As Inmarsat approaches its end of year results presentation, scheduled for March 7, the company’s stock price has been surging in the expectation of continued strong progress in the maritime market, which is likely to lead to full year wholesale MSS revenue growth for 2012 (excluding LightSquared payments) somewhat above Inmarsat’s 0%-2% target. This has been driven primarily by Inmarsat’s 2012 price rises, which have been so successful that Inmarsat announced further price rises of around 10% for E&E services last month.
I estimate that these new price rises could boost wholesale maritime revenues by a further $10M (roughly 3%) in 2013, on top of the pull-through from the mid year price rises in 2012, and as a result, it is plausible to imagine that Inmarsat’s wholesale MSS maritime revenues might rise by as much as 10% in 2013. Thus, unless there are severe cutbacks in government usage this year, overall revenue growth for 2013 may again come in quite a bit above the 0%-2% target. Our updated profile of Inmarsat provides full details of our forecasts by product, and will be released shortly.
That revenue upside perhaps explains why Inmarsat has become notably more aggressive in recent weeks, for example telling its sales team that commission will no longer be paid for selling Iridium products and services (historically Stratos has sold over $10M of Iridium equipment each year). In addition, the IS-27 launch failure appears to have given Inmarsat more confidence that potential partners will need GX for maritime and aeronautical services, rather than continuing to rely on Ku-band services in what may now become a capacity-constrained North Atlantic Ocean Region over the next couple of years.
One intriguing issue to watch in terms of Inmarsat’s relationships with its distributors is the ongoing dispute in Russia, where I’m told Morsviazsputnik has refused to pay for Inmarsat capacity for a substantial period of time (note that Inmarsat’s trade receivables have been increasing by about $10M per quarter during 2012, excluding LightSquared payments), unless all Inmarsat-equipped vessels going into Russian waters use a Russian SIM. This dispute has apparently extended to the Russians modifying their call routing gateway (which sends all traffic within 200 miles of Russian territory to an intercept point in Russia) to give them the ability to cut off the communications on foreign vessels. I’m told that in response Inmarsat has considered terminating the routing of traffic to the Russian intercept point, which would of course escalate the dispute even further and make it even more difficult to recover the withheld revenues.
Beyond this year, Inmarsat is guiding that its 8%-12% revenue growth in 2014-16 will be backend loaded, and so growth in 2014 will not need to increase sharply (which would be difficult prior to achieving global GX coverage). Indeed, a combination of continued price rises on L-band services and a release of some of the cash previously received from LightSquared (and never spent on installing filters) could help to meet expectations in the next few years, even if GX does not live up to Inmarsat’s projected $500M in wholesale revenue by 2019.
With respect to GX, I have been cautious about the $500M target because I have always assumed that maritime would account for the largest share of the GX business and it is very hard to see how Inmarsat could hope to generate $200M-$300M of wholesale maritime GX revenues by 2019, when Inmarsat itself estimates that only $145M was spent on maritime FSS space segment capacity in 2010.
However, I understand that Inmarsat is now suggesting that the GX government business will generate more revenue than the maritime market. Of course that is much harder to prove or disprove, especially as Inmarsat gave very little insight in the October 2012 investor day into whether the government business is expected to rely mainly on the dedicated HCO beams in military Ka-band frequencies or on the standard wide area coverage beams which only use civil Ka-band frequencies.
An additional GX question that may soon be answered is the potential for a fourth backup satellite to be ordered. Inmarsat certainly has ample justification for placing a near term order, given its reliance on Proton launchers for all three GX satellites, and the run of problems that Russian rockets have had in recent months. Although Inmarsat would presumably portray an order as a sign of increased confidence in the market for GX, this would also add up to $200M of additional capex to the $1.2B GX program, even if no commitment was made to a fourth satellite launch at this stage.
Given Inmarsat’s more assertive stance in the market, it will now be particularly interesting to see whether Inmarsat can persuade distributors to share its positive view of the overall GX opportunity, and make revenue commitments similar to the $500M that Intelsat has achieved from Caprock, MTN and Panasonic for its EPIC system. Time will tell, but at least so far, my assertion last October that we had reached a turning point in MSS history has come only partly true: while it certainly appears that the next few years will bring regular price rises, an improvement in Inmarsat’s relationships with its distributors still seems like a distant prospect.
Apologies for the lack of posts over the last couple of weeks – I’ve been buried in writing my latest MSS industry report, which is bigger and better than ever, and includes not only all the latest MSS industry developments such as an analysis of Inmarsat’s investor day, but 30 pages on everything you want to know about the current spectrum issues involving DISH, LightSquared, etc. I’ll be writing blog posts about that plus some of the latest inflight connectivity developments over the next few days, but I’ll start with a little noticed fact that emerged while I was analyzing MSS subscriber growth: surprisingly enough, the various MSS operators use very different definitions for what they count as a subscriber.
Now you might think that a subscriber is simply someone who is paying the operator for service (perhaps indirectly via a distributor) and if the customer is paying for x terminals, then the MSS operator will report that they have x subscribers. That is basically what Iridium do, now that there is a charge each month even for suspended terminals. However, until recently Inmarsat didn’t have a monthly access charge for most terminals, and only got paid for airtime. As a result, Inmarsat has always defined its subscriber count as terminals that have accessed the network in the last 12 months. Now that Inmarsat is charging monthly fees for most services, this leads to anomalies such as in its 2012Q2 results, where Inmarsat noted that:
“At the time of our consolidated financial results for the three months ended 31 March 2012, we announced having reached over 55,000 IsatPhone Pro subscribers. However, in our reported active terminals for land mobile, we included a lower number of approximately 49,800 terminals, the difference being the elimination of subscribers who had not used their IsatPhone Pro terminal in the preceding twelve months…”
Even more significantly the number of Satellite Low Date Rate (M2M) terminals reported by Inmarsat has declined quite noticeably over the last year, but as far as Inmarsat’s distributors like SkyWave are concerned, the number of subscribers is actually going up. However, once you realize that a key application for ISatM2M is stolen vehicle recovery, its pretty obvious that only a small proportion of terminals (i.e. those cars that are actually stolen) will need to access the Inmarsat network each year.
That’s a positive for Inmarsat, because their market share in the SLDR/M2M sector is actually quite a bit higher than many assume. However, Globalstar’s counting methodology goes the other way: SPOT customers are included in the published subscriber count even if their terminal is “suspended” for non-payment, because those terminals still have access to the network and Globalstar is attempting to collect payment for the service (although of course no revenue is actually being recognized for those subscribers unless and until collection occurs). The number of suspended SPOT subscribers has increased consistently since this statistic was first reported in early 2010, and by 2012Q3 amounted to 29% of SPOT subscribers. I’ve generally been pretty optimistic about the long term potential of the personal tracking market, but worringly, in the third quarter of this year the number of paying (i.e. non-suspended) SPOT subscribers actually fell from the previous quarter for the first time ever.
The history of the MSS industry, like most other parts of the telecom and technology sectors, has revolved around a theme of “faster, better, cheaper” as technological advances have dramatically improved satellite throughput and enabled significant reductions in the price per minute and per bit of voice and data communications. However, it seems that at least in L-band, we may have reached the limit of economically justifiable technological advances, and the future for the traditional MSS market could now be one of slower development cycles, simpler satellite systems and more expensive services.
Some of those technological dead ends are obvious, like the huge satellite antennas built for LightSquared and TerreStar, which did nothing whatsoever to make their satellite services more viable. However, more importantly, Inmarsat sets the tone for the entire MSS sector and could now make it much clearer that we have reached the end of the historical development pattern for this industry.
We’ve already seen Inmarsat pushing up prices this year, and with its new focus on the Ka-band Global Xpress system, Inmarsat has also indicated that it expects to delay capital expenditures on a next generation L-band (I6) satellite system and that the system itself will be cheaper and simpler than the I4 satellites. After feeling a backlash from distributors and customers, Inmarsat has been at pains to suggest that this year’s price rises represented a one-off adjustment, rather than the start of regular yearly price rises. Nevertheless, Inmarsat has seen little if any impact in terms of maritime customer losses because Inmarsat holds such a dominant position in the market and Inmarsat’s 2012 wholesale revenues are likely to be boosted by at least 2%-3% as a result of the price rises.
Looking forward, the outlook in most parts of the MSS market is fairly depressed, with M2M services providing the main source of growth, and overall wholesale L-band revenues are only likely to grow by perhaps 4% p.a. in the next few years. Although we’ll find our more specifics on Tuesday about Inmarsat’s expectations for Global Xpress, it also remains hard to see how GX will meet the original target of $500M in incremental wholesale revenues within 5 years, suggesting that Inmarsat’s move to Ka-band will not move the needle on overall MSS market growth very far. Reasons for this include the apparent lack of military Ka-band frequencies (which were supposed to be secured by Boeing and would be needed to allow GX to operate as a seamless supplement to WGS), the fact that XpressLink customers are being given the option but not the obligation to upgrade to GX when it is launched and, most importantly, the threat posed by Intelsat’s new Epic satellites, which have secured some key anchor customers (Panasonic, MTN and Harris Caprock) and caused many distributors and end customers to reconsider the “inevitability” of a move to Ka-band.
As a result, it seems there is now a fairly clear case for Inmarsat (as the price leader in the MSS sector) to push through regular annual price rises on the 50% or so of its wholesale L-band revenue base that is least likely to move to alternative solutions and has the lowest price elasticity. This would mean price rises for low and mid range maritime customers plus many land customers, while leaving aeronautical and high end maritime customers (who are more at risk from VSAT competition) largely untouched. Today there is an essentially flat outlook for L-band revenues, as modest growth in M2M and handheld is being offset by the migration of high end maritime and aeronautical customers to XpressLink (and other VSAT solutions), together with reductions in defense spending/event revenues. However, a price rise of 5%-10% p.a. would potentially allow Inmarsat to grow its L-band business at 2%-4% p.a. for the next several years.
Other MSS operators would also benefit through (modest) gains in market share and more pricing freedom, and the overall MSS sector could perhaps then return to something closer to the 7% p.a. revenue growth rate seen before the downturn of the last couple of years. Even distributors, who have seen their margins pressured over the last decade, would appreciate some ability to increase their overall revenues (given that demand elasticity is quite low), if margins can be sustained or even increased.
However, in order to execute such a change in strategy, Inmarsat would also need to repair its relationship with independent distributors, which has taken a significant knock from Inmarsat’s acquisitions of Segovia and Ship Equip and its decision not to pass on some wholesale price increases through its own direct distribution channels. There have also been several instances where Inmarsat has made its own bids for key contracts which massively undercut the bids from the incumbent independent distributors providing the same services. Indeed it often appears that Inmarsat has the explicit intention of driving its leading independent distributor, Vizada (now owned by Astrium Services) into the arms of other satellite operators such as Intelsat and Iridium. It seems to me that only with the cooperation of independent distributors can Inmarsat present a united front to end customers, and explain that price rises are necessary for a healthy market, as opposed to having their assertions undermined not only by (the expected) sniping from competitors, but by distributor dissatisfaction (and potential defections due to increased margin pressures) as well.
Is Inmarsat willing to change this dynamic and restrain its direct distribution arm, or will it resort to a “bunker mentality” and either miss the chance to boost revenues or push further price rises onto its independent distributors, amidst a rising tide of opposition? Time will tell, but its perhaps worth remembering that the full title of the book was “The End of History and the Last Man”, the last man being someone who “is tired of life, takes no risks, and seeks only comfort and security“.
It looks like the next month or so may be filled with interesting developments in the US spectrum market. Last week, it was reported that the FCC is preparing to launch of review of its “spectrum screen” at the September Commission meeting. Of course if the FCC suggests a preference for distinguishing between low frequency (sub 1GHz) and higher frequency spectrum, in response to concerns that AT&T and Verizon have been accumulating too much of the most valuable spectrum, then that might not only put a damper on the prospects for broadcast TV incentive auctions (recall that AT&T and Verizon contributed over 85% of the 700MHz auction proceeds back in 2008), but could be taken as a clear signal that the FCC would approve of AT&T buying DISH for its higher frequency spectrum.
In that context, it seems increasingly likely that the release of a LightSquared ruling (almost certainly confirming the FCC’s February proposal to withdraw LightSquared’s ATC license) will also come this month, along with approval of DISH’s terrestrial network in the 2GHz MSS band. This week DISH has been continuing its campaign to avoid its uplink allocation being shifted up by 5MHz to 2005-2025MHz, which is an option being considered very seriously by the Commission, as it would satisfy Sprint’s desire to access the H-block (which Sprint probably considered to be a done deal last November when it settled with DBSD and TerreStar), and mitigate both windfall and timeline concerns. However, it is notable that the Public Interest organizations who have been most vocal in raising the windfall issue actually oppose a relocation of the uplink due to the delay it would could in the standardization process.
Intriguingly, if we do see a ruling (at least partly) in DISH’s favor in the next month or two, it may make it even more difficult for Clearwire to pull off any potential spectrum sale. Then we may be faced with exactly the same situation in December as at the end of last year, namely does Clearwire pay the large interest payment due in December, or use the threat of a bankruptcy filing as leverage to raise more money from Sprint and others to fund it through next year.
LightSquared is also wheeling out the big guns in its lobbying campaign right now, with former FCC Chairman Kevin Martin lobbying the Commission on LightSquared’s behalf last week, and the company is once again ramping up attempts to get its side of the story across. This may raise a few eyebrows, given that Martin was key to approving ATC back in 2005 and then requiring Inmarsat to cooperate with LightSquared via their Dec 2007 agreement. However, it seems unlikely to change many minds at the Commission, especially in advance of the November election. Apparently the best that LightSquared could hope for is for the initial decision to be taken by the full Commission, rather than by the International Bureau on delegated authority, which would give LightSquared an earlier opportunity to challenge the decision in court (because an IB decision must first be appealed to the full Commission before any legal action is initiated).
After LightSquared’s attempts to insert consideration of its own situation into the DISH proceeding, it would seem natural for both rulings to emerge at about the same time. The FCC will also need to indicate in the DISH ruling how it plans to take forward any similar flexibility proceedings in other MSS bands, notably the Big LEO band, where Globalstar has emphasized that “Greater flexibility for mobile broadband in Big LEO spectrum [is] necessary to enhance financial viability of Globalstar and its mission-critical MSS offerings” (emphasis mine). With Globalstar looking to raise substantial financing (perhaps as much as US$250M to $300M if Globalstar aims to fund both the remaining satellites and the ground segment buildout) by the end of the year in order to move forward with the final phase of its second generation constellation buildout, it is plausible to conclude that a positive signal from the FCC in this regard within the next month or two may be a pre-requisite for completion of that financing (which would presumably involve a combination of additional Export Credit Agency funding and further investment from Thermo).
Finally, and separately, TerreStar Corporation appears to have basically resolved its bankruptcy, and the existing preferred shareholders will convert their holdings to equity and keep control of the company. It is interesting to note that the valuation put on the 8MHz of national 1.4GHz spectrum in the event of a liquidation was only $80M to $100M (or $0.03-$0.04/MHzPOP) for an M2M smart grid type network (which is gratifyingly close to my estimate of $60M to $100M two years ago at the beginning of this process). It is hoped that FCC waivers can be secured, which would make the spectrum more valuable and usable for LTE, but that is a long term process, and there is no guarantee that it will be attractive to manufacturers to include this small, isolated band in future LTE chipsets. As a result, although there is a proforma offer for sale of the spectrum, it is inconceivable that any bid would be higher than the $400M+ that the existing preferred holders could credit bid in any auction. Of course its also another example of how just assuming spectrum is always a valuable asset, without consideration of the limitations applicable to that spectrum, is a quick way to lose a lot of money.
So going back to my title above, the next few months should reveal a lot more about who’s going to show that they’re an “All Star” and who will prove to have “the shape of an L on [their] forehead”. However, one thing seems pretty clear: when the FCC announces its decisions, not everyone is going to be a winner.
Its been a little hard to make sense of some of the data emerging from Inmarsat recently. For example, a recent factsheet from OnAir indicates that the first Global Xpress launch will be in October 2013, followed by subsequent launches in April and November 2014. Perhaps OnAir is confusing the launch date and the availability of the satellite for commercial service, but if these are indeed the launch dates, then they are later than the timeline that Inmarsat’s partners were given back in January this year of a first launch in June 2013 followed by subsequent launches in Q1 and Q3 of 2014 (and they don’t correspond to the “availability” dates given then either), even though Inmarsat stated on the Q1 results call in May that GX was “on schedule and on budget”.
We’ve also seen Inmarsat defending its price rises in a briefing paper to the International Chamber of Shipping by stating that their Standard Plan for FleetBB only costs $130 for the subscription charge, or $13/Mbyte for the bundled data. However, Stratos’s website indicates that the subscription fee for the Standard Plan was increasing to $208 per month from May 1, and Inmarsat has indicated separately that the wholesale price alone was being increased by $3 per day or $90 per month (to what I estimate is something very close to $130). So is Inmarsat assuming that distributors will now sell at zero margin, or is it simply quoting a wholesale price when a retail price would be more relevant?
Hopefully we’ll hear a explanation of these apparent inconsistencies on Inmarsat’s upcoming results call, or at least at Inmarsat’s investor day in October. But (mixing my literary references) as Inmarsat continues to suffer the slings and arrows of outrageous fortune, amid predictions of its imminent “downfall”, it might be worth taking a lesson from William Tell’s son, and standing still!
That pretty much sums up the situation with inflight cellphone calls in the rest of the world, after OnAir’s CEO indicated that only 10% of OnAir’s inflight GSM traffic is now coming from voice calls. Just how disastrous a statistic that is can be discerned from the fact that Inmarsat’s total wholesale aero passenger connectivity revenue is only around $2M per year, from 160 planes equipped with cellular connectivity, or around $12K per plane per year (in fact the number might even be lower if Inmarsat is including the far larger number of long haul planes equipped with traditional seatback phones in its $2M total).
Grossing up to retail revenues, that means passengers are spending perhaps $30K to $40K per plane per year on cellular services, and so if only 10% of OnAir’s “traffic” (which I assume is measured in revenue terms) is derived from voice calls, then that is about $10 per plane per day in voice usage. Put another way, I estimate that on average there may be as few as 2 voice calls per plane per day!
For (a truly scary) comparison, take a look at OnAir’s estimates back in 2007, that Ryanair passengers would spend EUR300K per plane per year on voice calling, or 100 times more than the current level of usage.
Of course that shouldn’t really be a surprise, because the original providers of inflight phones in the US (Verizon Airfone and Claircom) both went out of business and Inmarsat’s revenues from seatback phones were about 2% of their original projection in the early 1990s. More recently, Ryanair also stopped providing inflight cellular services. Obviously the lack of privacy and the level of background noise make it pretty hard to conduct business on a cellphone call inflight, while the cost has generally been prohibitive for leisure users, and neither of those factors has changed in any meaningful way with the introduction of cellphone instead of seatback connectivity. As a result, its no wonder that business travelers much prefer email and SMS to voice calls, and some airlines have even decided to ban voice calling themselves, despite it being legal outside the US.
It therefore seems pretty ironic that we’ve had letterwriting campaigns to the FAA and FCC, a ban proposed in Congress and even a lobbying group set up by OnAir and AeroMobile, trying to argue that voice calls on planes are a bad or a good thing (depending on your point of view), when the reality is that almost no-one actually wants to do it anyway. However, just as with the title of this article, once people become convinced that there is no middle ground to the debate, logic tends to fly out of the window. In those circumstances, its no wonder that members of Congress are eager to get involved.
UPDATE (9/5): The FAA’s own consultation document on legalizing cellphone use onboard aircraft has now been published and gives some interesting specifics on the usage levels seen in other countries. In particular, the Brazilian regulator indicated that TAM was only seeing about 0.3 voice calls per flight leg, and the consensus of most respondent countries was “that there was relatively low use of cell phone voice communication on airplanes”.
Without any hint of the PR blitz that I had expected, Intelsat has quietly updated its website to confirm my blog post in March, that it is about to order at least two new satellites, IS-29 and IS-33 to provide high capacity spot beam Ku-band service in the North Atlantic and Indian Ocean regions. These satellites will be in-service in 2015 and 2016 respectively, and are intended to “provide four to five times more capacity per satellite than our traditional fleet” with total throughput “in the range of 25-60 Gbps” (this appears to be a total not a per satellite figure – I would guess the throughput per satellite is around 12Gbps, roughly the same per satellite as Inmarsat’s GX, including its high capacity overlay beams).
UPDATE (June 7): Intelsat has now put out a press release and added more data to its website including a fact sheet, which states specifically that the throughput of 25-60 Gbps is per satellite. Obviously this figure is a wide range but it is clearly much greater than the Global Xpress per satellite capacity. I understand that one reason for Intelsat’s lack of publicity is the quiet period associated with its proposed IPO, but Intelsat definitely considers this a very important development and has been trumpeting it privately to distributors at its recent partner conference.
Intelsat is planning to integrate these new satellites into its existing maritime coverage as shown below (indeed there is less high capacity oceanic coverage than I expected, presumably because it will take time before Intelsat’s existing capacity fills up) and it appears that Intelsat will now be looking to compete head-to-head with Inmarsat’s Global Xpress as well as Viasat (both of which Intelsat appears to be referring to with its comment that “Unlike many new satellite operators, Intelsat is not constrained to Ka-band“)
What we haven’t yet seen are the details of Intelsat’s launch partners. It is clear that one partner is Panasonic, but the more important question is who Intelsat might have managed to secure in the maritime market. Inmarsat’s recent list of XpressLink distribution partners was notable for the absence of Vizada and most other major maritime VSAT providers, so if one or more of these maritime players now makes a substantial commitment to Intelsat, it will be another important sign that the transition to Ka-band in the maritime and aeronautical sectors is far from a foregone conclusion.
I noted back in November that the MSS industry was seeing a dramatic deceleration in revenue growth, but 2012 is already bringing even more challenges across the sector. As I predicted last month, Inmarsat’s price rises are causing a substantial backlash in the shipping industry, with the latest Digital Ship magazine including a devastating letter from AMMITEC (the Association for IT Managers in the Greek Maritime Industry), asserting that:
The handling of the pricing restructuring shows a blatant disregard for the long-term loyalty and trust that, up until a couple of years ago, the majority of the shipping world has had in Inmarsat and its maritime offerings.
Inmarsat’s (not terribly reassuring) response indicates that:
Inmarsat is listening to our customers. We recognise that some of these price changes will be difficult for smaller vessels, and so we will be introducing a small boat package to which they can transition.
However, to the best of my knowledge, this “Small Vessel Pricing Plan”, which Inmarsat told its distribution partners a couple of weeks ago was “in the final stages of development”, has not been announced before the pricing changes come into force tomorrow, and I’ve even heard suggestions that Inmarsat doesn’t actually intend to implement this plan unless it really does suffer from a significant number of customer defections.
Of course, Inmarsat is not alone in experiencing some self-inflicted wounds at the moment. Last Friday brought news that Iridium is implementing a “complete recall” of its new Iridium Extreme handset, while on March 30, Thuraya told its distributors that it had been unable to reach a manufacturing agreement with Comtech for its high speed MarineNet Pro maritime terminal (intended to compete with Inmarsat’s FleetBB) and so the terminal would not be in the market until “the end of the year”. As announced on its Q4 results call, Globalstar ran out of SPOT and simplex devices for a period of time in the first quarter after changing its manufacturer, and will shortly learn the results of its arbitration with Thales Alenia over its satellite contract.
Let’s just hope that all of this mess doesn’t harm the reputation of MSS providers for providing reliable service when its really needed, and in particular doesn’t make it even more difficult for the MSS sector to boost revenue growth in this challenging competitive environment.
The news this morning that LightSquared has made the $56.25M payment to Inmarsat that was due in February and in exchange gained two years “breathing space” before any additional payments need to be made, is in line with the deal that I noted was on the table two weeks ago, and shows that Harbinger is still attaching importance to its spectrum rights under the agreement with Inmarsat as it tries to argue for a “spectrum swap”. In a way the $56.25M paid today may not be that important in the end, because if LightSquared files for bankruptcy within the next 90 days then that amount could probably be reclaimed by LightSquared’s creditors.
However, far more significant is that LightSquared has also given up all claims that Inmarsat had failed to perform its obligations under Phase 1 of the Cooperation Agreement (despite the fact that Inmarsat failed to retrofit any of its terminals with filters) and as a result Inmarsat is now saying there is “a high degree of confidence” that it will be able to recognize a further $325M. I’m informed that LightSquared had told its investors that there was “no good basis” to challenge Inmarsat’s assertion that it wasn’t actually necessary to fit filters, and it certainly appears that Inmarsat now has no intention of doing so, and instead will simply be able to recognize a further $325M (on top of the $154M recognized to date) out of the $490M paid by LightSquared up until the end of 2011 as pure profit.
Why did LightSquared make this payment, rather than filing for bankruptcy and preserving its right to sue Inmarsat for part of the money back? One explanation certainly appears to be Falcone’s continued delusional view that LightSquared’s problems can be overcome, and this fits right in with the decision back in December to give up $236M to Sprint in exchange for preserving their hosting agreement for a further three months.
More intriguing is whether this development could signal an agreement with Carl Icahn is going to be reached before April 30, which would keep LightSquared out of bankruptcy, as Falcone apparently desires, perhaps in exchange for Harbinger selling its Ferrous Resources shares to Icahn at what seems to be quite a low price. On the other hand, Falcone might simply be trying once again to convince LightSquared’s investors that he is the only person who can strike the deals necessary to keep LightSquared alive, and its also worth noting that Harbinger still needs to raise $47M from the sale of assets by April 30, regardless of whether a deal is reached over LightSquared (so that the Ferrous Resources sale has to happen anyway).
What this may therefore point to is a finely balanced situation where it remains unclear whether Icahn and his allies have sufficient votes to call a default on LightSquared’s debt after April 30. In particular it is not clear whether they would need to secure 50% support to call this default or as much as a two-thirds majority, which could be far more difficult. Today’s actions may or may not persuade some debtholders to support Falcone rather than Icahn, but as we saw with the Sprint deal, the potential recovery for LightSquared’s investors in the absence of a spectrum swap is rapidly vanishing, with only the ground spare satellite providing any reasonably monetizable asset, and a major part of the ($200M?) cash on LightSquared’s balance sheet will ultimately be consumed by bankruptcy costs.
Its therefore particularly hard to understand why the LightSquared debt has been consistently trading higher, to as much as 53-55 cents on the dollar this morning. The only way to rationalize the rising price of the LightSquared debt is that other investors think that because someone as smart as Icahn is getting involved, there must be a good opportunity here. However, as we saw a decade ago with Craig McCaw’s interest in Iridium and ICO, which ultimately resulted in him taking a huge loss, the satellite industry has a history of disappointing smart investors. With Andy Beal knowing only too well this industry’s cycle of “hopeful and ambitious birth, thrilling and painful growth, and an early and tragic death”, maybe he’s really the smart one to get out at this point. After all, as the Dallas Observer’s epitaph for Beal Aerospace pointed out: “I guess it’s hard to be a genius”.
UPDATE (4/23): LightSquared’s debt has traded even higher, as investors apparently believ a near term bankruptcy is becoming less likely. It seems like a consensus is emerging that Icahn will not have the votes to force a bankruptcy at the end of the month, and so a relatively lengthy extension may well be granted on the breach of covenant waiver, potentially through the end of this year. Even after making the payment to Inmarsat on Friday, LightSquared should have enough money to make its cash interest payments in July and October (totaling ~$50M), cover the operating costs of the current business and still have perhaps $50M-$100M of cash left at the end of 2012. I also understand that LightSquared has asserted that a spectrum swap should be forthcoming after the November 2012 election, although their recent track record of predicting favorable FCC actions is hardly encouraging for investors. However, as noted above, in the absence of a spectrum swap, the potential recovery for investors at that point will be even less, and it will be interesting to see whether Boeing still wants to buy the ground spare satellite next year, given that construction of the MEXSAT-2 satellite for the Mexican government will start relatively soon (the MEXSAT-1 satellite is scheduled for launch in 2013 or 2014).
UPDATE (4/27): The Wall St Journal is reporting today that LightSquared’s lenders are insisting that Falcone step aside as a condition for agreeing not to call a default on Monday. It appears a deal might be possible to keep the company out of bankruptcy for a substantial period of time, perhaps by substantially diluting Falcone’s equity stake, and thereby avoiding the complications (e.g. FCC license transfers) and expense that would be involved in a bankruptcy case. However, it is far from clear that Falcone will do the logical thing and step aside at this point. After all, when I’ve been wrong in my predictions about how things will go, its usually because I’ve assumed that Falcone and LightSquared will act rationally in the interests of their investors.
Separate articles published yesterday by The Daily Beast and Bloomberg had plenty to say about Phil Falcone’s “deep perspiration stains” and his claim that “he doesn’t sweat” under pressure. However, with the waiver of the covenant breaches on LightSquared’s first lien debt expiring on April 30, the heat is certainly on him to figure out the way forward.
Bloomberg’s article indicates that Falcone is hoping Carl Icahn “might become a partner”, as he searches for a way to keep LightSquared out of bankruptcy. In that context it is interesting to note that news emerged last week that Icahn is nearing a deal to buy a 14.9% stake in Ferrous Resources, a Brazilian iron ore mining company, from Harbinger at a price of $1.50 per share, one third of what Harbinger paid for shares in the company in 2009 and less than half of the valuation put on these shares by Harbinger in January 2012. At least conceivably, such a deal could provide a quid pro quo for Icahn’s support in keeping LightSquared out of bankruptcy, and it is notable that Harbinger also needs to raise $47.5M from this asset sale to repay its own loan (from Jefferies) by April 30, the same day that the LightSquared covenant waiver expires.
Two weeks ago I thought that the April 20 deadline (this coming Friday), when Inmarsat can terminate its Cooperation Agreement with LightSquared, could provide the impetus for a decision on whether or not to file for bankruptcy sometime this week. However, if the future of Harbinger itself is riding on avoiding a potential default on the Jefferies loan, then the Inmarsat deadline might well now be ignored. Inmarsat has been standing firm on its insistence that it must be paid even more money to contemplate any extension of the Cooperation Agreement, so if the April 20 deadline passes without payment being made, then it is hard to see an outcome where Inmarsat doesn’t just terminate the Agreement for default, and reclaim several additional MHz of spectrum from LightSquared as part of these default conditions. In those circumstances, it would become even harder for LightSquared’s successors to ever deploy a terrestrial network in the L-band MSS spectrum, even if the FCC was to mandate GPS receiver standards at some point in the future.
As a result, we may soon be asking what is actually left for LightSquared’s creditors, in the absence of any agreement with Inmarsat or Sprint, other than a ground spare satellite (which at least originally was worth $120M to Boeing, based on their vendor financing agreement) and an in-orbit satellite (which is probably worth very little, given its negative cashflows). Of course, LightSquared will try and sue the government, but that may now be made much harder by the statements of DirecTV’s CEO, who told Bloomberg that they “looked at LightSquared’s spectrum in 2004″ and concluded “It conflicts with GPS, it will never work”. DirecTV’s CEO may be misremembering the events, because Rupert Murdoch (then owner of DirecTV) was telling the Wall St Journal in November 2005 that “We may be forming a company with partners to build something out here that would give you broadband” and I had understood that these discussions were in 2005 (possibly even into early 2006) and broke down mainly over price.
Nevertheless, even Falcone admitted that in 2010 he “knew there were interference issues [but] they weren’t his to solve because GPS users were encroaching on his spectrum”. If that is the case then wouldn’t it have been rather better to tell the GPS community about the problem years ago, rather than try to spring it on them as a fait accompli at the last minute? It seems that as DirecTV’s CEO put it “Falcone ‘made a bet that the government would say, “Sure, go ahead,” or somehow make it right.’”.
Of course the complaints of Harbinger’s own investors will be significantly boosted by Falcone’s admission, and LightSquared’s investors may well suggest that UBS ought to have enquired more deeply into this issue before selling the first lien debt. However, for the moment, both Falcone and LightSquared’s debt investors appear to be more focused on securing a spectrum swap, which as Walt Piecyk says in the Bloomberg article (and as I’ve said many times before) “isn’t a realistic option [because] there’s nothing readily available and…if there was, that’s spectrum that could be auctioned off for billions in proceeds”.
Indeed the news today that the FCC has appointed Gary Epstein, a former SkyTerra executive, as co-head of the Incentive Auction Task Force (something which has already attracted Sen. Grassley’s attention) may make it even harder for the FCC to take any action to help LightSquared, because further accusations of favoritism would be sure to follow.
All of this comes as attention finally seems to be turning to the fact that (as I’ve said for the last 18 months) the “spectrum crisis” is based on hyperbole from the wireless carriers (not to mention the FCC and White House). As Marty Cooper, the inventor of the cellphone and Cooper’s Law (which states that spectral efficiency, or put another way potential wireless capacity in a given area, has doubled every 2.5 years for the past century) puts it:
“Every two and a half years, every spectrum crisis has gotten solved, and that’s going to keep happening,” Mr. Cooper said. “We already know today what the solutions are for the next 50 years.”
In fact, the CTIA’s semi-annual statistics, released last week, gave a pretty clear indication of what those solutions are. Remarkably, in the last six months of 2011, an all-time record 26,465 cell sites were added in the US (an increase of more than 10% in just 6 months) despite the fact that wireless capital investment by the carriers during 2011 was up only 1.7% on 2010. Thus it seems pretty clear that deployment of new (small, lower cost?) cell sites for capacity enhancement is working very well to accommodate increasing amounts of data traffic, without imposing any significant burden on the wireless operators. Indeed, with the operators apparently able to include on-net WiFi traffic in the data they report to CTIA, as AT&T is probably doing, the need for more licensed spectrum may be reduced even further. As a result, if LightSquared’s investors ever believed Mr. Falcone’s assertion that “it is clear that the investment thesis was dead-on” then maybe they ought to start having some doubts about that as well.
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