Alaska Communications Systems Group, Inc.
Q2 2015 Earnings Call Transcript

Published: 10 Aug 2015

[Operator:]

Good day, and welcome to the Alaska Communications Systems Second Quarter 2015 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to Leonard Steinberg, General Counsel. Please go ahead, sir.

[Leonard Steinberg:]

Good day, and welcome to the Alaska Communications second quarter 2015 conference call. I am Leonard Steinberg, General Counsel, and with me today are Anand Vadapalli, President and Chief Executive Officer; Wayne Graham, Chief Financial Officer; and Laurie Butcher, VP of Finance. During this call, we will be using a slide deck that we’d encourage everyone to have available. For those listening to this call via the webcast, the presentation will be presented on your screen. For others, you can go to our investor website, www.alsk.com, click on the Events section, go to the second quarter 2015 earnings call event, and click on the PDF version of the presentation. We will indicate which slide we are on so you can track the presentation material throughout the call. Now, as we get started, please review Slide 3 for our Safe Harbor statement. During this call, company participants will make forward-looking statements as defined under U.S. securities laws. Forward-looking statements are statements that are not historical facts and may include financial projections, estimates of shareholder returns, or other descriptions of the company's business plans, objectives, expectations, or intentions. You are cautioned not to put undue reliance on forward-looking statements as actual results could differ materially from expectations as a result of a variety of factors, many of which are outside the company's control. Additionally, any non-GAAP measurements referred to during this call have been reconciled to their nearest GAAP measure. You can find these reconciliations on our website. Following our remarks, we will open the lineup for questions. With that, I would like to turn the call over to Anand. Anand?

[Anand Vadapalli:]

Thank you, Leonard. Good morning and thank you for joining us today. Starting with Slide 5, we'll cover several themes in the call today. First, our core business is doing well, we have again reported industry leading performance in broadband while we continue to meet important milestones in our operational plan. Next we are ahead of schedule in completing our key milestones for reducing operating expenses associated with the sale of our wireless operations. Third I'll take some time to discuss our network which is foundational to our sales performance, exemplified in our extremely strong July sales results, which are indicative of the upside potential in our business. Turning to Slide 6, first and foremost our core business is doing well. One measure of this is reflected in our industry leading top line performance. We recorded total adjusted wireline revenue growth of 2.5% compared to an industry average decline of 2%. Largely fueled by broadband revenue growth of 9.4% compared to an industry average of 2.8%. I'd like to report on two elements of our operating plan both of which further are value proposition for our customers. First is the investment we've made in the North Slope acquiring fiber optic network assets from ConocoPhillips. Since we announced this transaction in May we've made excellent progress on our implementation milestones with the network now ready for traffic. Our sales team has been building its funnel in anticipation of this operational milestone and we expect we'll begin to see the results from our sales activities in the back half of this year. The ConocoPhillips anchor tenancy relationship provides us a based line return on investment on this asset. And these additional opportunities are an important mechanism to create really attractive returns on this investment. Second, in the spirit of creating the best value for our customers over the last several months we have significantly advanced our business voice strategy. Although traditional assets lines as we know them are declining overtime voice solutions are an important application for businesses. The delivery mechanisms have shifted to an Internet Protocol or IP based model. Between our SIP Trunking and Voice over internet solutions, we have the full range of voice applications available on our data network. Already we have examples of complex implementation for these solutions that position us as a reliable enterprise grade solution provider that can scale up or down based on the size and requirement of business customers. Moving on to Slide 7, I'd like to take a few minutes to discuss our network capabilities that our foundational to our sales performance. On this slide you can see at our presentation of our end-to-end network coverage in Alaska and beyond. Since our acquisition of the ConocoPhillips assets our network now runs from the North Slope of Alaska throughout the state connecting to Washington and Oregon. Turning to Slide 8. Our extensive Long Hall fiber optic network with over 14,000 route miles of submarine and terrestrial fiber is the foundation of our network capabilities. Laid on top of this is our metro fiber access network. Work we've done over the last few years including the proactive fiber-to-the-node deployment and customer contracts like the Anchorage school district have helped us deepen our fiber footprint in metro access providing us large incremental sales opportunities in our existing network. While the extent of our fiber deployment is impressive it is the electronic at the edge that provides the brains and the differentiation for our network services. We all tend to focus on speed and while that’s important in most cases reliability and security are more important to businesses. Our network certifications provide a scandisk [ph] base solution that our customers value. This leaves me to the last slide in this section Slide 9. This slide highlights some of our recent customer wins. In each of these cases our performance is a combination of our network and our service capabilities. In particular I want to highlights a few of these wins, first as we previously shared with you, we sold our wireless back hall business as part of the wireless transaction. Now as those back hall contracts are coming up for renewal we are able to win back that business. This is a great reflection on the team that suppose the customer and the quality and certification of our network. Second the carrier customer opportunity we note is an extension of the federal contract opportunity we shared with you last year. This opportunity has several phases over several years and we are very pleased to continue our relationship with both the national carrier and the federal customers into the second phase. Again reflecting the extremely strong customer relationship we tend to build. Our July sales performance is not a continuation of this team but also represent the upside potential opportunities available to us. We booked monthly recurring revenue contracts exceeding $600,000 which translates into annualized revenues of nearly $8 million. We expect to see this revenue lathering into our results starting the fourth quarter this year, providing a solid jump off point as we go into 2016. Growing top line revenue by both expanding with the market and taking share is central to our investment pieces. This performance indicates, one, the opportunities in market and our ability to see seize such opportunity; two, we have the best team, we have the best network and we have the best value proposition for our customers and three, the kind of upside that maybe available to our long term growth plan. Performance like this lends credence to our assertion that we expect our business and wholesale revenue to grow 8% to 9% annual. I’ll now hand the call to Wayne to cover financial highlights as well as provide an update on our wireless wind down activities. Wayne?

[Wayne Graham:]

Thanks, Anand. As we've been discussing this is an important quarter in that we have accomplished key milestones related to reducing our cost resulting from the wind down of our wireless business. We expect the benefit of these actions will driver higher go forward adjusted EBITDA and we want to focus our time during this call discussing how we get from our performance in Q2 to our future run rate adjusted EBITDA target. Let's start by talking about the top line as continued revenue growth is key to our future performance. As shown on Slide 11 we are pleased to report strong performance for the quarter. On the left hand of the slide you can see when normalize for the revenue reserve release recognized in Q2 2014 total service and other revenue grew 2.5% on a year-over-year basis. Business in wholesale was contributed 54.6% of total service and other revenues grew 7.7%. Consumer revenue which contributes 18.5% of our total service and other revenues decline 3.1%, reflecting general industry trends in the discontinuation of our lower bandwidth offering in favor of higher ARPU products. Other revenue which consists of high cost support and access revenues experienced normal decline. On the right hand side of the slide you can see what makes us unique, our revenue performance consistently out paces our peers and it is our intention to continue to do so for many quarters to come. While we spend time talking about year-over-year performance, it is also important to note on a sequential basis, we were very strong with revenue growth of $972,000 or 1.8%. Turning to Slide 12, you can see a deeper dive into a key area of our growth broadband revenues. We consistently performed well in this area and we posted growth at 9.4% for the quarter. As you can see on the right hand side of the slide, as with total revenue, we again continue to outpace our peers and have done so for the six quarters, we tracked the comparison. Turning to Slide 13, while top line performance is solid, we're also on a journey to reduce our operating cost as a result at a sale of our wireless business. We break cost reductions into two categories, avoided costs and synergies. Avoided costs are the direct cost that we'll no longer incur now that we have exceeded the wireless business. We began to accelerate the reduction of these costs in April, immediately following the end of our transition services agreement. While we're ahead of schedule and achieving our key milestones, it is important to reiterate that many reductions occurred toward the end of the quarter. Therefore our Q2 cost structure did not reflect the full benefit at a lower operating cost. The full benefit will be seen in next quarter. The second element of our cost reductions are the synergies, we expected to drive for being more focused broadband in IT managed services company. These reductions started earlier in the year and will continue to happen throughout 2015. We're tracking with our projections on synergies and we expect to reflect the majority of the benefit later in the year. So what does this mean for our future, as we said last quarter, we expected Q2 adjusted EBITDA performance would be our weakest quarter in 2015. But adjusted EBITDA will grow sequentially from these levels. Turning to Slide 14, we have more explicitly built a bride to illustrate adjusted EBITDA performance from Q2 to our 2015 excess run rate targets. Two dynamics are in plays; first, we expect a positive impact through continued sequential revenue performance. On a run rate basis, we expect sequential revenue growth will benefit adjusted EBITDA between $4 million and $5 million by the end of the year. Second, the finalization of the wind down activities will continue to reduce our cost structure benefitting run rate adjusted EBITDA up between $6 million and $7 million by the end of the year. Combined these two actions are expected to get us through our adjusted EBITDA run rate exceeding 2015, up $54 million to $56 million. Slide 15 summarizes our overall balance sheet and we continue to have good news. Once we achieve our run rate adjusted EBITDA target, we anticipate being one of the lowest levered companies in our industry. As expected, cash balances are strong. As you can see our target year end leverage ratio is expected to be 2.8 times and with debt being a smaller burden on our free cash flow, shareholders will benefit. Cash balances did not reflecting $9 million restricted cash balance related to an ESCROW account from AWN transaction. In the third quarter, we have received $7 million of this balance well ahead of schedule which will further benefit our cash position going forward. Turning to Slide 16, we have been providing periodic updates on the refinancing of our current senior debt facility. The process has taken us longer than we anticipated since we're working to build long-term relationships with a new set of commercial vendors. Our efforts are bearing fruit. We have secured commitments for $90 million senior loan facility and $10 million revolver. The new facility will have the benefit of lower annual amortization and an extended maturity compared to our current facility and the all in cost is expected to be comparable to what we currently pay. Slide 17 provides our guidance, and we're reaffirming our expectations for the rest of the year. With that, let me hand the call back to Anand. Anand?

[Anand Vadapalli:]

Thank you, Wayne. As we turn to our last Slide 18, let me leave you with a few important messages. Our core business is rock solid. Our strength in growing top line is not a one quarter phenomenon since the time we've started measuring peer group comparisons six quarters ago, we have consistently and significantly out based our sector in top line growth and broadband growth. Sustained performance like this occurs only when we're doing many things right inside our company and in the market. We have invested in our network. We have expanded our sales and service capabilities. We are a big proponent of continuous improvement using lean. We rigorously measure customer satisfaction with executive compensation tied to this measure. And we're heavily invested in our communities. Most importantly, we have demonstrated time and again that we know how to perform to and exceed our plan. We have consistently done what we said we will do. Our sales performance is a clear indication of the upside opportunities our team is striving to capture. Additionally, we have demonstrated our ability to drive business choices and decisions that create shareholder value. For example we flawlessly execute complex transactions like the sale of wireless operations, achieved our avoided cost targets ahead of schedule and successfully negotiated an early receipt of our ESCROW funds. When I add up all this things I know that Alaska Communications offers excellent value creation opportunities for our investors. We look forward to providing further updates on our progress at upcoming calls. Thank you for joining us today. With that let me open the call for questions. Operator.

[Operator:]

[Operator Instruction] We’ll go first to Barry Sine with Drexel Hamilton.

[Barry Sine:]

Couple of questions if you don’t mind. First of all if you could give us an update on what you're seeing in terms of the competitive environment in Alaska particularly in the core Anchorage market. I know there is a limited competition in that market. On consumer if I look sequentially we saw a little bit of dip down in broadband lines and obviously you have strong cable operator in that market, business connections increased sequentially and I think there are also in the market there. So what kind of comment can you give us generally on the competitive environment?

[Anand Vadapalli:]

So let me talk briefly about consumer and then I'll focus on business. On the consumer side the decline on connections was anticipated and as we said in our prepared remarks we have focus our efforts in consumer broadband on the higher bandwidth, higher ARPU products as we have stopped selling anything less than 10 mega bit services. And what you see is by way of connection is a result of that. Of course if you note consumer broadband revenues and ARPU both of those went up as we expected that would happen as the result of the actions we've taken. On the business side again first let me say that business connections and ARPU are not exactly how we manage the business. I know we do report it, but we typically manage the business in terms of new monthly recurring revenue that we sell every given month. And frankly on that front we have done doing very, very well. As I noted in my prepared remarks particularly when I look at our performance in July, we just had an outstanding month and that really even though I used that as one example, what that tells me Barry is an indication of the upside that’s available in the market. From a competitive perspective we have said time and again that we do not tend to compete in being the lowest cost providers. We know we have to be price competitive, but our differentiation comes with our network. Our differentiation comes with the service that our people offers and our differentiation comes with managed services. And those three things have been holding through for some time now. So some of these wins that you see is really a reflection of that. Particularly if you look at the win back of the wireless backhaul business. As you Barry we sold that revenue as part of the wireless transaction, well we just want that revenue back. So that’s to us extremely satisfying to see the kind of confidence that a leading national carrier has in us. I can tell you having being personally engaged in that transaction that this was a result of the confidence that the customer had number one and two and three, in our team and then after that our network. Again we were the only one to certifications for that particular customer, so I think we have a really solid value proposition in the marketplace and very pleased with our performance on business and wholesale and very confident about the opportunities in front of us. Thank you for the question.

[Barry Sine:]

And Anand you just mentioned on network and I wanted to ask a question on network in terms of where you are what your fiber builds and how that relates to what you’ve talked about with CapEx. If I look at schedule five in the earnings release we see a little bit dip down in quarterly CapEx versus a year ago. And I know you’ve been focusing a lot on building a metro fiber in the Anchorage market. On Slide 6 of the deck you talk about the number of buildings that are connected. If you can give us an update in terms of where you are in metro fiber build connections in both the Anchorage market and then the same questions on the fair banks market.

[Anand Vadapalli:]

So first with respect to overall CapEx. Our view is and continues to be that we should expect to see approximately $35 million of CapEx on a business as usual run rate basis. What you see reflected is the fact that you know, we've just entered in the heavy summer construction season and consequently while second quarter may show little bit of a dip, we expect we'll get caught up with respect to the build as we go through the rest of the summer here. That being said, in terms of our philosophy, in terms of how we build out the network, yes, we actually did put out a fiber for the note program in the Anchorage market two years ago. And since then we have shifted the way we think about our capital expenditures and our network deployments which is largely being driven by what I'd called anchor tenancy contracts. And we've talked about this extensively, for example the Anchorage school district contract where we put fiber into over 90 schools in the greater Anchorage areas. So, that's fiber into over 90 communities in the greater Anchorage area. We have similar contracts with other customers that drive what I'd call the base line return on investment for capital and then we go in after the fact to serve other customers, both business and residential. So, what you see reflected on actually Slide 8 in our deck is a status of where we are, we are not necessarily going out and saying that we're targeting adding another 50 buildings or 100 buildings or 10 neighborhood in the next several quarters, that's just not how we think about it. Rather we're investing after specific customer opportunities, but when we go after them, we do our network designs and our network deployment to make that extensible for future opportunities. So, it's just how we are going after network and capital deployment at this time.

[Barry Sine:]

Okay. And then my last question, which kind of ties it together, Wayne, you had made a point that as you can de-lever more and more your enterprise value would be represented by equity and that's beneficial obviously for the stock price. Just trying to get a sense you guys are given pretty detailed guidance in pretty good sense out there, what CapEx is looking at, what you're likely to spend that on and then EBITDA, we should exit this year at a significantly higher run rate than even where we're in 2Q. So it seems to me that we're close to a point where we can see a net debt peaking and more and more enterprise value being represented by equity, is that a fair assessment?

[Wayne Graham:]

I think, that's really good when look at it Barry. Once we get to that run rate target we will be producing a fair amount of free cash flow. We anticipate our new facility will have much smaller amortization. So, we'll grow EBITDA, we'll continue to pay down debt and that's all great from a leverage profile, but we'll really shift where the free cash flow benefit of the last three to four years of our journey is almost all have been dedicated to debt holders, it's really going to begin to benefit the shareholders in terms of opportunities to advance.

[Operator:]

We'll go next to Jason Bernstein with Odeon Capital.

[Jason Bernstein:]

Hi, guys, nice quarter. Just a few questions, Wayne, did you say the 9 million, restricted cash was part of the 36 balance or it's not counted in the 36 balance?

[Wayne Graham:]

It's not part of the 36 balance. In our balance sheet, you can see it called out as restricted cash. With the release of that amount, 7 million of it was released, it will move into our cash balances, when we report Q3.

[Jason Bernstein:]

So, assuming some free cash generation in the next two quarters, you're going to close that year with more than 15 cash? Even with the incremental and -- on the new credit facility, versus that 20 million, you're guiding to a net debt number that’s much lower, so on a net-net basis, should we assume that, some of that's going to be used to take out debt going into the end of the year, take out from the converts?

[Wayne Graham:]

That's a fair question. The last couple of quarters, we've said our position on convert sales will be opportunistic and if it's the right price we'll pursue selective buyback. We suddenly have the capacity to do some of that and we'll get additional capacity with our loan facility, like you talked about. And so, we have an interest, that being said the converts have traded up above par and the last time we've looked, there were 102 and that's pushing in the boundary of economics that don't make sense for us. So, we'll take our time, we'll be patient, we’ll sit on our cash and if there is the right price, we'll certainly look in to it.

[Jason Bernstein:]

Okay, that's helpful. Also on the new credit facility, are there going to be any restrictions on dividend payment? Do you expect [indiscernible] those quickly?

[Wayne Graham:]

We're in the negotiation of the credit facility right now, our focus has been -- we've got the commitments in plays and the key economic packages have been important to us. Let us get that credit facility, released as part of an 8K and everybody can see what the final answer is for that I know that will be very interesting to shareholders, we're in the process of negotiating all the details in the credit agreement now.

[Jason Bernstein:]

Great, thanks a lot guys.

[Operator:]

We'll go next to Charles Craig with Meliora Capital.

[Charles Craig:]

My questions have already asked.

[Anand Vadapalli:]

Great. Thank you.

[Operator:]

[Operator Instructions] We have no further questions in queue. So at this time I'll hand the call back over to Anand Vadapalli.

[Anand Vadapalli:]

Thank you, throughout this quarter we'll continue to foster interaction with the investment community. This week and next I'm visiting several cities including Seattle, San Francisco, Saint Louis, New York and Baltimore. And before the next call we intend to present them The Drexel Hamilton telecom media and technology conference in New York in the second week of September and the Deutsche leveraged finance conference in Scottsville, Arizona at the end of September. If you would like to be included in these future meeting please contact our Investor Relations crew. Thank you all for joining and look forward to speaking with you the next time.

[Operator:]

That does conclude today's conference, we thank you all for your participation.