Iridium Communications Inc. Q3 FY2020 Earnings Call

Good morning. Welcome to Iridium Communications' Third Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Kenneth Levy, Vice President of Investor Relations. Please go ahead.

Thanks, Kate. Good morning, and welcome to Iridium's Q3 2020 earnings call. Joining me on the call this morning are CEO, Matt Desch; and our CFO, Tom Fitzpatrick. Today's call will begin with a discussion of our third quarter results followed by Q&A. I trust you've had an opportunity to review this morning’s earnings release, which is available on the Investor Relations section of Iridium's website. Before I turn things over to Matt, I'd like to caution all participants that our call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that are not historical facts and include statements about our future expectations, plans and prospects. Such forward-looking statements are based upon our current beliefs and expectations and are subject to risks which could cause actual results to differ from forward-looking statements. Such risks are more fully discussed in our filings with the Securities and Exchange Commission. Our remarks today should be considered in light of such risks. Any forward-looking statements represent our views only as of today, and while we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, even if our views or expectations change. During the call, we'll also be referring to certain non-GAAP financial measures, including operational EBITDA and pro forma free cash flow, free cash flow yield, and free cash flow conversion. These non-GAAP financial measures are not prepared in accordance with Generally Accepted Accounting Principles. Please refer to today's earnings release in the Investor Relations section of our website for further explanation of these non-GAAP financial measures and a reconciliation of the most directly comparable GAAP measures. With that, let me turn things over to Matt.

Thanks, Ken. Good morning, everyone. As you may have seen in our release this morning, we had a strong third quarter. We started the year at a record-setting pace in January and February, but then faced a sudden global lockdown in mid-March and April. With limited visibility on how the industries we serve would react, we were satisfied with the steady month-on-month improvement seen in the second quarter. Now, with the results from the third quarter available, it's evident that we've returned to the rapid pace that began the year. Given our strong subscriber growth over the past quarter and the momentum we're carrying into the final months of the year, we have a clearer outlook on how we'll conclude 2020. This year, our business has once again proven its resilience, especially demonstrated by the increase in net subscriber additions, which amounted to a record 67,000 this quarter, more than doubling growth from the previous quarter. With the improving global business environment, Iridium's financial outlook has also enhanced, and we are now positioned to finish the year with better top and bottom-line growth than anticipated when we updated our guidance during the second quarter call. Our expectations for free cash flow have improved to around $200 million for the full year due to these better operational results. So, what factors are driving our recovery from the effects of the Coronavirus? First, the service we provide is both significant and distinctive, with our satellite applications often being crucial for our customers’ mission-critical functions. Second, our offering, especially with our new constellation operational, is unmatched. We excel in mobile and remote connectivity more than anyone else in the industry. Third, and perhaps most importantly, we have a very diverse and effective partner ecosystem across every key market segment, and most are indicating that they're open for business once again and are optimistic about their future. Our partners exceed 450 and span various geographies, industries, and applications. With the exception of our partners in aviation and, to a lesser extent, maritime—both of which may take a few years to fully recover—the majority of our ecosystem partners are actively pursuing new business and engaging new customers. We have invested decades into nurturing our distribution network, and I attribute our unique wholesale ecosystem to Iridium's capacity to withstand economic downturns and continue growing even during a global pandemic. Based on our performance in the first three quarters of the year, we're raising our guidance for full-year service revenue growth and operational EBITDA. This reflects the inherent strength of our business and the higher-than-expected pace of subscriber additions during our peak summer selling season. The demand for Iridium services also drove strong hardware sales in the third quarter and contributed to engineering revenues. Despite the positive trends in the third quarter, some areas of our business have yet to recover fully. I will address Broadband and Aviation shortly, but first, I want to discuss our Voice business. It has been performing weaker compared to last year, although net subscriber additions have exceeded our expectations since the onset of the pandemic. The consistent improvement over the summer generated additional demand for handsets, benefiting overall equipment sales. This growth in our legacy voice business is a good sign that this segment is returning to its more typical rhythm. In IoT, the consumer recovery we discussed last quarter has persisted, and while most of our IoT applications are gaining subscribers again, particularly the retail demand for personal communication devices, this segment saw significant acceleration during the quarter. Iridium added 61,000 net new subscribers in IoT, surpassing the previous quarterly record from last year by nearly 30% or an additional 14,000 net new users. With an increasing array of consumer-oriented services and a growing number of partners targeting these personal communication services, along with having the optimal network to support them, this will be an important and expanding market for us. Recently, we introduced our latest IoT turnkey end-user device called Iridium Edge Pro, which has sparked considerable interest among current and potential partners. The Edge Pro is a programmable device featuring built-in sensors for asset tracking and performance monitoring, allowing partners to lower development costs and improve their time to revenue. This hardware offering will help keep Iridium relevant for a growing array of global IoT applications. We will also launch the Iridium Edge Solar device later this quarter, providing another low-maintenance turnkey solution that will enhance IoT partner offerings. An area where we have not yet fully recovered is Maritime. Although we added 300 net new broadband customers during the quarter, the pandemic continues to present operational and logistical challenges for the Maritime market. We have previously discussed these complications, and while we’re witnessing subscriber growth each month, global travel restrictions and installation issues are still hurdles. For instance, some partners have centralized installation teams that have faced difficulties in reaching ships in ports, whereas those with distributed teams have experienced less disruption. Therefore, it will take longer for this market to completely recover, and we anticipate that installation challenges may continue into 2021. On a bright note, we are observing strong demand and interest in Iridium Certus. Our partners are eager to sell the product and are very satisfied with its performance, and ARPUs from our broadband and service offerings keep increasing, illustrating the demand for larger data service plans from subscribers. In the third quarter, we observed a 12% year-over-year increase in broadband revenue and a rise in ARPU. Overall, Iridium Certus remains a vital driver of our growth, and we look forward to seeing it reach its full potential in the coming years. I haven't discussed aviation much this year, but you may have noticed some recent press coverage regarding a few of our equipment suppliers like Collins and SKYTRAC. We currently have six partners developing new aviation hardware targeting the commercial transport, corporate rotorcraft, and general aviation markets. This equipment will be available for retrofitting as well as for new builds, and our partners are very active in developing and certifying these terminals for commercial availability in 2021. Iridium is also deeply involved in gaining safety certification for Iridium Certus to align with the safety services we provide on existing aviation terminals. From our observations, the global aviation market, especially the commercial sector, may take about two to three years to fully rebound. Given the advancements underway, we believe our partners will be prepared with Iridium Certus aviation products well within that timeframe to seize the opportunities that arise. Regarding the U.S. government, we continue to collaborate with them on enhancements to their dedicated Iridium Gateway. These engineering updates and maintenance services support the government's use of our services and allow for the utilization of Iridium Certus services globally. On September 15, the Government's EMSS contract reached its first of four revenue increases, resetting the contract's base rate to $103 million for the next 12 months. Lastly, Aireon remains focused on developing its business despite the downturn in global aviation. They added another prominent customer, the Civil Aviation Department of Hong Kong, which is the latest ANSP planning to implement Aireon's space-based ADS-B system. This region manages over 400,000 aircraft annually and supports a critical corridor in the South China Sea. Including Hong Kong, Aireon data services are now being deployed by ANSPs in 38 countries worldwide. I am also pleased to announce that the FAA has expanded its collaboration with Aireon after their initial trials in the Miami flight information region. The FAA signed a significant contract in September to access Aireon's global data set, which will aid in testing and integrating into their air traffic controller automation platforms and assist in the FAA’s evaluation of various applications, including Airspace Safety Analysis, accident investigation data analysis, search and rescue, and commercial space. This marks an important milestone for both Aireon and the FAA, indicating that their long-standing relationship is advancing to a new level, enhancing safety and efficiency for U.S. passengers and operators. We commend the FAA and the Aireon teams for achieving this milestone. It's significant for U.S. airspace and the nation’s leadership in aviation. Before I hand over to Tom, I'd like to update you on our planned capital investments. Since completing Iridium NEXT, we have maintained our capital spending at approximately $35 million per year. Considering the robust subscriber growth during this time and the potential for growth with our new network capabilities—especially in personal communications and the improved speeds and efficiencies for IoT services—I wish to accelerate our investment in the coming years. Our partners indicate they see opportunities with our system that they’d like us to develop sooner rather than later. Additionally, like many companies, COVID has prompted us to reconsider the work-from-home model, which we expect will continue in a hybrid form even after the pandemic. This presents a timely opportunity for us to consolidate some facilities and reduce overhead costs. To address these initiatives, Iridium plans to increase capital expenditures for the next three years, from 2021 to 2023. Consequently, our capital spending will rise to around $45 million as we move rapidly on product development and a real estate refresh. We expect to return to a $35 million run rate by 2024. I believe this plan is the prudent choice to fully capitalize on our competitive position, technical leadership, and the opportunities available today. To conclude, I want to emphasize that Iridium has remained disciplined this year and continues to perform well. Our focus on mission-critical services, global connectivity, and reliable communications has enabled us to navigate through this challenging year and achieve subscriber and revenue growth. Our business is thriving, and we maintain strong visibility throughout our partner network, reinforcing our confidence. In addition to growth in both revenue and earnings, the health of our partner networks will also enable us to improve net leverage and free cash flow this year. With that, I'll pass it over to Tom for a more detailed financial review.

Thanks, Matt, and good morning, everyone. I'll get started by summarizing our key financial metrics for the quarter and providing some color on the trends we're seeing in our business lines, which give us confidence in raising our full-year guidance. I'll then close with the review of our liquidity position and capital structure. Iridium generated total revenue of $151.5 million in the third quarter, which was 5% higher than last year's comparable quarter. This increase was primarily attributable to strength in subscriber equipment sales and a contractual step-up in hosted payload. Operational EBITDA was $93.4 million, which was up 6% from the prior year's quarter. Our EBITDA margin was 62%. On the commercial side of our business, we reported service revenue of $91.8 million in the third quarter, which was up 2% from a year ago. This increase primarily reflected growth in hosted payload revenue, which more than offset a decline in revenue in our legacy voice business. During the quarter, voice and data revenue fell 4%. This decrease was predominantly driven by a fall in seasonal activations attributable to the ongoing pandemic, though not as severe as we initially feared back in April. While billable subscribers were down year-over-year, we actually saw an improvement in net subscriber additions on a sequential quarter basis. These trends continue to be better than our early expectations when the impact of the pandemic was largely unknown. We continue to expect full-year voice and data revenues to be down from 2019. Commercial IoT has largely rebounded from the initial drop caused by the pandemic in March and April. Many markets that had slowed at that time seem to have rebounded and many retail outlets offering consumer-oriented IoT that closed temporarily have now reopened. The notable exceptions are the aviation and oil and gas industries where usage has remained under pressure, as the frequency of flight has slowed and demand for oil production has waned. Offsetting these pandemic-related declines, however, has been a resilient retail consumer whose appetite for personal communications devices continues to rise. In the third quarter, commercial IoT revenue was flat to the year-ago period. This is a marked improvement from the 5% decline we reported in the second quarter, and another sign of the mass appeal satellite IoT devices in the consumer market. Summer drove a meaningful increase in activations of personal communications devices. It's clear that even as consumers have sought to socially distance during the pandemic, keeping in communication with others remains a priority. In our Commercial Broadband segment, we reported revenue of $9.1 million in the third quarter, up 12% from the year-ago period. While positive, as previously noted, the pace of broadband growth is slower than we had originally expected and reflects the ongoing disruption that the Coronavirus is having on the Maritime industry. As Matt noted, ship accessibility remains a headwind to new installations, though Iridium Certus continues to receive strong reviews from the channel and existing broadband subscribers. During the third quarter, Iridium added a record 64,000 net new commercial subscribers with the bulk of this increase driven by commercial IoT and unprecedented demand for personal communications devices. Commercial IoT data subscribers now represent 72% of billable commercial subscribers, up from 67% in the year-ago period. Hosting and other data services revenues increased to $14.5 million this quarter, up 21% from the comparable quarter in 2019. The majority of this increase was due to higher data service revenues associated with the step-up in Aireon Data Service agreement that we renewed earlier this year. We continue to forecast normalized revenue from hosted payloads of about $47 million per year. Turning to our Government Service business, we reported revenue of $25.1 million in the third quarter, including the impact of the contractual step-up in the EMSS contract from September 15. Year-over-year revenue was down fractionally reflecting the 2019 benefit of increasing rates on monthly contract extensions prior to the finalization of the seven-year contract under which we're operating today. In the third quarter, government subscribers grew 8% year-over-year to 142,000 users. Equipment sales continue to trend better than our April forecast, aided by a rebound in store openings and strengthening partner business trends. We also have enjoyed the benefit of currency tailwinds, where weakness in the U.S. dollar results in lower equipment pricing for foreign purchasers. Through the first nine months of the year, equipment sales are up 2% compared to last year. This is a noteworthy turn from last quarter when first half revenue was trailing the prior-year period by 5%. In light of recent trends, we now anticipate full-year equipment sales will be equal to or greater than 2019 levels. Engineering and support revenue was $9.4 million in third quarter compared to $7.6 million in the prior year's quarter; the change reflects increased work on commercial and government contracts, both of which are episodic. All told, Iridium's revenue has remained resilient this year, especially in the face of the global pandemic. This is not to say that we have been immune to the effects of COVID-19; however, improvement in our commercial business and equipment sales through the third quarter heightens our confidence in revenue growth and operational EBITDA for the full year. Accordingly, we're raising our full-year guidance for 2020 to reflect the health of our business partners and the momentum that we continue to see in subscriber additions. We now expect full-year EBITDA of approximately $355 million in 2020 based upon total service revenue growth of approximately 3%. This full-year outlook reflects the stabilization in our voice business and renewed momentum in IoT following the initial shock of the Coronavirus pandemic on channel partners. We continue to expect capital expenditures of approximately $35 million this year. As Matt described, a couple of initiatives will cause our capital expenditures to run a bit higher in the next couple of years. But we expect them to return back to around $35 million in 2024 and stay at that level for several years. If you consider the 10-year CapEx holiday period we've previously described, the increase during the next few years would take our average CapEx up closer to $40 million from the $35 million we had previously guided to. We view this as a modest increase that will not change our stated goals of deleveraging and returning capital to shareholders. Moreover, the increases are warranted as they will yield expense efficiencies from the consolidation of facilities and increased revenues from the delivery of additional functionality to our already popular lineup of devices, as evidenced by our record-setting gain in subscribers this quarter. Specifically, on facilities, we anticipate consolidating our real estate footprint in Arizona, which will save us about $1 million a year in overhead starting in 2022. We'll need to refurbish remaining facilities and expect to spend about $6 million on this over the next two years. Moving to our capital position, Iridium had a cash and cash equivalent balance of $182.7 million as of September 30, 2020. This is up $63.6 million from June 30. We believe that free cash flow provides a useful benchmark for the health and earnings power of our company, particularly in the current climate. Based on the quarterly results we announced today and our updated outlook for EBITDA in 2020, we believe Iridium will generate pro forma free cash flow of approximately $200 million for the full year 2020 compared to pro forma free cash flow of $168 million in 2019. For illustrative purposes, consider the following. We start with EBITDA of $355 million and subtract $90 million in pro forma net interest to reflect our new debt structure, $35 million for CapEx, and $30 million of working capital inclusive of the appropriate hosted payload adjustment. 2020's pro forma free cash flow supports a conversion rate in excess of 55% and a cash flow yield of approximately 6%. This is indicative of the underlying strength of our core business and compares well to companies in the communications infrastructure space, which enjoy higher trading multiples than Iridium. As in the past, we've provided supplemental information on the Investor Relations section of our website, laying out these pro forma free cash flow calculations. Iridium closed the third quarter with leverage at 4.2 times EBITDA and based upon guidance revisions expects to exit 2020 with net leverage of approximately four times EBITDA. As we've discussed previously, our goal is to reduce net leverage to a range between 2.5 times and 3.5 times EBITDA to provide ample flexibilities to support shareholder friendly activity. The business environment in 2020 has been unique. Even as the pandemic has continued to create uncertainty in certain sectors, Iridium's business has shown great resilience. We see meaningful business opportunities for Iridium moving forward and have confidence that we can capitalize on these to grow our earnings and bolster our free cash flow. With that, I'll turn things back to the operator for the Q&A.

We'll now begin the question-and-answer session. Our first question is from Ric Prentiss from Raymond James. Go ahead.

Hey, obviously good to see the beat and raise on the actuals in the guidance. Question on COVID-19 and the visibility you mentioned, obviously, you're seeing some nice signs up there. Any concerns on the second wave or lockdowns that we're seeing in Europe and some signs in the U.S. of what that might mean to the business?

I don't expect much change in 2020 since we're already on a solid path for this year. I'm worried that this situation might extend into next year. Sectors like aviation and maritime will likely remain at similar levels. I don't believe there's much tolerance for completely shutting down businesses anymore. It seems like we've adapted to a new normal globally. Although the economy is what it is, it means we won't be able to enjoy restaurants or sporting events for quite some time. I think we're in this environment for the foreseeable future, and I anticipate it lasting well into 2021.

Sure. Okay. And then, obviously some nice improvement also on margins. Tom, as you think about the business and growing the revenues and kind of the cost basis of the business, where could aspirationally margins go over time, when you look at your competitive universe out there?

Hi, Rick. We've maintained for quite some time that our model has inherent operating leverage since it's a network. The variable costs of producing additional minutes of use are very minimal. When we initiated our capital cycle, our margins were in the high-40s, and we projected that we would reach 60% by the end. We have now achieved that. There are no real limitations holding us back. If you analyze established satellite companies that have been operating longer than we have, they exhibit a similar model; they benefit from operating leverage and report EBITDA margins in the 80s. As we continue to grow our service revenues, we anticipate a positive impact on our margins over time.

Understand. And I like to focus on free cash flow; we really like looking at that as well. What are the items when you kind of called out the EBITDA, good to see margin improvement continue there, interest expense, how are you thinking about the debt markets right now? Is there the ability? Are they open? What kind of rates are you seeing? Is it something you could actually improve free cash flow as you look at the interest expense?

Yes, I mean, our term loan B is trading very well. I mean, as you know, we can reprice the term loan B, if the market is there and we're keeping a close eye on that. A 50 bp reduction in the margin is $8 million for us, so that directly benefits free cash flow.

And with the market stabilizing now sort of the debt market maybe being up, what we call as the trigger to enter the market then?

The appetite is just that it would be a market clearing transaction for us to reprice and we and our bankers are keeping a close tab on that.

Okay. And last one for me, I appreciate the questions. You called out aviation a couple of times; I know that's obviously going to take a couple of years to recover. Could you walk us through and remind us again what that effect is on the ARPU side is on the IoT that we mostly see it right?

Yes. We mentioned that the usage of safety services on commercial airliners has resulted in about a $1.5 million quarterly headwind compared to our previous run rate, simply because planes are not flying. So we are not observing the expected usage.

Right, and that when we do see usage come up that could suddenly maybe come back, but that's all we have to look, as Matt pointed out going to watch where aviation and maritime come back.

Yes, that’s right.

Yes, they would both come back. Plus, we'd also see potentially new installations for more higher speed terminals, which potentially also could drive additional ARPU on aircraft, if they take advantage of the higher speeds and more functionality as those products become ready in the next year or two.

Yes, and that's what you're talking earlier about the six new hardware and also getting into the safety side.

That's right, we're really focused on cockpit communication safety services and that's where we've been; that's where our sweet spot is, and where we don't see as much competition really either because we have a truly global product versus anyone else.

Makes sense. Glad to see the results guys. Glad to hear you're doing well. We'll talk to you later. Thanks.

Thanks, Ric.

Thanks, Ric.

Our next question is from George Burns from Sidoti & Company. Please go ahead.

Good morning. The update on the FAA with Aireon, is that in any way changed the calculus of them raising capital paying the remaining hosting fees that they owe you, can just maybe just update us on the status there in terms of their financing? Thanks.

We see the developments with the FAA as beneficial for Aireon's financing. The slowdown in air traffic due to COVID will delay their ability to pay the lump sum hosting fee and buyback of shares. We don't anticipate this happening before the end of 2022, as we will need to evaluate how quickly traffic returns. We believe those payments are very likely, and the FAA developments strengthen that belief. However, this does not impact our annual revenue, which remains at $39 million from them for hosting and data. They will pay us that cash based on their revised financing outlook. The downside is that there may be a delay in the lump sum payments and share buyback, likely extending beyond the end of 2022. Nonetheless, I want to emphasize that we are very confident we will receive those payments eventually.

Great, thanks. And then in terms of the U.S. government consuming like Certus broadband services on top of their EMSS contract, do you have any visibility on when maybe they might start to do that or when there might be maybe some upsides to the contractual numbers you're seeing quarterly?

They're beginning to utilize a different method instead of our commercial gateway. Specifically, they are engaging with some of our threshold services, and we anticipate seeing more of this in 2021. We are observing growth in potential backlog and opportunities. Most of this will come through the commercial gateway, although we will categorize them as government revenues. Once their gateway is completed, either later next year or early in 2022, we expect this will lead to additional growth. There is already some usage occurring now, and we are seeing progress. I believe this will contribute to our Certus broadband revenues moving forward.

Okay. So that would be reported as Certus and not as separate from the government line item that you report?

Yes, that's right. We're including all of that in our broadband revenues, whether it's from government or commercial sources.

Okay, great. And then lastly, the 300 net activations on the broadband side, is that kind of the pace that you're still expecting for the foreseeable future?

I'd like it to go up from there. You know, interesting, I had a meeting last week with one of our larger service partners there and I was asking them what kind of level of business that they see out there, and they said that they were particularly in VSAT installations, which was sort of a proxy to me of our LBAND installations that often go with them and whatnot, they said they were roughly about 70% of where they normally would have thought that they would have been. And I asked them how much of that was a slowdown due to some of those issues I just described and how much of that was sort of due to the overall economy and that sort of thing. And they said they had record backlog. So it was almost all due to installation. And they have a global installation team. So they weren't really limited by some of the problems that I told you about. So I think it's mostly these challenges sort of COVID creates in terms of getting installers on ships and that sort of thing. I think as that starts recovering here, and I don't know that that will happen in the fourth quarter or first quarter, even in next year. But I believe they're getting better and better at figuring out ways of getting terminals onto ships. And then I think we'll see the numbers grow. It's just hard to forecast at this point how fast that they will.

Excuse me. Our next question is from Louie DiPalma from William Blair. Go ahead.

Congrats to you and the Aireon, Iridium teams on the FAA contract announcement.

It's been a long time coming; I think for Don, I'm happy for him and happy for the FAA.

And on that note, can you provide a high-level more details in terms of what that expanded relationship entails for like the debate of ADS-B versus ADS-C and know how the FAA may be viewing those two technologies long-term. I know that you also provide ADS-B. But can you just at a high-level discuss that debate and what it might mean with the FAA?

Yes, the discussion around ADS-C has involved traditional position reporting every 15 minutes via satellite, similar to the systems used by long-haul aircraft. This has been the standard practice for many years. In contrast, ADS-B transmits position reports twice per second using a standalone transponder rather than relying solely on satellite networks. Previously, these reports were captured by ground transmitters, but now they are supported by Aireon’s space-based ADS-B system. ADS-B is widely available and offers position data, and it complements ADS-C, which focuses more on communication and can support various additional services through satellite networks. Both Aireon and we have always believed that these technologies enhance each other and will evolve together. There was a competition with one company advocating for a sole focus on ADS-C systems in aircraft, but I believe that discussion has concluded a year ago. The prevailing perspective among not only the FAA but also international air navigation service providers is that both technologies are necessary for effective surveillance and communication. Together, they will enhance safety, efficiency, accuracy, improve travel times, and offer fuel savings. I hope this clarifies your inquiry.

Yes, that was great. And in terms of the expanded relationship, is the expanding relationship more of, like an IT systems relationship in order for the FAA to like enhance its systems in order to be like integrated with Aireon, or is it something different from that?

No, it's the use of Aireon's data set in many more ways than had previously been limited. They have expanded the use of the data for a number of applications. It's hard for me to elaborate much further. I would prefer that the FAA and Aireon provide more details about that. We're pleased to report that there's been an increase; it's certainly not the full potential of that relationship and where it ultimately can lead in terms of size and revenue for Aireon and the scope of data usage with the FAA, but it's significantly greater than it was before. It felt important to highlight this because we've discussed for years whether and when the FAA would become more involved with Aireon and take advantage of it. I think it's relevant to note that we see that happening now.

Yes, definitely. You guys have been talking about the FAA catalysts for at least eight years. So it's definitely great to see. One last question in terms of the increase in broadband ARPU, are you seeing a lot of your open port subscribers upgrading to Certus or more of the Certus or more of the broadband activations completely new subscribers?

There are both factors at play. Based on our expectations from a few years ago, open port has actually been performing better than anticipated, with fewer replacements than we feared. If it was purely a one-for-one situation, we wouldn't have gained market share. I believe this is related to the challenges in getting new broadband terminals onto ships, which also makes it difficult to remove older technology. While the transition hasn't been happening as we expected, open port sales and subscribers haven't declined significantly. I would estimate that about two-thirds of our sales are new, with the remainder being replacements; though this is just a rough estimate and could even be closer to a 50:50 split. Regardless, the new sales come with higher average revenues per user due to the increased speeds and usage. This is why the mix remains heavily weighted towards open port terminals within our broadband revenues. Average revenues per user are increasing, and I expect this trend to continue as we shift towards more higher-speed Certus terminals.

Our next question is from Mathieu Robilliard from Barclays. Go ahead.

Hey, good morning and thank you for taking the questions. I had a follow-up question on the equipment side. So obviously, you pointed to very strong IoT devices during the quarter. And in terms of the contribution to equipment and I was wondering if all of that is already reflected in IoT subscribers that are activated generating service revenue that creates a tailwind for good growth in IoT into Q4. So that was the first question?

Equipment sales serve as an indicator of future trends rather than current performance, as it typically takes three to 12 months for the equipment to be put into use. Therefore, when we observe an increase in equipment sales, it's a clear signal that our partners are optimistic about the future and have pending orders to fill in upcoming quarters rather than the current ones. The equipment utilized in the third quarter was likely sold several quarters earlier, mainly for IoT applications.

Thanks, great. And then I have a question on Certus product on Aviation and maybe I didn't get everything you said in your prepared remarks. But in terms of the Certus product, when can we expect it to be ready to be marketed in aviation?

Yes, it's taken longer than I had hoped due to a variety of factors. I'm sure as it relates to the licensed terminal manufacturers who have licensed; as I said, there's six who are working on terminals. We started to see, as you could see in the last couple of months, some of them are starting to announce successful demonstrations and trials of their technology. I mentioned two who've been pretty public in this last quarter Collins and SKYTRAC but there's four others that are also at various stages and starting to see some progress as we're seeing them come into the lab to test their designs with our systems. And so we're starting to get visibility that some of them are telling us that they believe that they will be ready and certified at least one or two in 2021. And that's encouraging. And there could be more, but I think that they'll be coming online in 2021 and 2022 for the most part. Which is, I said, I guess while it's taken longer to see the aviation side of the business, which we think we have a lot of advantages for given our global network and the smaller size of our antennas and the fit for the cockpit use, etc. in corporate and general aviation, in rotorcraft and other market segments. Frankly, the aviation downturn kind of gave our partners a little bit more time to get their products ready. And I think as we start to see those markets recover, they'll all be ready with very competitive and exciting new products to offer that space.

Our next question is from Chris Quilty from Quilty Analytics. Go ahead.

Hi, guys. A follow-up question on the CapEx which by the way, I mean nobody's happy when you spend more money. But I think it's a good decision in the context to get those products to market. And the question I had for you was, first of all, Tom, can you break that down into how much is going to facility consolidation versus new products? And the second part is on the new products, as you just mentioned recently, you've typically been moving towards a strategy of building modules that you then feed to your WANs. Are you allocating any of this development for actual finished product? Or is it a continuation of that previous strategy?

So I'll take the first part, Chris, the facilities is about three a year in 2021 and 2022.

So that covers that quickly. Regarding the second question about the broad-based effect, the reason we're focusing on this in the third quarter is because we are currently budgeting for 2021. Our technology team has many developments planned, and our product management and partner management teams have been making requests across a wide range of areas. This includes advancements in satellite technologies and improving network efficiencies to enhance performance and capacity. A significant part of our efforts is aimed at accelerating the rollout of devices that serve as the foundation for various applications in multiple market segments. Additionally, we have some ideas for new finished products, although those are not our main strategic focus. Our primary goal is to keep delivering an increasing array of products, as that is our growth strategy. By putting more modules, devices, and capabilities in the hands of more partners across various market segments, we drive growth. As the market rebounds in 2021 or 2022, we want to ensure we have the best and most comprehensive portfolio to address those additional market segments. Looking ahead, I estimate that there is more than $45 million of demand for what we could deliver right now. While we could potentially have scaled back to $35 million, it makes more sense at this moment to push ahead.

Understand. And a specific question, you mentioned that the U.S. government is buying Certus services off the commercial gateway, are they using commercial off the shelf devices?

Yes, yes, at this time, their revenues are using either Thales or Cobham Certus terminals. And primarily, I think we've even talked about some applications that have used Thales MissionLINK terminals in the traditional environment, but there's some sales in the maritime environment as well that will continue to expand into 2021. And then we're starting to see a lot of interest in what we call Ffx or the new Iridium 9770 modem. There's a number of different applications that they like the portability and not just them, but many other applications on both the commercial and international side as well that will take advantage of that new modem and ideas of other devices as well.

Okay. And is there an effort or a possibility of securing government funding for government-specific product development?

Yes, and I mean, we've been very good at doing that over the years that goes into our engineering revenues, you saw this is obviously a good quarter in terms of sort of fulfilling contracts. Our number of contracts we have doing special development whether it's developing things like the distributed tech communication system or new IoT applications or other specialized devices and modems that just, I think is expanding in some ways. I mean, it's not obviously the area of revenue, that's the most strategic orientation for us, but it's all good, all good margin revenue, because it develops more capabilities as many times can be used in commercial applications as well. But yes, that continues.

Got you. One question on maritime, what's the status of GMDSS?

Very soon. The beta trials are completed, and we are in the final cleanup phase to address any remaining issues because the service needs to be flawless. I believe it will be commercially available within weeks, and we are eager to reach that point. It is a comprehensive end-to-end service with many connections, and we are finalizing those connections with various safety service organizations worldwide for navigational and meteorological information. We are testing those links and resolving any last bugs in the terminals and systems, but it is very solid at this stage and is just a few weeks away from going commercial.

And you do expect to have some of your other partner products certified because I think right now you just got one standalone terminal with Thales?

Yes, that is going to be the primary vehicle for definitely the next few quarters. We're starting to work on the process of getting Certus terminals, a Certus service completed and certified that will still be a lot of effort. But there is activity around that front as well. And that will be the primary next phase; we won't see any other standalone terminals installed; it will be Certus based terminals after this.

Okay. And final question back to Aireon. What's the next step with the FAA like what would be the next announcement or the next milestone that the guys at Aireon will be targeting?

I think this is a major step. I mean, obviously the use of the data for broader; I mean it's still continued additional applications they could use in terms of the data in oceanic regions, and for domestic regions, and there's lots of other still applications that they can work with on Aireon. And I think that will be a focus for 2021 for the two of them to continue working on it. They're still in, I would say, the development stage; they're doing a lot of development of the automation systems and that sort of thing and integrating them. So it will be really the usage of that to control traffic which is still to come yet.

Okay. And there is still an expectation that at some point, perhaps in 2021, that there's just a big long-term fixed-price contract that the FAA signs?

Yes, I think that's a fair assumption. Again, I mean, our focus is I've been trying to actually defocus a little bit away from this. I mean, this is great news for Aireon and continues to be, but it really doesn't make that much difference in terms of our business. We're not waiting for anything like that in terms of our expectations of timing for getting hosting fees or dividends. I don't think it will really affect that timeline. I think what Tom described in terms of our timeline is what we're going to see no matter what other announcements you see between Aireon and FAA. So it's probably not as important to focus on that anymore from an Iridium perspective. And I think the focus should be on really what Aireon and the FAA announced in the future going forward.

This concludes our question-and-answer session. I would now like to turn the conference back over to management for final remarks.

Well, thanks, everybody for joining us. It was a good quarter. And I think we now have visibility to the rest of the year. And we look forward to seeing you as we maybe sometime, I guess, in February for as we talk about the full-year and talk about 2021 at that time. So thanks all for joining us. Take care.

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