Earnings Call Transcript - TDS Q2 2024

Operator, Operator

Ladies and gentlemen, thank you for being here. My name is John, and I will be your conference operator today. I would like to welcome everyone to the TDS and UScellular Second Quarter 2024 Operating Results Conference Call. All lines are muted to minimize background noise. After the speakers’ presentations, we will have a question-and-answer session. Thank you. I will now turn the call over to Colleen Thompson, Vice President of Corporate Relations. Please proceed.

Colleen Thompson, Vice President, Corporate Relations

Good morning, and thank you for joining us. We want to make you all aware of the presentation we have prepared to accompany our comments this morning, which you can find on the Investor Relations sections of the TDS and UScellular websites. With me today and offering prepared comments are from TDS, Vicki L. Villacrez, Executive Vice President and Chief Financial Officer. From UScellular, LT Therivel, President and Chief Executive Officer; Doug Chambers, Executive Vice President, Chief Financial Officer and Treasurer, and from TDS Telecom, Michelle Brukwicki, Senior Vice President of Finance and Chief Financial Officer. This call is being simultaneously webcast on the TDS and UScellular Investor Relations websites. Please see the websites for slides referred to on this call, including non-GAAP reconciliations. We provide guidance for both adjusted operating income before depreciation and amortization, or OIBDA, and adjusted earnings before interest, taxes, depreciation and amortization, or EBITDA, to highlight the contributions of UScellular’s wireless partnerships. The information set forth in the presentation and discussed during this call contains statements about expected future events and financial results that are forward-looking and subject to risks and uncertainties. Please review the Safe Harbor paragraphs in our press releases and the extended version included in our SEC filings. And with that, I will now turn the call over to Vicki Villacrez. Vicki?

Vicki L. Villacrez, Executive Vice President & CFO

Okay. Thank you, Colleen, and good morning, everyone. This quarter reflects the culmination of a number of initiatives that will position the company for the future. Over the past year, there has been an incredible amount of work performed by our teams across the entire enterprise. Most notably, in late May, we announced a transaction arising from our strategic review of alternatives for UScellular. We are excited about the transaction which is pending regulatory approval as it would unlock value for our shareholders and provides clear benefits to our customers. UScellular is retaining its nearly 4,400 owned towers, its equity partnership investments and approximately 70% of spectrum assets, which the company is currently working on monetizing. Also in the quarter, we announced that we entered into a definitive agreement to sell our OneNeck IT Solutions operations. We expect the transaction to close later this quarter and we intend to use the proceeds to support our planned spend in TDS Telecom’s current fiber program. Turning to financial results. I’m very pleased that both business units delivered double-digit year-over-year improvements in adjusted EBITDA, while making important investments in our networks in order to keep up with our customers’ needs for increasing usage and speeds. Improved profitability drove increased TDS free cash flow, up year-over-year and sequentially. We will continue to take a measured approach prioritizing and funding the investments in our businesses, while maintaining a focus on cost efficiencies across the enterprise. Our management of the balance sheet has resulted in an improvement in leverage ratios, which are down year-over-year and sequentially. We ended the quarter in a good cash and liquidity position. UScellular continues to generate free cash flow through adjusted EBITDA growth and prudent management of capital. They also paid down approximately $140 million in debt in the quarter. TDS Telecom is maintaining its focus on free cash flow by sizing and pacing the timing of capital expenditures commensurate with EBITDA generation. And at TDS parent, we have an undrawn revolver and term loan capacity coupled with pending divestitures that puts us in place to continue supporting our fiber program as we move into the back half of the year and into 2025. I would also like to thank all of the associates for their hard work in these dynamic times. And now, I will turn it over to LT for further comments.

LT Therivel, President & CEO

Thanks, Vicki. Good morning, everyone. If you turn to Slide 5, you can see our quarterly highlights. The May announcement of our pending transaction with T-Mobile for the sale of our wireless operations is obviously a significant change to our long-term strategic direction. And, as we discussed during our call in late May, it provides substantial benefits to all stakeholders. We filed an information statement on July 26 which contains details of both the transaction and the strategic alternatives review process and also unaudited historical and pro forma financial information. We’ve launched the regulatory approval process and we remain optimistic that this process will have a favorable outcome. We remain convinced that the transaction with T-Mobile is the best long-term option for our customers as they will have the long-term benefits of greater scale and a more competitive network. That said, in the near-term, we remain highly focused on operating our business and delivering strong operational and financial results. And, our performance this quarter is evidence that we are on track for doing just that. We also announced that we’ll be seeking to monetize the remaining 70% of our spectrum that T-Mobile will not be purchasing, and this is an additional opportunity to unlock significant value. That process is active and ongoing, and given the nature of that process, we don’t expect to have updates until it is concluded. In conjunction with entering into the transaction with T-Mobile, we’re now reporting our results of operations in two segments, Wireless and Towers. This new segment reporting provides perspective on the Wireless operations that we expect to convey to T-Mobile upon close of the transaction pending regulatory approval and the Tower operations. This will add an anchor tenant for at least 15 years under the new MLA. We provided historical segment results in a Form 8-K that we filed on July 16. We’ve included segment results for the second quarter of 2024 in our Investor Presentation and in our Form 10-Q that we filed this morning. Doug, will also talk a little bit more about towers during his section. Let me talk a little bit about the quarterly results. Total net adds including postpaid and prepaid improved 15,000 year-over-year, reducing from a $36,000 net loss in 2023 to a $21,000 net loss in 2024. And sequentially, total net adds improved by 36,000. Since the beginning of the year, we’ve made a number of promotional changes designed to improve our subscriber trajectory while remaining financially prudent. I believe these changes have been a significant driver of our sequential improvement in subscriber results in the second quarter. While we’ll keep working to further improve postpaid handset results, we’re encouraged by the sequential improvement compared to the prior two quarters. We also continue to deliver solid year-over-year postpaid ARPU growth of 2%. Fixed wireless continues on a strong growth trajectory as our subscribers grew to 134,000, representing a 40% increase from the prior year. The competitive environment remains intense. Carrier promotions remain very aggressive, and cable wireless remains a formidable competitor. Cable benefits from their ability to bundle broadband and mobility. Customer retention remains a key focus for us in both postpaid and handset. Postpaid handset churn improved four basis points as we’ve been rewarding our existing customers with US Days, repulsed periods where existing customers are eligible for attractive upgrade promotions. In addition, prepaid churn improved by almost 60 basis points. Our multi-year cost efficiency program continues to drive positive expense momentum and has enabled us to successfully deliver improved adjusted OIBDA, up 14% in the quarter. Overall, I’m really pleased with subscriber momentum we’ve seen in the second quarter, and we continue to deliver strong financial results. 2024 has been a year of unprecedented change for the organization. And, I continue to be extremely proud of our team and their commitment to our mission. I’ll now turn the call over to Doug.

Doug Chambers, Executive Vice President & CFO

Thanks, LT. Good morning. Let’s review the financial results starting on Slide 9. Although service revenue declined 2% as a result of a decrease in the average subscriber base, partially offset by higher postpaid ARPU, adjusted OIBDA increased 14% as we continue to reduce cash expenses. System operations expense decreased 5% as cost optimization actions—including the shutdown of our CDMA network in the first quarter of 2024—more than offset increases that resulted from our ongoing mid-band 5G deployment. Further, selling, general and administrative expenses decreased 5%. And, excluding the impact of $13 million of strategic alternatives expenses in the second quarter of 2024, these expenses decreased 9% due to decreases in sales-related expenses and bad debts. Slides 10 and 11 present the separate results for the Wireless and Towers segments. Towers revenue from third-parties increased 1% in the second quarter, although new co-location growth has slowed relative to recent years and was impacted by defections, including Sprint-related defections. As we have discussed on prior calls, the Wireless industry has moderated capital expenditures beginning in 2023, and we experienced a corresponding slowdown in new tenant and amendment activity. While near-term activity has slowed, the long-term capacity needs of the industry will require further densification that can drive demand for towers. I would like to make a few comments on the future outlook for our Towers business. Post-transaction close, we expect longer-term adjusted OIBDA margins for the Tower segment to be in excess of 50%. The post transaction close financial projections include critical estimates and assumptions that can be found in the July 16, Investor Presentation. Briefly on free cash flow: As Vicki mentioned, UScellular delivered strong free cash flow in the first six months of 2024 of $226 million through adjusted OIBDA growth. Our 2024 financial guidance remains unchanged from the guidance we issued in February of this year, as we remain on track to deliver on our financial plan. As a reminder, we expect capital expenditures for the full-year 2024 to trend toward the lower-end of our guidance range and be less than 2023 capital expenditures. I will now turn the call over to Michelle Brukwicki. Michelle?

Michelle Brukwicki, Senior Vice President of Finance & CFO

Thank you, Doug, and good morning, everyone. Let’s turn to Slide 14. I am happy to report that our broadband strategy delivered nice top and bottom line growth again this quarter. Some highlights include a 4% increase in operating revenues, a 5% increase in residential broadband connections, and a 5% increase in residential ARPU, leading to a 32% increase in adjusted EBITDA in the quarter. In addition to delivering strong financial results, we are continuing to grow our footprint, expanding service addresses by 10% year-over-year, including 27,000 new marketable fiber addresses in the second quarter. We are making good progress towards our 2024 goal of 125,000 marketable fiber addresses. We’re also making progress on adding wireless to our bundle. During the second quarter, we announced that we are officially entering the MVNO market through the established NCTC partnerships. Our product will be called TDS Mobile, and we plan to begin offering it later this year. We believe that adding Mobile to our product portfolio will be complementary to our broadband offering and will enable us to offer a full suite of competitive products and services to our customers. Turning to Slide 15, you can see that we are targeting 1.2 million marketable fiber service addresses, and we ended the quarter with 854,000. This reflects progress in growing fiber through our expansion markets as well as fibering up our incumbent markets. We’re also targeting 60% of our total service addresses to be served by fiber. We ended the quarter with 49%. On Slide 16, you can see that we are growing our footprint with a 10% increase in total service addresses year-over-year. As our fiber connections and revenues grow, coupled with a 6% decrease in cash expenses for the quarter, we are seeing nice growth in adjusted EBITDA, up 32% in the quarter. In closing, I want to thank all of the TDS Telecom associates for their focus on our strategic priorities, including caring for our customers and communities and carefully managing our spending. I will now turn the call back over to Colleen.

Colleen Thompson, Vice President, Corporate Relations

Okay. We will now open up the call to questions. Operator, we’re ready for the first question.

Operator, Operator

Thank you. Your first question comes from the line of Ric Prentiss from Raymond James. Please go ahead.

Vicki L. Villacrez, Executive Vice President & CFO

Hi, Ric. Ric? Okay. Let’s go to the next one.

Operator, Operator

The next question comes from the line of Sergey Dluzhevskiy from Gamco Investors. Please go ahead.

Sergey Dluzhevskiy, Analyst

Good morning, guys.

Vicki L. Villacrez, Executive Vice President & CFO

Good morning.

Sergey Dluzhevskiy, Analyst

A couple of questions for LT about the tower business. Maybe just the first one, a broad question. As you look at your tower portfolio pro forma for T-Mobile transaction closing, what are the strengths in your opinion of this portfolio? What are some areas of improvement? And what would be the main selling points to potential allocators as you market those towers?

LT Therivel, President & CEO

Yes. Good morning, Sergey. Thanks for the question. The strengths I think really are evident in just the portfolio of the towers themselves. We’ve provided detail in the past about our tower portfolio. One, geographically diverse and geographically attractive. There’s relatively few competing towers within a mile, 1.5 miles, 2 miles, 3 miles, etcetera. They’re towers that are geographically unique and over time that will be attractive to co-locators, particularly as people have to densify their networks. The opportunity is simple, which is simply to grow our co-location rates. One of the things that if you do the math on the margins around the portfolio both current and forecasted in the information that we provided in the investor presentation, the expenses that underpin these towers are quite small, right? There’s not a whole lot of expense in running this tower portfolio. The entire driver of the delta in profitability between ourselves and some of the other larger tower players in the industry is driven by co-location rates. As we increase those co-location rates over time, you can expect those margins to steadily increase and that’s both margins and cash flow that drops straight to the bottom line. So, that’s why we’re optimistic about this segment. It’s both an attractive asset, and we think that we can grow those co-location rates steadily over time which will improve the financials. Hopefully that answers your question, Sergey.

Sergey Dluzhevskiy, Analyst

Great. And maybe another more specific question on the towers. So obviously, T-Mobile signed a new MLA to be a tenant on those incremental 2015 towers. But the exact selections or full list of their exact selections won’t be known for some time. So, depending on their selections, the overlap with towers with other tenants could differ and you might end up with between 800 to 1800 towers without co-locators. So the question, I guess, between now and then, how would you be planning for this transition? To what degree would you be able to market those towers? And how would you balance kind of having those towers without co-locators and looking to market them versus decommissioning some?

LT Therivel, President & CEO

Yes, Sergey. So, you mentioned the uncertainty around the towers that T-Mobile will be on. It’s an interesting financial equation that creates for us. Right? Because once we know which towers they will be on, what if the result of that is that the majority of towers that they’re on do not have an existing co-locator? That creates more attractive long-term growth potential, but it somewhat impacts margins because you now have more towers with simply one co-locator. If instead they end up on towers where we have current co-locators, meaning there’s a larger majority of the towers they select are where we currently already have a tenant, that will create better margins, but will mean that we have more naked towers at the conclusion of the transaction. We’ll have to determine what we do with those naked towers. I do not think it is a foregone conclusion that those naked towers will necessarily be decommissioned. We have a lot of different things that we can do with those towers, and we’re going to work that out in the coming months and coming quarters as we get more transparency into T-Mobile’s plans. Nothing that I just talked about impacts the way that we are marketing that tower portfolio to other potential co-locators. So, it is full speed ahead in terms of marketing our entire tower portfolio to other potential co-locators, and we have steadily improved that co-location rate over time completely independent of the T-Mobile deal. You can expect that to continue and we’re going to continue to try to get more co-locators on our towers. This is an environment where the ability to put new towers into place and to get new co-locators is challenging. But I firmly believe this is a temporal phenomenon. The capacity needs for the industry are going to continue, and we expect demand for mobile data to remain strong. That’s why we’re optimistic about this segment and why we’ll continue to market those towers aggressively.

Sergey Dluzhevskiy, Analyst

Got it. Great. And I guess one question on the wireless segment. So obviously, you had an improvement in postpaid phone subscriber losses. If you could pinpoint two or three drivers of that, what are some of the initiatives that worked for you in terms of those improving trends? And what are your expectations for the back half of the year in terms of those initiatives?

LT Therivel, President & CEO

Yes. It’s a pretty simple equation. If you can improve churn and improve your gross adds, you’re generally going to improve your net adds. We talked about Us Days during my commentary. Us Days have been an effective method of reaching out to our existing customers getting them back under contract, and so that’s helping with churn. We’ve been aggressive in the market with our postpaid offers. We have offers in the marketplace at a price point that’s really attractive to customers. We’ve removed trading requirements and many times removed plan mix requirements. In the marketplace right now, I don’t think we’re going to be backing off of that for the rest of the year. So, I’m cautiously optimistic that we can continue this momentum that we have right now. Obviously, our competition will not be standing still. But yes, I’m pleased with what we’ve been able to drive both on retention and on gross adds.

Sergey Dluzhevskiy, Analyst

Great. Thank you. And my last question is for Michelle on TDS Telecom side. We’re seeing wireless and wired companies partnering with infrastructure funds or private equity to the fiber deployments, potentially at a more rapid rate than they would be able to do on their own and keeping those builds on the balance sheet. What are your thoughts on such opportunities? To what degree are those structures relevant to you, how attractive are they to you and your markets? What factors might lead you to lean into those structures over time or not?

Michelle Brukwicki, Senior Vice President of Finance & CFO

Hi, Sergey. Thanks for the question. I’ll comment briefly and then Vicki may want to add in as well. Over the years, as we’ve developed our fiber program strategy, we have considered a lot of different financing alternatives that can help us advance our strategy. We’ve been open to various structures and have evaluated a variety of options. Currently, we’ve had some good success with some preferred equity issuances over the last couple of years. Right now, we’ve primarily been funding this through debt. But we continue to be open to different types of structures that would be best for the enterprise. Vicki, do you want to comment at all?

Vicki L. Villacrez, Executive Vice President & CFO

Yep. Good morning, Sergey. Right now, we are very focused on the deals that we have in front of us: The transaction with T-Mobile and UScellular wireless business, as well as the transactions at the TDS level, and that is where our focus is at right now, including monetizing the remaining spectrum not included in the T-Mobile transaction. We’re pleased with where we are in terms of leverage at the end of the second quarter. We’ve improved leverage both at the UScellular and the TDS consolidated level. We are in a good position, from a liquidity standpoint, to fund our fiber program going forward into 2025. Very pleased overall with the strong growth that we reported in the quarter. TDS Telecom had strong top line as well as bottom line growth driven from the investments we’ve made.

Operator, Operator

The next question comes from the line of Ric Prentiss from Raymond James. Please go ahead.

Ric Prentiss, Analyst

Thanks. Sorry, I had double secret mute on. Can you hear me now?

Vicki L. Villacrez, Executive Vice President & CFO

Hi, Ric.

Ric Prentiss, Analyst

Okay, good. Thanks. So, first question, I’ll follow-up on Sergey’s obviously a lot of discussion about convergence fixed with mobile, maybe from both LT side, Michelle’s side, and maybe even Vicky side. How are you all viewing convergence kind of theoretical and then specific to your operating units?

LT Therivel, President & CEO

Yes, Ric. I’ll start maybe I’ll hand it to Michelle afterwards because my threat is her opportunity, right. As I view convergence, it is clearly a trend in the marketplace. You see it from the success that cable wireless has had in the market in terms of growing share, right? Their market share for cable wireless is still significantly below their share of gross adds. There’s still a lot of room for them to grow. Why is that? I mean convergence is a word that means different things to different people. If I simplify it and just talk about fixed wireless bundling, it’s about using profit streams from one product to help subsidize another and it can help you with churn. T-Mobile is out there, expanding fiber footprint. AT&T has been very public about their desire to expand the fiber footprint. It’s because of the power of bundled offerings. There are opportunities for wireline players to provide wireless services because there’s a wholesale wireless offering. Wireless players do MVNOs. But there is not a commensurate wholesale approach to wireline. I think that there is some kind of a threshold out there for this market, but it’s a threshold that still has a lot of room to grow. This is definitely a competitive threat for us but we think we can compete effectively.

Michelle Brukwicki, Senior Vice President of Finance & CFO

Yes, thanks, LT, and thanks for the question, Ric. From a TDS Telecom perspective, we are very excited to be getting into this space. This is a great opportunity for us. Again, we do not believe that you have to own both the wireline and the wireless network to make this work, but it is about providing attractive bundling opportunities for customers who want both services from the same provider. We’ve looked at the MVNO market for many years and over the last couple of years, it’s really started to make sense for us to enter this market through wholesale agreements. So, this is the perfect time for us to round out our product and service set to meet the needs of our broadband customers.

Ric Prentiss, Analyst

A couple of other questions from my side. One of the other hot topics this quarter is the next generation iPhone. What might be an AI push? What does it do to the competitive intensity? What’s baked into your guidance?

LT Therivel, President & CEO

Hey, Ric, I think I would tackle it in one of two ways. I think on the revenue side of the equation, it’s too early to tell. The last Samsung device had some attractive AI capabilities built into it. We haven’t seen a massive change in market share with those capabilities. But I do expect more traction on the cost side of the equation. We’re already using AI in our care centers, and we expect that those capabilities will also transition into the digital space. In the long run, I’m bullish about AI capabilities but it’s too early to tell when that’s going to show up in the numbers.

Ric Prentiss, Analyst

Okay. Last one for me is on the spectrum. If you were to move forward before the T-Mobile deal is approved and closed, what kind of transaction could you do with the spectrum? And regarding the impairment test of the wireless spectrum, what does that mean?

LT Therivel, President & CEO

Yes, Ric, I’m going to punt on the spectrum questions, because we have an active process going on. We have specifically designed the transaction with T-Mobile to ensure a smooth transition for our customers, bringing more spectrum to bear for better service. What I can tell you is that we’ve assessed the spectrum carrying value, and the fair value was greater than the carrying value.

Doug Chambers, Executive Vice President & CFO

Every year we assess the spectrum for impairment and we did that recently. The fair value was greater than the carrying value, so no impairment was charged.

Michelle Brukwicki, Senior Vice President of Finance & CFO

As you know, any comments we’d be making on this process would only be if we had a definitive agreement that was signed and in place.

Ric Prentiss, Analyst

Make sense. Your customer experience is something that can’t be damaged, and that factors into everything.

Operator, Operator

The next question comes from the line of Jonathan Atkin from RBC. Please go ahead.

Jonathan Atkin, Analyst

Thanks. I wondered about when the dust settles, what would be your appetite to do build to suits? And secondly, to what extent would existing portfolio require augmentation CapEx?

LT Therivel, President & CEO

In terms of build to suit moving forward for the Tower business, it’s not currently part of the strategy, although that could change. When we built our towers, we built those with the idea of providing a good mobile experience. That enables us to provide broad coverage and would allow us to add co-locators without significant capital investments. So, we believe we can grow the Tower segment and cash flow from it without needing much additional capital.

Jonathan Atkin, Analyst

Good answer. Thank you.

LT Therivel, President & CEO

From a ground lease perspective, we have been finding opportunities to take on ground leases and will continue to do so as those opportunities arise. We think we run a lean organization and want to stand up that tower company independently which will be a lot of work but not add incremental expenses.

Colleen Thompson, Vice President, Corporate Relations

Okay. Thanks everyone for your time today. Please reach out to Investor Relations with any additional questions and have a good weekend.

Operator, Operator

This concludes today’s conference call. Thank you for your participation. You may now disconnect.