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

Unpack there but I'll try to get through that quickly and then if you have follow-up questions. Sure, we can look into any of it. But -- so yes, we have -- so we have 2 major MLAs, master lease agreements with Windstream. In 2020, as Windstream emerged from bankruptcy, we -- part of the settlement was we bifurcated those leases -- or that lease. It was 1 lease prior. We bifurcated that lease into 2 leases. One for the ILEC, and that's the majority of the revenues. That's $540 million-ish of rent on that and then $120 million on the CLEC. So that gets you to your $650 million, $660 million range for the rent on those MLAs. Part of the logic to bifurcating them is it gives Windstream more flexibility with regard to their option, so they could divest the CLEC and that...

And you can do lease [Audio Gap] part of it. Yes.

Yes. And so that was a part of it, too. So I mean the responsibility of the 2 parties, I mean it's a triple net lease. So generally, Windstream is responsible for all maintenance and upkeep an operation of that the network and the expenses. So very little responsibility from our side with regard to the triple net nature of the lease. But in the settlement, we did we did craft some additions to the relationship. So one is there's a settlement payment that we agreed to make over 20 quarters. That's about $24 million to $25 million a quarter, so about $100 million, just shy of $100 million a year. That runs through mid-2025. So we're getting towards the back end of that obligation for us. And then we also -- Uniti also agreed to create what we refer to as the GCI program, growth capital investment program, where Uniti is investing its dollars into basically the overbuild of Windstream copper fiber-to-the-home network, their copper residential network with fiber-to-the-home. So overbuilding that copper with fiber. So we agreed to invest up to $1.75 billion in that -- between 2020 and 2030. That investment is front-loaded to some degree. It steps down over time. This year will be the peak year for investment. So $250 million is what we expect, which is the max that they can use this year and then in 1 year.

They're using all of it?

We expect them to use all of it this year. it steps down to $225 million next year, they're able to roll over unused portions from previous years but there won't be much, if any, rollover left after this year. So it steps down to $225 million and then in 2025, it steps down again to $175 million. So it's stepping down over time. There's another step down in the future to $125 million as well. So it steps down over time. And then there's an 8% rent -- yield rent that comes with that. So they pay us an 8% starting 1 year after the investment is made and then that escalates at 0.5% a year. So over time, that rent from those investments also steps up.

[Audio Gap] How are these separate components [Audio Gap] lease renewal discussions, right, which is probably '27, '28. What are [Audio Gap] again, what are the flexibilities around both of those MLAs and what's more critical to win and what could they potentially walk away from [ 2030 ]?

Yes. Yes. So the term of both of those leases run through 2030 and then it starts a 5-year renewal cycles in 2030. The process for renewal is very -- is laid out very clearly as a part of these leases. So there's a definite cadence and timing and structure and process associated with renewals in 2030, but the renewal process starts and kicks off in '27, and it kicks off with a negotiation between the parties. And Windstream has the option to renew these leases by pod. And pod, you can think of it as a collection of markets kind of -- and so they can either choose to renew a pod or not to renew a pod. If they want to renew, then there's a negotiation between the 2 parties, if we can't come to an agreement -- a mutual agreement on the renewed lease rate by a certain date in 2028, then you move to a binding arbitration process that brings them third-party accredited appraisers, similar to the appraisers that we involved in the 2015 initial setting of the lease and the 2020 settlement. Those appraisers would then -- as a baseball arbitration where they come up with their own independent assessment of the fair market value of the lease, if they're within 10% of each other, then you split the difference, if not then a third independent appraiser is appointed that then does their own work and then chooses between one of those 2 as the lease rate going forward. And then all that would play out by mid-2028. In terms of what they would renew, like I said, they have options by pod but it's very difficult to conceive of a way that on the ILEC that they wouldn't be renewing the network. The networks are critical to running those ILEC networks. Those ILEC networks are -- they're the provider of last resort in those areas. So it's difficult to conceive of a way that they would not renew an ILEC pod. The CLEC, I think there's a little bit more flexibility but it's not a route-by-route type of renewal that's -- those pods on the CLEC national network are kind of multiple states and multiple routes. And so -- that's difficult to take -- would take investment by Windstream into alternative networks and transferring that traffic and that sort of thing. And so not impossible but I think not likely, yes, not likely that they wouldn't want to renew at least given what we can see from the current usage of those networks. Yes.

So what is...

I was going to add one thing to that. I mean even if there were parts that they didn't renew, then we would have the right -- Uniti would have the right then to lease that to other parties. And so you saw us as part of the settlement agreement. I think one of the things I forgot if we mentioned it or not, is we got rights to 2.2 million streamers of fiber on the CLEC network that we now have the right to lease to other parties. And when we got the rights to those -- that fiber, it doubled our sales pipeline from -- sales funnel from, call it, $500 million of total contract value to over $1 billion, and it still sits at over $1 billion. And so there's a lot of opportunity within there. And we have done a lot of the larger deals that you've seen us announced more recently through press releases and other things, have utilized that fiber. And so even though Windstream wasn't utilizing it, we have a use for it, and we have a proven track record of showing that we can monetize that fiber. So the point I'm trying to make is even if there is fiber that Windstream doesn't choose to renew come renewal time, I think there would be -- especially with CLEC fiber, there will be value for us that we can...

That [indiscernible]

Correct. That we can because we're agnostic in terms of types of products or services we offer. We'll provide dark fiber, we can light it. We can use it to support our -- potentially, in some cases, our Uniti Fiber operations. So we feel confident that for the part that they wouldn't renew, and I agree with Paul that it's highly unlikely that there's a lot of it that they couldn't renew. But even there wasn't, we still think there's a pathway to monetize it on our end.

Those are good points, Bill. And also there's an obligation that they would have to work with us to lease it to another party if we wanted to the personal property that they have lighting the network, running the networks would -- they would have to transfer at a fair market price to a new tenant as well. So there are provisions in there that will allow us to transition but it's -- we think it's most -- likely that most, if not all, would be renewed. Yes.

Yes. So if I could just sort of along those lines, talk -- turn to what I think is always on investors' minds and is rumored out there, how real it is or isn't is, anyone's guess, except you guys would know being on the inside, obviously. So the question is, the recombination of the assets. And you're now -- you've got the sort of the maturity wall fixed, and you've talked about how M&A is the big focus along with continuing to run the organic business. How serious an option is that? And I know that you've said before that there is an industrial logic to that, if you will, even though it was split off 8 years ago, it might make sense today to bring the assets together. Can you just give us a sense of how you guys are thinking about that? And how we should kind of handicap that?

Yes. Well, I certainly don't want to speculate too much on the probability there. But I do think there's an -- there's some industrial logic to that potentially. I mean, it's no -- it's definitely no secret that the current structure of the separation, I mean, it's creating some uncertainty for us and an overhang for our capital structure in terms of that uncertainty going forward. It definitely creates some issues for Windstream in terms of their investment in the network going forward and their ability to drive their business forward. So I think there's definitely some industrial logic a recombination on paper. I think the devil is always in the details of what that would mean and how it would come about. And I think we're confident in our position with regard to renewal and I think we've got the ability to continue in the current state. But I think we're open to discussions around things that make sense. And I think that we've talked pretty openly that we are in -- we have had discussions. We have been in discussions with regard to transformative type M&A. And I think that's one of the flavors that there's a possibility out there. But I don't want to handicap it for you, for sure.

That's right.

Yes. Yes.

The last thing, and then I have some more questions but I want to open it up after this question to the investors in the room. But I have to ask this. You get asked this all the time, about REIT status, right? And it just -- it sort of seems like for one, the market -- the equity market doesn't seem to be giving you credit for the dividend, right? That's one. It's pretty clear that that's the case. And then second, when you talk about the main benefit of the REIT status being the tax shield, right? But you guys have a levered capital structure and you have taken about the [ 10.5% ], you've got a significant interest tax yield as it is. It's a big part of your overall cap structure. So it seems to me that rather than have the leakage, right? And I'm not talking about the incremental $40 million or $50 million that you pay beyond the minimum distribution. Just the whole thing relative to the tax savings, the benefit you get from either reinvesting or repaying debt. I think that would be perceived -- and this is my opinion, I think it would be perceived very positively by both equity and debt investors because one of the issues -- and I understand that your model is different, wholesale is growing, connectivity is very much involved now with the AI tailwind. So it's not a CLEC -- it's not an RLEC model, right? With the declining voice space. But that said, so many companies have made the mistake in the space, mostly the ILEC and RLEC, of course, of continuing to pay the dividend, right? And I think there would be some value release, and I think there will be a positive read through, if you will. So I mean, I guess it's more of a statement than a question, but if you could...

Yes, I'd love to respond a bit to that. So first of all, I think it's a very logical question. And it's a question we ask ourselves as well. We're not tied to any 1 tax structure. I mean, our interest is in choosing the tax structure that maximizes long-term value for our investors and our stakeholders. So that's -- and we're going to -- we evaluate that on a regular basis, and we continue to evaluate that on a regular basis. I think giving up our REIT status is a big choice, right? You can't just de-REIT and re-REIT on a whim, right? de-REIT -- well, you can de-REIT on a whim. It's pretty easy to de-REIT, but re-REITing is difficult. The rules under which we were able to establish ourselves as a REIT, a little different today. It's a little harder to do that today. And then there's also a few -- if you de-REIT, there's also a 5-year waiting period. So the decision to de-REIT is a big one. And -- but it's not one that we, if we determined that was the best thing in terms of long-term value creation for the business, then we would absolutely go that route. What our analysis has shown, and we tried to lay this out a bit a couple of quarters ago, and I think investors responded very positively to what we've laid out. When we look at -- when we do the analysis on a REIT, what we see is that it does create significant value for us going forward and for the business going forward, and we think it makes sense to continue to maintain our REIT status today. One of the big factors -- you mentioned high interest expense and that is a tax yield. Well, as a C-corp, you're capped in your ability to deduct interest expense, 30% of EBIT, I think it is. And so that's one of the big differences. So if we were a C-corp because of that limitation on interest deduction, our effective tax rate would go up significantly. And so when you look at that, the leakage at the end of the day is really pretty small. And so we could preserve a little cash by if we were not a REIT, just paying the taxes. But in large part, what it would result in is a transfer of -- instead of those dividends going to investors, we'd just be paying the lion's share of that into the federal government corporate level taxes. So that really diminishes that value and that we could capture there or thinking about it the other way, the leakage that would come from that.

What are the magnitude of the numbers on that, based on your internal analysis, like, if you did go C-Corp tomorrow?

I mean, Bill, do you recall, I mean, exactly, I don't want to state the wrong number here. Do you recall kind of the magnitude of the numbers? I just...

In terms of what -- with the liquidity?

With the -- with government [indiscernible]

We've never really disclosed it. Just that if we did do it, basically, any dividends we were paying would be offset by tax -- incremental tax.

Largely. I mean it was -- it's not 100%. There's a little leakage there but it's...

It's not one-for-one, but it's not enough to...

It's definitely not enough. And then when you stack on top of that some of the strategic pieces of being -- that we think being a REIT gives us, and our ability to -- in a transactional basis or for a step-up basis in assets and we have more flexibility there with potential third-party acquirers or if we look at transformative M&A, the flexibility that having REIT status today could give us in terms of certain deal structures, we think there's a compelling case to remain a REIT today.

Okay. I appreciate that. I think we've got maybe time for 1, maybe 2 more -- 2 questions. Anyone from the audience have any questions for management. Okay. I think we're right at almost up on time. So I appreciate you being here. Thanks again for taking the time and we'll see you again next year.

It's great being here. I enjoyed it very much. And thanks to everybody for coming in and listening. Thank you.

Thank you.

Thank you too.