Gogo Inc. (GOGO) Q2 2015 Earnings Report, Transcript and Summary

Good day ladies and gentlemen, and welcome to Gogo Inc.'s Second Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions]. I would now like to introduce your host for today's conference, Ms. Alva, VP Investor Relations and Treasurer. Please go ahead ma'am.

Thank you, and good morning, everyone. Welcome to Gogo's second quarter 2015 earnings conference call. Joining me today to talk about our results are Michael Small, our President and CEO; and Norman Smagley, our Executive Vice President and CFO. And before we get started, I would like to take this opportunity to remind you that during the course of this call, we may make forward-looking statements regarding future events and the future financial performance of the company. We caution you to consider the risk factors that could cause actual results to differ materially from those in the forward-looking statements on this conference call. And these risk factors are described in our earnings press release and are more fully detailed under the caption Risk Factors in our 10-K which was filed with the SEC on February 27, 2015. In addition, please note that the date of this conference call is August 6, 2015. Any forward-looking statements that we may make today are based on assumptions as of this date. We undertake no obligation to update these statements as a result of new information or future events. During this call, we will present both GAAP and non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measures is included in today's earnings press release. This call is being broadcast on the Internet and is available on the Investor Relations section of Gogo's website at IR. Gogoair.com. The earnings press release is also available on our website. Finally, after management's remarks, we will host a Q&A session. And now, it's my great pleasure to turn the call over to Michael.

Thanks, Varvara and thank you all for joining us on the call today. Q2 was another outstanding quarter for Gogo. Financial we broke many records and I am particularly pleased with our segment profit performance in CA North America. I am excited to be speaking with you this morning from Gogo's new location in the heart of Downtown Chicago. Since our last call we have consolidated commercial aviation under one roof. Before I get into our quarterly update, I want to remind you of the big opportunity in front of us. As we discussed during our Analyst Day in June connected aircraft is the future of the global aviation industry. Why am I still confident of this? The Internet of Things is perforating switching across all industries, aviation is no different. Airlines will simply have to be connected as the opportunities for operational improvement, reduced maintenance, improved safety and better customer service are separate. And it's not just an idea, it is real, it is big and it is underway. What does this mean for Gogo? With a win rate exceeding 70% since 2Ku's announcement and with our systems flying on over 50% of global broadband connected commercial aircraft today, Gogo will lead this revolution. To do this we will continue to advance our industry leading expertise by delivering innovative platforms and services, designing, building and running the best network solutions and signing and installing the most aircraft in the industry. Now let's turn to a brief update on the quarter. First, winning new aircraft. We are thrilled to be working with GOL this win one for us is our first commitment in South America and the seventh airline that selected 2Ku. Our system in Brazil with GOL and I can say that they are incredibly excited to transform the passenger experience by being the first South American airline off of us. So what's special about this win? First, it is a large and full fleet. It includes the entire 140 aircraft in full fleet. Second, it demonstrates the importance of 2Ku in the tropical region. And finally, it is our first selection for our new IPTV product, we are very excited about that. So with GOL's win we now have been awarded more than 500 aircraft across four airlines and trials with three others for 2Ku, and we won't stop there. Now turning to bandwidth. We fully expect 2Ku, our second generation technology will be flying on our own Boeing 737 this summer and commercially launch before the end of the year. Getting 2Ku to market this year is critical. As far as we can see 2Ku is the best global solution to market. We believe it wins on four key factors; cost, coverage, capacity and reliability. And specifically in North America it will enhance the passenger experience and free up capacity for planes operating on our ATT network when Delta begins deploy 2Ku in 2016. As revolutionary as it was at the time, our ATT network is now congested. On top of that the addition of regional jets has added pressure to that network. As expected, these constrains slowed ARPA growth relative to prior quarters in CA North America. We continue to do price optimization of our connectivity products to balance customer experience which had the intended effect on take rates. We know more capacity is coming starting in 2016 and until then ARPA growth is expected to moderate as we continue to manage through our current network congestion. Let's now turn to financial results. We delivered another record quarter. Revenue grew 22% to 121 million and adjusted EBITDA more than tripled 10.8 million. Combined segment profit for CA North America and BA reached 29 million in Q2, another record and grew 31% from the prior year. Operationally we added 300 aircraft in the quarter. This is more than three aircraft per day across different aircraft types, technologies and geographies. In addition we added about a 120 aircraft with our wireless in-flight entertainment pattern Gogo Vision. And by the way Boeing is now providing line set ATG's four provisions on the 737 and we are moving down the path to get 2Ku line set with both Airbus and Boeing. On the business aviation side, we shipped a total of 380 units of which 227 were ATG consistent with our average over the past four quarters. We are also making good progress with our BA segmentation strategy, targeting smaller aircraft with ATG 1000 and 2000 and large private aircraft with ATG 8000. This strategy is gaining traction on both ends. Overall we continue to make great progress on our three goals of winning new aircraft, gaining more bandwidth in the sky and hitting our numbers. So this wraps up my quarterly remarks. But before I turning the call over to Norm, I want to reiterate and upsize a few key points. First, our top priority is bringing 2Ku online this year. Cost, coverage, capacity and reliability of this technology we believe is simply unmatched in the market today. Second, more bandwidth will unlock ARPA growth from both more passenger connectivity and from connected aircraft applications. And finally, to be successful in this industry, you need scale and experience with over 5,500 broadband aircraft, 5,400 satellite aircraft and 20 million flight hours of experience Gogo leads this industry and that's why I feel confident that we will continue to grow and expand our leadership in North America and internationally. With that, I want to thank you for joining the call. And I will turn it over to Norm to go over our financial results.

Thank you Michael and good morning everyone. Well this is another quarter [indiscernible] I get to say we hit record revenues this time of 22% to $121 million, even better I get to say it for the first time service revenues exceeded $100 million in the second quarter growing 28% to $101 million. This is nearly equal to our full year of service revenue of 2011. The combined segment profit of CA North America and BA increased 31% to $29 million for the quarter representing a 24% combined segment profit margin. Adjusted EBITDA tripled to a record 10.8 million representing a 9% margin. Let's now turn to our operating segment. CA North America service revenue was up 22% to $75 million for the quarter. This was driven by a 13% increase in ARPA and a 9% in aircrafts online. The 13% increase in ARPA to an estimated $136,000 annually was driven primarily by a 19% increase in the average revenue per session and growth in Gogo Vision and other service revenue, partially offset by decrease in take rate from 6.7% to 5.9%. More than half of the take rate reduction was due to lower sponsorship revenue in the current quarter with the balance being driven by price increases and the addition of more regional jets which had lower take rates and main line aircraft. During the quarter we installed 105 aircraft and our airline partners retired 56 aircraft primarily due to expected fleet refresh programs. As a result we ended the quarter with 2,249 aircraft online of 9% year-over-year. In terms of profitability CA North America continues to demonstrate operating leverage. Segment profit increased 74% to 11.2 million driving segment profit margin to 15% up 50% year-over-year. Now turning to BA. Service revenue increased 39% to $24 million driving total revenue to a record $43 million for the quarter. ATG aircraft online increased 31% to nearly 3,200 as ATG's service ARPU increased nearly 11% to more than $2,200 per month. BA equipment revenue of 19.5 million was down slightly primarily due to changes in the ATG product mix and pricing changes particularly on the low end products, partially offset by increased sales of Universal Cabin System. We are still in the early stages of our market segment facing strategy but are very encouraged by the market's reaction to the latest product offering such as ATG 2000 geared towards more aircraft. BA segment profit was 17.5 million was up 13% from last year. Segment profit margin was a solid 41%. Finally, let's move to CA rest of world. We installed an additional 32 Ku based aircraft and reported 2.3 million in revenue for the quarter. Segment loss of 18 million was down 0.8 million from a year ago 43 million sequentially due to lower cost of service. Our consolidated cash CapEx increased 4 million to 23 million for the quarter due to increased airborne equipment proceeds and lower ATG network CapEx. Our cash balance at the end of Q2 was $392 million. [I have been sleeping pretty well lately]. For the full year we expect adjusted EBITDA at the higher end of our previously announced guidance range of $15 million to $25 million. Even after increased engineering expenses in the second half of the year, primarily for STCs related to the commercial launch of 2Ku with our airline partners next gen ATG development and line set. Overall guidance for total revenue and cash CapEx remain unchanged. Our strong service revenue and profitability growth continues to demonstrate a very attractive underlying economics of our business. I cannot be more pleased with these financial results. Operator we are now ready to take our first question.

[Operator Instructions]. Our first question comes from the line of John Hodulik of UBS. Your line is open.

Good morning everyone. It's Lisa Friedman for John. Norm I just wanted to ask about the guidance. It looks like you have done about almost 20 million in EBITDA in the first half and so I was just surprised that you didn’t face the guidance range and so maybe you could just give color around that?

Sure. So at this point we are not prepared to give the guidance range. As I mentioned going through the results we expect a significant increase in engineering expenses in the second half of the year. Primarily for STCs related to 2Ku launches with our airline partners and next gen ATG development as we look toward that technology as well as increasing line extensions, to get 2Ku line for both Boeing and Airbus.

And on that topic we had gotten a number of impressions about Virgin America's decision to use advised that for their deliveries some Airbus, I believe that was because they wanted the product be line set. Do you have any sense of when you may be able to be line set with 2Ku for Boeing and Airbus going forward?

Lisa it's Mike. We haven’t disclose that date but we are making excellent progress on line set with both those airlines. I would like to point out though that since we announced 2Ku we have sold over 500 in that time period we have seen 10 aircraft sold by the competition. So we think 2Ku is winning in the marketplace and will continue to win in the marketplace.

Thank you.

Thank you. Our next question comes from the line of Dick Ryan of Dougherty. Your line is open.

Great. Thank you. So Michael back on the lines that how about your first generation KU satellite antenna, you’re working online fit for that solution at all?

We are investing a little in online fit of that product, but it is primarily, I mean that is an end of life solution. It is the last generation solution 2Ku is the next generation solution. So our focus will be -- primary focus will on 2Ku. We are technology agnostic and we respond to what our airline partners want. So, we sell virtually everything in the marketplace, it’s just in our opinion 2Ku is the right answer in virtually all cases.

And any timing on that line fit effort or is it just with Boeing or Airbus, or would it be both?

We’re working on it with both. And the time lines are long inherent to the process of getting into the factory at Boeing and Airbus, they cannot afford any vendors slowing down the process. So, it’s rigorous. But we’re well underway, it’s happening.

And Norm, just I know it’s still early in rest of world. Revenue per aircraft looks to be, I think it’s 17,000 per aircraft or maybe 50% below CANA. Can you give us what your expectations are, maybe over the near-term and longer term does that track where CANA goes?

So, the trend in rest of the world for our ARPA is very positive, moving in the right direction along with our expectations. So, we’re very pleased with the results so far. In the longer term, we could see ARPA and rest of the world -- the rest of the world place is being higher than North America.

Okay, and just want to….

Higher because of our credit, ultimately ARPA is driven by the amount of bandwidth you have. And we’re going to be putting higher bandwidth solutions in the rest of the world than our second generation technology instead of first generation technology. So ARPA will be fine as far as we’re concerning the rest of the world, even superior to what we’ve seen to-date in the U.S.

And just Norm more on the housekeeping, do you have number of aircraft for ATG4?

We’ll get that to you in a moment.

780…

Great, thanks Norm.

Our next question comes from the line of Jonathan Schildkraut of Evercore ISI. Your line is open.

Two question or maybe three if I may first, Norm, if I could dive a little deeper on the guidance. You’ve given us some sense here for the incremental expenses to look for in the back part of the year. But just listening to your commentary, it sounds like most of those expenses will land in the ROW segments. And the reason I asked that question is, is that, we’re starting to see some real operating leverage materialize in the North American segment. And I am just wondering if we can expect -- continue to see that pattern going forward with the incremental expenses again falling in ROW?

Well, 2Ku SEC related expenses will be -- there will be some in North America as well we do see it as delta fleets domestically. There’ll be some spending there and next in ATG primarily -- actually entirely North America [indiscernible] will be shared. So it will hit both.

And is there -- can you give us quantify any of these expenses for us, or just we should back into it using sort of top end of the EBITDA guidance range?

We’re not going to disclose at this point forward looking numbers.

I was wondering also if we might get some backlog numbers in terms of what’s left in the backlog to install between North America and rest of world.

One second, we’ll pull out the precise numbers.

Michael, this is a time to ask you a question, and 2Ku obviously it’s been a big focus for the Company and we’ve seen some progress over the course of the year, it was throughout the year you talk about it number one priority as we look through the end of the year, really setting up for 2016. I was wondering if you might give us a little perspective through your experience. First of all, is the pace at which this is coming to market as you expected, faster, slower? And what are the more challenging hurdles that are out there for us to look at it lines of demarcation over the next few months?

So 2Ku is the global solution that is really going to make our industry take off outside of North America in my opinion. And we held our timelines remarkably well for developing a new technology. We are very close on the CC for our own 737. And I couldn’t be more thrilled to have seven airlines select 2Ku for over 500 aircraft literally just 15, 16 months since we announced it. So it is going very well and the fact that we have over 500 already we've crossed the threshold of having a plane to support this technology and I fully expect there will be a lot more coming.

Alright. Thank you for that.

So in backlog, we have about 300 in backlog in rest of the world and on a net basis as we expected the installs from the airlines we have about 400 in North America which is roughly 700 gross.

Great. Thank you for the answers and taking my questions.

Sure. Okay.

Our next question comes from the line of Andrew DeGasperi of Macquarie Capital. Your line is open.

Thanks. First I wanted to ask you is do you have any visibility on aircraft retirements for the rest of the year or is this something that sort of hits you out of the bloom?

We do have, we have very good visibility over even a year's time on the aircraft count. What happens in a particular quarter is there can be movement based on airline decision. So while we had a heavy quarter we are very confident in our long run forecasts on aircraft count.

Got it. And secondly I was wondering if you could discuss your usage statistics for Gogo Vision, do you feel generally that passengers are aware of the product or do you think that could be improved?

Well it varies by airline on how much they have promoted it. But it is continuing to build and I do think you will continue to see an uptick. It is now a meaningful number of user even relative to our connectivity sessions. It's a product the airlines and the passengers love, it's inexpensive, light weight solution, getting video through the way the customer or passenger got to see it which is on their own placement in updated feedback screen. So I think the product is going to do very well and we position it as a value add to our core connectivity products. Ultimately connectivity is transformative and Gogo Vision is a nice application in the broader picture.

Great. Last question. 14 gigahertz option I think recently Google some opposition to that and Qualcomm before that. Do you have any comments on that?

I am not aware that it was Google but there are some that have objected along the way I mean they notice to propose rulemaking in the commentary at its close and so I am not sure that the SEC certainly on a formal process would consider any additional objections. We are anxiously awaiting that report and order. We said over and over again we can't predict even that it will be issued much less when but we are operating on the assumption that it could be at any time. So we are prepared in the event the SEC does issue it. In our face business planning it's all about 2Ku, that drives our forecasting and how we think about the business. If 14 g happens we think it's a real asset in the United States it is not a global solution so it's real positive but it isn’t fundamentally what's going to drive our growth on a global basis.

Great. Thank you.

Thank you. Our next question comes from the line of Armintas Sinkevicius of Morgan Stanley. Your line is open.

Good morning. Thank you for taking the questions. I had two on the North American business. With regards to pricing, I know there were some price increases in April that helped drive ARPA higher but the take rate was down quite significantly. If you could talk about your thoughts on pricing going forward, as it relates to pricing elasticity and how much the business customers are willing to continue to pay? And also there was a sentence in the slide deck on the Analyst Day that said re-launching talk and text, so I was wondering if you had any update on the app?

Yes. So we still have pricing power. The elasticity works in our favor but we have actually finally found -- you will actually see a reduction in volume as you raise price. We also know that the answer ultimately is more bandwidth and with 2Ku so really on the horizon for us now we are going to temporary use price increases until 2Ku arise and provides more bandwidth. And we have that power but I just think the negative customer perception we create by doing that is just not worth at this stage although we do have flexibility. And the texting app, it is now actually available in the iTune Store and within App Payment and it's still paid version but available and we will increasingly promote that going forward I encourage you all to download, it's pretty select and easy you will like it.

Okay and actually one more just follow up housing keeping item. But international airlines, if you can update us on the conversations you’re having there?

We continue to believe we’ll sign additional international airlines, including in the remainder of this year. The 2Ku continues to resonate. Gogo’s leadership and experience continues to resonate. And as we indicated, we are focusing on larger fleets and even full fleets, because we think that’s the best way to grow our business economically efficiently and deliver the best results for our airline partners.

Our next question comes from the line of Phil Cusick of J. P. Morgan. Your line is open.

I guess, first following up on that. Do you still feel good Michael about three to five major deals this year and any feel for when [Airbus] can star awarding this?

Three to five is -- your number maybe clean from things that may have said, but we haven’t official said three to five. And we’re pretty good way there and we have two, anyway you want to -- currently this year, we got deltas some of their international fleets, new orders there and we have the big one some goal with 140 planes. And I said I think we’ll get more. So, I get that by definition, it’s at least the low end of your range.

And how about -- in terms of carriers awarding those deals, anything on timing?

On timing?

Yes.

No, other than we take -- we’ll get another one this year is the only indication we’ve given on timing. Gogo has one 70% plus of all the aircraft awarded since we announced 2Ku on a global basis. So, I think we have a winning track record and I think that will continue.

And then second, we’ve done a lot of questions on the Virgin deal with ViaSat. I know you didn’t have a contract on the 10 planes that went to ViaSat. But how long is the contract on the existing Virgin fleet? And any idea how they plan to market that ViaSat offer versus fleet wide Gogo offer that they have today?

I don’t know how they will handle marketing the two different services on different aircrafts. The deal still has a few years remaining on the existing aircraft.

Our next question comes from the line of Andrew Spinola of Wells Fargo. Your line is open.

Michael, I think you made a comment earlier on the call that there’ll be some additional capacity on the ATG network in 2016. And I just wanted to confirm, is that, as you move the long haul delta domestic planes over to satellite that you will be freeing up the capacity. Is that what you were referring to?

Exactly. There is a double benefit of 2Ku the planes can install it, of course get a lot more capacity but they come off to ATG network freeing up capacity for the remaining aircrafts on the air to ground network.

Make sense that as you move to 2Ku, you have more and more capacity. But just in terms of managing the transition, is there anything that you can do on the supply with the ATG network, whether it’s add more sell sites, improve the backhaul and anything that will -- that you can invest in to also add capacity for the next couple of years?

Every day we invest in the ATG network to squeeze out more capacity and we’re doing that for the last five years and we’ll continue to do that. But it will -- it can only yield so much, there is just laws of physics with 3 megahertz of spectrum in use. We are maybe the world’s most efficient user 3 megahertz of spectrum. And I do think we can possibly -- actually we do have line of sideways to get a little more out of existing.

Our next question comes from the line of Louie DiPalma of William Blair. Your line is open.

I think Virgin America was one of the first adopters of the ATG technology. And as you discussed in the previous answer to that contract comes up for renewal in I believe 2018. Do you expect Virgin to renew that contract for its existing fleet?

I would expect that, yes because Gogo will have the best solutions in the marketplace. I understand the pressure to find more bandwidth and to me 2Ku is that answer, it’s going to be the best solution and there is going to be plenty of time for us to just demonstrate that. And it will become clear and clear in the marketplace over the next few months as we fly it on our plane and then begin the flight commercially.

And with capacity constraint on the ATG network, you appear to be focusing on network optimization and low bandwidth services. Michael do you expect T-Mobile to renew the exclusive texting partnership and does that expire soon as in the third quarter or the second half of this year?

I can't -- I won't comment on the terms of that agreement but we will -- you will see some low bandwidth texting type solutions coming in. It will not be the big driver of our results but it will be one of those things we can do to manage the limited bandwidth and we will use that.

Okay. And lastly, can you discuss the adoption of ATG-4 within the business aviation segment?

We just introduced ATG -4 under the business aviation segment it's called ATG 8000 and we are just beginning to sell it and I do think that will be applicable to a certain number of aircraft as part of our segmentation strategy. And so we will be able to up-sell a few of the larger more valuable aircrafts and then we will introduce ATG 1000, 2000 or have introduced it for the lower end aircraft.

Excellent. Are even successful at penetrating that lower end market?

We have seen the traction yes the segmentation strategy is quit working ATG 2000 is out in the marketplace 1000 is coming later this year. And so it's lower equipment prices matter at the low end of the market as the planes become less valuable but it is also about trading more cockpit applications, the person flying the plane is probably the person using the connectivity and it's just not easily pop open your laptop and surf from the back of all those planes.

Thanks for taking my questions.

Thanks.

[Operator Instructions]. Our next question comes from the line of Jonathan Schildkraut. Your line is open.

Thanks yes just a -- sorry, a follow up question here, Michael you have been talking a lot about managing capacity on the ATG-4 network. I was just wondering I think you still have 1 megahertz of spectrum in the 800 band that's not in use. Is that a possibility to bring that into use or sort of expense of adding that frequency to existing equipment and/or tower site is too expensive as a reasonable solution? Thanks.

Yes so the 1 megahertz is a valuable asset but it's simply getting a third more capacity if you use a straight forward math going from 3 to 4 megahertz it's a nice help but it's not transformative when we begin to compare to what 2Ku can do for us and that’s much more impactful and realistically much shorter time frame at this stage. The 1 megahertz can also be used in more creative ways paired with potentially other future spectrum and that could have a more transformative impact also then simply a 33% increase. So for the optionality value of how we can use it in the future we haven’t deployed it and also it's quite clear to us that 2Ku is a much more impactful way to go.

Alright. Thank you Michael.

Yes. Thank you Jon.

I am showing no further questions in the queue. I would now like to turn the call back over to Mr. Michael Small, President and CEO.

Yes. Thank you everybody for joining us today. We are very pleased with the quarter it demonstrates the underlying operating leverage in North America business and we are very confident that you will see comparable trends as we expand around the world. It really is the same business in the rest of the world as we have seen in the U.S. so thank you everyone. Have a great day.

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