Consolidated Communications Holdings Inc (CNSL) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to your Consolidated Communications Holdings Incorporated second-quarter 2011 results conference call. At this time, all participants will be in a listen-only mode, but later, we will conduct a question-and-answer session, which instructions will be given at that time. (Operator Instructions). And as a reminder, today's conference is being recorded.

And now, I'd like to introduce your host for today, Matt Smith.

Thank you, John. Good morning, everyone. Welcome to our second-quarter 2011 earnings call to review the Company's results that were released this morning.

Joining me on the call today are Bob Currey, President and Chief Executive Officer; and Steve Childers, Chief Financial Officer. After the prepared remarks, we will conduct a question-and-answer session.

I will now review the Safe Harbor provisions of the call and then turn it over to Bob. This call may contain forward-looking statements within the meaning in the Federal Securities laws. Such forward-looking statements reflect, among other things, management's current expectations, plans and strategies, and anticipated financial results, all of which are subject to known and unknown risks, uncertainties, and factors that may cause the actual results to differ materially from those expressed or implied by these forward-looking statements. Please see our public filings with the Securities and Exchange Commission for more information about forward-looking statements and related risk factors.

In addition, during this call, we will discuss non-GAAP financial measures. Our earnings release for this quarter's results, which has been posted to the Investor Relations section of our website, contains reconciliations of these measures to their nearest GAAP equivalent.

I will now turn the call over to Bob, who will provide an overview of our financial and operating results. Steve Childers will then provide a more detailed review of the financials. Bob?

Thanks, Matt, and good morning, everyone. This morning, as Matt said, I'll make a few comments about our overall performance and some important initiatives that we completed in the quarter, Steve will then review the financial results in some detail.

We're pleased with the second-quarter results. Revenue and adjusted EBITDA were $92.6 million and $45.9 million respectively. We generated another strong quarter of cash flow and a very comfortable dividend payout ratio of 55.1%. Our access line performance continues to be best-in-class driven by the stickiness and flexibility of our bundles.

For the quarter, line losses were 1.1%, resulting in a trailing 12-month rate of 4.1%. We increased our broadband subscribers by 1,785, or 1.3% in what is historically a seasonally soft quarter for the industry. We added 947 high-speed Internet customers. Our success in selling this product is an important component in increasing overall customer ARPU.

We're very pleased with the customer response to our recent bundling promotions, which include higher Internet speeds for a small price increase. We continue to see upside. With respect to IPTV, we had another solid quarter of growth with 838 subscriber additions, while delivering our second consecutive quarter of margin contribution from this service.

Increasing revenue per subscriber is a key component of the margin improvement and we have driven video ARPU higher by 15% year-over-year. Our strategic shift from a focus on subscriber growth to one equally balanced with profitability is working.

Finally, I want to discuss two key initiatives that we completed in the second quarter. First, we were successful in completing an amendment and extension of our credit agreement on June 8. We were very pleased with the execution and terms of the deal. We extended nearly 50% of our $880 million in term debt by three years from December of 2014 to December 31, 2017. In addition, we extended our entire undrawn $50 million revolver by nearly two and a half years to June 8, 2016.

Second, we realigned functional responsibilities and named a Chief Operating Officer in order to have a single group focused on the customer experience. We also formed a dedicated carrier service team addressing the growing opportunities in the wholesale and backhaul services. Our carrier team continues to execute new agreements for wireless backhaul circuits that now represent $2.7 million of annualized revenues.

And finally, as part of the reorganization, we identified $2.5 million of annual cost savings that will be implemented throughout the remainder of this year. These actions continue our continued path of generating significant free cash flows in support of our investments in the business as well as our return to our shareholders.

So with those comments, I'll now turn the call over to Steve for the financial review.

Thanks, Bob. And good morning to everyone. I'll review the financial highlights for the quarter and provide an update to our 2011 guidance. As Bob mentioned, we are pleased to report another solid quarter of results.

Operating revenue for the second quarter was $92.6 million compared to $95.7 million for the same period of 2010. Over half of the year-over-year declines accounted for were $800,000 in low margin revenue from the operator services business we sold in late 2010 and a $700,000 reduction from an access settlement recorded in the second quarter. The remaining $1.6 million decrease is attributable to declines in local calling, network access, long-distance and subsidies that were partially offset by the continued growth in data and Internet services.

Total operating expenses exclusive of depreciation and amortization were $56 million compared to $57 million for the same period last year. The current quarter included $2.5 million of transaction costs related to our refinancing and $500,000 in severance related to our restructuring.

Excluding these costs, total operating expenses improved by $4 million, driven by our continued focus on cost reductions and efficiencies, as well the elimination of costs related to the divested operator service business unit as I previously mentioned.

Net interest expense for the quarter decreased by $600,000 to $12.4 million compared to the same period of 2010. The improvement was driven primarily by a decline in our weighted average cost of debt from a lower LIBOR and lower rates on interest rate hedges. These improvements were partially offset by the 23 days in the quarter of higher rates on the extended portion of our amend and extend transaction. The extended portion of the debt carries a rate of 375 basis points plus LIBOR with no floor. The non-extended debt continues to carry a rate of 250 basis points plus LIBOR with no floor. The overall weighted average cost of debt in the quarter was 5.45%.

Other income net was $6.3 million compared to $6.6 million for the same period last year. The decrease is mainly due to lower income from our pro rata share of the earnings and our investments in Verizon Wireless, partnerships offset by $700,000 in a book loss and a disposition of a building, and other fixed assets in the second quarter of 2010.

As detailed on the adjusted EBITDA schedule of our earnings release, cash distributions from all five limited partnerships with Verizon were $5.8 million in the quarter compared to $6.5 million for the same period last year. Both the income and the cash distributions in the partnerships were negatively impacted by the subsidies and acquisition costs with the roll out of the iPhone, as well as the front loaded CapEx associated with the LTE buildout. We expect both of these developments to provide significant longer term gains.

Weighing all these factors, on a GAAP basis for the quarter, net income was $5.4 million and net income per common share was $0.18. This compares to $7 million in net income and income per share of $0.24 for the same quarter last year. The decline was primarily driven by the refinancing and restructuring costs as outlined above of $1.9 million, net of tax.

As illustrated in the adjusted net income and per share schedule on our earnings release, adjusted net income for the quarter was $7.7 million and adjusted net income per share was $0.26. Adjusted EBITDA was $45.9 million compared to $46 million for the prior period. Capital expenditures for the quarter were $10.7 million compared to $10.9 million for the second quarter of 2010.

From a liquidity standpoint, our cash in the balance sheet at the end of the quarter was $82 million, which was an increase of $28.4 million over the last 12 months.

In addition, our $50 million revolver remains undrawn. Pursuant to the amend and extend transaction and as part of our overall goal to delever, we will begin paying a 1% amortization on the principal amount of our debt in 2012.

For the quarter, our total net leverage ratio, as calculated in our earnings release, was 4.3 times to 1. Our leverage and coverage ratios were well within compliance, as well with other credit facility. Cash available to pay dividends increased $4.7 million to $21.1 million compared to $16.4 million for the same period in 2010.

Now let me provide an update to our full-year guidance for 2011. We are making no changes to guidance for capital expenditures or cash interest expense. Capital expenditures continue to be expected in the range of $38 million to $41 million and cash interest expense continues to be expected in the range of $45 million to $48 million.

In addition to the earnings impact from the refinancing, we are also increasing our estimates and the benefits of bonus depreciation, and as a result, we are improving our guidance on cash income taxes by $5 million. The new range for cash taxes is now $9 million to $11 million as compared to our previous guidance of $14 million to $16 million.

With respect to our dividend, our Board of Directors has declared the next quarterly dividend of approximately $0.39 per common share payable on November 1, 2011 to shareholders of record on October 15, 2011.

With that, I'll now turn the call back over to Bob for closing remarks.

So in summary, we're pleased with our results for the quarter and the successful completion of the two key strategic initiatives. We will continue our focus on sustaining a comfortable dividend payout ratio and increasing shareholder value.

And with that John, I'd like to open it up for questions.

(Operator Instructions). Dave Coleman, RBC.

Thank you very much. I just wondered if you could talk about the source of the $2.5 million of annual cost savings that you plan to implement in the second half of this year? And then you talked about fiber backhaul. It sounds like you are getting some contract wins in that currently $2.7 million of annualized revenues from wireless backhaul. I am just wondering based on signed contracts, what the annualized revenues would be compared to that $2.7 million? Thank you.

Hey, David, Steve Childers. Thanks for the question. I'll take the first one and Bob will take the second one on the wireless backhaul.

With respect to the $2.5 million in cost savings, the way I would describe it is we have $2 million associated with headcount adjustments. Bob talked about a realignment and restructuring in the second quarter, one functional responsibility. We had some people leave the business in the second quarter that's driving $500,000 in severance that I talked about. So we would expect it to be the $2 million annualized headcount savings. A little bit of it started late the second quarter, but you'll see most of it over the last six months, a year.

And then secondly, the $500,000 associated with us being able to get out of a current -- of a lease (technical difficulty), that starts July 31 of this year, again $500,000 annualized. It has been part -- really as part of our overall restructuring workforce consolidation, we were able to basically get out of (technical difficulty) relocate and consolidate those employees into other existing buildings in the Mattoon area. Again $2.5 million basically starting in the last half of this year.

And Dave, on the wireless backhaul question. This has continued to be a growth opportunity for us. There were 118 new ones signed this quarter that totaled $2.7 million in annual revenue. We now have a total of 190, and there's still approximately another 50 or 60 left in our markets that we're also getting and bidding on activities outside of our markets. So, we see it -- we like the business. We're able to perform, and it's a nice growth opportunity for us.

Great. And then as far as the credit facility, so I guess extensions, is there any restriction on use of capital with that? And I guess the base of my question is, your payout ratio is down in the low 50% range, I am just curious as to what you think the best use of your capital would be, whether it would be a dividend increase, debt pay down et cetera? Thank you.

Dave, this is Steve. I'll start and Bob might pile on, on this one. But as we think about the use of cash, I mean we're obviously doing a really nice job of building cash, $82 million at the end of the year. There are no restrictions on the use of capital within the credit agreement or at least any -- there are not any new ones. But the way we would think about it is, our first preference is to use that cash as dry powder with respect to an acquisition.

And then secondly, depending on how successful we are with that over the next 6 to 12 months, I think [we're getting] more aggressive on paying down some of the debt, get closer to our desired leverage target for the sub 4 times. So I think it's unlikely that you would see any kind of change in dividend policy in the next 6 to 12 months.

I understand. That's great. Thank you.

Frank Louthan, Raymond James.

Great. Thank you. Just quickly and I apologize if you have mentioned this, I had to drop off for a second. But just to be clear, I would assume that the dividend announcement from Verizon with Vodafone has no effect on you with regard to your partnership. Going forward, that should not be any kind of a concern.

And secondly, I wanted to touch based on the regulatory side, looking at the plan that was filed last week by some other companies in the industry, looking at reforming inter-carrier comp and USF, just curious on your thoughts on that plan. Any comments on whether you think that would end up being positive for you? Whether -- is there something that you would -- you otherwise would prefer? And if something similar to that were to be passed, would it -- how should we think about the way it would impact your financial situation? Thanks.

Yes, good morning, Frank. Let's take them in the order in which you asked them. On the wireless partnerships, just for history, those have grown at roughly 20% per year. And Verizon forecasted this year that in the first couple of quarters that the subsidies for launching iPhone would limit some of the payouts. But what we've already seen in July would tell us that -- on the payments for the third quarter would tell us that there will be growth in the third quarter over the second quarter.

So, as expected, as Steve said in his introductory comments, some front-end loaded CapEx for LTE and then the subsidy for the iPhone, and we're very optimistic based on Verizon that those will continue to show the nice growth that they have shown historically.

Regarding your second question on reform and the plan that was filed by the six largest price cap companies, as you know, reform, we've been working on this for more than a decade and there are some positive elements in this proposal. We were not part of the six, and frankly, we wish it had been more than just the six largest price cap companies.

There will be many more conflicting interest in players joining this debate, cable, CLECs, the PUCs at the state level, consumer groups, rural cellular. So there will be a lot of discussion and obviously the devils in the details. It's a bit early. And frankly, we don't have enough information. And unlike Congress, on the debt deal and healthcare, we want to take some time to understand this before we endorse it. We have attempted to model what we know today, even though we do not expect it to pass as it's currently proposed.

On the ITC side, Frank, there's a lot of pros and cons with the proposal as it would affect us. But based on the details that we know today and using those assumptions, let me try a little bit. The switch -- our switched access revenues are approximately $17 million to $18 million a year. And as you know from following us, they've been declining at 8% to 9% a year. The terminating side of that, which is where they are proposing to move to a [0007], that makes up about 57% or $10 million of our total switched access.

On the cost side, we get a corresponding offset of about $3 million to $4 million. So the net impact, as currently, and I want to stress that, with what we know, it would be $6 million to $7 million. There's also some proposed offsets in the plan, for instance, adding VOIP providers, cleaning up some arbitrage and adding [CLECs], which in some cases we'll have some opportunity, and others, we won't. But with those potential offsets in an already declining base of 8% to 9% a year, the impact over the transition period of five years should be completely manageable for us.

On the USF side, a lot more unknowns and moving parts, and it's really a bit early to try to quantify those. But just to refresh your memory, on the federal side, our subsidies are on pace to be around $25 million this year, which is a decline of $10 million from where we were just two years ago. But we've proven that we can manage the business around a declining subsidy base and I have a lot of confidence in this team that we will continue to do so.

I guess my last comment which has already been way too wordy for a very short question is that we plan as we have historically to be active in trying to shape the final agreement.

Okay, that's helpful. It's good to know your net exposure is that low. And then can you -- just one last thing. Can you just sort of give us an idea what you think the backhaul opportunity is? Any idea of the number of cell sites within your local territory or nearby that you may be able to bid on for additional backhaul opportunities? And you said you're about $2 million or $2.5 million of revenue on that. Can you give us an idea of where you think that can go over time?

Well, Frank, there's -- as I said, there's somewhere -- I don't have an exact number, but there's probably still somewhere around 40 or so in our territory. But the way these RFPs come out, you have an opportunity to also bid outside your territory. And with our CLEC and our transport network, we have an opportunity to build -- to augment those and take care of some of our business needs, but also bid on the tower opportunity outside our territory.

Hey, Frank.

Okay, great.

Hey, Frank, this is Steve. Just a slight modification. We think they're close to -- I think Bob inadvertently said 40. I think there's actually like 240 potential sites within our territory that we have the opportunity to bid on.

Okay. And where are you now as far as what you've got under contract? Any -- can you give us any color on sort of your percentage that you've hit so far?

190, Frank, that we have, and that's why I said 40 to 50 opportunities that we haven't handled, okay. So within the territory -- let me resummarize, within the territory, there's 240 opportunities -- towers. We have 190 under contract, so we have 50 more. But we also have an opportunity outside the territory where we see the RFPs and we have had some success with that in the past.

Great. Thank you very much.

Gray Powell, Wells Fargo.

Good morning. Thanks for taking the question. I just had a couple of them. So you guys continue to do a great job of controlling the cost structure. In the past, you've discussed plans to reach a target EBITDA margin of 50%, and you're now pretty close to that today.

So I guess I'm asking does this restructuring initiative change your outlook? And are there other cost initiatives to help you further improve margins?

Gray, this is Steve. I'll take a shot at it. As you know Bob -- this is a pretty hot topic for Bob. So I'm sure he'll have some opinions too. But for the quarter, we were 49.5% on the EBITDA margin, which we're quite pleased with considering the decline in revenue plus the fact the wireless dropped off a little bit. We are doing a good job, as you said, on managing our cost structure. We're really focused on increased profitability on video, seeing that move up.

And again, I think as we continue to press on enhanced product profitability on all products, not just video, continue to look at cost structure, not only as part of this re-organization, kind of the constant challenge that we have in the business, we do think there's some up -- as long as revenues can stabilize we think we can be in the high 40s, if not 50 on telephone operations there.

Okay. That's helpful. And then you touched on this. Can you just talk about initiatives that you're working on to help improve your video ARPU? And just how should we think about your ability to scale margins in that part of the business over the next couple of years?

Yes. Gray, that -- it's really a focus on the high value customers. Concurrently, it's also managing content, managing trouble, managing installation costs. So there are a series of activities, mostly around churn, reducing the churn and our churn is down 24% year-over-year, driving a higher ARPU. We've increased ARPU 15% year-over-year. And as I said on the last call, we have a company-wide initiative on our video product, both on penetration, profitability and trouble reduction.

And I couldn't be more pleased with the progress that we've made to date, particularly on the trouble and the profitability. We'll get a bit more focused on the penetration, but -- because we know we have a -- we've passed a lot of homes and our penetration is around 15%, and there's absolutely no reason that over the next few years we can't take that closer to 30%, which is where we are in some of our initial markets.

Got it. Thank you very much.

Michael Nelson, Mizuho Securities.

Thanks a lot for taking the call. Just if I can have, maybe to just start with a follow-up question for Steve. On the cost structure, again, I mean nice margin improvement in the quarter. I'm wondering how much of that was due to the cost cutting initiatives you've put in place? And out of the, I guess, $2.5 million you identified, how much came out in the second quarter?

I would say very little of that -- of the $2.5 million that I identified, I would say very little of that, maybe $50,000 to $100,000 came out in the second quarter. Because again -- let me break it up. The $500,000 I talked about for lease operating expense, that doesn't happen until July 31, so you'll see that starting then. The headcount reduction that we made in the second quarter started probably towards the end of the second quarter. So I think you'll see -- we saw a little bit of that -- we benefited from a little bit of it in the second quarter, but I think you'll see more of that in the last half of the year.

So I think what you saw on the first quarter -- or I'm sorry, in the second quarter EBITDA margin was 49.5%, I mean I really think that's kind of the buildup of all the things that we've done over the last couple of years, going back to the full integration of North Pittsburgh and continuing to consolidate all customer service, repair groups, things like that, functional work areas. But all the lease -- improvements we've made on lease video profitability, I think it's just a combination of a lot of things that we're starting to see some benefit from.

Great. So most of that $2.5 million is incremental opportunities from here?

I believe that's correct.

Great. And then I -- if I can ask a question on the access line performance, I mean you guys continue to generate some of the best metrics in the industry. I'm hoping you can comment on the trends you're seeing and sort of what's the primary driver for the performance, and do you think the year-over-year decline rate can potentially improve from here?

Yes, Michael. To your -- to the first part of that question, I've got to compliment our field force. You have good products, you give great service, and then the third thing would be the value of our bundle. I think those are the primary characteristics of reducing churn.

Absolutely, we forecast it will be in the low 4%. Obviously working hard to do better than that. And I think we talked last time about a credit policy change that we made on IPTV that there again is -- it has made a huge difference to date. And port outs are down 25% year-over-year. So, the bundling is working, the service improvement is working. And our product group turning out new products to fine tune to the competition, they all -- there's no one silver bullet. It's a series of initiatives, and blocking and tackling every day.

Great. That's helpful. If I could just ask one final question for Bob, just kind of the obligatory M&A question. It's obviously -- it's been a while since the North Pitt transaction, I'm wondering what are your current thoughts on M&A? And do you think that there's still a -- there's a wide bid/ask spread, or are there just limited attractive asset to consider? And also would you consider diversifying your asset mix, I guess similar to what a couple of your larger peers have done, or you're really solely focused on your traditional business?

Yes. Well, there's still a bit of a bid/ask gap getting much -- it's narrowing, let me put it that way. Obviously, we still believe that consolidation is going to continue and we'd like to be a part of that. As Steve said earlier, we really haven't changed our philosophy. We consider ourselves to be acquirers.

But, Michael, we've also widened the net just a little bit on what we would take a look at. Some of the cable properties are beginning to look more like telephone -- traditional telephone companies. We're certainly not going to do anything far from our core skills or where we think we can add value. But in the transport, a CLEC area that might make some sense, some verticals that are close to the businesses that we currently perform. But clearly the focus -- our preference would be an ILEC type operation maybe with some other ancillary businesses. We've been into some other things, as you are well aware of. We're not afraid of looking at those.

But again, the performance that we've had and the projections that we have out over the next couple of years where we don't have to do anything, we're not going to go out and dramatically change the focus of this Company. And we're going to continue to focus on the free cash flow and the security of that dividend for our current shareholder group.

Great. That's helpful. Good luck. Thank you.

(Operator Instructions). Donna Jaegers, D. A. Davidson.

[Thanks for] taking my question. On M&A, just adding on to the last question. Do you think that if this regulatory proposal goes through that that will sort of lower the ask price from some of the smaller mom-and-pops (technical difficulty) give you guys more opportunities?

Well, Donna, my flipping answer to that would be, I hope so. The flipside is, I think it's just a little too early, I think. But we'll have to see where it ends up and how it impacts individual companies, because it's going to have a different impact, the final result. And as folks look at that, there is a -- I wouldn't be surprised that there will be some people maybe concerned about their future under the new regime. But until that plays out, it's a little hard for me to speculate on that.

Okay. And Bob, just your general theory about -- I mean most of the properties that you bought, the Texas properties and the North Pitt properties, those were in good shape and have been invested in. Are you interested in fixer uppers?

I would be. I wouldn't exclude them, let me put it that way. It's always nice to have one that's in good shape. But it all gets down to the size, the location and the price. If you've got to put $300, $400 in CapEx per line, then you don't want to pay the multiples that you'd have to pay for a property that's been well maintained and is in good shape.

So, it's certainly on our radar screen. It's a criteria that we look at and evaluate, but we're not afraid of taking on, to your term, a fixer upper.

Okay. Hopefully you don't get burned like I have in buying housing fixer uppers on those. But --

Yes, exactly.

Yes. Don't buy old houses in Denver, not a good idea.

Okay.

On fiber to the tower, can you talk a little -- obviously if you're bidding in region on these, you already have some T1 links that go to those towers. Just broadly, can you sort of discuss the upside in revenues to you guys and the upside in -- or if any upside in margins versus cannibalization of the revenues that you have?

Yes. It's -- Donna, from the 240 to the 190 that we have, I mean I don't have a specific answer and if I had to wing one right now, I'd say there's a 20%, 25% upside, and that's just with the ones in territory. You have the potential for outside the territory.

I would also add though, and you're well aware of this, that with the explosion of bandwidth requirements there is a good opportunity that they will come back, and already have come back, requesting additional capacity. So, there's upside there. It's a great question. It's really not one that I've thought through and tried to quantify. But I certainly will this meeting that you prompted me to maybe think about it a little differently.

Yes. And then the special access revenues that you get now, I'm assuming that that's thrown in your access revenues. And can you just remind us what percentage of your access revenue special access represents?

It's in our -- it is thrown in to our access, boy, I don't have that number right off the top of my head. Steve, do you have the --?

I would say access in total is about 20% and special access would be, let's say one-third to half of that.

Okay. That's good enough. Great. Thanks, guys.

Okay. Thank you. And I'm showing no further questions in queue at this time. I'd like to turn the conference back to your host for any concluding remarks.

Thank you, John, and thank you all for joining us today. We appreciate your support and we look forward to you joining us again next quarter. Thanks and have a great day.

Ladies and gentlemen, this does conclude your conference. You may now disconnect and have a great day.