in the future, we will, but we're very, very excited what we announced today with Clearwire in regards to helping our spectrum needs.

Operator

Your next question comes from Jonathan Chaplin.

Jonathan Chaplin - Crédit Suisse AG, Research Division

So I was hoping you could give us a little bit more color on the iPhone impact. Joe, your comment was that the incremental subsidy piece is $200 relative to a regular smartphone. When I look at that $600 million drag to EBITDA in 4Q, it seems like either the volumes you're anticipating are extremely large, well above the $1 million that I think that most people had in their models or there must be some other costs in addition to just subsidy costs, significant other costs that are going in there and I'm wondering if you can give us more color on that and let us know whether any of it is one-time in nature?

Daniel R. Hesse

This is Dan. It's volume-driven. Customers are -- out there are choosing Sprint versus other carriers at a higher percentage than we would've expected or at least that we had originally planned and I think in some other people thought, and the 4S I think is also a hotter device than a lot of people anticipated it would be.

Jonathan Chaplin - Crédit Suisse AG, Research Division

So that 1 million subscriber estimate that everybody has is way too low?

Daniel R. Hesse

Yes.

Operator

Your next question comes from David Dixon.

David Michael Dixon - FBR Capital Markets & Co., Research Division

Joe, you talked about financing flexibility with vendor financing of between $1 billion to $3 billion. Wondered if you could talk about how those conversations are going and any insights on rates there and whether there's any flexibility to move higher than $3 billion if you so choose as we move forward? And secondly, question for Dan. Dan, you mentioned decisions that you've made in the marketplace impacting your unlimited message Verizon here at 4G World talked a bit about early signs of a material reduction in the rate of data traffic growth after moving away from unlimited plans, particular on data cards. And wondered if you could talk a little more about how your shift in strategy, the message is resonating with your customer base? And just last, if I may, just the iPhone’s only been out a couple of weeks, appreciate that. What are you seeing in terms of network throughput performance and how has it reshaped your device demand from a 4G versus 3G perspective?

Daniel R. Hesse

Well, I'll take the question about the message. Actually, the message hasn't changed. In fact, if anything, it's become more focused around unlimited. We are now the only unlimited player in smartphones, and that is the advertising in the message that you see. That, of course, dominates the volume in terms of numbers. So the unlimited is very much a part of our core smartphone strategy. It is very much part of our marketing strategy. It is our main message. So the message really hasn't changed from that perspective.

Joseph J. Euteneuer

Great. Let me take the vendor financing question. If you recall back when we launched Network Vision and were bidding it out, we had 5 vendors give us up to $7 billion in vendor financing that we chose not to take. Obviously, we eliminated 2 of the vendors. But even though we approved vendor financing, we decided not to take it at that time. So we're basically in the process of reapplying. We feel very good about the conversations to date. Where the ultimate number comes out, yet to see it's still too early on, but we're -- we've had good talks to date and we'll see where that goes.

Steven L. Elfman

David, this is Steve. Your question on the iPhone and the usage on the networks. For one thing, it is a 3G, so it will use our 3G network unlike our dual mode that we share between our 4G network and 3G right now. And the other thing is, as expected, the iPhone is quite efficient in comparison to other devices. And if you recall, on October 7, we talked about things like WiFi offloading and optimization of applications and content. Apple has had a lot of experience in that over the years and we are seeing the benefits of that in the data usage in this short period of time, but it's been living up to our expectations.

David Michael Dixon - FBR Capital Markets & Co., Research Division

Right. So just to clarify, the reports that we've seen in the blogs regarding throughput are perhaps anecdotal than across the board in terms of throughput?

Steven L. Elfman

Yes. We're very happy with the performance, but like any other new device on the network, we're working with Apple in this case because we want to optimize as we had to in previous devices. You want to optimize but we're getting the kind of throughput that we expected.

David Michael Dixon - FBR Capital Markets & Co., Research Division

And just on the house recheck device demand from a 4G versus 3G perspective, have you seen more of a pull to the iPhone from 4G or has it been through the existing 3G base?

Daniel R. Hesse

This is Dan. The iPhone is attracting customers across the smartphone base. So whether it was a 3G smartphone or a dual mode, it's just an extremely attractive device. And so it is, if you will, taking some share from what would have been, we'll call 3G smartphones sans iPhone and dual mode devices, both.

Operator

Your next question comes from Mike McCormack.

Michael McCormack - Nomura Securities Co. Ltd., Research Division

Joe, can you give us a sense for just sort of looking through the slides on use of cash over the next several years, how flexible Network Vision's spending is and how flexible the iPhone contract is? Just sort of put it in the context of one of your competitors that’s had the iPhone now for several years and looking at their margin profile from '08 through 2011, EBITDA service margin has not changed at all. It's been sort of flat at 40% and I think you're predicating your story here on an , obviously, improving margin story. So inherent in that, maybe talk about what your expectations are for iPhone refresh, because that seems to be the biggest issue that your competitor’s been facing.

Daniel R. Hesse

This is Dan. When you say iPhone refresh, are you talking about the next iPhone device?

Michael McCormack - Nomura Securities Co. Ltd., Research Division

Yes, just sort of looking at over the years, every time we have the next version that comes out, margins tend to take a pretty big hit.

Daniel R. Hesse

Yes, we have, if you will, baked that into our multiyear analyses. And, of course, one of the reasons we changed our loyalty program and premier program was, if you will, to grant dual upgrades less often. But if you bake all of that in and the churn characteristics, that's where you get the net present value improvement over time. So if you also look back at the slides that Joe went through, if you will, in terms of the -- if you will, there's costs and that has to do with new gross adds, as well as upgrades. And then you have, if you will, the operating benefits that you get from those customers, both on using less of your network costs and staying with you longer as being the benefit and it takes a few years because of the, if you will, the combination of new customers and upgrades that you get for a period of time before the benefits outweigh it. So that is all very much baked into the numbers and we have made assumptions with respect to how often customers will upgrade with respect to the new iPhone devices that come out periodically. Steve, you want to take the other part?

Steven L. Elfman

Mike, Steve. The question on flexibility, I think that right now, we're looking at the fairly aggressive plan to complete Network Vision. But as Joe carries the purse strings for the company, if he needs me to delay spending, we have that flexibility to do so.

Yijing Brentano

April, we have time for one last question.

Operator

Your last question comes from Simon Flannery.

Simon Flannery - Morgan Stanley, Research Division

You talked about the smartphone as a percentage of the base being up to 62% now. Can you share with us what, given the strong ARPU performance, what percent of your smartphones are now on with the $10 price increase? And then, Joe, you also talked about a rise in involuntary churn. Perhaps you could just expand on that, is that macro driven? Is this something we might see again in Q4? Or do you think this is more of a one-time kind of bad debt write-off to the aging of the receivables?

Daniel R. Hesse

Simon, this is Dan. We don't disclose the percentage of the customers, smartphone customers who are on the $10 plan, which basically is anytime you upgrade a device or a new customer instead of paying $69, $69.99 a month for unlimited, you pay $79. But the good news is we still have a lot of potential upside in terms of we still have a pretty good size percentage of our smartphone users who are not paying the extra $10. And so that will be a tailwind to our ARPU going forward.

Joseph J. Euteneuer

Simon, in regards to your last question. In regards to your last question, Simon, it really is more an isolated thing, not a macro issue. It will have a little tail over into the fourth quarter, and that's really it.

Yijing Brentano

Thanks for your participation today. If you have any questions, please contact Sprint’s Investor Relations team at 1 (800) 259-3755, and this concludes our call this morning.

Operator

Thank you for joining today's conference call. You may now disconnect.

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