Thanks for attending our Fireside with with Lumen. Now that we're all, we're all sort of pumped up about Gen AI, let's talk about the company that is likely to to benefit from all the, the bits that are gonna flow as a result. My name is Jiten Joshi. I'm the high yield telco analyst at at Deutsche. It's my pleasure to be hosting Chris Stansbury, EVP and CFO of the company, and we also have Mike McCormack, head of IR in the, in the front row as well. So welcome, Chris and Mike, and thanks for being with us today.
Yeah, it's great to be here today.
So, Chris, do you have a-
Oh, yeah
-an opening any, uh-
So just the standard stuff that some of the comments I'm gonna make are forward-looking and subject to risks and uncertainties, and you can see our investor relations website for more details on that, but we can jump right in.
Yeah. Sounds, sounds good. So I kinda just wanna kick off on the macro picture. Obviously, we're all sort of seeing a little bit of volatility pickup, concerns about, you know, rates going higher and the potential for a slowdown or a recession. I think the odds seem to be higher than they were a few months ago. So, in terms of what you're... Chris, what you're seeing on the ground, are you still seeing the elongated sales cycles, and are customers still going through multiple layers to make decisions?
Yeah, we are seeing that. I would say that it's more of a status quo, no change for the better or the worse at this point. You know, one of the things that we debate internally quite a bit is just given the magnitude of the transformation that we're undertaking and the influx of talent that we're attracting from tech as to whether this downturn is a good thing or a bad thing. And I think in many ways, for us, it's well-timed because it's allowed us to attract a lot of great talent into the organization that's critical to the transformation that we're undertaking.
I think it's also, frankly, given us the time that we needed to build a lot of the motions and the factories around the process change that we're driving in an environment that's softer rather than one where maybe the gap could widen. So, I think we're taking advantage of it, but yeah, it'd be great to see things turn around soon.
Okay. Sounds good. So you're not seeing any sort of degradation on the margin or any impact to your funnel, so to speak, and so it's still status quo as to what it was?
It's still pretty much-
Okay
S ame old, same old. Yeah.
So let's just talk about, as I mentioned, let's say we do have a slowdown or even a recession. How will that impact your transition plan? You know, what are sort of your contingencies that you might have built in for that scenario? You know, what levers might you pull if you have more pressure on cash flow than you were anticipating?
Yeah. I'd say a couple things. I mean, the first is, to the extent that there's any kind of major macro shift, there's an automatic kind of governor, if you will, in our capital spending, because a lot of what we spend on the enterprise side is success-based. So if customers slow down their motions on the install of new equipment, we'll slow down the capital to support that. It's just they go hand in hand with each other. So that, you know, I think it gives us a level of protection, and then we're very focused on fixing a lot of the internal inefficiencies in the company. We've got an ERP that will be fully online in early 2025.
We've got changes taking place in the ops side to improve our performance with customers, and that's probably a 2-year journey, but along the way, there will be opportunities for us to drive further efficiency from both of those motions as well. So I think it's both the cost side as well as the capital side that we've got optionality around.
And then just on the capital side, what sort of magnitude are you talking about in terms of success based versus?
It's a significant piece of the enterprise spend.
Right.
And we laid out, you know, the enterprise versus consumer splits at Investor Day. We do have maintenance CapEx of approximately, you know, a quarter of a billion dollars in each of those segments. That's keep the lights on stuff because cables get cut, you know, equipment breaks, and we need to, we need to repair that. But beyond that, we have optionality in terms of the pace of investment we're making in innovation, as I said, around around everything that's success based. And of course, we could always slow our consumer rollout if things were really really troubled from a more macro environment. So there's a lot of levers we can pull.
We don't want to pull them because I think that slows the recovery, and so we're doing everything we can to keep the pace of those investments up because that's our way-
Yeah
T o better performance.
And then would the same apply to sort of the people investment that you're making? You could, in theory, slow that down as well, but it sounds like that would be the last place you'd go because you'd wanna in fact, you might have more of an opportunity set people maybe getting-
Exactly
L aid off in the telecom space, and it could actually bolster your-
Yeah
Y our ability to put-
Yeah, that's right.
T he right resources.
We want to, we wanna move as quickly as we can to get, to recovery as fast as we can.
Yeah.
Yeah.
Fair enough. So how is y ou know, we're 12 months, almost 12 months into Kate's tenure, longer into yours, and sort of close to 4 months, maybe more, past Investor Day. How would you characterize the transformation plan at this point going?
Things are going well, and we're gonna give more color around that on our Q3 earnings call, but if I think about the past, not quite a year, you know, 10 months since Kate arrived, there's been an enormous change. I can't state that strongly enough. I mean, what we're doing today in so many ways is completely the opposite to what we were doing in the past, and that started with the elimination of the dividend. When you have a dividend, and a dividend yield, more specifically, to the extent that we did, it drives everything. It drives all the decisions, which basically meant that we were, I think, cutting costs at the detriment of how we service our customers. We weren't innovating. We were treading water, and so that's not a strategy for success.
It's not playing to win; it's playing to not lose, and that mindset shift has fundamentally changed. So Kate has driven a significant culture shift inside of the company. It's not complete. That's a multi-year journey. We're working closely with Brené Brown, Dare to Lead, for those that are aware of her work, and that is moving through the entirety of our workforce, including the union workforce. So it's a major cultural transformation. She brought in an entirely new management team. I mean, if you think about what remains from prior to Kate's arrival, we have Maxine Moreau, who runs the consumer business, and we have Andrew Dugan, who's the godfather of our network. And so the institutional knowledge in those spaces is critical.
We brought in additional telecom experience in Kye Prigg, who's running operations for us now, but everything else is really more with a tech bent. People who have built the selling motions, the product motions, the customer migration motions, and customer lifecycle management that we need in our space, that no one else is doing in our space, and where we can be disruptive. So, you know, that took place prior to Investor Day, and since Investor Day, it's really a continuation of that with the staffing of the teams that are building the factories that allow us to go and attack a customer churn, voice migration, VPN migration, and so a lot of really good progress there.
As I said, we'll start to share some of those operational metrics at Investor Day, 'cause it takes a while to show up in the financials until we're at scale.
Around that concept, where you talked about how a significant portion of the top management has turned over. Kate's brought in, you know, new people. Can you give us a sense for sort of how deep that has gone? Like, so just, where are you deeper and maybe in more in field in the sales operations-
Yeah
... in terms of new talent versus legacy talent?
We quite some time ago, early this year, really built a hiring motion around our sales force. And what's been great with the slowdown and with the layoffs in the tech sector is we're getting great talent in, the talent that we need, that knows how to sell services and solutions, not just legacy telecom. And so we've got a great mix. We've got a number of our sales team who have adapted to the new motion, have embraced it, and are helping drive results. And for those that didn't work for, they've largely self-selected, and we've got new people that have come in. So it's been a really great motion for us. We continue to hire. We're gonna continue to hire.
That cost is largely variable for us, and because it's been successful, we're gonna keep expanding that.
So, in terms of, you know, culture is obviously very important. Kate's trying to reestablish that. You guys, on Investor Day and at the top management levels, deliver a very clear, concise message as to how you want to... where you, where you're taking the company. So just, is there an issue at all with remaining legacy talent, where you sense some inertia or just kind of stickiness in terms of doing things the old way? And has that been an issue of any sort at all?
You know, there's always pockets of that.
Yeah.
It's sometimes hard to spot, and we'll continue to deal with that as time goes on. You know, I think that the biggest driver really, though, is when you think about the shifts that we're making on the product side, that ultimately sorts that out. And I would say that we, we've got a lot of more legacy talent, well-tenured talent, that have been the backbone around the innovation of things like NaaS and ExaSwitch, which are game changers and very disruptive to our space. So it's really getting that right mix of the people who understand the network, who understand how to best access that network, as well as people who understand what the customer problems are, that are most meaningful to solve, and it's the intersection of those things that we're trying to capture.
So that's the critical talent you obviously need to retain, and they weren't as good about being able to commercialize those-
Yeah
... competitive advantages you have.
Yeah.
And in the sales staff, it's probably more of changing the incentive structure. It's less about, you know, culture, old culture.
Like, I mean, the culture permeates everywhere.
Yeah
... but yeah, there's been significant change in the selling motions. I mean, a year ago, the major point of measurement was the achievement of quota, and the way we compensated our sales team was the same across every product, whether it was very low margin or very high margin. So it was just sell something. It was not trying to point it in the direction of what was more or less important for us. So, we've aligned the compensation structure with the life cycle management approach that we've taken with our Grow, Nurture, Harvest delineation of our product sets and enterprise. And so, the sales teams are incented to sell the new stuff more heavily. And frankly, it's hard.
You know, for those that are listening from the Lumen sales team, I appreciate all the effort that they put in to driving that shift. We're also using a lot of AI tools. And so a big piece of what we're doing this year that's very different is an enormous amount of data collection at the individual rep level. And that's not for punitive purposes, it's for understanding what's working, what's not working, and using data analytics and predictive tools to help us point in the right direction, and that's been significant. We're also using AI tools to help us with sales materials and sales presentations and whatnot, to improve productivity.
Because one of the things that has really hampered our sales team is the amount of internal time spent dealing with 14 order entry systems. We can't fix the order entry system issue overnight, but what we can do is find areas of opportunity and productivity elsewhere so that they can spend more time selling. And so just an enormous transformation in that team. We're starting to see some positive momentum as those new people, as well as our new processes, are starting to build. So it's encouraging.
Yeah. The next question I had is just sort of thinking through once again, staying with the business segment. The idea is to move legacy, right?
Yeah.
Voice VPN to next gen or products. And you spent a lot of time talking about the CLV, right? That concept of-
Mm-hmm
... of the multiple to, you know, to the nurture product, I believe, is the baseline. Is there an initial time period that will potentially weigh your financials in the second half and into the first part of the year, where it's not one for one initially? Or do you kind of walk away from something that isn't one for one, because you've established that kind of discipline? Or are you willing to take a hit initially, go to 80% of revenues that were generated just to have a growth path later that you're pretty comfortable that will come?
Yeah, it's a really good question, and it's why we've done things in the order that we've done them in. We intentionally have not scaled anything that is not ready to be scaled. So an enormous amount of learning has gone into... and again, using a lot of analytics around what the customer offer is. So if you think, you know, the easiest example is to think about a legacy voice service. There's data that we continue to build that tells us which customers to even talk to, because there is a group of customers who won't shift, and for those customers, there's no point in wasting resources on them.
It then becomes a question as to whether we continue to re-rate or if they're in an area where the density on those circuits is low, we discontinue service and cut cost. So it's about being surgical in terms of where we go first. Second, when we do contact a customer, it's about making sure that the offer for that particular customer's situation is the best possible offer, with the best and most likely outcome. And what we're doing in those scenarios... So again, the only customers that we're really interested in talking to are the ones where we can stay dollar and kind of percent margin neutral-
Mm-hmm
... as we go forward. Otherwise, it's not a smart thing to do.
Mm-hmm.
So that factory has been built. Ashley Haynes-Gaspar and her team have done a tremendous job building that motion, and so we're now at the point where we can start to scale it. But it was about getting it right before we really drove scale.
Can you, can you maybe give an example of how AI is telling you, or you can- with a high probability, you can make a judgment that a customer is not going to move off of legacy? Like, well, what, what specifically-
So there's tools that we can use that are twofold, right? One is collecting data after the fact and learning from that and altering the offers that we make to customers. And the other is more active, predictive stuff that's used during the calls with customers.
Right.
That it's listening and it's prompting our teams to direct the offer in one direction or another. So,
On a real-time basis?
Yeah.
Oh, that's fascinating.
Yeah.
Okay, that's, that, that's helpful. Thank you for that. I want to switch to Mass Markets, you know, if I can. And the first question I have off the top is the bill cost, right? It's a range, and I think you've been very clear, and it's in explaining why there's a range. At any point in time, you could be at the low end or the high end.
Mm-hmm.
But even the low end, and definitely the high end, is so much higher than what we're hearing from other ILEC slash RLECs, right? On, even on a magnitude of 30% higher or more, even 50% higher. So what can you sort of explain that difference?
Yeah, I think it's really just a difference in methodology.
Yeah.
you know, we've done some internal work. If you take what our competition talks about, which is cost per passing-
Mm-hmm.
But then they layer in the cost to connect, and you take our cost per enablement and our cost to connect, you ultimately get to the same place. The cost per enablement, we think, is a more pure measure, because what it effectively is, is the cost where we believe we have the opportunity to connect. So as you run fiber down a street, there's a lot of locations you go by where there's not really an opportunity to connect. You don't think there's an economic opportunity there. We don't include those when we do our cost per enablement. So the cost, think of the cost per enablement really as a subset, in terms of the market, that we think we have the opportunity to penetrate.
Right.
We think it's a better measure, and that's really why there's a differential.
Mm-hmm.
Now, there was separate issues, you know, over the past year, earlier this year, later last year, there was a lot of overbuild activity, and quite frankly, I think that was a bit of a gold rush mentality-
Mm-hmm
... where they were gonna build super cheap, and they were gonna get really high ARPU, and that all blew up, as expected.
Mm-hmm.
That's slowed down dramatically.
So if that's the case, then your subset of homes, there's a subset of homes that you don't include, that you're not going to market, not going to pick up your product. So does your penetration rates, target penetration rates may be higher because you're actually cherry-
Yeah
... picking as you build? Yeah.
Yeah, so when we-
But you still talk about a 40%, which is kind of-
Exactly
... standard in the market but-
Exactly, yeah. And-
Do you feel like you could go higher, over time?
You know, we'll see.
Yeah.
We'll see. What we have done in the interim, where we've seen success, is we've taken up our ARPU. So, you know, we were at roughly $65 for our entry price point for symmetrical gig up and down. That's now $75, all taxes and fees included. And so that was the near-term opportunity. We'll continue to measure that, but driving subscriber growth and penetration is critical for that team. That's what we need to continue to see as we go forward. But we're pleased with what we're seeing so far from the builds this year. You know, again, we talked a lot about it at the end of last year. We felt really good about the 2020 cohort. 2021 and 2022, not as much.
I think there was a bit of an incentive issue. There was a disconnect where I think we weren't necessarily approaching our builds in the right way. We weren't efficient in how we were planning the markets we were in, so we made some adjustments organizationally and procedurally. And this year, the penetration rates, we should see what we did in 2020 repeating itself in 2023. So we feel good about where we are right now.
Yeah. You've been asked about this, I think quite a bit, you know, in recent months, and I'm gonna ask it again. It's the reason to even be in the mass market business, you know, given, as you describe, and we can see based on your sort of longer-term forecast, the inflection point is much further out.
Yeah.
The return comes much later. You have a strained, you know, balance sheet that's sort of heavier in debt-
Yeah
... and higher debt service. So it begs the question as to, two-part question. One is: why not... And I'm not saying there's a bid there, but why not look to unload it-
Yeah
... in some strategic combination to somebody that is more focused on consumer, may actually bring, you know, more, squeeze more costs out of the process, et cetera. Or two, if you are gonna keep it, pace it, and respond to how the business transition inflection is happening.
Yeah.
And if you see more success there, then sort of modulate, you know, the mass market build.
No, it's a great question.
According to-
We've been really transparent about the conversation around this. I mean, again, there's two businesses inside of Lumen, right? We have the enterprise business that's about 80% of what we do, and we've got the consumer business, which is about 20%. They couldn't be more different in the way they earn a return, right? The enterprise segment is one of rapid business cycles. Think three, maybe five years, 10 years in the case of public sector, in terms of decision cycles and innovation cycles. And so it's a much more aggressive space. It's a space where we think we can be immensely disruptive to our benefit.
The consumer space is one where it's ultimately an annuity, and if we look at our starting point, where the markets that we have remaining, 16 states, we have 11% DSL penetration, right? And so that's a classic example of where a company was enjoying the annuity for a little too long, right? We're getting to the point where we're still in the lawn chair, but there's not much beer left in the bucket, right? And so as we go forward, the best way to monetize that asset, 'cause we have great markets, is to, A, focus the investment on the best markets, and we're focused on six major metros: Seattle, Portland, Denver, Minneapolis, Salt Lake, and Phoenix.
Mm-hmm.
Florida, I would say, is an addition to that. That's. Everything's in the West except for Florida. That's a great market for us. The challenge is-
If I may quickly interject.
Yeah.
The others in the West are obviously US West-
Yes
H ighlight properties.
Yes.
The Florida one came with CenturyLink-
I think Embarq.
That you didn't sell to Embarq?
Embarq.
That's the one market you did not-
Right
O ne of the few that you did not sell.
Correct.
Okay, thank you.
So the challenge is this: that the payback on that capital is very long, right? It's a beautiful annuity stream once you get the fiber in the ground, because that is as future-proof as anything could be called future-proof of an asset. It's scalable to 100 gig if consumers ever needed that, right? So it's a very long-lived asset. The challenge is, with a long payback window, you know, therein lies the, the challenge. Those markets today, while they're great markets, until that fiber's in the ground, we're not maximizing the return that we can bring to our stakeholders, if we were to do anything today. And frankly, it's just not that attractive because it'd be much easier for somebody to come in and just build, right? Establish a presence and build into those markets.
So our goal is to be first or second in those markets, to drive the penetration. And ultimately, you know, again, I don't know when, I think it's inside of five years, there's probably a conversation where somebody comes along and does a consolidation play for that industry. So I think it makes sense. But it only is gonna make sense if there's fiber in the ground. So it's a chicken and egg situation, which is, we've got to get the fiber in the ground to maximize that value. And if you look at the, the valuation that one of our major competitors got on their ABS offering, the value of that asset's significant if the fiber is there. So that's really what we're focused on.
That's why we've said we need to keep investing in both businesses, because the best way to drive value in mass markets is to build that fiber network.
Right. That said, there's, as you said, there's a, it is one of the levers, perhaps like the macroeconomic picture-
Yeah
worsens, you could pull back on that plan, and you have-
We could. I think the danger in that is, does somebody fill the void?
Right. But, the flip side of that is, you know, the cost of capital right now and overbuild activity in general has stepped back.
Mm-hmm.
So maybe you have a 2-3-year respite, and it might still be t hat particular business might still be a higher of higher toggle value, if you will, for you to manage your free cash.
Yeah.
Yeah.
I mean, again, that's not the desired outcome, but-
Right.
But, yeah, if we had $1 less to spend, that would probably get allocated to consumer.
Okay. Fair enough. And of course, we're at a high yield conference, so I'd be remiss to not move to the topic of bondholder discussions. And I realize you're gonna be limited in what you can say, but I have to ask the question: Is there any update on sort of timing of the discussions? I think you've said several months, a few months. Just qualitatively, can you give us an update on how things are going, even from your last public appearance? Anything you can give us on that front?
Yeah. I would just say that I'd say what I said a few weeks ago at the last conference, and it remains to be true. The conversations are constructive, and the opportunity here for us is to deal with kind of a bigger bite of our capital structure and the moves that we would otherwise make in one step, and that's why we're engaged. I'm very pleased with the level of thought that's gone into the proposals from the people that we're talking to, and we're very focused on an outcome that works for all parties. But to your point, we've got to get to an answer pretty quickly on whether that's achievable or not. I believe it is, but we're not there yet.
We'll keep you guys updated as we go forward, but you know, I'm cautiously optimistic that we'll get to a good place, but that'll be determined as time goes forward.
And how do you balance sort of the achievement of a holistic solution with a re-rating of coupons, right? Your cost of capital is in a very different place from-
Yeah
S ome of the legacy coupons that would be part of that discussion, and you can sort of ill afford to pay out more in interest. So how do you think about balancing those two elements?
Yeah, it's, you know, in terms of where, you know, what works for Lumen, it has to be a global solution, right? It can't be focused on just one box, if you will. It's got to deal with the entirety of the capital structure. We have to have the money that we need to transform the company. If we delay, then I think the likelihood of success goes down dramatically because customers see the innovation that we have available to us in the enterprise side, and if we miss that window, we miss that window. I think there's a big first-mover advantage if we get that done. So it's critical that we have access to the capital to do what we need to do in both enterprise and mass markets.
The second thing is that we have to deal with maturities between now and 2027, and ideally, start to attack that 2027 tower in some way, so that that wall is dealt with now. And while that will certainly come at a higher cost, I think there is a solution that deals with those things, and it gives us the liquidity to compensate for that higher cost. Because remember, at Investor Day, the assumption that we made on refinancing our debt was that if we would refinance it at maturity, it would get refinanced at today's market rates over the next five years. So we built that into the model already. So really what we're talking about is higher coupon in the near term, which I think is manageable.
Okay. But it would still be the large tower of 27 that's built into your model, that would get refinanced in 2027. So you would still have a higher tax burden proportionally, just given the amount of debt that would be re-rated today?
Yeah, we'd have a higher interest-
Yeah
-burden, unquestionably.
Yeah.
And we've built that into our models and our thinking, in terms of what works for us.
Right.
So.
You just, well, you know, this process, as you said, you're looking at it opportunistically.
Mm-hmm.
Arguably, your backs are not completely up against the wall.
Right.
And there f rom your standpoint, the benefit is sort of the holistic capital structure solution, particularly the 27 Wall.
Mm-hmm.
You've been very publicly stated, you hired advisors, you feel that there is no covenant violation, and there's no default that's in line with what the Level 3 group is claiming. So the question I have is: Is there a scenario where you might step away from the negotiations and focus on the transformation plan, and maybe you deliver very strong results, right, in both mass market and business and revisit, let's say, in 12-18 months?
Yeah. What I would say is this: Right now, all of our energy is focused on an outcome that works for all parties involved, 'cause we really do believe that that's doable. And I want to be very clear on that. But that said, you know, in the conversations, we understand that the other side of this conversation has a walkaway point, and we have a walkaway point as well. So I think there's mutual understanding on that. There's mutual respect around that. But everybody, again, I would reiterate, continues to be constructive on getting to a good outcome, and that's what we're focused on right now.
Okay, fair enough. I think we've got a couple more minutes, so I want to throw it back to the investors in the room. If you guys have any questions, please, please feel free to ask.
Yeah. Yeah, so this is a question on Level 3 and margins in the most recent quarter. Here, here's what I would, I would say: So, and we've, we've said this a lot, so I'm sorry if I'm repeating myself. We need to continue to give, you know, more insights into the, into the debt boxes, and we've worked hard to that end, and we'll continue to do so. But it's not the way we manage the business, right? When Kate and I talk, we're talking about enterprise, and we're talking about mass markets. And the debt, the debt boxes are really an artifact of, of the acquisition activity that's taken place over the years. Now, that said, we, we have documented processes for how, affiliate transactions work between the entities, and those are processes that are audited.
Those are processes that we have to adhere to for SEC reporting, so we're not changing the rules, you know, mid-game. Okay. Okay.
This will be the last, this will be the last answer.
Okay, that's fine.
Thank you.
So very quickly, we use market rates for those transactions. And while I can't answer the question specifically, I would say it's more-
Okay
O f a market rate determination, arm's length determination, that impacted, that shift.
Okay.
Thanks.
Thank you. Thanks, Chris. Really appreciate it. Thanks for your time.