Gogo Inc. (GOGO) Earnings Call Transcript & Summary

Phil, I see you now. Can you hear me?

Yes, you're on. So I'm not sure -- sorry about that.

Given the current environment, can you start by talking about what Gogo is doing to address the pandemic across customers and employees?

Yes, sure. It's a tough time for employees at Gogo, and they've had to make a lot of sacrifices. The pandemic has impacted us a great deal. We've tried to communicate to employees what the issues were as they arose, described the process we were going to go through to make decision taking about how to -- what our operating plan would be in the COVID environment, and engaged with a lot of employees in building the plan. But as you know, last week, we furloughed about 54% of the company. We've had pay cuts for basically everybody else in the company. So there's been a lot of sacrifice there. I feel like the company has responded well, and employees have really responded well and been supportive, which has been terrific. In easier ways, we've had to adjust in terms of our production operations. Obviously, we ship kits out to airlines, we ship kits to OEMs in the private aviation space and the MROs, et cetera. So we've had to have social distancing in our production operations, new safety protocols, multiple shifts to make sure we have redundancy and all that. And then we've had skeleton crews in operating our labs to keep equipment up and running while people remotely work on developing software and that type of thing. And then the rest of the company has been on work from home. We got over 1,000 people communicating like this, meetings all day, every day. And I think the team has done a great job staying connected and staying aligned, and I'm really proud of how everybody has done. In terms of customers, obviously, our airline customers are going through dramatic changes in August, and their priorities had to shift overnight. So we've tried to support them as best we can. We've worked with them in ways to save both of us money. And the biggest area for that has been around installations. As you know, historically, we've subsidized a lot of equipment in our older deals. We still have a lot of those deals around. So there's a cost of actually installing gear on an airline for us usually and also a cost for the airline. So as they're trying to preserve cash, they really wanted to push these installations out. It's also worked for us. So we've been working with them to do that. We have very few installations now scheduled for the rest of the year. And that, in turn, we had to go back and work with our suppliers because, obviously, we had outstanding POs and the like and rework our supply chain in order to bring our purchases down to meet the production and installs. And we've done a good job of that. We've taken about $80 million of purchases out of the system and of course, we lost $40 million of sales to the airlines. So the net benefit of that has been $40 million to us. But that's been a good cooperative effort. And we're talking to airlines about other things as well, but those -- that's the main thing.

Okay. You have talked about the need for consolidation in IFC for quite a long time. On the call yesterday, you said you believe COVID-19 accentuates the need for consolidation. Does it still make sense for IFC providers to come together? Or there's more value in vertical integration?

That's a great question. I think it's some of both. If you really look at what IFC customers want, right? They want a global coverage. They want -- and if you want global coverage, they want a very high-quality session, higher quality than we have today. They like low latency because of the -- low latency will bring much speedier service. Today, we go via GEO satellites. That's a long trip for the radio waves to make, and deliver something that's very real time. So they want low latency solutions, et cetera. And they all want it all cheap, airlines and customers, passengers want cheap, very high-quality service with great coverage. And frankly, the only way to do that is by being a much, I think, bigger company than any of us in the industry are today. And I think that means some horizontal integration in order to bring scale because if you've got to have a global network, you've got to fill that with a lot of airplanes. And I think some vertical integration, frankly, to take the friction out of the operator and service provider, different layers in margin and technical inefficiencies that happen between those layers that we have today and it'll bring more efficiency to the system and lower cost and higher quality to the customer. So I think things need to be bigger, both horizontally and vertically, ultimately.

Okay. And do you need sort of new equity to come into the space to make that happen? Or do you think there are potential deals among all these different partners despite the pressure everyone is under?

I'm not sure there needs to be new equity coming in. There may need to be. But there are some people that are getting C-band proceeds, for instance, there are others that have other sources of capital coming into their companies. And frankly, if you take the right cost out quickly enough in a combination, you might be able to have a more cash flow positive entity as a result of a combination.

Okay. You did a strategic review a few years ago but didn't strike a deal. What were some of the things you considered but rejected and might make sense now?

I think at that time, ultimately, it was hard for a potential -- well, first of all, there were 1 set of players who wanted to just sort of buy us cheap, and that was the end of any upside for our stockholders. So we didn't really want to do that. Today, well -- our optimal solution would be -- in our CA business would be a combination where we had a meaningful role, our stockholders still had a meaningful role in the upside of IFC because we believe in that upside long term. That would be an entity that had financial security, so it was well capitalized and that -- where the combination brought some kind of product advantage like low latency or something along those lines. So back then, we didn't really find that type of a combination. There were either billionaires that wanted to buy us outright for cash, cheap, and that didn't fit our needs. And then there are others that looked at us. We still have a lot of operational issues and a lot of other problems. You'll remember we had the deicing problem back then, and so there were some very existential quality issues around Gogo that I think caused others to have pause about doing a deal at that time.

Okay. And how much control do you have of the M&A process? Do you need someone else to make a decision and move first? Or can you really execute this?

Well, I think we need counterparties, obviously. We could -- in any deal, you need counterparties in this industry anyhow. So we're not going to go out on our own and launch hostile takeovers or anything like that. So we're talking to a variety of parties, and we'll see how that develops.

Okay. What kind of synergies could we see in a horizontal merger?

Horizontal, the big play is that you get better capacity utilization on your satellite capacity. I mean that's the biggest issue. The way the industry is structured now, the capacity utilization is horrible. You've got these peaks, you've got times, you've got satellite sitting there with nobody flying under them and yet you're paying for it. So that is a real diseconomy of lack of scale, if you will. So the more planes you can get flying underneath your network, the better.

Okay. So that makes sense to me, but one of the things we talk about is splitting BA and CA. Obviously, there would be dis-synergies of scale there so how do you think about the potential for that?

Well, the only dis-synergy really is use of the ATG network. Most of the BA planes are on the ATG network today and the regional aircraft at the major airlines are on the regional -- on the ATG network today. So if you split them, you'd have to have some kind of service agreement between the 2 companies, whereby the BA business provided ATG services to the Commercial Aviation business. And that's the way it operates today. I mean BA -- ATG network lives in our BA business. BA charges CA for megabytes at a market rate, and that seems to work fine. So I think we're going to want to probably move the regional aircraft with the Commercial Aviation division because of the account relationships and how that works. But the service could always be provided by the BA business.

Okay. You said something earlier that struck me. Customers want cheap, high-quality broadband in the air, which sounds great. But is there a willingness to pay for what this cost to create? And do the airlines value this enough that they will maintain this even if cheap and high-quality don't necessarily go together.

Well, I mean, 1 of the issues in the industry is industry structure and the airlines, in the U.S. anyhow, they're very concentrated. It's a very concentrated market, and they have a lot of negotiating leverage. So they're going to drive cheap, no matter what. And the problem is that they're want cheap, they kind of want ubiquity and they want very high quality and much higher quality than we deliver today. And when you think about the real growth future, it's not only passengers, it's operational applications as well. And frankly, a lot of those, you really need high-quality connectivity. So I think that there's a lot happening in terms of the satellite technology out there in terms of NGSOs, et cetera, that are going to improve the quality a lot. And at the right scale, you can deliver that quality much cheaper than you can today. So I think we can get there. Yes. I think it's a combination of NGOS, and a lot of capacity -- I'm sorry, a lot of scale in terms of the company that has enough aircraft to really adequately utilize the network and do so with good capacity utilization. And that means probably spreading that utilization over multiple verticals because Aero flies at certain schedules and other verticals are on different schedules, you really got to optimize your utilization, I think, probably across multiple verticals, which means you got to be a big company that can attack multiple verticals. That's a vertical horizontal -- that's a vertical integration plan.

If we look out a year or 2 and M&A hasn't happened, you've outlined some sort of best- and worst-case scenarios around liquidity and solvency. Number one, if we look out 2 years and M&A hasn't happened, what do you think was the reason for that? And then let's get into what those sort of best- and worst-case scenarios look like.

Well, I mean, the reason for that could be external factors, right? There's so much going on in the satellite world right now. What could happen with C-band being just 1 example. There's a lot of drama around the financial condition of certain satellite companies. So a lot of those things could interfere because it could change the balance of power, if you will. So I think that would be probably -- those would probably be the biggest reasons. Obviously, there's just people can't come to a deal on valuation. I think that valuations are kind of relative right now. Everybody is down. So as long as you can sort of hold your nose and accept that you're down and they're down, you probably can get a deal done. But if people can't hold their nose, they might not be able to get a deal done. So those would be the reasons, I think, that things might not happen. And then the second part of your question, Phil, was what's it look like if nothing happens?

You talked about some scenario analysis really on a stand-alone basis yesterday. Maybe go into what the underlying case is in that sort of best- and worst-case scenario and the company's solvency and liquidity in each of those.

Yes. So we -- first of all, we developed best- and worst-case scenario starting about 8 weeks ago. And life keeps changing pretty rapidly. So those scenarios have moved, and we keep moving them because if you don't dynamically do that, you're going to lock yourself into something that's not going to work. So we have enhanced them as we go. And best case, we figured things were down. We had 8 regions around the world and in most of those, traffic was down about 90%, and that lasted for 2 or 3 months. And then it crawled back to about 90% early next year. That's, I think, too optimistic right now. Our worst-case was that we actually had total ground stops in the U.S. for the months of April, May and for the Rest of the World through June. And at the end of those ground stops, traffic would pick up at about 20% of its former level. And then grow slowly back up to about 80% mid-2021. So those were the bookends we originally started with. Since then, we've pressure tested a lot of other scenarios as well. And we keep testing them because new facts keep coming in. So now in the best case scenario, yes, our plans are to save about $170 million. And in the worst case, we feel that we can save about $330 million. And we've identified where all those saves are. We've executed on about 75% in terms of either they're things we can do ourselves or we have counterparty agreement on those things. The purchases and installations being just like 1 example of that. And we'll just see how things go in terms of where traffic is going to go in terms of determining how far we go in pulling the various cost levers we've got to save up to the whole $330 million.

Okay. And yesterday, you talked about getting to breakeven free cash flow in '21, even under your worst-case scenario, I think you said, is that right?

Well, yes. I mean, it's nothing we're terribly proud of. But to be honest, the cost reductions, if we don't see traffic start coming back later this year, the cost reductions we make are pretty draconian. And even with very little revenue and with the profits coming from our BA business, we'd be modestly -- very modestly cash flow positive in '21.

Okay. And are you still targeting positive cash flow in sort of a much better case scenario? Does it make sense to still get yourself to cash flow if things are coming back that quickly?

Well, no, we probably wouldn't be cash flow positive in a better case because we'll be doing more installs and other things, and there'll be more investment. But our longer-term prospects will be better. So we think that will be worthwhile. And it will be close, too. It's not that far off.

Okay. You've applied for $150 million loan and an $81 million grant from the CARES Act. What's the best argument for you to receive some government support? And why would you not?

Well, this is all about jobs, not about saving companies, and we'll furloughed 54% of our staff. And if things don't go well in the airline industry, those furloughs may have to turn into RIF. And so with that money, we wouldn't have to -- we would bring back the people on furlough, we could restore people's salaries because we've had a salary cut across the board for those who weren't furloughed. And we would not have to go into RIF. So that's the argument. And it's a government jobs act in our view. We don't need that money to make it go.

When do you expect a decision on that?

I'm not going to get out over my skis on when to expect the decision. I will say that yesterday, the Treasury Department called to set up a meeting with us. So at least we have a meeting now, so we'll see.

That's positive. All right.

Positive or maybe negative. Who knows? We'll see.

They liked your earnings call. We get a lot of questions on your convert due in May of '22. You noted that your auditors don't believe you have a going concern problem at this point. Is there a plan to address that? Or we're just not -- we're not close enough for them to be concerned?

Well, our plan today, we've talked about our operating plan a lot, which is the $170 million to $330 million savings and all that. That's -- well, that's part of a 3-track plan we've got that we call our value creation plan. First is operationally to try and make sure that we're liquid enough that we could actually maybe refinance that and be in good enough shape to refinance it. The second track we have is this whole strategic track, and we've talked about that some as well. And we think there could be a lot of options in that strategic track for addressing converts. And then the third track we have is a financing track. We don't think we need financing right now, but we will have to address the convert. We want to make sure we do that at least a year before it's due, before it goes current. So we are -- we will opportunistically look at ways to do something about the convert maybe financially even ahead of another transaction. So we're trying to do is create a lot of optionality in terms of how we address the convert, both operationally, strategically and financially. And I think we feel like there's going to be -- there's a lot of different ways that it could be addressed, and we're trying to create multiple options and then take advantage of the best way to do it.

Okay. Let's talk about the Commercial business for a few minutes. You operate in a lot of regions. What are you hearing from customer airlines in flight volume rebounds, both so far and what they expect going forward in the U.S. versus Europe and Asia.

Well, I think the best market right now is domestic Asia, probably domestic China. Now we don't really operate in domestic China yet. We are selling over there, and it's a market we want to enter. We are in Japan domestically, and that market compared to others is relatively strong. I'd say the next best market right now, frankly, is the U.S. Latin America, domestic is way, way down; and Europe is not doing very well either. So those are the domestic markets. I would expect Asia and U.S. to come back probably before others. International markets are a nightmare right now. I mean, there's very little intercontinental travel. Now United, American and Delta have announced some new international flights starting in May, but very limited service. They're each serving 4, 5 or 6 cities, and that's about it. And because of the difference in regulations in countries and quarantines and all this, I think it's just going to take a lot longer to reestablish the international flights. Now in the U.S., I'll say this. I mean our passenger traffic on the 10 airlines that give us data is up substantially over April. Now the problem is it's coming off such a low number that it's not terribly meaningful in terms of revenue growth or anything else yet, but it is coming up pretty quickly. And flight counts are coming up, too.

Okay. And you've said that you expect minimal installs in 2020, and you've delayed purchase of inventory. How should we think about the potential to get CA Rest of the World to break even without that scale coming through?

Well, right now, I need people on planes internationally to actually drive revenue more than I need new installations, right? I mean we just have almost no international traffic at the moment. And so that -- and we're working with our satellite providers, obviously, in bringing down our satellite costs and they're cooperating with us very nicely, which we appreciate. But we've talked about Rest of the World before. If you just take the old plane count and if we could get to penetration levels like we have in the U.S. across that fleet, just with our rollover of our current satellite contracts, and moving to lower-cost HTS satellites, which we've already signed up for a couple in '22 and '23, that business would go profitable. So the real driver now for us is getting adoption on the planes again, but it's just abysmal at the moment getting planes flying again. Not installing is -- longer term is bad for the business. But the short term, I think it's really about -- it's getting passengers flying again and getting the rollover in the cost of satellite contracts.

Okay. And on the fourth quarter call, you disclosed that Delta is looking for a second supplier in IFC. Do you -- as things come back and normalize, does that change your long-term position and relationship with Delta?

I think it's great because that means in the future, when they want to complain to their supplier about inflight connectivity, I'll have a partner to get complained with. No. Kidding aside, I don't know what's going to happen at Delta now. Obviously, they've got a lot of competing priorities. Free IFC was a major priority until COVID crisis. And at this point, they've got just a lot else to worry about. So we'll see how that goes. You've got to remember, today, we pay them a check, right? It's a turnkey contract. We get revenue sales from the customer. We pay a check to Delta. And in today's environment, that probably looks pretty good to Delta. Moving to IFC, free IFC, which would require reworking our contract and allowing them to bring in another supplier is going to require them to spend money. So I think it's going to be a function of when Delta feels they have the capital to actually go after an initiative like that before we'll find out what they're going to do about a second supplier or what they're going to do in terms of free IFC.

Okay. And then let's talk about the BA business for a few minutes. You detailed yesterday some of the things that have happened in BA and that some planes have already come back. What do you see so far in the second quarter with BA?

Well, that's mostly a second quarter phenomenon, okay? So in the end of the first quarter, we had accounts, suspending their accounts. They talked about 900-and-some-odd accounts being suspended. And mostly in the second quarter with about 218 of those have come back. So that's good. And that's just in the last 10 days. The flight count's up dramatically the first 10 days of May versus April. We're up 200% over the low point day, but I think we're 60% or 70% over the average weekly traffic of April already for May. Now obviously, flights don't drive revenue for us, but they do drive -- they're an indicator of the utilization of aircraft, and the more people who are using your aircraft for flying, the more likely they are to turn their account back on, take it off suspension. So -- and the other thing we've seen is a number of accounts, I think about 400 or so go from regular monthly plans down to pay as you go. And that -- if you're going to just park your plane, pay as you go is fine because you're not paying anything while it's sitting on the ground. But you do pay a lot when you get up in the air and get online. And so usually, if somebody starts to fly again, they go back -- from pay as you go back onto a monthly plan. And so we think that's going to pick up here in May as well. Coming back pretty quickly.

And how have some of your big fleet partners fared in this environment? Are they among the loss business? Or is that mostly from smaller operators?

There are some fleet operators in the suspension count, but it's mostly owner operators, more than half of that account -- number is owner operators. It's about 55% Part 91 and the rest is Part 135s.

Okay. A few years ago, BA was chased after a little bit, it felt like, in your last round of M&A. Has this environment chilled any of the interest in the BA business?

No. I mean, I think it's going to highlight what a durable business that is, right? Now granted, we just had this major shock to the system, and things have turned down, but it's, I think, a pretty brief turndown in BA. And as that comes back, it's going to prove how durable that business is and how strong it is. So I think we feel good about it, and there's always interest in that -- in acquiring that business from both private equity funds, strategics, et cetera. So a great deal of interest always in BA. I think it's our crown jewel. It's a great business.

Okay. And on 4Q earnings, and this is maybe a little out of date, you provided a long-term target of more than $200 million in annual segment profit from BA. Does that look like a whole lot different today in the sort of '22, '23 time frame? Or do you think that's still pretty valid?

I'm not going to get to timing. I think that's a -- I think that that's a number we can get to. Exactly when, I wouldn't want to say right now because we haven't rerun numbers out that far off the base we have now. So we'll need to do that. But you can see that we have a lot of great products coming along in that business; our 5G product, for instance. We're working on other products. I think we'll be able to grow that business really successfully. And so I don't think that those -- that kind of a number is unattainable. I think it's very attainable in the next couple of years.

Well, let's dig into the 5G ATG deployment. Where is that in process now? How do you think about it?

Well, we're still on track for 2021 if we decide to stay on track. The competitive pressure to get something out has changed somewhat because the only competitor to that business would be a company that hasn't launched a product yet and is out raising money, and I think it's going to be very difficult for them in this environment. So we have about $100 million committed to that product. If we need to save money and we can delay that project if we need to, to do it as part of our $330 million in cost saves. However, we're going to stay committed to the program. And if it's not '21, it will be '22 or something like that. But so far, still on track.

The 5G ecosystem is developing really quickly. Do you think it makes sense with no competitive pressure or maybe minimal to just push that off anyway and let the ecosystem develop it?

Well, we're well into this thing. I mean we've already gotten past a lot of major design hurdles, et cetera. We've got boards that are working that are key components. So I mean, from our perspective, the really big investment is going to be in rolling out on towers, and that's where we can delay and save money. I don't think we're going to slow down on the actual development efforts, though.

Okay. Okay. Good. Oak, just to finish up, what are you most excited about going forward? As you look at the equity, it's still down pretty far. It seems like there's not a lot of appreciation for the company in the market. How should investors think about this and sort of long-term and get excited about?

Well, I think I look at our enterprise value. I think our Business Aviation business is worth more than our enterprise value today. And I think that, that business has got a lot of runway in front of it and is a great business, and it's what I would like to own for a very long time. On the CA side, I think the way to look at it is that IFC is going to be a big business. Our CA business comes with a tremendous set of assets. We're the market leader. We've got market-leading product. We've got great capabilities, I think, better than anybody else in the world on the engineering and software development around how you deliver this stuff. We've got tremendous accounts and relationships. So that business, and the combination has a lot of value. And a combination that can become a dominant force in the IFC will remain a dominant force in IFC. I think it has much more value than -- right now, it's got a negative value in terms of where our stock price is. So I think there's 2 good growth businesses. And that's how I look at it. That's how I look at it personally, right? I think I want to own both of these businesses for different reasons.

Good. That's a good place to end. Oak, thanks very much, and thanks, everyone, for joining us.

Thank you. Appreciate it. Cheers.