Cellcom Israel's CEO Discusses Q2 2012 Results - Earnings Call Transcript

| About: Cellcom Israel, (CEL)

Cellcom Israel Ltd. (NYSE:CEL)

Q2 2012 Earnings Call

August 14, 2012, 11:00 am ET

Executives

Porat Saar - CCG Investor Relations, Israel & US

Nir Sztern - CEO

Yaacov Heen - CFO

Analysts

David Kaplan - Barclays Capital

Simon Marks - Citibank

John Brodt - Private Investor

Dan Harvard - Deutsche Bank

Louis DiPalma - William Blair

Operator

Ladies and gentlemen, thank you standing by. Welcome to the Cellcom Israel Ltd. second quarter 2012 results conference call. All participants are present in listen-only mode. Following management’s formal presentation instructions will be given for the question-and answer-session. (Operator Instructions) As a reminder, this conference is being recorded, August 14, 2012.

I would now like to hand over the call to Ms. Porat Saar of CCG Investor Relations. Ms. Saar, would you like to begin?

Porat Saar

Thanks Rachel. I would like to welcome all of you to the conference call and thank Cellcom Israel’s management for hosting this call today. With us here are Mr. Nir Sztern, CEO and Mr. Yaacov Heen, CFO. Mr. Sztern will open by providing a summary of the main highlights of the second quarter 2012 results followed by Mr. Heen who will review Cellcom Israel’s financial performance in further detail.

Before I turn the call over to Mr. Sztern, I would like to remind the listeners that in this call management’s prepared remarks contain forward-looking statements which are subject to risks and uncertainties and management may make additional forward-looking statements in response to your questions. Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995 and in the Israeli Securities Law 1968.

Actual results may differ from those discussed today and therefore we refer you to a more detailed discussion of the risks and uncertainties in the company’s filings with the Securities and Exchange Commission, including under Risk Factors in the company’s Annual Report for the year ended December 31, 2011 20-F filed on March 7, 2012 with the SEC.

In addition, any projections as to the company’s future performance represent management’s estimates as of today, August 14, 2012. Cellcom Israel assumes no obligation to update these projections in the future as market conditions change. You should have by now received a copy of the company’s press release. If you've not yet received so please call CCG Investor Relations at 1-646-233-2161.

I would now like to hand the call over to Mr. Nir Sztern. Nir?

Nir Sztern

Thank you, Porat. Good day everyone and welcome to our second quarter 2012 earnings conference call. In our second quarter results, we see the successful continued implementation of the company’s strategic plan which includes the Netvision merger, our drive for operational excellence and our transition to Communications Group.

We succeeded in maintaining Netvision’s level of profitability which wrote an EBITDA of NIS 140 million in the first half of this year. Despite the increased competition in the ISP market. We also see the continued impact of our aggressive efficiency measures on our result which has so far led to an annual savings run rate of NIS 300 million.

These successful measures include adjusting our existing headcount, reducing overhead expenses and streamlining our processes. Despite the fact that we did see an increase in our churn rates, we also observed with most of our customers chose to remain loyal to the company as a result of our quality customer service and new marketing plans.

And this past quarter we introduced Cellcom Total, which combines an unlimited package of three cellular subscribers plus internet and landline services. This plan has been greatly successful and leverages many of our service offerings demonstrating our growth potential as a Communications Group.

In addition, we will be further growing our customer base with approximately 60,000 subscribers of the Israeli Defense Forces and we expect the benefit from additional revenues from hosting services we provide to Golan Telecom and Home Cellular.

In the second quarter, we have not yet felt the full effect of the increased competition and so we plan to implement additional efficiency measures with a goal of achieving additional significant savings. We're also encouraged by the success of Cellcom Total and we will continue to pursue growth from bundled fixed-line wireless packages.

I believe that the opportunity embedded in the landline wholesale market coupled with our exploration in the opportunities in several credit card and IPTV will further strengthen us as we work to become a leading Communications Group.

With that, I would like to turn the call over to our CFO, Mr. Yaacov Heen for a review of our financials. Yaacov?

Yaacov Heen

Thank you, Nir and good day to all of you. As you noted, the efficiency measures as implemented continue to have a positive impact on our results, demonstrating our ongoing efforts in adjusting our expense structure to our current revenue level.

As we anticipated last quarter, we saw a significant decrease in our net income compared with the previous quarter resulting from an increase in our financing expenses mainly due to a rise in our index CPI. In the coming quarters, we expect additional erosion to the company’s revenues due to the accumulated impact of customers transferring to the new marketing plans we have been offering.

Now turning to our consolidated results. Revenues for the second quarter of 2012 totaled NIS 1.5 billion, decreasing by 5.7% from second quarter of last year. Netvision’s contribution to revenues totaled NIS 259 million. Without Netvision’s contribution revenues would have declined by 22%. Within these service revenues increased by 4.5% totaling NIS 1.18 billion.

Operating income for the second quarter decreased year-on-year by 29% totaling NIS 282 million. EBITDA decreased by 16.2% year-on-year totaling NIS 474 million. Netvision contribution to EBITDA for the second quarter of 2012 totaled NIS 75 million. Net income decreased by 50.4% year-on-year totaling NIS 121 million as a result of the decrease in EBITDA and the increase in our financial expenses.

Turning to our KPI’s. Revenue for the second quarter of 2012 totaled 375 minutes compared with 342 minutes in the second quarter of 2011, an increase of 9.6%. ARPU for the second quarter of 2012 totaled NIS 90.3 compared with NIS 108.2 in the second quarter of 2011, a decrease of 16.5%.

Our free cash flow for the second quarter of 2012 increased by 63.2% year-on-year totaling NIS 284 million shekel. This is 97% increase when compared with our free cash flow in the previous quarter. The increase is primarily due to a decrease in our handset purchase, resulting from the decrease in handset sales, as well as our continued efficiency measures.

The second quarter results and the improvement in free cash flow demonstrate the company’s strength and the ability to satisfy it’s financial obligations including the ability to service desk that. With that, given the change in competitive environment and our desire to take precautionary measures, the company’s Board of Director’s decided not to distribute the dividend for the second quarter of 2012. The Board of Directors will revaluate it’s decision in the coming quarters.

I would now like to open the call to questions. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) The first question is from David Kaplan of Barclays Capital. Please go ahead.

David Kaplan - Barclays Capital

I have an accounting question. If you could tell us a little bit your, talk a little bit about your ARPU and the percentage of ARPU that's coming from wholesale agreements with MVNOs or with Golan versus what is coming off of your own network, your own subscribers.

Yaacov Heen

For this quarter it’s a negligible number because we just the beginning of the quarter so its middle of the quarter so finally you can assume that it's close to zero. The contribution of the national roaming revenues. For the second quarter as Nir said, we expect it to be high of course.

David Kaplan - Barclays Capital

For the third quarter you mean.

Yaacov Heen

For the third quarter, sorry.

David Kaplan - Barclays Capital

Okay. And also last part if you could just talk a little bit about your plans for the fixed line, how your negotiations are going with [HOT] and with Bezeq for wholesale agreements there and the investments that you guys plan on making in those services?

Nir Sztern

Well, these are still very early days in terms of the negotiations, we've just started negotiations, some are going a little bit better than the others. But I think it’s a little early to talk about it and once we have something a little more complete, we will be happy to inform you guys.

Operator

The next question is from Simon Marks with Citibank. Please go ahead.

Simon Marks - Citibank

Just give you an idea of how you calculate the NIS 300 million, is it still fixed cost?

Yaacov Heen

You mean in terms of cost cuttings, the 300 million?

Simon Marks - Citibank

Yes, you mentioned the NIS 300 million now. Can you just explain how you’re getting where the numbers from please?

Yaacov Heen

We look at the run rate of the fourth quarter and you can see in the result of the first quarter and now in the second quarter, another improvement of NIS 80 million shekels. So the run rate of this improvement is more than NIS 300 million shekels for the full-year.

Simon Marks - Citibank

Are you able to give the 50,000? Any indications of (inaudible) they would be?

Yaacov Heen

No, not yet. We just --- are studying and the roll out and getting them on our network and we haven't seen even weaker usage so far and we will have to wait a month or two before we have an indication on the ---

Simon Marks - Citibank

Again thanks. Just a few questions. In terms of the major working capital benefit from the handset sales, when we will expect to see this? Can we see in the second half and if so, how much?

Yaacov Heen

You know, we don’t give such guidance about what we expect but you can look at the trend right now in the market. You can see all of the market, all of the big players have shown this decrease in handset sales and we talk about it also because we can see now a new [packages], which not include the handset. So the customer decides about the handset by himself and that’s why we saw this decrease and we expect this improvement in the free cash flow.

Simon Marks - Citibank

And finally just with regard to dividend policy, can you give any clarification or what is need to be met to see regular dividend what’s driving the policy?

Nir Sztern

Our former dividend policy is 75% but as we said the Board of Director decided to be conservative this quarter and the next quarter the Board of Director will reevaluate this decision, we cannot say right now about a new dividend policy.

Operator

The next question is from John Brodt, a Private Investor . Please go ahead.

John Brodt - Private Investor

Yeah, hi I am calling from California and I wanted to know a little bit more about your company’s policy with Public Relations in the United States. I found a great article out of one of your local papers, Arutz Sheva, verifying that the Israel Defense Force will be migrating its entire cellular network to Cellcom, first of all is that true, is that article valid?

Nir Sztern

Yes it’s true, the article is valid and actually we have won a tender by the IDF switching their entire subscriber base from (inaudible) to Cellcom.

John Brodt - Private Investor

Awesome, well that’s great news, my concern is no matter what American media source I went to whether it was Bloomberg, Yahoo!, Google you name it I could not find that article anywhere it’s only because I follow very closely with the Israeli news happenings that actually found this article and I was very surprised that a lot of the media here in United States didn’t cover it and I just wanted if there is anything if you guys are doing with your public relations to help bring more awareness to the United States?

Nir Sztern

Thanks for the input obviously we wrote in the PR that we said out today it is written there you can see it in our PR unfortunately along the PR that we give them we don’t control the media and actually I can't comment on especially on the American Media but since it is important we stated it in the PR of the results of this quarter.

John Brodt - Private Investor

Yeah I think that was a good choice on your part and I just want to let you guys know that I found out about your company through the New York stock exchange I think that they are probably a biggest beagle over here in the States and I proactively try to get people to know about what is going with the cell phone services in Israel, how well you guys are doing over there but I just thought may be I would let you know about your PR department there and may be you could show up or booster a little bit of relations there with United States media from now.

Nir Sztern

Well I appreciate it thanks.

Operator

The next question is from Dan Harvard of Deutsche Bank. Please go ahead.

Dan Harvard - Deutsche Bank

Couple of questions for me, in your press release your prepared remarks you mentioned the transition from being a cellular company to a communications group. So might be I know everyone is sort of involved in the short-term issues in the market but may be could you give us sort of overview of how you expect Cellcom to evolve as a company in the next couple of years. What kind of opportunities you see and then significantly and then specifically when you talk about the success of Cellcom total, could you just give some kind of a parameter that we can understand what you mean by that being a good launch and secondly a little bit more short term issues, significant passive environment has let's say stabilized to an extent. Just interested hear your views on how you would expect it to evolve over the next six months to a year or so. Thank you.

Nir Sztern

I think what we've seen -- we've seen the company and we worked very hard on it on the last six months to merge a company into one and we did a lot of that in terms of cost cutting and you saw the benefit of that and what we've seen lately both in the business market and also relatively newer in the residential market with Cellcom Total we see that the interest by the consumers for a bundled service that offers a good price and the simplicity of use, one line in the bill, the take on that is very, very well.

And I'm afraid I won't be able to answer and give you statistics on the success of Cellcom Total but it has been a very, very successful plan for us. I mean we thought it was good, we were surprised by how well it was taken by the market and the up tick on it throughout the company and even nowadays we are selling it very well which means that the Israeli consumer.

And we had our thoughts about it, how do we combine cellular and fixed line and you probably know around all that, there's a lot of discussion whether the bundle makes sense for the customer and I think Cellcom proved that with the right marketing we can offer something that's both easy to understand, offers great value to the customer and is very successful in terms of the total number of sales.

So, we’re very encouraged by Cellcom total and we said earlier and that the strategy is to offer the full services and through different combinations and different bundles of services, we feel that Cellcom can position itself as the company that offers a full range of services. Through that, we can hope to maintain or retain our customers better , offer better customer service, even be more efficient in terms of cost, once we have one bill for all the services and one customer that answers all these questions.

We can also hope to be more lean and again move towards operational excellence. So this was just the one thing that we did was very successful. We feel that there is lot more potential there once the wholesale market will open and we will finish negotiations. We feel that there could be opportunity in the IPTV area and we’re examining that as well.

So all this together mean that Cellcom have a good, a great starting point because we have one company offering already internet services, cellular services and fixed line telephony already. And the combination of the three give us a lot of opportunity in the market that we’re relatively small there and so we feel that all these are something that we will pursue and have great potential for growth.

Dan Harvard - Deutsche Bank

First people have migrated to Cellcom Total from your installed base. Are they tending to take up a new service and although there is some cross-sell here or they people that have already these services and are using as an advantage to negotiate to bring down their price point.

Nir Sztern

Without giving too many numbers what I can say is and you can derive to the numbers yourself. We are relatively a small player in the fixed line, in the home telephony. So obviously every new home phone that we give, most of them, a vast majority of them are new lines because we are a very small player.

In the ISD business we are about a third of -- we are approximately one-third of the market share, so again you can assume that most are new subscribers. Also in the server business some of the customers even though not all of them, but some customers have two lines and are upgrading to three and so the whole idea of Cellcom Total is there are three ways that the customer can upgrade their service.

He can have two lines and upgrade to a third line, he can not have a fixed line and upgrade to our fixed line. So all these combinations are valid combinations and obviously with the big number that we see Cellcom Total, we see a lot of these and a lot of the others.

Dan Harvard - Deutsche Bank

Okay, and then in terms of the competitive environment.

Nir Sztern

Well even though it seems like it’s been a long time, the new entrants at least the two new entrants of Golan and [Hotar] in the markets for the last three months, but we have seen a lot of press, a lot of dramas in the market and a lot of price changes in the market in the last three months.

I think we will have to wait a little bit more before I can say where things are going. If you look at the press, you can see that there is some indications that things are coming down a little bit.

Operator

The next question is from Louis DiPalma of William Blair. Please go ahead.

Louis DiPalma - William Blair

I was wondering if you guys expect churn to remain elevated for the second half of the year because based upon general market trends like MVNOs originally launched that they hit market share within their first few months and then their market share begins to stabilize and I was wondering if you think that the pressure from the MVNOs has subsided at all?

Nir Sztern

Well in terms of MVNOs, we have in the market three MVNOs per se. It's (inaudible) Home Cellular and (inaudible) [Ufone]. I mean once Golan and [Hotar] entered the market obviously those three started or subsided, the growth rates and dramatically.

Louis DiPalma - William Blair

So do you expect churn to decrease at all in the second half as customers that wanted to defect to the MVNOs probably already defected.

Nir Sztern

I mean some of the customers defected to MVNO others are turning to the new operators to Golan and (inaudible) but I think right now we can talk more about the second quarter I think. It's a little bit early to talk about what we are going to see in the third quarter.

Louis DiPalma - William Blair

Okay can you talk a little bit about the 3G subscribers and how many 3G subscribers you ended with in the second quarter?

Nir Sztern

We published that we have 1.4 million 3G customers and this is regular trend that we have every quarter between 40,000 to 50,000 customers. So it's in line with our strategy to transfer those customers to the new network. We would like to do it in a profitable way which means that we want to make sure that the customer when they move to switch to our 3G services improve the ARPU so it's not a something you need to go over new in line with the trend that we've seen in the last two years.

Louis DiPalma - William Blair

And during the quarter did you effectively maintain your pricing for 3G plans or did you come down market in order to meet the competition?

Nir Sztern

Effectively because now most of the new prices are unlimited package so the customers decides by himself how to use it. You know we gave him an opportunity to use both minutes of used SMS and data package so he can choose if he would like to use it with the 3G network or GSM both of them, they would like to use our 3G network.

Operator

The next question is from (inaudible). Please go ahead.

Unidentified Analyst

My name is (inaudible) and I’m an independent investor. I’ve done quite a research on your company and I’m very strong at it. As you stated earlier, the Board of Directors decided to not release the dividend this quarter and I do like the decision. However, I was wondering if Cellcom has a plan for potentially use of the dividend money?

Yaacov Heen

You know, we for conservative reason as we already talked about it, the Board of Directors decided not to distribute this dividend of course we have to sell all of that and would like to our cash. We have already 1.6 billion shekels to have the ability to pay the next yield which is about 1.4 billion shekels.

Operator

The next question is follow-up question from David Kaplan of Barclays Capital. Please go ahead.

David Kaplan - Barclays Capital

Just a quick question on average revenue per user. With the pricing having come down in the market, I mean if we think about average revenue per user there were some high end or higher, the revenue producing customers as well as some lower producing customers, how does the around 100 shekel per unlimited package been able to bring up some of those 50, 60, 70 shekel per users up to the 100 shekel per month usage or those kind of still hanging on to their cheaper, lower use packages. That’s it for me.

Yaacov Heen

Well, great question actually. Actually we feel some of the customers that are on 70, 80 shekels going up to the unlimited plans, the value for them is obviously very good for an additional NIS 20 revenue. They get unlimited content. So alongside the declining revenues from what you called earlier the high paying customers, we see also a trend of lower ARPUs going up.

David Kaplan - Barclays Capital

Alright, great. I am (inaudible) the whole markets now across the board so maybe we are impacting stabilization there. Great, thanks a lot guys.

Operator

The next question is a follow up question from Simon Marks of Citibank. Please go ahead.

Simon Marks - Citibank

Hi, just a quick question. I guess quite a short-term outlook, have you seen a sub slowing down, the loss on a monthly basis. Can you just give some indication of in the past couple of months and into this quarter. Have you seen a sort of slowdown in sub loss to which your new office are working and can you give any indication of that please?

Yaacov Heen

We probably that we lost 29,000 customers this quarter.

Simon Marks - Citibank

Can you give on a monthly view, have you seen that trend slow down on a monthly basis or you are not going to get into that granularity?

Yaacov Heen

We cannot give more than you can find in the news. So in one hand you have to remember that the third quarter is a cool full comparing to the second quarter that two new competitors started at the middle of the quarter and on the other hand as usual at the beginning there is the trend that is higher than after two or three months. So we saw it last year and we assume that it’s going to be the same this year, but we cannot be sure about it

.

Simon Marks - Citibank

Okay. Just in terms of your Cellcom Total and new offerings, how much is compensated in terms of the increasing competition and in term of showing the sub loss and whether you know you are looking for any more offers if that doesn’t succeed.

Yaacov Heen

Again this is one of our tools to decide not to compete directly with the prices and to lower the price or this we believe more for families, for them it's great offer, talked about. So it is one of our effort to keep our customers and to reduce the churn.

Operator

(Operator Instructions) There are no further questions at this time. Mr. Sztern, would you like to make your concluding statement.

Nir Sztern

Yes thank you. Well again I want to thank everybody for joining our conference call. I appreciate you taking the time and as usual look forward to hosting you again at our next call. Have a good day.

Operator

Thank you. This concludes the Cellcom Israel Ltd. second quarter 2012 results conference call. Thank you for your participation. You may go ahead and disconnect.

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