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BT Group plc (NYSE:BT)

F1Q07 Earnings Call

July 26, 2007 5:00 am ET

Executives

Ben Verwaayen - Chief Executive Officer

Hanif Lalani - Group Financial Director

Ian Livingston - CEO of BT Retail

Analysts

Matthew Bloxham - Deutsche Bank

Paul Howard - Cazenove Group

Andreas Willi - J.P. Morgan

Graham Ruck - Merrill Lynch

Stephen Howard - HSBC

Richard Barker - Credit Suisse

Michael Antuse - Charles Stanley Equities

Simon Weeden - Goldman Sachs

John Clarke - Brewin Dolphin

TRANSCRIPT SPONSOR
Wall Street Breakfast

Ben Verwaayen

Hello, good morning everybody and thanks for coming. You have seen this slide many, many times, but I still recommend that you at your leisure take a look at it. And I guess, you have seen this slide also many times.

For those who really, really study the slides, there is a small adaptation that Phil and his team has put on it. The tagline here is slightly different because it's true; it has put BT ahead of the game. And it is a strategy that works, both on the defense side, for traditional business, as on the growth side for our new wave business.

And it's true that we are getting into a very good way of establishing long-term relationships, and we're building a global one-layer IP network that will enable all the new software services. And it has also, this quarter really contributed to our results. You can see it here.

It is a -- this is a novelty, this chart, because you are used to have a chart with a green arrow up and a red arrow down, and I apologize this time, there is no red arrow down, so you need to pay attention, there is something horizontal. Maintaining traditional is a good thing.

And it's great to have a quarter; I think it is even better to look to the trends. And this is the trend. And that's the trend in the right direction. So I'm really, really delighted to see that the business in defending our traditional, which is a whole variety of products important to us, is heading in the right direction. And the same you can say, if you look to what happens in our new wave business.

It's a business that's growing in strength, and if you look to how the business develops, you can see that yes, there are seasonal elements to it, but the year-over-year growth is important and it's growing about bigger and bigger numbers.

So you can say, this is a business with a momentum. It's a momentum that is not only experienced by our customers, it's also, if you look to benchmarking, which is an important point to see where you are in the business, recognized.

I'm particularly pleased to be the Company of the Year in Business in the Community, because it tells you that CSR is not just a nice to have, it's not just a power to do well as a company, it's as return to shareholders is important for your financial relationships and your service capability and experience for the customers is crucial to build that relationship.

This is how you build the relationship, as a license to sell in society. And where it's true here in the U.K., it's true in other markets as well. So this is a part of the fabric of who we are, as a company. And if you look to two of the other nice ones, if you look to Business Week, and they look to the hundreds most important companies worldwide in tech, and in the info sector and we're the only ones on that list headquartered in the U.K., on number 13, that's pretty good.

And if you look to the Fortune list of admired companies to be number five, its great. So this is all good and great for us, for our egos. But, perhaps a bit, what's more important, it's a reflection of what our customer base tells us. And if you look to Telemark who was very much into the details of where the businesses are and they talk about network reliability and best in class that helps people to make decisions.

And think about it, the decisions made by our enterprise customers are more and more important decisions not just about the components somewhere in the purchase department, but it's about the way how they conduct their own business and we become an integral part of the fabric of their companies.

So this type of recognitions in benchmarking, not opinions but benchmarking, are truly important. So, we're doing terrific. Why, then, are we going to accelerate a further change in our strategy? Well, simply because there is so much more available to us. And yes, we are looking to put us in a different league, to put us where we can look to our customers and say we understand absolutely where you are.

You want to be served, at your leisure, at your time, wherever you are. So we have to create a company that's capable of dealing with real-time. And yes, we understand that our customers ask for us, wherever we are and that means global, please be local. Because as you know, global depends where you sit.

Local is where you are and you need to have local capabilities and a global support system to deliver that. And we want to be open, we need to be open, not just open-minded, but truly important is to be open in the sense that you incorporate, that's what other people do better, or faster or in a different industry and are capable to bring a pipeline of ideas.

So we're going to talk about what this means for our strategy. But I remember in the first meeting I was ever here, the question number one was, what type of culture are you all going to create in BT? And we did a great job, I think in coming from a narrowband into a broadband reality.

And that was an important step to take. And what we want to create is a success culture. In a success culture, you are absolutely aware of what your customers want, so both from customer experience and customer service, it's a crucial part. It drives decisions that you take in your organization.

It is equally important to be efficient and sure, cost cutting is a part of that, but efficiency goes further than cost cutting. It's the understanding how to relate, one-on-one, with what your customers want and the way you can produce and bring it to them. How you use your channels. And efficiency will give you oxygen to do all the other things as well.

It is about innovation, and innovation in the wider sense. It's about the willingness to learn and open your mind. Over the last six months, our teams around the world, we have teams there to do scouting, to freeze the board on 625 startup companies, new companies, in a wide variety of sectors and brought those ideas into BT.

Maybe for things we do in the coming six months and maybe even the things we're doing in two years time, but the willingness to be on the innovation front is a key ingredient for success culture. It also challenges the ideas of the here and now. It also gives the yes, but much more debate, which is good in order to get the robustness of your decisions.

And at the same time, we need to talk about the fact that you need to collaborate with others. You need to have a culture in which collaboration is a natural thing to do and yes, we need capabilities on the ground wherever we are, so global sourcing and skills where they're needed is part of the success culture.

And the willingness to therefore adapt, be agile and change is a key ingredient of the success culture. And why is it important? It's important because of the last point. If you create this environment, you are much more robust as an organization to deal with the challenges.

I read in one of the things that people write about us that BT must assume that everything goes right. But we don't. On the contrary, we assume that all the things people advise you that can happen will happen. Do you know what? If I look to what people have said about the market, all the things they have identified are happening.

The thing that people miss is, if you create a capability to make choices that you can react and that not necessarily the things that will happen are bad things and not necessarily the things that will happen are bad things in the P&L, the ability to react, to create yourself into an environment to make choices gives also the opportunity to be proactive.

And I think that we never argue about whether LLU would happen. Of course it's happening. We argue whether it would have a devastating effect on BT Wholesale. This quarter, 500,000 LLU lines, last quarter 600,000. BT Wholesale's profit went up.

Competition in the market is broadband competition. A hot competitive market, it is. I look to that. BT Retail's profit went up 10%. So the idea is to create choices and to continue to create choices to make sure that you have, as a company, the opportunity to go for the right choices.

Now, customer experience, as we said, crucially important, understanding where you are, and I won't walk you through all of these but let me give you a few examples. If you look to consumer business, and Epitiro is an independent benchmarking company and set for the fifth consecutive quarter BT Retail's broadband network is the best performing network in the market.

That has an effect on the way that you relate with your customers. If we look to BT Home IT advisor and you have 90% plus customer satisfaction, then you know that you are, in your value added services, on to something. It drives the next step. And the same if you look to corporates.

If you are best in class for long-term relationship, I remember the first chart where in the top right corner, yes, top right corner, long-term relationship has been underlined all the time, recognized as being best in class in that is truly important in a market that is absolutely driven on long-term contracts.

And by the renewals, you have asked many times how about the renewals, we're doing great, but the fact that it is understood how to do that is an ingredient of future growth. In a sense or if you look to carrier business, to deal with the fault rate and bring that down, and to deliver on WLR3 on time as the cornerstone of PSR and the measurement of our commitment. It's hard work. Really hard work. And done on time are good stuff if you look to the customer experience.

On cost, if you want to create the space to make choices the transformation of your cost base is equally important and $600 million for this year is underpinned, totally underpinned, as you would expect, but let's look to some of the things you can do. Is BT Retail more prominent in it's marketing?

I think everybody who looks to the papers and sees the television would say yes, and still you can do it more efficient, and the capabilities there are tremendous. At the same time, if you look to your process, process efficiency will contribute to the efficiencies and cost savings from BT Retail.

If you look to Openreach, what they have done is really remarkable. The fault rate brought down and the ability to react by system automation has gone up. If you look to what's happening in the wholesale market, and if you see how we can have a much better management of our support systems, that will immediately contribute to the bottom line.

And in Global Services, our global sourcing strategy, as you can see in the numbers, is really contributing.

So this is our underpinned $600 million for this year. Now, on innovation, you can get a two-hour presentation on what's on this chart. I will make it into half-a-minute. But what it is, it tells you a wide ecosystem of a relationship, a relationship that's as diverse, as you can see on this chart, from Intel, about the next generation digital services, just bridging the mobile and the managed broadband PCs and the digital homes.

And if you go back to what we do together with BMW where we do very breakthrough innovation about car-to-car management of communication, these are really, really important innovative channels that we are opening.

And it's not the step on inventing, it's not aha, now I have a light bulb gone. It is also about process; it's about channel; it's about presentation; it's about combination very often, how you can get things on the market.

The type of capabilities, that's here, that's built here, we'll absolutely make sure that we have in the future enough of the new products to go into the market. And as you have innovation, hand-in-hand goes collaboration. We have world-class partners, and it's not the partnership that's on paper, it's the partnership that's working on a day-to-day basis.

And I would like to take two out of this very important list for us and that's the relationship that we have with Sony on the PSP. It's quite interesting. So many PlayStations around and all of a sudden, together with Sony, we are going to enable them to be used for voice calls and video calls wherever they are.

And all of a sudden the toolset from just being for games becomes a communication toolset. That's a wonderful combination. And look at what we do with Oxford University. We talk about many of our big programs here, and the ability to manage those large, very impactful programs requires topnotch skills and there is and those are very rare to find.

So together with Oxford University we are going to establish that program. And we're going to make sure that we get a pipeline of talent through, because it helps us in the industry in general to have that capability. So collaboration is in a wide variety of elements. Our contract wins in the quarter has been excellent, I do believe it's a good number and if you look to the list here, there are two things I'd like to say. First of all, look to the variety of wins. I don't think that two years ago I could have aspired to tell you that we are going to be the managed service supplier for the Canadian Embassies around the globe, 100 of them.

I don't think, that I could come here and say that there is that wonderful Italian company that deals with very intelligent state-of-the-art payment systems and BT will be the partner. I don't think that two years ago we could have talked about managed services contracts of the volume of a T-Mobile or a post office.

The world has changed and the market is changing and the focus on product is shifting to the focus on solutions. And, one of the business parts of BT that we should talk more about is our enterprise business is doing some stellar jobs.

Our BT Conferencing business is the fastest growing in the world, Xerox, a great win last quarter, and Google is a great name of a very a recent win. And you can see that from all those elements, we are able to win business in a different way than we won business a couple of years ago.

So, it's about your capability globally, and we've done a lot in the quarter, started with an MVNO in Italy, which is very helpful for the new services that we launched. It's about capabilities on the ground, around the world and I think that, one of the areas that's interesting.

You look to the rest of the world and you see our position in Latin America. We have 2,000 points of presence; we have over 1,000 employees there now, all underpinned. But, we've hopes and beliefs of a real contract, but we need those people on the ground, their capabilities, because we have customers, paying customers.

It's part of the real expansion of BT based on an understanding of our customer contracts that we have in hand and the capabilities that we needed to build from there. So, these are really important skill sets that we will see around the world.

And an Infonet delivery of $150 million cost saving tells you that we not only are pretty good now in making decisions around M&A and then integrating them, but also delivering on the promise, and you will remember that we made that promise of $150 million of cost saving and it's delivered.

Now, if you look to big projects and we've talked about our relationship with Oxford. Think about the NHS. NHS is a big project; we've talked about it a lot, and look to where we are.

Three main elements; the N3; we have now 20,000 connections on the network that was originally for 18,000, and we're ahead of schedule; we are two-thirds on our way in Scotland, we have enabled our network for VoIP. That will give additional benefits to the NHS.

And look on Spine I mean, just look to the sheer size of it, the numbers, the 500 million messages or 30 million subscriptions or 4.5 million appointments, Choose and Book and 400,000 using it. The biggest, largest transaction database in the world. It's built, it's there, it's growing.

We have had 14 software drops on the issue, 14 on time. And in London, we are making enormous progress in the rollout. So, our large project, an important project bringing benefits, being bang on time.

So, let's talk about broadband. Interesting market, lots of things to talk about, all very, I would say, focused on the here and now, and every quarter there is a new story in town and you know what, if you look two quarters back and you say oh what was it again, and this is the trend, so this is the trend that stays.

It's a trend that you will see that LLU is coming in, so people swap from where they were, the non-BT DSL channels, some of them swap from where they are to DSL, others are slower, some are more eager to go and do that.

These are the numbers; 500,000 in quarter on our LLU and you can see that BT Retail is doing fine. By the way, 11.2 million, as you can see here, year-over-year growth in broadband, 30%, 11.2 million, look how many households and look to the nature of the households that are now banging on the door and saying I want broadband. It's different than the first adapters. It's a different class of customers that's coming in. 11.2 million is a great number.

This also is a great number, 38% market share. Personally, I like even more the growth number because that is the number of people that called or went on e-mail or went on the Internet and said I want broadband and, guess what, I want broadband from BT. And, of course, there's churn in the market and if you have the largest installed base, guess what? You get your fair share of the churn but 426,000, including 50,000 home movers, said I want BT.

So, that's a very good indication of where we are and we are on the value package, and I'm pretty sure Ian will be keen to show you the wonderful black one that you see here, a bit scrappy on the chart, it's much nicer if you see it in reality, but here's the story.

This is all about value. Out of the people coming to BT, 58% says and I want the higher value packages because for me broadband is much more than just downloading. It's an integral part of what they are doing on a lifestyle, I want more services, I want more capability.

And we could have talked about Digital Vault, which is a fantastic capability, but I thought you would be more interested in seeing what's the result of that. Well, this is the result. It's a big smile because you see ARPU coming back, and it's a big smile because you see the part of new wave is really, really important.

It becomes the driver of our ARPU growth in the future, but this one is also important because it shows how we are making progress on a step-by-step basis. This is not a story that will unfold in one or two quarters. This is a story that's built to stay and, therefore, it's important to build stone-by-stone to make sure that you do the right steps. If you verify the right steps well then you can move onto the other one.

I'm very pleased with this package. It's a breakthrough package, I'm not as eloquent on it as Ian is. He can really make you immediately run to the phone and go and order, but I think £1 a week to get more than 220 games of football is a pretty good deal.

And if you look to the whole sets of other sports that you can get with it, this is a very, very good deal and I expect that BT Vision will build from here to the next great deal that will come on board and that you get from where TV was, to where TV will be, which means basically focus on interactivity.

Now, BT Business. To be honest, for a long period of time, for the small business market, the subject to discuss was price that was it. So, the flyer in the door is the next supplier. That's changed dramatically and you can see that it's changed dramatically in these numbers.

But you can also see it in the so what of what we do. It's much more about the convergence between IT and communications. You can see that our traction in the market has improved dramatically and we are very, very confident that what we bring to the marketplace is so much more than price, that this a market to really pay attention to.

And that's what we have said to the public at large, pay attention to this, and they did. Watch this.

(Video Presentation)

And the awareness has been risen quite dramatically on the back of these ads.

So, if I bring it together, I think this is a company with momentum, you have seen how we're performing, you have seen how we have done on revenues and EBITDA, and the 21st time that we can announce an earnings per share growth.

As I said last time, this is now a habit. It's very good to have the continual momentum of the business and, at the same time, it's a business that's willing to be challenged by itself by opening its mind to be truly global in what we do and do it in real time. Hanif?

Hanif Lalani

Ben has just demonstrated the continuing positive trends in the business, this reflects the outcome of our winning strategy and consistent execution. So let's look at the outcome in a little bit more detail through the P&L.

Group revenue of just over £5 billion rose by £169 million or 3.5%. It was driven by an 11% rise in new wave revenues whilst traditional revenues were maintained year-on-year. Overall, Group-operating costs increased by 3% as a result of additional and deliberate investment in service both in Openreach and in BT Retail as well as servicing of network IT contracts.

Therefore, EBITDA, at £1.4 billion, grew almost 3% giving us our sixth consecutive quarter of year-on-year growth. Depreciation and amortization increased by £6 million resulting in Group operating profit before leaver costs rising 5% to £716 million.

Operating profit margins rose 0.2%, that's 0.2 percentage points, to 14.2%. Leaver costs, before specific items, were £8 million, £16 million lower than last year, partly due to timing.

Net finance costs were £55 million, an increase of £9 million on last year, primarily due to the increase in average net debt. First quarter profit before tax rose 6% to £650 million. Tax of £161 million is £10 million higher for the effective tax rate of 24.8%.

Profit for the quarter of £489 million leads to a rise of 5% in earnings per share of 5.9 pence or 6 pence on a pre-leaver basis and that gives us our 21st consecutive quarter of year-on-year growth.

Reported capital expenditure increased year-on-year to just over £900 million. This unusually high number reflects the phasing in 21CN spend in BT Wholesale, primarily in exchange preparations, as well as the expansion of the MPLS network to service growing customer demand and to deliver a broad reach on on-net capabilities.

In addition to that, we purchased some enterprise-wide perpetual software licenses. This is a one-off expenditure. Therefore, I continue to expect the full year capital expenditure to be within our target of £2.3 billion this year.

Let's move on to the lines of business. Firstly, BT Global Services. Revenues grew by 5% to £2.3 billion with new wave revenue rising by £163 million, an increase of 10%. MPLS revenues rose by 25%, to £145 million, reflecting our investment in global reach, and our customers' demand for secure, fast, reliable data management services.

However, traditional revenues declined 12% as customer migration to new wave services continued. Gross profit grew by £15 million to £643 million, while SG&A costs increased by £4 million.

Therefore EBITDA, before leaver costs, increased year-on-year, by 5% or £11 million, to £239 million. Depreciation charge increased by £16 million to £164 million, primarily due to assets on major contracts being brought into service as milestones are achieved.

Operating profit before leaver costs fell £5 million from the previous year, to £75 million. One of the key medium-term targets is Global Services' margin improvement, these charts give you a clear insight into the impact of revenue mix and cost reduction, and the role they have to play in reaching our target of 15% margin.

You will recall that last year traditional revenue fell by 9%, while EBITDA dropped 16%. In quarter one traditional revenues declined 12%, but improved cost efficiencies meant that the reduction in traditional EBITDA was held to 5%.

At the same time new wave revenues rose 10% and EBITDA on these services increased by 12%. Maturing contracts, cost reduction and a greater proportion of revenue from repeatable value added services, will enable Global to meet the target of margins of 15% in the medium term.

Whilst margins were flat in quarter one. I do expect to see margin expansion in the second half of this year, as a benefit of cost reduction programs flow turn.

Let's move on to BT Retail. This quarter revenue of £2.1 billion was broadly flat, reflecting a decline in traditional revenue of 5% and growth in new wave of 16%. Cost of sales were reduced by 2.4% driving a gross margin improvement of 1.4 percentage points and boosting gross profit by £27 million to £587 million.

Increased marketing with the rollout of BT Vision and the promotion of the BT together packages in tandem with investment in services and SG&A costs rose by £11 million, to £389 million. Therefore EBITDA of £198 million was 9% higher than last year giving us our eighth successive quarter of EBITDA growth year-on-year.

Finally, operating profit of £156 million was 10% higher than last year. BT Wholesale, first quarter revenue grew by 1% to £1.9 billion, with external revenue maintained at around £1.0 billion, and internal revenue growing by 2% or £17 million.

Strong growth in broadband revenue from internal channels more than offset the impact of lower call volumes and lower regulatory prices. Gross variable profit decreased by 1% to £916 million.

Network and SG&A costs were reduced by 4%, as costs relating to the rollout of 21CN were more than offset by cost savings made through network efficiencies. The combination of revenue growth and lower costs meant that EBITDA rose by 2%. This coupled with flat depreciation resulted in a 4% increase in operating profit.

Finally Openreach, revenue in the first quarter was £1.3 billion, an increase of 4%. External revenue increased by £81 million or 62% due to volume growth, primarily in local loop unbundling. Sales to other lines of BT declined by 3% to £1.1 billion, reflecting a volume shift from internal to external channels.

Operating costs increased by £52 million to £839 million. Due to increased investment in service, in systems maintenance, in support of our undertaking agreed, as part of the strategic telecoms review.

EBITDA of £471 million remained almost unchanged. Depreciation and amortization of £181 million has increased by 3% due to higher capital investment in prior periods. Therefore, operating profit was £7 million lower at £290 million.

With a good strong performance from all lines of business I was keen to show this chart again. It shows that we've added a sixth quarter of positive EBITDA growth year-on-year and ten quarters of an improving trend.

Free cash flow. EBITDA of £1.4 billion was £55 million better than last year, driven by an improved operational performance in all lines of business and lower leaver costs. Net interest rose by £9 million, as net debt increased to £8.6 billion.

During the quarter we issued three tranches of bonds amounting to £1.5 billion and at the same time, £665 million of debt matured and was repaid. We also accounted for the receipt of £504 million in relation to the full and final settlement of the open tax years up to 2004, 5, agreed with HMRC last year.

Capital expenditure for the quarter amounted to £819 million in cash terms, £17 million higher than last year. Pensions deficiency contributions of £320 million being the final payment until the next tri-annual valuation in December 2008, was also made. Working capital and other was £365 million higher than last year.

As you know our cash collections are becoming increasingly seasonal, as shown on this next chart. We remain confident in delivering our full year free cash flow. You can see the very high proportions of our cash flow is generated in quarter four, and quarter one is often an outflow of cash.

This is becoming a more pronounced trend and is due to several factors, seasonality of the billing and collection cycles for our U.K. carrier business, which is growing. The increasing proportions of our revenue, which is contracted based in the corporate sector. The timing of payments and receipts around the end of every quarter affects this trend.

Finally, let me have a quick look at pensions. We are now reporting a £2 billion surplus under IAS19, a significant turnaround from just one year ago. This positions us well for the next tri-annual review with the trustees in December 2008.

We have made good progress to date in many areas, but there is a lot more to come. We have confidence in our capabilities, and that is reflected in our passion to become a more open, global, real-time services company.

This will ensure we go on meeting the needs of our customers helping them thrive and deliver to our shareholders through a continued growth in revenue, EBITDA, EPS and dividends throughout the current financial year. Thank you.

Ben Verwaayen

Thank you Hanif.

Hanif Lalani

No problem.

Ben Verwaayen

Questions.

Question-and-Answer Session

Matthew Bloxham - Deutsche Bank

Yes. Hi, it's Matthew Bloxham at Deutsche Bank. A couple of questions one, on the revenue growth for the quarter and for the rest of this year, can you give us any sense of how much the acquisitions you've made are contributing to the growth in revenue and profitability?

And then the second question on the stabilization of the traditional revenues can you give us a sense of whether you think that's something you can sustain? I guess, when you look at some of the promotions you've got on the market now with the call packages, prices coming down broadband pricing coming down, whether you think you can stabilize that or it's just a kind of short term blip in the trend? Thanks.

Ben Verwaayen

Want to take the first one?

Hanif Lalani

Acquisitions let me give you a feel for it. If you look at the amount of EBITDA the acquisitions create in terms of year-on-year growth it's less than £2 million in the quarter and most of that is coming through that.

So if you look at the £1.4 billion of EBITDA in the quarter and look at the acquisitions on a year-on-year basis of less then £2 million you can see that I don't consider that to be a significant factor.

Matthew Bloxham - Deutsche Bank

I mean there's a couple more that have only just come in, I guess like PlusNet, this is the first quarter and then you've got some of the ones in Global Services, will they make a more significant effect to the rest of the year?

Hanif Lalani

I think that if you, even if I am going to strip up all of the acquisitions right on the trends, the EBITDA trend chart would be exactly the same as we've seen today, so I think it's driven by our performance in our organic business through management of margins, through cost reduction, through selling value added services, that trend doesn't change. You get a little bit more through the acquisitions but not significant.

Ben Verwaayen

Right then on the traditional you have seen the second chart, as I showed you about the trends, that's the most important one and the trend is going that way. And if you're under the zero line, that way's a good way to go. So I would take that as a good guidance.

Hanif Lalani

Right.

Paul Howard - Cazenove Group

Thank you, it's Paul Howard at Cazenove. I have some questions around broadband, clearly the market share story is excellent, but the revenue growth is slowing quite sharply from last year and just trying to get a feeling for Ian's outlook on that picture.

And then in terms of the broader market for broadband, I suppose I'm struggling to understand the net additions that everyone's reporting, if I take BT Retail, Sky, Carphone and Tiscali, we've got about 133% of the net additions that you've reported for the market as a whole, either someone's lost about 150,000 in a quarter, which is a big number for anyone to lose. Given who's left or there's a timing difference between the numbers you're reporting, and the numbers that other people are reporting.

Ben Verwaayen

Let me take the last first, I'm sure you don't want us to go and deal with the numbers that other people give. That's the beauty of your job that you're going to talk to all of those people that we've not had the privilege to talk to in the depths that you are so...

Paul Howard - Cazenove Group

I just suppose if you could say whether you think it's timing. Or you think there is someone that's losing a lot.

Ben Verwaayen

I don't think that we should comment about other people's numbers, our numbers are our numbers. And we are pretty pleased with it, Ian?

Ian Livingston

In terms of broadband growth Paul, we grew. I think revenue grew $8 million quarter-on-quarter. We have some quarters last year where the growth was 6 million another one was $7 million. And then it moved up I think with, it might have moved up slightly with PlusNet. But that's a pretty decent quarter-on-quarter growth.

We're seeing ARPU on new customer acquisitions staying up very nicely. 58% of customers choose option two and three and we feel very much it's, we'll put more value into our packages. That I think that's going to be very much our focus, and we expect to continue to see revenue growth coming out of broadband. And of course the value added services that go with it.

Ben Verwaayen

Alright, over there.

Andreas Willi - J.P. Morgan

Thank you. Andreas Willi, J.P. Morgan, I just have a few questions or one question regarding clarification of a recent comment by Sir Christopher on the subject of a BDSL. And I just wanted to see what you were currently thinking in terms of the scope of a potential BDSL rollout in the U.K. And how you would be thinking about timing, and whether you have any indications from Ofcom how that would be regulated.

Ben Verwaayen

Well. Let me translate what you're asking for is fiber to the home.

Andreas Willi - J.P. Morgan

No. No, BDSL.

Ben Verwaayen

BDSL? Alright; I don't think that we have any change in our strategy around BDSL nor with fiber, by the way. There we have two questions in one as a bonus; I don't think it will be regulate, I think that what you will see is that the market will look to services, and not just to technology as we always said and we have a very pragmatic view on the world.

We do what's necessary to serve the market if there is an economic case to be made, and so it is almost very selective for basis. And very selective between brackets, if you look to the vast amount of fiber already in the network, I don't think that people understand that there's 9 million kilometers of fiber in the BT network. So, this is the same with BDSL if there is a market. If we can define the market and we'll see. But it's a pragmatic approach.

Andreas Willi - J.P. Morgan

So, you're not ruling much in and you're not ruling much out at this point.

Ben Verwaayen

What I rule out is a kind of carpeting for the sake of carpeting in a kind of taking CapEx. And then hope and see and pray; I don't think that's a great strategy.

Andreas Willi - J.P. Morgan

Hanif, can you just give us a little bit more information on the tax outlook. Obviously, it came in slightly below the full year guidance. Is there anything you can add for looking out from now?

Hanif Lalani

I think the team is doing a fantastic job, if I was looking at your models I think 25%, which was the lower end of the range I gave you last time is a good thing to use for this year and for next year. Don't forget there's a 2% drop in corporation tax next year. So, I think 25% for this year and 25% for next year is a good number to go with.

Andreas Willi - J.P. Morgan

Thanks.

Ben Verwaayen

Right, the other side of the room, yes?

Graham Ruck - Merrill Lynch

Graham Ruck from Merrill Lynch, I'm just wondering if you think there's further opportunities for broadband consolidation in the U.K., and then particularly. Do you think that retail market share is more important for you going forward than you have in the past?

Ben Verwaayen

Well, we value every market, I'm delighted with the managed service contracts that we win in Wholesale. It is truly a change in the landscape. I think they are very important; it's a very diverse market. You have very different business models, infrastructure-based, reseller-based, you have people going with LLU with IPStream. You have people going into package deals so we've got a wide variety of markets as you can see; it is an important market because we are on our way of course to have a broadband platform on which you get all those new great and important services, Ian anything to add to that?

Ian Livingston

I think we would expect in terms of retail market share. The thing that wasn't shown on the chart earlier was actually cable, and one of the big changes for a number of years ago is actually and we miss all of this when we actually talk about LLU or whatever. Is we're seeing a far greater proportion of the U.K. base going from cable to some sort of BT network, whether it's LLU, IPStream or Retail.

So five years ago or something 60% of all broadband was actually cable, which BT basically got no money. Today that percentage is a fraction of that and I don't obviously know Virgin's numbers, but I think we'd expect to see continued very strong growth of people on BT network. And I think that's an important thing for us. We want to play every bit of that value chain, but the more we can get some money for whether -- hopefully its retail; but the more we can get some money for is good for our shareholders.

Ben Verwaayen

Right, thank you, over there and then over there, or the other way around.

Stephen Howard - HSBC

Thank you. It's Stephen Howard here at HSBC; I just had a question about the regulatory outlook with regard to unbundling, do you see any prospect for Ofcom requiring a naked form of DSL unbundling as it were?

And if so what do you think the implications of that might be, what terms might accompany it, and what concessions might you exact in return for a toughening of the unbundling environment?

Ben Verwaayen

Well, there are two things that I'd like to say; first of all if you start a negotiation you never start a negotiation in public. If there is a negotiation and I don't think so, I think the market is doing fine the market is not looking for more regulation the market is looking for execution. And I think I'm pretty comfortable that people have a wide variety of choices now to be made.

One of the things that WR3 delivery did was to make a kind of hallmark statement to the market how serious we have taken all of this and we have delivered. And I think the market is in a total different space than two or three years ago when this was probably the way to go forward more regulation. I don't think the answer is more regulation.

Stephen Howard - HSBC

So if one of your competitors were to go to Ofcom, and suggest that this was the logical next stage there'd be a fairly powerful and decisive response from you guys that it's just not necessary.

Ben Verwaayen

If somebody would feel the need to do that you'd get a very sensible normal conversation; we're no longer in fist fighting. So, this would be in just a normal conversation, I think our very different way, there is already a lot of discussion about what's needed where are we going and this is an evolution apart we'll see.

There are more ways to deal with an issue than just run to the regulator as this market has been predicted to do for a long time. And if people want to run to the regulator be my guest that's fine. Okay. Over there, sorry.

Stephen Howard - HSBC

I just want to get a couple of numbers straight. Well one in particular on broadband churn, looking at the gross installs of 426,000 in a quarter. It looks like your churn's running sort of high 20s% is that right. And in that context should we think of Vision as kind of much a churn reduction tool going forward. And where do you think you can take that churn.

And another, are there any other tools at your disposal to get that churn down and. I guess broadly speaking what are you going to target in churn as the market matures over the next year or two? Thanks.

Ben Verwaayen

Right Ian?

Ian Livingston

The 426,000, your math's about right. But actually that includes about 50,000 as Ben said of home movers. And they appear in both numbers when you move from one to the other. So probably the right number to look at in terms of real people churning off is about 370-ish in terms of gross additions.

Though churn in the early 20s rather than the late 20s, that's a bit higher than it was. But it's a market that's become incredibly competitive even more so. And isn't a huge shock to us obviously with a lot of competitors pushing forward; we have the benefit of having a high base.

And obviously, if you have zero base then your churn is going to be somewhat lower than if you have 2.8 million customers. And that's going to be a feature going on; we've got to work that much harder. That's why I pointed out just how the proportion we've got of new customers your brand new, coming into our base.

In terms of Vision the answer is yes and yes frankly; we see Vision as something that will be attractive in it's own right; less than £1 a week is a great price tag, and obviously you'd be more interested in SPL which, you know, for just £3 a week, you can get the best league in the world, and the English Premiership.

So, there's a lot of packages, and a lot of people who currently don't pay for TV, who would like to have some more additions. But it's one of many things that we think both act as churn reducer, but also as an enquiry right. The only thing our sales people will tell you are absolutely delighted with Vision, because they think it's going to be something that will really help them in terms of the overall package.

Hanif Lalani

An excellent stuff in the low 20s, high 20s churn environment.

Ian Livingston

I think we're -- there's a lot of people wanting to get customers at the moment, I don't see a major kick down in any time soon in churn, which means we're going to have to work very hard on...

Hanif Lalani

But low 20s, not high 20s as you said.

Ben Verwaayen

All right, over here.

Richard Barker - Credit Suisse

Yeah. Richard Barker from Credit Suisse. A quick one on M&A, Ben, if I may. I wanted to know whether you'd share a little bit more about what your focus is in 2008. Obviously you've been fairly active, I guess over the last couple of years.

And I think you've -- specifically you've talked, I guess in the past about feeling that you needed to extend your reach in terms of network in continental Europe, in particular. I just wondered if that was still on the agenda. Maybe you could shed a little bit more light in general on your priorities?

Ben Verwaayen

Well, I have always gone at great pain to tell people that we do not have an M&A strategy. I think I have shared that with this audience a few times. We have a strategy as a company and we are basically saying if we can speed the existing strategy up by adding something that makes it better or faster, then if we do it ourselves, we're more than happy to look at it.

But it's not a strategy as a component of a total strategy, as a standalone strategy, and I think the indication of what we have done in the past is a great indication to look to the future. It's driven by opportunity and looking to where it makes sense.

We are picky, and I make no apologies for that. We are very picky. And we have so far integrated all our acquisitions ahead of our internal schedule, which is important and as I have shown today, driven the cost down as you would expect. And we've delivered on that and it has served us well. So, I don't see a great urgency to change that strategy.

Richard Barker - Credit Suisse

Is it different in some geography?

Ben Verwaayen

No. Right. Over there.

Michael Antuse - Charles Stanley Equities

Thanks. Michael Antuse, Charles Stanley Securities. Ben, you mentioned a contract with Google, I wonder if you'd expand on what the scope of that contact is and how you see their ambitions to get into the carrier business?

Ben Verwaayen

All right. Ian? Conferencing?

Ian Livingston

We provide conferencing services for Google as actually we do for Yahoo, as we do for Coke and as we do for Pepsi. Not many companies can talk about these sorts of people and more like as we do for Intel as it happens.

And we renewed the extended agreement with Google. And actually what we're seeing in this world, Microsoft and Vodafone are two great examples of it, our competitor is often our customer, is often our supplier, is often our partner, and that's fine.

And I think by being a grown-up company, is actually a recognition that you're going to have to play with all these fields, and Google are going to be, I think, all of these things.

Michael Antuse - Charles Stanley Equities

Thank you.

Ben Verwaayen

One over there, one over there and then I...

Simon Weeden - Goldman Sachs

Thanks. Simon Weeden from Goldman. Perhaps a very quick one. I was just wondering if -- has the pension surplus net of tax moved materially since the end of the quarter? And the second is, it seems that the overall ADSL net additions including LLU was a little bit lighter this quarter.

I appreciate it can be a quieter quarter, is that a sign that we are perhaps starting to see a slight slowdown in the rate of penetration growth in the U.K.? Or is there plenty more customers to come in the market as a whole?

Ben Verwaayen

Answer the first question, broadly the same. Answer to the second quick question is, it's always a slow quarter and I think that we will see the pick up as we go through the year. All right. Over there?

John Clarke - Brewin Dolphin

John Clarke, Brewin Dolphin. Global Service's margins was that -- you talked, there's the illusive 15% seems to get closer quarter-by-quarter, but somehow the margins don't seem to get closer to 15% quarter-by-quarter. Can you give us any steer on that?

Ben Verwaayen

Ian, you want to answer that?

Ian Livingston

Sure. John, I think I mentioned there are three factors that get us there. One is maturing of contracts, the second one is cost reduction, and the third one is repeatability of solutions. Now, I can't do anything about time. So the contracts will mature as time goes by.

What we can do is manage our cost reduction programs, which are on track, which will deliver and will deliver us margin expansion in the second half of the year that we can all talk about. So, I think you will see signs in the second half of the year and we'll remain on target to get to the 15%.

Ben Verwaayen

Don't you have anything to add?

Hanif Lalani

Yeah. One thing to mention is our new wave revenue grew up by 10% and EBITDA 12%. So, we're very considering that we will achieve those milestones and all the team is working hard all the place to make this happen.

Ben Verwaayen

All right. Thank you very much. Have a great summer. We'll see you next time.

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Source: BT Group F1Q07 (Qtr End 6/30/07) Earnings Call Transcript
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