Cable One Inc (CABO) 2016 Q4 法說會逐字稿

Good day, and welcome to the Cable ONE CABO earnings report Q4 2016 conference call.

(Operator Instructions)

Please note that this event is being recorded. I would now like to turn the conference over to Kevin Coyle, Chief Financial Officer. Please go ahead.

Thank you, operator. Good morning, everyone, and welcome to Cable ONE's full-year and fourth-quarter 2016 earnings call. We're excited to have you with us this morning as we review our results.

Before we proceed, I'd like to remind you that today's discussion may contain forward-looking statements relating to future events and expectations. You can find factors that could cause Cable ONE's actual results to differ materially from these projections listed in today's press release and in our recent SEC filings.

Cable ONE is under no obligation and, in fact, expressly disclaims any obligation to update its forward-looking statements, whether as a result of new information, future events, or otherwise. Additionally, today's remarks will include a discussion of certain financial measures that are not presented in conformity with US generally accepted accounting principles.

Reconciliations of non-GAAP financial measures discussed on this call to the most directly comparable GAAP measures can be found in our earnings release or on our website at IR.CableONE.net. Joining me on today's call is our President and CEO, Julie Laulis. With that, let me turn the call over to Julie.

Thank you, Kevin. Good morning, and thanks, everyone, for calling in. I'm pleased to review several items with you today.

As a general overview, I intend to share Cable ONE's annual results, our fourth-quarter results, as well as some information about our previously announced acquisition of NewWave Communications. I plan on a touching on a few highlights. Then, Kevin will provide a full recap of our financial performance and get into more detail regarding the expected increase on our capitalized labor costs beginning in 2017, which we mentioned in our earnings release.

Before getting into results, I want to take a moment to share a bit of my background, since this is my first call since becoming CEO. I've been with Cable ONE for more than 17 years, most recently as President and Chief Operating Officer. I've worked closely with our Executive Chairman, Tom Might, during that time.

I'm looking forward to continuing his legacy of strong and innovative leadership. As CEO, I intend to maintain our heritage of pursuing long-term success for our associates, customers and shareholders by cultivating our unique strengths, one of those being execution. To that end, I am proud to lead our adaptive and dedicated associates as we continue our strategic shift toward being a residential HSD and business service-focused Company.

First, our 2016 results. 2016 was our first full year as a stand-alone public company. I believe our strong annual results reflect the execution of our strategy as well as our focus on growing adjusted EBITDA and margins while intelligently managing our capital expenditures. We grew total revenues by 1.5% in 2016, compared to nearly a 1% reduction in total revenue for the prior year.

We have passed the tipping point back to generating annual revenue growth. Our product mix change reflects our strategic shift, which can be seen in the fact that more than 54% of last year's total revenues came from residential HSD and business services.

Adjusted EBITDA for 2016 was almost $351 million, a 10.3% increase year over year. We grew our adjusted EBITDA margins by nearly 350 basis points. Meanwhile, adjusted EBITDA less capital expenditures rose almost 49% compared to 2015, driven by our adjusted EBITDA growth and our planned reduction in capital spending of over $40 million or 24.5% year over year.

Just a note about the fourth quarter. As we have cautioned before, our quarterly results may be uneven, and that is what we saw in Q4. This was largely due to our lack of regularly scheduled rate adjustments. To be clear, we implement our rate adjustments to optimize long-term results, not in an effort to smooth quarter-over-quarter comparisons.

As you may recall, we made a $5 residential HSD price adjustment in October 2015, and we turned the corner on that in Q4. We expect that quarter-over-quarter unevenness to continue. For example, in January 2017, we implemented a roughly $6 rate adjustment on residential video service, and we announced a similar rate adjustment of $8 for most business video customers in late February.

In both cases, the actual amounts of the adjustments vary depending on the customer's package. These rate adjustments are almost entirely a pass-through of the increased expenses being charged by the programmers. Ultimately, our focus remains on long-term performance through a combination of continued subscriber and revenue growth, along with sustained margin expansion, particularly for our faster growing residential HSD and business services products.

Let's talk a bit about our residential HSD service. In 2016, our residential HSD service continued to perform well. 51% of our total customers are now non-video customers, and more than 42% of total revenues were attributable to residential HSD. At the end of 2016, approximately 70% of our homes passed had access to GigaONE, our 1 Gb service.

Capital projects related to upgrades continue to ensure more than adequate capacity to handle what is now the fastest speed as well as the fastest standard speed of 100 Mb per second in a majority of the markets we serve. We pride ourselves on customer service and reliability, and the independent research we conduct continues to illustrate high customer satisfaction with our residential HSD product.

What about business services? Business services revenues grew 13% year over year, and customer growth was nearly 9% with both business data and phones showing strong positive trends.

In early January, we launched Piranha Fiber, which are marketing as Ferociously Fast Internet. It is a 2 Gb symmetrical internet service delivered over reliable, fiber-based architecture and shared bandwidth, which combines the most favorable attributes of coaxial and fiber networks. We look forward to offering this differentiating mid-market business services product in several new markets each year for the foreseeable future.

Lastly, on to M&A. In January, we announced the plan acquisition of NewWave Communications for $735 million in cash, which we expect will be a value-enhancing acquisition for our stockholders. NewWave operates in non-urban markets with a small competitive footprint very similar to Cable ONE. We believe NewWave will be a great fit because we have similar strategies, customer demographics, and products.

The purchase price represents a multiple of 6.6 times last quarter annualized adjusted EBITDA, after accounting for tax benefits and the realization of $24 million of estimated run rate cost synergies. NewWave has spent resources upgrading their infrastructure to include over 3,700 miles of fiber, positioning them well for future growth in residential HSD and business services. We think we are well situated to execute on those opportunities.

Together, Cable ONE and NewWave will serve more than 1.2 million PSUs and generate just over $1 billion in revenue. We expect the acquisition will be accretive on an adjusted EBITDA basis in 2017, while still preserving balance sheet flexibility. We expect the closing to take place in the second quarter of 2017.

Now, I'll turn it over to Kevin for more details on our 2016 numbers, as well as information on the accounting change related to capitalized labor going forward. Through our M&A activity and conversations with others in the industry, we realized that the cable industry overall was capitalizing more labor than we were. Going forward, our capitalization methodology will be similar to our peers.

Thanks, Julie. As Julie already mentioned, we were very pleased with the results that we achieved during 2016. First, let me share a few highlights from the year in the fourth quarter. For the full year, adjusted EBITDA grew by 10.3% with a margin of 42.8%. Adjusted EBITDA less capital expenditures was $225 million, an increase of almost 49%.

Residential HSD revenues increased by nearly 17%. Business service revenues increased by 13%. Residential HSD and business service revenues comprise now more than 54% of our total revenues for the year. Total revenues were almost $820 million compared to $807 million in 2015.

For the fourth quarter, adjusted EBITDA increased by 0.7% year over year, with a margin of 42.9%. Keep in mind that this increase was affected by the positive net impact of $2.3 million of certain insurance and other related benefits we had in the fourth quarter of 2015. Excluding the impact of these unusual benefits, which we highlighted last year, adjusted EBITDA would have increased 3.4% year over year.

Adjusted EBITDA less capital expenditures for the fourth quarter was $54.4 million, an increase of almost 161%. Residential data revenues increased by nearly 13%. Business service revenues increased more than 14%, and now residential data and business service revenues comprise over 55% of our total revenues. Total revenues for the quarter were $207 million, compared to $203 million in Q4 of last year.

Now, getting into the detailed results. For the full-year 2016, compared to the full-year 2015, revenues grew by $12.4 million, or 1.5%, with increases in residential data and business service revenues more than offsetting the decreases in residential video and residential voice revenues.

Residential data revenues increased $49.7 million, or almost 17%, due primarily to a rate adjustment taken in the fourth quarter of 2015, an increase in residential data customers, a reduction in some package discounting, and increased subscriptions to premium tiers.

Business service revenues increased $11.6 million, or 13%, and total business customer relationships increased 8.7% year over year, driven by growth in data and voice services, attributable to both small and medium-sized businesses and enterprise customers.

The decreases in residential video revenues of $37.9 million, or 11.4%, and residential voice revenues of $7.2 million, or 14.4%, were primarily attributable to residential video and voice customer losses of 12.4% and 12%, respectively, during 2016.

Operating expenses, excluding depreciation and amortization, as a percentage of revenues were 37.1% and 38.5% for 2016 and 2015, respectively, and decreased $6.5 million or 2.1% year over year.

The improvements in operating expenses were driven by lower programming costs of $9.9 million associated with the reduction in residential video customers, and these were partially offset by non-programming operating expense increases primarily from higher backbone and Internet connectivity fees of $1.9 million and group insurance of $1.2 million.

Selling, general and administrative expenses as a percentage of revenues were 22.5% and 24% for 2016 and 2015, respectively, and decreased $9.2 million, or 4.7%, due primarily to lower customer billing costs following the completion of our billing system conversion of $11.4 million, the reduction of salaries, wages and benefit costs of $7.3 million, and the reduction of general and workers' compensation insurance of $2.9 million.

These decreases were partially offset by increases in incentive compensation of $4.8 million, acquisition-related costs of $4.7 million, and marketing expense of $3.2 million. Other income increased $5.4 million in 2016, reflecting primarily a $4.1 million gain on the sale of a cable system. Interest expense almost doubled with a full year of interest incurred on the our borrowings under our credit facilities, compared to only six months of interest incurred in 2015 after our spin.

Net income increased $9.9 million, or 11.1%, to $98.9 million in 2016, compared to $89 million in the prior year, resulting primarily from improvements in our operating and selling, general and administrative expenses as a percentage of revenues, and the gain from the sale of the cable system I mentioned earlier. These were partially offset by higher interest and income tax expenses during 2016.

Adjusted EBITDA increased 10.3% to $350.5 million in 2016 compared to $317.7 million in the prior year. Capital expenditures totaled $125.5 million and $166.4 million for 2016 and 2015, respectively. Adjusted EBITDA less capital expenditures was $225.0 million, an increase of $73.7 million, or almost 49%, from the prior year.

Now, turning to the fourth-quarter 2016 results compared to the fourth quarter of 2015. Revenues increased $3.3 million, or 1.6%, due primarily to increases in residential data and business services revenues of $10 million and $3.3 million, respectively.

For the fourth quarter of 2016 and 2015, residential data revenues comprised 42.5% and 38.3% of total revenues, and business service revenues comprised 12.9% and 11.4% of total revenues, respectively. The increases in data and business service revenues more than offset the decreases in residential video and voice revenues of $5.9 million and $2.5 million, respectively, primarily attributable to customer losses year over year.

Operating expenses, again excluding depreciation and amortization, decreased slightly in the fourth quarter of 2016 and improved as a percentage of revenues at 36.3% compared to 37% in the fourth quarter of 2015. The improvements in operating expenses were driven by lower programming costs of $1.4 million associated with the reduction in residential video customers, and partially offset by an increase in group insurance costs of $1.2 million.

Selling, general and administrative expenses as a percentage of revenues were 23.5% and 21.9% in the fourth quarter of 2016 and 2015, respectively, and increased $4.2 million, or 9.4%. The increase was primarily attributable to higher marketing expenses of $2.1 million, professional fees of $2.1 million, and acquisition-related costs of $1.6 million, and partially offset by decreased customer billing costs of $1.3 million.

Net income decreased $1.7 million, or 6.5%, to $24.4 million in the fourth quarter of 2016, compared to $26.1 million in the prior-year period. The lower net income in the fourth quarter of 2016 was driven by higher selling, general and administrative expenses and depreciation and amortization expenses and partially offset by lower income tax expenses compared to the fourth quarter of 2015.

Adjusted EBITDA was $88.6 million and $88 million, and capital expenditures totaled $34.2 million and $67.1 million for the fourth quarter of 2016 and 2015, respectively. Adjusted EBITDA less capital expenditures was $54.4 million, an increase of $33.6 million, or almost 161%, from the prior-year period.

As I mentioned earlier, adjusted EBITDA growth year over year was affected by the positive impact of $2.3 million for certain insurance-related and other benefits recognized in the fourth quarter of 2015. Without these adjustments from 2015, EBITDA growth would have been 3.4% year over year.

Turning to liquidity. As of December 31, 2016, we had approximately $138 million of cash and cash equivalents on hand compared to $119.2 million at December 31, 2015. Our debt balance was $545 million and $549 million at December 31, 2016 and 2015, respectively.

Our leverage was low, as net debt to adjusted EBITDA was only 1.1 times at year end. We also had our $200 million revolving credit facility available for borrowing as of December 31, 2016. During 2016, we also repurchased 126,797 shares of our stock under our stock repurchase program at an aggregate cost of $56.4 million.

As Julie mentioned earlier, in January 2017, we announced the acquisition of NewWave for a purchase price of $735 million in cash. We expect to finance the transaction with $650 million of senior secured loans and cash on hand. This transaction is expected to be completed in the second quarter of 2017. Our financial capacity will allow us to make this acquisition and still maintain very favorable leverage positions. Our net debt-to-adjusted EBITDA, as I mentioned earlier, is currently only 1.1 times.

When we announced the acquisition, we mentioned that this leverage level would move to 2.9 times, but based on our change in capitalization policy that I will go over in a minute, our leverage will only be around 2.6 times, so well within the leverage parameters that we have discussed with the market before at 3.5 times.

Now, turning to the change in capitalized labor that Julie mentioned. In the first quarter of 2017 we changed our accounting estimate related to capitalization of certain internal labor and related costs associated with construction and customer installation activities. Historically, we did not have adequate information to identify and calculate all of the capitalizable labor and related costs, and therefore these costs were expensed as incurred.

In the first quarter of 2017, we have implemented systems and processes that allow us to more accurately estimate the amount of directly identifiable labor costs incurred on construction and installation activities. We anticipate that this change will result in an increase in capitalized labor costs in the range of $28 million to $33 million on an annual basis, resulting in a decrease in expenses and an increase in capital expenditures beginning in 2017.

To elaborate, this change is expected to reduce our operating expenses by the aforementioned range of $28 million to $33 million. It will therefore also increase our capital expenditures and adjusted EBITDA by a like amount and increase our adjusted EBITDA margin.

Net income is also estimated to increase in the range of $16 million to $20 million in 2017 as a result of this change, although the net income impact will diminish over the next several years because of additional depreciation. Meanwhile, adjusted EBITDA less capital expenditures will not be affected.

In conclusion, our solid financial performance continued in 2016, and we're very excited about our expected acquisition of NewWave. With that, operator, we are now ready for questions.

(Operator Instructions)

Philip Cusick, JPMorgan.

A few, if I can. First, congratulations on the NewWave deal. It looks like a great deal on a lot of measures. Can you talk first about the demographics in those markets, and how the Cable ONE philosophy on video pricing and broadband pricing and promotions fits or doesn't fit in the new markets?

And then second, can you talk about the discussion you may have had with the board around the dividend? Given that leverage still will be fairly low and you're generating a lot of cash, I'm a little surprised you didn't take the dividend up today. Any reason that did not happen, or was it not even a discussion? Thanks.

Phil, this is Julie. Talking about demographics in the NewWave area -- NewWave, as we have said, is like a mini Cable ONE. They're about a quarter of our size, and their markets are very similar to the ones that we operate in. They tend to be maybe a little bit smaller but they very closely match us.

They have also -- the team there at NewWave, a great team, has gone out with a similar strategy to Cable ONE, and they're focusing primarily on residential HSD and business services and pushing growth in that area. I don't think we're going to comment on how Cable ONE is going to price and deal with their promotions at this time, but we feel like we are positioned very well to capitalize on the work that the NewWave associates have begun.

This is Kevin. Your question on dividends -- the board and management continually look at all forms of capital allocation, whether it be dividends, stock buybacks, or M&A, obviously, that we just mentioned.

We will continue to look at it quarter-to-quarter, and we want to be disciplined in our approach to all three measures, but I really can't comment in terms of where we go with dividends. We feel comfortable where we are right now. We will continue to review it on a quarter-to-quarter basis.

Okay. Thank you.

Craig Moffett, MoffettNathanson.

This is actually Cathy Yao on for Craig. Julie and Kevin, you mentioned that you took your rates up by $6 to $8 across your footprint in January. Does that suggest that going forward you are planning to take up more rate increases across your entire footprint on a more a regular basis, once a year, versus once every five years?

And then within broadband more specifically, would you be able to disaggregate your growth expectations between higher-speed uptake versus rate uptakes? Then, as a follow-up to broadband, I was wondering whether a more deregulatory environment would allow you to be more aggressive in your usage caps going forward? Thanks.

Thank you, Cathy, this is Julie. To clarify, the $6 rate adjustment was taken on video customers in January. The approximately $8 rate adjustment was taken on some business video customers starting in February.

When it comes to rate adjustments, our strategy is to pass along all video cost increases. We will not have other products subsidizing video. I don't think that you can draw a conclusion about what we're going to do with other rate adjustments going forward. As a matter of fact, we've only raised HSD rates once since 2011, and we have never raised our phone rates.

But again, we will continue to pass along all video cost increases as that is part of our strategy. As far as disaggregating the HSD growth, I don't think I'll comment to that. Deregulatory, well, I think we are all looking and waiting to see what will happen, both with the Trump administration and possible tax changes, and the new FCC Ajit Pai. We have an established relationship with him, and we look forward to seeing what happens to Title II.

Okay. Thank you so much, Julie.

(Operator Instructions)

Stephan Bisson, Wells Fargo.

Good morning, I had a couple. The first, on the synergies for the NewWave acquisition are supposed to be $24 million annualized. When should that run rate be hit?

And then, on the capitalized labor, if we were to look at that $30 million in pro forma 2016, you guys would be closer to 20% on capital intensity. Is that how we should think about the new CapEx side going forward?

Stephan, this is Kevin.

On the synergies, as we said when we announced the NewWave deal, we believe that the synergies would be in the range of $24 million, and it comes from three different areas: from corporate overhead, from reduced programming costs, and other operational savings. Obviously, their margins are far lower than ours are because of our size.

These synergies will be realized over time. Some will be more immediate, some could take a couple of years. For example, programming savings would be realized as certain programming contracts come due, whereas some corporate overhead savings are expected to be more immediate. It is going to range depending on what kind of savings we are, we think we're being fairly conservative in our estimate here, but it will be over time.

In terms of our capitalization, I think you can do the math. Yes, if we had applied that range to our existing results in 2016, our capital as a percentage of revenues would have been higher. We ranged right where we told the market at 15%, $125 million of capital, but if you want to add $30 million to it, I think you can do the math.

And is that a decent run rate going forward if we were to think about it?

We hesitate to give guidance at the moment on that. We're taking a look at NewWave and a lot of things that are going on, and again, you will start to see these synergies -- the capitalization take effect in the first quarter of 2017.

So when we get around to seeing the actual change on capitalization in the first quarter and get a better sense on NewWave, exactly where we're going to be, I think we'll give some guidance. But I am really reluctant to give guidance right now on that.

Great. Thanks so much.

It appears that at this time we have no further questions. I would now like to conclude the question-and-answer session and turn the conference back over to Julie Laulis for any closing remarks.

Thank you, operator. I want to thank all of our Cable ONE associates for their commitment and caring. Each and every one of you contributed to making 2016 a very successful year for Cable ONE. We appreciate you joining us for today's call and we look forward to speaking with you again next quarter.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.