Earnings Call Transcript - TIMB Q2 2023

Operator, Operator

Good morning, ladies and gentlemen, and welcome to TIM S.A. 2023 Second Quarter Results Conference Call. We would like to inform you that this event is being recorded, and all participants will be in a listen-only mode during the company's presentation. There will be a replay for this call on the company's website. After TIM S.A.'s remarks are completed, there will be a question-and-answer session for participants. At that time, further restrictions will be given. We highlight that statements that may be made regarding the prospects, projections and goals of TIM S.A. constitutes the beliefs and assumptions of the company's Board of executive officers. Future considerations are not performance guarantees. They involve risks, uncertainties and assumptions as they refer to events that may or may not occur. Investors should understand that internal and external factors to TIM S.A. may affect their performance and lead to different results than those planned. Now I'll turn the conference over to the CEO, Mr. Alberto Griselli, CEO of TIM S.A., and to Ms. Andrea Viegas Chief Financial Officer, to present the main highlights for the second quarter of 2023. Please, Mr. Alberto, you may proceed.

Alberto Griselli, CEO

Good morning, everyone, and thanks for attending our conference call. Outstanding achievements and rock solid results marked the second quarter, driven by the sharp execution of our plan. Our top line rose more than 9% year-over-year with EBITDA growing above 17%. This combination led to a margin expansion of more than 300 basis points. Our operating free cash flow grew more than 65% versus the second quarter of 2022 and the net income more than doubled. Strong operational trends were achieved jointly with the aforementioned financial highlights. ARPU, churn, and network quality presented their best performances in years. On the ESG front, it is worth highlighting that TIM was certified once again as a great place to work, achieving a favorability of more than 90% with solid improvements versus last year. In this context, we were also recognized as one of the best companies for inclusive work experience. Under the scope of the environmental pillar, we are executing two initiatives that impact energy consumption. The first is related to transforming our sources to renewable energy proprietary plans. Under this project, we closed the quarter with 87 plants. The second initiative addresses energy consumption by developing smart public lighting solutions that drastically reduce the usage of electricity by municipalities. The integration of ESG aspects into our business dynamics and how we can promote social impact while developing and selling solutions for our clients is a relevant part of our strategy. In TimAgro, for example, we are taking connectivity to the countryside of Brazil, covering 90,000 rural properties, more than 220 public schools and 65 basic health units. While in the education vertical of our customer platform strategy, we provided courses to 450,000 people to improve their education or develop their careers. Going forward the details of our business performance, I want to highlight our revenue dynamics. Total service revenues grew 9.5% year-on-year in the second quarter, with a relevant contribution from mobile services that expanded by 9.7%. This performance was driven by inflation recovery and improved customer base dynamics and the scenario of rational competition. ARPU was also positively impacted, reaching an all-time high level of BRL 29.2 per month, growing 13% versus last year. When looking at the mobile segments individually, we saw postpaid revenues growing significantly, up by more than 10% year-over-year with an ARPU, excluding machine-to-machine lines of almost BRL 52. As anticipated, we returned to positive net addition in this quarter after the clean-up and adjustment of former oil customer base. Postpaid churn reached the lowest mark in 12 quarters. In prepaid, revenue expanded at a sound pace of close to 12% versus second quarter '22, leading to an ARPU above BRL 14. Following this remarkable mobile performance, we now have the highest mobile ARPU in Brazil in prepaid, postpaid, and also blended. Migration and upsales movements grew 28% versus second quarter '22 and are playing an essential role in consolidating our ARPU leadership. To better understand what is behind these results, we need to recall concepts from our 2022 Investor Day. We are developing our value proposition according to three pillars: better service, better value, and better network. And we are delivering on all three of them. As probably most of you saw last week, we extended our exclusive partnership with Apple and launched the Apple One bundle in our high-end black plans. We are the third operator in the world to launch such an initiative and the first and only operator in Latin America. This is clear evidence of how we play the game of innovation as a core differentiator to deliver the best offer to Brazilian customers. Our journey towards customer experience excellence is long, but we are doing it step by step to achieve the best service. Results from the Reclame Aqui portal, ProComm Agency, and ALATEL point to a significant improvement in all experience metrics. In June, we won the resolution award from the São Paulo Consumer Protection Agency. We are the only Brazilian company to ever achieve such recognition. What seemed impossible a couple of years ago is now a reality. TIM is providing the best quality on Brazil's largest mobile network and we have the evidence to show that OpenSignal awarded us as the number one operator in the consistent quality index, a metric that combines a set of critical indicators to measure natural quality across a variety of common use and demanding applications. On top of that, we are also leading in 5G with 40% more sites than the second place. Our value proposition evolution is clear. However, the average client must also perceive that, and perception change is a marathon where consistency is more important than sprinting. The good news is that the first signs of change are emerging. As I mentioned earlier, in the second quarter, we had the best churn level in years and the middle of quarter inflation recovery in certain offers. Additionally, bad debt is historically low, representing 1.8% of our net revenues, and our overall NPLs improved by 4 points versus the first quarter. With this, I wrap up the explanation of mobile performance, and we can now move to fixed services. In fixed, the growth driver remains in ultrafibra with a solid performance; fixed broadband revenues went back to double-digit expansion. Broadband ARPU grew year-over-year for the 18th consecutive quarter, reaching almost BRL 95. Our broadband continues to be driven by the successful migration from FTTC to FTTH and accelerated net addition following the geographical expansion to Paraná and Santa Catarina states. We closed the quarter with a client base beyond 760,000 connections, adding 38,000 clients in those new regions. We are still fine-tuning the model, but the results are encouraging. Additionally, we are following a similar approach to the one that we use in mobile, staying away from price competition and focusing our differentiators on offer innovation and quality of service. With this in mind, we expanded our portfolio with the new 2 giga speed plan. Until now, we have been successful, but the overall broadband market is still very price-oriented. I will now pass the floor to Andrea to review the financial results.

Andrea Viegas, CFO

Thank you, Alberto. Good morning, everyone. As Alberto just explained, the second quarter was very strong across all lines of our results. Our performance continued to be driven by the positive effects of the M&A integration as well as the operational dynamics that are occurring in the group. Our OpEx continues to decelerate and is now growing below inflation. In addition, during the quarter, our TSA agreement with Oi, which is helping us reduce costs and eliminate some pressure. The combination of strong revenues and solid OpEx dynamics resulted in a double-digit growth of our EBITDA in the quarter. We grew more than 17% on a year-over-year basis and surpassed BRL 2.9 billion. Our EBITDA margin expanded by 340 basis points in the quarter, and we recorded the highest margin on record at 50%. It is important to mention that the second quarter was the first one without the negative effects that were impacting the trends of our costs. The TSA costs were eliminated in April, and now we have an apples-to-apples comparison related to the fiber last mile rental. In terms of our decommissioning program, we are now seeing the benefits following our M&A. We were able to optimize our process during the quarter and have already adjusted the dynamics with our suppliers. As a result, we are now ready to accelerate the site dismantling. By the end of the quarter, we have eliminated over two-thirds of the planned sites for the year. Of course, there is a delay between the fiscal decommissioning and seeing its financial impact. However, we have already seen some initial positive effects in the second quarter. We paid BRL 57 million in decommissioning fines, but the pace of increase in our lease cost has been slowing down on a year-on-year comparison and started to decline on a sequential basis. As a result, our EBITDA after lease increased 21% year-over-year. During the disclosure of our guidance at the beginning of the year, we explained that we expect the effects from the decommissioning to pick up in the second half of the year as more sites are eliminated. We are happy with the progress we have already made in this project so far. The strong operational and financial performance contributed to our bottom line, totaling BRL 640 million, which is almost double the amount of what we registered in the second quarter of last year. It's important to remind you that the transitory impacts we addressed in recent quarters are starting to decrease, including less impact on both G&A and financial expenses. We are also seeing less of an effect from the monetary adjustments related to the 5G license and a reduction in the tax burden as we resume the distribution of interest on capital. Free cash flow for the second quarter was also strong. Our EBITDA after lease minus CapEx was up 6%, totaling BRL 1.2 billion. Our cash position also rose by 46% year-over-year, ending the quarter at BRL 3.3 billion. The second quarter allowed us to strengthen our financial position and improve our leverage level. The net debt-to-EBITDA ratio decreased to 1.4x and total net debt, including leases, amounted to BRL 15.3 billion. This sustainable trend leaves us comfortable in a scenario of high interest rates. Now I hand the call back to Alberto.

Alberto Griselli, CEO

Thank you, Andrea. I'm very pleased with the first half of the year as we were able to achieve so many things. We completed our integration, achieved network leadership, improved customer experience, and delivered important milestones in ESG while posting solid results that put us more than on track to reach our guidance. Actually, it is fair to see some upside risk to our full year numbers, but this will depend on several factors, some of which we control, but some we don't. That is why our focus on mobile for the coming quarters won't change: execution to capture synergies, recover inflation in a more rational and value-based competitive environment while using the other marketing mix tools to differentiate from our competitors, and finally, leading 5G deployment to both support positioning and CapEx efficiency. For fixed broadband, we continue using the asset-light model to expand and fine-tuning this approach in new markets as we migrate from FTTC to FTTH. The second half for the customer platform initiatives will be more exciting. We are accelerating the implementation of the Cartão de Todos Health partnership and new partnerships will be launched. Lastly, we will continue to evolve our B2B verticals. We are increasing the penetration of our solutions to consolidate our leadership in key verticals while we mature the different business models. In my comments, I want to thank the team for the great job done so far. For the second half, we know what the challenges are. We have a clear plan, and we will maintain focus on its execution. Let's now open the floor for questions. Please, operator?

Operator, Operator

Thank you, Mr. Alberto. Now we will begin the Q&A section. First, we will take questions from analysts followed by the general public, both in English. If you're listening to the webcast, your questions can be sent by chat. Please hold while we collect the questions. We ask each participant to restrict themselves to two questions at a time.

Marcelo Santos, Analyst

My first question is regarding the sustainability of margins. You had a very strong margin increase this quarter. If you could please comment how this translates to the next couple of quarters, if there are some effects that should not be sustained or if they are. This is the first question. And the second question is regarding the very low churn in postpaid. Could you please explain what is causing this churn to be so low? What are the main sources of this improvement we are seeing?

Alberto Griselli, CEO

We have been discussing for a while our guidance, whereby we were planning margin expansion because we assumed in our guidance EBITDA growing double digits versus revenues growing high single digits. Everything that is going on, with the exception of the fiscal points we can discuss, is organic. It means that there are a number of things that we're doing on the EBITDA margin to increase the productivity of our resources. If you look at this from a logical point of view, we have a few levers in place. The first is that costs related to oil started to disappear starting in the second quarter. We have a number of productivity increases related to the increased productivity of the customer base that we are capturing over time, so the cost to serve them. Thirdly, we have significant initiatives within the company from innovation to business process remodeling and discipline to better allocate our cost base and increase productivity on the EBITDA level. So we anticipate margin improvements moving forward. When you look at the after-lease also, because the decommissioning process is proceeding a bit ahead of schedule, this will support further margin expansion on that line as well. All in all, we are quite confident that profitability can be sustained and expanded. Regarding the low churn in postpaid, there are a number of factors to consider. This is a remarkable achievement as we are hitting the lowest churn rate in postpaid while implementing our 'more for more' strategy. Generally, this tends to exert some pressure on the churn level in the quarter that we execute it. If you look at last year's churn level in the second quarter, I think there are a number of factors in play here. First, there's a more rational competitive environment, and we adjusted our postpaid offer portfolio in the first quarter before the implementation of the 'more for more' strategy. Secondly, we are implementing numerous initiatives to increase the quality of service perceived by our customers. This is a continuous effort and will improve going forward. It generally relates to the quality of the value proposition that we provide to our customer base, which tends to enhance their lifestyle with us. For example, in this quarter, we launched the Apple One initiatives. The second set of initiatives falls into the category of customer relations where we've seen numerous improvements on ALATEL, Reclame Aqui, and the Consumer Protection Agency, which customers are starting to perceive. Lastly, we are actively working to improve the quality of our network, and we've been awarded in July as having the best networks regarding perceived quality, another significant initiative. All these combined tend to enhance our ability to retain customers, thus reducing churn. I hope this answers your question.

Marcelo Santos, Analyst

No, it's very, very clear. Thank you very much.

Bernardo Guttmann, Analyst

Actually, I have two questions on my side. The first question is related to dividends. If you could provide us an update on your dividend distribution for this year, it seems like you are on track to generate a lot of cash, probably at a faster pace than the guidance provided of BRL 2.3 billion. So I just want to understand if there is room for a potential upside here in terms of dividend distribution. And the second one is related to the tax reform. I would appreciate it if you could make a general comment about the proposal on the discussion for the sector. Thank you.

Alberto Griselli, CEO

Okay. Bernardo, when it comes to dividends, we set BRL 2.3 billion as the new floor of our shareholder remuneration for 2023 and then continuous improvement going forward. When you look at our performance to date, we see a number of upside risks. Of course, there are still uncertainties related to the macro environment. However, there are a number of things happening in alignment with or better than our plan. Our focus is to increase free cash flow and operating free cash flow margin. We see upside risks here versus our guidance. We are currently analyzing the numbers and discussing this internally, but there is a risk of an upside review of shareholder remuneration. Regarding the tax reform, we see this in phases, particularly concerning the VAT reform that has just passed and is going to be discussed in the Senate. We must wait for the actual numbers to assess the impact on us. Thus far, the discussion has aligned with what we anticipated without surprises. The other component of the tax reform concerning corporate taxation and dividends is a bit further on, so we need to monitor as a sector before being able to ascertain the implications. We need to wait for the actual tax rate to be defined, which should occur in the next year, during a transition period that should be softer for the next few years.

Vitor Tomita, Analyst

My first question would be a quick follow-up on Marcelo's earlier question. Looking at costs, setting aside the end of the TSA — should we assume this quarter's level of sales and marketing expenses as a recurring baseline for future quarters? In particular, should we expect marketing activity to pick up in the third quarter relative to the second, or will it be at a similar level? And a second question from us would be on whether you could provide an update on how you view the possibility of price readjustments in prepaid or additional price readjustments in postpaid this year following the recent adjustments that you made.

Alberto Griselli, CEO

Okay, Vitor. On the first one, regarding sales activity, this largely depends on the number of commercial initiatives we are running each quarter. For example, in the current quarter, we just launched a significant campaign with Apple One, creating promotional activities that you will see in marketing. We have an attractive proposition for our premium postpaid plans. Thus, this expense line will vary based on the activities we undertake. I would expect that this quarter’s activity due to the Apple One campaign is likely to be higher compared to previous quarters where we had no significant launches. For the second half of the year, I anticipate increased commercial activities and initiatives. Regarding price adjustments, the overall competitive environment is transitioning towards a value-based approach. Our strategy focuses on delivering more value, and the first half was centered on postpaid. We've effectively fine-tuned our postpaid offers, and there might not be significant adjustments remaining in this area. We are shifting our attention towards prepaid and planning value upgrades for our customers that will command some price revisions accordingly like we did last year with Amazon Prime incentives for recharges. We are targeting this shift for the second half.

Fred Mendes, Analyst

I have two questions here as well. The first one is on the working capital line; we see a major impact in the line of suppliers, BRL 1.3 billion this quarter. It looks like you paid this amount. So can you help me understand if you took advantage of some opportunities in terms of FX or something in this line? Just trying to understand the working capital here. This will be the first one. And then on the second question, I think it’s more about strategy. Looking at ARPU, you already have the highest ARPU in the sector, which looks like one of the highest. However, when analyzing net adds, I notice that they have been weak in the last three months; it is true. But over the last years, it hasn’t been as strong. When looking ahead, where should I expect most of the growth for TIM over the next year?

Andrea Viegas, CFO

Good morning. Thank you for the question. Related to working capital, there are some dynamics that pressured our capital in this first semester, as you noted. The major impact relates to vendors, which follows our business seasonality trend. If you analyze past years, similar dynamics occurred. We anticipate less pressure on this item in the second half of the year.

Alberto Griselli, CEO

Regarding ARPU, yes, we achieved leadership in both prepaid and postpaid, which is an excellent achievement. When I look ahead at revenue dynamics for TIM Brazil, we want balanced growth in both customer base and ARPU. For ARPU growth, our main strategy is aligned with value-based competition, offering more to customers. In terms of customer base, there's a differentiated view between postpaid and prepaid. Notably, we've faced challenges in securing postpaid additions in previous quarters, primarily due to post-merger integration. However, this quarter marks a positive shift with net additions returning to growth. This trend is likely to continue in the following quarters. The absolute number of net additions should be viewed relatively compared to the overall base as this perspective will provide a clearer view of growth efficiency. We aim to maintain growth in customer base for postpaid while concurrently enhancing ARPU through improved services. In summary, our strategy encompasses a balanced approach between customer additions and ARPU, notwithstanding the integration challenges affecting our numbers. From this quarter onward, we expect both metrics to contribute positively to our top line.

Leonardo Olmos, Analyst

A couple of questions from my side. First, regarding lease expenses and the decommissioning process. Can you provide some idea of what to expect in the second half of '23 and give an update on the number of towers — how is that going? Secondly, can you provide an update regarding the agreement with neutral networks, particularly Vital?

Alberto Griselli, CEO

On lease expenses, Leonardo, we have upside risks as we are ahead of our plan. As of today, we have executed about 70% of the plan. This year's impact will be less significant because the expenses will accumulate but this will generate additional benefits in subsequent years, and I'll provide further details next quarter. While we are facing challenges in decommissioning, we've successfully decommissioned 1,000 towers this year, so overall, we're happy with our results and ahead of schedule. On the neutral network front, we had a successful launch in Paraná and Santa Catarina, yielding positive commercial results. We're now fine-tuning the model for a larger scale. The benefits of this lay in the fact that we won't need to build a network; we can adopt a mobile-like operational model. This operational model will translate into higher quality commercial operations. We expect net additions to remain around 30,000 per quarter, and we're working on refining our processes to ensure we can scale up when the market becomes more competitive. Thank you, everybody. So my closing remarks, considering this exciting World Cup atmosphere, I'm going to play a leader football coach here today — half time is over. Guys, we need to go back on the fifth to secure our victory in the second half of the game. See you soon. Bye.

Operator, Operator

Thus, we conclude the second quarter of 2023 Conference Call of TIM S.A. For further information and details of the company, please access our website, tim.com.br/ir. You can disconnect from now on. Thank you once again. Have a good day.