Bezeq The Israel Telecommunication Corp. Ltd (BEZQ) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. Welcome to Bezeq's Second Quarter 2021 Results Conference Call. [Operator Instructions] As a reminder, this conference is being recorded and broadcasted over the web. At this time, I would like to turn the call over to Mr. Naftali Sternlicht, Investor Relations Manager for Bezeq, Mr. Sternlicht, please go ahead.

Thank you, operator. Welcome, everyone, and thank you for joining us on the call today. With us from Bezeq Group's senior management team, we have Mr. Gil Sharon, Bezeq's Chairman; Mr. Dudu Mizrahi, Bezeq Fixed-Line, CEO; Mr. Ran Guron, CEO of Pelephone, Bezeq International and yes; and Mr. Tobi Fischbein, Bezeq Group's CFO. Before we start, I would like to draw your attention to the safe harbor statement on Slide #2, which also applies to any statement made during today's call. The speaker's comments will generally follow the slide presentation, which is available under the Slides tab on the webcast link and may also be downloaded from Bezeq's IR website. You can go through the presentation by clicking on the arrows on the left or right-hand side. Let me now turn the call over to our Chairman, Mr. Gil Sharon, for prepared remarks. Tobi will then continue the presentation on group financial highlights, followed by Dudu discussing Bezeq Fixed-Line results. Ran will pick up with results of our subsidiaries, after which management will be available to answer questions.

Thank you, Naftali, and hi, everyone. As you have seen, we have quite good results. So I would first like to thank the management. Turning to Slides 3 through 5. The strategic vision of Bezeq Group has always been to be the leader of the Israeli telecommunication market, providing a full range of products and services for the residential and business market. Towards that vision, we're focusing our management attention and resources on the following: first, accelerated deployment of fiber for the residential sector as a growth engine, while continuing to strengthen our position in the business sector; second, focusing on the customer premises, the home, through a combination of fiber infrastructure and related products. In the first half of 2022, Bezeq Fixed-Line will also be able to offer unified broadband services, including infrastructure and IP services. Yes will also be able to offer triple play based on Bezeq fiber network via wholesale with its excellent TV product. Third, structural change. Bezeq Board of Directors approved yesterday the spin-off of the ICT business division into a new and separate company, and the merger of Bezeq International's private sector ISP operations into yes, following the approval of the Minister of Communications. The new ICT company will allow management to focus on realizing its potential in the IT market. The Israeli IT market is approximately $8 billion per year in revenues and growing rapidly according to our consultants. Bezeq International has a significant presence already in this market with revenues of hundreds of millions of shekels per year. The new company aims to combine organic growth with targeted acquisitions. The merger of Bezeq International consumer activity into yes will allow us to implement for the first time an effective triple-play strategy based on yes' strong brand and quality TV products together with Bezeq's fiber infrastructure, supporting growth for the group in the residential sector. And four, lastly, Pelephone will focus on marketing 5G as a growth engine to increase revenues and ARPU. So we're talking on a very focused growth strategy in these 4 areas. On the financial side, revenue grew 2.1% year-over-year to ILS 2.2 billion for the second quarter. Adjusted net profit increased 20% -- 20.6% year-over-year to ILS 304 million. Meanwhile, net debt decreased by ILS 877 million and coverage ratios improved. It is also worth mentioning that Bezeq recently issued a comprehensive corporate responsibility report, and we can already see its highly positive impact on improving Bezeq's ESG scores. We will continue to showcase Bezeq's environmental, social and governance efforts. At Bezeq Fixed-Line, we grew adjusted net profit by almost 9% year-over-year, while continuing to improve key operating metrics. We're going full speed ahead with our massive deployment of fiber. As of today, more than 700,000 households throughout Israel are ready to be connected to our network, only 6 months after initial launch. At the subsidiary companies, we grew Pelephone postpaid subscribers, improved free cash flow in yes and increased yes subscribers. Now let me turn the call to Tobi to discuss our financial results.

Thank you, Gil. Let's turn to Slide 7. Revenues in the second quarter of 2021 totaled ILS 2.2 billion compared to ILS 2.16 billion in 2020, an increase of 2.1%, primarily due to an increase in revenues in Pelephone and Bezeq Online. Meanwhile, group-wide operating expenses increased year-over-year, primarily due to the initial recognition of expenses for the universal fund for fiber deployment. The COVID-19 positive impact in last year's second quarter and the deployment of fiber in the current quarter. Pelephone's expenses also increased mainly due to the increase in handset revenue. Salary expenses were ILS 467 million, up 5.2%, primarily due to an increase in salary expense in Bezeq Fixed-Line because of the recognition of stock-based compensation, among other factors, and an increase in Pelephone due to lower expenses in Q2 of 2020 because of employees furloughed due to COVID-19. Turning to Slide 8. Adjusted EBITDA in the second quarter totaled ILS 944 million compared to ILS 951 million in 2020, a decrease of 0.7%. Group-wide adjusted net profit in the second quarter totaled ILS 304 million compared to ILS 252 million in 2020, an increase of 20.6%, primarily due to the increase in financing expenses in Bezeq Fixed-Line due to the decrease in financing expenses in Bezeq Fixed-Line due to the early repayment of debt in the corresponding quarter. Gross CapEx in the second quarter totaled ILS 418 million compared to ILS 351 million in 2020, an increase of 19.1%. The increase was due to higher investments in Bezeq Fixed-Line fiber deploying project. Free cash flow in the second quarter totaled ILS 85 million compared to ILS 144 million in 2020, a decrease of 41%. This decrease in free cash flow was primarily due to increased CapEx from the deployment of fiberoptic and a ILS 40 million special grant paid to Bezeq Fixed-Line employees in April. As you can see on Slide 9, we posted strong results in the first half of the year with a 1.8% growth in revenues, which reached ILS 4.4 billion and 4.5% growth in adjusted net profit, which totaled ILS 603 million. Free cash flow was ILS 408 million in the first half of 2021, down 29.6% due to higher CapEx as well as tax payments in the beginning of the year, among others. On Slide #10, we have broken down subscribers and average revenue per user, ARPU, by different business segments. Let me point out that subscribers in cellular and retail broadband segments moved up during the quarter, and retail broadband ARPU grew to ILS 106 compared to ILS 98 in the second quarter of 2020. Turning to Slide 11. We are adapting operations to evolving market conditions and continue to improve our debt profile. Of particular note, this past quarter, is a 12% year-on-year decrease of net debt as well as the decrease in net debt to adjusted EBITDA leverage ratio from 2.3 in the second quarter of 2020 to 2.0 in the second quarter this year. In addition, the outlook of our debt ratings remain stable. Lastly, on Slide 12, for the 2021 fiscal year ending on December 31, 2021, currently, we continue to forecast group-wide adjusted net profit of ILS 1 billion, adjusted EBITDA of ILS 3.5 billion and CapEx of ILS 1.7 billion. Now Dudo will share with you updates on fixed-line operations. Dudo?

Thanks, Tobi. We are concluding another strong quarter with a stable overall revenue despite a decrease in Pelephone revenues. We are seeing growth in our retail broadband Internet subscriber base, alongside an impressive 8.2% increase in ARPU. These are driven by the value our services and products bring to our customers. In the Business segment, we continued to post significant gains with 10% increase year-over-year in revenues from transmission and data and 8.6% year-over-year growth in revenues from digital and cloud services. During the quarter, we continued full speed ahead with our fiberoptic rollout. Turning to Slide 15. As of now, Bezeq fiber network already reached 718,000 Israeli households, an unprecedented rollout pace. We continue to expect to connect 1 million households by the end of the year. During the quarter, we also launched our 2.5-gig offering alongside with a range of services and products tailored to our fiberoptic network. These offerings will allow us to -- will allow our customers to enjoy the fastest and best broadband Internet experience. On Slide 16, as we continue to upgrade Internet speed, key metrics of our broadband services are showing results. Revenues for broadband services were stable year-over-year due to growth in retail subscribers and ARPU, offset by the decrease in wholesale tariffs and subscribers. The number of retail broadband lines grew up -- grew for the fifth consecutive quarter, while retail ARPU grew both quarter-over-quarter and year-over-year. Our Internet is the only product in the Israel telecommunication market with a growing ARPU, while we are constantly adding new services and products for our customers. On Slide 17, our full WiFi strategy, which focuses on improving the broadband experience at home continued to prove itself. As of today, 621,000 customers were using the advanced BE router appropriate for the fiber edge, with another 313,000 customers benefiting from WiFi enhancers. The numbers continue to go up in both cases. On Slide 18, the decrease in revenue and the number of access lines on telephony services were due to a lower impact of COVID-19. Turning to the next slide. We saw continued revenue growth across all segments in Transmission & Data and Cloud & Digital services segment. Quarterly revenues for the Transmission & Data segment were up 10% year-over-year due to an increase in revenues from transmission services for ISPs and business customers. Quarterly revenues for the cloud and digital segment were up 8.6% year-over-year due to an increase in virtual exchanges and cloud services for businesses. Turning to Slide 20. Expenses increased year-over-year for the quarter. The increase in salaries was due to recognition of stock-based compensation in the second quarter, among other factors. Operating expenses were impacted by the recognition of expenses of ILS 10 million for the Universal Service Fund for fiber deployment, lower base in the prior year quarter due to COVID-19 and the deployment of fiber in the current quarter. On the next 2 slides, adjusted net profit in the quarter totaled ILS 248 million, up 8.9% year-over-year. Free cash flow was ILS 45 million, down 64.3% due to increase in capital expenditure from the deployment of fiberoptics and a ILS 40 million special grant to employees. On a half year basis, revenues and adjusted net profit were both up year-over-year, and free cash flow was down due to the arrangement with the tax authority resulting in a higher tax payment. In summary, we are at the start of an exciting and challenging time as we get ready to launch innovative services and products, which will revolutionize Internet capabilities in every household in Israel. Google recently announced a new international cable, which will allow ultra-high bandwidth connection between Europe and India and will pass through Israel. We are proud to have been chosen to implement the local segment of the complicated groundbreaking project. This is a tremendous vote of confidence, and we are privileged to be part of a multinational project alongside with some of the largest name in the industry. With that, I'll now turn the call to Ran to talk about Bezeq's subsidiaries.

Thanks, Dudo. Turning to Slide 25 to 27. We had a quarter of very strong results. In Pelephone, we saw growth all across financial metrics, revenues, profits and EBITDA, even though roaming services -- the roaming service operations are still significantly below full capacity. Yes continues to grow its subscriber base with 33% of its customers already using IT services, and the continued positive trend in the company's free cash flow. In Bezeq International, we fully returned to normal with stable revenues and increasing free cash flow and growth in the company commercial service operations. We continued to make progress to develop synergies between the companies. So far, we have appointed 1 unified management team to streamline operations, lower operating expenses through joint procurement and reduced headcount by 1,400 employees in the last 2.5 years. Going forward, we plan to transition to 1 new CRM system and achieve savings in future investments and cost of support. Technologically, we continue to march forward on to next generation offering in 5G mobile, Internet fiberoptics and IP broadcasting across the subsidiaries as we execute our structural reorganization transition. As you can see on Slide 28, we continued to lower salary expenses during the quarter. Since 2018, salary expenses decreased by 21%. Turning to Slide 29 to 31, at Pelephone, we are gradually deploying our 5G network. As of today, we have over 400,000 subscribers with 5G plan contributing to the increase in ARPU. Leveraging new and improved services, we continue to grow number of postpaid subscribers for the fifth consecutive year. Adjusted EBITDA was up year-over-year and quarter-over-quarter. Revenue grew and reached the highest level since 2019. Increase in service revenues was primarily due to faster recovery from the second wave of COVID-19, resulting in an increase in roaming revenues, although still not reaching the level of 2019. Increase in equipment revenue was primarily due to the launch of the new iPhone model. On a half year basis, revenue, adjusted EBITDA and adjusted net profit were up across the board. Turning to Slide 32 to 35. At yes, we continued our subscriber growth while customers continued to migrate to IP. We added 2,800 net subscribers since the beginning of the year, alongside with growth in IP subscribers with yes+ and STING TV, reaching 33% of total subscribers. The success of IP regulation continues to be shown through the increase in operating and free cash flow. Turning to Slide 36 to 38. During the quarter, Bezeq International continued to push its FIBER+ network and 1-gig connection speed while growing cloud solutions and business and integration data services. Revenues were down slightly year-over-year due to the decrease in revenues from Internet service, partially offset by an increase in sales of business communication services and international calls. On a half year basis, revenues were down slightly, impacted by a decrease in ISP revenues, partially offset by an increase in revenues from business services. Adjusted EBITDA was down year-over-year due to decrease in ISP profitability and onetime credit in the first half of 2020, related to an update in wholesale Internet tariff. I will now turn the call back to Tobi.

Thank you, Ran. Turning to Slide 39. In summary, the group story includes strong financial results, the decrease in net debt, significant investments in advanced infrastructures and the recently approved structural change, which is expected to bring growth potential alongside streamlining efforts. Let me remind you that we will be holding a virtual analyst conference in Hebrew for the local market after this call. This concludes our prepared remarks. Operator, let's begin the Q&A session.

[Operator Instructions] The first question is from Tavy Rosner of Barclays.

Congrats on the solid results. And with that in mind, since you haven't updated your guidance for 2021, I'm wondering if you're expecting some kind of softness in the second half? Or if you're being conservative?

As you know, as a policy, we look into the future. And whenever we see a variation of plus or minus 10% from our guidance, then we come forward and update the guidance. We do see some positive variation, but it's not beyond that limit that I mentioned. So we stick with our original guidance.

Okay. And then looking at the fiber and the rollout, I mean in the presentation, you mentioned an increase in operating expenses at Bezeq Fixed and also impacted free cash flow coming from the Bezeq Fixed-Line. Do you have a sense of the expected rollout looking at 2021, 2022? If it's going to have a significant impact or not really?

Well, as you know, beyond 2021, we don't give specific guidance. Although we do definitely believe that the fiber deployment will generate long-term growth potential for the group and especially also for Bezeq Fixed-Line.

Understood. And then the last one for me, please. Looking at dividends, I mean the last couple of quarters, you mentioned that you were examining the topic, I'm just wondering where does that stand? And what are the key considerations?

This is Gil. We are definitely looking at our dividend policy. We will probably address it at the beginning of next year. Of course, we're looking at all aspects of cash flow optimization. So there's the increased CapEx for the fiber project. There is the decrease in our debt that we're progressing very nicely and there's dividends. So we're considering all of that to reach the optimal decision, and we will most likely have something to say about it at the beginning of next year.

The next question is from Ondrej Cabejšek of UBS.

Apologies for any noise in the background. I had 2 questions on trends, if I may. One on the fiber. It seems like you've added significantly more subscribers in retail and the ARPU was strong. Could you break down a bit in terms of how much of that is actually coming from the new fiber connections, if anything? And then in mobile, if you could clarify the comments you made on roaming? I didn't quite understand if roaming was coming back partly or if there's still a headwind or a tailwind? And you also mentioned 5G having a positive impact on your ARPU levels. Could you also, again, kind of break down the trend, especially in the sense of ARPU because you've turned that business around? And then third question, if I may, related to the announcements after the results. You mentioned an additional, roughly, I believe, ILS 55 million of costs with respect to the new agreements with the unions. Can you just clarify? Is that a new cost completely? Or is that a number that should be subtracted from any kind of efficiencies that you've planned for this? Or that you may have already announced? And what would be -- because this is clearly a new situation, what would be the positive impact from the merger announcement, if I may?

Tobi, let me take the question on the fiber. Ondrej, we are not disclosing the numbers of subscriber on fiber yet. Bear in mind that we already -- we only started at the beginning of the quarter with the sales. But you could obviously see the growth in ARPU. And we're also showing the average bandwidth of our customers. So you could see that we are seeing the impact of the launch of the fiber. Bear in mind that we were on a growing ARPU trend regardless of the fiber. So of course, the fiber contributed to the unusual growth. But still, even without the fiber, we are growing in ARPU.

Okay. This is Ran. I'll take the next few questions. So first of all, roaming, I want to describe in a few words the rolling trend. Well, first quarter of 2020 was a normal one before COVID-19 and then COVID came in. Once COVID-19 came in and -- roaming revenue was approximately 10% to 15% of a normal year, let's take 2019. So when we're saying roaming is back, that means that 2021, the optimistic way to look at it is if it will be 50%, meaning half of 2019 of a normal year. So that's a lot better than 2020, since the second quarter, but it's only half of a normal year, which show us the potential of roaming coming back fully, which is not expected this year, but maybe can come back in 2022 or 2023. So this is regarding the roaming issue. As for 5G, we announced that we have 400,000 customers that are using 5G packages. 5G package can be used by 4G customer as well. They have a lot more bandwidth, and of course, utilizing -- using the 5G network. So that has a positive contribution to our ARPU. We drove partly the number, but this number is impressive and increasing and drives ARPU upwards. And as we can see it, we might be facing, not sure yet, that income from services, even not including roaming, will be, in 2021 more than 2020. So it supports the positive trend of revenue from services. And for the yes agreement with the union, with the employees. Well, it has costs, of course, but it allow us to continue streamlining. I will not go into the overall plan because we have to make 2 more agreements. First of all, with Bezeq International regarding the split of the company and then eventually with Pelephone as well. So I will not go into the full details. But of course, these extra costs will be covered by more efficiencies, so the overall result will be a lot less. We expect for considerable savings because of the merger that we are doing and continue streamlining the same way that we have done since 2019.

If I may, a couple of follow-ups on the roaming because there is talks again about some lockdowns and Israel has had pretty strict travel restrictions. So can you maybe, out of curiosity, where is the roaming? You said 50% of it is coming back. Where is it coming from exactly and where is it not coming from? And then a bigger picture on mobile. I think your previous plans were pre-COVID, of course, for mobile to stabilize in 2021 and then start growing again in 2022. Are those plans still the way you would look at the market?

So first of all, about roaming, we had a good summer, which means June and July. August is under not a lockdown, but some kind of restrictions, so I cannot forecast the full year. I can say it will be somewhere in between 30% to 50% of a normal year. So that I can say. It's a lot better than 2020, still not the same figures as in 2019. As for cellular, we do not predict prices, and we do not predict the market trend. But we can see cellular stabilizing and with roaming coming back, we see an increase in income from services. So we're kind of optimistic, but -- for the market, but we cannot forecast the market trend or prices.

The next question is from Jerry Dellis of Jefferies.

I have a couple of questions. First of all, on Pelephone. I'd be interested to understand the latest competitive situation in the mobile market, please? And particularly whether that -- what evidence there really is of perhaps 5G-driven market repair? Secondly, if I look at the sort of trend in the reported Pelephone ARPU, the Pelephone ARPU in Q2 this year is about ILS 10 down on Q2, 2 years ago, so without any COVID impact. And that's a very similar trend to what we saw in Q1. So you could say from that, that really the rebound in Pelephone service revenue growth this quarter is entirely due to the lockdown comp rather than any sort of underlying market repair or 5G benefit. And I just wonder what you would push back on that, please? And then finally, within the parent company, you still have 520,000 wholesale Internet customers, and that seems to be declining at a fairly steady rate. But I wonder what visibility you have internally on that? And what visibility we have as external observers about the pace at which the wholesale base will decline?