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Edited Transcript of OTEL earnings conference call or presentation 8-Nov-18 4:30pm GMT

Q3 2018 Otelco Inc Earnings Call

ONEONTA Nov 16, 2018 (Thomson StreetEvents) -- Edited Transcript of Otelco Inc earnings conference call or presentation Thursday, November 8, 2018 at 4:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Curtis L. Garner

Otelco Inc. - CFO, Secretary & Director

* Drew Anderson

* Robert J. Souza

Otelco Inc. - President, CEO & Director

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Conference Call Participants

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* Ira Sochet

Sochet & Company, Inc. - President

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Presentation

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Operator [1]

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Good day, and welcome to the Otelco's Third Quarter 2018 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.

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Drew Anderson, [2]

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Thank you, Tara. And welcome to the Otelco conference call to review the company's results for the third quarter ended September 30, 2018. Conducting the call today will be Rob Souza, President and Chief Executive Officer, and Curtis Garner, Chief Financial Officer.

Before we start, let me offer the cautionary note 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 cause 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. The forward-looking statements contained herein are also subject generally to other risks and uncertainties that are described from time to time in the company's filings with the Securities and Exchange Commission.

With that stated, I will now turn the call over to Rob Souza. Please go ahead.

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Robert J. Souza, Otelco Inc. - President, CEO & Director [3]

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Thank you, Drew. And good morning everyone and welcome to our third quarter 2018 Investor Call. I will discuss the third quarter's operational performance and other key issues affecting our business. Curtis will then review our financial results and we will take your questions. Our results for the third quarter continue to reflect the trends in our industry, as traditional access revenues and residential RLEC customers continue to decline, as well as the impact of inflation, a tightening job market and our billing system conversion are having on cost and expense.

Total revenue was $16.3 million, down 4.1% over last year. Operating income was down 7.7% to $4.5 million. Conversion costs for bringing our new billing system online affected our operating income for the third quarter. Net income was up over the third quarter last year, increasing to $2.3 million compared to $1.6 million last year. This increase includes $1.1 million decrease in interest expense associated with the new CoBank facility. Basic net income per share was $0.69, compared with $0.47 for the third quarter last year. Cash was $3.7 million at the end of the third quarter, a small decline sequentially from second quarter, but still slightly above our cash position at year-end 2017.

During third quarter, we reduced the outstanding principal on our credit facility by $4.1 million, including a $3 million in voluntary prepayments, which is in line with our intention to continue reducing our leverage, while we increase our investment in fiber in the territories we serve. As discussed over the past year, Otelco began receiving the FCC's ACAM payments in the 5 states where the program is applicable to the company in 2017, and will continue to receive funding through 2026. The program funding is being used to enhance and build out our broadband network to provide increased broadband speeds and accessibility to customers. At the end of the year, we will provide information regarding the status of the various build requirements of ACAM.

In June, the FCC named Otelco one of the 220 qualified bidders who are authorized to participate in the FCC's Connect America Fund Phase II auction. This reverse auction awarded support payments over the next 10 years to service providers, who successfully bid to offer service in unserved high cost areas, which were defined by the FCC. The auction began on July 24th 2018, and we were named the winning bidder on August 28th, 2018 for 3 census blocks in western Massachusetts. The funding will support construction of a fixed wireless network to provide improved data services to 4 targeted communities, including approximately 500 locations in this area. Winning service providers must complete a long-form application, which is a multi-phase process, in addition to meeting various other requirements before being authorized to receive support payments. Winning service providers must also commit to offer voice and broadband services to a fixed number of locations.

After the FCC approves our long-form application, we will begin receiving $92,000 annually in support for the 3 areas for the next 10 years. The new network will greatly enhance voice and data options for residents in these communities. The company will partner with WiValley to build and operate the network with construction expected to begin before the end of this year. The company will continue to update the FCC long-form 683 with the documentation required, including the credit commitment letter and the detailed technology and system design. We have also filed an ETC application with the state of Massachusetts for the necessary designations to provide services in these areas. Our previous work with the town of Leverett, Massachusetts demonstrates how municipal partnerships can work to improve communities' digital access. Other towns in New England are exploring fiber and fixed wireless options for their communities based on successful solutions like the one in Leverett. In 2018, Otelco will invest $8 million to expand our fiber distribution network and improve our support systems, including the $2.4 million invested during third quarter. Fiber-to-the-premise will be the primary vehicle to increase data capacity for Otelco's customers with other technologies, including fixed wireless being employed in more sparsely populated areas. The company has over 2,000 route miles of transport and fiber to the premise deployed within our service territory.

Consolidating and streamlining the business operations remains a strategic focus of our business. As announced early last year, we selected a partner to consolidate all of our billing and operational systems on 1platform. After an extensive year-plus-period of planning and customizing the system, Otelco completed the conversion of 3 billing systems into a single new billing and operational support system during the third quarter. All carrier and end-user activity from ordering to provisioning to billing and collecting is being handled in the new system. The design, conversion and the implementation process took over 2 years and involved virtually all of our employees. Our employees' and vendors' hard work has created an efficient single system we can use to serve all of our customers well into the future.

While every cutover of this magnitude has its own set of challenges, our team has been able to bring the system online as expected and minimize any customer impact. It will take some time for both employees and customers to become accustomed to new processes and new bill formats. The long-term benefits, however, make the investment of time and capital resources worth it. We appreciate the dedicated effort of our employees, who have worked very hard to get this conversion to this conversion point and are excited to be utilizing the new technology. We look forward to the operational benefits it will provide our customers as well as the favorable financial impact we should see from a more efficient system.

In addition to keeping up with every customers needs, location, servicing equipment and usage from long distance minutes to gigabit Ethernet circuits, the system will also enhance our ability to market new products to meet targeted customer requirements. As we noted earlier this year, with the move to a company-wide operational system, we are now branding all of our services as Otelco. In New England OTT Communications has become Otelco and the new logo with the tagline, Technology. Tradition. Together., has been incorporated in our website www.Otelco.com.

In other Otelco news, we recently announced that Richard Clark has joined Otelco as Chief Operating Officer. He was previously Executive Vice President and Chief Financial Officer of TVC Albany, Inc., headquartered in Albany, New York and doing business as FirstLight Fiber. We have worked with Richard in recent years in his role as both a supplier and competitor and he brings a wealth of varied business experience as well as knowledge of our industry to Otelco. Initially, Richard will focus on plant and network operations, as we plan for the retirement of our Senior Vice President of Operations and Ed Tisdale.

During 2019, Richard's responsibilities will expand to include marketing, sales, billing and regulatory functions. We are pleased with our progress to date in 2018, as our employees have worked hard to execute on a number of initiatives for both our customers and shareholders. Moving forward, we will continue our focus on enhancing the customer experience, improving data speeds, adding new customers and reducing our leverage to provide financial flexibility for the future.

At our 2018 Annual Meeting of Stockholders, it was suggested management provide additional communications about the company to stockholders. Since that meeting, we have issued interim press releases to focus on any updates about the company. We've expanded the content of our quarterly earnings release to focus on more operational topics. We have begun filing our SEC Form 10-Q, coincident with the earnings release to give investors financial details for the quarter, prior to this call. And this quarter, we have added a presentation to our website, which touches on combination of our history as a company, our recent financial and stock price performance over a several year period and a summary of several strategic directions we are pursuing, including the reduction in our leverage. That presentation can be found in the Investor Relations section of our website. We believe an improvement in our revenue performance and a continued focus on cost management will benefit both employees and customers and deliver additional value to shareholders.

Curtis will now summarize the third quarter financial results.

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Curtis L. Garner, Otelco Inc. - CFO, Secretary & Director [4]

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Thank you, Rob. We appreciate everybody joining us today. I'll provide a brief overview of our third quarter financial highlights as contained in the press release and the 10-Q, which was also filed as Rob mentioned, last night. Unless noted otherwise, every comparison is against the same period last year, generally third quarter versus third quarter of 2017.

Total revenues for the third quarter were $16.3 million, down 4.1% from last year's third quarter. If we look at the components of revenue, local services revenue was $5.3 million, a decrease of 5.1% over the prior-year period. The decline in RLEC residential voice access lines and the impact of the FCC's 2011 order, which reduced or eliminated intrastate and local cellular revenue, accounted for decrease of just under $0.2 million. A portion of the RLEC decrease is recovered through CAF, which is categorized as interstate access revenue. Long distance and directory services accounted for a decrease of $0.1 million. Network access revenue decreased 4% over last year to $5.1 million. CAF and transition support payments, which decline each year, decreased $0.4 million and end-user fees decreased $0.1 million. These decreases were partially offset by an increase of $0.3 million in switched and special access.

Internet revenue decreased 4.5% to $3.8 million, primarily due to a small decline in customers and equipment rental charges. Transport services revenue increased 4.8% over the third quarter of last year, reflecting an increase in wide area network services. Video and security revenue was just under $0.7 million to 7.8% decline, reflecting increases in IPTV revenue, offset by decreases in basic cable and pay-per-view revenue. And lastly, managed services revenue decreased 9.4% over the third quarter of last year.

Now, move onto the operating expenses for the third quarter, total operating expenses were down 2.6% over the prior year. Breaking out the details, cost of services decreased 0.4%, customer service and sales and pole rental expense were each up $0.1 million, while access expense decreased $0.2 million. SG&A was down 8% to $2.4 million from $2.6 million last year. The decrease was composed of $0.1 million in senior management incentive compensation, $0.1 million in cloud hosting and accounting and finance expense and $0.1 million in loan fees, partially offset by an increase of $0.1 million in training and conversion expense associated with the new building and operating system.

Depreciation and amortization was down 4.3% from a year ago at $1.8 million. The decrease in amortization of intangibles and CLEC depreciation was partially offset by increased depreciation in the RLEC investments associated with ACAM investments. Interest expense for the third quarter was $1.5 million, a decrease of 43.2%. Lower interest rates and lower principal balance accounted for $0.9 million of the decrease, lower loan cost amortization accounted for the other $0.2 million. Income tax expense. The Tax Cuts and Jobs Acts implemented at the end of 2017 increased bonus depreciation from 50% to 100% and reduce the maximum federal tax rate from 35% to 21%. For the third quarter, the provision for income tax expense was $0.8 million. Consolidated EBITDA was $6.5 million compared to $6.9 million for the third quarter a year ago.

Looking at the balance sheet. Rob noted we ended third quarter with $3.7 million in cash, compared to $3.6 million at the end of 2017. During the third quarter, we reduced the outstanding principal on our credit facility by $4.1 million, including $3 million in voluntary prepayments. In the first 11 months of the new 5-year CoBank credit facility, we repaid $10.4 million or 11.9% of the principal balance. We will make an additional voluntary prepayment of $1 million on November the 30th.

In the investor presentation that Rob mentioned, Slide 12 shows our outstanding debt and the resultant leverage ratio over the past 10 quarters. Our debt has decreased from over $100 million in the first quarter of 2016 to approaching $75 million by the end of this year. Our leverage ratios declined from 3.43 to 2.93 over the same period. The improvement has made us a much more attractive borrower and allowed us to reduce our interest rate for borrowed funds. Beginning with the November 2018 interest period, the bank margin declines by 0.25% to 4.25% based on a lower leverage, now that it's below 3%, 3 times leverage. The lower margin will save the company just under $200,000 in interest expense on an annual basis. The company's ratio of debt net of cash to consolidated EBITDA, as shown in the press release, declined to 2.79 at September 30th.

In the investor presentation, you might also want to look at Slide 8, which shows the change in OTEL stock price over basically the same 10-quarter period. Stock price increased nearly 200%, which reflects the markets' recognition of the company's balance sheet improvement efforts. Capital expenditures were $2.4 million for the third quarter, including the implementation of the new billing and operation support system.

I think that covers the highlights, Rob, with additional details, obviously, in the press release and 10-Q. Tara, if you provide directions, we can shift to taking questions from investors at this time.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We will take our first question from Ira Sochet from Sochet & Company. We will move on to the next question. [Gene Reilly,] private investor.

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Unidentified Participant, [2]

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Just like to say that, I missed the access line equivalents metric table that you had going on for -- I don't know, since like 2002 or 2003, and this quarter, it's gone. So I'd like to see it back.

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Robert J. Souza, Otelco Inc. - President, CEO & Director [3]

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This is Rob Souza. I apologize. I appear to have been cut off from the call and I just dialed in. So I didn't hear that question. Curtis, maybe you can respond to that comment and question.

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Curtis L. Garner, Otelco Inc. - CFO, Secretary & Director [4]

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Yes. We are -- with the change in our billing system we are going to be moving to managing -- looking at customers and the equivalent of revenue-generating units or something similar to that. And so, we will have a subscriber metric that will probably be back -- should be back in by the end of the fourth quarter.

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Operator [5]

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We will now take our next question from Ira Sochet from Sochet & Company.

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Ira Sochet, Sochet & Company, Inc. - President [6]

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Can you elaborate a little more on the billing system costs? Was there any lost revenue that will be made up? Actually, it says that the expense -- what would your results have been if you did not have those expenses? And are they non-recurring?

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Robert J. Souza, Otelco Inc. - President, CEO & Director [7]

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Sure. Let me comment on the first or the second part of your question, I think, which was really did it impact revenue. And I'll allow Curtis to respond to the overall expense piece of that question. No, we did not incur any lost revenue, as anyone would expect. Obviously, it was a complicated process. We went through a number of test runs and conversion processes to verify that we balanced and all of the revenue would tie out. We did not have any reduction in overall revenue. There were changes that were made, leading up to the billing system that changed some of the billing periods, which might have affected cash flow, slightly, but revenues were not impacted by any of the work we did in the billing and operational support services system conversion. Curtis, can you address Ira's question regarding cost?

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Curtis L. Garner, Otelco Inc. - CFO, Secretary & Director [8]

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Sure. Ira, and Rob's right, giving -- there was no billing got missed. And since we accrue for any bills that are billed in arrears and we take out anything that's build in advance, there was no impact on revenue due to the conversion. From an expense standpoint, we noted that there was $100,000 worth of expense in year-over-year that related to the conversion process that was higher than that it would normally have been. But in addition to that, there's probably another $200,000 of expense associated with overtime, once we go through the blackout period where we in essence stop using the -- we put everything in the old system. But we have to duplicate it as input to the new system after we carry over all of the stuff from the old -- convert it from the old to new. The overtime associated with that, I would guess is probably a couple of hundred thousand dollars of people getting used to the system. Hard to tell, because it's built into the normal cost of the business. But that's my best guess.

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Ira Sochet, Sochet & Company, Inc. - President [9]

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And will this be non-recurring going into 2019?

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Curtis L. Garner, Otelco Inc. - CFO, Secretary & Director [10]

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I think as we -- yes, I think, going into 2019. I think, you'll still see a little bit of it in fourth quarter, as people become more and more familiar. Folks that have used the system for 5 to 10 years, now have to learn a new system and so their proficiency will grow the more they use it. But by next year, I would think that will not be an issue.

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Ira Sochet, Sochet & Company, Inc. - President [11]

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So we could adjust the third quarter by $300,000 pre-tax expense?

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Curtis L. Garner, Otelco Inc. - CFO, Secretary & Director [12]

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That's my best estimate.

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Operator [13]

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It appears there are no further questions at this time. Mr. Souza, I would like to turn the conference back to you for any additional or closing remarks.

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Robert J. Souza, Otelco Inc. - President, CEO & Director [14]

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Thank you, Tara. As always, we greatly appreciate you joining the call this morning. We will continue to focus on managing Otelco in tandem with the changes that we continue to see in the telecommunications industry. We always will be looking for additional growth opportunities and we will continue to work on controlling costs and expenses. We know that we have a great opportunity with this business and we will continue to manage it in the shareholders' best interest.

Thank you. We appreciate you being on the call this morning.

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Operator [15]

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This concludes today's call. Thank you for your participation. You may now disconnect.