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Edited Transcript of ENT earnings conference call or presentation 7-Nov-19 10:00pm GMT

Q3 2019 Global Eagle Entertainment Inc Earnings Call

WESTLAKE VILLAGE Nov 8, 2019 (Thomson StreetEvents) -- Edited Transcript of Global Eagle Entertainment Inc earnings conference call or presentation Thursday, November 7, 2019 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Christian M. Mezger

Global Eagle Entertainment Inc. - CFO & Executive VP

* Joshua Benegal Marks

Global Eagle Entertainment Inc. - CEO & Director

* Peter Lopez

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Conference Call Participants

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* Gregory Thomas Gibas

Northland Capital Markets, Research Division - VP & Senior Research Analyst

* Mary Kirby

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to Global Eagle Entertainment Third Quarter 2019 Earnings Conference Call. (Operator Instructions) Please be advised that today's conference is being recorded. (Operator Instructions)

I would now like to hand the conference call over to your speaker today, Mr. Peter Lopez, Vice President of Finance. Please go ahead, sir.

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Peter Lopez, [2]

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Thank you, Olivia. Good afternoon, and welcome to Global Eagle's Earnings Call for the Third Quarter of 2019. I'm Peter Lopez, Global Eagle's Vice President of Finance and Investor Relations.

Before we start, I would like to remind you that our discussion today will include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based on management's current expectations and beliefs and are subject to uncertainty and changes in circumstances. Actual results may vary materially from those expressed or implied in such forward-looking statements due to various factors that we disclosed in our earnings release earlier today as well as our 2018 annual report on Form 10-K and our Form 10-Q for third -- for the third quarter that will be filed shortly. We disclaim any obligation to update those statements, whether as a result of new information, future events or otherwise.

Our discussion today will also reference EBITDA, adjusted EBITDA and free cash flow, which are non-GAAP financial measures. We have included a definition of these non-GAAP financial measures as well as a reconciliation to the most directly comparable GAAP financial measure in the earnings release and the slide presentation accompanying this webcast.

I'd now like to turn it over to Josh Marks, Chief Executive Officer of Global Eagle. Josh?

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [3]

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Thank you, Pete. Good afternoon, everyone, and thank you for joining our call today. Let's start with Slide 3. Pete and I are joined by Christian Mezger, our CFO; and Per Norén, our President.

As usual, after my remarks today, Per will be available for Q&A at the end of this presentation.

Turning to Slides 4 and 5. Global Eagle is a leader in connectivity and entertainment services that enhance passenger entertainment. We connect, entertain and inform passengers and remote workers with high-speed Internet, movies, live television, music, games, advertising and digital media. We serve airlines, cruise lines, superyachts, government and military entities and enterprise customers.

Over the past year, innovation and product releases have strengthened our commercial position in both connectivity and content services. We are the leading provider of onboard entertainment by revenue and market share across premium movies, live television and games. We're a leading provider of satellite connectivity and live television across our single-aisle fleets, cruise ships and superyachts. In each segment, we have a multiyear backlog that allows us to focus on cost optimization and service quality.

Turning to Slide 6. Our continued transformation is evident in our third quarter results. As a leadership team, we are focused on running a healthy core business, driving profitable growth and transforming our business operations.

Starting with Aviation Connectivity. During 2018, we certified our new high-speed antenna. In the first half of 2019, we launched service on that antenna and ramped up installations with Air France. And this morning, we announced the execution of our new Turkish Airlines contract. In Maritime, Enterprise and Government, or MEG as we call it, we've streamlined our cost structure and products with significant growth in our cruise television and government lines.

In Media & Content, the strength of our digital cloud platform called, Open, has led to important CSP wins. In the second half of this year, we expect to transition our airline customers on to Open with full deployment for all our customers in 2020.

In addition to innovation, we believe that profitable growth also requires cost leadership. In an effort to reduce costs, in 2018, we simplified our management team, eliminating more than 20 VP, SVP and EVP positions. To improve cash flow and liquidity in the third quarter of this year, we restructured our first-lien term loan and simplified our covenants, and now we're starting Phase 3 of our transformation.

Finally, to power our transformation and remediate the material weaknesses in our internal controls of our financial reporting, we've rebuilt our IT and financial systems. Armed with consistent and reliable data from a consolidated ERP platform, we've introduced data-driven operations to manage service-level agreements and quality control. We are rolling out objective and key result management tools to increase our overall alignment and agility. Our objective is to drive continuous improvement in our company, as measured by positive free cash flow, operations quality, product innovation and cultural change.

Now let's turn to Slide 7 and talk about our results. To use a baseball analogy, we're in the middle innings of our transformation. We are running a quarter ahead of guidance. We remain on track to achieve sustainable positive free cash flow when the Boeing 737 MAX reenters service, and we continue to take actions to achieve positive free cash flow irrespective of the return of the MAX.

In the third quarter, we had record revenue of $170 million and record adjusted EBITDA of $25.4 million. We have momentum on multiple fronts.

First, we executed against our phase savings. In 2019, we reduced our annualized operating expenses by more than $40 million. And from the fourth quarter of 2019 -- of 2018 trough, we improved our gross margin by 9 percentage points. We have instilled a culture of continuous improvement.

Second, our revenue growth is tracking expectations. We had 4% year-over-year revenue growth in the third quarter, and that growth came in spite of the MAX grounding, reduced content distribution revenue, our exit from African cellular backhaul markets and the reset of major cruise line contracts in the fourth quarter of 2018. We are growing, and we have a solid pipeline, supported by network performance, program execution and strong airline customer references.

Turning to Slide 8. On that front, our big news today is the signed contract with Turkish Airlines as well as completed contracts with our local partners, Turkish Technic and Profen. Together, we plan to provide high-speed connectivity for Turkish Airlines' Airbus A320 family and Boeing 737 family of aircraft.

Even though this was a competitive bid against satellite operators, our deal has a positive working capital profile and drives both network and program efficiencies with our other EMEA customers.

Now in Aviation Connectivity, we focus on Boeing 737s and Airbus A320s that operate within specific geographies. Entertainment drives demand for in-flight connectivity, so we optimize connectivity for entertainment use cases. In our target geographies, we drive efficient capital investments and efficient utilization of our satellite capacity. In addition, our Boeing 737 and Airbus A320 fleets operate multiple flights each day with sufficient passengers on board to maximize advertising impressions and sponsorship opportunities.

As you can see from the connectivity network coverage map on the slide, our large fleets cluster in an arc from North America to the Middle East. We focused on this arc. Turkish is a great fit, flying routes mainly within today's coverage areas. Furthermore, we plan to deploy our airConnect global Ku platform, including the same 3-axis antenna system from Air France with Turkish Technic servers and wireless access points.

From a financial perspective, we attempted to structure this deal with a favorable working capital profile. We anticipate positive equipment margin and cash flow under this agreement. With contracts now signed, we're integrating Turkish Technic components and expect equipment sales to ramp up with service revenue from year-end 2020.

Turning to Slide 9. I'll provide an update on our business activities, starting with Media & Content. We saw $2-plus million of new revenue in the third quarter from new content contracts. As a reminder, we invested in Open, our cloud-based digital content platform, to break the traditional CSP model. We now can work with content from a range of sources, including professional-grade YouTube and social media content. We are not constrained by file size, for example with 4K media. And our fully digital supply chain can now break the monthly update cycle.

Today, we already update aircraft content in realtime over our connectivity network to certain aircraft. These capabilities require years of investment and differentiate Global Eagle against our legacy competitors. With Open now in service, we anticipate moving more of our largest airline customers across by the end of the year. We've already transitioned all music content to Open, and we are now transitioning movies and television. By the end of last week, we have delivered over 250,000 audio, movie and TV assets via Open, and we now have over 45,000 titles in our cloud content universe.

Turning to our media supply chain. We are renewing our supplier agreements with consolidated studios. In the third quarter, we renewed our content supply agreement with WarnerMedia and our small airline agreement with Disney Fox. We have seen some changes in media pricing with pluses and minuses based on the studio and content category. We're adjusting our airline pricing models accordingly and are attempting to guide our airline customers on how to spend their IFE dollars most efficiently.

Turning to audio. We have prioritized the cleanup of historical matters related to music provisioning and distribution. We had 2 remaining significant disputes dating from earlier this decade. We are in the process of now formalizing settlement agreements related to these matters and took the appropriate litigation reserves in the third quarter.

Finally, I want to address our content distribution business. We are a major distributor of nontheatrical content, primarily serving airlines. We license content from Hollywood, Bollywood and Chinese language studios that we distribute worldwide. Our global library has been a unique differentiator for Global Eagle against other CSPs. In fact, we provide content to almost all of our competitors that they in turn place with their customers.

Our content distribution revenue to third parties is down $5.7 million year-over-year due to 2 factors. First, we focused our studio relationships to maximize available slate and box office traction. This is a natural evolution as content production is disrupted by new entrants like Netflix and Apple and by studio consolidation. Second and more importantly, we stopped acquiring content rights on an at-risk basis in the presale film market. While obtaining rights at a very early stage sometimes has positive outcomes, we found that betting on scripts at the development stage was hard to forecast and tied up cash for multiyear periods. Exiting these relationships and presale commitments drives positive cash impact.

Turning to Aviation connectivity. Turkish adds to our already healthy backlog. We expect to maintain production rates at 30 to 40 aircraft per quarter into the future, driving a stable working capital profile.

At third quarter end, we had a total of 75 Boeing 737 MAX aircraft with our airConnect system installed that are not generating revenue. This includes aircraft that were in service prior to grounding as well as aircraft that remain in Boeing's possession awaiting delivery after the grounding is lifted.

In the fourth quarter, we expect to install 15 additional MAX aircraft. So we expect those 90-plus MAX aircraft in total will resume service in early 2020.

Our installations with Air France continue. At the end of the third quarter, we were almost 1/3 of the way through installations, and we expect to be halfway done at 56 aircraft at year-end. We've shipped the kits and will recognize revenue as installations are completed based on aircraft availability.

We continue to focus on pass-through portal innovation. We released a new version of our award-winning airtime portal experience on multiple airlines, and we continue to see positive benefits from the integration of Apple Pay with our AIRtime passenger portal. In fact, now over 10% of our in-flight purchases on enabled airlines are done using Apple Pay, most using the added security layer of biometrics.

Another onboard success story has been our premium service on Norwegian, which has driven increased revenue per aircraft. Premium service users on Norwegian jumped 13% over the second quarter.

Finally, turning to Maritime, Enterprise and Government or, MEG, performance. Performance and profitability have been generally tracking our expectations for the year. At quarter end, we had 58 cruise ships with only connectivity, 51 with both connectivity and television and 180 with only television services, which is flat quarter-over-quarter. Cruise revenue was about $16 million for the third quarter, of which 2/3 was WiFi, and the remainder television.

In addition, we had 216 contracted yachts, of which 176 were active, and we have renewed 96% of our expiring yacht contracts this year. A handful of our yachts were sold during the quarter and the decline of our active ship count reflects the normal post summer layups in September.

Furthermore, we served 3,341 land sites at the end of the third quarter, which was flat quarter-over-quarter.

I'll conclude with an update on our MEG strategic review. As we previously disclosed, we are also evaluating the potential sale of certain of our joint venture interests. We have interest in both the full MEG perimeter as well as portions of the business, and we intend to make a strategic decision on the best path forward based on our ability to repay debt and create value for all stakeholders. We've made a lot of progress on this evaluation, and we expect to conclude the process in coming months.

In the meantime, we are focused on continuous improvement in our MEG business as well, including our Phase 3 initiatives. We see increasing opportunity in revenue, in margin and in cash flow from the MEG business in 2020. To be clear, we would expect to use the proceeds from the sale of any joint venture interest to repay debt as well.

Overall, I'm very proud of our record third quarter performance. We drove record revenue and record adjusted EBITDA. Our wins this year in Media & Content, combined with today's announcement on Turkish Airlines, establish Global Eagle as the in-flight passenger experience partner of choice for the best airline brands worldwide.

Now I'd like to pass the call to Christian to review our financial progress.

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Christian M. Mezger, Global Eagle Entertainment Inc. - CFO & Executive VP [4]

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Thank you, Josh, and good afternoon, everyone. Before discussing the company's financials for the third quarter of 2019, let me provide key takeaways for the quarter.

First, we delivered another quarter with substantial improvements to our financial performance. Secondly, as mentioned in our last call, liquidity concerns were alleviated by the additional liquidity provided by our lenders in the early part of the third quarter. And thirdly, we are encouraged by the progress we're making in terms of cash generation. I'll have more on free cash flow in a moment.

Global Eagle reported third quarter 2019 revenue of $170 million. Revenue grew $5.9 million or 3.6% on a year-over-year basis, and sequentially, revenues were up 7.9%. Content revenue increased by approximately $7 million versus the second quarter. Further, as in our second quarter results, we have not included any connectivity service revenue for Boeing 737 MAX in the third quarter. I'll discuss the financial impact of the 737 MAX grounding later.

Turning to free cash flow at the bottom right of Slide 11. Cash flows from operating activities was negative $10 million for the quarter. Capital expenditures were flat to the prior quarter at about approximately $4 million. Therefore, our free cash flow was negative $14 million. About $3 million of this $14 million were fees related to the first lien upsizing and working capital changes in the quarter. Another $8 million of the $14 million was due to legal items, which include legal settlements and nonordinary course legal fees. Without these 3 items, free cash flow would have been approximately negative $4 million. As such, we saw improvement in the cash generation of the business in the third quarter.

Gross margins for the company were 22.4%, up 130 basis points from last quarter. Gross margin shows almost 9 percentage points of improvement from our low point in the fourth quarter 2018.

Operating expenses were $54 million, down 5.3% year-over-year. Operating expenses did increase $5.5 million from the second quarter of 2019 but this was due to $7.7 million of legal items discussed before that we booked in this third quarter. Excluding those legal items, operating expenses declined 19% year-over-year and 4% quarter-over-quarter.

The company has now successfully implemented its Phase 2 savings plan. At this point, on an annualized run rate basis, we have realized more than $40 million of operating expense savings. We also have identified significant additional cost savings opportunities for Phase 3.

Operating income for the company was negative $16 million, which is a year-over-year improvement of $5.6 million. Unadjusted EBITDA was $7.7 million or 85% higher than in the third quarter of 2018. The significant improvement is even more impressive since it includes the $7.7 million in legal items.

Adjusted EBITDA also improved, both year-over-year and sequentially. Adjusted EBITDA for the third quarter of 2019 was $25.4 million or 14.9% of revenue, a 50 basis points improvement versus second quarter. It represents a $2.6 million improvement versus last quarter and more than $6.9 million improvement year-over-year.

With this profit performance, we achieved our guidance of $25 million of adjusted EBITDA 1 quarter ahead of schedule.

After our solid Q2 performance, our third quarter results demonstrate that our transformation is traction. It highlights our substantial progress towards achieving improved financial results, another important step towards our stated goal to achieve sustainable free cash flow.

Moving to the P&L. Global Eagle's net loss for the third quarter of 2019 was negative $41.3 million or earnings per share of minus $0.45. This includes $23.9 million of accrued interest expense.

Let's move to Slide 12 and discuss our segment results. We will start with our Connectivity segment. Connectivity revenues increased to $88.8 million or 6.5% year-over-year growth and $5.3 million or 6.4% sequentially.

Connectivity gross margins were 17.5% in the third quarter and showed year-over-year improvement of 370 basis points, a sequential decline of 270 basis points, mainly due to higher mix of equipment revenue.

As mentioned in previous calls, we continue to believe that our total Connectivity gross margin should be 25% on a normalized basis, although this is only achievable once Boeing 737 MAX aircraft return to service.

Let me update the financial impact of the 737 MAX groundings. The MAX program negatively impacted third quarter services revenues by approximately $3 million, with approximately $2 million impact to adjusted EBITDA after adding back $0.3 million of related expenses.

In the fourth quarter of 2019, we expect the same financial impact. These estimates assume no change to production rates of the aircraft. Thus far, we have not experienced any material changes in our shipment dates for Boeing line-fit MAX installations. If Boeing were to suspend or materially reduce MAX production, we could see additional delays in equipment revenue and a temporary inventory build impacting working capital. However, our current midterm liquidity allows us to address this, should it arise.

To conclude our Connectivity financials, I would like to turn to our Maritime, Enterprise and Government business, which we call MEG. Third quarter revenue was $41.5 million, a sequential decline of $2.6 million or 5.9%. Cruise revenue was $15.6 million. The cruise business is continuing to perform on par with our expectations. Rolling into fourth quarter, 1 year after our cruise contract resets took effect, we expect to see year-over-year growth in this segment due to strong operational performance.

Addressing yachts. Third quarter yachts revenue was $7.6 million or an increase of $0.8 million versus the second quarter due to seasonality. Commercial shipping and energy revenue was $5.8 million, an increase of $0.4 million over last year's comparable quarter. Our commercial shipping business continues to perform well.

In our enterprise business, we had third quarter revenue of $7.7 million, declining $2.3 million on a sequential basis, whereas our government revenue has increased by $1.1 million to $4.8 million, in line with our expectations.

Finally, I will walk you through the financials of our Media & Content segment. In Q2 2019, our revenues were $81 million, a year-over-year increase of 0.6% and an increase sequentially of $7 million. $5.2 million of the increase is due to volume increase of new and existing customers. The remainder is related to the timing of the refresh cycles, offset by the anticipated decline of less profitable content distribution revenues.

On a year-over-year basis, our distribution business declined by about $5.7 million. We expect CSP revenues to decline sequentially as a result of the seasonality of content refresh cycles.

As discussed in our last call, we started to deliver to the largest CSP customer in the industry in the third quarter. However, from early 2020, we will end 2 client relationships totaling high single-digit millions of annual revenues if neither renewal met our internal cash flow and profitability requirements.

Our gross margin for the Content & Media segment in the third quarter was 27.7%, declining year-over-year by 200 basis points but a sequential increase of 550 basis points. This was mainly driven by higher revenue related to the timing of content refresh cycles and volume increases from new and existing customers.

This quarter's margin performance of our content business was within the target range of 27% to 31%.

Let's turn to Slide 13. Our operating expenses have continued to improve significantly. Compared to Q3 2018, we reduced our operating expenses by about $3 million to $54 million. If you then deduct $7.7 million of legal items, the quarterly run rate for operating expenses is $46.3 million. We are realizing the benefits of our cost savings initiatives.

Turning to Slide 14, I want to give an update on our initiatives that are delivering cost reductions. We've accomplished these reductions without negatively impacting our service delivery, and we're focused on both gross margin and operating expense improvements.

Our Phase 2 headcount reductions from February have reduced our annualized labor run rate cost by about $20 million per year. Further, we have continued to reduce both professional services expenses and travel and entertainment expenses in the quarter. On a quarterly run rate basis, we have reduced these expenses by approximately $4.1 million versus the prior year quarter.

As mentioned earlier, we will continue to optimize our cost structure. We're in the late stages of planning our Phase 3 cost savings initiatives. We are reengineering the company's business processes to align and integrate the various parts of our business. In addition, we identified savings opportunities across our supply chain and procurement functions.

Phase 3 implementation will begin in the first half of 2020. We expect to see benefits in both cost of sales and operating expenses. We will provide additional details regarding the expected savings amount and more precise timing of the program's benefits on our fourth quarter 2019 earnings call. I will say that we will expect savings to be significant.

Finally, let's move to liquidity. We ended the quarter with liquidity of approximately $69 million. Of the $69 million, we have the cash balance of $9 million, with a reminder -- the remainder available on our revolver.

In summary, we had a record quarter in terms of revenues and adjusted EBITDA. We added another quarter of improved financial performance to 2019, and we're working to improve free cash flow irrespective of the return of the MAX.

We're working tirelessly to drive improved operational excellence. This builds a strong foundation.

I also want to thank our employees for their tremendous work, which led to a record quarter that showed progress ahead of schedule.

With that, I would like to turn the call over back to Josh.

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [5]

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Thanks, Christian. I hope 2 things are abundantly clear. First of all, we are laser-focused on operational execution. We've streamlined operations, we've uncovered new efficiency opportunities and now will enact substantial Phase 3 changes in 2020. Importantly, we have set a culture of cost management and continuous improvement, which is positively driving our EBITDA momentum and the quality of our earnings. And second, we continue to demonstrate strong product market fit in both Connectivity and Content.

Our Turkish Airline contract affirms that our single-aisle short-haul business model can drive real efficiencies and shows that our high-speed antenna technology, multi-platform satellite network and complex program execution is the right answer for premium clients worldwide. By focusing on large Boeing 737 and A320 fleets, within that arc from North America to the Middle East, our backlog will now translate to further gross margin improvement in 2020 and beyond.

And in Media & Content, we are the technology-focused CSP. As we digitize, we diversify the content we can offer and the quality of that content improves for high-resolution screens. So our strategy returns back to the same themes we've been talking about for 2 years, running a healthy core business, driving profitable growth and transforming how we operate. Our record third quarter results clearly show the progress we're making on all 3 of those fronts.

With that, I'll turn the call back to Pete for Q&A.

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Peter Lopez, [6]

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Thank you, Josh. Olivia, we would now like to open it up for questions and answers.

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Questions and Answers

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Operator [1]

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(Operator Instructions) All right. We have a question coming from the line of Mary Kirby from Runway Girl Network.

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Mary Kirby, [2]

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Global Eagle has long said it has been agnostic, and some of your competitors are now saying they are the same. In 2016, Global Eagle announced the development of the QEST-made Ka-band antenna but you guys continue to win Ku-band connectivity deals. So when it comes to Global Eagle Ka, should we expect the timeline for launch to be roughly in tandem with the service entry of the Telesat constellation, so effectively in and around 2021? Or are there some near-term opportunities at airlines that we should be thinking about?

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [3]

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That's a great question, Mary. Thank you. I'll answer the question in 2 ways. First of all, why is our commercial success driven by Ku-band deals? The answer is a combination of capacity, redundancy and coverage, same themes we've been talking about for a while. Again, we serve 737 and A320 fleets that operate within specific regions. So it's very important that we can source incremental capacity as needed in order to meet the demands of those aircraft around key urban areas. In most cases, we're operating gate-to-gate service, which means that the capacity load has a very high level of concentration at those hub airports. And bluntly, what we see today in Ku-band infrastructure, particularly with HTS, provides that combination of capacity scalability with consistency of coverage that airlines demand. Simply put, we just don't see a lot of airlines willing to make the compromises on coverage that are required by the Ka-band assets in orbit today. And while there's a promise at some point in the future that LEO networks, in particular, may help to fill in those gaps, particularly with constellations like Telesat that we expect to come online soon. Airline decisions today are driven by passenger experience now. And for that reason, with Ku HTS satellites in orbit, with the redundancy that comes from being able to deploy traffic across both Ku-legacy assets as well as modern Ku HTS satellites with our SD-WAN and NRM network management technology, we found that to be a winning proposition in the market. So we continue to be very bullish on the future of Ku to address today's (inaudible) requirements. Now looking forward, as you say, we do believe that LEO will be a very important piece of the puzzle. And we see LEO, the constellations, coming in both Ku and Ka-band. We are ready with our Ka-band antennas, both for new installations and for retrofits at the point when those constellations are live. And I think that having the flexibility to retrofit apertures and to move aircraft from Ku to Ka-bands is an important protection for our airlines looking 5 or 10 years out into the future to make sure that they are not locked into any one technology, based on the decisions we're making today.

So we are dual-band. We are agnostic in the way that we approach our hardware stack, but we also are seeing continued commercial success and wins where our Ku-band global solutions, multi-satellite base is the winning proposition in the market today.

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Operator [4]

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And our next question coming from the line of [Jeffrey Mattel] with (inaudible).

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Unidentified Analyst, [5]

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Great quarter. Congratulations. I have a question about the number of tails you have in backlog at this point as a percentage of total fleet. How many -- and how long will it take to install those tails?

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [6]

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So as we look at our backlog, we don't give out backlog numbers. Some of that is driven by the way that we structure our contracts with customers and the flexibility that we provide them. We also, as you know, operate in both a line-fit and a retrofit environment where aircraft orders are tied to production rates. I think our guidance has been pretty consistent on this front for the last couple of quarters, we expect to stabilize at 30 to 40 quarterly installations. We find that that drives the right balance of working capital in the business. It's something that we have consistently been able to deliver now over the last couple of quarters. And it also is an installation rate that's compatible with the large fleets that we have under contract going forward. So I think the best way to think about this is with the additional build in backlog that we've seen over the past couple of quarters, what we've really done is taken that commitment in terms of production rate at 30 to 40 per quarter and extended that out now for a multiyear period. And we're gearing our supply chain towards that.

Again, we are focused on managing the business for operational efficiency and cash flow. And for that reason, it's very important to have a long-term horizon in what our procurement is going to look like, maintaining a steady state of production so that we can continue to work with our vendors to maximize the value of our supply chain.

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Unidentified Analyst, [7]

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Great. And can you talk about the effect of the Turkish Airlines contract on your overall Connectivity margins in Europe? And how long that's going to take for us to see that run through the income statement?

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [8]

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Yes. So as I said during the remarks, we expect to start generating equipment revenue from Turkish and our partners in 2020 with activation to passengers by the end of 2020. We expect installations to ramp in 2021, which, again, is consistent with the overall guidance of 30 to 40 aircraft per quarter.

As we look at when that would then flow through to gross margin improvement, to be clear, you're going to see gross margin improvement in 2020 as additional Air France activations are loaded onto the European network. So you will see gross margin tick up given that each incremental aircraft with Air France is going into an infrastructure that's already built. Each incremental Turkish aircraft will also be riding on that same high-speed network. So you'll see very good efficiency as well, particularly on the European routes as Turkish aircraft come online.

We are -- as we look at the Turkish Airlines' route network, there are some areas of that network that will require some additional build-out. But again, we're not changing our overall guidance in terms of what we expect for CapEx as part of that profile, we expect that the Turkish Airlines' fleet and the routes that those aircraft serve will have a very efficient overlap with existing customers that we have, both in Europe as well as more generally across EMEA.

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Unidentified Analyst, [9]

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Okay. Great. And then finally, you changed your disclosure a little bit in your press release. And you mentioned that you could get to cash flow breakeven even with the MAX -- without the MAX given your planned Phase 3 cost savings. So should we think about the Phase 3 cost savings being excess of about $10 million? Is that a good number?

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Christian M. Mezger, Global Eagle Entertainment Inc. - CFO & Executive VP [10]

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I think it is a good starting point as a number. We are not yet at the point where we will be able to announce that, we'll come with it for the fourth quarter. But I think it's a good number to put in models.

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Operator [11]

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Our next question coming from the line of Greg Gibas from Northland Securities.

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Gregory Thomas Gibas, Northland Capital Markets, Research Division - VP & Senior Research Analyst [12]

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Congrats on the quarter. And it was nice to see the announcement on Turkish Airlines today as well. Sorry if I missed this, but have your cost-cutting efforts tracked thus far in Q4 in terms of your expectations? And can you just remind us what the next round of cost savings will be coming from and, I guess, when we should expect those to be realized?

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Christian M. Mezger, Global Eagle Entertainment Inc. - CFO & Executive VP [13]

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Yes. Thanks, Greg. So obviously, what we have triggered in terms of cost savings, right, and as I said during my remarks, those initiatives are tracked. So we're on track to deliver the fourth quarter savings as we outlined them, right? I mean, at this point, we have annualized run rate savings exceeding $40 million, right? And we'll build on that.

In terms of the next round, I think we're, as I said, very late stages of planning. We'll start implementing here in 2020, and it has basically 2 flavors. One is around general business process reengineering, right, as we further integrate our parts of the business and better align. And then secondly, supply chain and procurement savings across all of the businesses.

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Gregory Thomas Gibas, Northland Capital Markets, Research Division - VP & Senior Research Analyst [14]

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Got it. That's very helpful. And then with respect to the timing -- or I guess, have you guys really secured a final timetable for the rollout of Turkish Airlines? I mean you just kind of mentioned that equipment revenues would be recognized 2020 and kind of ramping and then online at the end of the year, and then you start to recognize those service revenues in 2021. Was that pushed back at all? I mean I thought that Turkish was expected to ramp maybe early 2020.

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [15]

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I think we need to clarify between equipment revenue and service revenue, okay? So you will see equipment revenue impact at the earlier part of 2020. We're well into the engineering portion on that. Again, no roadblocks at this point that we can see again, particularly for the A320 fleet. This is a very similar installation of things we've done in the past. So it's not rocket science for us. As to when the aircraft are activated and go into service, we're guiding at this point that the service revenue should start by the end of 2020. We may be able to improve on that. But from a modeling perspective, I would expect a year from here until we're ready to activate the passengers.

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Gregory Thomas Gibas, Northland Capital Markets, Research Division - VP & Senior Research Analyst [16]

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Got it. That makes sense. And then just wondering, is it still too early to think about some of the upsell or cross-sell opportunities from that new IFE account that began in July? I mean it sounds like everything went really well from a rollout perspective. So I guess, I'm just wondering how we should think about that account growing over time?

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [17]

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Yes, it was already the largest CSP account in the world. And the airline is making significant investments in in-flight entertainment, including 4K screens and other components that we think are going to drive revenue traction for us going forward. I think the way to look at those very large CSP accounts is a partnership with the airlines. They have strong IFE budgets, they're innovative. They think creatively about not just what content is shown on the aircraft, but how they can get access to unique content. And this is where the Open platform, where the digital content supply chain is so important. It provides the foundation of analytics to understand what content is going to play the best on aircraft. It provides the flexibility to ingest content from nontraditional sources, including, as I said earlier, Native YouTube content and other 4K independent production. And it gives us the flexibility to integrate and provide different media at an aircraft on a more flexible basis. So we're starting to move away from the sort of stayed monthly update cycle that frustrates every frequent flyer around the world. So we see a lot of opportunity to increase the volume of content. We see a lot of opportunity to bring new and unique content to that airline. And we see the airline as an innovation partner, where we can take what we learn and how we performed using the Open platform. We can then extend that out to other accounts that we have around the world. So it's a very exciting opportunity for us.

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Gregory Thomas Gibas, Northland Capital Markets, Research Division - VP & Senior Research Analyst [18]

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Got it. That's really helpful. And then the last one for me was just with respect to the process on evaluating the strategic alternatives. Are you still seeing a lot of interest in the MEG business? I see that you kind of -- just wondering if that interest in the MEG business has increased or decreased over time. I see that you're still kind of -- the updated date is kind of the end of the year. Any update there you could provide would be really helpful.

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Joshua Benegal Marks, Global Eagle Entertainment Inc. - CEO & Director [19]

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Yes. So we are continuing to see significant interest. The underlying performance of the MEG business has been good this year. We took a number of actions at the beginning of the year to focus the business, and it's taken a couple of quarters to really see that flow through to the financial results of the business, which I think are now clearly evident. So as we talk about the timetable, before we had said by end of fall. Now we're saying end of the year. So there's about a 10-day difference there in terms of timetable. We just want to set the expectation that -- again, we're -- as we continue to improve the business and drive improvement, we want to find the right opportunity. We want to find the right value for all stakeholders, so that we can reduce our debt, and we can find the focus that we want in aviation if we go that path. In the meantime, again, things are tracking well on that front. And there's no shortage of interested parties in both segments of the MEG business as well as the full perimeter.

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Operator [20]

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And I'm not showing any further questions at this time. I would now like to turn the conference call back over to Mr. Peter Lopez for closing remarks.

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Peter Lopez, [21]

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Thank you, Olivia, and thank you all for participating on our Third Quarter 2019 Earnings Call. We look forward to updating you on our continued progress next quarter. Olivia?

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Operator [22]

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Thank you. Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may all disconnect. Everyone, have a great day.