Consolidated Communications Holdings Inc (CNSL) 2018 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Consolidated Communications Holdings Inc.

Third Quarter 2018 Results Conference Call.

(Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to turn the conference over to your host, Ms. Lisa Hood, Treasurer and Vice President of Investor Relations.

You may begin your conference.

Thank you, and good morning, everyone.

We appreciate you joining us today for Consolidated Communications' Third Quarter Earnings Call.

On the call with me today are Bob Udell, President and Chief Executive Officer; and Steve Childers, Chief Financial Officer.

After our prepared remarks, we will open the call up for questions.

Please review the safe harbor provisions in our press release and in our SEC filings.

Today's discussion includes statements about expected future events and financial results that are forward-looking and subject to risks and uncertainties.

A discussion of factors that may affect future results is contained in Consolidated's filings with the SEC, which are available on our website.

Today's discussion will include certain non-GAAP financial measures.

Our earnings release has been posted on the Investor Relations section of our website at consolidated.com.

It includes reconciliations of these measures to their nearest GAAP equivalent.

With that, I will turn the call over to Bob Udell.

Thanks, Lisa, and good morning, everyone, and thank you for joining Consolidated Communications' third quarter call.

Our business has performed well, and I am pleased with our third quarter results.

First, I will provide an update on the consistent and strong results we are getting from commercial and carrier as well as an update on consumer revenues, and what we are doing to improve the customer experience in the Northern New England markets.

I'll then provide an update on integration and synergies.

Within our commercial and carrier channels, we have grown data and transport revenues more than 2% year-over-year, with a 7% increase in ethernet revenues as the largest catalyst contributing to this growth.

Now let me explain how we do this.

We have a very effective sales process known as Consolidated Ignite, where we focus on growth through solutions-based selling in all of our markets.

This creates the catalyst for expanding our fiber networks.

Sales opportunities requiring less than $100,000 in CapEx investment are decided on regionally, while those requiring capital above $100,000 go before a capital committee led by our CFO and CTO.

This process has enabled us to increase metro ethernet circuits by 14.5% year-over-year in our legacy and Northern New England markets combined.

Commercial cloud voice connections have grown 6% year-over-year, as we migrate our customer base from traditional voice to higher-value unified communications services.

All of this has allowed us to expand our robust fiber network by more than 1,000 fiber route miles organically and add over 1,200 on-net buildings year-over-year.

A few of our third quarter commercial sales successes include a 3-site cloud voice deal with MPLS, managed routers and just under 800 SIP trunks for a nationwide collections agency; and also a 9-site cloud voice and SD-WAN sale for a regional bank; and in Northern England, an enhanced switched ethernet solution for a very large national food products company.

I share these examples as they demonstrate the benefits of our expanded product suite and the services that commercial customers can receive from us throughout our footprint.

In the past quarter, we added On-site Secure, a fully managed data security solution for our Northern New England markets.

We launched our BusinessOne service for small and medium business customers, providing a competitive voice and data offering.

Additionally, we expanded our advanced unified communications solution, known as ProConnect, offering businesses more tools to increase productivity and efficiency.

Looking at the carrier channel, we continue to have success within the wireless sector and are well positioned within our diverse fiber network across rural and suburban areas.

In addition to upgrades resulting in higher monthly recurring revenues, we increased the number of wireless carrier fiber connections under contract by 2% on a sequential quarter and 7% year-over-year.

Our pipeline of over 250 connections pending install creates a sustained contribution to future revenues as these connections typically carry terms between 48 and 60 months.

Turning to our consumer channel, I am pleased with our progress, increasing broadband speeds in all of our markets.

While the revenue performance in legacy Consolidated areas has been positive, we can do better with the results in our Northern New England territories.

Let me tell you what we are doing about that and why we remain excited about the opportunity in these markets.

As bandwidth demands increase, we've made delivering faster speeds a number one priority.

In the recent quarter, we have increased speeds to an additional 159,000 homes and small businesses, including 151,000 passings throughout Northern New England.

This brings the total upgrades in Maine, New Hampshire and Vermont to 365,000 year-to-date, and we are on track to upgrade speeds available to over 0.5 million addresses by year-end.

Overall, customer broadband revenue increased $1.3 million or 2% when compared to the second quarter of 2018 and was flat year-over-year.

Now let me break this down for you.

Legacy Consolidated broadband revenues increased $1.2 million or 4% compared to the third quarter a year ago.

The increase is largely due to the growth in average revenue per unit associated with speed increases.

Overall, we are seeing positive growth in faster speed tiers due to our network upgrade strategy.

In the former FairPoint markets, broadband revenues declined approximately $1.2 million as compared to a year ago.

However, we are pleased to report that broadband revenues increased in the third quarter of 2018 by $500,000 or 1.6%.

Now while we are encouraged by this increase, we know that we'll begin to see some headwinds as our seasonal customers in Northern New England migrate south during the fourth quarter.

Let me be clear.

We have been able to readily create demand for broadband in our Northern New England markets.

The high volume of orders generated by our rebranding earlier this year and our widespread network expansion put pressure on our back office, extending installation intervals.

As a result, we did suspend marketing in Northern New England and focused on the reengineering of processes to improve our ability to meet predictable installation intervals for customers.

While the demand for our broadband is a good problem to have, our hallmark of providing a good installation and service experience is important to long-term customer relationships.

So here's what we're doing about it.

We are leveraging call centers we have now virtually integrated across multiple regions of now the combined company.

We've augmented field resources with contractors to improve installation intervals and deliver on-time customer appointments.

As a result of these changes, we are excited about the future outlook to grow consumer broadband in these markets.

Regarding integration, with the labor agreements now finalized, we now have an even higher level of confidence in our ability to improve the customer experience and gain operational efficiencies.

We remain focused on integration and its associated projects.

We will achieve a revised synergy target of $75 million within 2 years of closing.

And at the end of third quarter, we've recognized over $52 million in cumulative run rate synergies, which is ahead of our original plan.

We continue with our disciplined and proven approach to integration.

Now before I turn it over to Steve, a few additional points.

We extended our fiber network and broadband services to a suburb of Houston, bringing the latest fiber technology in 1 gig speeds to over 350 small businesses and eventually expanding to over 500 -- 5,000 additional residents.

I am proud to say, today we paid our 53rd consecutive dividend.

And I'm pleased to announce that earlier this week our board declared our 54th quarterly dividend.

Our dividend payout ratio is right on plan, despite increased construction activities during the second and third quarters for commercial fiber builds, turn up of new wireless tower connections and consumer broadband upgrades.

With that, I'll now turn the call over to Steve for the financial review.

Steve?

Thanks, Bob, and good morning to everyone.

Today I'll review our third quarter financial results compared to the same quarter last year.

Operating revenues for the third quarter were $348.1 million, down 4.2% from last year.

After adjusting for the divestiture of our Virginia properties, revenue decreased by less than 4% year-over-year.

Now, let's take a look at each one of our customer channels.

In the third quarter, total commercial and carrier revenue decreased $1.6 million or 1%, the primary driver of decline of services revenue being down 7.7%.

We continue to demonstrate consistent growth in data and transport as these strategic revenues increased $2 million or 2.3%.

Legacy Consolidated data and transport service grew 4.3% or $2.2 million, while FairPoint markets decreased less than 1% or just $246,000, and we are showing positive momentum.

As price compression continues to abate, we are investing in our fiber network and adding new business-centric products.

We expect the commercial and data revenue to continue to stabilize and grow.

Finally, in commercial, other revenues increased $540,000 due to equipment sales and special projects.

Consumer revenue was down $8 million for the quarter.

Voice revenues were down $6.5 million, with the majority of the declines coming from the former FairPoint markets, while video revenues, consistent with our strategy to encourage our customers to transition from linear video products to over-the-top streaming content, declined $1.6 million for the quarter.

Consumer broadband revenues increased $1.3 million sequentially from the second quarter and were basically flat as compared to the third quarter of 2017.

Subsidy revenues were down $1.7 million, mainly due to the final annual step down of CAF-II transitional support.

Network access revenues declined $3.1 million for the quarter.

Operating expenses, exclusive depreciation and amortization were $238.5 million compared to $239.5 million for the third quarter of last year.

Cost of services and products increased $4.6 million, primarily due to increased business system sales in the current period combined with new recurring circuit and colocation costs as a result of growth in commercial data and transport revenue.

SG&A costs decreased $5.6 million during the quarter.

We are realizing synergy and operational efficiencies associated with the FairPoint merger.

These savings are being offset by $3 million in severance charges recognized as a result of the union negotiations.

In addition to the benefits of the (technical difficulty) 2019.

Net interest expense for the quarter was $33.5 million compared to $36.3 million for the third quarter of '17.

The decrease was due to the recognition of a $5.8 million bridge commitment fee related to the FairPoint acquisition financing in the third quarter of 2017.

This is being offset by increases in LIBOR and costs associated with the hedge agreements we used to convert a portion of our floating rate debt exposure to fixed rate for approximately 75% of our total debt.

Cash distributions from the company's wireless partnerships were $8.1 million as compared to $8.6 million a year ago.

Adjusted EBITDA was $133.7 million compared to $137.4 million in the third quarter last year.

The year-over-year change is primarily due to revenue declines and declines in wireless distributions offset by synergy realization.

In the third quarter, CapEx was $61.9 million.

The third quarter CapEx spend was elevated due to work on broadband upgrades and fiber spend associated with commercial sales and turning up new wireless fiber connections sold during 2018.

Total liquidity, including cash on hand and availability under our revolver, was approximately $98 million.

For the third quarter, our total net leverage ratio was 4.3x.

We have an attractive capital structure, a low cost of debt and no maturities until 2022.

Cash available to pay dividends was $39.5 million, resulting in a dividend payout ratio of 69.9% for the quarter.

Now, turning to financial guidance.

We expect cash interest costs to be in the range of $123 million to $128 million.

Cash income taxes are expected to be $1 million to $3 million, and we do not expect to be a federal cash income tax payer until 2023.

We are updating our capital expenditure guidance to be in the range of 200 -- $240 million to $245 million in part due to Hurricane Michael recovery efforts and success-based capital projects.

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

Thank you, Steve.

In closing, we are pleased with our third quarter results and confident in our position as we realize even more benefits in the second year following the FairPoint acquisition.

We are focused on a seamless integration and achieving increased synergies as we combine the companies.

We're realizing the financial, operational and capital structure benefits of the combination, and we remain confident in our planned strategy to invest in our network, deliver results and return value to our shareholders.

Thanks for taking time to join our call today.

We'll now turn to taking questions.

Kyle?

(Operator Instructions) Your first question comes from the line of Jon Charbonneau from Cowen & Company.

How do you recommend we think about the decline within your consumer business in the fourth quarter, especially given typical seasonality in the FairPoint markets?

And then in terms of our models, how do you recommend we think about the timing of the remaining expected FairPoint synergies over the next few quarters?

Jon, this is Steve.

I think that the way to think about it for fourth quarter, we do have -- as Bob mentioned, we do have some momentum in the Northern New England markets with respect to broadband and net adds.

But to your question, we do expect to start seeing seasonality again in the fourth quarter.

Last year you might remember that we talked about the in -- the financial impact on fourth quarter revenues was roughly about $2 million, split equally between voice and broadband.

And again, that might -- hopefully, that's a little bit high, but that's how I would think about it for your model going into fourth quarter.

And I'll add, Jon.

The boxing of that or the limiting of that impact has been affected or addressed by introducing suspend -- online suspend alternatives versus the past FairPoint process of allowing them to disconnect and then putting them through the reconnect process.

So we've got a pretty aggressive campaign in getting to those folks through the call centers to advise them of the alternative to go on suspend service; keeps a little bit of revenue, allowing us to keep the account open and makes the turn on in the spring or in the summer a lot more efficient.

Great.

And then the timing of the remaining FairPoint synergies?

Yes.

To the synergies, I think that's a 2-year number and with the 52 accomplished this quarter, I think you could ratably divide it across maybe a little -- no, you could probably ratably divide it across the upcoming 2 quarters -- 3 quarters, I guess, Jon.

Your next question comes from the line of Mike McCormack from Guggenheim Partners.

Maybe just a comment on the pricing environment for broadband, what you're seeing out there, obviously, in your upgraded markets.

Whether you have better pricing power, I assume you do?

And then just more competitively, I guess, thinking about wireless substitution as a provider of broadband, and I think that threat could grow over time, but your thoughts around that would be great.

Yes, let me start with the wireless substitution, and then I'll come back to the pricing.

The markets we serve are predominantly suburban at best and then Tier 3, Tier 4, what you might call rural.

And so we feel like we're in a very good position to maximize the benefits of 5G buildout when it gets to us.

And we're working with the wireless carriers in ways that can allow us to benefit from building the towers, passing additional commercial opportunities in terrestrial neighborhoods with terrestrial fiber to build out broadband.

And so as that continues to unfold, we're staying very close to it.

We've had -- we got the opportunity to support some of the early markets as a subcontractor in the West.

So I really don't see that yet as a significant competitive threat.

I think it's going to be more of an evolution.

And in fact, on CAF-II obligations, we've been using fixed wireless, kind of a pre-5G alternative, in some of the hard-to-build areas in Northern New England as a way to meet our CAF objectives for buildout and that's helping on the capital deployment front.

With regards to pricing, most if not all of our competitors -- and we have a diverse set of competitors from Comcast, Charter, Armstrong in Pennsylvania, Mediacom, just to name a few -- and they've been rational.

And so from a broadband perspective, we have a periodic price increase that occurs when content costs go up and -- bundled with video.

And we also, as we upgrade customer speeds and entice them to make two speed tier jumps, we see a moderate ARPU improvement, like we're demonstrating this quarter.

So I think pricing is relatively rational, and I think we're well positioned to be competitive.

Your next question comes from the line of Michael Rollins from Citi.

Just two, if I could, one just follow up.

As you think about your use of fixed wireless and the potential for others to use it over time, as you were mentioning it might be an evolution, just trying to conceptualize, like, what the risk is to your broadband business, if others can use that in your footprint over time to try to take share?

And then the second question, I'm curious, and just an update, if you were to think about long-term, call it, 5, 10 years, where you want to take your broadband footprint to in terms of speed and capability.

Can you give us maybe a sense of that and maybe what type of costs that you're looking at to achieve those aspirations?

Mike, the way to think about the evolution of broadband, at least the way we think about it is, we watch the actual utilization of our customers and study that with our industry brethren through SCTE and through our telecom associations, USTelecom.

And so our average utilization view is in the 11 to 12 peak still, and it continues to eke up a little bit, especially when new devices come out that allow people to view HD videos.

And so we're watching that carefully and our sweet spot is in the 25 to 50 meg range, and where possible, we're driving customers to 100 meg in order to keep ARPU going the right direction.

And so across our markets, we're constantly investing and extending the fiber footprint, passing more and more addresses.

The buildings passed or connected increase of 1,200 is a perfect example of that.

And that's continuing on the consumer and residential side as well.

So 5 years from now, I think we'll have a significantly higher number of homes connected directly to fiber.

And that continued evolution will track with what we see as bandwidth -- average peak bandwidth utilization of our end customers.

What part of his question -- your question did I just miss?

I guess, in terms of the costs.

Do you want to get to, let's say, Charter or cable companies in general, seem to be launching hundreds of megabits of broadband to the homes.

So (multiple speakers)

Let me address that.

All bandwidth isn't created equal.

And cable architecture will typically upsize the bandwidth that customers take because of the way the architecture works, and I know many people understand that and customers are getting savvy to that.

And so our dedicated port approach allows us to manage capacity in busy hours a lot more efficiently.

We operate a cable TV network in Kansas City and have continued to educate ourselves on what it takes to manage the busy load there.

And DOCSIS 3.1 certainly helps, but you have to upsize the customer's take way beyond what they actually utilize in order to stomach the peak hours when they occur.

And so that's the starting point.

We're very good from a quality of service, and we've been rated very high on delivering the bandwidth we say we're going to deliver.

And I think that ability to stay in front of that allows us to spend thoughtfully.

There's no doubt we want to get to fiber to every home, but consumer is a scale component for us.

The real return on best investment continues to be commercial and carrier, and that's where we continue to show broadband and data and transport revenue growth.

Your next question comes from the line of David Tawil from Maglan Capital.

Just a couple questions.

First of all, it seems that the company is getting quite close to one of the holy grails of wireline telecom, which is top line stability.

Do you guys foresee sometime in the near future of being able to get to either revenue being flat on a quarter-over-quarter basis or even growth?

David, that's kind of the forward-looking statement that's hard to answer, but let me approach it this way.

We're feeling really good about the commercial and carrier progress and that's moved, especially in the FairPoint markets, from a recovery perspective faster than we expected.

And yet we all had to kind of settle into a new world order as it comes -- as it relates to wholesale and wireless backhaul per site pricing that was precipitated from the unlimited data moves that were made over the last few years.

So it's a crystal ball question and what I can tell you is, I feel ever more confident in our ability to, at this scale, play for our fair share or more on carrier revenue.

I feel very confident in our CCI Ignite commercial sales process and strategy, and I'm getting increasingly more confident since (technical difficulty) the labor agreement that we came to terms with for the CW and the IBEW and our ability to deliver growth in the consumer space, consumer broadband space.

And just to put a final point on that, the work rules flexibly that we achieved broke loose our ability to really get back to basics and put a collective team approach of selling, provisioning and installing the consumer customer in Northern New England, and our initial trials show a 4% lift in 2 weeks of just targeting an area of 3,200 homes.

So we have an average penetration -- it's a long way to answer the question, I realize, but we have an average penetration in Northern New England of just under 15%, with some of the markets that we have 100 meg capability in being at 3% or 4% penetration of -- or neighborhoods, I should say.

We've got real upside opportunity on the consumer front in Northern New England, and that's why we're taking the time and being diligent on fixing the process so we can do it the way we know represents our brand well.

So overall, can I tell you what quarter that happens in?

Well, we have models that estimate that.

I really can't give you that advice.

But I can tell you that the trend lines you see in this quarter's results, consistent with the context we're giving you, make us pretty bullish.

Perfect.

The end of that answer dovetails well into the next question that I have.

With regard to the increase in CapEx guidance, can you give us a sense of what percentage is opportunistic and what percentage is hurricane related?

And then on the opportunistic side, what's the company's kind of return target on those CapEx dollars?

The way to look at that increased CapEx, and we really contemplated how deep to get into the new projects that drove that.

If it were the hurricane only, we probably wouldn't have changed guidance, but I would say it's 50-50.

The -- let me box the hurricane, and I didn't comment on that.

We've had a wonderful response and we've set technicians from Pennsylvania and from Texas and had an excellent -- and management from Northern New England as well.

We've had an excellent report card from Department of Homeland Security and from the Governor in Florida.

And it was -- it's a significant, devastating situation, but in the whole scheme -- for the residents there, but in the whole scheme of our financials, it's less -- the total revenue from that region is less than 2%.

And only 20% of the customers there were impacted and they're quickly moving back in, asking for service, so they can restore their situation.

But some will take very long.

So the way to think about that is it's going to be a long road to recovery.

So I don't see all the money being spent at once, and I don't think it will be noticeable financially.

On the project front, we have a capital committee, as I said in the prepared remarks, that meets frequently, in our case, every 2 weeks, and we look for 25% IRR and a 36-month payback.

And while we see, as we stretch some pressure on those returns, it's still very attractive.

Got it.

And then just one last question, and this is probably a unique question.

The company's stock price really whipsaws and so does the volume in the trading -- throughout the trading day, frankly, and from day-to-day.

And I know that the company, to its credit, a lot of the directors and officers of the company have made open market purchases of the stock over time.

So I'm sure that this is of, at least, note if not concern to them.

I'm wondering if the company wants to comment at all on any of that?

No, we really can't.

I mean, it's a volatile market and it's still a robust sector.

Those of us that know it -- and I can't speculate on the stock price.

Your next question comes from the line of Frank Louthan from Raymond James.

Can you talk to us a little bit about the 500,000 homes, and when do you expect to see that?

I apologize if I missed that earlier.

And then what's the margin impact from the contractors that you've hired?

And when do you expect to kind of wean yourself back from that as you work through sort of the marketing growing pains?

Yes.

Let me comment on the 500,000 first.

The 500,000 will all be completed in the next few months or certainly by the end of the year.

And that in total across the whole company is approaching 530,000 or more upgrades by the end of the year depending on all the projects we're able to complete.

But specifically Northern New England, it's a robust increase in addressable market.

So with regards to -- what was the other part?

Margins.

Yes, the margins.

The contractor impact is really positive on margins, and let me explain to you why.

We've had a long-term work rules flexibility that made it difficult for us to bring in flexible resources to manage through peaks.

And as a result, workload would back up.

And with the new labor agreement, we were insistent that we would rather keep our employees in their home markets than sending them, playing whack-a-mole across the 3 states, moving them around the states and bring in supplemental contract resources in order to meet the peak loads.

Our preference is to keep our employees in front of the customer, and we can use contract resources behind the scenes for cable facility deployment and line work, like poles and manholes and things like that.

But we will use them for installation when we hit peak periods, like the rollout of additional speeds in markets with low penetration.

So it really is a positive on margin, not a negative.

So when did the -- so have the work rules changed?

Are you now -- you now have that flexibility with the new contract?

Yes.

Okay.

And is that across company-wide or just Northern New England or how should we think about that?

We've made it consistent with how we operate in the other -- in the legacy markets.

And so it's two things.

It's one, educating the workforce on how we're going to work in order to meet customer demand and -- not that they wouldn't want to do that; they're very capable, and we got the agreement done because we explained the rationale of why we needed the flexibility, and the union has been quite respectful to work with.

And so the one step was to make sure we could spread the calls across our region, the Consolidated legacy call centers in the central region, as well as get the costs in line in Northern New England.

So we have a unified platform from a call center wage and call distribution perspective now, and we've been taking calls in Minnesota and Texas for Northern New England since 30 days after the -- for the last month, 30 days after the close of the agreement -- the ratification of the agreement.

On the technician side, we began supplementing our workforce with contracted resources at a reasonable cost in order to address spikes in workload and additional broadband speed upgrades.

I will say there's been a little bit of an impact on the availability of those resources by Florence and then Michael, so that's been a little bit of a headwind.

But the flexibility gets us consistent in Northern New England with the rest of the Consolidated operation.

(Operator Instructions) I am showing no further questions at this time.

I would now like to turn the conference back to Mr. Bob Udell.

Well, I want to thank you all for joining us today and taking time to join our call.

We'll now -- we look forward to updating you on our full year of 2018 financial results next year.

Thanks, and have a great day.

Ladies and gentlemen, this concludes today's conference.

Thank you for your participation, and have a wonderful day.

You may all disconnect.