Koninklijke KPN N.V. (KPN) Earnings Call Transcript & Summary

Good day, ladies and gentlemen. Welcome to this KPN investor relations conference call. [Operator Instructions] Please note that this event is being recorded. I will now turn the call over to your host for today, Reinout van Ierschot, Head of Investor Relations. You may begin.

Thank you. Good morning, ladies and gentlemen, and thanks for joining us. Welcome to this brief call covering this morning's announcement that we will form a joint venture with APG to further accelerate the rollout of fiber in the Netherlands. With me on the call today is our CFO, Chris Figee. And as usual, I'd like to remind you of the safe harbor on Page 2 of the slides, which also applies to any statements made during today's presentation. Let me now hand over to Chris.

Thank you, Reinout. Good morning, everybody. Welcome to our call. I'm sure you all looked at the materials that we published this morning, so we'll give a quick summary and leave time for questions. This morning, we announced that we are forming a joint venture with giant pension fund, APG, to further accelerate the rollout of fiber in the Netherlands and enable mostly nationwide coverage of fiber by 2026. This strengthened our strategy as the leading fiber operator in the Netherlands. It accelerates the rollout in the medium-dense areas and to businesses, as the JV takes up the long tail of our plans, i.e. it delivers additional homes passed on top of the existing plan that KPN has, about 0.5 million homes a year, and has an attractive valuation by a strong partner which clearly underlines the value of our state-of-the-art Fiber to the Home network. So the 4 things to remember, we accelerate our fiber rollout. There's going to be no increase in KPN CapEx due to this deal. It demonstrates the value of KPN's fiber optic network. And I would think it's a testimony to our value creation and cash generation mindset in the way we run our business. Let's move to the next slide. JV will be structured as a co-controlled entity with APG and KPN both owning 50% of the shares. The JV will roll out Fiber to the Home to about 685,000 households in medium-dense areas and also connect about 225,000 businesses with fiber in the next 5 years. KPN and APG will share the risks and returns in these somewhat underserved areas, while most of the construction capacity in terms of number of home passed has already been secured with contractors and has a fully underwritten CapEx facility in place as well. So construction capacity and financing has been arranged and is in place. So the JV is ready to start with everything in place that we announced today. We partner with APG. APG is one of the largest pension funds -- pension investors globally, with almost EUR 600 billion in assets under management. APG is an experienced infrastructure investor with strong focus on investing responsibly. APG has commensurate return requirements, providing us access to institutional pension capital from a strong Dutch partner of a long-term investment horizon, a really mutually enforcing partnership. So APG helps us to further accelerate the digitization of the Netherlands. As announced at our Capital Markets Day, we already plan to roll out fiber to 0.5 million households annually each and every year until 2025. On top of this, the JV is taking up the long tail of our fiber plans by accelerating the rollout in the medium-dense areas and to businesses. Actually, it brings forward the long tail of our plan to the earlier time frame. And I think it's interesting to note that with the existing KPN rollout plan and the additional rollout ambition of the joint venture, most of the fiber opportunity, which is about 8 million households in our country, most of the opportunity will be seized by 2026. We see scope to finalize the fiber rollout in the years thereafter, and a small part of the country is simply not economically feasible for fiber rollout. We think about deploying fixed wireless solutions in those areas, making sure that the entirety of the Netherlands ultimately will be provided with super fast Internet. So basically, KPN with the existing plan of 500,000 homes per year, 2.8 million existing portfolio and its cooperation in this JV with APG should be able to cover about 80% of the Netherlands in 2025. So looking at our longer-term plans, this strategic partnership really brings forward the long tail of our plans. Together, KPN and the JV will roll out, as I said, 650,000 lines per year. This is impressive, especially if you realize that a total fiber rollout in the Netherlands across all market participants was just over 500,000 households in 2020. So the entire market did 500,000 households last year. KPN on its own and with the JV will move to 650,000 households per year in the coming years. We now expect that it's set to reach about 80% of household coverage fiber in 2026, up from 65% by 2025 in our original plans. As these areas were not in scope before 2025, this move will support our commercial performance a few years earlier than initially expected by strengthening our customer footprint in less densely populated areas by our growing service revenues, by limiting the churn on our copper network and enabling accelerated savings related to the phasing out services of our copper network. So more footprint, more revenues, less churn and a faster decommissioning of our copper network. Let me touch on the operational side of the JV. Basically, the JV will build, operate and maintain a passive infrastructure. KPN will provide the active layer and KPN provided in-depth expertise when it comes to planning and designing a fiber network, and KPN will act as an anchor tenant on the network, providing services to customers. That the JV, it's important will operate through an open access model and will be open for all competitors on comparable commercial terms, further fostering competition innovation in the Netherlands. So the JV will operate a passive infrastructure. KPN will drive the active layer, and KPN will become a client of the JV and the client -- the JV will be open to other wholesale parties as well on a fully open access model. Then the financial terms. APG pays us in total EUR 440 million for a 50% stake in the joint venture. Half of this will be paid upfront, with the remainder to be paid in annual installments as the rollout progresses, actually as a function of the number of homes passed that are being delivered. CapEx for the entity is estimated at EUR 1.2 billion, of which about 70% will be financed via largely committed CapEx facility. The remainder will be financed with limited equity investments by the shareholders as well as through the cash flow generated by the JV itself. Important, KPN's equity contribution is more than covered by the initial payment. So the initial payment that KPN receives more than covers future equity injections by KPN into the entity. The JV will start distributing dividends to our shareholders and to its shareholders when it reaches positive cash flows, currently expected after about 5 years. The JV will be initially be deconsolidated, with KPN have a call option on 1 share. This enable us to potentially obtain control and potentially reconsolidate in the future. The transaction is subject to regulatory approval and expected to start operations in the mid or the end of the second quarter of this year. So the headline equity valuation of EUR 880 million for the JV, which is 2x the EUR 440 million payment for 50%, translates into an equity value of about EUR 970 per home passed. If you add the debt proportion of the CapEx facility, the enterprise value would be somewhere between EUR 1,800 and EUR 2,000 per line. This clearly underscores the value of KPN's state-of-the-art fiber optic network, already growing by 2.8 million homes today, growing by 0.5 million homes per annum in the coming years and add to that 50% ownership of this entity. It's clear what the value of our fiber network is. So to summarize, we are forming a joint venture with APG, a Dutch pension fund, a Dutch heritage pension fund, to accelerate -- to further accelerate the fiber rollout in the Netherlands. It's an attractive partnership with KPN in a relatively small additional part of our future fiber footprint. If you think about 2026, this JV constitutes about 12% of the total KPN direct to indirect cyber footprint. A partnership that rolls out fiber in areas that otherwise may have been never addressable for KPN, as they were not in existing short-term rollout plans. The JV brings these forward and focuses on the medium-dense areas and business parks. It allows to accelerate and expand the footprint beyond our target footprint faster within the current financial framework. It does not have any impact on our objective or goals of this year, does not impact our CapEx for this year. It just adds -- bring in cash in the year. In fact, it accelerates the rollout to maximum executable speed, pull forward Fiber to the Home upgrade benefits and all of this, again, within our current capital allocation and financial framework. As a result, we believe we'll reach a long-term sustainable cash conversion levels earlier. There's significant value creation from the deal translating into proceeds upfront and proceeds over time. The upfront payment more than covers our equity injections in the entity. And thereby, it demonstrates the significant value of KPN's future and current portfolio in terms of fiber. And strategically, it solidifies KPN's position as the leading Fiber to the Home infrastructure provider in the country. KPN plus the JV together will cover 80% of the Netherlands with fiber in 2026. That ends my short introduction and comments to the deal. Now let me open the call for questions. Reinout, can you share the instructions?

Yes. Thank you, Chris. [Operator Instructions] Operator, you can open the call for questions.

[Operator Instructions] The first question is from Mr. Michael Bishop, Goldman Sachs.

I'd just like to ask a question on valuation and how you came to the various sort of valuation discussions with APG. I mean it's clear from the CapEx numbers that you've given and also the EV value per line you gave in the presentation that this is being valued essentially well above the multiple of book value or CapEx invested. But is there anything else you could give us in terms of how you're thinking about or how you thought about the future valuation, perhaps any sort of run rate EBITDA metrics? And then my second question was you mentioned that KPN would be an anchor tenant, and this is an open access model. But have you actually given any sort of formal underpinning of volume within this agreement?

Michael, how is this thing valued? Effectively, there's a business plan developed for the joint venture. That leads to EBITDA, CapEx and free cash flows, and then it was a discussion with APG on how to value this cash flow. So effectively, this is a function of the business plan in terms of Fiber to the Home when it rolls out times penetration and ARPU assumptions, which is valued at an IRR. And that drove actually the valuation. So it's more a function of, I think, the IRR that APG applied to future cash flows, and that was what the negotiation discussions hinged upon. We felt that the valuation that was given and our estimate of the IRR were very attractive to us, certainly when you compare to KPN's own cost of capital, but that's how we looked at it. And secondly, when it comes to being an anchor tenant, basically, we developed a business plan together. And in the areas in scope, KPN will, of course, migrate its customers to the JV, which is required because, ultimately, it's our desire to decommission the copper network over time. So with that, at some point, you have to migrate all your customers out to actually decommission copper. So to answer the first one, it's a simple DCF valuation and then you discuss about the discount rate and see where it sticks. And we felt that was an attractive rate compared to the way -- to the cost which we raise -- could raise theoretically to create equity ourselves. And that leads to the value per home passed. And secondly, there are migration agreements embedded in the business plan, and the aim would be to decommission the copper network in these areas at some point in time.

Okay. [Operator Instructions]

Apologies for the two questions.

The next question is from Mr. Polo Tang, UBS.

So I just have one. And it's really just about how did the APG joint venture come about? Did you approach them? Or did they approach you? And could you clarify if you engaged with any other third parties for investors?

Mutual discussions. We did not offer -- enter into a broader auction. We felt speed was more important than -- let's put it this way, we felt that APG was a very attractive partner to engage in bilateral discussions quickly and the presumption that it would be an attractive transaction. So it was not a broader auction because we wanted to have -- we prefer to have a partner that had a natural Dutch heritage that also strengthens KPN's new commitment to the Netherlands. There are all sorts of side benefits to it, qualitative side benefits to it. And that's it. We considered doing an auction. We did not because the deal terms that we got we felt were quite attractive.

Could I clarify? Did they approach you?

Could -- I mean it was not a -- in this situation, we were in contact, we discussed. I can't even -- honestly, I can't remember who approached who first. I think it just -- we discussed things. You meet each other. It was -- there was a few other deals that went around, and then it came to table. If I'm pretty honest, it's irrelevant, I don't even remember who approached first. I think it just kind of came up in a discussion, like why don't we explore this?

The next question is from Mr. Usman Ghazi, Berenberg.

Just got a question on regulation. I guess we know that the KPN has been deregulated since last year, but as T-Mobile is lobbying aggressively for change, what happens to this arrangement if the ACM comes in and I don't know, let's say, deregulates the network? I mean does this JV still stand? Or are there then changes that take place or the -- or some compensation paid back to APG, et cetera?

Yes. Well, first, Usman, it's -- to me, it's not a given that ACM will re-regulate the network. If you look at the discussion that KPN is having or that's ongoing on the regulatory front, we feel confident on our -- that we are fully compliant with the symmetrical access regulation that's out there. So first of all, that's not a given. Secondly, the discussions between T-Mobile and KPN really regard T-Mobile and KPN. So this entity is a separate entity. So it's not sure that if and where there would be an outcome of that discussion, whether it immediately would affect the entity. It is really discussion today with regard to KPN network. But to the point, if there would be change in regulation, I mean, there's always risk to the plan. There will be a risk to the plan, but no immediate repercussions. But again, I wouldn't be too jumpy on assuming that the current regulation or the current request by T-Mobile would have immediate impact on KPN because we believe we've got a pretty strong case and already fully compliant with symmetrical access regulation.

Your next question is from Mr. David Vagman, ING.

Okay. Just could you disclose or shed some light on the kind cost of capital assumption that APG has used in its valuation? And in your valuation overall, what kind of? Yes.

Well, David, I'm sorry. That, you have to ask APG, you have to ask them what [ cost of capital ] they used. We've made our estimates. And our estimate is that in line with or a bit cheaper than our cost of equity. But it's not -- I mean, that's what we disclosed -- I don't even formally know what cost of capital they used. But I mentioned that it was, for us, a relatively attractive source of capital.

Okay. And when you say a bit lower, it's really a bit lower? Or it's really like very materially lower?

Depends on how you define just a bit. If I'm actually [ drinking ] a glass of wine, I say I want a bit more. [indiscernible] what a bit is. No, I think it's a bit lower. It's not a huge amount of low. But it still feels that we are -- as KPN, we're able to raise equity capital a bit cheaper than the equity capital ourselves. But most importantly, it also means that we can accelerate the rollout of fiber but stay fully within our current financial framework. It is not about CapEx. It does not affect free cash flow. So it's a way to raise equity capital at a bit cheaper than we would do ourselves, but most importantly, protect the financial framework, our cash flows and dividends that we've committed to.

Your next question is from Mr. Steve Malcolm, Redburn.

Yes. And thanks for the presentation. They're really interesting. Just quickly, could you just clarify, the equity that you're injecting into the JV, is that basically your active layer plus your retail anchor tenancy? And over the 6 years of the plan, you will effectively have to inject no cash, that all the construction and build-out will be done through debt and the APG equity injection?

Well, basically, the JV has a business plan that has a plan to fund the rollout of fiber, 700,000 homes passed and retail at about 225 in business parks. So over 900,000 homes passed, around the 900,000 homes passed in terms of total connections. There's a plan, it's about 70% debt financed to a CapEx and the rest of equity. The equity will be injected by APG and KPN. But I think you'll see -- but the point, our equity injection is funded by the upfront cash payment. So that's actually irrespective of the active layer fees. It is actually funded effectively or overfunded by the equity -- the cash compensation we get upfront. So APG pays us an amount upfront, EUR 220 million upfront then EUR 220 million over time. That is widely sufficient to cover the equity injections into the JV to meet the financial structure of the JV, and that is separate from the active layer income because that's a separate income stream.

Okay. And the active layer income is a small number? I mean we shouldn't assume this makes any difference to your current financial guidance, EBITDA of [ 3.45 ] (sic) [ EUR 2.345 billion ] in 2023? Is that outside to that number?

I mean it will be a larger number in the long term, but in the coming plan and guidance period, it's not. I mean it will be an additional wholesale income stream. I think you can probably model it out. But think about if this JV rolls out 150,000 homes -- connections per year in the coming years, it takes about 5 years, 6 years to get to the 900,000. So before this becomes a meaningful active layer income stream year probably 2026 and onwards, then it actually could become a meaningful income stream. And this thing is actually, as we see it, significantly earnings and cash flow accretive. But again, it takes time for the JV to build up its stock of homes passed and build this material income stream. So in the coming years, no massive income -- additional contribution. In the latter part of the decade, yes, there is.

Okay. And no cash, basically, additional cash needs to be injected by KPN, and it all comes from the APG equity injection and the debt funding?

Yes, indeed. Yes.

The next question is from Mr. Simon Coles, Barclays.

Just wondering, operationally, I think you're saying this is a completely separate entity. So they're dealing with all the contractors that will roll out the network, and they will completely run the network itself in the future? There's no scope that they might, say, contract that out to KPN, given you will have obviously a sizable workforce running a fiber network in most of the country? I'm just wondering how that works.

Look, Simon, the entity is a separate entity that has a self-standing business plan and a management team, and there will be Supervisory Board steering through KPN and APG. However, of course, KPN has existing contracts, so the JV can use -- step in those contracts. So we have spent time working on trying to source capacity on behalf of JV as the JV use existing contracts of KPN. But then, theoretically, it's theirs to use it or not. I mean, in theory, the JV could say, look, we're going to source our own fiber construction capacity and leave KPN's contracts elsewhere because they are -- investments have their -- they're independent. However, of course, we have, as KPN, made sure in our dealings with contractors, we have secured production capacity that the JV can then procure and use under the same terms and conditions. So in theory, they could be completely separate. In practice, they are extremely likely to use the capacity that we've sourced today. Similarly, we, as KPN, we have done our work to source the CapEx facility, which is then facilitated that is on the JV's balance sheet. But in theory, they could ignore it and go out to [ refund ] themselves. In practice, they would use the construction capacity and the financing capacity that KPN has organized, secured through its own network.

And sorry, just a follow-up. Does that mean -- sorry, are you potentially moving staff into this JV out of KPN? I'm just not clear on that.

No, I think the JV will probably run with -- think about 30 people in the end state that will work there directly. So yes, there will be some KPN managers stepping up, but if you are leaving KPN and becoming employed by this group, so think more entrepreneurial business role, the entity may hire some people externally. So think about this JV in the end state employing 30, 35 FTEs, out of which a part will be former KPI employees that leave the mother ship and then be employed by this JV in the future.

The next question is from Mr. Konrad Zomer, ABN AMRO.

A question on the deconsolidation of this JV. Is it your intention at some point in a few years' time to consolidate this? And is the main reason not to consolidate it as from now the additional debt that it will bring to KPN's balance sheet?

Konrad, I need to pick and choose my words very carefully here. The JV will be deconsolidated. That means that the CapEx debt and debt that the JV runs will not be consolidated by KPN. We have the option to consolidate in a few years' time. It's a function of time and a function of number of homes passed. We've got the option to consolidate. Think of that, that option is only kind of executable when the majority of the CapEx is behind us and the majority of the homes passed have been delivered. And then -- and again, I need to pick my words very carefully. We have the option to consolidate.

The next question is from Mr. Joshua Mills, Exane.

So I just wanted to understand from a kind of on-the-ground perspective, what -- whether there's any difference between these new areas that you've talked about rolling out to and then the assumptions which you laid out your Capital Markets Day. So should we assume that things like the take-up rate, the ARPU uplift and the returns in these areas are similar to those laid out in the Capital Markets Day or different? And in particular, does your business plan just require -- or the commitments you made just require you to migrate existing KPN customers in the new areas to the JV? Or in order to hit the requirements of the JV, do you need to actually increase your market share in this 910,000 homes?

Yes. Joshua, look, in the [ principle ], the assumptions are similar. Except when you move to semi-dense areas, the cost per home passed tend to be a bit higher. Now as a business park is a different story. But on the retail side, you move to slightly less dense areas. So the cost per home passed is a bit higher than the classical KPN area, but that's not massive. Business parks, of course, has a slightly different ROI program. But the same IRR profile, but a different CapEx to earnings profile. When it comes to assumptions that are very similar to what KPN has, it is actually not predicated on the JV, it's not predicated on winning massive market share. It's mostly about moving clients from copper to fiber and having a reasonable wholesale access, wholesale penetration similar to KPN. If we were to gain market share, that would be an add-on in terms of the business plan. So think about predominantly KPN migrations plus a reasonable wholesale business on top of it. And so there are similar assumptions at our Capital Markets Day with the delta being slightly more expensive lines, customer home passed a bit higher. And then on business parks, you find when you go to business parks, the cost per home passed or cost per business connected tends to be a bit higher because you have to dig longer distances. At the same time, businesses are often willing to pay a bit more. So similar ROI, but slightly different CapEx and income streams.

The next question is from Mr. Ulrich Rathe, Jefferies.

Yes. So on the blank sheet of paper, you could do this alone. I think it was actually in your plan in the outer years beyond 2025. Now you do it faster and without additional cash outlays, as I understand it. What you give up for that is share in future returns. The one thing you are saying here is that the upfront payments from APG are covering the cash outlay during the rollout, which suggests that you have left very significant returns in the joint venture. As I understand it, these returns are essentially -- is that they're essentially discretionary, right, because you set the transfer price into KPN at the wholesale level. I'm just wondering, how do you think about that strategically? Because at the end of the day, you're not telling us how much returns you are handing over to your partner for the benefit of doing it faster or doing something faster that you could have done yourself. So it looks like a good deal to APG. How would you address that from sort of KPN investor point of view?

Yes, Ulrich. It's a good question. I think it's an attractive deal for both of us. Look, 2 things. We're bringing indeed for the long tail of our plans, thereby reducing the churn risk. If you look at the churn risk at KPN, the biggest churn, copper churn, we have is in areas in medium-dense areas where we have copper and others rollout fiber. By bringing forward this business, you dramatically reduce the churn risk and protect your KPN client base. That's one. Secondly, so when you come to the JV, where do we make money? We make money as KPN by providing the active layer, which is relatively high-margin income stream, which is a scalable business. Secondly, we still own 50% of the JV, and we get a payment upfront. When we look at it, I think APG is an attractive long-term investment. We also have -- because we actually, as I said, we still own 50% of the JV. We get paid upfront a significant amount. That crystallizes almost the future value. And we protect the churn in these areas, which -- [ without ] risk of increasing over the coming years if other players would roll out fiber, and we would only be able to roll out fiber at the end of this decade. So it's a combination of the churn prevention, combination of the income streams through the active layer that we provide. And it's a combination of -- and the third thing is the upfront payment. So we feel the combination of that warrants doing this together with APG earlier than later on our own.

Got it. So a big part is the land grab and capping the alternate opportunity so they don't have less [indiscernible] out of them.

The land grab is your words. That's not something I would use, but it is actually preventing churn and protecting your customer base, that is actually very valuable to us.

The last question is from Ms. Siyi He, Citi.

Just wanted to have one, please. And just on [indiscernible] announcement, you recently have a JV form to roll out additional 1 million homes and have the option to consolidate to have the majority of the stake. My question is, when you think about your existing fiber homes and how do you think about potential structural options around your existing fibers? Does it change your previous view that it's important to own 100% of your fiber assets going forward?

Well, Siyi, good question. We are still convinced it's valuable to own 100% of the fiber assets. So the 500,000 homes we roll out ourselves, we continue to roll out ourselves in our own balance sheet. We said we own 2.8 million homes today. We're adding about 2.5 million on our own balance sheet in the coming years. This is actually an additional plan set on top of that with the aim of accelerating the rollout, bringing further -- bringing forward that long tail and reducing the churn. But in principle, KPN prefers to hold on to assets, to own these assets ourselves. We just felt, in this case, the combination of a churn prevention, acceleration and the payment upfront was a good alternative. But as a matter of structure, I wouldn't count on us now starting to sell fiber assets in a [indiscernible] in the coming years. We still prefer to own this network ourselves, even if we're very happy with the price that we received for this greenfield JV. It does show the value of our fiber network. It definitely does. But at this point, the strategy is to stay majority owner of fiber assets.

Okay. Thank you. That concludes the call. If there's any further questions, please contact the IR team. Thank you very much.

Thank you.