Leap Wireless (LEAP) Takes an Expensive Leap by Selling Apple's (AAPL) iPhone

Shares of Leap Wireless (LEAP: Charts, News) went on a wild ride at the end of last week, after the company became the first prepaid wireless provider to carry Apple's (AAPL: Charts, News) iPhone.

Investors were initially excited by the news, causing shares to rally past $6 per share, but then pessimism regarding iPhone subsidies dragged shares down again by Friday. On Thursday, Leap stated that its new contract with Apple would cost an estimated $900 million over the next three years - more than double its small market cap of $411 million. Analysts voiced concerns that Leap's deal would hurt the company's margins and profitability from smartphone sales, which would further weaken the company after weak first quarter earnings. BMO Capital Markets downgraded Leap from "market perform" to "underperform".

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Leap was once considered one of the strongest growth stocks in the market, trading at $95 per share in July 2007. Since then, Leap has been besieged by low-cost competitors. The increasing dominance of AT&T (T: Charts, News) and Verizon (VZ: Charts, News) has also marginalized the company's presence.

Leap intends to sell the prepaid 16 GB iPhone 4S for $500, far higher than the average $200 price tag offered by its contract-based rivals. The company will also offer the 8 GB iPhone 4 for $400. In exchange for the higher initial payment, Leap customers will pay lower monthly fees without any contractual obligations. While Leap has high hopes for the iPhone, pessimists believe that the company will have trouble increasing sales volume enough to avoid margin compression in the coming year. The high initial price could turn off potential customers, and a smartphone might not appeal to Leap's traditional user base of "no-frills" handsets. Apple's heavy subsidies have also hurt wireless providers, such as AT&T and Verizon, in the past.

AT&T took a costly hit during its fourth quarter due to hefty iPhone subsidies. Analysts believe what injured AT&T could likely kill Leap. It is estimated that Apple will take $150 from Leap for each $500 iPhone sold. Leap is scheduled to start selling the iPhone of June 22, offering unlimited plans for $55 per month. This has alarmed some analysts, who believe that the increased usage of these unlimited plans could impact margins as data usage outpaces available bandwidth. All the major wireless providers - AT&T, Verizon and Sprint - have faced this costly dilemma over the past five years.

AT&T CEO Randall Stephenson has taken note of Leap's ambitious and costly plans, and that it would offer his company valuable insight into demand for a prepaid, non-contract iPhone. "Moving the entry point by $100 has a dramatic effect on demand," Stephenson stated. "We are going to watch it. It's an interesting model."

Leap's deal with Apple reminded many investors of Sprint's (S: Charts, News) $15.5 billion, four-year commitment to sell the iPhone. Both Leap and Sprint have made outsized bets to tie their fates to the iPhone. However, there are no guarantees that Apple will still dominate the smartphone arena after three to four years. With the rise of Android handset makers, most notably Apple's nemesis Samsung, the future is uncertain for the slippery market of fickle smartphone users. If the iPhone's market share declines during this time, then Leap could be left holding the bag with a very large bill to pay off.

Leap is trading near the bottom of its 52-week range of $4.68 to $17.13. Shares are down nearly 70% over the past 12 months.

Other News About LEAP
Leap commits $900M over three years to Apple for iPhone Is the company looking before it leaps?
Leap Wireless to sell iPhone starting June 22 Leap sets a release date for its prepaid iPhone.

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Published on Jun 4, 2012
By Leo Sun
Leo Sun
Leo Sun is a freelance finance writer and position trader. He focuses on a combination of value and momentum investing, with a strong interest in the trading philosophies of Warren Buffett and Peter Lynch. Leo also has experience writing articles to help small business owners acquire loans and manage their finances. He regularly contributes to the Stock of the Day analysis.

Copyrighted 2020. Content published with author's permission.

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