Innovate Corp (VATE) 2012 Q4 法說會逐字稿

Welcome to the PTGI Fourth-Quarter 2012 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following Management's prepared remarks, we'll hold a Q&A session.

(Operator Instructions)

As a reminder, this conference is being recorded today, March 14, 2013. I would now like to turn the conference over to Richard Ramlall, Senior Vice President Corporate Development and Chief Communications Officer. Please go ahead, sir.

Thank you, operator, and good morning, ladies and gentlemen. With me today on the call are Pete Aquino, Executive Chairman; Andy Day, President and Chief Executive Officer; and Jim Keeley, Chief Financial Officer. This call is being webcast with an accompanying slide presentation that can be accessed in the Investor Relations section of our website at investors.PTGI.com on the main investor overview page. Once you have registered for the webcast, a PDF version of the slides will be available for download through that link. Please note that all the financial information we're presenting today reflects the results from continuing North American operations, including the Black Iron Data and North America Telecom segment data. Results for the Australian operations, as well as from PTGI's international carrier services segment, are classified as discontinued for all periods presented.

Before we begin our call, we would like to remind you that the statements made by the Company during this call that are not historical facts are forward-looking statements for purposes of the Safe Harbor Provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors and risks which are more fully described in our annual report, quarterly reports, or other filings with the Securities and Exchange Commission.

Although we believe that the expectations reflected in the forward-looking statements are reasonable and represent our views as of today, there can be no assurance that any of the estimated or projected results will be realized. While we may elect to update these forward-looking statements at some point in the future, we specifically disclaim any obligation to do so. During this call, we may also refer to certain non-GAAP financial measures. A discussion of any non-GAAP financial measures and reconciliation to the most directly comparable GAAP financial measures are available on the Investor Relations page of the PTGI website.

Now I'd like to turn the call over to Pete Aquino. Pete?

Thank you, Richard. Good morning, everyone. Welcome to our fourth-quarter and end-of-year 2012 call. Let's begin on slide 3. Well to start, just a brief reflection back at 2012. It was certainly a milestone year for the Company. Our business improvement efforts and dispositions resulted in a transformed PTGI focused on North America. Today our continuing operations include a North America telecom business in Canada and the United States, and our state-of-the-art Canadian data center portfolio, rebranded Black Iron Data.

Since I arrived with our new Management team at the end of 2010, we embarked on a restructuring plan and strategic review process to rationalize the worldwide Primus assets. The remaining telco and data center businesses are now legally separated, and positioned for future success. As you can see from our 2012 results, we strategically increased our capital spending year over year to invest in our Toronto tier III data center, our new Metro fiber construction, and profitable growth products and services. This initiative helped maintain EBITDA, even as revenues associated with certain traditional services expectedly decreased, continuing operations produced $261 million top-line revenue by the end of 2012, with an improved normalized EBITDA margin now at 21%.

Certainly, a key accomplishment for 2012 was the sale of Primus Australia for over $190 million. This allowed the Company to reduce debt significantly and return capital to shareholders. In addition, we can now lower our corporate overhead and already made some good progress here. Fourth-quarter corporate expense was down 30% year over year, and we're now targeting lower than our original run rate estimate of $7 million.

Looking ahead to 2013, our new organization has already begun to take shape. Effective January 1, I was named Executive Chairman of PTGI, continuing to execute on our strategy. And teaming here with our newly promoted CEO Andy Day, who is leading our excellent work force that we all recognize for doing a tremendous job in 2012.

With that, let me turn it over to Andy to go over the operations in a little bit more detail. Andy?

Thanks, Pete. Good morning, everyone. Before digging into our results, I want to outline some elements of our strategic positioning and objectives as we go forward. Black Iron Data, our newly split-out data center group, has eight data centers across Canada, with facilities in Toronto, Ottawa, Vancouver, Edmonton and London. We are located within 100 miles of more businesses than any other provider in Canada. Our recent tier III data center build and third-party compliancy and certification efforts have made Black Iron Data the most certified data center Company in Canada.

Our North America Telecom unit operates one of the largest alternative provider facilities-based networks in Canada. In total, we can offer local phone, high-speed internet, and ethernet services to approximately 75% of the households and businesses in Canada. Approximately a third of this coverage is delivered via our on-net facilities. During 2013, we will be expanding our Canadian on-net network coverage by about 20%. In the US market, we are a national provider of voice over IP services under our Lingo brand. Today, we are among the largest providers of hosted phone services to the SMB market in Canada. An emerging market, we are at the forefront of this rapidly growing new communications segment.

In addition, we continue to expand and operate our network facilities, changing foreign ownership rules in Canada in 2012 allowed us to immediately implement our Metro fiber build strategy. We started in the nation's capital city Ottawa, and will be aggressively pursuing other city builds in the near future. We provide telecom services to the largest alternative provider base of customers in Canada. Our expertise, tightly managed cost structure, and our highly skilled team is focused on maximizing cash flows from traditional services within this base that are being used to invest in our growth categories.

Continuing on Slide 3, this is our starting point for the next phase of the business as we enter 2013. Overall, fourth quarter 2012 was strong and consistent, reflecting continued progress toward our strategic and operating objectives. Total revenue of $63.3 million was down only marginally versus the third quarter of $63.9 million. Total operations normalized adjusted EBITDA of $14.1 million was achieved in the quarter, representing 2% of sequential growth. Total PTGI normalized adjusted EBITDA margin at 18.4% of net revenue is 100 basis points better sequentially, and an improvement of 240 basis points year over year. We are pleased with the progress, and continue to strive to reduce overhead.

Let's turn to slide 4 to look at the first of our two segments, our data center unit Black Iron Data. Black Iron data provides data center, cloud, managed and professional services through our eight Canadian data centers. The alignment of our dedicated team to the strategic focus has proven to be beneficial in both driving increased revenue and an improved customer experience. Black Iron is focused on servicing technology challenges that are at the core of multiple industry trends, including big data, virtualization, disaster recovery, compliancy, mobility, and increasing network traffic, all of which are driving increased demand for our data center services. With the launch of our new tier III data center and second-generation cloud platform, growth has accelerated in all areas, with strong demand from the financial and software as a service industries. Deal size and pricing remain promising as we continue to win more integrated technology solutions, and move up market.

In Q4, we began a 4,000-square-foot expansion in our Edmonton data center, to be completed in the second quarter this year. We are also in the early planning stages for a new tier III center in Ottawa, where we are the largest provider of data center services to the nation's capital city. Integrating cloud and virtualization services are a priority for Canadian CIOs, and we are seeing customers very rapidly shift from traditional infrastructure deployments to application-driven implementations that leverage both co-location and cloud capabilities from Black Iron. We're winning many hybrid cloud deployments that allow companies to gain the benefits of building their private cloud right alongside our public cloud infrastructure inside of the Black Iron Data centers.

Our recently launched second-generation cloud platform has proven to meet the requirements of businesses who have realized the significant capital and operational cost savings potential of the cloud. Cloud computing sales booking growth -- bookings growth, through the second half of 2012 was up 3 times versus the first half of the year. Although this is on a relatively small bookings base, the growth curve has certainly accelerated. The platform has an enhanced control panel, dramatically improves the scaling capabilities for our customers, and has eliminated some of the storage and performance issues that many cloud providers have struggled with over the last couple of years.

Let's look at some of our Q4 operating metrics for our data center unit. As our data centers are entirely located in Canada, I will present results in Canadian dollars. Jim will capture currency translation effects in his financial overview. Fourth-quarter revenue was CAD9 million, a 7% increase over third quarter, and 9% over a year ago. Excluding one-time set up fees in Q4 2011, revenue growth was 14% year over year. Supporting this overall revenue growth was a 15% increase in co-location services, and although a small percentage of total revenue today, a 65% year-over-year growth in our successful cloud computing business.

The Q4 data center business unit adjusted EBITDA was CAD3.3 million, which represents 37% of revenue. Although EBITDA was up only CAD0.1 million versus both previous quarter and year over year, we were able to begin investing increased spending against marketing, sales and customer support in Q4, while still showing earnings growth. We also absorbed additional expenses in the quarter associated with the unit's re-branding. In 2013, we will continue to increase spend against marketing and sales, as we feel the opportunity to capitalize on growth within the data center segment is strong. We currently have 28% of co-location raised-floor capacity available to fill, which combined with our Edmonton expansion, provides ample runway through 2013.

Total data center capital spend during Q4 was CAD4.4 million, as we completed the final stages of Toronto DC3, and started our Edmonton expansion. Maintenance and success-based growth capital represented CAD1.5 million of the total. Capital spend will remain focused on continued capacity expansion and success-based initiatives through 2013. We're focused on making the right investments to capitalize on our current position, and drive the long-term potential of Black Iron Data.

Let's move to slide 5 to look at the North America Telecom segment. Our North America Telecom unit serving Canada and the US provides voice and data services, including local and long distance, as well as next-generation services such as voice-over-IP, high-speed internet access, hosted phone, and ethernet over copper and fiber. In US dollars, so I can discuss the two markets on a combined basis, Q4 revenue was $54.2 million, with a greater than 50% gross margin. Through a constant focus on expense control, we drove normalized adjusted EBITDA to $10.8 million. At 19.9% of revenue, EBITDA was 90 basis points higher than Q3 and 180 basis points higher year over year. The change in consumer segment revenues was largely driven by expected declines in traditional local and long distance services. On the positive side, our high-speed internet revenues, now representing 23% of the consumer revenue mix, were up a significant 8% year over year.

With the introduction of stand-alone, on-net DSL at the end of Q3, we expected this launch to support internet revenue strength going forward; and in Q4, this was born out by a 3% sequential growth in on-net subscribers. Within the SMB segment, where I believe Primus Canada is very well positioned, we continue to drive on-net revenue growth with our hosted phone service. The service is operated on our own network, and leverages the best-in-class Broadworks platform.

With the launch of new features throughout the year, we have advanced our position as a leading provider of hosted phone services for the SMB market. In Q4, we realized a 36% increase in hosted phone revenue versus a year ago. Contributing to this growth was a 49% increase in the number of users per new customer compared to 2011, and an 11% increase in revenue per user, both of which are a testament to our strategy to move up market in this category.

As we continue to grow our hosted phone service base, we are increasingly bundling our on-net ethernet over copper footprint for access services. With the expansion of our ethernet footprint during 2012, we were able to expand margins for this business, double our on-net ethernet customer base, and triple year-over-year revenues. Again, as proof of our strategy to move up market, we saw a 26% increase in on-net ethernet circuits per user in 2012 versus 2011. With a focused, dedicated sales force, we expect continued success from the on-net revenue streams of hosted phone and ethernet, which are currently 16% of SMB's total revenue today. These on-net services provide over 60% gross margin, and over index as a contributor to segment EBITDA. The roll-out of ethernet over our own owned fiber to our product offering will also contribute positively to this segment of our business.

Our US retail strategy is to be laser focused on our highly profitable voice-over-IP service. This focus resulted in a 1% sequential revenue increase in Q4. Consistent revenues, combined with cost of sales and SG&A reductions, resulted in another quarter of positive EBITDA contribution from the US segment.

Moving on to our newly launched metro fiber business. We completed the construction of our fully owned fiber ring in Ottawa, and have begun adding SMB customers to this fiber optic network. In January 2013, we received membership to the globally recognized Metro Ethernet Form, and we expect NES certification of our new carrier ethernet product offering in the second quarter this year. The certification will provide formal recognition of our network, Primus-based equipment and a team of experts supporting the service. Post-certification, we expect to aggressively expand our Metro fiber offerings through our next two targeted network builds in Toronto and Vancouver. Primus Canada is positioning to offer best-in-class architecture solutions as we move up market into the enterprise segment, where many prospects are looking for greater bandwidth and network diversity options.

Q4 capital expenditures in North America Telecom were $2.2 million. The investment was largely focused on success-based growth of our hosted phone and internet services, and a completion of phase one of our Ottawa fiber ring. North America Telecom units normalized adjusted EBITDA, less capital expenditures, provided a strong $8.6 million of cash flow in the quarter, consistent with previous quarter and year over year. Moving forward, we will continue to capitalize on growth opportunities within our North America Telecom business unit, and aggressively manage our cost structure.

I'll now turn the call over to Jim to go through consolidated results.

Thanks, Andy. Good morning, everyone. The financial results from discontinued operations, which include Australia, Brazil, and ICS, have been removed from all current and prior periods, unless otherwise noted. Let's now move to slide 6, entitled Financial Summary, which provides four key consolidated financial metrics and their trends over the last five quarters.

In the fourth quarter, net revenue decreased 9.5% year over year to $63.3 million, which includes a $1.7-million increase from foreign currency translation. On a constant-currency basis, net revenue decreased 12%, due primarily to a decline in local and long distance services, offset in part by a 9.1% growth in data center revenues. We continue to concentrate our investments in high-return-on-investment areas, specifically data centers, hosted phones, and more recently, Metro fiber.

Adjusted EBITDA as reported was $11.1 million, or 17.6% of net revenue in the fourth quarter of 2012, compared to $10.7 million, or 15.3% of net revenue in the fourth quarter of 2011. Included in adjusted EBITDA in the fourth quarter of 2012 was 500,000 of severance and other non-recurring cost. Excluding these costs, normalized adjusted EBITDA was $11.7 million, or 18.4% of net revenue, compared to $11.2 million, or 16% of net revenue in the fourth quarter of 2011.

Normalized adjusted EBITDA grew 4.5% year-over-year and 4.7% sequentially, due primarily to continued SG&A optimization and contribution from higher-margin growth services revenue. As I have mentioned previously, we continue to expand our normalized adjusted EBITDA margin, as we manage our operating costs and scale down our corporate function to align with the size of the new PTGI. During the second half of this year, we reduced our corporate expenses annual run rate from approximately $14 million in the first quarter of 2012 to about $8 million at year end. In 2013, we intend to drive out additional costs so that our corporate run rate drops below $6 million. Again, despite overall revenue declines, we have been able to consistently maintain the Company's stable, adjusted EBITDA contribution.

Capital expenditures in the fourth quarter of 2012 were down to $6.6 million, compared to $8.7 million in the fourth quarter of 2011. Excluding discontinued operations, capital expenditures for continuing ops were $6.6 million in Q4, compared to $6.3 million in Q4 2011. Capital spending in the quarter continued to be driven primarily by core investments in Canada to expand our data centers. Sequentially, capital expenditures from continuing operations increased $700,000 as we began expansion of our Edmonton data center. Capital expenditures for continuing operations of $24.7 million in 2012 consisted primarily of $8.7 million in North America Telecom and $15.7 million in Black Iron Data. In 2013, we expect capital expenditures to be at or below 2012 levels, concentrating in the near term on our Edmonton data center.

Free cash flow in the fourth quarter of 2012 was a negative $6.9 million, compared to a positive $8.2 million in the fourth quarter of 2011. The primary contributors to the decrease in free cash flow over the prior-year quarter were a $15.6 million decrease in adjusted EBITDA from discontinued operations, primarily Australia, and a $2.6-million decrease in working capital, partially offset by a $2.1-million decrease in capital expenditures, a $600,000 decrease in interest paid, and a $400,000 increase in adjusted EBITDA from continuing operations. On a sequential basis, free cash flow decreased $8.2 million, due primarily to semi-annual interest payments and a decrease in working capital.

Let's move to slide 7 to discuss our balance sheet. Cash and cash equivalents as of December 31, 2012, was $23.2 million, down from $66 million September 30, 2012. Cash was used during the first -- fourth quarter for $41.6 million in dividends paid to stockholders, $600,000 for costs associated with transactions involving our 10% senior secured notes, $6.8 million in interest payments, $6.6 million for capital expenditures, and $3.7 million used for working capital, offset in part by $11.1 million of adjusted EBITDA, and $5.1 million of proceeds related to the sale of Australia.

Our long-term debt, including current obligations, at year-end was $127.8 million, down from $249.3 million at year-end 2011. The decrease is primarily attributable to the re-purchase of $119 million of our 10% senior secured notes, and the elimination of capital leases on Australia that were part of the sale. In the fourth quarter of 2012, long-term debt increased $9.1 million as part of an exchange of our 10% senior secured notes.

As we look forward to 2013, financial ground work that was laid in 2012, specifically debt reduction, which kept our leverage ratios under 3 times and lowered our annual interest payments by about $12 million, capital investments in our data centers, and cost reductions in both corporate and the operating segments positions the Company well to have another year of stable, adjusted EBITDA and free cash flow.

This concludes my prepared remarks. Operator, we're now ready to take questions.

(Operator Instructions)

Our first question will come from the line of Barry Sine with Drexel Hamilton. Please go ahead with your question.

Good morning, gentlemen, and congratulations on the new CEO announcement. A couple of questions on the CapEx that you had for 2012 and how you're doing in terms of loading customer revenue on that, mainly on the Markham Data Center. I know it's still early days. To what extent did we see revenue in the fourth quarter on that Data Center? Then the other major capital project that I look at is the fiber that you deployed in Ottawa. How are we doing? I know you said you have some customers, maybe you can give us a little more sense on both of those?

Thanks, Barry, good morning. Both of those segments of the business are now revenue-generating, so we did start ramping up the customer adds and the Markham Data Center during Q4. Clearly, going forward, it will be obviously more material than looking backward, but the sales funnel remains very strong for Markham, the team is very happy with where we're at. We do regular reviews of the funnel. We're adding customers as we speak.

On the Fiber Ring in Ottawa, we did start adding customers end of Q4. We've started to migrate existing customers I'll say on a more rapid pace during January and February; and again, that's revenue-generating, as well. Step one on the Fiber Ring in Ottawa was really cost savings; so that's been our focus, in that we already have a fairly sizeable small, medium business segment that inside of the Ring that we built. I'd say the focus is to really migrate those customers first, as well as add new customers.

I think the only thing that I would add, Barry -- this is Pete -- is that those quality investments in Tier III and the Metro Fiber Rings were really high return on investment concepts for us, in that we're shooting for the enterprise sector. So usually or typically, Primus was aimed at the SMB market and doing quite well there, and we continue to kind of own a lot of that space, but the investments in Tier III Data Centers and Metro Fiber require two things, that Andy has accomplished and the team -- which is get those centers certified, and in the case of Metro Fiber, get the Rings certified for Metro ethernet, which requires certification of the network, as well as the people.

Those are two big accomplishments I think for 2012, where we had the strategy and the vision to build a more quality center, a state-of-the-art fiber network. But on top of that, what really drives the revenue and the addressable enterprise market is to get certified, so those networks are qualified and facilities are qualified to attract the bigger customer, and the ones that are more demanding, as you know. That's really unique, and maybe lost in translation as we talk about these strategic investments that we made year-over-year.

Then just as a follow-up, you mentioned savings on corporate overhead to the $6 million range or so in 2012. The operations are predominantly in Canada now, the corporate headquarters is still in McLean, Virginia. Are you contemplating moving the corporate headquarters? Is that included in there, or might that be a later step of cost savings that we'll see?

Hello, Barry, this is Jim Keeley.

Hello, Jim.

We continue to look at ways to drive costs out of there. I mean as far as moving anything to Canada, no set plans have been put in place; but again, we will continue to look at ways to drive costs out of the organization.

Originally our run rate was about $7 million a year in remaining corporate overhead. Jim's sharpened his pencil. We think we can get below $6 million now. So the McLean office in Virginia is basically the guys in the room with general counsel, tax and accounting, and that's the corporate machine that will assist Andy and his operations to remain public and to properly report. So I think we're pretty much on track to be right-sized for the $260 million business that we are.

Okay, thank you very much gentlemen.

Your next question will come from the line of Daniel Baldini with Oberon Asset Management.

Hello. Thanks for taking my call. Am I correct in understanding that this ICS business is losing about $2.5 million a quarter?

No. That's not correct.

Okay, so --

ICS is pretty much -- it's a break-even. We're continually driving cost out of there and this year we put in new Management from Canada. Andy's taken over Management of that, and we have a really good President of that division. We've made a lot of changes as far as cost savings and driving revenue, so it is a stable place right now, $2 million is not losing that much money.

Okay, then what produced the $2.5 million of losses from discontinued operations in the fourth quarter and in the third quarter?

You have -- in the third quarter, you have costs in ICS, you have European entities that were still continuing to liquidate, so we continually have a few costs to close down those entities, and clear up any liquidation procedure we go with. The same is with Brazil, so there are some stragglers in those numbers. We also had a settlement on some litigations in Europe that we cleared out, and that's what flows through that discontinued ops line.

Okay, and one final question. You've got $20.5 million of accrued expenses and other current liabilities in current liabilities. What are the big elements there?

We had a lot of deferred revenue in there in Canada, which probably a big chunk, probably $11 million of that is in there. The rest is your normal operating accrued liabilities for payrolls and vacation, severance and your normal accruals, but deferred revenues is a big piece of it.

Okay, and that deferred revenue would be in addition to the deferred revenue that's separately listed in the current assets -- sorry, current liabilities?

Oh, I'm sorry, no. That would not be. So you have your regular accrued costs, I don't off the top of my head, I don't know the specific. I knew that deferred was a big piece of it.

Oh, okay. Well maybe I'll contact you later, thank you.

Yes, that would be great.

Your next question will come from the line of Yehuda Miller with Cedarview Capital.

Good morning guys. As I guess as (technical difficulty) -- could you just talk about a little bit of the opportunity there as well as --

I'm sorry can you speak up? We can't hear the question.

I'm sorry. I just picked up my handset. Now that the Toronto facility is fully up and running, and I guess the expansions that you're planning on doing this year. Can you talk a little bit about what the opportunities are there, in terms of -- especially in terms of how utilization was at year end, and how that's trending through the beginning of this year?

Sure. I think if you look at page 4 and you can see the capacity chart at the bottom, we've got 38,500 square feet available of raised floor today; Edmonton adds 4,000. End of year we had 28% capacity available to fill, from a co-location perspective, so as we move through 2013, we have a substantial amount of raised floor available to us in every city. Edmonton is running very full, so it's effectively full right now. The expansion that will complete during Q2 will bring that center back online, so as we move through 2013, we do have a large amount of raised floor that we can grow into.

On top of that, our cloud business from a sales bookings perspective, that's accelerating. I mentioned in my comments that we're up second half of 2012 versus first half in terms of bookings by over 3 times.

I think just to clarify, I don't know if your question was specific about Toronto, but the Markham Data Center is the third center in Toronto. So much like Edmonton where we're running out of capacity, we jumped ahead and built that Tier III center so that we wouldn't run out of space in the market. So that's the third center in Toronto.

So what is utilization in the new Toronto facility like right now?

We're just new into that facility in Q4, right?

It's 250, it has the capacity of 250 racks per pod, and it's going to have four pods, so basically a 1,000 rack asset.

Inside of that 38,500 square feet, 7,500 square feet is Toronto, DC 3 -- which is the first pod of a 30,000 square foot potential.

Okay, and is there anything that you can shed on how that's trending in terms of utilization?

No, we're not giving out any byte center metrics, or anything like that right now.

Okay, and you were just talking briefly about ICS. Could you talk about any update on the sale of that business, and what you guys are doing there to move that along?

Well at this point, ICS, as you know, is discontinued. Our goal is to have it sold by the end of June, which is a timeline that's set forth as part of the rules. So we're working on it, and we're working on it consistently, but we'll explore our options by that time period in terms of what we're going to do next. But right now, the main thing is to run it well, run it better, streamline it, and that's the work we're doing day-to-day.

Okay, I guess my final question, you guys saw in the Data Center business stand-alone, top-line growth sequentially, and talked about investment in marketing and sales dollars there, but obviously you still saw the EBITDA grow. So can we assume that continues for the full year, that the top line will grow faster than the market expenses that you guys are putting into that business?

The track record in the Data Center business over the last few quarters that we've been reporting, specifically that segment, is pretty consistent. I think what you're going to find is that the new open center provides more of a greenfield approach for bigger customers, bigger demand, and we're hopeful that the pipeline could produce that. But in terms of tracking it, if you look backwards, we've always had excess capacity to build into, and the just-in-time construction philosophy suggests that consistency will continue.

What the unknown is with the Toronto Data Center and the highly certified and qualification of the Data Center may attract even bigger customers, and that's what we're hoping for. So other than the bluebirds coming in, the trend is very positive. It's double-digits. We expect that to continue, but we have to be careful as we go to make sure we can take on the customers just in time.

Okay, thanks guys.

There are no further questions at this time. I will now turn the call back over to Mr. Day for closing remarks.

Thanks, operator. Thank you everyone for joining us on our call this morning. We will speak with you again with our first quarter 2013 results report. Thank you.

Ladies and gentlemen, that concludes your conference call for today. We thank you for your participation, and ask that you please disconnect your lines.