iPhone subsidy hurts earnings, but only in short term, AT&T says

In return for subsidy, AT&T gets bigger subscriber base, lower customer turnover

The $300 subsidy that AT&T Inc. pays for each iPhone took a toll on the carrier's quarterly finances reported today, slightly more than analysts projected.

But AT&T executives are apparently fine with that reality and said the iPhone, exclusively sold by AT&T, helps increase its subscriber base, which is at nearly 80 million. The carrier also reported record low churn, or turnover, for pre-paid and post-paid customers, and attributed part of the lower churn to the iPhone.

The carrier reported 2.4 million iPhone activations for the second quarter (about half of all iPhone sales reported by Apple globally), with the best sales day ever at its retail stores on June 19 when the iPhone 3G S went on sale.

AT&T's adjusted operating income margin, a measure of profitability, was reported today at 38.3% for the second quarter, less than some analysts estimates of 38.5%, due to the iPhone subsidy and a flurry of iPhone 3G S sales at the end of June.

Without the iPhone subsidy, AT&T reported the margin would have been above 40%, roughly in line with the 40.9% margin reported in the first quarter for operating income before depreciation and amortization.(OIBDA)

AT&T said the OIBDA margin should grow to the mid-40% range over the long term. Despite the hit that AT&T took with its iPhone subsidy, the carrier said in a statement that its iPhone customer characteristics are "attractive" and generate significantly higher than average annual revenue per user (ARPU) and churn rates "well below" the average for subscribers.

That sentiment is in line with what analysts have called a paradox for AT&T, which can sustain a short-term impact on earnings from iPhone subsidies. "The iPhone should create long-term value for AT&T," said Rick Franklin, a financial analyst at Edward Jones in St. Louis, in a recent interview.

In turn, the success of the iPhone is one reason AT&T is expected to fight to keep its exclusive deal, even as other carriers seek to sell the iPhone in the U.S. The deal is multiyear, AT&T has said, with many believing it will expire next year, although Franklin said there are rumors it could last another two years.

"Our wireless momentum is excellent," AT&T CEO Randall Stephenson said today in the earnings report. In all, the carrier has 79.6 million wireless subscribers, up nearly 7 million in the last year.

The record low churn was an average monthly figure of 1.09% for post-paid subscribers, which includes iPhone subscribers and others who agree to pay monthly bills and sign service contracts. Prepaid subscribers also reached a record low average monthly churn of 1.49%.

Copyright © 2009 IDG Communications, Inc.

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