Uniti Group Inc. Q2 FY2023 Earnings Call

Hello, and welcome to Uniti Group's Second Quarter 2023 Conference Call. My name is [indiscernible], and I will be your operator for today. A webcast of this call will be available on the company's website, www.uniti.com, starting today and will remain accessible for 14 days. At this time, all participants are in a listen-only mode. Participants on the call will have the opportunity to ask questions following the company's prepared comments. The company would like to remind you that today's remarks include forward-looking statements and actual results could differ materially from those projected in these statements. The factors that could cause actual results to differ are discussed in the company's filings with the SEC. The company's remarks this morning were referenced in slides posted on its website, and you are encouraged to refer to those materials during this call. Discussions during the call will also include certain financial measures that were not prepared in accordance with generally accepted accounting principles. Reconciliation of those non-GAAP financial measures to the most directly comparable GAAP financial measures can be found in the company's current report on Form 8-K dated today. I would now like to turn the call over to Uniti Group's Chief Executive Officer, Kenny Gunderman. Please go ahead, sir.

Thank you. Good morning, everyone, and thank you for joining. Starting on Slide 3, Uniti posted another quarter of solid operating performance. As a result, we're reiterating our consolidated full-year 2023 revenue adjusted EBITDA and AFFO outlook. Our consolidated core recurring revenue grew 4% during the second quarter from the prior year, while our Uniti Fiber core recurring revenue grew 5%. Our lease-up revenue categories continue to achieve terrific results with non-wireless wholesale, enterprise, and dark fiber lease-up revenue growing at 7%, 15%, and 25%, respectively, during the quarter. We also signed a new 10-gig upgrade agreement with one of our major wireless carriers during the quarter. The agreement covers approximately 1,100 lit backhaul sites and extends the contract term from a blended term remaining of less than a year to now 7 years. As you will recall, we signed a similar agreement with another of our major wireless carriers in the third quarter of 2022, which also covered approximately 1,100 sites and locked in 10-gig pricing for 8 years. On a combined basis, these two agreements have resulted in a slight overall net price increase. Including the returns I just mentioned, the approximate average remaining term of our entire lit backhaul portfolio is an impressive approximately 5 years. Our scaled national network and exceptional network performance allows us to negotiate bespoke agreements with our wireless carriers, providing steady returns and minimizing churn. With our industry-leading 0.2% churn and no legacy services weighing us down, we believe our runway for mid-single-digit growth is long. Slide 4 demonstrates this growth will be disciplined, and we believe profitable. Our substantially underutilized fiber network acquired largely through sale leasebacks versus complicated company acquisitions is helping drive our shared infrastructure economics. Our anchor lease-up model is working, driving cumulative cash flow yields today of 24%, a more than threefold increase from the anchor yield on these projects. Turning to Slide 5, we continue to grow our 138,000 route mile network, and we added approximately 1,700 route miles during the quarter. Only approximately 20% of our available network is lit today, and as we've mentioned before, we own dark fiber in about 300 markets nationwide, which represents terrific capital and margin-efficient growth potential for enterprise, wireless backhaul and small cells. We continue to believe that the wireless carriers will eventually need to densify these non-Tier 1 markets, and Uniti is well positioned for that growth in the future. Slide 6 shows that the majority of our revenue is wholesale in nature, which comes with longer-term contracts, lower churn, and less required overhead for execution. As a result, our business and underlying performance are less susceptible to macroeconomic conditions, and we're diversified across numerous use cases in the fiber and customer segments. As an example, even though wireless carriers are spending less this year than last year as a group, that decline is more than offset by buyers such as hyperscalers, Internet providers, and fiber-to-the-home providers. Turning to Slide 7, scale matters in fiber, especially with a wholesale-heavy business like ours. Having an owned national network is a meaningful competitive advantage for Uniti, and our ability to deploy dark fiber and wave services presents Uniti with a unique low-risk growth opportunity with minimal competition. As an example, we recently announced that we signed a 20-year long-haul dark fiber IRU agreement with a global Internet provider who is an existing customer. The total contract value of this deal is $35 million and utilizes approximately 1,800 route miles of existing owned fiber. We believe we had minimal competition for this deal given our unique robust network. We expect these routes will be delivered to our customer throughout the second half of 2023 and into 2024. Slide 8 illustrates our balanced approach to bookings between anchor and lease-up. Consolidated bookings were up 20% in the second quarter when compared to the prior quarter, while wholesale bookings were up over 50%. The interest in our network has never been higher as our sales funnel remains very strong and underscores the growing demand for fiber. But as a reminder, wholesale bookings can appear lumpy given that these deals are typically larger and fewer in quantity. For example, the 20-year dark fiber deal I mentioned earlier represented over 30% of wholesale bookings in the quarter. It is not uncommon for one wholesale deal to materially impact bookings in a single quarter from a timing perspective. Turning to Slide 9, our enterprise strategy is highly disciplined and regional in nature. As you can see from the map, we're only offering enterprise services in approximately 30 metros concentrated in the Southeast, which has very favorable demographics. In fact, the Southeast has accounted for more than 2/3 of all job growth across the U.S. since early 2020, almost doubling its share prior to the pandemic and is home to 10 of the 15 fastest-growing large cities in America. Our local brand is very strong in this region, helping to contribute industry-leading enterprise churn of around 0.7%. Although enterprise sales represent about 5% of our total revenue today and will likely always represent a minority percentage, it remains a critical element of our lease-up strategy. With no significant debt maturities until 2027 and given our organic growth runway and continued steady performance, Uniti is positioned to patiently execute during these uncertain economic and credit market conditions while providing a virtually fully funded growth plan aside from future debt refinancings. With that, I'll now turn the call over to Paul.

Thank you, Kenny. Good morning, everyone. I'd like to start by discussing our performance for the second quarter, followed by an overview of our current outlook for 2023. We had another strong quarter at both Uniti Fiber and Uniti Leasing, with a 4% growth in consolidated recurring revenue compared to the same quarter last year. As I will detail shortly, our projections for consolidated revenue, adjusted EBITDA, and AFFO for 2023 remain unchanged, and we anticipate finishing the year within our previously provided guidance ranges. Finally, I will wrap up with some additional insights on our current balance sheet and capital structure. In the second quarter, we reported consolidated revenues of $284 million, consolidated adjusted EBITDA of $228 million, and AFFO attributable to common shareholders of $91 million, resulting in an AFFO per diluted common share of $0.34. The net income attributable to common shareholders for the quarter was about $25 million, or $0.11 per diluted share. For Uniti Leasing, we reported segment revenues of $212 million and adjusted EBITDA of $207 million, reflecting a 3% increase in both compared to the same quarter last year, achieving an adjusted EBITDA margin of 97%. As we move forward, our growth capital investment program has been yielding positive outcomes for Uniti. Over the past eight and a half years, our tenant has invested over $1 billion in capital improvements to our network. Uniti has also been investing its own capital, focusing largely on valuable last-mile fiber. These collective investments have led to the construction of 24,000 route miles of new fiber, with 24% of the legacy copper network now overbuilt with fiber. Based on current investments and our expectation for Windstream to use most of the GCI program, we anticipate that nearly half of the legacy copper network will be fiber overbuilt by 2030. In the second quarter, Uniti Leasing dedicated about $96 million toward growth capital investment initiatives, mainly related to the Windstream GCI program. These GCI investments have added 1,600 new route miles of fiber across various markets. As of June 30, Uniti has invested approximately $700 million in capital under the GCI program with Windstream, adding around 18,200 route miles and over 1 million strand miles of fiber to our network. These investments will be incorporated into the master leases at an 8% initial yield at the one-year anniversary of the investment, subject to a 0.5% annual escalator, resulting in nearly 100% margin. The investments made to date are projected to generate about $57 million of annualized cash rent and enhance the overall value of our network. At Uniti Fiber, we set up 363 lit backhaul, dark fiber, and small cell sites for our wireless carriers across the Southeast during the second quarter. These new installations are expected to generate annualized revenues of approximately $3.4 million, which represents over a 50% increase from the previous quarter. We currently have about 890 lit backhaul, dark fiber, and small cell sites in our backlog, expected to generate an additional $8 million in annualized revenues over the next few years. In the second quarter, Uniti Fiber recorded revenues of $71 million and adjusted EBITDA of $25 million, with core recurring revenue rising approximately 5% from last year. Revenue and adjusted EBITDA were affected by lower-than-anticipated non-recurring equipment sales and installation fees. Uniti Fiber's net success-based capital expenditures were $31 million in the second quarter, with an additional $2 million incurred for maintenance capex. Now, let’s discuss our updated guidance for 2023. We are adjusting our guidance primarily to reflect the impact of transaction-related and other costs incurred to date, excluding future acquisitions, capital market transactions, or any future costs not specifically mentioned. For Uniti Leasing, we anticipate revenues and adjusted EBITDA to be around $850 million and $825 million at the midpoint, resulting in adjusted EBITDA margins of approximately 97%. Both revenue and adjusted EBITDA include $32 million of cash rent from GCI investments and $23 million related to straight-line rent from Windstream master leases and GCI investments. We now project deploying $288 million in success-based capex at the midpoint, with $250 million earmarked for Windstream GCI investments. This $18 million increase in guidance is due to higher GCI investments and accelerated capital needs for our dark fiber leasing business. Turning to Uniti Fiber's contributions, we foresee revenues of $314 million and adjusted EBITDA of $123 million at the midpoint for the full year. We still expect core recurring revenue to grow by 5%, although we have observed some delays in buying decisions from select wholesale and enterprise clients, which may slightly affect our growth estimate. Additionally, we anticipate that revenue and adjusted EBITDA at Uniti Fiber will be more weighted in the fourth quarter compared to the third. We expect consolidated revenue to reach at least the midpoint of our current outlook. ETL fees are projected to be approximately $15 million in 2023, down from $24 million in 2022. Our net success-based capex for Uniti Fiber is still estimated at $115 million for the year. Regarding AFFO, we expect it to be between $1.38 and $1.45 per diluted common share, with a midpoint of $1.41. Note that AFFO will be affected by increased interest and diluted shares from our recent convertible and secured refinancings. On a consolidated basis, we project revenues of $1.2 billion and adjusted EBITDA of $925 million at the midpoint, with a consolidated interest expense of around $517 million. This includes a $10 million write-off of deferred financing costs and a $32 million early repayment premium related to the redemption of certain senior secured notes. Corporate SG&A, excluding segment allocations, is anticipated at approximately $30 million, including $7 million in stock-based compensation. For the fiscal year, we expect about 290 million shares of weighted average diluted common shares outstanding. Guidance ranges for key components of our outlook are available in the presentation appendix. Finally, as of the end of the quarter, we had around $452 million in combined unrestricted cash and cash equivalents, along with undrawn revolver capacity. Our leverage ratio at quarter-end stood at 6.0x when calculated as net debt to last quarter's annualized adjusted EBITDA. On July 28, our Board declared a dividend of $0.15 per share, payable to stockholders of record on September 8. With that, I'll turn the call back over to Kenny.

Thanks, Paul. As I mentioned earlier, we continue to focus on driving high-margin recurring revenue while targeting disciplined mid-single-digit top line growth. Slide 15 demonstrates the investments we are making in our fiber network will lead to a more sizable and valuable fiber business over the next several years. We also expect the end of 2025 to be the inflection point where we become free cash flow positive after dividends, and we expect to generate cumulative free cash flow of over $1 billion during the 5-year period ending in 2030 if we maintain our current dividend and approximate level of annual capital spending. This trajectory, along with our predictable organic growth outlook, would lead to a substantial deleveraging, resulting in net leverage between 4 to 5x and roughly doubling the size of our fiber business by 2030. Before turning it over to Q&A, I'd like to briefly comment on the recent press reports about lead cables within the telecom industry. Similar to the rest of the industry, Uniti is taking this issue very seriously. Based upon what we have learned thus far, there appears to be no reason to believe that these cables pose a health or safety risk to employees or the broader public. For Uniti specifically, the networks that we operate actively are all fiber-based, and therefore, our employees are not in contact with lead cabling. In coordination with our sale-leaseback tenants, including Windstream, we're currently estimating the amount of lead sheeting cable being used today in our copper networks represents less than 1% of the total copper route miles that we own. Based on what we know today, we believe any cost of remediation would be minimal. We will continue to investigate and monitor this issue very closely along with our industry partners and will report any material Uniti-specific developments as they arise. With that, operator, we're now ready to take questions.

Our first question comes from Gregory Williams with TD Cowen.

Thanks for the insight on some of the lead cables, that's helpful. My first question is on the M&A landscape. Kenny, can you describe what you're seeing and hearing? It doesn't sound like there's a lot of deal flow here, but are conversations picking up or staying the same as other buyers or sellers? And then just looking at the lease-ups, it looks like the mix came a little bit lower at 64%. Is that just the usual variance? Is there anything here to call out? Was there a pickup in greenfields on purpose?

Greg, yes, on M&A, we're big believers in it. As you know, we've done a lot of M&A over the past several years. I think, successfully we continue to believe that there's a conglomerate discount in our stock. If you look at how we think the market is valuing the Windstream MLAs, for example, they're putting a 15% to 20% yield on that income, and we think it should be yielding inside of where secured debt is trading for the ILEC community. So we think there's a significant discount there, which points to share of value right there alone that's not being reflected. And so we're looking at M&A, and as I mentioned last quarter, getting our financings done behind us was an important ingredient for helping us have a runway to really focus on it in a patient manner, either as a buyer or a seller. And so to that end, I think there are good conditions and bad conditions. Good conditions mean we've got a nice runway to be patient. Our business is performing very well, and there's a clear line of sight to a go-it-alone strategy with capital spending falling off in the next few years. So there's a substantial amount of free cash flow coming into the system. So having that ability to be patient is critically important to executing sound M&A. But with that said, the credit markets continue to be challenging, and I think that's pretty obvious. And so that's one of the things dampening M&A at this point. I think you see it industry-wide and certainly within the telecom industry, and it's no different for us from our vantage point. But that can change overnight, frankly. And so we continue to be very engaged with both strategic and financial parties within the industry, and that's not going to change in the coming quarters. And Paul, do you want to comment on the lease-up?

Yes. On the lease-up percentage, I think, Greg, I would just characterize that as normal fluctuations from quarter to quarter based on the bookings that we're bringing in. No change in strategy or shift to more anchor deals. We're still very focused on a good mix, but a mix that's dominated by lease-up going forward. So just normal fluctuation.

Our next question comes from David Barden with Bank of America Merrill Lynch.

So a few, if I could. Kenny, the tower industries, specifically American Tower most recently, talked about abrupt slowdowns in wireless carrier network services-related requirements. I think you kind of touched on it in your prepared remarks. But if you could elaborate a little bit on how we should think about Uniti's exposure to what might be a material slowdown in wireless carrier activity as it relates to densification and network development. The second question I had was I haven't had a chance to ask this, so I'm interested in your view here because on the lead cable issue, there's really two pieces to it, right? There's the cost of the remediation potentially if it's required, and that's one thing. And then there's the other thing, which is the X factor, the ambulance chasers, the people that come after everybody hoping to make a buck. And I'm interested in how you wrap your arms around that piece of it. And then the third piece is just from a fundamental standpoint, on the book-to-bill, are you seeing any delta as we kind of progress through time on how wholesale and non-wholesale bookings are converting to the retail revenue business?

Thank you, David. I'll address all these points as best as I can. Regarding carrier spending, I mentioned in our prepared remarks that we anticipated a decline this year. We typically have a 6- to 12-month insight into carrier spending due to our daily interactions, though it's not always perfect and can change rapidly. When we provided our guidance at the start of the year, we expected wireless carrier bookings to drop by 50% compared to 2022. Therefore, this was already factored into our projections. Consequently, we are not altering our outlook for this year, and it won’t impact our guidance. The slowdown appears to vary among carriers. Some are rushing to meet deadlines, while others are nearing the completion of their 10-gig upgrades or modifying their capital allocation strategies. Therefore, I wouldn’t classify this trend as an industry-wide phenomenon, but rather as specific changes within different carriers that are all occurring simultaneously. However, we do not believe this is a fundamental slowdown; it will eventually rebound. There remains significant investment needed in these networks, such as traditional backhaul to towers, optimizing spectrum, and densifying markets across the country. A lot of funds have been allocated in Tier 1 markets for small cells, but as we’ve said previously, we anticipate similar trends occurring in Tier 2 and 3 markets. We see this as just the beginning, and when it occurs, it will present a substantial opportunity for Uniti. In the long run, carrier spending will return, although the timing is uncertain. Additionally, I want to highlight that our diversification across different customer segments and fiber use cases is a key factor in why this year's slowdown in carrier spending hasn’t affected our mid-single-digit growth. Over the last few years, including this year, wireless bookings have accounted for around 10% to 15% of our total bookings, indicating our diverse use case portfolio. Regarding lead cable, you’re correct that there may be remediation challenges, although we believe they should be minimal. There are also what I would call ambulance chasers. It’s crucial for us to take this issue seriously and prioritize the health and safety of our employees and the public. We must engage with regulators and local officials, respond transparently to requests, and we believe the facts will ultimately demonstrate the situation. We seem to be transitioning from a phase of hysteria to one of education and understanding, which we think will be beneficial. We have found no credible evidence that these cables pose a significant risk. As we move into the remediation phase, we do not consider this a material issue for us. We will not lead the conversation on this matter but will closely follow AT&T, Verizon, and trade associations to monitor developments, keeping in close contact with industry peers and leaseback tenants like Windstream. On the book-to-bill ratio, though it's not a frequent topic of discussion, it is essential to our operations. We maintain a delivery timeframe consistently under 90 to 100 days. While some projects, particularly greenfield sites or new networks, can take longer to complete— up to 120 or 180 days—our lease-up business, which is growing, allows us to turn things around faster, keeping us below the 90-day mark. However, as Paul mentioned in his prepared remarks, we have noticed a slow-down in customer decision-making over the past few quarters. Despite this, our pipeline remains strong. Our enterprise and wholesale funnels are as robust as ever. Although demand is present and processes are progressing, obtaining customer signatures has taken longer than usual. We view this as a temporary situation rather than an ongoing systemic issue. Overall, things will return to normal, and our mid-single-digit growth projection remains intact. In fact, as Paul stated, we anticipate revenue for the year to exceed the midpoint of our guidance range, which gives us confidence in our position.

I appreciate the commentary, especially regarding our progression through different phases. It's important to understand our current position.

Our next question comes from the line of Michael Rollins with Citigroup.

Just curious for your latest thoughts on what you think the most optimal corporate structure for Uniti is as you look at the assets and performance and the different opportunities and different pieces of your business? And then just one other on the lead question. In terms of the exposure that's identified, do you think that that could change over time, higher or lower, as more work is done, and do you have an update on the amount of cable miles relative to the percentage that was disclosed?

Michael. Yes, on the corporate structure, we had a robust discussion about this on our last quarterly call. We continuously look at our corporate structure, and our capital allocation policy is something we do every quarter with the board. We continue to believe that REIT status is appropriate for Uniti. I think our business model kicks off very predictable, steady growth and cash flow, and as a result, returning that dividend to shareholders is something we think is important, and the Board continues to support it, as does our business model. We've talked very transparently that we're in a unique period of time right now where we're cash flow negative because we're investing very heavily in the business, especially in the fiber-to-the-home part of our business. But we're also at a point where we're about to inflect to becoming cash flow positive. Very logical questions from stakeholders arise, including is it appropriate to be paying a dividend during the investment-heavy phase on one end of the spectrum, all the way to the other end of the spectrum of should you be considering raising the dividend or even setting a dividend policy that suggests raising it. We think having a good transparent discussion about all those topics is important. Therefore, we put our comments out last quarter. We've had some very good interaction with stakeholders over the past number of months regarding those comments, but we continue to think that that’s the appropriate corporate structure given our mix of assets today. We also mentioned it in our prepared remarks; it didn't get a lot of attention, but we think there's a lot of strategic value to the REIT status. And as we've mentioned, we were one of the first fiber companies to become a REIT. Subsequent to that, the rules changed that made becoming a REIT a little bit harder. We think there's strategic value to that corporate structure. Michael, on your second question, I wouldn't want to say whether we think the number of lead cable exposure will be higher or lower. What I would say is that less than 1% that we use, I think it's very conservative. I'll put it that way. So we feel like that's a reasonable way to think about it. I don't see us changing that exposure on a go-forward basis. I think your question leads to your last question about the mileage versus the percentage. We do have a mileage number that we've developed on our own and also communicated with Windstream about, and it's what leads us to believe that less than 1% number is conservative. But we're just not prepared to give that number publicly at this point.

Our next question comes from Frank Louthan with Raymond James.

On the comments on the delays on the enterprise part of the business, how would you characterize that? Is that just sort of normal things we're seeing everywhere else, where there are extra couple of levels of approvals? Or do you think there's any risk that some of these projects don't go forward? Any broad themes as to what's driving that?

Yes. Frank, I don't think there's any broad themes. I think it's really customer-specific. We ask that question repeatedly of our sales leaders and sales team and get the same response that you go down the list, and customer A's delay is for this reason; customer B, the delay may be for that reason. Similar to my comments about carrier spending being down for the year, I think a lot of that is specific to each carrier rather than an industry-wide situation. So it's an important question. It's one we consistently ask to ensure that there are not tweaks in the business that we need to make or changes in our go-to-market approach, but we don't think any of that demands changes in business or adjustments as you will. More importantly, to your point, are we seeing things fall out of the funnel in an abnormal way? The answer is no. In fact, the funnels continue to grow, and it's one of the reasons why we feel confident about the second half of the year and possibly trending towards the higher end of guidance on revenue because the demand is there; it's just a question of converting it to signed deals and getting it turned on.

Just a quick follow-up. Where are you on sales hiring this year? Are you finding it easy to find and retain talent or more challenging? Where should we think about growing the sales force?

Yes. We've made a lot of progress. I'd say our wholesale team, those are the well hunters, if you will, that team is fully staffed. On the enterprise side, I think as I mentioned, we churn people out of that team pretty deliberately. If they're not performing, we turn them out in a disciplined way. Replacing churn plus adding to the team is a constant focus, and we've got people entirely dedicated to that. Over the past, I'd say, quarter or so, we've made a tremendous amount of progress, and we're adding to that team in a very disciplined but steady way, contributing to that 15% year-over-year enterprise growth. The bookings are equally strong and the funnel is strong as well. It's a constant battle to find good talent, bring them on, train them, and get them up to being productive. I think we're very good at it, Frank, and excited about continuing to push that forward.

Our next question comes from Simon Flannery with Morgan Stanley.

Can you remind us whether 2025 is still where you expect free cash flow to inflect? And then secondly, can you speak to anything you're seeing with DISH? I know last quarter you mentioned they remained active, but are you seeing any changes there?

Alan, this is Paul. I can take the first question, and maybe Kenny can take the second question on DISH. But yes, the quick answer to your question is, yes, 2025, we still see that as an inflection point for free cash flow. And part of that is just continuing to execute on our growth plan, mid-single-digit growth. As Kenny talked about in his comments, that's very predictable, given our visibility to that is very good with respect to our funnel, our sales force, and the demand for our products and services and the breadth of use cases for our products and services. The bigger part of that journey to free cash flow positive is just the mechanics of our commitments to Windstream regarding the settlement expenses that fall off in the middle of that year in 2025 and GCI commitments starting to ratchet down over time while revenue from those GCI investments steps up over time. So that is positive for our cash flow and helps us to get to that inflection point so that's still our plan.

Yes, regarding DISH, we don't like to comment too much on specific customers with much detail. I would say, I mentioned earlier that we expected wireless bookings to be down 50% this year versus 2022. A big part of that is 2022 was a tough comp because bookings from DISH were so elevated in 2022, just getting ahead of the network spend that they needed to make. As a result, bookings there are lower this year. But with that said, I think activity with them remains robust and is really as expected.

Maybe one more quick one. Have you made any traction or any updated thoughts on your diversification away from Windstream or anything else we should be thinking about there?

Yes. I would just refer back to my comments regarding M&A. I think we continue to focus on it. It's a core competency of ours, and we've had periods of time where we've been very active and periods where we've been very patient. Right now, we're in the latter category regarding what the market perceives, but behind the scenes, we're very active, and that's always going to be the case for us. So it's a core competency, and we will continue to focus on it.

I'm showing no further questions in the queue. I would now like to turn the call back to Kenny for closing remarks.

Thank you. We appreciate your interest in Uniti Group and look forward to updating you further on future calls. Thank you for joining us today.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.