Viasat, Inc. (VSAT) Earnings Call Transcript & Summary

Good afternoon. I'm Simon Flannery, telecom services and comm infrastructure analyst at Morgan Stanley. Welcome back to TMT 2021. It's my great pleasure to welcome Rick Baldridge, Mark Dankberg and the team from Viasat. Welcome.

Good to be here. Thanks for having us.

Thanks, Simon.

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

So Rick, maybe start with you. Space is one of the most exciting segments of the whole communications and tech environment right now. You've got a lot going on right now. Perhaps just talk about what the key priorities for 2021 for Viasat are.

Sure. First thing, we've made a couple of acquisitions recently. So we need to integrate those teams. We acquired the other piece of KA-SAT in Europe from Eutelsat. That should close soon. And we acquired RigNet recently. So we've got to integrate those teams and make sure they feel welcome and begin the process of making them a part of Viasat. And in the case of Europe, that really is getting started and getting prepared for -- and getting partnerships developed and getting ready for our satellite that's going to go over that region. The other main priority right in front of us is getting our payload delivered to Boeing and for that first satellite of ViaSat-2 and finishing the second payload behind that and getting that delivered to Boeing, and so Boeing can integrate that with the bus, test the entire satellite and hopefully get that ship to our launch partner. And so that is a very, very high priority. And the other one that just comes to mind is watching as the world makes its way through the current phase of this pandemic and gets people traveling again so that a big part of our business growth has been in this IFC space and seeing those airplanes come back online and people traveling and seeing that part of our business come back.

Great. Yes. And if we talk about the overall space segment, what are the growth aspects that you're most excited about? You've talked about IFC already. I know you've got big opportunities with consumer broadband with the moving into emerging markets. What are the buckets that you're focused on most over the next few years?

Yes. So one thing -- Mark, you chime in here anytime. We've -- obviously, the RigNet was the entry into the new vertical that was a make-buy decision for us, just like when we acquired WildBlue into that vertical. So when we look at some of the vertical opportunities, those really are make-buy decisions for us. And we're prepared to make and enter those markets as we are in enterprise, for instance, the RigNet helps into that. But IFC is going to be from -- in the near term, what we say were the largest growth opportunity for -- on our platform for us. And what I'm pretty excited about is in there is having global coverage. And so being able to bring the premium product that we brought to North America and to Australia with our partnership with NBN and actually to Europe with our partnership with Eutelsat before bringing that to airlines on a global scale. So that is tremendous growth opportunity for us, and we think -- we know, not only do we think, as those airlines come to visit us and as they fly on our -- with our current partners, they get to experience what that service quality really is. They don't have to just believe us. They can go fly, they can experience the service quality. And again and again and again, we're getting the feedback that, that's what they're looking for. So that's a great opportunity for us. And also, as we get this global constellation fielded, we think the U.S. government, its allies will be big users of our constellation. And we've got great relationships there also. We've got a good reputation. We've got pretty deep understanding of mission and security capabilities that we brought forth there. So that's another area that we see as well as, like you said, residential broadband, the village WiFi -- village community WiFi work that we've done in Mexico and Brazil, having that work into some of the other markets. So -- and then with this big leap in driving our cost down, there are verticals that haven't shown up on our radar yet. Certainly, enterprise is one. But when we're able to deliver a lot of capacity at very low prices across the market, so we're looking forward to that market expansion and developing new verticals over the next few years.

Great. And you talked about the timing of delivering the payload to Boeing. Obviously, COVID has had some impact across the industry in terms of delivery and construction. How much visibility do you have into hitting that Q1 2022 launch date? Is that pretty well set at this point?

Well, we've talked about supply chain impacts of COVID, not only supply chain impacts, but impacts within our own facilities that we're doing the assembly and test integration. We have all the parts now. We are doing final integration at the payload level. And so from now on, and we could get impacted, we could have some -- one of our employees come down with COVID and that small work group next week can be impacted by a week or 2. But we're that close. In other words, it's at that level. And then we delivered a Boeing. So we're pretty confident on our Boeing delivery date. And then Boeing could experience some of those as well over the time that they integrate with the bus and the reflectors and the solar arrays and go through their testing. But we think most of the uncertainty is behind us for the certain first payload. And the lessons learned that we've had on that one, we've applied to the second one and the third one. So our confidence grows as we get closer. I think we have better visibility now than we've had, not that something couldn't happen.

Okay. Great. And it's been several years since you placed the original order. Have you been able to continue to iterate the design to take advantage of the latest technologies as those become available? But maybe if you've launched it in, say, 2020, you wouldn't have been able to leverage?

One thing to remember is we have and we had planned for that on the satellite. For instance, we were doing real-time development of new chipsets, for example. So those are -- have taken advantage of the latest technologies. But one thing to keep in mind is a lot of the brains behind what we're doing is on the ground. And so there is an area where we not only can continue to take advantage of new technologies, but evolve that throughout the life of the satellite. So that's -- it's not just what's up in the air, a lot of the work and the development work we've done in the ground segment side. I don't know if you want to add to that, Mark.

Yes. So I think the space hardware has been pretty well set. And that's what we've been developing, testing and integrating. The follow-on to that is what we start -- what we've been talking about with ViaSat-4, where we can get substantial improvements in capacity and throughput, working for a factor of 5 in the current design. And so that we really get that level of gain with the next generation. But as Rick said, there's opportunities to improve the performance of the existing satellites over their life, based on what we do on the ground.

Great. And I think that probably the question we get the most is around GEOs versus LEOs and what does the rise of a number of LEO constellations, perhaps including from Viasat, mean for the GEO industry. Perhaps you just highlight the cost performance. You kind of hinted at it earlier of the GEO of ViaSat-3 system and how that is advantaged versus some of the LEO proposals.

Yes. I mean the thing -- so what we -- I think the market fares out that the dominant value proposition in broadband is bandwidth, and that's being able to deliver high speeds, large amounts of bandwidth at a given price point is really the primary source of competitive advantage and then being able to apply that bandwidth where the demand is. And given what Rick said about us really targeting the mobility space, it's -- that is being able to move that bandwidth around to where those mobility platforms are. So those, we think, are the main sources of advantage. One of the things that we appreciated was Morgan Stanley published a note over the summer. That went through some economic comparisons of GEOs versus LEOs. And what we think is that really takes into account the dominant factors. So those dominant factors would be how much capacity you can get per satellite, what is the lifetime of that satellite and then less the utility or the amount of demand that you would see underneath those satellites. And the conclusion that the Morgan Stanley analysis came to that ViaSat-3 probably, depending on some of these variables that you described, which is the utilization factor and the likes, even in the best case for the LEOs, ViaSat-3 would probably be about 4x more cost effective. The thing that we emphasize beyond that is that you've got per user demand growing at 25% to 35% a year. So if you think about that type of analysis that we just went through, that's kind of a point analysis, what's really important is what's the trend. What will your productivity be 5 years from now or 10 years from now? And what are the engines that drive that productivity gain? And so with ViaSat-4, we're taking an approach that -- we haven't launched in space yet, but we've done an extensive testing on the ground at system development test beds and in alpha trials with existing space assets that all support our current views of what that capacity will be. And we can improve that by about a factor of 5 in the next generation and that we have the opportunities to improve it further. The issue then is, what is that productivity improvement trajectory in the LEO space. And again, I think, as one of the things that you had in your own analysis, there's kind of a diseconomy of scale that the more satellites you have in a constellation, the lower the utilization is on each because as each satellite looks down, what you see is apparent -- you see occasional spikes in demand when you cover some area where there's demand, but because of large faction of those versus water and that demand -- half the people in the world live on whether it's 5% of the land or something like that -- that those peaks are localized and they have different heights. And so the more satellites you add, the first few hundred or thousand satellites will saturate most of the peaks where there's demand. And as you get to many thousands, you basically see diseconomies of scale. The other really big factor that we've been looking at and is a factor in our own filing is that the FCC and more and more other international regulatory bodies are looking at the space crowding or orbital degree issue. And people are coming to the conclusion that you can't support an unbounded number of satellites in space. Now once you have -- and this is really -- I think one of the biggest issues is if you realize there's a finite amount of room in space for satellites, how will you divide that up? And one good example of that is the sort of the battle that's going on between Amazon and SpaceX on orbital trajectories. And in January, the FCC gave SpaceX conditional authority for 10 -- to launch 10 satellites beyond the 1584 that are authorized but only on the condition that they not put any satellites above 580 kilometers. So in some sense, they sort of divided the world and said, okay, SpaceX, you can have below 580 kilometers. Amazon, you can have above 580 kilometers. Now we explained all of the other -- all the other countries in the world are going, wait a minute, what about us? Who gave the FCC authority to divide up over the latitudes for everybody in the world, right? So you've got the European Union and China and so on. And so I think that this issue that, hey, this is bounded from both a safety perspective and the nominal trajectories perspective is just starting to register with people in terms of, okay, so what are the mechanisms by which I can improve my productivity. And the other thing -- the other point that's really interesting that Amazon made, well I think we and others have made the same point, is that they -- what they say is, hey, look, we design around the SpaceX starring system as licensed and we don't interfere with it. Now they're asking for very substantial changes in their license application in order to try to improve their performance. And hey, that's not fair because we designed around it the way it was. Yes, they should have the right to redesign it. But if they do, then they should go to the back of line when it comes to priority and allocation. And the main point of that is that's a very -- it's a very reasonable principle. It's very difficult to get improved productivity in your satellites if you don't change the system design. So that becomes another big constraint. So we're waiting -- so our own filing is pending some of these regulatory issues as well, orbital degree, space safety and spectrum allocation rights. And we designed ours in a way that would be consistent with what we -- what the FCC said they intended to do for orbital mitigation. But if they go in a different direction, we may as well. So it's a very complicated space. But I think all these factors that we mentioned are all absolutely relevant to what anybody can do in that environment.

That's a great overview of the issues. And maybe related to that, coming out of earnings, there was a lot of questions about the consumer broadband trends. And it sounds like given the ramp in IFC, some of your recent wins with Delta, you'd be managing that. Perhaps you could just talk through how that's evolved over the last few months and what we should expect for '21 there?

Yes. So during the year, yes. And we've talked about in previous calls about what our strategy was there. And given that we had a constrained capacity until ViaSat-3 comes up, we tested the various markets, and we chose to kind of move upmarket and have less subscribers at higher quality plans. It was a conscious decision. And we've been -- that's where you've seen substantial ARPU growth. Was not that high of subscriber growth, but substantial ARPU growth and substantial flow-through from an EBITDA standpoint and that over the year. And given that we're constrained, we're able to pull some additional cost out of that market. And most of that ARPU growth was through planned escalation. It wasn't through pricing. And so we've made a conscious decision to do that. And we also said in the last couple of calls that we expect that to -- we expect to begin to decline in subscribers between now and the time ViaSat-3 goes up. It may not happen, but we expect it will for a couple of reasons. But one is we now have forecasts of the -- and we're going to be wrong, but we have forecast of the in-flight connectivity coming back online. We've won Delta. And it's going to be coming online in areas where we can predict high demand for those things. You can imagine that we're trying to control capacity in some of those environments. So that meets the kind of brand that we have and the kind of service quality that we've forecast for those people. So that gives us another constraint on the consumer side. And so we expect that to continue until ViaSat-3 comes up. And then once ViaSat-3 comes online, one of the things people are arguing was, are you going to continue to grow ARPU. And Mark's talked about it before, there's -- when you first launch the satellite, you have this momentum areas. So you're trying to get the satellite full, and then you have more -- some optimization that begins to occur. And so you would assume that we'd begin to add subscribers, more subscribers in areas and potentially that may not support that type of an ARPU. So ARPU could come down for a while as we launch that before it comes -- before we -- and we'll decide at the right time in the right region, how to price those things. So that -- I don't know if that answers the whole question, Simon, but that's our strategy.

And just the one thing I do want to add to that is when you're in the broadband space, you have to look at the amount of bandwidth you have is inventory. And you can't serve an unlimited number of customers with a finite inventory bandwidth. You can make trades, let's say, have more customers with less family per customer or I'll have fewer customers with lower bandwidth per customer. But you're kind of in a box based on how much total bandwidth you had. And that is true for any transmission system, whether it be terrestrial wireless, satellite, LEO or GEO, is you can't have unbounded numbers of customers with bounded amounts of bandwidth. And so that's basically what we try to do is we try to move it around in a way that provides -- meets our commitment to our customers and is good for the company and the shareholders.

I can tell you, Simon, that we haven't run out of demand. There's a lot demand out there. So this is, as Mark said, a supply issue.

Great. And talking about demand, coming back to IFC, you've got, I think, 300 planes from Delta. You've talked about them coming on this summer. Perhaps it's an industry where we've seen a lot of rationalization. We've seen Gogo's CA business get acquired by Intelsat. Give us a view of the landscape and this whole Ku versus Ka debate. And it sounds like you're pretty well positioned. But it would be great to get a sense of what your conversations, your pipeline looks like from here.

Yes. Well, there are fundamental advantages in Ka-band, right, compared to Ku-band. There's more spectrum to work with that beams can be smaller, so you can have more beams, which gives you more bandwidth. So I think the whole Ka versus Ku thing is if it's not done, people ought to realize that there is just going to be very, very difficult to compete at Ku-band with Ka-band from a GEO perspective. The other point that I think should be clear when it comes to consolidation is that a big part of the investment on the part of either the airlines or the service provider is in the equipment onboard the aircraft. And so it does -- you're not really gaining a whole lot if you acquire aircraft that are outfit for satellites that can't serve -- that can't deliver the amount of bandwidth that you need. So I think that's going to have a big impact on the consolidation opportunities as well. It's not a surprise that Gogo, which was all outfit for Ku was acquired by a satellite company that has Ka bandwidth, right? But that makes sense. The big issue is, is vertical integration going to help when the real issue is fundamentally not enough bandwidth.

Not enough bandwidth. Yes.

And the pipeline?

Pipeline is really good.

Yes. I think that it's kind of a weird thing, but some of the COVID impact, essentially on a global basis, has -- and some of the order cancellations and pushing out of orders, some of the global airlines have had in this process have pushed in closer to our global in-orbit capability of ViaSat-3. And so as those people are making decisions, we're just that much closer to that point. And so there's a lot of conversations. We see a lot of growth opportunity in some of these global markets. We've done really well in -- obviously, in North America, but we see a lot of opportunity in some of these global markets. And all of these guys have come to visit us and on the way to visit us have taken the opportunity to fly on some of our current customers' airplanes and experience the service quality.

Right. And do you think free WiFi is going to be kind of de facto across the major carriers over the next few years?

The last thing our customers like us to talk about is what their strategy is going to be. I think it's our mission to try to create a service quality where they can increase customer engagement across the aircraft with a service quality that's good enough that we can attract other people that are willing to invest in those customers as well and help and partner with the airlines and making sure that this is a net positive to the airline.

I think in the past, you've talked about a big opportunity with some of the military aircraft as well and other government planes as well as going down into the business aviation space. How are you positioned there at the moment?

Well, we've made really good progress in the last few years since some announcements we've made there. One of the things that we've really focused on is -- the government has owned satellite, satellites that they own. And their preference would -- when possible would be to use the satellite that they own. So one of the things that we've tried to do is make sure that we've created a network that allows them to roam in and out of our satellites, their satellites, other people's satellites so that to the extent that we can provide a service quality that they can't get through theirs, that they're able to get access to that. And we've been pretty flexible on the way we provide the service contracts. So we're trying to become very easy to do business with and give them roaming switches so that they can roam in and out of various networks. And we think over the long run, that's going to work to our advantage.

Yes. I would add. I think some of the government users would describe it as the only thing being -- the only thing worse than being the holden to a government monopoly for our service would being the holden to a commercial monopoly. So one is -- so basically, they want that choice. And that's the thing that Rick alluded to. The other thing on the defense side -- and give you a couple of updates. On the defense side, the U.S. Department of Defense has something like 30,000 in1 platforms, but the big bulk of those are rotary. And so one of the areas that if you look back over the last year or so, we've made really good progress is being certified on rotary wing aircraft. That really unlocks the biggest part of the market for us. And that's a combination of price point, technical capability, coverage. The other thing on the business jet side whereas -- think of the commercial airline space, just when you think about it from a sales and distribution perspective, you're really going after a relatively small number of customers with a large number of airplanes. In the business aviation space, it's kind of the opposite. It's a very, very dispersed environment with each of which has small numbers of planes. So the place to make the most impact soon is at the OEM level. And that's where we've been focused is at the OEMs. And again, if you look at some of the announcements that we've made recently,with Gulfstream and Dassault and Embraer, I think we're doing very well in that OEM environment. And so I think it's a little bit harder to capture big fleet operator there are a few, and we're working on those. But I think that the OEMs will be a good way for us to establish ourselves in that market as well.

We also have either -- I should know the answer to this, but I don't. We have either just flown or are just about to fly our first prototype space array on business jet over in Europe that we've been developing for the last 10 years. And that, I think, will absolutely increase our addressable market on the business jet side.

So that's a lower form factor, I guess, goes on to the bigger universe of jets.

Yes. Yes. Yes, it can go on smaller. It's economical on smaller airplanes.

Great. And just in the last few minutes here, one of the consistent success stories at Viasat has been the government systems unit. We obviously had some transition challenges with the pandemic, and we've had a change in administration. How does that look over the course of '21 and the medium term?

We -- there's always impacts us inefficiencies that occurred during transition. But we've done really well in these type of environments. In fact, we tend to do a little better in constrained spending environments because they -- the programs that -- they go up to the big money first, big, large programs. When they have a lot of money, they start big, large programs and mainly with the bigger primes. When they have less money, they're more value focused, and we tend to do quite well there. So we think either way, our government business has been the fastest-growing comms portion of the government industry over the last 5 years, and there's no reason why we can't continue.

Great. And then just wrapping up on commercial networks, you're coming off a very strong quarter there. Perhaps just talk about the drivers of that and, again, how sustainable that is.

Yes. So in this whole new space story, the thing that's really related in the new space is that there's -- and when you look at the applications in space, broadly, you can look at communications, so that will be broadband, narrowband communications, IOT. But the other really big one is in Earth observation and in Earth sensing. And what's going on there is the satellites get smaller and more prevalent, having really good ground stations. And generally, the way to make satellites small and still get lots of data off of them is to have big tracking ground stations. And we basically have been the market leader in that space for 20 years. So we've done well on both the defense side and the commercial side. The defense side has very specific needs in the earth observation space in order to be able to do detection of missile launches and now they're hypersonic. So there's definitely a growing need for Earth observation on the defense side and a growing appetite to use that data on the commercial side. And if anything, I would say that is the big-picture driving force between -- behind the growth that we've had in that segment. And we're optimistic about that segment and our ability to also integrate some of our space segment capability into that as well in things like -- some of the areas that we don't talk about as much but have been really, really interesting for us. One is being able to do inter-satellite cross links. People have talked about that in the communication space, but it's also very valuable in the Earth observation space. Remember, we did all the cross links on Iridium, which is the largest connected inter-satellite network in the space so far. So that's a good area for us. And then the other one is GEO/LEO relay, where you can relay that -- the U.S. government has done that for quite a while through system [ Tetris ] called some defense assets and for some of our NASA assets. But that opportunity is growing substantially, and that's a good opportunity for us as well. So we're -- it's not been the biggest part of our business, but it's showing some really good signs of life.

Right. Well, certainly, it sounds like an exciting time. So really enjoyed the conversation. Thank you very much for joining us this afternoon.

Thanks, Simon.

Yes, thanks for having us. We appreciate it.

Thank you. Take care.