Dycom Industries, Inc. (DY) Earnings Call Transcript & Summary

Good afternoon, everybody, and thanks for joining us. I'm delighted to introduce Steve Nielsen, CEO of Dycom. Steve, we've met with a good portion of the industry in the U.S. and globally today. They've all outlined grand ambitions for infrastructure deployment over the course of the next few years. And at least for the guys in the U.S., you're going to be doing a lot of that deployment for them. So the future of gigabyte America rests on your shoulders or the shoes of you and your team more or less more pressure. No pressure.

Yes. And Jonathan, before we get started, just remind everybody that during the course of this conversation with Jonathan, we may make forward-looking statements, which are subject to risks and uncertainties that are more fully outlined in our SEC filings, which we always recommend, everybody review. And with that?

Excellent. So with that getting to the matter, Steve, I'm wondering if you can start by giving us a perspective of what the capacity is for deploying infrastructure in the U.S. at the moment? And how that has to expand to meet with demand over the course of the next couple of years. So the sort of the rough estimates that we've got are in 2021, we got close to 5 million homes passed with fiber. That doesn't quite double on our forecast over the course of the next couple of years, but it goes to somewhere north of 9 million. What has to happen in order to meet that kind of demand.

Yes. And Jonathan, we've been through these kind of cycles before, just to kind of help frame the numbers that you just referenced, we were very early and involved with Verizon and their FiOS program, where over a 2-year period, they went from 0 homes passed per year to 3 million homes passed over a 3-year ramp up of a program. We're also heavily involved with AT&T under their DIRECTV fiber commitment build. And again, they went from about 1 million homes to almost $4 million. So there is a history in the industry that says you can create capacity. Now to your point, it hasn't been at the levels in aggregate that the industry is forecasting today. And I think what's important there as always, is to make sure that we, at least as a company, what we focus on is make sure that we're mapping the resources that we have and the capacity that we can create to where we're best suited to serve the customer and get decent returns for our shareholders. And so what historically has happened in these situations is that there's the economics available to grow the capacity will create supply over time. I was looking through yet comments from one of your speakers earlier, who's one of those customers who we've known for a long time. And there are parallels in the wireless industry, there are parallels in other industry. That none of that says it's going to be easy. People are going to work really hard. But as long as we get the -- make sure that the economics are attractive to other resources that we can pull from other parts of adjacent industries, I think with enough time that this work gets done. I mean, I can remember being asked by somebody, how in the world is Verizon ever going to get to 3 million homes a year. They worked hard at it. We and a lot of others worked hard to support them, and they got it done.

So I think what makes this a little bit different this time around, Steve, it's just that telecom isn't the only area where we're seeing big investment and infrastructure, there's sort of a construction boom going on. Is it $1 trillion of federal funds on its way into infrastructure projects just generally? And I'd love your perspective on whether that makes getting the labor you need more challenging this time around or whether it's the same kind of problem that you solved before, and you'll solve it in the same kind of way? Maybe a little bit different in magnitude but not that different at the end of the day.

Well, look, the magnitude is significant, right? I mean we've been doing this a long time. You've been in the industry a long time. I don't think we've ever seen an alignment of customer strategies focus on one network access technology as much as we've had today, right? So even back in the days of FiOS, there were VDSL alternatives, there were other ways that customers were dealing with it. So clearly, it's a magnitude bigger demand. I think the good news for our industry is that it's perceived to be an attractive industry. And one of the reasons we like it is that when you have talented people that you can attract that we have the ability to create capacity, say, of fiber optics placers in 12 to 24 months. Now that doesn't mean every one of them learns the trade that quickly. But if you're talented and you're able to learn quickly, you can make a very competitive wage. And I can remember in the late '90s in a similar period of time, the craft labor in our industry was earning more than in adjacent industries. And so we really -- we're the folks that we're pulling from other adjacent spaces just because of, one, the long-term profile. And two, the ability if you're talented to herd a very competitive wage. So that's one of the reasons we have stayed very tightly focused in this space is that you do have the ability to create through your training schools and through the use of other folks training schools, the ability to create capacity in a period of time that our duration is a little bit shorter than some of the other industries you might compete with.

And Steve, you're in a phenomenal position in that you have insight into the entire process. You do everything from planning through zoning and permitting, all the way through deployment to maintaining these networks once they're up and running. Is labor the major bottleneck or the only sort of real bottleneck at the moment? Or are there other bottlenecks in the process?

I think the challenges in this process have always been those third parties that you need either permission from or cooperation with core support. So if you think about the type of time lines that our customers want to -- from A to Z get a project built. The portions of that process around permitting, which depending on the portion of the country you're in, can be county level, can be village level, could be state level, it could be -- if it's federal DOT. Those are always the parts that are of concern to us because you have to persuade those people to deliver as opposed to being able to do it yourself. And then I think that it's a prosaic part of the industry, and we have about a $250 million, $300 million business ourselves. But when it comes to barring construction, just making sure that the 811 process can keep up with the pace of deployments. I mean these are really big deployments where in a particular geography. You might be deploying 30,000, 40,000 feet a plant a day, 50,000 feet a plant a day, and that creates the challenges around third-party support of that, that can -- even to the point of municipalities, making sure that from a traffic control perspective, it might be helpful to our process to put 200 people in a town with 8,000 people and get in and get out. But if you want to get to work every day from a traffic control perspective, that could be a challenge on the local municipalities. So it's really that surround the ecosystem that I think is underappreciated sometimes as part of the challenge.

And is that surrounding ecosystem putting capacity in place at a fast enough pace for that not to be a sort of another major bottleneck in the process of the sort of the states and local authorities expanding their capacity fast enough?

I think, Jonathan, again, at the beginning, nobody ever goes as fast as you'd like, right? Everybody say "what if we patch a quant and get it." But with customers who are incumbents in those geographies, you have relationships with those municipalities and states that you work at it every day, and it's a big flywheel and you try to -- that first revolution steams really hard. And the second one goes a little faster. And then over time, you build up a cadence to the process that will support levels of deployment that you might have thought 6 months or a year before you'd never get to.

Got it. Steve, given that you've been doing this, you did the first big deployment in the U.S. with Verizon and we're sort of 15 years later going through the next big wave of fiber investment. Give us a sense of how the process has evolved? Have parts of it become more automated? And how does it evolve from here?

Yes. So I think a couple of things are evident. So it's -- the construction technologies around fiber optics splicing and aerial placing, some of that's gotten better. There are some new innovations even coming out now, particularly for products that are suited to load entity rural America. So there are certainly some changes there. What I would tell you is the overall complexity of the process in terms of the managing of the supply chain issues, the permitting, the locates, all of that has created much higher levels of demands for program management or even -- so that we're working together with customers around objectives that are more like this month, we need to get 30,000 homes passed in this state, not this month, next month. How do we work on that together, where in the industry that was from the carrier perspective, kind of more resourced 15 or 20 years ago, they tended to do more of that type of planning and project and program management. internally. And so we were more of a task-based organization where now we're sitting there going, together, how do we get this program work this year. And I think that's evident just in the folks that I've seen on your agenda today, I mean these are strategic programs where the highest level of the engineering and construction organizations. These people are really focused on getting plant deployed in line with their overall company strategy.

So as you think about some of the innovations and the technologies that have come into the deployment process, Up until recently, when we ran into labor market constraints, did the cost per mile come down over the course of the last decade?

Yes. I think historically, as the industry work was able to incorporate the learnings out of kind of, what I'll call, first-generation fiber deployments. I think costs were relatively stable, if not declining because on the equipment side of the business, and we don't generally supply the equipment, but I remember ONT, first generation ONTs, maybe you remember the number, something like $300 to $400 a piece. So every time you hooked up a new subscriber, you had a pretty substantial investment just in electronics. I'm told those devices today are some $100, right? So -- and if you think about it, that's a huge driver of return, if every connection is a couple $300 cheaper just from an equipment perspective. So I think the industry over time has figured out how to get more productive, how to learn, how to manage these projects better. I mean, clearly, from a macroeconomic perspective, we're dealing with levels of cost inflation that we hadn't necessarily seen in prior cycles. So there's a little bit of pressure there. But making sure that you have a steady cadence to the project that once you build momentum, you don't lose it, that's still probably the most important driver of our cost and customer costs is just the ability to -- for lack of a better metaphor get the boat on plane and keep it there instead of starting and stopping.

Got it. And so I recognize that we've got a sort of -- this got a -- the industry has got to go through a step function change in deployment capacity. And once as you characterize it, the boats on plane, keeping it there doesn't require incremental costs going into the system. But in getting from here to there over the next couple of years, what do you think, is there a way to estimate how much the cost per mile might go up, what the inflationary impact would be on deployment cost?

I mean, Jonathan, I think it's different for every customer. We're always ready to talk about that in this setting. We're happy to discuss that with customers. I think what I would tell you, though, and I think I've seen that some of the notes I've read about your other presentations today. If you look at, say, for example, AT&T at their Analyst Day talking about penetration rates at kind of 24%, 12 or 15 months out, then if you think about terminal penetration rates and the duration to get there, if customers are getting there quicker, if the deployment process is actually helping them get there -- get higher penetration rates and over shorter periods of time. I think that means there's still plenty of economics in order to build the capacity that customers need. And I'm not commenting on any individual customer but customers in aggregate, when you're building a 30- or 40-year asset, if it takes the industry another year or 2 to get to where they thought, I think everything still works out fine. Not that we're talking about any individual customer.

Yes. And I think that's been a common theme amongst the conversations that we've had with your customers today that there's not a lot of doubt about the endpoint. Just a little uncertainty about some of the sort of the near-term, intermediate-term targets, but it's just a matter of time...

I mean, Jonathan, what I would tell you is, and I justed this metaphor off from FiOS, which is Wall Street would sit there and try to figure out when the QE2 is going to dock in London based on the speed with which it leaves the dock in New York. What I would tell you, if it gets to London, it goes under the Verrazzano bridge. And yes, there's a little bit of information. You can learn at the very beginning, plans are strategic. The ship always gets to London.

Yes. Got it. That makes -- that's a great analogy actually. I think I may borrow that going forward. Steve, I'd love to get some insight into your sort of contracting process. I assume your customers want as much certainty as possible in terms of resources and cost. And you're operating in an environment where there is sort of variability in your cost? How do you manage those 2 sort of competing demands in the process of constructing contracts?

Yes. I think the first part is to make sure where you engage with the customer is, an area where you have a high likelihood of succeeding for that right? So don't -- make sure that you sort through your opportunities in a way that will be helpful to the customer, and when helpful with the customer that typically means sufficiently rewarding for investors. And so one of the ways that another metaphor, which I tend to use metaphors is, in an industry environment with as much demand as there is now, to use a baseball metaphor, you want to send your batters to the plate thinking slugging percentage and not batting average that you want to make sure that the resources that we have are committed in ways that we can be most impactful for the customer. And so in a period of uncertain times, first places don't get distracted, don't spend time in areas where you don't have fundamental cost advantages. And then the second thing is to just be open with the customer around the effects of the current inflationary environment on the industry. And the good news is, in an environment where lots of customers are trying to get lots of work done. Not only are they hearing that from us, they're hearing it from the marketplace. And so -- and yes, we do a lots of work for lots of folks, but everybody always wants to hear it validated by the market. And I think that's clearer today in the industry than, say, even 6 months ago, that the people are hearing this. And so it's a question of how do we work through this together to make sure that the plants get built.

Got it. Got it. So sort of drilling into the economics or sort of not the economics, but where the cost goes on these builds a little bit. If we were to pick an industry average cost to pass a home of $1,000, how much of that would go to a company like Dycom versus be covered by the company internally? And then with the piece that goes to guys like you, Steve, how is that broken up between labor and other elements?

Right. So as always, it's a complicated -- a simple question with a complicated answer. The first thing you have to think about is, of your $1,000 a home pass, and of course, there's an assumption around density, right, because the cost of building a network, people typically think of by the foot or by the mile, right? So your homes passed is always is a calculation of that cost per mile divided by the number of homes per mile. And so the first cut is, is it aerial or buried, right? And what's interesting is, oftentimes, those 2 variables go opposite of density. So think about a townhome condominium that is bearing plan, you probably have an expensive cost per foot to deploy the plant, but because your density is so much higher, your cost per living unit is actually relatively low. But so the first thing is we think about aerial or buried, and then we think about those customers where we supply a portion of the material and those customers where we only supply labor. And if we're only supplying labor, and this is just kind of an industry rule of thumb, it could be 50% of that passing. Now if we have a client that for whatever reason, has historically done the aerial construction themselves, then our cost may be $1,000 a homes passed on to bury but the overall average holds true because the customer is self-performing the in-house. But what I would tell you is there is a trend over the last 10 years where we have more customers that are considering us supplying material, more customers that are looking at work on a turnkey basis so that we're providing engineering and permitting services. And so I would say the addressable portion of that $1,000 average is higher today in this cycle than it was in the past.

Got it. And for a customer that's paying you for sort of soup to nuts, everything from planning through construction management, the -- how would the sort of the allocation of cost breakdown between planning, design and construction. Is it sort of substantially...

Yes. Construction, again, if it's buried construction, the construction could be 80%, the material could be 15% and the incidental engineering and permitting. If it's overall, I think -- and once again, the customers would be the experts here. I think you think about material as 25% to 30% of the total cost. And we don't know that would be for conduits and cables and splicing equipment and those things. In a pond system, the equipment is costly, but not as costly as it used to be back in a more active electronics days. But yes, I think roughly 25%, 30% would be materials, the physical elements of the network.

Got it. And Steve, given the demand that you're facing, presumably this is an environment that you have pricing power. Does that mean rising margins for Dycom over the course of the next couple of years?

Yes. So look, that's always an interesting question. And from a customer perspective, the way I think about it is the margins -- we worked for folks for decades. So we're not looking in some particular supply-demand environment to sit there and say, "Aha, now we've got an opportunity to have better margins." What I would tell you is that typically, we've seen better margins where we have good operating leverage. In other words, where a number of customers are growing at the same time so that we're getting better utilization of our existing assets and footprint and also that there are risks associated with substantial growth, and we've got to make sure that we've got the right economics to support that growth because it doesn't do anybody any good if we're growing and not delivering to customers because we're not managing the business well.

Right. So one of the areas that -- one of the sort of the elements of demand is going to be federal funding through the RDOF program, $42.5 billion coming to market potentially, we think, driving fiber to 14 million homes. So a bigger deployment than anybody except maybe AT&T at the moment, a bigger source of deployment. You've got great insight into a couple of elements of this process and that you've sort of know better than almost anybody what capabilities the states have to process all of that funding. And then also better insight than almost anybody into the costs of getting fiber to the last 14 million homes in the country. And so my 2 questions are, there's $42.5 billion plus some funding here and there from states and other sources close the broadband gap? Does that get fiber to the last home in America? And secondly, to what extent do the states get up to process that kind of funding? And how long do you think it will take them to get there?

Yes. So it's interesting, Jonathan. I've not heard your 14 million homes number. My number might be a little bit higher. But I think we're in the same ZIP code. And to magnify the scale of the opportunity is, remember, if we look at RDOF as a predicate. Some of the RDOF recipients are in the neighborhood of $4,000 to $5,000 a home, right, in order between the capital, the matching capital and the FCC capital. So if you think about, let's just take it on the low end at $3,000 a homes passed at your estimate of 14, that's the equivalent of 42 million homes in the rest of America. So if you think about it, it's -- if you aggregate the plans that the investor-owned participants in the industry have at, call it, 40 million or 45 million, your example of 14 is about the same size program. Now what I would tell you, and I look at RDOF as a predicate, and I have no idea how the states will structure these plans. But I believe the federal statute calls for a 25% match from the recipient. I think it's going to depend like RDOF what people figure is the density of these network deployments and what their eventual penetration rates are. And it would not surprise me that there would be a competitive process that might generate more matching from private players based on the predicate of the RDOF. And so I'm not -- never saying that we'll ever be done because we never seem to be. But I would tell you, compared to the broadband stimulus of 2009 that we did a fair amount of work on and other state programs, the CAF, that we did a bunch of work on through the ILECs. I think this one has got a more likely than not probability that it's going to really make a dent on bridging that kind of rural-urban suburban divide that we've been talking about for 25 years, but have never really fully funded.

Steve, I'm afraid we've run out of time, but this has been awesome. I really appreciate your insights today. Thank you very much for joining us.

Thanks for you time. Good conference.

Thank you.