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Alaska Communications Systems Group Inc. (NASDAQ:ALSK)

Q1 2013 Earnings Call

May 2, 2013 05:00 PM ET

Executives

Leonard Steinberg - SVP, Legal, Regulatory and Government Affairs

Anand Vadapalli - President and CEO

Wayne Graham - CFO

Analyst

Frank Louthan - Raymond James

Julia Senior - Bank of America Merrill Lynch

Operator

Good day, ladies and gentlemen, and thank you for standing by. Welcome to the Alaska Communications Systems First Quarter 2013 Earnings Conference Call. During today's presentation all parties will be in a listen-only mode. Following the presentation the conference will be opened for questions. (Operator Instructions). This conference is being recorded today, May 2, 2013.

I would now like to turn the conference over to Leonard Steinberg. Please go ahead sir.

Leonard Steinberg

Good afternoon, and welcome to the Alaska Communications first quarter 2013 conference call. I am Leonard Steinberg, General Counsel, and with me today are Anand Vadapalli, President and Chief Executive Officer and Wayne Graham, Chief Financial Officer.

During this call, company participants will make forward-looking statements as defined under U.S. Security laws. Forward-looking statements are statements that are not historical facts and may include financial projections, estimates of shareholder returns, or other descriptions of the Company's business plans, objectives, expectations or intentions.

You are cautioned not to put undue reliance on forward-looking statements as actual results could differ materially from expectations as a result of a variety of factors, many of which are outside the Company's control. Important risk factors regarding our expected results, such as Verizon's entry into the Alaska market and FCC reforms have substantial disclosures in our most recent SEC filing.

Any non-GAAP measurements referred to during this call have been reconciled to their nearest GAAP measure. You may find these reconciliations in today's Press Release and our SEC filings on our investor website at www.alsk.com. Following our remarks, we will open the line for questions.

With that, I would like to turn the call over to Anand. Anand?

Anand Vadapalli

Thank you, Leonard, and welcome to everyone on the call today. We are off to a solid start this year and our numbers reflect that. Let me start with our wired line broadband business where we have had exceptional performance. Our growth in wired line broadband, both business and consumer is sector leading. I see our performance as continued validation of our business plan and we expect to demonstrate sustained momentum in these areas.

On the consumer side, our performance reflects the attention we are paying to this market segment. Our customers recognize that DSL provides a more consistent performance compared to cable modems. This combined with the fact that we have no data caps for wired line broadband creates a product that is doing well in our market. We also focus on retention and you see that in the reduction in our broadband churn.

There is not one silver bullet. We are selling into the network we have, doing quality marketing work and leveraging the talents of our people in sales, service delivery and support. On the business broadband side we have a much broader toolbox when we go to market. First we continue to lead in technology. We are now only the third carrier in the world to be certified compliant with carrier Ethernet 2.0 standards.

Next we lead an IT Infrastructure products from our partner TekMate. We also expanded our partnerships with both equipment manufacturers and specialized service providers. All these collectively offer our sales team many points of entry into a customer relationship and many points of growth in an existing relationship. In addition our marketing work is getting increasingly sophisticated, producing results in both sales and retention performance. We now have more sales people in the field while we are developing third party channels to help to drive momentum.

Looking ahead we see continued growth and opportunity in our core broadband product. We are investing in the sector that is performing for us by improving our in-state access network and last mile capabilities. We see a business case to programmatic investments to deploy new broadband nodes while upgrading many nodes with fiber to the node.

These investments are directed at business neighborhoods, while providing some limited benefits in residential neighborhoods that we will pass along the way. We will share more details on this program during upcoming calls.

Now moving on to wireless, where we improved from a weak Q4 performance, we are focused on maintaining ground while we drive strong growth in data ARPU. We know that when Verizon begins retail operations, we and others in the market will all loose some share to the new entrant. Additionally roaming and device access will remain challenges for us over the long term.

However we know we can profitably compete by focusing on selective niche market segments in our marketplace. The AWN transaction helps by expanding our coverage in Alaska, the extent of which would be unmatched by any national competitor. This is a good lead into an update on AWN, which is a main mechanism for providing predictability of cash flows from our wireless business.

We are making steady progress on all regulatory matters. While there are a few items still open with the FTC and the SEC, we are targeting closing the transaction in the second quarter. The ultimate date truly based on satisfaction of these remaining conditions to close. Closing AWN of course allows for an immediate and substantial debt reduction when we pay down $65 million of our term loan.

As a last update on wireless, we see continued activity by Verizon in the local market and based on some of their public comments, it appears they are still targeting a market entry later this summer. Whether such entry is a turn up of their network to offload some roaming traffic or a retail entry into the market is unknown.

Lastly our focus on de-leveraging continues. While Wayne will provide more detailed numbers later in the call, what we did by way of de-leveraging in all of 2012, we accomplished in the four months this year. This is powerful. With the closing of AWN and other payments we anticipate to make, we remain on-track to achieve the nearly $100 million in debt reductions that we have planned for this year.

With this let me hand the call over to Wayne to report our financial results for the quarter. Wayne?

Wayne Graham

Thanks Anand. Our financial performance for the quarter was strong. Total revenues for the quarter were $91.1 million, up $5.1 million or 5.9% on a year-over-year basis. Adjusted for the effect of $29 million of wholesale revenue and COGS expenses recorded in Q1 2012, associated with capacity exchange agreement, revenue was up $6 million or 7% on year-over-year basis.

Total business and wholesale revenue adjusting for capacity exchange agreements increased 6.4% and consumer revenue was up 4.4%. Wireless revenue increased 21.2%. All the growth came from roaming, overcoming somewhat disappointing retail service revenue, which was down slightly year-over-year.

The upside in revenue is great, but as reminder roaming revenue will be begin to decline when Verizon turns on its network. Where our performance was strong within broadband revenue growth. Broadband revenue for business and wholesale grew 16.6%. For consumer it grew 20.5% and for wireless growth was 22.6%.

Looking at metrics, on the access line trend, consumer access line erosion was 12%, compared to 7.7% last year. We continue to experience acceleration of line losses in this area. On the positive side, business access line erosion was 1.9%, roughly half the level we experienced. So we are seeing great improvement in this area.

Not surprisingly, broadband connections across every category are trending up with sequential growth accelerating and broadband ARPU growing across every category. Wireless improved from the disappointment of fourth quarter with connections declining by approximately 1,000.

Moving to consolidated results, starting with adjusted EBITDA where we performed well, up $4.7 million or 17.9% from the prior year. Expense management was solid. Cost of services and sales increased $1.2 million or 3.5%, due primarily to higher device and accessory expenses.

Selling general and administrative, excluding the increasing of $0.5 million in AWN transaction related cost and the $0.7 million increase in stock based compensation and long cash incentives remains relatively unchanged. Free cash flow is extremely strong in the quarter where we were up $8.2 million or 84.8% from the prior year.

Now let's focus on debt balances. As many of you recall, last year was the first year in three years that our debt balances declined with $19.5 million in repayment. We’ve exceeded that amount already so far this year with $15 million of repayment in Q1 and $20 million through the date of this call. Our next maturing debt is not until October 2016, so we continue to have flexibility in our balance sheet. As we discussed in our last call, once we close the AWN transaction and gain an understanding when Verizon will launch services this year, we will provide full year guidance.

One final note; subsequent to quarter end we received a no change letter from the IRS concerning a tax dispute we have related to our acquisition of Press Communications in 2008. With this letter we will be reversing our reserves in this matter in the second quarter. This audit has created significant exposure and has been disclosed in our SEC filing. It’s a tremendous accomplishment that this matter has been resolved to complete satisfaction and the matter is now behind us.

With that, I will hand the call back to Anand.

Anand Vadapalli

Thank you, Wayne. We have a solid business plan. We are performing to the plan, and we’re demonstrating results consistently. Our growth in broadband reflects growing customer relationships and our ability to successfully compete in the marketplace. Deleveraging, strengthening our balance sheet creates optionality for us in terms of our ability to drive further growth and value creating opportunities.

Our next big milestone is the closing of the AWN transaction. We look forward to our next call and reporting continue progress in performing to our plan.

Thank you for your time. Operator, please open the call for questions.

Question-and-Answer Session

Operator

Yes, sir. Ladies and gentlemen, we will now begin the question and answer session. (Operator Instructions). Our first question is from the line of Frank Louthan with Raymond James. Please go ahead.

Frank Louthan - Raymond James

Can you give us an idea of what your perspective is on the holdup on the AWN transaction from the regulatory perspective? Is there something you’re asking for that you think is just sort of out of the ordinary or there can be more questioning than you thought or is just kind of tracking your initial expectation; that will be helpful? And can you give us an update on the LTE build out and what market you are targeting next? Thanks.

Leonard Steinberg

Sure frank. This is Leonard Steinberg and I'll respond on the regulatory approvals. So it’s not far out of last what we expected. First thing is, we did provide the regulators with transaction of the type that they’re not used to seeing. While infrastructure sharing agreements are common in parts of the world, they are less common here and the SPC certainly has not reviewed that type of transaction previously and so we expected it would take a little of extra time as they were seeing something new and just making themselves comfortable with it.

We also asked for some clarifying interpretation of the CETC rules to ensure that both APS and GCI will continue to receive CETC funding. Again, that was just something that was little unusual and different from what they have been seen previously.

So we expected that there will be little more time involved in that aspect of the SPC review. In addition, we’re seeking just clarification from the SPC, both as to the provisions of the investment company and as to some post-closing financial statement, filing of obligations and again we think we’re making good progress there, but some of these things just take a little bit of time.

Anand Vadapalli

And Frank with respect to your second question on LTE, we’ve done a good deployment of LTE and anchorage now. Clearly there is little more work to be out here in anchorage market. We expect June or later this year and Fairbank going into next year. Of course as you can appreciate, the lot of this build out will be taken up by AWN after the deal closes and expect to have a good LTE spread in the state by the end of 2014.

Operator

Our next question is from the line of Julia Senior with Bank of America Merrill Lynch. Please go ahead.

Julia Senior - Bank of America Merrill Lynch

I guess I have two. The first is on the business ARPU. Can you just talk a little bit more about what may be drive this quarterly growth? Is it just naturally sort of lumpy or is this kind of run rate that we are looking out for the year. And then on the CapEx side maybe just can you talk about where you are saving in terms of investment spend and if it's on the wire-line side, how does that square with the desire to improve speeds and network quality?

Anand Vadapalli

Let me start with your first one about where we are seeing growth on the business side. We are just delighted with what we are seeing in business in broadband. The growth that we are seeing, we certainly believe is sector leading in our space and if you think about the work that has been underway that leads to this kind of growth; first and foremost is certainly the quality of our network and the technology we bring to bear. That’s always be the strength for us and it continues to be a strength.

This recent Certification of Compliance with the Carrier Ethernet 2.0 standards, we think that's a pretty big deal for a lot of our enterprise customers and that speaks to the overall reliability of our network as well.

We certainly are doing a lot on the business product side. Late last year we launched business voice over IP hosted VoIP, We are expanding that into the enterprise space now and we are seeing good traction with that production. If you think about it, when we walk into a business to sell our products and services, we have a lot of things that we talk about with our customers and we talk about connectivity, we have talked about IT services like backup, disaster recovery, managed firewall. We have talked about manage network services, we have talked about Voice-over-IP, we’ve talked about management video surveillance. Our sales reps have a lot of tools in their tool box.

And so when you go into a new customer, there is a different points of entry to get into a relationship and if you go into an existing customer there is other points of entry to grow ARPU from an existing relationship and I think what you see reflected in our results is a combination of all of these on the business front. We see a lot of opportunity and we are going after correct, which really is a good segue into your next question on capital.

This is a little bit of a long answer but let me give you good flavor on what’s going on with the CapEx and our network. So on the network side, clearly we always had a very, very strong growth and I just talked about Carrier Ethernet 2.0. Last quarter we talked about VPLS. We have extensive long haul and I think you know that. Our investment now is really focused on improving our in-state last mile or access network. We are deploying fiber to the node; we are focused on business communities and the technology that we are focused on is VPLS, Ethernet over copper, or VDSL2 plus, and between those two we expect to deliver anywhere between 30 to 40 megabits per second speed to business customers. Of course we passed some consumer neighborhoods along the way and we'll offer the same speeds to those neighborhoods as well. Now we know that both of these technologies can go more than what we're starting off with. So there's certainly headroom for us to grow in terms of what we can offer to our customers.

In terms of coverage, we think of coverage into two perspectives. One is the number of businesses we cover and two the percentage of the workforce that we enable and for the 2013 with the build plan that we have in mind, we intend to cover 50% of the workforce in Anchorage with these new speeds and new technology that we are developing and as we do 2013 and we learn from what we see here, this will govern and inform our CapEx investments next year and beyond.

That leads to the last part of your question on overall CapEx. This year we guided CapEx of $40 million to $45 million a year and we are comfortable with that guidance. This programmatic build that I talked about is probably about 25%, about $10 million of that CapEx program this year.

Longer term going into 2014 and beyond, we think about CapEx really in two parts. There's one part where we can make a clear commercial case for investment. We see a solid return on our investment and we'll go invest that money and more often than not that'll go after business customers.

This is the second part that really depends upon the support levels we get under the high cost program. Today the current high cost programs from the FCC is the CAT (ph) 1 program. It's a frozen program and we have certain levels of support but predominantly those funds are directed towards voice. As the FCC moves more towards broadband funding we are certainly working with the FCC to make a case for appropriate levels of funding for Alaska and we are the only priced CAT (ph) carrier in the state. So this is really a case for us. I'm certainly pleased that the FCC is listening to us, engaging in dialogue. Don't know what the outcome of that will be. So longer term CapEx will depend in some part on the outcome of where the CAT (ph) 2 program settles with the FCC. So hopefully that gives you some color.

Operator

And I'm showing no further questions I'll turn the call back to Anand for closing remarks.

Anand Vadapalli

Thank you all for joining us today and we look forward to reporting back to you in short order. Thank you.

Operator

Ladies and gentlemen, this concludes our conference for today. If you'd like to listen to a replay of today's call, it will be available for one week by dialing 303-590-3030 or 1-800-406-7325 with the access code of 461-3887. We thank you for your participation. You may now disconnect.

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