Otelco's (OTEL) CEO Michael Weaver on Q2 2014 Results - Earnings Call Transcript

Aug. 7.14 | About: Otelco, Inc. (OTEL)

Otelco, Inc. (NASDAQ:OTEL)

Q2 2014 Earnings Conference Call

August 7, 2014 11:30 ET

Executives

Kevin Enda - Investor Relations

Michael Weaver - Chief Executive Officer

Curtis Garner - Chief Financial Officer

Analysts

Chris Brown - Aristides

Operator

Good day and welcome to the Otelco Conference Call. Today’s conference is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Kevin Enda. Please go ahead, sir.

Kevin Enda

Thank you, Tracy, and welcome to this Otelco conference call to review the company’s results for the second quarter ended June 30, 2014. Conducting the call today will be Michael Weaver, Chief Executive Officer; and Curtis Garner, Chief Financial Officer.

Before we start, let me offer the cautionary note that statements on this conference call that are not statements of historical or current fact constitute forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other unknown factors that could cause the actual results of the company to be materially different from the historical results or from any future results expressed or implied by such forward-looking statements.

In addition to statements, which explicitly describes such risks and uncertainties, listeners are urged to consider statements labeled with the terms believes, belief, expects, intends, anticipates, plans, or similar terms to be uncertain and forward-looking. The forward-looking statements contained herein are also subject generally to other risks and uncertainties that are described from time-to-time in the company’s filings with the SEC.

With that stated, I will now turn the call over to Mike Weaver.

Michael Weaver

Thanks Kevin, and thank you folks for joining us on our call. Our focus for 2014 is to reduce our costs, improve margins, and reduce our debt. Second quarter results indicate progress on each of these objectives. For the quarter, we produced $7.4 million in adjusted EBITDA from $18.5 million in revenue, which results in an EBITDA margin of approximately 40%. In the second quarter, we also began to see the impact of our efforts to reduce cost as we realized the decrease of $320,000 in recurring expenses. These cost reductions were a direct result of the actions we implemented during April of this year.

We anticipate total cost reductions of approximately $1.3 million in calendar year 2014 and $1.7 million over the 12-month period. These cost reductions consist of an 8% reduction in the number of employees, refinements in our cable television program, and reductions in our network cost. During the second quarter, we reduced our debt by over $6 million. For the six months ended June 30, 2014, our total debt reduction is $11.6 million. Capital expenditures were approximately $1.5 million in the second quarter as we continue to maintain and expand our existing network facilities. We expect similar levels of investment throughout the remainder of the year.

In the second quarter, our access line equivalents declined by less than 1% when compared to the end of the first quarter. For the fourth consecutive quarter, we experienced growth in our RLEC business access lines as a result of installation of fiber transport facilities and special circuits. In summary, we will remain focused on efficiently operating and growing our enterprise and business customer base, as well as reducing our debt and providing more of the services they need to operate their businesses effectively.

Curtis, if you would, please summarize the financial results, and then we can take questions from the audience.

Curtis Garner

Thank you, Mike and thanks to everyone on the call for joining us today. Let me provide a brief overview of second quarter financial highlights, and then we can open it up for questions.

Beginning with the top line, second quarter revenue decreased $1.1 million or 6% compared to second quarter of 2013 to $18.5 million from $19.7 million. The non-renewal of the Time Warner contract accounted for $400,000 or about a third of the decline. The majority of the remaining decline was a result of the decrease in residential RLEC voice access lines and revenue decreases driven by the continued implementation of the FCC’s InterCarrier Compensation reform order. However, this was partially offset by cloud hosting and managed services revenue of a bit over $200,000 from our acquisition of Reliable Networks on January 2 of this year.

Breaking the revenues down a little, local services revenue decreased 16.9% to $6.7 million from $8 million including the $400,000 Time Warner Cable decrease. The decrease in RLEC residential subscribers, the impact of FCC’s InterCarrier Compensation order which reduces or eliminates intrastate and local cellular revenue, and some CLEC market retention pricing accounted for about $0.5 million decrease. A portion of the RLEC decrease is recovered through the Connect America Fund, but that’s categorized as interstate access revenue.

We also had a carrier settlement in 2013 which represented $0.5 million of one-time revenue and has no comparable revenue in 2014. Revenue from our Hosted PBX product increased by $0.1 million. Network access revenue decreased 3.2% to $6 million from $5.8 million. The Connect America Fund and switched access including the 2013 annual NECA cost study true up increased $0.8 million. This increase was partially offset by decreases in the Alabama Transition Services Fund and special data access of $0.6 million.

Internet revenue decreased 1.7% to $3.6 million from $3.7 million, a decrease in the residential data line and dial-up internet, was partially offset by an increase in RLEC fiber rental. Transport services revenue decreased 9.1% to $1.3 million from $1.4 million, primarily from customer churn and pricing actions. Cable television revenue decreased 4% to $716,000 due to subscriber attrition. The decline was partially offset by growth in the security systems revenue, which is included in this line.

Cloud hosting and managed services revenue associated with the acquisition of Reliable Networks increased revenue over $200,000 for second quarter of 2014 with no comparable revenues in the year earlier. Operating costs and expenses decreased to $14.0 million or a decline of almost $600,000 or 3.9%. Cost of services decreased 5.4% to $8.6 million from $9.1 million. Expenses related to professional services, cloud computing, and Hosted PBX increased by $0.1 million. Access and circuit costs decreased by $0.3 million. Cable and toll costs decreased by $0.2 million, and sales and customer services costs decreased by $0.1 million.

Selling, general and administrative expenses increased by 19% to $2.6 million from $2.2 million. Cloud hosting expenses associated with our acquisition of Reliable Networks including an accrual for non-cash stock compensation increased costs by $0.2 million. One-time positive carrier settlements and operating tax reductions of $0.4 million were reflected in the 2013 results with no comparable reduction in 2014. These increases were partially offset by lower insurance and legal expenses of $0.2 million.

Depreciation and amortization for second quarter of 2014 decreased 14.8% to $2.8 million from $3.3 million in second quarter of 2013. Amortization associated with Time Warner contract intangible assets decreased by just under $0.4 million as the contract value is fully amortized in June 2013. The amortization of other intangible assets in New England and CLEC depreciation decreased by $0.1 million.

As Mike mentioned, adjusted EBTDA was $7.4 million compared to $8.5 million a year ago and $7.5 million in the first quarter of 2014. During the second quarter, the company made scheduled and voluntary and excess cash flow, principal payments on our debt of $6.1 million lowering our total debt to $117.1 million at the end of second quarter. As Mike mentioned this brings total reductions for the year to $11.6 million. We continue to meet all covenants for the loan and we have invested $1.5 million in PP&E during the second quarter for a total of $2.9 million for year-to-date.

Cash decreased from $9.9 million to $4.8 million compared to December 31, 2013 primarily due to loan payments above our scheduled quarterly payments. I think this covers the highlights. There is additional detail in the press release. And our SEC Form 10-Q should be filed tomorrow that should provide additional details on second quarter results. Tracy, if you provide directions, we can take in investor questions at this time.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) We will take our first question from Chris Brown from Aristides.

Chris Brown - Aristides

Good morning, gentlemen.

Michael Weaver

Hi, Chris.

Chris Brown - Aristides

I just had one question for you. Can you comment at all on how the – I know it’s early, but how the -- cloud hosting businesses that you acquired, how it’s meeting your expectations thus far?

Michael Weaver

Sure. Thank you, Chris. Actually, summary of it is we are pleased with the results. We are slightly ahead of our expectations on top line and EBITDA through the second quarter. We are certainly pleased with the effort and the abilities of the Reliable team. As we have mentioned on prior calls, when we bought the business, we kept the entire team from Reliable. And in addition, we’ve shifting some focus for the remaining six months of this year to try to continue the growth in Reliable. We have dedicated some of our existing sales people, so that they are splitting their time on a daily basis between the cloud hosting and our other services as well as using some outside third-party agencies for lead generation. In addition, we continue to do cross-training with our existing sales staff just to make sure that they really understand the breadth of the services that we are offering through Reliable. Again in just summary, we are pleased with where we are. We think the acquisition will be good for Otelco. We believe that it will continue to have growth in the future and our team at Reliable is executing quite well for us.

Chris Brown - Aristides

Great, great. I guess, actually I had one more question, the improvement in RLEC fiber line revenue, is that something that you think is a trend that may continue to go that way?

Michael Weaver

Well, we saw increase, and what that’s almost directly attributable to is additional fiber circuits and just pure fiber for schools, and a lot of it’s (inaudible) funds for schools and libraries as well as businesses. Actually, Alabama is particularly strong in that area. A lot of that has to do with the market in Alabama. Our total access lines for that state are, 31% of [the whole] businesses, which is actually quite hard for our industry and certainly higher than any of our other RLECs. So, we do think that trend will continue, and if you have been following the President’s comments that there is going to be more money made available for broadband expansion with higher bandwidths required for schools and librarie,s and that plays very, very well to our strength in our RLEC businesses. So, we do see it as certainly a positive trend, and it’s one that we, because of the factors I just mentioned, believe will continue.

Chris Brown - Aristides

Great. And I know you guys don’t give guidance, but do you see any unforeseen bump up in expenses or anything adverse coming in Q3 or Q4 that we should know about?

Michael Weaver

Well, you will continue, no – that’s I hate those kind of questions, but I understand the reason for it. It’s exactly the stuff that we worry about are those things that we aren’t aware of. As I mentioned in my remarks, we took the cost that we realized from the reductions back in April for second quarter was $300,000, and it will be slightly over $1.2 million for the year. So, we still – we see the benefit of those cost reductions, and there is nothing on a regulatory standpoint that we are aware of that cause us concern for the last half of the year. I always have to add the caveat that we are in a regulated industry and changes to the regulation could impact us either positively or negatively of course, but there is nothing that we are aware of. It’s marking out there that not only that we feel like we would need to share with you, but there is nothing out there that we are aware of today both from an internal management standpoint as well.

Chris Brown - Aristides

Great, great. Thank you very much.

Operator

(Operator Instructions) We will go next to Wally Walker, Private Investor.

Unidentified Analyst

Hi, there, gentlemen. Nice quarter. Mike, I remember in a couple of conference calls you talked about possible partnerships with other carriers concerning Otelco’s Hosted PBX on a wholesale basis, I was wondering if any progress was made there.

Michael Weaver

Well, thank you for you coming on the call as well as in the past. We are still working on that. There is nothing tangible that I can point to today that’s out there. We have signed the contract with one company with a wholesaler hosted product, that’s a done deal, that’s not speculative anymore. They are still learning about the product, and we have had a couple of relatively small orders flow. We did believe – we still believe strongly that that’s a good avenue for growth for us. As I mentioned on those previous calls, our hosted product works with anybody’s broadband, so it’s not – it’s obviously not restricted to any geographic area, and our partner on this deal has broad experience in the area. We are candidly a bit disappointed in our results from them so far, but we had the integration and getting everything ready for them. (Inaudible) service took more time than I anticipated. So, what I am hopeful of is that only deferred the results. So that’s the only relationship that is (inaudible) service and that’s closed. We still are working with others similar to our existing partner because we believe that the product is a good product and can be sold anywhere with confidence.

Unidentified Analyst

Thank you.

Operator

We will take our next question from Peter Carmack, Private Investor.

Unidentified Analyst

Gentlemen, good morning, thanks for the call. I just had a quick question as it relates to some of the covenant that you have in your credit facility regarding that auction of the company within 180 days if you breach that certain EBITDA level to debt. Two things, is that on a net debt, net of cash or is it gross debt and is the EBITDA calculation I assume it’s the adjusted EBITDA calculation you have in the press release and I assume it’s on trailing four quarters?

Michael Weaver

Curtis, do you have, would you like to answer that question first.

Curtis Garner

Yes, yes, and yes. Trailing four quarters, it is on gross debt and you can look at it as adjusted EBITDA divided and debt for the two and gross debt of the two calculations.

Unidentified Analyst

Okay. So the cash balance doesn’t have any impact at all, so your gross debt as of now is $117 million roughly?

Curtis Garner

Correct.

Unidentified Analyst

Okay. And it doesn’t seem to me like there is a whole lot of wiggle room there, are you guys concerned about that being an issue or triggering that covenant breach anytime near-term?

Curtis Garner

I think we are always monitoring and managing that but the triggering factor is 4.25 times leverage and we are below 4 right now.

Unidentified Analyst

Because trailing – trailing four quarters is around 30 on adjusted EBITDA?

Curtis Garner

Yes, little below 30.

Unidentified Analyst

Okay. And so you did 30 times, 30 into 117 is how you’re calculating that, right?

Curtis Garner

Right.

Unidentified Analyst

3.90. Okay. That’s perfect. I appreciate the info on that.

Operator

(Operator Instructions) And there are no further questions – I am sorry we just had one pop up Wally Walker, Private Investor again.

Unidentified Analyst

Hi, there guys. I just have one more question in fact it probably relates to the last question. It just seems to me that Otelco is much more aggressive than your average Otelco on meeting that’s requirements for debt payment I think your – I don’t know Curtis would know about $1.7 million payment is required by the (inaudible) per quarter. And you are seem quite comfortable to me at least to me under the 4.25 leverage limit on the credit facility. And the final Time Warner affected quarter just rolled up making EBITDA comparisons easier going forward. I’m just trying to get a feel for this are you guys got your mindset maybe getting a new credit facility, a more favorable terms and that’s why you are being so aggressive right now on the debt pay down? Thanks.

Michael Weaver

(Inaudible) for your follow-up question, actually in my judgment, the quickest way we can build equity for all of our shareholders is to get the debt reduced. And as previously pointed out, we are comfortable where we are, Curtis is right. We monitor that closely and we are tracking the available cash that we have after spending the – making the necessary CapEx on our – to keep our plant facility maintain and continuing to grow our services. We pick every dollar and reduce it on the debt. It’s really not so much as to try to give the debt package redone as much as it is. Our belief is that’s the way we build equity given the restraints on our capital. It’s difficult to go and make traditional acquisitions at this point in time. So that means the next best thing for us again in my judgment at least is to reduce the debt. So, we are focused on that, actually think our debt package for a company our size is we have of course a longer term would be nice, but we think it’s pretty reasonable package that we have from our existing lenders. Certainly, more flexibility is desirable, but we are focused, you are right we are focused on getting that debt reduced again for the third time as we believe that’s how we build equity the fastest for all lines.

Unidentified Analyst

Alright, good luck going forward.

Michael Weaver

Thank you.

Operator

And there are no further questions in the queue. I would like to turn the call back over to Mike Weaver for closing comments or remarks.

Michael Weaver

Good questions and we thank you for those, as well as your participation in our call and your confidence that you placed in us. So, we will speak to you again in three months, if not sooner, but thank you.

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Otelco (NASDAQ:OTEL): Q2 EPS of $0.42 Revenue of $18.48M (-6.0% Y/Y)