Yes, Clearwire really is on the ropes

Clearwire says it has enough money for the next year to fund its network build, but what happens after that? Its COO is bullish on the future, but competition makes for an uphill climb.

There's no doubt that Clearwire faces a cash crunch among many other challenges as it tries to build its nationwide 4G WiMax network. But will the company be able to weather the storm and stay afloat?

That's the big question that investors and Clearwire's customers are asking as the company continues to look for more funding to support its network expansion and deal with growing competition. In November, Clearwire said it might not have enough cash to keep its network running through the middle of 2011. Since then it's taken on more debt and settled a wholesale pricing dispute with Sprint Nextel, which has secured its short-term viability.

On its first quarter conference call recently, executives for the company said Clearwire has enough cash to fund its network operations for the next 12 months. But what will happen next year as Clearwire tries to compete with growing competition from other carriers, such as Verizon Wireless, which has already launched its 4G network?

In an interview with CNET, Clearwire Chief Operating Officer Erik Prusch admitted that the company faces funding challenges, but he said he's still bullish on the company's future as it sees a huge opportunity to fuel Americans' need for more wireless data services.

"Our subscriber numbers are growing rapidly and the usage stats show us that there is a desire and demand for more capacity," he said. "So we feel we are well positioned to meet those needs. We have more spectrum assets than anyone else. And we can handle more capacity than any other carrier."

He went on to say that the strategy over the next year and beyond is constantly evolving. But he said the game plan as of now is to find more investment and to increase revenue to support the needs of the network. Ultimately, he believes that Clearwire will be a profitable business.

"We do need additional funding to continue to extend our network," he said. "And we're bullish about being able to secure that funding either in by relying on our strategic investors or through new investors. We also think we can grow revenue organically by growing our revenue and becoming profitable."

Uphill battle
At this point Clearwire still has a long way to go. In the first quarter of 2010, Clearwire reported a loss of $226.96 million, or 93 cents a share, on revenue of $242 million. This was despite the fact that Clearwire added 1.8 million subscribers. The company said it's on track to end the year with 9.5 million customers. It ended 2010 with about 4 million subscribers.

Despite the fact that the company is adding customers and is increasing revenue, it's burning through a lot of cash to do it. As of March 31, Clearwire had $1.2 billion in cash, which was down from $1.74 billion at the end of December.

The company has begun to dramatically cut spending. In the first quarter of 2011 it spent about $472 million, down from $1.2 billion in the fourth quarter of 2010, according to Stifel Nicolaus analyst Christopher King.

As part of its plan to reduce costs, the company announced earlier this week that it plans to outsource the management and maintenance of its network to equipment supplier Ericsson. It's also scaling back its retail efforts. It already canceled plans for some of its own consumer-oriented retail products, such as WiMax handsets. And it canned its prepaid WiMax service offering after only a few months on the market.

Instead, Clearwire is focusing its energy on developing its wholesale business, which today consists mostly of Sprint Nextel customers.

"We are actively pacing our retail business," Prusch said. "If we had $4 billion in cash we would be going full-bore. But we don't. We have a billion and change. So we're holding back in terms of retail to put the cash to use in investing and improving relationships with wholesale customers."

As for what that means for consumers in terms of product offerings, Prusch admitted that some products will be discontinued, "because they don't hit the sweet spot." But he said the company still has a robust product line that its 1.6 million retail customers appreciate.

Prusch also said that the retail business is important to Clearwire even though it costs the company a lot of money because at this point, Clearwire is generating the bulk of its revenue from the retail customers. At the end of the first quarter, Clearwire had 6.1 million customers. Only about 20 percent of them were retail customers. But even though these retail customers only represent a small number of Cleawire's overall subscriber base, they still generate almost 75 percent of the company's revenue. In the first quarter, Clearwire reported total revenue of $242 million. Clearwire's retail business made up about $181.1 million of that total.

Wholesale to the rescue?
That said, Prusch said he expects the wholesale business to grow and increasingly account for more of Clearwire's total revenue. But that brings to light another challenge that Clearwire faces. Most of its wholesale customers come from Sprint Nextel, which owns a 54 percent stake in Clearwire and has chipped in billions of dollars in funding to keep the company afloat.

While Clearwire has similar resale relationships with its cable investors, Comcast and Time Warner Cable, the bulk of nearly 5 million wholesale customers come from Sprint.

Meanwhile, Clearwire's other two major investors, Intel and Google, don't seem as bullish on Clearwire's prospects. Google didn't kick in more cash during Clearwire's last funding round. And last week, Intel said it plans to sell 10 million shares of stock in the company. The sale is projected to be about 10 percent of Intel's stake in Clearwire.

Intel released a statement claiming that the sale is part of a plan to rebalance its equity portfolio. Intel sold off shares in the company in 2009 as well. But Intel's move hurt the company's share price and the Clearwire stock tumbled last week as investors viewed Intel's sale as a sign of waning enthusiasm for the company's prospects.

Prusch said he doesn't believe that Google's and Intel's lack of investment or other recent moves are a sign that the companies have lost confidence in Clearwire's business. He said he hopes that they will continue to invest in future rounds. He also noted that there have been improvements in terms of participation from Comcast and Time Warner on the wholesale side.

Dependency issues
Still, Craig Moffett, an equities analyst with the Wall Street firm Sanford Bernstein, who covers Sprint, has said that the interdependency that Sprint and Clearwire have upon each other is unsustainable. He recently wrote in a research note that "Clearwire is essentially an appendage of Sprint, and adjusting what are basically intra-company payments between a parent and its subsidiary are not enough to drive material changes to the business."

4G

He went on to say that "shuffling paper between entities through transfer pricing or rights of usage or network sharing agreements does nothing to boost the revenue entering the Sprint/Clearwire ecosystem, and little to change the underlying consolidated cost structure. What matters is: Who is going to pay for Sprint's (and Clearwire's) upcoming network expansions, and what revenue exists to support it?"

As Clearwire struggles to come up with money to continue building its network and growing its business, the company will soon face stiff competition from the nation's largest wireless providers: AT&T and Verizon Wireless. Verizon launched its 4G network late last year using a technology called LTE. And AT&T is set to launch its 4G network this summer. AT&T is also in the process of buying T-Mobile USA for $39 billion, in a deal that will make it the largest wireless carrier in the U.S.

The acquisition and new networks are putting pressure on Sprint, which could make the wireless company the smallest of the national major wireless carriers.

Prusch admitted that Clearwire is dependent on Sprint and that Sprint is dependent on Clearwire. But he said there is plenty of market opportunity even with the hefty competition from Verizon Wireless and AT&T. He also said he isn't worried about the upstart LightSquared, which is using repurposed satellite spectrum to build a nationwide 4G wholesale network using LTE technology.

"If we can provide a better quality service at higher download speeds and offer more bandwidth at a better value, then I think our long-term opportunities are very good," he said. "There is plenty of money to be made in this market for Sprint and Clearwire."

But there are some naysayers in the industry who believe that Clearwire's business model is flawed. John Stankey, the head of AT&T's enterprise business, said this week at Reuters Global Technology Summit that wholesalers, such as Clearwire, can't make it on their own and must be gobbled up by other players.

"There really isn't a profitable wholesale model in wireless today," a Reuters story quoted him as saying. "Do you know one that's making money? Do you know one that's on a trajectory to make money? Do you know of one that's not in jeopardy of running out of money in the next 12 months?"

He went on to say: "If there's such a credible (wholesale) business model, is there not capital that should be attracted to it?"

Meet Clearwire's sugar daddy: Sprint Nextel
Sprint would be the most likely candidate to buy Clearwire, but Sprint's investors would likely not be able to stomach such a deal. The company is already spending billions of dollars to upgrade its network as it uses spectrum and resources from its 2005 merger with Nextel.

"Sprint doesn't really want to own Clearwire," said Roger Entner, founder of Recon Analytics. "In fact, they've gone to great lengths not to own them. They'd rather have that network and its finances on someone else's books."

Even if Sprint doesn't buy Clearwire, the companies are so dependent on each other, Sprint will likely continue to invest in Clearwire. And there is a very good chance that the companies will share network assets.

Prusch said Clearwire recognizes that it is crucial for the carrier to have a nationwide network that covers as much of the U.S. population as it can. But building that network is expensive. So the company is in talks with Sprint about sharing network assets as part of Sprint's new network expansion.

He also said that Clearwire will eventually move away from its WiMax technology and move toward a network that uses LTE. But he said plans are not definite and there is no timeline for such a switch.

"WiMax to date has been a very good technology choice for us," he said. "We were able to take advantage of the speed to market before LTE was even a glimmer in anyone's eye. But we recognize the ecosystem in the U.S. will be larger for LTE than WiMax, so we are conscious of that."

He said LTE technology and the ecosystem needs to mature before Clearwire can consider switching.

"We are technology agnostic," Prusch said. "We don't believe that customers buy a technology. They buy fast and reliable access to a data network."

But will the network-sharing deal and Sprint's cash be enough?

Sprint will likely face its own cash flow issues as it upgrades its network. Moffett points out that Sprint has about $6.2 billion of debt maturities between now and the end of 2013. And Clearwire's network may require as much as $6 billion in capital spending to complete the construction of the network.

If Sprint can't foot the bill, who will? That is indeed the big question yet to be answered.

 

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