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Sprint Nextel Corporation (NYSE:S)

Q2 2007 Earnings Call

August 8, 2007 8:00 am ET

Executives

Kurt Fawkes - Investor Relations

Gary D. Forsee - Chairman of the Board, President, Chief Executive Officer

Paul N. Saleh - Chief Financial Officer

Analysts

Phil Cusick - Bear Stearns

Michael Rollins - Citigroup

David Janazzo - Merrill Lynch

Tom Sykes - Lehman Brothers

Rick Prentiss - Raymond James

Will Power - Robert W. Baird & Company

David Barden - Banc of America

Thomas Lee - J.P. Morgan

Simon Flannery - Morgan Stanley

John Hodulik - UBS

Presentation

Operator

Good morning. My name is Jennifer and I will be your conference operator today. At this time, I would like to welcome everyone to the Sprint Nextel second quarter 2007 earnings conference call. (Operator Instructions) Now I would like to turn the call over to the SVP of Investor Relations, Kurt Fawkes. Sir, you may begin.

Kurt Fawkes

Good morning, everyone and thanks for joining us. In a moment, Gary Forsee, our Chairman and CEO, will begin our call with a discussion of operational highlights for the second quarter. Paul Saleh will follow with a review of our second quarter financial results and share our thoughts on the balance of the year. We are going to finish the call with Q&A.

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 detailed discussion of various risk factors in our SEC filings, which of course I strongly encourage you to thoroughly review.

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 second quarter can be found on the attachments to our earnings release, and also at the end of today’s presentation, which is stored on our website at www.sprint.com.

Slide 4 provides the normalizing items for net income and earnings per share for the second quarter. We reported net income from continuing operations of $19 million. That’s $0.01 per share. That compares with income of $291 million, or $0.10 per share in the year-ago period.

Special items in the second quarter totaled $153 million after tax. That’s $0.05 per share. Adjusting for the special items, earnings were $0.06 per share for the quarter. Adjusted earnings per share before merger related amortization expense were $0.25 per share. That is down from $0.32 a year ago but up from the $0.18 we reported in the first quarter.

Before we get started, I want to point out that we have deferred implementing changes to our post-paid churn calculation logic until the third quarter. These changes are expected to reduce our future reported post-paid churn by a little less than 10 basis points and result in a corresponding decrease in reported gross activation. There is no impact on our reported net additions and of course these changes will not affect the balance sheet, income statement or cash flows.

I also want to point out that starting in the second quarter, we quantified the incremental costs associated with sales of dual-mode power source devices and these costs are now included in merger and integration expenses.

Now I’m going to turn the call over to Gary.

Gary D. Forsee

Thanks, Kurt and good morning, everyone and thank you for your interest in our company and thanks for joining us today. On the first quarter call, we shared our near-term performance expectations for a number of key measures and activities in the business. I want to start off today with an update on those areas.

Perhaps foremost on your mind, and certainly a key priority for us is our progress on post-paid retention and subscriber growth. We succeeded in delivering on both of these in the second quarter. Although we had modestly lower growth additions, lower customer churn drove a sequential improvement of more than 235,000 net post-paid additions. Post-paid churn improved 30 basis points from first quarter levels, as we achieved lower voluntary and involuntary churn rates in both CDMA and in iDEN. For the iDEN platform, this was our first sequential improvement in churn since the second quarter of 2005.

In the quarter, targeted retention initiatives and strong network performance aided our progress on voluntary churn and we experienced some seasonal benefit in involuntary churn. In the second quarter, we had a strong gross add performance and our business markets and overall acquisition credit mix was again significantly better than one year ago.

In the quarter, our sales volumes benefited from the introduction of the music-centric Upstage device and we saw strong demand for PDAs. We expect this demand to be supplemented by several recent and upcoming handset introductions that will provide differentiation and a compelling experience for our customers. These include the BlackBerry World Phone, which opens up service for our customers in Europe and many other countries outside of the U.S., the new Katana and Music phones that are debuting to much expectation and acclaim.

On the last earnings call, we had indicated that we expected stable post-paid ARPU in the second quarter and again in part due to seasonal factors. We also indicated that we expected improved profitability in the second quarter resulting from staffing actions, better handset costs and other operating efficiencies. We achieved these objectives.

Our ARPU increased sequentially to industry-leading levels and we made solid progress on our margins. Both the wireless and wireline segments contributed to this improvement.

On our last call, we discussed the ongoing improvements to our network performance, which will enhance our customers’ overall experience with Sprint. Our investments continue to produce measurable progress with both the CDMA and iDEN networks performing now at best ever levels, and I’ll provide additional details on that in just a minute.

In the latter stage of the second quarter, we launched our new marketing campaign which highlights the quality that differentiates Sprint from its competitors -- the speed of our network, the capabilities which that speed enables and the benefits that result from those capabilities. We are very excited about the message that the Sprint Ahead tagline sends and believe it clearly and compellingly answers the question, why Sprint?

Brand repositioning is something that takes root over time but early indicators are encouraging and suggests our message is resonating in the marketplace. Click-through rates for our online advertisements are nearly double those of our prior campaign and we are seeing increased customer visits to the Sprint website as a result.

Additionally, customer ratings on most of the key attributes targeted by the campaign improved immediately after the launch in both the consumer and business segment. Our recent discussions have centered on the investments we are making which impact near-term results but are designed to improve revenue and profitability performance over the long-term. There is much work yet to be done to fully realize the potential of our assets. We remain focused on executing our plans and meeting these objectives.

With that in mind, let me update you on the progress in several areas that serve as building blocks for sustained improvement in future periods. If you turn to slide 7, during the first half of 2007 we brought on air nearly 2,400 new cell sites, with about three-quarters of these supporting CDMA. With these additions, our EVDO-Rev A coverage surpassed 200 million pops. To put this in perspective, over the past 12 months our network team has increased pop coverage of EVDO by nearly 50% and they extended the overall footprint by a quarter of a million square miles.

In addition to supporting further adoption of industry leading data services, the EVDO-Rev A build-out is a critical milestone for our deployment of high performance push-to-talk services via QChat on the CDMA network. We’ll be sharing more details on this initiative, including a live demonstration on our commercial network, at our technology summit next week here in Washington.

Sprint’s network team continues to deliver best ever macro iDEN service metrics and is making good progress in increasing the consistency of performance within those markets. We are also working cooperatively with public safety incumbents, the transition administrator, the FCC, to schedule and coordinate phase two 800 megahertz re-tunes to minimize disruption, maintain public service interoperability, and mutual aid relationships, and maintain the highest level of network iDEN performance.

Another key component in our efforts to improve the customer experience as we integrated our networks is deployment of PowerSource handsets, which pairs iDEN direct connect with CDMA voice and data capabilities. Our base of PowerSource subscribers more than doubled in the second quarter to 850,000, with iDEN transfers driving up most of the growth.

We are seeing strong data ARPU performance for PowerSource subscribers and we believe the introduction of EVDO capable PowerSource devices has the potential to further bolster our wireless data ARPU. We rolled out the first EVDO PowerSource handset in June and we’ll have a second device later this year.

Our wireline priorities remain unchanged, centering on growth in IP and MPLS. The migration of customers from legacy data services to IP continued to progress in the second quarter and we finished the first half ahead of internal projections.

IP services now represent roughly a quarter of total wireline revenues and MPLS installed ports outnumber those of frame relay. Wireline network satisfaction metrics are leading our major competitors and we are seeing very strong customer satisfaction levels with IP migrations.

Even some of my own data points in the wireline business, this was our first quarter of sequential revenue growth and a more stable year-over-year trend in our recent memory.

In the second quarter, we achieved important milestones, turning to slide 8, in consolidating systems that are critical to customer touch points, including care, billing and point of sale, as well as those that comprise our internal infrastructure for managing human resources and financial results.

Our consolidation efforts are systematically reducing the level of complexity our employees face in executing their day-to-day responsibilities, paving the way for enhanced productivity and facilitating efficiencies that will improve the customer experience.

It is challenging work and each step has its costs and operational impacts but the synergy benefits are sizable and, as you know, our overall synergy plan remains on track.

Some of our most important significant efforts have been the consolidation to a single general ledger, which occurred in July, and the conversion of our wireless subscribers to a single billing and customer care platform. All iDEN and PowerSource customers are supported on this platform today and we have converted approximately 30% of our CDMA base.

This effort will continue to ramp through the end of the year and be fully completed by the middle of next year. The benefits of this unified billing platform are lower costs per bill, general productivity improvements, and efficiencies for billing agents and customer care reps.

As we have moved through our integration efforts, we have taken steps to minimize inevitable disruptions that occur with an undertaking of this magnitude. As we convert the bulk of our CDMA customer base in the second half of the year to a new billing platform, we will support this effort with additional investments in care, staffing, as well as infrastructure.

With the billing and customer care systems consolidation largely completed by year-end, you should expect this elevated spending to begin to ease somewhat in the first half of 2008.

Now we’ll move to slide 9 and I’ll talk about some of our strategic priorities.

In the second quarter, wireless data revenues were up 40% from the second quarter of 2006 and reached $4.8 billion on an annualized basis. In the quarter, data represented 16% of post-paid ARPU. On the CDMA platform, the ARPU contributions for data led the industry at $12.75 per month. We are seeing strong demand for data-centric devices, particularly those oriented toward messaging and music, as well as high-end PDAs.

In the quarter, we surpassed the 1 million mark for mobile broadband aircards. We are making significant progress on our WiMAX initiative, recently announcing partnerships with both Clearwire and with Google. WiMAX investment supports our goal of enabling a robust and compelling customer experience on what will be the fastest wireless mobile broadband network available in the U.S.

Our soft launch is on track for later this year, with commercial service scheduled to be deployed in the first half of next year and again, we look forward to providing additional details at next week’s tech summit.

Our wireline business with the cable MSOs continues to grow rapidly in the quarter and the availability of the pivot service, which is a converged service offering, continues to expand. At the end of the quarter, we were serving more than 2 million cable VOIP customers, which is an increase in nearly 75% compared to last year.

In addition, the cable joint venture partners have launched pivot converged services in 20 markets now and we expect availability in at least 40 markets by the end of this year.

Turning to slide 10, before I turn the call over to Paul I would like to briefly comment on a handful of other items that I’m sure are of interest to you.

First is our trial of an unlimited local calling plan using the Boost mobile brand on our CDMA network. During the second quarter, the trial was available in four markets and we added approximately 100,000 customers. We were reporting these customers in our prepaid subscriber counts. To date, we have not seen any tangible signs of post-paid cannibalization in the trial markets. We are seeing higher-than-expected usage on average from the early adopters.

I would expect that later this year when we have additional information regarding the economics and lifetime customer value of Boost Unlimited, we will be able to determine what our next steps are.

The second topic listed on the slide is the Broadcom/Qualcomm intellectual property issue. We continue to explore our options to ensure our customers have the latest handsets. We continue to import handsets with the technology solution designed by Qualcomm. Qualcomm believes this workaround does not fall within the ITC order. We’ve been testing the solution for several months and there are no impacts on the customer experience.

We are also considering a number of other alternative resolutions to this dispute, including encouraging the two parties to reach resolution.

The third topic I want to touch on is spectrum. As you know, Sprint’s spectrum position is unsurpassed in the industry and includes expansive licenses in 800, 900 megahertz, 1.9 and the 2.5 gigahertz ranges.

On a bit of a side note, there was a disclosure in the past month of our exercise of a put to our cable JV partners for our minor portion of the AWS spectrum acquired by Spectrum Co. in the auction last year. This event has no impact on our JV and was fully anticipated by our partners. Our participation last year was at a time of less certainty around both 2.5 spectrum position, as well as the final disposition of the AWS auctions.

Finally, I want to provide you an update on our recent moves in the executive management team. We have continued to add talent to our company. At the governance level, the board announced yesterday the addition of two very capable board members, Rod O'Neal, current CEO of Delphi; and Larry Glasscock, former CEO and current Chairman of WellPoint.

In addition, during the second quarter Keith Cowan came on board as President, Corporate Strategic Initiatives and Chief Strategy Officer. Keith brings a unique blend of strategic business development and operating experience to Sprint. He will have direct responsibility for the WiMAX business unit with Barry and his team reporting to him. He will take on the opportunity we have to further highlight the value of that business over time. Keith will manage the overall cable relationship. This will include the two distinct opportunities, voice-over-IP deployment and enablement, and the wireless joint venture. He will also continue to work with our partners as they consider a mobile broadband strategy. He will also own the role of Chief Strategy Officer for the company, which will cut across all of our business and strategic initiatives.

In addition, as we have described before, we have now added five additional senior positions from outside the company in the past six months, including executives in advertising, customer service, strategy, base marketing and retail support. We will continue to ensure our talent is equipped to compete and win, and I will continue to assess candidates for the chief operating role as well.

At this time, I will turn the call over to Paul.

Paul N. Saleh

Thank you, Gary and good morning, everyone. I also want to thank you for joining us on the call today. I am pleased to report that we achieved our key financial goals for the second quarter while making good progress on operations, integration and investing for the future.

I’ll begin with a quick recap of our quarterly financial highlights, which are found on slide 12. We ended the second quarter with a total of 54 million subscribers, and this is up 5% or 2.3 million subscribers from the second quarter of last year. For the quarter, we reported $10.2 billion in revenues, which is 1% above the first quarter and a 2% increase from a year ago.

Wireless net operating revenues were $8.8 billion in the second quarter, up slightly from the first quarter and 3% above the second quarter of 2006. The year-over-year increase is due to acquisitions and growth in the prepaid and wholesale subscriber bases, partially offset by a modest decline in average postpaid subscriber revenues and a significant decline in equipment revenues.

Wireline revenues increased by 2% from the first quarter and were flat to last year as IP continues to offset declines across other areas. This is the best top line performance we have seen in wireline for several years.

Adjusted OIBDA of $2.9 billion was $300 million, a 12% sequential improvement. As Gary noted, the principal drivers of this increase were first quarter staffing actions, which helped margins in both wireless and wireline, and the increase in wireless post-paid ARPU. Adjusted OIBDA margins also grew from first quarter levels, crossing back over the 30% mark.

Adjusted EPS before amortization was $0.25 in the quarter, down from one year ago but up from the first quarter.

Capital investments was $1.7 billion during the quarter, with the majority of spending directed at wireless coverage and capacity for CDMA. Through the first half of the year, 85% of our capital spending has been in support of wireless, with CDMA outpacing iDEN spend by a ratio of nearly two-to-one.

In the quarter, we generated free cash flow of approximately $180 million, as OIBDA exceeded capital investments in both wireline and wireless partially offset by higher working capital requirements. Year-to-date, free cash flow was $680 million.

Finally, we reached the midpoint of our share repurchase program in the second quarter, with about $3 billion in cumulative share buy-back.

I’ll elaborate further on our second quarter financial performance in just a moment but first I would like to spend a few minutes sharing some thoughts on the near-term trends we are seeing in post-paid subscribers.

On slide 13, we are illustrating a platform level view of our post-paid subscriber activities. As shown in the top graph, in the second quarter iDEN churn reversed course from the trend we had experienced over the past several quarters. On the CDMA platform, churn has been ramping down for some time. The bottom graph illustrates how these churn reductions translate into net add improvements.

In the third quarter, competitive market conditions are likely to continue to pressure net adds. In addition, we will lose the seasonal benefit on involuntary churn. But as we approach year-end, we expect improving net add performance on both better gross additions and lower churn.

Now let’s turn to the next slide for more discussion on second quarter financial results. On slide 14, you’ll see an illustration of the primary factors which contributed to the sequential improvement in adjusted OIBDA. As I noted earlier, lower headcount and increases in our post-paid ARPU were the largest driver of the increase from quarter to quarter.

We also realized synergies outside of headcount actions through our cost reduction initiatives in network, IT, and marketing.

Within post-paid ARPU, most of the sequential increase was due to higher overage revenues, in part due to seasonal factors and data ARPU growth. ARPU is also benefiting from new pricing plans implemented at the beginning of the year and we are seeing a strong level of upgrades to higher MRC plans on the CDMA platform.

PowerSource customers are also reporting strong ARPUs, but offsetting these trends is the continued increase in family plans and generally lower-than-average ARPUs from newer subscribers. We had lower Boost ARPUs in the quarter on lower usage and Boost Unlimited was not a factor yet in the second quarter.

In the quarter, we maintained competitive handset pricing in step with the overall market, and as a result average subsidies remained high, but we did see a slight improvement over first quarter levels as we benefited from lower volumes of Boost pay-as-you-go handsets.

Our Boost Mobile business contributed to sequential growth in OIBDA, as the scale benefits of 4.5 million subscribers and lower selling costs offset the sequential decline in prepaid ARPU.

Finally, investments in the business, which we previewed with you earlier in the year, accelerated slightly from the first quarter. While these investments are being made across our operations, the sequential increase was concentrated in the areas of customer retention and network.

Moving to slide 15, I’ll touch on the balance sheet. In the second quarter, we raised approximately $750 million of new low-cost debt. These funds were used to retire higher cost debt obligations in July. This action is consistent with our goal of strengthening our balance sheet, lowering our financing costs, and enhancing our financial flexibility. We ended the second quarter with cash and cash equivalents of $2.4 billion and $20.5 billion in net debt.

As mentioned earlier, we are halfway toward our completion of our $6 billion share buy-back program authorized by our board and we remain committed to completing the program. However, as we stated before, we will vary our purchases from time to time.

We are maintaining a solid investment grade profile and ample financial flexibility with a net debt to annualized adjusted OIBDA ratio of 1.8 times.

Overall, we are pleased with the progress we are making on network initiatives, customer retention, integration and profitability. While we’ve mentioned several factors that will be challenging during the second half of this year, including competitive market conditions, investment in customer care and seasonal influences, we continue to forecast that our full-year performance will fall within the range of guidance that was previously provided.

This is found on slide 16, and it includes consolidated revenues of $41 billion to $42 billion, consolidated adjusted OIBDA of $11 billion to $11.5 billion, capital expenditures of approximately $7.2 billion. On the capital spending over the balance of this year, we expect to continue to invest aggressively in CDMA and ramp up our investment in WiMAX. This spending will be partly offset by lower iDEN requirements.

We now expect that rebanding intangible costs for the year will be around $700 million. We expect full year merger and integration expenses to be in the $800 million to $900 million range, and we continue to expect that utilization of NOLs, net operating losses, will keep our cash tax rate below statutory rates through 2008.

With that, I’ll wrap up and turn it back to Kurt for Q&A.

Kurt Fawkes

Thanks, Paul. In just a minute, we are going to go to your questions. I want to point out to folks that you may access an audio replay of our call today or our webcast at our website, www.sprint.com.

Now we are going to open the lines for your questions. Operator, could you please provide the participants instructions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Phil Cusick with Bear Stearns.

Phil Cusick - Bear Stearns

Thanks for taking my call. Can you hear me?

Gary D. Forsee

Barely, Phil.

Phil Cusick - Bear Stearns

Let’s throw this BlackBerry away. Cingular. I wonder first, Paul, if you could talk through again the 3Q detail you gave on seasonal pressure and gross adds in churn, just to make sure I’ve got -- I didn’t quite get it.

Paul N. Saleh

You’re talking about the third quarter?

Phil Cusick - Bear Stearns

Yes.

Paul N. Saleh

The second quarter is a seasonally good quarter for us from a churn perspective, so we would expect more pressure on the involuntary side in the third quarter. The competitive environment remains quite strong so we will see some challenges still into the third quarter. But as I mentioned also, we expect resumption of growth in subscriber in the fourth quarter.

Phil Cusick - Bear Stearns

So just to make sure I understand, it sounds like you think that adds could get back down below zero and then run back up in the fourth quarter.

Paul N. Saleh

Well, we said that we will see some challenges and remaining challenging in the third quarter.

Phil Cusick - Bear Stearns

Okay, I’ll stick with that and can you talk about the iPhone impact that you saw in terms of porting trends to Cingular over the last month and whether that moderated at all in the last couple of weeks?

Gary D. Forsee

Certainly we saw the initial couple week blip of the pent-up demand that came through and at the same time, we were out with our new marketing campaigns, Sprint Ahead. We were out with some new product devices and launches, so our share of gross adds held up during the second quarter and continues on that trend in the third quarter. We’ve seen the drop back perhaps at slightly higher levels than before the iPhone launch but certainly dropped back to a moderate level of port out activity.

Phil Cusick - Bear Stearns

And then finally, I’ll just ask about ARPU. It stabilized nicely this quarter. Can you talk about the components in there? You mentioned overage is still up seasonally but year to year it is starting to come back a little bit. Can you talk about, aside from data, what are the major components of ARPU and what they’ve done over the last year? Thanks.

Paul N. Saleh

I think overall what we have mentioned is we saw an up-tick, actually, not only stabilization but an up-tick in ARPU in the second quarter again due to primarily overage, but we are seeing basically again data offsetting basically decline on voice overall.

If I look at it overall year over year, CDMA is doing, is growing on a year-over-year basis, offsetting the decline that we see in iDEN ARPU. Again, data being a key contributor to our growth on a year-over-year basis on CDMA. Also, we see some growth on iDEN but not enough to offset the decline in voice.

Phil Cusick - Bear Stearns

Okay, thanks. I’ll stop there.

Gary D. Forsee

Phil, I would just add and close that out with 850,000 PowerSource devices that again principally are transfers from iDEN, you know the opportunity with 1X and now with EVDO devices to get some data movement starting to occur in the iDEN base. I think we saw some of that in the quarter, not material yet but it certainly bodes well as we move into QChat.

We also took actions in the quarter to eliminate the trial period which makes the sales process for selling data we think a lot stickier over time, certainly reduces some of the costs of that activity with the sales process and within service, and we think that again bodes well to get it sticky out of the gate as opposed to having to resell it after the 30-day trial period.

Phil Cusick - Bear Stearns

Since you bring it up, can I follow up on that, those PowerSource phones. Are those reported as the data ARPU from those are the CDMA data, or are those still in the iDEN base for iDEN data?

Gary D. Forsee

Those are counted as CDMA, so again if we are getting whatever lift out of the average iDEN existing data of a little less than $5, any improvement obviously will start to move our overall number up.

Phil Cusick - Bear Stearns

Okay, good. See you next week, guys.

Operator

Your next question comes from the line of Michael Rollins of Citigroup.

Michael Rollins - Citigroup

Good morning. I was just curious to follow up; if you look at the growth that you’ve had in data only subs vis-à-vis the data cards, is it fair to say that there is still some share loss on the voice side? I’m curious to understand more about what you are seeing in the competitive environment. It seemed like publicly on the conference circuit, some of the comments in your presentations had changed a little bit over the course of the quarter. Are you finding that companies are more significantly matching subsidies and that is hurting the competitive environment in the short-term, or are there other factors that you think are creating just a little bit more congestion as you target improving share post-paid customers? Thanks.

Gary D. Forsee

Michael, I’ll take a shot and Paul or Kurt may want to jump in. I think on the competitive front, I think our view is we continue at the gross level to hold share. I think there is a reflection of the overall industry trend and whatever you pick as the number for industry adds being down some percentage year over year. We believe that we are no more or less impacted than other carriers on that dimension, so that would be the first point, that our share is holding up.

Certainly we continue to press our competitive advantage because of our EVDO and EVDO-Rev A deployment on air cards and we think that again is a very sticky application, particularly with business customers. So those are typically sold into accounts, corporate or individual liable, and again that provides additional capability to big corporate accounts that are part of our overall strategy for converged services.

Obviously we continue to get our handset lineup where we now think we are back to best in the industry on handset lineup and innovative devices and we have a great roadmap for the balance of this year. Obviously, with one of our competitors launching a new device in the late second quarter, that flavors this notion of the competitive dynamic.

And the third or fourth issue then is around subsidy, which we have talked about throughout the course of this year, related to subsidy whether it is for PowerSource being deployed or whether it is to ensure that we are competitive as we ramp back up our channels of distribution, particularly third party. So that’s been a theme that we’ve been on since the first of this year, to get our third party channels reinvigorated. Without question, we had costs associated with that, both at the device level as well as invigorating the channels themselves with commission.

I think those four points are the way I would flavor the competitive environment and our own performance on gross adds.

Michael Rollins - Citigroup

Could you just give us an update on expectations and timing for the public safety spectrum swap that you are working on?

Gary D. Forsee

Say that again?

Michael Rollins - Citigroup

Can you give us an update on the expectations for the costs and timing of the public safety spectrum swap so as you are swapping out with public safety agencies in the 800 band, in the iDEN band, how that is going and your expectations for how costs should hit the P&L over the next call it year to two years?

Gary D. Forsee

Notwithstanding some of the press comments about that, we are working incredibly -- in an incredibly coordinated way in our view with public safety with TA and with the FCC to ensure that we match our network responsibilities with that market by market, and we are obviously, as we have stated before, in the most complicated part of that phase two and yet are getting ready in some very significant markets to start that process and start that conversion.

So again, I think from our perspective those costs as we have identified here I think we move that number a bit to reflect that we are again beginning the phase two activity. And again, I would give ourselves high marks for phase one once we got through the network disruption that occurred in the second quarter primarily of last year on the iDEN network.

Michael, our sense is that the planning and some of the direction that the FCC has given, particularly around the cost allocation part of that, will allow us to continue full speed ahead.

Michael Rollins - Citigroup

Thank you very much for taking my questions.

Operator

Your next question comes from the line of David Janazzo with Merrill Lynch.

David Janazzo - Merrill Lynch

Good morning. You had mentioned in the press release and in your comments incremental expenses associated with the PowerSource devices included in merger and integration expenses, presumably not flowing through the continuing operations reports. Can you quantify that impact and how we should think about that going forward?

Paul N. Saleh

The impact of PowerSource from merger and integration costs is about maybe, on a cumulative basis since the second quarter was a catch-up, was about maybe $0.01 a share but there are other offsetting costs in the quarter, so I would say it was not material in the quarter at all when you take the puts and takes there. I would expect it to be about that for the rest of the year.

David Janazzo - Merrill Lynch

So there was a catch up in the second quarter, but you are saying it netted out and was not material?

Paul N. Saleh

That is correct. There were other costs going the other way. I’m talking about from an OIBDA perspective.

David Janazzo - Merrill Lynch

Right and then going forward, not much impact on EBITDA?

Paul N. Saleh

I think it would be less than $0.01.

David Janazzo - Merrill Lynch

Less than $0.01 per quarter?

Paul N. Saleh

No, for the second half of the --

David Janazzo - Merrill Lynch

For the second half? Okay, thanks.

Operator

Your next question comes from the line of Tom Sykes with Lehman Brothers.

Tom Sykes - Lehman Brothers

Thanks for taking the question. Just to follow up on David’s question, at the beginning of the year you walked through $1.1 billion in investments that would negatively impact EBITDA and one of them was handsets. And I think you marked the magnitude of that around $200 million for the balance of the year. Is that about the number that we are talking about here? I’m not very good at math and backing into a penny right here on the call.

And then, the second question is I guess there are reports that Comcast is hiring people for a rollout of some sort of wireless service in the Philadelphia area. Can you comment on how that impacts the pivot relationship, if at all?

And can you just talk in general about the experience of the JV, maybe where you feel like you are gaining some traction and maybe what some of the disappointments have been? Thanks.

Gary D. Forsee

I’ll take the cable JV. As I mentioned, we are now launched in 20 markets. We would expect to be launched in at least 40 markets by the end of the year and so far, the reaction I think from the cable partners is a ramping up that invariably occurs in their call centers and at their point of sale and getting used to the systems that have been integrated across the company.

The disappointment is it took us longer because we spent time on the back office to get that right before we took that in the marketplace and at this stage, there is still some system work to be done to speed up that activation. But I think Sprint and the four cable companies, Comcast, Time Warner, Cox and Bright House, are committed to make this work, obviously to see the customer receptivity to having a converged device as part of the bundle. We continue to be very flexible with the cable companies to try different things by market, so this is not just a one-size-fits-all approach. It’s Boston may have different needs than Austin, than Raleigh and so forth. So we are flexible with the cable companies in working through that.

Comcast obviously, as well as the other companies, continue to staff just as we do as we launch these new markets around the country. That’s the only other staffing requirement that I could be aware of in terms of what the cable companies may be doing in the wireless space.

Paul N. Saleh

As far as the guidance we that we have given in terms of the $1 billion worth of investment, and we said that there would be some additional investment on subsidy, the investment that we were making had to do with retention and a more competitive lineup of handsets for the year. The PowerSource devices actually that we were referring to is an incremental amount for the year. It’s just basically an incremental 50% maybe of that amount.

Tom Sykes - Lehman Brothers

Okay, great. That helps. Thank you very much.

Operator

Your next question comes from the line of Rick Prentiss with Raymond James.

Rick Prentiss - Raymond James

Good morning. A couple of questions for you, first on the Boost Unlimited trial. Gary, I think obviously the 100,000 adds, higher usage than you expected, and update next step by the end of the year -- as you guys look at the review, is the churn that you are seeing in the Boost Unlimited similar to the Boost prepaid churn that was 6.8% in the quarter? How are the CPGA trends in that area, given that you are also seeing higher usage?

Gary D. Forsee

I think just a couple of points. With a 100,000 base, it is hard to draw lines and get conclusions. Certainly this is a different plan type than pay as you go and prepaid, so churn we would expect to be substantially less on that product and ARPU obviously, because it is an unlimited plan, we set our ARPU pricing to reflect that and set our ARPU pricing actually on top of the other unlimited competitors in the marketplace, reflective of our broader coverage and broader definition of those markets that we’ve launched in, so we are at this point in time, pricing at a premium level to reflect the quality of our network and the depth of that footprint.

But again, it’s too early to call any of these. With the adds that we, the 100,000 adds, we see a trend of higher usage and that may be reflected of early adopters that are coming on and that will stabilize to some other level over time but that is certainly one of the areas that we are watching. And as I indicated, one of the big areas that we would have been concerned about was cannibalization of post-paid and we’ve seen precious little of that so far, which obviously was one of the biggest issues to watch.

Paul N. Saleh

The CPGA is significantly low, lower than and very much -- there’s no subsidy on handset, as you know, and so as a result of that, it is pretty much tracking with our expectations here.

Rick Prentiss - Raymond James

Great, and on the Rev A front, you guys have made some good progress getting the pops built out on the Rev A. Also recently, you had the updated agreement with NTELOS. Any thoughts about asking other affiliates to get Rev A out there to kind of help the QChat process next year?

Gary D. Forsee

Well, we are down to one affiliate, so that kind of narrows the scope of that. All the rest of the affiliates have been brought into the fold and obviously part of our overall network plan for this year and for next year is to go back and re-look at those affiliate territories, whether that be Nextel partners or Alamosa, historically look back at their network coverage quality and where they were along the upgrade trail, but all that is factored into the overall deployment of the EVDO-Rev A. As you know, that is critical and the launching point for QChat and we’ll have a lot to say about that next week at the tech summit.

Rick Prentiss - Raymond James

And one quick question for Paul; with the spectrum joint venture, you are getting the cash I think some time this quarter. Also, Virgin Mobile IPOs may be teed up for this fall. What do you expect as far as use of proceeds? It looks like at least $300 million and maybe some debt repayment coming back to you.

Paul N. Saleh

Well, as I mentioned we are in a very good financial position, and you’ve seen us really how we are deploying our cash. There’s some investment still to be made in the network, as we mentioned, for the second half of the year and rebanding is one of those things yet ahead. WiMAX is picking up in the second half of the year and we still have a $3 billion buy-back program to complete.

Rick Prentiss - Raymond James

Great. Thanks a lot. Good luck, guys.

Operator

Your next question comes from the line of Will Power from Robert Baird.

Will Power - Robert W. Baird & Company

Thanks for taking the question. I guess a couple of questions. First, it looked like your wireline margins improved nicely sequentially and I was wondering if you could just give us a little bit more color on what the drivers behind that might have been and is this the general margin level we should expect through the balance of the year?

Secondly, on the billing conversion, I know you expect to have at least most of that done by year-end but not be fully complete until we get to the mid-part of the year. Is that a bit slower than previously expected? I guess I’m trying to figure out if there have been any unforeseen challenges or if you view that as kind of on track here. Thanks.

Paul N. Saleh

On the wireline side, I think what you are seeing there is the strength of the IP revenue growth and our ability just to continue to control costs. I would say that is what you are seeing in the second quarter.

Gary D. Forsee

On the billing conversion, I think it is more simply a matter of last year when we were trying to forecast what it was going to take to convert 30 million customers, that implies a level of precision that once you get into it and factor in the timing of releases, we literally are doing a release of software on the UVP on the Amdocs platform almost every month.

We have accelerated and moderated depending on how much has been packed into those releases, so obviously we put a little bit of a caveat this morning that some of that at the consumer level could push out into ’08 but principally, we are staying on track and we want to be sure that the customer experience that goes along with that, with the new bill format and so forth, is not taking the customer experience in the wrong direction. We want this to be a positive experience so we want to be sure we get it right along the way.

That’s the only comments that we are making this morning about that.

Paul N. Saleh

Let me also add to what Gary said -- the consumer part of the billing will be, the conversion will be substantially complete by year end.

Will Power - Robert W. Baird & Company

Okay, great. Thanks.

Operator

Your next question comes from the line of David Barden of Banc of America.

David Barden - Banc of America

Thanks a lot of taking the questions. Just maybe two, if I could. I apologize to beat the horse on the PowerSource phones but Paul, if we are playing catch up a little bit here with 850,000 phones in the base, if there was a subsidy associated with that anywhere between $200 million and $400 million, we are probably talking about a very significant piece of that $163 million M&A number in the quarter.

Obviously if that is going to be running at several hundred thousand a quarter for the next couple of quarters, it will be a material extraction of costs from the income statement. And obviously we are taking the churn benefit of that in the numbers but I think it would be worth just really being as clear as you possibly could about how much cost you took out of the second quarter number and how many dollars will benefit in the second half of the year because you are making this accounting change, and kind of what the rationale is about why a PowerSource upgrade is different from say any other kind of handset upgrade.

I think the second question is just again a follow-up on the unlimited plan. If you strip out the 100,000, the 69 was obviously a bit of a reduction from second quarter and obviously first quarter as well. There’s some seasonality there but it would be a pretty low number. I was wondering if you could talk to maybe not you are seeing any post-paid cannibalization, but are you seeing cannibalization from your prepaid base? For instance, are other Boost users swapping out of their existing plans into these plans instead? And then on total, the 169 looks more like a relatively reasonable number in a seasonally soft quarter.

Gary D. Forsee

Let’s start in reverse order there. I think at the end of the day it would be a good thing if we were cannibalizing pay-as-you-go for what we would expect to be a higher customer lifetime value of Boost Unlimited, assuming all the economics work out along the way. And also those, that traffic is going on the CDMA network, so again I would say if at the end of the day as this works its way through that, that Boost Unlimited has some ability to pull across those that were a less value on the pay-as-you-go, that would be okay.

But during the quarter, the competition, perhaps some slight economic factors going on with Boost that I don’t think again would read any other significant trend into that issue.

The PowerSource, I’ll let Paul and Kurt get into that a little bit but what’s different is this is a transitional device. It’s been set up that way out of the gate that we would have that device in late ’06 and ’07, perhaps partly into ’08 but then with QChat coming on board and the ability and the investments that we’ve made to have push-to-talk capability and high performance push-to-talk capability, PowerSource all along has been a transition bridge between the two networks. That is how it was set up at the time of the merger. That is why would we consider part of the incremental cost, and Paul and Kurt will go through and dissect exactly what’s in there so it’s very clear, as you suggest, what the issues were first quarter that we had enough experience in the second quarter to go ahead and make the specific financial adjustments.

Kurt Fawkes

Keep in mind it’s incremental costs, so it is the excess costs of this device would be over say normal item device. So year-to-date, we have 850,000 PowerSource devices. If you took the full end costs that are PowerSource associated that are not a merger and integration expense, year-to-date it would work out to about $90 per device. And that cost should go down in the second half of the year.

David Barden - Banc of America

Okay, so Kurt, that $90 times 850,000 devices is in the number this quarter?

Kurt Fawkes

That’s correct.

David Barden - Banc of America

So if you were accounting for the second quarter the way you were accounting for the first quarter, the adjusted OIBDA reconciliation that you have would be roughly $72 million lower than it is now?

Kurt Fawkes

That’s correct. However, there were also, as Paul mentioned, some other costs that went the other way on us in the second quarter that largely offset that benefit that we got from PowerSource.

David Barden - Banc of America

Okay, I understand. And then you adjusted the expected merger expense for the second half of the year and presumably the delta between the old total merger expenses and the new merger expenses would be that PowerSource change?

Kurt Fawkes

It would be the PowerSource, partly it is that. Partly it is additional investment that we are going to make as a result of the UVP conversions.

David Barden - Banc of America

Okay, guys, thanks for clearing that up. Appreciate it.

Operator

Your next question comes from the line of Thomas Lee of J.P. Morgan.

Thomas Lee - J.P. Morgan

Good morning. I guess I’m trying to look beyond just your headline net adds number because I think it really masks multiple businesses and focuses and operating trends, so I was hoping you could just give me just some additional detail on number one, just on the item trends. I know there was a real nice improvement in churn as you highlight on page 13, but I was curious if beyond the seasonal factors, whether or not you felt that the stimulation you guys put into the channel is resulting in better growth adds there.

Additionally, I was really struck by the broadband card number you gave, because first of all, I just think it is a real milestone really for the wireless industry when a million broadband cards are deployed on one single carrier. I’m just curious, just as a reference point, could you give us an idea of how many units there were at the beginning of the year and also whether or not there is seasonality to the business, so that we would see broadband stronger in certain periods over others? Thanks.

Gary D. Forsee

Let me start again in reverse order. I think on air cards, our advertising this year I think was clearly reflective of what we believe has been a competitive advantage. That helped form the foundation for our Sprint Ahead and the speed message, best products and services and the most powerful network, all that is consistent with continuing to emphasize -- and I think there is a business bias towards that message that is out with air cards because of the productivity aspect that goes along with that.

So we have had a competitive advantage with the product based on our network and in the first half of the year, we’ve had a significant part of the advertising message for business customers pointed in that direction and we are not going to back off of that. I think that is part of what will continue to be the stand-out aspect of what this company is producing in the marketplace is a great network experience and it sets up the WiMAX discussion we think very consistently with that.

I think there is likely less seasonality associated with that because we are selling into the business to business market, which again is less seasonal than perhaps some of the other nuances of consumer markets, not that there’s not consumer individual demand for this product but I think it is much more business oriented.

I’ll let Kurt and Paul talk about some of the iDEN trends. I think I would add in there that part of what we staked out almost a year ago was the need to improve the iDEN network as a threshold in order to both deal with churn on iDEN as well as restoring confidence of the sales channels to be selling that product.

So we obviously have spent a lot of time and energy, and as we’ve talked now for two quarters, iDEN network at a macro level, at its best ever level, we’ve got to ensure that customers know about that and we’ve got some communication planned to do that and to be sure that the sales channels have confidence as a result of that.

So within that, obviously there’s iDEN trends that Paul can provide a little more information on.

Paul N. Saleh

If you look at iDEN, the churn is improving. We are benefiting from both improvement in the iDEN core business as well as the Nextel partner territory coming back down. They were over 4% churn, if you’ll recall. They are now around 3%, so that is a good improvement over the last few quarters.

We are also seeing the indirect channels, the investments that we are making starting to pay off. We are seeing still the -- you know, we have still come customers who are opting to go to the PowerSource, and that’s why when you see the total base of customers on iDEN, it reflects again some migration of customers from the iDEN core business to the PowerSource devices.

The opportunity that we will have with the relaunch of the push to talk services, particularly with QChat, and we’ll be demonstrating that next week, we are optimistic that it will just really reignite the demand for those services and we’ll see more pick up ultimately in gross adds coming from the iDEN network.

Thomas Lee - J.P. Morgan

So when is QChat, when is the contemplated timeframe for the commercial launch of QChat?

Gary D. Forsee

First quarter ’08.

Thomas Lee - J.P. Morgan

Okay, and Gary, I want to follow up on something you said about the broadband cards because I don’t think broadband cards are something that Sprint can necessarily just advertise and it’s driving sales. It strikes me that there must be inherently growing demand for broadband service and you guys are capturing a significant share. Could you tell us like -- and I know Rogers has in the past said that over half their net adds are basically BlackBerry. Are you seeing the business market shift where the primary new unit and new unit of revenue or new unit of subscribers is broadband or data service? Thanks.

Gary D. Forsee

I’m not sure I would go that far. I mean, we’ve got a lot of custom network solutions going on and campus environments where again, business customers now understand the more reliable networks that are being deployed and the ability for their campus networks to connect to those networks, applications that are again being deployed that are reflective of that.

I think it is the combination of things, Tom, where the amount of money that we have spent in our network is not reflective of a high quality experience for customers and therefore confidence to move those desktop applications into a mobile environment and the service, and our service I think in particular, as you talk anecdotally to business users, stands out.

I think we have gotten a lot of that benefit by our largest corporate users and that obviously was a strength of the former Nextel in that business, custom network space. It was a strength of former Sprint in the enterprise market on the wireline side, so this fits exactly with our IP and converged service strategy. Mark Angelino and his team are doing a great job getting that message out to our business customers. And you heard reflection that our IP service results, our wireline service are best in the industry, and our business customer service results have held up well, even through all the transition of systems that we’ve had underway.

I think it again sets us up very well to take advantage of the investments that we’ve made in EVDO-Rev A with QChat, the high performance push-to-talk that will be part of that messaging and sets us up further for WiMAX.

Thomas Lee - J.P. Morgan

Well, congratulations on a solid quarter.

Operator

Your next question comes from the line of Simon Flannery with Morgan Stanley.

Simon Flannery - Morgan Stanley

Thanks a lot. Good morning. I think you talked about in the quarter WiMAX costs being one element. If you could give us a little bit more clarity about how much that was in the quarter, and also the status of the negotiations with Clearwire. What’s the timeline there? What are the key issues?

Secondly, can you just talk about -- you talked about credit controls in terms of your gross add base. How is the sub-prime within your post-paid base and is that trending the way you want it to, given some of the macro factors? Thanks.

Gary D. Forsee

I’ll take the Clearwire. We set out a 60-day time period to negotiate the operating, the core operating agreement and so we are spending a lot of time with Clearwire to get that completed. Obviously we want to get it completed so we can make the filings to the FCC and to the DOJ.

I think as we said at the time of the announcement, we have spent a lot of time on a lot of what would have been some of the difficult terms and conditions, so we feel very good about our ability now just to do the heavy lifting, legal lifting to get that to the finished line. This obviously causes us to have to figure our operating agreements, not only WiMAX unit to Clearwire but also WiMAX unit and Clearwire back into the core Sprint because the opportunity we have to share infrastructure, share resources, and that was implied as part of the message that came about as part of that announcement.

So on track and look forward to having that wrapped up I think 60 days from mid-July, puts it out into kind of mid-September timeframe.

Paul N. Saleh

As far as the quality of the subscriber base, we’re very actually pleased with the mix that we are getting from prime customers. It’s very consistent with what we have seen in the first quarter and significantly better than last year’s mix of customer.

I think it is also reflected in the fact that our churn has improved. If you look at our bad debt experience, you’ll see that actually on a sequential basis, that also has come down. So we are very pleased with our overall positioning right now in the marketplace.

Simon Flannery - Morgan Stanley

Do you have a number on the WiMAX costs in the quarter?

Paul N. Saleh

No, we don’t. The one thing I could tell you is that the second half will be higher than it was in the first half of the year.

Gary D. Forsee

The bulk of the op-ex as the network starts to be deployed, not only for the two initial markets but for ’08 op-ex and CapEx will certainly ramp. At this point in time, the WiMAX business unit, which are people costs and the beginning of the leases associated with the op-ex and network deployment.

Paul N. Saleh

I’ll refer you to page three of our earnings, in which in the third bullet we say that the operating expenses associated with WiMAX was about $50 million in the quarter.

Simon Flannery - Morgan Stanley

Great. Thanks a lot.

Kurt Fawkes

We’ve got time for one more.

Operator

Your next question comes from the line of John Hodulik with UBS.

John Hodulik - UBS

Thanks. You guys showed some nice sequential progress in margins in the quarter and you gave some good detail to get us to those numbers. Can we look forward into the second half and give us an idea of do you expect to see continued sequential improvement, given the puts and takes discussed on the call?

And then, I guess finishing up on the PowerSource issue, Kurt, I think you said that you are subsidizing the effect of $90 per device and that that would go down. Could you give us an idea of what to expect in terms of numbers of handsets in the second half?

Lastly, are you guys going to break out that number in the second half? Thanks.

Kurt Fawkes

As far as the $90, that’s not the subsidy. That’s the incremental cost that we incur associated with that device, just to be clear on that.

John Hodulik - UBS

Okay, and you said that number was going to be falling throughout the year.

Kurt Fawkes

We would expect it would, yes, as we get scale.

John Hodulik - UBS

Even with the -- I think you are going to have a larger percentage of EVDO enabled PowerSource phones as well.

Kurt Fawkes

Right. The unit costs we are expecting to come down, so overall as we get scale. In terms of the volume on that, we had indicated previously $2 million to $3 million. It is likely to be closer to the lower end of that range for the full year in terms of devices.

The QChat has come along probably quicker than we may have anticipated six to nine months ago, so that is one factor that is playing into the ultimate volumes that we may get on PowerSource. Again, that is an interim device until we get the QChat.

Paul N. Saleh

As far as the OIBDA for the second half of the year, obviously we have some investments that are being made in our ramp up in WiMAX and care investments and the like, but again we gave you some guidance that is reflective of some of these investments. We said we would expect OIBDA to be within the range of $11 billion to $11.5 billion for the full year.

John Hodulik - UBS

Thanks.

Gary D. Forsee

All right. Thanks, everybody for joining us today on our call and please feel free to give us a call in investor relations if you have a follow-up. Thanks again, everybody.

Operator

This concludes today’s conference call. You may now disconnect.

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Source: Sprint Nextel Q2 2007 Earnings Call Transcript
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