Sprint's Hulu Gamble Worked - But Then They Didn't Claim Their Winnings

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About: Sprint Corporation (S), Includes: AMZN, CMCSA, DIS, FOX, FOXA, NFLX, SFTBY, T
by: Max Greve

Summary

Hulu is accelerating its growth substantially, which is bullish for its co-owners.

Sprint's decision to subsidize accounts is likely partially responsible for this surge.

The deal is probably benefitting Sprint as well, since Hulu is a cheaper lure than the $50-90 discounts it offers new customers.

However, the merger has caused Sprint to veer away from deepening the partnership, which is hurting both companies but especially Sprint.

In recent months, bundling video content has become something of a trend among wireless carriers. Not surprising since their wireline counterparts have been bundling video and broadband for decades and they are all converging into a single, connectivity industry.

In mid-November, we started to hear the building rumors that Sprint (S) was about to join the party by incorporating Hulu into its Unlimited Freedom accounts. After it did just that, though, the Street seemed to forget about it. None of the analysts in the last two earnings calls have even mentioned it, and Sprint makes few references to it in its own materials, including its official 10-Q submissions to the SEC.

But I think the fortunes of the bundle are significant, as it represents Sprint's first real foray into video, which seems to be the next frontier for wireless. In this article, I will attempt to bring readers up to speed and offer some early analysis of the deal.

Sprint Settled For Seconds?

While Verizon (VZ) continues to slowly dip its toes into the water, the others are moving more rapidly. Hands down, the biggest industry bet on video content is, of course, AT&T's (T) ongoing effort to merge with TimeWarner (TWX), but T-Mobile's (NASDAQ:TMUS) deal with Netflix (NFLX) to bundle a family video plan (two streams) with any family wireless plan was also rather bold.

Comparatively, Sprint arrived late, and when it did, it had to settle for Hulu, the third-highest video service in the US and trailing well behind Netflix and even Amazon Prime (AMZN) as well. So the first question is, is Hulu a real partner for Sprint who can help raise its profile in video? And the second is, can Sprint make this deal financially viable?

Turns Out, Maybe Not

On the first front, the news seems rather good, although that's probably more cause for celebration for Comcast's (CMCSA) NBCUniversal, Fox (FOX) (FOXA), and Disney (DIS) than it is Sprint's owner SoftBank (OTCPK:SFTBY).

After a prolonged period of radio silence, Hulu updated its subscriber numbers for the first time since mid-2016 in January, and the news was rather auspicious: Hulu was at 17M subscribers. That represented a roughly 42% growth in eighteen months, give or take.

But after taking that long to grow by 5 million subscribers, Hulu then made a whole new set of waves announcing in May that it had hit 20 million - a further rise of 3 million in just one quarter.

That can't all be ascribed to Sprint, of course. Hulu also launched Handmaid's Tale and signed various licensing deals over that time frame. So, it has a lot of avenues of growth. But it seems likely that having Sprint offer to pick up the $8 tab at no cost to roughly one-sixth of the market played at least some significant role.

A Cheaper Way To Get Customers

That last is good news for Sprint, as well. It suggests that its customers do see substantial value in what Sprint is offering, and that means it can retain subscribers at a substantially cheaper cost than the $50-90 discounts it has been offering to attract new subscribers.

Of course, it also means Sprint's margins on those subscribers contracts a little but given the high fixed-cost nature of wireless service that is relatively small potatoes. As much as 80% of Sprint's $60 for one line and $100 for two lines goes to the bottom line.

Despite this, there is one aspect of the deal that has proven disappointing to me as a Sprint investor, and since the merger announcement, management has not appeared very interested in addressing it, since their focus is now elsewhere.

Puzzlingly, Sprint has not shown much interest in moving beyond being a bundler to being a true platform, someplace where it can upsell and create new opportunities for its partner and itself. Hulu offers a Commercial-Free option, discounted premium channel subscriptions, and a live Pay-TV service. These are natural places for Sprint to try to recoup some of its bundle costs by helping Hulu to market in an increasingly crowded field, but so far little has been even attempted, let alone successfully completed.

A Flat No, But Why?

The Commercial-Free element is, to my mind, the most egregious. T-Mobile, a far more consumer-friendly carrier which trades on that reputation every day, made no bones about offering the chance to upgrade their Netflix offer to the 4K version for only the difference in cost. In other words, if T-Mobile pays $11 for the free HD plan, it will pay the same $11 for the $14 4K plan and customers only pay the $3.

Sprint's official press release announcing the new partnership didn't specify with regard to upgrading and whether the $8 credit would still apply. One would think it would, however, it turns out not. If I had to guess, I'd say this is because Hulu has been running a special $5.99 a month introductory offer only on its ad-supported service. If Sprint, which after all has substantial financial commitments, is looking to maximize its value per dollar, it may well have insisted on this introductory rate as its own compensation base.

In which case, offering an upgrade would increase its price from $6 to $8 since the $2 discount is not available for the No-Commercials option. Perhaps Sprint didn't think it is worthwhile to eat that extra $2 per month per account, although I have to say I'd question that logic. Disappointing $100 a month customers over a $2 difference does not strike me as sound business.

Stalled On Live

Sprint's own statement made it clear it was working on offering an upgrade to Hulu Live, so that's something, at least. However, it is now six months since the announcement, and nothing more has come of it. Hulu Live is a $40 per month plan with two $15 service upgrades and several premium cable network upgrade options as well. If Sprint could make any meaningful contribution to marketing and broadening that plan, one would have to think the potential spoils in a revenue-share agreement would be substantial.

Perhaps the merger is to blame here, as well. T-Mobile already has plans to launch its own TV service, and marketing for a competitor might not be high on its to-do list. I can't say for certain whether Sprint management has been asked by their soon-to-be colleagues to lay off any further Hulu collaboration, but if so, it is unquestionably hurting Sprint's current shareholders who are missing out on what appears to have the potential to be a very fruitful partnership if Hulu's growth post-bundling is anything to go by.

Summary

Hulu is definitely accelerating in the highly competitive streaming-space. That's unqualified good news for its owners. It should be good news for Sprint as well, but the reluctance to dive further into the relationship is leaving Sprint with an obligation to foot its customers Hulu bills without exploiting chances to recoup some of those costs by upselling. I consider the Hulu experiment to be a success, but currently, it is a very stunted one.

Investment Recommendations

If the merger is blocked, Sprint should devote fresh energy to this partnership. I believe it does have the potential to help Sprint acquire more customers at lower cost than its existing basement-pricing strategy. I consider Sprint a buy at the low-$5s simply because even a merger should yield a price in the mid-to-high $5s depending on T-Mobile's price. I am also bullish on T-Mobile itself, especially if it can get Sprint at such a discount. Verizon, I consider a Hold.

Hulu's success will come at the expense of traditional-TV, not its streaming rivals, in my opinion. Therefore, I remain long on Netflix and Amazon despite its surge. AT&T, Comcast, and Disney are all stocks I would stay away from, for the common reason of exposure to the declining Pay-TV space as well as other reasons unique to each company, which I've documented in my other articles.

Disclosure: I am/we are long S.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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