Vistance Networks, Inc. (VISN) Earnings Call Transcript & Summary

All right. Great. I'm Sami Badri Credit Suisse Equity Research, and we have the CommScope team today. We have Chuck Treadway, the CEO; and Kyle Lorentzen, CFO of CommScope. So thank you both for joining us today.

My pleasure Sami.

Yes. So I wanted to kind of start off with a high-level question about CommScope because you guys did join within the last 2 years, the company itself has gone through a fairly bit of -- a fair bit amount of changes. And I wanted to kind of talk about the new CommScope or CommScope NEXT, as you call it, the recent results with the revenue and then the strong execution just to kind of kick it off and maybe you could kind of recap how 3Q went and then the trajectory going to 2023 and how that looks?

Sure. Sure. Well, I'd start by saying we're continuing to do what we said we were going to do, right? So if you go back to December '21, which was probably a year -- about a year into my tenure little more than a year, we put together a plan to increase our EBITDA $500 million. So that was saying, going from a [ $1.1 billion ] number to [ $1.6 billion ]. And we gave guidepost for '22, '23 and '24. And the good news is right now, we're still in line to hit all of those. And I would say that's in spite of some pretty significant unprecedented things going on in the world. I mean you think about what we've gone through with the pandemic, you think about them, there was a big supply shortage. You think about then we dealt with big time inflation and then now a potential recession. And I think our teams have done a really good job in terms of taking on each of these challenges. And I'd say, I think it's really been helped by the general management model that we brought into the company. So we have 5 segment presidents, 14 business unit leaders or general managers and each of them take responsibility for their own business, understanding what's going on, and we're really managing it like a portfolio. So you think about CommScope NEXT, and these are initiatives that each of these business units and product managers have put in place to go drive the performance. And that's really helping us in achieving these numbers. And that's why I think we're bullish on what we see medium and long term in the business. I think specifically talking about 2023, I think there's more uncertainty in '23, obviously, what everybody is talking about. But I think specifically to us, we've seen our order rates lower in Q3 of this year. We've seen it lower in Q4 as well. And obviously, as lead times go down, that's going to happen, but we're keeping a very close eye on what's going on in the marketplace. But again, I think it's more of a pause or temporary issues going on there. But we do see that in 2023 we've got to pay very close attention to that. I would say the other thing that's supporting us is the backlog that we have, the $3.6 billion, which is 62% over previous year, which puts us in a really good position for what we're having to deal with if it comes. And as I talked about in CommScope NEXT, these initiatives have owners, they have dates, they have impact to EBITDA. And we're going back and talking with the teams and following up on these projects. We do monthly operating reviews with each of these business unit leaders and segment presidents in person. And by doing this, we're getting a lot more dialed into the business and have a lot more confidence in what we're doing. And that's why I think we have the confidence in being able to put a guidepost out there for '23, assuming a modest recession. And I think you really want to take a concrete example. You can look at what happened with NICS. I mean, NICS went from a negative $15 million EBITDA to a positive $25 million EBITDA sequentially, that was a $40 million flip, and I think that's because of the initiatives we're putting in place and the ownership we have. That's just one example that I would point out.

Got it. Thanks for recapping that. The one thing I want to cover also is from the 3Q results, your actual reported results were very strong, earnings were very strong and then the focus really shifted to cash flow that was generated or at least the cash flow is projected to be generated in 4Q '22. Now seeing how things kind of played out, is there something you would have messaged a little bit differently or take into consideration before like the report or planning even going back 3 or 6 months ago that you take into account before like the report cycle, they would have done anything differently?

No. I mean I'll comment on the cash flow. I mean, I think 2022 has been a challenging year from a cash flow perspective driven, I think, by 2 primary things. Number one, we've been growing our business, which inherently requires us to invest in working capital. So our core business has grown at 12%. The overall business has grown at 9%. So just by the nature of that, we've been investing in working capital. The other component that's been a headwind to us on the cash flow side is inventory. So as a result of chip constraints that we continue to see and that we've seen through '22 with decommits, we definitely are holding some excess inventory as it relates to chips as we get decommits and we're holding more inventory than we'd like. So those 2 headwinds have had a pretty significant impact on the cash flow generation in '22 and particularly through the first 3 quarters. I think as we move into '23, we provided guideposts in our Q3 call around EBITDA, in those EBITDA numbers that we provided, we had talked about, we've built in some moderate recession within those numbers. So when we think about those numbers, we're thinking sort of flattish to lower growth from '22 to '23. So when we think about the '23 cash generation, we feel like we'll get to a much more normalized cash flow generation. So you think about we take our EBITDA, you take out your interest payments, you take out cash taxes and CapEx and maybe a little bit of restructuring and you get to a more normalized level of cash as we move into '23. I think the last thing I'd sort of comment on is just around Q4. So in our Q3 call, we have talked about the fact that generating cash in Q4. If you -- obviously, we've had an interesting year as price increases have come through and we put capacity on, we definitely see a ramp in EBITDA. So in Q4, there's a few things going on in Q4. Number one, we're now starting to see the higher EBITDA come through cash. And as we turn that EBITDA into cash, the other piece as we think about Q4 is just the timing of how we pay interest, Q1 and Q3 are the heaviest cash payments of interest. So that also impacts what you've seen in the first 3 quarters versus what we'll see in Q4. So I think we feel the chip situation has -- is at least sort of stabilizing out. So I don't think we feel like we'll be building a lot of inventory there. So we feel like at least that side of the equation gets sort of normalized as we move into '23.

And then maybe one follow-up, Kyle, is there any kind of, you mentioned normalization of cash flow generation in 2023. Is there any kind of normalization of seasonality that we could think about?

No, no. I mean our -- the way we've historically generated cash is Q1 is usually a use of cash, and then we sort of build up through the year. I think we'll -- not only will we see from an annual basis, the more normalized cash, but I think we'll also see more of that seasonality where use of cash in Q1, and we build it up through the year.

Got it. Got it. So tied to something that you guys just talked about, which is kind of like the growth of the business. We are seeing 3 major government programs, speed, RDOF and now ARPAs all really kind of penciling in funds to grow broadband coverage. What is the latest kind of dynamic that you're seeing? Are we still in early innings of this? Is the outlook for 2023 is supposed to be in comparable strength of 2022? Is there one of these government programs that has yet to even furnish any real kind of contribution to your demand end markets?

Sure. I'd start by saying, look, we're very encouraged by the government spending that's going on right now and the plans that are in place. I would agree with you, we are -- or you made -- you said maybe are we in early innings I think we are in the early innings. RDOF in particular, as that's already kind of in place and moving. We benefited from that in '22, and we're going to see that again in '23. I think the other programs, as we spend more time understanding the government how this all this stuff works as the states are now applying for funds, they have a certain deadline when they have to get that back to the government. And we think that those states will be starting to get funding towards the end of '23, and that should start flowing out probably in '24 where it will affect us. But we do see a stacking of these things as we go '24, '25, '26, these projects we're going to keep going. The other thing I think is important to note is that is bipartisan agreement. So regardless of what happens in elections or whatever they're already set to do this, it's going to happen. And I got -- I've asked a lot of questions about that, obviously, as you can think as how it impacts us. But I think as importantly to understand is it's not just the U.S. that's doing this, and we're not just a U.S. company, right? So we're seeing this in the U.K. We're seeing this in Canada. We're seeing this in Australia. And this is why we're bullish medium, long term on that business.

Given the timing of when these funds are usually announced and allocate and spent, is there almost like more of a likelihood of greater strength for these funds to make it into CommScope benefit in 2023 versus 2022? Do you think the magnitude is inflecting higher in 2023 with these funds making their way into the industry?

I think it's going to be more of '24 than into '23. But yes, I do think that's going to be positive.

Got it. The other kind of question we've been trying to answer what it comes to these government programs is usually the lag time between the government announcements, the allocations and when they finally make their way into CommScope's income statement. How would you kind of characterize that kind of time line?

Yes.

Yes. I mean, there clearly is a lag. I think we think about the lag as being sort of a 6- to 12-month type lag before something is awarded by the time it finds its way sort of into our financial statements. As Chuck mentioned, the way that these things are being allocated as it's been at the state level and as you can imagine, every state is dealing with it differently in at different times. So there clearly is a lag factor. I think the other component or components that we see as we think about how fast it gets to us is our customers and their customers and installers are also dealing with other issues than just our product, right? I mean they're dealing with labor challenges because they have to get labor to do the installations. The other thing I think we're seeing a little bit is some delays as it's not just about our products, but it's about other products that they need to complete the network. So other electronic components that maybe be hung up in other supply chain issues. So there is a lag, but that lag depends on what is the -- how is the state going after the funding, but also other things that impact a customer or their customer's ability to install, which may go beyond our product. It may be impacted by labor or another product that they would need to complete the network.

Got it. Got it. I wanted to think of any kind of business you guys have outside of government derived programs or benefit. How do the other segments usually perform in an economic turbulent dynamic?

Yes. I would say obviously, if there'd be a significant or major recession, let's say, I mean, obviously, we'd be affected by that. I can't say that we're not. But in my view, is that we're more insulated than maybe other segments and I'm talking about telecommunications infrastructure versus other sectors. And I think that's primarily because companies are wanting better connectivity and they're fighting for customers. I mean you got telcos fighting against cable companies for the same customer base, and we're kind of like the arms dealer in between. So I think that also [ bullies ] us. And the other thing I would say is maybe different than maybe the last recessions in the past, I mean, we have just a much better backlog in a position there that we have. And it's not just a random backlog, it's linked to 2 projects that are maybe government funded, you said, beside government funding, but there could also be municipalities, there could be health care, there could be MDUs that are multi-dwelling units that are going up in place. So I think we're just in a better position than most companies to deal with it, but I said, again, we're not immune to it. I just think it's going to be a muted effect on us. And I think it's because of where we're positioned going into this one if it occurs.

Got it. Got it. I wanted to focus in on mainly on the CCS segment. And performance has actually been very strong in 2022. What is your outlook for 2023? How should that segment perform all things considered?

Sure. I mean you're right. I mean we have had very significant growth. You think about year-over-year, we're talking about 26% growth on a business that's $3 billion in '21, right? So it's pretty significant. And that's come from the market growth but in addition to that, it was the capacity expansion that we put in very early of Kyle and I joining the company, getting that capacity purchased and getting it installed. That's why we're seeing that type of growth in that segment. Now on a normalized situation without all these things going on, as Kyle talked about whether that's -- can they get the labor or did they overbuy or whatever. If you would take that out of -- take that out of the equation, I think you'd see a very strong '23. I think we just have to pay attention very close to what's going on in all those places. But I think at the end of the day, there's a challenge if there is, let's say, I don't want to say call a bubble, but if there's anything there, it's just got to flow through the system. But the long-term demand, the midterm and long term, I think we all feel very good about. And we will see the growth and the benefit of what we put in place. I mean we already are, frankly, that's why our EBITDA is where we're moving, and that's why our margins and all this stuff are improving because of some of those decisions we made early on and the fact that there is that type of spending going on.

Got it. Got it. I was hoping I'd shift over to Kyle with a question. Regarding the deleveraging of the company over time, and you guys have also laid out a target for fiscal year '24 on 4x to 5x net debt to EBITDA. Could you kind of just discuss the path from here to just to their payment requirements or cash flows? And any kind of other metrics you could give us that you're watching closely to make sure you guys hit that leverage target by fiscal year '24?

Yes. I mean I think our plan and what we're trying to implement and execute against is pretty straightforward. I mean it's really about how we drive EBITDA performance, which I think we've laid out within our guidance and Investor Day, and we've -- near-term stuff, we've sort of reconfirmed that here in Q3. It's really about driving the EBITDA performance of the business, which then, in turn, will generate the cash flow of the business, which then is going to translate to deleveraging. So we spend a lot of time with our team very focused on achieving those EBITDA targets and plans because that fundamentally, we believe, is at the core of our ability to generate cash and ultimately delever. I think outside of the EBITDA side, I think we're -- we also are focused. We talk a lot about CommScope NEXT and EBITDA initiatives. They're still worked at, we are implementing just around cash management from a working capital perspective, right? Just like there's been opportunities for us to drive EBITDA value, I think we still feel that there's some opportunity on the working capital side. So the metrics that we manage, it's a lot about EBITDA and making sure that we're generating cash with the right levels of working capital. So I think the story is a pretty vanilla story, but that's how we get to the point of that deleveraging is driving the EBITDA performance, which Chuck has talked about it. It's a lot with the CommScope NEXT initiatives and making sure that we hold the organization accountable for delivering those things.

Got it. When you think about the delevering target, will that include or require any kind of dispositions or divestitures or sales of any of the business segments or can you achieve that without any sales or...

Yes, I mean that -- the targets that we provided at Investor Day, those are really around the core business and just maintaining, continuing to manage the core business and driving the EBITDA performance, it really doesn't have any disposition associated with it. I'll comment a little bit about home. So clearly, we made the announcement that the home business isn't core to CommScope moving forward. The performance of that business has been challenged in '22 as they've been dealing with chip constraints. We're dealing with some foreign exchange issues and just some demand challenges in the business. So clearly, we report the numbers out. So everybody can see the performance of that business, and we're talking about a business that the EBITDA level of that business on a relative basis to the rest of our portfolio, is relatively small. So even as we think about the home business, home and whatever the separation strategy is with home, we don't feel like that's going to be a significant or material driver of a big deleveraging story, right? I mean anyone can look at the performance of the business and put a multiple on it and understand that that's not billions of dollars, it's probably hundreds of millions of dollars of value in home. So to answer the specific question, it's really what we provided is running our business, albeit we've got this home piece that ultimately we want to separate when the time is right. But even under that scenario, just to set expectations that's not going to be a massive driver of our value creation and our deleveraging story as we think about the next couple of years.

Got it. I want to pivot to supply chain, right? Is the kind of the internal CommScope management team's view that 2023 supply chains will be less or more constrained or comparable to 2022. Maybe you can kind of give us your view on the landscape for where we are today?

Sure.

Yes, I think we're optimistic that the situation is improving. And I think we've seen that over the last couple of quarters, overall. I think the one area that we continue to be challenged on is on the chip side. We continue to be challenged with decommits and availability on chips, which is resulting in -- even in current periods is resulting in higher inventory levels and just as important our inability to ship some of our backlog. But one area that we continue to see challenges is on the chip side. I think we've seen that get a little bit better over the last couple of quarters. I think some of it's probably market-driven, but we also have been doing some things internally. We've redesigned products to get chips in that are more readily available to us. I think the other piece that all of our businesses in Chuck, in particular, having better relationships and dialogue with our suppliers to make sure that we're positioned to get our fair share. So I think the market getting a little bit better on chips. The stuff we're doing internally has made that better. With that said, it's still a day-to-day struggle for us. I think we've -- in '23, I think we feel like it probably gets progressively better. But I also think we probably don't think that is going to work its way out completely until '24 when more capacity comes online from a chip perspective. So even though we have seen it get a little bit better and we think it's going to get a little bit better. We don't -- we think '23 will continue to be sort of a challenging time as we think about chip supply.

One thing I'm going to open it up to the audience for a question if they have a question, but right after this next question, lot to ask about pricing. When we look at pricing of products and even pricing of the backlog, and we even look just the benefit of pricing in general to the CommScope's income statement. How much of the benefit has really come through in 2022? And do you expect 2023 to be a full year worth of pricing benefit relative -- especially into 2022?

Sure. I'd say, look, when we started hitting inflation, we started raising prices in the fourth quarter of 2021. In the first quarter of 2022 is kind of when we got most of the price that we needed to get. Now that had to flow through our backlog and what we're seeing is that gradually improved quarter-over-quarter, and we're going to essentially have it all the way through by the fourth quarter. So we will see that through 2023. So the other thing I would say about this whole thing is it built a muscle that we might have not had in the past as CommScope. And I think we looked at the processes, procedures and how we handle that, how we understand the impact of material cost on in product SKU, and we're in a much better position to deal with that as these things as volatility is going to be around probably for a long time. We're in a much better position to deal with it going forward.

Got it. Got it. I wanted to go back to the NIC segment, and it did demonstrate some pretty solid growth. And you also, I think, called out that RUCKUS has achieved its highest revenue quarter. Could we kind of just go through how sustainable that is and then the outlook for 2023?

Sure. We're very encouraged by what we're seeing in the NIC business. We now have a backlog of more than $800 million in that NIC segment, and which is double what we've had before. And I think a lot of it goes to these CommScope NEXT initiatives where we're looking at software services, verticals, really targeting where we want to go, getting those orders and getting those wins. And I think that gives us a lot of confidence of where that business is headed. And it's not -- it's across the board with not just NIC is not just RUCKUS, there's other parts to NIC, and we're looking at product development new services. We brought in a leader from -- that came from Cisco and HP has a lot of experience in that space. And I think that's really helping us drive our performance in that business. Plus I think the general management model, we had some real owners and that RUCKUS team is actually bringing people back from the past and they're really encouraged about where we're going. And think about a matrix organization. In the past, if you had a chip shortage, you might have to somebody say, I need a part, then you got procurement trying to figure out when they're going to get it. And by the time they say they want to buy it, it's not available anymore. I mean we short-circuited all that. So where our R&D teams are sitting with our procurement people and with a general manager that can make that call on the spot. And I think that's what's helped us kind of do a little better. As time goes on, as Kyle said, hats off to all our engineering teams because they've just done an incredible job in pretty chaotic environment with chips by figuring out what they could put in, and I think the structures helped them execute that. So I'd say the backlog gives me the most confidence. The other thing is just where we are with new product development, where we are with initiatives. I think this is -- we're going to see this continue to improve.

Got it. And then we'll open up to the audience. If you have a question, now it would be the window of time if you have any. I want to give you guys 5 seconds. If there's one. All right. I did want to talk about telecom infrastructure demand, right? So one thing that is forecasted at a high level is that telecom spending or telecom CapEx spend is looking to decline in 2023 and 2024 versus 2022, but when you look at your demand drivers and you actually look at what your customers are saying and discussing with you, are you necessarily seeing those overall high-level numbers translate into CommScope's demand for anything that usually telecom customers buy from you?

I think it's really dependent on what segment we're talking about. But I'm thinking if they have CapEx, they have a limited amount of money, they're just deciding where they're going to spend it and it could be shifted from base station antennas to more fiber or vice versa. And so I think, yes, it could or it will impact us somewhat if they really slow down, but they could be cutting from other things that we're not aware. We haven't seen their roll out yet in terms of what they're expected to spend across the board, related to us. I mean once you peel it back, there's -- obviously, they have many things they could spend money on. They're just going to prioritize what's the most important thing. And so I think what we're anticipating is more in the fiber side and connectivity, maybe a little more lumpy in the outdoor wireless business, but that's kind of how we're seeing it right now.

Got it. Got it. All right. We're running out -- we're out of time now. Thank you both for joining us at CS conference. And thanks everyone else in the room for joining us.

Pleasure Sami.

Thank you very much.

Yes, absolutely.