Cable One, Inc. (CABO) Q3 2018 Earnings Report, Transcript and Summary

Good day and welcome to the Cable ONE, CABO, Earnings Report Q3 2018. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Steven Cochran, CFO. Please go ahead.

Thank you, Shawn. Good afternoon and welcome to Cable ONE's third quarter 2018 earnings call. We're excited to have you with us 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 Web site at ir.cableone.net. Joining me on today's call is our President and CEO, Julie Laulis. With that, let me turn the call over to Julie.

Thank you, Steven. Good afternoon. Thank you for joining us for our third quarter 2018 earnings call. I will go over some recent accomplishments and review a few highlights before handing the call back to Steven for a full recap of our financial performance. For the second quarter in a row I want to begin by congratulating and thanking our associates. After receiving the Cablefax 2018 MSO of the Year Award this past summer, we were recently recognized by J.D. Power as the Number 1 ranked residential internet service provider in the West region based on their 2018 survey. Among the 12 Internet companies studied, Cable ONE achieved the highest numerical score for overall customer satisfaction as well as the highest score in three of the five study factors; billing, communication and customer service. This team continues to amaze me and I am so fortunate to have the opportunity to lead them as we strive to provide our customers with great products and experiences. I'm proud to say that our ongoing focus on our associates and our customers as demonstrated by these awards continues to translate into strong operational and financial performance. I am also excited that we can now discuss Cable ONE's growth in total as both the current and prior year quarters fully reflect the inclusion of the Northeast Division. Some highlights include year-over-year increases in total revenues of 5.7% and adjusted EBITDA of 6.1%. We were able to accomplish this EBITDA growth despite the impact of higher SG&A cost associated with greater customer activity in the quarter, including an increase in marketing costs during one of our peak customer acquisition seasons. We have continued the successful transition to an HSD-led company and our higher-margin residential HSD and business services products grew at 13% and 12.6%, respectively, and now contribute more than 60% of our total revenues. Once again, our results demonstrate the successful execution of our long-term strategy, which we believe serves both Cable ONE customers and our shareholders as well. The increased customer activity, I mentioned, resulted in more than 6,900 HSD net additions or over 1% growth this quarter on a sequential basis and 3.6% on a year-over-year basis. This is inclusive of a sequential increase of nearly 1,200 business services HSD PSUs for the quarter and nearly 6,700 compared to Q3 2017. We were able to accomplish this growth while still realizing increased ARPUs for both residential and business segments. As it relates to ARPU, our residential HSD ARPU was up more than 10% year-over-year. Residential HSD ARPU growth has been fueled by a mix of marketing and modem rental rate adjustment earlier this year, increased subscriptions to premium tiers, usage-based billing and contributions from further alignment of the Northeast Division. As I mentioned on our last call, we've been testing market-based pricing and new packaging option and are excited about the results. We are now in the process of implementing changes that we think will drive higher connects continue to improve ARPU and give our customers even greater choice and control. We will of course monitor the impacts and continue to adjust as needed in order to maximize the opportunity as we utilize our business intelligence group to help us understand changing consumer behavior around consumption patterns and pricing. The transformation and integration of our Northeast Division continues as we have migrated 99% of our HSD customers to our Cable ONE backbone. Our billing system conversion was recently completed, actually as of today. And all of this allows us to provide a more consistent customer-centric experience. We will also begin to realize additional operational efficiencies while we continue the planning and execution needed for our all-digital conversion in the Northeast Division. As it relates to the Cable ONE backbone, we continue to add capacity, increase peering and improved performance. Over the last year, we have increased our capacity by nearly 500% while holding operating costs flat. The result is that at peak utilization, we are only using 25% of our available capacity, which means that we are well positioned to not only add customers but manage the rapidly increasing growth in customer usage. On the business services front, in the third quarter, we completed the deployment of hosted voice service across our entire footprint, offering business customers the freedom and flexibility of the latest cloud-based virtual PBX technology. Our sales team is excited to have the new product to sell and we are seeing an increase in take rates. This is reflective of our continued focus on developing and enhancing our business services product set. Another example is our recent launch of Business SIP trunks throughout our entire service area. SIP trunking enables scalability, flexibility and benefit customers who have modern PBXs with a more cost-effective solution than traditional TDM-based service. Given the residential HSD and business services centric nature of our business, we have been also exploring a transition to a new brand strategy that better reflects who we are and what we stand for, a company committed to providing our communities with connectivity that enriches their world. We are optimistic about the opportunities this presents and we expect to share more on what we are evaluating next quarter. From a team standpoint, I'm very pleased that we continue to hire and promote top talent. Recent additions including a new VP of Human Resources, a Northeast Division Vice President and a new Director of Commercial Sales, this is just a sampling of the valuable additions that allow us to continue to drive growth. Before turning the call over to Steven, I would like to say that our thoughts are with the operators who've experienced loss during the recent hurricanes. It was just last year at this time that we were in the process of recovering from Hurricane Harvey, so we empathize with those now in that position. I was very proud of our associates who expressed the desire to help those recently impacted and Cable ONE is matching donations made by our associates to support some of those with the greatest need. And now Steven will provide more financial details on our third quarter results.

Thanks, Julie. Before getting into the details and as Julie mentioned, our third quarter is the first time that our quarterly results fully reflect combined legacy Cable ONE and legacy NewWave results for both '17 and '18. Now getting into the '18 third quarter results. The third quarter of 2018 demonstrated a continuation of a robust financial performance achieved during the first half of the year. Revenue for the third quarter 2018 were $268.3 million compared to $253.8 million in the prior year quarter. Residential data revenues increased 13% and business services revenues increased 12.6% year-over-year. Net income in the third quarter was $38.3 million compared to $30.9 million in prior year quarter, an increase of 24%. The increase in net income was driven by our strong financial performance combined with our lower income taxes with our third quarter effective tax rate decreasing from 22.4% from 34.5% in the third quarter of 2017 as a result of the federal tax reform legislation enacted at the end of 2017. Net income per share on a fully diluted basis rose from $5.37 to $6.70, an increase of 24.8%. Operating expenses were $92 million or 34.3% of revenues in the third quarter compared to $91.9 million or 36.2% of revenues in the prior year quarter. Selling, general and administrative expenses were $59.4 million or 22.2% of revenues and $51.8 million or 20.4% of revenues for the third quarter of 2018 and 2017 respectively. The increase in SG&A was primarily attributed to increases in marketing and system conversion costs along with higher insurance and net compensation expenses. We expect that marketing expenses will return to normal levels in the fourth quarter. Adjusted EBITDA was $122.7 million for the third quarter of 2018, and increased 6.1% from $115.6 million in the prior year quarter. Our margin increased 20 basis points going from 45.5% in the prior year quarter to 45.7%. Capital expenditures totaled $68.3 million and $52.4 million for the third quarter of 2018 and 2017, respectively. Year-to-date, we have spent $159.2 million or 19.8% of revenue. We continue to expect that our capital expenditures, net of integration capital for our NewWave acquisition, as a percentage of revenue will be in the high-teens for 2018. From a liquidity standpoint, we remain in excellent position as we had approximately $237 million of cash on hand as of September 30 versus $162 million at December 31, 2017. We continued to generate significant free cash flow and at quarter end, our debt balance was approximately $1.2 billion, which included approximately $734 million of term loan borrowings and $450 million of notes. Overall, our debt-to-adjusted EBITDA after netting cash on hand against debt, remained flat at 1.9x, providing us with significant liquidity. We also had approximately $196 million available for borrowing under our revolving credit facility as of quarter end. We are pleased with our third quarter financial results, in particular the contributions, increased customer activity leading to top-line revenue growth in key categories of residential HSD and business services. We continue to experience steady and strong adjusted EBITDA growth and margin expansion and feel good about our opportunity to extend that into the future. This all goes to demonstrate that our core strategy is working and successful. Shawn, we're now ready for questions.

We'll now begin the question-and-answer session. [Operator Instructions] Our first question comes from Zack Silver with B. Riley FBR. Please go ahead, Zack.

Okay, great. Thank you for taking the question. I think first you touched on the increased marketing spend this quarter. Just kind of drilling into that a bit, was that more of a defensive kind of marketing spend, or was that something you saw an opportunity to kind of acquire more subs? And is that something that we -- I think you said it was going to moderate in the fourth quarter but is that something that we should expect that that line maybe a little bit higher as a percentage of revenue going forward?

Hey, Zach, it's Julie. It was not defensive at all. It was actually acquisition-oriented. The third quarter is typically strong for us and so we decided to capitalize on that. We did a very large integrated campaign that was acquisition, brand and PR-oriented. We also had spending related to some of the tasks that we've been doing lately, part of the difference as well is in 2017 our marketing spend was a bit lower. We really didn't -- we just gotten a brand-new VP of Marketing at that time, we had just acquired NED. So NED marketing wasn't in full swing, whereas in 2018 the exact opposite was true. I absolutely expect it to moderate and go back into normal levels in the fourth quarter.

Okay, great. And then, one more, if I could. I've seen on your Web site that you guys have launched some unlimited data plans and you've also got some other packages that have the same speeds advertised by different data caps with the higher data caps costing a little bit more per month. And I was just wondering, I know its early days, but if there's any kind of early learnings on take rates or how the customer response has been on those?

The testing that we talked about related to either market-based testing or changes in packaging sort of centers around smaller increases between tiers and allowing customers more choice and control over what speeds and data plans they want. Part of that is also an unlimited option where we're monetizing people can choose to get that rather than stay within our typical plans. So it's going well. We plan on implementing some changes and we're happy with the results so far.

Okay. That's very helpful. Thank you very much.

Our next question comes from Stephan Bisson with Wolfe Research. Please go ahead.

Good afternoon. I have two. First, this year has been great for high-speed data ARPU growth, all the initiatives. How should we think about the runway in 2019 and possibly going forward? And then, secondly, on capital intensity, we know 2018 should be in the upper teens, but you guys have a very unique data limit business. How should we think about that longer term?

HSD ARPU again has been growing. The modem rate adjustment reduced discounts, because we've been doing something called everyday low pricing until we did this large integrated campaign. So on the higher tiers and usage-based billing are all part of that, but actually a really significant part is the growth in our Northeast Division as they sort of run to catch up with Cable ONE ARPUs. I won't talk about a runway for 2019. I'll let you answer the capital intensity part.

Okay, sure. On the capital intensity, I think we'd like to start probably reframing how we look at it. Clearly, we've given this guidance at high teens. But, just as a comp compared to the rest of the industry, we don't think it's the best guide, because as we've migrated away from a video-led strategy into an HSD-only strategy, clearly we have a much lower ARPU than a lot of the people in the industry from an overall customer standpoint. And with that, using a number based on revenue is going to make us look higher than the rest of the industry. I think we're going to probably, internally for sure, focus much more on CapEx as a percentage of EBITDA versus CapEx as a percentage of revenue. So as we think about it going forward, I think it's hard to kind of talk about getting down necessarily into the low to mid teens, the way I think a lot in the industry are because it's not the same comparison. But as we move forward, we'll probably look on the guidance around this to give that as it relates to EBITDA instead.

Great. Thanks so much.

Sure.

Our next question comes from Brandon Nispel with KeyBanc Capital Markets. Please go ahead, Brandon.

Hey, guys. This is Maddie Schrage on for Brandon. I was just wondering, if you could give us a sense on how you're planning on using the balance sheet going forward, because clearly the stocks made a nice move recently and we're assuming that the integration of NewWave is almost completed.

Sure. So, I think there's always multiple areas of using our balance sheet. Clearly looking first and foremost to figure out ways to grow both organic and inorganic. And we'll continue to look for all opportunities there and even be opportunistic with respect to chances to repurchase our shares and lastly continue with a predictable dividend.

Thanks. And if I could ask one follow-up. Can you give us a sense of where you are in your programming renewal cycles and maybe what we should expect in terms of programming expense growth next year?

We don't have but two major renewals coming up accepting any retrans setting us aside in terms of satellite programmers. And I think that I'm probably not going to comment on what we expect the growth to be going forward.

Yes. And I think it probably isn't all that relevant, just given the fact that we're going to pass it through anyway. And so the outcome of whatever contracts we negotiate will end up going to pass through to the customer bill and we'll do the best we can to manage them for the benefit of our customers, but ultimately that'll be a cost that the customer will bear.

Our next question comes from Philip Cusick with JPMorgan. Please go ahead, Philip.

Hi. This is Sebastiano on for Phil. Thanks for taking the question. Just wondering if you can update us about the go-to-market strategy, we talked a bit about it at a high level. But just where are you now in terms of just different initiatives, whether it's just still confined to your most competitive triple-play competition type markets. What kind of volumes you're seeing from that take rate as well? I think you've given some color about that in the past. And then related to that, the acceleration in broadband net add sounds as though it was related to the elevated marketing spend that you guys are a bit more aggressive. So just trying to frame that as well and how does the elevated marketing spend as well as the go-to-market strategy? I mean, is there a little bit of a relationship between the results there?

Yes. So related to the go-to-market strategy, I mean we have different pricing and packaging in different types of markets. So what you see in our hyper competitive markets is our pricing. There are tests related to packaging in other markets that I talked about a little bit today about us implementing changes that you'll see in the future. And I don't think it's worth commenting more about that until our customers hear about it first. In terms of the accelerated growth, it isn't only coming from the marketing spend. It is coming from the new pricing and packaging as well.

Okay, great. And then in terms of just NewWave integration, elevated CapEx this year obviously you guys have a bunch of different programs going on. Can you give us or update us and give us a reminder on where you are, whether it'd be the 32-channel bonding, all-digital and just timing of completion on some of those Northeast Division projects? Thanks.

Sure. So NewWave is essentially completed on this 32-channel bonding. We still need to go all-digital there, so that is slated for next year. As of today literally, I am not kidding, as of today we completed the billing conversion. So we decommissioned NewWave's old billing system. All of our customers are on one billing system, which also unlocks synergies to come from not only billing, but from positioning of our products as well. So if I were to look at a bottom-line, I'd say NewWave is probably about 70% through its entire integration cycle.

Okay, great. Thank you.

This now concludes the question-and-answer session. I would now like to turn the conference over to Julia Laulis, President and CEO, for any closing remarks.

Thank you, Shawn. Before we sign off, I want to take a moment to recognize and congratulate a number of our engineering associates who recently participated in the Society of Cable Telecommunications Engineers' IP Challenge. One of our associates took first place in the challenge and six of the nine finalists came from Cable ONE. Our talented associates have won this competition five in the last seven years. Pretty awesome group. We appreciate you joining us for today's call and we look forward to speaking to you again in the new year.

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