Shenandoah Telecommunications Co (SHEN) 2010 Q3 法說會逐字稿

Good morning, everyone, and welcome to the Shenandoah Telecommunications third quarter of 2010 earnings conference call.

Today's conference is being recorded. At this time I would like to turn the conference over to Ms. Adele Skolits, CFO. Please go ahead ma'am.

Good morning and thank you for joining us. The purpose of today's call is to review Shentel's results for the quarter ended September 30, 2010. Our results were announced in a press release and a Q distributed yesterday evening and the presentation we will be reviewing is included on our website at www.Shentel.com.

Please note that a replay of the call will be made available later today. The details were set forth in the press release announcing this call.

With us on the call today are Christopher French, our President and Chief Executive Officer, and Earle MacKenzie, our Executive Vice President and Chief Operating Officer. After our prepared remarks we will conduct a question-and-answer session.

I will begin on slide two of the presentation. While we don't provide guidance with respect to specific future financial results, we caution that this call may contain forward-looking statements which involve a number of known and unknown risks and uncertainties. These may cause our actual results to differ materially from these statements.

Shentel provides a detailed discussion of various risk factors in our SEC filings which you are strongly encouraged to review. You are cautioned not to place undue reliance on these forward-looking statements. Except as required by law, we undertake no obligation to publicly update or revise any forward-looking statements.

Also, in an effort to provide useful information to investors, we note on slide three that our comments today include non-GAAP financial measures. Details on these measures, including why we use them and reconciliations to the most comparable GAAP measures, are included in our SEC filings.

I will turn the call over to Chris now.

Thank you, Adele. We appreciate everyone joining us this morning. We had a great third quarter, both in terms of customer growth and in terms of our strategic initiatives to expand our cable business to continue wireless growth. Slide five lists some of these highlights.

As we discussed on last earnings call, we closed on the acquisition of JetBroadband on July 30. At close the JetBroadband network passed approximately 115,000 homes and had approximately 66,000 revenue-generating units or RGUs. In early October, we announced the execution of an agreement to acquire two markets from Suddenlink -- Salem, West Virginia, and Oakland, Maryland -- passing more than 7,000 homes and including 3,900 RGUs.

In our Wireless segment in early July we signed an amendment to our current contract with Sprint Nextel to allow Shentel to sell Virgin Mobile and Boost prepaid wireless services. These prepaid products and services became available in the Shentel wireless service area through Sprint stores owned by Shentel as well as hundreds of other outlets. As part of this deal we also acquired approximately 50,000 existing Virgin Mobile customers in our wireless service area.

Operating results in our Cable segment show we are being successful in adding services and increasing customers and revenues. Highlights of the accomplishments in this segment are shown on slide six. We recently moved JetBroadband customers to our existing billing platform and have integrated our management of the field workforce and customer care call centers serving these systems.

In the existing pre-Jet markets we were pleased with the 8% increase in RGUs during the quarter. These results are driven by the substantial progress we have made in expanding and improving services in this segment. Voice services are now available to 76% and high-speed Internet is available to nearly 88% of acquired homes passed.

Wireless segment highlights are shown on slide seven. On top of the acquired customer base, prepaid customers grew by nearly 6,300 in the third quarter. Postpaid wireless PCS customers are up 5% from a year ago. Continued growth was helped by churn of just 1.9% this quarter relative to 2.2% for the third quarter 2009.

Late in the second quarter we also began offering 3G/4G data cards and more recently handsets. This happened in conjunction with 4G services becoming available in our York and Harrisburg, Pennsylvania, markets. 4G capable devices are now on among our top sellers.

Financial results on a consolidated basis shown on slide eight were impacted by closing related expenses and additional interest expense from our JetBroadband acquisition and a net after-tax loss from our new prepaid business. During the quarter we also recognized a one-time, after-tax gain of $2.6 million on the sale of our telephone directory.

We are reporting net income of $4 million for the quarter compared to $6.3 million from the third quarter of 2009. Net income from continuing operations was $4.2 million for the quarter as compared to $6.3 million in the same quarter of last year. Adele will review the financial results in more detail in a moment.

We still have not reached agreement for the sale of our Converged Services business, although we continue to work with potential buyers. This process remains challenging but we continue to expect that the sale will ultimately be achieved.

I will now turn the call back to Adele to review the details of our financial results.

Thank you, Chris. I will begin on slide 10. Adjusted operating income before depreciation and amortization, or OIBDA, for Q3 2010 was $21.1 million or up $2.2 million from Q3 2009. In order to better understand the forces driving this change, I have provided the OIBDA results by segment on slide 11.

Here you get a picture of how the segment's results are contributing to the consolidated financial results. In a moment I will go into the wireless and cable OIBDA changes in depth. What you see from this table is that adjusted wireless OIBDA has grown despite the significant incremental costs associated with acquiring prepaid subscribers.

While the increase in telephone rates drove a slight increase in wireline revenues, there have not been appreciable changes in the wireline results. Cable results have improved as the result of the acquisition of JetBroadband. The impact of the incremental OIBDA from the JetBroadband business is being offset by the significant incremental cost of acquiring customers in the cable business as we will see in a moment.

On slide 12 I have analyzed the changes in the wireless OIBDA results between Q3 2009 and Q3 2010. As Earle will discuss, postpaid revenues continue to grow as a result of the growth in its customer base. The prepaid business has already begun to make a meaningful contribution with $2.6 million in new revenue related to prepaid customers.

As you may recall, the service fee charged by Sprint Nextel in the postpaid business rose from 8.8% to 12% effective June 1, 2010. This change increased service fees by $1 million in the third quarter of 2010. Acquiring prepaid customers involved additional expenses related to handset subsidies, commissions, marketing, and other sales related costs. As a result of our success in acquiring prepaid customers, there are $2.3 million of new prepaid costs in Q3 2010.

We also pay separate fees to Sprint Nextel to provide ongoing support services for prepaid customers. These prepaid services added an incremental $900,000 to expenses in 3Q Q2010. Finally, we made an adjustment to accounting for certain tower leases which resulted in a favorable adjustment of $800,000 in our wireless segment revenues.

On slide 13 I have shown the components of the changes in adjusted cable OIBDA which improved by $1.2 million in Q3 2010 over Q3 2009. As you can see in the first four green bars, revenues have grown substantially by $8.1 million. This is driven by the JetBroadband acquisition on July 30 and the growth in RGUs Earle will review in a moment.

As with wireless, the growth in customers comes with an immediate cost relating to acquiring the customers. This incremental cost was $1.8 million in Q3 2010 over Q3 2009. The increase in video customers resulted in an increase of $2.3 million in programming costs in Q3 2010 over Q3 2009. In addition, the improvements in the network and increase in broadband customers and the addition of JetBroadband resulted in a $1.9 million increase in network and backhaul expenses.

At this time I will turn the call over to Earle to go into greater depth on some of the operating factors driving our results.

Thank you, Adele. Good morning, everyone. Slide 15 shows the continued growth we have experienced in postpaid wireless customers. Over the past two years we have seen consistent year-over-year growth of over 5% with our postpaid customer base growing by over 11,000 customers in the past 12 months to 230,587.

Gross and net additions are shown on slide 16. We put on 3,175 net postpaid customers in the third quarter of 2010 compared to 3,286 in the same quarter last year. Year-to-date we have put on about the same number of net adds as last year. We have done so with fewer gross additions due to year-to-date churn being below 2% with a rate at 1.9% in the third quarter.

Slide 17 provides gross billed revenue per postpaid user for the third quarter 2009 and 2010. We saw a slight decrease in gross ARPU but continued increase in data ARPU. Data ARPU in the third quarter of this year was $21.58 compared to $19.07 in the third quarter of 2009 and $20.61 in the second quarter 2010. The decrease in total ARPU is the result of continuing to add a higher percentage of second and third lines to accounts and the unlimited plans eliminating overages.

The reconciliation of gross billed postpaid revenue to net postpaid revenue reflected on our financial statements is provided on slide 18. Gross billed revenue increased approximately 5% in line with our gross postpaid customers. The net revenue was up only 3%, due entirely to the increase in the net service fee which Adele mentioned earlier.

Both bad debt and service credits were down from a year ago. Excluding the increase in the net service fee, the increase in net revenue would have been approximately 7.5%. As we have stated previously, the current 12% net service fee is at the maximum allowed by contract. At this point we do not anticipate the rate will decrease.

Slide 19 provides a summary of our prepaid wireless stats. Effective July 1, Shentel was able to sell CDMA Boost and Virgin Mobile prepaid services in our area. We purchased the existing 50,000 Virgin Mobile customers that were in our service area at $138 per subscriber. This is the same price that Sprint paid Virgin Mobile when Sprint purchased the Virgin Mobile in December 2009.

Until July 1 Boost on CDMA was not sold in the Shentel service area. During the quarter 14,147 gross prepaid subscribers were sold in the Shentel area resulting in 6,296 net prepaid additions with churn of 5%. We ended the quarter with 56,203 prepaid subscribers.

I want to point out that our accounting prepaid revenues and expenses is different from postpaid. Postpaid revenues are net of the 8% management fee, the 12% net service fee, bad debt, and service credits. Prepaid revenues are only net of a 6% management fee. All expenses to acquire and maintain the prepaid customers are allocated to Shentel based on Sprint's average cost per subscriber and are recorded in the expense section of the Shentel income statement.

In the third quarter prepaid expenses exceeded revenues due to the costs related to adding a high percentage of gross additions relative to the total customer base and the amortization of the purchase price. We anticipate the prepaid business will grow enough by early next year that the prepaid business will provide a meaningful positive margin to our wireless segment in 2011.

Slide 20 shows the same service plans continue to be the best sellers. We are seeing an increase in smartphone sales. Although 4G coverage is not widely available in our service area, the HTC EVO represented 10% of phone sales with most customers buying and using the phone where only 3G service is available.

Slide 21 recaps our wireline results. Once again we had very modest access line loss with 192 losses in the third quarter and 495 year to date. We have seen 11% growth in DSL customers in the past 12 months with DSL penetration at 49% and ARPU of $38.

We experienced very strong cable RGU growth in the third quarter. Slide 22 shows the net gain or loss in RGUs by quarter since the first quarter of 2009 right after we closed on our first cable acquisition. On July 30 we closed on JetBroadband so the third quarter includes two months of net additions for the Jet systems.

We had an increase of 4,112 net RGUs in the latest quarter, broken down between 2,335 net RGUs from our previously owned systems and 1,777 net RGU additions in the Jet system. At the bottom of the chart are the total RGUs at the end of each quarter which reflects RGUs we sold in the fourth quarter 2009 and the Jet RGUs we have purchased this past quarter.

Slide 23 provides the number of homes passed and the penetration rates at year-end 2008 and 2009, along with the end of the third quarters of 2009 and 2010. We believe that we have significant upside in video, Internet, and voice. We have completed the upgrades of all but one small system purchased from Rapid in December 2008.

Work has already begun on the upgrade of the JetBroadband systems. We will spend approximately $11 million this year on the Jet systems with most of the upgrades completed in 2011. The upgrade of the Jet systems in Southern West Virginia will begin in 2011 but will not be completed until 2012.

The Suddenlink systems we recently announced should be closed before the end of the year and we should upgrade by late 2011 or early 2012. I will now turn it back over to Adele.

This concludes our prepared remarks. Joe, would you now review the instructions for posing a question?

(Operator Instructions) Ric Prentiss, Raymond James.

Questions for you; appreciate the slide deck. The prepaid side, I heard Earle say early 2011 you think prepaid will start providing positive margins. When you bought the 50,000 subscribers from Sprint and the Virgin Mobile guys what was their ARPU and are they not helping you contribute some to reach margins?

There is a significant difference, Ric, between the ARPU of the Virgin Mobile customers that we acquired and what we are seeing on incremental customers, both Virgin Mobile and Boost. Virtually all the Virgin Mobile customers we bought was a pay-go. They had not implemented the new price plans for Virgin Mobile prior to our acquiring them.

So the average revenue on those are very low, kind of the mid-teens, but the incremental customers we are seeing are significantly higher ARPU. And so we are going to see a good lift in average ARPU over the next couple of quarters.

Okay. And so I assume when you are seeing more of these at least $30, if not $50, prepaid plans that you are selling now?

Yes, but the real issue here is just numbers. When you start off with 50,000 at a low amount it takes a little while and some churn raise that average ARPU.

Is it safe to say the bigger benefit of getting the agreement with Sprint was to get the go-forward and (inaudible) in the existing setups?

Absolutely, absolutely.

Okay. Sprint has talked a lot about their network modernization program and what might or might not be happening. Any impact to you guys in having to follow suit, maybe with some capital spending on the network in 2011 or 2012?

At this point we are still evaluating and having preliminary conversations with Sprint about their upgrade of their network. There are a lot of issues, including the fact that they are talking about integrating other spectrum in this upgrade. So our discussion with them is going to have to become widespread.

As far as CapEx, we don't anticipate any significant CapEx impact in 2011. At this point it's too early to estimate what it will be in 2012.

And a lot of discussions on smartphones on all the conference call we have been on, even just today. What are your thoughts about retention spending, percentage of your base on smartphones?

In the third quarter 38% of our gross adds were purchases of smartphones. On upgrades during the quarter 43% of them bought a smartphone or got a smartphone. Today 28% of our base has a smartphone. So I think a combination of smartphones and the trend of adding additional lines to existing accounts is what is attributing to us being able to keep our churn below 2%.

Any thoughts on what the total retention spend was on the quarter or what impact that might have on margins?

I don't have that off the top of my head.

Yes, you had a lot of them there. Appreciate it. Thanks, guys.

Barry Sine, CapStone Investment.

Good morning, folks. Wanted to follow up on some of those questions; in terms of the prepaid ARPU for the quarter, on the acquired subscribers could you give us the range of what type of ARPU that you are seeing for the subscribers you are adding?

Well, on the subscribers we are adding if you look at -- there is two different brands. We have the Boost brand, which are primarily -- the most popular plan there is kind of the all-you-can-eat for $50 on the Boost CDMA.

On the Virgin Mobile there is a mix. Sprint is selling a brand called Assurance, which is for low income which is in the $10 to $12 range but with a limited number of minutes. Then they also offer the permanent pay-as-you-go plans. And then in the third quarter they implemented and put out some new $25, $35, $45 plans where you get more minutes and more texting and more Internet access.

What we are finding is that the new customers we are adding are at the higher ARPU level, except that there are -- Virginia is one of the states where Sprint has been able to sell this low income and so we have seen some interest in our area for that low income product for folks who qualify.

Okay. And then during the quarter you recorded amortization expense for the purchased subscribers. Could you give us a little forward-looking visibility on that? What could we expect per quarter and for how many quarters do you expect to book that expense?

The expense is being amortized over the expected life of the customer and you can assume that substantially most of the expense will be recognized over about, at about 5% per month because that is our churn rate. Now it gets to a point of where -- it's higher early on, Barry, because it's matching the number of customers that we have retained from the original acquisitions. Am I making sense?

Yes. So you are actually looking at the customers as they churn and recording an expense as they churn?

We are estimating the churn rate at 5% and so we recognize 5% in month one of the amortization. You get to months two and you recognize 5% of 95% of the original acquired customers and it works like that. The math works like that and I would be happy to provide you a schedule of that.

Okay. And --

So it will diminish over time, but it's more substantial now than it will be 12 months from now, for instance. And it's running about $390,000 per month at the moment.

Okay. And just turning to the cable part of the business and I guess mainly on the Rapid properties where you have already done the upgrades. Could you talk about what type of promotions you are in the market with, what type of pricing you are offering for triple play? Are you doing anything like giving away DVRs something like that? What is the product offering in those markets right now?

Actually, right now we are not offering a promotion but we have in the past. And part of the third quarter we did offer a promotion of three months at half price for Internet and video to sign up. We are also waving installation charges right now.

We have in the past run some DVR promotions but we don't have one of those running right now. So we plan to be in and out of the market with promotions. If we have a promotion in the market all the time that it becomes more of the standard pricing than it is a promotion.

As far as our bundles, if you are buying our video package along with 3 Megs and our phone service, the phone service without unlimited long distance, just unlimited local, that is approximately $100 a month. We have a little bit different pricing in different markets based on kind of where the pricing was when we acquired the market and also who the competitor is.

Okay. On the JetBroadband properties, now that you have completed the acquisition and you have owned those properties for a while now any surprises vis-a-vis what you were telling investors when you announced the acquisition? Does anything look different than what you looked at when you announced it?

At this point the answer is no. We haven't really found any surprises. The transition has gone extremely smooth. We were able to convert to our billing system and our back office systems in less than 90 days, which I think is quite an accomplishment.

We virtually have had no turnover from any of the Jet employs; the integration has gone quite smoothly. We have integrated them into our organization and so far things have gone pretty much as planned. We have been able to continue to add RGUs and keep people focused on growing the business rather than wringing their hands and wondering what might happen next.

And again shifting gears, on the converged business I know you have talked for a number of quarters now about that sales process. Can you give us little bit more visibility of what is going on there? Do you have a buyer identified, are you still marketing? Any prospects that actually gets hold?

We actually have several prospects. The problem that we have is that they are much smaller companies than ourselves and they are having difficulty in raising the capital. The desire is there. We basically have term sheets from several players but it has really been their ability to finance that has caused the delay.

The good news from our standpoint is that we have been through another move in since most of our customers are students and we didn't experience any loss in net revenues. We continued to basically be able to provide good service and have not really seen any degradation in the business itself. So we are still optimistic that once one of these potential buyers can get their financing lined up we will be able to sell it.

The issue with financing, that seems like I have heard that from you guys before that the buyers are having that trouble. So any sense that you could break the logjam? Maybe you take a note in exchange for the sale of that property yourself?

We are not very -- we are not really in business to finance other companies, prefer not to have that on the balance sheet. But it's certainly an option we have considered.

How long has this current situation going on where you have had term sheets but the buyers can't line up financing?

Actually it has been from different buyers, so we have actually had buyers from -- we have had term sheets probably for the last three or four quarters, but the ones that we are most active talking to right now are not the same ones we were talking to a year ago.

Okay. And then my last question is kind of a longer-term strategic question. Obviously you are making much more of a bet on cable architecture than the legacy telco architecture. In Shenandoah County you are operating two plants; any further thoughts about down the road deactivating the redundant copper plant and just going to a pure cable architecture?

It's funny you should ask that question. We have spent a great deal of time talking about that and looking at that internally. The biggest issue is that is kind of plowing new ground in a regulated telephone environment but we actually have had some initial conversations with the public service commission here in Virginia and continue to look at the feasibility of that from a regulatory standpoint.

Obviously from a technical standpoint we can offer voice and Internet over our cable plant because we are doing it elsewhere, but it certainly is kind of a different issue when you are dealing with access charges and the other issues that -- no ground has been plowed yet on how to do that. So it's something that definitely makes sense; we don't have all the answers for how to accomplishment it.

Okay, those are my questions. Thank you very much.

[Rick Burns], Sidoti & Co.

Good morning. Just a question, could you remind me what the level of synergies you are hoping to achieve with the JetBroadband acquisition were? And if you achieved any of those in this quarter and what we can project going forward?

The synergies are really, more than anything, initially related to back office functions like consolidating the billing. So we accomplished that in October so you will see that reflected in the fourth quarter and they were paying something on the order of $1.50 to $2 per customer per month to outsource that billing. So that is the first step.

The next step will actually relate to how the cable modems get provisioned. And Earle, I don't know how much you want to say about where we stand on that.

We will be able to -- they are going to convert that early next year and then we will see some savings there. Some savings we will also see over the next six-plus months is as we are able to leverage our backhaul. Right now we are still using all of the backhaul facilities as they were designed by Jet.

We are in the process of reengineering that to be able to access and use our fiber assets and then we will see a combination of two things. Number one, lower costs but, more importantly, we will see significantly more capacity that we will be able to offer to the customers in the Jet markets.

They also pay a third party for the switching of the VoIP phone calls and I think we are looking at early to middle of next year to eliminate that expense as well.

Okay, thanks. On the most recent cable acquisition, what does the margin look like or I guess the pipeline? Are you still in the market looking for similar type assets in the region?

We don't have a formal pipeline. I think that it is probably pretty obvious to our neighbors that we are acquirers. I think that we will continue to look at opportunities as they arise. We may even be proactive and speak to some in the future, but right now we are pretty busy just digesting what we have acquired.

The Suddenlink properties were just kind of an opportunity that presented themselves and so we have taken advantage of that. The relative size of it was such that we felt comfortable we could integrate that and not impact our integration of the Jet properties. But obviously we would have to balance the price that someone might want and our capacity to integrate as we look at additional acquisitions.

Okay, thank you.

Ric Prentiss, Raymond James.

Just wanted a couple of quick follow-ups just to make sure, Adele, on the amortization of the customer base I assume that is A in EBITDA, that that has been normalized out of wireless EBITDA.

It has. In the adjusted OIBDA it has been normalized out, yes.

Okay. And then from a competitive standpoint, what are you seeing in the wireless market in your area as far as any pressure on ARPUs or -- obviously you are still adding customers. It seems to recover a little bit from the economy. Just kind of an update on competitive landscape and ARPU.

As far as competitive landscape, we haven't really seen any significant change in the last six months or so. Our competitors -- there haven't been a lot of new distribution opened or any significant change in their level of advertising. So the market has been fairly stable as far as distribution goes.

Obviously, any price changes that have been announced nationally by Verizon or AT&T we are seeing in our markets. The good news is we still don't have any competition from Metro or from Leap, so as far as the prepaid market it is fairly stable.

And I think it reflects in our being in that business for just 2.5 months or so. The number of adds we were able to make; that there is good demand for that product in our marketplace.

Coming up on the seasonally strong prepaid fourth quarter/first quarter kind of timeframes, do you think there was pent up demand or you think we could see some nice seasonal pop for prepaid in the Christmas and first-quarter season?

I really don't know, Ric. I mean this is a new area for us. I can tell you that the numbers for October looked equally as strong as what we have seen up to this point. There were prepaid services available in the marketplace, just not the Sprint brand of prepaid, so I guess that there probably would be some opportunity for some pent up demand.

But the good news is that we have continued to see the same level of demand now that we are in the fourth month that we saw in the second month. So at this point it's a little hard for me to predict but I would anticipate that our prepaid curve should look pretty much like the rest of the industry.

Which would be a very strong first quarter.

Right. A lot of times holiday season and the income tax refund season seems to really drive those markets.

It has in my experience.

Adele, on the balance sheet any update as far as what you guys are thinking on the balance sheet, leverage levels, debt?

We are at just over two times levered right now. That still leaves us, in our estimation, a significant amount of dry powder to pursue some of these opportunities that Earle is looking at or will be considering in the near future. And we do have dry powder even within our existing credit facilities and some very willing lenders.

So we are very hopeful that we can get future deals, at least in the short run here, of intermediate size financed with our existing lenders.

And the cost of debt still seems pretty attractive?

Sure does. We are paying LIBOR plus 3.5 right now and as we deleverage over time I expect that will go down. Over the life of this facility, which is five years, it goes down to LIBOR plus 3.

Good. Okay, thanks.

I am showing no further questions on the phone. I would now like to turn the conference back to Adele Skolits.

Thank you all for participating, especially on such a busy day. Please let me know if there are details you would like on future calls. My contact information was provided on the press release. Thanks again.

Again, ladies and gentlemen, this does conclude today's conference. We thank you for your participation. You may now disconnect.