Frontier Communications Management Discusses Q3 2012 Results - Earnings Call Transcript

| About: Frontier Communications (FTR)

Frontier Communications (NYSE:FTR)

Q3 2012 Earnings Call

November 06, 2012 9:00 am ET


Gregory H. Lundberg - Vice President of Investor Relations and Assistant Treasurer

Mary Agnes Wilderotter - Chairman and Chief Executive Officer

Daniel J. McCarthy - President, Chief Operating Officer and Chief Operating Officer - Electric Lightwave

Donald R. Shassian - Chief Financial Officer and Executive Vice President


Batya Levi - UBS Investment Bank, Research Division

Philip Cusick - JP Morgan Chase & Co, Research Division

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Simon Flannery - Morgan Stanley, Research Division

Michael McCormack - Nomura Securities Co. Ltd., Research Division

Scott Goldman - Goldman Sachs Group Inc., Research Division

David W. Barden - BofA Merrill Lynch, Research Division

Kevin Smithen - Macquarie Research


Good day, and welcome to the Frontier Communications Third Quarter 2012 Earnings Results Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Mr. Gregory Lundberg. Please go ahead, sir.

Gregory H. Lundberg

Thank you, Roxanne. Good morning, everyone. The purpose of this call is to discuss the 2012 third quarter results for Frontier Communications. The press release, earnings presentation and other materials are available in the Investor Relations section of our website,

On today's call are Maggie Wilderotter, Chairman and Chief Executive Officer; Dan McCarthy, President, Chief Operating Officer; and Don Shassian, Chief Financial Officer.

During this call, we'll be making certain forward-looking statements. Please review the Safe Harbor language found in our press release and SEC filings. On this call, we'll also be discussing GAAP and non-GAAP financial measures as defined under SEC rules. The reconciliation between GAAP and non-GAAP is provided in our earnings release. Please refer to this material during our discussion.

I'll now turn the call over to Maggie.

Mary Agnes Wilderotter

Thanks, Greg, and good morning, everyone. I'd like to begin today with an overview of 5 key tenets of Frontier's strategy before handing the call over to our President and Chief Operating Officer, Dan McCarthy.

As you can see on Slide 5, our top priority is growing revenues. In the third quarter of 2012, Frontier's total revenues declined only 3% year-over-year, which is the best quarterly result since the July 2010 acquisition. There are several factors contributing to this very solid result.

Our analysis of the acquired subscribers subsequent to the billing conversions had identified situations where our services were not being billed correctly. We eliminated unnecessary credits, adjustments and discounts.

Frontier introduced new all-in nationwide price plans that gives customers more value, billing, predictability and importantly, no surprises. We continue to focus on selling add-on services to the existing base to raise revenue per customer. I'll talk about several of these new products in a moment.

And finally, we are constantly pushing for new customers in both residential and commercial. In commercial, for example, we just launched a small business hunter program to drive win-backs and improve market share.

Slide 6 shows our focus on keeping customers. In the third quarter of 2012, our residential and commercial customer metrics were, like our revenues for the quarter, the best since the July 2010 acquisition. These improved customer metrics were primarily driven by the following: On the front line of the customer experience is improvement in customer service representative proficiency, resulting from more time spent on Frontier's system since conversion; every day, our reps get more comfortable with navigating our software programs and are able to help customers more effectively and efficiently; customers are satisfied with our vastly improved network. As Dan will discuss in detail, we have significantly increased our speeds and capacity for residential and business customers during the quarter.

In addition to core broadband service, we are also improving our product portfolio to close any competitive gap. On the commercial side, this includes our expanded customer premise equipment, or CPE, and voice services. On the residential side, it's Simply Broadband, Frontier Secure and satellite broadband.

Serving customers in a timely way helps retention, and we have implemented a new broadband diagnostic tool, which helps improve meeting our service commitments out in the field.

Another key aspect of our strategy is to lead with broadband, as seen on Slide 7. We boosted speeds in every service tier during the third quarter, and we are on track to have 20 megabits per second service available to 40% of our households by year-end 2012.

In addition to this, for our commercial customers, 71% of our exchanges will have carrier ethernet service up to 1 gigabyte per second by the end of 2012. As of the end of Q3, 64% of our exchanges have VDSL2 with speeds up to 40 MB, and 73% have equipment capable of bonded ADSL2+ with speeds up to 20 MB.

This should help dispel the myth that DSL technology cannot keep up with customer demand. We're seeing 100 megabits per second delivery in vendor labs, that should be a reality in the next 12 months in our markets.

Beyond just increasing speeds, we've redesigned pricing to give value to customers with higher, more predictable revenue to Frontier. In the first 90 days of our residential custom value pricing, which was introduced in mid-July, we migrated 8.3% of our total broadband customers onto new plans with all-in pricing, that includes modems and gives $5 to $15 bundle discounts.

In small business, we launched similar pricing in October to increase the adoption of our broadband and voice services. In areas that are unserved by broadband today, on October 1, we began selling and installing satellite-delivered broadband up to 15 megabits per second to our Hughes partnership. We branded the product as Frontier Broadband, and Frontier is responsible for marketing, installing, billing, bundling and servicing this product for our customers. In the first 4 weeks, we closed 3,000 sales and completed over 800 installs.

To push broadband further into our territories, we began deploying the FCC Connect America Fund proceeds during the quarter and look forward to ultimately bringing broadband to 92,877 new Frontier homes.

Slide 8 highlights new product rollouts that leverage our underlying network and help increase our monthly recurring revenue. Simply Broadband is our new stand-alone broadband product without an access line. It is selling very well, and early indications point to a strong fourth quarter, too.

Hughes Net Satellite service, as I mentioned, was successfully integrated into Frontier's systems and is an exciting new service component for customers who have not had access to broadband before and cannot get our wireline broadband service yet. We have a target list of over 750,000 households for this product set, and we expect that opportunity set to expand.

Our VoIP and broadband product for small businesses, called Tandem, is rolled out now in 12 states. It's a competitive win-back product priced at more than 25% below competition. Our new sales hunters will lead with Tandem in all of our targeted markets.

CPE continues to sell well in educational institutions, E911 systems, hospitals and businesses of all sizes. Our CPE revenues were up 9% sequentially to $9 million during Q3.

Another key product is Frontier Secure identity theft protection. The basic package is $9.99 a month, but we're seeing 36% of our sales with identity theft protection bundled with the 3 other Frontier Secure services, PC security, cloud-based backup and premium technical support. This package provides an incremental revenue lift per customer of $26.50 a month.

Our wireless trial with AT&T began on October 8. We're very excited about this product's ability to open new market segments, and most importantly, it is only being sold in a bundle that requires a Frontier broadband connection. We're trialing the mobility product offer in 2 states: Washington and Minnesota.

Another product is Frontier Energy, a green energy trial in 2 states that will commence in mid-November. This is primarily sold through a web-based channel with our partner Crius, which complements our communication services in the home. The value to our customers is that they can receive discounts from their current utility provider without changing billing or providers.

As you can see, we are very focused on growing revenues, keeping customers and leading with broadband.

We also remain extremely focused on process simplification and expense reduction, as discussed on Slide 9. We are well underway in customer product migration, bringing acquired subscribers onto the custom value bundled product suite. All key contracts with suppliers, network providers and IT vendors are being renegotiated as they come due, leveraging our larger scale and more competitive marketplace.

We hired a new CIO, Steve Gabel, [ph] who's began yesterday and will use his skills to further improve our customer-focused IT strategy. Our previous CIO, Tim Travaille, is our new SVP of Process Reengineering, to help us simplify our business processes and enable us to be even more customer focused now that we are on one set of systems.

We believe there are many opportunities to further reduce costs and improve the customer experience over the next several years, and we expect both of these leaders to be instrumental in making that happen. We're working hard on planning throughout the entire organization for the delivery of our $100 million goal for expense savings in 2013.

To achieve this, we continue to enhance the business intelligence tools available on the local market level, so managers have better visibility over their P&L, their customers and our products.

In summary, as shown on Slide 10, our third quarter 2012 results demonstrate significant top line improvement from a year ago and bring Frontier toward our stated financial goal of low single-digit revenue declines. Underlying all of this is the customer, and this was the best quarter for revenue and customer metrics, both residential and business, since closing. Overall, your company continues to focus on revenue improvement, broadband, keeping customers and simplifying how we do business.

Sometimes, there are things we can't control, like Hurricane Sandy. But as a company, our employee response can make a difference and get us back on track quickly. I personally want to thank all of our frontline employees and engineering resources for working around the clock, once again, to keep our customers in service or restore service as soon as possible. Dan will discuss Sandy's impacts, but please know, we do not believe that our fourth quarter results will reflect material storm costs. We're still sizing these costs, but the impact of Sandy was nowhere near the magnitude of the summer storms.

Last but not least, mid-October marks the start of an exciting nationwide promotion with Apple. For residential or small-business customers, Frontier is offering Apple gift cards from $100 to $500 for new and existing customers who take a double or triple play. This promotion is attractive for customers because it lets them get discounts on products that can enhance their personal and professional lives, while using Frontier's broadband network.

We have had success over the years in offering aspirational gift promotions, which yields an attractive payback through increased net adds and improved retention. We expect this promotion to be a big contributor to improved broadband results in the fourth quarter and first quarter of 2013.

I'll now hand the call over to Dan McCarthy to give you a network update, as well as some operational trends. Dan?

Daniel J. McCarthy

Thanks, Maggie. As many of you know, we have invested heavily in our networks over the past 3 years. The foundational work in improved basic service, broadband expansion and middle-mile upgrade has set the table for exponential improvements in speed and capacity.

Slide 11 shows our network enhancement plans as of September 30, 2012, through the remainder of this year and our plans for 2013.

During the quarter, we made the biggest strides in 12 MB service, where our covered homes increased 45% and now reaches 48% of our footprint. The 12 MB service is planned to increase to 51% by year end and 60% by 2013.

Our 6 MB service also increased nicely with covered homes expanding 18% to now reach 67% of our footprint. We expect to reach 74% by year end and 80% by 2013.

Our 20 MB service also increased by 21% to reach 34% of our footprint. We expect to reach 40% by year end and 52% by 2013.

We're also expanding our new VoIP capabilities for business and are continuing to invest in ethernet switching, which covers 71% of these changes, with speeds up to 1 gigabit.

I'd like to remind you that these large speed improvements are all within our capital expenditure guidance. We're able to get this done now because of our system conversions earlier this year, as well as the significant middle-mile investment we've made since closing the acquisition.

Our successful system conversions also continue to positively impact operating results. As you can see on Slide 12, total access line loss rates for the acquired properties were 8.7% compared to our legacy business at 6.8%.

West Virginia, which converted to Frontier systems on July 1, 2010, has shown a dramatic improvement from 11.2% to 4.6%. Our introduction of Simply Broadband, which is our broadband product with no access line and commercial VoIP service, makes this metric a less relevant indicator of our business, but it still shows you how far we've come with the properties under our ownership.

Residential customer churn also continues to decline year-over-year, and the acquired properties continue to move toward legacy levels at 1.45%. Broadband availability increased slightly to 84% for the acquired properties in the third quarter, since our network focus is currently on speed improvement and less on geographic expansion.

On our 3 MB commitment to the FCC, we have met our 80% commitment levels already and see no issue in meeting our 85% commitment by the end of 2013.

I'd now like to update you on Hurricane Sandy, which is summarized on Slide 13. This super storm impacted a small number of our territories. The most impacted states were West Virginia, New York and Pennsylvania. The primary issues impacting Frontier were loss of commercial power and damage to our plant caused by falling trees. We saw almost no flooding. In fact, the areas hardest hit were low customer density areas in West Virginia, where the storm manifested itself as a heavy snow event.

Our post-storm priority has been maintenance of 911 services and restoration of service to our customers as quickly and safely as possible. Frontier communicated frequently throughout its territories, both through the media and its local employees. We deployed many portable generators and our employees worked, and are working around the clock. We know how essential our services are for our customers and we are nearly back to normal.

When our recovery work is completed, we will communicate a total cost impact to you. At this stage, however, our initial assessment is that Sandy was substantially less damaging to our network than the storms we had in June and July.

For example, our most impacted state, West Virginia, had only 22 central offices with commercial power loss from Sandy compared to 122 in the storms last quarter. Consequently, we are not expecting to have significant incremental restoration cost for the storm.

I'll now hand the call over to Don Shassian, Frontier's Chief Financial Officer.

Donald R. Shassian

Thank you, Dan, and thanks, everyone, for joining our call on such a busy earnings day. I'd like to mention 4 items that occurred in the third quarter of 2012. First, $7.8 million reversal of uncertain tax positions; $6.8 million in severance costs; $4.5 million in integration expenses; and $200,000 in losses on the early extinguishment of debt. Adjusting for the after-tax impact of these 4 items, our third quarter non-GAAP adjusted earnings per share is $0.07 per share.

I would also like to highlight several key takeaways from the third quarter's results. First, we had a very solid revenue quarter with good sequential customer revenues and total revenues, improved retention of residential and business customers and good growth in average revenue per customer.

Secondly, our cash operating expenses were up this past quarter. But when excluding the storm cost from last July end and the increased pension contribution, our cash operating expenses were essentially flat with the second quarter. Acquisition synergies are declining, but regular ongoing cost reductions, which are significant, start this fourth quarter.

And third, in view of the financings we did last May, August and October, combined with the successful tenders and open-market repurchases, our balance sheet is solid, with over $1.9 billion in liquidity and the wherewithal to pay down and/or refinance our maturing indebtedness for the next several years.

Please turn to Slide 14 to review some of the key metrics that drive our business. As Maggie mentioned, one of our strategies is that we manage this business by attracting and retaining customers and by selling more products to our customers that meet their needs, both personally and professionally. It is a price times quantity exercise that we focus on.

Customers are the center of what we do and are the measurement critical to our success. Access lines are not a relevant measure any longer for our business, as we are now selling significantly increased volumes of both residential and business products that are not counted as access lines.

I highlight this because, going forward, our customer metrics of average revenue per customer and total customers served should be the metric you focus on to measure the success of our business.

If you look at the upper left-hand chart on Page 14, showing the year-over-year growth in total customers, both residential and business, you will see that our 7.7% loss is not only smaller than our access line loss, but it's been a consistent, significantly improving trend over the past 4 quarters.

Total access line losses of 8% in the quarter were slightly higher than Q2, reflecting the successful introduction of Simply Broadband during Q3, which is sold without an access line. Broadband net subscribers grew approximately 1,000 during the quarter. Within this number, we saw very strong growth from Simply Broadband, offset by churn in other categories. We did not have meaningful promotions in the market, and our experience has shown us that promotions drive unit results.

Our national Apple promotion that Maggie mentioned, which is currently in our markets, coupled with our recent attractive speed increases that Dan discussed, are expected to positively impact our Q4 broadband results.

Lastly, video net adds of 23,200 were a decent improvement from the second quarter, largely on the attractiveness of our DISH product. DISH continues to sell well on price, content and features like Hopper. Please note that we do not sell stand-alone video and therefore, do not count customers based on video additions. And note that we selected DISH as the satellite provider for Frontier back in August of 2011.

During the third quarter, we unbundled over 203,000 DIRECTV customers from our bill. The financial impact resulting from the discontinuance of billing for the DIRECTV product is immaterial. The impact on churn to date has been negligible, and we continue to monitor and reach out to these customers proactively.

Slide 15 shows our revenue composition. Total revenues fell $6 million sequentially and a 3% decline from Q3 of 2011, again, our best results since closing. The largest component of the decline remain voice revenues, which were down less than 1% sequentially, aided by the inter-carrier compensation reform implementation, while data and internet revenues grew 1% -- 1.4%, excuse me, primarily due to lower promotional credits and carrier discounts. Other revenues were down slightly on lower FiOS revenues and lower satellite acquisition fees, offset by favorable uncollectibles.

Regulatory revenue was down 4.7% sequentially. As we disclosed early in the quarter in 8-K filing, inter-carrier compensation reform lowered our switched access revenues, but increased our voice revenues to higher subscriber line charges to residential and commercial customers.

Total customer revenue was flat sequentially and only down 2.7% compared to Q3 2011. Segmenting it, you can see that residential revenue declines were our lowest since closing and were offset by comparable business revenue gains of $4 million.

Business remains 52% of our customer revenues. And we expect our key commercial products, coupled with our network speed increases, to drive business in broadband past the 66% of total customer revenue that they represent today.

Slide 16 provides a bit more analysis of our customer revenues. In residential, we had a good lift in average revenue per customer, or ARPC, as we call it, from increased subscriber line charges in connection with inter-carrier compensation reform, rationalized pricing and additional services.

In business, we also saw a nice lift in ARPC, which is also driven by inter-carrier compensation reform changes by better sales of more advanced products, like Metro Ethernet, and a mix shift, as a vast majority of our commercial customer losses were small-business accounts that generate a much smaller monthly revenue.

Turning to expenses on Slide 17. Consistent with our 8-K disclosure filed on September 20, we have highlighted the impact in the quarter from $15 million of storm costs and $18 million of pension funding. Excluding these 2 items, expenses were flat at $638 million. In Q4 2012, as Maggie and Dan discussed, we do not expect to incur substantial costs related to Hurricane Sandy.

Our synergy update is on Slide 18. The $2 million we recognized in the quarter brings our total annualized rate to $648 million. These savings are primarily the result of continued cost savings from our integration project list. We expect the remaining synergies to be realized in Q4 to come from real estate consolidation.

When we hit our $650 million synergy target, which is well in excess of our original $500 million goal, we will no longer be reporting synergies. Rather, we'll report on all of our cost savings initiatives, which are part of our plan to remove $100 million of cost from the business in 2013. We believe there are still ample opportunities to reduce wage and non-wage costs throughout the company. We are presently finalizing our plans for those reductions, and we'll look to share those plans with our stakeholders in December.

Capital expenditures on Slide 19 are trending down, at 13.5% of revenues for the trailing 12 months as of September 30. While we saw a seasonal increase in Q3 and we expanded broadband to an additional 44,000 homes in the acquired properties, we are focusing more on speed enhancements, which are less capital intensive than geographic expansion. This falling capital intensity, coupled with improved operational trends, lets Frontier maintain a very heavy -- healthy level of free cash flow, as seen on Slide 20.

Not only does our trailing free cash flow exceed our dividends by $713 million, our acquisition and integration expenses are going away in 2013, narrowing the gap between our definition of free cash flow, one that many of you use.

We expect to use this free cash flow of cash on hand to reduce our level of indebtedness, which you can see on Slide 21. Our leverage is essentially flat at 3.16x, and our goal is to get this down to 2.5x. We plan to get there through both EBITDA improvement and debt reduction.

Our quarterly cash generation capability, combined with existing cash and cash equivalents on the balance sheet of $1.2 billion, plus an undrawn $750 million revolving credit facility, gives us great comfort in dealing with our upcoming maturities and in our ability to delever.

Slide 22 illustrates our upcoming maturity schedule as of October 1. Subsequent to the end of the quarter, we issued an additional $250 million tack-on offering to our 7 1/8% notes due 2023. We also purchased $76 million of our 2015 notes and $59 million of our 2017 notes. We will continue to address near-term maturities on a timely manner and opportunistically address our medium-term amortization schedule.

Our 2012 guidance is shown on Slide 23, and there are 3 changes I'd like to highlight. First, our 2012 cash tax guidance is now $15 million, a $10 million reduction, reflecting our 2011 tax filing in September. Our 2012 integration CapEx guidance is now $50 million, a $10 million increase for our call center telephony platform and for real estate expenditures related to our facilities rationalization.

We have tightened our capital expenditures range to $750 million to $775 million. All other items were unchanged, including free cash flow, in a range of $900 million to $1 billion. As I mentioned earlier, we expect the reduction on our range of 2013 capital expenditures to be between $625 million and $675 million.

Lastly, I'd like to point out 3 matters for your consideration relative to our fourth quarter. First, the storm costs that negatively impacted our Q3 results should not repeat themselves in the fourth quarter, and our estimated storm costs for Hurricane Sandy are not expected to be substantial.

Secondly, our pension contribution in the fourth quarter is $10 million, which is $8 million less than we contributed in the third quarter.

And third, we will incur higher costs for Apple gifting program that is currently underway.

In summary, Frontier's Q3 top line results demonstrate the thesis of our acquisition just over 2 years ago. Network improvements, local engagement and product realization are beginning to bend our revenues in the right direction.

On the cost side, we have exceeded our original synergy guidance by $150 million, but we are not done. There's still significant organic cost cutting we will focus on in 2013. Our capital intensity is declining and our free cash flow generation is solid. We are looking forward to the fourth quarter network enhancements and promotions and to speaking to you about these results in February.

With that, let me pass the call back to Roxanne to open the call up to questions.

Question-and-Answer Session


[Operator Instructions] We'll take our first question from Batya Levi with UBS.

Batya Levi - UBS Investment Bank, Research Division

Two questions, if I could. You continue to show steady improvements in revenue decline and you actually reached your target you had announced when you bought Verizon line. How do you think about revenue trends going forward? Can we assume that we'll see decelerating declines from here on? And maybe another question on the broadband. Can you provide a bit more color on the competitive environment? Adds were lower and they really did not bounce back from the seasonally weak second quarter, even though you now have naked DSL and you continue to expand your broadband footprint. Can you talk about what you have been seeing in October with the Apple promotion? And maybe if you could also give us an idea on how should we think about that promotion and how much that would cost in the fourth quarter.

Mary Agnes Wilderotter

Batya, it's Maggie. I'll start. I know Don will jump in on some of this as well and same with Dan. But I think as we've been talking about, we've been very focused on growing the top line, of really making sure that the revenue trends that you've been seeing over the last couple quarters continue. We have always said we wanted to be in the low single-digit revenue decline, and we are pushing to even make improvements to that. So I feel very good that we're on the right trajectory from a revenue perspective, and there is more opportunity for us there. And you're going to see us continue to drive that, especially with a lot of these new products and services that we put out into the marketplace. With regard to the competitive environment, we have really not seen any material changes in the competitive environment. Our churn has remained steady over the last several quarters. We haven't seen an uptick in losing customers to the competition. I believe the new custom value pricing we rolled out, both for residential and for business, put us in a better competitive position against the cable operators in our marketplaces. So I think we have the right tools at our disposal. And the last thing that I'll mention is on the Simply Broadband product. In the past, up until this last quarter, we sold a Simply Broadband product, but it included a free access line. So if you looked at the numbers for us in the third quarter for Simply Broadband and if you added a free access line, the net access line losses would have been around 85,000 to 90,000 for the quarter. So we actually would have seen continued improvement, but we made a conscious decision as a company because our customers expect to buy broadband on a stand-alone basis, to not provide a free access line just because we could do that. So I think that change in the mix gives you a sense that our access line losses have not accelerated, and we watch that very carefully. But I think, as Don mentioned and I mentioned in my script, we have to get away from focusing on access lines because they're really not a good measure for our business. We are moving many customers away from access lines, both residential and business, especially with the rollout of VoIP products and big data products. So we're not focused on that. We're really focused on customer accounts and average revenue per customer.

Donald R. Shassian

And on the broadband side, Batya, the -- we did not have promotions in the quarter. We do have one that we kicked in, in middle of October that Maggie mentioned, which we're very excited about. And I think in the quarter, we really wanted to make sure that our customer-care consultants continue to become more experienced with greater expertise in our systems to be able to service our customers every which way they want, to enable them to be in a position to be able to deal with the promotion like the one we have out there. So the quarter is sort of seasonally a little bit weaker. But we really wanted to wait to our reps, we're ready to be able to handle something like this promotion, and we're excited. It's too early to give you any perspective on the Apple promotion. Our DMs and our advertising has just dropped just within past couple of weeks. But we're very optimistic and obviously, more to come. And hopefully, we've got other venues to be able to talk to our stakeholders in the next several weeks. Maybe we'll be able to share some of that at some of the other venues.

Mary Agnes Wilderotter

Yes. The only thing I would add on the Apple promotion, Batya, is we are really doing the major drops in either DMs to the home or major advertising starting next week. We felt with the presidential election and all the elections going on, there's just so much noise in the system right now. We didn't want this to get lost in the shuffle. So we think -- we only started the promotion the 15th of October, kind of soft launch. You're going to see the real push in our Frontier markets starting around the 10th to the 15th of this month.


We'll go next to Phil Cusick with JPMorgan.

Philip Cusick - JP Morgan Chase & Co, Research Division

I'm thinking about the access line stuff, and I know that you want to get away from this. But is there a possibility, a sort of shifting, as you said, churn hasn't picked up. Gross adds seems to be down, really because you're not giving it away. But is there any future sort of impact in trajectory? Or you think this is just what we should look for long term?

Donald R. Shassian

Phil, sorry, I'm not sure -- the trajectory. Are you focusing on access lines? Or...

Philip Cusick - JP Morgan Chase & Co, Research Division

Yes, just sort of getting -- finishing up with access lines, first.

Donald R. Shassian

So first, we introduced disclosure of customers several years ago because it really is, as I said, a P times Q exercise. And there are a number of products that we sell and now even more so that are not counted as access lines, but we're keeping a customer or growing customers. We've been pretty disciplined about what we call an access line. So selling Simply Broadband, which is a broadband without an access line, is a great customer with a very good ARPC, with very good retention, we believe, but it doesn't add to access lines. On the commercial side, for years, you sell DS1s and DS3s, and you're not counting access lines, but you've got them as a very good customer. So we're selling more and more and more, commercially, even Metro Ethernet. We're selling more and more of these products, and it's making the access line metric no longer really relevant as a surrogate for growth of the business. And therefore, we would encourage folks -- we sell to customers. We service customers. We deal with people. We don't deal with "an access line." And I know it's sort of heresy, because that's been a measurement used in the industry for years and years and years. But it's not a relevant measure for this industry any longer. We do disclose customers. That is what's important. That is who pays the bill. That's who we service. That's who we deal with day in, day out.

Mary Agnes Wilderotter

And Phil, if you think about it, if we lose an access line customer, the full customer, you see that in the total residential or total business customers that we're going to continue to report on a quarterly basis. So while the trends are, is access lines continue to go down? Yes, they will. And we're going to continue to drive customers away from access lines to other products and services. Our new VoIP products for small business is going accelerate that, which we call Tandem. We have a VoIP product for residential customers that we're going to be launching in 2013. And we don't believe it's the right measure of success in the business. You got to look at revenue and you got to look at total customers.

Donald R. Shassian

And I would encourage you to look at the trends of absolute residential customer losses over the past 8 quarters and the average revenue per customer for both residential, commercial, and you'll see that we're improving on both of those measures, in both of those segments every quarter, and that is the P times Q.

Philip Cusick - JP Morgan Chase & Co, Research Division

I appreciate it. And I think we need -- just need to be retrained a little bit, not only on you guys, but in some other companies as well. Maybe if I can...

Donald R. Shassian

I would love our peers to be able to change as well.

Philip Cusick - JP Morgan Chase & Co, Research Division

Maybe if I can, as we sort of come to the end of the synergy commentary, you've got a much more simple business today, as you're not working on sort of creating synergies. You're not integrating billing systems anymore. How do you think about the ability to cut costs out of the business over the next year or 2, now that we're past the sort of merger integration cost cutting?

Mary Agnes Wilderotter

It's a great question, Phil. And I think it kind of gives us a clean sheet of paper that we've really looked at, how do we business today? How can we simplify how we do business on behalf of our customers? And simplification really takes a lot of costs out of what we do. I think we have huge opportunities in our call centers to simplify how we do business and how our orders are routed to our field organization, how we get installs and repairs done with the network being better. We have less repeats and less truck rolls. So there's a whole host of things that we have opportunity to improve what we do and how we do it. And we feel very comfortable with the line of sight to $100 million in reduced costs for 2013, and we call that business as usual.

Donald R. Shassian

And just to add also, recall, we did the transaction, we didn't choose systems that were the best of this, the best of that. We moved everything onto our platform of systems and our processes, and we've done that. And now the next step is really trying to make our processes and systems better, invest in our systems, invest in our processes and improve them, which we really haven't done the past several years, to make them best in class. And as Maggie mentioned, there's a lot of ways to eliminate redundancies, simplify some things across the board, everywhere throughout this business.

Daniel J. McCarthy

And I would just say, Phil, that we've been working pretty hard on identifying all those opportunities now that the conversion is in the rearview mirror, so to speak. It's a chance to apply technology to some of those processes that Maggie and Don talked about and really gain efficiencies in almost all phases of the business. So we're very bullish about those opportunities for 2013.


We'll go next to Frank Louthan with Raymond James.

Frank G. Louthan - Raymond James & Associates, Inc., Research Division

Can you give us an idea of how much you've been able to raise the subscriber line charge or other price increases that have been allowed recently? And can you give us an update on your leverage goal and when you would expect to hit that metric?

Donald R. Shassian

Frank, the amounts in the quarter, there were -- we increased subscriber line charges to residential and business customers, is about $7 million. It equates to, on an average revenue per customer, it's about $0.36 on the residential side and a little over $4 on the commercial side. We did it strategically in the right places. Didn't go to all customers, went to certain customers based on what we felt was appropriate, given the competitive landscape.

Mary Agnes Wilderotter

And leverage?

Donald R. Shassian

Leverage, we still are looking to get to 2.5x. We said we think we're going to be there by the end of 2014. That is through growing EBITDA and using the free cash flow -- residual free cash flow generation coming out of the business to be able to get there by the end of '14.


We'll go next to Simon Flannery with Morgan Stanley.

Simon Flannery - Morgan Stanley, Research Division

I have questions for Dan. I wanted to talk about the broadband product, if I could. You gave a good update on where you are in terms of rolling out higher-speed products. Given some of the new technologies, do you think you can take this 20 MB product to that 70%, 80% of your base over the next couple of years and get 20 MB to say 40 MB or whatever and even maybe open up the opportunity to do IPTV or something like that? And then when you bring these new products to the marketplace, what sort of results can you share with us about what's that doing to your market share and what that's doing in terms of revenues, in terms of up-selling your existing customers to those higher speeds? So it's great to get those speeds, are they actually -- do you have hard evidence of how much of a difference it's making?

Daniel J. McCarthy

Yes, Simon, first on the footprint. We, as I pointed out, we plan on rolling out that 20 MB really to the numbers that were highlighted in the beginning of the presentation. Once we get past that level, we'll look at selective additional rollouts that really use fiber to improve transport to other locations. And that will be part of the normal course of business. And each one of our markets prioritizes those based on the business opportunities that they see in their market. So there's no hard plans to go much further than that, that initial rollout after 2013, but we'll be selectively rolling it out after that. And as far as the take rate currently, we're seeing good take rate on our standard product sets. I'd say they came in late in the quarter and became widely available at that point. I think we're going to see the bigger take rate and the bigger impact, coupled with the Apple promotion. And that was really our plan. We were really focused on improving the speeds in the third quarter, really focusing all of our efforts on the promotional activities on Q4 because we knew we were going to be really pushing for the Apple promotion.

Mary Agnes Wilderotter

Yes. Simon, just to add on to what Dan said, we have launched with custom value pricing for our residential customers and Ultra and Ultimate data tier package that takes advantage of these new speeds and enhancements. And we're segmenting out the customers that are in those areas and offering that product and service to those customers. We've had very strong take on that, as Dan said. That's a big driver that we're doing with our existing customers, to up-sell them, and the Apple promotion helps make that happen. And same on the business side, we've actually enhanced speeds and capacity there, too. Again, we're segmenting it. And we're really going after win-backs, especially for small and medium businesses in the acquired market area. Last but not least, we do think that we have the opportunity to offer an IPTV-type service in many of our markets, to many of our customers. We also, our -- in our labs, we're doing some experimentation on the DSL platform with certain types of technologies that compress the data stream, so we could actually offer a very good video experience at 6 MB or above. And we feel good about that. We'll be doing some experimentation with that in 2013.

Simon Flannery - Morgan Stanley, Research Division

Okay. But no commercial rollout next year?

Mary Agnes Wilderotter

We don't know. It depends on what happens when we test it out of a lab and see how it works actually in the marketplace, but we don't have anything planned at this point for a commercial rollout.

Simon Flannery - Morgan Stanley, Research Division

And on the Apple, are you requiring contracts with those offers?

Mary Agnes Wilderotter

Oh, yes.

Daniel J. McCarthy

We are, Simon. The contract is a 2-year Price Protection Plan.


We'll go next to Mike McCormack with Nomura Securities.

Michael McCormack - Nomura Securities Co. Ltd., Research Division

Maybe you could just make a quick comment on the small business environment. Don, I think you said you're losing some share at the lower end of the marketplace. I assume that's cable competition. But if you could just maybe bifurcate that between cable competition or economic concerns. And then just from a financial perspective, as we look into '14, one of your cable competitors is indicating that pension expense will be much, much worse in -- I'm sorry, '13 versus '14 -- '13 versus '12 rather. And you're saying it's better in Q4 versus Q3. And I don't want make you put out guidance for 2013, but will that get markedly better or markedly worse? If you can comment. And then lastly, on capital spending, seeing, obviously, integration capital coming down as you go into 2013, what are the other puts and takes to have CapEx coming down into next year?

Daniel J. McCarthy

Mike, this is Dan. I'll start off on the small business front. I would say that the losses are primarily to cable competitors. Although selectively around the country, we still see pockets of economic depression, so certain markets where you might have a plant or a factory shut down, it has a ripple effect on the small businesses, and you'll see an uptick in customer closures and loss of customer that way. But primarily, it would be to cable at the lower end.

Donald R. Shassian

On the pension question, Mike, for 2012, our pension -- contributions will be, in total, approximately $30 million. It was about $20 million in Q3 and $10 million in Q4. The estimate that we perceive in 2013, we really haven't made public. It's going to be a little bit higher than that, but it's not a huge number. It's still going to be -- it's what -- between $50 million and $100 million. I think probably towards the lower end of that. It's not up north of that. Now that's still going to be finalized. We still have a pretty good perspective. We're trying to tighten some things down. So a slight increase, but not astronomical. And on the CapEx side, the trade-offs are, I think we've made a lot of investments since we closed the transaction. We've made commitments to our customers, to all of our stakeholders to improve this network and to expand broadband and improve the speeds. We made a ton of investment to make that happen in 2010, 2011 and 2012. We're now sort of shifting to really finish the expansion in our reach to the homes and businesses. We're really focused on the speed enhancements. And that all those investments are enabling us to do those speed enhancements at a much lower cost, if you will, on a per home basis. And so the lower CapEx is really just enabling us to leverage what we have already got invested. We still evaluate opportunities, commercial opportunities and new business opportunities, to come in. We evaluate on a case-by-case basis. If it's got a good return on capital, we go after those. We prioritize what is a better investment versus others. But I don't think there's any major giveaway right now. We're certainly trying to manage in a certain perspective, but we manage as if we -- it's our money and investing it as wisely as possible.

Michael McCormack - Nomura Securities Co. Ltd., Research Division

And Don, obviously, '13 is another decent investment year for broadband. But what do you view sort of a longer-term CapEx to revenue ratio that makes sense for the company?

Donald R. Shassian

I think 10% to 11% is an appropriate level of investment based on what we've been able to accomplish to date. There certainly could be bumps in one year. It could be a little higher, could be a little bit lower, but we sort of believe in that range is appropriate.

Mary Agnes Wilderotter

Yes. Our goal is to get to that 10% level, Mike. That's really what our goal has been. And we knew we had to invest and spend over these last several years to get the networks in shape. And '13 is a good example. We want to maximize what we've already invested in.


We'll go next to Scott Goldman with Goldman Sachs.

Scott Goldman - Goldman Sachs Group Inc., Research Division

I guess, Don, I wanted to talk a little bit about the average revenue per customer. You gave some detail in the prepared remarks, which is helpful. But it seems to me there's a number of moving parts there. You highlighted the SLC, perhaps there's some benefits from elimination of credit adjustments. Customer value pricing may have played a role, either on a positive or I don't know if you guys saw any negative impact there. But also, price increases that you may be rolling out across part of the base. So wondered if you could just help us think about the different components to the improvements you're seeing in the average revenue per customer and how sustainable you think those are.

Donald R. Shassian

On the residential side, Scott, the increase in ARPC sequentially was $0.53. $0.36 of that was increased subscriber line charge. So the other $0.17 is really coming from a variety of items. It is from really trying to continue to sell more, and it's rationalizing the pricing. We've got a number of customers we've said that we've had that have been with us at a very, very, very low price point. They've been on promotions. They've been in existence for years and never got curtailed. And once we converted onto our systems, we identify those. And so there is a rationalized pricing and product set that's going on to enable us to continue to increase that average revenue per customer. We do believe that will continue, and we do believe it will also continue to accelerate as we have good success and continue to sell more product to more customers. The Apple promotion and other activities in residential side should not only help the ARPC, but will also have the other rationalized pricing I mentioned as well. On the commercial side, the increase on the average revenue per customer commercial is $16.63, a little over $4 is due to the subscriber line charge. The balance there, it's due to selling more products, moving customers onto more bandwidth. It's eliminating discounts that existed. And I do think that we're going to continue to see continued improvement there. We think there's more opportunity. I don't think it's going to have that kind of a pop again on the next quarter, but I am expecting to see commercial, like residential, to continue to have nice, steady growth.

Scott Goldman - Goldman Sachs Group Inc., Research Division

Great. And then just a second question on, going back to broadband for a second. It sounds like you're having good success on the Simply Broadband side of things. You did mention in the prepared remarks that, that was partially offset by some churn you saw from some other categories within broadband. I wondered if you could just expand a little bit about that.

Donald R. Shassian

It's simply, customers moving out of a other broadband experience with us, could be in different tiers. And they've moved into -- moving into a basic broadband. We're having a little bit of a displacement of customers that have either a stand-alone broadband, broadband with a very, very low price line, or a broadband with full voice capabilities, and maybe they've dropped the voice capabilities and moved over. So we're seeing some migration. We're trying to manage that, be conscious of that. But we're trying to be respectful and be opportunistic in meeting our customers' needs of what they need both personally and professionally. So it's moving out of certain products and bundles into Simply Broadband. It's a good option for some people. And if they want to make that move, we're certainly going to encourage that, because we, therefore, can retain them.


We'll go next to David Barden with Bank of America Merrill Lynch.

David W. Barden - BofA Merrill Lynch, Research Division

So Don, I think as you just laid out, the revenue growth has definitely been -- has benefited from the SLC charge increases and some of the promotional reversals. I guess philosophically, should we be thinking about the Apple promotion that's going to be coming up in 4Q and 1Q as kind of the reinvestment of those kind of windfall benefits on pricing back into the business to try to restimulate some growth in the metrics? And then second, on that, historically, we've talked about the various promotions over the years. You've kind of looked at kind of a $10 million number being the promotional dollar number that you targeted, usually in the fourth and the first quarter. Is that a good sizing for kind of how you're thinking about the magnitude of this promotion? It would be helpful.

Donald R. Shassian

I'll start on the -- I think we have spent a lot of time in successfully integrating our people, systems and processes and to get this really working as one company, really focused on the customer. And we've got a position where we're ready to do some promotions. And in this industry, you need to spend to get. And so we are increasing in investment with this incentive, increasing our marketing as well to sort of make this move. It's starting in middle of October, not the beginning of October and not in September. Whenever we've done these promotions, it takes a little while to take hold. So like a heavy flywheel is my analogy, it takes a little while to get it moving, but once it gets going, it really moves. And so yes, I think we're investing back in this business. We want to get the market moving. We want to grow. We want to be able to provide incentives. We got a very good network that's improving day in, day out. Customer service is better than our competitors. And so yes, you can look at it as investment, and we'll do periodic investments to really stimulate the marketplace. In terms of a dollar perspective, it has been, in prior times we've done these gifting programs, it's been approximately $10 million a quarter. But however, as I mentioned -- as Maggie mentioned, we didn't start this until mid-October. And so -- and it's -- I don't think it will be to that magnitude. But I think that's sort of a range, but I don't think it will reach that dollar magnitude because we're sort of starting a little bit into the quarter before it's going to take hold.

Mary Agnes Wilderotter

Yes. I would also add, David, that when we look at these promotions, they are success-based. And so the amount of money that we'll actually spend will really be determined on how successful we are in growing share. We've also focused this promotion on win-backs. We're going after customers in the marketplace that have broadband but don't have it with us today. So we're not doing sort of the total air-cover approach to promotions that you would see normally with a big rollout nationwide of other people's products and services, so we are really being segmented oriented in terms of how we're positioning this to the customers. So it's really about growing market share on broadband.

David W. Barden - BofA Merrill Lynch, Research Division

And if I could just ask one quick follow-up. Historically, these promotions, I think, have been more focused, as you said, on more of a peanut butter spread satellite bundle, for instance, mostly consumer focused. This one seems a little bit more business focused. Could you talk about kind of the expectations about where that -- where we should expect to see the rewards in the numbers as a result of the promotions?

Mary Agnes Wilderotter

Well, one of the beauties of the Apple promotion is Apple has a series of products that are coveted by residential customers and business customers. So the simplification of being able to offer the same type of promotion for both the small business space as well as the residential space is -- was important for us. And if you keep in mind, a lot of our customers on the small business side are either 1 or 2 person locations or even in their home businesses. So there is a lot of appeal for this product set to that marketplace.

Daniel J. McCarthy

Yes. David, and I would just say that our target really is a double play customer. So somebody taking a voice package and a high speed, as well as a triple play. So we're looking for a nice pickup in both categories, as well as a target on the small business customers, where we've had some losses recently to cable competitor.


We'll go next to Kevin Smithen with Macquarie.

Kevin Smithen - Macquarie Research

I wonder if you could talk about the sensitivity of broadband net adds to price hikes. You had pretty nice price hikes in Q2, which benefited ARPU. I think you talked about SME price hikes in October. How do you balance the trade-off between customer acquisitions and pricing? And which of the 2 is more important to you going forward?

Mary Agnes Wilderotter

Well, Kevin, I'll start, and I know, Don, you can jump in on this, too. But the way we look at it is we don't do price hikes across the board. We look at markets. We look at the competitive environment. We look at the product sets in those markets, the protection on pricing with our Price Protection Plan. So there -- you don't necessarily see us do price increases on broadband across the board. We also believe that the price increases should be associated with increased value to the customer, too. So in some cases, it's incremental speeds and capability. In some cases, it's a bundled promotion, like we're doing on the Apple side. In some cases, it's about Frontier Secure and making sure that product set is bundled in, so the customer gets more value. So there's a lot of moving parts that we look at. We do believe that acquisition is important. We do believe that our pricing for broadband is very competitive in the marketplace. And where our cable competitors have sort of gone the opposite way of us, to start to nickel and dime the customer, with charges for modems and charges for this and charges for that as hidden fees. We've gone the other way and done all-in pricing. So when a customer gets a quote of $39.99 for broadband, it includes the modem, it includes surcharges, it includes everything. So they're not surprised when they get their bill. And we think that's a huge value selling point for our product set.

So with that, I'd like to thank everybody for joining us for this Q3 call. We appreciate you taking the time. I think, as we said over and over again, we're really pleased with the revenue lift that we've been getting and also the customer metrics for this quarter, and we plan on continuing to drive that into the fourth quarter. So we look forward to talking with all of you in February. Take care.


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

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