Orange Polska SA

WSE:OPL

Earnings Call Transcript 2021-Q2

[Operator]

Good morning, ladies and gentlemen, and welcome to the Orange Polska first half results call. [Operator Instructions]

I will now hand over to the Orange Polska team. Please go ahead.

[Leszek Iwaszko, executive]

Thank you. Good morning, everyone. Welcome to our call summarizing second quarter and H1 2021 results. Our speakers for today's presentation will be Julien Ducarroz, CEO of Orange Polska; and Jacek Kunicki, our CFO.

Let me now turn the floor to Julien to begin the presentation.

[Julien Ducarroz, executive]

Good morning, ladies and gentlemen. Welcome, everyone, in our conference summarizing second quarter and first half of 2021. So as usual, I will start with the highlights of our quarter. Jacek will take over more on the financials, and I will come back to summarize our second half of the year.

So let me start on Slide #5. So those are the key highlights of the quarter. Obviously, one of the main items that you remember was our announcement of our strategy .Grow at the end of June, which we have laid down our priorities for 2024. Just to remind you, so for us, this is a natural evolution from the previous plan with as well some new elements which we believe will help us to accelerate our growth and as well lay down foundation to go even further beyond 2024. Financially, we want to grow faster and in a more sustainable way and sharing benefit of this growth with our shareholders.

Financial results in Q2 and in H1 were strong, driven by robust performance of our core telecom services. Commercial results were solid, clearly, in a context that was not as easy as we thought at the beginning of the year. I will mention here still the ongoing pandemic for the sales part. But as well, we have to notice that the weather was quite unexpected as well, impacting as well some of our operations, especially when we are talking about fixed. However, I believe that this is more a temporary drop, and we are confident that the demand will come back after the summer break.

We have as well revised our offer portfolio. And I will take some minute to talk about it, which I believe it's quite important and it is a lot in line with our strategy of more for more. And as you might have noticed as well, the environment is getting hot with inflation, and we believe as well, for us, the more for more and creating more value is important in this context. And as well, we have announced in July some important steps regarding the FiberCo, and we are still fully on track to be operational by the end of August or operational from September.

So going on the next slide, #6. Let's start with the overview, where we stand after half of the year versus our full year guidance and expectations. Revenue increased by an impressive 4.3%, driven by convergence, our ICT services and equipment. This dynamic will slow down from Q3, where it will start to reflect regular impact coming from cuts of termination rate which were not in H1.

Growing revenue fueled over 4.5% EBITDA growth. We are very pleased that this growth is derived from improving direct margin, which is the direction we want to take to have this sustainable growth for the long term. Please note as well that announcing our strategy, we increased our guidance for EBITDA growth this year. We now expect it to grow in the range of low to mid-single-digit. Results for the first half confirm that. Cuts of termination rates will have a very low impact on the margin. CapEx is slightly higher, which reflect more evenly timing of spending and prolonged slowdown of the real estate market. Our full year plans here also remains unchanged.

On Page 7, we start to review our commercial performance. So let me start with convergence and fiber. We present here together as fiber is a key driving force for performance in convergence, both in volume and value trends. Strong growth of convergence revenue is fueled almost equally by growth of customer base and growth of ARPO. As I already mentioned, net additions this quarter were affected by low customer activity after lifting pandemic restriction and as well, especially, due to weather conditions.

ARPO growth, however, accelerated to 6%, mainly driven by an increasing adoption of fiber. One of the reasons why fiber generates higher ARPO than then copper is increasing popularity of higher speed options, which are additional sales. Their share in the total fiber customer base is now 16% versus only 7% a year. So we can see that the demand of the customer for higher quality and higher speed is clearly growing, which mechanically, as I said, is growing our ARPO.

In Q2, we added 48,000 new fiber retail customers. This was more than a year ago. Fiber is now the largest technology in our total fixed broadband base with a share of 30%. This quarter, it overpassed ADSL, which symbolically marks our technological transformation. We went from technology gap to technology edge.

Moving to Slide #8. Our mobile handset customer base is growing at a steady healthy pace. In Q2, net addition were 83,000, which was more than last year and comparable to Q1. In prepaid, in Q2, customer base returned to growth after a few quarters of declines. Lifting of pandemic restriction resulted in higher mobility of people, which fueled activation of new prepaid cards. You might remember I was commenting that we were not performing so well on prepaid in the past due to the closing of the border or the restriction to enter the country, which clearly we see now that is getting better and our prepaid is getting back to growth.

We are very pleased to say that in Q2, ARPO in mobile-only services was growing both in postpaid and in prepaid. In postpaid handset offer, it increased by 1.8%. This turnaround has taken place both in B2C and B2B and is an outcome of our strategy focus on value. In Q2, it was also supported by partial return of roaming in this growth.

In prepaid, ARPO was growing for a few quarters, but in Q2, it accelerated to 6%, also as a result of our pricing strategy and growing share of customer with unlimited voice and text bundle. Here, we also benefit from higher roaming. With our different actions, we are able to minimize the impact of -- unfavorable impact of new cash-back regulation.

I'm going to the next page where I just wanted to take 1 minute to show you a bit more operation and how we have -- we came with a new, I will say, design of our offer. So we continue to adopt the more for more policy, which is especially important in this increasingly inflationary environment. It's done either through straightforward price increase or changes in the tariff structure in such a way that we will encourage customers to choose more valuable packages.

In May, we increased our 4 mobile subscription plan by PLN 5. It's on the left side of the chart. In exchange, we are offering increased data package and also subsidized OTT content. We lowered the barrier for 5G availability as we see that the penetration or the adoption of 5G smartphone is increasing in our portfolio.

Change to convergence Love offer were introduced a few days ago. They were not simple price hikes. Instead, we restructured our package to promote higher-end option and TV content. Our value strategy is also supported in our smartphone price list as we subsidize handsets in the high-end tariff and earned margin in the low-end option. As always, new subscription price apply only to new signed contract with customer. The term of existing contracts do not change. In prepaid, we have recently introduced another increase of pay-as-you-go tariff. More importantly, however, we aim to generate more value from unlimited services where you top-up for unlimited voice and text and a defined data allowance for a given period of time.

These options are growing in popularity. They are now responsible for majority of prepaid traffic and revenue with above average ARPO. Here, we have also modified our pricing in a more for more strategy. All these changes were made very recently. We expect positive impact to gradually contribute to our results and help to tackle the inflation pressure.

Going on the next slide, #10. Just a brief update on the FiberCo. So we signed -- I'll remind you that we signed the transaction in April. Now in July, we just concluded some important steps towards making FiberCo operational. So it's a good timing for an update regarding this very strategic transaction for us.

First and more important, we obtained debt financing for PLN 3.1 billion that will finance more than 80% of FiberCo network rollout CapEx. Please note that obtaining this financing was equally crucial for the success of this transaction as finding right equity partner. So this is a major development to facilitate operating activities of FiberCo. Of course, this debt will not be guaranteed by Orange Polska and will not be on our balance sheet.

Secondly, we carved out and transferred almost 700,000 fiber households out of our existing footprint to FiberCo to ensure that the FiberCo will generate cash flow from the start of its operation. This means that we will now pay FiberCo monthly access fee for around 170,000 customers that have active services on this footprint. On the other hand, we will render some services to FiberCo, So the net impact of this flow will be balanced. We are now only awaiting regulatory approval, and we expect closing of this transaction by the end of August.

So now let's go to the financial with Jacek.

[Jacek Kunicki, executive]

Thank you, Julien. Good morning, everyone. Let's start the financial review on Slide 12, where we'll present the highlights of our performance.

Our financial results for Q2 were strong, confirming our growth ambitions. Revenue expansion accelerated, fueled by all key product lines. Strong growth of the core business is especially encouraging as it benefits our profitability. Profitable revenue expansion allowed us to post an almost 4% EBITDA growth in Q2. The EBITDA increased in Q2 despite a high comparable base from last year when it was supported by strong positive one-off cost savings executed to mitigate the impact of the pandemic. After 2 quarters of the year, our EBITDA is up by 4.6% and well on track to meet our full year objectives.

The economic CapEx was slightly above last year. This stems mainly from a more even timing of our investments as well as from a persistent weakness of the real estate market. Finally, cash generation is solid this year. The H1 organic cash flow was stable year-over-year. This is a good result as we remember that last year, the anti-crisis legislation allowed us to delay over PLN 120 million of payroll tax payments to the third quarter of 2020.

Let's now review our results in more detail, starting with the top line. Our revenues expanded by a strong 4.5% in the second quarter. They were supported by positive dynamics in all major product lines. Firstly, convergence. Revenues from these services grew by almost 15%. This is a strong performance with the pace of the increase accelerating in comparison to the previous quarters. It results from a combination of a solid customer base update, coupled with an accelerating ARPO growth.

Secondly, mobile-only. These revenues expanded by 3.5%, and this is the first increase in this category since we began to report it separately. It results from a continued increase in the number of mobile-only clients as well as from a growing ARPO, which benefited from a partial recovery of roaming in the second quarter.

Thirdly, ICT revenues. These were up 13% year-on-year. The growth reflects the contribution of Craftware, a new entity; and also organic development in all of our subsidiaries. Revenues from equipment rose by 7% year-on-year versus the lockdown second quarter of 2020. And finally, our energy retail business contributed to the revenue development in this year -- this quarter after a challenging 2020. Looking ahead, our revenue dynamics will slow down in the second half of the year due to the cut of the mobile and fixed termination rates. However, the impact of these cuts on profits, on EBITDA will be immaterial, and EBITDA will continue to benefit from the growing direct margin driven primarily through the core business.

Let's now take a closer look at our profitability. We're pleased to report an almost 4% EBITDA growth in Q2. This is a strong achievement considering the high comparable base of Q2 of last year when our profitability was boosted by large one-off cost savings executed in the wake of the pandemic and through the actions to mitigate its impact. The EBITDA increase this year was achieved as we converted the growth of the core service revenue to profit, benefiting from high operating leverage. It's visible in the expansion of the direct margin.

Indirect costs increased year-on-year in the second quarter. This unusual performance, as I mentioned, reflects a very low comparable base of last year when, facing on the uncertainty of the COVID crisis, we executed exceptional cost savings efforts. It included a one-off release of PLN 64 million of HR provisions back then, in 2020, as we curtail the jubilee awards.

It also included all-out fees on advertising as our shops were closed last year while on the contrary, this year, we invested into commercial activity in order to maximize the site -- support the sites. Obviously, we're continuing our ongoing cost savings plan. This is mainly contributing to an underlying decrease of labor costs, CRM subcontracting as well as a decrease in general expenses. The EBITDA growth has enabled us to increase the net income.

Let's now look at this on Slide 15. We posted PLN 116 million of net income in Q2, growing at more than 2x year-over-year. It resulted from a higher EBITDA, which we've already analyzed; as well as from lower depreciation. The depreciation was down year-on-year mainly as we are able to use our assets more efficiently and for a longer time than originally estimated. On the other hand, we posted a higher net income tax in Q2. This is linked with more profit before tax as well as with the write-off of certain deferred tax assets on losses from prior periods. As you can see, our Q2 performance was strong in all of the areas of the income statement.

Now let's take a look at CapEx on Page 16. Our economic CapEx in H1 was slightly higher year-on-year and in line with our full year plans. This year, some of our investment projects are more evenly spread through the year. On the other hand, the real estate market continues to be very challenging, and this is visible in low asset disposals.

When you look at different CapEx categories, you will see a decrease in mobile CapEx. This reflects the fact that we have completed spectrum refarming projects, which reallocated capacity from legacy technologies to 4G. This also reflects the delay of the 5G spectrum auction, which we hope will be initiated soon.

Now over to cash flow on Page 17. We generated around PLN 360 million of organic cash flows in H1. This was roughly stable year-over-year. This is a strong achievement considering that last year, we benefited from a delayed payment of over PLN 120 million in payroll taxes as the anti-crisis shield allowed us to pay these in the third quarter of the year. This limited the working capital requirement last year. While in 2021, we have a larger need for working capital requirements, especially as we have rebounded the sales of handsets in installments.

The underlying cash generation is positive. We're particularly pleased that the growth of the EBITDA has translated into an increase of the operating cash flow before working capital. This was up by 7% year-over-year in the first semester. Solid cash generation has translated into a further decrease of our leverage. It now stands at 1.8x EBITDA, so well within our long-term leverage corridor.

This concludes the financial review. Let me hand the floor back to Julien for the conclusions.

[Julien Ducarroz, executive]

Thank you. So I will sit to conclude and share with you our focus for H2. So on H1, we are very pleased with our financial results and as well our commercial. And we have observed that especially in Q2, the pandemic constraint on the limited traffic in commercial certainly impacted a bit our sales compared to our ambition.

But we have noticed as well that it was reflected in other category, and we do believe that there will be a rebound for the back-to-school period. So one of the focus, obviously, will be on the second part of the year in terms of commercial activity, and we plan to be strong. So we have laid down a new portfolio that I presented to you, and we believe strongly that with this portfolio and promotion we will see and catch the rebound of the demand on the market.

Obviously, for us, we are very close to closing the FiberCo and become operational. So this will be as well one of the priority in H2. So we are confident and we confirm today our full year financial objectives. And I think the only thing that remains to be seen is how the pandemic will develop.

Regarding back to the office, so in the current -- with the current environment, we believe we will go back in September, in a hybrid mode, to our offices. And we will focus mainly to get back together the team, rebuild team spirit physically and still spend some time teleworking for the tasks that are more in front of the computer.

So that's the summary for H1 and a bit of perspective for H2. So now we are open to your questions. Thank you.

[Operator]

[Operator Instructions] So our first question comes from Pawel Puchalski from Santander Bank Polska.

[Pawel Puchalski, analyst]

Pawel Puchalski here. I've got 3 questions. First of all, you recently announced incentive program for key employees. Please let me know what are your incentive program goals for EBITDA and organic cash flow because the Communiqué is not specifying it, and I believe we would all like to get as much info as possible.

[Jacek Kunicki, executive]

Thank you for this question, Pawel. So I think commenting on that, you will see that the incentive program is perfectly aligned with the new growth strategy. The structure of the goals reflects exactly what we want to achieve financially through to the year. I think it's fair to say it's a big motivation and it's meaningful for management in terms of the size.

Regarding the goals of the incentive program, well, the revenue and the organic cash flow growth, I think it's -- EBITDA and organic cash flow growth, I think it's fair to say that it's aligned with our plan and it's within the upper range of the guidance that we have given. That's as much specific as I can be. Then regarding -- the share price obviously reflects the -- well, hopefully, appreciation of the share prices, we would like to achieve through execution of the. Grow strategy.

[Pawel Puchalski, analyst]

Okay. The other -- well, I noticed you are suggesting in 2H, the second half of this year, strong focus on commercial activity. Well, is it a suggestion that the commercial cost will be higher than usual in second half because, well, that has got key impact on potential EBITDA?

[Julien Ducarroz, executive]

So let me take this one. So first of all, when we say that we want to focus on commercial activities -- from my perspective, we have seen a weaker than expected Q2. But as far as we can know and understand, this was not only Orange, I would say, that's weaker but more demand on the market. And I refer here to traffic in overall retail mall.

We know as well, the total equipment volume on the market, that went down. So we have noticed that -- and probably we will need a bit more time and external analysis to show that probably the consumer market, which is not the case for B2B, but the consumer market probably in Q2 has focused more on, all the spending, probably holiday to prepare for summer. Therefore, we believe that there will be -- this is not -- that they are not interested in telecom, suggesting that they have been more focused on other items. And we do expect them to come back in back-to-school.

Commercially, I have -- financially or cost-wise, I don't think this will be material. Anyway from an accounting perspective, the commercial costs are spread over the contractual period, so I don't expect any impact on our guidance. And as we all know, when you are doing a stronger commercial activity, this is helping you anyway in the midterm to confirm the ambition.

So we are very confident on this strategy, and we believe as well that there has been a growth in the sector, driven by customer demand shift on other category, which is not the case on B2B. B2B has been very good. We commented a bit. But as well the demand, I will not make the same comment for the B2B. We still remain very strong on ICT and in mobile, too.

[Pawel Puchalski, analyst]

Okay. And 2 last questions from my side, very similar. Well, are you planning to sign an agreement with Viaplay? Because we see it is about to kick off its operations very soon. And secondly, are you planning any further fiber cost or net cost? Because you still have a lot of assets.

[Julien Ducarroz, executive]

Yes. I'm not going to comment our strategy. This is an ongoing discussion. There is -- we have historically already in terms of content some very strong agreements in place. And as always, those are moving a little bit. It's not a fundamental shift. There is some assets that have moved from one platform to another, but certainly, we are looking at it carefully. As well this is quite costly activity, so we look very carefully. And for the moment, we have no comment to make on the commercial intention.

And the second point regarding more asset deal, I will say let us come back once the FiberCo will be operational. And we will start -- not focus anymore on legal, financial aspect with the team but on the operation, and then we will contemplate and come back to comment on what would be the next, if any, move related to infrastructure in general.

[Operator]

So we also have a question from Dominik Niszcz from Trigon.

[Dominik Niszcz, analyst]

Congrats on very good results, in particular your ARPO growth. So actually, I had a similar question to Pawel on this commercial activity. Maybe just the second question on 5G auction. Can you share with us your understanding of the reasons behind delay of the auction? And do you see significant risk that the rules may be changed compared to the first proposal last year? How do you see this process delay?

[Julien Ducarroz, executive]

Yes. Thank you, Dominik, for the question. So -- well, obviously, I'm not in a position to comment -- to detail this because this is not happening on our own yard but this is more the government and authorities that are in discussion. And I know they know that they will not start sooner than after the holiday and so as we understand, end of August or September.

But what we know, and it's public information, I will say that this is -- as there is a sequencing of getting a good understanding on the cyber security law as a prerequisite to start the auction, so my understanding is that they have not yet found -- as you know, that this is a law that requires many parties within the government to agree upon, that probably they have not yet found a common ground. So I don't think it's fundamentally on the condition of the 5G, which we do -- we don't expect them to change dramatically compared to the first version. But I think it's rather the first checking box, which is cybersecurity law, that is still in discussion within the authorities.

[Dominik Niszcz, analyst]

And is -- your CapEx plans and the strategy can still change depending on the cybersecurity bill or you think you are quite secure with the guidance?

[Jacek Kunicki, executive]

Well, thank you for the question. We've commented that in the -- during the strategy day that today, it's -- we don't know the cybersecurity regulations. It's very difficult to comment on that. Obviously, we are aware that there is -- there are some regulations that might be, I would say, happening. So we're taking that into account in our various decisions. We think that -- well, first of all, it has taken quite a long time to develop those cybersecurity regulations. So even if they were to be, I would say, addressed, their execution would not be immediate. And it would be quite likely the impact of those to be spread over quite a long time. So that's, I would say, my comment.

Obviously, the guidance itself was given, I would say, subject to any potential changes or any potential impact of the cybersecurity regulations once we will know them. But as I mentioned, what we could expect is even if they were to be addressed, they would rather not be immediately executable and they will be spread over some time.

[Dominik Niszcz, analyst]

Okay. Maybe the final question on regulations. So we seem to be behind Western Europe on 700 megahertz. Recently, we saw Spain. And so do you think we will know something this year about the distribution of spectrum on 700 megahertz or -- together with cybersecurity bill or...

[Julien Ducarroz, executive]

Yes, I think we can do -- we do expect to have more news on this. Now regarding the commercialization, which is, at the end, probably what we are looking for more, it will require some cleaning and preparation of the spectrum. So from this perspective, anyway, it is not for the coming probably 2 years that we will see 700 line. After obviously, there is a different scenario for this spectrum. And -- but I do agree with your assessment that we might know -- we should know more together with the package of the cybersecurity and auction.

[Operator]

[Operator Instructions] So our next question comes from Anna Kaim at PKO.

[Anna Kaim, analyst]

Congratulations to the team on great results. So I have a little bit similar question but more in a sense of strategic thinking about your tower infrastructure. Because very recently Orange the trend set up by Deutsche Telekom and Vodafone and announced the creation of European TowerCo called TOTEM and they carved out towers from -- in France and Spain. And how are you thinking about your tower infrastructure going forward, especially taking into account the recent activity of Cellnex on Polish market and after 5G auction, you will need to roll it out? So in general or maybe in more detail, what are your thoughts about your strategic assets?

[Jacek Kunicki, executive]

Thank you for the question. I think it's fair to say that first of all, today, we're still extremely focused on executing the FiberCo transaction. So we -- as you remember, we've had the signing phase. We've now concluded on the financing, on the carve-out, and we expect to have the closing of the transaction and the operationalization of the cooperation soon. So this is what is really on top of our agenda and what is right now consuming most of the energy regarding the infrastructure, and we wish to, first of all, focus on the execution.

Now going to assets and obviously, this includes towers. As we mentioned, we will be looking for additional ways to create shareholder value if we can. Obviously, that will mean that towers will jump higher up in our agenda as soon as we finalize the FiberCo project. We will then analyze the options that we have at hand and see if any of those options can be beneficial to shareholders.

Obviously, that would include a scenario or an option of the cooperation with the group project, with TOTEM. But it's a bit early today to conclude if we see additional shareholder value in this or not. Okay? So we will need to come back to you when we have a bit more analysis done with our thoughts on that. But definitely, it is an asset that we will be considering.

[Anna Kaim, analyst]

So I understand that as of now, you're staying open minded and you'll have a closer look at it short term in the future.

[Jacek Kunicki, executive]

Yes.

[Operator]

[Operator Instructions] So we have a question from Rohit Modi at Citi.

[Rohit Modi, analyst]

Just 2 from my side. Firstly, on your B2C convergence net adds. If you see the convergence net add, it's been trending down. Your run rate has been particularly down when I compare to 2018 or 2019 levels. I'm not taking 2020 into account given it's been a special year. And I know you said that the market demand has already been low, but just wanted to understand. Is it also because of the increased focus on convergence by your peers? Is this kind of run rate we should assume going forward or you think terms will change on that side?

Secondly, and sorry if I missed this earlier and it's already been mentioned on the call, about this proceeding by the regulator on some of your revenues which have been charged. Will that have any impact on your revenue growth in future? Do you think these kind of revenues you won't be able to charge in the future?

[Julien Ducarroz, executive]

Okay. So I will answer the first part on the comment of the net adds for convergence, and I will leave Jacek to comment on the proceeding with authorities of competition. So -- well, on the net adds of convergence, so first of all, convergence for us, as you know, it's coming out of our operation of fixed and as well migration from legacy business as well to a mobile customer, family, household that we are providing a lot of package where everything sits under one roof.

So I would say mechanically, because we have seen this lower demand on the market of telco in general, whether it is handsets, whether it is mobile voice on the consumer side being lower than we expected, we do expect that this has been across the sector. At least the indirect indicator we have tend to show the same trend. So I would say, from this perspective, it's normal that the net adds have been slowing down.

Now if we look for the future, I'm fully confident that once people will come back to our shop online, they will -- we will see back the same momentum we had in the past. We are deploying heavily. We have new very, I will say, attractive footprint that's being put online with the POPC. And the FiberCo will start as well in low competition area from September as soon as we are ready to be operational. So I see absolutely no reason not to see back the dynamic we had in the past. And I do not believe that our lower net adds than expected is a result of activities of the market, but rather of low activity -- or low demand.

And what is as well specific to fiber, not to forget, is that the last few weeks have been quite disruptive in terms of operation due to the weather condition, and you might know that in Poland, there's some record numbers of storm. And this is impacting our operation as well, both from an installation, repair but as well as deployment because our team has to focus on more activities to visit the customer than on activities to deploy new. So this is just a temporary slowdown that I expect it will come back in Q3 and Q4.

So now Jacek, on the proceeding?

[Jacek Kunicki, executive]

Yes. So on the proceedings, yes, we confirm we have been informed about 2 proceedings by the consumer protection office, well, regarding the sale of value-added services on the mobile. We're analyzing those claims instituted by the consumer protection office, and some of them are very recent.

Together with the office, we will be working for solutions that will be satisfactory to the office. And at the same time, we'll be in line with the interest of our customers and of our company. And that's all that we can comment and say as this is an ongoing, well, proceeding and dialogue with the office.

[Operator]

There are no more questions. So I'll now hand back to Orange Polska for closing.

[Leszek Iwaszko, executive]

Thank you very much for listening to us, for being with us today. That concludes our conference. So talk to you -- if you have any follow-up questions, you know how to reach us. Otherwise, talk to you in October. Thank you. Bye.

[Jacek Kunicki, executive]

Thank you very much.

[Julien Ducarroz, executive]

Thank you.

[Operator]

Thank you, everyone.