Earnings Call Transcript - KT Q2 2020

Operator, Operator

Good morning, and good evening. First of all, thank you all for joining this conference call. And now we will begin the conference of the fiscal year 2020 second quarter earnings results by KT. We would like to have welcoming remarks from Mr. Seung-Hoon Chi, KT IRO; and then Mr. Kyung-keun Yoon, CFO, will present earnings results and entertain your questions. This conference will start with a presentation followed by a divisional Q&A session.

Seung-Hoon Chi, IRO

Good afternoon, I am Seung-Hoon Chi, KT's IRO. This earnings release call is currently being webcasted via our website, and you can follow the slides as you listen in on the call. Let us now begin KT's Q2 2020 earnings presentation. Before we begin, please note that today's presentation includes financial estimates and operating results under the IFRS standard, K-IFRS standard that is, and has not yet been reviewed by an outside auditor. As we cannot ensure accuracy and completeness of financial and business data, except for historical performances, please be reminded that these figures are subject to change. Now I would like to invite our CFO, Yoon Kyung-keun, for his welcoming remarks and presentation on Q2 2020 earnings.

Kyung-Keun Yoon, CFO

Good afternoon. I am Yoon Kyung-keen, CFO of KT. In the midst of an unprecedented COVID pandemic, we now have come to the end of the first half of 2020. Despite the formidable business environment, we saw robust subscriber growth from our core telecom business and achieved high revenue growth from the AI and DX businesses, including cloud, data center, and blockchain. We were able to normalize K-Bank and strengthen our media business-related capabilities as well. We have been able to identify new growth opportunities in 5G and B2B platform, keeping pace with the fast-changing world brought on by the pandemic. Now on to the second quarter 2020 business results. Q2 total revenue was down 3.6% year-on-year, coming in at KRW5,876.5 billion. Notwithstanding steady performance from the core telecom business, i.e., wireless, media, and B2B, the subdued financial and real estate business were impacted by COVID-19. Service revenue was down 0.5% on a year-on-year basis. Lower handset sales following the stabilization of the market led to a handset revenue decline of 22.2%. On COVID-19, profit from group affiliates showed somewhat of a decline but was supported by efficient spending and efforts focusing on profitability. Operating profit was up 18.6% year-on-year, coming in at KRW341.8 billion. Net profit was up 2.2% year-on-year, reporting KRW207.6 billion, while EBITDA reported KRW1,252.6 billion, up 5.1% year-on-year. Next is the operating expense. Q2 operating expenses were down 4.7% year-on-year, to KRW5,534.7 billion, due to sustained efforts on cost controls and efficient spending. On the financial position, the debt-to-equity ratio as of Q2 end was 121.2%, down 1.9 percentage points year-on-year. The net debt ratio increased by 6.1 percentage points on a year-over-year basis to 32.8%. As for CapEx, out of this year's CapEx guidance of KRW3.1 trillion, CapEx spent up to the second quarter amounted to KRW967.3 billion. COVID-19 has had some impact on the speed of 5G coverage build-out, but we will continue to expand 5G coverage in the remaining second half, focusing on our shadow zones and underground subways so that users can feel the difference. Next, I will elaborate on the performance and outlook for each respective business segment. Wireless revenue was up 0.6% year-on-year to KRW1,722.5 billion. Despite the decline in roaming revenue due to the COVID pandemic, with increases in high-quality 5G subscribers, wireless service revenue was up 0.2% year-on-year, reporting KRW1,615.5 billion. Apart from membership-related accounting treatment changes, service revenue increased more than 2% year-on-year on the same basis, in line with the plan for wireless business growth. Our solid IoT business resulted in Q2 MNO subscribers increasing by 295,000, recording the highest rise since the first quarter of 2018, totaling wireless subscribers at 22,120,000 users. As of Q2, there are 2.24 million 5G subscribers, reporting a 16% penetration against the handset subscriber base. We continue to see great responses for the Super Plan Plus rate plan that offers wide-ranging content benefits, including videos, music, and VR. The Super Plan Plus caters to the needs of 5G subscribers who value media-related experiences, and with more than 60% of new 5G subscribers choosing this product, positive feedback from customers continues. We are also making changes to the product portfolio and distribution structure to better embrace the untapped environment through online direct rate schemes and the launching of 1-minute order and 1-hour delivery services. With the 5G era upon us, we will continue to bolster our core competitiveness, bringing more choice and satisfaction to our customers and being an example of growth. Next is on the fixed-line and the IPTV business. Fixed line telephony revenue was down 7% year-on-year to KRW372.2 billion on subscriber declines, while broadband Internet revenue declined 1.2% year-on-year to KRW496.7 billion, on the back of stronger retention activities and customer care provided to GiGA Internet subscribers whose contract expiration was approaching. In June, since achieving 9 million broadband subscribers, we launched GiGA Wi, a novelty WiFi service that offers both speed and coverage in the post COVID-19 world. As the Internet network at home becomes ever more important, starting with GiGA Wi, we will expand our customer base and further solidify our position as the number one service provider. IPTV revenue was up 0.5% year-on-year, reaching KRW407.6 billion due to continued growth in high-quality subscribers. As the number one pay TV operator, KT recently entered into an official partnership with Netflix, starting Netflix services over OLED TV since August 3. The OLED TV offers 250 real-time channels and owns the biggest content suite, including 210,000 VOD titles. With the addition of Netflix services, we are able to offer plenty of wide-ranging contents to our customers. Next is on the B2B business. B2B revenue was up 2.4% year-on-year, coming in at KRW701.1 billion. KT, as the number one domestic IDC provider, is seeing a continuous uptrend in its IDC and cloud revenue driven by digital transformation demand. Blockchain revenue is increasing following the rise in the issuance of local community currencies, and AI and DX business revenue posted a 16% year-on-year growth, the highest of all KT's main businesses. KT owns 13 IDCs around the nation, including one at Yongsan, which will be completed in the second half, and operates 6 CDCs, cloud data centers, and 2 edge clouds in Seoul and Busan. With Korea's biggest cloud infrastructure, we are able to service 7,000 corporate and public customers and have more than 70% share in the public and financial cloud market. KT is also engaged in a wide range of cooperation with other industries to boost B2B platform growth. The AI One Team, a collaboration among Industry, University, and Research institutes, was set up in May to enhance competitiveness in AI across various sectors, including heavy industry, finance, and electronics. In June, we made a KRW50 billion equity investment into Hyundai Robotics, Korea's number one robotics company. We will start with intelligent robots and then enter the smart factory market in collaboration to speed up digital innovation of the manufacturing industry. KT will also move ahead in responding to the digital new deal initiative to support the process of recovery from the prolonged COVID-19 crisis. In addition to innovating other industries, we will actively explore growth opportunities as a B2B platform provider. Next, on the performances of group subsidiaries, with the COVID impact fully coming through in the second quarter, profit contribution from affiliates declined by 8.2% year-on-year, reporting KRW89.1 billion. BC Card revenue was down 1.5% year-on-year to KRW867.1 billion due to lower acquiring volumes following the pandemic outbreak. K-Bank completed around KRW400 billion of rights offering in July and is re-establishing its operations, starting with Korea's first online apartment mortgage loans. Going forward, as Korea's first Internet primary bank, we will expand the scope of contactless financial services from B2C to B2B and gain momentum in generating synergies with KT, BC Card, and other affiliated companies. Skylife revenue increased by 2% year-on-year to KRW177.7 billion due to a sustained increase in high-end subscribers. As the media reported, Skylife has been selected as a preferred negotiation party to Hyundai HCN. The KT Group is committed to the negotiation process and will make this an opportunity to further enhance our capabilities in the media business. Revenues from our content subsidiary were flat year-on-year at KRW177.8 billion due to a decline in ad revenue despite strong e-commerce business performance. Estate revenue was down 7.9% year-on-year to KRW104.4 billion due to the COVID impact on hotels and rental businesses. So this has been Q2 2020 earnings for KT Group. Looking back on the past 6 months, there were some regrets following the changes brought on by COVID-19, but we were also able to see our efforts yielding results. KT's network and digital strength, spanning 5G, AI, big data, and cloud, constitute our core infrastructure and platform in the post-COVID world. Based on KT's capabilities and the opportunities presented, we will not rest at being a telecom service provider but transform into a telecom-based platform provider so that we can find new opportunities for sustained growth, and we will do our best to achieve tangible results. Wishing all of you good health, I look forward to your continued support and interest. Thank you.

Seung-Hoon Chi, IRO

For more details, please refer to the documents that were previously circulated. From now on, we will be happy to take your questions.

Operator, Operator

The first question will be from Hoi Jae Kim at Daishin Securities, followed by a question from Joonsop Kim at KB Securities.

Hoi Jae Kim, Analyst

My first question relates to the Netflix arrangement. I understand that you won't be able to disclose specific terms and conditions, but I would like to understand what the business looks like. What type of partnership or alliance is it? Could you provide some more color? And also, we hear that there is also an element of network usage related payment. If so, could you also elaborate on that aspect? Second question regarding 5G infrastructure, we hear about co-investment from all of the three mobile players. Because KT owns the biggest infrastructure, we assume that it will be KT renting out certain of its network or facilities and other operators paying for the use of those. Is that the case? Could you also elaborate more on this?

Kyung-Keun Yoon, CFO

In today's world, where the overall media environment is fast-changing, partnerships with OTTs have become a must because this is a way for us to provide more choice to the customers and also to enhance convenience and ease of use for our user base. Through these arrangements with Netflix, we aim to further enhance our content capabilities for OLED TV. We also expect that we will create a virtual cycle, where we expand our subscriber base, which will help to further enhance the value of our media platform. Currently, we're running a promotion for new subscribers to OLED TV and Internet. We are looking at various segments where we can generate synergies with Netflix, not only in our IPTV business but in other areas as well, including wireless. At the moment, we will be providing it as value-added services. Regarding the rate-related schemes, that's something we will review as we move forward. Relating to the payment for network usage, preparations are currently underway to set up the enforcement decree relating to the revision of the Electricity and Telecommunications Business Act, which would stipulate obligations on the part of the content providers in maintaining network quality. In line with the government revision and legislation process, we will fully comply with government policy direction. Both parties through this partnership have agreed to comply with the relevant laws and regulations and work towards service stabilization. Please understand that due to the contract itself, we won't be able to disclose more specific terms and conditions. Regarding your question about joint or co-investment into the 5G network, aside from the 85 core cities and the peripheral geographies, the operators are in discussions about potentially making investments into a joint network. The details are yet to be ironed out. Once we have the details, we will communicate that with the market. The whole idea of a joint network is expected to help in speeding up the broadening or expansion of coverage, enhance quality, and further improve investment efficiency.

Operator, Operator

The next question will be from Joonsop Kim at KB Securities, and the following question will come from an undisclosed source.

Joonsop Kim, Analyst

So I would like to ask two questions. The first is on your 5G B2B business. Could you share with us what your business direction is for 5G B2B? What your outlook is? And what do you consider key milestones? The second question is about OTT. Your peer, your competitor, has recently emphasized K content distribution. I would like to understand KT's perspective on that topic. And also, regarding your own OTT service, Season, could you share some specific plans or details regarding that?

Kyung-Keun Yoon, CFO

KT was the first to commercialize 5G in the world back in 2019 and launched private 5G at the same time. Together with private LTE, we have been leading the B2B private network market. As of the second quarter, not only new customers but also previous private LTE users are looking to migrate to 5G, and we see that number trending upward. In response to user demand, we are offering premium QoS service, providing a steady network and appropriate level of speed. Going forward, we plan to further upgrade 5G edge cloud, smart offices, and other specialized services for companies. We will increase our use cases in 5G B2B in areas such as smart factories, smart healthcare, and smart shipbuilding. We are currently in discussions with a total of 30 customers interested in 5G-based solutions. Two of these companies have already adopted our solution and have reported improvements in productivity in smart factories. As I mentioned before, KT is Korea's biggest IDC operator and also a cloud operator. In a post-COVID world, we expect AI to be applied in various areas. As we navigate this untapped environment, we expect the entire innovation process based on the cloud to accelerate in the future. Our cloud core infrastructure will incorporate technologies like AI, blockchain, and big data. We will develop such solutions as we move forward and complete our AI/DX suite of solutions by the second half of this year. Based on this platform, customers will be able to receive AI and big data services supported by the cloud, providing nimbleness and quick response times. Regarding the OTT market, we believe it will be taken by multiple players and will be somewhat fragmented. Season, which we operate, has a mutually complementary relationship with Netflix. Season can provide real-time broadcast channels and VODs, which Netflix does not offer, hence making our services complementary. With regards to Season, we will invest in original content using K idols and develop diverse entertainment content. We have seen an upward trend in MAU for Season, and we received recent press coverage on Season's content titled 'Like the First Cup,' which was successfully exported to HBO. We will continuously enhance our original content production capabilities to strengthen our OTT content base. Season seeks to be an open platform, allowing us to partner with any partners at any time, and we will work to develop and showcase a wide range of services and content.

Operator, Operator

The next question will come from Arnaud.

Unidentified Analyst, Analyst

I see the 5G subscribers are accelerating again. But is the target of 3.5 million by the end of this year still achievable? In line with that, we've seen ARPU continuing to drop, although the expectation was that with more customers moving towards 5G, we would see a pickup in ARPU. Why is that not happening? Finally, regarding CapEx, what can you say about the CapEx outlook now that you've underspent on network in the first half of this year? Is KRW3.1 trillion still realistic, or will it be a different number?

Kyung-Keun Yoon, CFO

Regarding your question on 5G subscribers, we believe we will achieve the 3.5 million year-end subscriber target we set for ourselves. We think that because new handset launches, such as the Galaxy Note and iPhone, are scheduled and we expect around 25% of total handset sales to be 5G. Answering your question on ARPU, as subscribers migrate from LTE to 5G, there is about a 30% upside impact on the ARPU. The high-end or high-priced portion is currently being maintained at a relatively high level. However, our ARPU trend has been sluggish because due to the COVID crisis, we've seen declines in roaming-related revenue and increases in the IoT line. Thus, the overall ARPU remained flat. In terms of the handset base, ARPU trends are showing an upward trend. In response to your question on CapEx, we are investing in our growth businesses, including 5G, IDC, and real estate. We also need to maintain the quality of our fixed and wireless backbone network. That is why we maintained the KRW3.1 trillion as our CapEx guidance for the year. In the first half of the year, due to COVID-19, the pace of 5G investment was somewhat interrupted. However, as we approach the second half of the year, with an increase in the 5G subscriber base, we expect the spending to exceed that of the first half, while ensuring we stay within the guidance level.

Operator, Operator

The next question will be provided by Seyon Park from Morgan Stanley. And the following question will be provided by Hoi Jae Kim from Hana Investment Securities.

Seyon Park, Analyst

If you look at the first quarter, the overall marketing environment was quite favorable. In the second half of the year, there are multiple handsets that are slated to be launched, including a 5G version of Samsung Fold. What do you expect your competitive landscape to look like in the second half of the year? Also, it seems KT is facing lower margins in the second half of the year compared to the first. Could you provide more context on this issue?

Kyung-Keun Yoon, CFO

In the first half of the year, because of the COVID pandemic, economic activities slowed down. However, thanks to efficient marketing conducted by all three telcos, competition in the overall market had been relatively subdued. In the second half of the year, we expect the flagship handset lineup to expand. Compared to the first half of the year, we believe the wireless market will grow. Our focus will be on introducing competitive tariff plans and launching cloud streaming games. Under the partnership with Netflix, we plan to provide more differentiated and unique services, expand network coverage, and focus on our core competitiveness rather than engage in reckless competition. Therefore, we do not anticipate a repeat of the fierce marketing competition we saw in the second half of last year. In response to your question on margin expectations for the second half of the year, the first half showed steady service revenue growth and efficient spending, resulting in an operating profit of KRW552.3 billion for KT. We anticipate a much favorable top-line situation in the second half, with continued qualitative growth on the wireless side in the first half. We believe we will expand upon that growth entering the second half. For IPTV, when negotiations with home shopping providers regarding commission levels are finalized, we expect double-digit growth to be achievable. Subscriber bases for both fixed and wireless continue to trend upwards, and MS indicators are also showing a positive trend. For our B2B business, we expect to achieve double-digit growth as well. While hotel and ad businesses were significantly impacted by COVID-19, they are starting to show signs of recovery. Our basic management stance is to keep managing the second half of the year as we did in the first half. However, we still have collective bargaining agreements to resolve, and due to increased investments and seasonal factors, along with declines in revenue and profit from BC Card and KT Estate, we will strive to achieve the level of last year on a consolidated operating profit basis. To live up to our mid- to long-term guidance until 2022, we will endeavor to secure growth every year and enhance our profits.

Operator, Operator

The next question will come from Hoi Jae Kim at Hana Investment, followed by another question.

Hoi Jae Kim, Analyst

I would like to just ask one quick question. During the Corporate Day, the CEO expressed a rather negative position on why one has to actually acquire a cable TV. But you've mentioned about the preferred negotiation partner being selected regarding Skylife and HCN. I would like to understand going forward, will your subsidiaries and affiliates be more independent? Meaning, will they be far off from any control from the parent company and make independent decisions? I would like to understand that relationship between the parent company and the subsidiary.

Kyung-Keun Yoon, CFO

KT has been closely monitoring the market surrounding the pay TV business. At the group level, we have been thinking hard about how we could further strengthen our capabilities when it comes to the media platform. Skylife has also been considering different growth strategies over the years. To achieve stand-alone growth, they decided to build scale and pursue the acquisition of HCN. KT has been striving to enhance the standalone value of our subsidiaries while also focusing on achieving overall synergy. Consequently, BC Card decided to acquire a certain equity stake in K-Bank. During the Corporate Day, the CEO mentioned the restructuring of our group companies. This should be the perspective you take when viewing this topic.

Operator, Operator

The next question will be provided by someone whose name is not clear.

Unidentified Analyst, Analyst

I have two questions. One is regarding marketing expenses in the second quarter. It looks like they were relatively high in the second quarter, about 600 million spent. Can you discuss what's going on there? What is the trend for the second half of this year? My second question is, considering the recent weakness of these non-telco businesses, how will this affect your restructuring plan? Do you plan to move any of the restructuring schedules ahead of the original timeline? Could you discuss that?

Kyung-Keun Yoon, CFO

In response to your question about marketing expenses, there was actually a decline in actual spending in the second quarter. The increase in the Q2 figure compared to last year is due to refinancing previous marketing expenses which started to be applied under IFRS accounting standards starting last year. Marketing spending is being amortized over time, making the Q2 figure appear elevated. We anticipate this year's marketing expenses to remain flat year-on-year. We have previously mentioned that we will be bold in restructuring our affiliates and subsidiaries that do not contribute to our growth or do not create synergies. We are currently engaged in detailed discussions, but we do not have any concrete information to share at this moment. However, once a decision is made, we expect the implementation and speed of restructuring to be quite rapid.

Seung-Hoon Chi, IRO

Thank you very much. This ends the Q&A session. Thank you all for your questions and your interest. This brings us to the end of KT's Q2 2020 Earnings Conference Call. Thank you.