Telecom Argentina SA (TEO) 2006 Q2 法說會逐字稿

Good day everyone and welcome to the Telecom Argentina Second Quarter 2006 Earnings Results Conference Call. Today's call is being recorded.

Participating on today's call we have Carlos Felices, Chief Executive Officer; Valerio Cavallo, Chief Financial Officer, Pablo Caride, Financial Director; and Pedro Insussory, Investor Relations Manager.

At this time I'd like to turn the call over to Mr. Felices. Please go ahead sir.

Good morning. I would like to thank everybody for participating of this conference call. My name is Carlos Felices and as mentioned before, I am the Chief Executive Officer of Telecom Argentina. Together with me are Valerio Cavallo, our Chief Financial Officer, Pablo Caride, our Finance Director and Pedro Insussory, our Manager of Investor Relation Division.

As an introduction to this conference call, I would like to go over some highlights of the quarter. As you were able to see in the press release distributed yesterday we continue with a positive trend in our results. Our revenues continued to grow at the pace of 30%, which in approximately 3.4 billion pesos in the first semester of the year, mainly fueled by the expansion of our cellular and Internet business.

Our operating profit depreciation and amortization, show an increase of 15% to over 1.1 billion pesos and operating profit increased by 88% reaching 419 million pesos.

Although our net income tops - our net income for September was 99 million pesos, it would have been much stronger as our operating results were partially offset by foreign exchange losses related to evolution of the exchange rate -- excuse me, of the Argentine peso against the US dollar.

Moreover, the company continues to deliver a healthy level of operating cash flow that allows us to finance our CapEx programs that support the growth of our business and continue the deleveraging our balance sheet.

On the operational side, our customer base in the fixed cellular and Internet business continue to grow at different but interesting rates thus showing our competitive strength in the different markets. As an example of this positive result in a very competitive Argentine mobile market, our revenues grew by 57%, combining a strong subscriber growth and also positive ARPU evolution. In the fixed line business, revenues increased by 7%. Lines in service grew by 4% and total ADSL customers increased by 85%.

Summarizing, we would like to point out that these results are in line with the main development that we expect for this fiscal year in terms of a rapid expansion of our cellular and internet business and are also consistent with the efforts that the company is undertaking in order to offer its customers practical solutions for their increasing and progressively sophisticated demand for telecommunication therapy.

After this introduction, I would like to pass the call to Valerio Cavallo and Pedro Insussory who will go into the specific of the result that we have announced yesterday. Pedro?

Before we continue with the conference call, we would like to clarify that during the conference call and Q&A sessions, we may produce certain forward looking statements about Telecom's future performance, plans, strategies and targets. Such statements are subject to uncertainties that could cause Telecom's actual results and operations to differ materially. Such uncertainties include but are not limited to the effects of the public emergency law and complementary regulation, the effects of ongoing industry and economic regulation. Possible changes in demand for Telecom products and services and the effects of more general factors such as changes in general market or economic conditions in legislation or in regulation.

Our press release dated August 10, 2006, a copy of which will be included in our Form 6K report furnished to the FTC, describes certain factors that may affect any forward-looking statements that we may product during this session. Furthermore, we urge the audience of this conference call to read the disclaimer clause contained in slide 17 of the presentation that we've delivered.

As usual we would like to remind you that for all those that have not received our press release or our presentation, you can call our office or download them from our website at www.telecom.com.ar. Additionally, this conference call is being broadcasted through the webcast feature available in the investor relations section of our website and can be replayed through this feature.

After having done these clarifications, let me pass the call to Valerio Cavallo.

Thank you. Moving on with the conference call. Today's agenda as seen in slide 1, is to go over first through the evaluation of the Telecom group and a general overview of the context in which we operate. Then, we will go through a brief description of the performance of our fixed line business and finally, we will describe the evolution of our cellular business.

Going to slide 2, we would like to briefly detail the issues affecting the macro environment in which Telecom operates.

During the first quarter of 2006, the Argentine economy maintained the expansionary trend seen in recent years. The real GDP Growth rate stands comfortably about 8%. CPI inflation amounted to 10.6% for the 12-month period ending July 2006. And the Argentine government has taken several actions such as sector agreements involving producers and retailers or more general microeconomic measures involving fiscal policy and a gradual decrease in the rate of monetary expansion. So in the public sector, primary balance and the foreign trade balance remained positive in the first 2 quarters of 2006.

In slide 3 of the presentation, we're making an overview of the market environment. The cellular market continues to grow reaching a nominal penetration of approximately 68% of population. This growth has resulted in incremental revenue but with higher commercial expenses and accelerated CapEx plan.

In a very competitive environment, Telecom Personal is the market leader in terms of innovation and generation on new value added services.

Despite the strong development of the cellular market, the fixed line business continued to grow in a moderate pace where the more dynamic market was the broadband service. Competition is mainly focused in long distance, corporate and government accounts as well as broadband services.

With regard to the regulatory framework, the company continues to work with the authorities to finish all the administrative steps in order to be able to implement the basic agreements including the letter of understanding signed last March.

Going to slide 4. We can see the evolution of the consolidated income statement. During the first semester of 2006, our revenues grew by 30%. They were mainly driven by the expansion of the mobile business and, in a lesser extent, to the growth of the Internet and fixed line operations.

Operating costs have increased by 625 million pesos, or 39% when compared to the first semester 2005. This was mainly due to higher commercial expenses, included cellular subscriber acquisition costs, network access costs, and the cost associated to revenues., taxes and commissions on prepaid card sales , among others.

Meanwhile, operating profit before depreciation and amortization amounted to 1.1 billion pesos. 15% higher to first semester of 2005. This evolution of revenues and operating costs resulted in a reduction of the margin from 38% reported 1 year ago to 33% for the first 2 quarters of 2006.

For the full fiscal year 2005, operating profit before depreciation and amortization margin was 35%. Below the operating profit, net income for the period was mainly influenced by the negative financial results related to foreign exchange translation.

Finally, our next financial debt declined by approximately 1.9 billion pesos. Or 33% in -- since of June 2005 or by 528 million pesos when compared to December 31, 2005. mainly due to the effect of the debt restructuring of Telecom Argentina and the strong cash generation of the group. We can say that our financial ratios are improving and are comfortably within industry standards.

Going to slide 5, we are showing the evolution of the consolidated revenues broken down by business segment. As a consequence of the rapid growth experience in the mobile, the participation of this business in the consolidated revenue has been consistently increasing in recent years,reaching a participation of 55% during the first semester of 2006.

Going to slide 6. We can see our CapEx broken down by company. As shown in the slide, CapEx for the first semester of 2006 for Telecom Argentina, Telecom Personal and Núcleo, amounted to 224 million pesos, 208 million pesos and 32 million pesos respectively, with a total of 465 million pesos, equivalent to approximately $160 million. As we have mentioned in previous conference calls, our plan is to invest during the fiscal year an amount in the vicinity of $300 million.

The company continues to invest in the cellular business while increasing coverage and capacity of the GSM network. The introduction of new services and the enhancement of IT to support the business are the main areas focus.

In particular, we continue expanding our coverage in the south consistent with our commercial objective of gaining market share in this region. In the fixed line business, CapEx was mainly oriented towards the expansion of ADSL access, the upgrade of information systems and the maintenance of the network.

In addition, resources are being dedicated to the upgrade of our fixed line network to the latest technology available, such as the development of a next generation network using IP technology, that will permit us to enhance our portfolio of services and gain OpEx and CapEx efficiency.

Having gone through the evolution of our consolidated figures, I will pass the call to Pedro, who will continue with the description of the fixed line and cellular businesses.

Thank you. Going to slide 8 we can see the main items of the income statement of Telecom Argentina on an unconsolidated basis. In the first semester of 2006, revenues grew by 142 million pesos or 9% to 1.6 billion pesos as compared to the same period of 2005. The most dynamic items were the Internet businesses and the interconnection revenues generated by the incremental traffic coming from the cellular industry.

Regarding costs, OpEx rose by 116 million pesos or 16%, mainly due to the increase in labor costs due to the application of the agreements reached with the unions at the end of last year and the application of similar wage adjustments to non-unionized employees since March 2006.

Meanwhile, operating profit before D&A amounted to 900 - excuse me, 797 million pesos with a growth of 3%. Furthermore, the nominal amount of operating profit and its respective margin increased due to the growth in operating profit before depreciation and amortization and the reduction of amortization charges.

Finally, net income amounted to 99 million pesos, that was influenced that was influenced by a loss in financial results of 296 million Pesos as compared to earnings of 299 million Pesos in the first half of 2005. The revision of the financial results is mainly due to the foreign exchange fluctuations, partially offset by lower financial expenses.

In slide nine we can note that despite the growth of the cellular market the fixed lines in service continued to increase, growing year-over-year by approximately 143,000 lines, that represents a 4% annual growth rate. This growth is a consequence of the intense commercial activity performed by Telecom Argentina and the regional market.

In terms of rates the average DLD and ILD rates have remained at similar levels for the last year. Voice ARPU remains stable when compared to the same period of last year. This was achieved with the application of new plants and semi flat products as the company aims to defend its market position in this highly competitive market.

Local rates continue to be affected by the tariff freeze imposed by the government in 2002. Total voice traffic volume is approximately 1% higher when compared to the second quarter of 2005. Despite the higher number of lines in service, we're beginning to see that voice traffic is being marginally affected by new technologies particularly the cellular service. This substitution effect is more evident in services such as the [polytelephony]. For June 2006 quarter the average revenue per fixed line customer including only voice-related services decreased by 2%, 238 Pesos when compared to the second quarter of 2005.

In slide 10 we can see the evolution of our Internet business. Total ADSL subscribers reached approximately 300,000, 85% higher when compared to June 2005. Lines with ADSL connections reached a penetration of 7.3% of total Telecom's lines and service. This is a consequence of the strategy of Telecom Argentina where the expansion of its broadband service is one of its main objectives. This is being achieved through market segmentation with specific products for each type of custome,r whereby we aim to break the price orientation that other operators are following.

The ISP business has registered an increase of 38% in terms of customers due to 127,000 new broadband subscribers and the migration or churn of 34,000 dial-up clients.

Going to the subscription of the cellular business, in slide 12 we can see how the Unconsolidated Income Statement for Telecom Personal evolved in the semester. Total revenues grew by 628 million Pesos or 57% when compared to the first semester of 2005. Service revenues excluding handset sales totaled approximately 1.5 billion Pesos with an increase of 53%. This was mainly driven by the expansion of the number of subscribers of approximately 2.1 million net adds by higher levels of traffic and incremental use of value added services.

With regard to operating cost we have increased -- these have increased by 535 million Pesos or 57%. Higher expenses are related to the expansion of the business, direct taxes on sales, interconnection, commissions on prepaid card, as well as to the investment made in order to capture the opportunities of the impressive growth in the market.

Meanwhile, operating profit before depreciation and amortization amounted to 258 million Pesos, or 56% higher when compared to that registered one year ago. This important operating profit before depreciation and amortization growth is a result of the commercial efforts that Telecom Personal undertook in recent quarters in order to significantly increase its subscriber base.

We can see on slide 13 the evolution of the cellular subscriber base in Argentina. During 2006 the cellular market in Argentina maintained a spectacular growth rate while existing subscribers have massively migrated to GSM technology. As of June 2006 customers of Telecom Personal increased by 43% year-over-year and by 8% compared to March 2006. It is important to mention that the mix of post-paid and prepaid customers continues to improve. As of June 2006 post-paid subscribers, including mixed plans, what we call Cuenta Claras accounted for 36% of the customer base, up from 31% one year ago.

In addition, subscribers operating in GSM technology already represent 80% of the subscriber base. Going to slide 14 we can see that this significant subscriber growth was achieved with a 12% increase in ARPU when comparing the second quarter of 2006 and the second quarter of 2005. This is the result of the strategy of Telecom Personal of focusing in high value customers such as post-paid and hybrid plans while the incremental use of value added services continued during the first half of 2006.

For instance outgoing SMS traffic increased by 127% when compared to the first quarter of 2005. Telecom Personal continues to work towards the consolidation of its market position in the Northern and Buenos Aires regions and to gain market share in the Southern region. Moreover, considering the high penetration of the cellular service we expect a change in the profile of the market where new subscribers have come predominantly from the prepaid segments. We're already working [in this sense] and we expect that this change will occur in this second half of the year.

Going to slide 15 we can see that churn has decreased to 2.5% per month once the initial effects of the tightening of our disconnection policy have already completed. Meanwhile we see that subscriber acquisition costs as a percentage of revenues is stable.

Finally, as you see on slide 16, that our subsidiary Nucleo that operates in the Paraguayan market showed a 51% increase in revenues while maintaining a healthy level of operating profit before depreciation margin, of 30%. Moreover, Nucleo has expanded its customer base by 40% while it has increased its ARPU from $9 to $10 during the last year. Nucleo's operations are managed with a sole focus on profitability the healthy cash flow generation of the company permitted a substantial de-leveraging in recent quarters.

And having concluded this presentation let me pass the call back to Carlos Felices for final remarks.

Okay, thank you Pedro. At the conclusion of what we have been discussing during this conference call we can see that our operations continue to grow very positively, in line with our objectives for the Fiscal Year 2006.

Revenue growth is solid, fuelled mainly by the Cellular business, but also by the Internet and Fixed Line business. Additionally cash flow generation in the Fixed Line business is permitting a reduction of our net debt. It is very important to consider that the company continues to dedicate resources to the development of the business, taking advantage of the growth opportunities offered by the market in which we operate.

Main areas of focus are investment in networks and in the acquisition of subscribers, enhancement of the portfolio of products, development of commercial channels and improvement of customer support functions. And having concluded the presentation we are more than pleased to answer any questions you might have. Thank you very much.

Thank you. [OPERATOR INSTRUCTIONS] And we'll go first to Miguel Garcia with Bear Stearns.

Good morning. I have a question about the Wireless operations. Post-paid subscribers grew less than the prepaid subscribers for the first time in a couple of years. Is -- do you think this is the beginning of a trend? Should we project now increasing percentage of post-paid subscribers? Also, is this a changing strategy in a way or just that the post-paid segment in Argentina is saturated, so the only way to grow, going forward, is focusing on the prepaid segment?

Another question is regarding the possibility to get tariff increases in the next 12 months, what do you think about that? Do you think that next year it's going to be possible for the government to grant you the fixed line tariff increase? And lastly it's about the increase -- the surprising increase in CapEx from the first quarter where you had 138 million Pesos in CapEx and the second quarter 326. I wanted to know why in the second quarter CapEx was so high? Thank you

Mr. Felices, we're unable to hear you at this time.

Here we are. Okay. Regarding, to your first question, the Wireless business. As you can see the business had accelerated a lot and the increasing penetration was very important. We have not been changing the strategy of focusing in trying to acquire post-paid customers. But when you arrive to the limits of -- or to the levels of penetration that we are now it's a real fact that we will capture a portion of prepaid customers with this level of growth.

And our view is that as the growth continues this trend will continue, too. But again, it doesn't mean that we change our objective. Our objective continues to be the same, trying to be focused in post-paid. But with levels of 68% or 70% practically in penetration the post-paid is a market very difficult to attack.

Regarding the second question, tariff. The government -- we have an agreement with the government. The agreement has been developed slowly. We are working in some legal aspects of the agreement related to things in the past and we think in a reasonable period of time we will finish with that. If you see what had happened with other companies that had been finished their agreements with the government, such as electricity or natural gas provisions, you will see that all the agreements, all the price increases have been delayed. I think that the inflation factor that the government is trying to maintain under control is one of the factors that will go against the possibility of having an increase in tariff in the near future.

But we will not stop working in efforts to try to increase our tariff, but the reality tells you that it will be very difficult to achieve in a short period of time.

In terms of CapEx, which was your third question, I think the level of CapEx that we are showing and I would like to refer to the year-to-date level of CapEx are in line with what we project. The question is that in the first quarter we have an effect of seasonality. It means that it's difficult to maintain the level of the rest of the quarters in terms of production and in terms of investment. That's why the second quarter appear -- or not appear, is higher than the first quarter. But it's in line with what we projected for the year, and we don't expect to exceed except we see some important [convenience] the CapEx cut will form to the market and opportunity.

Thank you. And lastly, could you give me an update of your guidance on net ads for the Wireless business? I think last time we were talking about 1 million subscribers for this year. And I think right now we have for the first half you already have 700,000.

Okay, the level of December 2005 was 6.2 million. Our first projection shows that we will be in the - at the end of 2006, in 7.2 million. Then we'll review the level to 7.7 million and now we are thinking that probably we will be close to 8 million customers at the end of 2006.

Thank you.

We'll take the next question from [Rislyn Ollie] with Bear Stearns.

My question was regarding your ARPU. It appears that your wireless ARPU is very similar to your wire line ARPU. And if that is the case, why would you want to invest in next-generation networks or spend any money on CapEx on the wireline side of the business?

Okay. The question of the ARPU, refers -- is clarified that the ARPU that we are showing refers to voice in the wire line business. Regarding the investment that we are doing in the wireline business, we need to think what new products and what new opportunities we have ahead. And we think that a very important source of growth for us in the future is going to be our Internet business. And what we are doing is we are preparing our network in order to be ready for this business and for complementary business that will come through the mobile in order to be prepared for that because we project that the Internet business is a business that, as we show, is growing and will grow substantially in the future in our country.

Okay. Thank you.

We'll take the next question from [Dan Krekowski] with [Schroeder's].

Hi. Just a question on your advertising expenses, in particular in the mobile and the cellular business. It seems to step-up, quarter on quarter. It also stepped up, year over year. Was this due to the World Cup or is this a -- sort of 4.2% a sustainable level of advertising going forward?

It is the World Cup. Sorry, it's a joke. But the advertising - we have a strategy of reinforce our trademark in the market and trying to, through advertising, to achieve that. Obviously, when new growth in the levels of customers that we are growing and having the competition that we have from CTI and from [Movatar], we need to be continually with presence in the market, offering new services and new developments.

I think the combination of a good level of advertising permit us to be efficient in terms of investment, new customers and advertising. With this, I'm trying to say that we have been able to achieve a substantial improvement in the recognition of the customers in general. We have been efficient in investing in CapEx in that what we are trying to balance is these indicators in order to manage our resources in the best way.

And what would be a reasonable level to expect as a percentage of sales going forward in the medium term? 5%?

What we are thinking is that the levels - a reasonable level could be around 3%.

Okay. And a second question - you're expecting a notable slowdown in growth as you go forward. What do you expect to happen to churn as you go forward, and as the market begins to slow? Do you expect that to actually pick up as people are - as competition increases for existing customers? Or how do you expect the industry dynamics to change in a market that's essentially slowing?

When the market - I'll tell you our view - our view is that when the market reaches a level of maturity, the possibilities of churn will increase. What we are doing is putting focus on this point and we have a special project with a dedicated leader in order to focus in the churn issue. And because we are aware that it's a battle that we will need to fight at the moment, or we will need to take, at the moment the market reached a certain level of stability. But we are aware of that and we are preparing ourselves in order to maintain these issues under reasonable levels or under worldwide standards.

Just a last question on that. I would imagine that you expect that subscriber retention costs, are you're retaining your own subscribers, will be much lower than subscriber acquisition costs, i.e., our margins should improve pretty dramatically going forward.

Yes, exactly. We clearly identified that as a factor. And what we are trying is to retain the maximum possible quantity of customers in order not to invest in new customers because as you mentioned, it's less expensive to retain than acquire. I agree, absolutely.

Great. Thank you very much.

No one else is in the queue at this time. [OPERATOR INSTRUCTIONS] And we'll go to [Gabriel Guerrera] with [Compass Asset Management]. Please go ahead.

Hello, everybody. I've got a question concerning your free cash flow generation. The question is how much are you planning to use to buy back to retire your outstanding debt? Which percentage do you think you will retire?

Your question is how much do we want or how much we can?

Well, basically, both. How much are you planning to employ of your free cash flow generation to buy back debt? And how much of debt can you buy back?

The objective is use as much as we can of our cash flow generation in order to reduce the debt. And every moment that, or every time, that we have that opportunity to reduce our debt, we will take advantage of that. It means that what we are trying here is to balance the need of our business in order of investment with our desire to reduce our debt. And we think that it's important to understand that we are in a moment that we have to invest in our business as had been common before. To acquire a customer in the future or to acquire a percentage of market share in the future will be more expensive than acquired now. It means that we have the [two] objective that any single dollar we have in excess, we will apply definitively to cancel our debt.

Is there like an ideal target of leverage that you have in mind? And once you reach that level, you would stop using your free cash flow to buy back debt or --

We - let's put this point in clear. We cannot pay dividends for the time being. It means that, again, what we believe we will be doing is applying any cash excess to prepay our debt. Our target will depend upon the evolution of the - of our business, what our business requires, and the risk we can see in the economy in general. It means that we think we are in levels of debt that we can manage with our accurate structure.

Despite of that, we will continue with the effort. It's not the time to reduce focus. It's a time to continue with the same focus that we have had in the past. A question is that, as we mentioned, is that we are seeing opportunities of growing in our business and we will take advantage of these opportunities without not paying attention of the question of the debt. No, because we think that it's critical despite that I think that the levels of debt that we have today are very reasonable.

Okay. Thank you.

And we'll return to Dan Krekowski with Schroeder's.

Hi. Just a couple of follow-up questions, specifically on the debt. Do you have in mind an optimal level of debt? Would you like to be debt-free going forward?

Well, we're having an internal discussion here. I tell you, theoretically, we think that a reasonable level of debt should be 1.5 times EBITDA. But let me tell you something. With the experience of -- we have and we have had in the past, this theoretical number has to be put at the light of the risk you have allowed for the future. And this is something that we permanently do. And again, we will apply our resources when we think we have a return or when we have a portion of the market to capture and the rest will go to prepay our debt, at least for the time being.

Okay. And then, just a follow up on the - on one of the points made earlier. You said subscriber acquisition costs per net, or per gross add or per gross addition, is going to rise, basically. But, I mean, I take it in nominal terms and in absolute terms subscriber acquisition costs will be falling quite dramatically as a number.

As a percentage of the total, definitively, because when we are gaining critical mass with the rest of our operations, it will definitely go down.

No, I'm not talking about as a percentage. I'm talking about as an absolute number, it should fall if your - basically if the growth slows, then it should fall as a number.

I think it will be relatively constant. But you refer by customer or in total or what?

In total. On a per customer basis, obviously, the subscriber acquisition cost rises. But in terms of what you dedicate to acquiring new customers, that full number will - it should fall, shouldn't it? Or else you're spending a ridiculous amount of money to get one customer.

Well, to -- right to the levels that we mentioned before will be approximately attained.

Okay. Great. Thank you.

You're welcome.

Miguel Garcia with Bear Stearns also has a follow-up question.

Hello. Thank you for the follow up. I just wanted to have an idea of your projections for growth in ADSL subscribers.

Okay. Our target is to arrive approximately to 10% of our fixed line customer base by yearend, probably more than that.

Do you think it's both your own net subscribers and third parties, right?

Yes, but predominantly, our net.

Thank you.

There are no other questions. I'd like to turn the call back to Mr. Felices for any additional or closing remarks.

Okay. Once again, thank you for your questions and thank you for participating of our conference call. Please feel free to call our Investor Relations department for any additional questions you might have. Have a good day, now. Bye. Thank you.

Thank you very much. And that does conclude our conference for today