Thryv Holdings Inc (THRY) 2005 Q3 法說會逐字稿

Good morning ladies and gentlemen. Welcome to R.H. Donnelley's third quarter 2005 results investor teleconference. At this time, all parties are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time.

Please note today's conference is being recorded as well as Web-cast live over the Company's web site at www.RHD.com.

I would now like to turn the call over to Jim Gruskin. Mr. Gruskin, you may begin.

Thank you and good morning, everyone. I'm Jim Gruskin, EVP of Finance at R.H. Donnelley, and on the call today are Dave Swanson, Chairman and Chief Executive Officer of R.H. Donnelley; Steve Blondy, Senior Vice President and Chief Financial Officer; and Peter McDonald, President and Chief Operating Officer.

Certain statements made today may be forward-looking within the meaning of the Private Securities Litigation Reform Act. We call your attention to our our press release for the quarter ended September 30, 2005 and our Form 8-K furnished to the SEC yesterday, October 26, which both discuss our third quarter 2005 results. We also encourage you to review the Company's other periodic filings with the SEC, which set forth important factors that could cause actual results to differ materially from those contained in or suggested by any forward-looking statements.

During this call today, we will refer to certain non-GAAP financial measures in discussing the Company's performance. You can find additional information about these measures and a reconciliation between these measures and the most comparable GAAP measures in the press release and related 8-K, furnished on October 26. The press release is available on our Website, and can be accessed by going to www.RHD.com, under investor information. The separate 8-K, filed on February 24th, 2005, includes an explanation of the non-GAAP measures mentioned in connection with the SBC transaction.

Today, we will be referring to adjusted pro forma results, which unless otherwise indicated, reflect the combined results of R.H. Donnelley and the directory business acquired from SBC, assuming the transaction took place at the beginning of the period presented.

Separately, we will be referring to the pending acquisition of Dex Media, announced on October 3rd, 2005. Please review the risk factors described in the Safe Harbor language and where to find more information, at the back of the related press release. Copies of the press release and presentation related to the Dex Media transaction are also available on our Website.

Now, I would like to turn the call over to Dave Swanson.

Thank you, Jim. Good morning everyone and welcome to R.H. Donnelley's third quarter investor call. I'm going to take the next few minutes to provide you with a brief review of the third quarter highlights, and afterwards Steve Blondy will take us to the Company's financial results in greater detail. We will then be happy to take your questions.

Since our last earnings call in July, we've had more than our fair share of excitement here at R.H. Donnelley, with the headline being the announced acquisition of Dex Media -- another important step in the transformation of R.H. Donnelley.

Our operating results in the third quarter were also very solid. During the quarter, we delivered 1.7% aggregate publication sales growth, driven by another very strong performance in our Sprint markets, offset by our reconstruction efforts in Illinois. Year-to-date, we have also delivered aggregate publication sales growth of approximately 1.7%, slightly ahead of plan and a significant accomplishment, given the more challenging nature of the Illinois turnaround.

Our online products continued to gain momentum in the quarter, in both usage and sales contribution. We reported adjusted EBITDA of $147.8 million, a result that reflects solid cost control, leading us to raise full year EBITDA guidance to $590 million.

And finally, we used cash flow to repay approximately $116 million of debt.

Our Sprint markets delivered another industry-leading performance in the quarter, with publication sales growth of 4.4%. We experienced strong growth in virtually all of our major markets, with directories that published in the quarter, and saw consistent growth from both the local and the national channel. We had another outstanding performance in Las Vegas, driven by both a strong local economy and our team's exceptional efforts in the face of new competition. And once again, we received some lift from our online products as well.

I'm very encouraged by the continued strength of the advertiser renewal rates, and the growing number of new business accounts in our Sprint markets. The cumulative impact of the implementation of the R.H. Donnelley business process is delivering the desired results. For example, now in the third year, our policy of excepting advertising from businesses that demonstrate good pay habits, has contributed to high renewal rates and produced bad debt expense -- which, in turn, have enabled us to convert more sales into cash flow.

We are increasing our guidance for full year 2005 Sprint publication sales growth from 4 to 4.4%. Through the first three quarters, we've achieved year-to-date sales growth of about 4.8%, and while we expect solid sales growth in Q4, it is traditionally our softest quarter, because a disproportionate amount of Q4-published directories are in the slower growing midwestern markets.

Now I will turn to our SBC markets. Last quarter, I spoke about the near-term impact of three decisions we made to position that business for long-term, sustainable growth. First, removing advertising from the covers of our products, to strengthen our brand awareness. Second, rescoping and consolidating some of our directories together to create products that more appropriately reflect the expanded shopping areas and patterns of those marketplaces today. And third, deploying the same kind of discipline with respect to extending credit to advertisers that we use in our Sprint markets.

Publication sales for the third quarter, the smallest quarter of the year in Illinois, were down 4.5%, reflecting these efforts to clean up the products and the advertiser base. We've maintained a disciplined approach with respect to the Illinois turnaround. Rather than managing to a number for 2005, we have held firm with the decisions we made to improve the long-term growth and profitability of that business. We have no interest in perpetuating sales that won't positively impact cash flow and the usage of our products.

While our Sprint markets have exceeded expectations this year, I do think it's fair to say that we underestimated the near-term impact of these actions in Illinois. We expect to feel the lingering effects of our actions through the second quarter of next year, at which time we will have completed a full directory cycle under our new policies.

As we have said previously, the changes we're making in Illinois also make it much more difficult than normal to forecast sales results. For this reason, and because of the impact of the changes we've made in the market, we are lowering guidance for 2005 SBC pub sales from negative 2% to negative 3%. And while we are not at all satisfied with the performance in Illinois, we are encouraged by some of the things that we are starting to see. First, the number of delinquent accounts is decreasing. This positive development tells us that our new credit policy is working, and will ultimately create a more solid customer base from which we can drive renewals and recurring revenue in the future.

Second, our research is indicating that usage of our products in those markets is improving. This is the desired result from our advertising and promotion investments, and the elimination of cover advertising.

And finally, we are seeing an uptick in the number of and dollars sold from new business advertisers. We believe this is a result of changes made in our sales compensation plans and our diligence in covering the market in our sales canvases. So what this all means is that in the second half of next year, we expect that the sales force will begin enjoying renewals of advertising for more effect products, and a more stable base of advertisers. Combine that with our progress in selling more new business, and we should see an environment of consistent and sustainable growth in Illinois.

Switching to our online initiatives, traffic to our sites as measured by unique users, searches and page views, was again up sharply in the quarter. Next month, we will be launching, on a limited basis, a search engine marketing product that will generate leads from top search engines and deliver those leads to our advertisers' Web sites. For those advertisers who do not have an existing Web site, we will sell a high-quality web page to which they can drive online traffic. We believe these offerings will reinforce and expand our role as the primary lead-generation partner for our small-business customers, online, as well as in print.

We continue to make progress with our online strategy, but it will only get better following the combination with Dex Media, as we leverage our greater scale and Dex's product innovation, processes and relationships in this growing part of our business.

To sum up, in the third quarter we remained on track with respect to our key long-term priorities, continuing to deliver solid performance in our Sprint markets, building the foundation for long-term growth in Illinois, and developing our online local commercial search business.

Before I turn it over to Steve, I'd like to again point out why we are so excited about the transaction with Dex Media, that we announced on October 3rd. First, the transaction will unite Dex's online leadership and marketing innovation, with R.H. Donnelley's excellence in sales and marketing execution. And we will leverage these complementary strengths to create a Best Practices operating model that will increase our ability to deliver consistent and sustainable revenue and cash flow for years to come.

Second, a combination with Dex provides scale benefits that will become increasingly important when seeking strategic partnerships in online and wireless search, and will also help us distribute investments in our future across a bigger business.

Third, the greater geographic diversification into additional, attractive growth markets, will provide more stable growth by limiting our exposure to any single market or region.

And finally, the combination will produce meaningful synergies, efficiencies and shareholder value creation.

Last week, George Burnett, Dex's CEO and I, kicked off the integration process with all of the key functional leaders from both R.H. Donnelley and Dex. This is the same process that we successfully deployed when integrating Sprint Publishing into R.H. Donnelley. The integration teams will thoroughly examine both businesses, and develop an organizational and operating blueprint for the future that positions the newly-combined company to hit the ground running, promptly following the closing of the transaction, expected to occur in early 2006.

We look forward to updating you on these exciting developments as they unfold in the coming months.

With that overview, I'd like to turn the call over to Steve.

Thanks, Dave, and good morning. During the third quarter, the RHD business process continued to deliver in our Sprint markets, leading us to increase guidance for full year Sprint pub sales growth to 4.4%. Our steadfast process implementation in Illinois negatively affected short-term results in quarter, more than expected, prompting us to reduce current-year pub sales guidance to minus 3%.

We are building the foundation for long-term, sustainable growth in Illinois, and remain confident with our long-term 2 to 3% targets. Meanwhile, we continued to generate strong EBITDA and cash flow.

Here are the details -- Sprint pub sales grew 4.4% in Q3, compared to 3.2% in Q3, 04, marking our 11th consecutive quarter of improved year-over-year pub sales performance in those markets.

SBC Illinois pub sales declined 4.5% in the quarter, versus a 0.8% decline in Q3, 04, reflecting the actions previously mentioned. We remain committed to managing for the long-term in Illinois.

Turning to the rest of the results, the following P&L figures are reported on a pro forma, adjusted basis, assuming the SBC deal closed in January 1st last year, and all purchase accounting entries are reversed.

Adjusted net revenue of $261 million in Q3, 05 is basically flat with 260 million in Q3, 04. These figures reflect the impact of our deferral accounting method because current pub sales are recognized as revenue over the succeeding 12 months.

Operating expense excluding DNA in the quarter was $113 million, versus 103 million in Q3, 04. Direct sales costs, Internet operations, and marketing and advertising expense all exceeded last year's Q3 figures, reflecting our deliberate investment in these key areas. Also, recall that last year's expense reflects SBC carve out statements for two months, which do not include certain costs not allocated to the acquired entity.

Nevertheless, our Q3 and year-to-date EBITDA margins were still 57 and 58%, respectively.

Our Q3 05 EBITDA of $148 million compares to $157 million in Q3, last year. But remember, last year's Q3 margin of 61% did not reflect the full cost of growing the business in Illinois, as mentioned previously.

Cash interest payments of 36.5 million during Q3, compared to total interest expense of $58 million in the quarter, reflecting bond interest accrued in Q3 that's payable in Q4.

Third quarter operating cash flow was $120 million, and free cash flow was $111 million, all of which was used to repay bank debt. Please note; if you are comparing this to last year's cash flow, remember that Q3 04 benefited from a federal tax refund of $59 million.

Net debt of $3.1 billion at September 30 was 83% fixed-rate, and represented 5.3 times leverage. Our weighted average interest rate at September 30th, excluding deferred financing cost amortization, was 6.9%.

We are also updating our previous guidance provided on June 7th at the Deutsche Bank media conference. In addition to the new pub sales guidance previously mentioned, we are increasing guidance for EBITDA and cash flow. Full year adjusted pro forma EBITDA outlook of $590 million is up $10 million from $580 million previously. Free cash flow outlook of $355 million is up 4.4%, or $15 million, from $340 million previously, reflecting the increase in EBITDA, plus $5 million of lower CapEx. We encourage you to review the detailed guidance in yesterday's press release.

As a result of recent changes in FAS 123 implementation roles, we now plan to adopt the new standard next year. However, this should only benefit 05 EBITDA by $3 million, because our estimated $8 million of equity compensation expense under APB 25, will consume the balance of our previously-budgeted FAS 123 amount.

Before closing, I will add a few remarks about certain financial aspects of depending Dex Media acquisition. First, when determining the optimal form of purchase consideration, we tried to minimize the number of RHD shares issued at current trading levels and instead, to tolerate a short-term spike in leverage to seven times. Our stable revenue, high EBITDA margins, and exceptional free cash flow conversion -- particularly from our larger tax basis step up, help us to accommodate leverage while refreshing the opportunity to drive extraordinary shareholder returns from rapid delevering.

Second, we are also fulfilling our commitment to repurchase our remaining convertible preferred shares, which will reduce diluted share count by 5.2 million next year.

Third, we gained full access to Dex's existing tax basis step up, worth more than $1.3 billion or $18 per pro forma share. Ultimately, the combined company should deliver greater certainty of achieving our long-term sales growth objectives, and continuing double-digit growth in free cash flow per share.

That concludes our prepared remarks. Now, let's turn it back to the operator for your questions.

(OPERATOR INSTRUCTIONS) Mark Bacurin, Robert W. Baird.

Congratulations on a another good quarter. A couple of questions -- and you may not want to give this, Dave, but I'm going to ask anyway. The Internet business, it seems like, is clearly starting to contribute with the acceleration in your Sprint sales, and I'm just wondering if there's a way to strip out growth in the core books on an organic basis, and sort of eliminating the Internet piece. Because I think there's some question in the marketplace as to how well your books by themselves are doing relative to some of these growth initiatives on the online stuff.

Yes, you know, I will start by saying once again that management's job is to grow the whole business, and that's how we look at -- not one or the other -- but I will give you a little read there. We would be growing our print business whether we had the Internet product or not.

Okay, that's fair -- and is it fair to look at those pub sales numbers and assume that that sort of number gets translated into the actual amortized growth over the next 12 months? And that should be the case, correct?

Yes, yes.

Okay, great. Steve, on the guidance, as I look down and look where you are year-to-date, particularly on a couple lineups such as depreciation and amortization as well as interest expense, the annual guidance implies a big spike, both in depreciation as well as interest expense for Q4. So I'm just wondering if you could comment on -- are there any strange items that are going to hit in Q4, or is that just overall conservatism being built into the model?

Well, I guess there's a couple of things going on there, Mark. One is, as far as the interest expense goes, you know rates are on the rise. And I think we're just making sure that we still have some element of our capital structure subject to that. So, that's perhaps some part of it.

On the depreciation side, you know, the only thing that's happening is that, as we prepare for our Amdocs upgrade that's going to go live next year, we've had to accelerate some of the depreciation on the existing implementation, so maybe that's part of the balance.

And how big of a step up is that?.

I'm not prepared to talk about the specifics of that. But I think it's -- the full year number is probably a pretty good number.

Okay. Dave, you made comment earlier about -- you said research indicates that use of your products in the SBC markets is starting to improve. I was just curious, is that internal research, is that external research -- what specific data points are you looking at that would give you better comfort on the utilization trends?

It's a combination of both, Mark. And you know, we try to be a little cautious about that because this is run-rate research. And you really like to get four quarters under your belt before you start pounding your chest too much about it. But directionally, we are seeing what we had hoped to see. It's like -- as a result of the advertising investments that we made in marketplace, so we are feeling good about that.

Karl Choi with Merrill Lynch.

A couple quick questions. The first one regarding SBC. Given the decline in pub sales, is there anything that you can do on the cost side to mitigate the revenue shortfall there? The revenue, obviously, the reduction is -- there's going to be pretty high margins. And two, regarding the recent hurricanes, any impact that you expect one way or the other?

On the cost side, I think you conclude that we are taking some actions on the cost side to compensate, by evidence of our stronger-than-expected EBITDA performance.

What I'd say, though, is not to read too much into that because we are continuing to invest in Illinois, in terms of advertising and promotion, in terms of new product development, etc. So, while we've always got a, sort of a close watch on costs, remember that it takes a certain amount of investment in that business -- in our business, and we're not sacrificing that investment in order to generate the over-performance in EBITDA.

No, I appreciate that.

It's Peter; relative to the hurricanes, they're a horrible thing. But the reality is that, they've had a positive impact on our business. And we don't expect any unusual things to happen as a result of those.

Douglas Arthur with Morgan Stanley.

It's actually Lisa. A couple of questions -- if you -- Steve -- could talk to the dollar change in pub sales, outlook for the SBC properties. You took that down a bit, I believe for the timing of the book shifting into 06. Can you elaborate on that? And second, can you elaborate a little bit more on the cost performance in the quarter? At SBC, where exactly did you cut some costs and were costs better at the Sprint books as well?

And is there any delay in some of the investment spending you've been talking to ahead of the merger with Dex? And in terms of CapEx, if you could talk to the reduction in CapEx spend as well there.

And then lastly, on working capital, on an estimated pro forma adjustment working capital came in better than we expected in the third quarter. Why is that and how should we think about it for the fourth quarter? And I imagine there's some seasonality, but if you could elaborate -- thanks.

Well, let's see what I can do to help you with that, Lisa. I will do my best here.

I think I've got them down here in order. So, the change in pub sales from SBC, and in fact I think one of the other reports I saw this morning might have kind of got it a little bit sideways in terms of what's going on there. We have taken a couple of books from Q4 and moved them into Q1. And you see that in the reconciliations in the schedules to the press release; you can actually see it on schedule -- what is it? Schedule 9E, where the guidance for pub sales growth from minus 2 to minus 3 is accompanied by a reduction of $21 million in actual dollars. So that's what you see going on there.

And I want to just be clear about that. The reason that we're doing that is -- has to do with the opportunity associated with a longer sales campaign, with respect to those books. It's not something which we're just kind of moving around to try to achieve a particular result. We think that there's an opportunity there to change some of the product configurations; it's just going to take us a little longer in canvas.

As far as the cost performance, the cost control in SBC versus Sprint, I kind of answered that question for Karl. If you look at the full year, I think it is fair to say that there are some amounts of investment spend that we had anticipated, prior to the Dex Media deal, which we will either no longer have to incur because Dex has done a good job in some of those areas, and we will be able to leverage the investment that they've already made, and some of it also is relating to just -- some of the -- on the CapEx side, a slight delay in the timing of when we expect to get our Amdocs conversion completed. So, I think both of those would have somewhat to do with the Dex Media transaction as well.

As far as the working capital item, I think it was really more driven by, as I mentioned, the non-cash interest expense associated with bond interest payable in the fourth quarter. So it's kind of a seasonality issue as opposed to reading anything into it as a permanent change in working capital sources and uses.

And as far as even kind of stripping out the interest expense accrual numbers, working capital seems to be a little bit better in the third quarter. Is that true, and is that really a seasonal benefit in the third quarter versus, say, the fourth quarter?

Well, I think it is a seasonal thing, Lisa. And remember, I think we've told you this before, that our Las Vegas directory publishes twice a year, but only once a year do we actually focus on the national channel, and that is in the July campaign. And the national advertisers, the receivables for national advertisers are payable all upfront, whereas the local advertisers typically pay over 12 months. So you'll see, generally, a stronger benefit in Q3 from collections in that regard.

(OPERATOR INSTRUCTIONS) Paul Ginocchio with Deutsche Bank.

It's Matt Scheffler. In light of the SBC turnaround, I understand and would recognize that the number of these initiatives you are taking are going to have a near-term impact and that it's greater than expected. Are you still committed to the previously-stated four- to six-quarter turnaround?

You know what, Matt, as I said, we feel like our first clean quarter, our first real good quarter is Q3, 06. All of the different levers that we are pulling, we will kind of free and clear of those. So, I think it's safe to say, that's -- it's maybe a quarter later than what we would have originally anticipated and a lot of that resulting from when we actually were able to transition the billing and credit function, it's like, out of SBC. But you know, it's really not much different than what we originally saw.

Okay, there are three primary initiatives that you were taking; could you attribute sort of the impact to any particular one, two of those, more than the others?

Matt, you mean in terms of why we are taking it down further than we had originally thought?

Right. Is it the credit policy, or is it the removal of the advertising from the spines and covers that have the biggest near-term impact?

Yes, here's the way I think about it. I do think that the credit policy stuff is -- we're taking out little more than we would have originally forecast. That's a tough one to forecast, to be honest with you. You just don't know how many people, it's like, are going to step up to the new requirements or not. We made our best guess and it's been a little bit worse.

I think to a lesser degree, the cover advertising has -- you know, we expected to be able to convert a higher amount of that lost advertising back into the book. And that's been a contributor as well, probably not as much.

Great, and one other question -- a different line, related to the Internet strategy. What are you guys doing to marry up your strategy with that of Dex? I understand that they use Interland and SME Global for their share of change in marketing and their Web site hosting. Can you just comment on steps that you're taking there with your integration teams?.

Matt, it's premature, it's like, to talk to much. We are going through integration planning right now. It's like, that's all stuff that we will be working on a lot more in earnest.

I will tell you that the SEM product that we're going to be trialing in a couple of markets -- we are using the same vendor as Dex. So it will make the integration, it's like, go a little bit easier, we think, if we do it that way.

Michael Meltz with Bear Stearns.

I have three questions for you. Steve, just so I'm clear, you had said you're still committed to the Chicago 2 to 3% longer-term growth rate. Can you just clarify that? And do you think, given all the things you've done, that you'll see pub sales growth in 06? That's my first question.

Number two is, I think yields are up 50 bips since the beginning of September. Are you still comfortable with that 7.75% assumption you have been using for the Dex acquisition? And then thirdly, I don't think I understand the expense experience in the third quarter. Can you walk me through what was lighter than expected, and also walk me through that $11 million options cost that you thought you were going to take, and what you are actually incurring this year? Thank you.

Yes, give me just one second, Michael.

So, as far as Chicago goes, first of all I would just clarify the 2 to 3% that we've been talking about is for all of Illinois, not just for Chicago market, although Chicagoland represents the large majority of that business. And I think we are confident that we can continue -- that we can grow at that rate; it's just, it may take us a little longer to get to that run-rate -- I think is basically the message. And a little longer means, you know, a couple -- a few quarters, not a couple -- a few years.

That said, we're not prepared to talk about specific 06 guidance at this point. You know, that's something we will be talking to you when we're ready to talk about it.

As far as the funding cost for that Dex financing, I think we're still pretty confident in that rate. I think that ultimately, the financing markets will determine what that rate is. But I'm really not at Liberty to talk about the specifics of the financing at this point, in detail.

As far as the third quarter expenses -- you know, this is versus last year -- just -- well, let me back up a second. Certainly, with respect to the FAS 123, okay, we had budgeted and guided to $11 million of anticipated FAS 123 expense this year. And I'm not sure much you've spent looking at the implementation rules. But they are extremely complicated and they keep changing. And so, while we had intended to implement in the first quarter, and then it went to the second quarter. Now we're saying "you know what? It doesn't make sense to bother with that right now, with everything else that's going on." So we decided to postpone until next year.

That said, our current estimate for APB 25 expense, the equity comp expense associated with APB 25, we are estimated is going to be about $8 million. Now, that's going to -- that actual amount will depend on a number of factors, including where our stockprice -- how our stockprice trades for the rest of the year. And the higher the stockprice, the higher that amount, just the way the variable accounting works under APB 25. So, our best estimate right now is, that's going to be $8 million for the year. And I think it was between 5 and $6 million year-to-date. So, it gives you kind an estimate or an idea as to the sort of achievability of that $8 million number.

As far as other details, in terms of expenses in the quarters, you know, there's -- bad debt expense continues to be a good guy, and also as I mentioned to Lisa a little earlier, some of the IT and investment spending that we had expected in the third quarter -- in this year, has been delayed and sort of pending the Dex deal -- some of the things that Dex has already invested in, that made no sense for us to just sort of make redundant investments with what they have already done.

Okay, just one more certification here. Of the $10 million EBITDA lift to your guidance, are you saying 11 million of that is due to options, or only 3 million?

I'm saying 3 million is due to options.

Our final question comes from Maurice McKenzie with FBR.

This is Ryan, stepping in for Maurice. I just wanted to ask a couple of questions. One, competition and hoping you could update us on any competition you're seeing in the Orlando -- or new competition you're seeing in the Orlando market as well as Las Vegas. And the other one is, just volume versus pricing on the 4.4% improvement in the Sprint markets. You had mentioned on the last call that you were increasing volume, but not quite there on price. I'm just wondering if you could provide some color there.

This is Peter. Relative to competition, I think you know or it's pretty widely known, we have probably 2 to 3 to 4 competitors in all of our market places. And they continue to come each year with more and more.

We've been able to drive our business and grow the business in spite of additional competition. And that goes across the board in all markets, not just Orlando. We continue, Ryan, to focus on the value that we deliver to our advertisers and they seem to appreciate it. With new products that we continue to launch out there and benefits of the Internet, we are able to not only increase our renewal rates -- our recurring revenues, but also our new business. And that's driving the volume that we're getting, versus getting there by price.

Okay. I guess that concludes the Q&A. I want to thank everyone for your interest today, and certainly invite you to contact Jim Gruskin, our Head Investor Relations, should you have any other questions. Have a great day.

This concludes today's conference call. You may disconnect at this time.