Venture Global, Inc. (VG) Q1 2012 Earnings Report, Transcript and Summary

Good day, everyone, and welcome to Vonage Holdings Corp. First Quarter 2012 Earnings Conference Call. Just as a reminder, today's call is being recorded. At this time, for opening remarks and introductions I would like to turn the conference over to Miss Leslie Arena, Vice President of Investor Relations. Please go ahead, Miss Arena.

Thank you, operator. Good morning and welcome to our first quarter 2012 earnings conference call. Speaking on our call this morning will be Marc Lefar, Chief Executive Officer and Barry Rowan, CFO. Marc will discuss the company strategy and progress we are making on our growth initiatives and Barry will review our financial results. Slides that accompany Barry's discussion are available on the IR website. At the conclusion of our prepared remarks, we will be happy to take your questions. As referenced on Slide 2, I would like to remind, everyone, that statements made during this call that are not historical facts or information may be forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These and all forward-looking statements are based on management's expectations and depend on assumptions that may be incorrect or imprecise. Such forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially. More information about those risks and uncertainties is highlighted on the second page of the slides and contained in our SEC filings. We caution listeners not to rely unduly on forward-looking statements and disclaims any intent or obligation to update them. During this call, we will be referring to non-GAAP financial measures. A reconciliation to GAAP measures is available on the IR website. And now, I will turn the call over to Marc.

Thank you, Leslie, and good morning, everyone. We entered 2012 with a financially strong business, characterized by strong flow, our lowest cost structure in six years and a clean balance sheet. With a stable core business, we're continuing to focus our effects to drive revenue in three major areas. The first, is international long distance, where we will build on our success through continued penetration of ethnic calling segments and expanded distribution. The second, is mobile services, which builds on the recently launched Vonage Mobile platform. And third, is international expansion as we enter new geographic markets outside North America and the UK through strategic partnerships. In the past year, Vonage world customers have grown from 43% of our base to nearly 50% today. Our base of active international callers now comprises 35% of all customers. In recent months, we continued to grow our international long distance space driven by our continued efforts in Hispanic segment. In the first quarter, we experienced 6% growth in the number of callers to Mexico and Central America. This builds upon our success that began in 2011 with the launch of our end-to-end Spanish language experience for our customers. This capability has contributed to an increase of 60% in monthly usage to Mexico, the Caribbean and Latin America since the beginning of 2011. In addition, we've expanded the number of community sales teams and broadened our retail distribution. These channels now deliver over 20% of total sales primarily in key ethnic segments. In the very near future, we will enhance our current service offerings to better meet the needs of the estimated 700,000 people of Pakistani decent living in the United States and the many millions of Latinos that call internationally to mobile phones. Although not yet material to our overall financial results, let…

Thanks, Marc, and good morning, everyone. I'm pleased to review our financial and operating performance with you. Financial results were generally inline with our expectations and we finished the quarter with tangible early progress delivering on our growth initiatives. As planned, we are investing in an international long distance, mobile and international expansion to lay the foundation for future growth. Beginning on Slide 3, our core business EBITDA remained strong. You will recall from last earnings call that we said that we expected to invest $5 million to $10 million per quarter in our strategic growth initiatives throughout 2012. During the first quarter, we invested $7 million to fund organizational growth, add development resources and invest in marketing across these initiatives. EBITDA was $32 million for the quarter, down as planned, from $40 million sequentially and $43 million in the year-ago quarter. Moving to Slide 4, GAAP net income was $14 million or $0.06 per share, down from $21 million or $0.10 per share in the year-ago quarter. This decline reflects lower operating income and higher income tax expense resulting from last quarter's release of our valuation allowance of $326 million. While our 2012 effective tax rate is expected to be 33%, the effective tax rate in the first quarter was 26% due to the timing of certain items primarily related to adjustments in stock compensation. As a reminder, the change in accounting for income taxes reflected in this quarter's results and going forward has no impact on the actual cash taxes we pay, which will remain minimal due to our next operating loss carryforwards. Net income statement was $19 million or $0.08 per share excluding adjustments, a decline from $26 million or $0.11 per share sequentially and a decline from $23 million or $0.10 per share in the year-ago…

Thank you, Barry. Operator, please open the line for questions.

(Operator Instructions) And our first question comes from Mike Latimore from Northland Capital.

Thanks. Good morning. On the Globe deal, can you help just maybe quantify what you see as the opportunity there? I believe you had a Philippines initiative last year. How is that different under a Globe as partnership and just a little more quantification of what that might mean?

Sure, Mike. It's Mark. Let me take that one for you. So first off as I mentioned in my script that are over 3 million Philippinos living in the US. So it’s a very substantial market audience. Philippinos generally pay somewhere between $0.08 and $0.12 per minute for terminating traffic to call back to the Philippines. And pricing into the US from the Philippines is not terribly attractive either. It's an audience that has significant income. They're very close within their families and they parallel some of the other ethnic segments we've had significant success, like the Asian Indian segment in terms of how close they close they are in family and how fast word of mouth travels upon deals. The product we launched a little over a year ago was based upon economics that were broadly available in the marketplace without any kind of strategic partnership or alignment. We did a fair bit of research on that product. Knew when we came out with it, it was really only going to be appreciated by folks who are extremely heavy users and started with a minimum ante, about $65 to $70 to get into the marketplace. As a result of this partnership, without giving specific details for competitive reasons, we anticipate that we will have extremely disruptive pricing at the time the launch comes forward such that people calling between Globe and Vonage structured in a unique rate plan will radically shift the overall value proposition. We think it will increase both our marketplace but overall volume of minutes passing between the countries. We believe the opportunity on a full year basis is well in excess of $10 million in revenue for us. Until we're in-market, I hesitate to provide a more specific range because we're dealing with quantitative market research but until you're in-market with the product, it's difficult to forecast hard dollars.

Sure. Okay. And then on the – you talked about the media pricing second quarter. Do you expect then that maybe gross adds would be down sequentially a little bit? Or how should we think about gross adds given the media pricing?

It's a really fair question, Mike, and I don't to at all appear to dodge it. The issue is one, as you know we purchased direct response television in the marketplace. So we're in buying on a regular basis. The availability of GRPs and how much we're willing to pay for them to get a good return on our customer acquisition, varies week by week. So we literally are managing that plan as the quarter unfolds. So one of two things happens. If we think we can get the inventory and still get a good return on that investment, you could see slightly higher marketing expense on our core business. Alternatively, you could see us say that, it's really not worth that investment. And we could see slighter, slighter softness in GLAs. So it’s a choice we make week by week. But I'll tell you that we're doing is, we have a number of new exciting products that are coming out before end of the quarter and we are pushing on those through alternate channels beyond traditional media so that if there is softness in GLAs driven by television media, we hope to be able to offset or exceed those expectations. But I think it's important for investors to understand that unlike an AT&T or somebody's who's buying in the fixed market well in advance, we take advantage of very low cost media but that puts us at a little bit more risk as markets tighten and flex. In fact, we had an opportunity in the first quarter to take advantage of soft media markets in January and that's why we invested a bit more in marketing. We held some quantitative testing on media heavy-outs to see what kind of lift we can get. And we're actually going to build on that learning in the second and third quarter. We actually were able to see for windows of time some very interesting positive response to certain types of media when we're able to purchase that at high weights in certain segments. So it is an experiment and the second quarter is a tight media market from pricing standpoint.

And then just lastly your mobile app. It sounds like the downloads have gone very well since the launch. I guess, have you seen any – in terms of daily downloads, have you seen any change in the last say month? Have the downloads improved, stayed the same as they've always been? Just a little bit maybe more real time information on daily downloads around mobile apps?

As you'd expect once you get through your initial surge, it's a little bit softer than it was in the first couple of weeks to be sure. The issue now is over the next 6 to 12 months is how do you build that usage and build viral spreading of downloads. It's not unusual to see a softening and then an acceleration again when you look at other companies who'd want similar kinds of products. But the direct answer to your question is our daily downloads are not as strong as they were in the first two weeks but we are still well ahead of what our expected first quarter downloads were and we are seeing solid usage.

Great. Thank you.

Next question, operator.

Thank you. Our next question comes from Robert Routh from Phoenix Partners.

Good morning, guys. Couple of quick questions. As far as the partnership that you announced this morning, I know you can't speak much – go into too much detail for competitive reasons but can you give us any sense as to how we should look at it in terms of is this like a new legal entity that you guys are sharing equity? Or is this just a partnership with a revenue share? How should we look at it for modeling or valuation purposes? And what is the length of time of this agreement that you have with Globe?

Let me try to keep it high-level. This is a strategic partnership. It does include reciprocal marketing. It does include in some cases a sharing of some forms of revenue as well as some cost sharing. So we've built the economics on this bilaterally. That's what makes it unique and that's what's going to allow us to both go into market with something that is more aggressive than what has been seen thus far. From a cost structure standpoint, we obviously wouldn't be doing it unless we thought that on a combination we thought it had a strong net present value. Beyond that, it's difficult for me to get into any of the specifics of the terms of the agreement.

Okay. Fair enough. And you mentioned obviously you're going to target the Pakistani market at some market at some and the domestic (inaudible) is kind of two new initiatives. With this new announcement with the Globe, how much can the company handle this year? How many more partnerships might we see internationally? Or is that kind of what you're planning on doing for the balance of the year just from a time management point of view?

We do have additional initiatives that are planned in the back half of the year. The launch for the Pakistani market as well as some modifications to pricing to provide much better value for folks calling into Mexico and Central American mobile phones. That’s a place that is an underserved segment as well as many of you are aware. Those rate plans and those segment-marketing programs that's kind of part of our overall plan and has been going into the year. So we expect to be able to execute those in a pretty straightforward way. The major partnership kinds of activities like Globe, those are larger undertakings to be sure. We do anticipate additional activity whether it is in-market or not remains to be seen based upon the speed of contract finalization and the complexity of those products. But we do have capacity in the back half of the year to do more than what we have currently announced. I'll also make mention because I did in my earnings script, we expect to launch an international long distance product. We think about it as virtual or digital calling cards. So this basically becomes a very competitive product to what you would see in the calling card market. But delivered for many of those people in the US that still do not have Smartphones. And it's still a very large substantial portion of the population that are ethnic that do have international calling needs that are underserved and we believe, frankly, are taken advantage of in many cases by some of the prevailing calling card vendors with a lot of hidden fees and others. We think we can simplify that process and drive some volume there as well. So we think that we have the capacity to execute all of those initiatives this year.

That’s great. And just one last question. Obviously, you guys have done an incredible job de-leveraging the balance sheet. Your net debt is only $25 million and gross debt is $80 million now. De-levered at less than 1x cash flow. The question is, what do you think is the proper leverage for this company given, based on your EBITDA and your CapEx guidance? It looks like you should do $50 million to $70 million in real free cash flow this year. And in the event that you were to continue to generate the free cash flow with these initiatives working, given how fast you've been able to de-leverage, is there any possibility you put in place some fixed grade debt at a very low rate and use the – kind of rebounds the capital structure and repurchase shares or do something in the future?

Yes, Rob. It's Barry. Let me take that one. We think about the capital structure really in two phases. And as you point out, we have low leverage now paying very low interest rates. Less than 4%. The first phase is really this year as we look at it. As you know this is an investment year as we said before. We are really primarily focused on driving organic growth. We want to preserve the maximum flexibility in doing that. We certainly don't have massive acquisitions on our radar screen, but if there were some small acquisitions that we did to accelerate technology for example, we think that would be an appropriate use of funds if they were to present themselves in appropriate economic terms. So during the course of this year, we see that the strategy is to maintain the debt capacity as opposed to take on debt. I would also just point out we have a very valuable asset in our NOLs that were put in place last quarter with that recognition and we just need to be cognizant of accounting issues associated with that, that really create more space by the end of this year. So when you take all those things into consideration we look at this year as an investment year and wouldn't expect to lever up at this point. Now on a go-forward basis, as we continue to pay down the debt different capital structure alternatives is something that we would be open to considering. The cash flows of the business certainly can sustain obviously much higher levels of debt. So it is something that we would look to potentially do on a go-forward basis. But we think about the capital structure in those two phases, really, for the balance of this year and then to preserve the potential debt capacity and then beyond that.

Great. Thank you very much. It makes sense.

Next question, operator.

Thank you. (Operator Instructions) Our next question comes from Michael Rollins from Citi.

Hi. Good morning. Thanks for taking my questions. Two questions this morning. First, I was wondering if you could talk about where do you think the churn is going? So with some of the incremental churn that you've seen over the last few quarters, what do you think is happening there? Are they leaving the category? Are they going to a competitor? And just your thoughts on the environment competitively. And then sort of related to that, if you look at the investment that you've made to expand retail distribution over the last 12 months, why hasn't that been more accretive to the overall gross adds? So I suppose why are you gaining in one channel and do you think you're seeding some share in maybe some of the more traditional areas of where you've had success? Thanks.

Hey, Mike. It's Marc. Good questions. Thanks. Let me take the churn question first. So in terms of where we see churn going, I personally feel pretty good that we did see the peak in January. We've consistently been coming down in February, March. And I see ourselves going back into that mid-twos level. I think that's a sustainable range going forward. In terms of what's been happening, there's a couple of different factors at work as is always the case. One, our experiment with leaving contracts completely obviously led to a higher level or churn during the course of the year. We see that coming back into range. In the fall of last year, I will tell you that in some of the ethnic segments that we had done extremely well in, Asian Indian in particular, we had some very small competitors that came out with some aggressive pricing and before we responded they had churn and we got kind of a seven or eight week spike. And as soon as we responded promotionally and put retention plans in place, we were able to bring that back under control. So that was a tactical issue relative to pricing and the lesson there is learned is you've simply got to be competitive with promotional rates as small folks come in. You can't allow them even to bring in unprofitably – to get any kind of sustained levels of share. The broader picture, however, is twofold. One, Hispanic market has a higher churn level on average versus the general market. While they're ILD churn is still lower than domestic general market churn, it is in fact higher. As that becomes a larger portion of the base, you see a little bit higher overall churn. The second issue that we're facing, and…

And just real quickly. Did you do any price increases in the quarter or any that are coming up for the existing base in terms of fees, charges, and what that could represent with respect to incremental revenue opportunity? Thanks.

We have not taken any price changes in the quarter. We do continuously evaluate opportunities for price changes both up and down as we look at individual segments going forward. There are a couple of opportunities for additional pricing that we see over this next six to nine months as people continue to get extraordinary value from the combination of Vonage World and the extension services. There may be additional opportunities for pricing. But as you know, we do those quite surgically. We do them in a way to minimize potential churn risk and we do it against segments where we have a good appreciation for their stickiness with our core product. So we are looking at those. There are some opportunities that we see over the next six to nine months.

Thanks very much.

Next question, operator.

Thank you. (Operator Instructions)

If there are no further questions, operator, we'll conclude the call. Thank you for joining us today.

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