Cable One, Inc. (CABO) Q4 2016 Earnings Report, Transcript and Summary

Good day and welcome to the Cable ONE CABO Earnings Report Q4 2016 Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today's presentation, there'll be an opportunity to ask questions. [Operator Instructions] Please note that this event is being recorded. I would now like to turn the conference over to Kevin Coyle, Chief Financial Officer. Please go ahead.

Thank you, Operator. Good morning everyone and welcome to Cable ONE's full year and fourth quarter 2016 earnings call. We're excited to have you with us this morning as we review our results. Before we proceed, I'd like to remind you that today's discussion may contain forward-looking statements relating to future events and expectations. You can find factors that could cause Cable ONE's actual results to differ materially from these projections listed in today's press release and in our recent SEC filings. Cable ONE is under no obligation, and in fact expressly disclaims any obligation to update its forward-looking statements whether as a result of new information, future events, or otherwise. Additionally, today's remarks will include a discussion of certain financial measures that are not presented in conformity with U.S. Generally Accepted Accounting Principles. Reconciliations of non-GAAP financial measures discussed on this call to the most directly comparable GAAP measures can be found in our earnings release or on our website at ir.cableone.net. Joining me on today's call is our President and CEO, Julia Laulis. And with that, let me turn the call over to Julia.

Thank you, Kevin. Good morning and thanks everyone for calling in. I'm pleased to review several items to do today, and as a general overview, I intend to share Cable ONE's annual results, our fourth quarter results as well as some information about our previously announced acquisition of NewWave Communications. I plan on touching on a few highlights and then Kevin will provide a full recap of our financial performance and get into more details regarding the expected increase on our capitalized labor costs beginning in 2017, which we mentioned in our earnings release. Before getting into results, I want to take a moment to share a bit of my background that this is my first call since becoming CEO. I've been with Cable ONE for more than 17 years. Most recently as President and Chief Operating Officer, I worked closely with our Executive Chairman, Tom Might during that time. I'm looking forward to continuing his legacy of strong and innovative leadership. As CEO, I intend to maintain our heritage of pursuing long-term success for our associates, customers, and shareholders; by cultivating our unique strength, one of those been execution. To that end, I'm proud to be to lead our adaptive and dedicated associates as we continue our strategic shift towards being residential HSD and business service focused company. So, first, our 2016 results; 2016 was our first full year as a standalone public company. I believe our strong annual results reflect the execution of our strategy as well as our focus on growing adjusted EBITDA and margin, while intelligently managing our capital expenditures. We grew total revenues by 1.5% in 2016 compared to nearly 1% reduction in total revenues the prior year. So, we've passed the tipping point back to generating annual revenue growth. Our product mix change reflects our strategic shift, which can be seen in the fact that more than 54% of last year's total revenue came from residential HSD and business services. Adjusted EBITDA for 2016 was almost 351 million, a 10.3% increase year-over-year. We grew our adjusted EBITDA margin by nearly 350 basis points. Meanwhile, adjusted EBITDA less cap expenditures were almost 49% compared to 2015 driven by our adjusted EBITDA growth and our planned reduction in capital spending of over 40 million or 24.5% year-over-year. So, just a note about the fourth quarter, as we've cautioned before our quarterly results maybe uneven, and as that we saw in Q4. This was largely due to our lack of regularly schedule rate adjustments. To be clear, we implement our rate adjustments to optimize long-term results not in an effort just move quarter-over-quarter comparisons. As you may recall, we made a $5 million residential HSD price adjustment in October 2015, and we turned the corner on that in Q4. We expect that quarter-over-quarter unevenness to continue for example in January 2017, we implemented a roughly $6 rate adjustment on residential video service, and we announced a similar rate adjustment of $8 for most business video customers in late February. In both cases, the actual amounts of the adjustments vary depending on the customer's package. These rate adjustments are not entirely a pass through of the increased expenses being charged by the programmers. Ultimately, our focus remains on long term performance through a combination of continued subscriber and revenue growth along with sustained margin expansion particularly for our faster growing residential HSD and business services products. So, let's talk a bit about our residential HSD service. In 2016, our residential HSD service continued to perform well, 51% of our total customers are now non-video customers and more than 42% of total revenues were attributable to residential HSD. At the end of 2016, approximately 70% of our homes passed had access to GigaONE, our 1 gigabit service. Capital projects related to upgrades continue to ensure more than adequate capacity to handle what is now the fastest speed as well as the fastest standard speed of 100 megabits per second in majority of the markets we serve. We pride ourselves on customer service and reliability and the independent research we conduct continue to illustrate high customer satisfaction with our residential HSD product. So, about business services, well business services revenues grew 13% year-over-year and customer growth with nearly 9% with both business data and phone showing strong positive trends. In early January, we launched Piranha Fiber, which we're marketing as ferociously fast Internet. It is a 1 gigabit magical internet service delivered over reliable fiber-based architecture and shared bandwidth, which combines the most favorable attributes of coax and fiber networks. We look forward to offering this differentiating mid-market business services products in several new markets each year for the foreseeable future. So, lastly onto M&A; in January, we announced the planned acquisition of NewWave Communications for 735 million in cash, which we expect will be a value enhancing acquisition for our stockholders. NewWave operates in non-urban market with a small competitive footprint very similar to Cable ONE. We believe NewWave will be great step because we have similar strategies, customer demographic and products. The purchase price represents a multiple of 6.6 times annualized adjusted EBITDA after counting for tax benefit and the realization of 24 million of estimated run rate cost synergies. NewWave has spent resources upgrading their infrastructure to include over 3,700 miles of fiber positioning them well for future growth in residential HSD and business services. We think we're well situated to execute on these opportunities. Together Cable ONE and NewWave will serve more than 1.2 million KSUs and generate just over 1 billion in revenue. We expect the acquisition will be accretive on an adjusted EBITDA basis in 2017 while still preserving balance sheet flexibility. We expect the closing to take place in the second quarter of 2017. Now, I will turn it over to Kevin for a more detailed on our 2016 numbers as well as information on the accounting change related to capitalized labor going forward. Through our M&A activities and conversations with other in the industry, we realized that our -- that the cable industry overall was capitalizing more labor than we were. Going forward, our capitalization methodology will be similar to our peers.

Thanks, Julie. As Julie already mentioned, we are very pleased with the results that we've achieved during 2016. First, let me share a few highlights from the year and the fourth quarter. For the full year, adjusted EBITDA grew by 10.3% with a margin of 42.8%. Adjusted EBITDA less capital expenditures was $225 million, an increase of almost 49%, residential HSD revenues increased by nearly17%, business services revenues increased by 13%. Residential HSD and business service revenues comprised now more than 54% of our total revenues for the year. And total revenues were almost 820 million compared to 807 million in 2015. For the fourth quarter, adjusted EBITDA increased by 0.7% year-over-year with a margin of 42.9%, keep in mind that this increase was affected by the positive net impact of 2.3 million of certain insurance and other related benefits we've had in the fourth quarter of 2015. Excluding the impact of these unusual benefits, which we highlighted last year, adjusted EBITDA would have increased 3.4% year-over-year. Adjusted EBITDA was capital expenditures for the fourth quarter were 54.4 million, an increase of almost a 161%. Residential data revenues increased by nearly 13%, business services revenues increased more than 14% and now residential data and business service revenues comprised over 55% of our total revenues. Total revenues for the quarter were 207 million compared to 203 million in Q4 of last year. Now getting into the detailed results, for the full year 2016 compared to the full year 2015 revenues grew by 12.4 million or 1.5% with increases in residential data and business service revenues more than offsetting the decreases in residential video and residential voice revenues. Residential data revenues increased 49.7 million or almost 17% due primarily to a rate adjustment taken in the fourth quarter of 2015 and increase in residential data customers, a reduction in some package discounting and increased subscriptions to premium tiers. Business service revenues increased 11.6 million or 13% and total business customer relationships increased 8.7% year-over-year driven by growth in data and voice services attributable to both small-and medium-sized businesses and enterprise customers. The decreases in residential video revenues of 37.9 million or 11.4% and residential voice revenues of 7.2 million or 14.4% were primarily attributable to residential video and voice customer losses of 12.4% and 12% respectively during 2016. Operating expenses excluding depreciation and amortization as a percentage of revenues were 37.1% and 38.5% for 2016 and '15 respectively and decreased 6.5 million or 2.1% year-over-year. The improvements in operating expenses were driven by lower programming costs of 9.9 million associated with the reduction in residential video customers and these were partially offset by non-programming operating expense increases primarily from higher backbone and internet connectivity fees of 1.9 million and group insurance of 1.2 million. Selling, general and administrative expenses as a percentage of revenues were 22.5% and 24% for 2016 and 2015, respectively, and decreased 9.2 million or 4.7% due primarily to lower customer billing costs following the completion of our billing system conversion of 11.4 million; the reduction of salary, wages and benefit costs of 7.3 million and the reduction of general and workers’ compensation insurance of 2.9 million. These decreases were partially offset by increases in incentive compensation of 4.8 million, acquisition related costs of 4.7 million and marketing expense of 3.2 million. Other income increased 5.4 million in 2016, reflecting primarily a $4.1 million gain on the sale of a cable system. Interest expense almost doubled with a full year of interest incurred on our borrowings under our credit facilities compared to only six months of interest incurred in 2015 after our spin. Net income increased 9.9 million, or 11.1% to 98.9 million in 2016, compared to 89 million in the prior year, resulting primarily from improvements in our operating and selling, and general, administrative expenses as a percentage of revenues and a gain from the sale of the cable system I mentioned earlier. These were partially offset by higher interest and income expenses during 2016. Adjusted EBITDA increased 10.3% to 350.5 million in 2016 compared to 317.7 million in the prior year. Capital expenditures totaled a 125.5 million and 166.4 million for 2016 and 2015 respectively. Adjusted EBITDA, less capital expenditures were 225 million, an increase of 73.7 million or almost 49% from the prior year. Now, turning to the fourth quarter 2016 results compared to the fourth quarter of 2015, revenues increased 3.3 million or 1.6%, due primarily to increases in residential data and business services revenues of $10million and 3.3 million respectively. For the fourth quarter 2016 and 2015 residential data revenues comprised 42.5% and 38.3% of total revenues and business service revenues comprised 12.9% and 11.4% of total revenues respectively. The increases in data and business service revenues more than offset to decreases in residential video and voice revenues of 5.9 million and 2.5 million respectively, primarily attributable to customer losses year-over-year. Operating expenses again in excluding depreciation and amortization decrease slightly in the fourth quarter of 2016 and improved as a percentage of revenues at 36.3% compared to 37% in the fourth quarter of 2015. The improvements in operating expenses were driven by lower program cost of 1.4 million associated with reduction in residential video customers and partially offset by an increasing group insurance cost of 1.2 million. Selling, general and administrative expenses as a percentage of revenues were 23.5% and 21.9% in the fourth quarter of 2016 and 2015 respectively and increased 4.2 million or 9.4%. The increase was primarily attributable to higher marketing expense of 2.1 million, professional fees of 2.1 million and acquisition related cost of 1.6 million and partially offset by decreased customer billing cost of 1.3 million. Net income decreased 1.7 million or 6.5% to 24.4 million in the fourth quarter of 2016 compared to 26.1 million in the prior year period. The lower net income in the fourth quarter of 2016 was driven by higher selling, general and administrative expenses and depreciation and amortization expenses, and partially offset by lower income tax expenses compared to the fourth quarter of 2015. Adjusted EBITDA was at 8.6 million and 88 million and capital expenditures totaled 34.2 million and 67.1 million for the fourth quarter 2016 and 2015 respectively. Adjusted EBITDA less capital expenditures was 54.4 million, an increase of 33.6 million, or almost a 161%, from the prior year period. As I mentioned earlier, adjusted EBITDA growth year-over-year was affected by the positive impact of 2.3 million for certain insurance related and other benefits recognized in the fourth quarter of 2015. Without these adjustments from 2015 EBITDA growth would have been 3.4% year-over-year. Turning to liquidity, at December 31, 2016, we had approximately a 138 million of cash and cash equivalents on hand, compared to 119.2 million at December 31, 2015. Our debt balance was 545 million and 549 million at December 31, 2016 and 2015 respectively. Our leverage was low as net debt to adjusted EBITDA was only 1.1 times at year end. We also had our $200 million revolving credit facility available for borrowing as of December 31, 2016. During 2016, we also repurchased 126,797 shares of our stock under our stock repurchase program at an aggregate cost of 56.4 million. As Julia mentioned earlier in January of 2017, we announced the acquisition of NewWave for a purchase price of $735 million in cash. We expect to finance the transaction with 650 million of senior secured loans and cash on hand. This transaction is expected to be completed in the second quarter of 2017. Our financial capacity will allow us to make this acquisition and still maintain very favorable leverage positions. Our net debt to adjusted EBITDA as I mentioned earlier is currently only 1.1 times. When we announced the acquisition we mentioned that this leverage level would move to 2.9 times but based on our changing capitalization policy that I'll go over in a minute, our leverage will only be around 2.6 times, so, well within the leverage parameters that we've discussed with the mark before at 3.5 times. Now turning to the change in capitalized labor that Julia mentioned, in the first quarter of 2017 we changed our accounting estimate related to capitalization of certain internal labor and related costs associated with construction and customer installation activities. Historically, we did not have adequate information to identify and calculate all of the capitalizable labor and related costs; and therefore these costs were expensed as incurred. In the first quarter of 2017, we've implemented systems and processes that allow us to more accurately estimate the amount of directly identifiable labor costs incurred on construction and installation activities. We anticipate that this change will result in an increase in capitalized labor costs in the range of 28 million to 33 million on an annual basis; resulting in decrease in expenses and increase in capital expenditures beginning in 2017. To elaborate, this change is expected to reduce our operating expenses by the aforementioned range of 28 million to 33 million, it will therefore also increase our capital expenditures and adjusted EBITDA by a light amount and increased our adjusted EBITDA margin. Net income is also estimated to increase in the range of 16 million to 20 million in 2017, as a result of this change, although the net income impact will diminish over the next several years because of additional depreciation. Meanwhile adjusted EBITDA, less capital expenditures will not be affected. So, in conclusion, our solid financial performance continued in 2016 and we're very excited about expected acquisition of NewWave. And with that, operator, we're now ready for questions.

[Operator Instructions] Our first question comes from Philip Cusick with JPMorgan. Please go ahead.

A few if I can, first, congratulations on the NewWave deal. It looks like a great deal on a lot of measures. Can you talk first about the demographics and those markets and how the Cable ONE philosophy on video pricing and broadband pricing and promotion sort of fits or doesn’t fit in the near markets. And then second can you talk about the decision may have had with the board about the dividend, given that leverage still would be fairly low and you’re generating lot of cash, and I'm little bit surprise you didn’t take the dividend up today, any reason that that didn’t happen or was it not even in the discussion? Thanks.

Phil, this is Julie. So, talking about demographics and the NewWave's area, NewWave, as we said is like a many Cable ONE, they are about quarter of our size and there markets are very similar to the one that we operate in. They kind to be may be a little bit smaller but they very closely match up, they are also the team that in NewWave, a great team has gone out with a similar strategy to Cable ONE and they are focusing primarily on residential, just the and business services and pushing growth in that area. I don’t think we’re going to comment on how Cable ONE is going to priced and deal with their promotions at this time, but we feel like we're positioned very well to capitalize on the work that the NewWave associates have begun. Kevin, do you want to mention anything?

Your question on -- this is Kevin. Your question on dividend, I mean the Board and management continually look at all forms of capital allocation whether it'd be dividends, stock buybacks or M&A, obviously that we just mentioned. But we will continue to look at a quarter to quarter and we wanted to be disciplined in our approach to all three measures, but I really can't comment in terms of where we go with dividends, we feel comfortable where we are right now. We continue to review it on a quarter to quarter basis.

Our next question comes from Craig Moffett with MoffettNathanson. Please go ahead.

Hi, this is actually Cathy Yao for Craig. Julie and Kevin you mentioned that, you took your rate outside $6 to $8 across your footprint in January. So does that suggest that going forward you're planning to take up more rate increases across your entire footprint on a more regular basis, once a year versus once every five years? And then within broadband more specifically, would you able to disaggregate your growth expectations between higher speed uptakes versus rate uptake? And then as a follow-up to broadband, I was wondering whether a more deregulatory environment would allow you to be more aggressive in your usage caps going forward? Thanks.

Thank you. This is Julie. To clarify the $6 rate adjustment would take in on video customers in January approximately $8 rate adjustment was taken on some business in video customers starting in February. When it comes to rate adjustments, our strategy is to pass along all video cost increases. We will not have on other products subsidizing video. I don't think that you could draw a conclusion about what we're going to do with other rate adjustments going forward. As a matter of fact, we've only raised HSD rates once since 2011, and we've never raised our phone rates, but again we'll continue to pass along all video cost increases as that is part of our strategy. As far as disaggregating the HSD growth, I don't think I'll comment to that. Deregulatory, well, I think we're all looking and waiting to see what will happen both with the Trump administration and possible tax changes and the new FCC and Ajit Pai. We've an established relationship with him and we look forward to seeing what happens to Title II.

[Operator Instructions] The next question comes from Stephan Bisson with Wells Fargo. Please go ahead.

I had a couple of it. First, on the synergies for the NewWave acquisition, are specifically 24 million annualized, when should that run rate begin? And then on the capitalized labor, if we were to look at that $30 million and kind of pro forma 2016 you guys would be closer to 20% on capital intensity, is that how we should think about the new CapEx side going forward?

On the synergies, as we said when we announced the NewWave deal, we believe that the synergies would be in the range of 24 million and it comes from three different areas, from corporate overhead, from reduced programming costs, and other operational savings, obviously their margins are far lower than ours are, because of our size. These synergies will be realized over time, some will be more immediate. Some could take a couple of years. For example programming savings would be realized as certain programming contracts come due whereas some corporate overhead savings are expected to be more immediate. So, it's going to range depending on what kind of savings we're -- we think we're being fairly conservative in our estimate here, but it'll be overtime. In terms of our capitalization, I think you can do the math, yes, if we had applied that range to our existing results in 2016, our capital as a percentage of revenues would have been higher. We ranged right where we told the market at 15%, a 125 million of capital, but if you want to add 30 million to that, I think you can do the math.

And that decent run rate kind going forward, if you were to kind think about that?

We hesitate to give guidance at the moment on that. We’re taking the look at NewWave and a lot of things that are going on. And again, you will start to see the synergies where the capitalizations take effect in the first quarter of 2017. So when we get around to seeing the actual change on capitalization in the first quarter and get a better sense on NewWave exactly where we're going to be, I think we will give some guidance. But I'm really reluctant to give guidance right now on that.

It appears that at this time we have no further questions. So, I would now like to conclude the question and answer session and turn the conference back over to Julia Laulis for any closing remarks.

Thank you, operator. I want to thank all of our Cable ONE associates for their commitment and carrying, each and every one of you contributed to making 2016 a very successful year for Cable ONE. We appreciate you joining us for today's call, and we look forward to speaking with you again next quarter.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.