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Can Nextel Strike Up the Band?


MAY 17, 2004
STREET WISE
By Olga Kharif

Can Nextel Strike Up the Band?
The wireless spectrum it needs may carry a high price -- and what it gets might not be what it wants. Dismal prospects? Maybe not


In the past month, investors have soured on Nextel (NXTL ), the nation's fifth-largest wireless company with 13 million subscribers. The service provider's first-quarter subscriber numbers, released Apr. 22, missed expectations, and analysts have been fretting about the outfit's plans to purchase and swap additional network spectrum.
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Nextel's problem is that it uses the same frequencies as police and fire departments. All parties suffer from interference, so the Federal Communications Commission (FCC) has been trying for several years to relocate part of Nextel's service to a different wireless spectrum. When that happens, analysts figure Nextel could build a superfast network similar to those being constructed by rivals like Verizon Wireless (VZ ), the No. 1 U.S. wireless company.

In April, Verizon rattled investors by saying it thinks the spectrum for which Nextel is planning to pay around $2 billion is actually worth more like $5 billion. Nextel's shares, which have fallen 6% over the past month, to around $24, declined as investors pondered the possibility that the outfit would have to pay substantially more. On May 13, FCC Chairman Michael Powell said he hopes the agency can decide the issue by the end of the month.

BIDDING WAR? The possibility of a resolution has some on the Street bullish about Nextel. Robert Straus, portfolio manager of the $56 million Icon Telecommunications & Utilities fund, figures Nextel's stock is worth nearly $34 -- around 40% above current levels. Michael Mahoney, senior portfolio manager of the $110 million EGM Capital wireless fund, has been buying Nextel, which now accounts for 2.3% of the fund's holdings.

The FCC is anxious to solve the spectrum problem because of its potential impact on public safety, notes Thomas Watts, an analyst with S.G. Cowen in New York. And the National Association of Broadcasters (NAB), a powerful lobbying group that represents TV and radio stations, is on Nextel's side. On May 3, Nextel announced it would pay TV broadcasters $512 million to free up the spectrum it hopes to receive from the FCC.

Yet the negotiations are complicated. While Nextel is asking for spectrum in the 1.9 gigahertz range, there is a chance that it might instead receive 2.1 gigahertz spectrum, which requires more expensive wireless gear. On May 11, Nextel reiterated that it would not even consider the 2.1G spectrum. "It's really not an acceptable alternative," says Paul Saleh, Nextel's CFO. But that refusal may be more of a bargaining position, some analysts figure. As Mahoney notes, any spectrum would help Nextel build a better network and make it more competitive over the long term.

Even if Nextel ends up with the spectrum it wants, the eventual cost may be higher than it would like if Washington decides that an auction is needed, some analysts say. A price of between $3 billion and $3.5 billion for the spectrum is likely priced into the shares, says Greg Gorbatenko, an analyst with Marquis Investment Research in Chicago, who has a hold rating on the stock.

INDUSTRY LEADER. If the auction scenario were to play out, Nextel could afford the higher price tag. Although it carried $10.3 billion in long-term debt as of Mar. 31, some of which it plans to retire this quarter, Nextel ended the last quarter with $2.7 billion in cash and short-term investments. This year should see some $1.8 billion in free cash flow, followed by a further $1.7 billion in 2005, according to estimates by S.G. Cowen. Nextel also boasts an untapped $1.2 billion credit line, and debt markets would likely cough up more funding, says Watts.

Another plus: Operating performance remains impressive. In this year's first quarter, Nextel added 474,000 subscribers -- about 15% of the overall industry's total gains in that period. As Saleh sees it, that growth indicates that Nextel is gaining market share. True, the figure came in below analysts' expectations, but Nextel still raised guidance for full-year subscriber additions by 100,000, to 1.9 million. Despite the vicious price-cutting that the industry is witnessing, Nextel's income jumped 184%, to $591 million, on revenues that were up 31% to $3.1 billion in the quarter.

Those upgraded subscriber-growth figures are probably achievable. For one thing, Nextel's push-to-talk feature, which allows users to connect instantly with other Nextel users at the click of a button, still has no rivals. Similar services from other carriers like Verizon Wireless continue to suffer delays of up to five seconds before calls can be patched through. On May 4, Nextel began offering the service internationally, and other new services are on the way domestically. In the next few weeks, Nextel plans to launch several new handsets featuring popular built-in cameras and sleek, small designs, says Saleh. And its prepaid service, a division called Boost Mobile, is ramping up. Aimed at young subscribers and ethnic groups, it added 132,000 customers in the first quarter, on top of 385,000 in all of 2003.

LESS EFFICIENT NETWORKS. For investors, there are risks, however. If the FCC were to put too high a price on the spectrum Nextel needs, its share price could take a hit, says Todd Rethemeier, an analyst with Sur Terre Research-Soleil, who has a sell rating on the stock. Also, Nextel's capital expenditures are creeping up at a faster pace than those of rivals, says Gorbatenko -- partly because Nextel's networks are simply less efficient. Analysts see that as an indication of the service provider's need to make more upgrades. But Nextel's Saleh argues that the upgrades don't necessarily have to be expensive, contending that "on our own, Nextel has ample spectrum to grow our business" for several years to come.

Most likely, almost any FCC decision will prompt legal challenges from industry rivals, says Harold Furchtgott-Roth, founder of consultancy Furchtgott-Roth Economic Enterprises in Washington and a former FCC commissioner. Still, an FCC decision would be an important first step in clearing up doubts about Nextel's future. That could lead to a short-term boost in the stock price -- and an opportunity for investors with a taste for risk.


Kharif writes about technology for Business Week Online in Portland, Ore.
Edited by Thane Peterson

http://www.businessweek.com/technology/content/may2004/tc20040517_5522_tc055.htm