Consolidated Communications Holdings' (CNSL) CEO Bob Currey on Q2 2014 Results - Earnings Call Transcript

Consolidated Communications Holdings Inc. (NASDAQ:CNSL)

Q2 2014 Earnings Conference Call

July 31, 2014 11:00 AM ET

Executives

Matt Smith - Treasurer and VP

Bob Currey - Chairman and CEO

Steve Childers - CFO

Bob Udell - President and COO

Analysts

Frank Louthan - Raymond James & Associates

Barry Sine - Drexel Hamilton

Donna Jaegers - D.A. Davidson & Company

Jennifer Fritzsche - Wells Fargo Securities

Sachin Shah - Albert Fried & Company

Operator

Good day, ladies and gentlemen, and welcome to the Consolidated Communications Holdings Second Quarter 2014 Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference is being recorded.

I would like to introduce the host for today’s conference Mr. Matt Smith, Treasurer and Vice President. Sir, you may begin.

Matt Smith

Thank you, Amanda, and good morning everyone. We appreciate you joining us today for our second quarter 2014 earnings call. At the conclusion of the prepared remarks, we will open up the call for questions.

Joining me on the call today are Bob Currey, Chairman and Chief Executive Officer; Bob Udell, President and Chief Operating Officer; and Steve Childers, Chief Financial Officer.

Please review the Safe Harbor provisions in our press release and in our SEC filings for information about forward-looking statements and related risk factors. This call may contain forward-looking statements within the meaning of the Federal Securities Laws. Such forward-looking statements reflect among other things, management’s current expectations, plans and strategies, and anticipated financial results. All of which are subject to known and unknown risks, uncertainties and factors that may cause the actual results to differ materially from those expressed or implied by these forward-looking statements. In addition, today’s discussion will include certain non-GAAP financial measures.

Our earnings release for this quarter’s results which has been posted to the Investor Relations section of our Web site contains reconciliations of these measures to their nearest GAAP equivalent.

I will now turn the call over to Bob, who will provide an overview of our second quarter results as well as an update on the Enventis transaction which we announced on June 30th. Steve Childers will then provide a more detailed review of the financials and discuss 2014 guidance. Bob?

Bob Currey

Thanks, Matt and good morning everyone. We do appreciate you joining us today. I am very pleased with our performance in the quarter. We remain focused on delivering strong results while working through the diligence and other steps and reaching an agreement to acquire Minnesota based Enventis. We are excited about the transaction on which I will update you after reviewing our quarterly results.

For the quarter, revenues were 151 million, which were flat year-over-year and higher by 1% sequentially. The growth was primarily driven by a year-over-year increase of 16% in our metro Ethernet services and a 5.5% growth in our overall commercial revenues. The additional commercial sales resources that we added late last year are now fully ramped and we are seeing the benefits of that investment.

Adjusted EBITDA for the quarter was 71.4 million and the payout ratio a solid 66.2%. Broadband and business revenues continued to represent the primary growth areas of the Company and are now 78% of our total top-line.

With respect to the connections, we added approximately 100,000 data subscribers and 400 video subscribers in the quarter. Combined, we now have a total of just over 370,000 broadband connections. We have reached an important milestone as we now serve as many broadband connections as we do voice. We had another successful quarter with our commercial and VoIP sales, which provides us customers term commitments and in many cases higher ARPU than traditional voice offerings.

We also had an uptick in ILEC access line losses driven by our VoIP sales success and FCC mandated benchmark rate increases. We had another strong quarter of growth in our wireless backhaul sales with 41 new sites bringing our total under contract to 846. While we’ve seen some price compression in the backhaul sector, recurring revenues and the link of the contracts provide for continued attractive return opportunities.

And finally before I turn the call over to Steve, let me provide an update on the current status of the Enventis transaction. As a reminder, we announced the acquisition on June 30th; we are excited about what our combined companies can deliver with a robust fiber network and strong demographics, providing ample opportunities for organic expansion. Together, we can be more competitive and provide better products and services to our customers. The all-stock transaction provides Enventis shareholders with both the premium and a significantly higher dividend while at the same time providing our shareholders an improved leverage profile and a solid payout ratio.

Culturally, Enventis is a great fit. We have a lot of similarities in our histories and our strategies. A couple of weeks ago, Bob Udell and I met with the employees of Enventis and could not have been more pleased with the warm reception. You may be unaware that they are doing some exciting things with fiber, broadband and the suite of cloud services, and together we can do even more. We are looking forward to working with the Enventis team. Lastly, we have completed all of the initial regulatory filings and plan to file the S-4 within the next week to 10 days. We continue to target a close in the fourth quarter.

And with that, I will turn the call over to Steve for a financial review.

Steve Childers

Thanks, Bob and good morning to everyone. This morning I will review our quarterly financial performance and reiterate our 2014 financial guidance.

As Bob stated, we are pleased with the result for the quarter. Operating revenues for the second quarter were 151 million and were essentially flat compared to the second quarter of last year. Increases in local services, data and video revenues were offset by declines in network access and subsidies. Total operating expenses, exclusive depreciation and amortization, were 89.6 million, which were flat compared to the same period last year. Higher video programming costs were more than offset by continued improvements in our SG&A expenses.

Net interest expense for the quarter was 19.7 million, which was down 1 million from the second quarter of 2013. The improvement was primarily driven by the lower overall cost of debt due to the successful refinancing of our secured term debt, December of 2013. Other net income net was 9.1 million compared to 8.8 million for the same period last year. For the quarter, we received 8.7 million in cash distributions from our Verizon Wireless partnerships compared to 7.7 million for the second quarter of 2013.

Weighing all these factors on a GAAP basis, the second quarter of 2014 net income was 9.8 million and net income per common share was $0.24. This compares to net income of 9.2 million and net income per common share of $0.22 for the second quarter of 2013. As detailed in the adjusted net income per share schedule in the earnings release after adjusting for transaction and severance cost as well as non-cash stock compensation, our adjusted net income and adjusted net income per share were 11.5 million and $0.29 respectively.

Adjusted EBITDA was 71.4 million in the quarter compared to 71.8 million for the same period of last year. Capital expenditures for the quarter were 25 million with approximately 60% being driven by success-based projects.

From a liquidity standpoint, we ended the quarter with approximately 4.9 million in cash and 62 million available under our revolver. For the quarter, our total net leverage ratio as calculated in our earnings release was 4.28 times to 1. Cash available to pay dividends was 23.6 million, resulting in a dividend payout ratio of 66.2%.

Now, let me discuss guidance, which excludes any impact from the Enventis acquisition. Our 2014 guidance on a standalone basis remains on plan and unchanged with capital expenditures expected to be in the range of 97 million to 103 million. Cash interest costs are expected to be in the range of 75 million to 78 million and cash income taxes are expected to be in the range of 10 million to 15 million. With respect to our dividend, Board of Directors has declared in a quarterly dividend of approximately $0.39 per common share, payable on November 1, 2014 to shareholders of record on October 15, 2014. This will represent our 37th consecutive quarterly dividend.

With that, I will now turn the call back over to Bob for closing remarks.

Bob Currey

So in summary, we had another solid quarter, and the announcement of the Enventis transaction has us very excited about our future. We are combining two strong businesses that provide significant cash flow to continue to invest in the business, to support our dividend, and to improve the balance sheet. A larger company at greater scale is more diversified and better positioned competitively in the markets that we serve. We will continue to deliver on this strategy, providing the best service to our customers and delivering results for our shareholders.

And with that summary, Amanda, I am ready to open it up for questions.

Question-and-Answer Session

Operator

Thank you (Operator Instructions). Our first question comes from Frank Louthan with Raymond James. Your line is now open.

Frank Louthan - Raymond James & Associates

Looking at your biggest subs up a little bit, last quarter you had a made a pretty significant push after some over the top customers, and you’re little agnostic as to how they took to video. Are you still kind of making that push and how should we think about that? And could you comment on when Sprint announcement earlier this week on restructure, how would you view that, how you think it may or may not work for you post the transaction?

Bob Udell

Yes, Frank this is Bob Udell. I will take the first part of that and Currey will take the second. With regards to video and specifically video subs, we are really pursuing balanced growth. And our lead product is the data, the broadband connect with the customer. We include video and voice for those customers that want to take care of the -- take advantage of our bundling. And while video is still interesting to us and we will continue to pursue growth on that front, we think to be over the top opportunity which provides us better profitability long-term. So we’re going to watch that demand trends closely. We are going to pursue a continued growth in our packaging and channel lineup. But again they’re all seeing programming cost increases and our focus on the consumer side is balanced growth and profitability.

Bob Currey

And Frank on the Windstream REIT structure, I guess my comments would be; one, it’s very creative. But Windstream is a different company and we don’t know the issues that they were facing and trying to solve with that structure. We’ll learn more about it overtime and it will be included on the list of many other things that we consistently consider to maximize shareholder value. But at this time, our strategy is working. Our focus will continue to be on execution, growing the business organically, and completing and integrating Enventis. And we’ll look at that and learn more as time goes by.

Frank Louthan - Raymond James & Associates

And just a follow-up, if I can, can you remind us how your broads and wireless distributions are or are not impacted by any spectrum auctions? And then overtime any potential to utilize your relations there with Verizon to do wireless local loop technology to replace access lines or so forth to keep customers as that technology progresses?

Steve Childers

Frank, this is Steve Childers. Thanks for the question. On the Verizon wireless distribution, I think the strength of distributions will continue to be pretty much in line with how we’ve talked about them before really going to see those being modified for the strategic reasons that you outlined. And I will turn it over Bob Udell for the second part of your question.

Bob Udell

Frank, with regards to wireless options for partnership, the Verizon investment is really an investment where we don’t have the kind of influence on their strategy. And yet we have some insight as to what their strategy is. I think that our best area of focus is to make the technology in the home including Wi-Fi as easy to use for our customers as possible that’s way you can best fit in this unified sign on portal for our consumer customers. We think that femtocells which we continue to experiment with and looking for relationship that make sense in order to bring the wireless and wireline communications together for our customers is worth continued investigation and analysis. But I don’t see any short-term opportunities for wireless local loop replacement of our fiber to the home or broadband pipe to the home.

Operator

Our next question comes from Barry Sine with Drexel Hamilton. Your line is open.

Barry Sine - Drexel Hamilton

I guess kind of a follow-up on the first question. I noticed a bit of an uptick in terms of local residential line losses, maybe you could talk about what’s going on there, what trends you say? And then what is your go-to-market strategy currently, what kind of promos you have in the market for voice, video, data, bundles on the residential side?

Bob Currey

Yes, Barry, let me address the uptick in access line erosion. We are accommodating the FCC price force and did some local rate increases over the last quarter. The lowest rate structure on local lines was in Texas. So, a third of customers that were affected by increases were in Texas. And that increased access line loss over a seasonally higher churn period like last year versus this year, and really the price increase is what I think drove some of that increase this year.

With regards to our go-to-market, we’re still leading with bundles. Roughly half of our customers have a two-service bundle, another 20% have a three-service bundle and the remaining are single service, and that’s typically the breakdown. We really still benefit from a competitive offer with the high quality service experience. And I think what we’re doing is tweaking that bundles of focus more and more on the value of our dedicated speeds and the broadband pipe and how we facilitate the customer use of that pipe.

Barry Sine - Drexel Hamilton

What kind of price points are you offering in the market for double-ply, triple-play bundles?

Bob Currey

We’re still for the lead offers in the $70 to $85 range. Our video and Internet bundles start out at 50 and move-up 70. But our ARPU, our average revenue per customer, is still in the 120 range when you have all three services in.

Barry Sine - Drexel Hamilton

And then if I could shift over onto business services, I think you’ve made a bit more of marketing focus over the last year pumping up sales force. Could you talk about, you usually don’t report the number of commission sales default, if you’re willing to give that out, I’d be interested to know on the number at least talk about it qualitatively what are you doing in terms of business sales force growth? And then what are you seeing in terms of productivity typically when we see a company ramp the sales force up productivity lags until they become more productive, and then we’re ongoing with that is how can I use that information to think about modeling of the company in digital services revenue on a going forward basis?

Bob Currey

I’ll let Steve finish the answer and let me it a give a qualitative view that won’t necessarily break into new guidance statistics. But I would say that the way we look at growing sales force is we look at really strong performing markets and we will oversize the sales team in those markets. And we are seeing some great results in Kansas and Texas and in California right now. We still see great opportunity in Pennsylvania, and our net revenue has been very solid there and Illinois is really surprising us with some positive results this year that based on the national economy of the State of Illinois we didn’t really predict.

So the diversity of our markets is really serving us well. We’re probably 15% up on commission, sales resources that are in some stage of ramp versus last year. And so you are right. I mean the ramp flags and we rolled out Dallas as we talked about at the end of 2013, and it’s trending nicely and we expect to be fully productive there as we exit this year.

So the way to think about it is, we’re going to open. We opened a new market this year, added some capacity to our existing markets from last year and those resources will be at the end of their ramp period towards the end of this year and we’ll probably look at expanding some more in 2014.

Barry Sine - Drexel Hamilton

Okay. And then again shifting gears, my last question again also on the Verizon stakes. Verizon has their priority obviously at Verizon Wireless was the Vodafone transaction which they have now completed. I am wondering if they maybe more amendable to cleaning up the fragmented partnership structure, and obviously you have a very, very low tax basis in those Verizon assets. But perhaps have you thought about or would you be open to some type of, for example tax free asset swap for some of that wireline assets. Have you thought about that or is that likely to or possible to happen over the coming years?

Steve Childers

Barry this is our response, I mean we are thinking I mean we are drawing about $35 million a year in free cash flow from those properties, we expect that to continue growing with the same kind of guidance that Verizon is giving on those earnings. So in terms of just an outright sale, to your point we do have a very low tax basis. So if we did stop, I don’t know what the multiple have to be I guess for us to really consider an outright sale to replace basically $35 million, $36 million in free cash flow. If Verizon want to make an offer we’d certainly listen to that if it was meaningful, but we really enjoy the cash flow and the diversification strategy on wireless.

In terms of using that as a trade for other Verizon properties we have thought about that, but we’ve never had a serious proposal or consideration for any kind of trade.

Operator

Our next question comes from the Donna Jaegers with D.A. Davidson. Your line is open.

Donna Jaegers - D.A. Davidson & Company

Just a few questions since most of them have been asked. On the Texas rate increase that you mentioned, can you refresh our memories? I think your rates on some of those rural areas in Texas were like $10, $12 a month. How much did you raise them? And are you seeing a competitive response from cable or where do you think those customers are going?

Bob Udell

Donna, its Bob Udell. Let me go back to the rate floor. We were roughly $2.40 off the rate floor, so that’s about the average of the increase that we made. I think in most cases the rate increase has drawn their attention to the access line that they maybe weren’t using as much or considering it more a safe line. And so I really believe they’ve done more to wireless or possibly some increase, some slight increase in churn of maybe a bundled customer. But I would tell you the churn we see when we analyze Texas as an example has really been isolated through the active line, our video subs and our data is really on par with churn for a seasonally busy move quarter like 2013 was or second quarter.

Steve Childers

Donna, let me jump in for just a second. The SEC mandated, they have mandated that you have a certain monthly subscriber rate to continue to receive the subsidy funding that you’ve received in the past. So if you don’t raise your rate, you lose the subsidy funding. So we raised the rates and most of ours are above the national average anyway. So we raised those rates and increased the revenue obviously, but there is a minimal amount of erosion as a result to that.

The second though of back to the line loss question is the VoIP strategy moving some of our business customers to VoIP, makes good sense. But when they are in the ILEC territory, it comes up is an access line loss even through you may be getting more ARPU and certainly getting longer term, you’re signing them into a contract. So it was a good trade, the revenue trade-off for some temporary increase in the access line loss. I hope that helps.

Donna Jaegers - D.A. Davidson & Company

And I understand the trade-off and I remember reading through the FCC notice proposed rule making on that. Can you help us at all, I mean you had 4.4% line loss in business is about a third of that going to your own VoIP lines? Any sort of similar breakdown in the resi line loss of 5.1%?

Bob Currey

I think roughly 25% is probably a good to look at there on the business side. On the residential side, it’s probably a little bit less and more just a single service disconnection versus as I mentioned earlier pulling from our bundled customers.

Donna Jaegers - D.A. Davidson & Company

And then on Windstream’s REIT announcement, it seems to me that the barriers to doing that for you guys would be you need to state regulatory approval, and since your network is pretty much upgraded already. What do you offer to the states to take this in the public interest from them? And then on the debt side you need to have debt that you could refinance in the near-term. Does that make sense to you? And do you see any other barriers to you, sort of exploring this idea?

Bob Currey

Donna, as I said it’s way too early for us to comment on that. I think even the last couple of days there has been new answers to it in further understanding. And I can tell you my phone is ringing off the hook with bankers who know this better than anybody else and want to sell you on the concept. And so we’re going to do a lot of listening and learning. And gain Windstream is a different company. I am not aware of all the issues that Jeff is or trying to solve and we’re very comfortable where we are and we’ll continue to obviously study this. But I don’t want the team distracted. We’re focused on execution, integration of Enventis and closing that transaction. And when we’re done with that in the meantime a couple others will evaluate that structure and know a lot more about it in 30 days than we know today.

Donna Jaegers - D.A. Davidson & Company

And then finally on Enventis, they came out with some pretty good numbers it looked like the other day. Their equipment business is growing like 15% year-over-year. Can you talk about how you view that, because it’s not really a monthly recurring revenue item, it can more lumpy but obviously it’s a good lead into larger business customers? So what’s philosophy on that whole equipment business?

Bob Currey

First with respect to their release, the results are in line with what expected based on due diligence and we feel good about that. The second on the equipment business, we really are interested in learning more about their Cisco certifications, how they leverage that for their network opportunities. And so unfortunately I can’t give you a concrete answer until we get more work done on understanding it how they integrated it. We’ve got a team of folks that are going up there for their third level of due diligence conversation. So the jury is still out and we want to learn more about it and see how we can leverage the strength of what they have done with that Cisco relationship as well as their new cloud service rollout that’s built on any EIS skill set and base. But our initial impressions are very positive and it’s not your typical equipment business.

Operator

(Operator Instructions). Our next question comes from Jennifer Fritzsche with Wells Fargo. Your line is open.

Jennifer Fritzsche - Wells Fargo Securities

I will be the one who asks the inevitable Google fiber question, but with a different angle. We recently travelled with AT&T, and they were talking about how with their GigaPower offering which they rolled in Austin. Google actually kind of did a lot of blocking and tackling for them and made it easier working with the municipality to get service out. And I am just wondering, if you’re seeing the same kind of experience in Kansas City, clearly you were there before they were, I’m not sure I have that right. But I am just wondering if Google in some ways has actually helped with your process and not only in the advertising of the service?

Bob Udell

Jennifer, Bob Udell. With regards the timing, we were first in the form of Everest and then later to SureWest through their acquisition in Kansas City. But what Google has really done is created an interest an additional broadband consumption, although your average consumption isn’t anywhere near. The most beneficial aspect of their involvement in the market has been pulling of cash on agreements. They’ve created and what just as AT&T suggested in your visit with them, a favorable fee structure in the municipalities where they bought out service. And I am not sure all the municipality is expected that to be something they had to offer to all these other utility providers or service providers in their markets or in their towns and fortunately for us it’s gone that way. So we’re benefitting from that new creative approach in Kansas City for sure.

Jennifer Fritzsche - Wells Fargo Securities

And can I just follow up separately on Enventis with their 4,200 miles around fiber and I apologize and if you answered this in your prepared remarks. But are you able to have conversations with some of your customers and talking about your greater fiber reach and is that something I would assume they are pretty excited about?

Bob Currey

We’re having to do the natural control if you will of sharing too much or getting each other’s way so that we can focus on running the businesses and producing the results that have been produced to this point. But I will tell you there is dialogue going on, there is customer interest. We know each other on the wholesale side or carrier sales side from historical relationships and the forms that support those. And so yes our customers are interested, their customers are interested, as is already interest in our datacenters as a diversity to regional, weather and situations that their customer experienced. So there is a great amount of excitement especially on the fiber transport and wholesale service side.

Operator

Our next question comes from Sachin Shah with Albert Fried. Your line is open.

Sachin Shah - Albert Fried & Company

Did I mishear you; did you say that you expect the deal to close within 30 days?

Bob Currey

No in the fourth quarter.

Sachin Shah - Albert Fried & Company

I just wanted to clarify that. Just on that vein, any update on the preliminary S-4, the Minnesota, Iowa SEC filings?

Steve Childers

Yes, this is Steve. We have made all the state regulatory filings particularly in Minnesota and Iowa that needed an ILEC approval. We’ve made in certain states that we need to get certifications transferred. We’ve done all that, all the preliminary filings for both federal and state. We’ve done the Hart-Scott-Rodino filing; we’ve already gotten approval for that. So the next hurdle is the S-4. And Bob mentioned in his prepared remarks, we expect to file that the next week to some days and we’re still hoping this thing disclose sometime in the fourth quarter.

Operator

And I’m showing no any further questions at this time. I would like to turn the call back to Bob Currey for further remarks.

Bob Currey

Thank you, Amanda and thank you all for joining us today and for your continued interest and support of Consolidated Communications. We hope you will join us again next quarter, and thanks again and have a great day.

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program. You may all disconnect. Everyone have a great day.

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