NOS, S.G.P.S., S.A. (NOS) Earnings Call Transcript & Summary

Hi, good afternoon. Welcome to our second quarter 2020 results conference call. We're all in the various rooms for executive team. And we'll go through a brief presentation with the highlights of the results led by Jose Pedro Pereira da Costa, the CFO. And then we're available for your questions okay.

Okay. Thank you, Maria, and good morning, everyone. We'll be following the slides of the results presentation as usual. So I will jump. [Technical Difficulty]

Jose Pedro. We've lost you.

Hi, good morning. I will carry on with the presentation. So I was just mentioning as main highlights of the quarter that the main impacts of the current pandemic situation, which we highlighted in last quarter's call. Well these impacts persisted in this quarter, even to a greater extent. Since last quarter, the pandemic basically impacted 1 month out of 3. And in this quarter, the full 3 months were fully impacted. The lockdown period that started in mid-March and lasted until the end of May, did not impact so much in terms of operational KPIs in the telco business. It was possible to have a good level of commercial activity overall and also churn came down to very low levels. The result of that was a robust 53,000 net add number in terms of total RGUs, with all services growing in the quarter. Financial results in the telco business were very resilient. Top line obviously impacted. Total revenues declining 7.8%. But strong direct cost reduction following the activity decline as planned and cost discipline in non-direct costs allowed for an EBITDA increase -- decrease of just 3.5% year-on-year and CapEx reduction has even allowed for telco operational free cash flow to increase year-on-year in the quarter. Technical CapEx decreased in the quarter with phasing of deployment plans, not affecting our core investment projects. Customer-related CapEx decreasing quarter-on-quarter, but keeping at stable levels year-on-year, reflecting a pickup in sales and the retention activity with gradual deconfinement from mid-May, which we continue to see throughout June and July. Cinema exhibition and distribution were obviously much more effected this quarter, with cinemas generating 0 revenues during the full quarter, reopening only in the beginning of July, therefore, impacting considerably our consolidated numbers. The remaining audio businesses had a relatively stable performance, allowing for the cinema and audio business to post still positive EBITDA and free cash flow numbers in the quarter. Strong performance of the telco unit allowed to compensate the weaker trends in cinema and I'll deal with free cash flow after interest and taxes at the group level, continuing to be robust EUR 53 million in this quarter. And this allowed for additional debt reduction to slightly over EUR 1,000 million. Our solid capital structure with 1.8x net financial debt-to-EBITDA post leasings to be further reinforced with the EUR 370 million from the sale of NOS Towering to take place in September, giving us ample liquidity and flexibility to continue investing in our core infrastructure projects. So let's go now to Slide 4 and go briefly through the operating review. As referred, and despite the challenging context, we have a very positive quarter with solid performance in all services. We managed to post total RGU net adds of 53,000 in the quarter. Pay TV net adds of 4,000 on the back of fixed network expansion, low churn levels and stable trends in DTH. Also we have fixed broadband and fixed voice net adds of 15,000 and 10,000 above the levels of previous quarters, showing customers, value, good broadband connectivity in these challenging times. Finally, on the mobile front, we also posted a solid 23,000 net adds number as a of very positive contribution from postpaid, driven by convergence and integrated offers, more than compensating the weaker performance on prepaid due to the decrease in commercial activity driven by the pandemic. On Slide 5, we continue to expand our FttH network with 45,000 new greenfield homes passed. This expansion continues to drive our fixed Pay TV growth. And also as referred, churn levels came down to very low levels, as a result of the overall slowdown of commercial activity during the more stringent lockdown period. On Slide 6, we continue to grow our convergence and integrated subscriber base. We have reached 957,000 subscribers, representing 61% of the fixed base, having added around 15,000 subs in the quarter. Despite the upsell of mobile cards on fixed customers, ARPU of fixed residential customer decreased in the quarter due to the suspension of invoicing of premium sports channels that lasted until the end of May. With the Portuguese Football League restarting in the beginning of June, we started invoicing back customers again. And this proved to be the right strategy, seems to manage to very much maintain the premium sports subscriber base. So premium sports revenues in June were back to pre-COVID levels, and should continue like that, provided the major sports competitions are not interrupted again due to the pandemic. On Slide 7. This quarter, we launched a number of innovative services on the B2C front. This quarter, we would like to highlight the launch of WOO, the first-only digital service in the telco space, acknowledging digital customers are an increasingly relevant segment with heavy users of streaming not valuing so much traditional TV services. We decided to launch, last week, WOO, which is a new brand and service for customers that just want broadband, 100% digital, where everything is done through the app. Customers can subscribe the service in less than 3 minutes. And also manage services exclusively through the app, no stores, no call centers. Offers are centered on broadband, fixed mobile or fixed and mobile together, without TV and allows us to accelerate our digital transformation and learning processes. On Slide 8, on the B2B area, our focus during these challenging times have been primarily on partnership and proximity with our business customers, ensuring an agile and efficient response to customers that also had to adapt to this new pandemic context. Of course, we had to face some headwinds with contract renegotiation with a number of customers having to face complete shutdown of activity in sectors more affected by the pandemic that we tried to compensate by providing more data and IT-managed services. On the positive side, the pandemic provided us the opportunity to help clients deal with the challenges of going remote and moving to digital platforms, also giving us access to new sources of revenues from equipment sales. In this quarter, we launched a digital-first agile development program, targeting the SME segment with 9 main service offerings in the IT and security areas. And finally, we have now a partnership signed with key cloud platforms like Google, AWS and Azure, positioning NOS as a preferred specialist partner for hybrid cloud solutions. On Slide 9, on the network front, the focus was on supporting effectively our customers, both in the consumer and B2B segments during the lockdown period. With our customers turning to remote working and learning through video conference platforms, we have seen record levels of traffic in our networks. Fixed data traffic increasing at peak times around 50% versus pre-COVID, but now already more normalized levels with the gradual deconfinement. Mobile data traffic increasing 25%, this increase holding out until now. Our strong investment in NGN in the fixed and mobile areas has been crucial to provide an excellent technological response. Our FttH rollout continues to develop well and according to plan, with total coverage close to 4.7 million households by the end of this quarter with FttH representing close to 1.7 million homes passed, that is around 35% of total coverage. The sharing agreement continues to be executed with around 1.1 million households being exchanged since the start of the project. On Slide 10, we would like to highlight that on the tower sale transaction. The latest update has been the competition authority approval of the NOS Towering sale, comprising around 2,000 sites. Final closing of the transaction is now dependent on carve-out of certain assets and contracts with closing expected towards the end of this quarter. So we expect to have the proceeds of EUR 370 million by this time, starting the MLA agreement with Cellnex at that time as well. On the mobile network sharing agreement announced in February, no major updates. We continue with exclusive negotiations with our partner, Vodafone, towards an agreement, still each party retaining strategic control of the network. Purpose of this agreement, as referred before, is to improve investment efficiency, drive broader and faster nationwide coverage and reinforce services, providing more benefits to customers and to the economy and digital society as a whole. On the cinema and audio front, starting with the cinema units, as referred before, we have, in this unit, the most negative impact of the pandemic with the cinemas closed throughout the quarter, opening up only in the beginning of July. The focus of the cinema unit has been to prepare well the reopenings of our theaters, which reinforce health and safety and social distancing measures already implemented and allowing for a maximum occupation at this time of 50% of our theaters. We are pushing for online ticketing and bar sales through our recently launched NOS cinemas app to decrease the traffic in the sales area. And also another relevant priority has been cost management in a scenario of 0 revenues, as we said in the last call, around 40%, 50% of total OpEx is variable. So in this case, there was an automatic adjustment, reducing, in particular, the movie royalties to the studios. In the case of fixed costs through reducing temporary headcount and also negotiating with shopping center owners, special rent conditions during these difficult circumstances. In terms of outlook for the rest of the year, it will be very much dependent from the blockbuster movie releases, which are now planned for the second part of August. Therefore, we expect third quarter still largely affected by the pandemic and hopefully, a more positive fourth quarter. The audio business was affected by the pandemic just in the movie distribution area, which is a sizable revenue unit, but with relatively low margin. So the rest of the audio business being relatively stable. Now moving to Slide 13, and starting with the usage of digital platforms. This was one of the more positive impacts of the pandemic, leveraging on the transformation program efforts. We have seen our customer service apps like the NOS app and the used segment app increasing quite substantially the number of users, around 50% and 30%, respectively, to perform transactions like checking balances and invoices, but obviously migrating interaction at the call center and store levels to digital interactions. Also the number of sessions on our website and web self-care have also increased around 20%. On the stores front, on Slide 14, the lockdown measures imposed a good number of shop closures. We had to close 30% of our stores from mid-March. Traffic in the stores declined around 70%. Good news are that we have reopened most of the stores right now, around 95% of them are open, and store traffic is now close to pre-COVID levels. The weight of sales channels like online and inbound have increased substantially during the lockdown period. Now it has gone down to more normalized levels, still above pre-COVID levels. Now moving to the financials on Slide 16. We have a 12% year-on-year revenue decline at the group level, very much impacted by the cinema and audio businesses. Telco business declining 7.8% year-on-year with most of the negative impact coming from premium sports channels, which have now been fully restored since the beginning of June. Cinema revenues decreased in the quarter to 0. Audiovisuals have posted around 50% revenue decline, driven mostly by the low-margin cinema distribution business. On Slide 17, and looking a bit further into telco revenues, which have declined, as I referred to, 7.8%. In terms of the key drivers of this decline, we had first premium sports, representing around 3% telco revenue decline in the quarter as a result of 0 revenues in April and May. As we said, this revenue line has returned to normal levels since the beginning of June. Second, roaming-out and roaming-in representing around 2% telco revenue decline. We expect this decline to continue being an area of pressure for the rest of the year, still with some improvement over time. And third, a number of different sources of revenues, of which we can highlight contract renegotiations and suspensions with B2B customers, which represents around 1% of telco revenue decline. And also areas that we expect to normalize since, for instance, most of our B2B customers are now back in business. On the positive side, we have an increase in equipment sales due to a number of promotions around mobile handsets, tablets and PCs, taking advantage of the need our customers face in working and learning from home. Also some B2B areas like IT and security have also seen some increase. Different impacts, we highlighted, impacted differently the segments that we report. Still the core consumer and business segments being relatively resilient. Consumer segment posting year-on-year decline of 3%, mainly impacted by the premium sports channels well supported by the personal mobile segment, as I referred before, premium sports channels should normalize this quarter. Business segment also had a revenue decline of 55%, affected primarily also by the premium sports, also contract renegotiations and roaming-out with positive performance in service customer revenues in large corporates and SMEs, namely IT and security. And finally, the wholesale and the other segment, which represented, again, the major drag to telco revenue evolution. Major impacts coming from roaming-in revenues. Other areas that had some decline are very low-margin areas like mass calling services and advertising. EBITDA -- on the Slide 18, EBITDA in this quarter declined 7.8% at the group level, impacted more severely by the cinema and audio businesses, declining 60% year-on-year. Telco EBITDA declined only 3.5% versus a 7.8% revenue decline, benefiting from very significant reduction in direct costs, as referred before, like traffic, costs associated to roaming and direct costs of premium sports and also a decline in nondirect costs like marketing and other structure costs. Cinema and audio were strongly impacted by the closure of cinemas. Strong cost reduction in this area was key to sustain a still-positive EBITDA number in the context of the very low levels of activity. Direct costs were reduced to 0 in this area, like movie royalties and cost of goods sold of bar products. Also nondirect costs were reduced significantly, namely staff costs and rents. On Slide 19, with EBITDA decrease of EUR 13 million, net income in the quarter just decreased EUR 2.4 million, due, basically, to impacts. First, a booking of a capital gain in the sale of NOS International Carrier Services of around EUR 6 million and a positive impact at the tax level with the reduction of earnings before tax and an increase in tax incentives. On Slide 20, total group CapEx in the quarter, excluding leasings, reached EUR 83 million, a reduction of around EUR 12 million versus last year, reflecting a decrease in technical CapEx of around EUR 10 million, reaching EUR 48 million in the quarter, reflecting, namely, lower levels of mobile investment versus last year and some phasing of FttH expansion, which continues still at a strong pace and should remain in the second half of this year. We also have a decrease quarter-on-quarter of customer-related CapEx, reaching EUR 31 million in the quarter, same level of second quarter last year, due to lower levels of commercial activity we had in the quarter. Also on this area, we should increase these levels of customer-related CapEx in the second part of the year with the pickup of commercial activity that we now see. On Slide 21, and despite the difficult context, we managed to protect free cash flow generation levels, EBITDA minus CapEx, reaching EUR 74 million operational free cash flow after lease payments and working capital reaching around EUR 62 million, which then converted into a net free cash flow number after interest and taxes of around EUR 53 million, only slightly below last year's numbers. And lastly, on the balance sheet on Slide 22. Net financial debt decreased in the quarter to around EUR 1 billion. This net financial debt number representing 1.8x the EBITDA level adjusted for lease payments and in line with our stated target of close to 2x. Average cost of debt increased slightly in the quarter to 1.3% following the recent refinancing completed in the beginning of this quarter still remaining at very low levels. As we have announced before, we are very much refinanced in terms of liquidity and lines maturing until the end of 2021. Cash and the new credit lines reaching close to EUR 500 million at the end of the quarter. Therefore, already giving us ample flexibility to finance the investment needs ahead of us. This liquidity position also, it was temporary in the sense that we paid dividends in the beginning of July, actually in the 3rd of July. And also this liquidity position to be further strengthened around the end of this quarter, of the third quarter by the sale of NOS Towering. Our low leverage and high level of liquidity provide us with a lot of headroom to finance our investment plans to provide the best technological solutions to our customers, both on fixed and mobile to continue remunerating shareholders. While preserving a solid capital structure. And with this, we conclude today's presentation, and we can now start the Q&A session.

[Operator Instructions] Your first question comes from the line of Michael Bishop, Goldman Sachs. I will go to the next question, sir The next question comes from Terence Tsui, Morgan Stanley.

I have 2 questions, please. So firstly, just on the upcoming spectrum auction, can you just give us a flavor of what's the latest timeline what you are seeing? I understand there were some comments quite recent from the Portuguese government authorities, which may have been different from what the regulator has said in the past. I just wondered if you can clarify and whether you could see any potential changes in the guidelines that were initially published earlier in the year. And then secondly, just on the broader question around your OpEx and cash discipline in the quarter. I'm just curious to see whether despite having very disciplined OpEx and CapEx you're still confident in being able to participate in the rebound post the pandemic. So any positive revenue trends and that the cuts and the reductions that you made so far are not going to be detrimental to any revenue and cash flow growth in the future?

Maybe -- Miguel, here. I'll -- maybe I'll start to address the first question, then Jose can address the second question. It's not easy to address the first question on the 5G spectrum option. Given the mass that is -- the whole process has been from the beginning, we have this regulator that really insist in pursuing these presales against the sector, regardless of the fact and apparently, and also regardless of the law. And we have to remind you all that the regulator started by violating the law when it published at regulation that doesn't respect the government resolution, which supposedly -- then again, it's violated the law when it resumed the process when this process was suspended by another law. It also -- so these are national laws. It also violates European laws, in our view, in the sense that the proposed regulation implies a clear state Ad, and a new legal state Ad and this was not notified. The European Commission was not notified about this state Ad. So it's difficult to give a clear answer on what is going to happen given this whole mess. The regulator has published a calendar. Under this calendar, they were supposed to publish the final regulation in September. Start the auction in October, and the whole process should be over by the end of December. In our view -- so this is the official information, and this is what we can share. Obviously, given what I've just said, we are not sure that this will be the case. Given the whole mess, this is -- involved the whole process, even yesterday and a member of the government, with the responsibility of telecommunications, said most of what I said now, he said it in the parliament. So it's difficult to see what's going to happen. If the regulators will insist carrying on this process, which, as I mentioned -- well it started by being sustained by lies -- by -- there's a false narrative behind the whole process. The regulator sustains the whole regulation on the basis of Portugal having very high prices, which, as you know, is not true. And the whole regulation is sustained on this false claim. Then the regulator insisting violating the law. So to be honest with you, we -- I don't know what else to say. It's -- we're very sorry that this is the state of things. We strongly believe in 5G. Strongly believe 5G will be key for this country as it will be around Europe. So we are very sorry to see a single institution, not to say a single person, doing everything putting us all [ outage ] of this process that is obviously very badly driven from the beginning.

Okay. On the second question, thank you, Terence, on OpEx and CapEx trends in the quarter. Actually, if we look a bit in more detail with what happened in the quarter, you can see that total OpEx reduction in the quarter was around a EUR 31 million, so quite substantial. But most of it has been driven by direct costs, representing around EUR 27 million reduction. So this have basically to be with a strong reduction in activity in a few areas. And I could just highlight premium sports season area. So we stopped paying the variable costs to the content cost providers of these channels. I mentioned the royalties in the cinema area, which are basically direct costs that move with the activity, traffic costs that declined with roaming, so they all have to do with this current pandemic situation. So they are, I would say, in no way detrimental to a potential rebound and a scenario of positive revenue growth. Of course, that cost discipline is something that we follow very strictly and in a very focused way. Not only direct costs have been reduced also more structural nondirect costs have also been reduced around EUR 4 million, but that is part of our, I would say, day-to-day job. So -- and we will continue like that. And -- but the order of magnitude, as you can see, is considerably different. It's EUR 4 million in nondirect against EUR 27 million in direct costs. The same goes to CapEx. So on CapEx, the reduction we have seen in the first half of the year has been in terms of customer-related CapEx, mostly driven by the lower levels of commercial activity. And in terms of technical CapEx, there is always some phasing between the quarters. We had slightly higher number in the first quarter, slightly lower number in the second quarter. So it's something that we continue committed to maintain. We continue committed to deploy our core infrastructure projects, namely the FttH rollout, which is part of the fiber sharing agreement that we have with Vodafone, and we are still -- we still have a way to go in terms of fiber deployment in that area. And also on mobile, in which we are committed to maintain the levels of investment ahead of the 5G rollout that -- as Miguel referred, will take up soon.

And your next question comes from the line of Michael Bishop, Goldman Sachs.

Just 2 questions from me. Firstly, just around any levels of bad debt you're seeing, given you took the provision in the first quarter, I was just wondering where the levels of bad debts are tracking versus your initial expectations. And then secondly, on the new WOO product. Could you give us an indication of what you think the potential addressable market is and which segments you're targeting the most with that?

Okay. Thank you, Michael. I'll answer the first question and ask Luis to answer the second one. So on bad debt, we have seen some slight pickup in terms of bad debt in this quarter. I'd say that we are well protected with the magnitude of the provision that we took in the first quarter for this pickup. But we have to say that this is relatively early days to anticipate too much how the overall recession driven by the pandemic will impact bad debt level. So I think we are still early in the process. So we haven't seen, for instance, businesses going bankrupt. And we expect that some of them will have this type of trend. So it's early days. So slight pickup, but I think the level of provisions we took in the first quarter, protect us relatively well at least for a recession for the next, I would say, 2020 and 2021.

Okay. About WOO, the new brand. And WOO is what we call the first 100% telco tech in Portugal. Basically, it addresses what the digital champions or digital adults from 22 to 44 but -- years old. But more relevant than the ages are the profiles. We are talking about digital people that are looking for broadband solutions, both fixed and mobile, and a lot of data allowance, okay? So this -- WOO wasn't launched right now to provide growth in 2020. And it's to set the basis for the future, for future growth in this segment, but also to accelerate what we call digital transformation of NOS and to learn with the process. That's why it didn't have a traditional marketing campaign. It has a digital marketing campaign. That's why it doesn't address the full market. It's addressing the digital segment, the digital champions. So it's a completely different from traditional telco. It's what we expect to have a growth path like the digital brands. So to a slow start, but then start to growth based on multi miles. And obviously, based on recommendation from customers and experts. The most relevant part in the beginning is to guarantee that we provide a superior digital experience. That's what we are doing right now. That's our focus and then grow to income.

We will now take our next question, and the question comes from the line of Mathieu Robilliard from Barclays.

First, I had a question with regards to the competitive environment in general. I mean is there anything noticeable on fixed on mobile that has happened post the end of the lockdown, specifically. Obviously, we know that one of the players want to become a bit more aggressive or is changing strategy. So I was wondering if there is any update worth making on that. And second, in terms of the revenue trend, if I listen carefully as to all the elements you flagged in terms of Q2 impacts of B2B, roaming, premium content and how that's moving to Q3 with probably more roaming impact but a better B2B trend and premium content being back. Is it fair to understand or to believe it that at this stage, the trends in Q3 in terms of revenues seem better oriented that in Q2 on the telecom business?

Okay. Thank you, Mathieu. I'll address the second part of the question. So on trends in revenues, basically, we tried to highlight which were the major drags to this revenue decline in the quarter and highlighting that some of them, obviously, we believe that should start to be back to more normal levels in Q3 and Q4. I think the best example of that is premium sports channel. So we are now back to regular numbers in terms of subscribers and revenues. We already have -- we're back in June. So the impact in the third quarter was a bit less than if we didn't have any revenues for the full 3 months. That represented as we have flagged around 3% of total telco revenue decline. Then on B2B, it's an area of pressure, but we think that at least this issue of the contract renegotiation was pretty much dealt with in the second quarter since most of the customers that have and that we entered into these contract renegotiations are now most of them back in business. And finally, on roaming, I mean, the levels of roaming that we have seen in the second quarter were quite low around -- versus pre-COVID levels. We are talking about 80%, 75% declines. So difficult to go below those levels. So we are also positive in some kind of recovery. Although we believe that is something that will continue to drag our revenues during the second half of the year because it's not expectable that international transit of people, both tourists and business people, will come back to pre-COVID levels. So it's an area of -- that will still be negative, but probably not so negative as it was in Q2. So this -- just to conclude, as you referred, that -- and assuming that we have no lockdown ahead of us again, I mean, Q3 and Q4 should be considerably better than Q2. So again, on negative territory, but considerably less negative than Q2 about the competitive environment. Pre-COVID it was a stable market without aggressive promotional activities. I believe that focus was on revenues and on margin. Obviously, that there's always some pockets of some competitive activity, usually in areas of new fiber deployment, but was very limited in time and in -- to those local areas. So never went national in recovery times. Right now, after COVID, we believe we are back to the same competition environment. So far, no surprises in promotions in price discounts, so far, very similar to pre-COVID.

If I can just follow-up on the first question. Would it be possible to give us a sense of how much -- how the roaming revenues are spread throughout the year? I would imagine Q3 is probably a bigger part than Q1 or Q4. I don't know if you can give a little bit of color on how it is weighted throughout the year. Nothing fairly on revenues, but other revenue would help.

Q3 is the big quarter in terms of roaming revenues. So yes, that's it. And as I mentioned, this has impacted around 2% of total telco revenue decline in the second quarter.

Your next question comes from the line of [indiscernible] from Crédit Suisse.

I've got 2 questions, actually. I wanted to follow-up a little bit more on the cost side. So you mentioned some details on how you've cut costs and majority of it comes from direct cost. And you've got reduction in indirect cost of about 4%. Can you talk about whether any of these cost reductions are going to be more permanent in nature in the coming quarters? And my second question is more on any trend shifts in mobile and fixed markets. So for example, do you see much higher demand for fixed now in comparison to mobile? And yes, how do you think these trends are going to work out in the future?

Let's say on the nondirect costs area, some of this cost-cutting is permanent. Some of it probably not so permanent. And I give you -- I give you one example. So for instance, marketing spend has been reduced. We didn't host, as usual, the music festivals due to the pandemic and this is an area that basically -- I mean, we have much lower costs than what was initially planned. And if we go back to normal, we should restart this type of marketing activities. But part of it is also structural. So I would say the full amount is structural, but part of it should be.

So about trends, it's too early to know if the trends will change. What we have seen during the last 3 months is not that much change in the trends between mobile and fixed. But yes, a change in the trend of the broadband. It was a very strong quarter in broadband, both in fixed and mobile. Fixed, we increased 15,000; and mobile, almost 9,000, which is very relevant. Obviously, this was because people stay at home, has to work at home, study at home and the full family working at home require more broadband. Good sign is that Portuguese trusted in both our networks. So they came to us to have fixed broadband and mobile broadband. If it will stay in the future, we will have to see in the next quarters.

Your next question comes from the line of Fernando Cordero from Banco Santander.

I just would like to know what are your views regarding the competitive landscape but not on the retail side, particularly in the wholesale market, particularly after seeing already activity in the -- of this fiber-to-network wholesaling after the entry of new partners. And in that sense, are we just -- you can foresee this potential more and more activity on the wholesale fixed market affecting to a potential extension of your current joint venture with Vodafone deploying FttH?