ATN International, Inc. (ATNI) Q3 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Atlantic Tele-Network Third Quarter Earnings Conference Call and Webcast. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Justin Benincasa, Chief Financial Officer. Sir, you may begin.

Thank you, operator. Good morning, everyone, and thank you for joining us on our call to review our third quarter results. As usual, with me here is Michael Prior, ATN's President and Chief Executive Officer. During the call, I'll be covering the relevant financial information and certain operational data, and Michael will be providing an update on the business. Before I turn the call over to Michael for his comments, I'd like to point out that this call and our press release contains forward-looking statements concerning our current expectations, objectives and underlying assumptions regarding our future operating results and are subject to risks and uncertainties that could cause actual results to differ materially from those described. Also, in an effort to provide useful information to investors, our comments today include non-GAAP financial measures. For details on these measures and reconciliations to comparable GAAP measures and for further information regarding the factors that may affect our future operating results, please refer to our earnings release on our website at atni.com or to the 8-K filing provided to the SEC. And that said, I'll turn the call over to Michael for his comments.

Thank you, Justin. Good morning, everybody. Well this was another very strong quarter for ATN, very -- and also, very similar characteristics and trends to the second quarter for this year. And once again we experienced strong profitability and cash flows with significant year-on-year gains, a stable U.S. -- overall U.S. wireless subscriber base, solid profitability and subscriber growth in the Island Wireless piece of international operations, and a decrease in net debt on an already strong balance sheet. And the most significant drivers of the positive financial results remain post-transition cost controls and subscriber stabilization in the U.S., and improved profitability in Bermuda following the merger in 2011. Other operations were largely stable or improving. Let's turn now to the specific operations. First, U.S. Wireless on the retail side. To reiterate my comments in the press release, we are certainly pleased, and a little surprised, to see mildly positive net subscriber additions once again. This was driven, again, by improved distribution, breadth and depth in the prepaid segment, offset, in part, by continued erosion in postpaid subscribers. Prepaid numbers were fairly strong, with 40,779 gross adds and 11,656 net adds. Given the fact that the quarter, third quarter, is typically one of the weaker ones for prepaid sales in the industry. On the postpaid side, we had a net decline in the subscriber base of nearly 10,000 on gross additions of 25,760. While expected, due to the high number of contract expirations during the period, we would have hoped to do a little better. We worked hard at expanding distribution and getting out our message in innovative and lower-cost ways, but we are still hamstrung a bit by a device lineup that is missing some of the most sought-after smartphones. And that competitive disadvantage will continue to impact us in the fourth quarter, although we hope to make up some ground in 2013. With respect to customer churn, postpaid subscriber churn was 2.7%, up from 2.18% in the second quarter and down from 2.97% a year ago. Again, this was expected, as discussed on last quarter's call, due to the bubble in contract expirations. While we clearly need to move that number down, we think it will be well into 2013 before we can expect to see significant improvement. Blended subscriber churn was a similar story, at 3.7%, up from 2.9% in the second quarter and down from 4.05% a year ago. ARPU largely held steady. Postpaid ARPU was $54.52 compared to $53.96, those are dollars -- $54.52 I should say, in the second quarter, and $52.68 a year ago. Overall, subscriber ARPU was $46.87 compared to $47.63 in the second quarter and $47.51 a year ago. Postpaid ARPU's modest rise is mainly due to the upward migration by existing customers, from older, smaller usage voice plans to unlimited voice and text plans. Year-on-year, postpaid and overall ARPU also benefited by comparison to the transition period when we did not bill for certain usage overages. And the slight decline in blended ARPU was mainly due to the shift in the mix of overall subscribers towards prepaid plans, which have lower ARPU. Additionally, ARPU is hurt by the reduction of ETC funds as the high-cost program starts to be phased out. That put about $0.22 of downward pressure on ARPU for the quarter. Increasing ARPU significantly from these levels will likely require an improved smartphone lineup. Speaking of smartphones, on the adoption rate. We ended the quarter with nearly 40% of our postpaid base on smartphones, and this was with about 55% of total postpaid device sales, new customers and upgrades being smartphones. And these metrics are consistent with what we've seen the rest of this year. They're not climbing as some are in the industry and I think, again, that goes back to the same issue, which is our device lineup. On the Wholesale U.S. Wireless front, roaming revenues, while up from the second quarter on somewhat stronger-than-expected seasonal factors, were down from a year ago. Overall, we expect that trend to continue in the fourth quarter. Also, keep in mind that we have a pending sale of spectrum and cell sites in the Midwest, one of our roaming partners, for just under $16 million. That may take place in this year's fourth quarter. And to put this in context for you, for the first 9 months of this year we generated $12 million in revenues from these assets. Moving to International Operations. International wireless revenues were up again, with subscribers, and revenue both up in all of our island markets despite challenging economic conditions in many of those markets. In Guyana, wireless subscribers were largely flat from the second quarter and down 4% from a year ago, although wireless revenue increased slightly from that period, as the loss was mainly of inactive, very low-usage subscribers. In Wireline operations, Wireline revenue was basically flat, with the decline in international revenue in Guyana offset by high-speed data revenue growth in that market and growth in the U.S. market. In the U.S., our stimulus-driven fiber build in New York State and Vermont continued at a rapid pace. I was recently in Vermont, in fact, to see one of the many anchor tenants of the Sovernet fiber network. A public school system in Hartford, Vermont get connected to our fiber networks. And if anybody -- if any, on the call are familiar with this, this is -- there's really a trend in education, particularly in smaller districts, to go to more e-learning, to enhance the curriculum. And there's various tools including tablets, and the like, that teachers are using to try to generate more excitement and enhance the curriculum. So it was really nice to be part of that, and we're very happy to see our builds, both in New York State and Vermont, continue at the pace they're going. So overall, in summary, as I said, this was another very solid quarter with strong profit and cash flow performance. These are, of course, the most important metrics for this management team. But we do pay attention to revenue and subscriber levels as well, and this quarter indicates that while we're executing very well on our plan overall, we do have some work to do to strengthen the foundation for future profit performance. Taking all this into consideration, we're very pleased to raise our quarterly dividend by almost 9%, to $0.25 a share, and there's something nice about getting to an annual rate of $1 per share, certainly makes the math easy. And it was also the 14th consecutive year of dividend increases. So with that, I will turn the call back over to Justin.

Great, thank you, Michael. Just to cover some of the relevant financial information, revenues for the quarter totaled $188.8 million, which was a decrease of $5.5 million or 3% from the same quarter in 2011, but up 2% sequentially. Similar to the second quarter, this year-over-year decline resulted primarily from the reduction in the U.S. Wireless retail revenues due to a subscriber attrition over the last 12 months. Total Wireless revenues for the quarter were $159.2 million or 84% of total revenues, and our U.S. Wireless service revenues were $138.2 million or 73% of total revenues. Adjusted EBITDA was $55.7 million, up $3.6 million or 7% over the same period last year, and the adjusted EBITDA margin was 29.5%, the highest level in our over 2.5 years since we acquired the Alltel assets. Included in this quarter's operating expenses of $159.2 million was noncash stock-based compensation expense of $0.8 million. Our U.S. Wireless segment accounted for 83% of adjusted EBITDA and 73% of operating expenses. Interest expense declined by over $1.2 million over the same period last year as a result of our amended credit facility pricing and our continued de-leveraging. Moving down to net income. Earnings for the quarter were $15.97 million or $1.03 per share compared to $11.3 million or $0.70 per share reported in the third quarter of last year. Our effective tax rate for the quarter was 35% compared to 46% a year ago, reflecting the change in the mix of income among our various tax jurisdictions, as well as a onetime benefit related to R&D credits claimed for 2010 and '11 that positively impacted our rate by approximately 570 basis points. Turning to the balance sheet, as of September 30, we had cash balances of over $111 million and total debt outstanding of $276 million, which leaves us with a leverage multiple of approximately 1.4x and less than 1x on a net debt basis. Net cash provided by operating activities was $57.9 million in the quarter and $137.5 million for the first 9 months of the year. Capital expenditures totaled $18.2 million for the quarter and $50.5 million year-to-date. For the quarter, approximately $9 million was incurred by our U.S. Wireless segment, $3.2 million by our International Telephony segment and $3.7 million at our U.S. Wireline segment, in conjunction with our fiber network builds in the Northeast. For full year 2012, we've lowered our guidance for capital expenditures to be between $65 million and $85 million. And this is primarily result of the delay in certain capital projects, which have shifted some of our forecasted expenditures to 2013. Of the revised forecast amount the U.S. Wireless segment is expected to account for $35 million to $50 million. Some additional operating data for the quarter. We ended the quarter with 787 roam-only base stations. In the Wholesale business, consistent within industry trends, MOUs were down 2% from last quarter and 22% from Q3 of last year. Conversely, data traffic was up 7% from Q2 and 14% from the same period last year. In International Wireless, we ended the quarter with a total of approximately 324,000 subscribers, of which 284,000 or 88% were prepaid. In the U.S. Wireline segment, business lines increased 23% from a year ago and 4% from last quarter, ending the quarter at approximately 66,000 lines. Internationally, access lines remain relatively flat at approximately 150,000 access lines. To sum up, we ended the first 9 months of the year with earnings per share of $2.31, solid operating cash flow generation and a very strong balance sheet. I would now, Kate, operator, I'd like to open the call up for questions.

[Operator Instructions] And our first question comes from the line of Rick Prentiss with Raymond James.

First question I've got for you guys is on traction on the postpaid side. I imagine it's obviously a key priority. It seems like several of the messages in your comments, Michael, have addressed maybe an iconic device. As you think about the algebra of carrying expensive devices on the subsidy side, but then the benefit on ARPU and the benefit on churn, how do you look at that equation and what kind of time frame might some decision be made if one were?

Yes. I think I can't speak to timing on specific devices, but I guess we do think that we have to improve our lineup, we want every device that our customers want to be in our stores. We do have to weigh that against the cost of getting the device and whether the manufacturers are even ready to supply it to us. And there's several devices that fit into that category. I mean, best of all, for carriers, would be if we weren't subsidizing devices so heavily. But, to remain competitive, you certainly need to look at it. And if you have the right churn metrics, if lifetime or the average contract or length of that customer with you is long enough and under certain other assumptions on the frequency of upgrades, it should be positive. It's not as positive as it used to be when you added a customer.

What percent of your base upgraded in the quarter on the postpaid side?

It was a little less than 9%, high 8s. Which is up, I mean, sequentially from past quarters.

All right. And as you think about that, one, is LTE required or important to carry with these different devices? What are the plans for LTE? And can you tell us what your current handset lineup is, from a smartphone standpoint, as you look into the holiday season?

Yes. I think I'm not going to announce the very latest for the holiday season just because it's premature. But I think we will be behind on a couple of the most sought after devices, the very latest versions. So going to the second question, on LTE. I mean, I think LTE is important. It's become important to consumers, and therefore, it's important to us. We have not made the commitment. Our story, really, is the same as we've discussed the last couple of quarters, which is we think we will have to go LTE to stay competitive and to efficiently use the spectrum we have. But we don't have any specific announcement on that at this time. And lastly, I would add that, in lot of our markets LTE is advertised but not really available, but we expected to be increasingly available by competitors. So that does put pressure on us.

Our next question comes from the line of Barry McCarver with Stephens Inc.

So, on the traction, on the prepaid side. Could you try to quantify the effects of getting those prepaid devices back in the Wal-Mart stores? I know that, I believe, started up during the quarter.

Yes, I don't have a quantification at my fingertips. I'm not sure we would give, by precise channels anyway, down to that detail, Barry. But there's no doubt it was the main driver of the improvement in prepaid. So I think that's probably safe to say. Before you go to any other question, I was reminded earlier that I overstated the situation slightly in my remarks on the Island Wireless side. The subscriber revenue did not actually grow in Bermuda. While it grew another Island properties, it was down slightly in Bermuda, almost flat. So, sorry, Barry. Go on I just...

No, no. It's all right. You answered my question on the prepaid anyway. In terms of your cautiousness on postpaid churn. If you look out, in the fourth quarter, the number of contract expirations you have coming up, is there any reason to think -- I mean, I know we're assuming that churn is going to remain lumpy, but should we expect a big swing up or down, just kind of given the number of expirations you have in the quarter? Do you have that?

Yes, I think we know -- while we don't think we'll see improvement in that number, in the fourth quarter, we don't think it's going to get much worse. I think, if we had to guess today, we'd say essentially flat, and because we still have the contract expirations. In the fourth quarter you tend to have more growth adds, but you also tend to have more disconnects. So the balance kind of leaves us there.

Okay, that's helpful. And then the last question, and I'll let somebody step in. But in regards to the roaming partner, in repurchasing the spectrum, can you give us an idea of what the margin profile on the revenue you are generating from that equivalent looks like? Because, I guess, my concern is that, that's going to great a little bit of a headwind for EBITDA in 2013, because I suspect that's pretty high-margin revenue.

Barry, when we take off the roaming revenue, it tends to be very high incremental margin, both add and subtract. A lot of the expense is capital expense. There is, of course, backhaul, and towers and things like that. And termination, to some extent as an expense that will go away. But I think you can expect a fairly high portion of that is going to impact EBITDA and operating income.

And nothing comes to mind that might be an opportunity to offset that as of yet?

I think we are looking at some potential new builds in next year. Unlikely that they will process much in the first couple of quarters, and nothing is definitive yet, but I think there's a chance we could have a decent offset by the latter half of the year.

[Operator Instructions] Our next question comes from the line of Hamed Khorsand with BWS Financial.

Just a couple of questions here. One is, could you just walk us through, as far as the operating margin goes? It seems like the mix in the business hasn't changed too much, but profitability has from Q2.

Yes, I mean, I think it's somewhat in the U.S. Wireless segment for the most part. I mean, I think that we definitely increased margins there, as well as some of our Island properties with Bermuda kind of hitting the full stride on their synergy. But whenever you get the seasonally kind of high wholesale quarters, it helps with the margin.

Okay, so I mean, with the roaming business going off we could see operating income come down Q4, because of the seasonality than Q1, because you're selling these assets then.

Yes, I mean, I would think that our Q4 margins would be down significantly from Q3. It's just the way it's always kind of tracked in that quarter, as well as with the handset subsidies. It's always the quarter that puts the most pressure on margins.

Okay. Then going back to what you were talking about earlier, the smartphone issue. The competitors you're facing in the prepaid area, they're owned by these large carriers, so they are basically handing them these nice new smartphones. Could it marginally erode your subscriber base if you guys don't act quickly?

I think it has. I mean, I think it has eroded our subscriber base to not have a fully competitive handset lineup. Every time we catch up and -- we are continuing to bring new devices into our stores and to our customers, but the goal post on the other side moves as well. Our competitors are launching newer devices and so we tend to be a step behind in a lot of, again, the most sought after devices, and that will affect the percentage of people that are making decisions. I mean, we hope that our service and our other offerings trump that, but it won't for everybody, clearly.

Have you guys quantified what the EBITDA margin impact would be if you adopted any of these new smartphones?

We haven't. We always look at that, but we haven't released anything. So we look at that with every decision like that we make.

And our next question is a follow-up from the line of Rick Prentiss with Raymond James.

A couple of follow-up guys. First, I noticed U.S. Cellular had recently made announcement Wal-Mart's going to carry their postpaid products. I think they were with you guys as far as getting the prepaid into the marketplace. Any thoughts on Wal-Mart as a postpaid channel for you?

I mean, I think it's viable. I mean, we have nothing to say right now. But I think it's -- to us, at a distance, we understand what U.S. Cellular is doing and there's no reason it can't be a significant postpaid channel. It may not rise to the level of its importance on the prepaid side, but that's not unusual.

Then you also mentioned, I think in the prepared -- or in the press release, about the fiber in the Northeast and how the spending is going, but also that the revenue traction might be having some visibility. Can you update us a little bit on that?

Yes, I would say that in terms of our overall numbers the revenue is totally immaterial today. It's really more long-term. So we're -- what happens, you get the build going and then under this BTOP program you have a number of anchor tenants who are committed to you although you're committed to try to serve them. And we've had a very good run of signing up what we call the anchor tenants, you know colleges, high schools, and school systems, and clinics, and libraries and towns. And so we're very pleased with the sales progress there on kind of building the backlog. But the real revenue flow is, really, in the small side right now. There's much to go.

Okay. And then you talked a little bit about your leverage getting down pretty low, under 1x on net debt to EBITDA basis. Prior quarters, you've talked a little bit about the M&A environment. Obviously been a flurry of big ones out there in the month of October. Maybe just a little discussion on your leverage level and what you are seeing out there on the M&A front.

Yes, I think there's clearly a lot of activity. In the U.S. Wireless, it tends to be more, right now, kind of activity that the biggest players are participating in, right, with the consolidation. And there are always opportunities created when the big guys are moving. There may be opportunities, dislocations, but it doesn't feel like that necessarily gives us a direct opportunity to use our balance sheet. Elsewhere though, I think we continue to look. I mean we continue to look, fairly broadly, within the areas we know well. And while I would say we get the value of deploying that balance sheet and always looking, we're going to have to stay disciplined and true to our views of value, which makes it impossible, of course, to predict. Other than we can promise you all, we're looking.

And as far as spectrum goes, a lot of these big M&A deals in the U.S. have been centered around getting access to spectrum or being prepared for spectrum. How do feel about your spectrum position right now and what are your options that you're looking at?

Well, we've looked at spectrum, and in some cases we've been stymied in trying to get there. It's tougher to get spectrum as a small carrier. It's tough to find partials that work for you and you can bid, make a compelling offer for. So that's a challenge. And it's not a challenge for us in the very near term, but over the long term we definitely, like all wireless carriers, see it as critical to continue to add spectrum. And also improves your cost over time. So, for 2 reasons, it's important. But for the near-term, any kind of near-term plans we have, we're okay with what we have.

And near-term means a year or 2 or...

Yes, yes. I think, in that time frame, we're good. I mean, I'd do a slight hesitation because everybody in the industry was surprised was by the growth in data usage, and therefore spectrum demand, in the past. But even taking into account what we've seen so far, I think I'm still comfortable in that time frame. And I know this is an issue that a lot of the smaller carriers have raised, quite loudly, with the FCC and others in Washington, as something they need to look at going forward. And, indeed, a lot of the large carriers as well, right, because of the urban area demand for spectrum.

And what kind of usage are you seeing on your smartphones on the network today?

I don't have statistics to hand, Rick. But usage continues to grow fast and furious. I mean, it really does. I mean, I don't think you could have found anyone in the industry 2 years ago, who would have seen it where it is today. A year ago they were maybe a little more shell-shocked and might have believed it and it still keeps growing.

And from a capital intensity standpoint, I know you're not giving guidance yet for 2013, but you mentioned that several of those projects or some of the CapEx reduction from the original guidance to the guidance last quarter to the guidance now, is some project slipping up to '13? Is there an order of magnitude we should be thinking about, as far as CapEx next year or what capital intensity might be or what some of those projects cliffs [ph] might be? Just give us a little color on CapEx.

Yes. I think, Rick, this year if you're working in the range of 10% to 15%, we'll be somewhat below that range this year. And I think you could probably slide that amount back into next year. So I think we could be in excess of 15% next year -- of a percentage of revenues I should say. And possibly even up to 20%.

[Operator Instructions] And I'm not showing any further questions at this time. I'd like to turn the call back to management for closing remarks.

Great. Thank you, everyone, and we'll see you at the end of the year. Appreciate it.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone have a wonderful day.