Bezeq The Israel Telecommunication Corp. Ltd (BEZQ) Earnings Call Transcript & Summary

Good afternoon, everyone. I'm Roberta Versiani. I'm part of the U.S. telecommunications team at Citi, and I'm pleased to be joined here today by Tomer Raved at our Global TMT Conference. Tomer is the Executive Chairman of Bezeq Telecom, and I want to welcome Tomer, and thank you so much for being here today.

Thank you so much.

All right. Let's get started. To start at a high level, you provided a few months ago a medium-term outlook through 2029. And I just wanted to ask what gives management confidence in achieving those targets? And which assumptions you view as the most critical to delivering on revenue, EBITDA and free cash flow ambitions?

So thanks, everyone, and thank you for hosting me. We made a significant strategic shift in the business 6, 7 years ago, and we're able to start providing 3 or 4 years guidance every couple of years. And so far, if you look at our track record in the past decade, we met or even beat every one of these targets. The way we have very detailed bottom-up planning, the way we structure our business and our budgets and also the investment cycle. So a lot of telecom companies, they get to end of the CapEx cycle, which is never ending. When we go into a project, we have very good visibility. First, because we are by far the #1 incumbent in Israel. If you think in U.S. terms, put Verizon, AT&T and Lumen combined, we have a much broader fiber network. And secondly, we enjoy the tailwind of Israel, small country dense country mostly concentrated around the main cities, and it's very easier to plan the cost per passing our CapEx cycle. As a result, we were able to really deliver on our results in the past 5 years, and we really believe in transparency to our shareholders. We don't have any controlling stake, 50% of our shareholders that global shareholders, mostly pension funds from U.S. and Europe and also Israeli ones, and they view us and I think that the right model for other telcos as well as someone who is able to deliver sustainable results for the long term. We married that with growth because we are able to invest in the network and really create a fiber network and a 5G network that is ready for the next 2 decades in terms of capacity -- capacity and bandwidth and we have very good visibility on the strategy to converge customers from the old network to the new network from copper to fiber, from 4G to 5G. And you've seen consistently every quarter, the growth in ARPU as a result, the growth in cash flow and the decline in capacity over the past year, which really allow you to see what the right KPIs to deliver our $3 billion revenue target for 2029 married with $1.5 billion, almost $1 billion EBITDA that translate into a double-digit growth in free cash flow. And that does not include any new strategic initiatives and other merger that we talked about that are currently in planning. This is the base case. The base case for with double-digit growth in free cash flow with 80% dividend payout and incremental buyback that we've started in the past year.

Very helpful. We're going to talk about fiber in a little bit. But before that, when you think about EBITDA growth specifically, what are likely the biggest drivers over the next few years. For example, fiber penetration, fiber-related ARPU, mobile growth, cost efficiencies, where are you seeing this growth coming from?

So if you look a few years back, we invested a lot in efficiencies and our business is a lot more efficient now with still some operating leverage, but we operate at a 45% EBITDA margin with 60-plus at fixed line divest. So pretty healthy margins. But still, we continue and we did communicate this number to the market. We expect additional 14% reduction in headcount over the next 3 to 4 years, which would allow for flattish salaries, expenses and as a result, the growth really trying to go to the bottom line. And you asked about what the levers are. The levers come mostly from a fiber take-up. We have 90-plus percent of the country already rolled out with fiber to the home, the fact or done with the country. And when you have more than 3 million households, the main bouquet take up. With today around 35% take-up, we are targeting to reach 43% take-up on our fiber network. And it's a growing network given that Israel is the largest or the fastest-growing population in the OCD. First, in terms of population. And second, in terms of GDP per capita, you have the strongest macro tailwind you want for a telco and for a financial services firm to really rely on the growth even without gaining incremental market share and staying where we are today, we will reach the 43% take-up in the next 3 years. And at the same time, we're targeting ILS 150 ARPU, which is $50 ARPU per household, we're already now at 142. So historically and also going forward, we are very confident and, to some extent, even conservative on where we're heading from the KPI perspective. And these are the main levers to generate the single-digit, mid-single-digit EBITDA growth, and we can probably do more than that.

Great. Okay. Maybe staying on the topic of growth. Let's talk a bit about the competitive environment. How are the competitive dynamics evolving across fixed broadband, mobile and TV? And how do you think that affects your medium-term targets, if anything changes in the competitive intensity.

So infra wise, infrastructure-wise, the fiber network in Isreali more or less established one nationwide fiber player, which is us. There's an alt-net that covers 65% of the country, and that de facto. So in 2/3 of the country, you have 2 players and the rest -- the other 2, you have us with 100% market share. But the fact that you have 2 networks, competing healthy competition, but with long-term agreement to most players so you know who plays in which networks for the next 25 years. In terms of retail broadband, we have 4 players. We are the largest one. And the two, that #2 and #4 are also writing our networks to have an investor. It's a competitive market. But given the ongoing conversion from copper to fiber across the market and the fact, an expensive country with relatively low telco costs, the willingness to pay for the higher bandwidth, we started with 100 megawatts 5 years ago. Now 90-plus percent of our customers are 1 gig plus, and we already have more than 15% of our customers at north of 1 gig to 1.5 and 5 gig download speeds. That gives us comfort of the willingness to pay because each incremental speed is additional 15% to 20% of ARPU. Mobile is probably the most difficult segment in Israel. You have 4 MNOs, tree networks and 20 MVNO. It's also the Israel the lowest ARPU for solar on the planet with sub-$15 for unlimited package, very cheap for an expensive country. That continued to be the most difficult place to compete with and that's an area where cost cutting is more important, but every second in ARPU go directly to the bottom line. So [indiscernible] ARPU and solar derive roughly $10 million in EBITDA, speaking about EBITDA levers. And as a result, we're focusing on normalizing and playing more rationale in the competition around cellular. The change in ownership, we are now seeing the 3 main players already have private equity or private equity like owners. The fourth one is now change hands, which is, by the way, an subsidiary. And that's where you hope you'll see more rational behavior in terms of ARPU play, in terms of go-to-market and not continue to drive ARPU like you've seen in the last 10 years ago. The last topic, which I think is similar to the rest of the world is TV. TV is competitive. We have -- we're the #1 IPTV player with the best content. We've seen some consolidation and some content sharing on that front. But it's eventually TV, the tool to sell broadband. If you can lever that the right way, we should be in a good place.

Very clear. Looking -- staying a bit on the topic of mobile, where do you see the biggest opportunities growth despite all the competition? And where do you think it's mostly going to come from, for example, market share gains or customer usage because it's growing everywhere migration to premium plans, how is your pricing power in the market compared to previously?

So surprisingly, although the mobile market is very competitive in Israel. You don't see significant shift in market share. And the market is growing very fast. That's 3% per year, even more, given the population growth and we've given the need for IoT and additional connectivity, Israeli the very fast to adopt tech-enabled products. So you have more than 1.5 average per person in terms of SIM cards. And so we see the mobile market healthy, we see high single-digit growth in EBITDA. You've seen some bumps with roaming given the regional conflict, but overall, the mobile market had a lot of opportunities, given, again, each check in ARPU did not require incremental cost. So the more usage you see to 5G and probably in the next 5, 6 years, even 6G. There is a significant opportunity to use the existing cost structure with the existing spectrum fees to grow very fast. It starts and ends with rational regulator, which I think we have today on mobile and with rational competition. And we may see eventually like we see in Europe consolidation. So we started seeing some consolidation. We just announced the #2 player by #5. We are very close to completing this transaction. And I believe that in the next 3 to 4 years, we will receive more and bigger consolidation in the market, whether it's been driven by us or by others, we will definitely see that.

Okay. Great. Interesting. Let's talk about fiber. It has been a key pillar of your strategy. So let's spend a few minutes here. You have more than 3 million homes passed and an ambitious target of take-up rate. And how should we think behind the scenes about your go-to-market strategy and which initiatives do you have or you're working on right now to reach this higher penetration in the medium term?

So Bezeq was late to fiber, right? The market started selling fiber gradually between 2015 to 2020. We had some debate with the regulator. When we launched the entire market realized pretty fast. We are the leading player and we became #1 in less than 2 years. Fiber is the present and the future of fixed client communication, especially in a country like Israel, where it's very dense, you can get with fiber to the home to every single household in cost per passing that if in the U.S., in New York, it $1,000 per passing. And in the rural area, it's $15,000 per passing. In Israel, the average cost per passing is $150. Give you some context on ROI. And as a result, even with $50 ARPU, you can make significant ROI on fiber, both on the consumers on the B2C side, on the private sector and also in the business sector. We have very significant market share in the business sector. We sell a lot of value-add services, speaking about go-to-market in the business sector. And we also, on the private sector, sell a lot of complementary products like routers and boosters and additional smart home solutions. But the ARPU strategy needs to start with managing the right speeds, being able to invest the CapEx ahead of time. So we upgraded the core network to allow the network and to ourselves to service 25 or even 50 gig per household. So you tell me when you think you need 25 gig down long at the home, at least 10, 20 years? We are ready for that. And this fiber strategy, which started with terrestrial and we will talk about it later in the discussion, really evolved into a more regional play, given we really developed one of the strongest fiber ecosystem in Asia, all terrestrial, all on the ground, and that complement not just the needs of data centers, NVIDIA, Google and Microsoft at putting it out of AI training center in Israel, eventually all of them need fiber connectivity. We have the DUCs, we have the conduit and we have the active network on the back end and the front end to basically serve this entire ecosystem.

Very helpful. You talked a bit about the Gig Plus customers. How do you see this potential opportunity for continued high speed tier -- higher speed to our migrations over the next few years? Do you think it's something that's going to continue now people think 1 gig is enough and then it becomes like 3 or 4.

It's an excellent question. Look, the usage of data in context globally is doubling itself every 3 years. And people talk about 2 to 2.5 years to double the data consumption and broadband needs pretty fast, right, when you think about compounding. So in 8 to 10 years, we're talking about 10x. And as a result, the fact we really put in $3 billion of tax over the past 5 years to bolster the network we can manage the right supply demand, mostly demand the right way. So when we launched 1 gig for -- 5 years ago, 90% of the package I mentioned earlier were like 300, 600. Now we're talking about everyone asking 1 gig and more. And I expect that you'll see probably closer to 50% of our customers with north of 1 gig in 3 years. Luckily, the network does not require incremental CapEx to support that. So that, I think, answers the right. And the fact that you can really charge an incremental 20% in ARPU for each speed level really helps. We do not have symmetric speed in Israel. So you do 10% of the upload or any 1 gig of download. So 1 gig is actually 100 megabytes in terms of upload. So when we sell 5 gig, we sell 500 of upload. It's also another customer behavior strategy to help manage the network demand.

Very interesting. Great. Shifting gears to capital allocation with leverage of roughly 1.6x net debt to EBITDA. What are you currently evaluating in terms of investment opportunities beyond your existing business footprint?

So we published a very nice pyramid of how we manage our capital allocation decision. And yes, we have, I would call it, optimal leverage and very strong balance sheet with 1.6, 1.5 net debt-to-EBITDA, historic load for the group, but really gives you a lot of flexibility. So first, we focus on the maintenance CapEx, which has been declining, but it's roughly $500 million a year of maintenance CapEx. The decline come mostly from fiber because we finished the project, deploying the country. And the cellular CapEx stays elevated because we continue to deploy more and more towers on different spectrums. The second layer is really growth CapEx, right? So we focus on high-return projects, mostly organic and some inorganic. As I mentioned, buying solar companies, buying cloud-related companies and also investing in new initiatives like subsea cables, which I will elaborate in, but we have a lot of flexibility to do both organic and inorganic growth CapEx initiatives to make sure we further further grow net income and free cash flow yield as a result. Our threshold for are very high given the almost double-digit free cash flow yield to trade in. Then eventually, we see -- and we started with the debt management, but we really like where we are from a leverage perspective, even if we go towards the 2x levels, we've seen in a very, very good place. We're focused on shareholder remuneration. So dividend and buyback, we are very constant on our 80 -- consistent on our 80% payout, which we've seen in growing DPS because net income it's growing at 8% -- to 8% at least based on when go-for guidance. So you have an 80% payout, 8% growth in net income, 10-plus percent growth in free cash flow. And given we -- our free cash flow growing fast, the net income, we started doing also buybacks. So you have the combination of all of these pyramids, that's how we make capital allocation decisions and so far, it's working. But you see us doing more both on the DPS growth on one hand and also on the M&A front as we started doing in the past couple of years.

And within organic investment versus M&A opportunities you just mentioned, what do you look for? What are your future -- what would be your goals with the upcoming -- with upcoming -- any possible upcoming M&A or -- that compared to your own organic investments? Where do you see opportunity?