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Rogers Communications (NYSE:RCI)

Q4 2011 Earnings Call

February 22, 2012 8:00 am ET

Executives

Bruce M. Mann - Vice President of Investor Relations

Nadir H. Mohamed - Chief Executive Officer, President, Director of Communications Division and Director

William W. Linton - Chief Financial Officer and Executive Vice President of Finance

Robert Bruce - President of Communications Division

Robert Berner - Chief Technology Officer and Executive Vice President of Network

Analysts

Robert Bek - CIBC World Markets Inc., Research Division

Glen Campbell - BofA Merrill Lynch, Research Division

Robert Goff - NCP Northland Capital Partners Inc., Research Division

Richard Prentiss

Vince Valentini - TD Securities Equity Research

Gregory MacDonald

Maher Yaghi - Desjardins Securities Inc., Research Division

Phillip Huang - UBS Investment Bank, Research Division

Jeffrey Fan - Scotiabank Global Banking and Market, Research Division

Drew McReynolds - RBC Capital Markets, LLC, Research Division

Dvaipayan Ghose

Tim Casey - BMO Capital Markets Canada

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Rogers Communications Fourth Quarter 2011 Analyst Conference Call. [Operator Instructions] I would like to remind everyone today this conference is being recorded, Wednesday, February 22, 2012, at 8 A.M. Eastern time. And I would now like to turn the call over to Mr. Bruce Mann with the Rogers Communications Management Team. Please go ahead.

Bruce M. Mann

Well, thanks, operator. Good morning, everyone, and thanks for investing some of your time with us this morning to join Rogers Q4 2011 Investment Community Teleconference. It's Bruce Mann here. Joining me on the line this morning are Rogers President and Chief Executive Officer, Nadir Mohamed; Bill Linton, our Chief Financial Officer; Rob Bruce, who's the President of our Communications Division; Keith Pelley, who runs Rogers Media; Bob Berner, our Chief Technology Officer; and Ken Engelhart from our Regulatory team.

We released our Q4 results earlier this morning. The purpose of this call is to crisply provide you with a bit of additional background upfront and then answer as many of your questions as time permits.

As today's remarks and discussion will undoubtedly touch on estimates and other forward-looking information from which our actual results could be very different, please review the cautionary language in today's earnings release and importantly in our 2010 annual report that includes various factors, assumptions, risks as to how our actual results could differ, and all those cautions apply equally to our dialogue on this morning's conference call. If you don't already have copies of our release from this morning or our 2010 annual report, they're all available on the Investor Relations section of rogers.com.

So with that, let me turn it over to Nadir Mohamed and then Bill Linton for some brief introductory remarks, and then the management team will take your questions. Over to you, Nadir.

Nadir H. Mohamed

Thanks, Bruce. Welcome, everyone, and thank you for joining us. As you can see from this morning's earnings release, we delivered a relatively balanced set of financial and subscriber results. The results certainly reflect the strength of our asset mix as well as the continuation of what we see as an extremely competitive period in the market.

In terms of asset mix, we are uniquely positioned as Canada's largest wireless provider, complemented by our healthy and growing broadband and Media businesses, and you can see this reflected in our results for the quarter and the year, as well as the guidance that we provided for 2012.

So getting to some specifics of the quarter. We continue to demonstrate success on the sales front where we gained approximately 34% share of postpaid gross adds of the 3 large wireless players and, frankly, could have generated even higher gross adds if we had not been constrained on supply of the iPhone 4S during the quarter.

And on the Cable side, we increased total service unit net adds by 59% year-over-year. And as a result of continued effective cost controls, we also maintained strong margins, generating significant free cash flow and solid EPS growth. And we delivered this despite the planned increase in our capital spend as we continued to invest in maintaining our leading network position.

Importantly, we returned $564 million of cash to shareholders in the fourth quarter through a combination of dividends and buybacks, and that's up 6% from Q4 of last year. And as you saw from our dividend and share buyback announcement this morning, we intend to continue returning significant amounts of cash to shareholders in 2012.

So stepping back and looking at the quarter, the most notable observations I would point out are: First, on the Wireless side, we continue to execute strongly on our wireless data strategy. Despite what was an intensely competitive environment in Q4, we activated the highest number of smartphones ever, those being through a combination of new and upgrading subscribers totaling well over 790,000 new activations or activations. That's 25% higher than the next highest quarter ever, which was in Q4 of 2010. Importantly, this was also our strongest quarter ever in terms of number of smartphone sales to new customers, including the highest quarter ever of iPhone sales. At 277,000 new smartphone subscribers added, that's 8% higher than our previously highest quarter, which was Q3 of this year.

On the Wireless net adds front, we did see a tick-up in postpaid churn, particularly at the lower end of the market. We've got some work to do here, and we can do better on this metric, and this is a very key focus for us from an executional perspective. And we're already seeing a sequential improvement in this quarter -- in this key metric so far in this quarter. Having said that, it's early.

We continue to have very solid success in the high-value smartphone category where we now have 56% of our postpaid base on smartphones. That equates to at least 40% share of the incumbents. The smartphone metrics, ARPU churn and upgrade rate remain healthy given the competitive backdrop, and at the same time, we're both attracting and retaining our highest lifetime value customers, and that is squarely on our strategy. And as a result, we continue to drive double-digit growth in our wireless data business.

There was, however, a sequential slowing in the wireless data revenue growth rate, and that's primarily attributable to new outbound data roaming plans that we put in place. With these new plans, we put in place automated customer notification mechanisms that had a net effect of slowing usage versus stimulating it to the degree that we expected it to. We're in the process of modifying how these plans and notifications work, which I expect will have a more stimulative [ph] effect and help restore the trajectory we had for wireless data growth.

Having said that, the most significant driver of our top line at Wireless remains wireless data revenue, which, in Q4, represented 37% of Wireless network revenue.

As expected and as factored in the churn metrics, the results also reflect the continued impact of the increased wireless competition, particularly on the voice side. While the strength of wireless data offset much of this pressure, we still saw an overall decline in postpaid ARPU, which is down 3.7%.

However, it is important to note that the rate of the voice ARPU decline slowed for the second straight quarter as we continue to be sharply focused on managing this decline as much as possible given the competitive environment. At the same time, we are driving very meaningful cost efficiencies. And you can see this when you consider that despite adding 49% more new smartphone subscribers in Q4 this year versus last year and the continued ARPU pressures we saw, we were able to put up a strong 41% wireless service margin. So clearly, good continued traction on expense controls.

We also continue to invest in platforms and services on the Wireless side, including the further expansion of our LTE network across even more cities in Canada. We have Canada's first and largest LTE network, and today, we already cover 1/3 of Canada's population. Also, in the past few weeks, we introduced an innovative cross-platform service called Rogers One Number. This service provides customers on their wireless device and computer with a single unified way to voice or video call, text or MMS, all from one easy-to-use solution that's centered around their existing Rogers mobile number.

Moving on, we had a solid quarter around Cable Operations. I think this is where you really see the strength of our asset mix differentiate us. We had a good balance of better year-over-year subscriber net additions and very good expense control at the same time, and as a result, Cable Operations margins were at near-record levels. And the reported Cable Operations revenue growth actually somewhat understates the growth of the core business and includes -- reflects the divestiture of the circuit-switched telephony business, which occurred over the course of this past year.

We also launched a number of innovative offerings on the Cable side, following quickly on our launch in Q3 of Rogers Remote TV Manager, as you know, enables cable subscribers to search programming and manage PVR recordings anytime on any device. We now have introduced Rogers Live TV. This is a terrific service that lets our cable customers stream live TV channels on their tablets and watch shows anywhere they are in the home. We also launched the Rogers On Demand TV app on Microsoft's Xbox 360 LIVE platform, bringing Rogers On Demand TV to the gaming console. These are all exciting components of Rogers' TV anywhere strategy where today our customers can increase and experience much of the video experience previously limited to the TV screen on their PCs, smartphones, tablets and gaming consoles.

Importantly, this quarter, we're in the process of going live across the majority of our cable territory with a really fresh new digital cable user interface. This includes Whole Home PVR capabilities as well as a new fully refreshed guide and search capability.

Now at the same time, we continue to highlight the strength of our Internet services underpinned by our DOCSIS 3.0 platform, which covers 100% of our footprint. The combination of superior broadband speed and an enhanced user interface around what is already a superior video offering in terms of the underlying content bodes very well for our Cable business going forward.

At the Rogers Business Solutions division, we made good progress in terms of growing margins and profitability. This is a reflection of our focus on growing our presence in the SME segment, that's the small and medium side of the business market, in areas we have on our cable and fiber network facilities, and the business market remains a key priority for us and an opportunity for 2012.

Turning now to Rogers Media. Continued top line growth despite a tough ad market in second half of 2011. Importantly, the investments we made in last year are paying off with very strong double-digit adjusted operating profit growth as we lap some of the big startup costs of Sportsnet ONE initiative in Q4 last year and combined, frankly, with very good cost controls across the Media group in Q4. At the same time and as a key part of our strategy, we continue to invest in new content of properties to generate additional growth going forward. In Q4, this included the launch of the new CityNews Channel, as well as FX Canada, and also a couple of new digital media properties including RDeals, a Canadian Daily Deals offering.

Our commitment to investing in premium content for Canadians, while at the same time reinforcing a very strong sports media platform, was made clear in early December when Rogers announced that, along with Bell Canada, we will be jointly acquiring a 75% interest in Maple Leaf Sports & Entertainment. MLSE is Canada's undisputed leader in delivering top-quality sports experiences through its ownership of the Toronto Maple Leafs, the Toronto Raptors, the Toronto FC soccer club and a number of other key properties. This will further advance our strategy of delivering highly sought-after content anywhere, anytime on any platform across our advanced broadband and wireless networks. And we remain on track to close this transaction in mid-2012.

So to sum up, our solid results reflect the strength of our franchise and our superior asset mix, a great platform for continued success. For 2012, our strategy and key areas of focus build on what we've articulated over the past couple of years. We're going to continue our Wireless business -- to grow our Wireless business by maintaining relentless focus on driving wireless data growth and smartphone penetration by attracting and retaining high-value customers who generate greater average revenue per customer and lower churn.

We're going to continue to deliver growth in our Cable business as we leverage our competitive advantages in broadband services, continue to execute on our TV anywhere multiscreen experience and capitalize on our opportunity in the business space. We're going to continue our focus on streamline our -- streamlining our processes and cost structure across the company for the benefit of both customer experience and margins. We're going to continue to make investments in innovations that assure the continued leadership of our advanced wireless and broadband networks. And we're going to continue to invest in opportunities to further build new revenue streams in areas in and around our core businesses, such as machine-to-machine communications and other value-add services to the business market, digital media, monetizing local and sports premium content as well as deploying our home monitoring and automation service.

Finally, as I am sure most of you saw this morning, we announced an 11% dividend increase to $1.58 annualized per share and our share buyback authorization for 2012 of $1 billion.

These decisions by our board reflect not just the strength of the franchise, the Rogers franchise, and the growth potential of the industries we compete in, but also the health of our cash flow generation and the headroom we have given the current dividend payout ratio relative to many of the companies in our sector.

So with that, let me turn it over to Bill, and then we'll take some of your questions.

William W. Linton

Thank you, Nadir. I will provide a little bit of additional color on the financial results and metrics for the quarter.

On the top line, overall, our consolidated revenue growth was 1% for the quarter, which reflects the revenue growth of 2% at Wireless, 3% at our core Cable Operations and 3% at Media, offset by our declining video rental business and our RBS resale business.

Adjusted operating profit was up 3% from Q4 2010. And as you can see from our release, we have been able to hold overall margins at very healthy levels, reduced our share count, grow earnings per share and return significant amounts the cash to our shareholders.

In terms of some of the main drivers behind the results. In the second half of the year, we saw an improvement in the EBITDA trajectory at Wireless from the first half of the year, and we've done this in the face of very solid subscriber gross adds and another record number of new smartphone additions. 56% of our postpaid subscriber base now has a smartphone. And during Q4, 74% of our gross adds came in on smartphones. So we're continuing to have success concentrating in the higher end of the market.

An item that really stands out in the quarter would be the very solid cost management. In fact, for Q4, if you exclude the cost of wireless equipment sales, we actually reduced operating expenses year-over-year by 3% on a consolidated basis.

In terms of our Wireless results overall, network revenue was steady year-over-year and was relatively consistent on a sequential basis from Q3 of this year. It continues to reflect double-digit softness on the voice ARPU line, consistent with the level of competitive intensity we continue to see in the Canadian wireless market. But important to note that the rate of decline in postpaid voice ARPU has slowed again this quarter. Wireless data grew 19% year-over-year, but as Nadir mentioned a moment ago, showed a modest sequential slowing with the majority of that associated with outbound data roaming. On the prepaid side, gross and net adds were down year-over-year, reflecting a combination of continued additions under our Chatr brand being more than offset by losses in some of the other more traditional prepaid offerings.

In terms of Wireless margins, I think it's significant to note we're still able to put up respectable 41% Wireless service margins in Q4, this despite the record number of smartphone additions, which lead to an increase in cost of equipment sales of $61 million versus Q4 of last year as well as the continued competitive pressure on voice ARPU. So obviously, very solid OpEx controls and efficiency gains helping to offset the pressures on ARPU.

Turning to Cable Operations. The revenue growth rate reflects the impact of the circuit-switched telephony business, which we have now completed the divestiture of. This product was dilutive to the margins and growth rates of the rest of the Cable Ops business. Normalizing for the year-over-year decline associated with the divestiture of that part of the business, top line growth at Cable Ops would have been approximately 5% or 120 basis points higher. Even with cable product unit growth of 59% year-over-year, what really shines through at Cable Operations for the quarter is the excellent cost controls, which helped drive EBITDA up 8% with margin expansion to 48% versus 46% in Q4 last year.

At Rogers Business Solutions, again, this quarter, you see very strong operating profit growth and continued margin expansion. The results here reflect the successful combination of a couple of things, which were consistent with how we had planned it, the first being the integration of the Atria and Blink acquisitions, and secondly, a significant culling of the lower-margin legacy RBS off-net business. Together, these drove the drop-off in revenue but also the significant increase in operating profits and margins.

At Media, the sequential slowing in top line growth relates to the slowing advertising market activity. This slowing corresponded to the negative global economic news, which heated up during the summer time frame. And if anything, we started to see the ad market popping back a bit since the start of 2012.

The very strong 83% growth in Media adjusted operating profit reflects a combination of a couple of things, with the largest component being that we lapped the significant startup costs in Q4 of last year related to the launch of Sportsnet ONE. But at the same time, we also reined in discretionary spending pretty aggressively in the latter parts of the year as we saw the ad markets dropping off.

Stepping back and looking on a consolidated basis, below the operating profit line, there really weren't a lot of unusual items to talk about in this year's quarter. Worth noting is the decrease in income tax expense, reflecting a 250-basis-point decline in the effective tax rate and also a onetime tax item in Q4 of last year related to stock comp costs. So net-net, Q4 adjusted net income grew 10% year-over-year, but with the accretion from our share buyback activities over the past 12 months, adjusted earnings per share was up a respectable 17%.

From a cash perspective, during the fourth quarter, we generated $200 million of after-tax free cash flow, $282 million on a pretax basis. When you look at Q4's free cash flow in isolation, there's a couple of things to take into account: First is the timing and magnitude of CapEx with the concentration in Q4 this year. And then also the timing of cash tax payments, the majority of which for the year were made in the fourth quarter. So the year-over-year decline is greatly timing-related. And as you see on a full year basis, free cash flow was in the range of our original guidance.

With this free cash flow, amongst other things, we paid out $190 million in dividends and bought back 10 million Rogers shares for $374 million. In total, we returned more than $560 million of cash to shareholders in Q4 of this year. On a full year basis, we generated almost $1.9 billion of after-tax free cash flow. With this cash during 2011, we repurchased 31 million Rogers shares for $1.1 billion and paid out $758 million in dividends, in total, returning $1.9 billion of cash to shareholders and still ending at 2.2x debt-to-EBITDA, comfortably within our targeted leverage range of 2 to 2.5x.

Looking at -- to 2012, we provided full year financial guidance on a consolidated basis in our release of this morning, which you should all have. As you can see from the supplemental detail we also provided, we're expecting continued growth across all 3 of our main business segments, generally in line with what you saw in 2011.

I'll point out that one of the assumptions around our Cable margins for 2012 is that we are beginning a conversion of the remaining analog cable customers onto our digital cable platform during 2012 and 2013. This will enable the reclamation of significant amounts of network capacity as well as reduce network operating and maintenance costs going forward. The migration will entail incremental capital costs and operating costs as each of the remaining analog homes are fitted with digital converters and various analog filtering equipment is removed from the network.

As Nadir mentioned, we remain on track to close the MLSE investment transaction in the mid-2012 timeframe. From a guidance perspective, this 37.5% ownership stake will be accounted for as an investment under the equity method, so you won't see revenue or adjusted operating profit pickups in our results once that transaction closes, but we have assumed the incremental financing costs in our cash flow guidance. Where you see the most significant change year-over-year is in our estimated cash income tax payments for 2012. As we said for a couple of years now, we're close to the point of having utilized substantially all of our remaining income tax loss carryforwards. That, combined with some new tax legislation enacted late in 2011 that eliminated the deferral of partnership income, are expecting to increase our cash income tax payments from $99 million we paid in 2011 to the range of $425 million to $450 million as we detail in the release.

I'll finish by saying, overall, on a consolidated basis, we put up some solid but somewhat moderated growth for 2011, reflecting a combination of successes on the sales side and investments in high-value customer acquisition and retention amidst an intensely competitive environment. We continue to be in a very strong position financially with an exceptionally solid balance sheet. We have investment-grade ratings and relatively low balance sheet leverage at about 2.2x debt-to-EBITDA with no near-term debt maturities, and we have approximately $2.1 billion of liquidity available under our fully committed bank facilities. So in terms of the balance sheet, from the perspective of leverage, liquidity and maturity, we continue to be in a very strong financial position.

With that, I'll pass it back to Bruce and the operator so we can take your questions.

Bruce M. Mann

All right. Thank you, Bill. Operator, we'll be ready to take questions from the participants in a couple of seconds. [Operator Instructions] So with that, operator, if you'd explain to those on the call how you'd like to organize the Q&A polling process, we'd be ready to go. Thanks.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Bob Bek of CIBC World Markets.

Robert Bek - CIBC World Markets Inc., Research Division

Further on the sequential data of revenue decline, I guess Nadir or Rob, how much of this was really pricing of the new plans? Or is it really just you think it’s the structure or the way you modified the messaging to get people to switch off or whatever? And then how much of this is inbound roaming as well? I mean, obviously it's a focus with your competitors having the handsets. Is that a large component as well? And is this pricing pressure on your outbound roaming, is it pricing pressure, and, in fact, will it stimulate a rebound at some point?

Robert Bruce

Yes, Bob, it's Rob. Listen, just picking up on some of the comments Nadir made, there's really 3 things driving the sequential decline in data. It traces first and foremost to roaming, but data roaming. And as Nadir highlighted in his opening remarks, we made some significant changes as we tried to make data roaming both easier and cheaper with the intent of trying to get more people to use it. We tried to create real transparency about when people and how people could get on data packages as they went overseas. We put in a fair number of reminders to let people know that they were on à la carte pricing, and we think that these dissuaded significantly customers from using it and possibly created some confusion along the way. We've already made some changes to some of those. We think that will significantly reverse some of that -- some of the trend that we're seeing. The second and important factor is we've also seen a shift in SMS. And as time has gone on, but particularly pronounced in the last couple of quarters, is a shift to have inclusion of SMS in rate plans and a continuance of a shift that's gone on to have people who were previously using pay-per-use SMS moving into SMS buckets. Lastly, the third impact was just a shift of our customers who are on data plans on smartphones and stand-alone to shift to slightly cheaper plans. In total, we believe the impact was about 40. We've got mitigation tactics in place against all 3 of the items I mentioned and feel that executionally we can reverse some of this depressing -- depression that we've seen in data.

Robert Bek - CIBC World Markets Inc., Research Division

Would the magnitude of decline be in the order that you gave us there with the roaming, SMS and then plans?

Robert Bruce

Yes, the predominant amount is, again, around roaming and, again, traces to notifications, and we also decreased prices to try to stimulate usage. And it is, by far and away, the largest of the 3.

Robert Bek - CIBC World Markets Inc., Research Division

So the pricing declines are not likely to go away? I mean...

Robert Bruce

The pricing declines are not likely to go away.

Operator

Your next question comes from the line of Glen Campbell of Merrill Lynch.

Glen Campbell - BofA Merrill Lynch, Research Division

I wanted to talk about smartphone sales and the subsidy costs. We were surprised that the subsidy costs were as low as they were, I guess around 17% of network revenues, up only a little bit, and yet your sales were up a lot. So I was wondering if you could talk about factors that would have mitigated the iPhone pressure, other than obviously the supply issues and how much iPhone demand you see spilling over into 2012?

Robert Bruce

Yes, Glen, we continue to see strong demands for the iPhone 4S, and that continues. The good news is that the supply issues that we experienced throughout Q4 and that we think had a significant impact both on acquisition and on retention have largely subsided at this point. In terms of the overall impact of the iPhone from a financial perspective, Bill touched on the fact that the incremental smartphones and the success we saw on the quarter drove about $61 million of extra costs for us. And of that, about $40 million of it, when you compare Q4 over Q4, was traceable to the iPhone, Glen.

Nadir H. Mohamed

Glen, it's Nadir. Just one more thing. One of the things that Rob and his team put in that really, I think, helped us with the iPhone, generally, with hardware upgrades is our PRE HUB program. So you might want to just touch on that.

Robert Bruce

Yes. Glen, very briefly, what we've done is we've installed the program where any customer after 6 months of tenure can get a new device. So, for example, if they're into a contract 6 or 7 months, iPhone 4S gets launched, the customer can call up, ask to be moved -- or handset upgraded to a 4S, and they have the opportunity to pay a certain amount per month for every month remaining before they would be eligible for an upgrade normally. So this is great. It's been terrific, very well received by customers as it gives them the freedom to upgrade to a new device when they want. And the good news for Rogers is that we don't have to pay the full subsidy for these customers as they're paying a portion of the freight themselves so that they can move earlier. So again, a real win for us and a real win for customers in the quarter.

Operator

Your next question comes from the line of Rob Goff of Northland Capital.

Robert Goff - NCP Northland Capital Partners Inc., Research Division

Could I ask for some further details on some of the key drivers on the smartphone net present values, i.e., trending in the ARPU and churn levels?

Robert Bruce

Sure. Rob, of course, there's 3 or 4 things that are predominant in driving the economics of smartphones. For sure, the ARPU is the first key one. ARPU has been relatively steady, although a slow -- what I would call a slow and steady decline, about 1.8x right now of what a non-smartphone customer is, so think just slightly north of $80 would be the sort of typical average smartphone ARPU. Churns, again churn is much, much lower, much, much lower than we would see on a regular voice device. And those churn rates are holding pretty steady as we go over time. The third key element is really the subsidy that we pay for the device. And subsidies, as you know, have held relatively constant. We had and continue to push to try to drive those subsidies down. The popularity of the very high-end device with our customers has been sustained across all portfolios, so not exclusive to Apple. But our customers have a real desire for the higher-end Samsung devices and other devices of that nature. So that's continued to keep the numbers up. Of course, some of the hunger that we've seen in the quarter and some of the jockeying amongst some of the device manufacturers, I think, promised to continue to help us drive those prices down, so I think that's an area where we can improve in the future. So the lifetime value of smartphone customers remains very healthy. ARPU is still high. Churn rate is still relatively low, and we're working at managing all of the other elements to try to continue to improve the profitability on these, the most valuable customers.

Operator

Your next question comes from the line of Ric Prentiss of Raymond James.

Richard Prentiss

Well, continuing on the smartphone trend here. Question, as you think about your 2012 guidance, what are your thoughts as far as are you going to sell even more smartphones in '12 than you sold in '11? And how does that kind of affect the cost of acquisition and retention that we should be thinking about on the margins?

Robert Bruce

Yes, Ric, it's Rob again. For sure, we think smartphones are here to stay. We think it is going to be -- that eventually everybody is on a smartphone. For sure, I think we also recognize that as we continue to bring on more and more tiers of customers that we'll have to continue to tailor that smartphone offering because not everybody will be willing to consume and pay for the maximum amount of voice and data services provided. So to that extent, those will be factors that affect us. We also believe that, Ric, there will be downward pressure and more and more competition. I think we're seeing it already as RIM gets even more aggressive to try to hold its market share. So I believe that there will be some downward pressure on pricing of devices, and those are the things that I think will affect all carriers' performance as we go forward on smartphones.

Operator

Your next question comes from the line of Vince Valentini of TD Securities.

Vince Valentini - TD Securities Equity Research

Hate to stay on similar point here, but when I look at your guidance on the Wireless side, I mean, your ARPU's been declining through 4% in 2011. The high end of the guidance for 2012 assumes 5% growth. Just wondering what levers you'd need to hit to see that kind of inflection. Is it largely on the handset subsidy side that you were just talking about, Rob, or is there something out there in terms of an expectation that ARPU will turn the corner and go flatter or positive or whatever you can talk about? What -- I know the low end of the guidance is for flat, but I mean to get to that high end, what kind of good things need to happen?

Nadir H. Mohamed

Vince, if you look at the guidance we've got and you're referring now to -- just to make sure, the adjusted operating profit for Wireless?

Vince Valentini - TD Securities Equity Research

Yes, exactly.

Nadir H. Mohamed

Yes, we don't, as you know, give specific guidance around ARPU or churn, but maybe just to help you with some flavor on how we've approached the process of what leads to guidance. First off, I think the market will remain as competitive as it has been. And from the perspective of penetration, north of 4% is what we look for in the market itself. I think when you look at our performance, one of the things that we're looking to do is stabilize our churn. If you look at the -- when I say stabilize, stabilize it relative to the full year of 2011. So what you've seen is, in Q4, is something clearly we're looking to change starting in Q1 and going forward. On the ARPU side, which is another one that gives you a sense of how the margins work out, I think voice will continue to be under pressure, but clearly what you've already seen in the last couple of quarters is a declining rate in terms of the drop in voice. And data, I think, will be continuing to grow strongly for us and pick up on everything we've talked about. Smartphones, I see no slowing down, frankly. We had great success in Q4. You should know that the smartphone churn rate is significantly lower than the non-smartphone churn rate. So that speaks to kind of how we see the performance on the churn side going forward as we get more and more smartphones. Frankly, the upgrade rates are north of 80%. End market, when we sell, again, high 70s for percentage of growth. So that data side will drive a lot of our growth on the Wireless side. And on the cost side of the equation, I think we’ve been pretty strong throughout the year, and we're going to be relentless in terms of cutting costs to make sure that in the face of what we need to do to invest in our customers, we have the ability to do that and maintain margins. So I can't be more specific, Vince, only because we don't give guidance around any specific metric.

Operator

Your next question comes from the line of Greg MacDonald of Macquarie Securities.

Gregory MacDonald

Can I shift to prepaid for a second? Looks like the gross add numbers were down sequentially pretty dramatically, down year-over-year, but sequentially pretty dramatically. Could you talk to whether that is a decrease in your promotional activity or a decrease in demand vis-à-vis new entrants focusing more towards smartphone. So where's the trail off? And is that now a new norm? Is that new sustainable where prepaid is going to take much less focus on the subscriber growth because the net add numbers, you’ve had some pretty big numbers for a number of quarters now. I suspect if you had the choice, you'd probably focus more of your efforts on postpaid.

Robert Bruce

Yes, absolutely. And let me pick right up on that, Greg. For sure, our focus is postpaid. Our focus is on higher-value customers. And as a consequence, I think prepaid is where you find prepaid for the quarter. I think it's also important to notice, and most of us saw through the quarter, the new entrant pricing at the bottom end of the market was absolutely unprecedented in the time that I've been in the business, unprecedented in anything that we've seen in North America and probably unprecedented by almost half. So the customers that were differentially driven to some of that pricing, given its focus on the low end, was frankly traditional prepaid customers, people who, in the old days, would have actually bought prepaid cards and topped up as opposed to the pay-in-advance customers and the Chatr customers that we also have in that base. So I think, across-the-board, I think whether it was Rogers or other carriers, everybody felt the pressure on the traditional prepaid business. And again, to come back to the opening point, while we continue to see a healthy and thriving Chatr business, the traditional prepaid business is diminishing for sure, and our focus is very, very strongly against those higher value smartphone customers. We believe data is where the growth is going to come from. We're going to continue to invest aggressively there.

Gregory MacDonald

And just trying to model the ARPU, ARPU is higher than expected, but I mean, that's a mix issue. Are we kind of at a run rate, $17 in prepaid ARPU that we should be focusing on? Or is there still a mix advantage that we should see over the next year?

Robert Bruce

Again, the predominant sort of impacts on that are the Chatr ARPU is where the input, the net new customers are coming on that portfolio. They're slightly higher, but I would say over time that we will see roughly ARPUs in the range that we're seeing today.

Operator

Your next question comes from the line of Maher Yaghi of Desjardins Securities.

Maher Yaghi - Desjardins Securities Inc., Research Division

Just maybe if we can switch gears here on the Cable side. You mentioned in your prepared remarks that you're embarking on a move to transfer your analog subscribers to digital in 2012 and 2013. We've seen from another competitor in the market that transition having an impact on -- a good impact on margins. Yet when I look at your guidance for 2012, you seem to imply not any meaningful impact on margins. Can you talk about your cost containment efforts that you're currently employing on the Cable side to make up for the difference in the lower margins as you make that transfer? And if you quantify maybe how much cost cutting you're doing in the Cable side that could help mitigate this impact on margins?

Robert Bruce

Yes, Maher, it's Rob Bruce. Let me lead off. For sure, and you heard the reference from Bill, our focus on the Cable side has been one of very strong expense control. In fact, we reduced our OpEx by 2% year-over-year on the Cable side. And we are going to invest some of that money because there is expenditure associated with making this migration, this Tier 3 migration. And I'm going to let Bob Berner, our CTO, describe a little bit about what's involved in the migration process itself.

Robert Berner

Maher, it's Bob. We're not shutting down analog anytime soon. What we are doing is we are migrating our analog tier services to free up the spectrum on the distribution plant so that we can use it for other purposes. So today, we have multiple tiers of service that we require filtering at the household depending on what tiers customers subscribe to. In removing those tiers and transmitting them fully on digital to those subscribers, we do 2 things: Number one, we free up that capacity for use on digital television services and high-speed Internet. And the second thing we do is remove the cost associated with truck rolls when we have to go out and people change their tiers or subscribe to different services. Today, we have to go in and install filtration equipment. When we finish this work, we'll no longer have to do that and, consequently, save a fair bit of money on the logistics.

Maher Yaghi - Desjardins Securities Inc., Research Division

And just so just we have a perspective on the amount of clients that you're going to be switching, when I look at your total television subscribers and your digital cable subscribers, is that difference -- how much of that difference is going to be switched over the next few years? As you mentioned, you're only switching customers on tiers. Can you maybe quantify in subscriber numbers how much are we talking about here?

Robert Bruce

Maher, we don't have those numbers in front of us right now, but we can get somebody in Investor Relations to follow up with you on the specifics of the numbers.

Operator

Your next question comes from the line of Philip Huang of UBS.

Phillip Huang - UBS Investment Bank, Research Division

I just want to better understand your long-term strategy on the 3 different wireless brands that you currently have. You recently launched an attractive $25 unlimited After Work plan under Fido. And given the attractive price point, I would have thought that, like, this type of plan would be launched under your Chatr brand. I guess based on the customer lineups I've seen around the Fido kiosks in Toronto, I suspect it may be a good driver of postpaid net adds in Q1. But I'm also a little bit concerned about how this could affect your postpaid ARPU going forward. So I was wondering if can maybe talk a bit about how you view the relative profitability of these subscribers and whether we could see greater focus of this sort of entry-level segment for your postpaid business going forward.

Robert Bruce

Yes, Phillip, it's Rob Bruce. Listen, let me spend just 2 or 3 brief minutes. Of course, as most of you know, we operate on 3 brands: Rogers, which is all about the latest and greatest in terms of innovation, great devices and really talks to our higher-value customers with a real strong focus around smartphones. Fido is a combination of great pricing coupled with great service. And our third brand, Chatr, is focused at the entry-level market. It's a prepayment brand as opposed to a postpaid brand. And again, it's meant to compete in that entry -- in that very much the entry-level market, but specifically the prepayment component of that entry-level market. Our focus always is to try to deliver profitable growth out of all of these brands. With respect to Fido and Rogers and all the other brands in the market these days, we work hard to try to balance stimulating customer acquisition and balancing the revenue and the profitability that we get out of the brand. We're excited about some of the things and the momentum that we've generated on Fido with FidoTrade, Fido Rewards, and the value proposition around Fido has been a strong one, and the brand has frankly been a profitable one. We're excited about these new plans and believe that they will be profitable as well.

Phillip Huang - UBS Investment Bank, Research Division

Right. And in terms of the -- I guess maybe a little bit on the strategy on these getting these postpaid Fido customers, is it sort of a strategy to upgrade these to a smartphone over time and thereby drive further ARPU lift, I guess, similar to maybe like what Koodo has done in terms of focusing first on Talk & Text and then migrating them to smartphones over time. Is that sort of like the way to think about...

Robert Bruce

Absolutely. For sure, and you can probably see as you watch the device portfolio on the Fido brand how we continue to grow the smartphone availability on the devices. We bring the greatest and latest devices to Rogers brand first, and gradually, there's a migration of that technology to the Fido brand. Thereby, they're not competing head-to-head on smartphones. But rather, we see Fido customers moving to smartphones at a slightly slower rate. And we're trying to create attractive plans to get them on and then move them up.

Operator

Your next question comes from the line of Jeff Fan of Scotia Bank.

Jeffrey Fan - Scotiabank Global Banking and Market, Research Division

A lot of the short-term questions in regard to Wireless has been answered. But I wanted to ask about more, longer term, the economics of the Wireless business. When you look at prior upgrades, i.e., on 3G HSPA, that started really the smartphone trend, and the migration from non-smartphone to smartphone subscribers were really accretive to ARPU and returns. But when we start to look at 4G LTE and additional spectrum, et cetera, I'm just trying to understand where the returns is really going to come from. Do you expect in the longer term once you have a high enough penetration to smartphone that smartphone ARPUs would start to actually go up because of usage? Is it because of lower costs of running a network? I'm just trying to get an understanding of where the incremental returns is going to really come from with the additional investments down the road.

Robert Bruce

Jeff, it's Rob Bruce. Let me lead off, and maybe others will want to jump in. I really feel that there's really 2 reasons that our move to LTE is going to be a powerful and profitable move going forward. Number one, the world ecosystem is moving to LTE. More and more, the world that we see in front of us is a world of data. It's a bet that you can see that we've made very strongly with all the things we've done in the investments in smartphones. So if the world ecosystem goes there, that's where the devices are going to be. Where there's the volume of devices, device prices have the potential to be lower, so we see lower device prices in the future. And secondly, and very importantly, in a world of a lot more data going forward, and we can see this consumption rising every week, every day, the LTE network delivers data a lot more cost-effectively than can any of the other past networks. And while there's still tons of debate about much how much more effectively and how is that going to translate exactly into precise dollars and cents from a network perspective, it's unassailable that, that's a massive improvement in the cost of being able to deliver data. So 2 key things, smartphone costs themselves and the cost of the pieces in the ecosystem and then lower costs in terms of delivering data.

Operator

Your next question comes from the line of Drew McReynolds of RBC Capital Markets.

Drew McReynolds - RBC Capital Markets, LLC, Research Division

Just my question is on Internet, and just wondering if you could comment on just the change in demand that you're seeing for your higher-end Internet plans. We obviously saw a couple of tweaks in the marketplace that you did. And to what extent is the take-up for these higher-end Internet plans a good defense against obviously some IPTV competition in your footprint?

Robert Bruce

Yes, thanks for your question, Drew, and thanks for noticing. Most of you on the call will notice that we, on the wireline side, made some adjustments to our Express and Extreme packages, upped some of both the speeds and increased the data caps. Moving up our terrific Internet franchise and moving those customers up tiers is an important part of how we drove revenue. And as customers continue every quarter, in and out, to consume more and more and spend more and more time on the Internet, we think it's both a great opportunity for us and a welcome addition to the product offering from a customer perspective. So it's been something that's been successful for us on acquisition. And then Drew, as you point out, the fact that we have a vastly superior Internet offering has been a very strong factor in helping us fend off the work that others are doing to compete with our television product. And we will continue to be focused. We think that the 2 key connections in the long run are really the mobile Internet connection and the wireline Internet connection, and we're determined to continue to work hard and win on both.

Operator

Ladies and gentlemen, we have time for 2 more questions today, the first of which comes from Dvai Ghose of Canaccord Genuity.

Dvaipayan Ghose

Now that all the incumbents have reported, I guess you accounted for only 13% share of national incumbent postpaid net additions. Now as Nadir pointed out, your gross addition market share is still very healthy, at about 1/3, so it is a churn problem. So I was wondering if could go through the main drivers of the increase in postpaid as opposed to prepaid churn. Is it pricing, is it network, customer care, availability of devices? And how do you aim to cure them? And on a related point, Rob, you mentioned that smartphone churn has been relatively stable, and yet 56% of your postpaid subs are on smartphones, and smartphone -- sorry, postpaid churn has increased to 1.49 from 1.35. So I think you have to assume there's been some increase in smartphone churn as well.

Robert Bruce

Yes, Dvai, let me check up on that last point. You're absolutely right, and I touched on it earlier in the call. There has -- there actually was a little pop-up in churn, and I mentioned that we had real difficulty getting as many iPhone 4S devices as we needed in the quarter. And in fact, through the Q4 period, that caused us to see a pop-up in churn on smartphone. But let me take a second and answer the major part of your question, which was the key drivers on churn in the quarter. And first, let me echo what Nadir said: We have some work to do on churn, and we can definitely do better on the metric. And it's been a hallmark of ours in the past to excel on churn. So for us, this is a key focus executionally. Nadir also mentioned, and let me echo again, that we're seeing some sequential improvement in Q1. In terms of some of the factors driving the increases, Dvai, for sure, it's concentrated at the low end with the exception of the point that I just made. It's way more about consumer than business. In fact, we're seeing some improvement in our business churn. Urban markets outside our cable footprint is an area where we see concentration, and of course, those would be markets that are highly competitive markets. They would be new entrant markets with, even as the new entrants would describe, unsustainable and very aggressive pricing. It's concentrated in voluntary as opposed to involuntary, so it's not about involuntary churn. And I think if you watched us through the quarter, you'll notice that we were probably the most price-disciplined on devices and disciplined on plans. And lastly, it's hard to ignore that at least that Rogers seasonality, and Q4 has always been a peak period as we tend to renew an awful lot of customers as historically it's been a big loading period. We have a renewal process that goes on leading up to the Q4 period, and that's also a factor. So those would be the major factors, and the thing that I would leave you is you can count on the fact that we're going to dial up our efforts in the area of churn because, clearly, it's what standing in between us and having terrific net loads.

Operator

Your final question today comes from the line of Tim Casey of BMO Capital Markets.

Tim Casey - BMO Capital Markets Canada

Can you talk a little bit about what your plans are for next-generation cable boxes and platforms? What are you doing in terms of, I guess, seeding the market with new boxes? And in terms of newer-generation boxes out there, what are your plans to upgrade guides and so on and so forth?

Robert Bruce

Tim, thanks for your question. What don't I give you just a second and just kind of reprise the 3 or 4 key thrusts to our video overall? And your question is highly timely because I think you're going to see some major launch activity from us later this week. But we said we'd launched new guide, better UI and better search, Whole Home PVR and a number of other innovations to make sure that our television product was second to none. You've seen some of those already, and Nadir made reference to them. Remote PV Manager so that you can program your PVR from your wireless device. Rogers Live TV where now you can consume television on a streaming basis in your home on your iPad and a variety of other things, Rogers One Number being another innovation for the quarter. The second thing we said is we're going to extend our video offerings to new platforms. And Rogers On Demand Online was one of the key things that we said we do. We're now up to closing in on 0.5 million registered subscribers on Rogers On Demand Online, so that continues to be a success and continue to grow our leading VOD offering and improve the UI. And then lastly, the third part and really longer term is continuing to build and launch this IP-based video platform that will deliver integrated and efficient cross-platform video delivery. We've talked about it on past calls. It's an open-standard platform, enabling fast innovation and access to a broad suite of third-party apps. We seeded the market with a number of hybrid boxes from Cisco that are IP-ready, and we are actually going to leverage and launch some of the new menu-ing, the new search, the new guide and you'll see a lot more from us on that later this week. So I'm excited about the progress that we're making in terms of continuing to have a world-beating video platform, and you'll see more from us shortly.

Tim Casey - BMO Capital Markets Canada

Order of magnitude, how many boxes are in the market now that you're able to do this?

Robert Bruce

North of 300,000, and they're concentrated in the IPTV footprint.

Operator

Ladies and gentlemen, this does conclude the question-and-answer session. Mr. Mann, please continue.

Bruce M. Mann

All right. Well, thanks, everybody, for participating this morning and investing your time with us. We appreciate your interest and support. If you have questions that weren't answered on the call or if anyone was left in the queue that we didn't get through, if you could please give myself or my colleague, Dan Coombes, a call, both of our contact info was on this morning's earnings release. Thank you again, and this concludes today's teleconference. Thanks.

Operator

Ladies and gentlemen, this does conclude today's conference call. We thank you for your participation, and you may now disconnect your lines.

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