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Brasil Telecom Participacoes SA (NYSE:BRP)

Q3 2008 Earnings Call Transcript

October 16, 2008 10:00 am ET

Executives

Paulo Narcelio – CFO and IR Officer

Analysts

Peter Lians [ph] – Oscar Grousse [ph]

Rizwan Ali – Deutsche Bank

Harry Chaam [ph] – Nemsky [ph]

Operator

Good morning, ladies and gentlemen, thank you for standing by, and welcome to Brasil Telecom Participacoes conference call to discuss the third quarter 2008 results. This event is also being broadcast simultaneously on the Internet by a webcast, which can be accessed on the link www.braziltelecom.br/ir, together with the respective presentation and the earnings release. The slide selection will be managed by you.

We would like to inform that during the company’s presentation today, all participants will only be able to listen to the call. We will then begin the Q&A session, when further instructions will be given. In case you need any assistance during the conference, please request the operator’s help by pressing star zero.

This conference call contains forward-looking statements, that are subject to known and unknown risks and uncertainties that could cause the company’s actual results to differ materially from those in the forward-looking statements. Such statements speak only as of the date they are made, and the company is under no obligation to update them in light of new information or future developments.

I will now turn the conference over to Paulo Narcelio, Chief Financial Officer and Investor Relations Officer. Please, Mr. Paulo, you may proceed.

Paulo Narcelio

Good morning, and welcome to this conference call to discuss Brasil Telecom’s results for the third quarter of 2008. I would like to start with this quarter’s highlights.

First, the company’s position as a fixed and mobile broadband provider with over 70% of Brasil’s network already adapted to ADSL 2+, with speeds of up to 24 megabits. A special increase in the ADSL position, with speeds higher than 1 megabit. The profitability of our mobile operations in this quarter, with strong sales of mobile broadband. The strong performance of fixed voice operation, which recorded base growth for the third consecutive quarter.

Then, another highlight is the launch of two new products in the beginning of September, about which I will explain later.

Moving on to slide 1, we can see the quarter’s performance highlights in comparison to the third quarter of 2007. We had a 3.4% year-on-year growth in net revenue, due to the increased revenue from data communication and the tariff adjustments approved by ANATEL in late July.

EBITDA stood at R$953 million in the third quarter of 2008, a 1.8% drop from the third quarter of 2007, mainly due to the 6.1% increase in rating calls and expenses, which will be explained on slide 7.

CapEx was more than R$600 million in the quarter. Year-to-date CapEx was R$1.5 billion, of which almost R$500 million was related to the 3G license.

Our net debt totaled R$1.2 billion, a 65% increase year-on-year, mainly due to business payments, higher CapEx, lower working capital, and in a smaller scale, the fall of the Brazilian Real, which increased our dollar-related debts by close to R$67 million in the quarter, a minor impact considering the low exchange rate exposure of our debts.

Now moving on to slide 2, we highlight the 11.7% growth in our client base in relation to the third quarter of 2007, mainly due to the 30% increase in mobile users in the period. I would like to stress that year-to-date net additions to the mobile client base exceeded 1.2 million clients.

Now, slide 3; we can see a 1.7% increase in the number of fixed lines service. Here, I would like to highlight the growth in our residential client base, which continues to be boosted by the Control plan, our wireline prepaid service. It is worth noting the growth in the non-residential segment, thanks to the converging offers and specific products for small and medium business. We made offers directed to this public through our Brasil Total Negócios packages. We also wish to highlight the loyalty complaints targeted at the wireline clients, where there is a growing addition to our telephony clients for both local and long-distance wireline services. On the same slide, we see that gross revenue from wireline telephony grew 1.7% over the third quarter 2007, mainly due to tariff adjustments in local and long distance services and (inaudible) in July 2008.

On slide 4, we show the results of the ADSL business. This quarter, we had more than 50,000 net additions, which is 15.7% more than in the same period last year. Moving forwards with the expansion of this broadband network, Brasil Telecom reached 80% of the municipalities with ADSL coverage.

On slide 5, you can see that we had a good third quarter in terms of net additions to the mobile client base, which is 1.2 million larger than in the previous year. In this quarter, there were almost 900,000 work additions, the second highest sales volume in the history of Brasil Telecom. Our current sales share is about 90% in the region, and our market share grew from 30% for 40% compared to the third quarter 2007. Our base grew by 30%, more than the average for Brazil, and for the region, especially due to the 37% growth in the prepaid client base. The growth of our prepaid base was the result of the success of offers such as Pula‐Pula Mais, in which all received calls generated bonuses for clients and encouraged clients to migrate from the hybrid to the prepaid plan. In addition, our Father’s Day campaign generated excellent results. The postpaid base also grew, thanks to the addition of Pluri packages and 3G offers, especially 3G Broadband In The Computer. The chart on the right shows the 8% growth in that service revenue arising mainly from the increase in (inaudible) revenue, in turn a result of the client base expansion, and the upturn in revenue from data communications due to 3G products.

Mobile telephony ARPU in the third quarter of 2008 amounted to R$28.80, a 17.5% decline from the third quarter of 2007, chiefly due to the substantial increase in the number of prepaid users and the fact that other operators have been blocking incoming traffic since the beginning of the year. This blocking has squeezed our interconnection revenue by close to 25 million in the quarter.

Our mobile subscriber activation cost was R$73 against R$85 in the third quarter of last year, showing the reduction in the subsidy and the upturn in the sales of SIM cards only. 40% of our gross sales are related to SIM cards only.

The next slide shows the mobile telephony business, which was R$71 million in the quarter, a significant increase over the same period last year. EBITDA margin in the third quarter of 2008 was 14.7%, an increase of 7 percentage points. On July 7, we see a 36.7% increase in our expenses compared to the same period last year, due to the (inaudible) of Brasil Telecom and Internet Groups call centers. It is worth noting that at the end of the third quarter of 2008, the Brasil Telecom Group had close to 18,000 employees, 12,000 of whom are in the call centers. Excluding call centers employees, our headcount fell by 1.4% year-on-year. And the pricing and marketing expenses totaled R$46 million in the third quarter of 2008, a 16% increase in relation to the third quarter of 2007, due to the higher number of campaigns featuring products such as 3G Mais and Pluri user product, as well as the more aggressive Father’s Day campaign.

Provisional losses and other expenses rose by 24%, basically due to the reappraisal of texts, civil and labor contingencies.

Now, moving on to slide 8, about CapEx, we see investments of more than R$600 million, of which R$400 million was in wireline telephony, including voice, data, IT, any-number portability, and almost R$200 million in mobile telephony, especially 3G.

The next slide shows our net debts. At the end of the quarter, Brasil Telecom’s consolidated net debt totaled R$1.2 billion, as we already have mentioned. Also, in light of the credit and exchange rate crisis, it is worth talking about our cash and debt position. Of our total debt of R$4.3 billion, R$2 billion is from the NDS invested into JLP long term interest rates; R$1 billion comes from the debtors inductors through the CDI rates. Almost R$500 million from the Japanese Bank, hedged by SWAT to the CDI rates. R$120 million in fixed loans, and R$500 million in bonds, other debts and the (inaudible) of which approximately R$150 million are hedged, leaving us with only $175 million with no exchange rate protection.

About our cash, it is worth noting that we are constantly revealing risks and that our financial investments are concentrated in first tier banks, mostly from the high rates offered by the market and sovereign bonds. At the end of the third quarter of 2008, the degree of financial leverage reaches the ratio of the net debt to EBITDA was approximately 29.6% versus 19.8% in the third quarter of 2007.

Well, on the last slide, we will comment on the launch of Pluri USO. This product is a single-minute package in all the clients’ wireline and mobile calls. Pluri USO’s packages vary from 250 to 4,000 minutes and can be used in calls to any wireline, terminal, or Brasil Telecom’s mobile numbers. It is worth highlighting that Brasil Telecom is the only operator offering this kind of package in region 2.

Well, those were our comments, initial comments, and we will now start the question and answer session. I have with me here Flavio de Oliviera from the Investor Relations department. Thank you very much.

Question-and-Answer Session

Operator

Ladies and gentlemen, we will now begin the Q&A session. If you would like to ask a question, (Operator instructions). Our first question comes from Peter Lians [ph] from Oscar Grousse [ph]. Please go ahead.

Peter Lians – Oscar Grousse

Hello everyone. My question is related to the transaction with Telemar. And I know that Telemar had postponed the issuance of a bond to finance the tag along of the ON shares; and I'm wondering, from your perspective, if you can give me some insight as to how that might affect the timeline. I know December 20 is a deadline for completing this transaction, and I'm wondering if this will effect that transaction, pushing it back in any way. That is question number one. And question number two, I'm not sure how the revenues are divided between Pluri and the postpaid mobile subscribers associated with Pluri, if you could just give me an idea of how the revenue from Pluri breaks up, does that go into fixed line or is that also to some of the wireless numbers? Thank you.

Paulo Narcelio

Hello, Peter. Good morning. First question, I'm sorry but I cannot comment much on this question because, you know, the company was not part of the deal. Basically between the shareholders, the controlling group and Telemar, but I don’t know if you are aware that today an (inaudible) is having about the changes on (inaudible) probably it is going to take all day long (inaudible) have their votes about the changes in regulations. And basically that is all I can comment on the first question. About the second question, if I understood well, you want to know the impact of Pluri on the postpaid wireless and wireline?

Peter Lians – Oscar Grousse

Yes, because if you look at the gross revenue, the gross mobile revenues, on page 6 of the press release, you mentioned that consolidated gross revenue from mobile service totaled 481.9 million, which is an increase of 0.6%, despite an upturn utilization of 8% and almost 20% increase in data communication. You mentioned that there is additional postpaid subscribers who come from the Pluri side, and I'm wondering, you know if somebody has a fixed line and then they sign up for Pluri and then they also add a mobile package, the revenues from that mobile package, are those added to the original fixed line revenues, or are they also included in the mobile as well?

Paulo Narcelio

Okay. You are right. We kind of split the revenue between the mobile postpaid and the other revenue that was coming from the wireline. So basically, we split this package between wireline and wireless, and actually, Pluri was responsible for increase on the number of postpaid users this quarter.

Peter Lians – Oscar Grousse

Could you give me a sense of about how much of that was Pluri?

Paulo Narcelio

We are not disclosing this number. Sorry.

Peter Lians – Oscar Grousse

Okay. All right. Thanks a lot.

Paulo Narcelio

Okay.

Operator

(Operator instructions) Our next question comes from Mr. Rizwan Ali from Deutsche Bank. Please go ahead.

Rizwan Ali – Deutsche Bank

Paulo, good morning. My question is regarding your comment about how your ARPU was affected by a lower incoming traffic. Is there a legal way to address this issue? Can other operators block incoming traffic into your network? Second question is about, you know, your balance sheet. You have cash and then you have financial investments, and I'm just wondering what these financial investments are; are they cash equivalents, or some other instruments that you invest in?

Paulo Narcelio

Okay, hi, good morning. Well, the first question about the blocking of the incoming traffic, we had commented since the first quarter this year that we noted that all of a sudden, our incoming traffic from the other mobile providers had been decreased. So we started to realize that it could be part of their anti-fraud policy or could be something else. And then we make a major presentation on ANATEL in order to have the real idea of what were the reasons that caused such decrease in our incoming traffic. ANATEL has just started an inspection inside Brasil Telecom and also in other operators in order to check what was the reason for such an important decline. But, of course, it is just for now I will not comment a lot on the issue because it is just in the start of this process.

The second question about the cash and our debt. Basically, our cash is invested on first tier banks on (inaudible) deposit from these banks. All these banks are the largest banks in Brazil. We have a policy here to invest our cash that limits our investment on 20% of our total cash position on every particular bank. And the other part of the cash, a smaller part of the cash is invested on sovereign risk bonds from (inaudible) and from (inaudible), which is the development bank from Spain. But the largest part of the cash is invested in first tier banks in Brazil.

About the debts, we had just $175 million exposure to the dollar variation and it is related to the bond that (inaudible) four years ago. This bond matures on 2014. So it is a long term debt. But, we had an option to recall this debt on February 2009. So, we believe that until February, we are going to have more – get a clear scenario in order to decide if we are going to recall this debt or to remain that deposit until 2014.

Rizwan Ali – Deutsche Bank

Thank you very much.

Paulo Narcelio

Thank you.

Operator

(Operator instructions) Our next question comes from Harry Chaam [ph] from Nemsky [ph]. Please go ahead.

Harry Chaam – Nemsky

Hi there. Thank you for taking the call. Could you confirm what your CapEx budget is for this year and for next year?

Paulo Narcelio

Harry, you see, we have a forecast to have more or less R$3 billion in CapEx, basically because now we have the 3G and we are accelerating the investments on new sites for increasing the coverage of the 3G, but for next year, we are not disclosing this number until the next conference call.

Harry Chaam – Nemsky

R$2 billion. And on the operating costs, looking at the main operating costs why your margins are so disappointing on the fixed line side where this increase in provisions and legal contingencies, could you give some more detail what your recurring number would be?

Paulo Narcelio

Harry, I'm sorry, the coverage is not so good. Could you please repeat the question?

Harry Chaam – Nemsky

The main increase in operating costs was because of increased contingencies and provisions, can you just talk a little more about – what recurring number?

Paulo Narcelio

Let me first comment on the non-recurring effects this quarter. First, we had this quarter, some agreements with companies that have been paying our network in the amount of R$40 million. Also, we had some settlement fees from law firms in the amount of R$40 million. Also, we had R$40 million impacted by our pension funds, because they are actuarial deficits. So they have limited the company’s (inaudible) R$10 million. So we had R$10 million from the company’s (inaudible) network, R$40 million from the law firms, and about R$40 million from the pension funds related to the actuarial deficits. But if you want to have a look at the run rate for the provisions, we can talk about the R$150 million a quarter. That would the best average for Brasil Telecom.

Harry Chaam – Nemsky

Okay, that is very helpful. Thank you very much.

Paulo Narcelio

Thank you.

Operator

(Operator instructions) I'm sorry, our next question comes from Mr. Rizwan Ali. Please go ahead.

Rizwan Ali – Deutsche Bank

Yes, one more question, Paulo, you know, you said that you have increased your provisions for bad debt related to some tax provisions and all that. Is that in anticipation of bad debt issues that you may face in the next couple of quarters because of the economic slowdown and the credit crisis, or is it related to you know the bad debt you very likely will incur in the third quarter?

Paulo Narcelio

Well, you can (inaudible) it is part of our very conservative policy for beginning bad debts. Of course, we are kind of anticipating the worsening of the credit conditions and the conditions of (inaudible) from our clients. But, we still have to wait one more quarter to check if you are being very conservative or you are just going the mere standard for the Brasil Telecom and the provisions for bad debts. But yes, you are right, we are kind of anticipating the new conditions for the economic scenario. Part of our provision comes from the expectations that we have on the collection of the debts.

Rizwan Ali – Deutsche Bank

And then, have you done any studies to see in an economic slowdown, whether what is the impact on the wireless side of the business to the extent that, fair thing is, which services get impacted more, wireline or wireless; and within wireless, you know, is it the postpaid guys or the prepaid guys?

Paulo Narcelio

Very complex to answer, but let me try to oblige in the following way. In our region, it is a very particular region in Brazil because it is very agricultural, and somehow, more expensive dollar rates kind of bring some benefits to our region. But of course, on the other hand, we have some economic slowdown all over the country and we can have of course some impact on, especially on the mobile business and also on the wireline business. But, we believe that the company has a very good position on the broadband side, because we are observing that everybody today is a lot focused on the broadband. So that we – dependant on the technology, we are able to provide broadband from ADSL or from the 3G or from the WiMax, whatever, and that is how I believe that we have a very good position in the market in order to be (inaudible) that we can see ahead.

Rizwan Ali – Deutsche Bank

All right. Thank you very much.

Paulo Narcelio

But we haven’t conducted any particular study about the effects because it is too early. Everybody is very confused about this economic scenario, we don’t know what is the size of this impact in Brazil, particularly speaking.

Rizwan Ali – Deutsche Bank

All right. Thank you very much.

Operator

We have a follow-up question from Mr. Peter Lians from Oscar Grousse. Please go ahead.

Peter Lians – Oscar Grousse

Hi, Paulo. My question is regarding the discounts for the ADSL. You mentioned that the deductions in the quarter rose because of these discounts, yet we see that the ADSL ARPU really wasn’t affected too much. I'm wondering if you can quantify what amount of these deductions are related to ADSL you know what we can expect for the coming quarters, more deductions, more discounts, if you could just give us an idea about that? Thank you.

Paulo Narcelio

Well, Peter, it is part of the competitive scenario that we have here in the region. You know that we are the only telecom company that faces real competition from a medium company. So that we are implementing discounts in particular regions in which you have competition from the newer company. That is why you can see that the discounts are growing, basically because the ADSL products. So it can connect this increase on the discounts, it is with the ADSL. But, we are taking very good care in order to not kind of (inaudible) base of variables, so that we are only increasing the discounts in some particular regions where the competition is a little stronger, and that is how you can see a very small (inaudible) ADSL, but in spite of the competition, we are offering higher speeds in exchange of a smaller, in spite of the gains here, we are facing competition, we have to give discounts that we are able to give in ADSL.

Peter Lians – Oscar Grousse

Okay, and in terms of the deduction from the gross revenues derived with the net revenues, we see in the third quarter just over 34% of gross revenues deducted. I was wondering if you could give an idea –?

Paulo Narcelio

For the fourth quarter, if you want to have a number, maybe it can be around 35%.

Peter Lians – Oscar Grousse

Okay.

Paulo Narcelio

Okay.

Peter Lians – Oscar Grousse

And just going forward after that, you see this is as just sort of a long term part of the – a long-term reality?

Paulo Narcelio

First we see the rates for the first quarter and then we talk about this.

Peter Lians – Oscar Grousse

Okay, okay.

Paulo Narcelio

Okay.

Peter Lians – Oscar Grousse

Great, thank you very much.

Operator

Ladies and gentlemen, since there are no further questions, I would like to turn the floor back over to Mr. Paulo Narcelio for his final remarks. Sir?

Paulo Narcelio

Well, thank you all for participating in this conference call. If you have any additional questions, please contact our Investor Relations team, especially Flavio de Oliviera and we are looking forward to meeting you again in our conference call for the next quarter. Once again, thank you and have a nice day. Bye.

Operator

This concludes Brasil Telecom’s conference call. You may now disconnect your lines, and please, have a wonderful day.

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