S-1 1 ds1.htm FORM S-1 Form S-1
Table of Contents

As filed with the Securities and Exchange Commission on May 1, 2007

Registration No. 333-             

 


SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 


FORM S-1

REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933

 


Virgin Mobile USA, Inc.

(Exact name of registrant as specified in its charter)

 


 

Delaware   4812  

20-8826316

(State or other jurisdiction

of Incorporation)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification No.)

 


10 Independence Boulevard

Warren, NJ 07059

(908) 607-4000

(Address, including zip code, and telephone number, including area code, of registrants’ principal executive offices)

Peter Lurie, Esq.

Secretary

10 Independence Boulevard

Warren, NJ 07059

(908) 607-4000

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 


With copies to:

 

Alan M. Klein, Esq.

Joseph H. Kaufman, Esq.

Simpson Thacher & Bartlett LLP

425 Lexington Avenue

New York, NY 10017

(212) 455-2000

 

Phyllis G. Korff, Esq.

Skadden, Arps, Slate, Meagher & Flom LLP

4 Times Square

New York, NY 10036

(212) 735-3000

 


Approximate date of commencement of proposed sale to the public:    As soon as practicable after this Registration Statement is declared effective.

If any of the securities being registered on this Form are being offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨

CALCULATION OF REGISTRATION FEE

 
Title of Each Class of Securities to Be Registered   Proposed Maximum
Aggregate Offering
Price(1)(2)
  Amount of
Registration Fee

Class A common stock, par value $.01 per share

  $100,000,000   $3,070
 
(1)   Estimated solely for the purpose of calculating the registration fee under Rule 457(o) of the Securities Act of 1933, as amended (the “Securities Act”).
(2)   Includes shares subject to the underwriters’ option to purchase additional shares, if any.

 


The registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

 



Table of Contents

The information in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

Subject to Completion

Preliminary Prospectus dated May 1, 2007

PROSPECTUS

             Shares

LOGO

VIRGIN MOBILE USA, INC.

CLASS A COMMON STOCK

 


This is our initial public offering. We are offering             shares of Class A common stock to be sold in this offering. The selling stockholders identified in this prospectus are offering an additional             shares of Class A common stock. We will not receive any of the proceeds from the sale of the shares being sold in this offering by the selling stockholders.

We have three classes of authorized common stock. Sprint Nextel and the Virgin Group, our principal stockholders, will hold the other two classes of our common stock and immediately following the consummation of this offering will be able to exercise control over our management and affairs and all matters requiring stockholder approval. See “Description of Capital Stock”.

We expect the initial public offering price to be between $             and $             per share. Currently, no public market exists for our Class A common stock. After pricing of this offering, we expect that the shares of Class A common stock will be listed on the New York Stock Exchange under the symbol “VM.”

Investing in our Class A common stock involves risks that are described in the

Risk Factors” section beginning on page 18 of this prospectus.

 

     Per Share    Total

Public offering price

   $                 $             

Underwriting discount

   $      $  

Proceeds, before expenses, to us

   $      $  

Proceeds, before expenses, to the selling stockholders

   $      $  

The underwriters may also purchase up to an additional              shares of Class A common stock from the selling stockholders at the initial public offering price, less the underwriting discount, within 30 days from the date of this prospectus to cover over-allotments, if any.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The shares will be ready for delivery on or about                     , 2007.

 


LEHMAN BROTHERS

MERRILL LYNCH & CO.

BANC OF AMERICA SECURITIES LLC

The date of this prospectus is                     , 2007.


Table of Contents

TABLE OF CONTENTS

 

Basis of Presentation

   ii

Market and Industry Data and Forecasts

   iii

Prospectus Summary

   1

Risk Factors

   18

Special Note Regarding Forward-Looking Statements

   35

Use of Proceeds

   36

Dividend Policy

   37

Capitalization

   38

Dilution

   39

Unaudited Pro Forma Financial Information

   40

Selected Historical Financial and Other Data

   47

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   52

Industry Overview

   74

Business

   77

Management

   94

Principal and Selling Stockholders

   108

Certain Relationships and Related Transactions

   110

Description of Indebtedness

   121

Description of Capital Stock

   126

Shares Eligible for Future Sale

   131

Certain United States Federal Income and Estate Tax Consequences to Non-U.S. Holders

   133

Underwriting

   136

Validity of the Shares

   142

Experts

   142

Where You Can Find Additional Information

   142

Index to Financial Statements

   F-1

 


You should rely only on the information contained in this prospectus and any free writing prospectus prepared by us or any other information to which we have referred you. None of us, our subsidiaries or the selling stockholders has authorized anyone to provide you with information different from that contained in this prospectus. This prospectus may be used only for the purposes for which it has been published and no person has been authorized to give any information not contained in this prospectus. If you receive any other information, you should not rely on it. Neither we nor the selling stockholders are making an offer of these securities in any state where the offer is not permitted. The information contained in this prospectus is accurate only as of the date of this prospectus, regardless of the date of delivery of this prospectus or any sale of our stock.

Until                  , 2007 (25 days after the date of this prospectus), all dealers that buy, sell or trade in these securities, whether or not participating in this offer, may be required to deliver a prospectus. This is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

 

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BASIS OF PRESENTATION

Unless we state otherwise or the context otherwise requires, the terms (1) “we,” “us,” “our,” “VMU,” and the “Company,” refer to Virgin Mobile USA, Inc., a newly formed Delaware corporation, and its consolidated subsidiaries after giving effect to the reorganization transactions to be completed prior to the consummation of this offering as described in “Prospectus Summary—Organizational Structure”; prior to the reorganization transactions, these terms refer to Virgin Mobile USA, LLC, a Delaware limited liability company through which we are currently conducting our operations; (2) “Sprint” and “Sprint Nextel” refer to Sprint Nextel Corporation, a Kansas corporation, and its affiliated entities; and (3) the “Virgin Group” refers to Virgin Group Investments Limited, a British Virgin Islands limited company, and its affiliated entities.

After giving effect to the reorganization transactions and unless the context otherwise requires, the terms (1) “Investments” refers to Bluebottle USA Investments L.P., a Delaware limited partnership that is a wholly-owned subsidiary of Virgin Mobile USA, Inc. and the general partner of Holdings (as such term is defined below), (2) “Holdings” refers to Bluebottle USA Holdings L.P., a Delaware limited partnership that is an indirect, wholly-owned subsidiary of Virgin Mobile USA, Inc. and the general partner of the Operating Partnership (as such term is defined below), (3) “VMU GP, LLC” refers to VMU GP, LLC, a limited liability company that is a wholly-owned subsidiary of Virgin Mobile USA, Inc. and the general partner of Investments, and (4) “Operating Partnership” refers to Virgin Mobile USA, L.P., a Delaware limited partnership through which we will conduct our operations following this offering and a subsidiary of Holdings.

References to “nationwide Sprint PCS network” refer to the nationwide wireless network using CDMA technology operated by Sprint Nextel and its third party PCS affiliates. References to “third party PCS affiliates” refer to third party wireless telecommunications service providers with which Sprint Nextel has contractual arrangements to provide wireless network services.

Unless we state otherwise, the information in this prospectus gives effect to the reorganization transactions described in “Prospectus Summary—Organizational Structure.”

VMU is controlled, and immediately following the consummation of this offering will continue to be controlled, by Sprint Nextel and the Virgin Group.

 

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MARKET AND INDUSTRY DATA AND FORECASTS

This prospectus includes industry data and forecasts that we have prepared based, in part, upon industry data and forecasts obtained from industry publications and surveys and internal company surveys. Third party industry publications and surveys and forecasts generally state that the information contained therein has been obtained from sources believed to be reliable. The statements regarding our market position in this prospectus are based on information derived from market studies and research reports cited in this prospectus.

Although some of the companies that compete in our markets are publicly held as of the date of this prospectus, some are not. Accordingly, only limited public information is available with respect to our relative market strength or competitive position. Unless we state otherwise, our statements about our relative market strength and competitive position in this prospectus are based on our management’s belief, internal studies and our management’s knowledge of industry trends.

In this prospectus, unless we state otherwise, (1) references to the “Yankee Group” refer to the Yankee Group’s Market Adoption Monitor and Forecast published in 2007, (2) references to the “Cassandra Report” refer to The Intelligence Group’s Cassandra Report published in 2006 and (3) references to “Current Analysis” refer to Current Analysis, Inc.’s report published in 2007.

 


The “Virgin” name, the Virgin signature logo, the “Virgin Mobile” name and the Virgin Mobile logo are registered trademarks of Virgin Enterprises Limited and are used under license through our trademark license agreement with the Virgin Group described herein. See “Certain Relationships and Related Transactions—Virgin Trademark License Agreement.” Certain other products and services named in this prospectus are registered trademarks and service marks of VMU.

The “Sprint” and “Sprint PCS” names and “Sprint” and “Sprint PCS” logos are registered trademarks of Sprint Nextel and are used under license through our trademark license agreement with Sprint Nextel described herein. See “Certain Relationships and Related Transactions—Sprint Trademark License Agreement.”

 

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PROSPECTUS SUMMARY

This summary highlights selected information in this prospectus, but it may not contain all of the information that you should consider before deciding to invest in our Class A common stock. You should read this entire prospectus carefully, including the “Risk Factors” section and the financial statements, which are included elsewhere in this prospectus.

Our Company

We are a leading national provider of wireless communications services, offering prepaid, or pay-as-you-go, services targeted at the youth market (ages 14-34). Our customers are attracted to our products and services because of our flexible monthly terms, easy to understand pricing structures, stylish handsets offered at affordable prices and relevant mobile data and entertainment content. We believe that the appeal of our brand and products and services extends beyond our target audience and estimate that approximately half of our current customers are ages 35 and over. We offer our products and services on a flat per-minute basis and on a monthly basis for specified quantities, or buckets, of minutes purchased in advance—in each case without requiring our customers to enter into long-term contracts or commitments.

We were founded as a joint venture between Sprint Nextel and the Virgin Group and launched our service nationally in July 2002, reaching one million customers in November 2003, within eighteen months of our national launch. We have continued to grow our customer base rapidly and, as of December 31, 2006, we served approximately 4.57 million customers, which we estimate represented approximately a 15% share of the pay-as-you-go market and a 19.0% increase over the 3.84 million customers we served as of December 31, 2005. As of March 31, 2007, we served approximately 4.88 million customers. Our revenues for the year ended December 31, 2006 were $1.1 billion.

We market our products and services under the “Virgin Mobile” brand, which enjoys strong brand awareness and in 2004 was rated as one of the top “trendsetting” brands in any sector by The Intelligence Group’s Cassandra Report, which tracks youth trends in the United States. We have exclusive rights to use the Virgin Mobile brand for mobile voice and data services through 2027 in the United States, Puerto Rico and the U.S. Virgin Islands through our trademark license agreement with the Virgin Group.

We provide our services using the nationwide Sprint PCS network. We purchase wireless network services at a price based on Sprint Nextel’s cost of providing these services plus a specified margin under an agreement which runs through 2027. As a result, we are able to dedicate our resources to acquiring and servicing customers rather than to acquiring spectrum or building and maintaining a wireless network.

We believe that two key factors distinguish us from many of our competitors: our focus on the youth and pay-as-you-go segments of the U.S. wireless market and our mobile virtual network operator, or MVNO, business model. Our focus on the youth and pay-as-you-go segments of the U.S. wireless market allows us to tailor our products and services, advertising, customer care, distribution network and overall operations to the needs and desires of our target market, which we believe is underserved by wireless providers. We control our customers’ experience and all customer “touch points,” including brand image, pricing, mobile content, marketing, distribution and customer care. As an MVNO, however, we do not own or operate a physical network, which frees us from related capital expenditures and allows us to focus our resources and compete effectively against the major national wireless providers in our target market.

 

 

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Competitive Strengths

We believe that the following key strengths enable us to compete effectively in the wireless telecommunications market:

Differentiated Market Approach.    We have been pioneers in the U.S. wireless industry, offering innovative, youth-oriented pay-as-you-go plans without long-term contracts or commitments. Our service plans, which include both flat per-minute rates and hybrid plans with monthly buckets of minutes purchased in advance, are attractive alternatives to traditional postpaid plans. Our stylish and affordable handsets and our voice and data service offerings, including VirginXL and VirginXtras (entertainment applications which include ringtones, text, instant and picture messaging, email and entertainment content), are designed to make Virgin Mobile particularly appealing to the youth market. We believe that the relevance and appeal of our non-voice services is evidenced by the fact that approximately 17% of our service revenues for the year ended December 31, 2006 were from non-voice services, approximately 5 percentage points higher than the wireless industry average of 12%, according to the Yankee Group. These services provide an additional source of revenue and we believe provide us with improved customer retention.

Strong Brand.    Virgin Mobile is the number one brand for prepaid wireless services in the United States in awareness and purchase consideration among 14-34 year-olds, according to Gallagher Lee Brand Tracking (fourth quarter 2006), and was rated as one of the top ten “trendsetting” brands in any sector in the United States by the Cassandra Report in 2004. We benefit from our brand association with the Virgin Group, a global consumer organization with interests ranging from transportation to leisure and entertainment. We believe that our customers identify with brands and products that reflect their values and our marketing efforts focus on leveraging the popular attributes of the Virgin brand: fun, style, good value and social responsibility. We believe that this strong brand association is one of our most distinct and powerful competitive advantages and is difficult for our competitors to replicate. We have exclusive rights to use the Virgin Mobile brand through 2027 for mobile voice and data services in the United States, U.S. Virgin Islands and Puerto Rico through our trademark license agreement with the Virgin Group.

Extensive and Efficient Distribution.    Our nationwide distribution network is comprised of 130,000 third party retail stores that offer account replenishment, or Top-Up cards, including more than 35,000 retail locations that also sell our handsets. We distribute our products through leading national retailers, including Wal-Mart, Best Buy, RadioShack and Target, and generally receive favorable product positioning in their retail locations. Our products are designed to require minimal sales assistance, which enables us to distribute them cost-effectively through third party channels and eliminates the need to expend capital to build and operate our own retail stores.

Award-winning Customer Service.    Our award-winning customer service program, Virgin Mobile At Your Service, provides user-friendly and effective customer service through our call centers and our website. Our high quality of customer service helps us to retain customers. As a result, we believe that our churn is among the lowest in the prepaid segment of the wireless industry. We consistently receive high ratings in customer satisfaction surveys. In 2006, we were the sole recipient of the J.D. Power and Associates Award for Wireless Prepaid Customer Satisfaction and our customer satisfaction ratings consistently exceed 90%, according to Market Strategies, Inc., which began surveying our performance in 2003.

Capital Efficient Business.    Our mobile virtual network operator, or MVNO, business model, easy-to-understand products and services, cost-efficient distribution channels and focused marketing strategy have made us one of the lowest cost operators in the wireless industry. As an MVNO, we have substantially lower capital expenditures than those of wireless service providers that own their networks. While we expect to continue to subsidize our handsets in order to acquire additional customers, we do not operate our own retail

 

 

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stores, which saves us substantial sales and distribution costs. In addition, we pay Sprint Nextel for wireless services only to the extent of our customers’ usage. As a result, we have a highly variable cost structure, which we believe will allow us to reach profitability faster than if we were to maintain our own network.

Proven and Committed Management Team.    We are led by a highly experienced management team, which has significant expertise in the telecommunications, Internet and e-commerce, media and entertainment, consumer products and retail industries. Many members of our management team have been with us since before our national launch and have been instrumental in developing and implementing our business model.

Business Strategy

We believe the following components of our business strategy will allow us to continue our growth and improve our profitability:

Focus on Fast-growing Segments of U.S. Wireless Market.    We focus on two fast-growing segments of the U.S. wireless market: youth and pay-as-you-go. We believe there is substantial demand in the United States for our straightforward and fun wireless communication services. According to the Yankee Group, the number of users of wireless service in the under 35 year-old segment in the United States is projected to increase by 16 million from 2006 to 2008, representing approximately 42% of the total growth in U.S. wireless customers over the same period. According to the Yankee Group, in 2006, there were approximately 29.5 million pay-as-you-go wireless customers in the United States and such number is expected to grow to approximately 53.0 million by 2011, representing a 12.4% compound annual growth rate over the same period. In 2006, the U.S. prepaid and hybrid market represented only 13% of wireless customers, according to the Yankee Group. By comparison, mobile penetration rates in western European markets range from 80% to 120%, according to Current Analysis. By 2008, the U.S. market is expected to add 37 million new wireless customers, of which 13 million, or 35%, are expected to be pay-as-you-go and hybrid customers, according to the Yankee Group. We plan to continue to penetrate the youth segment and grow our market share by continuing to tailor our products, services and advertising message to this market, leveraging our brand through new and existing distribution channels and utilizing select youth-oriented media channels that specifically resonate with our target market, such as MTV, Vice, Facebook.com, MySpace.com and outdoor billboards and postings in key trendsetting neighborhoods.

Continue Product and Service Innovation.    We have a proven ability to innovate and adapt to our customers’ needs. For example, in 2006 we launched a suite of new service plans that were designed to be more attractive to higher-usage customers. These monthly bucket plans include anytime and night and weekend minutes without long-term contracts or commitments—effectively expanding the pay-as-you-go market to include some customers who previously might have selected a postpaid service. We launched a new service plan that enables our customers to buy monthly buckets of messages in advance, as well as a new flat-rate per-minute voice plan. At the same time, we launched mobile social networking and Sugar Mama, an innovative new program that enables our customers to earn minutes by viewing and rating advertisements online. We intend to continue our efforts to address our market’s evolving needs and to offer innovative and popular products and services ahead of our competitors.

Enhance our Brand Strength.    We aim to maintain and strengthen a vibrant brand image that resonates with our customers and distinguishes us from other wireless service providers. Our goal is to attract and retain customers through our youth-oriented marketing message and service offerings that are straightforward, flexible and a good value. For example, our marketing events in 2006 included the Virgin Festival by Virgin Mobile, a one-day event that drew over 42,000 fans to see major performing artists. Given the success of our Virgin Festival in 2006, we are planning a larger two-day event for 2007. We will continue to enhance our brand through targeted marketing, advertising, product packaging, point-of-sale materials and innovative services.

 

 

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Leverage Our Scale and Infrastructure to Drive Profitable Growth.    As of March 31, 2007, in less than five years since our national launch, we had grown our customer base to approximately 4.88 million. We have built the infrastructure to support future growth in customers and usage while leveraging the advantages of our predominantly variable cost structure. As we continue to scale the business, we expect our growing customer base to translate into improved cost economies without the need for substantial capital investment.

 


We were incorporated in Delaware on April 11, 2007. Our principal executive offices are located at 10 Independence Boulevard, Warren, NJ 07059 and our main telephone number is (908) 607-4000. Our principal website is virginmobileusa.com. Information contained on our website or that can be accessed through our website is not incorporated by reference in this prospectus.

 

 

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Organizational Structure

Current Organizational Structure

Our operations are presently conducted by Virgin Mobile USA, LLC, a Delaware limited liability company owned by Sprint Nextel, the Virgin Group and two minority investors. The following diagram depicts our current organizational structure.

LOGO

 

 

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Post-IPO Organizational Structure

Virgin Mobile USA, Inc. was formed in April 2007 for the purposes of this offering. Virgin Mobile USA, Inc. has not engaged in any business or other activities except in connection with its formation and the reorganization transactions described below. Following the reorganization transactions described below and this offering, Virgin Mobile USA, Inc. will be a holding company and will hold, directly and indirectly through Bluebottle USA Investments L.P. and Bluebottle USA Holdings L.P., partnership units in the Operating Partnership and all of the outstanding shares of VMU GP, LLC. As an indirect owner of Bluebottle USA Holdings L.P., the sole general partner of the Operating Partnership, Virgin Mobile USA, Inc. will operate and control all of the business and affairs of the Operating Partnership. Virgin Mobile USA, Inc. will consolidate the financial results of the Operating Partnership, and the ownership interest of Sprint Nextel in the Operating Partnership will be treated as a minority interest in our consolidated financial statements. Virgin Mobile USA, Inc., directly and through Holdings, and Sprint Nextel will be the only partners of the Operating Partnership after the reorganization transactions and this offering. The diagram below depicts our organizational structure immediately following the reorganization transactions and this offering.

LOGO

 

 

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Reorganization Transactions

Prior to completion of this offering, we intend to complete an internal restructuring, to which we collectively refer in this prospectus as the reorganization transactions. Pursuant to the reorganization transactions, Virgin Mobile USA, LLC will convert into a Delaware limited partnership and become an indirect, majority-owned subsidiary of Virgin Mobile USA, Inc. Virgin Mobile USA, Inc. will serve as the holding company for the public’s common equity interests in our business following this offering.

We expect that the directors of Virgin Mobile USA, LLC will agree, subject to their fiduciary duties, to support and approve the reorganization transactions and this offering, prior to or simultaneously with the execution of the underwriting agreement relating to this offering. The final determination as to the completion, timing, structure and terms of these transactions and this offering will be based on financial and business considerations and prevailing market conditions.

The reorganization transactions are generally described below.

Presently, Virgin Mobile USA, LLC is owned by Sprint Nextel (through Sprint Ventures, Inc.), the Virgin Group (through Bluebottle USA Holdings L.P., or Holdings) and two other minority investors. The general partner of Holdings, Bluebottle USA Investments L.P., or Investments, owns a 99% interest in Holdings. The remaining 1% of Holdings is owned by a minority investor and VMUI, Inc., Holdings’ limited partners. Investments is indirectly 100% owned by the Virgin Group.

Prior to the consummation of this offering, Sprint Nextel will (1) contribute a portion of its interest in Virgin Mobile USA, LLC to Virgin Mobile USA, Inc. in consideration for one share of Class B common stock and              shares of Class A common stock (which will be sold in this offering) and (2) sell a portion of its interest in Virgin Mobile USA, LLC to Virgin Mobile USA, Inc. in consideration for $             million (which will be paid from the net proceeds to us from this offering). The minority investor in Holdings will contribute its limited partnership interest in Holdings to Virgin Mobile USA, Inc. in consideration for              shares of Class A common stock. VMUI, Inc. will be liquidated into Investments. Minority investors in Virgin Mobile USA, LLC will contribute their respective interests in Virgin Mobile USA, LLC to Virgin Mobile USA, Inc. as consideration for shares of Class A common stock. The Virgin Group will contribute its interests in Investments and its interests in a newly-formed entity, VMU GP, LLC, to Virgin Mobile USA, Inc. in consideration for              shares of Class A and              shares of Class C common stock, resulting in Virgin Mobile USA, Inc. becoming (directly and indirectly) the sole owner of Holdings.

As a part of the reorganization transactions, Virgin Mobile USA, LLC will convert into a Delaware limited partnership and change its name to Virgin Mobile USA, L.P. As a result of such conversion, Virgin Mobile USA, Inc.’s and Holdings’ interests in Virgin Mobile USA, LLC will convert into a     % limited partnership interest and a             % general partnership interest, respectively, in Virgin Mobile USA, L.P., and Sprint Nextel’s remaining interest in Virgin Mobile USA, LLC will convert into a     % limited partnership interest in Virgin Mobile USA, L.P. exchangeable for Class A common stock. VMU GP, LLC will be the general partner of Investments and will be wholly owned by Virgin Mobile USA, Inc.

As a result of the reorganization transactions, Virgin Mobile USA, Inc., the issuer of Class A common stock in this offering, will be a holding company with no material assets other than     % of the equity interest in Virgin Mobile USA, L.P. (    % if the underwriters’ over-allotment option is exercised in full) in the form of a general and limited partnership interest. The remaining     % equity interest in Virgin Mobile USA, L.P. (    % if the underwriters’ over-allotment option is exercised in full) will be held by Sprint Nextel in the form of a limited partnership interest exchangeable for Class A common stock in Virgin Mobile USA, Inc. The sole business of Virgin Mobile USA, Inc. will be to hold its interest in Virgin Mobile USA, L.P. and to act, through its subsidiaries, as the managing general partner of Virgin Mobile USA, L.P., in which capacity it will generally

 

 

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control the management and operations of Virgin Mobile USA, L.P. Because Virgin Mobile USA, Inc. will only own     % of the equity of Virgin Mobile USA, L.P., our net income (loss) will be reduced by a minority interest expense to reflect the entitlement of Sprint Nextel to a portion of the Virgin Mobile USA, L.P.’s income (loss).

Upon completion of the reorganization transactions, the capital stock of Virgin Mobile USA, Inc. will consist of three classes of stock: (i) Class A common stock, entitled to one vote per share on all matters submitted to a vote of stockholders; (ii) Class B common stock, entitled to a number of votes per share on all matters submitted to a vote of stockholders that is equal to the total number of shares of Class A common stock for which the partnership units that Sprint Nextel holds in the Operating Partnership are exchangeable; and (iii) Class C common stock, entitled to one vote per share on all matters submitted to a vote of stockholders and convertible into our Class A common stock on a one-for-one basis at any time. See “Description of Capital Stock.” All shares issued in this offering will be shares of Class A common stock. Sprint Nextel and the Virgin Group, our principal stockholders, will be able to exercise control over our management and affairs and all matters requiring stockholder approval as a result of their ownership of     % voting power in Virgin Mobile USA, Inc. (in the form of Class A common stock and Class C common stock) in the case of the Virgin Group and a     % voting power (in the form of Class B common stock) in the case of Sprint Nextel.

In addition, as a part of the reorganization transactions, we expect to amend and restate our PCS services agreement and our trademark license agreement with Sprint Nextel, to amend and restate our trademark license agreement with the Virgin Group and to enter into tax receivable agreements with Sprint Nextel and the Virgin Group. See “Certain Relationships and Related Party Transactions.”

Effect of the Reorganization Transactions

As a result of the transactions described above, immediately following this offering:

 

   

Virgin Mobile USA, Inc. will become the sole member of VMU GP, LLC and control Virgin Mobile USA, L.P., or the Operating Partnership, through its subsidiaries, and will directly and indirectly hold              partnership units in the Operating Partnership;

 

   

Sprint Nextel will hold one share of our Class B common stock and              partnership units in the Operating Partnership (or              partnership units in the Operating Partnership if the underwriters exercise in full their option to purchase additional shares);

 

   

the Virgin Group will own              shares of our Class A common stock and              shares of our Class C common stock (or              shares of our Class A common stock if the underwriters exercise in full their option to purchase additional shares);

 

   

the minority investors will collectively own              shares of Class A common stock (or              shares if the underwriters exercise in full their option to purchase additional shares);

 

   

our public stockholders will collectively own              shares of Class A common stock (or              shares if the underwriters exercise in full their option to purchase additional shares);

 

   

through its holdings of our Class B common stock, Sprint Nextel will have approximately     % of the voting power in Virgin Mobile USA, Inc. (or approximately     % if the underwriters exercise in full their option to purchase additional shares);

 

   

through its holdings of our Class A common stock and our Class C common stock, the Virgin Group will have approximately     % of the voting power in Virgin Mobile USA, Inc. (or approximately     % if the underwriters exercise in full their option to purchase additional shares); and

 

   

our public stockholders and minority investors collectively will have approximately     % of the voting power in Virgin Mobile USA, Inc. (or approximately     % if the underwriters exercise in full their option to purchase additional shares).

 

 

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Holding Company Structure

Following the reorganization transactions and this offering, Virgin Mobile USA, Inc. will become the sole member of VMU GP, LLC and control the Operating Partnership through its subsidiaries. Virgin Mobile USA, Inc. will directly and indirectly hold              partnership units in the Operating Partnership.

As the indirect owner of Holdings, the sole general partner of the Operating Partnership, Virgin Mobile USA, Inc. will operate and control all of the business and affairs of the Operating Partnership. Virgin Mobile USA, Inc. will consolidate the financial results of the Operating Partnership and the ownership interest of Sprint Nextel in the Operating Partnership will be treated as a minority interest in Virgin Mobile USA, Inc’s consolidated financial statements. Virgin Mobile USA, Inc., directly and through Holdings, and Sprint Nextel will be the only partners of the Operating Partnership after this offering.

The holders of partnership units in the Operating Partnership, including Sprint Nextel and Virgin Mobile USA, Inc., will incur U.S. federal, state and local income taxes on their proportionate share of any net taxable income of the Operating Partnership. Net profits and net losses of the Operating Partnership will generally be allocated to its partners pro rata in accordance with their respective partnership units. The respective numbers of units held by the partners in the Operating Partnership are subject to change, including upon an exchange by Sprint Nextel of partnership units for shares of our Class A common stock and upon any issuance of additional shares to the public, the proceeds of which are used to acquire additional units from the Operating Partnership. Because Investments, through its ownership of Holdings, has been allocated a disproportionate share of losses with respect to Holdings’ interest in Virgin Mobile USA, LLC, there is taxable “minimum gain” associated with that interest. As a result of the contribution of that interest to Virgin Mobile USA, Inc., Virgin Mobile USA, Inc. will be allocated a disproportionate share of taxable income in future years with respect to its interest in the Operating Partnership. The remaining net profits and net losses will be allocated to Sprint Nextel. The partnership agreement of the Operating Partnership will provide for the ability of the Operating Partnership to make cash distributions to the holders of its partnership units. Presently, we do not intend to cause the Operating Partnership to make cash distributions to the holders of its partnership units for purposes of funding their tax obligations in respect of their allocated share of Operating Partnership income. If we elect to make such distributions in the future, these tax distributions will generally be computed based on our estimate of the net taxable income of the Operating Partnership allocable to the holders of partnership units multiplied by an assumed tax rate equal to the highest effective marginal combined U.S. federal, state and local income tax rate prescribed for a corporate resident of the state of New York (taking into account the nondeductibility of certain expenses and the character of our income, and in any event will be made to the holders pro rata in accordance with their percentage ownership interests in the Operating Partnership). If we had effected the reorganization transactions on January 1, 2007, this assumed tax rate for 2007 would have been approximately 46%.

After this offering, the Operating Partnership may also elect to make distributions to Virgin Mobile USA, Inc. in order to pay expenses and fund dividends that the board of directors of Virgin Mobile USA, Inc. may declare on its common stock, if any. If such distributions are made to Virgin Mobile USA, Inc., Sprint Nextel will be entitled to receive equivalent distributions pro rata based on its partnership units in the Operating Partnership.

Principal Owners

A substantial majority of our equity interests are presently owned by two well established companies—Sprint Nextel, which is the third largest wireless operator in the United States as measured by subscribers, and the Virgin Group, whose brand is globally recognized and whose branded companies generate approximately $20 billion in annual revenues. Upon completion of this offering, Sprint Nextel and the Virgin Group together will continue to hold interests representing a majority of our outstanding voting power and will continue to control us.

 

 

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About Sprint Nextel.    Sprint Nextel offers a comprehensive range of wireless and wireline communications services bringing the freedom of mobility to consumers, businesses and government users. Sprint Nextel is widely recognized for developing, engineering and deploying innovative technologies, including two robust wireless networks serving 53.1 million subscribers at the end of 2006; industry-leading mobile data services; instant national and international walkie-talkie capabilities; and an award-winning and global Tier 1 Internet backbone.

About the Virgin Group.    Founded by entrepreneur Sir Richard Branson in 1970, the Virgin Group is a global organization active in seven main areas: media and telecommunications, transport and tourism, leisure and entertainment, financial services, retail, health and wellness, and renewable energy. The Virgin brand is one of the most well-known and well-respected in Britain. Worldwide, Virgin-branded companies together employ more than 35,000 people and generate revenues of approximately $20 billion annually. The Virgin Group is one of the leading MVNO operators worldwide and there are currently Virgin Mobile businesses operating in the U.K., Canada, Australia, France and South Africa which operate independently of VMU. The Virgin Group periodically organizes global forums for the management teams of the Virgin Mobile entities to share technical, product development and marketing best practices and learn from the experiences of other Virgin Mobile entities worldwide.

 

 

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The Offering

 

Class A common stock offered by Virgin Mobile

             shares

 

Class A common stock offered by selling stockholders

             shares

 

    Total

             shares

 

Class A common stock to be outstanding after this offering

             shares

 

Class B common stock to be outstanding after this offering

          one share

 

Class C common stock to be outstanding after this offering

             shares

 

Use of proceeds

We estimate that the net proceeds to us from this offering, after deducting underwriting discounts and estimated offering expenses, will be approximately $             million. We intend to use all of the net proceeds to us from this offering and approximately $             million of borrowings under our new senior secured credit facilities, which we expect to enter into concurrently with the consummation of this offering, to (1) repay our existing senior secured credit facility and our existing subordinated secured revolving credit facility and (2) pay approximately $            million to Sprint Nextel for limited liability company interests representing approximately     % of VMU. An affiliate of Merrill Lynch is a lender under our existing senior secured credit facility and, based on an assumed initial public offering price per share of $             (which is the midpoint of the estimated price range shown on the cover of this prospectus) and assuming no exercise of the underwriters’ option to purchase additional shares, will receive approximately         % of the proceeds to us of this offering used to repay those borrowings. See “Underwriting—NASD Regulations and Certain Relationships.” We will not receive any of the proceeds from the sale of shares by the selling stockholders. See “Use of Proceeds.”

 

Voting Rights

Each share of our Class A common stock will entitle its holder to one vote on all matters to be voted on by stockholders generally.

 

 

Sprint Nextel will be issued              shares of our Class A common stock to be sold in this offering and one share of our Class B common stock. Class B common stock has no economic rights but will entitle the holder to a number of votes that is equal to the total number of shares of Class A common stock for which the partnership units that

 

 

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such holder holds in the Operating Partnership, as of the relevant record date for the VMU stockholder action, are exchangeable. The Operating Partnership units held by Sprint Nextel are convertible into Class A common stock at any time and are mandatorily convertible upon any transfer of such interests by Sprint Nextel, except to certain permitted transfers.

 

 

The Virgin Group will be issued              shares of our Class A common stock (including              to be sold in this offering) and              shares of our Class C common stock. Except for the convertibility of Series C common stock into Series A common stock, shares of Series A common stock and shares of Series C common stock will be identical, including with respect to voting rights. The shares of Series C common stock may be converted into shares of Series A common stock at any time at the option of the holder and will automatically convert into shares of Series A common stock upon any transfer of shares of Series C common stock by the Virgin Group, except certain permitted transfers.

 

 

See “Description of Capital Stock.”

 

Dividend Policy

We do not intend to pay any cash dividends on our common stock going forward, and instead intend to retain earnings, if any, for future operations and expansion.

 

 

See “Dividend Policy.”

 

Proposed New York Stock Exchange symbol

VM

Unless we specifically state otherwise, the information in this prospectus does not give effect to:

 

   

any exercise by the underwriters of their over-allotment option to purchase an additional              shares of our Class A common stock from the selling stockholders;

 

   

             shares of our Class A common stock that underlie awards under our equity-based incentive plans anticipated to be outstanding at the time of this offering, including the Virgin Mobile USA 2007 Omnibus Stock Incentive Plan, or Omnibus Share Plan. See “Management—Compensation Discussion and Analysis—Equity-based Incentive Plans;” and

 

   

            additional shares of our Class A common stock expected to be available for future grant under our proposed Omnibus Share Plan after the consummation of this offering. See “Management—Compensation Discussion and Analysis—Equity-based Incentive Plans.”

RISK FACTORS

Investing in our common stock involves substantial risk. You should carefully consider all of the information in this prospectus prior to investing in our common stock. In particular, we urge you to consider carefully the factors set forth under the heading “Risk Factors”.

 

 

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SUMMARY FINANCIAL AND OTHER DATA

The following table sets forth the summary historical and other data for Virgin Mobile USA, LLC and pro forma financial data for Virgin Mobile USA, Inc. as of the dates and for the periods indicated. Virgin Mobile USA, Inc. is a recently formed holding company which has not engaged in any business or other activities except in connection with its formation and the reorganization transactions described elsewhere in this prospectus. Accordingly, all financial and other information herein relating to periods prior to the completion of the reorganization transactions is that of Virgin Mobile USA, LLC. The summary balance sheet data as of December 31, 2005 and 2006 and the statement of operations data for each of the years ended December 31, 2004, 2005 and 2006 have been derived from Virgin Mobile USA, LLC’s audited financial statements included elsewhere in this prospectus. The summary balance sheet data as of December 31, 2004 has been derived from Virgin Mobile USA, LLC’s audited financial statements not included in this prospectus.

The summary unaudited pro forma financial information has been developed by application of pro forma adjustments to the historical consolidated financial statements appearing elsewhere in this prospectus. The summary unaudited pro forma financial information as of and for the year ended December 31, 2006 gives effect, in the manner described under “Unaudited Pro Forma Financial Information” and the notes to (i) the reorganization transactions together with the related equity-based awards, (ii) the refinancing of our existing senior secured credit facility and our existing subordinated secured revolving credit facility, or Refinancing, and (iii) this offering of Class A common stock by us and the use of proceeds therefrom, as if all such events occurred as of January 1, 2006 in the case of the unaudited pro forma condensed consolidated statement of operations data, and as if they had occurred on December 31, 2006, in the case of the unaudited pro forma condensed consolidated balance sheet data. The unaudited pro forma adjustments are based upon available information and certain assumptions that we believe are reasonable under the circumstances. The summary unaudited pro forma financial information is presented for informational purposes only and is not necessarily indicative of and does not purport to represent what our financial position or results of operations would actually have been had the transactions been consummated as of the dates indicated. In addition, the summary unaudited pro forma financial information is not necessarily indicative of our future financial condition or results of operations.

You should read the information contained in this table in conjunction with “Unaudited Pro Forma Financial Information,” “Selected Historical Financial and Other Data,” “Capitalization,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and our historical audited financial statements and the accompanying notes included elsewhere in this prospectus.

 

 

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                       Pro Forma

(in thousands, except share per share data and Other data
unless otherwise indicated)

  

Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

   

Virgin Mobile USA, Inc.
Fiscal Year

Ended

December 31, 2006

   2004     2005     2006    
           (Unaudited)

Income statement data:

        

Operating revenue:

        

Net service revenue

   $ 567,006     $ 883,816     $ 1,020,055    

Net equipment revenue

     123,632       106,116       90,524    
                            

Total operating revenue

     690,638       989,932       1,110,579    

Operating expenses:

        

Cost of service (exclusive of depreciation and amortization)

     229,283       309,321       299,130    

Cost of equipment

     364,042       361,655       378,981    

Selling, general and administrative (exclusive of depreciation and amortization)

     253,178       346,470       401,732    

Loss (gain) from litigation

     —         29,981       (15,384 )  

Depreciation and amortization

     12,891       19,413       28,381    
                            

Total operating expense

     859,394       1,066,840       1,092,840    
                            

Operating (loss)/income

     (168,756 )     (76,908 )     17,739    

Interest expense

     5,427       25,008       52,178    

Other (income)/expense

     (305 )     949       2,268    

Minority interest

     —         —         —      
                            

Loss before taxes

     (173,878 )     (102,865 )     (36,707 )  

Income tax expense

     —         —         —      
                            

Net loss

   $ (173,878 )   $ (102,865 )   $ (36,707 )  
                            

Net loss per share:

        

Basic

     N/A       N/A       N/A    

Diluted

     N/A       N/A       N/A    

Weighted average common shares outstanding:

        

Basic

     N/A       N/A       N/A    

Diluted

     N/A       N/A       N/A    

Balance sheet data:

        

Cash and cash equivalents

   $ —       $ 18,562     $ —      

Total assets

   $ 165,361     $ 221,215     $ 276,939    

Long-term debt

   $ —       $ —       $ 481,500    

Total debt

   $ 70,374     $ 497,500     $ 553,269    

Members' deficit/Shareholders' equity

   $ (165,775 )   $ (621,683 )   $ (643,925 )  

Statement of cash flows data:

        

Net cash (used in)/provided by:

        

Operating activities

   $ (40,510 )   $ (1,678 )   $ (38,865 )  

Investing activities

   $ (26,288 )   $ (33,607 )   $ (34,453 )  

Financing activities

   $ 66,798     $ 53,847     $ 54,756    

Capital expenditures

   $ (26,288 )   $ (33,607 )   $ (34,453 )  

Other data (Unaudited):

        

Gross additions(a)

     2,328,830       2,666,194       3,013,781    

Churn(b)

     3.9 %     4.3 %     4.8 %  

Net customer additions(c)

     1,422,855       993,625       729,313    

End-of-period customers(d)

     2,851,152       3,844,777       4,574,090    

Adjusted EBITDA(e)(f) (in thousands)

   $ (133,567 )   $ (48,275 )   $ 47,884    

Average revenue per user(e)(g)

   $ 24.24     $ 22.54     $ 21.48    

CCPU(e)(h)

   $ 16.85     $ 14.94     $ 13.15    

CPGA(e)(i)

   $ 131.58     $ 118.62     $ 120.55    

(footnotes on following page)

 

 

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(a)   Gross additions represents the number of new customers that activated our handsets during a period, unadjusted for churn during the same period. In measuring gross additions, we begin with handset activations and exclude any customer that has replaced one of our handsets with another one, retailer returns, customers who have reactivated within seven months of deactivation and fraudulent activations.
(b)   Churn is used to measure customer turnover. Churn is calculated as the ratio of the net number of customers that disconnect from our service to the weighted average number of customers, divided by the number of months during the period being measured. The net number of customers that disconnect from our service is calculated as the total number of customers that disconnect less the adjustments noted under gross additions above. These adjustments are applied in order to arrive at a more meaningful measure of churn. Churn includes those customers who we automatically disconnect from our service when they have not replenished their account for 150 days as well as those customers who voluntarily disconnect from our service. We believe churn is a useful metric to track changes in customer retention over time and to help evaluate how changes in our business and services offerings affect customer retention. In addition, churn is also useful for comparing our customer turnover to that of other wireless communications providers.
(c)   Net customer additions represents the number of new customers that activated our handsets during a period, adjusted for churn during the same period.
(d)   End-of-period customers are the total number of customers at the end of the period being measured.
(e)   We use several financial performance metrics, including Adjusted EBITDA, ARPU, CCPU and CPGA, which are not calculated in accordance with generally accepted accounting principles, or GAAP. A non-GAAP financial metric is defined as a numerical measure of a company’s financial performance that (i) excludes amounts, or is subject to adjustments that have the effect of excluding amounts, that are included in the comparable measure calculated and presented in accordance with GAAP in the statement of operations or statement of cash flows; or (ii) includes amounts, or is subject to adjustments that have the effect of including amounts, that are excluded from the comparable measure so calculated and presented. We believe that the non-GAAP financial metrics that we use are helpful in understanding our operating performance from period to period, and although not every company in the wireless communication industry defines these metrics in precisely the same way that we do, we believe that these metrics as we use them, facilitate comparisons with other wireless communication companies. These metrics should not be considered substitutes for any performance metric determined in accordance with GAAP.
(f)   Adjusted EBITDA is calculated as net income (loss) plus depreciation and amortization, interest expense, non-cash compensation expense, equity issued to a member and debt extinguishment costs. We find Adjusted EBITDA to be useful as a measure for understanding the performance of our operations from period to period.

 

     Fiscal Year Ended December 31,  
(in thousands)    2004     2005     2006  
     (Unaudited)  

Calculation of Adjusted EBITDA:

      

Net loss

   $ (173,878 )   $ (102,865 )   $ (36,707 )

Plus:

      

Depreciation and amortization

     12,891       19,413       28,381  

Interest expense

     5,427       25,008       52,178  

Non-cash compensation expense

     5       1,475       2,563  

Equity issued to a member

     21,988       7,623       —    

Debt extinguishment costs

     —         1,071       1,469  
                        

Adjusted EBITDA

   $ (133,567 )   $ (48,275 )   $ 47,884  
                        

(footnotes continued on following page)

 

 

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(g)   Average revenue per user, or ARPU, is used to measure and track the average revenue generated by our customers on a monthly basis. ARPU is calculated as net service revenue for the period divided by the weighted average number of customers for that period being measured, further divided by the number of months in the period being measured. The weighted average number of customers is the sum of the average customers for each day during the period measured divided by the number of days in that period. ARPU helps us to evaluate customer performance based on customer revenue and forecast our future service revenues.

 

     Fiscal Year Ended December 31,
(in thousands, except number of months and ARPU)    2004    2005    2006
          (Unaudited)     

Calculation of ARPU:

        

Net service revenue

   $ 567,006    $ 883,816    $ 1,020,055

Divided by weighted average number of customers.

     1,949      3,268      3,957

Divided by number of months in the period

     12      12      12
                    

ARPU

   $ 24.24    $ 22.54    $ 21.48
                    

 

(h)   Cash cost per user, or CCPU, is used to measure and track our costs to provide support for our services to our existing customers. The costs included in this calculation are our cost of service (exclusive of depreciation and amortization), excluding cost of service associated with initial customer acquisition, general and administrative expenses, excluding any marketing, selling, and distribution expenses associated with initial customer acquisition, non-cash compensation expense, net loss on equipment sold to existing customers, cooperative advertising expenses in support of existing customers and other (income) / expense, net of debt extinguishment costs. These costs are then divided by our weighted average number of customers for the period being measured, further divided by the number of months in the period being measured. CCPU helps us to assess our ongoing business operations on a per customer basis, and evaluate how changes in our business operations affect the support costs per customer. Given its use throughout the industry, CCPU also serves as a standard by which we compare our performance against that of other wireless communication companies.

 

     Fiscal Year Ended December 31,  
(in thousands, except number of months and CCPU)    2004     2005     2006  
           (Unaudited)        

Calculation of CCPU:

      

Cost of service (exclusive of depreciation and amortization)

   $ 229,283     $ 309,321     $ 299,130  

Less: Cost of service associated with initial customer acquisition

     (7,367 )     (3,750 )     (1,968 )

Add: General and administrative expenses

     161,269       254,989       288,414  

Less: Non-cash compensation expense

     (5 )     (1,475 )     (2,563 )

Add: Net loss on equipment sold to existing customers

     11,259       22,291       38,042  

Add: Cooperative advertising expenses in support of existing customers

     —         4,620       2,362  

Add: Other (income) / expense, net of debt extinguishment costs

     (305 )     (122 )     799  
                        

Total CCPU costs

   $ 394,134     $ 585,874     $ 624,216  

Divided by weighted average number of customers

     1,949       3,268       3,957  

Divided by number of months in the period

     12       12       12  
                        

CCPU

   $ 16.85     $ 14.94     $ 13.15  
                        

(footnotes continued on following page)

 

 

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(i)   Cost per gross addition, or CPGA, is used to measure the cost of acquiring a new customer. The costs included in this calculation are our selling expenses, our net loss on equipment sales (cost of equipment less net equipment revenue), excluding the net loss on equipment sold to existing customers, equity issued to a member, cooperative advertising in support of existing customers and cost of service associated with initial customer acquisition. CPGA helps us to assess the efficiency of our customer acquisition methods and evaluate our sales and distribution strategies. CPGA also allows us to compare our average acquisition costs to those of other wireless communication companies.

 

     Fiscal Year Ended December 31,  
(in thousands, except CPGA)    2004     2005     2006  
           (Unaudited)        

Calculation of CPGA:

      

Selling expenses

   $ 91,909     $ 91,481     $ 113,318  

Add: Cost of equipment

     364,042       361,655       378,981  

Less: Net equipment revenue

     (123,632 )     (106,116 )     (90,524 )

Less: Net loss on equipment sold to existing customers

     (11,259 )     (22,291 )     (38,042 )

Less: Equity issued to a member

     (21,988 )     (7,623 )     —    

Less: Cooperative advertising costs in support of existing customers

     —         (4,620 )     (2,362 )

Add: Cost of service associated with initial customer acquisition

     7,367       3,750       1,968  
                        

Total CPGA costs

   $ 306,439     $ 316,236     $ 363,339  

Divided by gross additions

     2,329       2,666       3,014  
                        

CPGA

   $ 131.58     $ 118.62     $ 120.55  
                        

 

 

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RISK FACTORS

An investment in our Class A common stock involves a high degree of risk. You should carefully consider the risks described below, together with the other information in this prospectus, before deciding whether to purchase our Class A common stock.

Risks Related to Our Business

We have a short operating history which may not be indicative of our future performance and, if our revenue and earnings growth are not sustainable, we may not be able to generate the earnings necessary to fund our operations, continue to grow our business or repay our debt obligations.

We launched our service nationally in July 2002 and had no revenues before that time. Consequently, we have a limited operating and financial history upon which to evaluate our business model, financial performance and ability to succeed in the future. You should consider our prospects in light of the risks we may encounter, including risks and expenses faced by new companies competing in rapidly evolving and highly competitive markets. We cannot be certain that our MVNO business model will be profitable or competitive in the long-term against larger, facilities-based wireless providers or other MVNOs. We also cannot predict whether our MVNO model will allow us to offer the wireless services that customers may demand in the future. We have experienced, and may continue to experience, significant fluctuations in our revenues and cash flows. If we are unable to achieve sufficient revenues and earnings from operations, our financial results will be adversely affected and we will not have sufficient cash to fund our current operations, sustain the continued growth of our business, satisfy our debt covenants or repay our debt obligations. Failure to satisfy our debt covenants (as has occurred in the past) or make any required payments could result in defaults under our credit agreements. We have experienced, and may continue to experience, operating losses. In the event that we do become profitable, we can provide no assurances that such profitability can or will be sustained in the future.

Competition in the wireless industry could adversely affect our revenues and profitability.

The wireless communications market is extremely competitive, and competition for customers is increasing. We compete with (i) facilities-based wireless communications providers and their prepaid affiliates or brands, including Sprint Nextel and its Boost product; and (ii) other MVNOs. We also may face competition from providers of an emerging technology known as Worldwide Interoperability for Microwave Access, or WiMax, which is capable of supporting wireless transmissions suitable for future mobility applications as well as devices offering voice over Internet protocol, or VoIP, telecommunication services in conjunction with WiFi technology. We do not have any agreements in place that would give us access to these emerging technologies.

Most of our competitors have substantially greater financial, technical, personnel and marketing resources and a larger market share than we have, and we may not be able to compete successfully against them or other wireless communications providers. Due to their size and bargaining power, our larger competitors obtain discounts for facilities, equipment, handsets, content, and services, potentially placing us at a competitive disadvantage. As consolidation in the industry creates even larger competitors, our competitors’ purchasing advantages may increase further, hampering our efforts to attract and retain customers. Certain of our competitors may also use their ownership of local wireline telecommunications facilities to introduce service features and calling plans, such as free wireless-to-landline calls, that we are unable to offer at similar cost. Their larger wireless customer bases may make discounted or free in-network calling (that we do not offer currently) more attractive than any similar service that we may offer. This may adversely affect our ability to compete against these competitors in the longer term.

Other prospective entrants in the wireless communications industry, such as cable operators, are beginning to offer bundled local, long distance, high-speed data, and television and video services. The ability of these providers to bundle telecommunications, Internet, and video with wireless services, as well as their financial strength and economies of scale, may enable them to offer wireless services at prices that are lower than the

 

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prices at which we can offer comparable services. If we cannot compete effectively with these service providers, our revenues, profits, cash flows and growth may be adversely affected.

The prepaid wireless marketplace has become increasingly competitive, with a number of new entrants providing service. Several of these providers have marketed their services to the youth-oriented customer demographics that we target. Our operating performance and financial results may be adversely affected if we are unable to successfully differentiate our services from those of such competitors.

We may face competitive pressure to reduce prices for our products and services, which may adversely affect our profitability and other financial results.

As competition in the U.S. wireless communications industry has increased, providers have lowered prices or increased the number of minutes available under monthly service plans to attract or retain customers. To remain competitive with existing and future competitors, we may be compelled to offer greater subsidies for our handsets, reduce the prices for our services or increase the available minutes that we offer under our prepaid monthly, or hybrid, service plans. Additionally, since our PCS services agreement with Sprint Nextel is based on cost plus a margin on the services we purchase, our cost of services may increase as a result of our attempt to remain competitive. This may reduce our margins, revenues and adversely affect our profitability.

Failure to develop future service offerings may limit our ability to compete effectively and grow our business.

An important part of our business strategy is the development and introduction of new voice and data services including, but not limited to, mobile data services. The success of our new service offerings will depend, in part, on our ability to anticipate and respond to varied and rapidly changing customer needs. In order to remain competitive in the U.S. wireless industry, we will need to introduce and commercialize these new services to our market on a timely basis. Our future service offerings may rely on new and unproven technology that may demand substantial capital outlays and utilize significant spectrum capacity. Our services currently depend on the nationwide Sprint PCS network, and we cannot guarantee that Sprint Nextel will make the necessary capital outlays or have sufficient spectrum capacity to deploy new services on that network.

To ensure that our services remain attractive to customers and competitive with those offered by other wireless communications providers, we may be required to modify, change, or adjust our service offerings or introduce new service offerings. For instance, we have launched several hybrid calling plans to compete more effectively with other wireless communications providers. We cannot be certain that our hybrid plans, or future service offerings, will be as profitable or successful as we have envisioned. A substantial portion of our recent gross additions have been under these hybrid plans. We cannot guarantee that the adoption and growth of these hybrid plans will continue or that we will be able to offer services under these hybrid plans in a profitable manner.

Higher than expected customer turnover could result in increased costs and decreased revenues, which would have an adverse effect on our profitability.

Many prepaid wireless service providers, including us, historically have experienced a high rate of customer turnover, or “churn.” A major element of our business strategy is offering customers wireless services without requiring long-term service contracts. In contrast, postpaid services providers generally require customers to enter into long-term service contracts that impose substantial early termination penalties. We do not require long-term service contracts or impose early termination penalties. Accordingly, our customers can terminate service with us easily and transition to another carrier. Although not every company in the wireless communication industry measures churn the same way that we do, we believe that we have a higher churn than our postpaid competitors. Our average monthly churn (as defined in “Prospectus Summary—Summary Financial and Other Data”) for the year ended December 31, 2006 was approximately 4.81%. While we expect a certain level of

 

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customer turnover, if actual churn levels were to exceed our current forecasts, it could reduce our revenues, cause our operating margins to diminish, and adversely impact profitability. In addition, our marketing costs to attract the replacement customers required to sustain our business plan could increase, further reducing our profits. Our churn may be affected by several factors, including the following:

 

   

network coverage and connection quality;

 

   

handset and network reliability issues, such as dropped and blocked calls;

 

   

handset pricing and selection;

 

   

the ability to roam on wireless networks of other carriers;

 

   

pricing and affordability of our services;

 

   

pricing of competitive services relative to ours; and

 

   

customer care performance.

As an MVNO, we do not control network access, network reliability or connection quality. Furthermore, our customers do not have the ability to roam on other wireless networks in areas where the nationwide Sprint PCS network, or those parts of that network provided by Sprint Nextel’s third party PCS affiliates, are not available. These and other factors, which are outside our control, may lead to increased churn.

Additionally, the regulations promulgated by the Federal Communications Commission, or FCC, require wireless providers, including us, to provide wireless number portability to their customers. Under these regulations, wireless providers must transfer, or “port,” the number of a departing customer to the customer’s new wireless carrier. These regulations could lead to increased churn as wireless customers now have the ability to retain their wireless telephone numbers despite changing wireless providers.

We may lose customers if we fail to keep up with rapid technological change occurring in the wireless industry.

The wireless communications industry is experiencing significant technological change, including ongoing improvements in the capacity and quality of digital technology, the development and commercial acceptance of wireless broadband data services, shorter development cycles for new products and enhancements, and changes in end-user requirements and preferences. These changes may cause uncertainty about future demand for our wireless services and may affect the prices that we will be able to charge for these services. Rapid changes in technology, moreover, may lead to the development of wireless communications services or alternative services that consumers prefer over our services. Our operational performance and financial results may be adversely affected if we are unable to deploy future technologies or services on a timely basis or at an acceptable cost.

In addition, our ability to subsidize handsets is limited because we do not require long-term contracts that may produce a more stable revenue stream. As a result, we do not offer the most expensive or technologically advanced handsets available to the market because the retail price of such handsets would be less attractive to our customers than those we offer without greater subsidies than those contemplated by our business model.

Our business is seasonal, and we depend on fourth quarter customer additions; our results of operations for future periods will be affected negatively if we fail to deliver strong customer growth in the fourth quarter of any year.

The wireless business in the United States generally, and in the prepaid business in particular, is seasonal and is often disproportionately dependent on fourth quarter results. Our business has experienced a similar pattern and we expect this pattern to continue in the future. If our fourth quarter customer additions fail to meet our expectations, it could adversely affect our results of operations and cash flows.

 

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Bulk handset purchase and trading schemes may curtail our ability to offer handsets at subsidized retail prices and thus limit our ability to acquire new customers or result in significant additional costs.

We acquire new customers in part by offering handsets for sale at significantly subsidized retail prices resulting in a loss to us on handset sales. In recent years, several third parties have purchased our less expensive handsets, reprogrammed them, and resold the handsets in bulk for use on other wireless communications providers’ networks. As a result of such bulk purchase and trading schemes, we do not realize wireless services revenue in connection with such handsets, which in the past has resulted in substantial losses to us. In addition, bulk purchases deplete inventory of retail stores available for sale to legitimate customers. We estimate that in 2005 and 2006, approximately 228,000 and 322,000 of our handsets were bought and resold in bulk, which resulted in a loss of approximately $25.4 million and $30.4 million, respectively, consisting primarily of loss subsidies and promotional expenses. We believe that such bulk purchase and trading schemes constitute breaches of the contractual terms of purchase of our handsets and the use of our services and that many activities of bulk handset traders infringe on our trademark rights, constitute illegal interference with our business, and constitute civil conspiracy, unjust enrichment and unfair competition. While we have aggressively pursued claims against such bulk purchasers, we cannot predict whether our efforts will be effective. We may be forced to raise our handset prices to deter future bulk purchase and trading activities, which may affect our ability to attract new customers. The continued bulk purchase and trading of our handsets may adversely affect our revenues, profitability and cash flows.

We have a significant amount of debt and are subject to restrictive debt covenants which could have important consequences related to the success of our business.

As of December 31, 2006, our total debt was $553.3 million and following this offering, on a pro forma basis, our total debt would have been $             million. Any decrease in the aggregate net proceeds raised in this offering will result in an increase of our pro forma total debt. See “Use of Proceeds” and “Capitalization” for additional information. The level of our indebtedness could have important consequences, including:

 

   

making it more difficult for us to satisfy our obligations under our debt instruments;

 

   

limiting cash flow available for general corporate purposes, including capital expenditures and acquisitions, because a substantial portion of our cash flow from operations must be dedicated to servicing our debt;

 

   

limiting our ability to obtain additional debt financing in the future for working capital, capital expenditures or acquisitions;

 

   

limiting our flexibility to react to competitive and other changes in our industry and economic conditions generally; and

 

   

exposing us to risks inherent in interest rate fluctuations because all of our borrowings are at variable rates of interest (although we have entered into transactions to hedge a substantial portion of our interest rate risk, if market interest rates increase, our unhedged variable-rate debt will result in higher interest expense and adversely affect our cash flow).

In 2005, we failed to satisfy a net service revenue covenant in our prior credit facility, which resulted in a default under that credit facility and required us to negotiate with our lenders to amend and restate that facility in July 2006. As a result of the default, we had no access to our $100 million revolving credit facility provided under our 2005 senior credit facilities, which resulted in a liquidity shortfall in 2006. As a result of the liquidity shortfall, we were unable to make timely payments to Sprint Nextel on amounts owed under the PCS services agreement, requiring us to negotiate with Sprint Nextel in order to receive additional time to make such payments and to pay interest on such late payments. In connection with the amendment and restatement of our 2005 senior credit facilities and our liquidity shortfall, Sprint Nextel and the Virgin Group provided us with our $100 million existing subordinated secured revolving credit facility which replaced the $100 million revolving credit facility previously provided by the third party lenders under our 2005 senior credit facilities.

 

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Our existing senior secured credit facility and our subordinated secured revolving credit facility contain a number of restrictive covenants and require us to maintain specified financial ratios and satisfy financial condition tests. See “Description of Indebtedness— Existing Senior Secured Credit Facility.” We cannot assure you that our business will generate sufficient cash flow from operations or that future borrowings will be available to us on acceptable terms or in an amount sufficient to enable us to pay interest or principal on our debt or to fund our other liquidity needs. In addition, our limited tangible assets may further limit our ability to obtain loans or access the debt capital markets. Failure to satisfy our debt covenants or make any required payments could result in defaults under our credit agreements.

We may incur significant additional indebtedness from time to time. If we incur additional indebtedness, the related risks we could face would be magnified.

Our products and services are sold primarily through third party retail distribution partners, and the success of our business will depend in part on maintaining our relationships with these partners.

Wireless products and services traditionally have been sold primarily in dedicated wireless retail stores, many branded with the name of the wireless communications provider. We have not operated, and do not plan to operate, branded stores dedicated to our wireless products and services. Instead, we sell our products and services through third-party distribution channels and through our website and our contact center.

Our four largest distribution partners account for a substantial majority of our sales. The success of our business depends in part on maintaining our relationships with these and other distribution partners and the terms of our distribution agreements with these partners. Our distribution agreements with retail partners generally have short terms and do not impose minimum purchase obligations on our distribution partners. We, on the other hand, have long-term supply contracts with manufacturers of our handsets. Accordingly, there is no assurance that our distribution partners will continue to distribute our products or distribute sufficient quantities to match our purchase obligations with our suppliers. If our distribution agreements expire or are terminated or if our distribution partners cease to distribute our products and services, we may not be able to establish alternative distribution channels for our products and services.

As an MVNO, we are dependent on Sprint Nextel for our wireless network and any disruptions to such network may adversely affect our business and financial results.

As an MVNO, we do not own spectrum or own or operate a physical network. Sprint Nextel is our exclusive wireless network provider. To be successful, we will need to continue to provide our customers with reliable service over the nationwide Sprint PCS network. We rely on Sprint Nextel and its third party PCS affiliates to maintain their wireless facilities and government authorizations and to comply with government policies and regulations. If Sprint Nextel or its third party PCS affiliates fail to do so, we may incur substantial losses. Delays or failure to add network capacity, or increased costs of adding capacity or operating the network, could limit our ability to increase our customer base, limit our ability to increase our revenues, or cause a deterioration of our operating margin. Some of the risks related to the nationwide Sprint PCS network and infrastructure include: physical damage to access lines, breaches of security, power surges or outages, software defects and disruptions beyond Sprint Nextel’s control, such as natural disasters and acts of terrorism, among others. The PCS services agreement with Sprint Nextel does not contain any contractual indemnification provisions relating to network outages or other disruptions. Any impact on the nationwide Sprint PCS network will have an adverse impact on our business and may adversely affect our financial condition, results of operations and cash flows.

Third party PCS affiliates of Sprint Nextel provide network coverage in certain regions of the country. We are dependent on those third party PCS affiliates for coverage in those areas, and currently all such third party PCS affiliates allow Virgin Mobile to offer service in their regions. In July 2008, however, they have the right to stop permitting new customers to activate services in their regions. In addition, such third party PCS affiliates have the right to stop providing their services to our customers (1) if we launch services that are not pay-as-you-

 

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go services in such affiliate’s territory, (2) upon a change of control of us or Sprint Nextel and (3) upon certain events of bankruptcy or dissolution of us or Sprint Nextel. In the year ended December 31, 2006, approximately 10.26% of our customers were located in such third party PCS affiliate territories and we generated approximately $108.6 million in revenues from such customers. The inability to provide service to customers within the third party PCS affiliates’ territories could have an adverse affect on our business and may adversely affect our financial condition, results of operations and cash flows.

Wireless communications technology is evolving rapidly. A significant change in current wireless network technologies or the emergence of alternative technologies could reduce significantly our ability to offer a full range of data services, as compared to our competitors. If Sprint Nextel fails to keep up with these changes, we may lose customers or may not be able to attract new customers. In addition, our PCS services agreement with Sprint Nextel covers only our access to the nationwide Sprint PCS network using CDMA technology and may limit our ability to access other networks or services offered by Sprint Nextel now or in the future.

Our PCS services agreement with Sprint Nextel expires in 2027. Sprint Nextel, however, may terminate the PCS services agreement prior to the expiration of its term due to various reasons specified in the PCS services agreement, including:

 

   

breach of the agreement by us;

 

   

acquisition of control of us by a specified competitor of Sprint Nextel; or

 

   

a specified competitor of the Virgin Group acquires control of us and Virgin Group terminates the Virgin trademark license agreement.

In case of either the expiration or termination of the Sprint PCS services agreement, we may be unable to reach a further agreement with Sprint Nextel and its third party PCS affiliates or with an alternate wireless communications provider to obtain the wireless services necessary to operate our business. In addition, transition to an alternative provider is limited to a provider with a CDMA network as our handsets are not capable of operating on all networks. Such a transition could be time-consuming and costly and we could lose a substantial number of customers during the transition period.

In addition, we also rely on Sprint Nextel and its third party PCS affiliates for other critical operational matters, including:

 

   

continued expansion and improvement by Sprint Nextel of the nationwide Sprint PCS network and its third party PCS affiliates’ networks, which is expected to require additional investment;

 

   

deployment of upgrades and maintenance of the nationwide Sprint PCS network by Sprint Nextel and its third party PCS affiliates;

 

   

maintenance by Sprint Nextel of its relationships with its third party PCS affiliates;

 

   

maintenance by Sprint Nextel and its third party PCS affiliates of FCC authorizations in good standing;

 

   

integration of new services into the nationwide Sprint PCS network;

 

   

certification of new handsets for use on the nationwide Sprint PCS network;

 

   

compliance with FCC, state E911 and other regulatory requirements;

 

   

obtaining telephone numbers;

 

   

maintenance of interconnection agreements; and

 

   

compliance with applicable laws and regulations including the Communications Assistance for Law Enforcement Act of 1994, or CALEA, network technical requirements.

 

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We compete with several of Sprint Nextel’s products, including its postpaid products and its prepaid Boost product. In addition, Sprint Nextel may from time to time create products or acquire interests in business that directly or indirectly compete with us. As a result, Sprint Nextel’s interests may be different from, or adverse to, ours.

Payments made to Sprint Nextel pursuant to the PCS services agreement are based on estimates, which may cause our reported quarterly results to be less reflective of our actual performance during a given period.

We purchase wireless network services at a price based on Sprint Nextel’s annual cost of providing these services plus a profit margin. Quarterly, we estimate the annual cost of such services and record an adjustment if the estimate is different from the actual costs billed to us by Sprint Nextel. Under the terms of the agreement, Sprint Nextel is required to provide us with a final assessment of their costs annually. In the event that our estimates for a given period are incorrect, we record an adjustment in the then-current period as a change to the estimate. Accordingly, our costs associated with network services may not be fully aligned with revenues during a given period to the extent of such adjustments and our reported quarterly results may not be fully reflective of our actual performance during a given period.

Sprint Nextel’s failure to obtain the proper licenses and governmental approvals from regulatory authorities would cause us to be unable to successfully operate our business.

The FCC licenses currently held by Sprint Nextel and its third party PCS affiliates to provide PCS services are subject to renewal and revocation. There is no guarantee that Sprint Nextel’s or its third party PCS affiliates’ PCS licenses will be renewed. The FCC requires all PCS licensees to meet certain requirements, including so-called “build-out” requirements, to retain their licenses. Sprint Nextel’s or its third party PCS affiliates’ failure to comply with certain FCC requirements in a given license area could result in the revocation of Sprint Nextel’s or such third party PCS affiliates’ PCS license for that geographic area.

We are dependent on our license agreement with the Virgin Group to use the Virgin Mobile brand.

We are party to a trademark license agreement with the Virgin Group pursuant to which we have exclusive rights to use the Virgin Mobile brand for wireless products and services in our coverage area through 2027. The Virgin Group may terminate the trademark license agreement prior to the expiration of its term due various reasons specified in the agreement, including:

 

   

breach of the agreement by us;

 

   

acquisition of control of us by a specified competitor of the Virgin Group; or

 

   

a specified competitor of Sprint Nextel acquires control of us and Sprint Nextel terminates the Sprint PCS services agreement.

In case of either the expiration or termination of the Virgin trademark license agreement, we may be unable to reach a further acceptable agreement with the Virgin Group. Our inability to use the Virgin Mobile brand would have a material adverse effect on our operations.

We may be limited in our ability to grow our business and customer base unless we can continue to obtain network capacity at favorable rates and meet the growing demands on our business systems and processes.

To further expand our MVNO business, we must continue to obtain wireless network capacity at favorable rates and terms, provide adequate customer service and acquire and market a sufficient quantity and mix of handsets and related accessories. Our operating performance and ability to attract new customers may be adversely affected if we are unable to meet the increasing demands for our services in a timely and efficient manner, while adequately addressing the growing demands on our customer service, billing, and other back-

 

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office functions. Any change in our ability, or the ability of third parties with whom we contract, to provide these services also could adversely affect our operations and financial performance.

Our operations and growth could be adversely affected if our wireless data services do not perform satisfactorily.

We provide text, instant and picture messaging, email, ringtones, games, and other wireless data services marketed under the VirginXL and VirginXtras brand names. These non-voice mobile data services represent a significant portion of our revenues. Our future results may be adversely affected if these services are not utilized by a sufficient number of our customers or fail to produce sufficient levels of customer satisfaction and revenues. These services and features may not counter increasing competition and pricing pressure in the wireless voice market or markedly differentiate us from our competitors. We also may not realize our goals successfully if we fail to develop and deploy new wireless data applications for our customers, offer wireless data services profitably, or achieve a satisfactory level of customer acceptance and utilization of our wireless data services.

Our prepaid service offerings may not be successful in the long term.

Our prepaid services may not prove to be successful or profitable in the long term. In addition, a majority of the customers that purchase our prepaid services are lower-income, lower-usage customers. Our long-term success is dependent upon our sustained ability to generate sufficient revenue from our customers based on their use of our services and respond to churn by adding new customers. If we are unable to sustain or increase the revenue that we generate from our existing customers or obtain new customers to replace churned customers, our operational performance and financial results may be adversely affected.

We rely on third parties for equipment and services that are integral to our business.

We have entered into agreements with third-party contractors, including Kyocera Wireless Corp. and UTStarcom Personal Communications LLC, to provide equipment and services required for our operation, in addition to content development, product distribution, supply chain, handset sourcing, customer care and billing and payment processing. Some of these agreements contain termination provisions that allow for these agreements to be cancelled upon short or no notice. If these contracts are terminated and we are unable to renew them or negotiate agreements for replacement services with other providers at comparable rates, our business will suffer. Our handset inventory is currently acquired from only a few sources. In addition, our ability to control the efficiency, timeliness and quality of the services provided by our third party contractors is limited.

Our future success will depend in part on our ability to protect our intellectual property rights, and our inability to enforce these rights could cause us to lose sales and any competitive advantage we have.

Our success depends to a significant degree upon our ability to protect and preserve the proprietary aspects of our products and services and other intellectual property. We rely on the patent, trademark, copyright and trade secret laws of the United States and other countries, as well as nondisclosure agreements, to protect our intellectual property rights. However, we may be unable to prevent third parties from using our technology without our authorization, breaching any nondisclosure agreements with us, or independently developing technology that is similar to ours, particularly in those countries where the laws do not protect our proprietary rights as fully as in the United States. The use of our intellectual property or similar intellectual property by others could reduce or eliminate any competitive advantage we have developed, cause us to lose sales or otherwise harm our business. If it becomes necessary for us to resort to litigation to protect these rights, any proceedings could be burdensome and costly and we may not prevail.

We depend upon our senior management and our business may be adversely affected if we cannot retain them.

Our success depends upon the retention of our experienced senior management with specialized industry and technical knowledge. We might not be able to find qualified replacements for the members of our senior

 

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management team if their services were no longer available to us; accordingly, the loss of critical members of our senior management team could have a material adverse effect on our ability to effectively pursue our business. W e only have “key man” life insurance for Daniel H. Schulman, our chief executive officer, and no other member of our senior management team.

Difficulty hiring and retaining qualified personnel as well as the potential impact of unionization and organizing activities could have an adverse effect on our costs and results of operations.

The success of our business depends in large part upon our ability to attract and retain highly skilled, knowledgeable and qualified managerial, professional, technical, sales and customer support personnel. If we are unable to recruit and retain qualified employees our results of operations could be adversely affected. In addition, union organizing activities may occur, and the adverse impact of unionization and organizing activities on our costs and operating results could be substantial.

Risks Related to Our Industry

Government regulations and taxation could increase our costs, limit our growth, and adversely affect our operations and financial results.

The licensing, operation and provision of wireless telecommunications systems and services are regulated by the FCC and, depending on the jurisdiction, state and local regulatory agencies. These regulatory authorities have established certain taxes and fees on the providers of wireless services. Although we remit all applicable federal and state regulatory fees, we currently do not recover these regulatory fees or our compliance costs directly from most of our customers. We may decide to pass these costs directly to all of our customers in the future, however, which may negatively affect our ability to attract and retain customers. Federal, state, and local taxation of our services also significantly increases our cost of doing business and affects our profitability.

The FCC and many states have established universal service fund (USF) programs to ensure that affordable, quality telecommunications services are available to all U.S. residents. Under the FCC’s current regulations, carriers, including us, must contribute to the federal USF program a variable percentage of interstate end-user telecommunications revenues. The FCC, however, has indicated that it may transition to a connections-based or numbers-based approach for USF contributions in the near future. Under such a system, carriers would contribute a per-customer flat fee for each connection or number that the carrier serves. While no final decision has been made by the FCC on transitioning to a connections-based or numbers-based USF contribution methodology, any such transition may require us to increase our rates, adversely affecting our profitability and hindering our ability to attract and retain customers. Generally, any connections-based or numbers-based regime that imposes a flat rate for all wireless users, without adjustment for or exception of lower usage customers, would be regressive and may adversely affect our customers, who on average have lower usage levels and lower incomes than those of postpaid services.

The FCC also has adopted rules requiring wireless providers to implement enhanced 911 (E-911) calling capabilities in two phases, the second of which requires carriers to provide automatic customer location information with a specified accuracy. Many state and local governments have imposed flat per-customer fees on wireless providers to support local implementation of this service. Although we remit all applicable E-911 fees, we do not currently recoup E-911 fees directly from most of our customers. Any increase in these fees may affect our operations and require us to raise our service rates, which may affect our ability to attract and retain customers. In the future, we also may seek to recover these fees from all of our customers, which may affect our ability to attract and retain customers. Moreover, any connections-based or numbers-based regime that imposes a flat rate for all wireless users, without adjustment for or exception of lower usage customers, would adversely affect our customers, who on average have lower usage levels and lower incomes than those of postpaid services.

While Section 332 of the Communications Act of 1934, as amended, generally preempts state and local regulation of wireless services, states have begun to regulate the practices of wireless providers by applying

 

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traditional consumer protection requirements to wireless services. The trend toward increasing the amount and applicability of these requirements greatly affects our ability to offer nationwide services. If a significant number of states were to extend consumer protection requirements to wireless services, it would alter significantly our business practices and impose additional costs on us. If we fail to comply with any of these government regulations, we may be subject to monetary sanctions, which could have a material adverse effect on our business.

Circumvention of security systems on our handsets may adversely affect our operational performance and financial results.

Software installed on handsets sold by many wireless providers, including us, prevents a customer from using a handset sold by one wireless provider on another wireless provider’s system. A recently issued federal regulation provides that circumvention of such software, when circumvention is accomplished for the sole purpose of lawfully connecting to a wireless telephone communication network, is exempt from the Digital Millennium Copyright Act’s prohibition against circumvention of technological measures that control access to copyrighted works. 37 C.F.R. § 201 (2006).

Like most wireless providers, we subsidize handsets with the expectation that the customer will use the handset on our wireless service and generate sufficient revenue to defray our upfront subsidy. Since we do not impose annual service contracts or early termination penalties, customers may terminate service with us at any time and transition to a new provider. Our financial results could be adversely affected if a significant number of our customers were encouraged by the regulation described above to transition to a new wireless communications provider before we were able to recoup our upfront handset subsidy.

In addition, while this regulation does not prevent us from relying on other legal theories, it has eliminated one claim that otherwise might have been brought against bulk purchasers of our handsets and may impair our ability to deter future bulk purchase and trading activities.

Concern about alleged health risks relating to radio frequency emissions from wireless handsets may harm our prospects.

There have been suggestions that radio frequency emissions from wireless handsets may be linked to health concerns, including increased incidences of cancer. Although medical reviews have concluded that evidence does not support a finding of adverse health effects as a result of wireless handset use, some studies have suggested that radio frequency emissions may cause certain adverse biological effects. Research on these and other health concerns is ongoing and may demonstrate a link between radio frequency emissions and health concerns.

We and other wireless communications providers may be subject to litigation relating to these and other health concerns, including claims that handsets interfere with various electronic medical devices, such as hearing aids and pacemakers. Concerns over radio frequency emissions may also discourage the use of wireless handsets, which could have a material adverse effect on our business.

We and others in our industry are subject to allegations of intellectual property infringement which, if resolved against us, could reduce our revenues, cause us to lose customers or increase our costs.

Wireless communications providers have been the subject of third party allegations of intellectual property rights infringement and we cannot be certain that our products do not and will not infringe the intellectual property rights of others. In some instances, these third party allegations have progressed to lawsuits alleging infringement of patent and other rights. We have been and may again be a target of lawsuits alleging that our service offerings infringe third parties’ intellectual property rights. Any such allegations, whether or not meritorious, could result in costly litigation and divert the efforts of our legal staff and other personnel. While we will seek appropriate assurances and indemnification from vendors, if it is ultimately determined that a third

 

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party has enforceable intellectual property rights with respect to our services, it may adversely affect our results of operations or prevent us from offering our services. If we are found liable for infringement, we may be required to enter into licensing agreements (if available on acceptable terms or at all) or pay damages and cease making or selling certain products. In addition, we may need to redesign some of our service offerings to avoid future infringement liability.

Risks Related to Our Organizational Structure

Our only material asset after completion of this offering will be our units in the Operating Partnership, and we are accordingly dependent upon distributions from the Operating Partnership to pay our expenses, taxes and dividends (if and when declared by our board of directors).

Virgin Mobile USA, Inc. will be a holding company and will have no material assets other than its ownership of partnership units in the Operating Partnership. Virgin Mobile USA, Inc. has no independent means of generating revenue. To the extent that Virgin Mobile USA, Inc. needs funds, and the Operating Partnership is restricted from making such distributions under applicable law or regulation or under any present or future debt covenants, or is otherwise unable to provide such funds, it would materially adversely affect our business, liquidity, financial condition and results of operation.

Our corporate structure may result in conflicts of interest between our stockholders and the holders of our operating partnership units.

Our corporate structure is similar to that of an umbrella partnership real estate investment trust, or UPREIT, which means that we hold our assets and conduct substantially all of our operations through an operating limited partnership, and may in the future issue limited partnership units to third parties. Persons holding operating partnership units would have the right to vote on certain amendments to the partnership agreement of the Operating Partnership, as well as on certain other matters. Persons holding these voting rights may exercise them in a manner that conflicts with the interests of our stockholders. Circumstances may arise in the future when the interests of limited partners in our Operating Partnership conflict with the interests of our stockholders. As we control the general partner of the Operating Partnership, we have fiduciary duties to the limited partners of the Operating Partnership that may conflict with fiduciary duties our officers and directors owe to our stockholders. These conflicts may result in decisions that are not in the best interests of stockholders.

We will be required to pay Sprint Nextel for the tax benefits relating to any additional tax depreciation or amortization deductions we may claim as a result of the tax basis step-up we receive in connection with our purchase from Sprint Nextel of units in the Operating Partnership prior to the consummation of this offering and subsequent exchanges by Sprint Nextel of its units in the Operating Partnership for shares of our common stock and related transactions with Sprint Nextel.

Sprint Nextel will sell a portion of its interest in Virgin Mobile USA, LLC to Virgin Mobile USA, Inc. in consideration of approximately $             million (which will be paid from the net proceeds to us from this offering). In addition, from time to time, Sprint Nextel may exchange partnership units in the Operating Partnership for shares of our Class A common stock. The initial sale and subsequent exchanges may result in increases in the tax bases of the assets of the Operating Partnership that would be allocated to Virgin Mobile USA, Inc. Any increase in tax basis that is attributable to an amortizable asset may reduce the amount of tax that we would otherwise be required to pay in the future. The amount of the benefit realized by us will vary depending on the amount, character and timing of our taxable income and there can be no assurances that any such benefit will be utilizable in whole or in part. See “Prospectus Summary—Organizational Structure.”

We intend to enter into a tax receivable agreement with Sprint Nextel that will provide for the payment by us to Sprint Nextel of the amount of the actual cash savings, if any, in U.S. federal, state and local income tax that we actually realize as a result of these increases in tax basis. For purposes of the tax receivable agreement,

 

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cash savings in income tax will be computed by comparing our actual income tax liability to the amount of such taxes that we would have been required to pay had there been no increase to the tax basis of the assets of the Operating Partnership as a result of the future exchanges and had we not entered into the tax receivable agreement, subject to certain adjustments based on tax attributes contributed by the Virgin Group. The term of the tax receivable agreement will commence upon consummation of this offering and will continue until all such tax benefits have been utilized or expired, including the tax benefits derived from future exchanges.

While the actual amount and timing of payments under the tax receivable agreement will depend upon a number of factors, including the timing of the exchanges, the amount and timing of taxable income we generate in the future, our use of net operating loss carryovers, the portion of our payments under the tax receivable agreement constituting imputed interest and increases in the tax basis of our assets resulting in payments to Sprint Nextel, we expect that the payments that may be made to Sprint Nextel will be substantial. Assuming no material changes in the relevant tax law and that we earn significant taxable income to realize the full tax benefit of the increased amortization of our assets, and, making certain assumptions about the tax basis and fair market value of the Operating Partnerships’s assets at the time of the exchanges, we expect that future payments to Sprint Nextel will aggregate approximately $             million. The payments under the tax receivable agreement are not conditioned upon Sprint Nextel’s continued ownership of us. We may need to incur debt to finance payments under the tax receivable agreement to the extent our cash resources are insufficient to meet our obligations under the tax receivable agreement as a result of timing discrepancies or otherwise.

In addition, although we are not aware of any issue that would cause the Internal Revenue Service, or IRS, to challenge the tax basis increases or other benefits arising under the tax receivable agreement, Sprint Nextel will not reimburse us for any payments previously made if such basis increases or other benefits are subsequently disallowed. As a result, in such circumstances we could make payments to Sprint Nextel under the tax receivable agreement in excess of our actual cash tax savings.

We will be required to issue additional shares of our Class A common stock to the Virgin Group as compensation for certain tax attributes contributed by the Virgin Group to us in connection with the reorganization transactions.

In connection with the reorganization transactions the Virgin Group will contribute to Virgin Mobile USA, Inc. its interest in the predecessor of Investments, which will result in us receiving approximately $             million of net operating losses accumulated by Investments. If utilized by us, these net operating losses will reduce the amount of tax that we would otherwise be required to pay in the future. The amount of benefit realized by us may vary depending on the amount, character and timing of our taxable income and there can be no assurances that any such benefit will be utilizable in whole or in part.

We intend to enter into a tax receivable agreement with the Virgin Group that will provide for the issuance by us to the Virgin Group of a number of shares of our Class A common stock equal to the quotient of (1) the amount of actual cash savings, if any, in U.S. federal, state and local income tax that we actually realize as a result of these net operating losses and (2) the greater of (A) the price per share of our Class A common stock at the time of such issuance and (B) the price per share of our Class A common stock in this offering. If the price per share of our Class A common stock at the time of such issuance is less than the price per share of Class A common stock in this offering, we will also be required to issue to the Virgin Group preferred stock with a liquidation preference equal to the difference of (1) the amount of actual cash savings realized by us, less (2) the market value of the shares of Class A common stock received by the Virgin Group in respect of such savings. Holders of the preferred stock will be entitled to receive quarterly cash dividends at a specified fixed rate. The preferred stock will be redeemable by us at our option at any time and will be mandatorily redeemable by us seven years after the issue date and will be classified as a liability on our balance sheet. For purposes of the tax receivable agreement, cash savings in income tax will be computed by comparing our actual income tax liability to the amount of such taxes that we would have been required to pay had such net operating losses not been available to us, subject to certain adjustments based on tax attributes contributed by Sprint Nextel. The term of the tax receivable agreement will commence upon consummation of this offering and will continue until the

 

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earliest of (i) the time that all such tax benefits have been utilized or expired and (ii) ten years from the date of the agreement.

While the number of shares and timing of the issuances of the Class A common stock and preferred stock under the tax receivable agreement will depend upon a number of factors, including the timing of the issuances, the price of shares of our Class A common stock at the time of the issuances, the amount and timing of taxable income we generate in the future, our use of additional amortization deductions attributable to our acquisition of units in the Operating Partnership from Sprint Nextel and the portion of our payments under the tax receivable agreement constituting imputed interest, we expect that the payments that may be made to the Virgin Group will be substantial and will dilute the ownership of the Class A common stock. Assuming no material changes in the relevant tax law and that we earn significant taxable income to realize the full tax benefit of the net operating losses contributed by the Virgin Group, we expect that future payments to the Virgin Group to aggregate $             million. Based on the midpoint of the estimated price range on the cover of this prospectus, this would represent              million additional shares and would result in     % dilution pro forma for the initial public offering. In addition, we may be required to issue our preferred stock to the Virgin Group as described above. The payments under the tax receivable agreement are not conditioned upon the Virgin Group’s or its affiliates’ continued ownership of us.

Although we are not aware of any issue that would cause the IRS to challenge any benefits arising under the tax receivable agreement, the Virgin Group will not reimburse us for any payments previously made if such benefits were subsequently disallowed. As a result, in such circumstances we could make payments to the Virgin Group under the tax receivable agreement in excess of our actual cash tax savings.

Risks Related to Our Class A Common Stock and this Offering

There is no existing market for our common stock, and we do not know if one will develop to provide stockholders with adequate liquidity.

Prior to this offering, there has not been a public market for our Class A common stock. We cannot predict whether investor interest in our company will lead to the development of an active trading market on the New York Stock Exchange, or NYSE, or otherwise or how liquid any market that does develop might become. The initial public offering price for the shares of our Class A common stock will be determined by negotiations between us and the representative of the underwriters and may not be indicative of prices that will prevail in the open market following this offering.

Our share price may decline due to the large number of shares eligible for future sale and for exchange.

The market price of our Class A common stock could decline as a result of sales of a large number of shares of Class A common stock in the market after this offering or the perception that such sales could occur. These sales, or the possibility that these sales may occur, also might make it more difficult for us to sell equity securities in the future at a time and at a price that we deem appropriate. After the consummation of this offering, we will have              outstanding shares of Class A common stock. This number is comprised of the shares of our Class A common stock we are selling in this offering, which may be resold immediately in the public market. See “Shares Eligible for Future Sale.”

We have agreed with the underwriters not to dispose of or hedge any of our Class A common stock or securities convertible into or exchangeable for shares of our Class A common stock, subject to specified exceptions, during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, except with the prior written consent of the underwriters. Subject to these agreements, we may issue and sell in the future additional shares of Class A common stock.

Immediately following the consummation of this offering, the Virgin Group and Sprint Nextel will own              shares of our Class A common stock,              shares of our Class C common stock and             

 

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partnership units in the Operating Partnership, respectively. Our amended and restated certificate of incorporation will allow the conversion of our Class C common stock into, and the exchange of partnership units in the Operating Partnership (other than those held by us) for, shares of our Class A common stock, in each case, on one-for-one basis, subject to customary conversion rate adjustments for stock splits, stock dividends and reclassifications. The Virgin Group and Sprint Nextel have agreed with the underwriters not to dispose of or hedge any of our Class A common stock or securities convertible into or exchangeable for shares of our Class A common stock (including shares of our Class C common stock and partnership units in the Operating Partnership), subject to specified exceptions, during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, except with the prior written consent of the underwriters. After the expiration of the 180-day lock-up period, the shares of Class A common stock issuable upon conversion of Class C common stock and exchange of the partnership units in the Operating Partnership will be eligible for resale from time to time, subject to certain contractual and Securities Act restrictions.

The Virgin Group and Sprint Nextel have entered into a registration rights agreement with us. Under that agreement, after the expiration of the 180-day lock-up period, the Virgin Group and Sprint Nextel will have the ability to cause us to register the shares of our Class A common stock they could acquire upon conversion of Class C common stock or exchange of their partnership units in the Operating Partnership, as the case may be.

The market price of our Class A common stock may be volatile, which could cause stockholder investment value to decline or could subject us to litigation.

The market for equity securities worldwide experiences significant price and volume fluctuations that could result in a reduced market price of our Class A common stock, even if our operating performance is strong. In addition, general economic, market or political conditions could have an adverse effect on our stock price. Our Class A common stock price could also suffer significantly if our operating results are below the expectations of public market analysts and investors. Investors may be unable to resell their shares of our Class A common stock at or above the initial public offering price. When the market price of a company’s common stock drops significantly, stockholders sometimes institute securities class action lawsuits against the company. A securities class action lawsuit against us could cause us to incur substantial costs and could divert the time and attention of our management and other resources from our business.

If securities analysts do not publish research or reports about our business or if they downgrade our company or our sector, the price of our Class A common stock could decline.

The trading market for our Class A common stock will depend in part on the research and reports that industry or financial analysts publish about us or our business. We do not influence or control the reporting of these analysts. Furthermore, if one or more of the analysts who do cover us downgrades our company or our industry, or the stock of any of our competitors, the price of our Class A common stock could decline. If one or more of these analysts ceases coverage of our company, we could lose visibility in the market, which in turn could cause the price of our Class A common stock to decline.

The book value of shares of our Class A common stock purchased in this offering will be immediately diluted.

Investors who purchase our Class A common stock in this offering will suffer immediate dilution of $             per share in the pro forma net tangible book value per share after giving effect to the contemplated use of proceeds from this offering. See “Dilution.”

Transformation into a public company may increase our costs and disrupt the regular operations of our business.

This offering will have a significant transformative effect on us. Our business historically has operated as a privately owned company, and we expect to incur significant additional legal, accounting, reporting and other

 

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expenses as a result of having publicly traded common stock. We will also incur costs which we have not incurred previously, including, but not limited to, costs and expenses for directors fees, increased directors and officers insurance, investor relations, expenses for compliance with the Sarbanes-Oxley Act of 2002, as amended, and new rules implemented by the Securities and Exchange Commission, or the SEC, and NYSE, and various other costs of a public company.

We also anticipate that we will incur costs associated with recently adopted corporate governance requirements, including requirements under the Sarbanes-Oxley Act of 2002, as amended, as well as rules implemented by the SEC and NYSE. We expect these rules and regulations to increase our legal and financial compliance costs and make some management and corporate governance activities more time-consuming and costly. These rules and regulations may make it more difficult and more expensive for us to obtain director and officer liability insurance and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage, and therefore could have an adverse impact on our ability to recruit and bring on a qualified independent board. We cannot predict or estimate the amount of additional costs we may incur as a result of these requirements or the timing of such costs.

The additional demands associated with being a public company may disrupt regular operations of our business by diverting the attention of some of our senior management team away from revenue producing activities to management and administrative oversight, adversely affecting our ability to attract and complete business opportunities and increasing the difficulty in both retaining professionals and managing and growing our businesses. Any of these effects could harm our business, financial condition and results of operations.

Our internal controls over financial reporting may not be effective and our independent registered public accounting firm may not be able to certify as to their effectiveness, which could have a significant and adverse effect on our business and reputation.

We intend to evaluate our internal controls over financial reporting in order to allow management to report on, and our independent registered public accounting firm to attest to, our internal controls over financial reporting, as required by Section 404 of the Sarbanes-Oxley Act of 2002, as amended, and rules and regulations of the SEC thereunder, which we refer to as “Section 404.” The process of documenting and testing our internal control procedures in order to satisfy the requirements of Section 404 requires annual management assessments of the effectiveness of our internal controls over financial reporting and a report by our independent registered public accounting firm addressing these assessments. During the course of our testing, we may identify deficiencies which we may not be able to remediate in time to meet the deadline imposed by the Sarbanes-Oxley Act of 2002 for compliance with the requirements of Section 404. In addition, if we fail to achieve and maintain the adequacy of our internal controls, as such standards are modified, supplemented or amended from time to time, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with Section 404. We are not currently required to furnish a report on our internal control over financial reporting pursuant to the SEC’s rules under Section 404. We expect that these rules will apply to us when we file our Annual Report on Form 10-K for our fiscal year ending in December 2008, which we will be required to file in March 2009. We cannot be certain as to the timing of completion of our evaluation, testing and any remediation actions or the impact of the same on our operations. If we are not able to implement the requirements of Section 404 in a timely manner or with adequate compliance, our independent registered public accounting firm may not be able to certify as to the effectiveness of our internal control over financial reporting and we may be subject to sanctions or investigation by regulatory authorities, such as the SEC. As a result, there could be a negative reaction in the financial markets due to a loss of confidence in the reliability of our financial statements. This could harm our reputation and cause us to lose existing customers or fail to gain new customers and otherwise negatively affect our financial condition, results of operations and cash flows. In addition, we may be required to incur costs in improving our internal control system and the hiring of additional personnel.

 

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The historical and pro forma financial information in this prospectus may not accurately predict our costs of operations in the future.

The historical financial information in this prospectus does not reflect the added costs we expect to incur as a public company or the resulting changes that will occur in our capital structure and operations. In preparing our pro forma financial information we have given effect to, among other items, the reorganization transactions described in “Prospectus Summary—Organizational Structure” and “Description of Capital Stock”. The estimates we used in our pro forma financial information may not be similar to our actual experience as a public company. For more information on our historical financial information and pro forma financial information, see “Unaudited Pro Forma Financial Information,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the historical financial statements included elsewhere in this prospectus.

Because Sprint Nextel and the Virgin Group together control us and will continue to control us after this offering, the influence of our public stockholders over significant corporate actions will be limited, and conflicts of interest between Sprint Nextel and the Virgin Group and us or other investors could arise in the future.

After the consummation of this offering, Sprint Nextel and the Virgin Group will beneficially own interests together representing approximately     % of our voting power, or approximately     % of our voting power if the underwriters exercise in full their over-allotment option to purchase additional shares. As a result, Sprint Nextel and the Virgin Group together will retain control over our decisions to enter into any material corporate transaction and will have the ability to prevent any transaction that requires the approval of stockholders regardless of whether or not our other stockholders or debtholders believe that any such transactions are in our own best interests. For example, Sprint Nextel and the Virgin Group could cause us to make acquisitions that increase our indebtedness or sell revenue-generating assets. We compete with several of Sprint Nextel’s products, including its postpaid products and its prepaid Boost product. In addition, Sprint Nextel and the Virgin Group may from time to time acquire and hold interests in businesses that compete directly or indirectly with us. Sprint Nextel and the Virgin Group also may pursue acquisition or licensing opportunities that may be complementary to our business, and as a result, those acquisition opportunities may not be available to us. So long as Sprint Nextel and the Virgin Group continue to own a significant amount of our equity, even if such amount represents less than 50% of our voting power, they will continue to be able to influence significantly or effectively control our decisions.

Anti-takeover provisions in our charter documents and Delaware law could delay or prevent a change in control.

Provisions contained in our amended and restated certificate of incorporation and by-laws may delay or prevent a merger or acquisition that a stockholder may consider favorable by permitting our board of directors to issue one or more series of preferred stock, requiring advance notice for stockholder proposals and nominations, placing limitations, with the exceptions of Sprint Nextel and the Virgin Group, on convening stockholder meetings and not permitting written consents of stockholders. In addition, we are subject to provisions of the Delaware General Corporation Law that restrict certain business combinations with interested stockholders other than the Virgin Group and Sprint Nextel. These provisions may also discourage acquisition proposals or delay or prevent a change in control, which could harm our stock price. See “Description of Capital Stock.”

We may be required to make payments to the underwriters if participants in our reserved share program fail to pay for and accept shares which were subject to properly confirmed orders.

At our request, the underwriters have reserved for sale to our employees, directors and families of employees and directors at the initial public offering price up to     % of the shares of our Class A common stock being offered by this prospectus. We do not know if any of our employees, directors, families of employees and directors will choose to purchase all or any portion of the reserved shares, but any purchases they do make will

 

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reduce the number of shares available to the general public. If all of these reserved shares are not purchased, the underwriters will offer the remainder to the general public on the same terms as the other shares of our Class A common stock offered by this prospectus. In connection with the sale of these reserved shares, we have agreed to indemnify the underwriters against certain liabilities, including those that may be caused by the failure of the participants in the reserved share program to pay for and accept delivery of the shares of our Class A common stock which were subject to a properly confirmed agreement to purchase. As a result, we may be required to make payments to the underwriters if participants in the reserved share program fail to pay for and accept delivery of the shares of our Class A common stock which were subject to a properly confirmed agreement to purchase and, as a result, we must indemnify the underwriters against the possibility of such failure.

We are a “controlled company” within the meaning of the New York Stock Exchange rules and, as a result, are exempt from certain corporate governance requirements.

Upon completion of this offering, Sprint Nextel and the Virgin Group will continue to hold interests representing a majority of our outstanding voting power. As a result, we will be a “controlled company” within the meaning of corporate governance standards of NYSE. Under those standards, a company of which more than 50% of the voting power is held by another company or group is a “controlled company” and need not comply with certain requirements, including (1) the requirement that a majority of the board of directors consist of independent directors, (2) the requirement that there be a nominating and corporate governance committee composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities, (3) the requirement that there be a compensation committee composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities and (4) the requirement of an annual performance evaluation of the nominating/corporate governance and compensation committees. Following this offering, we intend to utilize each of these exemptions. As a result, we will not have a majority of independent directors on our board of directors, we will not have a nominating and corporate governance committee and our compensation committee will not consist entirely of independent directors. Accordingly, our stockholders will not have the same protections afforded to shareholders of companies that are subject to all NYSE corporate governance requirements.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains certain forward-looking statements and information relating to us that are based on the beliefs of our management as well as assumptions made by, and information currently available to, us. These statements include, but are not limited to, statements about our strategies, plans, objectives, expectations, intentions, expenditures, and assumptions and other statements contained in this prospectus that are not historical facts. When used in this document, words such as “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan” and “project” and similar expressions, as they relate to us are intended to identify forward-looking statements. These statements reflect our current views with respect to future events, are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Further, certain forward-looking statements are based upon assumptions as to future events that may not prove to be accurate.

Many factors could cause our actual results, performance or achievements to be materially different from any future results, performance or achievements that may be expressed or implied by such forward-looking statements. These factors include, among other things:

 

   

changes to our business resulting from increased competition;

 

   

our ability to develop, introduce and market innovative products, services and applications;

 

   

our customer turnover rate, or “churn”;

 

   

bulk handset purchase and trading schemes;

 

   

changes in general economic, business, political and regulatory conditions;

 

   

availability and cost of the nationwide Sprint PCS network and Sprint Nextel’s costs associated with operating the network;

 

   

potential liability resulting from pending or future litigation, or from changes in the laws, regulations or policies;

 

   

the degree of legal protection afforded to our products;

 

   

changes in interest rates;

 

   

changes in the composition or restructuring of us or our subsidiaries and the successful completion of acquisitions, divestitures and joint venture activities; and

 

   

the various other factors discussed in the “Risk Factors” section of this prospectus.

Many of these factors are macroeconomic in nature and are, therefore, beyond our control. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, our actual results, performance or achievements may vary materially from those described in this prospectus as anticipated, believed, estimated, expected, intended, planned or projected. We neither intend nor assume any obligation to update these forward-looking statements, which speak only as of their dates.

 

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USE OF PROCEEDS

We estimate that the net proceeds to us from this offering, after deducting underwriting discounts and estimated offering expenses, will be approximately $             million. We intend to use all of the net proceeds to us from this offering and approximately $             million of borrowings under our new senior secured credit facilities that we expect to enter into concurrently with the consummation of this offering, to (1) repay our existing senior secured credit facility and our existing subordinated secured revolving credit facility and (2) pay approximately $         million to Sprint Nextel for limited liability company interests representing approximately     % of VMU. We will not receive any of the proceeds from the sale of shares by the selling stockholders.

Our existing credit agreements consist of (i) a $479 million senior secured credit facility, which was originally entered into on July 14, 2005 and was amended and restated on July 19, 2006 and (ii) a $100 million existing subordinated secured revolving credit facility, which was entered into on July 19, 2006 in connection with the amendment and restatement of the senior secured credit facility. Under the terms of the existing senior secured credit facility, the term loan matures on December 14, 2010. The borrowings under the existing senior secured credit facility bear interest at a rate equal to an applicable margin plus, at our option, either (a) an ABR rate determined by reference to higher of (1) the prime rate of JPMorgan Chase Bank, N.A. and (2) the federal funds rate plus  1/2 of 1% or (b) a Eurodollar rate equal to 3-month LIBOR. Under the terms of the existing subordinated secured revolving credit facility, revolving loans mature on the earlier of (a) the date three months after the making of any revolving loan or the rollover of such revolving loan or (b) December 14, 2010. The borrowings under the existing subordinated secured revolving credit facility bear interest at a rate equal to an applicable margin plus a Eurodollar rate equal to 3-month LIBOR.

As of December 31, 2006, we had outstanding borrowings of $460.5 million under our senior secured credit facility bearing interest at a rate of 10.31% and $58.0 million in borrowings under our existing subordinated secured revolving credit facility bearing interest at a weighted average rate of 10.32%. Proceeds from such borrowings have been used to make distributions to the members of Virgin Mobile USA, LLC and for general corporate purposes, including working capital.

An affiliate of Merrill Lynch is a lender under our existing senior secured credit facility and, based on an assumed initial public offering price per share of $             (which is the midpoint of the estimated price range shown on the cover of this prospectus) and assuming no exercise of the underwriters’ option to purchase additional shares, will receive approximately     % of the proceeds to us of this offering used to repay those borrowings. See “Underwriting.” In addition, Sprint Nextel and the Virgin Group are lenders under our existing subordinated secured revolving credit facility and, based on the initial public offering price per share of $            , will receive approximately $             of the proceeds in their capacity as lenders as a result of the repayment of the borrowings under the existing subordinated secured revolving credit facility. See “Description of Indebtedness” and “Certain Relationships and Related Party Transactions-Existing Subordinated Secured Revolving Credit Facility.”

 

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DIVIDEND POLICY

We do not currently intend to pay any cash dividends on our Class A common stock and instead intend to retain earnings, if any, for future operations and debt reduction. If we do declare a dividend on our common stock at any time in the future, the Class B common stock will not be entitled to any dividend rights, but the Class A common stock and Class C common stock will be entitled to receive a pro rata share of any such dividend.

Virgin Mobile USA, Inc. will be a holding company and will have no material assets other than its ownership of partnership units in the Operating Partnership. If we declare a dividend at some point in the future, we intend to cause the Operating Partnership to make distributions to Virgin Mobile USA, Inc. in an amount sufficient to cover any such dividends. If the Operating Partnership makes such distributions, Sprint Nextel will be entitled to ratably receive equivalent distributions on its partnership units in the Operating Partnership.

Any decision to declare and pay dividends in the future will be made at the discretion of our board of directors and will depend on, among other things, our results of operations, cash requirements, financial condition, contractual restrictions and other factors that our board of directors may deem relevant. In addition, the amounts available to us to pay cash dividends will be restricted by our new senior secured credit facilities and may be further restricted by our future debt agreements.

 

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CAPITALIZATION

The following table sets forth the cash and cash equivalents and capitalization as of December 31, 2006 of Virgin Mobile USA, LLC on an actual basis and of Virgin Mobile USA, Inc. on a pro forma basis to reflect:

 

   

the reorganization transactions as described in “Prospectus Summary—Organizational Structure”;

 

   

the refinancing of our existing senior secured credit facility and our existing subordinated secured revolving credit facility;

 

   

the sale of             shares of our Class A common stock in this offering at an assumed initial public offering price of $            , the mid-point of the estimated price range shown on the cover page of the prospectus, after deducting underwriting discounts and estimated offering expenses; and

 

   

the application of the net proceeds as described in “Use of Proceeds”.

You should read the information in this table in conjunction with our financial statements and the notes to those statements appearing elsewhere in this prospectus, “Selected Historical Financial Data,” “Unaudited Pro Forma Financial Information” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

 

     As of December 31, 2006
    

Actual

Virgin Mobile
USA, LLC

   

Pro Forma

Virgin Mobile
USA, Inc.

     (in millions, except share data)

Cash and cash equivalents

   $ 0.0     $             
              

Total debt:

    

Book cash overdraft

   $ 34.8    

Term loan facility

     460.5    

Related party debt

     58.0    
              

Total debt

     553.3    

Minority interest

    

Stockholders’/members’ (deficit)/equity:

    

Class A common stock, par value $.01 per share,              shares authorized;              shares issued and outstanding, as adjusted for this offering

    

Class B common stock, par value $.01 per share, one share authorized; one share issued and outstanding, as adjusted for this offering

    

Class C common stock, par value $.01 per share,              shares authorized;              shares issued and outstanding, as adjusted for this offering

    

Additional paid-in capital

   $ 48.8    

Accumulated deficit

     (694.3 )  

Accumulated other comprehensive income

     1.6    
              

Total stockholders’/members’ (deficit)/equity

   $ (643.9 )  
              

Total capitalization

   $ (90.6 )   $  
              

 

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DILUTION

If you invest in our Class A common stock, you will experience dilution to the extent of the difference between the initial public offering price per share of our Class A common stock and the pro forma net tangible book value per share of our Class A common stock after this offering. Dilution results from the fact that the per share offering price of the Class A common stock is substantially in excess of the book value per share attributable to the existing equity holders.

Our pro forma net tangible book value as of December 31, 2006 was approximately $            , or $             per share of our Class A common stock. Pro forma net tangible book value represents the amount of total tangible assets less total liabilities and pro forma net tangible book value per share represents pro forma net tangible book value divided by the number of shares of Class A common stock outstanding, in each case, after giving effect to the transactions described under “Unaudited Pro Forma Financial Information” and assuming that Sprint Nextel exchanges all of its partnership units in the Operating Partnership for, and the Virgin Group converts all of its shares of Class C common stock into, newly-issued shares of our Class A common stock on a one-for-one basis.

After giving effect to the sale of              shares of Class A common stock in this offering at the initial public offering price of $             per share and other transactions described under “Unaudited Pro Forma Financial Information”, and assuming that Sprint Nextel exchanges all of its partnership units in the Operating Partnership for, and the Virgin Group converts all of its shares of Class C common stock into, newly-issued shares of our Class A common stock on the one-for-one basis, our pro forma net tangible book value would have been $            , or $             per share. This represents an immediate increase in net tangible book value (or a decrease in net tangible book deficit) of $             per share to existing equityholders and an immediate dilution in net tangible book value of $             per share to new investors.

The following table illustrates this dilution on a per share basis assuming the underwriters do not exercise their option to purchase additional shares:

 

Assumed initial public offering price per share

      $             

Pro forma net tangible book value per share at December 31, 2006

   $                

Increase in pro forma net tangible book value per share attributable to new investors

     

Pro forma net tangible book deficit per share after this offering

     
             

Dilution in pro forma net tangible book value per share to new investors

      $  
         

Each $1.00 increase or decrease in the offering price per share would increase or decrease the as adjusted pro forma net tangible book value by $             per share and the dilution to investors in the offering by $             per share, assuming that the number of shares offered in this offering, as set forth on the cover page of this prospectus, remains the same. The pro forma information discussed above is for illustrative purposes only. Our net tangible book value following the completion of the offering is subject to adjustment based on the actual offering price of our common stock and other terms of this offering determined at pricing.

The following table summarizes, on the same pro forma basis as of December 31, 2006, the total number of shares of Class A common stock purchased from us, the total cash consideration paid to us and the average price per share paid by the existing equityholders and by new investors purchasing shares in this offering, assuming that Sprint Nextel exchanged all of its partnership units in the Operating Partnership, and the Virgin Group converted all of its shares of Class C common stock, for shares of our Class A common stock on the one-for-one basis (in thousands, except per share data):

 

     Shares Purchased    Total Consideration    Average Price
Per Share
      Number    Percent    Amount    Percent   

Existing equity holders

              

New investors

              

Total

              

 

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UNAUDITED PRO FORMA FINANCIAL INFORMATION

The following unaudited pro forma condensed consolidated balance sheet as of December 31, 2006 and unaudited pro forma condensed consolidated statement of operations for the year ended December 31, 2006 present our consolidated financial position and consolidated results of operations to give pro forma effect to (i) the reorganization transactions described in “Prospectus Summary—Organizational Structure”, together with the related equity-based awards described below (ii) the refinancing of our existing senior secured credit facility and our existing subordinated secured revolving credit facility, or the refinancing, and (iii) the sale of shares of our Class A common stock in this offering and the application of the net proceeds to us from this offering, as if all such transactions had been completed as of December 31, 2006 with respect to the unaudited pro forma condensed consolidated balance sheet and as of January 1, 2006 with respect to the unaudited pro forma condensed consolidated statement of operations.

The unaudited pro forma financial information includes pro forma adjustments that we believe are (i) directly attributable to the reorganization transactions, the Refinancing and this offering, and (ii) factually supportable. With respect to the unaudited pro forma condensed consolidated statement of operations, the pro forma adjustments are expected to have a continuing impact on the consolidated results.

The pro forma adjustments principally give effect to the following items:

 

   

Reorganization Transactions.    Each of the reorganization transactions are described in “Prospectus Summary—Organizational Structure.” Virgin Mobile USA, Inc. is a recently formed holding company incorporated for the purposes of this offering. We will consolidate Bluebottle USA Investments L.P. and its subsidiaries, VMU GP, LLC and Virgin Mobile USA, LLC by virtue of our control of those entities. The acquisition of these entities will be treated as a reorganization of entities under common control and accounted for at historical cost. Accordingly, the net assets of such entities will be reported in the unaudited pro forma condensed consolidated balance sheet at their historical cost. As described in “Prospectus Summary-Organizational Structure,” Sprint Nextel will sell a portion of its limited liability company interest in Virgin Mobile USA, LLC to Virgin Mobile USA, Inc. prior to the consummation of this offering in consideration for approximately $             million (which will be paid from the net proceeds to us from this offering). A liability of $             million to Sprint Nextel has been established as part of the reorganization transactions. This liability is expected to be settled by Virgin Mobile USA, Inc. at the time of this offering with a portion of the proceeds. In addition, these adjustments reflect the options on shares of our Class A common stock we may grant to holders of awards granted under the 2005 Stock Appreciation Rights Plan of Virgin Mobile USA, LLC and the potential conversion of outstanding, unexercised stock appreciation rights awarded under the 2006 Stock Appreciation Rights Plan of Virgin Mobile USA, LLC into non-qualified options on shares of our Class A common stock, in each case, at the time of this offering. See “Management—Compensation Discussion and Analysis—Equity-based Incentive Plans”.

 

   

Refinancing and Offering.    These adjustments reflect the entering into our new senior secured credit facilities, the sale by us of              million shares of Class A common stock in this offering and the use of the proceeds to us from this offering, together with the borrowings under the new senior secured credit facilities, to repay outstanding borrowings under our existing senior secured credit facility and our existing subordinated secured revolving credit facility and to pay Sprint Nextel for the limited liability company interests that we acquired as described in “Use of Proceeds”.

The following unaudited pro forma financial information does not reflect any adjustments relating to our tax receivable agreements with Sprint Nextel and the Virgin Group, as described in “Certain Relationships and Related Transactions—Tax Receivable Agreements”, except for adjustments relating to the initial sale of limited liability company interests by Sprint Nextel to us as part of the reorganization transactions, since the amount and timing of the utilization of the tax benefits to us under those agreements is unknown at this time. However, any

 

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payments to Sprint Nextel and any issuances of shares of Class A common stock or preferred stock to the Virgin Group pursuant to their respective tax receivable agreements are expected to be accounted for as follows:

 

   

we will recognize a deferred tax asset relating to the increase in the tax bases of the assets owned by us, in the case of the tax receivable agreement with Sprint Nextel based on enacted tax rates at the date of the transactions giving right to the increased tax bases;

 

   

we will evaluate the likelihood of realizing the benefits of such deferred tax asset and reduce the deferred tax asset with a valuation allowance if there is a more likely than not chance that the deferred tax asset will not be realized; and

 

   

we will record a liability for the amount expected to be paid under the tax receivable agreement with Sprint Nextel or the tax receivable agreement with the Virgin Group, as the case may be, estimated using assumptions consistent with those we use in estimating the realizability of net deferred tax assets.

 

   

issuances of Class A common stock to the Virgin Group pursuant to the tax receivable agreement will result in dilution to the Class A common stockholders. The impact of such possible issuances has been excluded from the pro forma calculation of net loss per share as its effect is anti-dilutive.

The unaudited pro forma adjustments are based upon available information and assumptions that we believe are reasonable under the circumstances. The unaudited pro forma financial information is presented for informational purposes only and is not necessarily indicative of and does not purport to represent what our financial position or results of operations would actually have been had the transactions described above been consummated as of the dates indicated. In addition, the pro forma financial information is not necessarily indicative of our future financial condition or operating results.

You should read the information contained in this section in conjunction with “Prospectus Summary—Organizational Structure”, “Selected Historical Financial and Other Data”, “Capitalization”, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, “Certain Relationships and Related Transactions—Tax Receivable Agreements” and our historical audited financial statements and the accompanying notes included elsewhere in this prospectus.

 

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UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET

 

    As of December 31, 2006
    Virgin Mobile
USA, LLC
    Bluebottle
USA
Investments,
L.P.
    Virgin Mobile
USA, Inc.(b)
  Pro Forma
adjustments—
Reorganization
Transactions
   

Pro Forma for
Reorganization

Transactions

  Pro Forma
adjustments—
Refinancing
and this
Offering(c)
    Pro Forma
Virgin
Mobile
USA, Inc.
    (in thousands)

Assets

             

Current assets:

             

Cash and cash equivalents

  $     $ 8     $   $   d   $            $   f,j,k,l   $         

Accounts receivable, net

    70,961                    

Due from related parties

    12,301                    

Other receivables

    15,103                       m  

Inventories

    90,815                    

Prepaid expenses and other current assets

    26,188                       l  
                                                 

Total current assets

    215,368       8              

Property and equipment, net

    51,528                    

Other assets

    10,043                   e         l  
                                                 

Total assets

  $ 276,939     $ 8     $   $       $     $              $  
                                                 

Liabilities and stockholders’/ members’ equity

             

Current liabilities:

             

Accounts payable

  $ 95,243     $     $   $       $            $       $  

Book cash overdraft

    34,769                    

Due to related parties

    41,351       218             d,f         f  

Accrued expenses

    96,150       315             d         k  

Accrued taxes

                       

Deferred revenue

    127,434                    

Related party debt

          29             d      

Current portion of long-term debt

    37,000                       k  
                                                 

Total current liabilities

    431,947       562              

Other liabilities

    7,417                   h      

Long-term debt

    423,500                       k  

Related party debt

    58,000                       k  

Accumulated losses of unconsolidated companies in excess of investment

          429,944             g      
                                                 

Total non-current liabilities

    488,917       429,944              

Minority interest

                      h,i         l,m  
                                                 

Total stockholders’/ members’ deficit(a)

    (643,925 )     (430,498 )           a         a  
                                                 

Total liabilities and stockholders’/members’ equity

  $ 276,939     $ 8     $   $              $     $              $  
                                                 

(footnotes on following page)

 

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NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED BALANCE SHEET


(a)   The following table reflects the impact on stockholders’ and members’ deficit, after adjusting for minority interests, for the adjustments impacting the pro forma condensed consolidated balance sheet set out below:

 

    As of December 31, 2006 (in thousands)
    Virgin
Mobile
USA,
LLC
   

Bluebottle

USA

Investments

L.P.

    Virgin
Mobile
USA,
Inc.
 

Pro Forma

adjustments—

Reorganization
Transactions

    Pro Forma for
Reorganization
 

Pro Forma
adjustments—

Refinancing
and this
Offering

    Pro Forma
Virgin
Mobile
USA, Inc.

Stockholders’/members’ deficit:

             

Class A common stock, par value $0.1 per share,          shares authorized;          shares issued and outstanding, as adjusted for this offering

             

Class B common stock, par value $0.1 per share, 1 share authorized; 1 share issued and outstanding, as adjusted for this offering

             

Class C common stock, par value $0.1 per share,          shares authorized;          shares issued and outstanding, as adjusted for this offering

             

Additional paid-in capital

    48,825           f,h,i       j  

Accumulated deficit

    (694,341 )     (431,321 )       g,h       j,l  

Accumulated other comprehensive income

    1,591       823         g       m  
                                       

Total stockholders’/members’ deficit

  $ (643,925 )   $ (430,498 )          
                                       

 

(b)   Reflects the incorporation of Virgin Mobile USA, Inc. in April 2007.
(c)   Pro forma adjustments relating to the Refinancing and this offering give effect to the following estimated sources and uses of funds:

 

Sources

       

Uses

    

Sale by us of shares of Class A common stock

   $       

Repayment of existing credit facilities

   $    

Incurrence of new debt

     

Fees and expenses in relation to the
Refinancing and this offering

  
     

Payment to Sprint Nextel for limited liability company interests

  
            

Total Sources

   $       

Total Uses

   $
            

 

(d)   Reflects the settlement of Bluebottle USA Investments L.P.’s liabilities by the Virgin Group prior to the effect of the reorganization transactions.
(e)   Reflects the recognition of a deferred tax asset relating to the increase in the tax bases of the assets owned by us arising from the initial sale by Sprint Nextel of a portion of its limited liability company interests to us prior to this offering. The deferred tax asset has been reduced in full by a valuation allowance as their future realizability is uncertain since historically we have not generated net income.

 

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(f)   Reflects Virgin Mobile USA, Inc.’s obligation to pay Sprint Nextel, and the subsequent repayment of $             million in relation to the acquisition of              limited liability company interests as described in “Prospectus Summary—Organizational Structure”.
(g)   Reflects the elimination of the historical carrying value of Bluebottle USA Investments L.P.’s investment in Virgin Mobile USA, LLC.
(h)   Reflects the reclassification and revaluation of outstanding, unexercised stock appreciation rights awarded under the 2006 Stock Appreciation Rights Plan of Virgin Mobile USA, LLC from liabilities to members’ deficit on the conversion into non-qualified options on our Class A common stock in conjunction with this offering, together with the related minority interest impact.
(i)   Reflects the recording of minority interest for the portion of Virgin Mobile USA, L.P. that we do not own.
(j)   Reflects the sale by us of              million shares of Class A common stock at an assumed initial offering price of $     per share (based on the mid-point of the estimated price range set forth on the cover of this prospectus), after deducting the underwriting discount relating to such shares and estimated offering costs of $             million.
(k)   Reflects the repayment of our existing senior secured credit facility and existing subordinated secured revolving credit facility using the net proceeds to us from this offering of $             million and borrowings under the new senior secured credit facility of $             million. The adjustment reflects the elimination of $             million of current and long-term debt and $             million of related accrued interest payable.
(l)   Represents financing fees of $             million to be capitalized in connection with the new senior secured credit facilities less the write-off of unamortized deferred financing fees on the existing senior secured credit facility and subordinated secured revolving credit facility of $             million, together with the related minority interest impact.
(m)   Represents the elimination of unrealized gains on the interest rate derivative contracts that will be settled in conjunction with the Refinancing, together with the related minority interest impact.

 

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UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS

 

    Year Ended December 31, 2006 (in thousands)
    Virgin Mobile
USA, LLC
   

Bluebottle

USA

Investments

L.P.

    Virgin Mobile
USA, Inc.(a)
 

Pro Forma

adjustments—

Reorganization
Transactions

    Pro Forma for
Reorganization
 

Pro Forma
adjustments—

Refinancing
and this
Offering

   

Pro Forma
Virgin

Mobile
USA, Inc.

Total operating revenue

  $ 1,110,579     $   —     $                $       $                $       $             

Operating expense

             

Cost of service and equipment (exclusive of depreciation and amortization)

    678,111       —              

Selling, general and administration expenses (exclusive of depreciation and amortization)

    401,732       232                    b      

Gain from litigation

    (15,384 )     —              

Depreciation and amortization

    28,381       —              
                                                 

Total operating expense

    1,092,840       232            
                                                 

Operating income / (loss)

    17,739       —              

Other expense / (income)

             

Equity in losses of investee

    —         17,307                    c      

Interest expense

    52,178       2                        f  

Other expense / (income)

    2,268       —              

Minority interest expense

    —         —                      b,d                  f  
                                                 

Total other expense

    54,446       17,309            
                                                 

Loss before income taxes

    (36,707 )     (17,541 )          

Income tax (expense) / benefit

    —         —                      e                  f  
                                                 

Net loss

  $ (36,707 )   $ (17,541 )   $     $       $     $       $  
                                                 

Net loss per share:(h)

             

Basic

             

Diluted

             

Weighted average common shares outstanding:(h)

             

Basic

             

Diluted

             

(footnotes on following page)

 

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NOTES TO UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS


(a)   Reflects the incorporation of Virgin Mobile USA, Inc. in April 2007.
(b)   Reflects the non-cash compensation expense recorded in relation to the potential issuance of options on shares of Class A common stock to holders of awards granted under the 2005 Stock Appreciation Rights Plan and the potential conversion of units granted under the 2006 Stock Appreciation Rights Plan into options on shares of our Class A common stock in connection with this offering, together with the related minority interest impact. Each of these awards, as described in “Compensation Discussion and Analysis—Equity-Based Incentive Arrangements,” will be accounted for in accordance with SFAS 123R and valued using a Black-Scholes model and amortized over their respective vesting periods.
(c)   Reflects the elimination of Bluebottle USA Investments L.P.’s historical equity in loss of Virgin Mobile USA, LLC.
(d)   Reflects the recording of minority interest expense for the portion of Virgin Mobile USA, L.P. that we do not own. Following this offering, as the owner of Holdings, the sole general partner of Virgin Mobile USA, L.P., we will operate and control all of the business and affairs of Virgin Mobile USA, L.P. We will consolidate the financial results of Virgin Mobile USA, L.P. and the     % ownership interest of Sprint Nextel in Virgin Mobile USA, L.P. will be treated as a minority interest in our consolidated financial statements.
(e)   The adjustment to the income tax provision represents the tax effects of the pro forma adjustments at the statutory rate of tax of     %. As a corporation, Virgin Mobile USA, Inc. will incur U.S. federal, state and local income taxes on its proportionate share of any net taxable income of Virgin Mobile USA, L.P. Net profits and net losses of Virgin Mobile USA, L.P. will generally be allocated to its partners pro rata in accordance with their respective partnership units.

(f)

 

Represents the reduction in interest expense resulting from the Refinancing of $             million as well as the amortization of associated deferred financing fees of $             million, together with the related minority interest impact. A  1/8% increase or decrease in the interest rate on our pro forma indebtedness would increase or decrease pro forma interest expense by approximately $             million.

(g)   Pro forma basic loss per share gives effect to the issuance of shares of Class A and Class C common stock in connection with this offering. Shares of Class C common stock are included in the calculation because they are convertible into shares of Class A common stock at any time on a one-for-one basis. The share of Class B common stock has no pro forma net loss per share as it does not participate in our losses.
(h)   The following items, before the impact of minority interests, are not included in the pro forma adjustments (in thousands) as they are non-recurring:

 

Write-off of deferred financing costs on extinguished debt

   $             

Reversal of unrealized gains on interest rate derivative contracts

  
      
   $  
      

 

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SELECTED HISTORICAL FINANCIAL AND OTHER DATA

The following table sets forth our selected historical financial and other data as of the dates and for the periods indicated. Virgin Mobile USA, Inc. is a recently formed holding company which has not engaged in any business or other activities except in connection with its formation and the reorganization transactions described elsewhere in this prospectus. Accordingly, for the purposes of this prospectus, all financial and other information herein relating to periods prior to the completion of the reorganization transactions is that of Virgin Mobile USA, LLC. The selected balance sheet data as of December 31, 2005 and 2006 and the selected statement of operations data for each of the years ended December 31, 2004, 2005 and 2006 have been derived from Virgin Mobile USA, LLC’s audited consolidated financial statements included elsewhere in this prospectus. The selected balance sheet data as of December 31, 2002, 2003 and 2004 and the selected statement of operations data for the years ended December 31, 2002 and 2003 have been derived from Virgin Mobile USA, LLC’s audited consolidated financial statements for such periods not included in this prospectus.

The selected historical financial and other data presented below is not indicative of our results for any future periods. You should read the information in the table below in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Unaudited Pro Forma Financial Information” and our historical audited financial statements and the accompanying notes included elsewhere in this prospectus.

 

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Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

 
(in thousands, except per share data and Other data
unless otherwise indicated)
   2002     2003     2004     2005     2006  

Income statement data:

          

Operating revenue:

          

Net service revenue

   $ 10,051     $ 189,457     $ 567,006     $ 883,816     $ 1,020,055  

Net equipment revenue

     16,628       96,351       123,632       106,116       90,524  
                                        

Total operating revenue

     26,679       285,808       690,638       989,932       1,110,579  

Operating expenses:

          

Cost of service (exclusive of depreciation and amortization)

     10,502       104,753       229,283       309,321       299,130  

Cost of equipment

     60,782       221,008       364,042       361,655       378,981  

Selling, general and administrative (exclusive of depreciation and amortization)

     93,545       174,465       253,178       346,470       401,732  

Loss (gain) from litigation

     —         —         —         29,981       (15,384 )

Depreciation and amortization

     5,371       8,672       12,891       19,413       28,381  
                                        

Total operating expense

     170,200       508,898       859,394       1,066,840       1,092,840  
                                        

Operating (loss)/income

     (143,521 )     (223,090 )     (168,756 )     (76,908 )     17,739  
                                        

Interest expense

     663       2,806       5,427       25,008       52,178  

Other (income)/expense

     (113 )     (45 )     (305 )     949       2,268  
                                        

Net loss

   $ (144,071 )   $ (225,851 )   $ (173,878 )   $ (102,865 )   $ (36,707 )
                                        

Balance sheet data:

(at period end)

          

Cash and cash equivalents

   $ 261     $ —       $ —       $ 18,562     $ —    

Total assets

   $ 40,460     $ 90,744     $ 165,361     $ 221,215     $ 276,939  

Long-term debt

   $ —       $ —       $ —       $ —       $ 481,500  

Total debt

   $ 7,889     $ 42,136     $ 70,374     $ 497,500     $ 553,269  

Members’ deficit

   $ (20,690 )   $ (87,176 )   $ (165,775 )   $ (621,683 )   $ (643,925 )

Statement of cash flows data:

          

Net cash (used in)/provided by:

          

Operating activities

   $ (58,756 )   $ (116,276 )   $ (40,510 )   $ (1,678 )   $ (38,865 )

Investing activities

   $ (14,195 )   $ (12,890 )   $ (26,288 )   $ (33,607 )   $ (34,453 )

Financing activities

   $ 72,540     $ 128,905     $ 66,798     $ 53,847     $ 54,756  

Capital expenditures

   $ (14,195 )   $ (12,890 )   $ (26,288 )   $ (33,607 )   $ (34,453 )

Other data (Unaudited):

          

Gross additions(a)

     305,764       1,348,617       2,328,830       2,666,194       3,013,781  

Churn(b)

     2.8 %     2.7 %     3.9 %     4.3 %     4.8 %

Net customer additions(c)

     294,337       1,133,960       1,422,855       993,625       729,313  

End-of-period customers(d)

     294,337       1,428,297       2,851,152       3,844,777       4,574,090  

Adjusted EBITDA(e)(f) (in thousands)

   $ (133,637 )   $ (214,373 )   $ (133,567 )   $ (48,275 )   $ 47,884  

Average revenue per user(e)(g)

   $ 25.00     $ 23.05     $ 24.24     $ 22.54     $ 21.48  

CCPU(e)(h)

   $ 139.22     $ 22.07     $ 16.85     $ 14.94     $ 13.15  

CPGA(e)(i)

   $ 286.67     $ 164.90     $ 131.58     $ 118.62     $ 120.55  

(footnotes appear on following page)

 

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(a)   Gross additions represents the number of new customers that activated our handsets during a period, unadjusted for churn, during the same period. In measuring gross additions, we begin with handset activations and exclude any customer who has replaced one of our handsets with another one, retailer returns, customers who have reactivated within seven months of deactivation and fraudulent activations.
(b)   Churn is used to measure customer turnover. Churn is calculated as the ratio of the net number of customers that disconnect from our service to the weighted average number of customers, divided by the number of months during the period being measured. The net number of customers that disconnect from our service is calculated as the total number of customers that disconnect less the adjustments noted under gross additions above. These adjustments are applied in order to arrive at a more meaningful measure of churn. Churn includes those customers who we automatically disconnect from our service when they have not replenished their account for 150 days as well as those customers who voluntarily disconnect from our service. Churn is a useful metric to track changes in customer retention over time and to help evaluate how changes in our business and services offerings affect customer retention. In addition, churn is also useful for comparing our customer turnover to that of other wireless communications providers.
(c)   Net customer additions represents the number of new customers that activated our handsets during a period, adjusted for churn, during the same period.
(d)   End-of-period customers are the total number of customers at the end of the period being measured.
(e)   We use several financial performance metrics, including Adjusted EBITDA, ARPU, CCPU and CPGA, which are not calculated in accordance with GAAP. A non-GAAP financial metric is defined as a numerical measure of a company’s financial performance that (i) excludes amounts, or is subject to adjustments that have the effect of excluding amounts, that are included in the comparable measure calculated and presented in accordance with GAAP in the statement of operations or statement of cash flows; or (ii) includes amounts, or is subject to adjustments that have the effect of including amounts, that are excluded from the comparable measure so calculated and presented. We believe that the non-GAAP financial metrics that we use are helpful in understanding our operating performance from period to period, and although not every company in the wireless communication industry defines these metrics in precisely the same way that we do, we believe that these metrics as we use them facilitate comparisons with other wireless communication companies. These metrics should not be considered substitutes for any performance metric determined in accordance with GAAP.
(f)   Adjusted EBITDA is calculated as net income (loss) plus depreciation and amortization, interest expense, non-cash compensation expense, equity issued to a member and debt extinguishment costs. We find Adjusted EBITDA to be useful as a measure for understanding the performance of our operations from period to period.

 

    

Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

 
(in thousands)    2002     2003     2004     2005     2006  
     (Unaudited)  

Calculation of Adjusted EBITDA:

          

Net loss

   $ (144,071 )   $ (225,851 )   $ (173,878 )   $ (102,865 )   $ (36,707 )

Plus:

          

Depreciation and amortization

     5,371       8,672       12,891       19,413       28,381  

Interest expense

     663       2,806       5,427       25,008       52,178  

Non-cash compensation expense

     —         —         5       1,475       2,563  

Equity issued to a member

     4,400       —         21,988       7,623       —    

Debt extinguishment costs

     —         —         —         1,071       1,469  
                                        

Adjusted EBITDA

   $ (133,637 )   $ (214,373 )   $ (133,567 )   $ (48,275 )   $ 47,884  
                                        

(footnotes continued on following page)

 

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(g)   Average revenue per user, or ARPU, is used to measure and track the average revenue generated by our customers on a monthly basis. ARPU is calculated as net service revenue for the period divided by the weighted average number of customers for that period being measured, further divided by the number of months in the period being measured. The weighted average number of customers is the sum of the average customers for each day during the period measured divided by the number of days in that period. ARPU helps us to evaluate customer performance based on customer revenue and forecast our future service revenues.

 

   

Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

(in thousands, except number of months and ARPU)   2002*   2003   2004   2005   2006
    (Unaudited)

Calculation of ARPU:

         

Net service revenue

  $ 10,051   $ 189,457   $ 567,006   $ 883,816   $ 1,020,055

Divided by weighted average number of customers

    67     685     1,949     3,268     3,957

Divided by number of months in the period

    6     12     12     12     12
                             

ARPU

  $ 25.00   $ 23.05   $ 24.24   $ 22.54   $ 21.48
                             

 

*   2002 weighted average number of customers and months in the period are from our launch in July 2002 through the end of the period.

 

(h)   Cash cost per user, or CCPU, is used to measure and track our costs to provide support for our services to our existing customers. The costs included in this calculation are our cost of service (exclusive of depreciation and amortization), excluding cost of service associated with initial customer acquisition, general and administrative costs, excluding any marketing, selling, and distribution expenses associated with initial customer acquisition, non-cash compensation expense, net loss on equipment sold to existing customers, cooperative advertising expenses in support of existing customers and other (income) / expense, excluding debt extinguishment costs. These costs are then divided by our weighted average number of customers for that period being measured, further divided by the number of months in the period being measured. CCPU helps us to assess our ongoing business operations on a per customer basis, and evaluate how changes in our business operations affect the support costs per customer. Given its use throughout the industry, CCPU also serves as a standard by which we compare our performance against that of other wireless communication companies.

(footnotes continued on following page)

 

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Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

 
(in thousands, except number of months and CCPU)   2002*     2003     2004     2005     2006  
    (Unaudited)  

Calculation of CCPU:

         

Cost of service (exclusive of depreciation and amortization)

  $ 10,502     $ 104,753     $ 229,283     $ 309,321     $ 299,130  

Less: Cost of service associated with initial customer acquisition

    (2,779 )     (13,143 )     (7,367 )     (3,750 )     (1,968 )

Add: General and administrative expenses

    48,357       89,820       161,269       254,989       288,414  

Less: Non-cash compensation expense

    —         —         (5 )     (1,475 )     (2,563 )

Add: Net loss on equipment sold to existing customers

    —         —         11,259       22,291       38,042  

Add: Cooperative advertising expenses in support of existing customers

    —         —         —         4,620       2,362  

Less: Other (income) expense, net of debt extinguishment costs

    (113 )     (45 )     (305 )     (122 )     799  
                                       

Total CCPU costs

  $ 55,967     $ 181,385     $ 394,134     $ 585,874     $ 624,216  

Divided by weighted average number of customers

    67       685       1,949       3,268       3,957  

Divided by number of months in the period

    6       12       12       12       12  
                                       

CCPU

  $ 139.22     $ 22.07     $ 16.85     $ 14.94     $ 13.15  
                                       

 

*   2002 weighted average number of customers and months in the period are from our launch in July 2002 through the end of the period.

 

(i)   Cost per gross addition, or CPGA, is used to measure the cost of acquiring a new customer. The costs included in this calculation are our selling expenses, our net loss on equipment sales (cost of equipment less net equipment revenue), excluding the net loss on equipment sold to existing customers, equity issued to a member, cooperative advertising in support of existing customers and cost of service associated with initial customer acquisition. CPGA helps us to assess the efficiency of our customer acquisition methods and evaluate our sales and distribution strategies. CPGA also allows us to compare our average acquisition costs to those of other wireless communication companies.

 

   

Virgin Mobile USA, LLC

Fiscal Year Ended December 31,

 
(in thousands, except CPGA)   2002     2003     2004     2005     2006  
    (Unaudited)  

Calculation of CPGA:

         

Selling expenses

  $ 45,188     $ 84,645     $ 91,909     $ 91,481     $ 113,318  

Add: Cost of equipment

    60,782       221,008       364,042       361,655       378,981  

Less: Net equipment revenue

    (16,628 )     (96,351 )     (123,632 )     (106,116 )     (90,524 )

Less: Net loss on equipment sold to existing customers

    —         —         (11,259 )     (22,291 )     (38,042 )

Less: Equity issued to a member

    (4,400 )     —         (21,988 )     (7,623 )     —    

Less: Cooperative advertising in support of existing customers

    —         —         —         (4,620 )     (2,362 )

Add: Cost of service associated with initial customer acquisition

    2,779       13,143       7,367       3,750       1,968  
                                       

Total CPGA costs

  $ 87,721     $ 222,445     $ 306,439     $ 316,236     $ 363,339  

Divided by gross additions

    306       1,349       2,329       2,666       3,014  
                                       

CPGA

  $ 286.67     $ 164.90     $ 131.58     $ 118.62     $ 120.55  
                                       

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION

AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the respective financial statements and related footnotes of Bluebottle USA Investments L.P. and Virgin Mobile USA, LLC included in this prospectus. This discussion contains forward-looking statements that are subject to known and unknown risks and uncertainties. Actual results and the timing of events may differ significantly from those expressed or implied in such forward-looking statements due to a number of factors, including those included in the section entitled “Risk Factors” and elsewhere in this prospectus.

Introduction

We are a holding company formed for the purpose of this offering. Since we have not engaged in any business or other activities except in connection with our formation and the reorganization transactions described elsewhere in this prospectus, the following Management’s Discussion and Analysis of Financial Condition and Results of Operations, or MD&A, focuses on the historical results of operations of our operating company, Virgin Mobile USA, LLC. The critical accounting policies and estimates and new accounting pronouncements apply to Virgin Mobile USA, LLC and Bluebottle USA Investments L.P. and, we expect, will apply to Virgin Mobile USA, Inc. going forward. The liquidity and capital resources, contractual obligations, commitments and contingencies, and quantitative and qualitative disclosures about market risk relate to Virgin Mobile USA, LLC only.

This MD&A is provided as a supplement to the audited financial statements and the related footnotes included elsewhere in the prospectus to help provide an understanding of our financial condition, changes in financial condition and results of our operations. The MD&A is organized as follows:

 

   

Company Overview.    This section provides a general description of our business and that of Bluebottle USA Investments L.P., as well as recent developments that we believe necessary to understand our financial condition and results of operations and to anticipate future trends in our business.

 

   

Critical Accounting Policies and Estimates.    This section discusses the accounting policies and estimates that we consider to be important to our financial condition and results of operations and which require significant judgment and estimates on the part of management in their application. In addition, all of our significant accounting policies (including our critical accounting policies) are summarized in Note 2 of our audited financial statements included elsewhere in the prospectus.

 

   

Results of Operations.    This section provides an analysis of Virgin Mobile USA, LLC’s results of operations for the years ended December 31, 2004, 2005 and 2006.

 

   

Liquidity and Capital Resources.    This section provides an analysis of our cash flows for the years ended December 31, 2004, 2005 and 2006, as well as a discussion of our financial condition and liquidity as of December 31, 2005 and 2006. The discussion of our financial condition and liquidity includes summaries of our existing senior secured credit facility and our existing subordinated secured revolving credit facility and the borrowings outstanding thereunder as of December 31, 2006, as well as our available financial capacity under our existing subordinated secured revolving credit facility. We intend to use all of the net proceeds to us from this offering and approximately $             million of borrowings under our new senior secured credit facilities, which we expect to enter into concurrently with the consummation of this offering, to (1) repay our existing senior secured credit facility and existing subordinated secured revolving credit facility and (2) pay approximately $            million to Sprint Nextel for limited liability company interests representing approximately     % of VMU.

 

   

Contractual Obligations, Commitments and Contingencies.    This section provides a discussion of our commitments (both firm and contingent) as of December 31, 2006.

 

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New Accounting Pronouncements.    This section describes new accounting requirements that could potentially impact our results of operations and financial statements.

 

   

Quantitative and Qualitative Disclosures about Market Risk.    This section discusses our exposure to potential losses arising from adverse changes in interest rates and derivatives.

Company Overview

We are a leading national provider of wireless communications services, offering prepaid, or pay-as-you-go, services targeted at the youth market (ages 14-34). We offer our services on a flat per-minute basis and on a monthly basis for specified quantities, or buckets, of minutes purchased in advance—in each case, without requiring our customers to enter into long-term contracts or commitments. Our business is highly seasonal with our first and fourth quarters reflecting higher net customer additions, which are similar to the traditional retail selling periods.

We were founded as a joint venture between Sprint Nextel and the Virgin Group and launched our service nationally in July 2002. As of December 31, 2006, we served approximately 4.57 million customers, which we estimate represented approximately a 15% share of the pay-as-you-go market and a 19.0% increase over the 3.84 million customers we served as of December 31, 2005. As of March 31, 2007, we served approximately 4.88 million customers.

We market our products and services under the Virgin Mobile brand, using the nationwide Sprint PCS network. We control our customers’ experience and all customer “touch points,” including brand image, pricing, mobile content, marketing, distribution and customer care but as an MVNO, we do not own or operate a physical network, which frees us from related capital expenditures. This allows us to focus our resources and compete effectively against the major national wireless providers in our target market. We purchase wireless network services at a price based on Sprint Nextel’s cost of providing these services plus a specified margin under an agreement which runs through 2027. Based on Sprint Nextel’s current cost of providing services, we expect the per-minute rate we pay to Sprint Nextel to decrease as our number of customers and volume of minutes we purchase from Sprint Nextel increase over time.

We operate in the highly competitive and regulated wireless communications industry. The primary bases of competition in our industry are the prices, types and quality of products and services offered. Many factors, including factors described in the “Risk Factors” section of this prospectus, could adversely affect our results, performance or achievements.

Our management uses the following key performance metrics to evaluate our business:

 

   

Gross Additions—represents the number of new customers that activated our handsets during a period, unadjusted for churn during the same period.

 

   

Churn—calculated as the ratio of the net number of customers that disconnect from our service to the weighted average number of customers, divided by the number of months during the period being measured. Churn is used to measure customer turnover. Churn includes those customers who automatically disconnect from our service when they have not replenished their account for 150 days as well as those customers who voluntarily disconnect from our service.

 

   

Net Customer Additions and End-of-Period Customers—used to measure the growth of our business model, to forecast our future financial performance and to gauge the marketplace acceptance of our offerings. Net customer additions represents the number of new customers that activated our handsets during a period, adjusted for churn during the same period. End-of-period customers are the total number of customers at the end of the period being measured.

 

   

Average Revenue Per User, or ARPU—used to measure and track the average revenue generated by our customers on a monthly basis. ARPU is calculated as net service revenue for the period divided by the weighted average number of customers for that period being measured, further divided by the number of months in the period being measured.

 

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Cash Costs Per User, or CCPU—used to measure and track the cost of providing support for our services to our existing customers. The costs included in this calculation are cost of service (exclusive of depreciation and amortization), excluding cost of services associated with acquiring new customers, general and administrative costs, excluding any marketing, selling, and distribution expenses used to acquire new customers and non-cash compensation expenses, net loss on equipment sold to existing customers, cooperative advertising expenses in support of existing customers and other (income) / expense, excluding debt extinguishment costs. These costs are divided by the weighted average number of customers for that period being measured, further divided by the number of months in the period being measured.

 

   

Cost Per Gross Addition, or CPGA—used to measure the cost of acquiring a new customer. The costs included in this calculation are our selling expenses, our net loss on equipment sales (cost of equipment less net equipment revenue), excluding the net loss on equipment sold to existing customers, equity issued to a member, cooperative advertising in support of existing customers and cost of service related to the acquisition of new customers. These costs are divided by our gross additions.

As the wireless communications industry continues to grow and consolidate, we continually reassess our business strategies and their impact on our operations. Our future revenue growth will depend upon our number of end-of-period customers and the ARPU derived from these customers.

The FCC and state public utilities commissions, or state PUC’s, regulate the provision of communication services. Future changes in regulations and compliance could impose significant additional costs on us either in the form of direct out-of-pocket costs or additional compliance obligations. We could be forced to increase our rates to cover these costs, making our service pricing less attractive to customers.

Our business has incurred, and may continue to incur, losses and costs associated with bulk handset purchase and trading schemes, whereby third parties purchase our subsidized handsets, unlock and reprogram them and sell them in bulk for use on other wireless communications providers’ networks. We have pursued coordinated efforts through investigations and legal actions, retail monitoring and policies, and technology to combat the potential for significant losses. However, if our efforts to thwart bulk trading schemes are otherwise unsuccessful, this could result in substantial costs to us, whereby we would not realize any service revenues from these handsets and incur substantial losses. We estimate that in 2005 and 2006, approximately 228,000 and 322,000 of our handsets, respectively, were bought and resold in bulk, which resulted in a loss of approximately $25.4 million and $30.4 million, respectively, consisting primarily of lost subsidies and promotional expenses.

We earn revenues primarily from the sale of wireless voice and mobile data services, along with the sale of handsets through third party retail locations, our website or call center. Our services are available through a variety of different pricing plans, including flat-rate and monthly plans that offer the benefits of long-term contract-based wireless plans with the flexibility of pay-as-you-go services. In the third quarter of 2006, we launched a suite of new service plans that provided our customers the ability to buy monthly buckets of minutes in advance. The customers on these new monthly plans tend to have higher usage and ARPU than flat-rate customers. As such, we expect these new monthly plans to contribute an increasing portion of our revenue going forward. We have experienced significant growth in the last three years with revenues growing to $1.1 billion in 2006 from $1.0 billion in 2005 and $0.7 billion in 2004. Our revenues in 2006 included $1.0 billion in net service revenue, which is comprised primarily of voice usage and mobile data services, such as text messaging, games, and ringtones, and $90.5 million in net equipment revenue, which is comprised primarily of the sale of handsets.

Bluebottle USA Investments L.P. is an intermediate holding company which is presently 100% owned by the Virgin Group. Bluebottle USA Investments L.P. holds, through its subsidiary Bluebottle USA Holdings L.P., the Virgin Group’s interest of Virgin Mobile USA, LLC, the operating company for our business.

Bluebottle USA Investments L.P. has net operating loss carryforwards for federal and state income tax reporting purposes, resulting from the accumulated losses incurred by Virgin Mobile USA, LLC since inception.

 

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Bluebottle USA Investments L.P.’s ability to utilize the net operating loss carryforwards in future years may be limited in some circumstances. A full valuation allowance has been recorded against the deferred tax assets held on Bluebottle USA Investments L.P.’s balance sheet since their future realizability is uncertain since historically we have not generated net income.

As described in “Prospectus Summary—Organizational Structure” and “Certain Relationships and Related Party Transactions,” in connection with the reorganization transactions the Virgin Group will contribute to us its interest in Bluebottle USA Investments L.P., which may result in us receiving the benefit of the net operating losses. We expect that these net operating losses would reduce the amount of cash tax that we would otherwise be required to pay in the future, but we would be required to compensate the Virgin Group for the tax benefit resulting from these net operating losses pursuant to the terms of our tax receivable agreement with the Virgin Group.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with GAAP. Preparation of these consolidated financial statements requires us to make judgments, estimates and assumptions which affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements as well as the reported revenue and expenses during the reporting periods. These estimates and judgments are subject to an inherent degree of uncertainty. We believe that the estimates and judgments upon which we rely are reasonable based upon information available to us at the time that these estimates and judgments are made. We continually evaluate our judgments, estimates and assumptions. To the extent there are material differences between these estimates and actual results, our consolidated financial statements will be affected.

We believe the following to be our more significant critical accounting policies and estimates used in the preparation of our consolidated financial statements.

Revenue Recognition

Operating revenues consist of wireless service revenues and handset revenues.

Wireless service revenues are generated from the sale of wireless voice and mobile data services. As our customers pay for these services in advance, we record these funds as deferred revenue. We accrue for commissions paid to retailers who sell Top-Up cards to customers at the time the Top-Up card is sold. We recognize revenue as our customers use available services, or when the pay-as-you-go balances in their accounts expire, net of any credits or adjustments. Top-Up cards that have not been used to replenish a customer’s account expire one year from the date of purchase, at which time we recognize the revenue from these cards.

Handset revenues are recognized at the time that the title to individual handsets, along with any risk for damage or loss, passes to the customer. In the context of handset revenue recognition, customer means either (i) a non-consignment retailer, where the title passes to the retailer upon shipment and delivery to that retailer or (ii) an end-user who purchases the handset from either a consignment retailer, where the title does not pass upon shipment but at the time of sale to the end-user, or through our website or call center, where title passes upon shipment. In 2006, we changed some of our key retail distribution relationships to consignment and accordingly, we recognize revenue in such relationships when the handset is sold to the end-user by the retailer. We believe that this method of accounting more accurately aligns all of our costs of acquiring customers with the revenues related to handset sales.

For all handsets sold, our customers have the right to return handsets within a specified time or after a certain amount of use, whichever occurs first. We record estimates for returns at the time of recognizing the

 

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revenue. Our assessment of the estimated handset returns is based primarily on historical return rates. If our customers’ actual returns are not consistent with our estimates of their returns, our revenues may be different than initially recorded.

In addition, we offer price protection arrangements, whereby we reimburse retailers for any losses that they may incur whenever we permanently or temporarily reduce the price of our handsets. We record such reimbursements as a reduction to handset revenue at the time that the related revenue is recognized. Our assessment of price protection is based on our estimates of the quantity of handsets the retailer has purchased and has on hand at the time of the price reduction as well as on our management’s plans for handset pricing. If actual retailer handset inventory on hand is not consistent with our estimates, our revenues may be different than initially recorded.

Operating revenues are recognized in accordance with the provisions of Staff Accounting Bulletin No. 104, Revenue Recognition. We recognize revenue when (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the seller’s price to the buyer is fixed and determinable, and (iv) collectibility is reasonably assured. Determination regarding the fixed nature of the fee charged for products delivered and their collectibility are based on our management’s judgments.

Inventory

Our inventory consists primarily of new and refurbished handsets, including inventory on consignment. New handsets are stated at the lower of cost or replacement value. We determine cost on a First in, First out (FIFO) basis. Typically, we sell our handsets for less than their book value since we provide a handset subsidy to our customers. These costs are expensed at the time of sale. The cost for refurbished handsets is valued at the lower of fair market value or repair cost. We make provisions to reduce any excess, obsolete or slow moving inventory to net realizable value. The total inventory reserves for obsolete and unmarketable inventory were not significant at December 31, 2006. If actual market conditions are less favorable than those projected, additional inventory write-downs may be required.

Property and equipment and internal use software

Property and equipment and internal use software are recorded at cost. Depreciation and amortization are applied using the straight-line method over the estimated useful lives of the assets once the assets are placed in service. We estimate the useful economic lives of our assets to be:

 

Furniture and fixtures

   3-7 years

Leasehold improvements

   shorter of the lease
term or 3 years

Computer equipment

   3 years

IT network/infrastructure

   3-5 years

Internal use software

   1-3 years

We periodically review the estimated useful economic lives of our property and equipment and internal use software. If conditions indicate these assets may not be useful for as long as originally anticipated, we will make adjustments to those estimates. As of December 31, 2006, we have not shortened the estimated useful economic lives of any of our assets. Our property and equipment and internal use software are tested for recoverability whenever events or changes in circumstances indicate that their carrying value may not be recoverable. Impairment can arise from obsolescence of these assets as well as a change in expected cash flows. Such impairment tests are based on comparison of estimated undiscounted cash flows to the recorded value of the asset. If impairment is indicated, the asset value will be written down to its fair value.

 

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Stock-based Compensation

We adopted Statement of Financial Accounting Standards No. 123R Share Based Payment (“SFAS 123R”), on January 1, 2005, utilizing the prospective transition method as of the effective date, as required for nonpublic entities previously utilizing the minimum value method under SFAS No. 123 Accounting for Stock Based Compensation, for pro forma disclosures. Under this transition method, we were required to record compensation expense for all awards granted or modified after the date of adoption. The prospective transition method therefore permitted us to continue accounting for options granted prior to January 1, 2005 under the accounting principles originally applied to those awards, namely APB No. 25 Accounting for Stock Issued to Employees (“APB 25”) and its related interpretive guidance. Under the provisions of APB 25, no compensation cost was recognized for grants that were issued with an exercise price that was at least equal to the fair value of the underlying units.

Under SFAS 123R, share-based compensation cost is measured at the grant date, based on the estimated fair value of the award. Liability awards are also revalued every financial reporting period. We have elected to amortize the fair value of our share-based awards on a straight-line basis over the requisite service period, which is generally the vesting period. As of December 31, 2006, we had unrecognized compensation costs related to non-vested awards of approximately $7.2 million. This cost is expected to be recognized over a weighted-average period of 2.9 years, and will be adjusted for subsequent changes in estimated forfeitures.

Under the prospective transition method that we adopted on January 1, 2005, compensation expense recognized includes compensation cost for all unit-based awards granted subsequent to January 1, 2005 based on their fair value estimated in accordance with the provisions of SFAS 123R. Under the prospective transition method, we did not restate our prior period financial statements to reflect the expensing of unit-based compensation. Therefore, the results of December 31, 2005 and 2006 are not directly comparable to December 31, 2004. We use the Black-Scholes or Traditional Binomial pricing models to estimate the fair value of our unit-based compensation as of the grant date. These models by their design are dependent upon key data inputs estimated by management such as expected volatility, expected term, expected dividend yield, and expected forfeiture rates. As a private entity that commenced operations in 2002, we have insufficient historical data to compute expected volatility for our awards. Therefore, we identify a group of similar entities, based on industry, size, and other factors, referred to as the peer group, to provide comparative data to determine expected volatility. We elect to utilize the average of the peer group’s implied and median volatilities over the expected life as appropriate inputs to the pricing models. See Note 2 to our consolidated financial statements, included elsewhere in this prospectus, for more information about the adoption of this accounting standard.

Tax Valuation

Prior to the consummation of this offering, Virgin Mobile USA, LLC was a limited liability company and all federal, state, and local income taxes have historically been the responsibility of our members. Profits and losses have been allocated to our members according to the limited liability company agreement of Virgin Mobile USA, LLC, or LLC Agreement.

Income taxes for Bluebottle USA Investments L.P. are accounted for under the asset and liability method. Deferred tax assets and liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, as well as operating losses and tax credit carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Valuation allowances are established when necessary in order to reduce deferred tax assets to the amounts expected to be recovered.

 

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Results of Operations

Key Performance Metrics

Our management utilizes the following key performance metrics used in the wireless communications industry to manage and assess our financial performance. These metrics include gross additions, churn, net customer additions, end-of-period customers, Adjusted EBITDA, ARPU, CCPU and CPGA. The following table provides a summary of these key performance metrics for the periods indicated:

 

     Year Ended December 31,  
     2004     2005     2006  
     (Unaudited)  

Gross additions

     2,328,830       2,666,194       3,013,781  

Churn

     3.9 %     4.3 %     4.8 %

Net customer additions

     1,422,855       993,625       729,313  

End-of-period customers

     2,851,152       3,844,777       4,574,090  

Adjusted EBITDA($ thousands)

   $ (133,567 )   $ (48,275 )   $ 47,884  

ARPU

   $ 24.24     $ 22.54     $ 21.48  

CCPU

   $ 16.85     $ 14.94     $ 13.15  

CPGA

   $ 131.58     $ 118.62     $ 120.55  

Gross additions represents the number of new customers that activated our handsets during a period, unadjusted for churn, during the same period. In measuring gross additions, we begin with handset activations and exclude any customer that has replaced one of our handsets with another one, retailer returns, customers who have reactivated within seven months of deactivation and fraudulent activations. These adjustments are applied in order to arrive at a more meaningful measure of our customer growth. Gross additions for the years ended December 31, 2004, 2005 and 2006 were approximately 2.3 million, 2.7 million and 3.0 million, respectively. This growth is primarily attributed to the expansion of our retail distribution network and, more recently, the introduction of new service plans.

Churn is used to measure customer turnover. Churn is calculated as the ratio of the net number of customers that disconnect from our service during the period being measured to the weighted average number of customers, divided by the number of months during the period being measured. The net number of customers that disconnect from our service is calculated as the total number of customers that disconnect less the adjustments noted under gross additions above. These adjustments are applied in order to arrive at a more meaningful measure of churn. Churn includes those customers who we automatically disconnect from our service when they have not replenished their account for 150 days as well as those customers who voluntarily disconnect from our service. We believe churn is a useful metric to track changes in customer retention over time and to help evaluate how changes in our business and services offerings affect customer retention. In addition, churn is also useful for comparing our customer turnover to that of other wireless communications providers. For the years ended December 31, 2004, 2005 and 2006, our churn was approximately 3.9%, 4.3% and 4.8%, respectively. As our customer base has grown, our churn has increased due to both the competitive dynamics of the marketplace and the relatively high proportion of new customers, who tend to have higher churn. Over time, an increasing proportion of mature customers is expected to offset these factors resulting in stabilizing churn levels.

Net customer additions and end-of-period customers are used to measure the growth of our business model, to forecast our future financial performance and to gauge the marketplace acceptance of our offerings. Net customer additions represents the number of new customers that activated our handsets during a period, adjusted for churn, during the same period. End-of-period customers are the total number of customers at the end of a given period. During 2006, we added a net 0.7 million customers to our base and, as of December 31, 2006, we had approximately 4.6 million customers. This represents a growth of 18.4%, as compared to the end-of-period December 31, 2005. During 2005, we added a net 1.0 million customers to our base. As of December 31, 2005, we had approximately 3.8 million customers, a growth of 34.8% when compared to the end-of-period customers of 2.8 million as of December 31, 2004.

 

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Non-GAAP performance metrics. We use several financial performance metrics, including Adjusted EBITDA, ARPU, CCPU and CPGA, which are not calculated in accordance with GAAP. A non-GAAP financial metric is defined as a numerical measure of a company's financial performance that (i) excludes amounts, or is subject to adjustments that have the effect of excluding amounts, that are included in the comparable measure calculated and presented in accordance with GAAP in the statement of operations or statement of cash flows; or (ii) includes amounts, or is subject to adjustments that have the effect of including amounts, that are excluded from the comparable measure so calculated and presented. We believe that the non-GAAP financial metrics that we use are helpful in understanding our operating performance from period to period, and although not every company in the wireless communication industry defines these metrics in precisely the same way that we do, we believe that these metrics as we use them facilitate comparisons with other wireless communication providers. These metrics should not be considered substitutes for any performance metric determined in accordance with GAAP.

Adjusted EBITDA is calculated as net income (loss) plus depreciation and amortization, interest expense, non-cash compensation expense, equity issued to a member and debt extinguishment costs. We find Adjusted EBITDA to be useful as a measure for understanding the performance of our operations from period to period. For the years ended December 31, 2004, 2005 and 2006, Adjusted EBITDA was $(133.6) million, $(48.3) million and $47.9 million, respectively. The year on year improvement reflected growth in our customer base, service revenue and cost benefits resulting from the increasing scale of our business.

 

     Fiscal Year Ended December 31,  
(in thousands)    2004     2005     2006  
     (Unaudited)  

Net loss

   $ (173,878 )   $ (102,865 )   $ (36,707 )

Plus:

      

Depreciation and amortization

     12,891       19,413       28,381  

Interest expense

     5,427       25,008       52,178  

Non-cash compensation expense

     5       1,475       2,563  

Equity issued to a member

     21,988       7,623       —    

Debt extinguishment costs

     —         1,071       1,469  
                        

Adjusted EBITDA

   $ (133,567 )   $ (48,275 )   $ 47,884  
                        

ARPU is used to measure and track the average revenue generated by our customers on a monthly basis. ARPU is calculated as net service revenue for the period divided by the weighted average number of customers for that period being measured, further divided by the number of months in the period being measured. The weighted average number of customers is the sum of the average customers for each day during that period measured divided by the number of days in that period. ARPU helps us to evaluate customer performance based on customer revenue and forecast our future service revenues. For the years ended December 31, 2004, 2005 and 2006, ARPU was $24.24, $22.54 and $21.48, respectively. The decline in ARPU over the period 2004 to 2006 reflected the more competitive pricing on our new monthly pay-as-you-go plans, which more than offset increased usage on those offers, as well as increased customer penetration and usage for our mobile data services, the latter stimulated by new offerings and new handsets. The following table illustrates the calculation of ARPU and reconciles ARPU to net service revenue which we consider to be the most directly comparable GAAP financial measure.

 

     Fiscal Year Ended December 31,
(in thousands except number of months and ARPU)    2004    2005    2006
     (Unaudited)

Net service revenue

   $ 567,006    $ 883,816    $ 1,020,055

Divided by weighted average number of customers

     1,949      3,268      3,957

Divided by number of months in the period

     12      12      12
                    

ARPU

   $ 24.24    $ 22.54    $ 21.48
                    

 

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CCPU is used to measure and track our costs to provide support for our services to our existing customers. The costs included in this calculation are our cost of service (exclusive of depreciation and amortization), excluding cost of service associated with initial customer acquisition, general and administrative expenses, excluding any marketing, selling, and distribution expenses associated with initial customer acquisition, non-cash compensation expense, net loss on equipment sold to existing customers, cooperative advertising expenses in support of existing customers and other (income) / expense, excluding debt extinguishment costs. These costs are then divided by our weighted average number of customers for the period being measured, further divided by the number of months in the period being measured. CCPU helps us to assess our ongoing business operations on a per customer basis, and evaluate how changes in our business operations affect the support costs per customer. Given its use throughout the industry, CCPU also serves as a standard by which we compare our performance against that of other wireless communication providers. For the years ended December 31, 2004, 2005 and 2006, our CCPU was $16.85, $14.94 and $13.15, respectively. The improvement in CCPU during the period from 2004 to 2006 was a result of decreasing costs on the per-minute rate charged to us by Sprint Nextel and the amortization of fixed costs over a growing customer base, partially offset in the second half of 2006 by growth in hybrid plan customers that have higher CCPU due to their higher usage profiles. The following table illustrates the calculation of CCPU and reconciles total costs used in the CCPU calculation to cost of service, which we consider to be the most directly comparable GAAP financial measure.

 

     Fiscal Year Ended December 31,  
(in thousands, except number of months and CCPU)    2004     2005     2006  
     (Unaudited)  

Cost of service (exclusive of depreciation and amortization)

   $ 229,283     $ 309,321     $ 299,130  

Less: Cost of service associated with initial customer acquisition

     (7,367 )     (3,750 )     (1,968 )

Add: General and administrative expenses

     161,269       254,989       288,414  

Less: Non-cash compensation expense

     (5 )     (1,475 )     (2,563 )

Add: Net loss on equipment sold to existing customers

     11,259       22,291       38,042  

Add: Cooperative advertising expenses in support of existing customers

     —         4,620       2,362  

Add: Other (income) / expense, net of debt extinguishment costs

     (305 )     (122 )     799  
                        

Total CCPU costs

   $ 394,134     $ 585,874     $ 624,216  

Divided by weighted average number of customers

     1,949       3,268       3,957  

Divided by number of months in the period

     12       12       12  
                        

CCPU

   $ 16.85     $ 14.94     $ 13.15  
                        

CPGA is used to measure the cost of acquiring a new customer. The costs included in this calculation are our selling expenses, our net loss on equipment sales (cost of equipment less net equipment revenue), excluding the net loss on equipment sold to existing customers, equity issued to a member, cooperative advertising in support of existing customers and cost of service associated with initial customer acquisition. CPGA helps us to assess the efficiency of our customer acquisition methods and evaluate our sales and distribution strategies. CPGA also allows us to compare our average acquisition costs to those of other wireless communication providers. For the years ended December 31, 2004, 2005 and 2006, our CPGA was $131.58, $118.62 and $120.55, respectively. The overall decline in CPGA from 2004 to 2006 resulted from a higher proportionate growth in new customers in relation to the costs to acquire those new customers. The following table illustrates the calculation of CPGA and reconciles the total costs used in the CPGA calculation to selling expense, which we consider to be the most directly comparable GAAP financial measure.

 

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     Fiscal Year Ended December 31,  
(in thousands, except CPGA)    2004     2005     2006  
     (Unaudited)  

Selling expenses

   $ 91,909     $ 91,481     $ 113,318  

Add: Cost of equipment

     364,042       361,655       378,981  

Less: Net equipment revenue

     (123,632 )     (106,116 )     (90,524 )

Less: Net loss on equipment sold to existing customers

     (11,259 )     (22,291 )     (38,042 )

Less: Equity issued to a member

     (21,988 )     (7,623 )     —    

Less: Cooperative advertising in support of existing customers

     —         (4,620 )     (2,362 )

Add: Cost of service associated with initial customer acquisition

     7,367       3,750       1,968  
                        

Total CPGA costs

   $ 306,439     $ 316,236     $ 363,339  

Divided by gross additions

     2,329       2,666       3,014  
                        

CPGA

   $ 131.58     $ 118.62     $ 120.55  
                        

Historical Results of Operations

Comparison of results of operations for the year ended December 31, 2006 to the year ended December 31, 2005

 

     Fiscal Year Ended
December 31,
    Change  
(in thousands)    2005     2006     $     %  

Operating revenue:

        

Net service revenue

   $ 883,816     $ 1,020,055     $ 136,239     15.4 %

Net equipment revenue

     106,116       90,524       (15,592 )   (14.7 )%
                              

Total operating revenue

     989,932       1,110,579       120,647     12.2 %
                              

Operating expenses:

        

Cost of service (exclusive of depreciation and amortization)

     309,321       299,130       (10,191 )   (3.3 )%

Cost of equipment

     361,655       378,981       17,326     4.8 %

Selling, general and administrative (exclusive of depreciation and amortization)

     346,470       401,732       55,262     16.0 %

Loss (gain) from litigation

     29,981       (15,384 )     (45,365 )   (151.3 )%

Depreciation and amortization

     19,413       28,381       8,968     46.2 %
                              

Total operating expenses

     1,066,840       1,092,840       26,000     2.4 %
                              

Operating (loss)/income

     (76,908 )     17,739       94,647     123.1 %
                              

Other expense:

        

Interest expense

     25,008       52,178       27,170     108.6 %

Other expense

     949       2,268       1,319     139.0 %
                              

Total other expense

     25,957       54,446       28,489     109.8 %
                              

Net loss

   $ (102,865 )   $ (36,707 )   $ 66,158     64.3 %
                              

Operating Revenue

Total operating revenue for the year ended December 31, 2006 was $1,110.6 million compared to $989.9 million for the prior year, an increase of $120.6 million, or 12.2%, largely driven by an increase in net service revenue of 15.4%, partially offset by a decrease in net equipment revenue of 14.7%.

Net service revenue consists primarily of voice and mobile data services, reduced primarily by sales and E911 taxes. E911 taxes are typically assessed by state and local regulatory authorities and on a flat rate basis

 

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based on the number of active customers. Net service revenue also includes non-refundable balances remaining in a customer’s account after they have deactivated service, and expired Top-Up cards. Net service revenue was $1,020.1 million for the year ended December 31, 2006 compared to $883.8 million for the prior year, an increase of $136.2 million, or 15.4%. This increase was driven primarily by the 19.0% growth in our customer base, partially offset by the decline in our ARPU, from $22.54 to $21.48, noted earlier. In June 2006, we launched a suite of new service plans that provided our customers the ability to buy monthly buckets of minutes in advance. The customers on these new monthly plans tend to have a higher usage and ARPU than flat-rate customers. We expect these plans to have a more significant impact in the future.

Net equipment revenue consists primarily of handset sales reduced by allowance for returns, promotional handset price reductions and price protection estimates. Net equipment revenue is reduced for costs such as cooperative advertising, a fund provided by us and typically calculated as a percentage of sales that a retailer must use to promote our products, and commissions, for which we do not receive an identifiable and separable benefit. Net equipment revenue was $90.5 million for the year ended December 31, 2006 compared to $106.1 million for the prior year, a decrease of $15.6 million, or 14.7%. This decrease was driven primarily by lower handset pricing in order to match competition and lower revenues due to the conversion to the consignment method of accounting, partially offset by a 15.8% increase in handset unit sales to support our growing customer base and upgrades for existing customers and a reduction in promotional spending, recorded as a reduction of equipment revenue. In addition, net equipment revenue in 2005 reflects a $7.6 million reduction for equity issued to a retailer who is a minority interest holder consistent with the terms in the LLC Agreement.

Operating Expenses

Cost of service includes network service costs, airtime taxes (including Federal and State Universal Service funds, PUC taxes and Federal Communications Excise Tax, or FET), production costs for Top-Up cards, mobile data service fees and entertainment content license fees. Cost of service was $299.1 million for the year ended December 31, 2006 compared to $309.3 million for the prior year, a decrease of $10.2 million, or 3.3%. This decrease was primarily driven by a reduction in Sprint Nextel network rates and a decrease in our airtime taxes resulting from the cessation of FET, partially offset by greater customer usage resulting from our customer growth and, in part, to the free night and weekend feature on our new monthly plans.

Cost of equipment includes the cost of purchasing and packaging handsets sold to our customers. Cost of equipment is reduced for market development funds received from our handset vendors. Cost of equipment was $379.0 million for the year ended December 31, 2006 compared to $361.7 million for the prior year, an increase of $17.3 million or 4.8%. This increase was primarily driven by the 15.8% growth in our handset unit sales, partially offset by an increase in funds received from our handset vendors, including market development support and a settlement from one of these handset vendors. In addition, cost of equipment decreased in 2006 by $25.6 million as a result of a change of some of our key distribution relationships to consignment, which in turn resulted in a change to the consignment method of accounting, which enables us to recognize the revenue and cost from the sale of a handset when the title passes to the customer.

Selling, general and administrative expenses for the year ended December 31, 2006 were $401.7 million, compared to $346.5 million in the prior year, an increase of $55.3 million, or 16.0% resulting from a $21.8 million increase principally in advertising and media expenses, driven by our new pricing offers and new distribution channels, a $14.6 million increase in our call center expenses and an $8.7 million increase in other headcount, professional services and outsourced services to support our business growth.

Loss (gain) from litigation for the year ended December 31, 2006 of $15.4 million was the result of settlements with a holder of a portfolio of patents, which we utilize, and a settlement with one of our vendors.

Depreciation and amortization expense for the year ended December 31, 2006 was approximately $28.4 million compared to approximately $19.4 million in the prior year, an increase of $9.0 million, or 46.2%.

 

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The increase resulted from additional capital expenditures primarily related to building a second data center and software expenditures required to support our growing customer base and our new offers.

Interest Expense

Interest expense for the year ended December 31, 2006 was $52.2 million, compared to $25.0 million for the prior year, an increase of $27.2 million, or 108.6%. The increase for 2006 as compared to 2005 was due primarily to higher average debt levels, as well as higher interest rates.

Comparison of the year ended December 31, 2005 to the year ended December 31, 2004

 

(in thousands)    Fiscal Year Ended
December 31,
    Change  
     2004     2005     $     %  

Operating revenue:

        

Net service revenue

   $ 567,006     $ 883,816     $ 316,810     55.9 %

Net equipment revenue

     123,632       106,116       (17,516 )   (14.2 )%
                              

Total operating revenue

     690,638       989,932       299,294     43.3 %
                              

Operating expenses:

        

Cost of service (exclusive of depreciation and amortization)

     229,283       309,321       80,038     34.9 %

Cost of equipment

     364,042       361,655       (2,387 )   (0.7 )%

Selling, general and administrative (exclusive of depreciation and amortization)

     253,178       346,470       93,292     36.8 %

Loss from litigation

     —         29,981       29,981     —    

Depreciation and amortization

     12,891       19,413       6,522     50.6 %
                              

Total operating expenses

     859,394       1,066,840       207,446     24.1 %
                              

Operating loss

     (168,756 )     (76,908 )     91,848     54.4 %
                              

Other (income) / expense

        

Interest expense

     5,427       25,008       19,581     360.8 %

Other (income) / expense

     (305 )     949       1,254     411.1 %
                              

Total other expense

     5,122       25,957       20,835     406.8 %
                              

Net loss

   $ (173,878 )   $ (102,865 )   $ 71,013     40.8 %
                              

Operating Revenue

Total operating revenue for the year ended December 31, 2005 was $989.9 million compared to $690.6 million for the year ended December 31, 2004, an increase of $299.3 million, or 43.3%, reflecting a 55.9% increase in net service revenue, partially offset by a 14.2% decrease in net equipment revenue.

Net service revenue was $883.8 million for the year ended December 31, 2005 compared to $567.0 million for the prior year, an increase of $316.8 million, or 55.9%. This increase was primarily driven by the 34.8% growth in our customer base, partially offset by the decline in ARPU, from $24.24 to $22.54, noted earlier.

Net equipment revenue was $106.1 million for the year ended December 31, 2005 compared to $123.6 million for the prior year, a decrease of $17.5 million, or 14.2%. This decrease was primarily driven by lower handset pricing in order to match competition and an increase in promotional spending, recorded as a reduction to equipment revenue, partially offset by an 18.7% increase in handset unit sales in support of our

 

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growing customer base and upgrades for existing customers. In addition, net equipment revenue for 2005 reflects a $7.6 million reduction for equity issued to a retailer who is a minority interest holder, as previously discussed. In 2004, net equipment revenue includes a $22.0 million reduction for equity issued to the same retailer in relation to the achievement of sales milestones.

Operating Expenses

Cost of service was $309.3 million for the year ended December 31, 2005 compared to $229.3 million for the prior year, an increase of $80.0 million, or 34.9%. This increase was primarily driven by higher network usage cost, an increase in airtime taxes and an increase in costs related to providing mobile data services, all driven by the growth in our customer base. These were partially offset by a decrease in our Sprint Nextel network rates.

Cost of equipment was $361.7 million for the year ended December 31, 2005 compared to $364.0 million for the prior year, a decrease of $2.4 million or 0.7%. This decrease was driven by a decrease in our cost to purchase handsets and an increase in funds received from our handset vendors in support of marketing development efforts, partially offset by the 18.7% increase in handset unit sales.

Selling, general and administrative expenses for the year ended December 31, 2005 were $346.5 million compared to $253.2 million in the prior year, an increase of $93.3 million, or 36.8%, resulting from a $39.5 million increase in commissions paid to retailers for sales of Top-Up cards, an increase of $35.7 million for headcount, professional services and outsourced services costs and an increase of $6.9 million for call center expenses, all driven by our growing customer base. These increases were partially offset by a $13.0 million reduction in our advertising expenses resulting from lower media and retail channel advertising together with additional market development funding from our handset vendors where we were able to specifically identify the costs of the related advertising.

Loss from litigation for the year ended December 31, 2005 relates to a $30.0 million reserve established for probable losses resulting from negotiations between us and a holder of a portfolio of patents, which we utilized.

Depreciation and amortization expense for the year ended December 31, 2005 was approximately $19.4 million compared to approximately $12.9 million for the prior year, an increase of $6.5 million, or 50.6%. The increase was driven by the additional capital expenditures for our network equipment and software expenditures required to support our growing customer base.

Interest Expense

Interest expense for the year ended December 31, 2005 was $25.0 million, compared to $5.4 million for the prior year, an increase of $19.6 million, or 360.8%. The increase reflected the $500 million term loan we entered into in July 2005, as compared to significantly lower debt levels during 2004.

Quarterly Results of Operations

The quarterly data has been prepared on the same basis as the audited financial statements and in the opinion of management reflects a fair statement of the information for the periods presented. Our operating results and key performance metrics may fluctuate resulting from the seasonality of our business. As a result, comparing our results and key performance metrics on a period-to-period basis may not be meaningful. You should not rely on our past results as an indication of our future performance. Our results for these quarterly periods are not necessarily indicative of the results of operations or key performance metrics for a full year or any future period.

 

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Our business experiences significant seasonality. We typically generate our highest level of gross additions in the fourth quarter of the year due to strong sales during the holiday season. In addition, our first quarter typically reflects a relatively low level of churn due, in part, to the weight of new customers added in the prior quarter and our 150 day churn rule discussed earlier. As a result, our net customer additions are favorably impacted in both the fourth quarter and the first quarter of the following year. In contrast, our net customer additions for the second and third quarters reflect both the lower level of gross additions in those periods as well as the higher churn driven by the fourth quarter gross additions which are now outside the 150 day window. The seasonality of our customer acquisitions is reflected in our financial statements whereby the higher subsidies in the third and fourth quarters to support the fourth quarter acquisition surge, result in a decline in our operating income in those quarters. The greater the number of customer acquisitions we are able to achieve in the latter part of the year, the greater the temporary negative impact on Adjusted EBITDA; however, such additional customers are expected to increase our value in the longer term. We anticipate that this seasonal impact will continue.

The following table sets forth our unaudited quarterly results of operations and key performance metrics for the eight quarters in the two year period ended December 31, 2006.

 

    Results of Operations for the Quarters Ended  
(in thousands)  

March 31,

2005

   

June 30,

2005

   

September 30,
2005

   

December 31,
2005

   

March 31,
2006

   

June 30,

2006

   

September 30,
2006

   

December 31,
2006

 
   

(Unaudited)

 

Total operating revenue

  $ 248,985     $ 235,458     $ 238,657     $ 266,832     $ 280,175     $ 261,311     $ 270,994     $ 298,099  

Total operating expenses

    232,859       228,410       254,650       350,921       264,445       236,807       262,339       329,249  
                                                               

Operating income (loss)

    16,126       7,048       (15,993 )     (84,089 )     15,730       24,504       8,655       (31,150 )

Total other expense

    1,759       2,053       10,671       11,474       12,354       14,763       13,717       13,612  
                                                               

Net income (loss)

  $ 14,367     $ 4,995     $ (26,664 )   $ (95,563 )   $ 3,376     $ 9,741     $ (5,062 )   $ (44,762 )
                                                               
    Key Performance Metrics for the Quarters Ended  
   

March 31,
2005

   

June 30,

2005

   

September 30,
2005

   

December 31,
2005

   

March 31,
2006

   

June 30,

2006

   

September 30,
2006

   

December 31,
2006

 
   

(Unaudited)

 

Gross additions

    668,062       491,989       556,364       949,779       620,730       432,054       667,456       1,293,541  

Churn

    3.5 %     3.9 %     4.8 %     4.8 %     4.3 %     4.5 %     4.9 %     5.6 %

Net customer additions

    346,835       110,555       75,548       460,687       117,942       (90,767 )     88,386       613,752  

End-of-period customers

    3,197,987       3,308,542       3,384,090       3,844,777       3,962,719       3,871,952       3,960,338       4,574,090  

Adjusted EBITDA (in thousands)

  $ 20,961     $ 11,747     $ (10,316 )   $ (70,667 )   $ 22,744     $ 32,228     $ 16,405     $ (23,493 )

ARPU

  $ 23.50     $ 22.07     $ 21.52     $ 23.11     $ 22.09     $ 21.12     $ 20.53     $ 22.16  

CCPU

  $ 14.78     $ 14.39     $ 15.66     $ 14.92     $ 13.12     $ 12.36     $ 12.86     $ 14.20  

CPGA

  $ 88.38     $ 128.43     $ 123.92     $ 131.69     $ 133.62     $ 163.57     $ 127.31     $ 96.43  

 

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The following table sets forth a reconciliation of adjusted EBITDA to net income (loss).

    Quarters ended  
(in thousands)  

March 31,
2005

 

June 30,
2005

 

September 30,
2005

   

December 31,
2005

   

March 31,
2006

 

June 30,
2006

 

September 30,
2006

   

December 31,
2006

 
   

(Unaudited)

 

Net income (loss)

  $ 14,367   $ 4,995   $ (26,664 )   $ (95,563 )   $ 3,376   $ 9,741   $ (5,062 )   $ (44,762 )

Plus:

               

Depreciation and amortization

    4,562     4,477     5,129       5,245       6,367     6,757     7,429       7,828  

Interest expense

    1,807     2,073     9,621       11,507       12,400     13,272     13,318       13,188  

Non-cash compensation expense

    225     202     527       521       601     989     720       253  

Equity issued to a member

    —       —       —         7,623       —       —       —         —    

Debt extinguishment costs

    —       —       1,071       —         —       1,469     —         —    
                                                       

Adjusted EBITDA

  $ 20,961   $ 11,747   $ (10,316 )   $ (70,667 )   $ 22,744   $ 32,228   $ 16,405     $ (23,493 )
                                                       

The following table sets forth a reconciliation of ARPU to net service revenue.

 

    Quarters ended
(in thousands, except
months and ARPU)
 

March 31,
2005

 

June 30,
2005

 

September 30,
2005

 

December 31,
2005

 

March 31,
2006

 

June 30,
2006

 

September 30,
2006

 

December 31,
2006

   

(Unaudited)

Net service revenue

  $ 215,677   $ 215,208   $ 214,942   $ 237,989   $ 260,351   $ 247,994   $ 240,664   $ 271,046

Divided by weighted average number of customers

    3,059     3,250     3,329     3,432     3,929     3,914     3,908     4,078

Divided by number of months in the period

    3     3     3     3     3     3     3     3
                                               

ARPU

  $ 23.50   $ 22.07   $ 21.52   $ 23.11   $ 22.09   $ 21.12   $ 20.53   $ 22.16
                                               

 

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The following table sets forth a reconciliation of CCPU to cost of service.

    Quarters ended  
(in thousands, except
months and CCPU)
 

March 31,
2005

   

June 30,
2005

   

September 30,
2005

   

December 31,
2005

   

March 31,
2006

   

June 30,
2006

   

September 30,
2006

   

December 31,
2006

 
    (Unaudited)  

Cost of service (exclusive of depreciation and amortization)

  $ 77,094     $ 74,680     $ 76,414     $ 81,133     $ 75,515     $ 67,569     $ 68,260     $ 87,786  

Less: Cost of service associated with initial customer acquisition

    (1,833 )     (651 )     (629 )     (637 )     (357 )     (233 )     (424 )     (954 )

Add: General and administrative expenses

    55,128       60,419       73,274       66,168       71,618       70,133       72,576       74,087  

Less: Non-cash compensation expense

    (225 )     (202 )     (527 )     (521 )     (601 )     (989 )     (720 )     (253 )

Add: Net loss on equipment sold to existing customers

    4,487       5,151       7,034       5,619       7,429       7,632       9,739       13,242  

Add: Cooperative advertising expenses in support of existing customers

    1,077       895       811       1,837       1,068       972       898       (576 )

Add: Other (income) /expense, net of debt extinguishment costs

    (48 )     (20 )     (21 )     (33 )     (46 )     22       399       424  
                                                               

Total CCPU costs

  $ 135,680     $ 140,272     $ 156,356     $ 153,566     $ 154,626     $ 145,106     $ 150,728     $ 173,756  

Divided by weighted average number of customers

    3,059       3,250       3,329       3,432       3,929       3,914       3,908       4,078  

Divided by number of months in the period

    3       3       3       3       3       3       3       3  
                                                               

CCPU

  $ 14.78     $ 14.39     $ 15.66     $ 14.92     $ 13.12     $ 12.36     $ 12.86     $ 14.20  
                                                               

 

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The following table sets forth a reconciliation of total CPGA to selling expenses.

 

    Quarters ended  
(in thousands, except CPGA)  

March 31,
2005

   

June 30,
2005

   

September 30,
2005

   

December 31,
2005

   

March 31,
2006

   

June 30,
2006

   

September 30,
2006

   

December 31,
2006

 
   

(Unaudited)

 

Selling expenses

  $ 20,236     $ 24,168     $ 25,647     $ 21,430     $ 22,481     $ 23,133     $ 34,249     $ 33,455  

Add: Cost of equipment

    75,840       64,666       74,186       146,963       88,463       69,216       91,209       130,093  

Less: Net equipment revenue

    (33,308 )     (20,250 )     (23,715 )     (28,843 )     (19,824 )     (13,317 )     (30,330 )     (27,053 )

Less: Net loss on equipment sold to existing customers

    (4,487 )     (5,151 )     (7,034 )     (5,619 )     (7,429 )     (7,632 )     (9,739 )     (13,242 )

Less: Equity issued to a member

    —         —         —         (7,623 )     —         —         —         —    

Less: Cooperative advertising in support of existing customers

    (1,077 )     (895 )     (811 )     (1,837 )     (1,068 )     (972 )     (898 )     576  

Add: Cost of service associated with initial customer acquisition

    1,833       651       629       637       357       233       424       954  
                                                               

Total CPGA costs

  $ 59,037     $ 63,189     $ 68,902     $ 125,108     $ 82,980     $ 70,661     $ 84,915     $ 124,783  

Divided by gross additions

    668       492       556       950       621       432       667       1,294