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Edited Transcript of ALSK earnings conference call or presentation 8-Nov-17 8:00pm GMT

Q3 2017 Alaska Communications Systems Group Inc Earnings Call

Anchorage Jan 2, 2018 (Thomson StreetEvents) -- Edited Transcript of Alaska Communications Systems Group Inc earnings conference call or presentation Wednesday, November 8, 2017 at 8:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Anand Vadapalli

Alaska Communications Systems Group, Inc. - CEO, President and Director

* Laurie M. Butcher

Alaska Communications Systems Group, Inc. - SVP of Finance

* Tiffany Smith

Alaska Communications Systems Group, Inc. - Manager of Board & IR

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Conference Call Participants

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* Barry Michael Sine

Drexel Hamilton, LLC, Research Division - MD of Equity Research

* Charles Craig

Meliora Capital - Analyst

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Presentation

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Operator [1]

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Good day, everyone, and welcome to Alaska Communications Systems' Third Quarter 2017 Earnings Conference Call. Today's conference is being recorded, and at this time, I would like to turn the conference over to Ms. Tiffany Smith, Manager, Investor Relations. Please go ahead.

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Tiffany Smith, Alaska Communications Systems Group, Inc. - Manager of Board & IR [2]

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Thank you. Welcome to the Alaska Communications Third Quarter 2017 Conference Call. I'm Tiffany Smith, Manager of Investor and Board Relations. With me today are: Anand Vadapalli, President and Chief Executive Officer; Laurie Butcher, Senior Vice President of Finance; and Leonard Steinberg, General Counsel.

During this call, we'll be using a slide deck that we'd encourage everyone to have available. For those listening to this call via the webcast, the presentation will be displayed on your screen. For others, you can go to our investor website, www.alsk.com, click on the Events section, go to the Third Quarter 2017 Earnings Call event and click on the PDF version of the presentation. We will indicate which slide we are discussing so you can follow the presentation material throughout the call.

Now as we get started, please review Slide 3 for our safe harbor statement. During this call, company participants will make forward-looking statements as defined under U.S. securities laws. Forward-looking statements are statements that are not historical facts and may include financial projections, estimates of shareholder returns or other descriptions of the company's business plans, objectives, expectations or intentions. You are cautioned not to put undue reliance on forward-looking statements as actual results could differ materially from expectations as a result of a variety of factors, many of which are outside the company's control.

Additionally, any non-GAAP measurements referred to during this call have been reconciled to their nearest GAAP measure. You can find these reconciliations in the appendix to our presentation and on our website. Following our remarks, we will open the line for questions.

With that, I would like to turn the call over to Anand. Anand?

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [3]

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Thank you, Tiffany. Good day, and thank you for joining us. Starting with Slide 5. First, a brief commentary on our results for the quarter and year-to-date. The continued strength of our business and wholesale segment, in particular the enterprise and carrier verticals, delivered solid sales performance through this year. That said, while we've had growth, the sales performance has not translated into the financial results we have typically reported. First is the timing of delivery of contracted sales as several of our large dollar wins have customer dates further out into the future. So on one hand, this impacts us in the near term, while on the other hand, this does give us visibility into continued revenue performance in the upcoming several quarters.

Second is the impact on adjusted EBITDA as we adapt to the FCC's Rural Health Care Program that is both funding constrained and needs modernization. On this front, we are taking several actions to better prepare for 2018, including substantial advocacy work in this regard. All that said, we remain comfortable with the revenue guidance for the year. And more importantly, I remain confident in the opportunity ahead for us.

To give you some color of our market performance, examples of our recent wins include: significant managed IT wins with existing enterprise customers, furthering our view that there is opportunity to be had and an increased share of wallet; our strong carrier relationships are reflected in incremental backhaul business that we have won from national carrier customers; and we have secured our first customer opportunity concurrent with the turn-up of our C band satellite capacity, improving what was already a solid business case for that investment.

Broadly, core demand drivers for our business continue in their robust trajectory. On the consumer side, video streaming continues to gain momentum. Cloud migration is strong for businesses, and 5G-related small cell activity will drive backhaul demand on the carrier side.

At the macro level, the Alaskan economy creates both pressure and opportunity. We do see some deferral of spending decisions that is reflected in the lower onetime revenues this year. At the same time, technology and cloud enablement allows businesses to be more cost-efficient, creating longer-term opportunity. In particular, in a state like Alaska, technology remains indispensable to the efficient delivery of services like education, health care and public safety. Additionally, we see several plans for exploration this winter in the National Petroleum Reserve-Alaska. And while there is optimism, it is too premature to comment on how this will ultimately shape out to be.

Which leads me to the next slide, Slide 6. We continue to create opportunities with our network, and we have several deployments in play. Regarding fixed wireless, we have successfully trialed this technology and expect to use it extensively in meeting our CAF II obligations in a capital-efficient manner. We see applications in more urban markets, giving us a competitive network for the mass market segment, the residential and small business customers. This is a segment where we have traditionally been constrained with our access network and we see fixed wireless opening opportunities for us. We expect to be very targeted in our deployment over the next year, building both a technology and an operating model platform for driving accretive growth in mass market.

And lastly, while we remain excited about future low-earth orbit satellite technology, we have recently entered into an agreement to lease our own transponder space in a C band satellite operated by Eutelsat. We have traditionally leased capacity from other providers, and this will create significant savings for us in 2018 as we migrate to our own network while giving us additional capacity to sell into. This also creates a bridging strategy while we wait for the LEO technology to gain ground.

With that, let me hand the call to Laurie. Laurie?

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Laurie M. Butcher, Alaska Communications Systems Group, Inc. - SVP of Finance [4]

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Thank you, Anand. Turning to Slide 8, let me start with our year-over-year performance for the quarter and year-to-date period ended September 30. Total revenue increased 0.4% in the third quarter and 1.7% year-to-date, reflecting total broadband growth of 6.8% for the quarter and 10.5% year-to-date.

Business and wholesale, representing 61.5% of our total revenue, grew 2.5% in the third quarter and 4.5% year-to-date. This reflects the expected impacts of lower Rural Health Care funding, with business and wholesale broadband showing growth of 8.3% in the third quarter and 12.6% year-to-date.

Consumer revenue, representing 16.4% of our total revenue, declined 0.7% in the third quarter and 1.7% year-to-date. However, consumer broadband grew 1.2% for the quarter and 3.1% year-to-date.

Regulatory revenue, representing 22.1% of our total revenue, declined 4.4% in the third quarter and 3% year-to-date.

Turning to Slide 9. Adjusted EBITDA was $13 million for the third quarter and $41.8 million year-to-date, decreasing 5.8% from the prior year quarter and remaining flat to the same year-to-date period in 2016. The shortfalls in Rural Health Care funding have impacted adjusted EBITDA by $1.5 million for the quarter and $2.6 million year-to-date.

As Anand noted, we've had solid sales performance for the year. However, longer lead times on deliveries have also impacted revenue growth and adjusted EBITDA. To be clear, part of the delay is a choice we've made to wait until we have clarity in Rural Health Care funding before we deliver new services. That said, while we hold off on delivering new services, we do continue to deliver services under existing contracts, noting that cash disbursements from the RHC program have always had long lead times. Further, as Anand mentioned, a portion of the long lead time is driven by customer-desired due dates.

In addition to our attention to delivering on the backlog and driving our revenue numbers, to further prepare for stronger adjusted EBITDA performance in 2018, we're taking several steps to reduce our operating expenditures with targeted reductions in certain areas and more effective resource allocation to fund our areas of growth like enterprise and carrier. Our commitment to growing both adjusted EBITDA and free cash flow remains strong. And in this regard, while we do not have a new labor agreement, we continue to have constructive conversations with our partners at the IBEW on how to best advance our common interest in securing the long-term future of our company and our employees.

For the quarter and year-to-date, respectively, net capital spending was $13.5 million and $24.1 million. Capital spending in Q3 tends to be generally high due to the seasonality of construction in Alaska. Of the year-to-date spend, $14.5 million has been allocated to success-based projects. And to date, top projects for the year have included backhaul for carriers, next-generation 911 services for government agencies, increased capacity and upgrades to our AKORN fiber and investments in satellite technology. We continue to pay significant attention to capital management and driving capital efficiencies. Consequently, for the year, we're able to manage our CapEx spending down without compromising our revenue production.

Adjusted free cash flow was negative $4.2 million for the quarter and positive $6 million year-to-date. As a reminder, adjusted free cash flow fluctuates from quarter-to-quarter due primarily to the seasonality of our capital spending and the timing of interest payments.

Turning to page 10. At September 30, total debt was $187.7 million, and net debt was $172.4 million compared to $179.6 million and $162.8 million, respectively, at December 31, 2016. Cash was $11.2 million compared to $21.2 million at December 31, which was driven by our refinancing earlier in the year.

Looking at the full year 2017, we reaffirm guidance for revenue and free cash flow. We expect total revenues to be between $229 million and $235 million. And given the uncertainty of Rural Health Care funding, we are conservatively revising guidance for adjusted EBITDA to a range of $56 million to $59 million. With our emphasis on capital efficiency, we are also reducing our guidance for net capital spending to $32 million to $35 million, and we expect adjusted free cash flow to be at the high end of our range of $4 million and $7 million.

With that, let me hand the call back to Anand. Anand?

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [5]

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Thank you, Laurie. Let me conclude on Slide 11 by noting our confidence in long-term growth opportunities. With significant attention to cost control and tight capital management, we expect to deliver on continued free cash flow performance. Our commitment to execute on the board-authorized share repurchase program is strong, and we see this as an important tool to create shareholder value. I look forward to reporting progress on all fronts in the future.

With that, let me open the questions -- call for questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) And first caller, please go ahead with your question.

And it appears that caller has disconnected his line from the conference.

(Operator Instructions) And caller, please go ahead with your question.

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Charles Craig, Meliora Capital - Analyst [2]

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This is Chas Craig with Meliora Capital. So my question is on the lines of capital allocation. You guys put in place a pretty sizable buyback. You had the opportunity to begin buying back shares, if I remember correctly, on 4/1.

And I'm just a little -- I understand the need to balance -- keeping the balance sheet in order, but I'm a little surprised there hasn't been more progress, particularly given your comments regarding your share price being fairly depressed over the last couple years and during the period of time that you've been able to have made some more progress on this -- on your buyback. So if you would please just comment on your strategy there and plans for the next couple quarters.

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [3]

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Thank you for the question. As I noted in my prepared remarks, our commitment to executing on the board-authorized program is strong. Clearly, this is one where we need to get to a certain set of conditions that are contained in our credit agreement before we can begin to execute on the program.

And you're correct, we have said in the past that we do believe that our shares are undervalued in the market, and we see this as -- the buyback program as, in fact, a way to create some returns for our shareholders. And certainly, we are strongly committed to the program. And as we execute to that program, we will come back and report progress on it. So thank you.

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Charles Craig, Meliora Capital - Analyst [4]

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Sure. A quick follow-up on that. And I apologize, a lapse in my understanding. My understanding previously was that you guys had received approval from your bankers to begin executing on the program as of 4/1. Could you provide me the metrics that you haven't hit yet that I thought that you had?

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [5]

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Yes. So our credit agreement does give us the flexibility to buy back shares based on -- our board made the authorization. But the credit agreement also has a certain set of conditions that we have to satisfy before we can do that.

And there's several of those, including cash positions, et cetera. So we're -- we monitor those carefully. And clearly, our interest is to ensure that we can pull the right kind of levers as and when we can to execute on the program that our board has authorized. So as we are able to do so, I'll look forward to reporting progress on that to you.

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Operator [6]

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(Operator Instructions) And we'll take our next caller.

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Barry Michael Sine, Drexel Hamilton, LLC, Research Division - MD of Equity Research [7]

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Just a couple questions, if you don't mind. First of all, maybe you could back up and give us a little tutorial on what is going on with Rural Health Care. Have they cut the budget? Have they eliminated it? Did they just run out of the funds? Who approves that? What's the outlook? And what -- just a general tutorial, if you don't mind.

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Laurie M. Butcher, Alaska Communications Systems Group, Inc. - SVP of Finance [8]

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Yes. Thanks for the question, Barry, this is Laurie. Yes, just as a reminder, starting at the beginning with the fund, looking back over the last 20 years, this has been a fund that's been in place with a cap or a limit on it that has never been raised. But over those period of years, the fund has really been underutilized.

Over the last several years, USAC has really been promoting the program. And as we all found in April, the 2016/'17 year, for the first time, was oversubscribed. So it was a surprise to all of the carriers when 10 months into the program, the program was suddenly capped and there was a scramble for funding.

This year, frankly, to date, this is -- and Barry, as a reminder, the program runs from July through June. So where we're sitting today in Q3 or the quarter that we just closed is really the first quarter of a new funding year for USAC -- or for the program. And to date, they have not announced what the funding will be. There has been an announcement that the fund is oversubscribed, so we do know that it's oversubscribed. And we've gone through a process of trying to model what that oversubscription should be or could be.

Again, they haven't made a decision, so this is the analysis that we've done. It's really based on our best judgment, and we have baked that judgment really into what we have done in adjusting our EBITDA guidance. We really did an analysis that gave us a range of outcomes. And based on those outcomes, we kind of book-ended our results and adjusted accordingly.

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [9]

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Barry, this is Anand. To add a little bit more color, the program funding level has been stagnant at about -- at $400 million for 20 years. As a comparison point, the other program for education, which is E-rate, has seen substantial increases over the last several years.

So in addition to the comments that Laurie made, just a couple of things, to reiterate, we have a lot of work going on and not just by us, by a lot of people, including Rural Health carriers in Alaska and the nation, to both modernize the program as well as increase the level of funding. So advocacy is a big part of it in terms of what we plan to do going forward.

And then importantly, in terms of conducting our own business, just again going back to the comments that Laurie made, we have been more conservative as to how we approach this. For example, we are not delivering on contracted revenue until we have better clarity on funding decisions. And some of this is part of the backlog, but that's the choice that we have consulted with our customers. And with their support, we are holding back on delivering new revenue.

But of course, we continue to deliver services that are already contracted because, in good conscience, we cannot stop critical communication services to villages in remote Alaska that are so dependent on these services. So we are approaching this in a very measured and calibrated way. And certainly, after the unexpected oversubscription this year, as we go into 2018, we, along with the rest of the industry, are adjusting to the new realities that you are seeing with the program.

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Operator [10]

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And Mr. Sine, was there anything further, sir?

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [11]

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We may have lost Barry and the connection there.

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Operator [12]

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Not a problem. That will conclude our Q&A session for today. I would like to turn the conference back over to Anand Vadapalli, President and CEO, for any additional or closing remarks.

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Anand Vadapalli, Alaska Communications Systems Group, Inc. - CEO, President and Director [13]

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Thank you so much for your participation today, and we look forward to our future calls. Have a great day.

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Operator [14]

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That will conclude today's conference. Thank you all, once again, for your participation.