Charter Communications, Inc.
Q3 2013 Earnings Call Transcript
Published:
- Operator:
- Hello, my name is Ann, and I will be your conference operator. At this time, I would like to welcome everyone to Charter's 2013 Third Quarter Conference Call. [Operator Instructions] I will now turn the call to Stefan Anninger. Please go ahead.
- Stefan Anninger:
- Good morning, and welcome to Charter's 2013 Third Quarter Earnings Call. This morning, we issued a press release over PR Newswire at 8 a.m. Eastern Time detailing our results. The presentation that accompanies this call can be found on our website, charter.com, under the Financial Information section of our Investor & News Center. The press release and trending schedules can be found at the same location. Before we proceed, I would like to remind you that there are a number of risks factors and other cautionary statements contained in our SEC filings, including our most recent Forms 10-K and 10-Q. We will not review those risk factors and other cautionary statements on this call. However, we encourage you to read them carefully. Various remarks that we make on this call concerning expectations, predictions, plans and prospects constitute forward-looking statements. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ from historical or anticipated results. Any forward-looking statements reflect management's current view only, and Charter undertakes no obligation to revise or update such statements or to make additional forward-looking statements in the future. During the course of today's call, we will be referring to non-GAAP measures, as defined and reconciled in this morning's earnings release. These non-GAAP measures, as defined by Charter, may not be comparable to measures with similar titles used by other companies. Please also note that on July 1, Charter completed its acquisition of Cablevision's Bresnan Broadband Holdings, LLC and its subsidiaries, also known as Bresnan. Unless otherwise specified, all customer and financial data referred to on this call are pro forma for the Bresnan transaction as if it had occurred on January 1, 2011. Please also note that all growth rates noted on this call and in the presentation are calculated on a year-over-year basis unless otherwise specified. Joining me on today's call are Tom Rutledge, President and CEO; and Chris Winfrey, our CFO. With that, I'll turn the call over to Tom.
- Thomas M. Rutledge:
- Thanks, Stefan. Charter performed well again this quarter, and residential revenue growth continued to accelerate. Our total third quarter revenue grew by 5.4% year-over-year. And excluding the impact of advertising, revenue grew by 6.4%. Our residential revenue growth rate improved to 5.1% versus 1.6% last year. We grew residential customer relationships by 46,000 this quarter, nearly double the growth that we saw last year, and we added 100,000 PSUs during the quarter versus 60,000 in last year's third quarter. Both video and Internet performed better, with a 44,000 improvement in video. Our commercial segment continues to perform well and again grew by over 20%. And finally, our adjusted EBITDA grew by 5.3% compared to just under 1% last year. These results include Bresnan on a pro forma basis for the prior year comparison. The Bresnan asset is everything we expected. However, during the ownership transition, Bresnan lost some of its growth momentum and only grew by 3.9% in the quarter. We're stepping back up the effort across all sales channels and are already seeing better subscriber results and the asset will return to its growth potential. The combined effect of temporary lower growth and the expense to restart the growth at Bresnan means that our legacy system's performance during the quarter was slightly better than the pro forma numbers indicate. The third quarter marked an important milestone for Charter, the anniversary of the launch of our new pricing and packaging. 62% of our legacy residential customers are now on our new pricing and packaging structure, meaning that over half of these customers are receiving the superior product set with far more value. One of our key goals is to produce higher-quality, long-term relationships with our customers by simplifying our pricing and by providing more value in our offers. It is working. At customers' 1-year anniversary under new product and pricing, we're seeing higher average dollar step-ups at promotional roll-off and better retention rates given an improved product set and customer experience. Better retention, higher step-ups, increasing sales and higher levels of product selling at point-of-sale are clearly driving revenue growth. And the higher year-over-year sales are increasingly triple-play. During the quarter, triple-play sell-in was 54% of video sales, 20% higher than last year, which all of what we sell now is expanded basic, which is 100% fully featured video product on a 2-way interactive plan and offers an interactive guide in over 10,000 Video On Demand choices. Our Internet product is also performing well, and approximately 70% of our Internet customer base now receives data speeds 30 megabits or more. We will significantly increase that speed as we go all digital. Our service levels and the efficiency of our core operation also continues to improve, and we're seeing that in our metrics. For instance, in the third quarter, service call truck rolls fell by 16% year-over-year, with repeat service rates falling by a similar amount. Ultimately, these improving service metrics mean fewer transactions resulting in lower cost and churn, driving higher market share with better margins. During the quarter, we continued our all-digital initiative in a number of our markets, including portions of California and Michigan, and we now offer over 170 high-definition channels in these markets. We also initiated all-digital migration in other areas, including Greenville, South Carolina. We continue to see a positive impact on our performance in those markets. We're taking our plant all-digital, including better PSU growth. Slide 3 details the benefits that all digital provides and graphically displays the plant capacity that this project frees up on our network. Before I turn the call over to Chris, a few comments on our new products. Today, we launched our new Charter TV app, which acts as an IP user guide and allows for streaming of over 100 live channels inside the home. The application will first be available on Apple devices and will be later made available on Android devices. We anticipate adding more features to the application including VOD content that will be available to our video customers both inside and outside the home. We're also testing our new cloud-based user interface for new and existing boxes. The new interface will move key product and service functionality out of the set-top box and into our network. The objective is to provide a consistent cloud-based user interface across all devices and avoid customer disruption by making existing equipment work without additional capital spend for replacement CPE. We have a full slate of further product enhancements on the agenda for 2014, and we'll be spending more time discussing them as we get closer to rollouts. So I'm pleased with our third quarter performance and the direction we're heading. Now I'll turn it over to Chris to provide additional details on our third quarter results.
- Christopher L. Winfrey:
- Thanks, Tom. As a reminder, unless otherwise stated, the results we are discussing and shown in today's slides are presented on a pro forma basis, as if we had acquired Bresnan on January 1, 2011. Bresnan represents approximately 6% of our revenue base, and we felt the pro forma presentation was the most transparent way to discuss our operating performance. Our third quarter 10-Q, which we filed this morning, reports our results on an actual basis. On the Investor Relations section of our website, we've also posted trending schedules showing our results on both a pro forma and an actual basis. Turning to Slide 4 of today's presentation. Total customer and PSU trends improved across our residential and commercial businesses during the third quarter compared to the prior year. Total residential connects improved year-over-year and sequentially. We lost 27,000 video customers during the quarter versus 71,000 last year, a 44,000 improvement. Over the last 12 months, our base of residential expanded basic customers has been nearly flat on a pro forma basis and grew slightly, excluding Bresnan. Expanded customers now constitute 94% of our video customers with just 260,000 limited basic consumers remain, including Bresnan. We added 86,000 Internet customers this quarter versus 77,000 last year. And we added 41,000 phone customers during the quarter versus 54,000 in the third quarter of 2012, when our new triple-play offer was first launched. Our residential customer relationships grew by 2.5% year-over-year. Residential revenue per customer relationship grew by 2.8%, reflecting our strategy. On a sequential basis, ARPU was flat due to back-to-school seasonality, which offset promotional roll-off benefits. The net result is that our residential revenue grew by 5.1%, including a lower 2.7% at Bresnan for the reasons Tom mentioned. Excluding Bresnan, Charter grew residential revenue by 5.3%, more than tripling last year's residential revenue growth. So the revenue acceleration we expected is taking place. I think Slide 6 does a good job of showing the operating strategy impact on Charter systems, excluding Bresnan, for the past 7 quarters, whether you look at the results for total revenue, revenue excluding advertising or just residential revenue growth. Clearly, growing customer relationships and turning the video business is the key driver, but we're growing market share across all of our products and expanding revenue per household. Looking at commercial, we added 21,000 PSUs versus 20,000 a year ago, and commercial revenue grew by 20.4% and over 25% if you exclude the lower growth of video base in commercial. We expect continued success in the $9.5 million B2B communications market in our footprint when we offer more value to business customers. Turning to adjusted EBITDA and expenses on Slide 7. Programming grew by $30 million and accounted for over 40% of the increase in total operating expense growth year-over-year. On a per expanded basic customer basis, programming cost grew by 5.8%. Cost to service customers, which includes field operations, network operations and customer care cost, grew by 4.2%. As expected, the expense growth in this category has begun to normalize as ongoing service quality investments are now offset by a reduction in the onetime deferred plant maintenance incurred in the previous quarters. The higher overall level of investment is designed to provide a better service. And in fact, by spending more per transaction, we can, as Tom mentioned, reduce the number of transactions, reduce churn, grow market share and revenue with a better margin over time. Higher reconnect expense tied to higher sales also picked up in this line item. Similarly, marketing spend is higher during the quarter given the higher sales activities and channel development, which we see as good news. So in total, adjusted EBITDA grew by $37 million or 5.3% year-over-year on 5.4% revenue growth. Looking at Slide 8, capital expenditures totaled $425 million during the quarter or roughly 20% of revenue. Approximately 45% of total CapEx was driven by CPE to support new customer acquisitions, upgrades and digital box migration of existing customers. And the onetime effect of digital migration will become an even larger driver of our CPE spend through 2014 when we expect the project to be complete. The dollars we spend on CPE is an excellent indicator of future success, as this spending should drive higher revenue growth, longer customer lines and better customer ROIs, and we continue to achieve substantially better CPE unit pricing resulting in an even higher ROI. Commercial CapEx represented 17% of our total CapEx in the quarter. While we expect commercial services to continue to grow at its current rate, we anticipate its capital intensity to decline starting next year. A cell backhaul focuses more on second tenant spend versus new build. For the full year 2013, we continue to expect capital expenditures to total $1.8 billion, including the impact of Bresnan, which means we expect seasonality and all-digital spend inside Q4. Free cash flow for the third quarter was $132 million compared to negative free cash flow of $17 million on an actual basis during the same period last year. The increase was primarily due to higher EBITDA, a decrease in capital expenditures and higher contribution from trade working capital. We ended the quarter with $14.3 billion in net debt and a leverage ratio of 4.9x on a 12-month basis. Our weighted average borrowing cost is now only 5.6%, and in Slide 10 shows the weighted average life of our debt to 7.7 years with over 95% maturing beyond 2016. Our target leverage remains 4 to 4.5x, and we're willing to temporarily go above or below to pursue strategic opportunities as we have in the past with Bresnan, organic growth investments and targeted share buybacks. I'm frequently asked how we determine our target leverage range. And while we look at the WACC curve at current market rates, we take a more holistic view relative to the overall business and capital structure. We include a number of other factors which are just as important, specifically our maturity profile, the cost of our debt and the expected organic growth rate of our business. A further factor impacting our philosophy and tolerance for leverage is our significant tax assets where $1 of EBITDA Charter is not the same as $1 of EBITDA elsewhere given our significant loss carryforwards and our outsized tax basis. Our higher tax basis relative to our peers is effectively an embedded NOL as the depreciation and amortization shields Charter from cash tax liabilities in the same fashion as an NOL, acting as a direct offset to taxable income translating into more NOL and extending the useful life of existing NOLs. Slide 11 shows our tax assets updated both for the Liberty transaction, which closed in May, and the Bresnan transaction, which closed on July 1. As we stated before, we don't expect the change in ownership as defined under Section 382 in the tax code and triggered by the Liberty transaction to impact the net present value of our tax assets. Operator, we're ready to begin Q&A.
- Operator:
- [Operator Instructions] Your first question comes from the line of John Hodulik with UBS.
- John C. Hodulik:
- Looks like you guys had some strong PSU results. Can you talk about, one, just how the price-ups of customers on the new pricing and packaging translated into churn or your conversion rate there? And then it doesn't look like you saw much competition from increasing speeds or the excess promotion that we're seeing from U-verse. But if you could talk about that, the impact that you might have seen there and if you expect any impact from their new $15 offer for high-speed data services going forward.
- Thomas M. Rutledge:
- John, this is Tom. We started new pricing and product rollout a year ago, July, and began selling those customers promotional packages. And those packages have started to step up in the third quarter of this year. And we're seeing good results in terms of the kind of attention we expected and the kind of revenue step-ups we expected on that customer base. And so while I don't want to break out the specific churn rates of any segment of our customer base, we're getting the kind of results that we expected in the step-up process. With regard to U-verse, their footprint inside of our service area is still less than 30%, and we've seen a slight change in that, but not a significant change. And I didn't understand the last question about the offer, but I'm not aware of any specific offers that are having a significant impact on us.
- Operator:
- Your next question comes from the line of Kannan Venkateshwar with Barclays.
- Kannan Venkateshwar:
- So the first question was on the allocation between telephone revenues and the other lines. Just wanted to understand how much the impact within -- with your line and the broadband line was because of the allocation. And secondly, purely in terms of the churn, when we look at expanded basic trend becoming bigger and even positive in terms of net adds, would that begin to have some kind of an impact on programming cost going forward?
- Christopher L. Winfrey:
- So Kannan, the first question on allocation, it certainly is taking place. I mean, if you take a look at year-over-year, the phone subscriber development is significant, and at the same time that we've had significant amount of net adds both in the quarter. And over the past 12 months, you've seen revenue decline, and all of that, effectively, is coming out of revenue allocation and that moves into primarily video and also as well to Internet. We don't provide a breakout on it. I think the reality is that over time, you just need to start thinking about it as a residential revenue business as opposed to specific product lines. And one of the reasons that we ceased to provide product ARPU as a reporting stat and went to providing bundling statistics and overall residential ARPUs, that's how we're running the business. That's how we're thinking about the business and driving total revenue per home passed and we think that's a much better indicator of the success that we're having. So there's a significant amount of revenue that flows out just from an allocation standpoint, first, because it's the way it's presented on the bill for pricing and packaging, which now 62% of our customers are in that new pricing and packaging. And secondly, because GAAP applies, U.S. GAAP applies further formula for allocating revenue, none of which, frankly, is really helpful for the investor community and that's not how we're running the business internally. We think about it in terms of customer revenue and revenue per household. Hopefully, that's what the market can start looking to as well, particularly the Charter strategy. On the expanded basic side?
- Thomas M. Rutledge:
- Yes, your question about programming cost is correct. Expanded basic costs money but it also has revenue associated with it. And so if you grow, your per unit cost of programming will go up. There's no question about that, but so did your revenues and so is your opportunities to sell additional products.
- Kannan Venkateshwar:
- Okay. Just one follow-up, if I may. I mean, this is on the pricing architecture across your product. We have seen some new initiatives across the industry in terms of Comcast trying to bundle HBO with their Internet and so on. And there's been conversation about some of the over-the-top platforms like Netflix coming through the set-top box and so on. So are some of those pricing architecture something that you guys are considering as well?
- Christopher L. Winfrey:
- We have no plans on changing our current go-to-market strategy.
- Operator:
- Your next question comes from the line of Vijay Jayant with International Strategy Investment Group.
- Vijay A. Jayant:
- Just want to understand what kind of lift you're really seeing. You talked about positive PSUs in your all-digital market. Are you actually even adding video subs as you roll out your offers there? And just the same question I ask probably every quarter which is, your cost to service subscribers, that's the big cost structure step-up apart from programming. I mean, is there any way to give us any color on how much of that is certain onetime items that as you -- all your initiatives sort of play out, we could see the step-down? And any color on timing on that will be fantastic.
- Thomas M. Rutledge:
- I think, if I understand your question with regard to video, do we expect to grow video and...
- Vijay A. Jayant:
- The growth in video subs and your new all-digital markets, when you...
- Thomas M. Rutledge:
- Oh, yes, yes. In fact, we are in the -- on average, in the places where we've gone all digital, we have been growing video customers, and we expect to, over time, grow video customers. Our video product has been challenged. And part of our strategy over the last 1.5 years has been to invest in our video product to make it superior to our competitors' products. And on the increment, it is. We still have existing customers though who have an inferior product set and we're in the process of upgrading them to all digital and to our price and packaging combination. As a result of that, we expect to begin to grow video, as well as broadband and voice. And with regard to costs in the business, we have had onetime costs throughout this P&L associated with the maintenance of the plant and the restaging of our service operation, and that is showing up in capital and it's showing up in operating expense. Service calls are coming down and service -- as they come down, costs come out of the business. So I look at the cost structures that we've deployed as being somewhat temporary in nature, and ultimately, we expect our margins to go up as a result of declining service costs.
- Operator:
- And your next question comes from the line of Jason Bazinet with Citi.
- Jason B. Bazinet:
- You guys have continued to target year-end '14 to complete the all-digital initiative. And without talking about the dollar amount that's associated with that, is there any way you could share the percentage of that all-digital capital outlay that will still -- that will remain in 2014? In other words, what percentage of that capital outlay would you have completed by the end of '13?
- Thomas M. Rutledge:
- I don't have the exact percentage, but the vast majority of it.
- Christopher L. Winfrey:
- By 2014.
- Thomas M. Rutledge:
- Yes. It'll all be completed by the end of '14 in our current plan, and we are not -- we have more to spend next year in terms of volume than we have this year.
- Jason B. Bazinet:
- Well, I guess, just in terms of the commentary that Chris made during the prepared remarks, you said the CPE will make up a bigger portion, a bigger percentage of this -- of the CapEx mix in '14 versus '13?
- Christopher L. Winfrey:
- Yes.
- Jason B. Bazinet:
- That's because of all digital?
- Christopher L. Winfrey:
- Yes. So Jason, just to give a little additional color there, I mean, it's going to be a minority of our footprint, a small minority of our footprint that'll be all digital this year, and the bulk of the work is going to take place inside 2014. The bulk of the traditional all-digital spend will be there. Having said that, I wouldn't discount the amount of all-digital embedded activity that's taking place really at the back half of 2012 and all-year 2013, as we've had customers migrate into new pricing and packaging. We've been placing more boxes on existing customers. And in addition to that, when we add new customers, we've been putting more boxes onto those accounts than we have in the past. And what that does is that it removes some of the spend that would otherwise have to take place anyway inside of 2014. Having said all that, the bulk of the CPE spend associated to the forced all digital is really going to be taking place in 2014.
- Operator:
- Your next question comes from the line of Jeff Wlodarczak with Pivotal Research Group.
- Jeffrey Duncan Wlodarczak:
- I had a follow-up to an earlier question. Is it fair to say that the effects from the third quarter promotional price increases was heavily weighted towards September, given the lack of activity in July and August? If that's the case, shouldn't we see the majority of the benefits start to really show up in the fourth quarter?
- Christopher L. Winfrey:
- Your question, Jeff, is a seasonality one. Yes, with the back-to-school and moving season, you tend to see more at the end of August and September. I think the bigger impact here is you're thinking about the ARPU effect inside the quarters. But because you do have the back-to-school seasonality, if you look at what happened in Q2, Q3 of last year, despite us being brand-new with new pricing and packaging for the more valuable offer in the marketplace, you do end up having a little bit more single and double-play digital back-to-school seasonality and that falls down at your selling rate that takes place during Q3. And so some of the roll-off benefits that have occurred were partially offset by the back-to-school seasonality.
- Operator:
- Your next question comes from the line of Matthew Harrigan with Wunderlich Securities.
- Matthew J. Harrigan:
- I know you're still very careful that things scale satisfactorily because you're still repairing the Charter brand to a certain extent. Can you talk about the CloudTV H5 platform of ActiveVideo and how tentative you'll be with that and how confident you are? And then if you can just provide us a generic comment on WiFis that some of your compadres at some other companies are having pretty good success. I know you've got a particular perspective on it.
- Thomas M. Rutledge:
- Right. Look, we are standing up a test for a cloud-based user interface, and we're confident that a cloud-based user interface can work and add a lot of value. We've looked at the Comcast X1 guide, which we think is a really nice user interface and adds a lot of value to their product. That's a cloud-based user interface using IP and the DOCSIS modem in the box. And the cloud-based user interface that we're standing up is capable of doing that, as well as we're doing an experiment with ActiveVideo to try to take a cloud-based guide to our existing base of boxes using MPEG, which is the format that those boxes -- the digital format that those boxes can look at. And we're working with ActiveVideo, we're working with Zodiac and we've built software that we think can work on an existing set-top box with our DOCSIS modem in it and still provide a high-quality cloud-based user interface. We're going to test that beginning in Fort Worth in the next few days. We'll start those tests in our employee homes. By the end of the year, they'll be in customer homes. And assuming that our theory works, we'll begin to test that and deploy that sometime in the second quarter or late second quarter of '14. So that's our timeline of thinking on cloud-based user interfaces. I should note that a substantial portion of our legacy box inventory that's already been placed in the field have DOCSIS modems in them. So even if we want to do an X1-like all-IP user interface, we have a substantial base of boxes that today have set-top box base guides that can go to a cloud-based guide, even if the MPEG cloud guide didn't work, although we think there's a high probability it will work. With regard to WiFi, we -- I've been a proponent of WiFi for years, have deployed lots of it. We have not done that at Charter because our fundamental issues at Charter were fundamental. They were about taking care of our customers and providing high-quality video products and data products and voice products. Those products have been stood up and we have a strategy employed to deploy those products across our footprint. And we're confident that with high-quality products, we'll be able to grow our business. WiFi is an addition to that, and we think that WiFi makes sense. We want to start putting it out in our commercial customer base next year and begin to offer our customers an opportunity to use dual SSIDs in commercial applications. And so while we don't have a complete rollout plan yet, we're working on beginning to deploy WiFi at Charter.
- Operator:
- Your next question comes from the line of Craig Moffett with MoffettNathanson.
- Craig Moffett:
- Tom, back in your prior management role at that other firm, my impression was always that you were sort of lukewarm on the topic of usage-based pricing for broadband. John Malone at Liberty has spoken strongly in favor of it. Could you just update us on what your current views are? And if you were to get bigger in the industry through consolidation, would that give you a venue for advancing a different view on usage-based pricing in the way broadband is priced?
- Thomas M. Rutledge:
- Well, my view has been that if you were to -- if broadband were the primary deliver -- service delivery platform for video as opposed to the current model, that those people who watch a lot of videos should pay more than those people who don't. That said -- so I agree with John Malone that the customer who's subscribing to service levels needs to compensate for the service level they've subscribed to. I'm lukewarm to the idea of having ratable billing in the sense that my experience with AOL, which is another prior company, was that AOL's enormous breakthrough in terms of valuation and consumer experience was going from usage-based pricing to all you can eat. And I think that there is a usage issue with the way you bill. And I think finding the right mix of making consumers pay for what they use and having billing that's consistent and regular and predictable for the customer are both important notions to hold at the same time. So I think you have to hold both thoughts in your head at the same time.
- Operator:
- Your next question comes from the line of Doug Mitchelson with Deutsche Bank.
- Douglas D. Mitchelson:
- Want to follow up on 2 of the prior questions. Tom, you talked a bit about drivers of upside to margins longer term. Can you just give us a sense of how much margin upside there might be longer term?
- Thomas M. Rutledge:
- Well, I think if you look at the cable industry and if you look at the various margins between the various companies, I think there's a substantial gap. And so I think that gap can be closed. And obviously, it's a function of mix and product mix and what the margin overall is. I mean, obviously, I think it's more important to drive for return on investment and growth as opposed to margin, but I think that Charter's margin can be significantly higher than it is. I think that Cablevision, in my experience, ran at 40% margins. Comcast runs at plus 40% margins. I think that's a reasonable kind of margin to shoot for in today's product mix. But it can change through time.
- Douglas D. Mitchelson:
- And then the other question I wanted to follow up was around CapEx with all-digital CapEx being larger in 2014. Does that suggest that CapEx will be similar or higher in 2014 versus '13?
- Thomas M. Rutledge:
- Well, we haven't -- we're not ready to say yet, but we will spend more on CPE in '14 than we did in '13. There are other factors that are going the other way, for instance, commercial but we left cellular tower deployment. And so we don't have our '14 plan completely baked yet, so I don't want to give you that information yet.
- Douglas D. Mitchelson:
- Great. And the last follow-up was on the cell deployment, CapEx coming down a little bit. Does that suggest any change in the growth curve for SMB? Or do you think 20%-ish is still a good place to think about as you look forward?
- Thomas M. Rutledge:
- I think our growth curve is not changing, and it's just a mix of products. I think small business, real small business, coaxially served small business continues to accelerate. And in the tower service business, we have additional tenant opportunities, and we have speed opportunities. So I think our business there is not changing in terms of its revenue growth profile and maybe it's becoming less capital intensive.
- Operator:
- Your next question comes from the line of Ben Swinburne with Morgan Stanley.
- Benjamin Swinburne:
- Tom, I wanted to ask you about, if you look back over the last couple of years and this precedes your time at Charter, the company has added a lot of non-video customers, I think about 0.5 million in the last 11 quarters up to about 1/4 of your customer base. And obviously, those are very -- those are probably all or mostly broadband-only customers, high-return customers. But what do you think those customers are doing with video? Do you think the pay TV penetration in that base is declining? Or do you think those are mostly satellite TV customers still? And are there any implications for Charter as you think about that piece of your business, which is large, growing, highly profitable but maybe not necessarily exactly what you're targeting with your triple-play promotion activity?
- Thomas M. Rutledge:
- Yes. I would say that the one thing that surprised me -- has surprised me about Charter is that our broadband-only growth has been greater than I thought it would be. And part of that, I think, is some change in the world that is going on with consumers. But the bigger part of it is that Charter's video product was inferior, and we had brand issues around that. And so I think while you can see some of these trends occurring throughout the whole industry, it's more exaggerated at Charter, I think, because of the way we let our video product deteriorate, and we've turned that around. And I see the 1.3 million broadband-only customers as a real selling opportunity for us from a video perspective. And obviously, we have to have a better video product. Part of our capital deployment is to do that and to rebuild the service infrastructure. And I think you'll see us start to rebuild our brand as well and take a more aggressive position with our brand. One of the things we found is that our customer perception has come up from the worst in the industry to above average. I think we need to be more than above average. Our new customers have very high opinions of their service levels with us. So the time has come, I think, for us to begin to rebrand Charter and to go forward with a more aggressive push into the marketplace with our video product and our triple-play. But it has what -- the broadband-only base has been a surprise, to some extent, but I also see it as an opportunity.
- Benjamin Swinburne:
- And if I could just follow up on an unrelated topic for Chris. Thank you again for the tax slide that you give us. I'm just comparing it to the year-end '12 one prior to the shift. A lot of moving pieces, but generally speaking, Chris, would it be fair to say that you start to see significant access to carryforwards both at the end of this year with $1.1 billion, but then starting in 2014 in size with the additional $4.4 billion? And is this shift somewhat of a proxy if you had a second shift? So for those of us trying to think what would happen if there was another shift in the next, I don't know, 12 months, can we use what happened here as a way to think about what might happen in the second shift?
- Christopher L. Winfrey:
- So thanks for recognizing the slide, that's one of our favorite ones. And the answer is yes, we've updated these for 2 things
- Operator:
- Your next question comes from the line of Frank Louthan with Raymond James.
- Frank G. Louthan:
- Wanted to touch on another theme out of the Analyst Day when you spoke, Tom, at Liberty about lowering number of transactions. Kind of walk us through that process and where are you on that voyage trying to lower the transaction volume, where do you think it should be. And then on the interactive guide, would you consider licensing something like X1 from Comcast? I mean, everyone seems to want to reinvent the wheel and do it themselves, but if someone's already developed a platform, is that something you would consider? And why or why not?
- Thomas M. Rutledge:
- Right. Well, when I was talking about lowering transactions, ultimately, lowering transactions is the greatest cost opportunity you have in this business. And the way you lower transactions is to, one, have less service calls. So you maintain design and service your plant in such a way that it doesn't break down as often, and therefore, you have less call. Another way you do it is by managing your product and pricing so that you have as many transactions or as many units per transaction as you can so that you have less physical activity in the sales process. And finally, what you want to do, if you do all of that well and have really good products, is extend your subscriber life. And if your average subscriber life goes up, it means that per dollar of revenue generated by 2 similar cable systems with different subscriber lives average, you end up with lower cost in the longer-lived cable system. So the ultimate objective in lowering transaction costs is to -- is the inverse of great service. And if you have great service, good products, you have less transactions and lower costs and higher margins. With regard to the guide, yes, we'd be interested in licensing it and we currently license IP from other companies for guides, and Comcast has built a very nice application. I do think that guides are ultimately an aesthetic kind of question, meaning the platform is one thing, how they look and how they feel is another. And I think that as we move through time, consumers' experiences will change on average and what their expectations are will change. And it's nice to have that in your own control rather than dealing with third parties. So there's value to licensing someone else's work, and particularly if you can change it at will. So we don't have those discussions with Comcast, but it certainly built a nice piece of art, and we certainly respect it and we respect them, and who knows what could happen.
- Operator:
- Your next question comes from the line of Bryan Kraft with Evercore.
- Bryan D. Kraft:
- Chris, if you were to merge with a larger operator, a question on the tax assets, is it fair to assume that you'd be able to structure a transaction that would result in the net income of the new assets being sheltered by the basis step-up in the NOLs similar to the way Charter's net income is sheltered today? Or would the new asset be treated differently? And then also, you mentioned your leverage target is somewhat driven by Charter's tax position and the future growth rate. In an M&A scenario, the tax benefits are probably not going to be as large relative to the asset base being acquired and the debt, and the growth outlook might also be lower structurally. So does this mean that the leverage ratio would be lower for hypothetical pro forma merged company?
- Christopher L. Winfrey:
- So we're not going to get into anything specific as it relates to M&A today. But as I said before, we have tax assets that are significant, both on the tax asset basis as well as the loss carryforwards, and that puts Charter in a pretty unique position to look at acquisitions, swaps and theory dispositions, and it can be a value-creative element of an M&A strategy. It's not the reason to do M&A, and Tom and I both have spoken extensively about that. The reason to do M&A is because you think you can grow things faster and make money that way. Tax is a little bit like cost synergies. It's a onetime benefit. It's a way of buying down your multiple. But yes, I think -- we think about all different M&A alternatives and ways to use our tax assets. Beyond that, I'd really not -- I'd rather not get into specifics around ways that it can be done in different -- a whole variety of different transactions. On the leverage ratio, remember what I said, is that we look at a whole variety of factors and it can change in the course of time based on where you are from a cost of capital perspective. That's kind of the most simplistic way of looking at it. But the other big factor is what you think your growth profile is. And if you're -- as a business, with or without M&A, you have strong belief that you're going to be mechanically deleveraged and you can either be at a higher steady-state of leverage or temporarily take on lower leverage as a result of strategic opportunities and have confidence in doing so. It only works in the context of having a lower -- a low interest cost, which we have 5.6% interest expense today, and it only works when you have a long maturity, which we have today as well. So when you put all those different pieces together, it says that you can either -- you can temporarily increase your leverage to take advantage of strategic opportunities and you can have more confidence in staying at a higher leverage ratio, which, for us, is that 4 to 4.5x range steady state because of the organic growth profile of the business. If you didn't have confidence in the growth profile of the business, then we would start to modify that and bring it down over time to reflect a risk inherent with the expected cash flows. But where we stand today, we're very comfortable with the target leverage range that we have for Charter today.
- Operator:
- And your next question comes from the line of Tuna Amobi with S&P Capital IQ.
- Tuna N. Amobi:
- First, Chris, can you talk about how your channel mix has evolved in the past year since you launched a new initiative and how we expect that to impact marketing expenses going forward?
- Christopher L. Winfrey:
- So we have significantly changed all of our sales channels the way we go to market. Each of those has different levels of cost. The reality is that there are a variety of different ones you have online, which is now roughly 30% of our total sales are coming through online that's relatively cheap, and we have other channels which are also increasing -- or increasing across all sales channels, some of those are more expensive. So the sales channel mix isn't going to be the biggest driver. The biggest driver is going to be the amount of sales and we're increasing sales and we're increasing our marketing and sales cost, and that's all a good thing. You can see that. When you take a look at the Q3-on-Q3, the uptick there as it relates really to success, which, when you think about margin as in any cable business, you need think about the growth-adjusted EBITDA and the growth-adjusted CapEx and what's really happening to the underlying performance of the cash flows. When we grow, we have the lower margin and we spend more CapEx. When we get to a plateau, the margins rise and the CapEx comes down. And you don't see that take place through marketing the expense line, and we hope to be spending more in that expense line as that would indicate better success.
- Tuna N. Amobi:
- That's helpful. And for Tom, regarding the TV app, correct me if I'm wrong, but I think you've taken the view that this is primarily a defensive weapon. So I'd be curious to know your content plans for that offering, particularly in the out-of-home side and what you view as the gating factors to perhaps launch in a more robust offering that could allow you perhaps to monetize that app and have it -- have a much more profound impact on your operations.
- Thomas M. Rutledge:
- Yes. Well, the TV app is the beginning of a lot of things, and it may ultimately be monetizable in ways that are different than we currently envision it. What it really is, is it's an IPTV cable TV system that's available in the home and controls your screens in the home initially. In addition to it, it's all the mobile rights that TV Everywhere gives you, and those rights are variable between programming vendors and have different natures to them in terms of what content is available for how long, whether it's a streaming or whether it's on demand. But essentially, it's the creation of a singular unit task network that allows you to stream to any kind of device any place, any time. And the only thing that constrains it from a technical perspective is the contracts that you enter into with content providers. There is no -- there are no technical constraints to where the signals can go. So as our content rights evolve through time, we may find different ways of pricing and packaging content. We may sell download-to-go services. We may sell Video On Demand everywhere. We may sell subscriptions everywhere. But right now, our primary business and our primary objective is to enhance our service offering and to make the total value of what we sell more valuable to the consumer. And ultimately, that gives us more satisfaction, which translates into longer subscriber life, which translates into margins and money.
- Tuna N. Amobi:
- Okay, and that's very helpful. And lastly, on the all-digital, as you get closer to completion, as you indicated, can you perhaps talk about how you expect that to affect your data tiering strategy and the potential impact on your standard and premium products, if you have any plans there? And I guess, do you think that gets you closer to the usage-based pricing strategy? Any comments there would be helpful.
- Thomas M. Rutledge:
- Sure. Well, the biggest thing that going all digital will help us do is clear out our cable system in terms of spectrum, and we'll be able to use that spectrum a lot more efficiently in an all-digital environment. And the biggest singular opportunity that, that presents immediately is to take our speeds up on our data product. Right now, we have a DOCSIS 3.0 platform primarily deployed across our footprint and almost 70% of our customers are in that kind of infrastructure today. As a result of that, we can add more channels to that platform and ultimately up to 24 channels, which gives you a capacity of about 500 megabits of capability on the existing design. We have a new platform coming down the road called 3.1. It should be available to the marketplace by the end of '16, and that will allow us to go up as far as 10 gigabits of capacity through our network for data speeds. So we have enormous power at our disposal coming down the pipe in terms of what freed-up networks allow you to do. And the all-digital strategy really kills 2 birds with 1 stone. It gets you a better video product, a more reliable video product and it gets you capacity to take your data speeds up dramatically.
- Operator:
- And there are no further questions in queue.
- Christopher L. Winfrey:
- All right. Thank you, everybody.
- Thomas M. Rutledge:
- Thanks, operator.
- Operator:
- You're welcome. This does conclude today's conference call. Thank you for participating. You may now disconnect.
Other Charter Communications, Inc. earnings call transcripts:
- Q1 (2024) CHTR earnings call transcript
- Q4 (2023) CHTR earnings call transcript
- Q3 (2023) CHTR earnings call transcript
- Q2 (2023) CHTR earnings call transcript
- Q1 (2023) CHTR earnings call transcript
- Q4 (2022) CHTR earnings call transcript
- Q3 (2022) CHTR earnings call transcript
- Q2 (2022) CHTR earnings call transcript
- Q4 (2021) CHTR earnings call transcript
- Q3 (2021) CHTR earnings call transcript