Subject: [NEXTEL-1] Bumbling Barry West & Paulee-Talks And Talks And Talks But Presents Little New Facts To Wall Street

From: [email-masked]
Date: Tue, 17 Jun 2003 04:48:44 -0400

FIRST CALL RESEARCH NETWORK

01:41am EST 16-Jun-03 Lehman Brothers 

Bumbling Barry West & Paulee- Talks And Talks And Talks But Presents Little New
Facts To Wall Street

On Friday, June 13, we met with senior Nextel management, including Paul Saleh,
Chief Financial Officer, and Barry West, Chief Technical Officer. We came away
from the meeting increasingly confident that the company will continue to
outperform its peers, as it weathers the gathering storm of push- to-talk
competition and focuses on its business plan. Management expressed a high degree
of confidence in the company`s position and is working on further innovations to
increase the differentiation of its product offering. We expect Nextel to continue
delivering industry-leading fundamentals and financial performance. We reiterate
our 1-Overweight rating and $17 price target on shares of NXTL. 

Saleh spoke at length of management`s confidence in Nextel`s business plan and its
prospects for the coming quarters. He provided various examples of how the company
could continue to grow strongly in terms of subscribers, average revenue per user
(ARPU), and profitability. First and foremost on the minds of investors is the
pending push-to- talk competition to come from the likes of Verizon Wireless and
Sprint PCS. Both Saleh and CTO West expressed a very high degree of confidence
that such product launches would not have an adverse effect on Nextel`s business
or growth prospects. Nextel is looking at the competitor PTT offerings as a
different product, saying that it is not comparable to Nextel`s Direct Connect. 

West detailed various problems with the competing services, including the
well-document latency, dropping of packets (meaning entire words can go missing
during transmission), as well as the fact that they have not been proven to work
on a fully loaded network. While Nextel is carefully monitoring the situation,
management is confident that their service will remain far superior. In fact,
Saleh commented that market launches of competing service will likely broaden
awareness about push-to-talk service in general and, therefore, could serve to
grow the category. 

They were also encouraged about the increasing use of Direct Connect by all of the
different government sectors and the company clearly sees that as a high growth
area. Saleh commented that the whole industry has been particularly focused on the
churn metric so far during 2003, and he expects 2Q03 to continue the trends
witnessed in 1Q03. He also said that Nextel is very concerned about the customer
experience and in trying to preempt problems before they actually occur. 

We think that such an attitude toward the customer will serve the company well
when wireless local number portability is implemented in November. Nextel reported
churn of 1.9% during 1Q03, but at the time of 1Q03 earnings cautioned that such a
low level may not necessarily be sustainable. After talking with management and
witnessing trends in the industry, we think that our prior 2Q03 churn estimate of
2.0% may be on the conservative side and have reduced our 2Q03 churn estimate to
1.9%. We have left our gross add estimate unchanged at 1.1 million, but have
increased our net addition estimate to 465,000 from 425,000. We certainly would be
very encouraged if the company can continue to drive churn lower. Furthermore,
while many have expressed concern over Nextel`s 1Q03 ARPU of $68, Saleh reiterated
that the sequential decline was merely due to seasonality and that, as previously
stated, the company expects ARPU to increase in 2Q03 and 3Q03. 

We also expect ARPU to increase during 2Q03, but our estimate is a conservative
$68, representing slight sequential growth. As we look further out to ARPU trends,
we are encouraged by the company`s efforts to bolster ARPU through further
differentiation of its service offering. The company recently announced that it
had begun offering Nationwide Direct Connect service to its customers. While the
service is initially provided free of charge, Nextel will begin billing its
subscribers for such service beginning August 1, 2003. The service will be offered
at a rate of $10 per month for unlimited nationwide usage of $0.10 per minute for
metered usage. 

Given that 66% of its current customers and 40% of potential customer s have
expressed interest in using such a service, we think that Nationwide Direct
Connect could help bolster ARPU over the next year as adoption increases. Saleh
also explained that national service does not necessarily mean that this offering
is only useful for Nextel customers who travel from coast-to-coast, as the service
will now enable people within large regions (the Midwest, East Coast Corridor,
etc.) to communicate in a way which had not previously been possible. Another
service that the company has started to offer is Priority Access for its
government subscribers.

 While the target market is a relatively small portion of Nextel`s customers, the
incremental $9 in monthly ARPU will also help to support total ARPU. As Saleh
moved further down the income statement, he stated strongly that he thinks Nextel
can make further progress in terms of profitability. His discussion centered more
on cash cost per user (CCPU) improvement than lower acquisition costs. Given
recent trends in churn and heightened credit screening, he stated that bad debt
expense could continue to decline (Peaked at 5%, 2.4% in 1Q03). Nextel also
continues to benefit from the outsourcing agreements into which it entered in
early 2002. Alternatively, he discussed how the company was investing in its
efforts to expand its distribution network, both on the retail level as well as
with government and enterprise. 

It has increased its marketing budget for 2003 as well as increasing the number of
retail stores and salespeople. While the company`s cost per gross addition (CPGA)
remains rather high compared to its competition, Nextel continues to add the
highest quality subscribers in the industry (high ARPU, low churn) and, therefore,
can justify spending more than its less profitable competitors. Despite this, we
do look for the company to reduce its CPGA as it drives more growth through its
low cost channels (retail stores, telesales, web sales). 

CAPITAL SPENDING TO REMAIN RESTRAINED 

Chief Technical Officer Barry West provided an update on the company`s network and
technology migration. He stated that he continues to be impressed by the 6:1
vocoder upgrade that has been delivered by Motorola and has been deployed in the
company`s Florida network. He said that the company has a few hundred alpha
handsets in use in Florida and that the performance has been very encouraging. 

We were shown a version of the latest handsets and were impressed with the form
factor, which is smaller and more stylish than prior Nextel handsets; it is also
reported to have longer battery life and improved functionality. West expects the
network deployment of the 6:1 vocoder to begin in July and to be complete by the
end of 3Q03. 

He also expects the introduction of the upgrade to further reduce the cost to
provide a minute, which currently stands at $0.017 per minute. He restated his
goal of reducing the operating cost to less than $0.010 per minute by the end of
2004. Nextel continues to anticipate significant increases in efficiency due to
the introduction of the new vocoder and, therefore, expects a material drop in
next year`s capital budget. West said that his expectation is for 2004 capital
spending to be around $1.2 billion, which has increased over the last six months
due to plans for expanding coverage. 

With the focus on continuing to drive network costs lower, Nextel continues to
test various wideband solutions, including Flarion, CDMA2000, and WiFi, among
others. While West said he was impressed with the capabilities of these
technologies, he said that Nextel would not deploy a wideband technology until
there is sign of sufficient demand and the solution is economical. In the
meantime, he said that equipment prices continue to drop, so he is happy to wait. 

AWAITING THE SPECTRUM SWAP

 Nextel management stated that the timing regarding the Consensus Plan or Spectrum
Swap Proposal remains unclear, but that the interference problem isonly worsening
with time. West said that the Consensus Plan is clearly the only proposal that
addresses all of the issues raised by the Federal Communications Commission at the
beginning of the proceeding and is fully funded. 

Saleh also said that Motorola`s filing was not helpful and that, in fact, the
company`s relationship with Motorola was somewhat strained.

Despite the obvious tension raised by Motorola`s actions, both Saleh and West
agreed that the quality of the product being delivered to Nextel by Motorola had
never been better. When asked about other possible spectrum acquisition targets,
West said that the company was always looking for new spectrum, but that any
purchases were essentially on hold until a verdict is given on the Spectrum Swap
Proposal. 

He also said that Nextel already owns almost all of the non- contiguous spectrum
in the 800 and 900 MHz bands and that, therefore, they would have to start looking
elsewhere to expand Nextel`s spectrum portfolio, which currently stands at 26 MHz
on average across the country, with 18 MHz in use. He continued to state that the
existing spectrum portfolio is sufficient for the company`s current business plan,
but would need more bandwidth to deploy a wideband network.

 FURTHER DELEVERING POSSIBLE CFO Saleh also addressed the company`s balance sheet
and the possibility of further delevering. While though the company has made
significant progress in retiring debt and preferred stock at a discount over the
past year, Saleh stated that there were other opportunities for further
strengthening of the balance sheet, including terming out maturities at lower
interest rates, especially since the company has a large amount of debt maturing
in the 2007- 09 timeframe. As of 1Q03, the company paid an average rate of 7.5%
($225 million) on its $12.0 billion of debt. Nextel has been able to significantly
reduce its interest payments both as it retired higher coupon debt and due to the
decline in the rate paid on its bank credit facility (3.9% in 1Q03 versus 5.1% in
1Q02). Today`s lower interest rates could provide further reductions in interest
payments, although Saleh expressed dissatisfaction at the spread the company would
likely have to pay. As of 1Q03, approximately $4.1 billion or 35% of Nextel`s
$11.8 billion in long-term debt was callable. Saleh was also conscious of the need
to maintain a certain level of liquidity in order to allow the company to be
nimble should opportunities arise.

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