SES S.A. (SESGL) Earnings Call Transcript & Summary

Hello, and welcome to the SES call with analysts and investors. My name is Jess, and I'll be your coordinator for today's event. [Operator Instructions] I will now hand over to your host, Richard Whiteing to begin today's call. Thank you.

Thanks, Jess. Good morning, everyone, and thanks for joining for this call regarding this morning's announcement. In a moment, Steve Collar, CEO, will present the main transaction highlights, after which we will take questions. And for this, Sandeep Jalan, CFO; and JP Hemingway, CSPO, are also on the line. This morning's presentation was uploaded along with the press release at ses.com, if you don't already have it. And as always from me, please note the disclaimer at the back. So with that, let me hand you over to Steve.

Great. Thank you very much, Richard, and good morning, everyone. Thanks for joining at a relatively short notice. And I'm joining you this morning from Washington, D.C., which is extremely appropriate given that we're here to announce and discuss the exciting news that SES has entered into an agreement to acquire DRS Global Enterprise Solutions, or DRS GES. This acquisition delivers for SES strategically, financially and plays to our strengths as an extremely well-run business serving high value and demanding end users in a segment that values high throughput, high flexibility and a multi-orbit resilient architecture. So I'm going to start on Page 2 of the presentation, and I hope you all have access to that, and it outlines the transaction. So we've agreed to pay USD 450 million to acquire GES from Leonardo DRS. Of course, the deal is subject to obtaining certain regulatory approvals, which we'd expect to be completed during the second half of 2022. I personally long admired DRS GES and have worked with them for 2 decades. They have a strong track record of execution and performance. They're extremely well brought up by the U.S. government -- in U.S. government circles by end users, partners and competitors and have a culture of long-standing relationships built on the delivery of high-performance, reliable and mission-critical connectivity solutions across the U.S. government. They really are a best-in-class solutions provider and the combination with our own SES Government Solutions business, will allow SES to serve the U.S. government with an expanded and enhanced set of an advanced connectivity and network solutions, leveraging the world's largest multi-orbit satellite fleet. Upon close of the transaction, we'll combine DRS GES with our SES Government Solutions business, and that combined business will operate under our existing proxy agreement. With an expected annual revenue of more than USD 250 million, the addition of GES doubles our overall revenue base of U.S. government clients at a time when demand for connectivity within the government community is growing significantly. The investment also offers attractive synergy opportunities of USD 25 million on a run rate basis, which we will realize over the course of 3 years of closing, including from capturing opportunities to support and enhancing existing networks and services with our own SES fleet. So on Page 3, you have an overview of the GES business today. And for over 20 years, GES has supported end-to-end satellite communications for land, sea and air operations for the U.S. government. The business is a leading government service provider with a sizable annual revenue base, long-standing relationships with many key agencies and expertise in delivering integrated satellite terrestrial solutions, notably in enterprise IT management and cyber security. As a key service provider, GES supports a range of agencies, including key parts of the defense and intelligence communities and is best known for putting together multiband solutions that meet very demanding requirements of the U.S. government, both at home and abroad. This is reflected not only in the extremely proud record of customer attention, but also in the level of profitability reflected in the $40 million of EBITDA having grown strongly over the past 3 or 4 years. GES has successfully leveraged its access to services from global operators, spending some $100 million year-on-year on satellite capacity, only about 10% of which is provided by SES today and where we see plenty of opportunity to support the DRS GES customers leveraging our own extensive multi-orbit network. So turning to Page 4, and this lays out the advantages of our combined customers for bringing together GES experience in satellite communications integration and our state-of-the-art multi-orbit satellite networking capabilities with over 60 years of combined experience in supporting mission critical communication needs. GES' deep understanding of U.S. government customer needs across a broad suite of applications will further expand market access for O3b mPOWER, particularly in intelligence and information gathering as well as increased data reach back. O3b mPOWER will be uniquely positioned in these areas, running a compelling combination of low latency, high throughput terminal and high flexibility for a range of U.S. government requirements. As you know, we're developing intelligent capabilities that enable customers and end users to operate seamlessly across multiple orbits, and across terrestrial solutions, where the combined SES GS and GES business will be able to leverage the arrival of O3b mPOWER to deploy really unique services and solutions to a unique base of customers that are among the most demanding of Brazilian multi-orbit high-performance solutions. GES and SES GS are also a strong fit culturally. They both share value and customer centricity and deep commitment to providing best-in-class service to an impressive lineup of major U.S. government agencies. And so now taking a step back and looking at the significance for SES' business on Page 5. And you've heard me say many times that all governments are increasingly seeing space and access to multi-orbit satellite solutions are strategically important for the future of defense and civil operations. We're seeing this translate into strong growth in demand for satellite-enabled connectivity to support a wide range of these applications, including intelligent surveillance and reconnaissance, comms on the move, comms on the pause and morale, welfare and recreation. On a pro forma basis, our overall government revenue will increase to about EUR 0.5 billion to account for more than half of our networks business. Out of these, U.S. government revenues would double and account for nearly 80% of our overall government revenue. And finally, on Page 6. This acquisition is an example of our focus on scaling our business through disciplined value-accretive investment. As you heard already, we are scaling our business in a high-value growth segment where we have consistently demonstrated our track record of partnership and success as evidenced by almost 30% growth delivered in our government revenue since 2017. We expect the deal to be accretive to both our earnings per share and free cash flow per share from the first day after completion, reflecting the high level of profitability from the GES business with some $40 million of expected base EBITDA. Looking beyond that, we would expect that number to grow with the expanded enhanced set of advanced connectivity and network solutions of the combined SES/GES business, leveraging the world's largest multi-orbit fleet, as well as realizing important synergies where we would expect to have captured the full USD 25 million of annualized synergies by the third year of completion. The transaction is fully in line with all aspects of our financial policy being a value-accretive investment and including our continued commitment to a strong balance sheet and investment-grade ratios. So that's it. A super exciting day from an SES perspective and handing back to Richard and the operator for questions.

Thanks, Steve. Jess, I think we can take our first question.

[Operator Instructions] And the first question comes from the line of Sami Kassab from BNP Paribas.

I have three questions, please. The first one, can you discuss the source of the $25 million synergies and provide a breakdown of revenues versus cost synergies, please? Then secondly, how much of GES revenues are from non-U.S. international governments, if any? And lastly, can you elaborate on the 2 or 3 largest contracts that GES has? When are these due for renewal? And how much do they account of total revenues, please?

Thanks, Sami. What I will do is I will take the second and the third and then let Sandeep take the question on synergy. So look, in terms of how much of DRS GES' business is non-U.S. government, very little, and that's one of the things that really attracts us. They're a very, very focused U.S. government service provider. They got their reputation really on being a key partner across the U.S. government and to multiple agencies. They have a lot of -- I mean, you asked -- to turn to your sort of other question, they have a number of different contract vehicles. They have a number of different sort of routes into government agencies. I would say they've built their most successful relationship with SOCOM, with Special Operations Command where they operate the global network for Special Operations Command. And that's obviously a key driver both of their capabilities, but also their success given their relationship there. But I would say it's really across the U.S. government. They deliver a lot of services for FEMA. And so it's a sort of a diversified set of end users, all be them within the U.S. government environment. And so Sandeep take the question on synergy, if you would?

Yes. So Sami, on the synergies, we are projecting $25 million of synergies to be reached in 3 years' time. We believe we have been conservative in these estimates. The breakdown of the synergies is that about 60% of this comes from really pull through synergies as we also disclosed in this presentation. GES, they buy currently about $100 million of third-party capacities. We are, by far, the very small player in this, about $10 million is our current sales to this GES. So there is meaningful upside potential beyond the number that we have factored into this number, which is only $15 million synergies on the pull-through. And the rest, $10 million is clearly on the other elements, which is including OpEx from the business, where we see highly synergistic business. So overall, very moderate level of synergies that we are projecting from this asset and a very quick ramp-up that we would expect. Almost 50% of the synergies would be reaching within a year of concluding that transaction.

The next question comes from the line of Nicola Gifford from Goldman Sachs.

Firstly, I wanted to ask on if you could provide any color on GES' free cash flow items below EBITDA, i.e., on the CapEx, tax or working capital? And then secondly, is there scope for any further acquisitions sort of similar to the one that you announced today going forward?

Sandeep, you take the first.

So I'll take the first -- yes. So this asset, we have announced that the EBITDA expected is about $40 million. In fact, below EBITDA, there are very few cost items. There is not any high level of CapEx. CapEx is very low. It's in low single-digit millions. So there is a very high level of cash conversion of this EBITDA. So very highly free cash flow generative. From working capital engagement as well, there is not any large movements, any meaningful ones. And regarding the tax, there would not be any significant step-up in our tax guidance, and we will come back around the closing time of this transaction about the overall impact on our ETR, where we have given a guidance earlier. It remains in 10% to 15%. And it may go with this transaction towards the top end of that guidance. That's where we currently said. So overall, very cash generative transaction from day 1 and on top, synergy further ramping up this cash generation much more.

Yes, look, on the question, Nicola, of any other kind of opportunities or how do we see this? I would say we've been targeting this acquisition for a little while now. As I said, we sort of as a business, admirers of DRS GES and what they've created. And so -- and I think you can see both in the financial fit and the strategic fit, why. And so as always, when it comes to M&A and sort of inorganic growth, we're going to sort of look at the fundamentals of the business, how well does that business fit with what we're doing at SES and be super financially disciplined around it. So it's really a business that we were pretty excited about from the first moment that we got kind of seriously engaged and very, very happy and sort of excited that we've been successful. So I would say we will continue to back that up in terms of our approach to M&A and inorganic growth.

The next question comes from the line of Aleksander Peterc from Societe Generale.

I just have a very small update on at what point in time do you expect to reach the full synergies? That's number one. Number two, from your earlier comments, do I understand it well that most of the EBITDA, minus a very small CapEx, flows into the free cash flow generation of the business you're acquiring? And then a third one, if you could just tell us whether the current geopolitical context led to maybe a little bit more tense negotiations on price? Or did that not play any role because you saw the value of defense assets going up quite a lot by about 50% to 80% across European assets over the past couple of weeks? So if you could just clarify that for us.

Yes. So I'll take the third. So the answer is no on point 3. It really had no bearing whatsoever. I think our strategic view was formed well before the last 2 to 3 weeks. And we've been in discussion sort of around this topic for a good while now. So no role in terms of discussion, negotiation or indeed the strategic fit. Sandeep, do you want to pick up the other ones?

Yes. Yes. So on the synergies, as we said earlier, Aleksander, we expect $25 million of run rate synergies, and we expect to reach this level within 3 years' time. And we have been pretty conservative, as I was explaining earlier, the pull-through part, where we are currently at about $10 million, and we will ramp up to $15 million. That is part of our synergies production. And once again, on the synergies, we expect to be halfway through this $25 million of synergies within a year of having closed the transaction. On your second question, yes, we do expect this EBITDA to be mostly converted into cash inflations because the level of CapEx and working capital movements below EBITDA is pretty small, right? So traditionally, the cash flow from operations from this business has been at the level of about 90% of the EBITDA. So pretty free cash flow accretive from day 1 and plus synergies further ramping up the level of absolute EBITDA and free cash flow generation from the business.

The next question comes from the line of Nick Dempsey from Barclays.

I've got two left. So first one, always when an integrator is bought by someone who's providing capacity in this case, you have a question about the independence of that business in the minds of the customers. So how are you going to sort of balance the -- what really needs to your customers that you'll be balancing their needs successfully with your desire to sell more SES capacity? And second question, can you give us an idea of who the key competitors are for this business just as the top couple?

When you say -- Nick, when you say competitors, you mean who -- which businesses compete with DRS GES today? Or...

Exactly, yes.

Just want to make sure I get your question right. Yes. Okay.

Yes. Other large integrators for the U.S. government, yes.

Got it. Got it. Listen, what I would propose to answer those questions, Nick, if it's okay with you, is I'll hand over to JP. JP has been really super close to this for the entire time that we've been engaged with DRS GES. And so he'll be able to give you a good sense for how end users of GES will be thinking about this. So JP, why don't you take that. That works for you?

Yes, absolutely. So Nick, I think on your first question, you used the exact right word, which is the right balance. What GES has done a very good job of is getting really close to their customers with a very trusted relationship and they trust them to go and find the very best network solutions. But as Sandeep said, we are underrepresented given that we are the world's largest satellite provider and now have sort of 10% of their satellite business means that we are underrepresented in their sort of overall architecture. So there's certainly room to shift that balance and move us higher up the order in terms of the best use of the best assets. But I think it's fair to say that to date, GES don't have the best of the best of SES' fleet. And obviously, what this move does it gives them privileged access to the very best of our assets on a global basis. So that will be good for their customers. They will get the best of the best of SES and continue to get third-party capacity as they would need to. And as we do with SES GS today and balance that quite correctly. But obviously, the bigger point is the future. And then getting access to the very best of O3b mPOWER, which is something that our customers will get massive benefit from. So we see this as a good balance, but a balance that we are significantly underrepresented in today in terms of that independence to bring their customers the best network. And in terms of key competitors, really, in terms of some of the contracts they own, they really have had them for a number of years. They are very, very solid with the SOCOM contract, with the Army and WCN, Endo, Paycom and others, which is really synergistic with us because we don't have those contracts. We actually have very strong relationships with others. So there are some independent service providers such as formerly known as UltiSat and the Speedcast, partners such as Peraton and these things, but they're not always just competitors. They are quite often partners with GES and indeed, partners with ours. So it's a relatively complex ecosystem. I would say that DRS GES are massively positively viewed by all of those and they work with ourselves, they work with Inmarsat, they work with Intelsat, sometimes competing, sometimes as fantastic partners. So I think it's a complex ecosystem, but they are very, very strong in the contracts that they have today.

The next question comes from the line of Terence Tsui from Morgan Stanley.

Just two quick questions left from my side. Picking up on the comments to the previous answer. Just wondered if you can elaborate a bit more on the $100 million of annual spend on satellite capacity by GES. Just interested to get an understanding about what is the typical contract length and how long it could take potentially for SES to win more business on the capacity front? And then secondly and lastly, perhaps you can just elaborate a bit more on the regulatory clearing process. What hurdles do you need to clear, please?

Yes. Look, on -- I guess, on the first question, what I would say is the answer is it depends. The contracting structures of the U.S. government are typically sort of 5-year deals overall, but are essentially renewed on an annual basis. And depending on how the contract works, sometimes that will allow the provider to sort of exchange solutions within the overall contract. In other words, sort of swap out certain bandwidth and certain services and some don't. And so it's really it depends question. But what I would say is reflecting what JP said is our strategy and our approach here is going to match exactly with DRS GES' existing approach, which is best-in-class solution for the end customer, best-in-class solution to the end user, making sure that, that's the #1 priority, but with the confidence that obviously with the largest fleet and now with full access to Medium Earth Orbit SES' fleet and capabilities is going to be extremely attractive to the end users that GES currently serves and will serve in the future. So we think there's every opportunity for us to capture more share of the satellite capacity while still staying true to the fundamentals that have made DRS GES successful over the last couple of decades. And I think on the regulatory approvals, it's sort of customary approvals. We've got an existing U.S. government proxy entity, and so that certainly helps. We're very sort of similar in terms of structure to the Leonardo DRS and the way that, that is sort of structured within their business today. So we think that those approvals will take us around 6 months, and we think that will be done by the second half of this year.

The next question comes from the line of Roshan Ranjit from Deutsche Bank.

Just two quick ones for me, please. Thinking slightly had, I guess, I'm looking at your group guidance. You had guided to prior to this deal, a return to growth in FY '23. And depending upon the ramp-up and the integration, is there a scope to kind of narrow the low- to mid-single-digit average growth guidance you've given over the, I guess, the midterm? And secondly, just following up on some of the previous comments you gave. When we think about the O3b mPOWER backlog and clearly, that doesn't include any kind of government commitments at present, in your kind of discussions that you've had I guess, how easy is it trying to pull through the kind of current contracts that GES has into that multi-orbit proposition that you guys are able to offer? And what, if any, is there kind of current overlap? I guess a bit of a high-level question there, but any details you can give there would be very helpful.

Yes. So I think on guidance, and happy for Sandeep to jump in, but we'll sort of cover that in a broader update. But I mean this is sort of specifically around this acquisition and then we'll cover probably with our Q1 results, any sort of updates that we would give there. But obviously, the two are sort of stand-alone, if you like, our current business and then adding the GES business, ultimately, when that closes, and we'll sort of talk you through the implications of that on our next call. And in terms of sort of yes, you're right in what you say, there's no government backlog in O3b mPOWER, and that's one of the things which excites me about this transaction. And it's not so much pulling through existing contracts, but it definitely presenting solutions to existing end users that I think will be extremely interested in the kind of capabilities that the O3b mPOWER offers and the sort of the multi-orbit architecture that we have offers. And it won't just be sort of integrating that multi-orbit architecture within our own fleet and capabilities. It also offers us the capability to kind of expand and put together hybrid solutions that include both MEO and GEO and in some cases, our own GEO, and in some cases, other people's GEO. And it's exactly the reason that we've developed adaptive resource control, we developed this kind of multi-orbit approach and the government -- the U.S. government in particular, is one of the most demanding when it comes to resilience, when it comes to multiple solutions, when it comes to being connected to both for example, MEO and GEO simultaneously. And these are all things that we'll be able to bring and leverage and take to the end users and the current customers of DRS GES. So not so much about pulling through existing contracts or contract vehicles but definitely leveraging the relationships that already exist within the GES business and sort of bringing a solution set that I think is really, really well matched to this community of end users.

The next question comes from the line of Carl Murdock-Smith from Berenberg.

And you've answered most of my questions, but just one last one. You've obviously got a huge respect for the depth of relationships that GES has built with its customers over the years. So with that in mind, can you just talk slightly to what you're doing with regards to retention of key employees?

Yes, it's a great question. Obviously, something that's sort of top of mind. And I think the relationship is that GES has built with our customers is part people, it's part culture and it's part capability. And we're very, as you say, both respectful, admiring and very focused on protecting and defending all of those things. And so Carl, it's a great question. We have sort of retention mechanisms in place. But as importantly, it's sort of reassuring all concerns, including end users and customers of GES, that things only get better from here on, right, that this is a very good thing for GES' customers and end users, a very good thing for the employees of the business. This is a growth-orientated business. The same thing is true for our SES GS business. And so this is really a kind of a win-win across the board. But to your point, retaining key talent across our organization and including certainly DRS GES employees is -- has always been through these discussions at the very top of our list of priorities.

There are no further questions in the queue. So I will hand the call back to your host for some closing remarks.

Well, thanks, Jess. Thanks, everyone. Go ahead, Steve. Yes, go ahead.

Sorry, Richard, a bit of a delay on my line, I think. But look, just to say, I'm sure you've sort of picked up. We're really excited by this. This has been a business that, as I said, we've longed admired. We love the team. We love the customer base, and we're super excited about the future of at DRS GES combined with our SES GS business. And I really think it's important, I would say, transformational for our networks business and with a view to the capabilities that we're bringing with O3b mPOWER. So with that, thanks very much for joining. Thanks for joining at short notice, and we look forward to talking to you with our Q1 results. Thanks all.

Thanks very much. Bye-bye.

Thank you for joining today's call. You may now disconnect your lines.