2023-11-28 17:25:28 ET
Lumen Technologies, Inc. (LUMN)
Bank of America 2023 Leverage Finance Conference
November 28, 2023, 02:10 PM ET
Company Participants
Chris Stansbury - Executive Vice President and Chief Financial Officer
Conference Call Participants
Ana Goshko - Managing Director, Bank of America
Presentation
Ana Goshko
This is the Bank of America 2023 Leverage Finance Conference, and I'm Ana Goschko. I cover Telecom and Technology Credit, and we're thrilled to have Lumen Technologies with us. And we have Chris Stansbury, Executive Vice President and CFO. So, Chris, thank you so much for joining us.
Chris Stansbury
Thanks for having us.
Ana Goshko
Okay. Great. So before we jump into Q&A, just provide you an opportunity to make any kind of opening comments to set the stage.
Chris Stansbury
Yes. I guess, first and an important housekeeping thing. Our safe harbor statement is on the Lumen Investor Relations site and some of the comments that I make may be forward-looking and speculative in nature. So, more there.
Look, I mean, obviously, this is a Credit Conference. There's -- we seem to be the headline in a lot of the news these days around that. So I'm sure we'll talk about that in more detail today. But I do want to back-up just quickly and talk about why we're here, right? And why the credit situation is in the news these days.
The reason we're here is we're being very, very aggressive about driving a turnaround of what is a legacy telecom Company. And we generate a lot of EBITDA. We've streamlined our operations, but we are maniacally focused on spending every penny of that on the turnaround and driving disruption, particularly in the enterprise space.
And we can talk about that more as we get into the conversation today. But there's some great progress that's being made on the core business, and we're securing that base business. We're definitely executing more efficiently than the Company ever has on that core business. But we're also innovating. And it's the innovation where I think we can truly be disruptive.
The other thing is, as it relates to the debt conversation more broadly, let me give you the why, right? We are in a business where customers are making critical infrastructure decisions around telecommunications, around connectivity. And as CIO would tell you that they don't get fired for spending a little more on that solution. They get fired if the network goes down.
And given the amount of noise in the marketplace around what was a very challenging maturity structure, half of our debt due in 2027; and the focus that we have on the turnaround, there were real questions from the customer side as to whether Lumen was going to be able to execute against the delivery of those services; and given the disruption that we see coming and the value that we can bring, there was really two paths, right?
Do we lay down our cards right now and look for ways to de-lever through some broader restructuring and have that take place over many, many months and leave that question in customers' minds? Or do we aggressively invest in the future and get to that point of inflection on revenue and EBITDA faster given the opportunity that we see and to do that by ourselves some time by addressing the capital structure now, even though it could be a little more expensive.
And that's the path we chose because of the opportunity that we see ahead of us. So I think that's just a good backdrop on why we're here, but we can get into more details on the debt and on the business from here.
Question-and-Answer Session
Q - Ana Goshko
Okay. Great. Okay. Thanks so much. So I think we'll start with the debt side of things, and then we'll move on to some of the outlook and the strategy topic. So, the TSA is what's kind of known as the debt transaction. So that was announced on October 31. It was announced as a "broad agreement with creditors" holding $7 billion of the Company's debt. But there's still some conditions that needed to be met in order to close and execute on it. And those include, I think, principally a revolver extension and some approvals that you need from the revolver lenders and then some minimum participation hurdles for the various debt exchange components. So where are you on the open items? Are you seeing any hurdles that you believe could prevent you from closing this by year-end?
Chris Stansbury
Yes, our focus is on fully executing the TSA, as has been outlined. To your point, we're at the step in the process right now. We're in discussion with revolving banks and we need them on board. That's a critical piece of this broader solution. It helps us meet our liquidity needs going forward. And so that is the current focus.
And once the TSA closes, we can then go back and deal with other aspects of the capital structure. We -- it's a heavily negotiated deal on both sides. And we do have basket capacity and covenant flexibility to deal with other portions of the capital structure that were not included in the TSA. And so we'll get to that piece after we get the banks on board.
Ana Goshko
Okay. So you're making it sound like it's you believe that remaining hurdles are surmountable and...
Chris Stansbury
That's right. That's right. I think we're Again, these things are complicated. There's questions, there's concerns, and there's an active dialogue that goes around all those things. It's natural. I would say we're seeing nothing at this point that is a surprise to us as it relates to getting to that closure.
Ana Goshko
Okay. So there's been kind of market reaction to the TSA, I'm going to give you some of the key feedback points or some of the key feedback points and let you maybe respond to them. So first, it does look to be an expensive deal for the Company. You've got higher interest expense. There's a new money back stock payment. And so all of that, as you highlighted in your earnings call, results in about $1 billion of cash over a multiyear period. And so -- and that resulted in about $1 billion of fiber capital expenditures deferral. So given that, why was this the best deal and in the best interest of the Company?
Chris Stansbury
Yes. So back to the point that I made in my opening remarks, our primary business is enterprise telecom. And those customers are making multiyear multimillion dollar decisions. And the questions that existed in the market around: A, whether we could execute a turnaround? and B, if we did execute the turnaround, would it matter because the debt tower of 2027 was so big, $9.5 billion? And could we do it in time?
So quite frankly, we had no choice but to actively engage in a plan to restructure the debt ahead of time so that we could alleviate any concerns about our future. And so we had a plan. We obviously executed on the debt deal that we did earlier this year. and there was other things in that playbook. But not surprisingly, when you look at the complexity of our capital structure, I would say, a group of three Level holders were concerned because they knew that we would be leaning on that on that facility to help address more broadly the capital concerns. And so a group was formed.
I want to be very direct in saying there was an alleged default. We feel strongly there wasn't. But I think very quickly, we came to the conclusion it doesn't matter who's right. Because back to that opening concern about questions in a customer's mind, being in the press for a prolonged period of time, over whose right was not going to benefit us. We need to be focused on the execution of the turnaround and going through a prolonged legal battle was in no one's best interest.
So we engaged with the group. And our view was really this, the deal needed to do a number of things that needed to allow us to continue to fund the turnaround at needed to address the maturities problem that existed specifically everything between now and '27. It needed to be certain, meaning it needed to be funded and it needed to be timely so that we could get this behind us and move forward. And that's what this deal did. It did accomplish all those things. It was, as I said, a very tough negotiation.
But in that, all of those things have been addressed. It allows us to push out maturities. It takes that question out of customers' minds upon its execution. And at the same time, we've been able to identify $900 million in pull-forwards on use of NOLs for tax purposes. We got $1.2 billion of new money as part of this deal to help deal with some of the harder to refinance portions of our capital structure. We have $1.5 billion of after-tax proceeds from the sale of EMEA, and we just proactively took out $300 million in costs. So we've taken some very bold moves to position us well to succeed as we go forward as part of all this as well.
Ana Goshko
Okay. So, a few follow-ups on that. But I did want to just provide one more feedback point to you to get kind of your response. So investors that were not part of the TSA initially maybe still are somewhat confused, concerned about being left behind and not being able to pro rata share and the exchanges on the same terms. Others have characterized the TSA as very aggressive towards non-TSA investors, concerned about things like covenants being removed or collateral being removed. So what can you say on your approach toward inclusion of other investors into the TSA and the treatment of debt held by non-TSA investors?
Chris Stansbury
Yes. I think just as a point of confirmation because I know there's been some misinformation out there. We had no control over who was in the group. None. The group was formed. We negotiated with a subset of that group that's referred to as SteerCo. And that's who our one-on-one engagement was with around the negotiation. The deal in itself, so first of all, there's -- as I said earlier, there's basket capacity and covenant flexibility that was negotiated so that we could deal with other portions of the capital structure that are not included in the TSA upon the TSA's closure.
We can't really get into details on that right now because we're in a non-solicitation phase of all of this, and we've got to be careful about that. So the point though is that we did fight for that flexibility, and that's something we can circle back on later. And so I think that's the best way to answer that.
Ana Goshko
Okay, great. Okay. So let's move on. So you mentioned the $900 million of really found money, cash on these unanticipated tax refunds and $700 million of that you're going to receive in the early part of next year. Is that earmarked for anything? And why couldn't use that to kind of fund the CapEx deferral?
Chris Stansbury
So $900 million, $200 million of which we'll use this year for our estimated tax payment, $700 million will be next year. And here's the way we look at it. We look at resources and uses. So you've got that. You've got the EMEA proceeds. You've got the $1.2 billion that is raised.
We've got the cost cuts. And all of that goes to offset the investments we need to make to turn around the business, the cost of the transaction, the higher interest expense. So that's really how we're looking at it. It's less of a line by line, where does this money go against which portion of the cost structure. So we're looking at it more in total.
Ana Goshko
Okay. Okay. On the turnaround, where are you seeing the most progress to date and where you're facing the most headwinds?
Chris Stansbury
Yes. It's -- so let me answer the headwinds thing first. The customer question that I referenced earlier in my comments and then also that we talked about on the earnings call, Customers are asking questions, they're concerned. And I'll give you an example. I -- we're sitting at Denver airport, waiting for my son to arrive at 6:00 Wednesday night before Thanksgiving. And we had an urgent customer call, is a customer making a decision on a deal. They are in a situation where their current provider, not Lumen had failed to deliver against their needs. They love our proposal.
But they want to make sure we're going to be around to deliver against it. And inevitably, when we have those conversations, we alleviate the concern. What we're concerned about are the customers that don't call us. And inevitably, when you look at the volume of calls that we take today, that question is out there. And so the good news is that we continue to make progress, and I'll talk specifically about that. But I think that progress is actually being dampened. It could be even better if we can get this behind us.
So I'd say that's probably the biggest headwind. But if you think about the way we look at the business, particularly on the enterprise side, the first thing is securing the base. So, this is legacy business that we have legacy customers, how do we retain them, how do we minimize churn. And a lot of work has taken place over the last year to stand up capabilities around that. And the bright spots in Q3, and we talked about this on the call, but I'll repeat it, is we had a 4% decrease in disconnects quarter-on-quarter, a 9% increase in installs, a 5% increase in usage, a 4% increase in VPN renewals and a 21% increase in voice migration from legacy to new services. That's real progress.
And if you go beyond that and you say, okay, on the commercial excellence side, where we're really chasing net new, we've added hundreds of new salespeople. We're seeing their productivity continue to rise. There's more sales tools, more measurement. We've invested heavily in the indirect channel, 2,500 new logos in the mid-markets channel that are in turn selling our product. And we're seeing an increase of about 14% in seller productivity. And we saw a 47% increase in year-over-year growth product sales to existing customers. Now that was benefited by the California deal that was very public. If you adjust for that, it was 16%.
So on the basis of those activities, we're very confident in saying that an enterprise you will see an improvement in the rate of decline by midyear next year. And we will clearly be on a path to getting to stabilization and growth in '25. But the third leg of the stool, which is innovation is the most exciting piece. And that's really around what we would call the digital innovation. And if you think about what's going on, first of all, let's talk about hyperscalers for a second. They're facing some pretty significant issues right now because there's an explosion in the amount of data.
AI is -- and those learning models are increasing by multiples the demand for data consumption in compute. And what's happening is the data center demand is using enormous amounts of power. As a result, those hyperscalers are having to get further and further away from the point of consumption to go in search of that power. And so there's a power problem, which then means there's a latency problem, which then means a more efficient way to consume network is absolutely critical. And we're the only ones that are doing that. So that's a backdrop.
If you think about large enterprise today, the world runs on applications and applications need data, and they need data quickly and they need it with zero latency. So what are we doing around that? Well, first of all, from a customer standpoint, they've got a really complex compute environment today, right? It's a hybrid cloud environment. They've got public cloud.
And oh, by the way, within public cloud, it's multi-cloud. They're not just using one provider. They're using multiple providers because they're not going to put all their eggs in one basket. They have private cloud. They have on-prem often in multiple locations. They may have edge compute. So the connectivity between all of those things is growing increasingly complex. And that's obviously made even worse by just the sheer amount of data volume. So that's where we step in.
By digitally providing access to the network, which is what NAS does, it's port-to-port connectivity anytime, anywhere. We're now putting the power of network enablement in the customers' hands. That's extremely powerful. That's a big share-taking opportunity for Lumen. Because you don't need to rely on a truck role to generate that connectivity. The second thing is what we would call Zero gravity, so effortless, right? You've got data sitting all over your compute universe. And you need access to it and you can't have latency.
That's what ExaSwitch does. Rather than if you think about -- I mean think about the airline model of hub and spoke, that's really what today's telecom universe is. I've got to go to Chicago on United before I can go to Albuquerque. I can't just go direct to Albuquerque. If you think about what ExaSwitch does, it allows you to reroute the traffic through the network far more efficiently and faster. That's enormously powerful to large enterprise. And as we roll this out, it's something that we're getting tremendous feedback on.
The third thing is you need ubiquity in proximity. Why as a large enterprise would you pay the egress charges that you pay out of public cloud to run your app environment when you could sit at Lumen Edge, which is already built and deployed. That's a huge cost savings. And last but not least, doing that in a very secure way. And we have Black Lotus Labs that the U.S. government and governments around the world rely on for security. And so commercializing that and bringing new security offerings is something that will follow.
So what I just rattled off on the innovation side, no one else is talking about, no one else has. We have IP protection on ExaSwitch. And this is the way we believe network will be consumed going forward. point-to-point connectivity and running fiber as the only means of communication is antiquated. It's critical. We've got the largest 400-gig wave network in North America, and we're adding another six million miles. But making it flexible and easy to use and putting that power in the hands of the customer is a huge unlock. It's the cloudification of telecom and no one else is doing it.
Ana Goshko
Okay. That's great. It's fascinating. I'm going to ask you about Mass Markets in a second. And I think what we've talked about in the past is Mass Markets is sort of very tangible for people because it's homes and ARPU, churn and net adds, right? And what you talked about is fascinating, but it's very -- for a lot of us, it seems to be kind of in the black box. You've put forward, I think when you joined the Company and the kind of harvest nurture, grow buckets, still tend to be somewhat intangible or lot intangible for some of us. Is there a way going forward, you could kind of provide more of a some yard sticks or some case studies to kind of put numbers behind these very exciting products and solutions you talked about?
Chris Stansbury
Absolutely. And we can do better. We have not done, I think, a fully effective job on communicating where it is we're going. And it's not just the vision that I laid out, but it's the numbers behind that vision. So I can tell you that we're actively working on that right now in terms of what we see the rates of adoption is because the reality is on the 20% of our business is the consumer business. And I think in fairness to the broader investment community.
In a lot of ways, we get valued like an ILEC. And it was a huge eye-opening moment for us on the third quarter conference call, when we knew the vast majority of the questions will be around debt. But the only business questions we got were on the consumer side. It's 20% of our business. So we've got to do a better job of articulating that, and you'll see more coming. What I can commit to is I'd like it to be for fourth quarter. It's more likely going to be for first quarter.
But next year in enterprise, we'll give you channel breakdowns. You'll see large enterprise, mid-market, public sector, wholesale. We're going to separate out international because that's where all the comparability problems. And when you look at us Exa International, I think already, if you do that today and you do the adjustments, you'll see we're outperforming our competition, but that will just help drive that point home. And then we'll give you the grow nurture harvest, but these digital products will also be a separate line item you can see as well.
Ana Goshko
Okay. So switching to Mass Markets. So quantum fiber, are you on track now with kind of the rollout and the go-to-market approach because momentum there, it seems it's been kind of very hard to achieve?
Chris Stansbury
We are on track. And I think what we're doing in response to the higher costs associated with the debt is actually what our other people in the space have already done given cost of capital, people aren't ramping up their fiber builds right now, right? Our plan going forward is to stay at the pace that we're at right now. what we're pulling back on was the original plan that we laid out in June to expand that. So we're holding at current rates, and we think that's the right approach for that business. And we'll also be disclosing going forward what our penetration is by year of build and by time.
And I think what you're going to see is even in the builds that we didn't do the smartest things, and we talked about that last year. I think we're performing at par with where the competition is. So I don't think we're missing as it relates competitively on penetration. But given cost of capital, I think we can do better. We were selling two brands in the marketplace, CenturyLink and Quantum Fiber until a couple of months ago. and some IT work has allowed us to now sell only Quantum. That allows us to ramp up the marketing engine and that's what we're focused on right now.
Ana Goshko
Okay. What are your thoughts and plans on the BEAD opportunity?
Chris Stansbury
BEAD is an opportunity, but we, in our projections are not counting on anything. So anything that looks like we could capitalize on would be upside. The reality though is, and I want to temper any enthusiasm is those programs typically get bid down to the point where the return is not all that attractive. And if the return is attractive, we're not going to do it.
Ana Goshko
Okay. So a meaningful part of the EBITDA pressure you're experiencing this year is turnaround-related optimization costs. Where are you in the ramp of those? And had given everything that's been going on, can you really afford it?
Chris Stansbury
Yes. Well, we can afford it, and I'll tell you why it's critical. Today, I think the number -- I'm going to get this exactly wrong, but it's in the neighborhood of 36 GLs, 13 order entry systems. Time to delivery for a DIA circuit 50 to 60 days. It's terrible. And so a lot of work has been happening this year on those things.
We've made tremendous progress on upgrading our SAP. There's no customizations involved, but that will ultimately collapse us down to a single GL. And there's efficiency in that, that will be complete in the first half of '25. We're fixing the delivery problems manually product by product, and we're seeing better improvement and better performance with customers.
But on the back of that, we're implementing ServiceNow and that will be complete by the end of the year of '24. So look, as we continue to modernize, as we continue to fix things that quite frankly, had been ignored for many years, it gives us the opportunity to find more and more efficiency as we go forward, and that will be a focus.
Ana Goshko
Okay. And then you announced $300 million of cost savings. A lot of that, I think, is related to headcount. Where are you able to take out these costs? And then are there any additional opportunities?
Chris Stansbury
Yes. I would say broadly that a couple of things. We, first of all, except in a very few places we did not focus on customer facing. So this was a lot of back office. I would say it leaned more heavily towards legacy activities that we don't see value in supporting anymore. And so in addition to driving cost savings, it also drove focus on where we need to be going rather than where we have been. And so that's what drove that.
We were also able to get out some of the dis-synergies that we've talked about as it relates to some of the divestitures over the last few years. So that's what that is. We'll see a full year benefit next year. But as I said, I think going forward, there will be more operational improvements as we modernize our underlying service delivery approach, and that will -- I think we'll start to see a lot of those benefits late next year and future years.
Ana Goshko
Okay. And then from a kind of strategic industry consolidation type approach. So the predecessor companies, the roots of Lumen, you have ILEC, so Quest, CenturyTel and Bark. And then you've got the carrier enterprise networks, Level three, other long-haul regional assets that were they a part of Quest or a part of CenturyTel. And then Brightspeed has already been divested. So you still do have an ILEC business. Does it make sense at some point to further complete the ILEC carrier enterprise separation?
Chris Stansbury
In a word, yes. I mean, look, they're both attractive businesses. We believe our special sauce, our proprietary gift is on the enterprise side. And just given the innovation that I talked about and the disruption we can bring and the ROI we can bring with that. The consumer opportunity is one of build fiber, get penetration and then enjoy a 30- or 40-year annuity. That space is ripe for consolidation. That segment needs to be consolidated. We won't be the consolidator. So at the right point in time, we'll look for options around that.
Ana Goshko
You feel you need to fix it up first and then consolidate?
Chris Stansbury
That's definitely part of it. Look, the more fiber that there is in the ground, and that's why we're committed to the current build pace, the more value is in that asset. I think given the world that we're in right now from a capital market standpoint, that's probably not a one-and-done kind of deal. It's probably a market-by-market approach. And the menu there is extensive, sell it, partner, maybe wholesale some pieces. So we're looking at all of that right now. Securitization is certainly on the table and something we're working on as well.
Ana Goshko
Okay. So Chris, I think we're pretty much out of time, but about a minute left. Are there anything we didn't touch on or any key messages you'd like to leave us with?
Chris Stansbury
No. Look, I think we covered it. I would tell you that the turnaround, it's messy. But we're making tremendous progress. We'll continue to give you guys visibility to the metrics that give us confidence. The reason that Kate and Board members and other management and I bought stock is because we can see the future and we're very confident in it. And we look forward to sharing more of that journey with you as we go forward.
Ana Goshko
Okay, Chris, Thank you and to the entire Lumen team thanks for being with us today.
Chris Stansbury
Thank you.
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Lumen Technologies, Inc. (LUMN) Bank of America 2023 Leverage Finance Conference Transcript