Spok Holdings Inc (SPOK) 2008 Q2 法說會逐字稿

Good morning and welcome to the USA Mobility second-quarter investor conference call. Today's call is being recorded. On-line today, we have Vince Kelly, President and CEO, and Tom Schilling, Chief Operating Officer and CFO. At this time, for opening comments, I will turn the call over to Mr. Kelly. Please go ahead, sir.

Good morning. Thank you for joining us for our second-quarter investor update.

Before we discuss our operating results, I want to remind everyone that today's conference call may include forward-looking statements that are subject to risks and uncertainties relating to USA Mobility's future financial and business performance. Such statements may include estimates of revenue, expenses and income as well as other predictive statements or plans which are dependent upon future events or conditions. These statements represent the Company's estimate only on the date of this conference call and are not intended to give any assurance as to actual future results. USA Mobility's actual results could differ materially from those anticipated in these forward-looking statements. Although these statements are based upon assumptions that the Company believes to be reasonable and are based upon available information, they are subject to risks and uncertainties. Please review the Risk Factor section relating to our operations and the business environment in which we compete contained in our most recent Form 10-K and related company documents filed with the Securities and Exchange Commission. Please note that USA Mobility assumes no obligation to update any forward-looking statements from past or present filings and conference calls.

I want to start by highlighting what we believe was an outstanding second-quarter and first-half operating performance for USA Mobility. We ended the quarter ahead of our goals for cash flow, operating expenses, average revenue per unit, or ARPU, and total revenue, while operating margins reached record highs. Tom will discuss our quarterly results in greater detail shortly, but I wanted to take a minute and highlight a number of items with respect to our results and our prospects going forward.

Number one, the rate of revenue erosion improved in the quarter and was favorably impacted by a modest increase in ARPU. We have taken a number of steps this year to strengthen our ARPU results, and we will continue to focus on this area for the balance of the year.

Number two, at the same time, we achieved a significant reduction in operating expenses during the quarter and first six months, consistent with our long-stated goal to manage a low-cost operating structure. We are particularly pleased with the progress on rationalizing our network and the impact that has had on our operating costs. This project is being led by our new Chief Information Officer, Tom Saine, and he is doing a fantastic job.

Number three, the combination of improving revenue retention rates due to our lower -- our higher ARPU enhancements and lowered operating expenses resulted in our EBITDA increasing to $30.6 million in the second quarter from $29.9 million in the first quarter, while EBITDA margin increased to 33.2%, its highest level in USA Mobility's history.

Number four, subscriber erosion continues to be a major threat to our long-term cash generation ability and future cash flow margins. For the quarter, we increased our gross additions to 130,000 subscribers from 118,000 in the first quarter, but our gross cancellations also increased to 287,000 subscribers from 270,000 in the first quarter. We are still losing more than two subscribers for every new subscriber we put on.

Item number five, we believe that, in an environment with an eroding topline, maintaining pricing discipline in our customer base, combined with aggressive cost reduction and business rightsizing, still represents our best operating strategy.

Number six, we again met our goal of generating sufficient free cash flow during the quarter to return capital to stockholders in the form of cash distributions. Cash from operations for the second quarter totaled $27.5 million compared to $26 million in the first quarter, and our cash balance at June 30 was $85.8 million. We paid a quarterly cash distribution of $0.25 per share on June 19, 2008, representing a return of capital of approximately $6.8 million to our stockholders.

To wrap up the highlights, we are very pleased with our results for the second quarter and first half of 2008. And even though we are proud of our record cash flow margin result, we recognize that we are in a business that, by year-end, will be roughly half the size that we were when we formed USA Mobility at the end of 2004. It is inevitable that future cash flows and margins will come down over time as we will not be able to always turn in results or our expense reductions keep pace with our revenue erosion. Having said that, management is committed to achieving our rightsizing goals over the coming year and maintaining our ARPU discipline in order to continue our track record of significant free cash flow generation by successfully managing between the revenue and expense lines.

At this point, I will ask Tom Schilling, our Chief Operating Officer and Chief Financial Officer, to review our second-quarter and financial results and share additional observations on our quarterly operating performance. Tom?

Thanks, Vince, and good morning.

As Vince just noted, we reported strong operating results for the second quarter that were largely in line with or better than our expectations and previous financial guidance. Although the rate of subscriber cancellations remains higher than we would like, continued reductions in operating expenses, combined with an increase in the average revenue per unit, contributed to solid net revenue and a significant level of cash flow in the quarter.

With respect to the customer base, we ended the quarter with 3.176 million units in service, a net decrease of 157,000 units compared to a decline of 155,000 units in the second quarter of 2007. Our annual rate of net unit loss increased to 15.5% from 15.2% in the year-earlier quarter.

The rate of cancellation within the direct customer base increased in the second quarter to 7.8%, up from 7.2% in the first quarter and 7.3% in the year-ago quarter. While the rate of gross placements has remained strong, it has not been able to overcome the increase in the rate of cancellation. Therefore, our rate of net unit loss has increased. Our annual rate of net unit loss in our direct base increased for the fourth consecutive quarter to 15.3% and is at its highest level that it has been since the third quarter of 2005. The primary cause of subscriber erosion continues to be the migration to alternative wireless technologies.

Healthcare continues to be our most stable market segment with net unit loss for the quarter of 0.9% compared to 1.7% for the first quarter. At the same time, governments and large enterprise market segments had net unit losses of 6.4% and 6.9%, respectively, up slightly from the previous quarters. Healthcare now represents 40% of our subscriber base compared to 35% at June 30, 2007, while government ended the quarter at 17.7% and large enterprise at 12.8%, modest declines from the prior quarter. Together, the three core market segments now comprise over 70% of our customer base compared to about 56% when we initially began reporting our results by market segment in the first quarter of 2006.

Indirect units declined 6.9% in the third quarter compared to 3.9% in the first quarter and 6.2% in the year-ago quarter. The increase in net unit loss is partly attributable to the rate increases implemented during the second quarter.

Total revenue for the second quarter was $92.1 million compared to $94.8 million in the first quarter and $107.5 million in the second quarter of 2007. The annual rate of revenue erosion improved to 14.3% in the second quarter compared to 15% in the first quarter and 15.5% in the year-ago quarter.

Paging revenue totaled $83.4 million in the second quarter, a decline of 3.9% from the $86.8 million in the first quarter. The annual rate of decline improved to 15.2% compared to 16.6% in the first quarter and 17.3% in the second quarter of 2007.

Total paging ARPU increased to $8.54 in the second quarter compared to $8.49 in the first quarter. The quarterly increase in ARPU is a result of price increases in both the direct and indirect channels. Direct ARPU was $8.97, up from $8.95 in the prior quarter. Second-quarter ARPU benefited from price increases which were implemented on certain customers in June. We will continue to evaluate pricing actions going forward based on competitive factors and on our cost to provide service.

Indirect ARPU increased to $5.28 from $4.97 in the first quarter. This was also driven by increases throughout the second quarter. As with our direct base, we will continue to evaluate the profitability of this channel with respect to additional pricing decisions.

Product sales were $5.7 million in the quarter, up 17.9% from the prior quarter, due largely to lost pager revenue, while other revenue increased 13.7%. Cellular revenue, however, declined 16.8% to $1.5 million as the number of unit activations decreased 12%.

Turning to operating expenses, we made solid progress in the second quarter, once again meeting our goal of reducing expenses at a faster pace than the rate of revenue erosion. Total operating expenses, excluding depreciation, amortization, accretion, and goodwill impairment, were $61.5 million, a reduction of 17.1% from the second quarter of 2007. As a percent of revenue, operating expenses are now at their lowest level since our merger in 2004.

Headcount at June 30 was 898, a reduction of 70 from March 31 and down 253 from a total headcount of 1151 a year earlier. The decline in workforce reflects our goal to maintain staffing levels that best meet our current customer requirements as well as our business outlook.

Payroll and related expense, which remains our largest expense item, decreased from $21.5 million in the second quarter -- or decreased to $21.5 million in the second quarter from $22.3 million in the first quarter and $24.6 million in the second quarter of 2007.

During the quarter, we also continued to reduce site rents, our second-largest operating expense. Site rent expense in the second quarter was $16.8 million and declined 5.8% from the prior quarter and 24.2% from the year-ago quarter. The significant reduction in cost is the direct result of our network rationalization program, including savings from the deconstruction of existing sites, renegotiation of site leases, and the conversion of site leases for more costly lease agreements to our more cost-effective master lease agreements.

At June 30, 2008, we had 9629 active transmitters, compared to 12,459 a year ago, a nearly 23% reduction. More importantly, during that time, we increased the number of customer-provided sites, which have no rent expense, from 2009 to 2218. Therefore, the number of paid active transmitters has decreased from 10,450 at June 30, 2007 to 7411 at June 30, 2008, or a 29% reduction.

Network rationalization has been and will continue to be one of the most critical components of our success. While much work lies ahead, we are extremely pleased with the results over the past year.

EBITDA for the second quarter was $30.6 million, an increase of 2.3% from the $29.9 million reported in the first quarter. EBITDA margin increased to 33.2% in the second quarter, up from 31.6% in the first quarter, and reached its highest level since USA Mobility was formed in 2004.

Capital expenses for the second quarter were $3.9 million compared to $4 million in the first quarter. Our cash balance at June 30 was $85.8 million. As Vince noted, we expect to use a portion of that cash in connection with our planned repurchase of up to $50 million of our common stock over the next 12 months. However, we expect to maintain strong cash balance during the repurchase period while continuing our quarterly cash distribution policy.

Due primarily to the success of our price increases and the results of our network rationalization efforts, we are changing our financial expectations for the full year of 2008. We now expect revenue to be between $355 million and $360 million, compared to our earlier range of $345 million to $355 million. We are now projecting operating expenses, excluding depreciation, amortization, accretion and goodwill impairment, to be between $245 million and $250 million, compared to our original guidance of $215 million to $255 million. Our expectation for capital expense remains unchanged at $18 million to $20 million. Once again, I would remind you that these projections are based on current trends and that those trends are always subject to change.

With that, I will turn it back over to Vince.

Thanks, Tom. Before opening the line up for a question-and-answer session, I want to address a few other topics that may be of interest you.

First, I want a comment on our recently announced stock repurchase program and future capital allocation strategies. Second, I will review the current status of our appeal of the Federal Communications Commissions' Back-Up Power Order as a result of the Court's ruling last month. Third, I will update you on our recent selling and marketing activities. Fourth, I will comment on paging's resiliency, given the recent earthquake in Southern California.

With respect to our stock repurchase program and future capital allocation strategy, as you know, yesterday, we announced that our Board of Directors has approved a plan for the Company to repurchase up to $50 million of USA Mobility common stock. The repurchase plan will commence on or about August 5, 2008 and will continue up to 12 months.

I want to briefly explain our reasons for moving forward with this program now and how it fits in with our overall capital allocation strategy. Our Board and management team remain committed to our goal of returning excess capital to our stockholders. Indeed, over the past 3.5 years, we have paid off all of our initial $140 million in bank debt and have returned approximately $262 million in capital to our stockholders, representing $9.65 per share. In short, returning capital to stockholders has been our top priority and will remain so going forward.

As you know, we recently revised our quarterly cash distribution rate to $0.25 a share, a level we currently believe is sustainable over the next several years. As we said at that time, our decision to reset the rate was made to strengthen our financial position while maintaining a significant current yield on our share. In reducing the distribution rate, however, we also recognize that the Company would generate excess cash over the near-term, and that is exactly what we have seen.

As a result of our strong current cash position, the Board and management concluded that a stock repurchase program would make sense at this time. We set the total amount of cash available to purchase shares at a level that we feel leaves us ample liquidity to, number one, run the business over the next 12 months; number two, continue to pay our quarterly to distributions to stockholders, which our Board reviews quarterly; and number three, be in a position to comply with the FCC Back-Up Power Order ruling should we lose our appeal.

With respect to the status of the FCC Back-Up Power Order appeal, the DC Circuit Court of Appeals issued a ruling on July 8 that said, in effect, it could not rule on the merits of the appeal until the order was ripe for judicial review. In short, the Court said it would hold the case in abeyance until the Federal Office of Management and Budget, the O&B, approves the order's requirement for collection of data from the carriers who would be subject to the order. Obviously, we would have preferred a definitive and favorable ruling based on the order's numerous flaws. However, while we were disappointed that the Court did not vacate the order at this time, we are pleased that the stay remains in effect while the case is pending.

I would also note that this and any subsequent delays in the case works in our favor, since we continue to deconstruct transmitters, and thus continue to reduce our potential cost of compliance should our appeal ultimately be denied and the order upheld. As we have said previously, we regard this as a major regulatory challenge that potentially could have a sizable financial impact on our operations, requiring a substantial capital investment in new power generation capability as well as additional recurring operating costs. The net financial impact would be to reduce our cash surpluses, lower our margins, and further challenge our ability to operate profitably in an already challenging business environment.

Although we agree with the intent of the order to provide backup power during disasters, to enhance communications, resources, and ensure public safety, we believe the order as written is legally flawed in numerous respects, most specifically the FCC disregarded factors unique to paging, including the rapid deterioration of our industry's subscriber and revenue base, which has caused us to constantly focus on cutting network costs simply to remain competitive and provide quality paging service. The FCC also ignored critical features of our network architecture that make a nationwide backup power requirement unnecessary, such as the redundant nature of our simulcast network that, unlike mobile phone customers, allows paging customers to receive messages from multiple, high-power satellite controlled transmission sites.

In recent months, some of you have asked to us what we believe the financial impact of compliance might be. We have been reluctant to speculate on that potential cost for the following reasons. Number one, we do know how many of our sites would be subject to the order because we cannot say at this point how quickly installations can physically be completed. Number two, many sites do not have the physical space need to comply; thus, multiple tenants would need to work together to share the cost of a generator. Number three, not all power owners have regulatory permission to modify the site, such as pouring concrete pads. Thus, they would have to go to the original owners for zoning permits and waivers. I could go on and on, but since this matter is subject to ongoing litigation, I will stop short here.

USA Mobility, Sprint Nextel, and CTIA, the wireless association, made many of these and other arguments in our briefs and orally before the Court. There was much about this FCC order that we believe that was just not adequately thought through or considered, let alone vetted with the wireless industry.

In short, for these and numerous other reasons, we believe it is inappropriate, if not impossible, for us to make realistic cost projections at this time. Should the Court eventually uphold the order, however, and we receive greater clarity on these and other issues I just mentioned, we should then be able to make a valid assessment of potential cost. All that said, however, we believe the Court will ultimately make the right decision and vacate the order.

As for next steps in the legal process, it is our understanding that a final court decision is not likely for at least three months and perhaps longer. The 90-day period is the estimated time it would take the OMB to sign off on the order after receipt from the FCC. The Court would then consider the appeal.

Once the Court determines that the case is right for review, it is expected to make one of three rulings. Number one, it could grant the petition for review and vacate the order. Number two, it could deny the petition for review and lift the stay, after which the previously established one-year compliance deadline would begin to run, or number three, it could remand the order to the FCC for further consideration but without vacating the order. We will continue to keep you posted on these legal proceedings.

Turning to our selling and marketing activities during the second quarter, we again made solid progress in providing wireless products and solutions for organizations in the healthcare, government, and large enterprise segments. At the end of the second quarter, these three core market segments were approximately 80% of our direct subscriber base, compared to approximately 75% a year ago. These core market segments also accounted for approximately 73% of our direct paging revenue, compared to 68% a year ago.

Healthcare continued to be our best-performing market segment. Growth placements in healthcare increased to 4.8% in the second quarter compared to 3.3% in the first quarter, while net churn was 0.9% versus 1.7% in the prior quarter. In addition, both direct paging units and net revenue from healthcare exceeded our expectations at mid-year.

A key area of focus for our sales organization during the quarter was to improve our gross adds per sales rep. Thanks to the great work of Jim Boso, our Executive Vice President of Sales and Marketing, and his team, we successfully achieved that goal. During the quarter, total paging sales productivity increased 14.5% to 189 units per rep compared to 165 units per rep during the second quarter a year ago.

The sales organization also make considerable progress during the quarter on our customer retention initiatives, including a primary focus on contract renewals of major accounts. A critical part of this initiative has been to incorporate necessary rate increases in our contract negotiations. As a result, we have successfully negotiated more than 150 such contract renewals in recent months and have extended this program into the third quarter. While contract discussions can often be challenging, we are very pleased that our history of providing high-value, low-cost communication services to our customers has put us in a strong position to negotiate fair but necessary rate increases.

In addition, our sales force remained focused on providing a broad range of wireless solutions for customers and potential customers in all three core market segments during the quarter. We continued to add units and gain market visibility on several products launched last year, including ReadyCall, our wide area network coaster pager that many hospitals, doctors, and other healthcare providers now depend on to eliminate congestion in waiting rooms. In addition, June 2007, we have now more than 7000 ReadyCall units in service and receive regular inquiries about the product from potentially new accounts. ReadyCall has also created opportunities for us to prospect into noncustomer paging accounts.

We also have identified several entirely new markets for this product and will launch a marketing program later in the third quarter to explore further penetration of ReadyCall into these new categories.

Beyond healthcare, we also continue to explore new opportunities in the government and large enterprise market segments during the second quarter. Newly trained sales and engineering teams are now equipped to provide enhanced software solutions for customers in each market segment and have continued to develop important contacts within key organizations. At the same time, we continue to explore the potential for new wireless products for each segment, as well as continue to cross-sell the scope of our existing services to them.

Now, I will briefly discuss paging's continued resiliency and relevance. As we were reminded this week, mobile telephony is often not the best choice in times of emergency. On Tuesday, Southern California experienced a 5.4 magnitude earthquake. Initial news reports came out, and many of them discussed the loss of mobile phone service due to the cellular towers being overloaded or problems with the local telephone lines. In fact, the California Office of Emergency Services spokesman was saying quoted as saying, "The big message now is don't use telephones or cellphones in Southern California."

I am pleased to report that paging systems from USA Mobility continued to function flawlessly with no interruption. This was not a surprise to us, but rather our expectation. We have had many examples and much experience with this distinction in emergency service quality between paging and mobile telephony. We saw similar results during 9/11 and Hurricane Katrina. I have testified about this to the Katrina Panel and in front of Congress. It even went so far as to have a member of Congress at the hearing pull a pager and a phone out of his pocket and underscored that the reason that he carried both was because the phone did not always work.

Cellular systems generally have a one-to-one relationship between the mobile phone or data device and the cellular tower, and are often dependent on local telephone service to provide connectivity into their networks from their towers. When there is an emergency, cellular towers in densely populated areas overload and can leave subscribers without communication. This is because mobile phones are engineered to work reliably when things are going well, not when there is a large-scale emergency or event. As soon as the traffic volume exceeds the engineering, then voice and data communications can come to a halt. If they lose an individual site for any reason, such as damage to their own equipment or loss of the local phone line, thousands of subscribers are out of service. It appears that one or all of these issues struck Southern California on Tuesday.

In contrast, USA Mobility's paging system is simulcast. If a local tower is down, other paging towers are broadcasting at very high power and are still likely to signal the paging device. Paging towers from USA Mobility, unlike most cellular towers, are controlled by satellites and are not at the mercy of the local telephone company and its phone line connectivity to our towers.

In light of these unique attributes, mobile phone companies should market phones with a pager built into them for just such a scenario. We have advocated this for years, but the mobile phone companies have resisted it.

By coincidence, on the day of the earthquake, I had sent a letter to Kevin Martin, Chairman of the FCC, talking about the mission-critical role paging plays in emergency communications and rebutting a July 14 letter from the National Public Safety Telecommunications Council, or NPSTC, which was advocating that the FCC allocate a two-way paging spectrum to government agencies so that they might build out their own paging service. You can review both letters in our Investor Relations section of our company Web site.

The NPSTC got it right in terms of why two-way paging may be the best choice in times of emergency, but they were way off in terms of their understanding of the Katrina panel's recommendations, and they were way off in advocating that taxpayers and already financially strapped federal, state and local agencies spend money to build out islands of paging systems that don't interconnect and that are often difficult to maintain. These agencies could simply contract for service with the number one provider in the nation of the highest-quality, largest-footprint, most interconnected two-way paging service available today.

Last year, while debating this very issue, I was contacted by the telecommunications coordinator of the Network Engineering Group of a Washington, D.C. metropolitan area county with their thoughts about our common carrier interconnect advantage, meaning to use of DIB numbers and true trunking interconnection to provide a more reliable connection to the public switch telephone network than the alternative. He noted that our toll-free numbers provide another advantage in providing telephone access to pagers. He also observed that the first request from most emergency responders contacting his organization was for coverage outside their local areas. He commented on the problem of creating individual paging systems that are not interoperable with the systems of adjacent operators. Fortunately, many government agencies in the federal, state, and local arenas have recognized this and continue to provision their service from USA Mobility. We will continue to focus our efforts to make our case to our customers, the government, and our shareholders about pagings and USA mobility's continued relevance and resilience.

In summary, it has been a busy first half of the year, and we are pleased with our results, relative to our plan. However, we are constantly reminded that we derive the majority of our revenue from an ever-shrinking paging subscriber base and that we need to be ever-vigilant in protecting our margins and executing our business plan.

Day in and day out, we are faced with challenges in the marketplace from tough paging competitors to well-financed mobile phone giants to regulatory risks. We have faced these challenges with a realistic attitude and high-energy. We will continue to do so.

At this point, I would like to ask the operator to open the line up for your questions. We would ask that you limit your initial questions that one and a follow-up. After that, we will take additional questions as time allows. Operator?

(OPERATOR INSTRUCTIONS). Madhu Kodali, Fertilemind Capital.

I'm relatively new to the story and have been a shareholder for probably less than six months. I want to congratulate you on efficient execution of the business plan. I think it is very rare to find such management efficiency in executing what you call a (inaudible) [ice cube] business.

Thank you.

You are welcome. A question on the networks rationalization part -- obviously, you have done an extremely good job trying to reduce the number of transmitters you have across the board. You talk about paging resiliency with multiple networks; when one network fails, the other transmitter can transmit and so on. With that challenge of reducing transmitters, how do you balance your network? Also, how do you address your customer relation if you are removing these pagers? I was wondering if you can help us understand that a little better.

Certainly, and thank you for your comments. Since you are new to the industry and new to us, at least for the last two six months or so, one thing that we have talked about on past calls and one thing that people need understand is that USA Mobility really represents the roll-up of most of the paging industry with the majority of most of what used to be a very large industry. As such, many companies that we acquired over the years or that our predecessor companies acquired over the years built overlapping networks. you would go into some markets and you would find ten separate networks.

So when I am saying that we are reducing our networks or that we are talking about our channel rationalization process, oftentimes, within a given market, it doesn't mean that the footprint of our go-to network -- you know, the network that we are going to keep in place in that market -- is getting any smaller. If you think about it, it is just that we have overlapped network, and we are removing redundancy, but we are keeping the footprint. In some cases, we are actually adding to the footprint, because you might have a customer that's a very good customer that is willing to sign a very long-term contract for you in an area that you wouldn't otherwise cover, and he was on an older network. We will actually add some transmitters on our go-to network in that particular quarter, take down the old network, and that customer continues to have service. So, it has not been something that's impacted us so far in terms of the quality of network that we provide.

The other thing -- and maybe I didn't make it clear. With the respect to the redundancy and the resiliency of our networks, our transmitters tend to broadcast from antennas that are relatively high off the ground compared to a mobile phone antenna that might be 100 feet off the ground. We might be 300 feet off the ground. We tend to broadcast at very high-power -- you know, several thousand watts compared to a much lower power. So, when you have a customer in a given market, if the transmitter that is closest to that customer on a paging network goes off the air for whatever reason, the other transmitters that are in that area, because we are simulcasting to all transmitters in that region for that customer, will still get the signal to that paging device or that two-way messaging device, which is not the case with a mobile phone. If your local transmitter that your mobile phone is talking to goes off the air, you are off the air.

So it is a little bit different from that standpoint.

So what we have created is a list of, if you will, of go-to frequencies for each market. The other frequencies that are there, as we continue to old unload them or offload them of subscribers and move them onto our go-to frequencies, we are taking them down. So I hope that clarifies a little bit what you were getting at.

Right. So in some cases, you would still see some customer churn during this transition. Where do these customers typically go? How is the competitive landscape in those cases?

Well, customers in general have left this industry primarily because they've transitioned to other technologies, primarily mobile telephony. There is a lot more functionality, for instance, in a BlackBerry than there is in a one-way pager, and people recognize that. But what is the strong point of paging is that you can almost afford to keep a pager, even in a down economy, as an option on your own safety and your own family's safety or your own business' continued operation because we are so much less expensive. When you are looking at these ARPUs that we're talking about, even if somebody wants to have a mobile phone or a BlackBerry or some other type of device, they can still afford to have a pager, and it really doesn't affect them. I think a lot of our customers, particularly our healthcare sector, which is now 40% our subscriber base, recognizes that.

So it is not as much of a risk to us in terms of taking down our network as it is just an alternative technology pull that is drawing customers away. But I do think there is a huge value that paging still has to offer. Everybody always remembers that when there is a big large-scale emergency.

Thank you. I have one other follow-up, if I may? On the operating liabilities, when you do this decommissioning of transmitters, what is the typical cost involved to remove a transmitter? I know that I have seen at least the data of $1900 per site. Is it all, or do you have other costs? What you do with the equipment? I would appreciate it.

This is Tom Schilling. The cost of dismantling and deconstructing a transmitter is less than $2,000 apiece. But it is -- in some cases, we could be exiting a lease. It is hard to get a standard answer because, in some cases, we may have a termination cost associated with the real estate on the tower. But just in terms of the deconstruction, it is a little under $2,000.

[John Noel], Barrington.

Congratulations on the great quarter. My question is can you talk for a minute just about the thought process and the decision to do a share repurchases versus pay a special dividend, which I know the Company has done in the past?

As sort of a follow-up to that, this particular buyback could potentially buy back 20% of all outstanding shares or more. I'm just wondering. Is there any sort of -- do you have any sort of idea of how low you would be willing to take the share count? Would you -- would there be a minimum number of shares you want to see remain outstanding over the long run?

I guess let me answer both those of questions like this. There are a lot of different ways to return cash to shareholders, as you know. In looking at our business longer term, while we know we face tough challenges, we believe that just having fewer shares outstanding will end up resulting in a greater value to our investors who want to stay with us.

We haven't targeted a specific number of shares. We do think though that, at the same time, if we maintain our dividend policy, it is also a good way of sustaining the current return, and really, a mix of steady cash distributions and share repurchases we think is in the best interest of all of our shareholders.

Each quarter, we look at that this. Part of what is driving our thought process in the FCC process. If we were to win that appeal, that could also change our thinking, and we would be in a position potentially to accelerate the return of capital to shareholders.

So what we are going to do is we are going to revisit our pace of distribution, you know, of cash to our shareholders, at every Board meeting. You have heard about our commitment to deliver excess capital to shareholders. I'm telling you, that is what we are going to do. If we believe we continue to have substantial excess capital, we could increase the share repurchase. We could declare a special dividend. We would be happy to do that. Or we could consider a Dutch tender offer or something to return or accelerate the return of excess capital to shareholders. So there are a lot of things we could do.

I cannot answer your question with respect to what is the ideal number of shares. We realize that a $50 million share repurchase -- we have got a year to do that. So it is not like we have to be in a rush. That is one way of doing it. A special dividend is another way to do it. It just seemed to us, in looking at the numbers and looking at everything this quarter, that doing the $0.25 a share dividends, continuing that and going forward with that and doing a smaller share repurchase than maybe what we would otherwise do if we didn't have this FCC appeal hanging over our heads -- that this kind of thought process made the most sense.

Jim Altschul, Aviation Advisory Service.

A few questions, if I may? First of all, do you anticipate, for the second half of this year and next year, being able to continue to reduce in a meaningful way the -- further reduce the number of transmission powers or your ability to achieve savings in that area has pretty much run its course?

We will continue to reduce transmission towers. When we merged in 2004, we had over 18,000 transmitters. I think, in Tom's comment a couple of minutes ago, how, at the end of June, we had just over 9000 transmitters. So you have already taken out 9000; you cannot take out the next 9000. So the ability to reduce the cost will also go down compared to where we were four years ago. But at the same time, we are going to continue to take significant costs and make ourselves much more efficient going forward than we are now. Yes.

You have really -- having done something quite extraordinary in terms of being able to reduce costs -- what are the principal areas where you see -- aside from further reducing the number of transmission towers, see opportunities to achieve additional cost reductions (inaudible) other expense categories?

The biggest area of expense for us is basically payroll and headcount. When we merged in 2004, we had 2800 employees. We are just right under 900 today, as I speak. You cannot obviously have that kind of an impact going forward, so as a public company, there are certain fixed costs you are going to have in terms of compliance and things like that. You are going to have a number of heads in selling and marketing. Selling and marketing we have geared ratios, in terms of revenue per salespeople and revenue for infrastructure, so that is somewhat variable. But you are not going to take a ton of costs out compared to what you have done in the past in the headcount area.

The second biggest area -- actually, I will add two areas together -- would be site rents and telco. It is your network costs. We believe that area is still very, very fertile with respect to farming it for additional costs reductions. It is not easy; it is a ton of work. We have had to make a number of management changes and do a number of things to get that kind of area going the way we need it to go. But that is an area where we will have a very big focus.

Then the third thing I think is just what I will call plain old management. You just have to -- we are in a business that some have described as a melting ice cube. There are some things that you have to do sometimes that are decisions that you don't like, but you have to look at it dispassionately and say is it the right thing for the business? That is all the other areas of your expenses.

So if you kind of divided it up and you said a third of your cost was headcount related, payroll related, a third-plus of your cost was site rents and telco, and a third is everything else, and we are focusing, as we should be in this environment, on just continuing to make ourselves as absolutely efficient as possible, the biggest area of opportunity being -- continuing to be in the site rent and telco. The next biggest area of opportunity going forward probably in that other area. That just comprises every other expense component.

In the schedules that we provide with our earnings release, which I think are quite wholesome in terms of their disclosure and information, there is one schedule that breaks out our operating expenses a little bit more detailed than what you would typically see. You can look at that and kind of get an idea for the areas that we are going to attack.

Okay. The next question -- and this is speculative. Feel free out of answer it if you don't think it's appropriate. But I am asking this just to try to get a sense of the earnings -- the cash generating ability of the Company. Let us assume that you didn't have this cloud hanging over you of this FCC order. What do you think the distribution, the quarterly or annual distribution rate would be this year if you were not dealing with that?

Well, let me answer it this way. I don't know how far back you go with your history with the Company. But I have said in the past that we were comfortable keeping around $25 million or so on the balance sheet just to be able to manage the business, run the business, and cover unanticipated things if they come up. Obviously, with the FCC Back-Up Power Order hanging over our heads, it is a much bigger number than $25 million right now. I would say that $25 million was set at a point where we were much bigger. I would probably feel more comfortable at this point with $20 million or so. We had $85 million on our balance sheet, so there is $65 million that could go back to the shareholders either in the form of a share buyback, a distribution, etc. I'd don't really feel strongly about what form it takes. It is your money; it is not our money. You are going to get it back as soon as we know we don't need it for the FCC's order.

So I guess one way to answer your question would be, if that was gone and it wasn't hanging over our heads, I would probably feel comfortable with $20 million or so on the balance sheet and giving the rest to our owners.

Okay, well, that is very useful. Just one more thing -- I hope I am not taking too much time. In the past, one of the areas of opportunity you identified was the opportunity to lead a reseller of cellphones to your client base. You commented that your cellphone revenue was down, activations were somewhat lower. Any particular reason why? Has this affected your view of the potential to develop that kind of business?

Yes. What we are seeing -- and I think it is not unique to us -- is that the cellphone market is getting a little bit saturated. It is not like it was even two years ago. It was so much easier to sell a cellphone two years ago because there were still a lot of people that were actually getting their first cellphone. Then what happened last year, which made it very nice, is the data device part of cellular telephony or mobile telephony really took out off with BlackBerries and with what we call the EVDO cards. We saw a lot of the EVDO cards for Sprint. They have a very good EVDO service -- high-speed Internet, wirelessly.

But even that now is starting to saturate a little bit. I think part of the reason is because people that wanted one of those cards or wanted a BlackBerry already got them and part of the reason is, right now, we are seeing -- and you have to kind of look at it by each segment, it is a little bit different. But in general, with what I call the Fortune 1000 accounts -- and this is true to some respect with the government accounts -- they are getting very budget-conscious. I will tell you, of all three of our major sectors, the government is the most interesting right now because I think they are going through some shortfalls. When we look at the state and local governments, the amount of sales tax revenue the states are getting or the amount of real estate tax revenue that the counties are getting have gone down. As such, they are actually beginning to actually cut some services, because I don't think they have wanted to go back and raise the tax rates yet. So that is actually impacting their thought process in terms of provisioning more services.

So I would say the primary issue would be a bit of a saturation in the marketplace. A secondary issue would just be that those higher-end data devices and EVDO cards are more expensive than a general cellphone. We don't go out, and we are not competing for a down and dirty cellphone for a consumer. Our sales, with respect to cellphones, are going into oftentimes our larger accounts that already have a bunch of pagers with us and a bunch of two-way pagers with us. We are just selling them a mix of products and services. You look at some of our really big customers, like the banks, for instance; most of the big banks in this country are big customers of ours. They have bought a lot of EVDO cards; they have bought a lot of data devices and a lot of pagers from us. They are just -- their purchasing officers are just not spending right now for obvious reasons. It is impacting our sales.

So it is just I think systemic right now in the overall economy and in the overall saturation rates of cellular or mobile telephony.

Gregory Lundberg, Communications Equity.

(technical difficulty) space in 7,970 locations. I was wondering if you could update us about what that number is now?

Hey, Greg, the first part of your question was cut off.

We didn't hear the whole first half of your question.

Sorry. Your 10-K said that you lease space in 7,970 locations. I was wondering if we could have an updated number for that.

Yes, we don't have that readily available in terms of the number of leased locations, but we do have, as I mentioned earlier, I think in the talk notes, the number of transmitters that we have now, which is 9,29.

Okay. You said that obviously you couldn't cut the next 9,000 transmitters out. So what I am trying to look at is the ratio of transmitters per site, and was wondering what you think that ratio should be, where's your don't lose the mesh effects of a reflex network. So for instance, assuming you have not decommissioned any cites and it is still 7970, your transmitters per site are now at 1.21. A year ago, they were at 1.42. I am trying to understand how that could impact service quality.

Well, we are actually terminating certain sites too, so the sites are going down. It is something -- we will report that again at the end of the year. It is not something we look at. I don't have it with me right now. So we could probably get that information. But we do vacate sites as well as transmitters, so that number will be declining over time too.

Okay. Then the customer on-site number I was interested in. Number one, do you pay any rent on any of these? Given that you typically transmit at 300 feet, are we talking about -- is that 2218 sites -- are those primarily in-building systems, for instance for a particular hospital, or are those customer-owned sites -- are you actually using those as sort of a wider radius to cover the rest of the city and link to the other towers in the mesh?

The answer to that question is a little bit of both. What we do is we get what we call PUAs or public use agreements. So it looks like a lease, but it generally says you pay $0.01 in rent a year. What happens is you will go to a big hospital, for instance, and a hospital wants to have very good penetration and very good coverage throughout its building. The doctors also want to have it work in the parking lot; the doctors also want to have that work in the suburbs. So oftentimes, a hospital, for instance, will give you a place on their roof, so you might not be 300 feet off the ground; in a large hospital, you could be 300 feet off the ground. You will put a high-powered transmitter in there. It will work in the basement, in the cafeteria, in the radiation lab; it will work everywhere in that hospital, and it will also work wider areas. So that's really what those are. They are generally associated with providing a long-term contract with a specific customer. But they can also be used to enhance the coverage, depending on where that particular facility is located.

Okay, so they are now around -- they are 23% of your transmitters.

Yes, and we have a big initiative to really, as you would imagine, to really focus on that. Our sales people are incented to get those public use agreements and bring them into our engineers and sign them up because, obviously, Greg, if we can take down to paid site and have one of these sites take its place, it is a good financial decision for the Company.

Joe Fox, KMS Ventures.

Congratulations. You guys are doing an excellent job. I think the market has misunderstood the story for quite some time.

Looking out five years and beyond, can you envision a scenario where the Company could develop a sustainable business model around their core -- around your core healthcare customer? Is that possible?

Is it possible? Yes. Can we precisely tell you exactly what that number is going to be right now? No.

When I look at this business -- and look, there is no way to hide it. We had a very strong quarter. It is a recurring type subscription type business. Even though we have a lot of churn, that probably helps us for the third quarter and for the fourth quarter.

But I also want to just caution everybody that investing in this company is not for the faint of heart. There are some risks. Tom just said a couple of minutes ago what our rate of subscriber erosion is. I think back to when we formed this company with the merger of Metrocall and Arch and we had about 6 million subscribers. We had $780-sum-odd million of pro forma revenues -- we just gave you a range of $355 million to $360 million for this year.

So our operating expenses four years ago were $560 some odd million pro forma. We are going to be probably less than half of that this year, all told. Well, we will be less than that half because we gave you a range of $245 million to $250 million.

So yes, we have done a lot of things. We recognize that this business is the melting ice cube business. So, we have been very serious about our rightsizing initiatives and about our cost cutting. The rate of revenue erosion has slowed down. We keep up a graph that we show in our management meetings, and I just kind of keep it on my desk all the time to remind me. Some of you have seen this in past conferences. But we call in managing between the lines. And on the graph -- you know, the top line on the graph is a blue line and that represents our revenue. And on the graph is a red line which represents all of our operating expenses plus our capital expenditures.

So in one way of looking at it, because we do not really have much in the way of bad debt, the blue line is cash coming in the door, the red line is cash going out of the door. The area between those curves is free cash flow. Our job is free cash flow. Now, if you will look at that graph, the slope, you know, it has flattened a little bit relative to where it was in each of the past years, but the slope is still down. We have been able to take the expense line down.

So the question you are asking, is there a particular segment that, if these other segments fall off -- and a candidate would be healthcare -- is there a particular segment that stays there much longer? I think that answer is yes, and not to say you'll lose all of your government or all of your Fortune 1000, because I do think there are people that realize what I was talking about with respect to what happened in California this week. But that slope hopefully continues to flatten.

The issue is it just gets so much tougher for us to continue taking costs out. It doesn't mean that we are going to give up, and it doesn't mean that we are not going to be at it as soon as we get off this call. But it just gets tougher. So the area becomes what does that curve look like, what does the area between those lines look at, and then, as an investor, how do you think about that in terms of a present value calculation?

We are not giving long-term forecasts here. We give you guidance each year for what we are going to do in a calendar year, and we try to highlight where we think the areas of risks are to this business. And that number one area of risk to this business is that subscriber erosion. Yes, it could slowed down. Yes, those healthcare customers I think are going to be more sticky for a much longer period of time. But that is the whole ballgame; I mean, that is the bet here. So it is kind of a long-winded way of answering your question with a big maybe.

No, definitely. I appreciate your info. What would cause that healthcare customer base to be less sticky? What is the biggest risks to that?

I guess if there was some technology that kind of really took away the benefits of paging. But the thing that paging has going for it is we are so high-power -- I mean, we work in so many different areas and places, and the biggest differentiation so far is our cost. I still haven't seen any other wireless technology get close to us on cost. I have seen some pretty slick wireless applications within the hospital, but in general, they are based on WiFi type technology. When you have that technology, it might be slick and it might work good inside a hospital and you might be able to do a lot of things on the back end with the server, but once you walk out into the parking lot, it is gone. And so I don't think -- and I do know how many of you know doctors that use pagers, but you cannot pry the pager out of a lot of those doctors' hands. I mean, they will -- you will have a problem if you try to pry it out of their hands.

So I don't know. I mean, there could be something. I don't see anything today that is doing it other than just kind of some of the natural forces with mobile telephony. But I am not saying it couldn't happen. I don't ever want to be overly optimistic and naive that we would not take some technology risk in that particular segment.

Great, guys. Thanks so much and again, congratulations.

I think we have one more question.

Ernest Jacob, Longnook Capital Management.

Your case against this FCC order sounds pretty compelling. I was just wondering if, alternatively, the FCC has attempted to rebut any of the issues that you have raised, and whether in fact, in their order before the court, they have actually addressed any of the unique characteristics of paging?

You know, they really didn't. You can read -- because I think it is a matter of public record -- the petition that they filed in response to our petition. They are just coming at it from a public safety standpoint. I know, on paper, that it might look good. Hey, let's have eight hours of backup power at every transmitter in the United States for all wireless companies that have 500,000 or more subscribers. But that was kind of done in a vacuum. It really wasn't done in coming and talking to us in the wireless industry. So, they really haven't made a lot of specific arguments toward paging versus cellular. I think we just got lumped in there.

I think that the FCC does some phenomenal things for this country and they do some phenomenal things for the consumer, and actually just an incredible watchdog agency that has done a lot of good things. So I don't mean to be disrespectful when I say that I just don't think they put a lot of thought into this and didn't pay as close attention to the Katrina Panel's recommendations as perhaps they should have.

You know, Tuesday was a perfect example in Southern California. You know, people were not losing connectivity to their mobile phones because the sites didn't have power. Most of the time, what happens if you have a bad storm or -- you will end up with wind moving an antenna or something like that. If you did lose power to a paging transmitter, which is so different than mobile phones, that it is generally not going to keep the person on the street from losing their paging service. But they really I don't think specifically considered paging versus mobile phones. At least, it sure doesn't look like that because, if they did, I think they would have excluded us from the order.

Okay. I have a follow-up. Based on your response to an earlier question, would it be fair to assume that the $50 million share buyback would not preempt a special dividend, were you to win the case against the FCC?

That would be fair to assume. I have said it before. This cash that is on our balance sheet belongs to our shareholders; it is your money. We are being a little bit prudent right now, as I think you would want us to be, with respect to compliance costs on this FCC Back-Up Power Order. Once we get some clarity on that, it will certainly help our thinking in terms of how we either accelerate our rate of distribution to the shareholders through dividends or share repurchases or Dutch tender or whatever.

I think that was our last question. So I want to thank everybody for joining us today. We obviously look forward just continuing to perform well in the third quarter and in the fourth quarter and talking to you all hopefully this fall. Have a great day. Have a great weekend, and have a great rest of your summer. And we will talk to you next time. Thank you.

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