Uniti Group Inc. (UNIT) Earnings Call Transcript & Summary

Yes. Bill, you want to talk a little bit about the leasing pipeline?

Yes. So Dave, so as you know, this quarter, we haven't given an update on our leasing deal pipeline and the opportunities we're seeing there. And so our pipeline now represents about $1 billion of total contract value, and that's roughly double from where it was at the end of the first quarter. And then really the best change is when you -- it's factoring in these strands that we're getting as part of the settlement, strands have either already owned or now have the right to lease to third parties, which we didn't have that right before or strands that we're acquiring. So the $2.2 million strands in total. Quite honestly, we're not even out there actively marketing these strands yet because we, technically, as of today, we don't have the right to use them. The settlement hasn't become effective. But nonetheless, it's out there in the marketplace that we're getting these strands. And so I think more and more customers are now coming to the realization that we'll have the rights to these strands and it's end markets that have -- that we have several customers that are looking to have benefit of that. And we have talked about in the past that when we've been in front of our own customers with strands that we had the rights to lease to other parties such as the CenturyLink routes that we acquired a couple of years ago. We had customers back then over the last several months that have said, "Hey, if these -- if you ever get rights to these strands that are part of the Windstream network, and we would be interested." And this is before we even announced our settlement agreement with Windstream. And so there's always been an interest in some of those routes, and I can't speak on behalf of Windstream why not they've been able to monetize those. But based on what we're seeing in our sales pipeline, that we've been able to roughly double that and about 75% of those opportunities utilized in part, at least, some of those strands that we're getting from the Windstream settlement. That's what gives us confidence that there's a lot of opportunity there. And as we continue to work some of these opportunities in our pipeline, and again, some of them could be multiyear sales efforts and down at different stages, I think eventually, we'll get to -- we'll have a better idea if we get to the ultimate lease-up potential is on those strands.

Got it. So I guess kind of moving or maybe transitioning from the kind of settlement to kind of what's next. I think that the biggest conversation around Uniti right now is you've kind of made new commitments to put money to work for Windstream on your behalf at an 8% yield. You've got your own fiber investment capital interests. And then you've got the dividend. And there seems to be this flywheel where if you can get the Windstream settlement behind you, then you've got a stronger tenant and people feel better about the Uniti credit and that's 1/2 the equation. But what is the dividend thinking now? You kind of had to cut the dividend in order to take care of some issues that came up as a result of the Windstream bankruptcy. But what is the thinking now? Does raising the dividend lower the equity cost of capital because the stock goes up? Or does it increase the equity cost of capital because it's more dollars per share? Like how does that all work from your perspective?

Yes. So look, I think a couple of things you said there are right. So I mean keep in mind when we talk about capital commitments that we made to Windstream. Those are yielding investments. So they'll have a current year, 1-year after funding, and at 8%. And then also keep in mind -- also in our other business, when [indiscernible], we've said repeatedly that CapEx spending and capital intensity in that business is coming down. Look, on your question about the dividend, we've always had -- we kind of brought it out, and I'll come back to your question specifically. Our capital allocation policy has always really been -- had 3 pillars to it. It's had M&A as the -- particularly with the diversification benefits, so it's -- I think M&A is one of the capital allocation component. We've had organic growth, and that has traditionally been through dark fiber investments, infrastructure with dark fiber builds [ that get you this fiber ]. Some of that CapEx investment is now going to be shifting over to the Uniti Leasing division and those CapEx commitments that we've made to Windstream. And then there's been the dividend. Now on the dividend, we currently have a dividend yield of about 6%. Payout ratio is probably between approximately around 45%, today. And I think those are certainly attractive relative to [ curves ]. I think the average [ REIT ] dividend is about 3%. I think where the dividend -- currently under -- currently the dividend still has to be within the constraints of our credit agreements and particularly the last note offering that we did. So if you'll remember that we operate under a constraint, under our existing credit agreement and under the last bond issuance that we did, that we can only pay out 90% of taxable income until we get leverage down below 5.75% and until Windstream emerges from bankruptcy. So that's where we are today. Now it looks like Windstream will be emerging through bankruptcy shortly. And then after that, they will need to -- well, first need to have accomplished -- before we have flexibility consider the dividend further, they will need to get down to the 5.75x on leverage. I don't know exactly when we'll do that. We want to do that opportunistically, and we're going to take into account where our cost of capital is at the time. I would say this, on the cost of capital, it has increased substantially as we continue to take risk off the table related to Windstream. So as [ soon as it had ] gotten approved, as the bankruptcy reorganization plan has been approved, as people have seen us make progress on steps toward the emergence and getting dependent documents and getting opinions done and then also Windstream getting regulatory approvals to [ change their exit financing done ], I think all those things are sort of the main key things to taking risk off and seeing our cost of capital improve. The one thing that is still outstanding that I hope to -- we'll get some clarity on soon. Is what our ratings will be post Windstream purchase. And I don't have that yet. What the agencies have told us is that they would expect -- they want to issue the new ratings when Windstream has emerged from bankruptcy so that it's clear that the emergence has, in fact, occurred. So I haven't -- I hope they have clarity on that. Now as you know all the credit relating agencies that have indicated that we're on favorable watch for a credit ratings improvement. Certainly not willing to predict here what the ratings will be, but we are working to try to get clarity on that and get those ratings issues as Windstream emerges as well. After that, again, back on your question about the dividend, that dividend is really [ more ] decision. So all I can really tell you is we think about it in terms of our overall capital allocation philosophy and strategy. And then we also think about it in terms of some of the metrics that I've mentioned previously, which would be both what the yield is looking at the peer group, payout ratio [ list ], which kind of speaks to the sustainability. And then also -- we also look at dividend to decide our outlook that it can grow over time as AFFO grows as well. But other than that, I think we'll have more to say about it in the future once they made progress on some of these other fronts.

Got it. And you've kind of -- and that's kind of an interesting segue to -- you've made a comment that you're comfortable that you don't need to access the capital markets this year to meet your CapEx and other commitments to Windstream as they emerge. I think next year, with the investment that you need to make with -- presuming continued capital investment in the fiber business, there will be a capital shortfall. And you think about funding that, I guess it's going to be a conversation about, well, would you be indifferent to equity versus debt issuance if they were yielding the same?

Well, let me start because actually, I think what you said isn't exactly correct. So at the end of the second quarter, we added $550 million of liquidity available. What we've actually said on our last call is that we don't have a need to raise capital both this year and next year. So our current liquidity is more than sufficient to go through all of next year. So we really don't have any needs to raise capital, debt or equity in the -- for the -- through next year. Now that doesn't mean that we wouldn't do so if there was an [ activity in the capital markets ] presented itself to us. So -- but we don't have a need to. And so we have the benefit of being patient and being disciplined in terms of when we access the capital markets and what part of the market we decide to access it if [indiscernible]. Now one of the -- from that standpoint, what I'm really focused on right now from that is, as I said, trying to finalize the ratings. And then also, we do know our revolver that I mentioned on our last earnings call that I'm focused on starting the refinancing process, again, once Windstream emerges from bankruptcy.

So could you kind of -- and I apologize, I misrepresented the statement from the second quarter. But could you kind of -- as we think about 2021, talk a little bit about sources and uses, because I guess what we're -- I mean we're looking at probably $530 million, $540 million of EBITDA this year, call it maybe $550 million next year. But the CapEx is going to go up a lot. What kind of closes the gap there? Is it just the cash on hand?

Yes. So we haven't given guidance for 2021. So I want to stay a little bit away from giving that. But I think some of the things that people tend to miss, as I said, we do have current liquidity to that point. I think the other things that people tend to miss is that in terms of the leasing on the Uniti Leasing business, we generated a fair amount of cash flows just from our IRU arrangements when we do lease-ups. Because in often cases, when you are typical -- typically, when you do an IRU, you typically receive an upfront payment as a portion of the proceeds upfront. And so that's something that people tend to miss. And then we do have other -- we're possibly working on transactions as well. So we do have other transactions that would be cash generating. As you know, we monetized some noncore assets in the past. And I don't think that we certainly -- we'll continue to look at monetization of noncore assets as well. And there's other opportunities on the table as well. So it's not all just capital spend and capital markets. There are certainly other opportunities to recycle assets and generate funds from other alternatives.

Got it. And I think you've been pretty clear that when the cost of capital spiked as a result of the Windstream bankruptcy, that didn't actually stop you guys from kind of continuing to have conversations with the marketplace in terms of deal opportunities. I imagine, since the Windstream bankruptcy, the opportunity presented itself for that to accelerate, although we had the COVID situation which might have pumped the brakes on that. So I guess net of kind of the COVID situation, kind of business activity slowing down versus the kind of risk profile of Uniti looking much better and kind of getting a lot closer to potentially window to hit the market, are we seeing a faster or slower deal pipeline evolution right now than we were maybe 6 or 9 months ago?

Yes. So I think that's -- I think that's a great question, very timely. So I would say this. I think we've talked about during the [ opinion ] of the Windstream bankruptcy, we clearly -- we're focused on doing smaller transactions. We're more cautious, given what our cost of capital was on transactions. And we're at a point, maybe a little bit of an inflection point now where that's changing. Now our cost of capital, I believe, still has room to improve substantially from where it is today. And certainly, the bottoms have improved substantially over the last few months. But I think there's still room to grow, to go on both the equity and the debt. But I do think that you're going to see us shift in we're not making a shift from focusing in terms of M&A deals, not so much on smaller bolt-on transactions, but probably a larger transactions, probably opco/propco transactions are still in the pipeline, maybe larger, more transformational opportunities as well. So getting a little bit back to where we were pre the Windstream distress situation, and really trying to focus on getting back to a normal -- a more normal pace of acquisitions, but really doing things that are really meaningful in terms of size. Now I think that also, to the extent that we're mainly to accomplish that, then I think we're able to do and source and do good deals, I think that it would also have a meaningful impact on our cost of capital as well. In terms of the pipeline itself, the M&A pipeline is in good shape. As you know, most of our transaction pipeline is always proprietary, continues to be. We've continued to nurture those conversations during the Windstream bankruptcy. And so -- and COVID, from our standpoint, really hasn't had any impact on our business. Let's say, for the most part, for the business that we would be interested in acquiring, it would be heavy fiber infrastructure companies, then probably it would have had minimal impact on them as well. So I think we're in good shape on the M&A pipeline, and I think we do have a shift in trend here coming out of the Windstream bankruptcy process.

So a question on that. Obviously, you're value proposition to the kind of counterparties has been the ability to kind of roll forward your tax burden in this UPREIT structure, bring a capital component at a -- usually a -- presumably a cost of capital that's lower than the counterparty might be able to source otherwise. But do you sense at all that now that we're in kind of this weird interest rate environment where the Fed is telling us, look, we've got years of super low interest rates coming. Does that hurt Uniti's ability to convince counterparties to transact? Or does it help because it kind of allows your credit spread to drift even lower?

Yes. Look, I think it's -- I don't think it really has sort of I'm not seeing and I don't expect it to have any meaningful impact on us from that standpoint. Look, I mean, to your point that the treasury rates have certainly come down, and they continue to go down, if you would have different views on that. At the same time, to your point about credit spreads, credit spreads have been pretty volatile over the last several months. They stacked out quite a bit during the COVID crisis. They've come in some, we'll kind of see where they go from here. But there are so many other aspects to know what the -- what, both ours and other counterparties, cost of funds is, that one drifting lower in treasury rates, I don't think it's going to have any impact at all in our business.

Okay. Good. So maybe shifting gears to the fiber services business, which is kind of like probably the more dynamic part of your operating business at the margin. A couple of questions there. Have you shared how much of that business is small cells or maybe how much of your business is small cell related?

Yes. I'll start, Dave. So if you look at our billing MRR today, about 40% of our billing MRR is still from lit backhaul. And then there's another 10%, 15% that's coming from dark fiber small cells. And then the remaining is mostly nonwireless, remaining is nonwireless. So that would be enterprise, wholesale, E-Rate, which is selling services to the schools to the early funded E-Rate program and then in government. When you look at our backlog, and again, that can change a little bit, but most of the mix there has been nonwireless and dark fiber backhaul -- sorry, dark fiber backhaul and small cell. And that's a reflection of us now focusing on leasing up our existing anchor network. So if you recall, for the last 2 or 3 years, we've been building up these very large dark fiber small cell projects. Some of them were acquired or started when we did the acquisitions, our fiber acquisitions. And so we've completed the majority of those larger builds, and we have about 2 projects remaining on those original 14 that we have been talking about, that should be wrapped up by the end of this year. But we'll continue to pursue greenfield dark fiber and small cell builds, and we are seeing robust RFP activity for those with the eventual broader rollout of 5G in our markets. But most likely, we're not going to do working at a time. We're going to do a handful, and that's reflected in our guidance and our capital intensity outlook, where we expect capital intensity come down to 30%, 35% range by the end of this year, and we expect that trend to continue going forward. And again, that's mostly reflective of the lease-up required for significantly less CapEx than the anchor builds themselves, but also includes the handful of greenfield builds that we expect to pursue going forward. And so small cells, and you look at the backlog, that's -- it's a pretty meaningful part of the backlog. And again, depending on the type of awards we get, we do still have some wireless carriers that prefer lit backhaul solutions. But we also have a lot of wireless carriers that are looking to convert lit to dark fiber or in small cell nodes and add them. In fact, in some of the RFPs that we're currently working on in some of the legacy markets that we may have seen several years ago, you may have seen a handful of macro nodes being in the RFP for that market. We're now seeing small cell RFPs in those same markets for 7 to 8x the number of connections. So we're seeing very dense fiber node type RFPs, probably the most dense nodes that we've ever seen before. And I think that's a reflection of the carriers, again, wanting to densify these markets for the eventual -- not only for just existing 4G to help with bandwidth in there but the eventual rollout -- more broad rollout of 5G. I think 5G to date has mostly probably rolled out in Tier 1 markets. But it's coming to our Tier 2, Tier 3 markets, and we have seen and are continuing to see strong activity from the wireless carriers as they ramp up for that. So today, we have about 2,400 small cells either installed or in our backlog, about 1,700 installed, 700 in our backlog. But again, a lot of the RFPs that we're currently working on, a lot of those are for small cells as well. So I think that number will continue to grow. So when you look at our mix going forward, our billable -- our billing MRR mix, our expectation is that the lit backhaul piece over time will become smaller, and that will be replaced by more dark fiber small cell and nonwireless opportunities.

So just quickly on the small cell opportunity. Just recently, it's become a little bit controversial because there's been some questions raised by some investors that small cell systems are really not actually demonstrating meaningful cotenancy and that there hasn't been a lot of evidence to suggest that there may be the prospect of cotenancy in the future, which is really where the meat of the total return opportunity sits. What's your experience to this point on that? What's your philosophical view on that?

Yes. So our lease-up strategy is this, is that we undertake an anchor build for the wireless carrier, either dark fiber or in some cases, small cell. And what we do is we target an initial yield with that anchor customer of between 5% and 7%. And then of those large projects that I just talked about, we've seen that play out, that means we're getting that 5% to 7% yield. The lease-up -- our lease-up strategy, the lease-up that we're going after, if you look at our mix of bookings over the last several quarters, you can see that it's predominantly been nonwireless, and that is really what we're focused in these markets. Again, we primarily operate in Tier 2, Tier 3 markets. A lot of these markets are underserved or have been for some time and they're less competitive. Usually, there's the ILEC and maybe a regional fiber provider. So our goal and our strategy is to kind of go in there and own that market, own it from a wireless carrier standpoint, but also own it from an enterprise wholesale E-Rate government's network. And so our strategy is secure the anchor wireless deal that help build that anchor network and then expand out from that anchor network or leverage that fiber in the ground that's in the ground anchor network, to add on additional enterprise customers, health care, government, education and wholesale opportunities. And really, so that's what we're focused on. Now if we get a second or third dark fiber or small cell wireless tenant, that's great. That has great attractive economics. All these things that I'm talking about, even the anchor deals and the add-on lease-up, they're very all high margin businesses, [ 7% to 90% ] opportunity, margin opportunities. So we're focusing on high margin, recurring types of opportunities. But really, a lot of that lease-up is going to come from nonwireless. And if we do get additional lease-up from wireless customers, that's just extra added on into that. So 5%, 7% initial yields on the anchor deal and then through our lease-up, which could take 2 to 3 years depending on the market, and we believe we can get that cumulative lease-up rate into the low to mid-teens. And I think you saw in our quarterly earnings call, we tried to show that for what we have always sold so far this year, we're expected to generate incremental yields of 40%. So if you need to go from the 5% to 7% to the low to mid-teens that we're talking about, we need those types of incremental returns, 20% to 40% incremental yields to get there.

Perfect. And I know we're running out of time, but I just want to ask one last question, which was in the E-Rate business, with the school openings kind of being all kind of over the map and not really knowing what's going on. But at the same time, the recognition that maybe virtual schooling is a new necessity. Is there anything moving in the E-Rate process? Is it being delayed? Or is it being accelerated? Or is it just very methodical because it's a government-based program, you just get a check every month?

Yes. So I think USAC, who runs the E-Rate program, they did kind of extend some of the deadlines for awards. Usually, they will be awarded in the early second quarter and then they get installed in the third quarter. And so in some cases, there were some awards that were delayed. But from our standpoint, we were pretty happy with our E-Rate year. I mean with most, if not all of our business, and we won some new deals as well. And in some cases, we were able to accelerate some of the installs at some of the schools because they have been closed. But I think with COVID and remote learning, not just education but in other industries like health care and government, I think it really presents us several opportunities for us to expand our product set and offer -- give product offerings to certain customers that we may not even had before. So for instance, telemedicine is becoming more prevalent. You talked about remote learning. I also heard from one of the wireless carriers that there's now this shift of mobile usage from urban areas to suburban rural, it is because people aren't commuting into major cities to work. And so I think even on the wireless side, there could be a need for them to continue to add more nodes, to continue to densify even beyond what they may have thought originally because to support that need. So I think there's a lot of catalysts that can offset any headwinds we may see on the small business enterprise side. But again, if you look at enterprise as a percentage of our total consolidated revenue, it's a very small percentage, less than 5% today. And really, we are focused more in the health care, government and education segment. So I think there are a lot of different opportunities to offset any headwinds we may see there.

Okay. Perfect. Well, Mark and Bill, thank you so much. We kind of killed our time. That was super educational. Thank you for your time. Thank you for everybody. If I didn't get your question online, I'm sorry. I just blew through all the time. And good luck with everything through the next couple of weeks and months, and then we'll talk to you guys, I assume, in October, November.

All right. Thanks very much, Dave. See you soon.

Thanks, everybody.

Thank you.