Fourth Generation Long Term Evolution (4G LTE) is the next big thing in mobile technology. It offers download speeds roughly 10 times that of 3G and, while it isn't available everywhere just yet, it soon will be. Just as quickly as wireless carriers are upgrading their networks to allow 4G LTE, technology manufacturers are releasing technology that supports it - like Apple (AAPL)'s new iPad - and consumers are just as insistent. But, upgrading wireless networks is no small task. It takes a lot of time and a lot of money.
Sprint Nextel (S) isn't even there yet. It has plans to launch 4G LTE by mid-2012. AT&T (T) has a decent presence - it currently offers 4G LTE in 28 markets, covering 74 million people, and it is pushing to have that technology available in all its networks by the end of 2013. But some of AT&T's network areas have limited bandwidth frequency, offering users just 10 MHz. In comparison, Verizon Wireless, the joint venture between Verizon Communications (VZ) and Vodafone (VOD), is leagues ahead. It offers 20 MHz.
We suppose it should come as no surprise. After all, Verizon Wireless is the largest wireless carrier in the country, and that may be just the beginning. Verizon Wireless is looking to increase its wireless spectrum in a deal worth roughly $4 billion. Under the deal, Verizon Wireless would acquire the extra spectrum from several cable companies, including Comcast (CMCSA) and Time Warner Cable (TWC). By increasing its capacity, Verizon Wireless will be able to offer faster service and expand its 4G LTE network.
Right now, Verizon Wireless has roughly 109 million wireless customers and its 4G LTE network is in place in over 200 markets - it plans to double that figure by the end of 2012, expanding its coverage area and capacity to be able to support somewhere around 260 million people on its networks across over 400 markets, and beating out AT&T as the early mover. Deals like the wireless spectrum one mentioned above are critical to that goal and a necessity for keeping up with the market.
Verizon Wireless's aggressiveness in this realm is understandable. Not only is the demand there and is a large 4G LTE network a great way to differentiate itself from rivals like AT&T, but switching wireless carriers, while not impossible, is costly thanks to the way technology has developed.
It works like this.
When someone buys a smartphone or tablet, he or she has to choose which carrier to use because each wireless carrier uses different frequency bands. If he or she wants to switch carriers, a new phone is required - you can't just swap SIM cards. Most consumers will not be overly worried about this, given that there are usually great deals on offer for signing up with a wireless carrier and most people replace their smartphones after a couple years anyway. But, we aren't just talking about smartphones.
Think about the investment that comes with buying a tablet. A 4G LTE new iPad will set you back $629 for a 16GB model. Choose a 64GB model and you will pay $829. Remember, when you buy one, you have to decide which carrier you will use - Verizon or AT&T. That's quite the investment considering that if you choose AT&T then decide to switch to Verizon, you can't bring your iPad. When costs of adoption are this high, switching carriers becomes a rarity, something reserved for when you upgrade, so wireless carriers can basically assume that if you sign up you will be with them for as long as you own the tablet.
Given that Verizon has a 4G LTE network that is much larger than AT&T and the fact that it is slated to complete its network a full year ahead of its rival, I think that Verizon is bound to be the early leader in 4G LTE, only further increasing its already strong revenue growth. The company's revenue grew almost 8 percent over the same quarter last year - more than double its industry's average revenue growth rate of 4 percent. Verizon's earnings per share did decrease during that period, but its net income popped over 50 percent. The company also managed to boost its net cash flow by 1.44 percent. This might not sound that impressive, but consider this - on average, its peers net cash flow fell 6 percent.
Verizon is currently trading at almost $40 a share. At this level, it is priced at just over 14 times its forward earnings, which is marginally less than its peers' average forward price to earnings ratio of 15. In addition to its low pricing, Verizon also pays a $2.00 dividend (5.00% yield). The company also has some decent interest from hedge funds. Phill Gross and Robert Atchinson's Adage Capital Management had $166.27 million in the company at the end of the fourth quarter. Michael Messner's Seminole Capital and Cliff Asness' AQR Capital Management also owned significant positions in the company at the end of December 2011.
I recommend this stock as a strong buy. The metrics look good and I like where the company is headed but the play is somewhat speculative. Verizon could explode in share price or it could have expanded too quickly. Its data network is notorious for going on the fritz. Even the company itself blames the issues on "growing pains". I expect that there will be more hiccups as Verizon moves to reach its lofty goal of offering its service in over 400 markets by the end of this year, and with that there will be some volatility. Now, Verizon pays a solid dividend - that will serve to offset some price fluctuation. I think that investors buying in now will likely come out the winner over the next year, but recommend buying into a selling momentum, such as after one of these hiccups, to maximize the upside.
Rival AT&T could come up, but I doubt that play will be worth it until after the company completes its 4G LTE network upgrade - and that isn't until the end of next year. Right now, I just don't think investing in AT&T is worth the risk. It has been underperforming in a number of areas. Its revenue grew by just 3.6 percent, while others in its industry enjoyed an average revenue growth of 4 percent. Plus, its earnings per share have declined consistently over the last two years. AT&T is priced at just under $32 a share, or 12.51 times its future earnings, and it pays a $1.76 dividend (5.50% yield). I'm not sure this is quite enough to make up for its current position, let alone if it fell further.
Note: This article was written by Renee O'Farrel and edited by Meena Krishnamsetty. Meena has a long position in T and VOD.