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Executives

Amy Wakeham

Stewart Douglas Hutcheson - Chief Executive Officer, President and Director

Jerry V. Elliott - Chief Financial Officer and Executive Vice President

Analysts

Matthew Niknam - Goldman Sachs Group Inc., Research Division

Romeo A. Reyes - Jefferies & Company, Inc., Research Division

James G. Moorman - S&P Equity Research

Richard H. Prentiss - Raymond James & Associates, Inc., Research Division

James M. Ratcliffe - Barclays Capital, Research Division

Michael G. Bowen - Pacific Crest Securities, Inc., Research Division

Leap Wireless International (LEAP) Q3 2012 Earnings Call November 7, 2012 11:00 AM ET

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Third Quarter 2012 Leap Wireless International Earnings Conference Call. [Operator Instructions] I would now turn the conference over to the host for today's call, Ms. Amy Wakeham, Vice President of Investor Relations and Corporate Communications. Please go ahead.

Amy Wakeham

Thank you. Good morning, everyone, and thanks for joining us. Welcome to Leap's Third Quarter 2012 Conference Call. This call is being webcast live, and together with our earnings release and presentation are available on the Investor Relations section of our corporate website. The results and data we discuss today reflect the consolidated results of Leap, its subsidiaries and joint venture partners for the period indicated. During our call today, we will discuss certain non-GAAP measures. For a reconciliation to the most directly comparable GAAP measure, please see the notes to the financial statements in today's earnings release or review the financial reports page of our website.

I'd like to let you know that this quarter will be the last quarter in which we break out the customer results and related customer metrics of our voice and broadband services separately. As you know, broadband customers have declined over the past several quarters as we've deemphasized the product and shifted network usage to higher ARPU smartphones. We expect to discontinue broadband sales in the future as inventories decline. However, we will continue to support the ongoing customer base.

Additionally, we also do not plan to prerelease our fourth quarter customer results in early January as we've done in prior years, and instead expect to report all of our financial and operational results on our next quarterly reporting date.

As a reminder, statements about expected future events and financial results are forward-looking and subject to risks and uncertainties. Our actual results may differ. Please refer to the risk factors detailed in our SEC filings for further discussions. For anyone listening to a taped or webcast replay or reviewing a written transcript of our third quarter call, please note that all information presented is current only as of today's date, November 7, 2012. The company disclaims any duty or obligation to update any forward-looking information, whether as a result of new information, future events or otherwise.

On the call today to discuss our third quarter results are Doug Hutcheson, President and CEO; and Jerry Elliott, CFO. Following our prepared remarks, the call operator will come back on the line for Q&A.

I'd now like to turn the call over to Doug.

Stewart Douglas Hutcheson

Welcome, and thank you for joining us this morning. On our last earnings call, we spoke to you about a transition we're making in our business that we believe is essential and expect will significantly advance our strategy, strengthen our competitiveness, and improve our financial and operational performance. This transition is based on 2 elements: first, a concentrated focus on our customer experience to build on our position as a prepaid market leader; second, improving our free cash flow by making more efficient investments and taking steps to improve our cash generation.

In what has been a challenging environment, I can say that over the past quarter, we have made significant progress on both these fronts. As we stated last quarter, it is not business as usual, and that outlook continues to shape our actions. We are transforming our business to grow even with potentially fewer gross additions by building a customer experience that dramatically extends the survival of the customer.

In September, we announced sweeping enhancements to our monthly rate plans, which now include Muve Music in all Android rate plans at no additional cost. We also introduced a number of new devices such as the iPhone 5. In addition, we recently announced 4G LTE services into our second Cricket market, and we look forward to rolling out a number of additional markets in the fourth quarter. We also made progress in moving our business towards free cash flow positive, which we'll cover in greater detail later in the car -- call.

As we discussed on our last call, we expected the third quarter to be a tough quarter, and it was for both customer activity and financial results. We saw some churn pressure from our second quarter retention programs and device quality issues. However, underlying churn was similar to last year. We also saw impacts to our front door activity as a result of entry-level device pricing changes we made in the quarter.

Operationally, we saw the trend in ARPU that we expected, with increases both year-over-year and quarter-over-quarter. CCU reflects expected higher product costs, primarily as a result of increased uptake of our Muve Music service. Following the launch of our new rate plans in September, we increased our advertising primarily to position us for the holiday selling season, and you see this higher cost reflected in our CPGA results. Importantly, our subsidy on new devices sold remains similar year-over-year, with the increase in CPGA subsidy driven by a reduction in flash phones to our network and lower overall gross additions.

From a financial perspective, we saw service revenue increase year-over-year. We reported strong earnings this quarter as we closed on the Verizon spectrum transaction and recorded a substantial onetime gain associated with the spectrum we sold. This led to a significant positive earnings result for the quarter.

Let me now turn to the key initiatives we're implementing to strengthen our position. Our overall goal is to remain -- to maintain a competitive value proposition while building our customer experience. We've taken steps to improve the quality and uniformity of the customer experience across all touch points, including company stores, dealer partners and national retail, as a top company-wide initiative.

Everything we're doing is focused on strengthening our brand position and improving the experience we provide our customers. Why is this important? As the U.S. wireless industry develops, we expect the industry will follow similar trends to European wireless markets as they matured. Postpaid customers increasingly look to move to prepaid alternatives. We believe we're taking the right steps to move our business forward. However, it will take time, and we expect the transition to be complete in the coming quarters. As we move through this transition, we believe we will begin to see an attractive improvement in churn and reduction in CPGA.

As I said, we're moving our business towards free cash flow positive and continue our forward momentum. We have further adjusted our CapEx guidance for the year and are driving our cost management initiatives forward. We've also taken steps to improve our financial position, and last month completed a $400-million refinancing that extended maturities and put more cash on our balance sheet.

As we've seen across much of the wireless industry, we saw softness during the quarter on both gross and net additions. About half the decrease in our year-over-year gross additions was attributable to higher pricing on our entry-level smart devices that we sold in September, and the other half of the decrease was related to a reduction in the number of flash devices that were activated this quarter compared to prior year. These 2 issues principally drove the year-over-year decrease in gross of -- additions of approximately 100,000 customers. We also saw an increase in churn from the retention programs and device quality issues we discussed previously. This all contributed to a third quarter customer result that was tough, a negative 270,000 net additions.

Looking ahead, we expect gross additions to be lower year-over-year in the fourth quarter as we continue to move towards higher-priced devices. We believe this is the right approach as we focus on improving our financial performance and associated metrics. Additionally, year-over-year, customer activity will be impacted by our narrowed focus in national retail channels.

Turning to Slide 10, the churn story is simpler. Last quarter, we indicated that our third quarter churn results would reflect hangover from the churn pressure we faced in Q2. Changes in retention programs accounted for about 2/3 of the change in churn. The handset quality and selection issues we also discussed with you last quarter explains the other 1/3 of the change. Excluding these items, we saw a little change to our underlying churn rate, which tells us that the business fundamentals are stable.

Throughout the third quarter, we saw monthly churn improved as these issues worked through the business. The tighter control on retention activities will stay in place, although we expect some churn hangover will continue, albeit reducing over time. And as we move through the next year, we expect that churn will move towards 2011 levels in the coming quarters.

As we move into discussing our strategic initiatives, let me highlight not only is the business in transition, but we're also bringing a very tight operational focus on the activities we choose to advance. As a backdrop, one of the positive hallmarks of the company has been its track record of innovation from the launch of unlimited voice to a long series of other wireless industry firsts, to the most recently including unlimited music downloads via Muve Music to all of our Android rate plans.

Over the past few months, the leadership team has been tightening our focus significantly on all aspects: the initiatives that are considered, the resources that are deployed and the performance against our expectations. As I shared at the beginning, the company has 2 key priorities: providing an effective customer experience across every customer touch point; and second, driving for improved cash flow across the business.

What are we doing to drive an effective customer experience across all touch points? As earlier -- as discussed earlier, we introduced our new tiered data all-inclusive service plans in September, which not only give customers the ability to determine the quantity of full-speed data they need, but also includes our Muve Music service in every Android rate plan at no additional cost. These new plans also include 4G data where available.

Our initiatives to address customer service experiences began with a focus on improving our first touch point, problem resolution in our call centers. In addition, we've continued to expand self-service opportunities on both the web and phone interfaces and enhance our device activation process.

The company has 2 major customer-driven programs, that the results of both these efforts are advancing in the right direction. During the quarter, in addition to rate plan changes, we also introduced Muve version 3.0, which we believe is our best customer experience improvement to date. This has led to an expansion of our Muve customer base to over 700,000 customers, which we expect will accelerate in the coming months. The combination of all-inclusive rate plans and the latest software version show promise. We're seeing attractive, early results in our customer retention characteristics on these new plans.

We also continue to make progress on our Cricket Lifeline credit program, and now offer the discount to over 90% of our covered POPs. We expect to launch the program in a couple of additional states before end of the year. As a reminder, our Lifeline program provides a subsidized discount off of any of Cricket's value-rich rate plans, offering flexibility and choice to consumers. This is a stark contrast to free phones and free service Lifeline programs that some other carriers are offering and that have come under increased scrutiny.

We now have over 400,000 customers in the program that we've been running for more than 2.5 years, and the customer lifetime value data is impressive. Our Lifeline credit customers have a similar rate plan mix as our other customers, and we're seeing that the Lifeline credit customers stay with us longer, trending towards approximately twice the average customer lifetime value.

Lastly, we're focusing much of our compensation on improving our 3-month post-activation survival. Our experience shows that customers become significantly more stable if we can address and resolve their early activation concerns.

We believe growth remains in the prepaid no-contract sector. But it's increasingly important to stand out from the competition and not only differentiate service plan offerings, but a better customer experience and the options that make Cricket the easiest carrier to do business with. We continue to see opportunity to drive new customer growth, and the goal is to do this more profitably at the same time. We look forward to introducing better quality devices, including 2 new 4G-capable smartphones in time for the holiday selling season. We expect the average selling price of our devices to nearly double in the fourth quarter from where it was in the third quarter. We believe our customers are willing to pay for more sophisticated devices, and we're seeing the mix shift of what we sell move towards these better devices. This is good news because data shows that better devices lead to longer surviving customers. In addition, the data also shows the effect of some of the quality issues we experienced on entry-level smart devices. We expect these devices will again outperform feature phones as we move into the latter part of the year.

Let me say a few words here about the iPhone. Similar to other carriers, iPhone sales -- 4 sales in advance of the iPhone 5 launch were slower. However, we are selling all the iPhone 5s we're allocated as incremental volume, and we expect to see additional allocations as we move into the holidays.

Additionally, we're implementing 2 initiatives that we believe will help customers afford higher-priced devices. Prior to the holidays, we'll be introducing a new device financing program that will allow customers to get 90-day financing, near same as cash, or up to 1 year to pay. We're also introducing a more automated process that will allow customers to trade in old devices, wherever they're from, for an instant credit to their Cricket device purchase.

As we told you last quarter, we continue to believe that our national retail channel has a significant potential, but we have made the important pivot in our strategy to focus on a smaller set of higher volume retailers that have wireless as important part of their business. By early 2013, we expect to have about 5,000 total national retail doors, which is a tighter, more effective focus than our previous outlook. This will also significantly reduce and focus our national retail spending for the balance of the year. We are working to ensure we deliver a customer experience to national retail customers that's similar to the experience we provide to our traditional customers. One important step was taken in September, when we conformed our pricing across all of our channels as a part of our new rate plan rollout.

A national retail highlight -- high point during the quarter was our launch with RadioShack. Partnering with this type of retailer aligns all the parties in providing a quality customer experience that should result in lower-churn customers, and we're already seeing improvements in our monthly deactivation rates. This launch has been our best to date, with attractive sales and positive early results.

Turning to Slide 14 (sic) [15], we continue to make progress on our 4G LTE rollout. Across the industry, the availability of 4G to prepaid customers is rolling out as we expected, and we're well positioned to roll out additional markets and our first 4G LTE smartphones in time for the holidays. The 3G network we have across our footprint means that all our customers have access to high-speed -- a high-speed, nationwide network while we introduce 4G over the next few years on a timescale and a cost that works well for us. We recently launched 4G service in Las Vegas, and expect to introduce 4G LTE into several additional markets before Black Friday, bringing our total 4G LTE POPs to approximately 21 million by year end.

Looking forward, we're exploring opportunities to efficiently utilize our spectrum and will provide additional 4G market launch updates next quarter.

Before I turn the call over to Jerry, I want to thank all of our employees and, in particular, the teams that have supported the markets that were most affected by the weather over the past few weeks. Jerry?

Jerry V. Elliott

Thanks, Doug, and good morning, everybody. We are very much a business in the middle of a turnaround, and we continue to take both immediate and longer-term actions to generate more free cash flow.

As Doug talked about, we are focused on more profitable growth and subscribers, and if we can deliver the right customer experience, there's a big opportunity for us to take share from postpaid carriers. Just to give you some data around the opportunity we see, about 70% of U.S. households make less than $75,000 per year, and more than 80% of those households are using a postpaid carrier, and therefore paying significantly more than they should. We have a long way to go in order to capitalize on this very large upside, but there are some early signs of progress.

I'm going to go through the financial slides next pretty quickly because I'd like to get to the Q&A. And frankly, I'm much more focused on what's going to happen in the future rather than what's happened in the past.

On Slide 17, as we talked about last quarter, we will press with alacrity both revenue and cost opportunities to drive free cash flow. Cash CapEx for the third quarter was $106 million. And with our revised 2012 CapEx guidance, we are expecting CapEx in the fourth quarter to be between $80 million and $100 million compared to $152 million in the fourth quarter of last year.

On Slide 18, you can see in the third quarter ARPU increased nearly $0.70 year-over-year. We continue to see increases on our ARPU as the mix of customers shifts toward higher value rate plans. In the third quarter, 50% of our customers were on a $50 or a higher rate plan, compared to 33% a year ago. Going forward, we expect that ARPU will remain around third quarter levels, although we may see quarterly fluctuations driven by the seasonal nature of the prepaid business, as well as changes in our smartphone mix.

On Slide 19, you can see the cash cost per user increased over last year, primarily because of the inclusion of Muve Music in all our Android rate plans and increases in roaming usage. We expect cash cost per user to increase slightly in the fourth quarter as more of our customers become users of Muve Music.

On Slide 20, CPGA increased year-over-year, primarily because of lower gross adds and the higher marketing costs that Doug talked about.

On to Slide 21. We continue to move toward profitability and have further reduced our CapEx spending for the year to a range of $450 million to $470 million, and we are very carefully evaluating our future CapEx plans.

Our 2012 CapEx reductions are possible because of fewer customers and associated lower-than-expected usage. And so therefore, we reduced network capacity spending. We also eliminated many capital projects and refocused our spending to only those projects that drive the greatest return and provide the most benefit to our customer experience. In addition, we've incurred lower-than-expected costs associated with our LTE market deployments for this year.

For 2013, we're expecting our capital spending to be about 10% of service revenues before any spending for LTE. And we'll refine that number as we develop the ways in which we're going to provide 4G LTE services to our customers. To give you some context for our 2013 capital spending, in 2012, our non-LTE CapEx will be around $335 million.

I want to assure everyone that our lower capital spending is not just a cost-cutting exercise. We are also evaluating our spending through the eyes of our customers and their experience on our network.

I continue to see significant opportunities for further revenue growth, as well as operating cost and CapEx improvements. We are being more disciplined on all elements of CPGA and are digging deeply into ways to manage our network costs. We are reducing our real estate costs and many other non-revenue-producing opportunities. Our focus is on demanding higher IRRs and returns on our OpEx and CapEx investments and tougher rigor as we continue to drive towards operational improvements, so that we can drive free cash flow as well as return to growth over time.

On Slide 22, pro forma for the proceeds from our October refinancing, we have almost $700 million of cash, and we continue to plan to fund our next debt maturity of $250 million in July of 2014 through our cash on hand and to de-lever by generating free cash flow.

On Slide 23, we have, as we've talked about, a very valuable spectrum asset worth almost $3 billion. And we continue to evaluate all of our options and alternatives to ensure that we're driving higher returns and value from all of our current assets and cash investments.

Let me take you through our spectrum profile so that you have a full picture and to, hopefully, clear up any misunderstandings or assumptions about our spectrum position. We own wireless licenses covering 137 million people. Our holdings are primarily AWS and PCS with a small portion of 700 megahertz. In the markets we operate in, we have on average about 23 megahertz of spectrum depth. We own 2.2 billion megahertz POPs of spectrum, and our utilization of spectrum is about 40%.

I want to close my part of the presentation by reemphasizing to all our employees, vendors, business partners, analysts and investors that we are completely focused on creating shareholder value. We believe we'll create value by investing for growth in ways that have the highest and most probable returns on investment, while at the same time being focused, rigorous, disciplined and critical of how we spend our time and money. Whether it's capital or operating expenses, it's all cash. All of our time and money investments and activities have to be judged by cash on cash returns, and it's not business as usual here.

Stewart Douglas Hutcheson

Before we take your questions, there's obviously been a lot of strategic activity in our industry over the past quarter, and I'd like to address some of the questions I've been asked in recent weeks, such as: Where do these transactions leave Leap? How can we compete given the additional scale of some of our competitors? What role, if any, would we play in industry consolidation? And what options are we currently reviewing?

In answer to those questions, let me say we continue to believe that Leap is a strong and attractive business which has a continued opportunity to be very successful. We have a large customer base, some unique offerings, a dedicated group of employees, and we're a leading low-cost provider. In addition, we have some very valuable assets, including our spectrum holdings, that contribute not only to our business, but are complementary in a number of potential partnerships. And while we don't comment on rumors or speculation, as we said in our last call, we will continue to look at all options to improve free cash flow and margins, drive stronger business performance, and optimize our assets and deliver value to shareholders.

We anticipate there may be further consolidation in the industry. And while it's not possible to predict how or if we will participate, I can assure you that we will act on behalf of shareholders should an appropriate opportunity develop. At the same time, we will continue to drive our business forward, keep all of our employees, dealer partners and suppliers focused so that we can leverage our position as a low-cost leader in wireless to provide excellent value to our customers and improve value to our shareholders. I'd now like to turn the call over to the operator for the Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] And the first question is from the line of Matthew Niknam from Goldman Sachs.

Matthew Niknam - Goldman Sachs Group Inc., Research Division

My question is on profitability and cash flow. Lowered CapEx spend helped you offset some of the cash flow hit from slower revenue growth and pressure to EBITDA this quarter. But as you look forward, how important is reacceleration in revenue growth? And do you feel there's enough organic cost cutting opportunity to support margin expansion in the absence of more significant top line growth?

Jerry V. Elliott

Yes, definitely, we believe there's plenty more opportunity to go on the operating expense side. If you think about how CapEx -- you're right; you get the immediate free cash flow impact but you have to spend more in order to grow more in the future. We don't think so. Certainly, we have taken a very, very hard look at all of the spending we've had in flight during the course of the year and now rolling into 2013. We believe that the 10% of service revenue that I mentioned still allows for a reasonable amount of growth. And frankly, we've eliminated a lot of stuff that just didn't produce adequate returns. And so we certainly have not hit the end point on what we can do in terms of both the operating expense and capital expense. There's still a long way to go there. But as we think about the future, as I mentioned, we spend a lot of time worrying about: What are we doing with the customer experience? How are we affecting the network? How are we affecting the user's experience on the network? So I'm not saying we're going to get it right in every single instance, but it's not just cost-cutting. There is a view toward the service we provide, the customer's experience on the network as well as growth.

Matthew Niknam - Goldman Sachs Group Inc., Research Division

And just a quick follow-up on CPGA. You talked about ASPs doubling sequentially, potentially, in the fourth quarter. Just -- so far to date, what's been the customer response? Have you seen a more -- a bigger slowdown, I guess, in door swings relative to what you saw in third quarter because of this?

Jerry V. Elliott

Well, whenever you raise prices, you're -- there's obviously volume implications. So we and, I think, the rest of the industry are focused on net ads. And so that's a combination, obviously, of gross adds, as well as significantly reducing our churn. We have demonstrated over and over again that higher handset prices lead to much better churn. So yes, while we're in that time frame that's a little scary in the sense that you raise the prices, you immediately see the impact on gross additions, and then you have to wait 3 or 4 months to see the benefits on the churn side. Every single data point that you can look at says that, yes, in fact, that's what happens and is happening now. And so therefore, you end up with better net additions over time even though you take that immediate hit on the gross additions.

Stewart Douglas Hutcheson

One of the things that we shared with you today was the 3-month survival characteristics of the different devices. And you can see that as you get into the better devices that you take -- you see quite a bit of benefit. The other piece is we do have some programs that we're introducing that will -- ahead of the Black Friday -- ahead of Black Friday. We won't get into a lot of details here, but we have arranged to work with some third parties to provide some alternatives to help some customers, depending on their qualifications, to help buy down that upfront cost of the device or also used devices. As the general quality of devices has improved in the market, the residual value of those devices has improved as well. And we've got some programs that we're rolling out that will allow them to more easily use that to help mitigate that price. So I want to emphasize, there is a -- you take aside the variability in churn that we've seen in this quarter that we talked about last quarter, we still think that there's some benefit on these programs that we can get our floor churn to drop as well.

Operator

The next question is from the line of Romeo Reyes with Jefferies.

Romeo A. Reyes - Jefferies & Company, Inc., Research Division

A couple of quick questions. On the iPhone sales, is there any way that you might be able to give us a sense of how many iPhones you sold in the quarter? I know that it was modest because people were waiting for the iPhone 5. But I mean the -- any type of numbers you could give us, that would be helpful. And then the second question with respect to the unused spectrum, I think, it's a startling a number that you have 60% of your spectrum is not being used in your markets. And you -- I guess, in the last couple of months, couple of quarters, you've been able to sell some spectrum. Are there any other possibilities with respect to selling some of the unused spectrum? And as you look at kind of rolling out LTEs, is the unused spectrum going to be 50%, 40%? What -- how much after you roll out LTE, would you have still -- able to sell? And then the last question. On consumer financing, is there anything else that you can give us here, Doug? It seems like the equipment subsidy was, like, about $150 million for this quarter and about $500 million year-to-date. Any additional color on that would be helpful.

Jerry V. Elliott

I can take some -- a couple of these. On the financing, we're not going to get into a lot of details there, to be honest with you. It's provided by a third party, so we're not taking any credit risk on those. We'll let the results speak for themselves when we post our fourth quarter numbers. On the iPhone, yes, we're not going to give specific numbers for a couple of reasons. One is, it was the 5, we only sold for, I think, 2 or 3 days actually in the quarter, as well as we're on allocation like almost everybody else in terms of how much we can sell. So we're selling everything we get without a problem, but until the funnel loosens up a little bit, sales of the 5 will continue to be modest. And I just want to add also is that the 5 -- the volume on the 5 has been all incremental to the 4 and the 4S. We're still running relatively steady volumes on the 4 and the 4S.

Stewart Douglas Hutcheson

And on the spectrum, the company had nearly 200 million POPs, footprint-wise, about 2 [ph] years ago. And what we reported today, you've seen that, that number has come down. What has also happened is that we've increased the depth of spectrum in our markets. If you go back a couple of years ago, we were on an average depth in the markets of around, I think, it was around 18 megahertz per covered POP, roughly, approximately, and that's now moved up to 23 megahertz. And in particular, we've been able to consistently trade into spectrum in our better markets where we would need more spectrum over time, so the -- that movement of out of a larger footprint into a deeper footprint in our markets has been done. I think we've announced 3 or 4 different transactions. Those transactions have been done at a quite substantial gain. An example is in this quarter, we're booking a $100-some-million gain on a transaction we've talked about now, the Verizon spectrum swap. And so it demonstrates the value of the spectrum position that we have. As we think about how we're going to use the spectrum, one of the things that we've been discussing is that we have spectrum available to do LTE. I think we're trying to clearly demonstrate that, that the way we've managed our spectrum position and our networks. We've been thoughtful about this. And whether we use that to build LTE, which we will in some cases, or partner with others or sell is something that we'll update you guys as we make more progress.

Romeo A. Reyes - Jefferies & Company, Inc., Research Division

And then, Jerry, if I may ask one follow-up on the CapEx. You talked about 10% now. I think that number used to be like mid-teens. Where have you been able to cut CapEx for the core maintenance level?

Jerry V. Elliott

Yes, it's really come from 3 or 4 different places, Romeo. It's -- first is, again, the lower subscriber base and the lower associated usage has allowed us to cut a fair amount of the 3G spending out. Secondly is, as I mentioned earlier, there was just an awful lot of money being spent that, frankly, shouldn't have been being spent. And there -- they were interesting, nice to have projects, but they were not generating adequate returns on those investments. And so we've tried to be a lot more rigorous about how we're spending our money, so. And then the third area is the LTE spending we did for the market launches this year did come in underneath what we had originally expected. But in terms of the go-forward 10%, again, I just want to reemphasize, it's not just about cost cutting. We really spend a lot of time worrying about the customer experience on the network, as well as the return to growth over time. So it comes, as these things always do, from a bunch of individual projects that add up. There's no one giant bucket of stuff that you can just take out, but it has to really be managed on a day-to-day-to-day basis. And frankly, I've always thought this industry spent way too much capital across the board. But if you look at other places I've been, we've done a lot better than that. So I think it's not been an efficient industry in terms of capital spend. And I think the industry and, certainly, we are doing -- or we can do a lot better than the mid-teens.

Operator

The next question is from the line of James Moorman with S&P Capital IQ.

James G. Moorman - S&P Equity Research

Sorry about that. I wonder if -- thanks for the information in terms of the Lifeline customers, but if you can just give a little bit more detail? It sounds like you're not seeing much of an impact and that things are going well, but yet we're hearing from other service providers, they're expecting a little bit of a pullback due to the changes that are going on. If you could just give us a little bit more color on that.

Stewart Douglas Hutcheson

Sure. You have to start with what our program is, which a number of the programs and -- had been a very, very low cost phone, frequently free, and then a service plan that you could use it for 1 month or 2, and then the subsidy from the government would actually continue to accrue whether or not the consumer used the phone anymore for some finite time period. And for us, we've mentioned a couple of times, we're not in the business of doing free service and free phones. We sell things. And we modeled our program substantially different where we provide a subsidized discount of the rate plan. And every month, the customer has to come back to us and pay that next month of service, unlike some of the other programs where you're in for a finite time period and then periodically, you -- we go -- you go through a recertification process that leads to some drama, potentially, for those customers that haven't been using the service. With that said, the regulations that are out there that were recently put in place in the last 6 months or so have, across all carriers, put in a periodic recertification process to ensure that the consumer is eligible for the discount. And we, too, will go through those certification processes. And I would imagine we will have customers that will fall in and out of that certification process. In our case, we're not clear whether that means they lose their subsidy or we lose them as a customer. We think some indicators that we have say that they may lose the subsidy but a substantial number of them may continue as customers, and that's something that we see ahead that we have to manage. But we do have some characteristics of our program that should reduce some of the fallout that would come along with that. In the meantime, we've got a much -- these are customers that tend towards being financially more troubled and fall into the category of some of our more difficult customers to keep them stable and create value, extended value off of them. And they're in a much more stable characteristic, and we've been at this 2.5 years, and they generate a lot more lifetime value for us. So it's worth the process of trying to go through the recertification process and continuing to maximize the value out of these customers.

Operator

The next question is from the line of Ric Prentiss with Raymond James.

Richard H. Prentiss - Raymond James & Associates, Inc., Research Division

First, can you update us on the Sprint dispute? I think it was talked about last quarter, and I apologize. It's been a busy day, so I haven't had a chance to read through all the documents, but any update on the Sprint dispute? And second, how do you guys book the subsidy that you get on the Lifeline program? Is it showing up in ARPU, I assume? Are there any delays and lag in receiving that?

Jerry V. Elliott

Hey, Ric, this is Jerry. The quick question on the Lifeline is, yes, there's a little bit of a lag on when we actually get the money, a couple of months, but not a big deal obviously. It's just a timing question. On the Sprint issue, as we talked about last quarter, we view it really as kind of a normal course commercial dispute that, as you know, all carriers in this industry go through every day. And it's continuing to work through the normal process, and we continue to pay Sprint a significant amount of money for roaming and our out-of-footprint business. And so the relationship overall there is quite good, and we'll certainly keep folks updated as any major things develop. But from my perspective, it's kind of normal course of business.

Richard H. Prentiss - Raymond James & Associates, Inc., Research Division

Okay. And then can you talk a little bit about the handset lineup? I know you don't want to give away too much with Black Friday coming, but as you think about LTE being up to 21 million POPs, how many LTE devices should we think about? What's the kind of pricing you're seeing to you on those devices? And is voice over LTE anything important in the short term?

Stewart Douglas Hutcheson

Well, I'll start on the last pieces. Over time, the industry will move to voice over LTE. And we see some carriers that are doing that earlier. A lot of that is to help manage spectrum. We think the efficient time period for us is still out a couple of years. So you'll see us start talking about that as we continue to advance in the next year or 2. But that isn't something that you'll see us addressing in any of the near-term handset launches that we'll be doing. I think our handset lineup will have a total of 6 or 7 new devices that are coming in that -- in the second half of the year. Most -- not all of those, but most of those are in the mid-tier and higher-tier smart devices. And that has been that we've just gotten repeated evidence and data points that said customers are really -- have become much more device-centric in their purchases, and we would expect that to continue. And frankly, some of the new devices, the performance is outstanding. We will have 2 LG -- or LTE-capable 4G handsets that we'll be selling. We'll sell those across all of our footprint. I think you've heard some of the other carriers highlight that the uptake of 4G handsets has been pretty strong across all of their footprints, whether or not 4G was available. So we'll sell those not only in our markets that we have launched with LTE but in the other markets. And then, of course, the 5 -- the iPhone 5 is also capable, but we won't -- that won't operate on LTE in our existing markets right now.

Operator

The next question is from the line of James Ratcliffe with Barclays.

James M. Ratcliffe - Barclays Capital, Research Division

Two, if I could. First of all, on the spectrum side, you mentioned 60% of the spectrum in your operating markets is unused. It also looks like you're operating in about 70% of your spectrum footprint. Does that, therefore, imply that only about 60% of your overall spectrum is unused? So should we read it through that way? And secondly, when we think about markets you might choose or choose not to operate in, how do you think about the cost of shutting down network operations in a market, in terms of exit -- exiting tower leases? And how much flexibility do you have if your markets where you decide you currently are facilities-based, but it doesn't make sense to be facilities-based?

Jerry V. Elliott

James, in terms of the -- what percentage is not used, we've got spectrum covering 137 million POPs. We operate covering about 95 million POPs. We said out of those 95 million, about 40% of the spectrum is utilized over those -- across those 95 million POPs. So that's the math on that. In terms of how do we think about utilizing the capacity, I think we've tried to be as clear as we possibly can that we're looking at all possible options for how to best capitalize and monetize the unused spectrum in those markets. And that's -- that includes everything from building 4G if it provides the right level of returns to us, to joint venturing, to network sharing, to spectrum sales. So everything, as we talked about on our last call, is being evaluated. In terms of how do we think about whether we might want to decommission a network, it's a math exercise. I mean, what kind of return and how quickly do you get that return by rip and replace on a network, or in terms of if somebody else is operating the network. It's -- to me, it's not that complicated. It's really a math exercise on: What kind of return do you generate on a cash-on-cash basis? And how probable is that return?

James M. Ratcliffe - Barclays Capital, Research Division

And just to follow-up on that, one of your counterparts, PCS, noted given the rapid cycle out of their handsets, it's easier to integrate. Can you give us an idea of just how many -- what portion of handsets that are on the network on say, January 1, typically will not be on the network at the end of the year, including churn, upgrades, et cetera?

Stewart Douglas Hutcheson

I don't know that -- we can do that as a follow-up. We give you the percent each quarter of the base that upgrades. This quarter it was about 9%, as an example, and we lay that out every quarter. And then you have the churn characteristics. And so I think we can help you with that on a follow-up phone call. We can help you get a little bit more information on it. There is meaningful handset turnover. Although, I want to flag that the chart that we included this time that showed the survival rate of devices, that handset turnover tends towards being higher, much higher, on lower-priced devices. As you get into the higher-priced, better-quality devices, that slows down quite a bit. And so as we give that data historically, we're looking at the data prospectively and thinking that there may be some velocity reduction on the rate of handset turnover potentially on the ones that we sell.

Operator

The next question is from the line of Michael Bowen with Pacific Crest.

Michael G. Bowen - Pacific Crest Securities, Inc., Research Division

Just wanted to get a little bit of your thoughts now on -- and I apologize, it's -- there have been a lot of calls going on this morning, so if I missed this, I apologize. But can you give us a little bit of your thoughts on net subscribers going forward, kind of the rate of improvement and whether you see any particular seasonality that might be different than what we've seen in the past?

Jerry V. Elliott

No, I don't mean -- I don't think there's any reason to think seasonality in the prepaid business is going to change. I mean, if you look at others in the prepaid sector, it's pretty consistent year-over-year-over-year in terms of the seasonality. We talked about earlier, on the net subscribers, that the industry and certainly us have -- it's changed from a gross adds industry to a net adds industry. There's no question about it. And we have to significantly improve our churn. As we talked about, Doug went through a number of different actions we're taking to try and do that. One of those is higher handset pricing, so that's going to have some effect on gross add volume. But the economic model, the investment thesis in this industry is net adds. And so that's what we're focused on.

Operator

Ladies and gentlemen, that does conclude our allotted time for questions today. I will now pass the call back to Ms. Wakeham for closing remarks.

Amy Wakeham

Thanks, everyone, for joining us this morning. We look forward to updating you on our progress at our next quarterly conference call. If you've got any further questions or need clarification, please direct your inquiries to Investor Relations. Operator?

Operator

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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