Charter Communications Inc (CHTR) 2016 Q2 法說會逐字稿

Good morning. My name is Michelle and I will be your conference operator today. At this time I would like to welcome everyone to the Charter second-quarter 2016 investor call. (Operator Instructions)

I would now like to turn the call over to Mr. Stefan Anninger. Please go ahead.

Thanks, Michelle. Good morning and welcome to Charter's second-quarter 2016 investor call.

The presentation that accompanies this call can be found on our website, ir.Charter.com, under the Financial Information section. Before we proceed I would like to remind you that there are a number of risk factors and other cautionary statements contained in our SEC filings, including our most recent Forms 10-K and 10-Q. We will not review those risk factors and other cautionary statements on this call; however, we encourage you to read them carefully.

Various remarks that we make on this call concerning expectations, predictions, plans, and prospects constitute forward-looking statements. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ from historical or anticipated results. Any forward-looking statements reflect management's current view only, and Charter undertakes no obligation to revise or update such statements or to make additional forward-looking statements in the future.

During the course of today's call, we will be referring to non-GAAP measures as defined and reconciled in our earnings materials. These non-GAAP measures as defined by Charter may not be comparable to measures with similar titles used by other companies.

On today's call, we will also refer to pro forma results. While our transactions closed on May 18, 2016, these pro forma results present information regarding the combined operations as if our transactions had closed at the beginning of the earliest period presented, in order to provide a more useful discussion of our results. Please refer to the pro forma disclosures throughout today's materials, including the reconciliations provided in Exhibit 99.1 to our Form 10-Q filed today.

All growth rates noted on this call and in the presentation are calculated on a year-over-year basis unless otherwise specified.

Joining me on today's call are Tom Rutledge, President and CEO, and Chris Winfrey, our CFO. With that, I'll turn the call over to Tom.

Thanks, Stefan. On May 18 we closed our transaction with Time Warner Cable and Bright House Networks, creating a new Company with a bigger and a significantly more concentrated footprint, giving us the local and national scale to innovate and grow faster. Our high-capacity network now reaches nearly 49 million homes and businesses, and we have over 25 million residential and business customers in attractive markets.

Our ability to use mass media effectively has increased from approximately 50% of passings at Legacy Charter to the mid-90% range today. This gives us better local sales, marketing, and branding capabilities, service delivery and field operations efficiencies, and a greater ability to reach and serve medium and long-term -- excuse me, medium and large commercial customers.

The new scale will accelerate video and advanced advertising product development and deepen our wireless service offerings over time. There are also meaningful one-time transaction synergies which will prove higher than previously outlined. Nevertheless, the execution of Charter's high-growth, customer-focused operating strategy across a larger service footprint remains the largest contributor to shareholder value in our plans.

Since the close, we've found what we thought we would, and we put in place a single, centralized operating and financial control structure. We're standardizing our business practices and processes, including the IT service infrastructure, which will be completed over the next two-plus years as well as our products, pricing, and packaging across all of our regions over the next year. And finally, we'll continue to develop and launch new products and services which position Charter for long-term growth.

At closing, all of our employees were mapped to their respective business units and executives based on our operating model. Today, the bulk of our 90,000-plus employees remain in the field, inside our operating regions and call centers.

We've already begun in-sourcing efforts for the new Company. The process of in-sourcing will take several years and will require that we hire 20,000 people, train them, and equip them with trucks, tools, and test equipment, and house them in new and expanded facilities.

That process has already started, as we are building Charter's first Spanish-language call center in McAllen, Texas, with approximately 600 seats. Ultimately, with a more local workforce, we will perform higher-quality transactions with customers, which we expect will improve customer satisfaction, reduce transactions and costs, and extend average customer lives, thereby growing our customer base and cash flow efficiently.

In the fall, we will begin to rebrand Time Warner Cable and Bright House and launch our Spectrum pricing and packaging in a number of key markets, totaling over 40% of our acquired passings, with the remainder in the first half of 2017. On the small and medium business side, we'll launch the full Spectrum Small Business product pricing and packaging in TWC and Bright House markets in early and mid-2017.

In 2017, the all-digital project at Time Warner Cable and Bright House markets will use the Charter all-digital strategy, which uses fully functioning two-way set-top boxes with video-on-demand and advanced guide functionality on every TV outlet. We expect the project to be completed by 2018.

We will also extend our practice of performing electronic connections instead of physical truck rolls as we go all-digital, allowing us to fully scale our self-installation and self-service practices. Our plan is to have Spectrum Guide available in most Legacy Charter markets by the end of this year. We will launch Spectrum Guide in TWC's larger markets by the middle of 2017, and other TWC and Bright House markets following through the year, and likely continuing through 2018 as we complete the all-digital project.

Now that we're closed, we're running a WiFi network in public spaces throughout the country as well as on a widely distributed indoor terrestrial wireless network which, combined with MVNO opportunities and other wireless building blocks, should allow us to create products and services with a high value proposition. Over time, we'll have more to discuss on this subject.

Chris will cover the second-quarter results in more detail in a moment, but the overview is that Legacy Charter continued to perform very well in the quarter, with better subscriber growth than the prior year. And on a standalone basis through closing, Legacy Charter continued to show double-digit and improving EBITDA growth.

Bright House also improved its customer performance year-over-year. While Bright House has benefited from Frontier's acquisition of certain FiOS properties, it should be noted that because most of its footprint is in Florida it is subject to greater second-quarter seasonality than both Charter and Time Warner Cable.

Legacy Time Warner Cable is in better shape than just a couple of years ago, with growth in customer relationships. During the second quarter last year, Time Warner had a very aggressive voice promotion, making voice net add comparisons with this second quarter negative. However, our second-quarter pro forma results have to be seen in context, because they reflect the continuation of previous operating strategies, much of which are different from our plan.

Through different metrics and stages of development we can see that TWC and, more recently Bright House, had both become reliant on rate increases and retention offers, each of which has various short- and long-term and effects, including encouraging customers to initiate more transactions. We've addressed these types of issues at Legacy Charter and will do so at TWC and Bright House during the Spectrum pricing and packaging migration. Generally, though, we're very pleased with how TWC and Bright House managed the assets through closing.

Our pro forma total customer relationships increased by 173,000 during the second quarter compared to 54,000 last year, and our year-over-year pro forma revenue growth of 6.6% and pro forma adjusted EBITDA growth of 9% in Q2 demonstrates the health of our business.

We will make the necessary investments using the same approach we used at Charter to put the new assets on the right long-term growth strategy. The big difference today is that we have an established management team with experience running our operating plan, and TWC and Bright House are in better condition than Legacy Charter was four years ago. And we have meaningful transaction synergies which will help offset short-term effects and investments we need to make to create long-run operating momentum in the marketplace.

Now I'll turn it over to Chris.

Thanks, Tom. I'll largely focus on pro forma results, as comparisons to prior year actuals aren't helpful given the size of the transactions. Before going there, though, I think it makes sense to set the baseline for the new Company by walking back through the basic building blocks.

On slide 8 you should see a summary sources and uses statement for the transactions. On the left-hand side of the slide under sources you can see that the amount of debt that we issued for our transactions totaled approximately $23.8 billion, composed of $21.8 billion for the TWC transaction and $2 billion for the Bright House transaction. We also assumed approximately $22.5 billion principal value of TWC investment-grade debt already in place. And we issued approximately $33 billion in Charter stock to Legacy TWC shareholders valued at the closing date, about $10.2 billion to Advance/Newhouse in the form of preferred and common partnership units, also valued at the closing date, and $5 billion in stock to Liberty Broadband and Liberty Interactive in exchange for cash valued at the signing of the deals, all totaling about $96 billion in sources and uses for our transactions. Other than the impact of a higher Charter share price at closing, the sources and uses were essentially as we outlined at signing.

From the beginning, we carefully structured our transactions with TWC and Bright House in order to achieve a number of operating, tax, and financing objectives. By providing pari passu bank loan security to investment-grade bond holders, we now have access to virtually all pockets in the debt markets, including long-dated, low-cost financing without separate financing silos.

The debt we issued to finance our transactions was placed in the investment-grade market, the term loan market, and in the high-yield market. And as slide 9 indicates, our total debt outstanding now stands at just over $60 billion, compared to our June 30 market cap of approximately $71 billion. Our weighted average cost of debt is 5.5%, 87% of which is fixed with an average maturity of 11.5 years and close to 90% due after 2019.

Excluding the impact of purchase price accounting, which revalued assumed TWC debt to fair market value on the balance sheet, our total net debt to last 12-month pro forma adjusted EBITDA was 4.4 times. It was 4.2 times pro forma for year one run-rate synergy estimates.

Our target leverage range remains at 4 to 4.5 times, and we'll target the lower end of that range. We've also committed to remain at 3.5 times or below at the first-lien level or at CCO, and maintain eligibility for inclusion in the investment-grade index.

Given our EBITDA growth profile and positive cash flow, we expect to delever rapidly, providing us with excess capacity relative to our leverage targets. We could use that excess capacity in a number of ways. But in order of priority, we'll invest in our business, including areas that provide faster and more sustainable growth; pursue accretive M&A when available and ready; return capital to shareholders in the form of share repurchases; and if we had no better use of cash or determined it prudent to reduce our target leverage, we'll pay down debt.

Turning to our ownership structure, slide 10 shows as of June 30 public shareholders held 68% of Charter. Liberty Broadband and Liberty Interactive together have an economic ownership stake in Charter of approximately 19%. On an as-converted and as-exchanged basis of its partnership units, Advance/Newhouse held an economic stake in Charter of approximately 13% and had governance through its corresponding B share at the corporate level.

We currently have 13 Board members composed of eight unaffiliated Board members including: Tom, our Chairman; three Liberty-related Board members; and two Advance/Newhouse-affiliated Board members.

On the right-hand side of slide 10, you'll see that at closing Charter had approximately 270 million shares outstanding. However, including the impact of Advance/Newhouse fully converting and exchanging its common and preferred partnership units, Charter's outstanding shares totaled 311 million.

Those partnership units are exchangeable at any time, so it makes sense for investors to include those partnership units on an as-converted and as-exchanged basis when evaluating Charter's total equity value and most share-based metrics. Some outlets continue to only look at the outstanding shares, which drives large differences in reported market capitalization.

Turning to the presentation of our financials on slide 11, the slide lists some of the key transaction-related accounting items, some of which are one-time in nature. Starting with revenue at the top of the slide, our pro forma results eliminate a number of revenue items including, within Legacy TWC revenue, the management fee from Bright House that previously existed; and in consolidation, affiliate fees for the Dodgers and Lakers RSNs that TWC received from Charter and Bright House. Additionally, certain items like late fees, which were previously classified as contra expense at TWC and Bright House, have been reclassified into revenue at each legacy entity.

Turning to operating expenses, we've made the same revenue-related re-classes and mapped TWC and Bright House expenses into our operating model. We've also conformed accounting policies across the three Companies, with the largest difference being the level of capitalization at Bright House, as expected. For Legacy TWC, we also moved both gains from sale of fixed assets and noncash share-based compensation below adjusted EBITDA.

And under purchase price accounting we've posted a liability on our balance sheet to reflect an estimate of the out of market portion of TWC's RSN distribution agreement with the Dodgers. While there's no change to the cash payments, the P&L expense associated with the rights fee is already lower in Q2. That expense is included in the regulatory, connectivity, and produced content line on our P&L.

Below the adjusted EBITDA line there were also a number of items to note. For purchase price accounting, we stepped up the value of TWC and Bright House assets on our balance sheet to fair market value, including PP&E and customer relationships. As a result, the depreciation and amortization charges are and will be higher than the simple addition of historical D&A.

At closing, we also replaced TWC employee stock awards with Charter stock awards. The postclosing vesting of these awards increases stock compensation by reflecting the fair value of these replacement stock awards at closing instead of their original grant value.

We also booked a number of merger and restructuring expenses in the other operating expense line, including one-time contingent fees at close for transaction advisory, including legal M&A advisory at both TWC and Charter, and financing fees.

And employee severance expense is roughly $3 million, nearly half of which came from the accelerated vesting of stock at the now stepped up purchase price value. The rationalization of three corporate groups will likely take a year, and so we expect to continue to see severance in the other operating expenses line for several quarters.

Postclosing we announced a new retirement program across the Company which is designed to be competitive in the marketplace and give employees more control over their retirement funds through a higher defined contribution match. The Bright House defined benefit plan had already been frozen by Advance/Newhouse just prior to close and remains with Advance/Newhouse.

However, as part of the new retirement program at Charter, we recorded a one-time curtailment gain when we announced in June that we will freeze the TWC defined-benefit plan at the end of August. For those who are interested, this means using the ABO instead of the PBO when measuring the net liability.

Purchase price accounting also resulted in a step up in the value of acquired TWC debt to its fair market value as of the closing date. The premium between the fair value at closing and the principal amount will amortize over the remaining term of each tranche of debt, driving GAAP interest expense well below cash interest expense.

Our run rate annualized cash interest expense is $3.3 billion, whereas the Q2 pro forma P&L interest expense which [adjusted] $2.9 billion annual run rate.

We refinanced some existing Charter debt in the quarter, driving charges in the lost on extinguishment of debt line. The loss of financial instruments line reflects a one-time termination expense for TWC's interest rate swaps and a change in valuation of Legacy TWC British pound debt and related currency swaps.

Turning to tax expense, nearly all of the $3.3 billion valuation allowance against Legacy Charter's deferred tax assets was removed, given the greater visibility and certainty around the use of Legacy Charter's NOLs on our consolidated tax return. That drove a one-time tax benefit of nearly $3.2 billion in the quarter.

We're also now expensing a quarterly charge of approximately $38 million in preferred coupon for Advance/Newhouse's preferred partnership units. That charge is being reported on a separate line as noncontrolling interest expense, along with backing out that portion of consolidated net income attributable to Advance/Newhouse's common partnership units.

Finally, as you review our trending schedules keep in mind that all customer and passings data that you see are based on Legacy Company definitions. In a few quarters' time, we'll recast the customer data in the trending schedules using the same set of common definitions.

When we do that, the goal will be to recast all historical data as well. Until then, certain data like net adds and ARPU -- they remain relevant for legacy entity trends, but they are less helpful when comparing one entity to another.

Moving on to Q2, although second-quarter results really just reflect the sum of three different operating strategies, I wanted to provide some high-level commentary on our second-quarter customer and financial results on a pro forma basis. Total customer relationships grew year-over-year by 5.1%: 4.8% at TWC, 6.3% at Charter, and 4.1% at Bright House. During the second quarter, in which Bright House Florida seasonals amplify the normal second-quarter cable seasonality, we grew residential PSUs by 167,000 versus 201,000 on a pro forma basis last year. The lower year-over-year PSU net adds was driven by fewer voice net additions this quarter, in particular due to a low-priced voice offer in TWC markets in Q2 of last year.

In residential video, over the last year TWC was essentially flat on subscribers, Charter grew by 1% video, and Bright House lost 3.6%. Quarterly video net losses improved year-over-year at both Bright House and at Legacy Charter, while TWC's video net loss was 28,000 worse than last year, primarily driven by an increase in churn.

In total for Q2, we lost 152,000 residential video customers, of which about half came from normal video, normal Florida seasonal downgrades. That loss is an improvement to a loss of 170,000 total video customers in Q2 pro forma last year.

In residential Internet, we added a total of 236,000 customers in the quarter versus 157,000 last year. And our total Internet customer base grew by 1.6 million customers or 8.5% over the past year.

In voice, we grew customers by 83,000 versus 214,000 last year, really driven by the difference in offers in the marketplace at TWC and a higher amount of single-play Internet sell-in at Bright House.

Over the last year, total pro forma residential customers grew by 1.1 million customers or by 4.8%. Over the same period, residential ARPU was up by about 1%.

As slide 14 shows, our customer growth combined with our ARPU growth resulted in year-over-year pro forma residential revenue growth of 5.6%. Excluding pay-per-view revenue, which included the Mayweather-Pacquiao event in Q2 of 2015 for all three Companies, consolidated residential revenue grew by 6.3% and consolidated residential ARPU by 1.7%.

Total commercial revenue, SMB and enterprise combined, grew by 13.4%. At Legacy Charter we introduced new pricing and packaging in both SMB and enterprise last year, and we're seeing the significant increase in sales and net adds we expected. We intend to make similar changes to Legacy TWC and Bright House SMB and enterprise by next year.

Finally, advertising was up 3.9%, with political revenue growth accounting for about half of the $[15] million growth year-over-year.

In total, second-quarter pro forma revenue was up by 6.6% year-over-year, or 7.2% excluding pay-per-view. Looking at total revenue growth at each of our legacy companies including the effect of less boxing pay-per-view, TWC revenue grew by 7.2%, although excluding the recognition of revenue associated with settlement of a contractual dispute revenue grew by 6.8%. Legacy Charter grew by 6.7%, or 7% when excluding a one-time charge for customer credits in the quarter. And Bright House revenue grew by 3.3%, or 3.0% when excluding the benefit from the same settled dispute at TWC.

Turning to first-quarter operating expenses and adjusted EBITDA on slide 15, we've generally mapped all TWC and Bright House operating expenses to Legacy Charter's expense categories, although there will likely be some expense remapping in subsequent quarters. On a pro forma basis, total operating expenses grew by $326 million or 5.3% year-over-year, in line with total residential and SMB customer growth of 5.1%, with transition expense accounting for $25 million of our total OpEx this quarter.

Programming increased 7.5% year-over-year, driven by contractual rate increases, partially offset by lower pay-per-view cost. Looking at programming this quarter really is not that representative, as we had a mid-quarter closing that drove recurring benefits in the Q2 stub period, but we also had a number of one-time nonrecurring charges at Legacy Charter including some fees which were contingent on closing.

As a conforming accounting policy we've also re-classed ad buy obligations to ad revenue instead of contra expense to programming on the TWC side of the ledger. Net-net I expect our programming line item and year-over-year programming comparisons to be more representative on a pro forma basis by the end of this year.

Turning to regulatory, connectivity and produced content expense, these direct costs were virtually flat year-over-year and benefit from the purchase accounting adjustment made to the Dodgers contract that I mentioned earlier. Cost to service customers grew by 2.1% despite overall customer growth of 5.1%, which really reflects the significantly lower service transactions at Legacy Charter.

Other expenses grew by 8.5% driven by higher corporate and administrative labor cost, again on a pro forma basis including pre-closing bonus accrual true-ups, higher IT resources at Legacy TWC, advertising sales cost, and enterprise sales and labor cost, partly offset by overhead reductions which only started in June.

Adjusted EBITDA, which excludes noncash share-based compensation, grew by 9%. Excluding transition costs, adjusted EBITDA grew by 9.2%.

There were clearly a lot of moving pieces this quarter both from an accounting treatment perspective as well as nonrecurring items. But excluding that noise, the pro forma growth rate was probably more in the 7% to 8% range. And as we make the changes Tom laid out, there will be a lot of activity impacting the financials through different subscriber vintages until we have a consistent product and service across our entire footprint.

Bigger picture is Legacy Charter EBITDA growth for April and May without any synergy benefit was well into double-digit growth, reflecting the benefits of our operating model and what we intend to do with the larger set of assets long term.

Due to the mid-quarter closing of our transactions, there's little to talk about with respect to realized operating cost synergies in our Q2 results. We do, however, expect synergies to materialize in the second half of this year, and we'll highlight estimates of what's in the quarter going forward.

We've already concretely identified run-rate annualized transaction-related operating expense synergies of over $600 million by the first anniversary of close. We expect our initial synergy outline of $800 million per year by year three will be exceeded.

At Charter, we define transaction synergies as those which result purely from the combination of the Companies. They do not reflect operating synergies which come from operating decisions and investments that increase revenue and lower service transaction costs.

Turning to slide 16 where we show both pro forma and actual net income for the second quarter, our actual second-quarter income statement reflects Legacy Charter's results up to May 18 plus the results of the three legacy entities from May 18 through June 30. It also includes one-time expenses that are directly tied to the closing of the transactions.

Conversely, the pro forma P&L assumes the three legacy entities had been one Company and excludes one-time expenses and benefits that are directly tied to the closing of the transactions. The background I provided on purchase accounting earlier and the detailed schedule on slide 16 should help people understand the P&L down to net income on both an actual basis and on a pro forma basis.

On our actual P&L, the biggest driver of net income is clearly the one-time benefit of the valuation allowance for lease of $3.3 billion. With TWC and Bright House income, the timing and visibility of utilizing our NOLs on a consolidated tax return is no longer uncertain from an accounting perspective. The noncontrolling interest expense line will be a recurring charge on our income statement as long as Advance/Newhouse holds an interest in the partnership.

Turning to slide 17, pro forma capital expenditures totaled $2.1 billion including $111 million of transition capital expenditures. Excluding transition CapEx, our second-quarter CapEx was up by $137 million or 7.5% year-over-year, driven primarily by the TWC MAX all-digital initiative, what looks to be some pull-forward spend on CMTS and network routers at TWC preclose in the scalable infrastructure line, investments in product development at both Charter and TWC, which also falls into scalable infrastructure, as well as previous leasehold improvement and real estate investments at TWC including data center, warehousing, and head-end initiatives which were booked in support capital.

In Q2, excluding transition capital TWC spend capital of approximately 21%, Charter 18%, and Bright House 15% of revenue, respectively. Going forward, obvious we'll reduce the spend on IT, product development, and other areas which were by definition duplicative, and we should see a short-term benefit from the regrouping on the remaining all-digital projects as Tom outlined.

Slide 18 shows the actual free cash flow we generated in the second quarter and only reflects Legacy Charter's results through May 17 plus the results of the three legacy entities from May 18 to June 30.

Finally turning to our tax assets on slide 19, at the closing of our transactions, and as expected, we had a change in ownership as per Section 382 of the IRS code which re-restricted the availability of our NOLs. We believe the net present value of our tax assets was not impaired. The transactions create a larger base of taxable income, ultimately accelerating the utilization of our NOLs versus their utilization pace at Legacy Charter.

Today, we're providing a preliminary updated NOL availability schedule, which you can see at the bottom left-hand side of the slide. The chart shows we expect the vast majority of our $11.5 billion of our NOLs will be available for use by the end of 2018. As of now, we don't expect to be a material cash income tax payer until at least 2018, maybe not until 2019; and even then our cash taxes as a percentage of GAAP pretax income, excluding the impact of higher depreciation and amortization from purchase price accounting, should be below statutory rates for several years thereafter.

With that, I'll hand it back to Tom.

Thanks, Chris; thanks for getting that off your chest. Just a few final comments before turning it over to Q&A.

Since our closing on May 18 we've been working to integrate the three companies. While integrating three large companies comes with issues and execution risks, we're picking our way through those issues and so far we haven't seen anything that precludes us from being successful. Our track record at Charter over the last several years shows our operating model produces excellent economic value, and we'll make the right investments as quickly as possible to apply our operating practices on the new assets.

With our newfound scale comes additional opportunities unavailable to Legacy Charter, including cost savings and purchasing opportunities, product development opportunities, commercial services opportunities, wireless service opportunities, and more. And we're ready to exploit those opportunities in order to drive greater growth and value into our business.

Operator, we're ready for questions.

(Operator Instructions) Jessica Reif Cohen, Bank of America Merrill Lynch.

Thanks. I have two questions if that's okay. Tom, you alluded to wireless in your opening remarks, and as part of the merger you did receive Time Warner Cable's access to the Verizon MVNO. Has Time Warner Cable or you, Charter, notified them of your intentions to utilize that? And how do your rights differ from Comcast's, if they do?

I don't know exactly what's in Comcast rights structure, but I believe they are similar because they were created at the same time as part of the same transaction. And we have not fully exercised that right yet.

Anything you want to say on timing?

We're looking at what those rights are and how we'll execute or how we'll utilize them for the best benefit of the Company. But we don't have a plan yet that we're ready to roll out.

Okay. Then the second completely different subject, but given your new footprint, your new enlarged footprint and the scale that you get in much bigger markets, can you talk a little bit about -- you also alluded to this in your opening remarks -- the advertising opportunity? You mentioned addressable advertising. What are your plans, and where does this fall on your priority list?

Well, there's two parts of the scale that are interesting. One is, we're a much bigger Company, and if you just take the Charter growth strategy and apply it to a much bigger set of assets, and you do the same thing on those assets, get the same kind of growth rates, you create a lot of value.

But the other part of scale that comes out of this is that the footprint, the coverage of the DMA, and our ability to use mass advertising as well as sell advertising in the DMA is improved by the efficiency of our coverage of local markets. Meaning in historic terms, we're better clustered. So we have our ownership of assets by particular DMA more concentrated than we did at Charter.

That gives you two things. It gives you the opportunity to be a better seller of services and products; and it gives you the opportunity to be a better seller of advertising and targeted advertising and local products sold at -- on all the various platforms, the TV, the Internet and voice platforms, wireless platforms.

And it also gives you, from a commercial sales perspective, a more likely footprint to serve medium-size businesses and all the facilities those businesses pass or use within your footprint. So if you have a multi-site business, your ability to serve multi-sites with better footprint is improved, and so the commercial marketplace is also improved. So the whole footprint is more efficient.

Thank you.

Craig Moffett, MoffettNathanson.

Hi. I wonder if you could talk about the programming agreement step-downs that you've had. There have obviously been a couple of lawsuits.

Can you talk about what you anticipated in the relationships with your programmers, and what kind of response you've had from other programming partners with respect to stepping them down onto the Time Warner Cable agreement?

The nature of programming relationships hasn't fundamentally changed, and it's still a contentious contractual environment. But generally, we have good relationships with our programmers.

I think the litigation is part of the negotiation process in general, and it's going about what we thought it would go.

That's helpful. If I could just ask one additional, much more general question, you talked about that what you found so far doesn't change your confidence at all. But can you talk about any particularly big surprises you've come across as you've finally gotten inside of Time Warner Cable and Bright House? Anything that jumped out at you as I wouldn't have expected this, and there is either real opportunity or potentially some peril here?

I wouldn't say that I'm surprised by anything. We have a pretty good visibility into these businesses. I have managed Time Warner assets in the past; now granted it's 15 years ago. But for instance, I knew about seasonality in Florida, having managed those assets in the past with snowbirds and so forth.

And I would say that the pricing and packaging and the variability of offers is the most interesting opportunity to fix quickly. It creates a lot of activity and confusion in the marketplace, both for the consumer and for the employees of the Company. So I think having a more logical, efficient selling machine will cause a lot of activity to go away quickly. And there's a lot more complexity there than even I thought was there, all of which means there's more upside.

Bryan Kraft, Deutsche Bank.

Hi, good morning. I wanted to ask you if you could comment on how disruptive or not you expect the rebrand (technical difficulty) pricing and repackaging of services in the acquired operations to be to your subscriber and ARPU trends? Should we expect some noise in the numbers for a while?

And then separately, is there anything that you need to do that's significant to the plant and the acquired operations before you can deploy the Spectrum Guide? Or is that something that you can do fairly easily? Thank you.

Right. Look, the pricing and packaging is mostly done incrementally, but it does require you to retrain your workforce and to set up processes to provide the products that you want to sell. So we need to make sure that we have an advanced video product in every market where we launch pricing and packaging, that our data speeds can be taken up to where they need to be. It's logistically complex, but not that disruptive to the consumer.

What is disruptive to the consumer, though, is continued all-digital rollouts. That requires hardware going into consumer homes. About 40% of Time Warner assets are not all-digital currently and 50% of Bright House are not all-digital.

So those transactions are disruptive, more disruptive, but necessary in order to get you in a place where you have a superior product set relative to all your competitors.

If you look at the history of Charter and its growth rate, and its trending schedules, as you inquire about, they're a good proxy for what we expect to happen going forward in these new assets. The difference in these assets is that physically they are in better shape, so there's probably less capital required in them. But from a consumer perspective and driving revenue and driving consumer stats, the Charter experience is a good proxy.

With regard to your question on the Guide, yes, there are some issues around the Guide in rolling it out in the new assets. They have to do with provisioning systems.

So you have three different companies that talk to their hardware modems, voice devices, as well as TV set-top boxes and create the billing environment and the control environment around all of that hardware in the field, as well as the billing environment that goes over top of that. All those things are separate functions that have to be integrated and require an IT infrastructure over top of all of the existing legacies' structures to unify what products can go where.

The Guide to some extent has to wait for that physical infrastructure to get put in place. We think we can do that as we roll out the all-digital strategy, and we don't think it's gating or anything like that; but it takes time and it's complicated.

Okay, thank you.

Jonathan Chaplin, New Street Research.

Two quick ones, if I may. First, I'm wondering if you could give us a little bit more color on the higher churn you saw in the Time Warner Cable footprint, specifically for video.

And secondly on the synergies, Chris, I think you said by the time you hit your first-year anniversary synergies should clock in at about $600 million. Was that for that first-year period, or would that be the run rate in the second quarter of next year?

That's the annualized run rate by the time we get to the end of the first year: $600 million. You'll recall that I think originally we had said that was about $400 million at the time of the announcement of the transaction. If I remember, I think it was $500 million for financing purposes, so it's higher than what we expected it to be at run rate by the end of the first year since close.

Got it.

With regard to your question on higher churn, first, we weren't managing those assets through the quarter, most of the quarter. So we don't have a direct connection to what happened or is happening.

But it's really a function of the pricing and packaging and the way that the business has been marketed. Our view is that both Bright House and Time Warner pricing and packaging lend themselves to higher churn than the way Charter prices and packages. So until we get the business priced and packaged properly, we'll have churn rates in the legacy properties probably higher than Legacy Charter -- at least that's our expectation.

So as a result of that, our strategy is to change the way those businesses market their services.

So Tom, does that mean that you'd expect to see higher churn rates for the next several quarters as you get more of the base onto Charter-style packages?

And I guess as a second follow-up, it seems like the adds were a little bit worse year-over-year. So the churn rates were maybe higher amongst that base this year than a year ago on those kinds -- on the legacy Time Warner Cable packages, I'm wondering if you have any insights at this point into what could have driven that.

Jonathan, this is Chris. What you're getting at is actually really complex because of all the different transactions that are involved, but I'll try to simplify it a little bit.

There was a higher amount of churn at Legacy TWC in Q2. A lot of that was also coming from downgrades at the point where we had promotional pricing roll off.

That's a function of not having the highest-quality product that you could offer in place at the best price you could offer, and making it competitive in the marketplace, and not having a consistent way of rolling the pricing up at promotion, which means essentially that the product doesn't stick. So in terms of going forward, the more the base that you can get on pricing and packaging, the more sticky that base becomes, not only in the face of competition but also in the context of step-up in price.

But you're still exposed along the way to the legacy base that hasn't migrated to new pricing and packaging, as to what happens to them at roll-offs, what you allow them to roll off to, what retention offers you have in place, and how quickly you can either proactively or reactively migrate that base into the new pricing and packaging.

It's fairly complex, no different than what was done at Legacy Charter in the 2012 to 2014 time period. So we'll just manage through it the same way that we did then.

Thanks, Chris.

Ben Swinburne, Morgan Stanley.

Thank you. Good morning. I have one for Tom and one for Chris.

Tom, when you look at the new footprint you've got, a lot of broadband-only customers; I think something like 7 million-plus. How are you thinking about marketing video to them maybe in a way that hasn't been done before, either at scale or in the industry? Anything at this point that you're thinking about from a product offering or technology perspective to get at that opportunity?

And, Chris, if you go back to the expense growth in the quarter, I think you gave us pro forma growth for programming, cost of serve, and G&A and other of like 7.5%, 2%, and 8.5%. But there is a lot -- as you point out, a lot of moving pieces there.

Is there a way to think about either clean versions of those three numbers or even directionally whether the real underlying trend is higher or lower than these metrics you gave in the release? Just as we think about the natural cost growth trend of the business through the rest of this year, any color would be helpful if you had any.

Well, Ben, I think the biggest opportunity continues to be selling against satellite. If you look at those 7 million data-only subs, a substantial portion of them are satellite customers.

Yes.

And that has to do with the analog nature of the video product that the cable companies sell. And by going all-digital and using your two-way interactive platform, you can build a better video product than your competitors, in my opinion; which is why I think Charter is growing its video business year-over-year.

It's a slow process. The inertia is real in the marketplace. But I think Charter has turned the video business positively, and I think the same is possible in Time Warner and Bright House. But it requires the proper investment in a video product, which means you need a two-way product with an excellent user interface and all the functionality and features that you get from an Internet-type-like service with live, fully featured content.

So I think there's still lots of upside selling traditional MVPD products, that cable service, to customers who have broadband only. That said, there is an income issue with television. It's very expensive to buy the whole package; it's hard to sell smaller packages that resonate in the market and are sticky and satisfy consumers.

Various marketing tactics have been tried to skinny down the product. The problem is skinnying it down to the right place with the right package and satisfying people who are financially challenged. We'll continue to explore relationships with content companies to do that, but I also think that you can make a fully featured service more attractive and more worth what it does cost; and we can use that to drive into the marketplace.

Got it.

On the expense side, Ben, I don't want to get into the mode of providing guidance. But based on what I've already said, I think you can deduce a few things.

Going through the three categories that you listed, programming: we only had half a quarter, in essence, of Charter being in a closed status. And in addition to that, you had a number of one-time bad guys at Legacy Charter, some of which was contingent fees that are going to be paid on closing to programmers. So by definition that means that that result improves.

And going against that grain over time is that if you're putting a rich video product into the marketplace and you're selling more expanded, as Tom was talking about, that's not rate-based growth of programming, that's volume-based. That's accompanied by higher revenue in its turn. So we look at the transaction piece of that as rate versus volume.

The second piece that you highlighted was cost to serve, where the cost to serve is really benefiting from the significant operating synergies that exist at Legacy Charter as a result of having a simpler product in the marketplace, for customers knowing that when you step-up rate that is a fair rate. And not continuing to keep on calling in to do a deal reduces your call volume, reduces your churn. And in-sourced labor also being a key function as well.

And going the other way, so that's Legacy Charter, which is really helping the results, we're going to continue to in-source at TWC and Bright House. It's going to create some of the same pressures that we saw at Charter in the cost to serve line at the beginning as we in-source a labor force that needs to be trained up, and you have parallel outsourced resource in place while you're doing that. So it's going to be dynamic as we go.

For the other category, as I mentioned in the prepared remarks this includes corporate, advertising, enterprise. And particular from a corporate perspective a lot of the headcount reductions didn't really occur or begin to occur until June, and those will be continuing on for some time. So there should be some improvements in that line item on a go-forward basis.

That's very helpful.

And look, our goal here is, even if it costs us a little bit more by putting a richer product in place on programming, or whether it costs us more upfront to put in-sourcing in place for cost to serve and things like IT and whatnot, it's to generate operating leverage at the back-end by being able to scale it up-front and reduce transactions over time and make more of the revenue flow through to EBITDA.

Thanks a lot.

Operator, I think we have time for one last question, please.

Phil Cusick, JPMorgan.

Thanks. Chris, you stated before you've given Charter CapEx guidance. Can you help us with CapEx expectations for the rest of the year? Should we look for some growth slowdown in the next couple of quarters before an acceleration in 2017?

We're not going to be providing CapEx guidance. But I think the thing that is clear is that one of the big drivers for spend in the first half of the year on a pro forma basis -- again, it wasn't us managing the combined CapEx; we're just reporting on it today on a pro forma basis. But there was obviously the significant amount of all-digital activity that was continuing at TWC, and that will be largely put on hold as we put it in the Charter all-digital strategy beginning at the beginning of next year.

There was also some what I believe is pull-forward of good capital, but a significant pull-forward of capital around CMTS and routers and some of that type of activity. That should slow down a little bit as well.

But the danger in providing CapEx guidance or even expectations is, frankly, if we see the opportunity to go make an investment that's going to put the Company in a position to grow faster, then we're going to do that inside of a particular quarter or inside of a particular last 12 months or fiscal year. And our view on the trends of CapEx is that capital intensity will go down significantly once we get through the all-digital program.

But from a timing perspective, we see opportunities grow faster by investing quicker. Even though the total gross dollars invested may not be any different, we'll pull it forward as we need to. And we don't want to be beholden to slowing down the growth trajectory of the Company to meet what is, in our view, an artificial target.

So, no, we won't be providing an outlook for this year, but I think if you take a look at the way that we've managed capital in the past at Charter, it's meant to be efficient and to drive faster growth.

Even at the current CapEx run rate, it seems like you're delevering very quickly and could head to that 4 turns leverage range right around the end of the year. Is that a fair way to look at it?

And is there any reason you wouldn't be returning capital if you got to that point?

So now you're backing me into guidance. Look, the business is delevering at, call it, half a turn a year; that's what we expected. Even though CapEx was being spent at a more elevated level, and it included the duplicative portion of CapEx which is three different companies spending on IT and different types of product development and those kind of corporate expenditures, was being spent -- at least is 2 if not 3 times over. So that's another area that it should automatically get more efficient.

But yes, I think we're going to delever fast, and it's a first-class problem to have, as to where to deploy the capital, which is why I spent some time on it in the past couple calls and make sure people understand the priority of how we'll opportunistically deploy our excess free cash flow over time.

Thanks very much, Chris.

Operator, that ends our call. Thank you.

Thanks, everyone.

Thank you all.

Thank you, everyone. This concludes today's conference call. You may now disconnect.