Charter Communications, Inc. (NASDAQ:CHTR) Q3 2023 Earnings Call Transcript

Charter Communications, Inc. (NASDAQ:CHTR) Q3 2023 Earnings Call Transcript October 27, 2023

Charter Communications, Inc. beats earnings expectations. Reported EPS is $8.26, expectations were $7.73.

Operator: Hello, and welcome to the Charter Communications Q3 Conference Call. We ask that you please hold all questions until the completion of the formal remarks, at which time you’ll be given instructions for the question-and-answer session. Also, as a reminder, this conference call is being recorded today. If you have any objections, please disconnect at this time. I’ll now pass you over to Stefan Anninger.

Stefan Anninger: Thanks, operator, and welcome, everyone. The presentation that accompanies this call can be found on our website at ir.charter.com. I would like to remind you that there are a number of risk factors and other cautionary statements contained in our SEC filings, which we encourage you to read carefully. Various remarks that we make on this call, concerning expectations, predictions, plans and prospects, constitute forward-looking statements, which are subject to risks and uncertainties that may cause actual results to differ from historical or anticipated results. Any forward-looking statements reflect management’s current view only, and Charter undertakes no obligation to revise or update such statements. On today’s call, we have Chris Winfrey, our President and CEO; and Jessica Fischer, our CFO. With that, let’s turn the call over to Chris.

Chris Winfrey: Thanks, Stefan. During the third quarter, we added 63,000 Internet customers, as we continue to benefit from growth in both our existing footprint and new subsidized rural footprint. We also added nearly 600,000 Spectrum mobile lines, benefiting from our Spectrum One offering. At the end of the third quarter, we had over 7 million total mobile lines, and over 12% of our Internet customers now have mobile service. We expect mobile penetration to meaningfully grow over the next several years as the quality and the value of our converged connectivity service gains wider recognition. Revenue was essentially flat year-over-year, with some temporary headwinds within the quarter. And adjusted EBITDA grew at 0.7% year-over-year, moving past the low point last quarter.

We expect that upward trend to continue as we realize the benefit of our operating investments. More importantly, we’re making significant progress against the multiyear strategic initiatives we outlined late last year. Our footprint expansion initiative remains on track. We expect to add approximately 300,000 new subsidized rural passings in 2023 and to accelerate that pace in 2024. Our penetration gains in subsidized rural passings continues to grow at a better-than-expected pace. At the 12-month mark, our rural builds are achieving nearly 50% penetration, faster than our initial expectations. Our execution initiative also continues to progress, and we remain committed to prioritizing the customer experience. We continue to see the benefits of our investments in employee tenure and training, including better employee retention, higher quality service transactions and better sales yields.

Additionally, the increasing digitization of our service platforms for both customers and employees will further reduce transactions, driving higher levels of customer satisfaction and employee satisfaction, driving tenure and quality. And finally, our evolution initiative, which is comprised of our network evolution project, our convergence efforts and our video product transformation, all of which remain on track. Our network evolution project continues to progress well and will allow us to maintain our fastest Internet and WiFi service claims in front of customers and competitors everywhere we operate. Unlike the telcos, which prioritize the most attractive footprints for upgrades, our multi-gig speed offerings will be available across our entire footprint.

Our network evolution is good for the communities we serve, and it’s good for Charter. And excluding the benefit of any savings that result from the project, we continue to expect our network evolution to cost a very low $100 per passing. We’re very much on target. Whether we finish our network evolution initiative by the end of 2025 or mid-2026 will really depend on the supply chain for distributed access architecture components and managing annual capital spend, given the larger customer growth opportunity and construction speed of RDOF, where we’re ahead of the build requirements and we’ll end up with more passings than originally expected, state grants, and hopefully, beat passings. However, I want to reiterate and be very clear that where state BEAD rules are not conducive to private investment, we will not participate in those states.

Our converged product offering also continues to evolve and succeed. Spectrum One is performing well and offers the fastest connectivity, with differentiated features like mobile Speed Boost and the Spectrum Mobile Network. Spectrum One also offers significant savings for customers, with market-leading pricing at both promotion and retail. Finally, turning to the evolution of our video product. Earlier this month, we launched our Xumo platform across our entire footprint. This industry-leading video platform allows our customers to access their linear and direct-to-consumer video content with unified search and discovery within one easy-to-use interface. Combined with our Spectrum TV app, the most viewed linear and VPD streaming service in the US, Xumo is now our go-to-market platform for new video sales.

In September, we announced an agreement to carry Disney’s linear networks and direct-to-consumer services for our customers. This new hybrid distribution model is good for consumers and we believe a significant step forward for the video ecosystem. For Charter, the agreement adds value to our video packages and better aligns linear content and DTC apps, which will be included for free in our video products. We also maintained flexibility to offer lower cost packages. Disney gets broader distribution of its DTC products with ad revenues from our video customers and upgrade subscriptions to ad free. We’ll also sell Disney’s DTC apps to our Internet customers, including via Xumo over time. Together with Disney, we created a glide path to bridge from linear video into new growth with both linear and DTC services.

Disney and ESPN were a key first step to repairing the video ecosystem, but our goal is to have a product that is valuable and that we’re proud to sell. We plan to modernize all of our distribution agreements upon renewal in a way that works for customers. That means packaging flexibility, value and not asking customers or us to pay twice for similar DTC and linear programming. If programmers insist on customers paying twice, we just won’t carry those channels. But we’d still be happy to sell their content in an à la carte app, same way as they do. Our goal is to modernize these agreements quietly and seamlessly for our mutual customer base. Our new hybrid distribution model, combined with Xumo’s content forward interface, provides a clear path to solve key customer issues of choice, value, and utility, with seamless linear DTC and SVOD integration in advanced search and discovery functionality.

For Charter and programmers, this creates a state-of-the-art video marketplace, supported by our scaled distribution, sales, and service infrastructure, and we believe a glide path to broader distribution, better economics, and more choice for everyone. Through expansion, network evolution, convergence, video transformation, and investing in quality, we are executing successfully the strategy we laid out last December. Our strategy remains to provide the highest quality products, which we then priced and packaged in customer-friendly ways to drive higher penetration of our services across our footprint. We then combined that with investments in high-quality service, which also increases our competitiveness to acquire more customers. Ultimately, continued execution of our strategy will drive significant long-term value for shareholders, and we continue to make good progress.

Before handing the call over to Jessica, I want to note that earlier this week, we announced Ton Rutledge’s plan of retirement, and that Eric Zinterhofer is reassuming the non-Executive Chairman role at Charter. I’m pleased that Tom will remain as Director Emeritus, and grateful to Tom, Eric and our full Board, including two of the most successful cable investors in Liberty Media and Advanced New House, for their work to achieve a smooth CEO transition for Charter. Jessica?

Jessica Fischer: Thanks, Chris. Let’s turn to our customer results on Slide 5. Including residential and SMB, we added 63,000 Internet customers in the third quarter. We estimate that approximately 15,000 third quarter Internet disconnects were driven by the temporary loss of ESPN in September. Video customers declined by 327,000 in the third quarter, with about 100,000 video disconnects driven by the Disney programming dispute. The overall impact to customer relationships was less than we expected, facilitated in part by the wide availability of over-the-top alternative. The loss of Disney programming occurred both at the beginning of football season and in the midst of a programming cost pass-through and the launch of our new Auto Pay discount incentive on Internet.

Nonetheless, operationally, we handled the Disney dispute very well. But our billing and retention call centers were not fully back to normal until early October, so there was lingering customer net add impact early in the fourth quarter. Turning to mobile. We added 594,000 mobile lines in the third quarter. Wireline voice customers declined by 286,000 in the third quarter. Overall market activity, churn and gross adds, remained well below pre-COVID levels, partly driven by persistently low move rates. We continue to compete well in a portion of our footprint that is overlapped by fiber, but we also continue to see some impact from fixed wireless access competitors in the lower usage and price-sensitive customer segments of our residential and SMB businesses.

That product remains slower and less reliable than what we can deliver, and will be additionally constrained as consumers demand more and more data. In fact, high data usage customers that switched to fixed wireless have a higher propensity to return to our Internet service. Despite our Disney dispute, third quarter residential Internet churn was at a new record low for the third quarter. Our Spectrum Mobile product also continued to perform well in the quarter. The majority of new lines continue to come from existing Internet customers, though the percentage of lines coming from new customers has continued to increase. Boarding from other carriers as a portion of our gross additions grew year-over-year, despite much higher mobile sales. We also continue to see healthy data usage on our Spectrum One promotional lines and remain confident that these lines should perform well as long-term customers.

In the third quarter of last year, we launched Spectrum One pilot programs in a handful of markets. The pilot program customers reached their 12-month anniversary during the third quarter of this year, and incremental churn on those lines was small and even less than we expected. Turning to rural. Subsidized rural passings growth accelerated in the third quarter, with 78,000 passings activated. And we continue to expect approximately 300,000 new subsidized rural passings this year. As our RDOF build has progressed, we have identified roughly 300,000 adjacent passings along the way that are not in the sense of slot groups we want, but we will add to our network as we complete the RDOF build. Because of these adjacent passings, we now expect that our RDOF initiative will yield a total of 1.3 million passings to be constructed over a multiyear period.

And while labor and equipment costs have both increased, we expect the average net cost per passing of these 1.3 million passings to be similar to our original RDOF net cost per passing estimate. We don’t expect any potential BEAD build, subject to what Chris mentioned, to begin until 2025. Moving to financial results, starting on slide 6. Over the last year, residential customers grew by 0.2%, with new customer growth driven by Internet, partly offset by video-only customer churn. Residential revenue per customer relationship declined by 0.6% year-over-year, given a higher mix of non-video customers, growth of lower-priced video packages within our base and $63 million of residential customer credits related to the Disney lockout, partly offset by promotional rate step-ups, rate adjustments and the accelerated growth of Spectrum Mobile.

Excluding Disney-related credits, residential revenue per customer relationship was flat year-over-year. As slide 6 shows, in total, residential revenue declined by 0.3% year-over-year. Excluding Disney-related credits, residential revenue grew by 0.3% year-over-year. Turning to commercial. SMB revenue declined by 0.9% year-over-year, reflecting lower monthly SMB revenue per SMB customer, primarily due to a higher mix of lower-priced video packages and a lower number of voice lines per SMB customer. These factors were partly offset by SMB customer growth of 1.3% year-over-year. Enterprise revenue grew by 3.7% year-over-year, driven by enterprise PSU growth of 5.9% year-over-year. Excluding all wholesale revenue, enterprise revenue grew by 5.5%.

Third quarter advertising revenue declined by 20.3% or $97 million year-over-year due to less political revenue. Core ad revenue was down 1.8%, due to a more challenged advertising market, partly offset by our growing advanced advertising capabilities. Other revenue grew by 28.8% year-over-year, driven by higher mobile device sales. In total, consolidated third quarter revenue was up 0.2% year-over-year, and up 1.5% year-over-year when excluding advertising and the impact of the $68 million in total Disney-related customer credits. Moving to operating expenses and adjusted EBITDA on slide 7. In the third quarter, total operating expenses were approximately flat year-over-year. Programming costs declined by 9.6% year-over-year due to a decline in video customers of 6% year-over-year, a higher mix of lighter video packages and a $61 million benefit related to the temporary loss of Disney programming in early September.

These factors were partly offset by higher programming rates. We now expect that for the full year 2023, programming cost per video customer will decline by approximately 3% year-over-year. Other cost of revenue increased by 15.2%, primarily driven by higher mobile device sales and other mobile direct costs, partly offset by lower regulatory and franchise fees and lower ad sales costs. Cost to service customers increased by 3.7% year-over-year, driven by previous adjustments to job structure, pay and benefits to build a more skilled and longer tenured workforce, resulting in lower frontline employee attrition compared to 2022 and additional activity to support the accelerated growth of Spectrum Mobile. Those were partly offset by productivity improvements, including from tenure investments, lower service transactions per customer and lower bad debt.

Sales and marketing costs declined by 1.4%, primarily driven by lower labor costs, as we’ve lapped our prior year employee investments in sales and marketing. Overall, while we certainly had some additional overtime in our call centers, given the Disney dispute, it was not a material expense driver this quarter. Finally, other expenses grew by 2.5%, driven by labor costs. Adjusted EBITDA grew by 0.7% year-over-year in the quarter. Turning to net income on slide 8. We generated $1.3 billion of net income attributable to Charter shareholders in the third quarter, up from $1.2 billion last year, driven by higher adjusted EBITDA and lower other operating expense, partly offset by higher interest expense. Turning to slide 9. Capital expenditures totaled $3 billion in the third quarter, above last year’s third quarter spend of $2.4 billion.

The increase was primarily driven by higher spend on upgrade rebuild due to our network evolution initiative, higher spend on line extensions driven by Charter’s subsidized rural construction initiative and continued network expansion across residential and commercial greenfield and market selling opportunities, and higher CPE, driven by the purchase of Xumo devices for our launch earlier this month. For the full year 2023, we now expect capital expenditures to total approximately $11.2 billion. Capital expenditures, excluding line extensions, should total approximately $7.2 billion, higher than our previous expectation. The increase reflects additional Xumo CPE purchases and an acceleration of network spend related to future high split markets, including inventory accumulation and other preparation activities like walk-out and design and proactive equipment swap-outs of both DTAs and MPEG2 boxes.

As Chris noted, we continue to expect to spend approximately $100 per passing to evolve the network to offer multiple gigabit speeds. There has been no change to our longer-term network evolution CapEx outlook. We also continue to expect 2023 line extension capital expenditures to total approximately $4 billion. We are working through our 2024 operating plan right now. Given the greater subsidized rural passings and construction opportunity we currently see, we may partially fund that opportunity by very modestly slowing our network evolution plan, as Chris mentioned. And as we complete our 2024 plans, we will provide a more detailed outlook on our fourth quarter 2023 call in January. I want to highlight that capital expenditures, excluding line extensions and network evolution as a percentage of total revenue, have remained consistent since 2021.

And following the completion of our network evolution initiative, capital expenditures, excluding line extensions as a percentage of revenue, should decline to below 2022 level, which has important long-term cash flow implications. As Slide 10 shows, we generated $1.1 billion of free cash flow this quarter versus $1.5 billion in the third quarter of last year. The decline was primarily driven by higher CapEx, mostly driven by our network evolution and expansion initiatives. A couple of brief comments on working capital and cash taxes before turning to the balance sheet. Excluding the impact of mobile devices, we now expect our full year 2023 change in working capital to be negative by a few hundred million dollars, given the timing of capital expenditures and lower-than-expected accrued programming at year-end.

On cash taxes, we did have a lower cash tax payment in the third quarter, which is just a timing difference. The full year cash tax outlook, which I provided during our fourth quarter 2022 call, still stand. We finished the quarter with $97.6 billion in debt principal. Our current run rate annualized cash interest is $5.2 billion. As of the end of the third quarter, our ratio of net debt to last 12-month adjusted EBITDA was 4.45 times, and we intend to stay at or just below the high end of our four to 4.5 times target leverage range. During the quarter, we repurchased two million Charter shares and Charter Holdings common units, totaling $854 million, at an average price of $421 per share. Our 2023 EBITDA growth has been pressured by significant investments we’ve made in the future growth of our business.

As we move toward 2024, pressure on our EBITDA growth will begin to abate, with growing transaction efficiency as we benefit from building employee tenure and easier comps as we have now lapped the impact of those employee investments. Lower transactions in our mobile business, which drove down — which drive down our per customer cost of service and building as we move into next year, revenue growth acceleration from the roll-off of our mobile free line offers and positive impact from political advertising. In addition, faster pacing of our rural build should bring additional positive impact to customer net additions next year. In the longer term, the competitive impact in operational efficiencies from our network evolution will drive a stronger broadband business.

Convergence momentum will improve our churn and generate financial growth for both broadband and mobile, and transformational changes to the video business can enhance the value of our product for our connectivity customers. The investments we have been making and will continue to make are set to drive the growth of our business going forward. Operator, we’re now ready for Q&A.

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Q&A Session

Operator: [Operator Instructions] Thank you. Our first question will come from Jonathan Chaplin with New Street Research. Your line is now open.

Jonathan Chaplin: Thanks. Two quick questions. Starting with broadband, it looks like your — the progress in the new markets, the rural markets that you’re pushing into is great. The 12-month penetration there is accelerating, which is fantastic. But it seems like the core markets are progressing a little bit more slowly than you expected. And I’m wondering, Chris, if you can give us some context for what was different from what you may be expecting in the core markets as sort of function of just slower pull-through from Spectrum One, or greater pressures from fixed wireless broadband or something else? And then I’m wondering, sort of, taking a step back, whether you can give us a view of what you think the video business ultimately looks like five years down the line?

I can imagine an environment, a world where you’re collecting a platform fee, this lower ARPU, but very high margin from a large number of your customers, and it becomes a much more valuable business for you than the sort of the distribution business that you have today. But I would love to get your thoughts on like how that business evolves? And when we sort of hit the point where it starts to become a growth driver for you as opposed to a drag on growth? Thanks.

Chris Winfrey: Sure. And there’s a lot in what you just asked, broadband. So, as you mentioned, our subsidized rural construction is going very well and it’s pacing well. We’re getting faster penetration than we anticipated, probably are used for higher terminal penetration. As Jessica mentioned, as we get into next year, not only do we have the accelerated pace of construction that we get into Q4 and then into next year, but also the tailwind of the construction that we’ve already completed. So, as a standalone investment, the transparency around that is actually pretty high. The core markets, I think similar to what you’ve heard probably from others, both in the second quarter as well as third quarter, the back-to-school and dynamics, both at disconnect in Q2 and reconnected Q3 is not gotten back to where it was several years ago.

Some of that could tie into the low end of the market where you have some incremental fixed wireless access. I think importantly for us we’re continuing well in fiber markets and as it relates to fixed wireless access where you have a lower quality, lower throughput, lower capacity product, that’s really not even lower priced when you combine mobile and Internet together. But on the increment, it appears to be that way. We feel pretty good about that space, just given the amount of bandwidth usage that increases over time and the natural capacity constraints that we’ve all spoken about in the past. So, I think some combination of that, as well as Jessica mentioned, we had a relatively modest, but small impact on the Disney programming dispute, which drove an additional 15,000 units.

But just if you step back, for all the reasons that we know, the broadband market has been temporarily stunted for growth. But we are growing in both our existing footprint as well as in the rural subsidized footprint as well and we’re providing that so people can evaluate where both pieces are. In terms of video, five years from now, I think there’ll still be a traditional video business that exists. And then I’ll talk a little bit about where it could evolve to. But a traditional video business that exists, hopefully with additional value in it with DTCs, bundled in, in a way that increases the stickiness of the linear business, is just to the benefit of our ourselves and programmers, we can do that through these renovated agreements with the programmers and the combination of Xumo that creates utility for customers to find content in an easier way and have a deeper library and availability of that content.

I do think, as you mentioned and as I mentioned in the prepared remarks, we have an opportunity to evolve to a state-of-the-art video marketplace where we can provide that type of traditional linear integrated DTC and SVOD product for customers who can afford it. It’s a value. But when you get that, it’s a very valuable product, and it’s something that we’d be proud of. And for those customers who are going to be coming more in and out of the video market with different packages because of affordability, that’s been driven by the programmers and because of the availability of DTC’s à la carte, that Xumo, for us, can provide a really good marketplace to sell those products, again, for the benefit of the programmers as well and gives customers options wherever they want to go.

And to your point, not only do we have the traditional video business delivered by Spectrum, but we also have the ability to monetize, from an advertising revenue perspective, the platform through our equity investment in the 50-50 joint venture of Xumo. So nobody sitting here forecasting that traditional linear video is going to grow. But I do think it still remains very important to our connectivity relationships. I think we have a strategic advantage in the marketplace because of our capabilities as a broadband provider with a scaled video platform with the programming relationships that we have and the ability to package together a hybrid model that creates value for customers and is also a distribution engine for these DTC apps, either on a standalone or a bundled basis, for customers and programmers in the future.

So if I step back from a video perspective, again, I’m not forecasting growth, but the past 15 years, there’s been very little to be optimistic about, either from a customer perspective because of what the programmers have done or for ourselves as a distributor. And for the first time, I see a path where we can create value for customers and create utility and that ultimately will enhance the value of the connectivity services that we provide through our seamless connectivity in Spectrum One, which we’re beginning to market now as part of Xumo.

Stefan Anninger: Thanks, Jonathan. We’ll take our next question, please.

Operator: Our next question will come from Craig Moffett with MoffettNathanson. You may unmute and ask your question.

Craig Moffett: Hi, thank you. I wonder, maybe for Jessica, if we could drill down a little bit on the ARPU impact of Spectrum One? And how we should expect, as you start to see the first cohorts roll off, how should we expect ARPU to track for both broadband and for wireless, I guess, over the next not just the next quarter or so, but maybe a little bit longer term as you start to roll off those cohorts?