By David Dixon of FBR Captial Markets &Co. (edited by Alan J Weissberger):
Note: As everyone knows, Verizon acquired all of Verizon WIreless from Vodafone and has sold off a good part of its wireline business to Frontier Communications. Hence, it’s more of a wireless carrier than ever before!
David Dixon’s Commentary:
First, we think competitive intensity should stabilize this year as T-Mobile US increasingly focuses on EBITDA relative to net subscriber add growth and Softbank substantially reduces capital investment to stabilize free cash flow amid a spectrum business model shift.
Second, we do not believe the market appreciates how close the Verizon network is to being ready to deploy a quality VoLTE network nationwide. This opens up the path to lower cost and spectrally efficient LTE-only devices, providing additional CDMA spectrum refarming opportunities in the 850MHz band (in addition to its plans to refarm 1900MHz spectrum) and flexibility in how it chooses to participate in the 2016 broadcast incentive auction. Third, 150MHz of 3.5GHz spectrum should be auctioned in 2016. This changes the capacity spectrum supply curve amid an industry business model shift underway to use small cells to manage capacity challenges versus macro network spectrum.
During 2015, we think VZ will maintain price discipline while continuing to explore divestiture opportunities, which could potentially include the MCI backhaul n
etwork and Terremark given the shift to a virtualized distributed data center network platform.
Better-than-expected underlying spectrum position. We do not believe Verizon needs a spectrum deal with DISH or to aggressively participate in the broadcast incentive auction. This is due to the combination of
(1) spectrum refarming opportunities in both the 1900MHz and 850MHz spectrum bands (as VoLTE ramps);
(2) increased managed capacity spectrum supply with 500MHz of 5GHz spectrum (which bonds to licensed spectrum adding downlink capacity) and following FCC approval last Friday of 150MHz of shared 3.5GHz spectrum; and
(3) the industry business model shift underway from macro to small cell LTE underlay networks, where small cells on dedicated capacity spectrum will increasingly manage network congestion.
Small Cell opportunity for VZ:
A change in the industry network engineering business model is underway toward using small cells on dedicated spectrum to manage more of the heavy lifting associated with data congestion. Verizon demonstrated this shift during the AWS3 auction when it modeled a lower cost small cell network for Chicago and New York. We expect CEO Lowell McAdam to manage this shift from the top down to mitigate execution risk due to cultural resistance from legacy outdoor RF design engineers whose roles are at risk as the macro network is de-emphasized. Enablers include the advent of LTE, increased spectrum supply across multiple spectrum bands including LTE licensed, unlicensed (e.g., 500MHz of 5GHz spectrum), and shared frequencies (e.g., 150MHz of 3.5GHz spectrum) amid a fundamental FCC spectrum policy shift from exclusive spectrum rights to usage-based spectrum rights, which should dramatically increase LTE spectrum utilization similar to Wi-Fi. Previously, outdoor small cells co-channeled with the macro network proved challenging. While they can carry substantial load, they also destroy equivalent capacity on the macro network due to miscoordination and interference, so the macro network carries less traffic but still looks fully loaded. AT&T discovered this in its St Louis trials that in part steered it toward buying $20 billion of AWS3 spectrum. However, the industry trend is toward LTE underlay networks where small cells are put in other shared or unlicensed spectrum with supervision from and/or carrier aggregation with the macro network. Coordination across all cells is still required for this to work, and while Verizon s initial proposals for 5GHz are downlink only, we think uplink will also be used in the longer term. This is because the uplink needs more spectrum resources for a given throughput and we are seeing higher uplink usage trends in the Asian enterprise segment and from Internet of Things (e.g., security cameras)
Does Verizon have sufficient spectrum depth to drive revenue growth longer term, or does it need to aggressively acquire spectrum in future auctions or in the secondary market (e.g., DISH)?
The short answer is yes, we believe it does. Verizon s combined nationwide CDMA and LTE spectrum depth is 115MHz ranging from 88MHz in Denver to 127MHz in New York City. We expect AWS3 capacity spectrum to be deployed in 2017/2018. Investors may not be crediting Verizon with the potential to source more LTE spectrum from the refarming of CDMA to LTE (22MHz to 25MHz) used today for CDMA data (22MHz to 25MHz). Network performance data shows that Verizon s network could be close to the required performance threshold for a VoLTE-only service, which suggests there is additional refarming potential for the 850MHz band (25MHz) used today for CDMA voice and text. This band is likely to be transitioned in 5MHzx5MHz LTE slivers to run parallel with the expected linear (voluntary) ramp versus exponential (forced) ramp in VoLTE service.