We upgrade our recommendation on Leap Wireless International Inc. (LEAP) to Neutral based on its current valuation. The stock price has fallen by more than 38% in the last one year and is trading at the low-end of its 52-week price range. We believe this low level of market valuation of the company is providing a downward cushion to the stock price. Leap Wireless declared mixed financial results for the fourth quarter of 2010.
Aftera gap of two consecutive quarters, Leap Wireless generated net customer addition in the fourth quarter of 2010. This turnaround was mainly due to management’s strategy to introduce high-end smartphones, especially those running on Android operating system developed by Google Inc. (GOOG). The company sold 400,000 Android-based smartphones during the fourth quarter of 2010.
Quarterly churn rate was 4% compared with 4.7% in the year-ago quarter. In the same quarter, Leap Wireless gained nearly 430,000 customers including 107,000 net customer additions and 323,000 former customers of Pocket Communications with which Leap Wireless formed a joint venture in October 2010. Total Subscribers, at the end of 2010, was 5,518,179, an improvement of 11.4% year over year.
However, as the prepaid wireless market is becoming more competitive, Leap is suffering as its major peers such as Metro PCS Communications Inc. (PCS), Boost Mobile, a subsidiary of Sprint Nextel Corp. (S), and Tracfone, a subsidiary of America Movil SAB (AMX), continue to attract subscribers with their competitive service plans, greater network coverage and better product offerings.
We believe Leap Wireless seriously needs to revamp its business model. In the fourth quarter of 2010, Leap Wireless incurred mounting net losses. Although introduction of smartphones steadied its top line, the company had to spend much more than our expectation in order to attract new customers that jeopardized its bottom line. Quarterly cash cost per user (primarily indicating carrier subsidy for new smartphone) was $21.77, up 26.9% year over year.
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