Alaska Communications Systems' (ALSK) CEO Anand Vadapalli on Q2 2014 Results - Earnings Call Transcript

| About: Alaska Communications (ALSK)

Alaska Communications Systems Group Inc (NASDAQ:ALSK)

Q2 2014 Results Earnings Conference Call

August 07, 2014, 5:00 pm ET

Executives

Leonard Steinberg - Vice President, General Counsel, Corporate Secretary and Chief Ethics Officer

Anand Vadapalli - President, Chief Executive Officer, Director

Wayne Graham - Chief Financial Officer

Analysts

Barry Sine - Drexel

Phil Larson - Millstreet Capital Management

Operator

Good day. Welcome to the Alaska Communications Systems second quarter earnings conference call. Today's conference is being recorded.

At this time, I would to turn the conference over to Leonard Steinberg, General Counsel. Please go ahead, sir.

Leonard Steinberg

Good day and welcome to the Alaska Communications second quarter 2014 conference call. I am Leonard Steinberg, General Counsel and with me today are Anand Vadapalli, President and Chief Executive Officer, Wayne Graham, Chief Financial Officer and Laurie Butcher, VP of Finance.

During this call, we will be using a slide deck that we would encourage everyone to have available. For those listening to this call via the webcast, the presentation will be presented on your screen. For others, you can go to our investor website www.alsk.com, click on the Events section, go to the second quarter 2014 earnings call event and click on the PDF version of the presentation. We will indicate what page we are on so you can track the presentation material throughout the call.

Now as we get started, please review page three for our Safe Harbor statement.

During this call, company participants will make forward-looking statements as defined under U.S. security laws. Forward-looking statements are statements that are not historical facts and may include financial projections, estimates of shareholder returns or other descriptions of the company's business plans, objectives, expectations or intentions.

You are cautioned not to put undue reliance on forward-looking statements as actual results could differ materially from expectations as a result of a variety of factors, many of which are outside the company's control.

Additionally, any non-GAAP measurements referred to during this call have been reconciled to their nearest GAAP measure. You can find these reconciliations on our website in our earnings call press release. Following our remarks, we will open the line up for questions.

With that, I would like to turn the call over to Anand. Anand?

Anand Vadapalli

Thank you, Leonard. Good morning and thank you for joining us today. I will start on page five with a reminder of how we create value for our shareholders. We always ask ourselves three questions. First, are we growing broadband revenues? Second, are we growing EBITDA? And third are we reducing debt? The answer to these is yes.

Turning to page six. I am pleased to report strong operating and financial performance for the quarter and year-to-date. Our performance in the marketplace is reflected in solid topline revenues. With strong EBITDA and free cash flow performance our run rate puts us well on track to achieve our guidance for the year.

On page seven. We note our industry leading performance in topline growth north of 11% led by continued strength in broadband.

Page eight provides more color on broadband growth. I would like to highlight a few important takeaways from this slide. One, in addition to strong broadband growth, we are growing total revenues in both business and consumer market segments by outpacing secular voice declines in both areas. Two, a part of this growth is driven by the competitive dynamic in our state. There are two statewide wireline providers and as the one with the lower share in the market, we do not have to write down revenues to gain share. This is important as in our next slide, I will talk about select customer wins and as those examples will show, we do not lead with price. Three, this has been a consistent growth for a third year in a row. This consistently supports our business plan pieces, that has driven various investments we have made.

Which leads me to slide nine, where I am pleased to share with you select customer wins from this past quarter. Of particular note is a strategic multiyear contract with a national carrier to build fiber facilities in support of a Federal customer. This strengthens our relationships with both the carrier and the end customer. Additionally this work now positions us for additional business over the next several years. We did not get this contract based on price. This win was a clear endorsement of the technical superiority of our solution and the excellent customer relationships fostered by our sales and service teams.

The next two opportunities both represent strategic extensions of our relationships with important customers, both of these, in the face of very strong competitive activity. In both cases the quality of sales and service relationships with the customer was an important factor as was the quality of our solution. MEF certification of our Ethernet network was an additional criteria for one customer that demands high level of reliability and a standards-based network architecture. I should note that we are the only carrier in Alaska with a Carrier Ethernet 2.0 certified network. We use this to our advantage with enterprise customers. We are performing well in the market. Our customers have trust and confidence in us. We are executing in a disciplined and cost-conscious manner. Overall we are doing well against our operating plan for the year and leading the industry in growth.

With that, let me hand the call to Wayne to discuss our financial results. Wayne?

Wayne Graham

Thank you, Anand. Turning to page 11, you can see that our areas of focus are doing well. Business and wholesale revenue was up $2.3 million or 9.2% year-over-year. Consumer revenue grew $0.1 million or 1%. Other revenue was up $3.3 million or 23.5% and we benefited from a $2.1 million release of revenue reserves. In total, our core category of service and other revenue was up $5.7 million or 11.5%.

Turning to page 12. We highlight our connection and ARPU metrics. Our area of focus is business and you can see that our performance was strong. We did experience some slowdown in consumer connections. Some of that is seasonally anticipated, but some is intentional as we are slowing down the offering of our lower bandwidth products in favor of higher speed, higher-margin products. Our financial focus is profitability in this segment and strength in ARPU will be a key measure of future performance.

Now turning to page 13. For those who regularly listen to our calls, comparing year-over-year results are impacted by the movement of certain revenue streams which are now captured inside our AWN affiliate and our cost structure has changed now that we have this wholesale arrangement for wireless operations. At the end of last year, we presented full year 2014 guidance and indicated that 2014 is our first full year following the AWN transaction.

As you can see on the slide, our Q2 results are tracking ahead of our 2014 guidance. Q2 performance was stronger than Q1 performance. However, with higher cost traditionally associated with the summer season, we do not expect to have sequential adjusted EBITDA growth in Q3. Based on our results so far for the year, we are reaffirming our guidance for 2014 in the areas of revenue, adjusted EBITDA and free cash flow. Capital spending guidance will grow from approximately $40 million to between $40 million and $45 million.

As Anand mentioned earlier, we have a multiyear contract with a national carrier that will result in higher CapEx this year. Payments by the customer for this project are expected to fund the capital spending, so the project is free cash flow neutral this year. Further and importantly, we expect this project to be accretive to free cash flow next year.

On the leverage front, we continue to make debt payments ahead of schedule. Our deleveraging continues and with it the value creation that benefits our shareholders. Cash balances continue to be strong. We are doing well and working hard to maintain our momentum and we look forward to continuing to build on our performance throughout the year. We remain focused and confident in our ability to create value for our shareholders.

With that, I will hand the call back to Anand. Anand?

Anand Vadapalli

Thank you, Wayne. Let's go to slide 14. As I wrap up this call, I leave you with a couple of data points. First, for 10 quarters in a row, we have grown business broadband revenues. This is an incredibly consistent record of performance driven by a team of great people here at Alaska Communications. Second our performance to our EBITDA and free cash flow guidance demonstrates our commitment to margin management and expansion over time. Third, we continue to meet and exceed our debt paydown schedules. We are performing to our plan and I look forward to reporting progress in future quarters.

Thank you for joining us today. With that, let me open up the call for questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). Our first question will come from Barry Sine from Drexel.

Barry Sine - Drexel

Good afternoon, gentlemen. I wanted to ask a couple questions. So I guess first of all, congratulations, very good quarter. I wanted to ask a couple of questions to help better understand the sustainability of the growth rate on wireline and then the renewed turnaround within wireless. So first of all on the business side in wireline. Anand, maybe you can give us a recap, refresh our memories, I know the company has invested pretty significantly in SG&A, what have you done in terms of the sales force? What have you done in terms of network investment? If you have route miles of fiber that you put down? And just help us understand what you have done and how that may or may not help drive sustainability, of what we have just seen in the first quarter. Thank you.

Anand Vadapalli

Very good afternoon and thank you for your question. So I feel good about continued growth in broadband and so should you. We have invested in this growth over the last three years. As you point out, as we have noted in past calls, a lot of our investments have been both in sales as well as service. So we have sales channels that are focused on SMB, mid-major and enterprise.

We also have a few order alternate channels, including in our context centered for the business customers and we are pleased with our performance. We have been focused on the business segment for several years now. And over the last several years, not only have we built sales competencies of how to manage the sales force and sell, we also built a really good book of relationships with business customers. And that's really important.

Second, with respect to the network, we noted last year, Barry, our investment in a fiber-to-the-node program. This one, where we are putting fiber-to-the-node and fiber-to-the-premises for a lot of customers. In fact, in the last few years, we put fiber into close to 100 buildings in the Anchorage area. That's an example of our investment in fiber network.

Another example, we talked about was with our win with select customers. We use these anchor tenancy relationships to the extent of fiber network. This is a great example as we have done with the Anchorage School District. We are connecting between 95 and 100 schools with fiber. As you can imagine, that is a phenomenal investment of deepening the fiber footprint into almost every single neighborhood in Anchorage. That not only benefits the customer, but also the communities in which those fibers are going.

All those are good and the other main thing, Barry, that I would identify is our investment in managed services. To me, I see managed services as the future of driving growth for us over the long-term. We invested in TekMate two-and-a-half, three years ago. Earlier this year we bought out 100% of the interest of TekMate and we combine that with our investment in a senior leader and I can tell you that those results with TekMate and managed services are really exceeding our expectations every single month. And I feel great about that

TekMate adds a lot of value and differentiation when we go to market. We are not competing on the basis of price. We are competing on the basis of value and differentiation. And managed services combined with connectivity is giving us a great story in the marketplace. So I know, it's a long answer but this is one that I am excited about. And I just thought I would share the things that we are doing on the business side.

Barry Sine - Drexel

That's really very helpful. On slide nine, you talk about select customer activity in Q2. Question, how much of that was already known when you guys give gave the yearly guidance? Or are these it items additional on top of what we can think about for guidance? And a specific question, with the Federal customer you announced first, could you give us any sense, you building fiber, how significant is that build in terms of route miles?

Anand Vadapalli

Barry, again thank you for the question. So look some of these opportunities, particularly as you can probably expect the one with the national carrier, these are long time in the making. We work in some for months and in some cases for years before some of these opportunities materialize. So while, I will not be able to specifically map the timing of these things, many of these are long time coming.

And in terms of the specific guidance, it's not necessarily based on any specific customer win. We know what we have in the funnel. We know what our opportunities are and we feel very comfortable with our guidance for the year. And clearly, our performance in the first half positions us very well to meet our guidance.

Now, in terms of the specific construction itself, it's extensive. Again because of the nature of this project I cannot disclose the specific details of the project and I hope you will appreciate that, but it is a significant build and there is a lot of attendant benefits that we get by constructing this fiber. So clearly, as Wayne mentioned in his prepared remarks, first of all the way to whole opportunity was structured, yes, even though we are sending a little more CapEx this year, it's funded by the arrangement we have with the customer and its neutral to our free cash flow.

It's accretive starting next year. And the additional opportunities are going to add on top of that. So we feel good about this opportunity and what it means to us for the long-term. So I hope I answered your question there. And the other thing really in terms of these strategic wins, not only do these support our guidance but certainly these are the kind of wins that build our confidence in long-term momentum and the growth that we expect in future years.

Barry Sine - Drexel

Okay, and maybe we could talk a little bit about the wireless business? That's a pretty significant turnaround in terms of your subscriber performance in the wireless business. And I know, we have talked about this on the last earnings call when you introduced the handset financing programs that have been so successful, lower 48, you have introduced pretty price competitive share data plans and I know the story around AWN is, two heads are better than one, you can build out a much denser network. I don't know how much of a contributor having that combined LTE network is and then lastly on wireless, if you have any metrics in terms of current LTE available, percentage of population, anything you might have on LTE availability? Thank you.

Anand Vadapalli

Thank you, Barry. So since there are a couple of parts to your question, first of all let's talk about the performance. You are right. This has been a strong quarter, this last quarter for wireless net adds, largely driven by the seasonal business and the seasonal traffic that we see in the state. We also, in addition to the Buy it. Bring it. Finance it plan that we have for devices, we also had pretty significant launch or the re-launch, if you will, of our no annual contract plans. So that new product launch, combined with the seasonality was the cause for this uptick in the last quarter.

And as far as the AWN and the network is concerned, as I think we noted last quarter, AWN has a significant capital program this year. Juneau and Anchorage were the first markets where they built out. They built out in Fairbanks. And they are building out in Kenai and Kodiak markets through the course of this year. So that capital program and the strengthening of the LTE network is certainly a contributor and that only help as we move forward.

Right now we have LTE coverage in over 80% of the road-system communities here in the state. So in terms of 80% of population. So that's a great coverage and it will only get better over time.

Barry Sine - Drexel

Last area I want to talk about, and Wayne, maybe I will ask you some financial questions here. There was, I guess, a reversal of a revenue accrual that you had done. I am not quite sure what that was or how that impacted the cash flow statement schedules three and four and the EBITDA in the quarter. Could you describe what that was and the impact on cash flow and EBITDA?

Wayne Graham

Sure. It's in our access revenues. It was $2 million of cash we received in previous periods. And after recent considerations, we decided to release that. So the $2 million flows through in access revenue for the quarter, but it was non-cash because we received that cash in previous periods.

Barry Sine - Drexel

And last question, again for you, Wayne. I wanted to ask a bit about the investment that you are doing in SG&A and how that's driving the business services. Could you talk about the outlook for SG&A expenditures for the company going forward? Are we at the level we need to be at for the sales ramp that you have done? Can that come down in other savings? Directionally, what should we think about for SG&A?

Wayne Graham

So that's good question, Barry. So over the last two or three years, we have made significant investments. Anand talked about sales. We have also beefed up our investments in IT and then we have a team of people that are focused on process improvement and particularly focused on the lean framework. We don't see that kind of ramp-up any further and we intend to leverage the infrastructure and resources we have on the SG&A to drive our incremental growth. So we are looking at SG&A to stay with inflation and manage it at that level of spending growth year-over-year.

Barry Sine - Drexel

Okay. Thank you very much, gentlemen.

Anand Vadapalli

Thank you, Barry.

Wayne Graham

Thank you, Barry.

Operator

(Operator Instructions). We will now go to Phil Larson from Millstreet Capital Management.

Phil Larson - Millstreet Capital Management

Hi, guys. Congrats on a good quarter.

Anand Vadapalli

Thank you.

Wayne Graham

Thank you.

Phil Larson - Millstreet Capital Management

So I was just wondering, your term loan is coming due in 2016. Have you thought at all about starting to work on refinancing that?

Wayne Graham

Good question. Yes, we have. Debt markets are good and our performance is strong. So we are spending time trying to understand and consider what our options are. We would like to do a new facility well before its intended maturity of the facility.

Phil Larson - Millstreet Capital Management

Yes, great, and then also just to jump back to the wireless again. So Anand, you said that some of that wins was from seasonality. Could you maybe try and quantify that a little bit for us so we can idea of what it might look like going forward? Is that going to continue to grow? Or will that still be noisy? The connections numbers?

Anand Vadapalli

Phil, this is -- I would model out this kind of growth going forward. This is a jump that we had in the quarter. We has certainly a lot of other work on other plans. So at that this time I would not model that kind of growth. I am uncomfortable giving specific guidance on a quarterly basis. We have avoided doing that, but I want make sure that this quarter is not setting expectations for future quarters in terms of these connection adds.

Phil Larson - Millstreet Capital Management

Okay, great. That's helpful. Thanks, guys.

Anand Vadapalli

Thank you.

Wayne Graham

Thank you.

Operator

And it appears there are no further questions. However, I would like to give everyone one final opportunity. (Operator Instructions). And it appears are no further questions. I will turn the conference back over our presenters for any additional or closing remarks.

Anand Vadapalli

Thank you all for joining and we look forward to speaking with you again here in short order.

Operator

That does conclude our presentation for today. Thank you for your participation.

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