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T-MOBILE US, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations(Edgar Glimpses Via Acquire Media NewsEdge) Cautionary Statement Regarding Forward-Looking Statements Certain statements in this report include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All statements, other than statements of historical fact, including information concerning our possible or assumed future results of operations, are forward-looking statements. These forward-looking statements are generally identified by the words "anticipates," "believes," "estimates," "expects," or similar expressions. Forward-looking statements are based on current expectations and assumptions, which are subject to risks and uncertainties and may cause actual results to differ materially from the forward-looking statements. The following important factors could affect future results and cause those results to differ materially from those expressed in the forward-looking statements: • adverse conditions in the U.S. and international economies or disruptions to the credit and financial markets; • competition in the wireless services market; • the ability to complete and realize expected synergies and other benefits of acquisitions; • the inability to implement our business strategies or ability to fund our wireless operations, including payment for additional spectrum, network upgrades, and technological advancements; • the ability to renew our spectrum licenses on attractive terms or acquire new spectrum licenses; • the ability to manage growth in wireless data services, including network quality and acquisition of adequate spectrum licenses at reasonable costs and terms; • material changes in available technology; • the timing, scope and financial impact of our deployment of 4G Long-Term Evolution ("LTE") technology; • the impact on our networks and business from major technology equipment failures; • breaches of network or information technology security, natural disasters or terrorist attacks or existing or future litigation and any resulting financial impact not covered by insurance; • any changes in the regulatory environments in which we operate, including any increase in restrictions on the ability to operate our networks; • any disruption of our key suppliers' provisioning of products or services; • material adverse changes in labor matters, including labor negotiations or additional organizing activity, and any resulting financial and/or operational impact; • changes in accounting assumptions that regulatory agencies, including the Securities and Exchange Commission ("SEC"), may require or that result from changes in the accounting rules or their application, which could result in an impact on earnings; and, • changes in tax laws, regulations and existing standards and the resolution of disputes with any taxing jurisdictions. Additional information concerning these and other risk factors is contained in the Risk Factors included in Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2013. You should carefully read and consider the cautionary statements contained or referred to in this section in connection with any subsequent written or oral forward-looking statements that may be issued by us or persons acting on our behalf, and all future written and oral forward-looking statements attributable to us are expressly qualified in their entirety by the foregoing cautionary statements. Except as expressly stated, the financial condition and results of operations discussed throughout Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") are those of T-Mobile. Overview The MD&A is intended to provide a reader of our financial statements with a narrative explanation from the perspective of management of our financial condition, results of operations, liquidity and certain other factors that may affect future results. The MD&A is provided as a supplement to, and should be read in conjunction with, our Consolidated Financial Statements included in Part II, Item 8 of our Form 10-K for the year ended December 31, 2013. Unless expressly stated otherwise, the comparisons presented in this MD&A refer to the same period in the prior year. T-Mobile's MD&A is presented in the following sections: • Financial Highlights • Other Highlights • Results of Operations 24-------------------------------------------------------------------------------- Table of Contents • Performance Measures • Liquidity and Capital Resources • Contractual Obligations • Off-Balance Sheet Arrangements • Related Party Transactions • Critical Accounting Policies and Estimates • Recently Issued Accounting Standards Financial Highlights • Service revenues increased 15% to $5.5 billion for the three months ended June 30, 2014, compared to $4.8 billion for the same period in 2013. Service revenues increased 23% to $10.8 billion for the six months ended June 30, 2014, compared to $8.8 billion for the same period in 2013. • Total net customer additions were 1,470,000 for the three months ended June 30, 2014, an increase compared to 1,130,000 net customer additions for the same period in 2013. Total net customer additions were 3,861,000 for the six months ended June 30, 2014, compared to 1,709,000 net customer additions for the same period in 2013. • Branded postpaid phone churn was consistent at 1.5% for the three months ended June 30, 2014 and 2013. Branded postpaid phone churn was 1.5% for the six months ended June 30, 2014, a 20 basis point improvement compared to 1.7% for the same period in 2013. • Adjusted EBITDA of $1.5 billion for the three months ended June 30, 2014, compared to $1.1 billion for the same period in 2013. Adjusted EBITDA of $2.5 billion for the six months ended June 30, 2014, compared to $2.3 billion for the same period in 2013. • Cash capital expenditures for property and equipment were $1.9 billion for the six months ended June 30, 2014, compared to $2.1 billion for the same period in 2013. Note: Comparability of results in this Form 10-Q for the three and six months ended June 30, 2014 and 2013 is affected by the inclusion of MetroPCS results after the completion of the business combination on April 30, 2013. Other Highlights Un-carrier value proposition - In January 2014, we launched phase 4.0 of our Un-carrier value proposition or "Contract Freedom", which reimburses customers' early termination fees ("ETF") when they switch from other carriers and trade in their eligible device. The reimbursement of ETF is recorded as a reduction of equipment sales revenues, and accordingly had an impact on both revenue and Adjusted EBITDA for the three and six months ended June 30, 2014. In April 2014, we announced that starting in May, for bills arriving in June, domestic overage charges will be abolished for all customers on our consumer plans. In June 2014, we launched phase 5.0 of our Un-carrier value proposition, or "T-Mobile Test Drive", which allows consumers to test our network and an iPhone 5s with unlimited nationwide service for seven days at no charge. Also, in June 2014, we launched phase 6.0 of our Un-Carrier value proposition, or "Music Freedom", which allows customers to stream music from popular music services without it counting against their data allotment. Additionally, as part of phase 6.0 of our Un-carrier value proposition, we launched Rhapsody unRadio in partnership with Rhapsody for a limited time, which allows Simple Choice customers with unlimited 4G data service to stream music at no additional cost. We are also offering Rhapsody unRadio at a discounted price for our eligible customers. Spectrum purchases - In November 2013 and January 2014, we entered into agreements with Verizon for the acquisition of 700 MHz A-Block, AWS and PCS spectrum licenses in exchange for cash and the transfer of certain AWS and PCS spectrum licenses. These transactions further enhance our portfolio of U.S. nationwide broadband spectrum and enable the expansion of LTE coverage to new markets. Upon closing of the transactions in April 2014, we received 700 MHz A-Block, AWS and PCS spectrum licenses and exchanged certain AWS and PCS spectrum licenses. See Note 2 - Acquisitions and Other Transactions of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information. Factoring arrangement - In February 2014, we entered into a two-year factoring arrangement to sell certain service accounts receivable on a revolving basis, subject to a maximum funding limit of $500 million at any given time. See Note 2 - Acquisitions and Other Transactions of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information. 25-------------------------------------------------------------------------------- Table of Contents Results of Operations Set forth below is a summary of consolidated results: Three Months Ended June 30, Six Months Ended June 30, (in millions) 2014 2013 % Change 2014 2013 % Change Revenues Branded postpaid revenues $ 3,511 $ 3,284 7 % $ 6,958 $ 6,547 6 % Branded prepaid revenues 1,736 1,242 40 % 3,384 1,745 94 % Wholesale revenues 172 143 20 % 346 293 18 % Roaming and other service revenues 65 87 (25 )% 133 177 (25 )% Total service revenues 5,484 4,756 15 % 10,821 8,762 23 % Equipment sales 1,600 1,379 16 % 3,048 1,984 54 % Other revenues 101 93 9 % 191 159 20 % Total revenues 7,185 6,228 15 % 14,060 10,905 29 % Operating expenses Cost of services, exclusive of depreciation and amortization shown separately below 1,453 1,327 9 % 2,917 2,436 20 % Cost of equipment sales 2,215 1,936 14 % 4,501 2,822 59 % Selling, general and administrative 2,151 1,847 16 % 4,247 3,353 27 % Depreciation and amortization 1,129 888 27 % 2,184 1,643 33 % MetroPCS transaction and integration costs 22 26 (15 )% 34 39 (13 )% Restructuring costs - 23 NM - 54 NM Other, net (747 ) - NM (757 ) (2 ) NM Total operating expenses 6,223 6,047 3 % 13,126 10,345 27 % Operating income 962 181 NM 934 560 67 % Other income (expense) Interest expense to affiliates (85 ) (225 ) (62 )% (103 ) (403 ) (74 )% Interest expense (271 ) (109 ) NM (547 ) (160 ) NM Interest income 83 40 108 % 158 75 111 % Other income (expense), net (12 ) 118 NM (18 ) 112 NM Total other expense, net (285 ) (176 ) 62 % (510 ) (376 ) 36 % Income before income taxes 677 5 NM 424 184 NM Income tax expense 286 21 NM 184 93 98 % Net income (loss) $ 391 $ (16 ) NM $ 240 $ 91 NM NM - Not Meaningful Revenues Branded postpaid revenues increased $227 million, or 7%, for the three months ended and $411 million, or 6%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily attributable to growth in the number of average branded postpaid customers driven by the continued success of our Un-carrier value proposition along with an increase in revenues from the adoption of upgrade and insurance programs. These increases were partially offset by lower branded postpaid phone average revenue per user ("ARPU"). See "Performance Measures" for a description of ARPU. Branded postpaid phone ARPU was negatively impacted by the growth of our Value and Simple Choice ("Simple Choice") plans, which have lower monthly service charges compared to traditional bundled plans. Branded postpaid customers on Value and Simple Choice plans increased over the past twelve months to 80% of the branded postpaid customer base as of June 30, 2014, compared to 50% as of June 30, 2013. Additionally, non-recurring factors of a reduction in certain regulatory surcharges and a non-recurring revenue adjustment for expected customer refunds on premium SMS content charges together reduced branded postpaid revenues by $43 million for the three months ended June 30, 2014. Branded prepaid revenues increased $494 million, or 40%, for the three months ended and $1.6 billion, or 94%, for the six months ended June 30, 2014, compared to the same periods in 2013, primarily due to the inclusion of MetroPCS operating results since completion of the business combination and the subsequent expansion and growth of the MetroPCS customer base. 26-------------------------------------------------------------------------------- Table of Contents Wholesale revenues increased $29 million, or 20%, for the three months ended and $53 million, or 18%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increase was primarily attributable to growth of the average number of Mobile Virtual Network Operator ("MVNO") customers for the period. The increase in MVNO customers was primarily from MVNO growth in government subsidized Lifeline programs and monthly plans offered by our MVNO partners. Roaming and other service revenues decreased $22 million, or 25%, for the three months ended and $44 million, or 25%, for the six months ended June 30, 2014, compared to the same periods in 2013, primarily due to a decline in ETFs following our introduction of the no annual service contract feature of the Simple Choice plan launched in March 2013. Equipment sales increased $221 million, or 16%, for the three months ended and $1.1 billion, or 54%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily attributable to significant growth in the number of handsets sold due to higher gross customer additions and higher handset upgrade volumes, including JUMP! redemptions. To a lesser extent, the increases resulted from the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014. These increases were partially offset by reductions to equipment sales revenues from the reimbursement of other carriers' ETFs in connection with Un-carrier phase 4.0. We financed $1.3 billion of equipment sales revenues through equipment installment plans during the three months ended June 30, 2014, a significant increase from $811 million in the same period in 2013, resulting from growth of our Simple Choice plans. Additionally, customers had associated equipment installment plan billings of $810 million in the three months ended June 30, 2014, compared to $314 million in the same period in 2013. During the six months ended June 30, 2014, we financed $2.6 billion of equipment sales revenues through equipment installment plans, an increase from $1.1 billion in the six months ended June 30, 2013. Additionally, customers had associated equipment installment plan billings of $1.5 billion in the six months ended June 30, 2014, compared to $508 million in the six months ended June 30, 2013. We classify EIP receivables, gross into credit categories of "Prime" and "Subprime". Prime receivables, those with lower delinquency risk, were 53% of the EIP receivables on a gross basis as of June 30, 2014. Other revenues increased $8 million, or 9%, for the three months ended and $32 million, or 20%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily due to higher co-location rental income from leasing space on T-Mobile-owned wireless communication towers to third parties and higher lease income associated with spectrum license lease agreements. Operating Expenses Cost of services increased $126 million, or 9%, for the three months ended and $481 million, or 20%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily due to the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014. To a lesser extent, increases resulted from higher lease expense primarily relating to spectrum license lease agreements. These increases were partially offset by a reduction of certain regulatory surcharges that also reduced branded postpaid revenues for the three and six months ended June 30, 2014 Cost of equipment sales increased $279 million, or 14%, for the three months ended and $1.7 billion, or 59%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily attributable to significant growth in the number of handsets sold due to higher branded gross customer additions, higher handset upgrade volumes, including JUMP! redemptions, and an increase in the volume of smartphone sales of 41% and 99% for the three and six months ended June 30, 2014, respectively, compared to the same periods in 2013. To a lesser extent, the increases resulted from the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014. Selling, general and administrative increased $304 million, or 16%, for the three months ended and $894 million, or 27%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily due to higher employee-related costs as a result of increases in the number of retail and customer support employees, as well as costs associated with stock-based compensation, and the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014. Additionally, higher promotional costs contributed to the increase for the six months ended June 30, 2014. Depreciation and amortization increased $241 million, or 27%, for the three months ended and $541 million, or 33%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases in depreciation and amortization were primarily associated with the build out of the T-Mobile LTE network, which increased the depreciable base, and the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014, including accelerated depreciation related to the decommissioning of the MetroPCS CDMA network. Additionally, depreciation expense was higher due to the shortening 27-------------------------------------------------------------------------------- Table of Contents of useful lives of certain network equipment to be replaced in connection with network modernization efforts contributed to the increase. MetroPCS transaction and integration costs of $22 million and $34 million for the three and six months ended June 30, 2014, respectively, and $26 million and $39 million for the three and six months ended June 30, 2013, respectively, reflect personnel-related costs and professional services costs associated with the business combination. In July 2014, we began decommissioning the MetroPCS CDMA network and certain other redundant network cell sites. We expect to incur between $250 million and $300 million in network decommissioning costs during the second half of 2014, which will be excluded from Adjusted EBITDA. These network decommissioning costs relate primarily to the acceleration of lease costs for cell sites that would have otherwise been recognized as cost of services over the remaining lease term had we not decommissioned the cell sites. See Note 8 - Subsequent Events of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information on the network decommissioning costs. Other, net for both the three and six months ended June 30, 2014 primarily consisted of a non-cash gain of $731 million from spectrum license transactions. See Note 2 - Acquisitions and Other Transactions of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information. Other Income (Expense) Interest expense to affiliates decreased $140 million, or 62%, for the three months ended and $300 million, or 74%, for the six months ended June 30, 2014, compared to the same periods in 2013. The decreases were primarily due to lower debt balances with Deutsche Telekom in 2014, resulting from the recapitalization of T-Mobile prior to the business combination and Deutsche Telekom's sale of non-reset notes in the aggregate principal amount of $5.6 billion in October 2013. The decrease during the six months ended June 30, 2014, compared to the same period in 2013, was further impacted by fair value adjustments related to embedded derivative instruments associated with the senior reset notes issued to Deutsche Telekom in the recapitalization. Additionally, interest expense to affiliates was higher during 2013 as a result of losses related to the retirement of derivative instruments associated with the extinguishment of the long-term debt to affiliates prior to the business combination. Interest expense increased $162 million for the three months ended and $387 million for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily the result of new senior notes issued during 2013, the assumption of MetroPCS long-term debt in connection with the business combination and the reclassification of non-reset notes from long-term debt to affiliates to long-term debt following Deutsche Telekom's sale of the non-reset notes in October 2013. Interest income increased $43 million, or 108%, for the three months ended and $83 million, or 111%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily the result of significant growth in handsets financed through our equipment installment plans. Deferred interest associated with our EIP receivables is imputed at the time of sale and then recognized over the financed installment term. Other income (expense), net decreased $130 million for the three and six months ended June 30, 2014, compared to the same periods in 2013. The decreases were primarily due to the recognition of foreign currency translation gains in 2013 related to the retirement of derivative instruments prior to the business combination in April 2013. Income Taxes Income tax expense increased $265 million for the three months ended and $91 million for the six months ended June 30, 2014, compared to the same periods in 2013, primarily due to higher pre-tax income. The effective tax rate was 42.2% and 395.2% for the three months ended June 30, 2014 and 2013, respectively, and 43.4% and 50.5% for the six months ended June 30, 2014 and 2013. Guarantor Subsidiaries Pursuant to the applicable indentures and supplemental indentures, the long-term debt, excluding capital leases, are fully and unconditionally guaranteed, jointly and severally, on a senior unsecured basis by T-Mobile ("Parent") and certain of T-Mobile USA's ("Issuer") 100% owned subsidiaries ("Guarantor Subsidiaries"). In 2014, T-Mobile entered into a two-year factoring arrangement to sell certain service accounts receivable on a revolving basis. In connection with the factoring arrangement, the Company formed the Factoring SPE, which is included in the Non-Guarantor Subsidiaries condensed consolidating financial information. 28-------------------------------------------------------------------------------- Table of Contents The financial condition of the Parent, Issuer and Guarantor Subsidiaries was substantially similar to the Company's consolidated financial condition. Additionally, the results of operations of the Parent, Issuer and Guarantor Subsidiaries were substantially similar to the Company's consolidated results of operations. The change in the financial condition of the Non-Guarantor Subsidiaries was primarily due to the inclusion of the net assets and results of operations of the Factoring SPE as a result of the factoring arrangement. As of June 30, 2014 and December 31, 2013, the most significant components of the financial condition of the Non-Guarantor Subsidiaries were property and equipment of $555 million and $595 million, respectively, long-term financial obligations of $2.1 billion and $2.1 billion, respectively, and stockholders' deficit of $1.2 billion and $1.3 billion, respectively. The most significant components of the results of operations of our Non-Guarantor Subsidiaries for the three and six months ended June 30, 2014 were service revenues of $323 million and $588 million, respectively, offset by costs of equipment sales of $207 million and $345 million, respectively, resulting in a net comprehensive loss of $25 million and $30 million, respectively. Similarly, for the three and six months ended June 30, 2013, service revenues of $191 million and $367 million, respectively, were offset by costs of equipment sales of $122 million and $251 million, respectively, resulting in a net comprehensive loss of none and $20 million, respectively. Performance Measures In managing our business and assessing financial performance, we supplement the information provided by the financial statements with other operating or statistical data and non-GAAP financial measures. These operating and financial measures are utilized by our management to evaluate our operating performance and, in certain cases, our ability to meet liquidity requirements. Although companies in the wireless industry may not define each of these measures in precisely the same way, we believe that these measures facilitate key operating performance comparisons with other companies in the wireless industry. Total Customers A customer is generally defined as a SIM card with a unique T-Mobile identity number which is associated to an account that generates revenue. Branded customers generally include customers that are qualified either for postpaid service, where they generally pay after incurring service, or prepaid service, where they generally pay in advance. Wholesale customers include Machine-to-Machine ("M2M") and MVNO customers that operate on our network, but are managed by wholesale partners. The following table sets forth the number of ending customers: June 30, March 31, December 31, (in thousands) 2014 2014 2013 Customers, end of period Branded postpaid phone customers 23,633 23,054 21,797 Branded postpaid mobile broadband customers 897 568 502 Total branded postpaid customers 24,530 23,622 22,299 Branded prepaid customers 15,639 15,537 15,072 Total branded customers 40,169 39,159 37,371 M2M customers 4,047 3,822 3,602 MVNO customers 6,329 6,094 5,711 Total wholesale customers 10,376 9,916 9,313 Total customers, end of period 50,545 49,075 46,684 29-------------------------------------------------------------------------------- Table of Contents The following table sets forth the number of net customer additions (losses): Three Months Ended June 30, Six Months Ended June 30, (in thousands) 2014 2013 2014 2013 Net customer additions (losses) Branded postpaid phone customers 579 685 1,835 496 Branded postpaid mobile broadband customers 329 3 396 (6 ) Total branded postpaid customers 908 688 2,231 490 Branded prepaid customers 102 (10 ) 567 191 Total branded customers 1,010 678 2,798 681 M2M customers 225 133 445 333 MVNO customers 235 319 618 695 Total wholesale customers 460 452 1,063 1,028 Total net customer additions 1,470 1,130 3,861 1,709 Acquired customers - 8,918 - 8,918 Net customer additions for the three months ended June 30, 2014 were 1,470,000, compared to net customer additions of 1,130,000 in the same period in 2013. Net customer additions for the six months ended June 30, 2014 were 3,861,000, compared to net customer additions of 1,709,000 in the same period in 2013. As of June 30, 2014, we had approximately 50.5 million customers, an 8% increase from the customer total as of December 31, 2013. The increases were the result of growth in all customer categories, as described below. Branded Customers Branded postpaid phone net customer additions were 579,000 for the three months ended June 30, 2014, compared to branded postpaid phone net customer additions of 685,000 for the same period in 2013. Branded postpaid phone net customer additions were 1,835,000 for the six months ended June 30, 2014, compared to branded postpaid phone net customer additions of 496,000 for the same period in 2013. The decrease in branded postpaid phone net customer additions for the three months ended June 30, 2014 was primarily due to higher branded postpaid phone deactivations as described in the churn section below. Also, postpaid phone net customer additions in the second quarter of 2013 benefited from our introduction of the Apple® iPhone®. The significant improvement in customer development for the six months ended June 30, 2014 was attributable to increased new customer activations and improved branded postpaid phone churn. Growth in branded postpaid phone gross customer additions for the six months ended June 30, 2014 resulted primarily from strong response to our Un-carrier value proposition and the sales of popular handsets. Branded postpaid mobile broadband net customer additions were 329,000 for the three months ended June 30, 2014, compared to branded postpaid mobile broadband net customer additions of 3,000 for the same period in 2013. Branded postpaid mobile broadband net customer additions were 396,000 for the six months ended June 30, 2014, compared to branded postpaid mobile broadband net customer losses of 6,000 for the same period in 2013. Growth in branded postpaid mobile broadband net customer additions resulted from positive customer response to "Operation Tablet Freedom". In April 2014, we launched Operation Tablet Freedom for a limited time, which provides customers with an existing voice line with up to 1.2 GB of free data per month for their tablet device until the end of the year. Branded prepaid net customer additions were 102,000 for the three months ended June 30, 2014, compared to branded prepaid net customer losses of 10,000 for the same period in 2013. Branded prepaid net customer additions were 567,000 for the six months ended June 30, 2014, compared to branded prepaid net customer additions of 191,000 for the same period in 2013. The improvements were attributable to higher branded prepaid gross customer additions primarily due to the acquisition and subsequent expansion of the MetroPCS brand, including the launch into 30 additional markets during 2013. Wholesale Wholesale net customer additions were 460,000 for the three months ended June 30, 2014, compared to wholesale net customer additions of 452,000 for the same period in 2013. Wholesale net customer additions were 1,063,000 for the six months ended June 30, 2014, compared to wholesale net customer additions of 1,028,000 for the same period in 2013. The increases in wholesale net customer additions resulted primarily from MVNO growth in government subsidized Lifeline programs and monthly plans offered by our MVNO partners. Both MVNO and M2M customers continued to grow in the three and six months ended June 30, 2014. MVNO partners often have relationships with multiple carriers and through steering their business towards carriers offering promotions can impact specific carriers' results. 30-------------------------------------------------------------------------------- Table of Contents Churn Churn represents the number of customers whose service was discontinued as a percentage of the average number of customers during the specified period. The number of customers whose service was discontinued is presented net of customers that subsequently have their service restored. We believe that churn provides management with useful information to evaluate customer retention and loyalty. Three Months Ended June 30, Six Months Ended June 30, 2014 2013 2014 2013 Branded postpaid phone churn 1.5 % 1.5 % 1.5 % 1.7 % Branded prepaid churn 4.5 % 5.4 % 4.4 % 6.0 % Branded postpaid phone churn was stable for the three months ended June 30, 2014, compared to the same period in 2013, but decreased to 1.5% for the six months ended June 30, 2014, compared to 1.7% for the same period in 2013. Branded postpaid phone churn was impacted by continued focus on churn reduction initiatives, such as improving network quality and total customer experience. Additionally, the continued success of our Un-carrier value proposition and the introduction of popular handsets during 2013, including the Apple iPhone, improved customer retention. For the three months ended June 30, 2014, while churn remained stable, deactivations increased due to a larger branded postpaid phone customer base. Branded prepaid churn was 4.5% for the three months ended June 30, 2014, compared to 5.4% for the same period in 2013. Branded prepaid churn was 4.4% for the six months ended June 30, 2014, compared to 6.0% for the same period in 2013. Branded prepaid churn was impacted positively by the inclusion of MetroPCS customers, which represent the largest portion of the branded prepaid customer base and have lower rates of churn than T-Mobile's other branded prepaid customers. Average Revenue Per User ("ARPU") and Average Billings Per User ("ABPU") ARPU represents the average monthly service revenue earned from customers. We believe ARPU provides management, investors and analysts with useful information to assess our per-customer service revenue realization, assist in forecasting our future service revenues, and evaluate the average monthly service revenues generated from our customer base. Branded postpaid phone ARPU is reported for the first time in the quarterly reporting period ending June 30, 2014 in replacement of branded postpaid ARPU to exclude mobile broadband customers and related revenues and provide which is more comparable with other national carriers' ARPU disclosures. ABPU represents the average monthly branded postpaid customer billings. We believe ABPU provides management, investors and analysts with useful information to evaluate average per-branded postpaid customer billings as it approximates the estimated cash collections, including equipment installments, from our customers each month. 31-------------------------------------------------------------------------------- Table of Contents The following tables illustrate the calculation of ARPU and ABPU and reconciles these measures to the related service revenues, which we consider to be the most directly comparable GAAP financial measure to ARPU and ABPU: Three Months Ended June 30, Six Months Ended June 30, (in millions, except average number of customers, ARPU and ABPU) 2014 2013 2014 2013 Calculation of Branded Postpaid Phone ARPU: Branded postpaid service revenues $ 3,511 $ 3,284 $ 6,958 $ 6,547 Less: Branded postpaid mobile broadband revenues (54 ) (42 ) (101 ) (86 ) Branded postpaid phone service revenues $ 3,457 $ 3,242 $ 6,857 $ 6,461 Divided by: Average number of branded postpaid phone customers (in thousands) and number of months in period 23,368 19,999 22,908 19,844 Branded postpaid phone ARPU $ 49.32 $ 54.04 $ 49.89 $ 54.26 Calculation of Branded Postpaid ABPU: Branded postpaid service revenues $ 3,511 $ 3,284 $ 6,958 $ 6,547 Add: EIP billings 810 314 1,467 508 Total billings for branded postpaid customers $ 4,321 $ 3,598 $ 8,425 $ 7,055 Divided by: Average number of branded postpaid customers (in thousands) and number of months in period 24,092 20,425 23,533 20,271 Branded postpaid ABPU $ 59.79 $ 58.72 $ 59.67 $ 58.01 Calculation of Branded Prepaid ARPU: Branded prepaid service revenues $ 1,736 $ 1,242 $ 3,384 $ 1,745 Divided by: Average number of branded prepaid customers (in thousands) and number of months in period 15,569 11,902 15,395 8,919 Branded prepaid ARPU $ 37.16 $ 34.78 $ 36.63 $ 32.61 Branded postpaid phone ARPU decreased $4.72, or 9%, for the three months ended and $4.37, or 8%, for the six months ended June 30, 2014, compared to the same periods in 2013. The decreases were primarily due to the continued growth of customers on Simple Choice plans, which have lower monthly service charges compared to traditional bundled plans. As of June 30, 2014, branded postpaid customers on Simple Choice plans represented 80% of branded postpaid customers compared to 50% of branded postpaid customers at June 30, 2013. Additionally, non-recurring factors of a reduction in certain regulatory surcharges and a non-recurring revenue adjustment for expected customer refunds on premium SMS content charges together reduced branded postpaid phone ARPU by $0.61 for the three months ended June 30, 2014. Excluding these non-recurring factors, branded postpaid phone ARPU would have been $49.93 for the three months ended June 30, 2014. Branded postpaid ABPU increased $1.07, or 2%, for the three months ended and $1.66, or 3%, for the six months ended June 30, 2014, compared to the same periods in 2013. Branded postpaid ABPU increased primarily due to growth in our EIP billings on a per user basis, offset in part by lower branded postpaid phone ARPU. ABPU reflects the shift in customer billings from branded postpaid service revenues to equipment sales revenues. Branded prepaid ARPU increased $2.38, or 7%, for the three months ended and $4.02, or 12%, for the six months ended June 30, 2014, compared to the same periods in 2013. The increases were primarily due to the inclusion and growth of the MetroPCS customer base, which generate higher ARPU than T-Mobile's other branded prepaid customer base. Adjusted EBITDA Adjusted EBITDA represents earnings before interest expense (net of interest income), tax, depreciation, amortization, stock-based compensation and expenses not reflective of T-Mobile's ongoing operating performance. Adjusted EBITDA margin is Adjusted EBITDA divided by service revenues. Adjusted EBITDA is a non-GAAP financial measure utilized by our management to monitor the financial performance of our operations. We use Adjusted EBITDA internally as a metric to evaluate and compensate our personnel and management for their performance, and as a benchmark to evaluate our operating performance in comparison to our competitors. Management also uses Adjusted EBITDA to measure our ability to provide cash flows to meet future debt services, capital expenditures and working capital requirements, and fund future growth. We believe analysts and investors use Adjusted EBITDA as a supplemental measure to evaluate overall operating performance and facilitates comparisons with other wireless communications companies. Adjusted EBITDA has limitations as an analytical tool and should not be considered in isolation 32-------------------------------------------------------------------------------- Table of Contents or as a substitute for income from operations, net income, or any other measure of financial performance reported in accordance with GAAP. The following table illustrates the calculation of Adjusted EBITDA and reconciles Adjusted EBITDA to net income which we consider to be the most directly comparable GAAP financial measure to Adjusted EBITDA: Three Months Ended June 30, Six Months Ended June 30, (in millions) 2014 2013 2014 2013 Net income (loss) $ 391 $ (16 ) $ 240 $ 91 Adjustments: Interest expense to affiliates 85 225 103 403 Interest expense 271 109 547 160 Interest income (83 ) (40 ) (158 ) (75 ) Other expense (income), net 12 (118 ) 18 (112 ) Income tax expense 286 21 184 93 Operating income 962 181 934 560 Depreciation and amortization 1,129 888 2,184 1,643 MetroPCS transaction and integration costs 22 26 34 39 Restructuring costs - 23 - 54 Stock-based compensation 63 6 112 6 Other, net (1) (725 ) - (725 ) - Adjusted EBITDA $ 1,451 $ 1,124 $ 2,539 $ 2,302 Adjusted EBITDA margin 26 % 24 % 23 % 26 % (1) Other, net for the three and six months ended June 30, 2014 primarily consisted of a non-cash gain from spectrum license transactions. Other, net transactions may not agree in total to the other, net in the condensed consolidated statements of comprehensive income (loss) primarily due to certain routine operating activities, such as insignificant routine spectrum license exchanges that would be expected to reoccur, and are therefore included in Adjusted EBITDA. Adjusted EBITDA increased 29% for the three months ended and 10% for the six months ended June 30, 2014, compared to the same periods in 2013. Adjusted EBITDA was positively impacted by increased branded postpaid revenues resulting from growth in the branded postpaid customer base due to positive customer response to our Un-carrier value proposition. In addition, the inclusion of MetroPCS operating results for the entire three and six months ended June 30, 2014 positively impacted Adjusted EBITDA for those periods compared to the prior year. These increases were offset by higher selling, general and administrative expenses. Additionally, Adjusted EBITDA for the six months ended June 30, 2014 was negatively impacted by an increase in loss on equipment sales. Liquidity and Capital Resources Our principal sources of liquidity are our cash and cash equivalents and cash generated from operations, proceeds from the sale of certain service receivables related to a factoring arrangement, financing arrangements which effectively extend payment terms, issuance of long-term debt and issuance of common stock in connection with public offerings. As of June 30, 2014, our cash and cash equivalents were $3.1 billion. In addition, we have entered into an unsecured revolving credit facility with Deutsche Telekom that allows for up to $500 million in borrowings. We expect our current sources of funding to be sufficient to meet the anticipated liquidity requirements of the Company in the next 12 months and intend to use our current sources of funding for general corporate purposes, including capital investments, enhancing our financial flexibility and opportunistically acquiring additional spectrum in private party transactions and government auctions. We may seek to raise additional debt or equity capital to the extent our projections regarding our liquidity requirements change or on an opportunistic basis when there are favorable market conditions. Further, we may consider entering into factoring arrangements to sell certain EIP receivables as an additional source of liquidity. Prior to the completion of the business combination with MetroPCS on April 30, 2013, our sources of liquidity were cash and cash equivalents and short-term investments with Deutsche Telekom included in accounts receivable from affiliates, and cash generated from operations. In January 2014, we entered into agreements with Verizon for the acquisition of 700 MHz A-Block spectrum licenses for cash and the transfer of certain AWS and PCS spectrum licenses. Upon closing the transaction in April 2014, we paid Verizon $2.4 billion with cash on hand and transferred certain AWS and PCS spectrum licenses. 33-------------------------------------------------------------------------------- Table of Contents In February 2014, we entered into a two-year factoring arrangement to sell certain receivables on a revolving basis as an additional source of liquidity. The factoring arrangement is subject to a maximum funding limit of $500 million. We sold receivables related to the factoring arrangement for net cash proceeds of $468 million for the six months ended June 30, 2014. See Note 2 - Acquisitions and Other Transactions of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information on the factoring arrangement. The indentures governing the long-term debt, excluding capital leases, contain covenants that, among other things, limit our ability to: incur more debt; pay dividends and make distributions; make certain investments; repurchase stock; create liens or other encumbrances; enter into transactions with affiliates; enter into transactions that restrict dividends or distributions from subsidiaries; and merge, consolidate, or sell, or otherwise dispose of, substantially all of their assets. Certain provisions of each of the indentures and the supplemental indentures relating to the long-term debt restrict the ability of the Issuer to loan funds or make payments to the Parent. However, the Issuer is allowed to make certain permitted payments to the Parent under the terms of each of the indentures and the supplemental indentures relating to the long-term debt. As of June 30, 2014, we were in compliance with all restrictive debt covenants. Capital Expenditures Our liquidity requirements have been driven primarily by capital expenditures for spectrum licenses and the construction, expansion and upgrading of our network infrastructure. Property and equipment capital expenditures for the six months ended June 30, 2014 and 2013 primarily relate to our network modernization and deployment of 4G LTE. We expect cash capital expenditures for property and equipment to be in the range of $4.3 billion to $4.6 billion for the year ending December 31, 2014. This does not include purchases of spectrum licenses, including the acquisition of 700 MHz A-Block spectrum licenses from Verizon. Cash Flows The following table shows cash flow information: Six Months Ended June 30, (in millions) 2014 2013 Net cash provided by operating activities $ 1,729 $ 1,715 Net cash provided by (used in) investing activities (4,275 ) 262 Net cash used in financing activities (265 ) (9 ) The historical cash flows of T-Mobile USA should not be considered representative of the anticipated cash flows of T-Mobile US, Inc., the combined company resulting from the business combination on April 30, 2013. Operating Activities Cash provided by operating activities was $1.7 billion for the six months ended June 30, 2014 and 2013. Consistent cash flow provided by operating activities was driven by several factors. Our operating income, exclusive of non-cash items such as depreciation and amortization and gains from spectrum license transactions, increased slightly compared to the same period in the prior year. This was primarily a result of higher selling, general and administrative costs partially offset by increases in branded postpaid revenues due to our acceleration of customer growth. Net changes in working capital decreased slightly due to increases in EIP receivables. This was offset in part by proceeds from the sales of receivables related to the factoring arrangement and increases in accounts payable and accrued liabilities due in part to timing of vendor payments. Investing Activities Cash used in investing activities was $4.3 billion for the six months ended June 30, 2014, compared to $262 million provided by investing activities for the same period in 2013. For the six months ended June 30, 2014, cash used in investing activities primarily consisted of purchases of intangible assets of $2.4 billion relating to the acquisition of 700 MHz A-Block spectrum licenses and purchases of property and equipment of $1.9 billion as a result of our network modernization and deployment timing of 4G LTE. For the six months ended June 30, 2013, cash provided by investing activities primarily consisted of cash and cash equivalents acquired in the business combination with MetroPCS of $2.1 billion and the settlement of a short-term loan receivable, net with Deutsche Telekom of $300 million. This was partially offset by purchases of property and equipment of $2.1 billion as a result of our network modernization and deployment timing of 4G LTE. 34-------------------------------------------------------------------------------- Table of Contents Financing Activities Cash used in financing activities was $265 million for the six months ended June 30, 2014, compared to $9 million for the same period in 2013. The increase was primarily due to repayments of short-term debt for purchases of property and equipment of $231 million and payments of employee taxes in connection with the net share settlement of stock awards of $72 million. This was offset in part by excess tax benefit from stock based compensation of $33 million and proceeds from the exercise of stock options of $23 million. Contractual Obligations Current accounting standards require disclosure of material obligations and commitments to make future payments under contracts, such as debt, lease agreements, and purchase obligations. See Note 5 - Commitments and Contingencies of the Notes to the Consolidated Financial Statements included in Part I, Item 1 of this Form 10-Q and Note 7 - Debt of the Notes to the Consolidated Financial Statements included in Part II, Item 8 of our Annual Report on Form 10-K for the year ended December 31, 2013. The following table provides aggregate information about T-Mobile's contractual obligations as of June 30, 2014: Less Than 1 More Than 5 (in millions) Year 1 - 3 Years 4 - 5 Years Years Total Long-term debt (1) $ - $ - $ 4,000 $ 15,200 $ 19,200 Interest expense on long-term debt 1,233 2,429 2,397 2,604 8,663 Financial obligation (2) 164 328 328 1,221 2,041 Non-dedicated transportation lines 673 1,354 875 597 3,499 Operating leases, including dedicated transportation lines 2,250 4,017 3,307 4,675 14,249 Capital lease obligations, including interest 48 107 110 313 578 Vendor financing 250 arrangements 250 - - - Purchase obligations (3) 1,389 2,948 26 - 4,363 Total contractual obligations $ 6,007 $ 11,183 $ 11,043 $ 24,610 $ 52,843 (1) Represents principal amounts of long-term debt at maturity, excluding unamortized premium from purchase price allocation fair value adjustment, capital lease obligations and vendor financing arrangements. (2) Future minimum payments, including principal and interest payments and imputed lease rental income, related to the long-term financial obligation recorded in connection with the Tower Transaction. See Note 8 - Tower Transaction and Related Long-Term Financial Obligation of the Notes to the Consolidated Financial Statements included in Part II, Item 8 of our Annual Report on Form 10-K for the year ended December 31, 2013. (3) T-Mobile calculated the minimum obligation for certain agreements to purchase goods or services based on termination fees that can be paid to exit the contract. Termination penalties are included in the above table as payments due in less than one year, as this is the earliest T-Mobile could exit these contracts. For certain contracts that include fixed volume purchase commitments and fixed prices for various products, the purchase obligations are calculated using fixed volumes and contractually fixed prices for the products that are expected to be purchased. This table does not include open purchase orders as of June 30, 2014 under normal business purposes. Certain commitments and obligations are included in the table based on the year of required payment or an estimate of the year of payment. Other non-current liabilities have been excluded from the tables due to the uncertainty of the timing of payments, combined with the absence of historical trending to be used as a predictor of such payments. The purchase obligations reflected in the table above are primarily commitments to purchase handsets and accessories, equipment, software, programming and network services, and marketing activities, which will be used or sold in the ordinary course of business. These amounts do not represent T-Mobile's entire anticipated purchases in the future, but represent only those items for which T-Mobile is contractually committed. The Company also has purchase obligations that vary with the level of the Company's sales of certain products. The future development of sales of those products could result in purchase obligations in excess of the amounts shown in the table above. Where T-Mobile is committed to make a minimum payment to the supplier regardless of whether it takes delivery, T-Mobile has included only that minimum payment as a purchase obligation. Off-Balance Sheet Arrangements In February 2014, T-Mobile entered into a two-year factoring arrangement to sell certain service accounts receivable on a revolving basis as an additional source of liquidity. As of June 30, 2014, T-Mobile derecognized net receivables of $611 million upon sale through the factoring arrangement. See Note 2 - Acquisitions and Other Transactions of the Notes to the 35-------------------------------------------------------------------------------- Table of Contents Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information on the factoring arrangement. Related Party Transactions There have been no material changes in our related party transactions as previously disclosed in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2013. Disclosure of Iranian Activities under Section 13(r) of the Securities Exchange Act of 1934 Section 219 of the Iran Threat Reduction and Syria Human Rights Act of 2012 added Section 13(r) to the Securities Exchange Act of 1934, as amended ("Exchange Act"). Section 13(r) requires an issuer to disclose in its annual or quarterly reports, as applicable, whether it or any of its affiliates knowingly engaged in certain activities, transactions or dealings relating to Iran or with designated natural persons or entities involved in terrorism or the proliferation of weapons of mass destruction. Disclosure is required even where the activities, transactions or dealings are conducted outside the U.S. by non-U.S. affiliates in compliance with applicable law, and whether or not the activities are sanctionable under U.S. law. As of the date of this report, we are not aware of any activity, transaction or dealing by us or any of our affiliates for the three months ended June 30, 2014 that requires disclosure in this report under Section 13(r) of the Exchange Act, except as set forth below with respect to affiliates that we do not control and that are our affiliates solely due to their common control with Deutsche Telekom. We have relied upon Deutsche Telekom for information regarding their activities, transactions and dealings. Deutsche Telekom, through certain of its non-U.S. subsidiaries, is party to roaming and interconnect agreements with the following mobile and fixed line telecommunication providers in Iran, some of which are or may be government-controlled entities: Gostaresh Ertebatat Taliya, Irancell Telecommunications Services Company, Telecommunication Kish Company, Mobile Telecommunication Company of Iran, and Telecommunication Infrastructure Company of Iran. For the three months ended June 30, 2014, gross revenues of all Deutsche Telekom affiliates generated by roaming and interconnection traffic with Iran were less than $1 million and estimated net profits were less than $1 million. In addition, Deutsche Telekom, through certain of its non-U.S. subsidiaries, operating a fixed line network in their respective European home countries (in particular Germany), provides telecommunications services in the ordinary course of business to the Embassy of Iran in those European countries. Gross revenues and net profits related to such activities recorded from these non-U.S. subsidiaries for the three months ended June 30, 2014 were less than $0.1 million. We understand that Deutsche Telekom intends to continue these activities. Critical Accounting Policies and Estimates Preparation of our consolidated financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amounts of certain assets, liabilities, revenues and expenses, as well as related disclosure of contingent assets and liabilities. There have been no material changes to the critical accounting policies and estimates as previously disclosed in Part II, Item 7 of our Annual Report on Form 10-K for the year ended December 31, 2013. Recently Issued Accounting Standards See Note 1 - Basis of Presentation of the Notes to the Condensed Consolidated Financial Statements included in Part 1, Item 1 of this Form 10-Q for more information on the recently issued accounting standards. |