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

Good morning and welcome today for our TMT 2021. I'm Simon Flannery. I cover telecom services and communications infrastructure. And it's my great pleasure to welcome Uniti, and we have Mark Wallace and Bill DiTullio. Good morning and welcome. Thanks for coming to the conference.

Good to be here, Simon. Thank you very much.

So before we get started, let me just read disclosures. For important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative.

So Mark, 2020 was a very eventful year along a lot of dimensions, but certainly for Uniti. You were able to make some strong progress on the leases and so forth. So perhaps talk about then how that sets you up for 2021 and what the key priorities are for the company?

Okay. Well, look, I think you're exactly right. I'll let Bill here talk in a little about 2021 priorities. But you're right. 2020 was a really eventful year. It was really a change in the profile of the entire company. Our largest customer, Windstream, is now much healthier tenant. We did do a lot to strengthen the master leases that we had in place with them. We divested a number of our noncore assets as well. So we really refocused the company, our just fiber assets. Now we have 2 key divisions, Windstream -- I'm sorry, Uniti Leasing and Uniti Fiber. They both are complementary but have distinct characteristics that we'll talk about today. And so I think we're really -- I think we're really set up going well into 2021. Both of our business units have been performing very well. And we've been able to make some improvements in the balance sheet as well, with refinancing our revolver. We've gotten some of our debt refinanced, more to do on that front, I think this year, but have made some improvements in our cost of capital. I think that trend will continue. So with that, I'll stop there. I'll let my colleague, Bill DiTullio, speak some more about the 2021 priorities. But I think we're set up to have a really [ good ] 2021.

Thanks, Mark. Appreciate that. Good morning, everybody. So I'll take you through kind of the priorities of what we're both doing at Uniti Leasing and then in Uniti Fiber. And you'll see that there are some similarities. So at Uniti Leasing, really, the focus there in 2021 is to leverage the assets, current assets that we have and to lease them up. So as you may recall, about a couple of years ago, we acquired fiber assets from CenturyLink that they were [ about to be ] divested. And we've had great success in leasing those assets up over the last 2 years. And then a few months ago, we acquired the rights to acquire fiber from Windstream as part of our settlement agreement. That added another 2 million strand miles of fiber. So combined between the CenturyLink routes and the Windstream routes, we have over 3 million strand miles of fiber that we can lease to other parties. In fact, the Windstream fiber itself increased our leasable capacity by 90%. So in the short time that we've had those Windstream assets because, again, some of these sales cycles can take sometimes 6 to 12 months to execute on. But nonetheless, in the short time that we've had those assets, we've already been able to monetize them as well. And so when we [ did mount ] the Everstream transaction a couple of quarters ago, that transaction utilized a good amount, then closed that fiber from Windstream. And so that transaction is expected to close early second quarter this year. So we've been able to already monetize that fiber. We continue to see strong interest and demand from multiple customers. And I think that's reflected in the sales pipeline. So prior to getting that fiber from Windstream, we had total contract value of about $500 million relating to that. Since then, adding that fiber to the pipeline, we now -- that now represents a billion dollars, so it's more than -- it's doubled in that short time frame, which we think it's pretty impressive. And so that's really reflective of all the demand that we're seeing from customers like content providers carriers, both domestic and international cable providers. So there's a lot of tremendous inbound interest. We feel really good about the opportunity there going forward. And we'll continue to lease that up. And the nice thing about -- what we really like about the leasing business is it has a very attractive economic profile. So absent the initial CapEx you spend to acquire the fiber, really is little to no incremental CapEx required to lease-up that fiber, and you're talking about margins that are generally 90%-plus, verging 100% in some cases. So really attractive yields. So really going 2021, it's really focusing on leasing up that portfolio of assets we have. We may be opportunistic in pursuing additional sale-leaseback OpCo/PropCo transactions, if we find the right opportunity at the right cost, but really it focuses on lease-up. And then transitioning over to Uniti Fiber, it's similar there too. So if you recall over the last couple of years, we've been building out these large dark fiber small cell networks. Some of these projects came on when we acquired PEG Bandwidth, Tower Cloud, Southern Light, others began after that. And all these deals were with an anchor wireless tenant secured. And with those deals, we target initial cash yields of between 5% and 7%. Of those 14, 15 projects that we had gone -- going, those legacy projects, we completed them. All of them got completed by the end of last year. And we saw the initial yields play out in that 7% range. So that thesis played out. So now what we've turned to is, again, similar to Uniti Leasing, we're leasing up that network. And we're primarily focused on leasing up those anchor builds with nonwireless opportunities. And what I mean by that is it's selling to enterprises within those markets. It's wholesale opportunities within those markets, selling to schools, to the federally funded E-Rate program, health care, government entities. So if you look at our mix of bookings over the last several quarters, it predominantly have been -- 70% plus of those bookings have been in the nonwireless space and we expect that, that leads up to -- that trend is going to continue to lease-up where most of that is going to come. So if you look at our investor presentation, we have a couple of slides on this, but it shows that we've taken on the lease-up that we've done to date. We've taken that at 7% initial anchor yield, and we've actually grown that to a cumulative old to 14% through these incremental opportunities. So we've doubled it in the last -- over the last 4 years. And when you look at what we just sold in 2020 alone in terms of lease-up, that represents about $14 million of annualized revenue with incremental yields, cash yields of 50% plus. So again, very highly accretive deals. And all these deals, the anchor deals themselves and the lease-up, all have very high-margin profile, 70%, 90%-plus margins, depending on the products and services we're selling. So going forward, you should expect to see further improvement in our EBITDA margins at Uniti Fiber. In terms of capital intensity at the height, we had 15 projects ongoing, the capital intensity was running north of 50%. Today, at end of 2020, it's around 40%, and we expect that to trend towards the mid-30% range, and that's a function of pursuing less of these greenfield builds. We will continue to pursue them. We're probably not going to do 15 at a time. We'll do a handful of times and set the cadence better, but it's also a function of the lease-up itself requires substantially less CapEx than the anchor builds. So those 2 things combined is leading to a lower intensity. So margin improvement, lower capital intensity, we should start to see better free cash flow coming through both of the businesses at Uniti Fiber and Uniti Leasing.

Great. That's a great rundown. So one of the things we've been asking everybody at the conference is about sort of life after COVID and the pandemic, and I think there was a clear demand for broadband, and we've heard fiber a lot at this conference. So it'd be great to just get your perspective, one, on how are we doing with things like construction, permitting and zoning? And just they're kind of out in the field as well as enterprise decision-making. Are there any changes there in that time line? And then what do you see as the new implications for Uniti from this new world of -- as we're doing Zooms every day and a new digital transformation.

I can start, and Mark, you can feel free to add on as well. But Simon, I think we've been fortunate enough that we're in the communications infrastructure industry and we really haven't seen an impact from COVID. I would say in the early stages of the pandemic, we did see some delays in installs of the bookings as customers were reevaluating and with their business locations and things kind of shut down. But we've worked through that, and really, that's kind of -- that's mostly gone away. So really haven't seen -- we may have seen some delays in our enterprise sales bookings, just people putting things off as their physical locations remained closed. But any impact we've seen there has been offset -- more than offset for demand from other, what I'll call, other customers that are looking to respond to the pandemic. So for instance, education, right? There's been a move towards virtualization there and having online learning, health care, telemedicine. Those trends, the pandemic itself has accelerated the trend, about the virtualization of those trends. So we're seeing increased demand from the other sectors, that's more than offsetting any delays we may have seen from the enterprise segment. And I think going forward, we always thought that this trend was coming, there was going to be more of this virtualization trend. But we believe that pandemic just accelerated that. So again, we continue to see increased demand from, I'd say, health care, government, education. And as we know, we think that this virtualization trend will continue. In fact, I think Kenny referenced this on our earnings call, that over the last 4 years, we've seen a 10-fold increase in our traffic on our backbone, ID backbone. And so the traffic keeps increasing, the demand for high bandwidth needs keeps increasing and I think that's here to stay and going forward. So there's definitely a significant amount of tailwinds between 5G, X wireless, just virtualization trend. The common theme is that it all requires fiber, right? Fiber is the connective tissue that makes it all work today and for future technologies. And so I think that plays well into our strategy. What we're trying to do is build dense fiber networks within -- primarily at Uniti Fiber within the Southeast, continue to build out that network, but also plays well into our Uniti Leasing strategy at least both long-haul and metro networks to providers as well.

Great. Thank you. Maybe we could turn to M&A. Mark, you talked about the balance sheet being restructured, refinanced. And I think getting the unit at the Windstream REIT restructuring completed was an important point as well. So whilst it sounds like the organic opportunities here, you've got a lot of momentum there. How should we think about inorganic? You mentioned OpCo-PropCo and some of the sale and leaseback transactions and other fiber deals out there. Is that going to be as much of a priority? Or is it going to be more about focusing on the assets you have today?

No. M&A is still a priority for us. As you know, during the pendency of the Windstream bankruptcy, we didn't do a lot of M&A. We did some smaller deals, but we were -- really were not in a position to do large scale M&A. But we did keep our pipeline fresh. And the pipeline is still in good shape. I'd say the M&A pipeline today has very good depth. And by that, I mean it has a good cross-section of things that might good fits with both Uniti Leasing as well as Uniti Fiber. I think at the same time, it also has the variation within size and within structure and so when we talk about M&A, in many cases, that could take the form of full-company acquisitions, could be opco/propco situations that are either with existing operations that we have or could be like the Macquarie transaction, Bluebird, we're throwing an opco/propco on newly acquired access. It could be sale-leaseback transactions. And then we get approached pretty regularly on doing joint ventures with infrastructure assets. So it's got a lot of depth [ in terms of transaction ] structures in the pipeline. So it's -- the M&A pipeline is in good shape. Our cost of capital as it comes down -- has come down as it comes out even more, it makes that even more attractive and executable. I will say this that we need to make -- need to maintain pricing discipline in the marketplace, some fiber companies, there's a lot of infrastructure money corps chasing platform fiber companies. And so we need to maintain pricing discipline and make sure that anything that we do kind of checks the box on all of our key criteria for an acquisition that would be a really good fit.

Right. So maybe that -- it's a good segue. Just talk about your -- you have a large pipeline of potential opportunities. So what is your process for deciding which ones are the most worth pursuing?

Sure. Well, there's a lot of factors, but I'd say the key ones are really quality of the network, it's density of the fiber, it's the -- what's the customer mix, contractual lease terms? What kind of risks are associated with those contractual lease terms? So do you have return risk for our contracts expiring? And then you're subject to prices moving down or are the prices locked in to longer-term on the contracts? And are they at markets that you don't expect to roll down any prices over time. It's also -- so I think a lot of the -- one of the gross prospects, what kind of synergies might be realized between the 2 companies. So a lot of criteria that we look at pretty in-depth, but I'd say those are probably going to be key ones that are really the first thing that we try to delve into.

Okay. Great. And then turning to leasing in a little bit more detail, it's good to hear that the progress made there and the opportunities. A question we sometimes get is Lumen had these assets for a long time, Windstream had these assets for a long time. Why weren't they able to get this sort of momentum that you're getting now? Is this about plugging them into your existing fiber network? Is this something in your -- go-to-market your sales? What's making the difference?

Yes. So I think -- Bill, let me start and then you can jump in. So I think in many cases, it's [ really about what's first made ] available by Lumen to others. But you're exactly right. In a lot of cases, this is -- we've had a lot of reverse inquiries from the time that we'd acquired these assets. And I think a lot of this is also our ability to take those routes and also combine them with other fiber that we have and put together a more extensive or a more complete route that the customers are looking for. But we've had tremendous amount of inquiry on those routes. Bill, do you want to add anything?

Yes. I was going to say, Mark and I think you hit the nail on the head there. But the other thing I was going to point to is that we have had success on the CenturyLink routes, and I just -- I think we heard the same things, Simon -- that we had the same questions, why couldn't you be successful, but I think we have proven we've been successful because in the 2 years that we've had those assets, we've driven upfront ROU fees of over $50 million on those assets. And that's 270,000 strand miles of fiber, the long-haul routes only. And then you compare that to the Windstream fiber, [ right at ] 2.2 million strand miles, almost 10x the amount of fiber and plus it's a mix of long-haul and metro. And I think we've already proven that we can, as value from doubling the sales pipeline from $500 million to $1 billion. And also, if you look at the Everstream transaction, that's another point to point out, another transaction that shows that we're able to -- I think we utilized 165,000 strand miles of fiber from what we got from Windstream. So there is demand there. And I think it just plays to how our overall strategy and what we're willing, the heads of services and product suite offerings that we're willing to it our customers.

Great. And maybe just a little bit more on some of the moves on the sales side of things and actually how you differentiate between sales on the leasing side and on the fiber side?

Yes. So the way we look at it, Simon, is that at Uniti Fiber, we view that as actively managing, so active ownership of fiber. So we're selling active services to wireless carriers. So we're selling lit backhaul solutions, dark fiber to the tower, small cells. And we talked about these anchor networks we've been building and have it. So -- but with the regional focus, and that region that we're mostly focused on is our southeast. So if you look at our fiber map today, and the southeast footprint is basically standing from East Texas all the way to North Florida, along the Houston, Gulf Coast area. That's where we have this very dense owned fiber network that all interconnects with one another. So within that footprint, right, we're selling services to wireless carriers. We're also selling active services to nonwireless customers, like I mentioned before, enterprise, schools, government health care. So we're selling them Internet with some wavelengths. In some cases, we may be leasing the fiber, but we can offer a whole suite of solutions to them. And then -- so really, from a sales force perspective, on the enterprise and the nonwireless side, right, we have local salespeople that are deployed into these markets that are actively going to the door, getting the Uniti name out there and driving lease-up that way. And then we have this national [ accounting ] strategic team that's led by Greg Ortyl. And we recently we went through this reorganization to kind of make sure that we had one customer salesperson not engaging with one customer, that we would have 2 sales reps engaging with 1 customer. So we tried to simplify the structure, make it more effective and efficient. And so now we have this national strategic team that both deals with national accounts that would be the wireless carriers at Uniti Fiber, but also that could be the same customers and additional customers that are [ national strategic ] accounts at Uniti Leasing. So at Uniti Leasing, we take a more passive management, passes ownership of that fiber to other customers and then they light it themselves and run the traffic themselves, manage it themselves. And so there, we take a more national approach. So again, if you look at our fiber map today, we have fiber that stretches across over 40 states. And it's a mix of long-haul routes that span across the country and metro out. So there primarily, most of the form of what we're selling there are these long-term dark fiber ROU contracts, generally, they're 20 years. They can be 10, 5 years, depending on what the customer needs are. The way those are structured for those of you that may not be familiar with them, is usually the customer pays what they call an upfront ROU fee. So basically, they're prepaying that rent a 20-year lease upfront. So that provides significant cash flows to us that we can put back into the company, reinvest it with other places. And then usually, there's an annual, what they call O&M, operating maintenance aspect, a fee that they're paying to cover any maintenance costs -- operating cost of that fiber. So really, that's how we bifurcate the 2. It's -- think of Uniti Leasing on a national scale, more passive management, while Uniti Fiber is more regional. Again, southeast footprint active.

That's great. And then a new initiative really for you is the GCI investments with Windstream. So that kicked off, I guess, late last year, and it's going to be a couple of hundred million dollars, sounds like this year. So how is that going? And in particular, the process for approving their investments.

Yes. So the process is going well. So let me just start with giving you an overview of how that program works. So under the GCI program, as part of our settlement agreement with Windstream, Windstream will invest the capital initially. So let me take a step back. So we committed to investing up to $1.75 billion over 10 years with them. And this program began in 2020 and will run through the remaining initial term of the lease, through 2030 -- 2029, I believe, and then the lease expires and the initial term expires in 2030. But under this program, Windstream will make -- will have to invest the capital first. So they'll decide where they want invested capital into their footprint. And if you look at the investments they've been making so far in this program, it's mostly been within their ILEC footprint to expand their kinetic offering. And so once Windstream makes that investment, they submit it to us and say, okay, here's how much we spent and this is what we spend it on. Uniti will then review that investment to make sure that it meets the GCI criteria. So generally, it has to be for fiber and fiber-related assets, has to meet certain return thresholds, and there's some other criteria that it has to meet. So as long as it meets all the criteria under the GCI program, Uniti will then basically acquire that fiber from Windstream and then reimbursement them for the CapEx that they spent. On the 1-year anniversary of Uniti reimbursing Windstream, that CapEx amount will get added to the initial master leases at an 8% initial cash yield, subject to a 0.5% annual escalator. So over time, as we can make these investments, the amount of rent that Windstream pays us will continue to increase. So in 2020, we spent about $85 million on the GCI program. And primarily, that came in a little bit in the third quarter and then [ entered ] the fourth quarter. And then for 2021, we expect to fund approximately $200 million of GCI. So again, all this -- all the revenue that's associated with that will come one year after the fact. So the program has been working well. We can, again, continue to review it. These assets become our assets as soon as we reimburse it. So it's owned by Uniti. Those assets will be exclusively leased to Windstream. Although there is the option for us to joint build certain segments with Windstream if we decide we want to retain some of those strands, at least at third party. So if we decided to do that at our option, then we would split the cost of that fiber 50-50, and then any additional strands of fiber beyond what Windstream's initial needs are would be retained by Uniti, enabled to be leased to other parties. So we're really good about -- we're really happy about the program, and we believe it helps future-proof our network going forward.

Right.

Simon, let me just add, Mike Friloux, who is our Chief Technology Officer but previously was the CEO of PEG Bandwidth interface with Windstream. It leads that for us and is very knowledgeable, does a great job with it. He's a very seasoned industry veteran.

Great. And Mark, perhaps update us on your plans for sharing Windstream financials with investors?

Sure. We plan to have those in our 10-K when we have it on file. We could have the 10-K on file as early as Friday, but I would suspect no later than Monday. So we do plan to have those in there. So those -- the information at this point in time that we're going to be sharing with Windstream will be on audited data because Windstream does not yet have their audited information available. That should be later on this month, probably near the end of the month. When we get the final audited information, we also intend to share that. That would be on a supplemental filing, either [ 10-Ka ] or a 8-K. So we'll share that as soon as that's made available to us as well.

Great. And then on Uniti Leasing, you've talked about a lot of opportunities in terms of your pipeline there. But at the same time, your goal of taking capital intensity down, presumably, there's plenty of customers who would like to order service, which might require you to build some fiber spurs or to lease other bandwidth from other providers. So how do you go through that equation of sort of prioritizing, here's a deal that may have a high cash return, but also will require extra funding from you?

Yes. So Simon, I think when you look at Uniti Leasing and what we're doing there, so absent acquiring the fiber itself -- and that's one of the reason why we love the economics of the Uniti Leasing business, is that it really requires little to no incremental CapEx. And you're talking about margins that are generally 90% plus, in some cases, closing 100% margin. So very highly accretive deals. And you're correct in saying that there might be some cases where we need to either maybe expand the fiber a little bit or put in some other spend CapEx to make -- to meet the customers' needs. But generally, some of that cost is passed on to -- through the customer as well. So when you look at the CapEx intensity of -- when we look at the capital that we're expecting to spend this year at Uniti Leasing, $210 million, $200 million relates to the GCI program, right? So there isn't that much more CapEx that's needed to drive the incremental lease-up that we expect to realize in 2021. And then when you go over to the Uniti Fiber side of the business, right there, I think, as I mentioned before, maybe -- I kind of forget if I had mentioned some other call. But the fiber capital intensity there, end of 2020, was around 40%, right? And then it had come down from these large [ builds ] that we have been ramping up. And so going forward, we, again, expect the capital intensity in the mid-30% range. So when you look at the capital intensity of the business combined, right, on a whole, our capital intensity today is around 30%. So we feel really good about that. We don't think it's large number. And in fact, through Uniti Fiber coming down somewhat, it should come down a little bit from there. But we don't view our overall company's consolidated capital intensity as being elevated today.

Great. And just in the last few minutes here, Mark, deleverage came in on below 6x as of the year-end. Perhaps just talk about your leverage targets, your balance sheet priorities and then capital allocation more broadly.

Sure. So yes. So we've indicated that we have a target range for deleverage of 5.5% to 6%. So we are in that range at this point in time. And look, in terms of capital allocation, it's really -- capital allocation is really a balance between dividend, the organic growth that we have at Uniti Fiber, the GCI program that we have at Uniti Leasing with Windstream. And then also, I'm sure we'll be executing those [ new ] transactions as well. So those are the key things. Now in terms of the balance sheet, I've indicated, I've been pretty clear that I think that the cost of debt is too high, which I think we have an opportunity to bring down the cost of debt, and therefore bring down our average cost of capital. We've executed on some of that. We've got pricing down so far on our revolver and we refinanced that. We were able to refinance our in the quarter unsecured notes when they were up for recent reissue at 6.5%. And I think we have other opportunities as well. We'll see when the right time to execute on those is. But I do think we have additional [ options ] to bring down our cost of debt.

Great. And maybe just recap on the dividend. I think at some point, there was a thought of moving to a dividend growth model. Is that still something we might see over time?

Well, we're still under the covenant restrictions of the 7 7/8% bonds that we issued. And as you know, that on a trailing 12-month net debt basis, we have to be at 5.75x. We're not there yet on that metric. So at this point in time, in the guidance that we gave for 2021 is that we'll pay out -- be in a position to pay out $144 million in dividends. This year, that represents our best estimate at 90% of tax [ loom ] coming there of the year. Yes, taxable income can fluctuate and go up and down, so we'll see how it ends up over the course of the year depending on how the operations are, what transactions we execute. That's my best guess of what we'll be. And then where we are after that, that's really up to the Board. But we have been clear that the dividend yield, I think, is still healthy and very competitive to our current rate of 5%, plus or minus. At the same time, we do have a very strong payout ratio, so 40% on an AFFO basis. And so there certainly is room to increase the dividend should the Board decide that that's the right thing to do in the future.

Great. Well, unfortunately, we're out of time. Mark, Bill. Great conversation. Thank you so much for joining us today.

All right. Thanks for the invitation. Appreciate it.

Take care.

Thanks, Simon.

Thanks, everybody.