Globalstar, Inc. (NASDAQ:GSAT)
Q2 2016 Earnings Conference Call
August 4, 2016, 5:00 pm ET
Jay Monroe - Chairman & CEO
Rebecca Clary - VP & CFO
Jim McIlree - Chardan Capital Markets
Jason Bernstein - Odeon Capital Group
Welcome to the Globalstar, Inc. Second Quarter 2016 Earnings Call. My name is Katie and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Please note that this conference is being recorded.
And I will now turn the call over to Jay Monroe, Chairman and CEO. Please go ahead, sir.
Good afternoon and thank for joining us to discuss second quarter 2016 results. Following my operational discussion, Rebecca will provide an overview of the second quarter financial results, followed by a Q&A.
To start the call, an in continued deference to the FCC's ongoing deliberations following the circulation of the draft report and order, we won't be providing any new information regarding the FCC's process today except to say that we have continued to work with the agency to reach a final consensus on their order so that it can be voted in our favor. And though we hope to be in a position to answer questions regarding the proceeding in detail soon, we thank you in advance for not asking any FCC-related questions during the Q&A portion of today's call.
Please note that today's earnings call contains forward-looking statements intended to fall within the Safe Harbor provided under the securities laws. Factors that could cause the results to differ materially are described in the forward-looking statement section of Globalstar's SEC filings and in today's press release. This release, which is available on our website, also includes a reconciliation of the non-GAAP financial measure, adjusted EBITDA, to net income, it's most comparable financial measure calculated under GAAP.
As we look at the highlights for the second quarter, I'm pleased that our core business once again demonstrated impressive performance across all revenue types. We grew quarterly revenue by 9% over Q2 a year ago, driven by a 13% growth in service revenue. Duplex, SPOT, and simplex service revenue grew 16%, 14%, and 18% respectively.
The operating leverage of the business was evident as our revenue growth combined with near constant operating expenses to produce a year-over-year adjusted EBITDA growth of 89% for the quarter. On a year-to-date basis, adjusted EBITDA is up an impressive 73% versus the first half of 2015.
I would like to highlight that, although significant duplex subscriber growth in both North America and non-North America markets isn't expected until Sat-Fi 2 is rolled out, our non-North American SPOT and simplex businesses are growing rapidly and represent an increasing portion of our subscriber base.
The overall number of our North American SPOT subscribers grew 4% over the last 12 months, but non-North American subs surged 21%.
In commercial simplex, subs grew 21%, which was mostly from international markets since we were generally flat in North America where the effects of the oil and gas downturn are very pronounced.
Meanwhile, ARPU across the subscriber base is increasing with duplex, SPOT, and simplex ARPU growing 8%, 5%, and 16% respectively over the prior quarter. As we roll out new products and increase service prices in line with improved functionality, we expect ARPU to continue to increase over the coming years as these new products become an ever-larger portion of the subscriber base.
It was a solid quarter and I believe this success tends to breed additional success as the company's salesforce, marketing personnel, technical teams, and especially our customers are positively reinforced and recognize that the company is on the correct path for continued prosperity.
We are completing the final steps in our second generation ground infrastructure upgrades, in addition to ramping product development to launch a host of new products, all while continuing to develop markets outside of our legacy territories. COO and President, Dave Kagan, is leading our sales, marketing, network, and product teams with the shared vision of executing on the tremendous opportunities before us as we leverage the fundamental network and product transition upon us. Dave is responsible for all the efforts that will provide our subscribers with material faster data speeds, combined with a host of expanded applications, which will meaningfully improve the subscriber experience across our portfolio.
Although revolutionary is a term marketing teams use liberally in the satellite industry for innovations that are often just incremental improvements, it's a term I'm very comfortable with when talking about the product set rolling out in the near-term. SPOT is a product beloved by the subscriber base, not only because it saves lives, which it does daily, but because it affords travelers, outdoor enthusiasts, boaters, military personnel, and their families peace of mind when outside of terrestrial service. The area not covered by wireless networks is about 75% of the earth's landmass and 90% of the earth's total surface area.
While SPOT has been a disruptive success, starting in Globalstar's idea labs, the service to-date has been known for its one-way functionality. This changes with the next-generation device, which is a low-cost, worldwide, two-way texting device. We can all imagine how much of an improvement for certain markets going from a one-way service to inexpensive global texting will prove to be.
The next-generation SPOT device offers this technological leap. Subscribers will not only be able to communicate interactively with their friends and loved ones anytime, anywhere; they not only track as they do with SPOT today, have access to the SOS features so coveted by customers now, but will also be able to provide situational details during an emergency operation. Rescue workers can show up on the scene increasingly prepared and provide improved quality of care.
As a progress update on the actual next-gen SPOT device, our teams are completing the software and firmware development and the verification testing before going into alpha and beta testing. We look forward to a market release in the next few months or early 2017 depending upon the final testing and regulatory approvals.
The product teams are also working hard to rollout the next generation Sat-Fi product, which will be the first device to integrate the inexpensive Hughes chipset with a second-generation ground infrastructure. While competitors have attempted to roll out similar devices, they have been constrained by cost, size, data speed, and functionality limitations; the same limitations that we have in our legacy Sat-Fi device.
However, all four of these product areas are massively improved with Sat-Fi 2. Anywhere in our service footprint, our new Sat-Fi subscribers will be able to connect any Wi-Fi enabled device with the Globalstar satellite backbone at usable maximum data speeds of almost 100 times that of the competition. We will be able to deliver this device to the market at a bill of materials and unit cost just a fraction of traditional satellite hardware. It will be interesting to see how the new MSS products are received by the broader marketplace, given that they will now be at a price affordable to the mass consumer market and supported by our significant retail distribution footprint.
In June, Globalstar completed the Sat-Fi device software and firmware. System integration work is about to commence, followed by product testing and manufacturing. This is the first time we've developed a duplex device to use the new Hughes and Ericsson networks and I'm very proud of the effort of the Covington and Milpitas teams to make this happen. The sales distribution channels are excited about the release of Sat-Fi 2, which we expect to be available late 2016 or early 2017.
Hughes and Ericsson continued the late-stage ground infrastructure work as these contracts wind down. As we previously announced, Globalstar and Hughes have finished the installation in the U.S., the Caribbean, Canada, and in Europe. The South American installations will be completed after we secure local in-country certifications. The Ericsson equipment has been installed, integrated, and site acceptance. The geo-redundancy work has been completed, as has the product acceptance testing.
As many of you likely remember, this new network provides improved coverage and enhanced call performance. The technology allows a call to be optimally handed off from one gateway to an adjacent gateway to stay connected to our satellites in a fashion heretofore not technically possible. This is not dissimilar to the terrestrial tower hand-off capabilities that we all use regularly on cellular networks and we have been excited to see it operate in practice during our pre-rollout testing.
I'd like to turn the call over the Rebecca now who will provide a more detailed overview of the quarterly financial performance.
Thank you, Jay, and good afternoon, everyone. Today I will discuss the primary factors impacting our quarterly financial results and key operating metrics and will then provide an update on our liquidity position.
As Jay mentioned, we expanded our subscriber base and increased ARPU across our portfolio this quarter, which drove a 9% increase in total revenue over the second quarter of 2015. Total service revenue increased 13% during the second quarter of 2016, resulting primarily from growth in duplex and SPOT service revenue. Duplex service revenue increased due to 7% growth in our average subscriber base coupled with an 8% increase in ARPU.
New sales campaigns introduced in early 2015 have supported continued phone sales on high-value plans. This strategy has resulted in a growing customer count and increased ARPU, as equipment subsidies are accompanied by higher-priced rate plans. Higher revenue from annual usage-based plans, as well as increases in our legacy rate plans across a portion of our existing subscriber base, drove, in aggregate, a $4 increase in duplex ARPU.
Over the past several quarters, the popularity of our annual plans has increased substantially. As we have discussed with you previously, these plans generally result in revenue being deferred over much of the contract term, as revenue is only recognized upon usage or the expiration of any unused minutes after the one-year term. These increases to ARPU were offset partially by the appreciation of the U.S. dollar, which has moderated in recent months, but continues to negatively impact revenue when compared to the prior year.
SPOT service revenue also improved during the second quarter of 2016 due to a 9% increase in average subscribers and 5% increase in ARPU. The growth in our customer base was driven by a 6% increase in gross SPOT subscriber additions during the last 12 months compared to the preceding 12 months. 60% of these customers activated our SPOT gen-three device, which includes tracking features priced above our current ARPU level and, therefore, contributed substantially to the increase in ARPU.
The increase in service revenue was offset partially by a $300,000 decrease in revenue generated from subscriber equipment sales. A lower volume of duplex and simplex unit sales during the second quarter of 2016 from the prior year's quarter offset the increase in SPOT equipment sales over the same period. A higher sales volume of duplex handsets during the second quarter of 2015 was due to increased demand following the introduction of a new sales promotion in March of last year.
Net income decreased significantly from the second quarter of 2015 due primarily to the decrease in non-cash derivative gains. Our derivative values fluctuated widely in each quarter due to the changes in our stock price on the beginning and ending dates of each reporting period. Higher revenue and lower non-cash losses partially offset this impact.
Adjusted EBITDA increased 89% during the second quarter of 2016 compared to the second quarter of 2015. This increase was due to a $2.1 million increase in revenue coupled with a $300,000 decrease in expenses, excluding EBITDA adjustments. The 13% increase in service revenue was the primary driver of the continued increase in adjusted EBITDA.
Service revenue, which provides a high margin, represented 84% of our total revenue for the quarter. Overall, growth in service revenue coupled with consistent operating costs had a meaningful impact on adjusted EBITDA. This trend continued from last quarter, as we saw a 73% increase in adjusted EBITDA when comparing the six month periods, driven by a $4 million increase in service revenue.
Now, an update on the company's liquidity position. As of June 30, 2016, we had a cash balance of just over $11 million and availability under our common stock purchase agreement with Terrapin of $31.5 million, following a draw of $22 million in June. A longer-term source of liquidity includes the $38 million we have currently held in a debt service reserve account, which is restricted for principal and interest payments due under the COFACE facility.
Projected contractual obligations over the next 12 months include primarily debt service payments due under the facility. Debt service amounts include semi-annual principal payments in December 2016 and June 2017, which total $38 million, as well as semi-annual interest payments due under the facility and subordinated notes, which, in aggregate, we estimate to be approximately $21 million.
We also have capital expenditure obligations related to the remaining work required to finalize our second-generation gateway infrastructure. We estimate that these ground-related cash obligations will be approximately $7 million due during the next 12 months in addition to $4 million in other capital expenditures. We expect to fund these contractual obligations through a combination of cash on hand, operating cash flows, and draws from our Terrapin agreement. We also expect that sources of liquidity may include funds from other debt or equity financings that have not yet been arranged.
In summary, we are pleased with the financial results for the quarter. Our sales strategies over the past several quarters have successfully driven an increase in high-value subscribers. Together with our largely fixed operating cost structure, this growth has led to improved operating cash flows, increased high margin service revenue, and significantly higher adjusted EBITDA. We are optimistic that this dynamic will continue, leading to improved operating cash flow concurrent with the rollout of new products that will allow us to tap into a new set of domestic and international markets and offer our current subscribers improved functionality.
I will now turn the call over to the operator for Q&A. Operator?
Thank you. We will now begin the question-and-answer session. [Operator Instructions].
And our first question comes from Jim McIlree from Chardan Capital. Please go ahead.
Thank you. Good afternoon. Rebecca, can you help me understand the timing of the debt and interest payments again? So we've got a payment in December of this year, June of next year, and then December of next year as well. Can you walk me through what those amounts are for each of those time periods? Again, so December, June, and December.
Sure. So, in December 2016, we've got a principal payment of a little over $16 million and interest of roughly $11 million. As you know, that floats a little bit with LIBOR.
And then, June 2017, we have a principal payment of just under $22 million and interest of the same amount, between $10 million and $11 million. And then, for December 2017, we have what is actually the largest principal payment in the amortization schedule of $54 million. And then we have interest of $11 million. And then we've also got the balance of the restructuring fee from the 2013 restructuring under the facility of $21 million due in December 2017 as well.
Okay, thank you. And the CapEx that you mentioned to complete the ground upgrade; that I think you said $7 million. Would that complete the ground upgrade or is there more after that?
No, that should complete it. The $7 million includes the remaining payments to Ericsson and Hughes.
Okay, great. And I wanted to ask about the marketing and G&A in the quarter. Now, I just want to understand the seasonal aspects to this. And so, we saw this year and last year a pretty big increase from Q1 to Q2. And then, last year we saw a decline from the Q2 levels in Q3 and Q4. And so, my first question is; is it reasonable to expect that same type of decline? And then, second question is; what are the key drivers of that increase in Q2 and the declines in the second half of the year?
Okay. It's really not seasonal and MG&A can be driven by various one-time items. Like, for instance, in this second quarter 2016 we had a couple of non-cash items. We had the litigation accrual for a matter relating to our Brazil subsidiary and that was a little bit over $1 million in the second quarter. We also had an increase in stock compensation and that, in total, was a little bit over $1 million. And then, in the second quarter of 2015, we had a large bad debt expense that was about $0.5 million recorded on a single customer.
So these are kind of somewhat isolated items. Stock comp is going to recur, but there can be different things, such as stock price that might cause volatility between quarters. And so, it just so happens that the second quarter 2015 and the second quarter 2016 were kind of elevated. If you net out those non-cash items, there was a little bit of a decline quarter-over-quarter.
And then, if you're looking at it sequentially, first quarter to second quarter 2016, excluding the litigation accrual and stock comp and then, of course, that bad debt item, which if you lower expense by $500,000, you're kind of in line. In the second quarter 2016 we had a little bit of increased subscriber acquisition cost. So, by that, I include advertising, marketing, dealer commissions, things like that that -- I guess you could look at is seasonally because it would support higher sales in the second quarter and third quarter. Whereas first quarter advertising, marketing might be slower, right? Not as many Trade Shows, not as many different sales promotions going on. So, from that perspective I guess there is a little bit of seasonality involved. Does that answer your question?
Yes, that does. Thank you. So, excluding stock comp, which you mentioned is a periodic expense, but it's difficult to forecast the precise period, we're talking somewhere around $8.5 million, $9-ish million of MG&A per quarter for a base level and that would exclude the one-time things that pop up periodically. Is that fair enough?
Yes. I think between $9 million and $9.5 million, actually, is a good baseline. And then, I mean that does kind of consider some growth in those subscriber acquisition costs as we get closer to product launch. So, if you're thinking about baseline for the balance of the year, I would get closer to that $9.5 million mark.
Okay, great. And in terms of covenants, are you in compliance with all covenants right now and likely to remain so for the rest of this year?
Yes, we are, and we expect to remain in compliance for the second half 2016.
Okay, great. Then, the last one, if I can. Jay, I think you talked about Sat-Fi being an important aspect to growth in North America. One, I just wanted to make sure that that's what you did say. And then, secondly, if that's true, you seemed to imply that there a lot of, I don't want to call it pent-up demand, but it sounds like you've done a lot of groundwork to make the product successful. Am I correct in both of those? And how big or how much of an impact can it have on North American subscriber growth? Can you try to help us understand where you are in North America in terms of duplex and what Sat-Fi could do for that subscriber number?
Sure. Jim, first of all, we think it's truly a global product. I was contrasting what was going on in the United States right now as people wait for it. Our objective, of course, is to bring it in at the lowest conceivable price, which would allow us to expand the market naturally by getting it into different kinds of retailers than we have traditionally been able sell a satellite phone in. And whether it is ultimately measured as tens of thousands of units per year or hundreds of thousands of units per year depends entirely upon how it's marketed, how the product is received, and whether it's as global as we anticipate it will be.
But make no mistake about it; it is a radical departure for the way people have thought about satellite products for all times. Because, as this is a very small device that can connect anybody's Wi-Fi enabled phone or tablet or computer, you've already got a satellite phone in your pocket, effectively. And if we're successful in marketing it that way, we don't know what the upper end could look like. But, as you know, from the conversations you and I have had over the years, we anticipate that it is very big.
And how do you contemplate or what are the plans for powering it? Is this a battery-powered device or do you need access to let's say a car battery? Or is there a USB cable to a computer or is there something different going on?
Actually, there's all of the above. For those that want to take it for just consumer market outdoor retail, you'll have batteries that are rechargeable and you can throw it in your backpack and take your iPhone and flip your iPhone to Wi-Fi and make a call in the middle of nowhere.
For those that want to have a permanent fixed power source, think a boat or a truck or any number of other applications that we're working on with individual customers, those would be line-powered. Because, why not? If there is a source of power there you definitely don't want to be recharging something and using batteries when you can have line power. There are a lot of other implications to performance if you have a high-power arrangement. So we anticipate that will be recharged in the way that you described. You'll have batteries as well as line power and it will go into different marketplaces configured slightly differently.
And is the idea to sell it to anybody who might want to use it or are you trying to get annual subscription? So, for that, I mean let's say I contemplate taking a week off and hiking in the Rocky Mountains. And I only need it for that week. Is that the type of casual user you're going to market it to or is this going to be more towards the kind of user who has need for it on a regular basis?
Well, we obviously want to find a way to access every market. And we have a lot of flexibility, since it's our network, to price things differently. And we can imagine creating something that's available for a casual user, but our emphasis, of course, will be people that recognize that they can now have very inexpensive accessibility to satellite wherever they are and so they'll use a ton of minutes. Clearly, it's in our best interest to fill up the satellite capacity in the best ways we possibly can. So, we anticipate marketing it a lot of different ways into many, many, many different global markets.
Okay. You've said that SPOT is going to be two-way in the next few months or early 2017. Is the market that you intend to focus on would be the markets that let's say an ORBCOMM or an Iridium is going after with their data services? Is that kind of similar to what you're thinking of?
Well, I don't think of it as much like ORBCOMM. I'm not sure what Iridium has in their future. But, no, it's not at all like ORBCOMM.
Picture this device as being functionally equivalent to a Blackberry except that it works everywhere. So you've got a very small device with all of the functions that you would expect to have from SPOT; SOS, tracking, a lot of tracking or just a little bit of tracking. But now imagine that you've got the ability to freeform text in both directions just like you use to on a Blackberry. When you have that device in people's hands, I submit to you they're going to do things that we have never thought of before. We know how an outdoor retailer would use it. But how would the Department of Agriculture use it with Fish and Wildlife game wardens? We don't know.
We just know it's really, really easy to use. And if we can keep the price on that very low, you can imagine it showing up in places where historically we have not been on the peg. I mean you can imagine something appearing at Walmart, for instance, that was for sale in that kind of -- in that type of retailer. So, it's a very, very broad product opportunity for us.
And, again, a little bit like Sat-Fi 2, we'll get it out there and then we'll adjust to the marketing to what it is that we see. I think it's going to be just a phenomenal, phenomenal product. And, for us, it all goes over the internet and across our own network so the service revenue is functionally almost 100% EBITDA.
Right. Right. Okay, very good. That sounds exciting. I know you don't want to talk about the FCC so I won't ask. I'll just offer my best wishes there.
Thank you very much.
And our next question comes from Jason Bernstein from Odeon. Please go ahead.
Hi, guys. I joined the call late so I just heard that you're not addressing any questions regarding the FCC process. But is there a place, I haven't seen it yet, it was referred to during the meeting that there was a letter in response to the hill. Did you say who that letter was to and where we can find it? Is that letter public?
Yes, Jason, we did say we weren't going to talk about the stuff at the FCC qualitatively. But that's a very direct question. Yes, that was a letter provided to the FCC some time ago. I'm not quite sure why it was posted just yesterday. But I assume it will show up in the record in due course in the same place you would see any ex parte.
Okay. Thank you.
Operator, it looks like there are no additional questions today. Generally, we spend a good deal of time on the FCC so apparently people listened to my comment at the very beginning. I appreciate everybody joining the call today. Thank you very much. And hope to have more information on that FCC matter in the near-term, which would prompt us to pull together another conference call. Thank you all very much and we'll talk to you in another quarter.
Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating and you may now disconnect.
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