Lumen Technologies, Inc. (LUMN) Earnings Call Transcript & Summary

Absolutely. If you look at our collaboration services, which is 1 of the 4 kind of pillars of what we will deliver with Lumen, collaboration services are important. Now we're partnering to do some of that. And so you'll see collaboration revenue growing from partnerships like ours with Zoom. You'll see collaboration revenue growing from when we sell to other providers of collaboration services. We sell voice and collab services directly to enterprises. And so it's kind of a mix across the different flavors of what that means. But a work-from-anywhere environment means there's more of this type of communication. And I think that over the next couple of years, collaboration will be -- will expand and be much more sophisticated and much more data-intensive than it is today even with everything going to Zoom and other platforms.

In the past, you've stated that you're seeing more enterprises updating their network architecture, for example, by taking advantage of software-defined networking. A question we get a lot is, this would seem like it creates a lot of jump balls. And so to what extent is that actually creating an opportunity for you to increase the amount of share that you're winning? Are you continuing to see the funnel build? Has any of this slowed down or accelerated as a result of COVID?

As a result of COVID, it's all accelerated the transformation to wanting software-defined networking capabilities. As we look at our products like cloud edge, and hyper WAN, where it's a combination of MPLS and SD-WAN and work from anywhere and needing to control their bandwidth more incrementally and how their bandwidth is utilized, we see our customers wanting us to provide that top-to-bottom perspective. And that's why we built the Lumen platform, is to make sure that we're interfacing with our customers at the software layer. We're not interfacing at the phone layer where they call us and say I need a circuit of x size from location Y to location Z. They're calling -- their systems are going to interface with our systems to provide that capacity on demand in a dynamic way, and we have those products in the market today. We'll continue to evolve them and continue to develop them. But Lumen Dynamic Connections is a great example of that.

And you've gotten this question a million times, and I'm going to try to see if I can approach this a little differently. But as you know, investors have expressed some concern that the adoption of things like SD-WAN are going to inevitably cannibalize some of your higher-margin services like MPLS. And you said consistently that you see them as being complementary. So I was hoping maybe you can give us just a little bit of context around that. Any examples or maybe talking about it more at a margin level versus a revenue level? And then another question that we have is, does the adoption of more software-defined networking create other revenue opportunities for the company that maybe investors aren't considering if they're just focusing on the transition of one particular product, which is MPLS?

Right. So let me answer the second one first. Yes, there are opportunities, revenue opportunities that come from the adoption of new technologies and the new architectures that are available. With our cloud edge platform, integrating our network services with our edge compute resources makes it possible for customers to utilize the networks in ways that they hadn't before. When it comes to cannibalization between MPLS and SD-WAN, it's a portfolio of products that we look at and manage. Yes, there will be some cannibalization as people move from MPLS to SD-WAN because we didn't have SD-WAN as an opportunity for that location, and so they bought MPLS for a particular location where SD-WAN would have been a better choice. But there are an equal number of locations where they didn't buy anything because we didn't have an SD-WAN solution. And so we look at it as a portfolio approach that hyper WAN implies for our customers that they have different needs from different locations and that we can provide solutions that are unique. Now one of the things that's different about Lumen, differentiates us from others, is that we can orchestrate that capability all the way from the top. There are -- for a large enterprise, there are thousands, if not tens of thousands, of elements that they're trying to manage in the network. And so we can help them orchestrate regardless of where those elements come from. Whether they're hardware or software or capacity, we can help them manage and orchestrate across all of those. And so we think that there's some cannibalistic nature, but the opportunity to grow, the market opportunity is bigger than that.

You touched a little bit earlier on SMB in one of your other answers. I do want to come back to it just a bit. So about 13% of the company's revenues comes out of serving that customer base. We do get a lot of questions from investors about just how sensitive that segment is to what's going on as a result of COVID. It's perceived to be the most economically sensitive segment, which is just based on history. So far, the trajectory of revenues hasn't changed a lot through the first half of the year. So there had been some secular pressures in that segment that didn't seem to get a lot worse. What are you seeing maybe more real time in that segment? What's your outlook? And where do you ultimately see that going? And then after that, we can talk a little bit about some of the growth opportunities you've talked about in SMB.

Okay. So first off, first of all, I need to bifurcate SMB from previous comments. We have moved -- we're still reporting with SMB, so your 13% number is accurate. But we have moved our mid-market customers into our Lumen brand and our small customers into the Quantum and CenturyLink brands. And so with the mid-market customers, it's kind of -- I don't want to say it's business as usual. There are certainly customers that are struggling. But for my restaurant example earlier, even those mid-market customers, communications is their lifeline. The way that people have dealt with this economic crisis and the shutdown crisis is through telecommunications capabilities, by communications and networking infrastructure. And so for all of those customers, regardless of who they are in a shutdown environment, unless they're just completely shut down and out of business, the infrastructure that we've been providing has been what's kept them in business and what is critical to them. So I can't predict what's going to happen in the fall and winter and spring of next year. But so far, what we've seen is pretty consistent results. Now they haven't been buying maybe as much as they would have otherwise, but then they haven't been disconnecting either.

So then what is the path to growth with your small business segment? You'd pointed out that that's an area where you feel like you've really underindexed, how you have a significant number of on-net locations outside your footprint. How do you create that acceleration? Is it simply a matter of investing more capital or human resources? Or does something else have to change other than just getting out of this current environment we're in?

Well, first, it starts with a focus of our employees and making sure that we are putting the right emphasis on growing that customer segment. Second, it does involve capital. We have 170,000 buildings. That does not mean we have 170,000 buildings with fiber in them that are ready to serve small customers. We want a mass market product they can walk up -- they can get instantly turned on in the building. And so we'll continue to augment not the fiber infrastructure but the equipment infrastructure to support them and make sure that we have that. And then it's about execution and really targeting those customers and talking to them regularly, and expanding the capabilities. These are very simple products to buy. They may have connected security embedded in those products. They may have WiFi capabilities embedded in those products. But they're not super complex. They're not things that we would typically see to sell to a customer with 50 locations. We'd sell a higher-level, more sophisticated solution to a customer with 50 locations. But I think that there's a great opportunity for us. I believe in that business. I believe our infrastructure is already in place. We just need to make sure that we develop the products appropriately, give the all-digital experience and execute.

All right. So earlier this year, you released a presentation where you outlined the value you see in your fiber business. And you had highlighted that your legacy Level 3 business had traded at something like 10 to 12x EBITDA, while legacy CenturyLink had traded maybe 5 to 6x. If you ran those numbers against your current business, you were coming up with a share price that's 2 to 3x higher than where it currently trades. So clearly, you guys think your stock is undervalued. What do you think the market is missing about your fiber-centric businesses? And are there steps you can take to unlock or otherwise highlight the value of those assets?

Yes. So you're asking me what you guys are thinking. So I'll try and answer it, but you're in a better position to answer this than I am. I think there's concern about the consumer business. And I think that people think -- thought about CenturyLink -- not Lumen but thought about CenturyLink as a consumer business with a nice little enterprise fiber business, which is exactly the flip of what we actually are. We have the -- again, what I believe is the world's greatest infrastructure. We have great fiber assets. We have great connectivity. We're in all the pools of demand across the world, more than 2,200 data centers, more than 450,000 miles of fiber, 170,000 on-net buildings. We have connectivity, deep and rich connectivity into all the networks of the world. And so I think that what people miss is that, that infrastructure and the customers that ride on it, the enterprises, the government services, all of the things that we do, I think they think that this isn't a consumer company first. When we're an enterprise-focused technology company delivering over the world's best fiber, I just think that people are missing that point and worried about consumer voice.

That's a terrible transition into your consumer business because that's the next thing that I had set up. So I do want to actually ask you a little bit about it because you -- we started off talking about how you are bifurcating that business between what's served by fiber and what's served by some of the legacy infrastructure. And when we look at the broadband trends, and you've given us a lot more visibility into it, your 100-megabit-plus tier, which is, in many cases, your fiber tier is a growth business, right? And your lower tiers have not been. And so just where are you now in terms of being able to deliver that higher speed, that 100-megabit-plus tier? What portion of your customer base is that available to? And do you continue to see as we move into the second half of the year that demand for that product is remaining robust?

Yes. So we can deliver 100 meg or so on some fiber -- excuse me, some copper solutions. So my numbers will be probably a little bit low, but I'll give you the fiber answer to this. We have about 2.5 million to 3 million homes passed with fiber. We continue to drive penetration. I believe the number from the second quarter was something like 42,000 net adds at above 100 megabits. When it comes to a copper solution with a 2, 3 megabit answer for our customer or a 10 megabit answer, we're not very competitive with that product, which is why we have focused so hard on microtargeting our fiber deployment. We look at the densities of locations. We focus on MDUs, whether they're in legacy CenturyLink territory or outside of legacy CenturyLink. So we'll do consumer MDUs outside of our footprint. Because the densities are there, we can get more apartments passed, I guess, would be the phrase. When we look inside the legacy CenturyLink footprint, we look at density of homes passed. We look at our ability to compete with the local competitor, and we look at our cost to deploy. If we can lower our cost to deploy, that helps us microtarget. Then once we've built, we microtarget from a marketing perspective. We really swamp an area and try and drive penetration rates up. And so there's a lot of opportunity that we see, but it's fairly small, still 2.5 million homes passed or so. So it's still fairly small. We're going to continue to invest. One of the things that we've absolutely seen, where we invest, we grow. And we will continue to make sure that, that is true. Invest in those areas where customers want our services, where we can create a superior product to all of our competitors. And our fiber-based solution is superior and go through all the engineering reasons why that our fiber-based solution is superior. So we continue to invest where it makes sense for us to drive expanded opportunity.

Why not do more than microtarget? You have a reasonably large footprint. Is that just what you're finding right now, there are pockets where it makes sense? What would have to change for you to be a little more broad-based in terms of the fiber deployment?

Well, we always make decisions based on economics. And the microtargeting helps us identify those locations that are high economics. I don't think that there's a short supply of opportunities based on microtargeting. I think that just helps us be very efficient in generating a return for the investment that we make. So it's not a limiting factor. It's a targeting factor.

We actually get a lot of questions about the exposure your company has to the wireless sector. We get it 2 ways. One, the wireless carriers talk about a need for more fiber to support their 5G deployment. So the first question I have is, are you seeing that? Can you give us any context for what that means for CenturyLink's enterprise-focused business? And then on the residential side, how do you think about 5G as a potential competitive threat?

Yes. So first of all, just in fiber in general, we don't highlight it as much as maybe some other companies do, but we're one of the largest fiber providers out there. And so when it comes to fiber sales, wave sales, those types of things, Lumen is a leader in all of those capabilities. So we'll continue to do that. Looking at some of the wireless carriers and their 5G deployments, we've seen some success. There've been a couple of small deals that we've won, but I frankly haven't seen a lot of large deals coming out yet. So we'll continue to work with our wireless partners, provide them services. I'd like them -- I'd for them to be on Lumen fiber services' business. But I think the rollout pace is going to be a little slower than a lot of people predict. And we'll continue to invest within that because we get the advantage. If we invest to a cell site, that lowers our cost in microtargeting of small business. That lowers our cost to microtarget consumers. It improves our ability to serve our enterprise customers in their locations. And so we can take all of this demand and use it to help funnel and direct and guide our fiber build. And 5G is a good opportunity for us in that.

I want to talk a little bit about your balance sheet and how you make your capital allocation priorities. So you've stated that you remain on track to achieve your target leverage range of 2.75 to 3.25x net debt to EBITDA. You may be a quarter or 2 delayed versus what you had originally anticipated because of COVID, but you still feel confident that you're going to get there. So a question we get a lot is, how do you think about the trade-offs between allocating cash to delevering potentially more quickly versus servicing the dividend?

Yes. So we -- from a COVID perspective, we did say that there could be a quarter or 2 delay in reaching the targets. We're just being conservative in how we manage cash and all of those types of things. But we've seen tremendous benefit to shareholders through our deleveraging efforts. If you -- on the second quarter call, Neel Dev, our CFO, provided insight that since -- if you look at the mid-range of our cash interest expense for this year versus what we actually did in 2018, there's about a $450 million reduction. Now that comes from us having paid off a lot of debt. It comes from us refinancing nearly $18 billion at lower interest rates. That comes from a good market. So that's real free cash flow, $450 million of cash flow reduction. So we still are very committed to that and believe that, that is in the long-term interest of shareholders. When we determined our latest capital allocation policies, we said we want to invest in growth, which we've increased the amount of CapEx so that we can invest in EBITDA growth, either through revenue or cost savings. So we want to make sure that we continue to do that. We wanted to pay down debt at the ratio that we set. And we wanted to continue to give more than $1 billion back to shareholders in the way of a dividend. Now that generates a dividend payout ratio something in the 30s, and we're very comfortable with that. And so we think our capital allocation policy is right and is serving our shareholders.

All right. Jeff, that's a great place to end. And we're just about out of time anyhow. So thanks so much for being here virtually, and hopefully, we see you in real life next year.

All right. Well, I look forward to it, Brett, and thank you. And thanks, everybody. Lumen, we're very excited about it. Lumen is a platform for amazing things. So if you're an investor in Lumen, I want to say welcome to Lumen and welcome to the platform for amazing things.

Great. Good seeing you, Jeff.

Thanks.