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Telecom Argentina S.A.(NYSE:TEO)

Q3 2012 Earnings Call

October 31, 2012 11:00 am ET

Executives

Pedro Insussarry – Finance Director

Franco Bertone – Chief Executive Officer

Adrian Calaza – Chief Financial, Administrative and Control Officer

Analysts

Ricardo Cavanagh – Itaú BBA

Stanley Martinez – Legal and General Investment Management

Rodrigo Villanueva – Merrill Lynch

Operator

Please standby. Good day, everyone, and welcome to the Telecom Argentina TEO Third Quarter 2012 Earnings Conference Call. Today’s call is being recorded. Participating on today’s call, we have Mr. Franco Bertone, Chief Executive Officer of Telecom Argentina; Mr. Adrián Calaza, Chief Financial Officer; Mr. Pedro Insussarry, Finance Director; and Mrs. Solange Barthe Dennin, Manager of Investor Relations.

At this time, I’d like to turn the call over to Mr. Pedro Insussarry. Please go ahead, sir.

Pedro Insussarry

Good morning to everybody. And on behalf of Telecom Argentina, I’d like to thank you for participating in this conference call. As our moderator just mentioned, the purpose of this call is to share with you the consolidated results of Telecom Argentina Group that correspond to the third quarter of fiscal year 2012 ended last September 30.

We would like to remind you that for all those that have not received our press release or presentation, you can call our Investors Relations office or download them from the Investor Relations section of our website located at www.telecom.com.ar/investors. Additionally, this conference call is being broadcasted through the webcast feature available in such section and can also be replayed through this same channel.

Before we continue with the conference call, I would like to go over some Safe Harbor information and other details of the call, as we usually do in our quarterly conference calls. We would like to clarify that during the conference call and Q&A session, we may produce certain forward-looking statements about Telecom’s future performance, plans, strategies and targets.

Such statements are subject to uncertainties that could cause Telecom’s actual results and operations to differ materially. Such uncertainties include, but are not limited to, the effects of the public emergency law and complementary regulation, the effects of ongoing industry and economic regulation, possible changes in the demand for Telecom products and services, and the effects of marginal factors such as changes in general market or economic condition, in legislation or in regulation.

Our press release dated October 30, 2012, a copy of which is being included in our Form 6-K report to be furnished to the SEC, describes certain factors that may affect any forward-looking statements that we may produce during this session. Furthermore, we urge the audience of this conference call to read the disclaimer clause contained in slide one of the presentation.

As usual in our quarterly conference calls, the agenda for today as seen in slide two, is to go over the general market overview, then we’ll go over some business highlights, and after that, we will go over some specifics of the evolution of our financial figures. And finally, we will end the call with our traditional Q&A session.

Having gone through these procedural matters, I will now go over a brief macro overview as an introduction to the general operating environment. In slide three, we include some snapshots on the current Argentine macroeconomic environment. Argentina suffered weak economic conditions throughout the first semester of the year, although in recent months some signs of moderate economic recovery were preceded.

The drought effect on the agricultural production has strongly impacted growth mainly in the first half of 2012, while the service sector continue driving support to the economy. According to official figures, in September the industrial production suffered a decline of 4.4% year-on-year, while in the first nine months of the year the reduction was 1.3%, slightly more positive and consumer confident looks proceed in the third quarter 2012, where the increase in wages and low real interest rates added purchasing power to consumers.

Inflation remains stable at high levels and in general wage in negotiations concluded at lower levels than last year. Although telecommunication sector is a defensive sector, it’s not excluded from the general economic cycle. The slowdown in economy affected fiscal revenues making financial assistance from the central bank and the national pension fund system increasingly needed.

On the external sector efforts to achieve a higher commercial sectors continue to kick in, while expected higher because of exports and stronger growth coming from Brazil, will help to relieve the economy from external constraints and sustain a more favorable of the context.

Having gone through this introduction of the macro context in which we operate, let me pass the call to Franco Bertone, who will go over the business highlights. Franco?

Franco Bertone

Thank you, Pedro, and good morning to everyone. This quarter the business grew at the lesser pace than the past year, including extra pressure on our margins. Though mobile pace were good, we consolidated leadership of MNP that delivers consisted inflow of high-value customers from competitors.

We work quite hard to stabilize our subscriber acquisition and retention costs at the more conservative approach. Strong growth of mobile data required in access network design review to improve the efficiency of frequency bandwidth usage for better service quality and usage experience. In the fixed service, extensive bundling our products delivered revenue growth and ARPU consistently expanding. CapEx freed due to cancellation of the spectrum option is reassigned to improve coverage and capacity of mobile access network. Cash flow generation stayed strong as much as our balance sheet with no debt position in foreign currency. This is the value of peace of mind factor in the current complex.

Please turn to slide number 6. Our mobile business continues to out perform competition with outstanding execution in the postpaid segment that in the third quarter we presented over 90% of net adds. Our subscriber base totaled 18.9 million growing 6.3% year-on-year, above our competition and reaching an estimated market share of 33.6% of the top three providers in the industry. We do believe that we have retained revenue share leadership in the market, both for service and total revenues. We did well with number portability consolidating our leadership of core team and net ports, while capturing high value customers from competition, consisting growth of our value-added services increased ARPU in the nine months by 12% to 66 basis amount.

Please turn to slide number 7, the revenue performance. Value-added service hit the 52% market service revenues, mainly because of growth of Internet service to 70% year-on-year and contract plan upgrade to all inclusive along with handset upgrade to promote data usage. This performance will achieve despite of no price adjustment so far as the first adjustment of the year will affect in October, next October. We leverage our MNP and revenue share leadership to rationalize subscriber acquisition and retention cost that dropped to 16.2% of service trailing the third quarter from 17.3% in the past quarter.

Please turn to slide 8 for a snapshot on our Paraguayan operation that continued to growth and deliver. Subscriber reached 2.3 million, expanding 9% year-on-year. Revenues compared to Argentinian pesos, rose 22%, while operating margin increased to a 38% of revenues, thanks to value-added service contribution as mobile Internet revenues more than doubled will leverage our top quality of our 3G network and brand position in that market. Free cash flow increased 53% year-on-year.

Slide 9 shows the evolution of mobile revenue growing 33% year-on-year by 2.2 billion pesos to 11.6 billion pesos. On a quarterly basis, mobile revenue growth was 20%. Mobile Internet posted the highest growth rate at 70%, followed by our data revenues with 29% year-on-year increase. Retail values and wholesale services were up 12% and 3% respectively, while equipment sales were up 36%. Paraguayan operation posted a 22% growth in Argentinean pesos and accounts for about 5% on consolidated mobile revenues.

Please turn to slide 10. Fixed broadband subscriber base grew 7% and ARPU 19%. Product repricing took place in the third quarter. Revenue coming from corporate data services increased 31% year-on-year, doing very well in a challenging economic context, dive into the curve network rollout will allow upgrade in office and speed to compete with cable providers, while extensive bundling our products provide us with a competitive and delivering value to our customers.

Slide 11 shows a positive growth of fixed wirelines with a 5% ARPU year-on-year growth, and a 5% prepaid voice revenues growth delivered by higher penetration of supplementary services and flat pricing.

The original wireline revenue is shown in slide number 12. Third-party revenues totaled 4.4 billion pesos, increasing 13%. Internet and data services are the main drivers of growth posting 28% and 27% year-on-year respectively.

In slide 13, we show what we’re doing about CapEx. This year so far we invested in the business about 2.2 billion pesos, 23% more than last year, while this amount intangible asset were 642 million, increasing 25%, it’s mainly because of acquisition and retention expenditure related to MNP implementation.

PP&E expenditures were $1.5 billion, increasing 22% year-on-year to improve both our mobile and fixed network coverage and capacity. The mobile business IP back volume improves high-throughput user’s user experience and currently which is more than a half of our 3G cell site. On the fixed business, FTTC rollout is a fortune planned it for net speed with very good results in terms of financial performance.

If we were mentioning that the cancellation of spectrum auction resulting a recognition or reallocation of our CapEx schedule. Slide 14 shows how we exploit our network to sustain growing business. We have laid out several projects that include spectrum efficiency and network optimization. We are migration a cell site to fixed sector configuration that will help maximizing coverage and capacity.

A gradual reforming of spectrum carriers are located currently on 2G technology to more efficient 3G, will increase capacity. Meanwhile, we are investing to sell signaling complexity in extensive low rate data traffic demand.

Non-conventional sites and small cells are used to improve access in every concentrated area, along with Wi-Fi in terms of cell data offloading. Fixed mobile network integration is a proven key factor to success. And we are ready to leverage our existing infrastructure to support higher demand for mobile services.

Now little more to business highlights, and I wanted to share with you, and I will pass the call to Adrian, who will go over financial performance in the quarter. Adrian?

Adrian Calaza

Thank you, Franco. Good morning to everyone. The positive business fulfillment just mentioned allowed us to sustain growth in terms of revenues and operating profits before depreciation and amortization. Even though margins were affected mainly by commercial efforts, cost pressures due to inflation and some extraordinary factors.

In slide 16, we have shown the evolution of consolidated revenues and operating profit before depreciation and amortization. In the nine months period of 2012, consolidated revenues reached 16 billion pesos with a strong growth of 20% when compared with the same period of 2011. Meanwhile and even with our price adjustment this year is on our mobile business as Franco mentioned. The growth of the third quarter of 2012 was 18% year-on-year. At the same time, revenues coming from regulated tariff services accounted for only 10% of total revenues.

Operating profit before depreciation and amortization for the first nine months of 2012 grew by 7% when compared to the same period of last year totaling 4.7 billion pesos. As mentioned before, several factors like by competitive environment and inflationary context added pressure to our cost structure combined with extraordinary facts to just higher energy cost due to the elimination of that subsidies, affected our margin that represented at 29.5% of the consolidated revenues. In order to better understand our cost structure, please refer to slide 17 with the breakdown of our consolidated cost structure is presented.

As you may see, 2011 wage negotiations, which over 31.5% increase have had a strong impact in our cost structure, not only for our own labor costs, but also for all labor related costs such as call center and maintenance services. Even though, the 2012 collective bargaining agreements and it was lower rates.

Moreover, the elimination of energy subsidies improves on December 2011 implied approximately 50 basis point loss in margins and in other similar loss comes from higher direct access. Additionally, the MNP here for us that allowed us to reach significant results showed the logic of consequences no marketing and selling expenses.

Even though, the more conservative approach to what SAC and SRC was already implemented in the third quarter of this year. On the other hand, the cost structure were partially compensated by our continued reduction on the interconnection costs together with lower professional G&A costs.

Please now turn to slide 17, where you can see that operating profit totaled 2.8 million pesos with the 17% margin. Higher participation of CapEx in intangible assets such as SAC, SRC and IT resulted in an increased depreciation and amortization would combine with the effects in cost mentioned before impacted already showing a slight decrease when compared to the nine months, the same nine months of 2011. This result was partially compensated by positive financial and holding results that allowed us to post the net income attributed to Telecom Argentina of 1.9 million pesos equivalent to 12% of consolidated revenues.

Regarding our financial position in slide 18, we illustrate our free cash flow generation for the last 12 months, where we have performed positively, thanks to a strong operating free cash flow of 1.1 billion pesos. This allowed Telecom Argentina to reach a net cash position of nearly 2.7 billion pesos after having paid a cash dividend of 307 million pesos in last May, and 13 million pesos to abundance in our Paraguayan operations. It is worth mentioning that the Group after applying a continued leveraging strategy in the past years does not have outstanding debt influencing the Argentinean operations, which represents a significantly positive, but given the prevailing local and international profits.

So having concluded with the presentation, we are now more than pleased to answer any question you may have. Thank you very much.

Question-and-Answer Session

Operator

(Operator Instructions) And we’ll take our first question from Ricardo Cavanagh with Itaú BBA.

Ricardo Cavanagh – Itaú BBA

Yes, good morning all, and thanks for the call. My question is related to the plan to expand capacity even the cancellation of the frequency option. To what extent do you think that the alternatives that you are looking forward could offset or support growth, related to these which is a level of CapEx that you expect to sustain a percentage of sales going forward? Thank you.

Adrian Calaza

Well, I mean, the cancellation of spectrum option is a factor that is affecting ourselves and our competitor as well. So basically, I mean each one has and certainly we are doing our best that to compensate to an extent what would have been the allocation or the additional spectrum to our business.

I mean spectrum is a way our think is hard to replace it with the network upgrade, but certainly we have the possibility of mitigating the effect of the fact that our usable bandwidth is now growing as much as our business does. So we have been reviewing our revenue even in the network design and basic leveraging on the technology that we are using on the network. There is a lot that we can do not only improving our level of the quality of maintenance operation of the metric, also in terms of allocating network resources to generate additional capacity basically to serve the high throughput data customers that we have in greater share than our competitors.

We do not expect this to change significantly, or change at all the overall CapEx looking forward as basically we are locating CapEx that was intended to use to purchase right, our spectrum usage into equipment and installation activities. So I mean the guidance we provided in the past were unchanged because of spectrum auction have been canceled.

Ricardo Cavanagh – Itaú BBA

Okay. Thank you very much.

Franco Bertone

Thank you.

Operator

(Operator Instructions) We’ll take our next question from Stanley Martinez with Legal and General Investment Management.

Stanley Martinez – Legal and General Investment Management

Good afternoon everyone and thank you for taking my question. Franco, in light of the spectrum auction cancellation and TEO’s net financial position, I realized that its a few months earlier than you might and retrain the question. But have you had any preliminary discussions with the Argentine government with respect to the potential dividend payment in 2013, maybe as potentially a quid pro quo in terms of any type of wholesale deals that might take place to support ARSAT, when they potentially launch service and trunk with that the TEO network?

Franco Bertone

I may give you the easy answer that we haven’t had the discussion yet.

Stanley Martinez – Legal and General Investment Management

Okay. And I mean, is it, you mentioned, it’s a discussion that you would probably have more in the first half of the year. But if you look forward to that discussion, is there anything that you can see that would adjust your net financial position between now and the time of the dividend payment that could potentially compete with a dividend for a, what you will consider inadequate capital is?

Franco Bertone

Maybe your point, but no, we don’t expect any change in between now and the time when the decision will be taken about the dividend policy for next year. As a consequence of the spectrum situation, or any other business as in the past, we don’t expect any change in that respect.

Stanley Martinez – Legal and General Investment Management

Okay. And then maybe just the last point is, when do you think that we would expect TEO another operators to begin entering into discussions, with ARSAT in terms of entering some type of wholesale arrangements?

Franco Bertone

Well, I mean, there are both in that respect. I mean we certainly have proposed in that respect. We expect that to be likely to take a formal portion that respect in maybe in the few months from now. But certainly we understand that a potential course of action being considered by all packaging malls.

Stanley Martinez – Legal and General Investment Management

Okay, well, thanks. And then I realize it’s a sense of issue. I appreciate your insight on that so far. Thanks, Franco.

Franco Bertone

Thank you.

Operator

And we’ll take our next question from Rodrigo Villanueva with Merrill Lynch.

Rodrigo Villanueva – Merrill Lynch

Hi, good afternoon, a couple of questions if I may. First, I was wondering, do you expect marketing activity to remain strongest in the last couple of quarters, or I mean if we still continue to see commercial expenses at similar levels in the next couple of quarters? And my second question would be a follow up regarding CapEx. I believe at the beginning of the year you were talking about 4 billion Argentinian peso CapEx for the year? The amount that you continued to believe you will be investing? Thank you.

Franco Bertone

In terms of commercial expense we are seeing the best indicator for it is the term that’s our acquisition and retention cost, has taken between second where we are particularly high, second quarter, where we are particularly high and third quarter. Basically, I think there is a room for us to capitalize and leverage on the good progress we made as in terms of market shares, and we took in fact the result we have from possibilities that, I think that the height of that is behind us and we will be delivering consistent saving with respect to be within that, in that respect.

As far as the capital level of 4 billion, we are experiencing some delays, they are not major, some of them are due to certain delays and problems that some of our suppliers has in 2014 good and equipment from overseas. This issue has been addressed and resolved, but we generated a couple of months delays in the implementation of our certain major projects that account for the total of 4 billion.

So we will definitely invest the 4 billion. We were not reducing any manner the level of investments, we’ll probably take an extra days, month or two past 31, December to complete the project that we are scheduled to be completed within December because of the 2014 hiccups that we have particularly said have been resolved.

Rodrigo Villanueva – Merrill Lynch

Okay. Thank you very much. So just a follow up, so we expect margins in the fourth quarter to increase slightly as a result of potentially lower or lower commercial expenses? Thank you.

Franco Bertone

If you can expect better margin in the last year, the full quarter, last year, I mean the full quarter was the beginning of the MNP preparation and investment in pressuring calls, a year is over. We got to do the results in that with respect and we feel free, I mean a release of higher margin in the full quarter because of that.

Rodrigo Villanueva – Merrill Lynch

Understood. Thank you very much.

Franco Bertone

Thank you.

Operator

And there are no questions remaining at this time.

Franco Bertone

Well, thank you very much, and there is no extra question for us. I mean we remain obviously available to reply to our enquiry through to our Investor Relation department, and thank you very much for being with us today and talk to you soon. Thank you.

Operator

That does conclude today’s conference. Thank you for your participation.

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