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Edited Transcript of TGO.TO earnings conference call or presentation 7-Nov-19 1:30pm GMT

Q3 2019 Terago Inc Earnings Call

THORNHILL Dec 2, 2019 (Thomson StreetEvents) -- Edited Transcript of Terago Inc earnings conference call or presentation Thursday, November 7, 2019 at 1:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Antonio P. Ciciretto

TeraGo Inc. - President, CEO & Director

* David Charron

TeraGo Inc. - CFO

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Conference Call Participants

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* Matthew James Lee

Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media

* Siddhant Dilawari

Cormark Securities Inc., Research Division - Associate of Institutional Equity Research

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. Welcome to TeraGo's Q3 2019 Financial Results Conference Call. (Operator Instructions) I would like to remind everyone that this conference call is being recorded.

TeraGo would like to remind listeners that the company's remarks and answers to your questions today may contain forward-looking statements that are based upon management's current expectations. All such statements are made pursuant to the safe harbor provisions of and are intended to be forward-looking statements under applicable Canadian securities legislation. When relying on forward-looking statements to make decisions with respect to the company, you should carefully consider the risks set forth in the Risk Factors section in the annual MD&A for the year ended December 31, 2018, which is available on www.sedar.com and also consider other uncertainties and potential events. Except as may be required by Canadian securities laws, the company does not undertake any obligation to update any forward-looking statements as a result of new information.

We would like also to remind listeners that TeraGo uses certain non-GAAP financial measures to arrive at adjusted results to assess its business and to measure overall performance. TeraGo believes that these financial measures provide readers with a better understanding of how management views the company's overall performance.

I will now turn the conference over to Mr. Tony Ciciretto, President and Chief Executive Officer of TeraGo. Please go ahead.

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [2]

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Thank you, Sharon, and good morning, everyone. Welcome to TeraGo's Third Quarter 2019 Earnings Call. Joining me on the call today is David Charron, Terago's Chief Financial Officer.

TeraGo released its third quarter 2019 financial results after the market closed on November 6 last night. Our press release, financial statements and MD&A are currently available on SEDAR and our company website along with a slide presentation accompanying this call.

In the third quarter, TeraGo generated positive adjusted EBITDA and cash flow from operating activities while remaining focused on managing costs and preserving our balance sheet ahead of upcoming investments in 5G that will lay the foundation for our future growth.

Although customer churn experienced earlier in the year continued to impact revenue for the third quarter, I'm very encouraged by the steps we've taken to improve sales effectiveness. This has cautiously -- this has us cautiously, excuse me, optimistic as we enter 2020 as our sales funnel has improved substantially through the channel strategy launched this past summer.

In the first 3 quarters of 2019, we have onboarded 18 new channel partners, and we are starting to see the positive impacts in our pipeline. In connectivity, we have several multisite opportunities in the funnel with large multinational companies that have operations in Canada.

In cloud and colocation, we are seeing a pickup in colocation deals that have the potential to utilize a significant amount of our excess capacity.

As we indicated in Q2, it will take several quarters to see more substantial benefits from these actions to work its way into our backlog and financial results, but we're encouraged to see some of the signs of stabilization in some of our key operating metrics.

Starting with backlog monthly recurring revenue on Slide 6. In connectivity, our backlog MRR declined to approximately $48,000 at the end of the third quarter compared to $72,000 at the end of the prior year period as a result of some of the lower sales activity. However, cloud and colocation backlog MRR improved to approximately $37,000 compared to $30,000 at the end of the prior year period and is up from $17,000 at the end of the second quarter of 2019.

Average revenue per user remains on trend with prior quarters. In connectivity, ARPU declined modestly due to provisioning and renewals at lower rates. In cloud and colocation, ARPU has improved steadily as we continue to focus on retaining and selling additional services to small- to medium-sized businesses as most of our churn, we have experienced is with lower ARPU accounts.

As we've noted before, the churn experienced earlier this year has impacted our current revenue run rate, but churn rates have settled to more normalized level in the third quarter. Connectivity churn was 1.3%, and cloud and colocation churn was 1.3% as well for the third quarter. Maintaining at these levels will put us in good position to see greater stability in our core business going into 2020.

Our primary focus to drive shareholder value for TeraGo is firmly rooted in 5G. As Canada's largest holder of 24 and 38 gigahertz licensed millimeter wave spectrum, TeraGo is in a unique position to be first to market with high capacity 5G fixed wireless services.

During the third quarter, we were pleased to welcome Irv Witte to our executive leadership team to help accelerate our commercial 5G initiatives. Irv brings over 20 years of progressive leadership experience in the wireless sector and was most recently involved in the 600-megahertz auction at Rogers, where he also oversaw the successful launch of the Chatr consumer wireless brand. Irv has firsthand knowledge and experience in how the Canadian incumbent carriers are valuing wireless spectrum and developing the business case. Since joining in September, he's been steadily working to build strategic partnerships and develop use cases that will inform our growth plans around 5G.

Following the recent 24-gigahertz auction in the U.S., we have seen increased momentum and support for 5G fixed wireless from the major chipset and hardware providers, which is translating to increased activity from license operators around the globe that have millimeter wave spectrum.

For example, Qualcomm recently announced over 30 CPE, Customer Premise Equipment, vendors who'll be developing 5G fixed wireless Customer Premise Equipment on their chipset. We are in discussions with several potential hardware partners for both 5G; NR, new radio; and CP Equipment as we look forward to our technical and customer trials in 2020.

The point-to-multipoint nature around 5G NR technology will allow us to target a large number of customers with each radio site and has the potential to open up new market opportunities for TeraGo. This includes large multisite opportunities and enterprises as well as consumer residential applications in multi-dwelling unit operations.

If we look further out there, there are also a number of interesting use cases beyond traditional fixed wireless access as the technology becomes available. Examples include applications and data centers, smart cities, edge computing solutions and geo targeting.

We are taking a prudent approach in evaluating each of our near and long-term opportunities with the intention of forging strategic partnerships designed to expand our markets, minimize initial capital outlay and reduce operational risk. We look forward to being able to make some of these announcements in due course.

With that, I'll now turn it over to Dave to walk us through some of the financials in the quarter in greater detail. Dave?

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David Charron, TeraGo Inc. - CFO [3]

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Thanks, Tony. I'm on Slide 9 now. Total revenue in the third quarter declined 15.7% from the prior year period to $11.8 million. Connectivity revenue was $7.5 million, a decrease of 14.8% from the prior year period and was impacted by a variety of factors, including churn and certain customers renewing long-term contracts at lower rates.

Cloud and colocation revenue was $4.3 million and declined 17.3% from the prior year period. However, it's important to note that in the third quarter of 2018, we received a $0.7 million onetime customer termination fee. And excluding this beneficial impact in the prior year period, cloud and colocation revenue would have declined approximately 4% in the third quarter of 2019. And as the impacts of our sales and channel strategies take hold, we are optimistic that we'll see the top line begin to stabilize as we enter 2020.

On Slide 10 now. Despite the decline in revenues, we've been successful in managing our costs and maintaining our levels of profitability this year, ahead of the investments we'll be making in 5G. Adjusted EBITDA in the third quarter was $4.4 million, including the impact of IFRS 16. The adoption of IFRS 16 at the beginning of 2019 resulted in a $1.6 million positive impact to adjusted EBITDA in Q3. Now excluding this $1.6 million positive impact, adjusted EBITDA in the third quarter would have been $2.8 million compared to $3.6 million in the prior year period.

Despite lower revenues, most of the decline in adjusted EBITDA can be attributed to the $0.7 million onetime customer termination fee received in the prior year period. And I believe this points to the degree as we've been able to effectively manage our cost structure in 2019.

In the third quarter, we reported a net loss of $0.9 million compared to a net loss of $47,000 in the prior year period. The increase in the net loss was driven by the decrease in revenue and the impact of the adoption of IFRS 16.

Turning now to cash flow and the balance sheet. In the third quarter, we generated $4.3 million in cash flow from operating activities and incurred $1.6 million in lease payments. Capital expenditures were $1.2 million or 10.4% of revenue for the quarter. We are focused on remaining capital-efficient for the remainder of the year ahead of the upcoming investments we will be making in our 5G fixed wireless trials.

And at the end of the third quarter, we had $9.1 million in cash, with the net proceeds of $8.1 million coming from the bought deal we closed in July. We also continue to have an undrawn $10 million operating line, a $25 million acquisition and CapEx facility that will allow us to invest in growth activities. Overall, we have sufficient financial flexibility to invest in our 5G initiatives in 2020.

And lastly, our leverage at the end of the third quarter stands at 2.6x adjusted EBITDA, excluding the impact of IFRS 16, which compares to 2.5x in the second quarter of 2019 and remains well below our covenant of 3.5x.

I'll now turn the call back to Tony for his closing remarks.

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [4]

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Thank you, David. I'm on Slide 12 now. In summary, our new channel strategy is progressing, and we look forward to seeing greater stabilization in our top line in 2020. We have been successful in controlling our costs, preserving our adjusted EBITDA margins and generating positive operating cash flow as we remain well positioned to execute on our 5G investment plans.

Remaining laser-focused on servicing the value from our 24- and 38-gigahertz spectrum assets is our primary goal. With the upcoming trials planned, we still have significant time to market advantage and remain well positioned to be the first Canadian carrier to launch 5G fixed wireless services. We're looking forward to a few milestones relating to 5G in the coming months, and look forward to being able to report to you on our progress when we discuss our fourth quarter results in February.

With that, I'll now turn it over to Sharon to take questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Matthew Lee with Canaccord.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [2]

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I just wanted to get an update on the 5G trials. Can you just remind me how much CapEx you're planning to spend on that for '20?

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David Charron, TeraGo Inc. - CFO [3]

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Sure, Matthew. As we said last quarter, the trials themselves would be in the $300,000 to $500,000 range. It's very nominal. But when we look at overall CapEx spending, we're going to be looking at it in terms of 2 categories. The first is success capital, which is, we talked about the improvements we're expecting in our pipeline converting into bookings and revenue. We will see an increase in success capital next year. And as well, we're going to be spending on getting our network ready for 5G in addition to the actual 5G trials itself.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [4]

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Perfect. And then can you maybe give us a little bit of color as to what potentially those 2 categories look like in terms of dollars?

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David Charron, TeraGo Inc. - CFO [5]

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Yes. So recall, I think it was last quarter and previous quarters, we said that our CapEx spending on a quarterly basis was going to be in the $1.5 million to $1.7 million range. And if you look at our actual capital spending over the last 4 quarters, we fell into that range. I would expect that given those 2 categories I just talked about, our quarterly spend going forward into next year would be in the $1.7 million to $2 million range. So it's nominal.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [6]

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Perfect. And then maybe you can just give me some color on the colocation backlog. It picked up a bit in the quarter. Can you maybe talk to that?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [7]

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Sure. Yes, the -- as I mentioned, with many of our channel partner activities, it actually has improved our backlog, both on the connectivity and the cloud and colocation side. So we have seen an encouraging trend to pipeline improvement. So we certainly see that over certainly the next 12-month period that our capacity will -- we will start to eat into those, the capacity that we do have in our data centers.

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Operator [8]

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(Operator Instructions) We have a question from Sid Dilawari with Cormark.

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Siddhant Dilawari, Cormark Securities Inc., Research Division - Associate of Institutional Equity Research [9]

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I'm just filling in for David McFadgen. Just from the connectivity side, we saw a steep decline in backlog MRR on a sequential and annual basis. Could you maybe talk to us a little bit about what's happening here? Is it because some of these contracts are coming up for renewal and these customers are going elsewhere?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [10]

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Yes. So essentially, we -- I think I'll draw you back to where I think the importance of the connectivity business and stabilizing the churn. So I mean we are churning a bit of our customers in 2 ways. One, we're trying to ensure that the lower ARPU customers are starting to now churn out. They're much more reflective of a residential-type services that some of the cablecos and telcos are offering. And as we're making actually our way up to the more mid-market level, we actually will see our ARPU start to increase.

And then second, you obviously will see, as we start to protect and renew customers, that the -- typically, the renewals will be at a lower rate since most of our contracts are in the 3-year period. And I do want to remind you that our churn for the month -- or sorry, for the quarter, was about 1.3%. It was probably one of the lowest in our history. So we look to -- we're optimistic that, that trend will continue. And as well, with some of the channel partners, we will see, I think, an increased level of connectivity deals as our channel partners, particularly in the U.S. that we brought onboard, start to materialize with many of the multisite opportunities in Canada.

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Siddhant Dilawari, Cormark Securities Inc., Research Division - Associate of Institutional Equity Research [11]

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Sure. Just on that note, you mentioned that ARPU should be lifting up based on the fact that we have been losing some lower customers. But this quarter, [our flash] will decline year-over-year. So is that because of the [high ARPU] in customers as well?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [12]

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Yes, I think it was virtually flat. I mean I thought we saw a bit of a downturn. But again, I think the overall trend going forward is really to move that ARPU up.

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Operator [13]

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(Operator Instructions) We have a question from Matthew Lee with Canaccord.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [14]

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Just in terms of the channel partners, can you maybe give us some early insights into what you're seeing from that initiative as well as whether it's more connectivity thing? Or are you seeing more on the colocation side?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [15]

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Sure. So as I mentioned, we have brought on a number of U.S. channel partners over the last 3 quarters, a total of 18, I believe. Majority of them are looking at -- I think it started typically with the connectivity, large multisite activities into U.S. operations in Canada. And they are typically within our key vertical markets that we're targeting. Namely, retail, finance, and manufacturing as kind of the 3 largest ones. And we've actually seen our pipeline grow substantially in those areas particularly, as I've said, in connectivity. Now we're also seeing -- that we'll see cloud and colocation opportunities as well, but I think the lead really was around connectivity.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [16]

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Very helpful. And just in terms of the economics of that deal, when a channel partner brings you a new customer, is that -- do they take a piece of the top? Or is that part of the revenue? Or does it go into OpEx?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [17]

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Yes. It's fairly standard practice as channel partners. There is a fee that you do actually pay. But quite frankly, it's -- the way we -- our sales operations has been structured, there's very little overlap between our sales -- our direct sales activity and our U.S. channel partners and channel partners in general. So whether you pay it in commissions to salespeople or you pay it in a specific fee to channel partners, the overall impact is negligible.

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Matthew James Lee, Canaccord Genuity Corp., Research Division - Associate Analyst of Telecom and Media [18]

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Okay. So there should be no impact to margins of having more customers coming this way?

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [19]

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That's correct.

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Operator [20]

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At this time, I will turn the call over to Mr. Ciciretto for closing remarks.

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Antonio P. Ciciretto, TeraGo Inc. - President, CEO & Director [21]

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All right. Thanks, Sharon. And thanks again, everyone, for listening to our call, and we look forward to speaking to you again at our next quarter call. Have a great day.

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Operator [22]

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This concludes today's conference call. Thank you for participating. You may now disconnect.