Liberty Global plc
Q1 2020 Earnings Call Transcript

Published: 7 May 2020

[Operator:]

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to Liberty Global’s First Quarter 2020 Investor Call. This call and the associated webcast are the property of Liberty Global, and any redistribution, retransmission or rebroadcast of the call or webcast in any form without the expressed written consent of Liberty Global is strictly prohibited. At this time, all participants are in a listen-only mode. Today’s formal presentation material can be found under the Investor Relations section of Liberty Global’s website at libertyglobal.com. After today’s formal presentation, instructions will be given for a question-and-answer session. Page 2 of the slides details the company’s Safe Harbor statement regarding forward-looking statements. Today’s presentation may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including the company’s expectations with respect to its outlook and future growth prospects and other information and statements that are not historical fact. These forward-looking statements involve certain risks that could cause actual results to differ materially from those expressed or implied by these statements. These risks include those detailed in Liberty Global’s filings with the Securities and Exchange Commission, including its most recent filed Forms 10-Q and 10-K, as amended. Liberty Global disclaims any obligation to update any of these forward-looking statements to reflect any change in its expectations or any condition on which any such statement is based. I would now like to turn the call over to Mr. Mike Fries.

[Mike Fries:]

Okay. Thank you, operator, and hello, everyone. I appreciate you joining us on the call today. And clearly, we have a lot to talk about, so I’m not going to waste much time with formalities and jump right into what will be the most important topic, which is how we’re managing through the COVID-19 pandemic. First of all, our hearts and prayers go out to everyone who suffered through this crisis. These are clearly unprecedented times and I am particularly proud of our 27,000 employees across 8 countries who have dedicated themselves to keeping their customers connected, entertained and informed. You can imagine, our primary focus has been on their safety and well being, and while the policies and requirements vary by country, nearly 90% of our team has been working from home and we are deep in preparation for their return to the office and the field on a gradual basis. And we appreciate that this is an extraordinary time for our customers as well. So in addition to providing them with the same reliable and robust connectivity services we’re known for, we’ve been improving their experience in a multitude of ways. We’re boosting speed and increasing data caps. We’re offering additional entertainment services, especially for kids and we’re aware that our customers are experiencing economic challenges as well. So very careful to keep folks connected and help them manage through the crisis, even offering lifeline services where it’s necessary. And we’re paying special attention to our B2B customers, increasing capacity and providing emergency mobile coverage to hospitals and ensuring quick turnaround on product changes. As an essential service, we have crews and trucks in the field every day, maintaining our networks, installing new customers and building plans. Our Lightning Construction crews for example are working as we speak. Of course, with additional precautionary measures, but we’re on pace to light up at least 350,000 new homes this year. By the way, we’ve included a slide on Project Lightning in the appendix to see we’d have those details for the quarter. Now, at the outset of the crisis, many wondered whether any network could withstand the increase in usage that could inevitably occur under these circumstances and the answer for us is a clear yes. Our fixed broadband network has seamlessly absorbed 20%-plus increases in the downstream and 50%-plus increases in the upstream bandwidth with no problem at all. So, recent investments in infrastructure and speeds and connectivity products have really proved invaluable for all of us. From a trading point of view, our sales have been largely stable, but down from pre-crisis levels. And at the same time, as many of our peers have reported, we’ve seen a considerable drop off in churn. We’re also experiencing softness in some of our premium sports products. That’s not surprising. But in markets like the UK and Ireland these are zero-margin packages for us. We don’t make much money and neither impacting cash flow. On the mobile front, store closures are impacting handset sales and usage has dropped off a bit, as folks offload to WiFi. But in many markets we’re on our way to reopening and recovery. For example, two-thirds of the shops in Holland are now open and back in business, and for us, it’s just a matter of time we believe. Charlie is going to address what all this means to our financial guidance for the year. On one hand, we’re fortunate that we have very little exposure to things like advertising or other sectors that are experiencing disruption right now. As a group, our services have proven to be even more vital for consumers during this crisis. On the other hand, we’re realistic about the impact this may have on bad debt and potential price increases and mobile roaming revenue, overall customer activity. Like our peers, we’re assessing the medium-term impact of the pandemic on our business. And we expect to have a more thorough update for you in the second quarter earnings call. There were a lot of uncertainties on the road ahead from lifting of lockdowns to testing a vaccine, but we feel well-positioned to power through this. In the meantime, we are not suspending or changing guidance. We’re actually pretty encouraged by our operating and financial prospects for the balance of the year. Let me reset the agenda here a bit, just for a minute and hit a couple of additional highlights on Slide 5. By the way, we’re talking from slide. If you can get a hold of those it’d be very helpful for you. Now, despite the impact of the COVID-19 crisis, we delivered a solid first quarter operationally and financially. In fact, the quarter was largely in line or ahead of our internal expectations. I’ll talk about this more when we dig into Virgin Media results. But we remain focused on a handful of key performance drivers in our European markets, in particular customer growth, customer ARPU and Fixed-Mobile Convergence. We did well on all 3 of these with largely stable customers versus the prior quarter, solid ARPU growth versus the prior quarter and year over year, and good mobile additions. And have pointed that these operating strategies are working, right? We have over 32 million gigabit-ready homes across our European footprint, with 1 gig services launched in nearly 12 million of those homes. We’re widening the distance between us and our competitors when it comes to broadband speeds. We had a 22,000 broadband service in the quarter as a result. And our Fixed-Mobile Convergence bundles drove nearly 115,000 postpaid mobile addition. Now finally, a quick update on capital allocation. At the end of February, we authorized a $1 billion share buyback and through the end of April, so in about 2 months, we repurchased $500 million of stock at an average price of mid-$16 range. So we’re generally buying through 10b5-1 plans according to preset grids or pace accelerated as the stock declined, shouldn’t be a surprise to most of you. Now, let me move to the most important announcement today, that is, of course, our agreement with Telefónica to combine our UK operations, Virgin Media and O2. We are really, really excited about this transaction and the partnership with Telefónica. Over the last several years, we’ve been successfully executing a very clear plan to create national Fixed Mobile Convergence champions in all of our markets. Now, in some cases, we’ve sold our broadband operations to mobile operators like Deutsche Telekom and Vodafone. We share that exact same belief in convergence by the way. And we’ve closed those transactions at premium multiples, highlighting the big disconnect between public and private valuations. In markets like Belgium, we acquired MVNO, and are thriving with Fixed Mobile Convergence in that country. And in Holland we joined forces with Vodafone in a 50/50 joint venture to create what is now the fastest growing and most important mobile broadband and entertainment provider in the market. This deal follows that path. By combining O2, the largest and most reliable and admired mobile operator, together with Virgin Media, the country’s fastest broadband network and most complete and innovative video platform is a powerhouse combination. First, it gives us the scale to invest competently in gigabit broadband and 5G right when it matters most. That’s now. And second, with the best network infrastructure, market-leading positions and world-class brands, we’ll have the strength to compete aggressively for customers. And third, of course, the combination delivers significant synergies that will accelerate operating cash flow and free cash flow. Now, we know the playbook well, as we’ve executed on it many times. It’s also a strong statement by both Liberty and Telefónica that we believe in the UK, and are right behind the government’s desire to bring next generation connectivity to consumers and businesses as fast as possible. So let’s dig in a bit on the transaction itself on Slide 6. There’s plenty of detail here, so I’ll try to hit the key points. The main deal points are in the left hand side of the slide. This will be a 50/50 JV in all respects. Obviously, we have experience with this structure in Holland and we know can work well. It feels like a very good fit with Telefónica. We have similar values, comparable operating goals and strong leadership on the ground. The economics of the deal are derived from relative valuations at the formation of the JV. You’ve all seen this equation before. In this case, we value Virgin at a total enterprise value of £18.7 billion, resulting in an equity value of £7.4 billion, that’s assuming, of course, £11.3 billion of debt is transferred into the JV. O2 was valued at £12.7 billion and will be transferred in debt-free, but with some working capital and debt-like items. So to equalize the ownership, Telefónica need to receive a payment from us of about £2.5 billion and that’s based on [12 to 31] [ph] numbers. That’s just math. And the math could change as debt and debt-like items evolve between now and closing, but we expect it to be largely the same, perhaps maybe even – the payment could be a bit lower. Just the O2 business is largely unlevered. We do intend to re-capitalize the JV with about £18 billion of total debt, which means each partner will receive recap proceeds on or before closing of approximately £3 billion that covers more than our portion of the equalization payment. And that to recap in Virgin Media, Ireland, which will stay outside of the JV, we should end up with net cash proceeds of about £1.4 billion or $1.75 billion. It’s worth pointing out that this is also a delevering event for our business, which will go from 5.5 to 5 times leverage in UK. Transactions is obviously subject to regulatory approval, which we anticipate will be reviewed at CMA and should be closed hopefully by the middle of next year, if not sooner. And moving to the right hand side of the chart. The rationale for this combination from our perspective is very compelling. I’ve covered some of those points already. We’re creating a clear convergence champion in our largest market and one of Europe’s most attractive. But the transaction also creates real value for shareholders. We’ve argued for quite some time that our stock doesn’t reflect any equity value for Virgin Media. Clearly, this deal changes that debate. And with an implied multiple 9.3 times in 2019 OCF were 25 times 2019 operating free cash, flow and there is substantial equity value in our UK business, even before net cash proceeds or synergies. Now, as you’ve read, the synergies are currently valued at an NPV of £6.2 billion as reflecting run rate benefits of around £540 million per year. It’s worth pointing out that, that compares really favorably the other fixed mobile convergence deals we’ve been associated with it. In fact, it’s on the lower end as a percent of the combined costs. Of course, we have a very strong track record, executing and over delivering on synergies, so hopefully that number should be good. On the bottom right, we present some financial metrics you can see that the 2 businesses together generated £11 billion in revenue in 2019 and £3.7 billion of OCF or EBITDA. That’s before intercompany service charges in the JV structure. And like our Dutch operation, we expected JV to generate significant distributable free cash flow, and then we should benefit from recap and through the dividends down the road. This is, of course, one of many, but a significant driver of the deal for us. Now, Slide 7, just provide some additional background on the combined group. I’ve already referenced the JV best-in-class fixed broadband mobile infrastructure. I think the key point here is that this deal will undoubtedly enhanced our confidence and strategic positioning when it comes to expanding our network leadership in the market. O2 has already rolled out 5G to 30 communities, and Virgin has already rolled out gigabit speeds, 2 million homes with the rest of our footprint ready to roll. We know that when the power of 5G meet 1 gig broadband, there is no looking back. And both we and Telefonica see eye-to-eye on the infrastructure network opportunity here. On a whole host of levels, O2 is an ideal partner for Virgin Media. They’re extremely well placed in the mobile market with the lowest back book, front book exposure, the lowest market churn, and very high NPS. We’ve done some of our own research, which confirmed what we knew that both brands have strong customer appeal. What we didn’t realize was that the appeal grows even stronger, and the brands are considered together. And that’s a great starting point of fixed mobile convergence, as are these other data points, 8 out of 10 Virgin customers use someone else’s mobile service today, which provides a huge pool for cross selling O2 to mobile service. Even more compelling research show that 50% of O2 customers that don’t have Virgin broadband, are more interested in adopting a converged product, an O2 or Virgin than they would be from another broadband provider. So the fundamentals are here, are very prosperous partnership and we’re excited to get started. And after big transaction like this always good to step back and reflect on the composition of our business and assets. The value creation strategy with focused on. You’ll see that on Slide 8, which shows our major operating businesses laid out along with other assets. And I’ll provide just a few quick observations here. Number 1, we have significant scale across Europe. These operations together will serve 80 million fixed and mobile subs, and what we believe are the best European markets. Together, they represent over £24 billion in revenue that’s taking the JV revenue plus our consolidated revenue, and over £8 billion of operating cash flow calculated on this new basis with significant levered free cash flow generation. The second big takeaway is that our 3 largest assets are or will be less than 100% owned. As much as anything that’s a function of European market today, which is rapidly consolidating to drive scale and generate the synergies. Sometimes you need partners and we’re certainly willing to join forces to create that value. Sometimes it’s public shareholders partnering with. Sometimes it’s a strategic operator. So long as there’s scope for liquidity and transparency on value were satisfied. The third point is that the value creation strategy is largely the same across the footprint. We’re building national FMC champions, partially because many incumbents are vulnerable underinvested or late to the game, but also because governments and regulators want scale driven challengers. They know that consumers and businesses win when there’s infrastructure based competition. And that’s been our mantra for decades, and it’s just true today as it ever was. Going forward, the focus is on free cash flow. It has always been one of the most – if not the most important metric of our business. Now with revenue and OCF growth flattening in a more mature telecom landscape, it becomes even more important. And it’s particularly coveted among European investors just look at where Telenet trade today, for example. So not surprisingly, we will examine the potential for public market listings where and when that makes sense. At the group level, we continue to have significant liquidity in excess of $10 billion, even before this transaction closes. And of course, none of us predicted this crisis. But what we certainly feel now is fortunate to have the capital to both pursue these types of deals and fundamental FMC strategies in core markets tend to be opportunistic, which we will be. That includes our time honored strategy of driving a levered equity capital structure and, of course, share buybacks as and when appropriate. I’m using this chart as a reference, but there are many ways to look at the valuation of our group. We’re not trying to be prescriptive here. But more than a few investors have asked us to put forward a simple sum of the parts analysis that shows the value gap we talked about. This is always a debate with the lawyers and the IR folks, but we’ve tried to provide a reasonably complete and hopefully simple version of that on Slide 9. I’ll try to break this down, and of course, we’re happy to take questions. The first 2 building blocks of value are our cash balance at Q1 and the value of our publically traded shares in Telenet. Together, those 2 numbers add up to about $16 per share. Again, that’s just an objective number. We don’t assign a specific value to our interest in Holland and Switzerland on this page. But we do provide the necessary metrics for others to do that pretty easily. You can choose your methodology. There are plenty of comparables to measure against. But we think you can get the $5 to $7 per share pretty easily for our interest in these 2 markets, that’s supported by a 14 multiple on OFCF at the low end and 10% free cash flow yield on the high end. And if you were to use Telenet’s multiple OCF, you get somewhere in the middle. So again, many will find their own numbers here. What are – the point, though, is that our current trading levels, around $21 plus my analysts have pointed out that you could arrive at that price. On these 3 numbers alone cash plus Telenet stock plus our interest in Holland and Switzerland. In other words, the UK was and perhaps still it being assigned zero equity value in our share price. The left hand side of this chart, we addressed that point, showing just one way to look at the implied value of the transaction that we just announced. There are 3 simple elements here

[Charlie Bracken:]

Thanks, Mike. And now I’m on Page 12, divisional overview, Mike has given you the key operational highlights of Virgin Media. And in the appendix, we’ve included similar pages, showing the key operational drivers for other major fixed mobile convergence businesses. In the interest of time, we’re not going to review these pages in our remarks today, but please do contact the IR team if you want to discuss them further. On this page, we set out the key financial metrics, which we’re using to assess the performance of these national FMC champions. Our focus continues to be to drive OFCF or OCF minus accrued CapEx, and free cash flow as these markets mature in terms of broadband penetration. Now for reference, we’ve also included a page in the appendix setting out our view of 2019 free cash flow for each of our divisions after the allocation of interest and the central technology and innovation CapEx. But for the quarter on this slide, I will focus on the underlying OFCF trends year-on-year, revenue in the UK anonymous slightly down 0.6%, but OCF declined 3.5%, OFCF before Lightning Construction CapEx increased $18 million to $372 million for the quarter. We increased our investment in Lightning compared to 2019 Q1 and spent $99 million, with 93,000 homes released during the quarter. Revenue growth in Belgium was slightly down at 9.4%, with OCF up 0.6% and year-on-year OFCF down $10 million to $187 million. And as John already explained in the Telenet earnings call, there was an acceleration of prepaid sports rights costs, and some front loading CapEx in Q1, which contributed to this year-on-year OFCF decline. But for the full year, confirmed that, excluding the effects of any lockdowns in the second half of the year, they expect to deliver full year rebased OFCF growth of 1% to 2% on an IFRS basis and adjusted free cash flow the lower end of the previous €415 million to €430 million guidance range. This assumes that they will gradually exit the lockdown starting in May, with a gradual economic recovery thereafter. In Switzerland, UPC was caught up in the continuing price competition in that market, which resulted in an accelerated decline in consumer and SOHO customer ARPU. This contributed to 2.7% decline in revenue. They also had an acceleration in prepaid sports rights cost in the quarter, as well as accelerated spending CapEx contributing to a lower OFCF of $55 million. However, based on current expectations around the impact of COVID. We expect cash generation to improve and the company remains on track to produce around $170 million of free cash flow for the full year, which includes central OpEx and CapEx allocations. In Holland, VodafoneZiggo had a very strong quarter with revenue growth of 3.3%, OCF growth of 4.9% and OFCF of $258 million, as they outperformed our expectations in virtually every operating metric, showing the strength of these converged national FMC champions. They’re now expecting stable to modest rebased OCF growth for full year. And they maintain their original free cash flow guidance of €400 million to 500 million and potential cash for shareholders distributions. Now, again, this assumes no further deteriorations as a result of COVID. On the entitled Group Overview, we set out the key financial metrics for the group as a whole. Revenue declined 0.3% for the quarter, an improvement over the declines from the previous four quarters, despite the impact of COVID-19. OCF growth also improved compared to the last 3 quarters of 2019, a minus 3.6% in line with our pre-covered expectations. OFCF continue to improve and excluding Lightning Construction CapEx was $593 million for the quarter, up from $569 million a year ago. The continuing reduction in CapEx intensity contributed this. And CapEx as a percentage of sales prior to Lightning Construction CapEx at 19.4%, lower than the previous four quarters. Liquidity remains extremely strong. Cash, including our $2 billion investment in separately managed accounts was $7.4 billion. Now, as many of you know, our SMAs are invested in low-risk liquid investments. Both our SMAs and money market accounts are now largely invested in government securities, as opposed to AAA funds, which will lead to a reduction in interest income going forward, but ensure maximum security for the cash. For the available revolving credit facilities and in our operating companies, the group as a whole has $10.3 billion of liquidity. Our leverage at the end of the quarter was 5.2 times growth and 3.7 times net EBITDA. The cost of debt continues to decline as we continued our refinancing program during Q1 and now stands at 4.1% with an average life in excess of seven years. On the page titled adjusted free cash flow, we lay out the key components of free cash flow. Q1 OFCF before Lightning Construction CapEx was $595 million, and our net interest for the quarter was $579 million. We make virtually all our interest payments in Q1 and Q3. So this phasing is in line with our expectations. Cash tax was positive for the quarter of $5 million. And we expect the full year 2020 figure to be lower than the full year 2019 figure of $358 million, partly due to reduced U.S. tax payments. The distributions in the JV in Holland were $11 million for the quarter, but we continue to expect full-year distributions of €200 million to €250 million, in line with VodafoneZiggo’s recent guidance. And as is typically the case in Q1, working capital was negative at $250 million, largely due to the phasing of vendor financing program. And as in 2019, we continue to target broadly flat net working capital flows to the year. Adjusted free cash flow before Lightning Construction CapEx was negative $218 million for the quarter and negative $317 million after construction CapEx, which again was in line with our expectations. Turning to the outlook for the full year, we’re still assessing the medium-term impact from COVID-19. And we’ll give investors a further update in Q2. Despite the impact of COVID, we continue to be encouraged by our operating prospects. And unless there’s another step change in the macroeconomic environment, we don’t see a need to change or suspend our original full-year guidance as detailed on the slide. And note that our current assumption is that lockdowns are lifted from Q2 followed by a gradual economic recovery. And also that our original $1 billion free cash flow guidance was based on exchange rates of €1.13 to $1, and $1.33 £1. Although we don’t guide on rebased revenue growth, we do expect negative impacts to revenue from reduced handset sales, and premium video, particularly sports. But both of these are relatively low-margin and have a limited impact on cash flow. We will continue to monitor the impact of the crisis on these forecasts and update you further in Q2. And so with that, I’ll turn it back to the operator. And in order to address everyone’s questions, we would kindly ask that you keep to one question each.

[Operator:]

The question-and-answer session will be conducted electronically. [Operator Instructions] And we’ll go to our first caller.

[Operator:]

We’ll go next to Jeff Wlodarczak with Pivotal Research.

[Operator:]

We’ll go next to David Wright with Bank of America.

[Operator:]

We’ll go next to Michael Bishop with Goldman Sachs.

[Operator:]

Yes, we’ll go next to Benjamin Swinburne with Morgan Stanley.

[Operator:]

We’ll go next to Vijay Jayant with Evercore.

[Operator:]

We’ll go next to Polo Tang with UBS.

[Operator:]

We’ll go next to Nick Lyall with SocGen.

[Operator:]

We’ll go next to Christian Fangmann with HSBC.

[Operator:]

We’ll go next to Steve Malcolm with Redburn.

[Operator:]

We’ll go next to James Ratzer with New Street Research.

[Operator:]

We’ll go next to Matthew Harrigan with Benchmark.

[Operator:]

Okay. We’ll go next to Ulrich Rathe with Jefferies.

[Operator:]

And we will take our last question from Sam McHugh from Exane.

[Mike Fries:]

Okay. And with that, we will let you get back to your day. Always appreciate you participating in these calls and your support. We’re excited about this deal that goes without saying, we are creating an FMC champions – a champion with incredible synergies, and needs great vote of confidence for us and for Telefónica in the UK. So we’re excited to get it going. And I would just lastly say, stay well, stay healthy, stay safe, and we’ll speak to you soon.

[Operator:]

Ladies and gentlemen, this concludes Liberty Global’s first quarter 2020 investor call. As a reminder, a replay of the call will be available in the Investor Relations section of Liberty Global’s website. There you can also find a copy of today’s presentation materials.