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Executives

LeRoy Carlson - President and Chief Executive Officer

Douglas Shuma - Senior Vice President and Corporate Controller

Analysts

Batya Levi - UBS

Telephone and Data Systems, Inc. (TDS) UBS Global Media and Communications Conference December 9, 2013 10:00 AM ET

Batya Levi - UBS

Thanks everyone coming to the UBS 41st Global Media and Communications Conference. I am Batya Levi with the telecom team, and our next speakers are Ted Carlson, President and CEO of TDS, joined by Doug Shuma, Senior Vice President and Corporate Controller.

I thought maybe we could start off with some overall comments. 2013 has been a very eventful year for your company. Can you please set the stage for us in terms of what your focus has been and what we can expect from TDS and USM in '14?

LeRoy Carlson

Yes. Well, thank you very much for inviting us to the conference, the UBS conference Batya. It's always a pleasure to be with you on this podium. Thank you. For our company, for U.S. Cellular, we have had a very eventful year. We have introduced most recently, in November 8, the iPhone, the iPad, the Apple product line. Something that we had not done before. We have had a new billing system, billing and operational support system actually. Quite complex, called TOPS, that has been introduced just recently after 17 years with an old system.

We have rolled out LTE. By the end of the year 90% of our customers will be under an LTE footprint. We are kind of leading the industry, certainly one of the leaders in the industry in the U.S. in doing that in our footprint. We have recently along with some others in the rural industry have been successful with the FCC, in getting the FCC to adopt an interoperability order for the lower 700 MHz band which enables good roaming opportunities, both to capture roaming revenue and for our customers to roam on other carrier systems, and also to enhance our handset lineup.

We have introduced shared data recently. That was -- we needed the new billing system in order to introduce that. We have sold some non-strategic spectrum at U.S. Cellular. And actually non-strategic in the sense of selling Chicago and St. Louis but also some additional non-strategic spectrum, where we sold that for over $400 million. There have been some management transitions at U.S. Cellular. Ken Meyers, who had a long and wonderful history with both U.S. Cellular and most recently as TDS's CFO, has succeeded to the CEO position at U.S. Cellular. And Jay Ellison, who had been our EVP of Operations until three years ago has rejoined the company to head up our sales and customer service area.

So a lot going on at U.S. Cellular. TDS Telecom, we recently bought Baja Broadband, our first major entry into the cable space, cable broadband space. We recently purchased MSN Communications, a solutions provider, value added reseller in the Denver area, the most significant one in that area. We have had good growth in our IPTV markets and a wonderful growth in our commercial managed IP, which is up 43% year-over-year. And we’ve had some meaningful cost reductions at TDS Telecom. So a lot going on there as well.

2014, although we haven't finalized our budget yet, Batya, so I can't speak with absolute authority just yet. We do expect to further expand our distribution at U.S. Cellular. There will be a further rollout of LTE. We expect to stabilize to another degree. I mean we are stable, reasonably stable now, but further stabilize and reduce the still remaining defects in our TOPS billing and operational support system. We will plan to monetize some non-core towers and we would hope to monetize some of the additional non-strategic spectrum that we have. And of course we would like to return to positive postpaid net ads next year.

At Telecom, we will be penetrating our IPTV markets. We have 11 of those now in service. There will be several more next year. We will be rolling out new products in Baja. Our security suite and our network defender would be a couple of those. And we would be growing our HMS recurring revenue stream, which we are quite excited about, and we would hope to make some more cable acquisitions like Baja. So a lot of things to look forward to in 2014.

Batya Levi - UBS

Okay. Great. Maybe if we could start off with spectrum. About a year ago we were talking about your asset sales to Sprint and since then you have divested more spectrum. Going back, I believe you used to say that there is significant value in spectrum. How do you define non-strategic spectrum? Can you help us understand a little bit what is core to your business and what are some other non-core spectrum assets that you could look to divest?

LeRoy Carlson

Yes. Well, I think the core spectrum, I mean I can define this in a certain way, so to your point, core spectrum is spectrum that overlays our existing operating markets. We have 32 million pops under our operating footprint, so the spectrum that we own that overlays those is really what we would call core spectrum. Now the spectrum that is beyond that falls into two categories. The largest category is what I would call today non-strategic, okay. And there you saw us sell spectrum, the REAG license in the Mississippi Valley and the spectrum sale to Verizon in St. Louis. So that spectrum that’s outside of our operating footprint.

Now there is another category, it's a small category, and that’s what you might call expansion room spectrum. And I might just point out one place like that, Redding, California. Where we have -- we surround Redding with operating footprint on three sides of Redding. Now we have some spectrum that we could launch with commercial operations in Redding. So we are preserving that Spectrum as a growth opportunity down the road. But that’s not our primary focus at U.S. Cellular right now. Under Ken Meyers leadership the focus is gaining additional penetration in existing markets. But we would like to have some room to grow.

Batya Levi - UBS

I noticed that you applied for the H Block...

LeRoy Carlson

No, no, no, we didn’t actually. It was interesting, and just during the conference call for the third quarter, Ken Meyers was asked the question, will you apply for the H Block and he said, probably. But as it turned out, after further analysis and looking very deeply at that spectrum, we decided it was not opportune. And the reason for it, there were a couple of reasons. One reason was that it was not clear that there was going to be an interoperability standard applied to it. If Sprint had gone into the auction and bought it, it would have been connected to Sprint's PCS spectrum and would have been made interoperable in a larger PCS bandwidth most likely, okay. But we would have to have depended on Sprint to do that, okay. There was no rule around it.

If Dish bought it, Dish would have incorporated it into their upper band spectrum and it would have become, basically for us, unusable unless we were to do an alliance with Dish to operate on their kind of frequency spectrum which is much higher band wavelength. And so it wasn’t clear to us how it would fall. So when you have uncertainty, you are less likely to be willing to bid for something like that. So we passed on that one. Also, it was only 5x5 [ph] MHz, so it was a modest amount of spectrum compared to the spectrum that will be coming up with AWS-3 at the end of 2014 or the incentive auction in '15.

Batya Levi - UBS

That you would be interested in?

LeRoy Carlson

Those two auctions we would be interested in. However, we are very concerned that the FCC will make sure that there are two things that happen. Interoperability among all the AWS-3 bands that will be offered and interoperability among all the incentive auctions bands, those 600 bands. And then also small license area sizes. For a company like us, who is a regional company, we need to have license area sizes that will enable us to compete to overlay our existing footprint without having to buy licenses that extend far beyond our footprint size.

Batya Levi - UBS

Right. Okay. Maybe if we turn into the tower sale. Your have probably the second largest carrier-owned tower portfolio. You have I think about 4000 towers. You mentioned that this is no longer a strategic asset. Can you talk a little bit about that? And also when you are looking for a sale or monetization of that asset, how do you view it -- like AT&T and T-Mobile have done, where it's a lease-leaseback structure, where it's under your ownership but you get the benefit of someone else managing it for you.

LeRoy Carlson

Well. So with our tower structure -- and Doug I am going to want you to supplement here, I want to make sure I kind of just set the stage. We have two kinds of towers right now. The 3850 -- 3859 towers are in our core operating markets and there are 565 towers that are in non-strategic areas, and we think about them differently. So, Doug, I am going to let you...

Douglas Shuma

Yes. The 500 or so towers, non-strategic, are those that are left from the divestiture markets in Chicago and St. Louis. We definitely would like to monetize those and that will probably happen in 2014 at some point in time. The remaining towers, those in our core operating markets, we do view as strategic. Having said that, what AT&T has done is really a financing transaction, the sale-leaseback. And that’s something that we would always consider from a financing standpoint which backup against any other financing transactions that we might look at.

Batya Levi - UBS

Okay. Maybe if we could go into detail in the list of the priorities that you have set for U.S., and the first one being the implementation of the billing system. This caused a disruption initially, you talked about that in the third quarter call, and you had mentioned that it will bleed over into 4Q but you have some measures underway right now. Can you talk a little bit about, if we have seen the worst of that transition? If you could give us some color on how churn has been trending since the third quarter, that will be helpful.

LeRoy Carlson

Yes. So from a technical standpoint, I would say we are past the worst of the transition. I mean the number of orders, we have a term called stuck orders for an order that can be processed through the system, and the percentage of those is way, way, way down. So I mean that’s going well. The number of defects that we have identified in this system, a new system like this that touches all of our existing systems, is going to come with defects at the beginning. And the number of defects is also coming down. But there is still over 100 to 200, what we call severity level 2 defects, not 1 because most of the 1s are done, but severity level 2 that need to be fixed because they are affecting some customers. And it will take, while we would like to get those done, all done by year end, some of those will probably drag over into the first quarter of next year.

So because the new system was new, a lot of customers didn’t recognize what the bill looked like. There was some bill compression because we had to delay billing until we could get it right. Now the billing has been, for the most part very accurate, but it was delayed. So there has been bill compression. So that drives calls into the call centers. So we have had a substandard for us, we have very high service standards. You know we have won Consumer Reports award four times in a row as the best large carrier in the country for our postpaid service. And so we had significant number of calls from our customers into the call centers, saying what's this about the delayed bill, how do we read our new bill. In some cases there have been some errors, okay, small, very small percentage. And so that’s caused a negative effect.

And we have had lines in the stores too because people have gone into the stores to enquire. And people have had large wait times. So churn is up because of that. I mean we knew that that if this happened I mean the churn would go up. We didn’t appreciate how severe a new billing system could affect us. So our churn is meaningfully up due to it and I think that based on history there is a lag effect. I mean customers, when you have a experience that’s not to their liking, there is about a quarter's worth of lag until you clean that up before the negative effects on churn are going to wash out of the system. So if we don’t clean this up until, let's say mid first quarter, it's probably going to be mid second quarter until we have that churn come back down because of this factor.

Batya Levi - UBS

Are you on schedule with the billing right now? Is it going out on time?

LeRoy Carlson

The billing is going out on time for 99% of the customers. Okay. There is 1% that are on old plans, because we have had -- over the many years of U.S. Cellular's history there are lot of plans that have been in effect. And so some of the plans still are not quite sorted out.

Batya Levi - UBS

So the churn is still high but it's not worse than what we have seen when you first implemented the billing program?

LeRoy Carlson

Correct.

Batya Levi - UBS

Okay. And then the second element of the billing system is the realization of the cost savings. And you had mentioned that it will be about $60 million that would come off once you are fully on the new system.

LeRoy Carlson

Right.

Batya Levi - UBS

Is that still the target and is that...?

LeRoy Carlson

Yes. That's still the target. We don’t know whether we will realize 100% of that next year but that’s still the target for next year. As I said, there will be some clean up in the first quarter, how much that’s going to cost us, that’s a little bit of an unknown number right now.

Batya Levi - UBS

Okay. And you haven't started to realize any of that this year, so this is all...

LeRoy Carlson

No, I would say we had realized that this year.

Batya Levi - UBS

Okay.

Douglas Shuma

Yes. Just to clarify. The $60 million was the expense that we saw in 2013 to implement the system. Now that the implementation is done that should be...

Batya Levi - UBS

So there is more cost coming in, okay. Great. So the second element -- the second priority which has kind of like allowed you to implement once you have the new billing on place, is the shared data plans. Can you talk a little bit about the customer take rates? Are you fully in the markets with those plans and how do you compete with the nationals on the share data?

LeRoy Carlson

Doug, do you want to?

Douglas Shuma

Yes. The take rate has been very nice, what we expect. From a competition standpoint, I think we are competitive with the nationals. They are very similar type plans and our customers are taking them and enjoying them.

Batya Levi - UBS

On Thursday, or Friday, AT&T announced some adjustments to their shared data plan. Lowered the pricing on the high-end buckets. What is your response to that?

LeRoy Carlson

Well, our view of that one is that originally when T-Mobile and Sprint put in their new financing plans, AT&T and Verizon put in similar plans but those plans in effect did not give a discount on the service. So that in effect, customers were paying twice for being on one of those financing plans. And when you expect a customer to pay twice, it usually doesn’t last very long in the market place. So I think what we have seen is AT&T backing off from that idea and I don’t know if Verizon will back off or not. I mean obviously you are making more money when a customer is paying twice but I wouldn’t be surprised if they too backed off. I mean we are going to be implementing our financing plan for handsets in the first quarter and I would anticipate right now that, since we do tend to follow AT&T and Verizon. Since AT&T has backed off, we would follow the AT&T model rather than the Verizon model if Verizon stays where it is.

Batya Levi - UBS

Okay. Verizon spoke this morning and they mentioned that they view it as a slight adjustment. They don’t think it’s a plan that they need to respond to. Although I thought there was a caveat where they said, they are not chasing the low-end of the subscriber base but they want hold on to the high end base. So they will only response if they see any departures on the high-end side. Can you talk a little bit also maybe how you balance your plans in terms of reaching the low-end, the high-end or the family buckets? I guess with the share data your mix of family plans is going to increase. What is the sweet spot of subscriber base that you want to appeal to?

LeRoy Carlson

Well, most of our customers are families. I mean members of families on family plans, 71% are on those. But we do have plans that we think appeal to the whole range and we give data buckets that kind of like are an incremental 2 gigabytes. So we have 1, 2, 4, 6, and 8, 10, 12. So people can find their way to get in a plan that’s going to fit their needs and they can adjust if it doesn’t.

Batya Levi - UBS

Do you any data points on what percent of the new sales are taking the 10-gig or higher plans? Or is it very [indiscernible]?

LeRoy Carlson

I don’t. We could get back to you on that. I doubt it. I doubt if there is a high percentage because our average 4G customer is using 1.2 gig a month.

Batya Levi - UBS

Okay. That’s prior to the iPhone?

Douglas Shuma

Correct.

LeRoy Carlson

Well, it's prior to the iPhone but that’s 4G, right. So it's not 3G, it is 4G and I think the Android usage is pretty close to the iPhone today. It didn’t used to be.

Batya Levi - UBS

Okay. Maybe the third priority then we could touch on is the device lineup. You got the iPhone on November 8. Can you talk about, first, maybe the availability of the deice and also the impact that you think it will have on the sales retention?

LeRoy Carlson

So Doug, do you want to?

Douglas Shuma

Sure. So the 5C and the 4S we are getting all that we are placing orders for. The 5S, the tablets, we are definitely constrained. We are probably seeing a third of what we would like to receive right now. But the sales of the iPhone have been very strong, pretty much what we expected or we have forecasted.

Batya Levi - UBS

Okay. And in terms of receiving a third of the order, so how long is the wait time for the subscribers or for the clients [ph]?

Douglas Shuma

I am not sure I get that exactly.

Batya Levi - UBS

Sure. Like, I guess with AT&T and Verizon typically they say one to two week of wait time before you get the device. Is it similar so that...?

Douglas Shuma

Yes. That’s identical.

Batya Levi - UBS

Okay. And the lastly, the last wireless priority was the LTE coverage. You mentioned that you are ahead of the deployment and you expect to have 100% coverage by year-end?

LeRoy Carlson

No, no.

Batya Levi - UBS

So, 90-plus?

LeRoy Carlson

90. 90 is not 100 for us. Because I will tell you, Batya, 90 means two-thirds of our cell sites. There is another one-third which are in more remote areas to cover that last 10%.

Batya Levi - UBS

Okay. And how long would that take?

LeRoy Carlson

Well, the budgets haven't been finalized yet. I think that we will cover a good portion of that in 2014. There may still be a little bit left for 2015, as a way it's looking right now. But it's not finalized yet.

Batya Levi - UBS

Okay. And when you talk about two-thirds of your coverage, you mean two-thirds of the cell sites...

LeRoy Carlson

Of the cell sites.

Batya Levi - UBS

Will get the LTE equipment on them?

LeRoy Carlson

This year.

Batya Levi - UBS

This year. Okay. What about the backhaul piece? Will all of them also get a fiber feed once they are upgraded to LTE?

LeRoy Carlson

Well, Jane, do you know the answer? I don’t think we have fiber feeds everywhere. I think that we have a certain number of gigabits of capacity that we order up from people who feed the cell sites. And some of those, many of them are fiber fed. But some of them I believe are fed, they could be fed with coaxial cable. And a number of them still are fed with microwave. So it's a mixture for us.

Batya Levi - UBS

Okay. So when we look at the cost buckets, there are a lot of puts and takes. With the LTE deployment you are going to get some savings. When the billing conversion is done, there are some savings. With the iPhone, the subsidy cost is going higher. Can you just put us all in perspective and how we should think about cost going forward or maybe margins going forward?

LeRoy Carlson

Doug, do you want to...?

Douglas Shuma

Yes. I think you laid it out. There are a lot of puts and takes. The biggest take is the iPhone subsidy, obviously, which we will see a lot of in 2014. Going forward, the puts, the good news is we are going to realize those savings. The billing system will give us nice savings. LTE, we are seeing nice savings from those LTE sites. And then layer into the put, shared data, allowing us to monetize some of the growth in data usage. So 2014 you may not see it with the iPhone but beyond 2014 we would expect to see margin expansion.

Batya Levi - UBS

Okay. Maybe quickly on the prepaid segment. It's been a segment that you have done better than expected. Can you talk just a little bit about if this is a segment that you will continue to pursue given some incremental competition coming from T-Mobile, maybe even Sprint? How do you view this segment?

LeRoy Carlson

Well, I think that the important thing is to realize that why we think we can be successful in that segment. Now we are primarily a postpaid company because we offer a very high quality level experience, and it's based on our network quality which we intend to be either first or second in everyone of our markets and we have won many network quality awards year after year. So I think that there are prepaid customers who not only want something that’s cheap, but they also would like to have a great network experience. And I think that that’s something that we can offer them to a better degree then some of the big four, many of the big four can offer them, a better quality network experience.

So for us, we don’t think it's going to be a huge part of our business. I mean we are still 92% postpaid at U.S. Cellular. And I would anticipate remaining in that kind of 90% range, but why not offer a prepaid product if you have got a great network and it's kind of like a byproduct for us. Postpaid is our primary product, but it's a byproduct because once you invest in the network, it's a fairly small cost to add a prepaid service on top of it.

Batya Levi - UBS

That’s great. Okay. On the regulatory side, I believe your ETC exposure is about $160 million and falling about 20% a year right now. We are waiting for the USF reform. They hope to get it done by the July of next year. But do you think that this could be an opportunity for you to tap into the wireless broadband fund and maybe slow down the decline in the ETC revenues?

LeRoy Carlson

Doug?

Douglas Shuma

Well, we already did tap into one of the first waves, the Auction 901. We are receiving $40 million from the government there. We hope it's an opportunity but they haven't announced what the new rules are going to be coming before July 1. That is since they get the new rules in place by July 1, we are carefully watching that. If they don’t, the next 20% decline doesn’t come.

Batya Levi - UBS

Okay. And a question about fixed wireless broadband. Some of the regional, actually one of the regional wireless operators is partnering up with Dish to trial this service. What's your view on fixed wireless? Would you -- is this something that you could -- you would be interested in?

LeRoy Carlson

Well, we offer a home service today at U.S. Cellular. So we are offering that. But again, it's for the broadband user who is a fairly light user. I think that I mentioned that our TDS Telecom user uses 40 gigabytes per month on average whereas our LTE user is 1.2. So there's this vast disparity. So we are not going to be able to provide 40 gigabytes to someone and be cost competitive with a wired facility.

Batya Levi - UBS

That’s the average, right? The 40 gigabytes...

LeRoy Carlson

The average wireline user is 40-gig and our average LTE user is 1.2.

Batya Levi - UBS

What about the median on the wireline side?

LeRoy Carlson

The median, I don’t know that number. It's a good question, we will find out that number.

Batya Levi - UBS

Okay. Maybe just to finish it off on the wireless side. Can you talk -- I understand the budget is not completed yet, but give us some indication of CapEx for next year because....

LeRoy Carlson

On the wire....

Batya Levi - UBS

On the wireless side.

LeRoy Carlson

Wireless side.

Batya Levi - UBS

Right.

LeRoy Carlson

Now Jane is probably -- she would be kicking me if I were sitting next to her because we don’t usually give that number until February when we give our guidance for next year. Jane, is that correct?

Batya Levi - UBS

Okay. That's fair.

LeRoy Carlson

Okay. So I am sorry, Batya.

Batya Levi - UBS

Okay. I guess [indiscernible], I was thinking more directionally. You have most of the LTE coverage done but you still have that, a third of the cell sites coming in next year. And I guess it depends with the level of usage....

LeRoy Carlson

It depends on what portion of that third we are going to actually approve in the budget. The budget hasn’t been approved for next year yet.

Batya Levi - UBS

Okay. Fair enough. Maybe shifting to the TDS side. You have made some acquisitions on the hosted and managed services side. Can you talk about the demand you are seeing in this segment? What is competitive environment like? And I wanted to go into a little bit detail because this is a segment where we have seen various results from companies. Some are struggling and some are seeing very nice growth on an ongoing basis. Can you talk a little bit about your experience?

LeRoy Carlson

Yes. I think, first of all I want to distinguish between the two parts of our hosted and managed services, our company. We have one part that we call our recurring revenue stream, okay. And those are things like data center co-lo space. They are things like cloud services. They are things like hosted applications or managed applications for companies. So those services for us are growing at a rate of over 10% a year. Now we think we can accelerate that rate but right now they are growing over 10% a year, which is a great growth rate in the broader, if you want to call it, telecom data industry.

Batya Levi - UBS

And it's organic growth?

LeRoy Carlson

Organic growth, right. And so organic. So the other part of what we own is something called value-added reseller or solution provider, which are companies that distribute telecom equipment for major manufacturers like Cisco and Hewlett Packard. And we bought two companies that were in that space. One called Vital, a year ago, and then MSN this year. And the growth rate for that segment is, organic growth rate, is more like 3% to 5%. But the reason we bought those is not for the high growth rate but because those companies have sales forces which are highly liked by their customers. So they have a -- customers have high receptivity to listening to the advice of our sales team because they have been working with them for years.

So by having those sales teams working for us, we can then introduce to those sales teams, the recurring revenue products. The cloud, the co-lo, the managed services and the hosted services. So what we are hoping to do is to accelerate the growth of our recurring revenue streams, which are typically higher margin, through the sales forces of these value-added resellers.

Batya Levi - UBS

What phase are we in in terms of that integration process?

LeRoy Carlson

It's just happened. This was just announced I think about two weeks ago. OneNeck solutions, right Jane.

Douglas Shuma

I don’t think it's been announced yet.

LeRoy Carlson

I am sorry. Now it's been announced. My mistake, but there you go.

Batya Levi - UBS

Thank you for that. Okay. Great. And so I guess these businesses have lower margins but it provides some accretion to the revenue growth on the strategic side, on the co-lo and managed side. So overall...

LeRoy Carlson

Right. So it's all strategic but you are right. The one side accentuates the other side, the recurring revenue stream. Right.

Batya Levi - UBS

Okay. Great. And maybe just going on to the IPTV video and broadband side. You had mentioned that on the IPTV side there are few markets that you plan to launch. Can you talk a little bit about what's the addressable market? What is the angle or how many homes do you plan to have of video service into...?

LeRoy Carlson

Well, you know that’s a moving target because their continues to be developments and improvements both in the technology and in our way of going to market. I mean we recently adopted something we call a Fiberville approach to the world, which is somewhat similar to Google's fiberhood where you go and you get customers to pre-signup for taking fiber to the home. And if you can get enough customers signed up for fiber to the home, then you go in and fiber that neighborhood. Now we are doing that at TDS Telecom.

But the ones that we have announced and the ones that are on the drawing board are a little bit over about 80,000 homes tested. But there is some upside I would hope but I can't guarantee, because in total TDS Telecom there are some 700,000 homes tested. Now that’s excluding Baja. So the 80,000 plus that we would test is still a small percentage of the total at this point, given what we know about technology and what we know about ways to go to market.

Batya Levi - UBS

Can you talk a little bit about the Baja acquisition? How it's going in terms of the integration and some synergies that you expect to get from that? And you mentioned that you are interested in similar targets?

LeRoy Carlson

Yes. So fundamentally, let me take you up there, kind of the strategic viewpoint, the ILEC, the traditional ILEC is evolving from a voice company to a data company. And cable is evolving from a video company to a data company. And so they are evolving to the same place. And so as we realize this, we said well, why shouldn’t we look at cable companies for acquisition to grow in this new world data space, just as we in the past have looked at ILECs to grow into this new world data space. And the Baja property had some significant advantages. It was underpenetrated, it has brand new plan, DOCSIS 3.0, to 96% of its service addresses. And it increased our total addressable market by, I guess today, 16,000 homes passed. So a 30% increase in Telecom addressable home passed. So it was a great acquisition.

And in the sense of integration, because they are both focused on data, we can have the same engineers engineer the systems. We can have our 10 gigabyte network that feeds the existing ILEC systems, feed Baja's systems to deliver those head-end signals to the systems. We can achieve economies through programming cost savings. We are introducing new products to the business community at Baja. Products that we have already perfected at TDS Telecom. We have the same marketing department running the marketing at Telecom that we have running at Baja. There is all kinds of opportunities for integration because fundamentally they are in the same business. They are in the data business serving small towns and rural communities.

Batya Levi - UBS

Right. I guess....

LeRoy Carlson

And we are looking for more acquisitions. Right.

Batya Levi - UBS

To that, I would like to follow up, there is a lot of momentum in cable consolidation these days and the multiples have gone up. How do you balance your view of integrating, driving synergies out with sort of the higher than last year's multiples on these cable properties?

LeRoy Carlson

Well, you have to be very careful you don’t get excited, right. Because the last thing you want to do is to overpay for an acquisition. I mean in the case of Baja, we paid only 1200 per home passed. And we had a property that was growing faster than the national average population growth and also had a lot of upside in terms of penetration, both on the data services and video services, and voice services. So we look at everything based on what we can do with the property under our management. And we do 10-year DCS and we have a target rate of return that we need to achieve in order to make an acquisition, you know our cost to capital. So we are careful buyers. But we would like to buy more in the cable space because we think that where cable does not have to compete with the FiOS and to a lesser degree where it doesn’t have to compete with U-verse. But in particular FiOS because fiber to the home does have an advantage over co-axed. There is an opportunity there to drive significant data penetration and data revenue.

Batya Levi - UBS

And you would -- I guess it sound like you would prefer that kind of expansion versus some scale acquisition on the telco side?

LeRoy Carlson

Well, I think on the telco side, you know the ideal property would be a property that was economic enough to be upgraded to fiber to the home. And there are a limited number of those today. I mean Verizon, those very high density markets where there is full line plant. Those are able to be upgraded to FiOS. But it's a challenge for most wireline telcos to upgrade to fiber to the home.

Batya Levi - UBS

What does that say in terms of the IPTV or fiber to the node footprint? Do you, with technological advances we have seen AT&T doing pretty well on that side, so....

LeRoy Carlson

Yes. We are looking at that. You know the timetable for that has been receding for the, kind of rural territory that we have, there are people working on it. So we are not saying it's not going to happen, but every year it's like one more year away. And it's relatively expensive to upgrade your existing copper plant for that last mile, beyond where the fiber goes to the neighborhood.

Batya Levi - UBS

When you look at your wireline assets, are you identifying anything, any assets that might not be core? That you could divest over time?

LeRoy Carlson

Well, we have looked very closely at our wireline properties. We like 90% of them, there is maybe 10% where they are kind of on the bubble for us. Where we have to analyze whether it's better to retain them or not. So we are looking but there's no decisions being made.

Batya Levi - UBS

Okay. And maybe just one general question in terms of your free cash flow generation and the use of that. You have mentioned that you would -- one is about two-thirds for acquisitions.

LeRoy Carlson

About 75%.

Batya Levi - UBS

So can you, I guess that’s still the target, how do you balance that versus your -- to create shareholder value to return cash as dividends or buybacks and in the meantime lowering leverage also.

LeRoy Carlson

Doug, do you want to?

Douglas Shuma

Yes. So we have said 25%, 75% over time. So there is going to be periods of time where it's heavier in the acquisition space and periods of time where it's heavier in the buyback space and dividends. We have a history of increasing dividends at TDS that I would expect to see continue. Balancing that with acquisitions and maintaining an investment grade credit rating. We still have lot of resources that we could monetize. There is additional spectrum that we have talked about. There is the towers that we have talked about. There is financing the towers, the sale leaseback that we talked about. So, we are constantly looking at all those, the cash needs versus the cash uses.

Batya Levi - UBS

Okay. Great. Maybe we can open it up to the audience. Are there any questions? Okay. Just one follow up I had, as we wait for more questions. But on the wireline side, the consumer business has actually done very well across the board. Seems like it's a nice duopoly where there isn't that much pricing competition but a lot of focus on increasing this bandwidth so that you can offer more services to the customer. First, do you kind of expect that consumer business to follow suit going forward or do you see some -- are you sort of cautious of some of the disruptions that could come from 4G wireless or, you mentioned Google fiber. And also how do you balance that in terms of your mix in consumer versus business? Some companies want to go after business and bring that mix higher so that you can continue from that growth and seeing that this consumer growth is not sustainable. And some companies are actually seeing very nice growth acceleration on the consumer side. So just your view of the both segments.

LeRoy Carlson

Well, you know the history of the telecom business has been that the network that you build is build to service both consumers and businesses. And if you try to build a network that only serves one of the two categories then you are sub-optimizing your revenue streams and you are not going to have as much revenue coming in to build a great network. So our philosophy has always been to address both of the markets and address both of them as aggressively and with a high level of quality as possible. So, we are doing everything we can on each of them. And we are very excited about the IPTV, we are excited about bringing higher data speeds out to our customers. Frankly, we have run a somewhat higher CapEx to revenue budget at TDS Telecom, traditional ILEC than what other ILECs have run except for Verizon with their FiOS, because we have been a believer that customers would pay for that right. Because they are going to get a lot of data flowing over that network, whether it's a consumer or a business. So we are pushing both sides of it. We are not going to neglect either one of them, I guess would be my answer.

Batya Levi - UBS

Great. Any questions, there is one?

Unidentified Participant

When you look at the capital resources of the other for national players in this industry, why doesn’t this firm continue to have happen what has happened in the past in terms of [indiscernible]? People like SoftBank and Deutsche Bank and [indiscernible]?

LeRoy Carlson

So the question is, the larger companies have a lot more capital than we do and so don’t we become marginalized because they have a lot more capital. And the answer to that is that, we have been in this industry now since 1969 and the larger companies are focused on the very large markets. And that’s where their bread and butter is, that’s where the big business accounts are, that’s where most of their customers are. And so to give, I think our company credit, we have won four Consumer Reports awards in a row as the best postpaid large company in the United States. Now we are not as large as Verizon or AT&T but we have won that award because we are delivering for our customers. And so we today serve, at U.S. Cellular, 10% of the nation's population. So I guess our resources are focused on that 10% that are being spread all over the 100%. And because we are focused, we deliver a better quality experience. And I would say the same is true at TDS Telecom. I mean because we are focused on delivering a great experience, we today in our telecom service area taken as a whole, have a higher high speed data penetration rate than the cable company does. It's something like 55:45 or 60:40 in our favor today, whereas nationally the ILEC's have about a 40% share and cable has a 60% share. So it's focus, focus, focus. And we have delivered a great experience for many, many years and we plan to continue.

Batya Levi - UBS

Okay, great. I think we're going to end it there. Thank you so much for coming.

LeRoy Carlson

Thank you, very much Batya.

Question-and-Answer Session

[No Q&A for this event]

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Source: Telephone and Data Systems' CEO Presents at UBS Global Media and Communications Conference (Transcript)
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