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Frontier Communications Corporation (NASDAQ:FTR)

UBS Global Media and Communications Conference Call

December 09, 2013 02:30 PM ET

Executives

John Jureller - EVP and Chief Financial Officer

Analysts

Batya Levi - UBS

[No presentation session for this event]

Question-and-Answer Session

Batya Levi - UBS

Welcome to the UBS Communications Conference. I am Batya Levi with the Telco team at UBS. Our next speaker is John Jureller, Executive Vice President and CFO of Frontier. John thanks for joining us. I wanted to start off with a general question; I think it’s going to be your first year anniversary at Frontier coming up very soon. Can you please set the stage for us in terms of what your focus has been at the company and what we can expect from Frontier in the next year?

John Jureller

Sure Batya. Thank you. And I appreciate the ability to be here in front of everyone this afternoon. Our focus as we set up for 2014 is really that which we've been progressing on throughout the course of this year and that is continuing to drive broadband and broadband penetration across our network. And right now we are in the low 20% penetration in our footprint. And we see tremendous headroom as we grow going forward.

And we have a mix bag of coverage throughout our network, but unbalance as we see that ability overtime to be significantly higher than where we are. It's both opening up new markets with broadband-to-broadband expansion our own capital and CAF money, as well as continuing to be competitive and take share from others as we grow. So that has been our focus as a management team for 2013 and it's really going to underpin where we're going in 2014.

Batya Levi - UBS

Okay, great. So maybe we could dig in a little bit more on the broadband side. It's been definitely the segment that positively [still drives us] this year. You have seen great momentum in the net ads. So can you talk a little bit about what's driving that momentum and how we should think about the trends going forward? Maybe also touch on as you are gaining share, how the competitive response has been?

John Jureller

Sure. I think firstly, it's really about making sure our network has the right reach and produces the right speed and capacity for us to offer our products. And we've been spending a lot of capital over the last 2.5 years in really building upon our network and ensuring that we've got deliverability throughout our network. In fact at the end of the third quarter, 89% of our network was broadband-enabled, 45% 20 megs or better. In fact we probably have the second largest fiber-to-the-home network of the major telcos. It’s sort of a secret that’s perhaps too much of a secret that we want to make sure that people understand.

So continuing to build on our network and driving speed and capacity it is really how we’ve been able to then turnaround and offer the kinds of products and bundles that we do particularly to our residential customers and in getting them straight forward, predictable pricing, no hidden costs, no extra add-ons like modem fees or whatever, but just a very simple message with a straight forward offering. And it’s resonated well, both our standalone broadband offer and our bundled broadband offer.

Batya Levi - UBS

In terms of one of the recent competitive actions I would say that we thought was from Time Warner Cable, their 2 meg broadband product. Can you talk about if you are seeing any impact from that or is the momentum continuing even with that offer?

John Jureller

Yeah. Well, I think it’s a bit of an irony that they’ve sort of gone down speed. Cable has long hyped about their relative speed comparisons. And I think their offering is at a substantially lesser speed. But we have not seen with respect to that particular offer, we’ve not seen any adverse impact to us. In fact I think it continues to highlight for that which we do have in the price because when you layer in the base price plus the modem cost plus the fact that it’s a 2 meg service, it really does highlight the difference of where we are in a very simple straight forward offering in a bundled broadband product at [19.99] at 6 meg speed and there are no hidden add-ons.

Batya Levi - UBS

You are a value play in terms of broadband, but you actually have invested on the network as well, it’s not that you’re offering lower speed. Can you talk a little bit about -- maybe just give us an update where you are in terms of the broadband availability of the network?

John Jureller

Sure. Again we've got 89% of our network is enabled with broadband. It’s up significantly over the last three years, 45% is a 20 meg speed or better and that’s on the residential side. We have some awesome speed capabilities in our FiOS markets as well. And we're build out fiber-to-the-node in 85% of our market. And so that enables with technologies a great customer experience.

But that being said, is that we want to make sure too that we're delivering what the customer wants. For all intends and purposes, most of our customers are still taking 6 meg speed, that’s the value pricing formula they see. Now in the last quarter for example we saw about 20% of our customer base take on out our gross ads take on higher speeds, they’re rupturing to 12 or to 20. And the good thing is, is our network is enabled to allow us to do it. So we're able to offer straight forward pricing and value where the customer wants and where they want better capacity, our network is capable of delivering that.

Batya Levi - UBS

Okay. In terms of the broadband penetration you've mentioned that it’s low 20% across your footprint. Some of the legacy markets I would say -- I know you don’t refer to them as legacy versus the acquired markets anymore, but the improvement was in the -- potential improvement was going to come from the acquired footprint. I think you've made significant progress in the West Virginia. Can you talk a little bit about sort of the opportunity that you see in other states and where do you think that low 20s could get to?

John Jureller

Yeah. I mean again we hold that out as our aspiration to get to drive to 40% penetration. It will take some time to be there. But that's the goal that we've set out that our CEO has set out for the management team. And that’s driven at the local level, not just through our four region presidents, but down to the local market in driving that broadband. And that’s across all of our markets whether it was those that we acquired or those that are historic to Frontier. We’re gaining market share in 75% of our markets. And the other 25% is where we already have awesome share to begin with far in excess of in many instances above that 40% level. So we are continuing to drive all across our footprint; from New York in the Northeast to Washington in the Northwest to Arizona in the Southwest to South Carolina in the Southeast. So all throughout, we're gaining share.

Batya Levi - UBS

You don’t see any structural differences in some of the properties that were acquired that you don’t think can get to those penetration levels?

John Jureller

We think we have opportunity across all those things. In fact where we are opening up markets for the first time, for example, where we’re delivering broadband that in a market that has never had broadband before. You might recognize in some of our acquired properties is broadband penetration was as low as 60%. And as we’ve built out and we deliver broadband capabilities to a residence for the first time, is we're able to drive significant market share, market penetration very quickly. And so that’s helping us as well.

Batya Levi - UBS

Okay. Are we going to see that 89% continue to increase maybe partly some funds coming from the USF or your internal desire to increase the broadband availability?

John Jureller

Batya, yes, we believe that it’s going to continue to grow. We're going to continue to build out our network. And as you point out, that’s going to come from two sources. One, it’s going to come from our own capital that we spend every year and as well as it’s going to come from CAF money. In part one Phase 1 we took in $72 million of CAF money at the end of last year early this year. Through the nine months we spent $21 million of that in expanding our reach and we’ll spend more of that in the fourth quarter of this year. And we’re going to be spending that into next year.

Now the exciting thing for us, remember there is part one Phase 2 that was sort of leftover if you will. We applied for about another $72 million of that. Well on Friday, we were just awarded $28 million -- pardon me, $58 million of that to be released, the other $14 million is we’re still working through. But that $58 million, that's about expansion, as well as capacity upgrade. So it actually helps us in two ways that layers on to our own capital. So we’ll continue to expand our network and now to be able to upgrade speed and capacity with CAF money.

Batya Levi - UBS

One thing interesting I thought in the third quarter was well it’s on the video side, but probably attached to broadband your FiOS footprint. It was the footprint that after the acquisition Frontier decided not to really pursue that much especially on the video front. But as we’re positive, is this the footprint that you could start to leverage more maybe increase the FiOS availability or try to gain share more on that?

John Jureller

On our video strategy I think you will see our sort of FiOS markets that footprint remain as is, we’re probably not going to spend a significant amount of capital expanding our FiOS footprints, but we’re going to try to emphasize and leverage the customers that we do have. So as you mentioned in the third quarter we actually grew FiOS video customers and it was a great thing for us in the quarter. But remember, we also take our video strategy in two other ways; one is our relationship with DISH. We have a very strong relationship, it's a product that our customers really love and they see it as great value. And then overtime, as we sort of explore what else is happening in video technologies, whether it's over the year and what that could bring and is that meaningful for our customers. So we'll continue to explore those things as they develop. But for right now, I think we're going to leverage our existing FiOS footprint and continue to leverage our relationship with DISH.

Batya Levi - UBS

One push back that investors have on the broadband strategy is that if you are going after market share, but you've lowered the pricing to a level that you're leaving money on the table. Can you talk a little bit about that and the opportunity that you think you have on maybe increasing the revenue per user that's going to help stabilize the consumer trend?

John Jureller

On the base pricing Batya, we think we are offering great value for money. I think that to provide a little bit of headroom between us and our cable competitors is a good thing. It really highlights and magnifies the difference in that value for money proposition, particularly when you layer in the fact that that we don't have the modem fees. So we can go right out; again, it's our straight forward pricing that really defines who we are. So, one could argue that there is ability to raise price, but we don't see it as a good value proposition for our customers. And 75% of our footprint is in [rural] America. And they see this as the right trade-off for them going forward.

And I'm sorry the second part of your question was…

Batya Levi - UBS

I think the opportunity to increase consumer ARPU.

John Jureller

So, the opportunity on ARPU, I think it's going to come from two ways. One is, in the third quarter, 20% of our gross ads came in at higher speeds. So, they came in at the 12 meg speed, they came in at the 20 meg speed. And that adds -- each of those tiers adds another $10 of monthly ARPC to our base whether that’s in a 19.99 bundle product or 29.99 standalone broadband. So that’s a good thing and it’s a growing trend for us.

The other thing is our Frontier Secure attachment. Frontier Secure has been a tremendous value driver for us. Our overall attachment rate of Frontier Secure across our broadband customers is around 26%. At the end of third quarter, we saw over 426,000 broadband customers who had some flavor of Frontier Secure. And that itself continues to drive ARPC. And that’s each quarter-on-quarter we continue to grow in terms of number of customers, we continue grow in terms of percentage of our broadband base that has our Frontier Secure product.

Batya Levi - UBS

Right. And I guess when you look at the line losses, most -- it’s probably mostly coming from voice-only customers which are much lower ARPU?

John Jureller

That’s right. That has a little bit different dynamic. So, as you point out that’s on our gross basis, that’s where we lose -- that secular headwind that we all in the telco industry face, that’s apparent for us as well. But that ARPC is less than our broadband customers even just our broadband-only customers; our simply broadband customers, it’s less of an ARPC than what they generate. So, we find ourselves trading higher ARPCs for that lower ARPC that we are losing in our voice-only business.

Batya Levi - UBS

Right. So staying on with the consumer revenues, frankly it looked like the consumer segment was really the highlight of the telcos in the last quarter, both in terms of revenue growth and also slowing down line losses. Do you think this is a theme that we should continue to expect? It almost seems like the cable and telcos have this perfect duopoly where there isn’t a lot of price competition and maybe just as far as (inaudible) depending on the marketing strategy but the overall segment seems to be very stable. We saw a little bit of -- we saw some consumer revenue stabilization from you. Do you think that’s something that we could continue to expect?

John Jureller

Well, perhaps it’s too early to call complete victory on residential revenue, but we were excited to be able to deliver not just stable revenue, we actually grew 600,000 quarter-on-quarter in residential revenue. But we think that theme will continue as we move forward into our fourth quarter and into next year. And we believe it’s actually is in our sideline to not just stabilize, but overtime is to grow our residential revenue. So we're really excited about the opportunity that’s in front of us. And that’s really being driven at the local market by all of our local area managers, our state GMs and our region presidents. And hats off is to them because they’re driving that local engagement, they’re driving that market and they’re getting in front of a customer, we are driving market share.

Batya Levi - UBS

Okay, great. Moving on to the business segments, can you first talk about what you’re seeing in terms of the macro environment and any change in the spending levels from businesses?

John Jureller

Yeah. So, I [topple] to think about our business revenue in three different pieces, one is the small medium enterprise segment; the second would be our wholesale carrier business; and the third being wireless backhaul. So, let’s parse those upfront. Let’s start with wireless backhaul.

We've talked about the headwinds that we face in wireless backhaul, down perhaps $25 million to $30 million this year. We're still going to see those headwinds carry into next year just on a year-over-year basis. We think we will be through that by the end of the first half, at which point we’ll have a nice platform off which to build.

Our carrier wholesale business, we actually had, we had growth in the quarter, in the third quarter. We think it will continue to be a good platform for us. Small, medium enterprise, again we had a slight growth in that segment for the first time in quite a while. I think in there, if we look at the macro environment related to that particular element, we see in the small sector continuing macroeconomic headwinds. If we look at the total number of addressable businesses that are in our footprint that has continued to go down from a macro perspective, but our share of those businesses has continued to increase by our calculations.

And so that’s one of the things that we're driving is continued penetration into that available market. And then the medium and enterprise market is we're continuing to grow business. We had a nice enterprise customer win in the third quarter, which we're actually leveraging into further [peers] from that customer into their supply chain network, who built from what they did. And so I think overall, we see a positive trend for us in small, medium enterprise moving forward.

Batya Levi - UBS

On the SME side, most of the improvement was based on the retention. And throughout this year, you were basically deploying the sales people, transitioning them over to the hunter strategy. Do you think you’ve come to the right scale of sales people and you mentioned you are gaining share, so is -- that’s more of a recent phenomenon?

John Jureller

It is, it is recent phenomenon. And I think whether you call it hunter strategy, whatever, I think all of our sales people out there and we do think we’re sized appropriately, but all of our sales people are really after new logo business. We’re there to support our existing customers, but everyone is being driven by grabbing new name business and really sharing with them the value proposition that we have, small business, medium and then when we have the opportunity, we’ll jump on the enterprise business as well.

Batya Levi - UBS

Are they mostly coming from cable or CLECs?

John Jureller

On the small side, it’s cable.

Batya Levi - UBS

Right.

John Jureller

Almost; and then medium enterprise, it’s CLEC.

Batya Levi - UBS

Okay. And what is the value proposition in business, what is the go-to-market strategy? You are adding new services to your offerings, but is it pricing or is it more aligned sales people to go after that?

John Jureller

In medium and enterprise, it’s really aligning sales people, it’s aligning product, it’s aligning our network, our gigabit Ethernet network. Medium size, it’s adding our CPE to that portfolio with our partners as well and making it really a more of a portfolio and holistic sale. In the small business, it’s really about product and pricing, it’s the value package, many of our small business customers almost look like a home office or small office. And it’s really sort of a value and product around that as well. So it’s a little bit different across each of the markets and we have different channels that we’re looking at.

Batya Levi - UBS

Cable continues to report pretty strong commercial revenue growth, but have you seen any change in terms of how competitive they are in the marketplace?

John Jureller

Again, we respect our cable competitors, we know we have to market against them all the time, but we've not seen any change perse in sort of what's been going on historically.

Batya Levi - UBS

Okay. Just going back to the wireless backhaul, can you just remind us the opportunity in your region? I believe you were mentioning there are maybe 10% of cell sites that you are not planning to build to?

John Jureller

Right. The way sort of the math works out is we have about 7,200 towers that are in our footprint, we will have built actually about 45% of those; there is going to be another 40% or so that we will have lost overtime because for us, it wasn't the right economic decision. There is about 15% that are either won't be built to or still up in the air. We think we have some opportunity to actually build some more of those sites, where we thought we didn't. And we're seeing how that plays out through the end of this year and into next year.

Batya Levi - UBS

Okay. And when you talk about the headwind that should be completed by the end of first half ‘14; looking into second half, you actually plan to generate more revenues on the towers that you built fiber to that would offset the traditional revenues, is that fair?

John Jureller

That's correct. We think we're going to have a good platform from that going forward. We think sort of a disconnect in the revenue, the revenue rates we write is going to be [gotten] through by the end of that first half.

Batya Levi - UBS

Okay. And looking at the regulatory piece kind of like look at it in two different segments; One of them, the switched access piece where you had been seeing pressure every July, but you were able to mitigate that with increases on the local side. Is that something that we can continue to see, because some people say that once it becomes a large add-on surcharge fee on the bill, people start to question what they are paying for?

John Jureller

Listen, we do manage that appropriately, we look at what is the opportunity for that offset. But we have to be conscious of what's on a customer’s bill. So as we say, we won't match it off, the revenue decline exactly with a local increase. We’ll probably be able to cover anywhere from 85% to 90% of that. So it’s not a perfect match. But we are going to be careful in how we do it, because you are right, over time these do add up on a customer’s bill, but we want to make sure that it’s not overly impactful in a negative way.

Batya Levi - UBS

Right, okay. And so we hear that cable is charging the surcharges in certain states. So maybe you can continue to do so. On the broadband, again, CAF, I think it’s about $150 million of U.S. sales that you receive on an annual basis; it’s frozen until they come up with a new rule. And I think the general sense that is people assume that you are going to lose that over a five year period but it looks like as -- we are going to get to rules later probably, but it could end up being an offset or even more that you collect from the FCC.

John Jureller

That’s right; it could end up being quite a net positive for us. But you are right; we are going to have to see how the rules finally come out and where that shapes. Let’s put it this way, it would be a pleasant surprise. We are not including that in our base business plans for 2014; it would be an uplift for what we are thinking about.

Batya Levi - UBS

Okay. Maybe just to recap everything we’ve discussed on the revenue side; we are seeing some stabilities and growth in the consumer and business segments; regulatory is not a big offset anymore. Can we expect that trend to continue overall revenue stability at least on a sequential basis going forward?

John Jureller

Well that’s our objective; and we are going to fight hard to see if we can get there at some point during 2014 on a sequential basis and that’s where we are pushing as a management team for next year.

Batya Levi - UBS

Okay. And looking at margins now and they have actually relatively stable this year, despite share gains. And how do you balance margins going forward versus share gains and versus expenses?

John Jureller

We're going to continue to press our broadband share, right? And in doing so, some of the third party channels are perhaps -- result in a little more commission expense et cetera in terms of driving that but the pay back is very short. So, we think that that’s the right trade-off to make. But overall with respect to expense management, you have seen us be very disciplined and taking cost out of the business. We've done it over the last couple of years; we're doing it again this year. And there is room for more even next year and we've built that into our plans. And it’s about process improvement, it’s about workforce management and productivity, it’s continued things that we're going to be able to do in real estate, in procurement, in IT. So, there is more to come that we're building on as we continuously improve not just what we do but how we do it and that’s our challenge as a management team. But there are more roads to walk down on that.

Batya Levi - UBS

Okay. On CapEx, I think last year, a lot of people were questioning your guidance that it will not come down by $100 million on a year-over-year basis. And as we approach the end of the year, it looks like you are within your guidance range. So, and this is despite the fact that you continue to spend on broadband and wireless backhaul. Some of these initiatives are coming to -- are going to slowdown next year, not a hard CapEx guidance but maybe if you could help us what is the maintenance CapEx of the business and how should we think about trends going forward?

John Jureller

Sure. I mean we haven’t sort of publicly segmented all of our CapEx but broadly speaking is that if you take the midpoint of our guidance range for this year, it’s down $100 million from what we did in 2012; it’s down a $100 million from 2011. And in large measure, it’s the broadband expansion work that we had done in ‘11 and in ‘12 that where we were able to pull back in 2013. 2013, we were going to continue to spend on speed, capacity, congestion relief, other wireless backhaul builds, technology infrastructure and that's where you are going to see us in 2014.

We’ll give some overall guidance in February along with our year-end results.

Batya Levi - UBS

Okay.

John Jureller

And, but I will say that our cash guidance will be as I described use of CAF money to supplement that. So we’re going to see both part one, Phase 1 and part one, Phase 2 money supplementing our own dollars in 2014.

Batya Levi - UBS

Okay. Fair enough. When you look at the priorities of free cash flow, use of free cash flow, can you talk about how you balance dividends, lowering leverage or further investments in the business?

John Jureller

Yeah. Firstly in terms of free cash is we want to make sure that we’re properly investing in our network. It’s our greatest asset and really what drives long term value for us, because that's what drives a great customer experience, what drives us to really win in both residential as well as business, so making sure that we are investing appropriate and that is important.

Then dividend support, dividend sustainability, the dividend that we have right now $0.40 per share, $0.10 a quarter, we know how important it is for our shareholders. So maintaining that dividend is hugely important for us as well. And then after that and we say okay, what's left over, what do we do with it, do we think about debt prepayment, do we think about other things on our capital structure, those are the things that we toss around at the Board level every time we meet.

Batya Levi - UBS

Okay. The 2.5 leverage target has been there for a long time, but if were no time line attached to it?

John Jureller

Right. Yeah, I’d say perhaps you are going to see us talk less about that in 2014. It is something that if we get to there, it could be helpful. But we don’t see an immediate need to be there in short term. Our leverage where we sit right now at about 3.3 times, we think is comfortable for us. We have a high level of liquidity. As you saw at the end of our third quarter with those reported results, our cash combined with our undrawn revolver is very significant. So, our liquidity is strong, we also think too that with our cash, with the earnings that we generate from our operations over the next three to four years is we don’t have to be out into the capital markets until 2016, 2017, unless an event came up, right? But we think we have the right structure in our debt profile and the right earnings capabilities to be able to manage that as well.

Batya Levi - UBS

Okay, great. Let’s open it up to the audience. Are there any questions? Okay. I’ll ask one more.

John Jureller

Okay.

Batya Levi - UBS

The question about the industry consolidation. How do you see the environment going forward? Do you see that there is need to add more scales or do you feel like you have the right scale and maybe more scope related the acquisitions makes sense or what’s your view on?

John Jureller

Yeah. I think it's -- I'm no different than others in the industry that might say that there would be consolidation continuing in the industry. I think it's a question over what period of time; is that over the next 1, 3, 5 whatever the number of years and that continue to happen. We did one of those large transformative acquisitions 3.5 years ago, July 2010. We've learned a lot from what we did at that time, the things that went well, the things that took a little bit longer for us, the efforts that it takes to really integrate that into our platform. But listen, anything that we look through that lens has to be firstly through shareholder value. Does something bring shareholder value? Does it help leverage free cash flow per share? Does it help our dividend payout ratio? Is it the right asset? Is it a quality asset?

So, there is a pretty fine filter through which any opportunity has to pass for our Board to think about. Doing something of scope would probably add just another degree of difficulty in what we think about, because it's a different business line. It's a dynamic that we don't know as well as that which we're doing today. So it has to even be better on perhaps on, so many other measures, because it's something that we don't know about. But listen, we'll consider things if and when they come up. But again, the first pass is got to be does it drive shareholder value.

Batya Levi - UBS

Right. And I think prior comments also have suggested that you would want it to be free cash flow accretive, lower leverage and also be accretive to dividend payout and you are kind of mentioning that those are still the top priorities?

John Jureller

That's right.

Batya Levi - UBS

Okay, great. Any questions? Okay, great. I think we're going to end it today.

John Jureller

Great. Batya, thank you for the ability to present and thank you for your questions.

Batya Levi - UBS

Thank you so much for coming.

John Jureller

Thanks.

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