Cincinnati Bell Inc.
Q1 2018 Earnings Call Transcript

Published: 9 May 2018

[Operator:]

Thank you for standing by. Good day, and welcome to the Cincinnati Bell First Quarter 2018 Earnings Release Call. Today's conference is being recorded. And at this time, I would like to turn the conference over to Mr. Josh Duckworth. Please go ahead, sir.

[Josh Duckworth:]

Thank you, and good morning. I’d like to welcome everyone to Cincinnati Bell’s first quarter 2018 earnings call. Today’s call is being recorded if you would like to listen to it at a future time. Before we start, let me remind you that our press release and presentation slides for today’s call are posted on our Investor Relations Web site. As previously announced and stated in the press release issued this morning, Cincinnati Bell changed its segment reporting to more closely aligned with our long-term strategy of building two distinct complementary the business. Beginning this quarter, revenue in the entertainment and communication segment will be reported in the following three categories, to highlight the success of our fiber investment. Fioptics, enterprise fiber and legacy. To better reflect the strength in our recurring strategic IT services, within the IT services and hardware segment, revenue will now be reported in the following practices. Communications, cloud, consulting and infrastructure solutions, which was previously refer to as telecom and IT hardware sale. Also, as a reminder, the revenue accounting standard was effective this quarter and as a result, infrastructure solution sales are now reported net of cost-of-good sold with prior period's also being restated for comparability. Now, I would like to draw your attention to our Safe Harbor statement presented on slide two. In our remarks this morning, we will be discussing forward-looking information. Due to various risks and uncertainties, actual results or outcomes may differ materially from those indicated or suggested by any such forward-looking statements. More information on potential risks and uncertainties is available in the Company’s recent filings with the SEC, including Cincinnati Bell’s Annual Form 10-K report, Quarterly Form 10-Q reports and Form 8-K reports. This presentation also contains certain non-GAAP financial measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures are also available on our Web site. With me on the call today is our President and Chief Executive Officer, Leigh Fox and our Chief Financial Officer, Andy Kaiser. Leigh’s comments today will recap highlights and the company performance for the first of 2018. Andy will then provide an update on our financial performance by segment. Following the prepared remarks, Tom Simpson, our Chief Operating Officer will join Leigh and Andy for a question-and-answer session. With that, I am pleased to introduce Cincinnati Bell’s President and Chief Executive Officer, Leigh Fox.

[Leigh Fox:]

Thank you, Josh and good morning, everyone. Thanks for joining us today. We delivered solid performance this quarter as we continue to execute on our strategy of expanding our fiber network, while advancing our next generation service-based IT product within our two distinct complementary lines of business. Consolidated revenue was up 18% year-over-year and adjusted EBITDA increased $6 million due to the increase in revenue and cost out initiatives. For the IT services and hardware segment, strong demand for UCAAS drove an 11% increase in communications revenue and cloud services were up 8% compared to the prior year. Also highlighted on the slide, we continue to win where we have fiber, more specifically fiber to the premise. Fioptics revenue grew an impressive 13% year-over-year adding another 62,000 Fioptics internet subscribers during the quarter. Moving on to slide six, I'd like to take a moment to highlight the progress we have made towards our strategic transformation. In our entertainment and communications segment, we have built one of the densest and most competitively advantage fiber networks in the country expanding more than 11,000 fiber route miles and reaching more than 70% of the residential and commercial addresses in Greater Cincinnati. As you can see on the slides, our fiber to the premise penetration, and churn metrics are far superior to the other internet products we offer. The reason is simple, in neighborhoods where we have deployed fiber directly to the home our internet speeds and product performance are unmatched by the competition. As previously discussed, the pending merger with Hawaiian Telecom is an extension of our fiber strategy and represents an opportunity to replicate our success in Cincinnati and another attractive market that has already begun progress on a fiber to the premise strategy in Oahu. We've recently received approval from that Hawaiian Public Utilities Commission and continue to make progress with the FCC as we expect the merger to close in the early second half 2018. Moving to our IT services and Hardware segment. I am pleased to report the integration of OnX is progressing as planned and we are now reporting revenue by our four product practices that highlight the strength and growth and our recurring contractual IT services. Before moving to the quarterly segment results, I'd like to spend a moment describing each practice. Historically, our initial point of entry with the customer has been our infrastructure solutions practice. This group offers a complete portfolio of equipment and software tailored to our customers' organizational goal creating a platform for by our engagement and bridge towards recurring revenue stream through the migration towards other services be on the simple hardware sales. The consulting practice provides hands on IT expertise by sourcing more than 850 IT professionals to address businesses, technology needs, including IT staffing. These talented individuals become the on-site representation of our company and have the opportunity to become the trusted advisors to our clients. Moving further up to value chain, our cloud services include the design, application transformation, implementation and ongoing management of the customers' infrastructure which includes on premise, public cloud and private cloud solutions. Our teams build and design solutions using either the customer's existing infrastructure or new cloud-based options that changed the way that our customers do business. Similar to our cloud offering, the communication practice is transforming the way of businesses connect with their employees, vendors and customers. Our 140-year history as a provider of voice solutions combined with our understanding of network configuration has proved to be an invaluable resources businesses upgrade from legacy voice and data applications to customize the UCAAS, SD-WAN and NaaS solutions. For reporting changes, we made this quarter highlight the opportunity for increased valuation multiples for our two distinct complementary lines of business by demonstrating the density of our fiber network and the breadth and scale of our IT services offering. Let me now turn it over to Andy, who will provide additional detail for our quarterly financial performance.

[Andy Kaiser:]

Thanks, Leigh. Starting with our entertainment and communications quarterly segment performance on Slide seven. Fioptics and enterprise fiber now represents 60% of E&C revenue as we continue the expansion of our fiber network. Adjusted EBITDA was up $1 million of it prior year due primarily to cost optimization initiatives associated with our legacy network. As Leigh mentioned earlier, one of the significant changes in our reporting was to consolidate all VoIP and UCAAS revenue into our communications practice within the IT services and hardware segment which is had a flattening effect on E&C revenue. Slide eight further demonstrate the strength of our fiber network as these assets produce higher bandwidth and faster internet speeds than our competition. As of the end of the quarter, Fioptics was available to nearly 581,000 addresses or more than 70% upgrade on Greater Cincinnati. During the quarter, we added 2,200 internet subscribers as the growth in Fioptics more than offset DSL subscriber losses, despite increase direct target marketing and adverting activities from our primary competitor. Fioptics internet penetration rates reached 40% compared to 38% a year ago and ARPU was up 3% to $50. As expected, video churn increases slightly due to price increases implemented during the quarter resulting in video subscribers being flat compare to the previous quarter. A summary of our IT services and hardware segments results is presented on Slide nine. This quarter we generated $128 million in revenue and adjusted EBITDA of $12 million including contributions from the OnX acquisition. Each of our practices generated year-over-year revenue growth and we are especially encouraged by the growth opportunities coming from our communications suite of products and services. Slide 10 illustrates the recent success of our communications practice. This quarter, we were awarded a UCAAS contract posting 32,000 profiles across 96 separate locations. We also were awarded in SD-WAN project to service to 18 sites that we applied last month. This quarter, we increased our number of hosted UCAAS profiles by 6%. We also added approximately 200 NaaS locations and 50 SD-WAN locations during the quarter. Moving on to our financial position and cash flow performance on Slide 11. I am happy to report that we successfully reduced the interest rate spread on our credit agreement by 50 basis points. Stating $3 million per year and partially mitigating the impact of rising liable rate. We ended the quarter with net debt of $1.3 billion resulting in a current net leverage of 4.1 time which is consistent with the prior quarter. Turning to cash flow, cash from operations increased $5 million compared to a year ago. Free cash flow totaled $33 million in the first quarter and was possibly impacted by the timing of interest payment and lower than plan to capital expenditures in the quarter further outlined on slide 12. Capital spending for our Fioptics suite of product totaled $17 million in the quarter with construction cost totaling $6 million. During the quarter, we passed 8,600 new addresses and remain on track to pass 35,000 homes and business during 2018. We also invested $5 million in enterprise fiber build and an additional $5 million in new IT services projects. Our capital spending for 2018 supports our strategy of continuing to invest where we see opportunities to gain or maintain market share and expands our fiber footprint as we need fiber to compete effectively across our market. Although capital spending was lighter than expected during the quarter, we are still planning on capital expenditures between $190 million and $210 million for the full year. As noted on slide 13, we remain on track to generate positive free cash flow for the year. We are also reaffirming our 2018 annual revenue and adjusted EBITDA targets previously communicated on February 15. Please note that this guidance does not include any contribution from the pending merger with Hawaiian Telecom. With that, I’ll now turn the call back to Lei for some closing remarks.

[Leigh Fox:]

Thanks, Andy. We are very excited about the growth opportunities in our fiber and IT services businesses. We now have two distinct businesses with separate porting and organizational structures which allows us to execute the appropriate growth and investment strategies for each business to deliver superior operating results and drive respective brands forward. In our entertainment communication segment, our goal is to continue to differentiate Cincinnati Bell and traditional carriers with our fiber to the premise investments. Our results demonstrate, the growing demand for our fiber offerings and illustrate the critical need for dense fiber networks with the increasing adoption of IOT devices in the home and rapidly approaching expectations for wireless 5G network. These dynamics are now compliant to the Cincinnati and the dense fiber network already constructed in Ohio, provides the opportunity to replicate our fiber success in Ohio. Fiber is the future and our goal are to continue to build fiber to the premise within our footprint. At the same time, we will increase the pace of our copper decommissioning and ultimately migrate to managing one superior next generation network. In our IT services segment, we remain focused on transitioning from a hardware centric business to growing our suite of services across our North American platform and diversified customer base. Our new focus allows us to capitalize on the opportunities created by our customers and changes within the IT landscape to transition towards recurring contractual IT services. We remain confident in our path forward with growing two distinct businesses and creating platform for sustainable free cash flow as we drive towards increasing valuation multiples associated with our growing fiber rich network and IT services business. Our strategic transformation combined with our disciplined capital allocation and sharp focus on execution has position Cincinnati Bell to capitalize on industry churns and deliver long-term shareholder value. Over the past several weeks, I have had the opportunity to speak with many of you directly regarding the strategic transformation we are pursuing Cincinnati Bell. I want to thank each of you for your valuable feedback and input. Also, before closing our official remarks, I wanted to let those individuals being impacted by the volcanic activity on the Big Island [ph] that our thoughts and prayers are with them. I will now turn the call over to the operator and open up for Q&A.

[Operator:]

Thank you, sir. [Operator Instructions]. We’ll go to David Barden with Bank of America.

[David Barden:]

Hey guys, thanks for taking the questions. I guess jus the first one, it sounds like the expectation for the Hawaii deal maybe to close on the sooner end of the second half target. Now that you have got the PC approval. Could you kind of talk about what if any expectations you should have for the upside opportunity for putting the two companies together, sooner rather than later in the 2018-year, net of course obviously any volcano related issues, this is the first time we had talk about that on a Cincinnati call. And the second question was just on the -- it was just kind of more thinking into 2019 and the fiber trajectory, it sounds like you are more kind of married to the notion that fiber is more of a necessity now for the - maybe the totality of the Cincinnati region once upon a time it was 60% penetration, now it's 70% and rising, is there a limit or is it just really that senses you've got to be fully committed to the fiber overbuild and this kind of pacing of the Fioptics expansion is really what we expect in the next year or two?

[Leigh Fox:]

Yes, thanks David. On Hawaii, what I’ll say about that is the teams have been working together, they have fairly detailed plan to be an executing once we closed on everything, we’re excited about it, I think their team is excited about it. We are looking forward to as you mentioned hopefully closing on the sooner end of what we had expected. Everything going as well as it can expect on our end I'm excited if you can imagine we’re just get going and just get the teams moving forward. On the Volcano front I do want to send again our best wishes and thoughts and prayers to folks out there being impacted by that. As per our infrastructure out there is not being impacted as of now and honestly the team is out there, I've got an update the other day, they are doing fantastic work to help that community, get connected and stay connected and they are putting together some pretty I think original technology to help the folks out there. So, I'm really proud of what’s going on out there. On the fiber question, we’ve had a lot of conversations about what fiber looks like in the future obviously for the company. I think you’re seeing it through the metrics, I think you’re seeing more and more this out in the news, the fiber is just the future period and I said in the script, it’s a superior asset, it’s where I think technology needs to go, you look at everything, all the overlying technologies that are going to ride over that threshold and network. We need a deep fiber network as a nation personally, but for what we control we need to continue to build. As per our footprint, I think you've heard us say this in the past that if we have 800,000 plus homes here in Cincinnati, my goal would to be let’s build 100% of 800,000 homes that is unrealistic but I think what we have is the opportunity to say look if we are started with a footprint of 800,000 homes, can we expand even slightly beyond Cincinnati to match 800,000 homes, so ideally look over the next few years, I want to see a footprint of 800,000 fiber homes. They don’t necessarily have all be in the traditional legacy CBT network as we've defined it. We’ve got a lot of opportunity expanding slightly up in the team there in Columbus, where we can use our data analytics and almost do a Google esque fiber build to neighborhoods that are we know have a high customer act on value so that’s what we’re looking at. I think for our investors what’s important is we replace one footprint with the footprint of a similar size with a better network. And then for those houses remaining and build the legacy network we were currently looking at technology that allows to maximize speed do the best we can for those customers, while also getting us far through network transformation over the years as we can so I think that’s what you can expect us from us. As I said in the script I think it’s important that at some point in the future we run one fiber network and that’s where the value is going to be, and I think that’s where the future is.

[Andy Kaiser:]

And David I would add to that, I'm sure you noticed in our earnings release as well as in our Q. We have started to focus on fiber to the prem and fiber to the node by way of what we report, so when you talk about covering our footprint with fiber, we think it’s very important we cover the footprint as much as possible with fiber to the prem, so we will continue to report those metrics so the folks understand they can differentiate between making it to a point terminating prior to the home or making all the way into the home.

[David Barden:]

Thank you for that and if I could just ask one follow-up and you kind of highlighted in the deck to the notion of creating these two business units that might be undervalued. Legacy management teams have tried to create value for Cincinnati Bell by spinning off these kinds of units like the Cyrus 1 unit or the Convergys bill unit or whatever it was. Do these two units need to be together to create this value given their kind of network-based nature or does the IT services hardware business an independent entity that can be monetized separately?

[Leigh Fox:]

Ultimately, they do not need to be together and the CBT entity can be separated if needed. As I mentioned in the past our job is to do the best we can to articulate the value that the teams are creating, they’re doing great work I think this quarter is the first quarter that the world sees what we have seen in that company and its distinct practices it’s growth trajectory revenues, there’s a ton of opportunity there. But no, they don’t have to be together and there is a possibility if then.

[David Barden:]

Great. All right, guys. Thanks.

[Leigh Fox:]

Thanks, David.

[Operator:]

We'll go next to Batya Levi with UBS.

[Batya Levi:]

Great. Thank you. So, a lot of focus on fiber. Maybe, can you talk about how you're positioned to capture the 5G opportunity versus the competitors in your region? And also, on the entertainment segment, trends have been relatively stable but with legacy sold 40% of the mix and following. I think carriers putting some pressure there. And videos subs potential not growing. And can we continue to see entertainment top-line to be remain stable or even grow from these levels?

[Leigh Fox:]

Thanks, Batya. I'll answer them in reverse, I'll answer the second question and then I'll turn it over to Tom to talk about 5G. I think what you're trend wise is going to be all about pace and pace of build. Right now, we feel like we have a good steady pace which helps offset the legacy decline. We see some positives in the legacy area also. There are pieces of it that are slowing down a bit. But as you're well aware there are pieces that are just in steady decline and will be. So, it's going to be about pace. I do see the potential of matching pace and keeping things relatively stable and then even slightly growing. And that's really going to be our focus. And when we look at builds it's really going to how do we build efficiently and effectively from a cost standpoint and then how does that match the pace of decline as I mentioned in the comments today that its ultimately about replacing the legacy footprint that we have today with the next generation footprint. And that's what we're really going to focus on. Pace is really going to dictate how you see top-line move. But we've also got some cost areas that we still can attack to. So, I think overall, this quarter was probably indicative of -- as we increase in space. And then Andy you want to add to that?

[Andy Kaiser:]

Yes, let me add to that briefly Batya. So, from a video perspective that just get a little more granular. I would anticipate video will like to be flat similar to what you saw this quarter. And that being driven by the shift and even really intentional shift from Cincinnati Belt towards internet and internet subs. So, I would anticipate growth from an internet perspective continued growth and likely flat from a video perspective.

[Leigh Fox:]

And that's a good point. We have from a video strategy standpoint, I think the one benefit that we have versus our competition is that we have less exposure on the video side from a profitability standpoint obviously get into the game a little late, and with some of the content cost pressures that we see as an independent carrier. We're fully moving down the strategy of deemphasizing video, we're going to be releasing over the top products. For us it is all about the internet. And we feel like we are setting ourselves up in this company up to have a superior network and the superior pipe in our footprint and that's probably good site within the 5G for Tom.

[Tom Simpson:]

Hi Batya, this is Tom. So, on the 5G question, when Leigh speaks of fiber density. When you think about the neighborhoods that we build into and the businesses and homes that we pass. We have excess capacity in fiber and in dark and lit services from a fiber standpoint. So, when we build fiber to the prem and we provide services to a home our business that's one side of network. When we think about a 5G build by having something exceptionally dense it's very easy for us to add the 5G radio network which requires high bandwidth back haul to the ultimate carrier. So, when you think about this we've just completed a trial with another vendor where we're actually carrying both our normal G5 network and even 10-Gig terrestrial fiber back haul for 5G radios or other business purposes on the same network. By having a very dense fiber network, it's very easy for us to service 5G. And the criticality in that as you need the fiber to pass within some proximity to the buildings where you're actually trying to serve. Remember even with other vendors and other carriers touting the distances that you can carry 5G is up to 2000 feet, but that doesn't go around corners and that doesn’t pass through leaves. So, you have to have some proximity to the buildings that you're serving.

[Batya Levi:]

Got it. And just to follow-up on the opportunity to decommission the copper network, when do you think that process could begin? And then I would assume that it's becomes to be a long process and once it falls on the new next-gen IT network, what – on that platform what kind of margin outside it can provide.

[Andy Kaiser:]

Look, that’s a good question and it’s the conversion is a long process. We see customers that we pass with fibers that are still on the legacy network and you are talking about a – force migration versus price migration attrition. So, in the mid-term you would actually see some increases via price migration which would actually move those customers over to the strategic network. It's still a fairly long road for complete copper network shutdown, but you would see certainly expense opportunities in the operations and maintenance for the network inside plant, licensing things like that. There is a big opportunity for us in the future.

[Leigh Fox:]

And on timing, it’s already began, we have dedicated leadership here in Cincinnati that’s focused on the migration the decommissioning, once we closed with Hawaii, the teams will be combine and we’ll have a dedicated group and dedicated leadership focused on just this area.

[Andy Kaiser:]

Absolutely.

[Batya Levi:]

Thank you.

[Andy Kaiser:]

Thank you.

[Operator:]

We’ll go next to Sergey Dluzhevskiy with GAMCO Investors.

[Sergey Dluzhevskiy:]

Good morning guys. Couple of questions. So, Leigh, my first question if for you. So, as you look at your two businesses and given that you’ll be integrating meaningful acquisitions, could you share with that how you’ll be looking at M&A over the next three years and what would be the kick rate here if you decide to pursue additional deals. And also, what kind of essence in your opinion could accelerate your strategy in both segments and you would be interested in potential?

[Leigh Fox:]

Yes, on the M&A front, I think there’s potential out there on the IT services side, I think on the network side we are, we haven’t close right yet, so I don’t think you’re going to see much on the network side from us for a while. We’ve got to focus on integration and execution with those two teams and so we’ll heads down in that area. And as I mentioned many times on the call that we weren’t be focus on the fiber building creating value that way. So, we’ve got something to prove there and we – so we’re going to work through that. On the IT side, you probably, if you see anything, I think there is an opportunity for product augmentation for the practices. So, one other things that we see the IT landscape is remains very fragmented and I think what we have done in really separating these practices and cleaning up reporting structure. We now have pretty tight focus on different areas of growth. I do see the potential of maybe adding a small tuck-in company for as an example the cloud practice or the communications practice. So, there are those potential opportunities out there. I would say there is probably nothing large that we’re seeing, so if we were to see anything it would be small and really focused on accelerating the growth in those practices especially the practices that we believe are the future. I said this in the past and I want to reiterate it that we’re trying to the emphasize product sales and point product sales I think. We’ve go right assets to make the transition from being what is traditionally called a war to a search-oriented company and it think you see that in the reporting now in the business and so what we’d be focus on is really the services side of that. Is that helpful.

[Sergey Dluzhevskiy:]

Yes, thank you. And my second question is on Hawaii Telecom. So, assuming you close this deal relatively soon. What are your key priorities for this asset over the next 12 months let’s say and what do you plan to do ensure that this asset doesn’t close operating in sales momentum.

[Leigh Fox:]

Yes, it's a great question. I think we’ve got as I mentioned earlier a multi-pointed plan to address on the operation side. I think working with the teams on the build and assessing where that with the build and seeing what we can do. If anything, to accelerate to build in the short or the midterm it will more than likely be in the midterm not in the short-term. They have got a plan that they are executing. On the sales momentum side, we’ve been working pretty tightly with the team on organization structure. The things that you would think would make sense to make sure that once the deal is closed that you really hit the ground in a sprint together and not see a gap in the - so that’s really what we’re focused on in the short term just seamless transition and then in the mid-term how do we begin implementing with that team some of the things we’ve learned here in Cincinnati and vice versa implementing some of the things that they’ve learned in Ohio, here in Cincinnati so that we can take the pass -.

[Sergey Dluzhevskiy:]

Great. Thank you.

[Operator:]

There are no questions remaining, I’d like to turn the call back to Mr. Leigh Fox for any additional or closing comments.

[Leigh Fox:]

Thank you. Just want to finish with some short comments, we entered 2018 with really strong momentum and I want to take the opportunity to personally thank our team for their hard work and commitment for our strategic transformation. As always, we anticipate or appreciate your continued support and interest in Cincinnati Bell. I just want to reiterate to thank you to our teams with all the work done in the Q1. It’s been exceptional, things have not been easy, but they’ve done a tremendous job and I just want to say how much I really appreciate it and look forward to speaking to everyone soon. Thank you for joining us and have a great day.

[Operator:]

Thank you, sir and again that does conclude the call for today. Thank you for participating. You may disconnect at this time.