Dow Jones News
By Lynn Cowan Of DOW JONES NEWSWIRES
Cellphone-services company Virgin Mobile USA Inc.’s (VM) initial public offering slowly gained traction in its first hour of trading Thursday
The stock opened at $15 a share on the New York Stock Exchange, flat with its IPO price, but gradually rose from there. A total of 27.5 million shares of its Class A common stock was sold to the public. The deal priced at the low end of its expected $15 to $17 range, which was set by lead manager Lehman Brothers Holdings Inc. (LEH), and was trading recently at $16.50, up 10%.
Founded as a joint venture between Sprint Nextel Corp. (S) and British mogul Richard Branson’s privately held Virgin Group, Virgin Mobile USA began offering prepaid cellphone plans in July 2002. As of June 30, the company had 4.83 million customers, and it controlled roughly 15% of the pay-as-you-go cellphone market at the end of 2006.
Unlike many cellphone carriers, the company doesn’t maintain its own wireless network; it buys its network service from Sprint PCS at Sprint Nextel’s cost, plus a specified mark-up under an agreement that expires in 2027. The products and services are marketed under the Virgin Mobile brand, which are aimed at the U.S. youth market, although about half its customers are 35 or older.
Based in Warren, N.J., Virgin Mobile doesn’t require its customers to commit to multi-year service contracts, instead allowing them to purchase service on a flat per-minute rate or in prepaid monthly buckets of minutes. Its handsets and prepaid minute cards are sold through third-party retail stores, including Wal-Mart Stores Inc. (WMT), Target Corp. (TGT), Best Buy Co. (BBY) and RadioShack Corp. (RSH).
Because it doesn’t operate its own network or its own retail stores, Virgin Mobile USA has lower capital expenditures and sales and distribution costs than companies that commit to building their own networks. Virgin Mobile USA, however, does subsidize the cost of its cellphones in order to attract new customers at a lower price point.
In its prospectus, the company repeatedly touts its brand status among young Americans, and focuses its marketing at that youth audience through ads on social networking sites MySpace.com and FaceBook.com, and through its two-day Virgin Festival music festival in August, which featured groups ranging from The Police to the Yeah Yeah Yeahs.
While it may have a pay-as-you-go approach to its customers, Virgin Mobile USA leans more towards the pay-it-later approach in its finances. The company has borrowed money to finance a “significant” portion of its operations and at one point in 2005 failed to satisfy a credit-facility covenant, causing a default that in turn led to late payments to Sprint Nextel. As of June 30, the company owed $541 million; some of the IPO proceeds will be used to pay that down to a total of $351 million.
About 20% of the debt being paid down is held by affiliates of two of Virgin Mobile USA’s underwriters - Merrill Lynch & Co. (MER) and Bear Stearns Cos. (BSC).
Its practice of luring the youth market to its cellphone service by subsidizing reduced-price handsets has led to an unsavory outcome: The Virgin phones have been purchased, reprogrammed, and resold in bulk for use on other wireless communications networks, cutting Virgin Mobile USA out of the wireless service revenue it was hoping to attract with each low-priced phone.
The end result has been increased loss subsidies and promotional expenses for Virgin Mobile USA. In the first half of 2007, it estimates that about 27,000 of its handsets were bought and resold, a loss of $1.9 million to the company; that is down from 176,000 re-sold phones, a loss of $27.1 million, in the first half of 2006. The company says it is aggressively pursuing legal claims against bulk repurchasers, but may have to raise the prices on its phones to deter them.
The company also has a higher average monthly “churn” rate - customer turnover - than most long-term contract competitors. Virgin Mobile USA’s churn rate is about 4.8%, while Sprint Nextel’s is 2%.
In the first six months of 2007, the company’s operating revenue rose 23% to $666.9 million, compared to the same period a year ago; its net income doubled to $26.5 million.
Sprint Nextel and Virgin Group, which is chaired by Richard Branson, continue to hold a combined 54% controlling stake in the company now that the IPO is complete; that level will fall to 47% if additional shares are sold through an over-allotment program after the IPO. Sprint, Best Buy and Freedom Wireless Inc. sold a combined two million shares in the offering; Sprint also sold $136 million of its shares to Virgin Mobile ahead of the offering, and is receiving $45 million from the proceeds of the IPO to pay off debt it is owed.
Virgin Mobile’s deal could end up being the last offering of the week. Another company, Bioheart Inc., was slated to price this week. So far it hasn’t, which doesn’t auger well for it to begin trading Friday.
-By Lynn Cowan, Dow Jones Newswires; 202-862-3548; lynn.cowan@dowjones.com
> Dow Jones Newswires
10-11-07 1013ET
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