Otelco Inc
Q2 2020 Earnings Call Transcript

Published: 9 Aug 2020

[Operator:]

Good day, and welcome to the Otelco Second Quarter 2020 Earnings Conference Call. Today's conference is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to Ms. Drew Anderson. Please go ahead, ma'am.

[Drew Anderson:]

Thank you. And welcome to the Otelco conference call to review the company's results for the second quarter ended June 30, 2020. Conducting the call today will be Richard Clark, President and Chief Executive Officer; and Curtis Garner, Chief Financial Officer. Richard will summarize last week's announcement about the pending acquisition of Otelco by Oak Hill Partners. He will then provide strategic and operational updates from the second quarter as well as information on the company's adjustments during and performance under the changed environment caused by the COVID-19 pandemic. Curtis will highlight the financial results for the quarter, and then we will take questions on quarterly results from investors.

[Curtis Garner:]

Why don't I go ahead and take that place. Let's -- before we start the call, let me offer the cautionary notes that statements made during this call that are not statements of historical or current fact constitute forward-looking statements. Such forward-looking statements involve known and unknown risks, uncertainties and other unknown factors that could have caused the actual results of the company to be materially different from the historical results or from any future results expressed or implied by such forward-looking statements. In addition to statements which explicitly describe such risks and uncertainties, readers are urged to consider statements labeled with the terms believes, belief, expects, intends, anticipates, plans or similar terms to be uncertain and forward looking. Forward-looking statements contained herein are also subject to generally other risks and uncertainties that are described from time to time in the company's filings with the securities and Exchange Commission. With that started, let's turn the call over to Richard.

[Richard Clark:]

Thank you, Curtis. Good morning. It's good to host everyone on our second quarter 2020 investor call. I hope that you and your extended families, both home and work, are staying safe in these difficult times. I appreciate the opportunity to update you today on Otelco's results and activities. Let me start with an event which happened after the close of second quarter. As announced on July 27, Otelco entered into a definitive agreement to be acquired by affiliates formed by Oak Hill Capital, a private equity firm, for $11.75 per share in cash, which represents an equity purchase price of $40.6 million and an enterprise value of $105.6 million. As part of the definitive agreement, Oak Hill will assume or refinance Otelco's outstanding debt. The consideration represents a 43.3% premium to the unaffected share price of Otelco as of June 23, 2020, a 53.2% premium to the 20-day volume weighted average price as of the same date and a 58.1% premium to Otelco's average daily closing stock price during the second quarter of 2020. More information will be available when the proxy is provided to shareholders. Our Board of Directors has approved the merger agreement and recommended the approval and adoption of the merger agreement by the holders of shares of Otelco common stock. The agreement includes what is commonly referred to as a 'go-shop' provision, in which the company will return to the market to solicit alternative proposals from other parties for the company, which may be a greater benefit to the shareholders. That process is underway. Once that process has been completed, a special meeting of Otelco shareholders will be held as soon as practicable after the filing of a definitive proxy statement with the United States Securities and Exchange Commission and subsequent mailing to shareholders. The transaction is not subject to financing contingencies, and it's expected to close in the fourth quarter of 2020. Otelco's largest shareholder is a group of related entities, which collectively own 49.6% of the company's outstanding shares and has agreed to vote in favor of the transaction. Like much of the telecommunications industry, Otelco is rapidly deploying technology, including fiber to the premise, to increase Internet speeds for our customers. We have invested in fiber network construction over the last several years in response to the demand for higher bandwidth and have demonstrated our ability to deliver the necessary technology. Oak Hill has invested capital in other telecommunications providers to advance the deployment of the technology needed to support up to 1-gigabit Internet speeds. Oak Hill's commitment to facilitate Otelco's growth will allow the company to accelerate fiber growth plans that would not have been possible within our existing capital structure. We believe this transaction is a good outcome for telco shareholders, our customers and our employees. Please note that during the question period, we will not answer questions related to the transaction. Before I cover operational and strategic results for the second quarter, I would like to provide an update on Otelco's actions related to the COVID-19 pandemic. Since the outbreak, Otelco has continued to monitor developments in the states we serve. We believe we have taken the necessary steps to mitigate the potential risks related to COVID-19 pandemic to the company, our employees and our customers. To protect our employees while continuing to provide communication services needed by our customers, the company adapted installation and repair service processes to limit customer contact and minimize employee contact with other employees. As COVID-19 restrictions have been eased in some states, Otelco has begun having employees, who have been working from home since March 2020, return to their normal work locations. At the same time, we've continued to empower the company's technicians to reschedule any in person installation or repair if they determine the circumstances of the location present a health risk. During second quarter 2020, the company saw an increase in customer calls for new and changed service, payment arrangements and for service troubles, a trend which has recently begun to return to more normal levels. As a result of the measures implemented by the company, no significant adverse impact on results of operations through June 30, 2020, has occurred. As we begin the return to a new normal for operations, the full extent of the future impacts of COVID-19 on our operations is uncertain. An increase of COVID-19 cases in our service areas could have a negative impact on financial results and business operations of the company, including the timing and ability of the company to collect accounts receivable and procure materials and services from its suppliers. As there is a return to more normal operations, we will continue to work with customers who have been affected by the coronavirus on payment strategies that avoid discontinuance of voice and data services while allowing for the company to receive payment for services provided. We are proud of the dedicated work of Otelco employees, who have successfully navigated the challenges presented by COVID-19, to serve our customers while protecting themselves and their families. The crisis does not appear to be over, but many of our communities are beginning the process of opening their local economies and their schools. We will adapt to balance service provisions and safety as we return to a new normal, which is expected to continue to evolve for some time into the future. Now, looking at second quarter's operational results. Revenues for the second quarter 2020 declined $0.2 million or 1.2% from second quarter 2019. This reduction was primarily a reduction in voice services and access fees, partially offset by increases in Internet, transport services, video and security and managed services. Demand for Internet and higher data speeds lowered the decline from over 2% in the first quarter compared to the first quarter of 2019. In 2019, Otelco invested $12.4 million to grow its fiber distribution network and improve its broadband capabilities. The company is connecting customers to the 268 new miles of fiber in its service territories and leveraging VDSL technology where deployment is complete. During 2020, the company continues to invest in VDSL technology to meet or exceed -- or see this revised federal alternative contract Connect America model requirements, while also standardizing on a single company-wide broadband access platform. Network investment in 2020 also includes upgrading cable equipment to DOCSIS 3.1 and expanding availability of gigabit service in the fiber footprint. The company invested $2.2 million in its network and operations during the second quarter of 2020, bringing the total for the year to $5.5 million. All of the fiber for the 4,167 Arab locations is in service and was a big part of the reason we grew customers in the second quarter. Fiber to the premise provides up to 1 gigabit speed Internet capability. Through June, 817 customers in the Arab market have upgraded their existing service or signed up for the new Lightwave fiber service. The equipment is being deployed in New England service territories to support higher speed VDSL service and standardize on the same platform that provides service in Alabama and Missouri locations. In the southern part of our Alabama territory in and around Oneonta, Alabama, where Otelco is also the cable provider, work to upgrade its hybrid fiber coax network to DOCSIS 3.1 should be completed by the end of the year. COVID-19 impacted our completion date by about 3 months due to travel restrictions for our contractor and employees. Upon completion of this project, Otelco expects that all its cable customers will also gain access to 1-gigabit Internet speeds, like speeds available over a fiber-to-the-prem network. The company also continues to increase the speed of our Lightwave fiber to the prime service and is now offering gigabit speeds in several of its FTTP communities in Maine. We are pleased with our progress as our employees have worked hard during extremely difficult times to execute on these initiatives as we ramp up to get more broadband speed available to our customers. New work routines and locations presented challenges for making and keeping commitments. However, by the end of 2020, we expect our projects to bring gigabit Internet capability to more than 27% of our market while increasing available speeds to 50 Mbps and 70 Mbps to another 9% of our market with VDSL. When these projects completed, approximately 21% of the Otelco market will have access to speeds ranging from 25 megabits per second to 75 megabits per second, and 27% will have availability to gigabit speeds. Our objective is simple

[Curtis Garner:]

Thank you, Richard. We appreciate everybody joining us today. I'll hit a few financial highlights for second quarter, and then we can take your questions are about the quarter. Unless noted otherwise, every comparison is against the same period in the previous year. The press release we issued yesterday and our 10-Q filing include additional details of our second quarter results. Total revenues decreased 1.2% to $15.5 million from $15.7 million in the prior year period. Revenues actually increased $50,000 in the second quarter over first quarter 2020.Components of revenue are as follows. Local service revenue decreased 4.4% in the second quarter, RLEC, residential voice line revenue, including long distance and other related services, decreased just over $0.1 million revenue associated with special line, and rental revenue decreased just over -- just under $0.1 million. Network access revenue decreased 5.9%. ACAM revenue increased $0.3 million, reflecting the FCC's adjustment of funding for our conversion of Vermont to ACAM, which was not reflected in the second quarter of 2019. CAF and other transition support payments decreased $0.3 million, switched and special access as well as end user fees decreased by $0.3 million. Internet revenue increased 6.4%, reflecting an increase in customers and data speeds. Transport services revenue increased 4.5%, reflecting wholesale customer growth. Video and security revenue increased 3.3%. An increase in-app TV customers and pricing associated with increased programming costs changed -- were off -- partly offset the decline in traditional cable customers. Managed services revenue increased 20.1%, reflecting modestly higher bot hosting and professional services revenue. Moving on to operating expenses for the second quarter. Operating expenses increased 5.8% to $12.6 million from $12 million in the prior year period. Legal and other costs associated with the transaction that Richard talked about that was reported on July 27, are the primary driver for the increase. Cost of services decreased 2.6% as network access total and circuit expense accounted for a decrease of $0.2 million, and lower sales and customer service expense accounted for a decrease of $0.1 million. These decreases were partially offset by an increase in cable programming and Internet expense of $0.1 million. Selling, general and administrative expenses increased 29% to $3.3 million from $2.6 million a year ago. Legal and other costs associated with the acquisition of Otelco by Oak Hill Capital accounted for the increase. Without the transaction expenses, SG&A would have been flat. Depreciation and amortization increased 7.6%. An increase in RLEC depreciation, reflecting new fiber investment placed in service accounted for the increase. Operating income for second quarter was $2.8 million compared to $3.7 million for second quarter of 2019. Interest expense declined $0.4 million, reflecting lower interest rates and the reduction in principal outstanding under the company's credit agreement. Other income increased $0.1 million, reflecting the sale of unused land in Vermont. Net income was $1.4 million in the second quarter of 2020 compared to $1.7 million in the second quarter of 2019. Basic net income per share was $0.42 for second quarter of 2020 compared to $0.50 per share in the same period of 2019. Consolidated EBITDA was $5 million for second quarter 2020 compared to $5.7 million for the same period the previous year. If you exclude the transaction-related costs I mentioned earlier, consolidated EBITDA was unchanged from second quarter 2020 when compared to 2019. Our balance sheet reflects cash of $8.5 million at the end of second quarter compared to $3.1 million at the end of 2019, including $3 million in Paycheck Protection Program loan proceeds received in April of 2020. During the first half of 2020, the company invested $5.5 million in improving its network and operational capabilities compared to $4.4 million during the same period in 2019. The company's leverage ratio of consolidated indebtedness to consolidated EBITDA was 3.03 at the end of second quarter, reflecting the use of additional cash generated from the business operations to improve our network versus reducing the loan principal. Our rate of debt, net of cash to consolidated EBITDA was 2.65, reflecting the scheduled payments made on the debt and the PPP loan proceeds. I think that covers the highlights for the quarter. Richard, I think you want to make one more comment before we take investor questions?

[Richard Clark:]

Thanks, Curtis. I want to commend the dedicated work of Otelco's employees during this unprecedented time. Despite the challenges we have faced, our employees have continued to provide an essential service to our customers at a time when they need it the most. Finally, we look forward to our next stage of growth. Orlando, if you'll provide directions, we can shift to taking questions from our investors at this time. As a reminder, we cannot answer questions related to the Oak Hill acquisition.

[Curtis Garner:]

Thanks, everybody. We appreciate you joining us this morning. We'll keep you informed as things develop over time.

[Operator:]

All right. And everyone that does conclude today's call. We thank you for your participation. You may now disconnect.