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Liberty Global (NASDAQ:LBTYA)

Q1 2014 Results Earnings Conference Call

May 7, 2014, 9:00 a.m. ET


Mike Fries - President and Chief Executive Officer

Bernie Dvorak - Executive Vice President and Co-Chief Financial Officer

Charlie Bracken - Executive Vice President and Co-Chief Financial Officer

Balan Nair - Chief Technology Officer

Diederik Karsten - Executive Vice President, European Broadband Operations

Tom Mockridge - Chief Executive Officer of Virgin Media


Tim Boddy - Goldman Sachs

Vijay Jayant - ISI Group

Jeff Wlodarczak - Pivotal Research

James Ratcliffe - Buckingham Research

Matthew Harrigan - Wunderlich Securities

Ben Swinburne - Morgan Stanley

Frank Knowles - New Street Research

Carl Murdock-Smith - JPMorgan

Brian Kraft - Evercore Partners


Good morning, ladies and gentlemen and thank you for standing by. Welcome to Liberty Global's first quarter 2014 results conference call. This call and the associated webcast are the property of Liberty Global and any redistribution, retransmission, or rebroadcast of this call or webcast, in any form, without the expressed written consent of Liberty Global is strictly prohibited. At this time, all participants are in a listen-only mode.

Today's formal presentation materials can be found under the Investor Relations section of Liberty Global's website at Following today's formal presentation, instructions will be given for a question-and-answer session. As a reminder, this conference call is being recorded on this date, May 7, 2014.

I would now like to turn the conference call over to Mr. Mike Fries, CEO of Liberty Global. Please go ahead, sir.

Mike Fries

Hello, everybody, and as always, thanks for joining us. I want to make sure I introduce the folks on the phone this morning. We’ve got Bernie Dvorak and Charlie Bracken, our co-CFOs, in Denver and London; Balan Nair, chief technology officer; Diederik Karsten, EVP of operations in Europe; and several other folks who we may call upon, depending upon your questions.

I’m going to hand it back over to the operator, and then we’ll kick it off.


Thank you. Page two of the slides details the company's Safe Harbor statement regarding forward-looking statements. Today's presentation may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including the company's expectations with respect to its outlook and future growth prospects and other information and statements that are not historical fact.

These forward-looking statements involve certain risks that could cause actual results to differ materially from those expressed or implied by these statements. These risks include those detailed from time to time in Liberty Global's filings with the Securities and Exchange Commission, including its most recently filed Forms 10ka and 10-Q.

Liberty Global disclaims any obligation to update any of these forward-looking statements to reflect any change in its expectations or in the conditions on which any such statement is based.

I would now like to turn the call back over to Mr. Mike Fries.

Mike Fries

Great. Thank you. Our agenda will be as it usually is. I’ll do some overview remarks about the quarter and then I’m going to hand it to Bernie, who will run through the numbers, and then we’ll get to your questions.

We are talking from slides today. I’m going to begin on slide four with some operating and financial highlights. We know there’s always a lot of anticipation for this call, and the first quarter can set the tone for the balance of the year, so I’m pleased to report that we had a strong start, really across almost all fronts.

On subscriber growth, we added 345,000 new RGUs, driven by our second-highest first quarter in broadband adds ever, and our lowest video sub loss for this period in seven years. Clearly, our one-two punch of superior broadband speeds and unrivaled digital video platform is working.

Financially, we achieved 2% rebased revenue and 8% rebased OCF growth, or operating cash flow growth, in the first quarter, our best operating cash flow result in nearly three years. Bernie will walk through the details, but it’s important to point out that our underlying subscription revenue growth is actually 4%, and was negatively impacted by interconnect, install, and B2B revenue.

And our adjusted free cash flow, a key measure for us, and we know for many of you, surged 47% to $350 million in the first quarter, largely driven by operating cash flow growth and a modest improvement in our capital intensity.

A quick update on some M&A activity. We’re on track to close our acquisition of Ziggo in the second half of the year, in part based upon our expectation of receiving some news on the regulatory front. While no decision has been taken, we understand that the European Commission has nearly completed its phase one review of the deal, and that the case is likely to move to a second and final phase at the E.U. level.

Obviously this would be a good outcome for us. Like our peers in and outside of the cable industry, our innovation engine never shuts down. As you would expect, much of our focus and attention remains on our Horizon platform, which now reaches over 550,000 subs across four markets and continues to ramp. And more on that in a moment.

We’ve also made material progress on our mobility roadmap with the launch of a full MVNO service in Switzerland, our eighth mobile market, and the expansion of our wifi coverage across Europe. And I’ll go into more detail on our mobility gameplan in a few slides as well.

And then finally, our balance sheet continues to support our growth and drive equity returns. At the end of March, we had $6.7 million of consolidated liquidity, including over $3 million of cash, and our leverage was in line with our target range of 4x to 5x.

We’ve been active in the capital markets this year, refinancing debt at Virgin Media and Telenet and creating new credit pools for VTR. As a result, over 80% of our debt is now due in 2019 and beyond.

And lastly, we remain committed to our buyback program, with $400 million of stock acquired through March 31 and an additional $3.1 billion planned between now and the end of 2015.

Jumping into our sub results on slide five, as we’ve said many times, our growth in Europe is fueled by several unique opportunities. For example, driving triple play penetration, which sits at 40% today, with superior broadband speeds of up to 500 megabits; ramping digital penetration, which is at 65% today, with the most advanced digital video platform in Europe; and steady growth in RPU per customer of 4% to 5% a year from a very low base of below $50 today.

You can see these factors at work in our first quarter subscriber results by product, beginning on the top left, with 240,000 broadband adds, up slightly from last year, but as I said, our second-best Q1, and driven by core markets like Germany, the U.K. and even Holland.

Telephony net adds on the top right were seasonally lower across most markets at 178,000, but are still benefitting from our bundled offers. On the bottom left, you’ll see an improving picture of video losses, which totaled 71,000, our best Q1 in seven years. In fact, we added customers or new households in half of our countries.

There’s no question that some of this result is attributable to the excitement and the reduced churn levels we see in our Horizon and Tivo households. I’ve been quoted a few times now saying that Netflix and other OTT platforms exposed a functionality gap in cable around the user interface, and that, not unlike the DVR, operators like us and Comcast are quickly bridging that gap with platforms like Horizon and NexOne.

On average, 10% of our entitled customers and up to 30% in certain markets, are actively watching over 100 linear channels and thousands of hours of VOD content on their laptops, tablets, and smartphones. In the next few slides, you’ll see how each of our broadband and video strategies are positively impacting results in our core markets.

Starting with Germany, on slide six, which, as you know, continues to be our strongest growth market, generating 127,000 net adds and 15% rebased operating cash flow growth. The combination of strong triple play offers and the success of Horizon helped reduce video attrition to just 17,000 subs. That’s 25% below our quarterly average last year, and helped us grow customers by 11,000, our best result in five quarters.

We know that speed matters in Germany. Demand for our newest premium bundles featuring Horizon and the 150 megabit broadband service has been very strong. We’re six times faster than DSL and three times faster than DSL, and consumers know that. Today, 45% of our 2.7 million broadband subscriptions are taking at least 50 megabits and 55% of new broadband customers are subscribing to 100 megabit or faster.

Verizon is taking hold in Germany as well, with 40,000 net adds in the first quarter, bringing the current base to over 100,000. Eighty percent of these customers are taking the high-end box with DVR functionality, and half are choosing the premium service with 150 megabit services.

To support this growth, we launched our first national TV campaign, focused on network superiority and highlighting our compelling value propositions, and to get that message out, we partnered with last year’s Champions League finalist, and one of the best teams in the Bundesliga, Borussia Dortmund.

Looking ahead, we see plenty of untapped opportunity. While we’re excited about the fundamental demand for our bundles, over 60% of our homes are still only taking one service from us, so the growth opportunity in Germany remains substantial. And we have plans to increase the top speed in our bundles to 200 megabits per second, and we take some modest price increases in the second half of the year.

It was also a very good start to the year for Virgin Media. Tom and the team delivered a strong quarter of subscriber and operating growth, nearly doubling customer adds from last year, increasing RGU net additions by 42% to 35,000, and generating 6% operating cash flow growth, which is well above Virgin Media’s full year 2013 results.

Several factors contributed to these results, including Virgin’s continued commitment to product enhancements like BT Sport and Netflix, a new ad campaign with Usain Bolt, and record customer satisfaction, all achieved, by the way, in the midst of a 6.7% price increase rolled out in February.

Virgin Media’s operating cash flow growth was 6%, and was bolstered by early results from our value creation and integration initiatives post-acquisition, which included headcount reductions, reducing our connect costs and process efficiencies, and we still remain confident of hitting the $350 million synergy target by 2016.

On the mobile front, we remain focused in the U.K. on high-value postpaid subscribers and had a great quarter, with 79,000 postpaid additions, our highest quarter of postpaid acquisitions yet. Growth through the balance of the year will be driven by revamped bundles, launched earlier this week, which are anchored by 152 megabit broadband speeds, twice as fast as anything available in the U.K. and great mobile or quad play offers built around top-tier video services and attractive [unintelligible] plans that offer choice and flexibility across all products.

And lastly, while our top line B2B growth in the U.K. was still challenged, we did see a second consecutive quarter of sequential growth to UK152 million, and we remain confident that we’ll see a return to stronger revenue growth in B2B during the second half of the year.

Turning to slide seven, Telenet kicked off the year with 29,000 new RGUs and its best Q1 triple play performance since 2009. RPU per customer increased 5% year over year, and rebased OCF growth was 17% in the quarter.

Key contributors were, of course, our triple play pickup and the February price increase of 2%, which did not have a material impact on the overall low churn level at Telenet. And mobile continues to be a big part of Telenet’s story, especially after shifting about a year ago to a more value driven mobile strategy. With lower handset subsidies and an increased focus on SIM-only plans, our OCF growth profile improved, and we still added over 150,000 mobile subs in the last 12 months.

Lastly, John Ford and the team are always looking for ways to keep Telenet customers on the forefront of great content and services, and their recent cooperation agreement with VRT, the largest public broadcaster in Flanders, and a new commercial agreement with Medialaan, the largest commercial broadcaster in Flanders, will ensure that we offer the best TV experience in the market across all screens.

By any measure, our Swiss operation also had a good quarter, with 21,000 net adds and 8% operating cash flow growth, their best Q1 since 2008, by the way. RPU growth was supported by a 2% video price increase at the start of 2014, and our new bundles are featuring faster speeds, and we also took selective price increases across broadband.

It’s worth pointing out that we had our strongest video results in six years, with a video gain of 5,000 subs, and Switzerland is our most successful Horizon market, with 160,000 Horizon TV subs, or 24% penetration of our DTV base, paying us an incremental 10 [unintelligible] per month.

We recently launched our full mobile service in Switzerland, targeting our own customers with simple, transparent, and fair offers featuring generous data allowances and SIM-only plans. The first reactions are very positive, from customers and the press, and the market will serve as a model for other mobile rollouts on the Continent.

Now, turning to slide eight, many of you have been watching the Dutch market closely. Obviously it is front and center for us, given the competitive environment and our pending acquisition of Ziggo, which will allow us to reach over 90% of households in what will become our second largest operation.

The good news is that we continue to see steady progress, with three straight quarters of improving broadband additions, declining video losses, and positive total net adds at UPC. Even with fiber to the home competition across roughly 30% of our footprint, cable continues to outpace KPN in broadband.

This is important. Over the last 12 months, we and Ziggo have together added over five times as many new broadband subs as KPN, and they actually went backwards in the last quarter, while the two of us added 56,000 broadband subs.

As in other markets, we expect to continue these trends with the launch of new triple play bundles back on April 1, which put Horizon at center stage and offers 120 megabit per second, and starting at EUR55.

In addition, for the mid and premium tiers, we now include our own [unintelligible] SVOD service for free, which provides unlimited access to over 1,000 movies and 1,000 series on all screens and devices. We’re also offering free access to our wifi hotspots, which now number more than 500,000.

I already touched on the Ziggo acquisition, but just to repeat, while no decision has been made, we do expect to hear very shortly that the case will likely go to a phase two review at the E.U. level in Brussels.

And you should know we have been, and remain, in a constructive dialog with the Commission, and currently we feel confident we can address any competition issues they may raise. And then lastly, the offer memorandum is currently being finalized, and we expect to launch within the next few weeks.

I’ll wrap this section with a few words on Latin America. Both our Chilean and Puerto Rican operations are humming along and generated, together, 49,000 net adds and 16% operating cash flow growth. Following the migration to a full MVNO late last year in Chile, we’re back on track with our quad play offers and added 12,000 new mobile subs in the quarter to complement our steady growth in broadband and video.

And in Puerto Rico, we’re beginning to see synergy benefits kicking in on the operating cash flow line, as we work through the integration of the OneLink acquisition. Further developments, we did buy out our 20% partner in Chile on favorable terms in March, and just prior to that, created a new Chilean credit group, for the issuance of $1.4 billion in debt at the VTR level.

And finally, we continue to evaluate our strategic options in the region, which are likely to include either creating attractive stock or spinning off Latin America, and we should have greater clarity on either of those options by the third quarter if not sooner. Now, as I’ve said in the past, there are some interesting opportunities in the region and either approach could allow us to capitalize on them and create shareholder value in the most efficient way.

And then finally, on slide nine, as I usually do, I’ll end with a quick update on a few strategic initiatives that will be priorities for us through the balance of the year. I’ll start with mobile, on the top left of slide nine, and just remind everyone that we already have a relatively substantial mobile business today in Europe, with 4 million subscribers and $1.2 billion of annualized revenue, but nearly all of those customers are in the U.K. and Belgium, which means we have great growth opportunities in the rest of the Continent.

As I mentioned, we have just launched our first global MVNO in Switzerland last week, with the best data plans available in the market, and next up is Holland. Virgin and Telenet have demonstrated that quad play is a proven churn reducer, and our marketing strategies will be very similar country by country. It’s all about selling postpaid mobile data and voice plans, primarily to our own customer base, with a focus on SIM-only offers as part of the bundle. Of course, we also sell handsets at reasonable price points.

We’re confident that mobile will continue to be a great way to increase customer loyalty and drive returns. The second component of the wireless strategy is the creation of a pan-European wifi network, part of our broadband everywhere experience. We already have over 1.5 million wifi home spots today, and that number should be 4 million by the end of the year and growing rapidly after that. The combination of MVNOs and wifi hotspots gives us tremendous optionality at a very low cost.

Our broadband strategy is transparent and well known by you. We continue to push the speed envelope across our footprint. Today, our average customer speed is over 50 megabits per second, our best-selling tiers are 100 megabits to 150 megabits, and our top speeds max out at 200 megabits to 500 megabits.

And with Euro DOCSIS 3.1, now known as gigasphere, around the corner, we will cost effectively be able to provide downstream speeds at 1 gigabit and higher. I’m more and more excited about Horizon as time goes by, and more and more convinced that we’re on the right track. I’m thankful that we pushed for such an important and sophisticated user experience. Every cable operator will get here at some point. It just feels good to have already arrived.

I mentioned our 500,000 boxes installed across four countries and the steady improvements we’ve made to the stability and functionality of the platform. Every code drop includes cooler apps, better functionality, and greater performance, and our next launch, in Poland, will be based on the RDK platform that we, Time Warner Cable, and Comcast support, featuring a cloud-based version of the Horizon UI, which is cheaper, faster, and smarter.

Then I’ll finish with a quick update on our content strategy in Europe, which is focused on four key areas of strategic interest to us, beginning with an obvious one, and that’s expanding our reach and depth of SVOD content to either compete with or support our own OTC services.

We get plenty of questions about Netflix, friend or foe, and that might be the wrong question. Where they’ve launched, we see increases in consumption, but that triggers greater demand for speed, a good thing for us, and so far there has been zero impact on our video sub base. In fact, we’re doing better and better in video retention.

And our approach will vary by market, given the fragmentation that exists in Europe. We’ve partnered with Netflix in the U.K., we’re competing in Holland, with our own platform called My Prime, and the decision on the other markets to buy, build, or partner, is pending and will differ by country.

The other three elements of the content strategy are sports rights, broadcast networks, and production assets. Sports is easy. We already own football rights in the Benelux, for example, and stronger relationships with free to air broadcasters can increase our reach in a market, broaden our access to key programming rights, and generate synergies along multiple lines of business. You can see in Belgium we’re taking that approach.

And content production is simply one step further up the vertical integration ladder, and could nicely fit into a broader portfolio of strategic content investments. I won’t delve much more into this today, except to say that whatever we do, we will always be disciplined and focused on financial returns, creative funding and ownership structures, and strategic benefits to our core distribution platform.

So stay tuned for further developments on that, and stay tuned for Bernie Dvorak, because he’s coming up right now with our financial results. Bernie?

Bernie Dvorak

Thanks, Mike. Before I dive into the slides, a few housekeeping items. First, when we refer to our Q1 2013 combined results in this presentation, they include Virgin Media for the full quarter, although we did not own Virgin during that quarter. And second, the Chellomedia assets that we sold in January are treated as a discontinued operation, so our operating results exclude the impact of these assets for all periods.

On slide 11, we provide a snapshot of our rebased performance, which adjusts the neutralized impact of acquisitions and currencies. The solid bar represents our overall rebates growth performance and the dotted line represents our total subscription and revenue growth, which includes our triple play and mobile subscription revenue.

The gray bar shows our results excluding Virgin Media, with 3% revenue and 9% OCF growth, and in particular our Belgian, German, and Chilean operations were key markets for us in the quarter, as each posted double digit year over year increases in rebased OCF growth.

The green bar depicts Virgin Media’s standalone performance. For Q1, Virgin contributed 35% to 40% of our consolidated revenue and OCF and posted 1% revenue growth and 6% OCF growth. In terms of revenue, Virgin Media delivered solid rebased subscription revenue growth of 4%, with cable at 4% and mobile at 5%.

Offsetting this performance were year over year declines in such revenue items as interconnect, offnet, and handset sales. And finally, the blue bar highlights our consolidated growth rates. On a total company basis, we generated 2% rebased growth in revenue and 8% for OCF, which Mike has briefly discussed.

It should be noted that our Q1 results were supported by a few nonrecurring items, the three most significant of which involve the revenue settlement in Germany and copyright fee settlements in Belgium and Poland that resulted in an aggregate $35 million improvement in OCF during the quarter.

Slide 12 looks at both our European and Latin American Q1 results. Our European operations generated $4.2 billion in revenue and just over $2 billion of OCF, resulting in rebased growth of 2% in revenue and 8% in OCF, as well as an OCF margin of 49%.

Western Europe accounts for over 90% of our total European business, and that region delivered $3.9 billion in revenue and nearly $2 billion in OCF, while central and Eastern Europe added almost $300 million in revenue and roughly $150 million in OCF. Rebased revenue was 2%, and OCF growth was 8% in Western Europe, while CEE posted a rebased decline of roughly 1% in revenue and a gain of 4% in OCF.

Moving to Latin America, our Chilean and Puerto Rican businesses combined for $300 million of revenue and $112 million of OCF, reflecting an OCF margin of 37%. Together, these two businesses generated rebased revenue growth of 4% and OCF growth of 16%. VTR in Chile delivered 5% top line growth and 14% OCF growth, while Puerto Rico accounted for 2% revenue growth and over 20% rebased growth in OCF.

VTR’s rebates revenue and OCF growth was driven by volume and RPU per customer growth of 3%, with the OCF growth also benefitting from a lower OCF deficit from their mobile business following the transition to a new MVNO contract. Puerto Rico’s rebased OCF growth was driven by synergies resulting from the continued integration of the OneLink acquisition.

If you turn to slide 13, this highlights our five largest markets in terms of quarterly rebased OCF growth. These markets accounted for approximately $1.9 billion, or nearly 90%, of our total OCF in Q1. Compared to our Q4 results, each of these five markets delivered better quarterly rebates performance with our German and Belgian businesses posting double-digit growth.

Starting with Unity Media in Germany, our Q1 OCF performance of 15% resulted from 8% revenue growth, which was driven primarily by volume growth as we have added over 500,000 RGUs in the last 12 months, higher RPU from digital TV and broadband, and the nonrecurring item I mentioned earlier. We also lapped the elimination of the public carriage fees, so those are no longer a headwind for us.

If you move to Telenet, in Belgium, our Q1 OCF performance of 17% was helped by the previously mentioned copyright fee benefit and strong growth in our cable and mobile business, driven primarily by volume growth and price increases on the top line with lower handset subsidies also benefitting OCF growth.

Next, we look at UPC Cablecom in Switzerland, which posted 8% rebased OCF growth in Q1, slightly above Q4, and 130 basis points higher than 2013’s full year growth rate of 7%. Our Swiss management team has been executing well on a number of new product introductions. They delivered 4% rebased revenue growth in Q1 and are remaining disciplined on operating costs.

Virgin Media showed notable improvement and posted its best quarter since we acquired the business, with 6% rebased OCF growth compared to negative growth in Q4, which was weighed down by a difficult comparison.

With 1% revenue growth, our OCF growth was due largely to cost savings and synergies arising from integration activities. In addition, our OCF performance was helped by the February price increase and lower interconnect and mobile handset costs.

It is worth mentioning that there was a change in legislation in March 2014 in the U.K. with respect to the charging of VAT in connection with prompt payment discounts. The change took effect on May 1, and we estimate that it will result in a reduction of Virgin Media’s revenue on OCF of $47 million to $50 million from May 1 to the end of the year. Despite the new unexpected headwinds, we remain comfortable that we can still achieve mid-single digit rebased OCF growth at Virgin Media in 2014.

Finally, our Dutch operation is showing some signs of progress. As discussed earlier, we had positive subscriber growth in the quarter, helped by a reduction in video attrition and solid broadband adds. Our year over year rebased OCF decline of 4% was modestly better than both our Q3 and Q4 results from last year, and while we expect the remainder of 2014 will be financially challenging, we feel good about the new product bundles that we launched in April and believe that ultimately market conditions will rationalize.

Slide 14 summarizes our P&E additions and adjusted free cash flow results. On the left-hand chart, our total P&E adds showed a downward trajectory over the last four quarters as a percentage of revenue, with both Q1 and Q2 last year including a combination of our results and Virgin Media’s reported results for both pre-acquisition periods.

And in Q1, we had P&E additions of $910 million, or 20.1% of revenue. This represents a 30 basis point decline from Q1 of 2013. If we break down our total spend in Q1, 56% was on CPE and scalable infrastructure, 27% was on line extensions and upgrade and rebuild, and the remaining 17% on support capital. So, over 80% of our spend was revenue focused, which is typically the case.

Moving to adjusted free cash flow, we delivered $350 million in Q1 2014. This compares to a reported $66 million in Q1 of last year and to a combined $238 million if we add Virgin Media into last year’s first quarter. The latter comparison reflects growth of more than 45% year over year.

This growth was driven by a combination of solid free cash flow performance at Virgin, Telenet and VTR, as well as favorable FX movements, which more than offset a decline associated with the net impact of our vendor financing and capital lease arrangements.

It is also worth mentioning that we remain on track to deliver approximately $2 billion of adjusted free cash flow for 2014, and similar to prior years, we would expect our free cash flow for the remainder of the year to be weighted towards Q4.

If you move to slide 15, the left-hand chart summarizes our leverage position. We finished Q1 with 5.1x leverage on a gross basis, which declined from 5.3x at December 31, 2013. This decrease primarily reflects our underlying OCF growth and debt repayment activity.

We’ve also been active in the capital markets year to date, with new issuances and refinancings at several of our credit pools. Our overall leverage in absolute terms was $44.5 billion at Q1, down modestly from Q4. Our debt and cash positions at quarter end included $1.5 billion from the March issuance of bonds at Virgin. We used substantially all of these proceeds in April to redeem VMED’s 2018 sterling bonds.

Adjusting for this transaction, our gross leverage would have actually fell below 5x. In terms of net leverage, we ended Q1 with the leverage at 4.8x, which was similar to the 4.9x we reported at Q4. Our quarter end cash position was $3.1 billion, reflecting a total consolidated liquidity of $6.7 billion at March 31 when including the $3.6 billion of maximum borrowing capacity under our revolving lines at the end of Q1.

If you look at the right hand chart, we repurchased nearly $400 million of equity in Q1. This brings our cumulative total to about $1.4 billion of our $4.5 billion program, so we are targeting to spend $3.1 billion over the next 21 months. And as most of you know, we expect to be out of the market when we launch the offer for Ziggo up until we close that transaction, but we expect to remain active over the coming weeks.

If you turn to slide 16, and in conclusion, we are leveraging our network advantage with a focus on improving the customer experience and differentiating our products and services. With nearly 350,000 RGUs added in Q1, lower video churn overall, and a sustainable broadband speed advantage, we believe that we are well-positioned to drive solid subscriber gains for a very long time.

Financially our Q1 cash flow results were strong, putting us in a good position to deliver on our full year targets. And finally, we look forward to the next steps in the regulatory process for the Ziggo acquisition and expect to complete the transaction in the second half.

With that, operator, please open the lines for questions.

Question-and-Answer Session


[Operator instructions.] And we’ll take our first question from Tim Boddy with Goldman Sachs.

Tim Boddy - Goldman Sachs

I wanted to ask Mike a bit about your comments around content production, how that would fit into your broader portfolio. You seem to be calling that out more clearly than previously, and I wondered what you had in mind, and if there’s anything more you could share on that front, I guess particularly in terms of scale, whether you’d be willing to make a really material content acquisition.

And then just as more of a follow up, I just want to confirm that the $50 million headwind in the U.K. for the remainder of the year, that presumably just rolls off and goes away in 2015, because the customers who’d bought those kind of prepaid line rental products, presumably all of those things just come to an end. And so that $50 million drag should go away medium term?

Mike Fries

I’ll hit the content question, and then Tom or Bernie or Charlie can address the headwind question. There’s nothing to announce today, of course, or we would have, but as we look ahead the broader opportunities in content, as I mentioned, production could be one of those. The opportunity to really get closer to the creation and origination of important content is something that we’ve talked about, other people have talked about, for a long time.

I don’t have anything specific to add to the general strategic point, except to say that for us to do that, we would have to be convinced that there’s a financial return in whatever asset we were looking at, that we were doing it probably with a partner or somebody who understood the business better than we do, and probably, and most importantly, on a marginal or relatively small basis.

So I wouldn’t expect that we’re going to go out and acquire a studio or things of that nature. I would say these are more tactical and incremental steps to build that four pronged content portfolio, if you will, that we know can be more strategically beneficial to the core distribution business.

So I know I’m being vague, because there’s not much more to be specific about, but the key message is, anything like that would have to have a strong financial return, would ideally be done with a partner who understood it better, and is probably going to require relatively small amounts of capital in the context of our balance sheet because we’re not in a position to put large amounts of capital into those types of assets that are not really in our wheelhouse operationally.

On the headwind point, Bernie, do you want to take that? Or Tom?

Bernie Dvorak

Yeah, I will. The costs don’t go away next year. It’s a prospective change that we’ll continue to incur that. But from a growth perspective, we’ll lap those kind of Q2 next year. So that’s the way you ought to think about it.


We’ll take our next question from Vijay Jayant from International Strategy and Investment.

Vijay Jayant - ISI Group

Just want to focus on the wireless strategy a little more, if you could. Is that going to be a [unintelligible] MVNO with complete flexibility on pricing and how you sort of sell the product? Is it like a 30% margin business? And given a rollout in 2014, is there any drag we can expect from that? And since Balan’s on the phone, I was sort of hoping, really from a technological perspective, really talk about how we could mesh wifi and wireless, and is that a seamless product that consumers can have going forward?

Mike Fries

I think the important point that we’ve tried to make in the past about our MVNO contracts is that they essentially give us control of pretty much everything having to do with marketing, managing, and operating and billing a mobile customer, with the exception of ownership and control of the actual physical radio network.

By that, I mean we do, in our full MVNOs, have control over HLR, customer data, BSS, OSS, and for all intents and purposes, they are our customer, integrated into our systems and our bundles and our billing. We’re renting, essentially, the physical network from the MNO. I hope that clarifies.

In terms of margin, the margins vary, but you would be able to determine this, just from looking at other operators, but we think gross margins in the mid-30s are achievable. It has a lot to do with your strategy, and how you go about marketing handset versus SIMs, and that’s information that we’ll clearly give you more clarity and transparency around as we move on down the road.

But from our point of view, the revenue uplift is positive, the margin benefit is constructive, and the ultimate value that we gain in terms of retaining customers and improving customer experience is the real reason to be in it. And Balan, you want to hit the technology point?

Balan Nair

Sure. You know, we are quite lucky to have these MVNOs, because they’re really good MVNOs that we have across Europe. And we really see a future where the combination of wifi and having MVNO outside four walls makes a lot of sense. We are currently working on something along those lines where we may have a trial by the end of this year in one country, where you optimize for wifi in the home, in your office, in public transportation areas, but while you’re in the car, you would revert back to 4G voice. But it’s something in our future, for sure.


Our next question comes from Jeff Wlodarczak with Pivotal Research.

Jeff Wlodarczak - Pivotal Research

In the U.K., you all had a nice first quarter acceleration in EBITDA, certainly earlier than I expected on 1% revenue growth. What are the prospects for a material experience in U.K. revenue growth off that 1% level for the balance of the year? You’ve got the price increase, you’re returning RGU growth and the rebound in S&B, and now the VAT tax. Is there a possibility of any kind of retroactive payment associated with that? Or does that just affect forward results?

Mike Fries

Well, I’ll kick it off, and then Tom, I’ll hand it over to you. I don’t know whether we’ve forecasted it clearly or not, but revenue growth is a huge focus for us in the U.K. and it’s clear, though, that this is a large machine. And accelerating a large machine takes a lot of horsepower, and we’re now in the process of revving up that engine, if you will.

And I’m mostly excited about a few things. One, the great success we’ve had in the first quarter with mobile, in particular SIM-only mobile strategies and iPhone. Secondly, our return to net add growth in the key products.

Third, though, the brand new bundles we’ve rolled out, like this week, which are cleverly branded and are going to simply for our U.K. customers and I think make very clear to them that we are the one-stop shop for broadband, video, and other services. The Big Kahuna is our biggest, best bundle, and has pretty much everything in it, 150 meg, and EVO.

And from our perspective, I like the way Tom and Dana and the team are crafting these bundles to reinvigorate energy around Virgin and our products and services, and I feel we’ve got the horsepower behind them to really make a difference in the latter part of the year.

And then of course the other piece is the B2B, which as I indicated in my comments, we think has some tailwind, if we keep doing what we’re doing, which is focusing with this new management team on the right stuff.

So, Tom, did you want to address anything else there?

Tom Mockridge

Well, thank you for those remarks, and particularly about the new bundles, which we are very positive about. They were rolled out to the base just in these last few days, and already we’re getting positive interest from existing customers, and then we roll it out to new customers at the end of this month.

And the other area which I would mention is B2B. We are in a turnaround story. We do see the commercial sector as having growth prospects going forward. So as Mike mentioned, it’s a big business to turn around the momentum, so I wouldn’t overstate the pace of what we do going forward, but unquestionably, we will do better than this 1% number this quarter.

In terms of the tax decision, it’s worth noting that the government changed the law in order to change the tax treatment. So the fact that the law was changed would lead us to believe that what we were doing in the past was consistent with the law, so therefore, we would assume that it’s not going to be an issue for us going forward in terms of retrospective adjustment.

Jeff Wlodarczak - Pivotal Research

And then Mike, big picture, do you feel like OGI is starting to get more pricing power in markets besides the U.K., especially given your distance that you’re creating between yourself and your peers in regards to your data services?

Mike Fries

I think a few things have happened. One, organizationally and philosophically, we have committed ourselves to maintaining discipline and taking advantage of opportunities to enforce pricing power. And that’s a lot of words.

What I mean is there’s dozens of opportunities across products and services in all markets to ensure your pricing is right. And so you’ll find us talking more and more about small price increases here, price stability there, and so to answer that first question around pricing power, I think it’s yes, philosophically, we’re committed to it.

And secondly, there’s no question in my mind that the strength of Horizon and 150 megabit bundles are putting farther and farther distance between us and our next best competitor, and that over time, our ability to command a premium for that value will solidify.

So we feel good about it, and I think our RPU per customer continues to grow. We’re actually adding customers in many markets. So the days of negative RPU and massive customer erosion, I think, are behind us.


Our next question comes from James Ratcliffe with Buckingham Research Group.

James Ratcliffe - Buckingham Research

First of all, following up on the U.K., what inning are we in in terms of capturing the synergies in that market? Because it sounded like they would be flowing more toward the back half of the year, but have we turned the corner where the synergies are significantly outstripping the integration costs at this point?

And secondly, with the Horizon footprint and also the Tivo footprint continues to expand, have you looked into electronic sell through as an opportunity, and can you talk about what the potential might be on that front?

Tom Mockridge

On the synergies in cost savings, clearly in this number there is significant benefits on the cost line. That’s how the greater part of the OCF gain has been delivered. But there is ongoing benefits going through the year. Already, the business is operating with approximately 2,000 fewer people than it was this time last year, across both inside the business and outsource.

But we continue to derive efficiencies across the served area, truck rolls, a whole range of things across the business, and then continued synergies with the rest of the Liberty group. So we’ll continue to drive that line and build margin. It’s a very strong focus for the business.

Mike Fries

Remember, we didn’t expect to be at our full level of synergy realization until 2016, so we’ve still got a couple of years or more to bed the rest of them down. But I can tell you, from my perspective, I’m impressed and extremely pleased with the pace of the integration work, the quality of the organizational approach to that integration work, and the general support that it’s getting, not just at the senior levels of Virgin, but throughout the organization. So I’m encouraged by everything that’s happened to date.

And on electronic sell-through, we don’t have a lot of activity on that front, but we do understand the sizzle and the excitement around that opportunity. I can tell you, it’s something we’re currently looking at, but today it’s been a relatively small piece of our puzzle. But could be exciting.


We’ll take our next question from Matthew Harrigan with Wunderlich Securities.

Matthew Harrigan - Wunderlich Securities

I guess also, maybe even further out there than EST, you know, Comcast and EA are supposedly doing something for console-level gaming through X1. I’m curious if you have the same capability on the horizon. I assume that you do. It seems like it’s something that could be a decent ancillary business at some point.

And then I don’t think this probably affects you all that much, but some of the discussion on WhatsApp and Facebook doing an outright voice service, I think you’re very favorably positioned relative to some of your peers on that. I suspect it’s just incidental, but I had questions about it. I’d love to get your thoughts on that.

Balan Nair

On the gaming part, we have a bunch of parlor games that we have already, but intense gaming, I think Comcast did that work with EA and X1, and you can look at the numbers there. But the numbers that we look at, we’re not too terribly sure that that’s the right place to put intense gaming, multiplayer gaming, on a set-top box. The world is moving on gaming right now to other devices. But we’ll continue to look at that area.

On voice service, you know, our sense is that the impact to us is actually quite minimal compared to what’s happening to the mobile operators in all these different applications. The smartphone has really turned it upside down for them in some of their core revenue streams that really don’t impact us at this point.


Our next question comes from Ben Swinburne of Morgan Stanley.

Ben Swinburne - Morgan Stanley

Just sticking on the Virgin theme, Tom, you and Sky both had good quarters on the subscriber front, and I’m just curious if you have any reaction to that, if that is a reflection of a strengthening U.K. economy, consumer, or just two companies just sort of successfully executing.

And I just wanted to confirm, I think you answered this in James’ question, but it sounds like you expect the synergies to continue to grow as in the actual cost savings are going to grow from the Q1 level through the rest of the year. I just want to confirm that that was you were indicating.

Tom Mockridge

On the first question, certainly I noticed the Sky results being up, but I think as has been observed before, I think of course there’s competition in this market for the consumer end, and I think that’s generally a positive thing for growth, that all major operators are out there stimulating the market.

I think you’re seeing Sky go back to its roots a little bit and really focus on its programming side, just as maybe we’ve gone back to our roots and really focused on being the broadband leader. Of course, in the period we rolled out the 152 megabits, twice what you can get off of BT. So I think the competition and the bundling in this market is a positive thing for growth.

And remember, there’s still more than 25% of homes in the U.K. that don’t have broadband, so there’s upside for us, just in getting new people on, besides the competitive market. We gain people off Talk Talk and other operators as well. So the market is generally good.

On the cost side, I think your point is correct, that we, of course in the very, very early period with some very substantial one-off reductions in headcount, took some very significant gains. But the objective is to increase efficiency going forward, and I think we’ve got some very good projects underway inside Virgin when Liberty acquired it, and in addition with the knowledge of Liberty, we’ve got more synergies going, and I think you’ll see progressive synergy and efficiency running through the business, which will be very helpful to our margin.


Our next question comes from Frank Knowles with New Street Research.

Frank Knowles - New Street Research

I had one question just on some markets that are smaller and don’t get that much attention. There seemed to be a bit of a slowdown in Ireland and maybe Austria. Just wondered if you could comment a little bit on those two territories, notably has Sky’s launch of broadband in Ireland in the second half of last year had much of an impact on your business?

And then I did just wonder if Bernie, you could just clarify, you talked about the one-offs of $35 million. Could you break those down by country possibly?

Diederik Karsten

I’d say starting with Ireland, indeed, Sky kind of reacted to our strong position in the triple play with the first triple play last year. I think our retaliation with higher speeds and Horizon was a success. There’s indeed a somewhat flattening, if you talk about the ease of just fishing in a bigger pond. But that was anticipated, and particularly Horizon is a huge success, which is the next step, also still, for this year.

And we’re now trialing, also, the wifi, piloting the wifi, which means that we don’t expect any further negative trend or so whatsoever. For Austria, we also have next steps about the innovation and possibly an MVNO move also, before the end of the year. So from that point of view, I’d say, where Austria also been a stable performer for most of the years, we don’t see a change in the trend there.

Mike Fries

I would simply say, in both cases, they’re adding steady net adds, if that’s your focus. But in the case of Ireland, with 24,000 net adds in the quarter, that’s one of their best in two years. So that country continues to amaze and astound us, really over the last six or seven years, and I think we all feel really good about the launch of Horizon there. Its ability to impact and affect the Sky competitive position, and I’m not worried about it at all.

Charlie Bracken

And one more comment on Austria, if I may. Austria is actually two businesses. We have a business called Inode that we bought many years ago, which is a DSL reseller, and that has been a major drag on the business. If you look to the underlying cable assets, they’re actually growing reasonably nicely, 3% to 4% type numbers.

So I think particularly as the rollup effect of that DSL business starts to be reduced, I think you’ll see underlying growth coming through there, perhaps not this year, but certainly going forward, I’d be more optimistic about Austria, which is still performing reasonably well, if you take out the effect of this drag.

Bernie Dvorak

On the one-off side, three countries, essentially. Germany was $11 million, Belgium $17 million, and Poland $7 million.


Our next question comes from Carl Murdock-Smith with JPMorgan.

Carl Murdock-Smith - JPMorgan

Going back to the theme of Virgin Media, I was just wanting to ask, on the television revenues, they appear to have slowed from plus 9% in Q3 to plus 7% in Q4, and now plus 0.4% in Q1. I suppose, looking at the price increases year on year, the [M+] and XL packages, both had price increases in February that were higher than last year. And the L package was only slightly less. And as such, what is the main driver of the revenue slowdown in that particular revenue line?

And then I’d also like to just ask about your quad play ambitions in the medium term. In the U.K. we do appear to have hit some kind of level at around 16% quad play penetration. Do you think the new packages you’ve just launched could help push that penetration upwards? And what would be your medium-term ambition for quad play penetration, both in the U.K. and across the group more broadly?

Tom Mockridge

On the quad play question, absolutely. The whole point of the new packages is to really drive quad play and to qualify for, similarly at UK5 per month, which is obviously a very competitive price, you’ve got to be a triple play customer on the rest of the cable business. It’s a true quad play offer, and our very, very early indications are, among our existing customers, it’s proving attractive, and of course we’ll be promoting it hard on that basis.

So we unquestionably will build that quad play ratio. I won’t venture today about where it will go. But I think the point being that our mobile business, Virgin Mobile, which we found in entering the company is maybe a little bit distant from the core cable business, the whole point is to integrate it and make it entirely supportive of the cable business. And really, our whole point of having the mobile business now is to focus on quad play customers and not try and build [unintelligible] the independent that’s out there with the much larger operators.

Mike Fries

And just before you get to the revenue point, the rest of Europe, the goal is to duplicate that strategy for the most part. I mean, mid-teens quad play penetration is good. We think it can be better, and of course, we’re starting from a very low base I the rest of Europe. So any movement towards 15%, which I think we’ve exceeded a bit in Belgium but nowhere else, because we’re just getting going, would be very positive for our revenue in that market.

And I would tell you, just anecdotally, that where we are selling quad play, the vast majority of our mobile sales, 90% plus, are to existing customers. So it is, as Tom says, the main focus to support and attract our current customers to our mobile products.

Tom Mockridge

And on the television revenue side, I think it’s just worth noting that we put our price rise through in February. It’s mid-February on average, so you really won’t see the full benefit of that until you get to Q2.

And like a lot of people in this marketplace, we are finding selling premium channels more of a challenge than it used to be in the past. A lot of that, here in this country, was the price of football, which of course has gotten very expensive. Still an essential product as far as we’re concerned, but we’ve got to price it at a level where we are recovering the investment we make in it.

And we’re conscious of that in our new bundling too. As we move forward with this new bundle, we think we can make the TV programming more accessible to customers and fundamentally work on the volume of it in terms of the way we package it. So I think that’s another issue that we will be addressing going forward.


And our next question comes from Brian Kraft from Evercore.

Brian Kraft - Evercore Partners

I had a couple of questions. One, just wanted to see if you could quantify a couple of things related to business services, specifically can you talk about the capital investment you expect this year for it, how that compares to last year? And also, how much revenue outside of the U.K. are you generating from business services?

And then separately, wanted to see if you could talk about the roadmap for Horizon on the hardware side. I know you mentioned rollout in Poland is going to use the RDK version. Just wanted to see if you could elaborate on that a bit.

Mike Fries

I’ll take a crack at the B2B numbers, but somebody please check the math. I think our aggregate B2B revenue on an annualized basis is somewhere on the order of $1.7 billion or $1.8 billion. And Virgin would be our largest market. I think you’re about UK600 million, Tom, so gross it up. So over half our B2B revenues coming out of the U.K., the rest of it will be coming out of Belgium, Holland, Austria, and Switzerland. And hopefully, increasing, over time, Germany as well.

But the B2B picture outside of the U.K. looks a bit different than it does in the U.K. In the U.K. it’s about growing the main enterprise business and tangentially driving a SoHo strategy, whereas in the Continent, SoHo is the fastest-growing revenue stream. It’s a little less capex intensive, and there’s a lot of low-hanging fruit. So I mean, I don’t know if we’re disclosing specific capex numbers on B2B. I doubt we are, but that’s a general revenue breakdown.

Diederik Karsten

On the capex numbers, the percentage to revenue is much higher in the U.K. given the fact that we’re targeting large enterprises. So you can imagine a number slightly north of 20%. The rest of Continental Europe, the number is much lower as we target SoHo and now looking at [unintelligible] enterprise.

Tom Mockridge

We don’t give guidance, but I would disclose this, that on the U.K., to be fair. A lot of the capex is prepaid. You recognize it over time, so from a cash point of view, the capex ratio is more around that 20% area. So it’s hard to allocate it perfectly, but I think we feel that the business that we’re focusing on in B2B, particularly the focus on SME and SoHo, is very good growth, and pretty good returns at pretty attractive margins. And we are very comfortable with the double digit targets we’ve been giving out on that.

Balan Nair

On Horizon, we started Horizon with middleware from NDS, and we have now evolved that and we’re slowly migrating off to the RDK stack that we’ve been working with Comcast and Time Warner Cable, as Mike indicated earlier. We will launch in Poland, and then that’s a version called 1.2, and then there will be another version of RDK that we’re looking at for next year that brings even more functionality to the device. But it’s a good path, and it’s good cooperation between the cable entities.

Mike Fries

And a platform like Horizon, our [unintelligible], they are the answer to the question, gee, what are we going to do with online video and over the top services? Over time, with that UI in the cloud, the ability to migrate it and evolve the UI, and adopt and integrate new services and applications, gives me great confidence that we have bridged that gap that has been exposed a bit by OTT. And as with the DVR, when we adopt, even if we’re second to the market with some great idea, when we adopt it well and execute it well, and reinvent ourselves with it, it’s a very positive moment.

I think we’ll wrap here guys, so I’m going to close it off and say we appreciate your support again, as always. We feel really good about the start to our year. I think you can sense that. You know, 8% OCF growth bodes well for our guidance and I think you would appreciate it. And I feel like we’re in a great strategic position with broadband speeds and Horizon and our mobile launches and our content strategies. I really feel confident that our competitive position, especially B2B telcos, as our primary competitors, is great.

And because innovation is going to continue and our speeds will continue to ramp, and our mobile products will hit them where it hurts, I’ve actually never felt more confident about our competitive posture. So appreciate your support again, and I look forward to talking to you in our second quarter. Thanks for joining us.

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