Deutsche Bank 27th Annual Leveraged Finance Conference

Sep 25, 2019

Slides

Good morning, everyone, and thanks for joining us. Our next presentation is from CommScope. And I've had the pleasure of having Morgan Kirk, executive vice president and and chief technology officer, as well as Russell Johnson, the VP and treasurer from CommScope. We also have Kevin Powers up here on the investor relations side. And with that, I'll let Morgan go through some of the slides, and then we'll open it up for Q and A. Thank you. We'll go through our safe harbor statement for our forward looking commentary. Please read carefully. I'd like to give you a business overview of CommScope, being as this is our first webcast after a rather large acquisition. CommScope today is global networking connectivity leader. We're now almost $11,000,000,000 in pro form a trailing net revenue. We spend more than $800,000,000 in R and D. And to protect this R and D, have more than 15,000 patents. We've really become a very important player in the telecommunications space. We operate in The United States for the majority of our revenue, but around the world in more than 150 countries. And this allows us to help our customers from one region and another learn from from from each other. In general and in whole, we operate in both the access layer of the network, the edge of the network, and the core of the network, as I will discuss later on. We have made strategic acquisitions and have grown through acquisitions in every major technology trend that has gone on in the industry over the past thirty or so years. We started off in the two way radio space and then the cable TV space. That was really the foundation of CommScope. But as other things have happened, as we had the Internet explosion or as mobility rose, we have acquired companies over time to address these things. Avaya's Systemax solutions and then Andrew Corporation. In 2015, we acquired BNS, and this helped us with addressing a lot more of the digital revolution. And now we believe the trends that are going on, big trends coming forward is the Internet of Things, the connection of virtually everything to to come together and provide better and more efficient both lives as well as industry. And we think we're very well positioned to take this on. We work all over the network. And I'd like to just give you some ideas of it. We work in the home with our CPE segment where we're in lots of set talks and gateways and WiFi access points that you deploy in every one of your homes today. We believe there's opportunity here to change over time as that connectivity changes. Whether it is fiber or coax or wireless, CommScope can help our customers migrate and grow and change. In the enterprise side of the network, we now are a combined company that offer a fairly unique proposition, which includes both wired and wireless, licensed and unlicensed. And I'm sure many of you have been hearing about the new trends in The United States on CBRS and the new spectrum that's becoming available to create new networks that will help industry move forward and and help relieve some of the capacity constraints that we've had in the past. We think by bringing all these technologies together, we can help our customers and their customers perform and run their businesses better and enjoy a new lifestyle. We work in in the mobile side of the network on cell towers traditionally. Virtually everything you see on a cell tower comes from CommScope, everything but the radio in many cases. But now the networks are growing and they're growing into the metro layer of the network. So no longer these big cell towers, but cell towers that are much closer to you on lamp poles and street poles. And this is an area which we believe bringing both the access layer of the network, the connectivity from the core to the edge, as well as our technology that can fit within lampposts and hide from from the consumer's view are things that we believe will be valuable in the future. Big venues and other places, places where we've historically played and they will continue to add importance as people use new technology, whether it's virtual reality or virtual augmentation to enhance experience. And finally, in data centers, as we've seen them go from the edge to the core and then back out to the edge, we think there's plenty of opportunity there as well. There are lots of industry trends that we think that really play into our favor. We have offerings that we get to bring together because a lot of what's going to go go on in the next decade will be about driving efficiency into the network. We do a lot of that by integrating a variety of our products together in a better way than they've been done in the past to reduce inefficiencies between all these various interfaces. We see network architectures changing. Things that were at the edge are moving toward the core. Things that were at the core are moving toward the edge. We believe we're in a unique position to help these types of evolutions and these new architectures become a reality. We know that mobility is already that last point that we all take for granted now. We don't plug into walls to get our connectivity regardless of where we are outside, inside, in the home, at work. But we believe mobility will get even more pervasive in the future, and it will be even more important in the future, and we're positioned to do that. We have plenty of customers that are changing their business models, that are moving from whatever their historic business model of being in one portion of the network moving to other portions of the network, and we believe that we can help these customers move and compete well with each other. And finally, because we're just turning the clock on 2020, we see a new opportunity with five g. With a lot of things going on. And I'll give you some cases in The United States. We some mergers that are going on between the telcos that will allow frequency bands to be combined and really are an opportunity to rebuild network in The United States. And if this happens, we see an opportunity for a new entrant to come in and compete as a fourth entrant in The United States. And both of these represent very good long term opportunities for CommScope. Now while these are long term opportunities, they're always short term headwinds. When you have anything that needs regulatory approval, you always have issues that cause slowdowns at times. But in the long run, we believe this is extremely will be extremely beneficial to CommScope. The ARRIS acquisition we did for a number of reasons and I sort of spoke about them, but it's good to highlight the five that we think are really important. The first one is really to to build this integrated solution of wired and wireless, licensed and unlicensed, to solve the demand in buildings. 80% of the time is for people is spent inside of buildings. And providing better coverage and more capacity inside of buildings is critical to enable a lot of other businesses. And we think we're well positioned to do this now that we have technology that is both in Wi Fi as well as in unlicensed LTE as well as in licensed LTE and the switches to be put together and the connectivity that happens between them. Along with this, we think private networks are going to change fundamentally in the next decade. And and we're just at the beginning of this to create, I'll call it, Industry four point o or Manufacturing four point o and really create manufacturing facilities and other things that adapt in virtual real time to the needs of their customers. We believe untethering these from the walls is something that's really an opportunity for us in creating these new highly reliable, very, very low latency, highly sensitive to security and to safety networks will be important. We think the home is only going to grow from connectivity. The number one complaint in your home is when WiFi doesn't work well and that's because connectivity has become so important. We believe not just connectivity, but uplink and downlink data rates and latency are going to be important. And how we connect to the home is going to be very different in the future than it has been in the past. We think that we're appropriately staffed now to address the broadband access to the home, ensuring that we get into the home whether it's via fiber, whether it's via coax. We have both the active and the passive gear now to be able to do that. And finally, with respect to five gs, while many others around the world, there's been consolidation for many of our now competitors in some cases, other large OEMs. We believe we offer a unique position of someone that's come from the indoor toward the outdoor and someone who's been looking at solving network problems in the wireless space for five gs in a different way than they have in the past. And I think some of the new standards and interfaces that are coming up will allow a player like us to compete in a new and exciting way. But in the meantime, as these long term trends play out, we are very focused on a few very important items. One is to deliver the synergies of $150,000,000 over three years post deal that we've had or to exceed that. We believe that that's terribly important because of this commitment we've made. And beyond that, it's to work on the types of things that CommScope has historically been known for, which is really optimizing our businesses, ensuring that we find new ways of solving the same problems, and ensuring that we become more efficient every single year to solve these problems. Programs like Connector Excellence, which really reduces the cost of our optical termination, or consolidating operations or manufacturing in a way in which you can reduce your labor costs and or your total cost of manufacturing or delivery to a customer, are all things that CommScope has done historically and will continue to do in the future. So we'll make those commitments as we start driving for the future of CommScope. With that, I will hand it over to Russell. Thank you. What am I pushing here? The advanced slides? This one? Okay. Thank you, Morgan, and good morning, everyone. So the handful of slides that button. Right The handful of slides that I have for you today are mostly related to our debt capital structure and our deleveraging strategy. So this slide shows the debt portion of our capital structure as of Q2 twenty nineteen. And if you've taken the opportunity to look at our Q2 earnings deck, you'll recognize this slide because it's right out of that deck. But it provides that debt capital structure and gives you some of the details behind it. So on the right, you can see our maturity stack. And as of Q2, we ended Q2 with $10,500,000,000 of debt, which is exactly the same amount of debt we had on our balance sheet when we closed the Eris acquisition. So there was no deleveraging activity between close of the deal and the end of Q2. The debt stack that's shown here does include the Eris acquisition debt. So that's the term loan B, the two series of secured notes that we put in place that mature in 2024 and 2026 respectively, and then an additional series of unsecured notes maturing out in 2027. So that together constitutes about $7,000,000,000 of acquisition debt, gross acquisition debt that we incurred for the transaction. You know, when I think about our capital structure, there's a couple of things that I like and make me really comfortable. Number one is that it's a completely covenant light structure, so we have no maintenance covenants, you know, so we don't have to worry about fluctuations in our various financial ratios from quarter to quarter, you know, which is particularly important to us as we, you know, go through some sort of softness in spending by some of our cable CapEx customers. So that's a nice that's a really nice attribute of structure. We do have incurrence covenants obviously, but, I would say to you that by and large the things that those are potentially constraining are things importantly like raising substantial amounts of new debt or doing material share repurchases, large scale acquisitions. And those by and large are not really things that we plan to do in the near future. So from my perspective, those incurrence covenants are really not constraining to us on an operational basis. The other thing that I like a lot about our structure and that gives me a lot of comfort as treasurer is we have very strong liquidity. So we ended Q2 with $350,000,000 of cash on our balance sheet. And then in addition to that, we've got a $1,000,000,000 ABL revolver facility, which as of Q2 was pretty much wholly available to us. There were no cash draws outstanding at that time. There was just a tiny bit of utilization through LCs that we had issued on the facility. So, overall, I would say the capital structure is in really good shape. Again, this was as of Q2. So if you think about this on a pro form a basis for what we've done since Q2, in August of this year, did redeem $200,000,000 on the 2021 notes that you see there. So as we sit here today, we're down to a gross debt balance of $10,300,000,000 and that nearest term maturity is smaller than it was. You know, I'd add to that the other thing I really like about our capital structure is the sort of layering of the maturities. I mean, you can see, we have very little in the way of near term maturities. And so our principal strategy right now is to do what we can to take out that 21 series of notes and then, you know, once that's done, we've got a lot of headroom before we face our next maturity. So the timing of our maturities is something that we really like about this structure. So overall, again, we're very happy with the structure. We feel like it gives us a lot of financial stability and a lot of operating flexibility And there's also a substantial amount of pre payable debt that's embedded in this facility. So, as you know, a big focus for us post acquisition is de risking the balance sheet and getting the leverage levels down as quickly as we can. And so having a large chunk of pre payable debt in that structure is very important to us. This slide just gives you a little bit of a look back in terms of the history of the company in doing acquisitions, material transformative acquisitions, and then quickly delevering the balance sheet post acquisition. I've only been with the company since April, so I can't give you the history details of all of these. These guys up here can probably do that. But I think what this track record shows is, you know, number one, we have been willing to do material acquisitions to grow and transform the company. We've been willing to lever up to do that. And then we've been very focused on delevering post acquisition, again, to derisk the balance sheet and get leverage back down to more comfortable levels. You know, the other thing I'd say in that regard is, you know, there are periods of time in this history when, you know, the underlying economy was not so good. And just, you know, 2007 was the, you know, start of a very serious recession. There were other periods during this time when we were experiencing slowdowns, you know, industry specific or customer specific slowdowns in CapEx spending. So, you know, despite those headwinds, we were still able to take the right steps that we needed to do in order to delever the balance sheet. And, you know, really the underlying things that we were doing at that time were, number one, we're focusing like a laser beam on realizing or exceeding the synergy targets that we set out for ourselves when we did these acquisitions and then number two, keeping our financial policy really, really focused on delevering as a top priority as opposed to other potentially competing uses for capital. So that's really the same playbook that we are planning to follow and we are following with the ARRIS acquisition. We've levered up substantially to do that deal. You can see as of Q2, leverage was at six net leverage was at six times. Initially, we set out we set a goal for ourselves to delever to four times within twenty four months of acquisition close. I think given some of the underperformance in some of the ARRIS businesses and the slowdown in CapEx spending by some of the cable operators that we've talked about a lot, it's going to be challenging for us to meet that target. So we're thinking about that more as a medium term target now as opposed to a target with a specific time period. But that's absolutely still our goal is to reach that target. And then longer term, as we said when we closed the deal, we still intend to delever and get the balance sheet back to a two, three times leverage ratio. So that's really it for my remarks. Do what? One more. So I think now we're open for questions from the audience. And so folks just wanna jump right in. Sure. So as we communicated on our second quarter earnings call, which was early last month, we are on track to over deliver in the first year on our cost synergy target. So first year post close, the target was $60,000,000 We now have a viewpoint to $75,000,000 of attainment in the first year post close. From a longer term target, the cost synergies that we communicated were $150,000,000 of annualized run rate of cost synergies by the end of year three. And we communicated on the earnings call back in August that we expect to overachieve on that number and hit an earlier timeframe. We have not quantified that given a specific time period. But certainly given the company's track record to over deliver on synergies through previous acquisitions, you can rest assured that that is something we're very comfortable with at this point. As far as surprises, I'll start and certainly Morgan can chime in. Nothing really to speak of specifically. We've been very pleased with the talent pool at the ARRIS. The ARRIS employees within the segments, know, we're very well positioned from a technology and product standpoint and we feel, you know, we're on a great path moving forward. Yeah. I guess from a synergy standpoint, for growth, I think we've been pleasantly surprised to see that there are lots of opportunities across businesses to have the businesses work together in different ways than in the past. As you see virtualization going on, just as an example, you see work from the group that has switches in it being applicable across two or three other groups. These were opportunities that were not taken advantage of in the past, so we're getting a lot of cross R and D pollination that's going on. And I think that will result in a more robust offering in each one of our segments. So from that perspective, it's been a surprise, a positive surprise on how much there is available there. So the question is around the performance of the ARRIS businesses in Q3 relative to our expectations. So as we communicated in August, the expectations for the business was ruckus to be relatively sequentially flat from q two moving forward. Network and Cloud results to kind of steadily improve 2Q to 3Q, 3Q to 4Q, which would be commensurate with some of the CapEx guidance we've seen from the large cable operators. And then CPE sequentially decline in 3Q and then pick up 4Q with seasonality, which is typical in that business. There's nothing that we've seen that would be any different from those expectations where we are today more or less. So we're fairly comfortable there. Nothing really to add beyond that. Yeah. So maybe I can help answer that. So I think there have been a lot of things that are doing that have been done to prepare networks for five gs, whether it is combined with other things like a FirstNet build out. It also prepares the towers for for five gs. We've seen pickups in the densification of the networks and we expect that to continue. This is in the metro layer of the network and we've seen increased interest and starts of designs for doing indoor networks. Around the world, we're also seeing more usage of the 3.5 gigahertz band, which represents a large opportunity for us. In terms of how that's going to pick up, it's it's certainly starting to build, but I don't know that I would be ready to say exactly what that means in terms of our revenue. No, that would have been sequentially. So sequentially declined from 2Q to 3Q and then a sequential increase from 3Q to 4Q. We have not given an expectation on year over year performance. Yeah, so it depends on which business. So when things do tend to decline or contract and there's less business, certain people try in various businesses to lowball prices. We have experienced that in some of the businesses at times. We take a very disciplined approach and I'll say a long term approach. If there is a portion of the business that we don't believe has long term benefit to the company, we won't fight for it if you go too low. On the other hand, there are other areas where we believe it's in the long term best interest of the company to ensure that we maintain share and at times we try to take share. Overall, we're managing to do fairly well on the margin line and we watch what our share is according to the business that we're in and ensure that as we come out of this period of weakness that we're not losing share in the areas that we think are important.