Q2 2023 Gogo Inc Earnings Call
Okay.
Good morning, and thank you for standing by and welcome to the second quarter 2000, and twenty-three Gogo, Inc. Earnings Conference call. At this time all participants are in a listen only mode. After the speaker's presentation there'll be a question and answer session to ask a question during this session.
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Please be advised that today's conference is being recorded I would now like to turn the conference over to your Speaker today will Davis Vice President of Investor Relations. Please go ahead.
Thank you Catherine and good morning, everyone. Welcome to Gogo second quarter 2023 earnings Conference call. Joining me today to talk about our results are ugly Thorn, chairman and CEO and Jesse Betjeman Executive Vice President and CFO .
Before we get started I would like to take this opportunity to remind you that during the course of this call. We may make forward looking statements regarding future events and the future performance of the company.
We caution you to consider the risk factors that could cause actual results to differ materially from those in the forward looking statements on the conference call.
These risk factors are described in our earnings release filed this morning and are more fully detailed under risk factors in our annual report on Form 10-K, and 10-Q and other documents that we filed with the SEC.
In addition, please note that the date of this conference call is August seven 2023 any forward looking statements that we make today are based on assumptions as of this stage.
We undertake no obligation to update these statements.
As a result of more information or future events. During the call. We will present, both GAAP and non-GAAP financial measures. We've included a reconciliation and explanation of adjustments and other considerations of our non-GAAP measures to the most comparable GAAP measures in our second quarter earnings release.
This call is being broadcast on the Internet and available on the Investor Relations website at IR Dot Gogo, Eric Dot com.
The earnings press release is also available on the website.
After management comments, we'll host a Q&A session with the financial community only it is now my great pleasure to turn the call over to ugly.
Thanks, well and welcome to our Q2 2023 earnings call.
They'll go though executed well in Q2, the results were not up to our own high expectations.
On the positive side, we achieved strong new activations.
The advanced platform now accounts for more than 50% of our install base and.
And we hit some key milestones on our strategic objectives, such as I lay out global broadband product now that Gogo Galleria.
And the flip side, we suffered unusually high suspensions, which we'll cover in detail in a moment and we suffered a further delay in delivery of our $5 each year, both of which have caused us to take down guidance for the year.
And in our long term model.
But a few headwinds do not change our view that gogo is poised for explosive growth in 2025 and beyond.
We serve a highly on penetrated market with 78% of the world's business aircraft flying without a broadband solution today.
We see unprecedented demand with a surge of travelers choosing to fly private aviation post COVID-19 and those travelers demanding connectivity.
We have an attractive business model based on recurring service revenue they drive strong cash flow.
We are incorporating new technologies into our platform to deliver orders of magnitude improvements in service to dramatically increase our total addressable market and to enhance our competitive position.
And we have a strong balance sheet that enables us to make the investments necessary to deliver those new technologies.
The price for reaching that explosive growth and driving substantial returns for shareholders.
Two year investment cycle, we're now in.
Hey, Bill Gogo <unk> develop gogo, Galileo and execute the FCC Rip and replace project all of which I will deep dive in a few minutes.
This morning, I'm going to start by getting deep into the data for the quarter to demonstrate that many of the headwinds. We faced this year are temporary in nature.
I'll update you on our strategic initiatives and finally, I'll spend a moment on the competitive context in which we're executing those initiatives.
I'll, then turn it over to Jesse to dive into the numbers and the rationale behind our guidance update.
So let me start with demand.
In the quarter, we saw a little rebound in demand as measured by flight counts Gogo.
<unk> equipped aircraft flew 5% fewer flights in Q2 2022, but the gap to Q2 2022 actually narrowed each month from minus 7% in April to minus 4% may advise III in June .
And frankly, a gap that small can be explained by the number of aircraft currently cotton maintenance traps that dealers, which I'll touch on in more detail.
Discuss expenses in a moment.
More importantly.
We continue to see strong growth from post about pre Covid 2019 flight counts with Q2 up 30% from Q2 2019.
Indicating that we've reached a new sustainable plateau of flight demand.
That thinking supported by the latest annual survey of private air passengers from Doug Golar private jet card comparisons were 92, 3% of those historic private travel during Covid said that they plan to continue flying privately in the future.
Meanwhile, usage per flight hour surged, 20% over Q2, 2022 and up 67% from 2019, indicating the demand for Wi Fi and the aircraft continues to grow.
Now I'll turn to the drivers of our high margin high margin recurring service revenue average revenue per aircraft ARPA and aircraft online.
Yeah.
Service revenue for the quarter set a record and was up 8% over Q2 2022, but growth slowed from Q1 as suspensions weighed down a O L.
ARPA for the quarter was relatively flat as continuing strong planned upgrades were offset by a shift in product mix as more new events L. Three's came online than Alfa.
As for a O L. We're having a record year for Activations, but sadly we're also having a record year for suspensions that we feel are putting temporary downward pressure on a O L more on that in a moment.
On the activation front.
Driving advanced Activations as our primary strategic objective because it enables customers to easily upgrade to new networks and technologies with Gogo as opposed to spending more money and spending more time in the shop installing competitive systems.
This should man itself manifests itself and extended customer lifetimes and more high margin recurring service revenue for Gogo.
We had 229, new Activations in Q2, our second best quarter ever.
13% from Q2, 2022 and up 10% from Q1 2023.
We're projecting a record 950, plus new activations for the year up more than 15% from 2022, and a 20% jump in advanced units online.
We're also really pleased that in Q2 for the first time advanced units online exceeded 50% of our total atg units online further adding stability to our service revenue portfolio.
All that said, we feel that growth in new Activations has slowed modestly as customers wait to see how gogo <unk> in Galileo perform and see what potential competitors may offer in terms of product and customer support.
Now for the bad news growth and suspensions and the Activations, which we believe is a temporary issue.
For purposes of clarity in this conversation.
I'm going to lump transactions that are considered the activations and reactivation in our customer management system and some that are considered suspensions into one category called suspensions because they are all temporary in nature.
To be clear. These transactions include maintenance events about 40% of the time aircrafts sold about 30% of the time and change of management company about 20% of the time.
Q2 was our highest suspension quarter ever up 31% from Q2 2022, driven by a 33% increase in maintenance suspensions and a 41% increase in management changes.
Not only are there more aircraft being suspended the suspensions are lasting longer especially maintenance for.
For example in January 2022 around 45% of suspensions ended in less than 30 days in June of this year that was down to 34%.
The primary driver of the volume and duration of suspensions appears to be a log jam for engine maintenance.
Many aircrafts have been flown hard the last few years and it cannot fly passengers again until they get a major C check, which usually involves taking the entire engine apart, replacing worn parts rebuilding it and then testing it in a wind tunnel.
Last week, we asked one of our largest dealers how soon we could book a C check the answer Q2 2024.
Why because of high demand parts shortages and labor shortages.
Another example, this logjam is replacement engines and.
In normal times with dealers removed the engines to work on them. They often installed temporary replacement engines. So that the customer can continue flying for the duration of the work.
We're hearing many reports that there are literally no replacement engines to be had which is leading to scores of aircrafts sitting in term Max with no engines.
This perfect storm is leaving aircraft standard on <unk> across the country Needless to say when the aircraft stuck on the ground the customer usually decides they don't need to pay for internet.
The good news is that once they get done in the shop or complete their management change or have a new owner those aircrafts are coming back online.
Since January of 2022, 93% of all suspensions returned within 200, a day 210 days. So the return rate is very good.
We further confirm the suspension trends I, just noted by reaching out to a 197 tails that were suspended for more than 45 days in Q2.
66% of those tails responded.
With 64% of respondents stating that they were still stuck in maintenance, 15% still owed us money.
6% had returned to service and 8% had been sold the rest of our scrapped returned to a leasing agent.
What is very important to note is that none had gone to a competitor.
As we analyze this phenomena, we believe that suspensions were unusually low in 'twenty, one and 'twenty two.
Unusually high now.
Now he's conditions normalize we should see a return of roughly 200 aircraft into the active era aircraft online pool.
Now, let me turn to shipments and field inventory.
Inventory in the field actually grew by about 30 units in the quarter to roughly 900.
But the good news is that the percentage of field inventory committed to a customer rose from 79% last quarter to 85% this quarter, which creates a nice tailwind for us.
Roughly 130 units in the field are uncommitted to.
Two thirds of which our dealers it regularly hold inventory and sell a lot of systems, and where we see little risk rough.
Roughly one third are at smaller dealers in order to system during the Covid supply chain crisis in order to have inventory in case, a customer came in wanting an install and there there may be some risk of not having it install anytime soon.
One other note we include installed but not yet activated equipment in our inventory count.
This generally occurs at the Oems, we're very our standard line fit and a particular customer does not want atg connectivity either because they don't fly in North America are down care for connectivity.
This installed equipment accounts for about 20% of the inventory account I mentioned a moment ago.
The good news is that if those aircraft are ready for it is that those aircraft are ready for activation by a new owner or if the current customer decides they want the internet after all.
So now let me focus on shipments in equipment revenue.
They are behind 2000, Twenty's <unk> pay it plan, we had a nice tick up in Q2 with 277 units shipped up 24% from Q1 generating a 20% increase in equipment revenue.
We expect to ship over 1000 units for the year, which would look good on a historical trend line basis that pales compared to the blowout 1334 units, we shipped last year.
Given our slow start in 2023, we're being cautious about Q3 and Q4 projections that we think we may see some some uplift from our recent Alex five announcement.
Now, let me turn to an update on our strategic initiatives and how we intend to accelerate growth with our three pronged strategy.
First we wanted to expand our service addressable market by broadening the advanced platform product offering and adding networks to meet the needs of each segment of the market globally.
Second.
We want to drive customer loyalty by continually improving our networks and leveraging the advanced platform to provide easy upgrade paths as new technologies and networks emerge.
And third.
We're focused on offering the best product and customer support for each segment of the market at the lowest total cost of ownership.
We're making great strides on our strategic initiatives to achieve those goals, including our five CS the FCC replacement program.
Our <unk> network and our <unk> offering.
I'll start with the FCC.
You'll recall that last year Gogo was awarded a $334 million grant under the FCC's secure and trusted communication networks program to reimburse it for expenses associated with accelerating the removal of Chinese telecom technology from our three G and <unk> networks.
Because there are more qualified grants and originally planned all grants were cut back to 39% of the original reward which in <unk> case is a cut back to $132 million.
At this point, we and most other grant grant recipients are waiting to see if Congress will fully fund the program as part of it is as part of its reauthorization of FCC auction authority, which is expected this odd.
Because the functionality of replacement ground based equipment will be better than the equipment installed in our <unk> and <unk> networks today.
Gogo will get some significant benefits from this network refresh, including a 40% improvement in connectivity performance for advanced all three customers and.
And almost doubling of the number of aircrafts the atg network can manage simultaneously.
In the meantime, we started working on the program and received a small reimbursement of federal funds for doing so.
On the customer side of this transaction our goal is to convert all of the 3400 tails flying with our classic product line to new ally use with LTE Air cards over the next few years.
We've been in touch with almost all of those customers and have actually spoken to more than 75% of it and of those that already have a preference. The overwhelming majority are leaning towards an advance upgrades.
Up until now we created this program as an overlay to our long term model and excluded it from our financial guidance, except to say that it will be a drain on working capital later this year as we build inventory.
Jesse will provide more detail on this program in a few minutes and this quarter, we will begin incorporating the costs and reimbursements in Newark guidance, though we must warn you that the exact timing of reimbursements could be very difficult to predict.
Now, let me turn to the most disappointing news of the year the second delay of our <unk> chip.
Let me start by describing the issue.
First our supplier of <unk> are bound airborne and ground station radio technology is air spin.
They in turn have a chip supplier GCT one of a few firms focused on developing <unk> chips.
They in turn use Samsung to fabricate those chips and Samsung designated sub design house to develop the more standard blocks of the chip outside the <unk> and <unk> blocks designed by GCT.
As the chip is being brought up after fabrication by Samsung there were three issues identified in the system block of the chip.
A detailed root cause analysis was conducted by GCT Indian ascertained at all three issues related to the same root cause.
A software issue in the peripheral sub block of the chip not an issue in the <unk> block.
GTT is still working on the exact action plan to fix the chip, but has made us aware of all the options they are considering.
All of which point to a mid year 2024 release of our <unk> product plus or minus a month or two.
While this is very disappointing one has to understand that <unk> chips are difficult to design and build because of the dramatic increases in speeds and densification of transistors on the chip surface to enable those speeds.
The benefit to us of this technology is that it will enable us to deliver atg speeds five to 10 times faster than our current speeds at around 25, Megabits per second lien and 75 to 80 Megabits per second peak mud.
Much faster than any potential atg competitor much faster than any atg competitor, but the economy is that we have borne some technology risk in doing so.
Meanwhile, we're making great progress with Oems and dealers and certifying the equipment, we can certify today, and then selling pre provisioning kits to customers.
The good news front.
We're excited to announce our new Ela five out of you to support five G last week.
Up until now if a new customer wanted to install our <unk> product. They would have to install two line replaceable units of boxes inside the aircraft and at $2 13 inch and tenants the Alex.
Alex five cut that installed down into one of our U plus the intense.
And because the outlets five has the same form factors. Our current popular five I'll argue this dramatically simplifies upgrades for our 'twenty 300 events L five customers.
You can swap out their current intent is for MB thirteen's that go into the same location as the old antennas and then pull out the all five and installed the outlets five the exact same space with the exact same cabling and harnesses the Odell argue.
And finally, because our MB 13th.
Can operate on a <unk> as well as our <unk> network and advanced our five customer can pre provision. The MB 13 attendance today and only have to swap the Alex five box for the all five box to upgrade when our chip is ready.
To encourage pre provisioning and drive <unk> adoption, if a customer installs L. Five MB 13. This year, we will ship them Enel X five box to swap for free next year.
And finally, because the Alex five is one box not too it is considerably cheaper than the previous two box <unk> configuration.
This is part of the Gogo now and next strategy and a Great example of our advanced platform, enabling easy upgrades to new networks and technologies.
We're excited to bring Gogo <unk> to market and believe its the perfect product for midsize jets on down that fly North American missions.
Great speed at a better value and competitive satellite products.
Now I'll turn to our Liard base global broadband initiatives, which we've now branded Galileo.
<unk> adds an electronically <unk> antenna to the advanced platform and adds the one web low Earth orbit satellite constellation to our network offerings.
Leos are particularly well suited to business aviation because they're low altitude enables an equivalent link budget was less power than with Geo satellites.
Thereby enabling global coverage with a smaller antenna that can fit in almost all business aircraft.
Last year, we announced our Galileo HD X terminal.
Small antenna that fits on almost all business aircraft and targets mid size and smaller jets at a our domicile outside North America and have no broadband solutions today, and B are domiciled inside North America, and often fly international missions.
The exciting news in Q2 with the introduction of the Galileo F. Dx terminal a larger antenna that deliver significantly higher bandwidth and targets Super mid size and larger jets that fly global initiatives.
We demonstrated a prototype of ft exit ebay's, the baked business aviation show in Geneva, We have delivered a solid 190 to 200 megabits per.
Second link up to the plane and 30 Megabits per second on the return.
Even more exciting is at those speeds will increase dramatically when when we have launches its gen. Two network in just a few years.
Our goals for the Galileo family, all drive incremental growth for Gogo.
To expand our total addressable market to include the 14000 business aircraft registered outside of North America.
To add a global satellite furniture for the thousands of U S. Superman and heavy jets it already have our atg products today.
And third to drive enhanced stickiness in our core North American medium sized and smaller aircraft segments by offering an easy path to add a leo product if they desire more capacity.
Huge advantage of ours is that Galileo is a simple upgrade from any advance installed aircraft when only need to add either our HD X for <unk> antenna on the fuselage and then run data and power cabling into the aircraft.
This is another great example of our advanced platform, making it easy for customers upgrade from one advanced planned product to another and while expanding advanced penetration as a cornerstone of our strategy.
Our satellite partner one web is completed at 648 satellite Gen one constellation.
And is well on its way to completing its ground networks before we launched HD X.
We remain on track with Hughes, our antenna partner to deliver HD X in the second half of 2024 and <unk> in the first half of 2025.
We received a very enthusiastic response to Gallo lay out from our customers and have already signed a line fit agreement with one OEM and have discussions underway with several others.
We feel that these strategic enhancements to the advanced platform position us very well in our competitive environment.
Most of our traditional Geo satellite competitors, who can only serve large jets because of the size of their tenants have doubled down on connectivity and have no answer to the dramatic performance improvements Leo and <unk> technology will provide to the business aviation market.
Our one potential Leo satellite competitor seems to be focused mostly in other much larger markets that require far less customer support and business aviation.
And finally, our old potential atg competitor has been offering demo flights on which their system performs better than our classic atg offerings, but nowhere close to what Gogo <unk> will offer and I would suggest they face the daunting task financing a business that will take hundreds of millions and capital to have a chance of making a profit and a mark.
But where they face a profitable competitor with a superior product and customer service.
So it's disappointing to take down guidance I'd like to end on a positive note.
Which is that we have a lot of tailwind that should drive performance in the future, including great product launches that should drive Tam extend copter amount of lifetimes and drive high margin service revenue.
We have reduced investments after that that should drive free cash flow and we should have increased aircraft online at suspension levels normalized and the 86% of named inventory out in the field gets installed <unk> activated.
I want to thank him on the end by thanking the frontline Gogo team for the great work they've done.
Delivering great service and support to Gogo customers innovating developing building and shipping new products.
<unk>, our networks and data centers and working with our customers and distribute <unk>.
Distribution partners in the field.
And I also want to thank all of the Gogo team that supports that frontline team. It keeps us on the rails and finance legal and people experience and with that I'll turn it over to Jesse for the numbers.
Thanks, and good morning, everyone Gogo second quarter performance continued to demonstrate strong demand for our services and products and a robust market position, while we delivered solid financial performance in the quarter, especially at the bottom line, even as we undertake significant strategic investments such as Google.
And as I look at <unk>, it was below our expectations with certain operational metrics and topline performance.
In my remarks today I'll start by walking through the second quarter financial performance.
I will turn to our balance sheet and capital allocation priority.
Next I will provide an overview of the financial impact for the FCC program.
And I'll finish up with an update and additional context on our revised 2023 guidance and long term targets.
Total revenue for the second quarter was $103 $2 million up 6% over the prior year and up 5% sequentially.
Because of our deliberate record service revenue of $79 1 million in the second quarter, and 8% increase year over year, and a 1% increase sequentially.
<unk> aircraft online reached 7064 units at the end of the second quarter up 6% versus the prior year and up slightly sequentially.
Advance units online grew to 3598 and now comprises 51% of our total fleet and generate 52% of our Atg service revenue.
Exceeding over 50% is an important milestone in the evolution of the business.
We had 229, new Activations this quarter, which is a record for second quarter activation.
However, this was offset by an increase in temporary suspension start Vance and classic atg units due to the maintenance cycle and other dynamics, both discussed which caused incremental units online to be muted in the second quarter.
Additional aircraft online as the key driver of service revenue growth and in our view value creation for the business.
We expect.
And the aircraft online growth rate to accelerate over the next several quarters due to progress on three factors.
First dealers addressing staffing challenges that are currently contributing to slower installation rates should result in more of the equipment check to be brought online.
Maintenance events, starting to return to normal levels, reducing suspension time.
And third secondhand aircraft inventory getting sold and reactivated.
AT&T ARPA grew 1% year over year to $3371 and decreased 1% from the prior quarter due to higher product mix of the advanced <unk> product.
The launch of <unk> in Galileo next year are catalysts to further expand our growth opportunity overtime, partially offset by continued L. Three sales into smaller aircrafts, which have similarly high service margin, but lower.
Our ARPA.
Moving to equipment.
Leverage of $24 2 million in equipment revenue in the second quarter, a 2% decrease year over year, and 20% increase sequentially due to advanced shipments.
Gogo advanced shipments totaled 277 in the second quarter down 11% year over year and up 24% sequentially.
The changing dynamics of inventory in the channel and dealer demand that <unk> discussed.
We remain confident that our strong position in a global market that is only 22% penetrated with in flight connectivity coupled with the launch of <unk> in Galileo next year will continue to propel our equipment sales in the future.
Overall, we are expecting our 2023 topline performance has slightly increased in the second half of the year driven by more activations and shipments.
Turning to profitability.
It delivered service margins of 79% in the second quarter.
Service gross profit in the second quarter was up 9% year over year and was the main driver for the 7% year over year EBITDA growth.
We continue to expect long term service margins in the 75% range and to be the primary lever free cash flow generation and long term value creation.
Equipment margins in the second quarter increased 18 percentage points sequentially to 27% in line with our expectation.
The increase was driven by higher equipment revenue in the quarter relatively fixed production costs and the $1 $3 million in inventory write off costs due to the FCC program that we incurred in the first quarter.
Equipment costs in the second quarter include costs related to the FCC program, replacing a large number of <unk> aircard advance equipped aircraft with dual modem aircard.
A quick on gross profit in the second quarter was up 236% sequentially and was the main driver for the 11% sequential EBITDA growth.
Our planned level for equipment margins in the 25% to 30% range. This year. However, this can fluctuate over the next two quarters due to the expected FCC reimbursement accrual.
I will discuss the financial implications of the SEC program in more detail in a little bit.
Moving on to operating expenses second.
Second quarter, combined engineering design, and development sales and marketing and general and administrative expenses of $30 million increased 3%, Europe and gear and 5% sequentially.
This year over year increase include costs for Galileo offset by lower personnel costs tied to a reduction in bonus expense.
We continue to expect the 2023 and 'twenty 'twenty four will be investment years, as we complete our <unk> program and ramp spending for Galileo, causing 2024 to be the high point year for these combined investments.
Once completed we expect to see the benefit of these investments.
Can we sustain Scott strong topline growth and a ramp in free cash flow in our core operating business.
In terms of <unk> are approximately $7 million.
<unk> spending in the second quarter was comprised of $1 million in Opex and $6 million in Capex.
As noted in our press release on July 27th and further described by Oak due to a designer and a non fried chicken plant at the <unk> chip the commercial launch of <unk> is delayed until approximately midyear 2024.
We maintain our estimate of $100 million total costs for our <unk> program.
The delayed or pushed approximately $8 million of capex and $5 million of Opex into 2024 and $47 million in planned <unk> revenue in 2023.
We also expect this delay to dampen revenue EBITDA and free cash flow in 2024.
The impact of the timing shift of <unk> and revenue on cost is reflected in our revised 2023 financial guidance.
Now onto our Galileo initiative.
In the second quarter, Gogo incurred $2 5 million in operating expenses related to Galileo, we expect external development cost for Galileo to be less than $50 million in total.
We expect Galileo cost to be $13 million in 2023, and approximately $30 million in 2024.
Galileo will be asset light with approximately 95% of external development cost and Opex and we believe it will deliver an attractive return on investment the spending profile is reflected in our 2023, adjusted EBITDA and free cash flow guidance.
Moving on to our bottom line, the second quarter, adjusted EBITDA increased 7% year over year to $44 1 million as.
As a result of improved service gross profit that I described earlier and lower personnel costs tied to a reduction in bonus expense.
<unk> delivered net income of $89 $8 million in the second quarter translating to <unk> 69, and basic earnings per share and 67% and diluted earnings per share of which 48 cents related to an income tax benefit.
Our reported net income includes an income tax benefit of $63 $8 million in the second quarter due to the partial release at the valuation allowance on our deferred tax assets related to the section 163, J interest limitation carryforward.
The remaining valuation allowance of $26 million is still required for deferred income tax assets related to certain state credits foreign net operating losses and capital losses.
Income before taxes increased 15% year over year to $26 million in the second quarter.
As of December 31, 2020 to Gogo had $562 million in federal net operating losses $448 million and state net operating losses and $292 million in section 163, J interest limitation carryforward.
As a reminder, our financial statements reflect noncash income tax expense as we continue to generate positive pretax income based on our substantial NOL position, we do not expect to pay meaningful cash taxes for an extended period, but we may pay a modest amount by the end of our five year planning horizon.
In addition, our shareholder rights plan that is designed to preserve Nols is set to expire in September and our board of directors has voted not to renew the plan as changes in the shareholder base over a three year period, we'll lap.
This will not affect our current NOL status.
In the second quarter, we generated $13 $3 million in free cash flow down $2 $2 million compared to Q2 2022 due to an increase in interest costs from higher interest rates and switching at our election to one month, so far resulting in five months of interest paid partially.
Offset by the interest cap benefit.
Free cash flow was down $6 $7 million sequentially due to the increase in interest costs and higher capex.
Partially offset by lower networking capital.
Now I will turn to a discussion of our balance sheet. We ended the quarter with 610 quite pipeline and outstanding principal on our term loan and $97 2 million in cash and short term investments with our $100 million revolver remains undrawn.
Net leverage was lowered slightly to 3.0 time in line with our target range of two 5% to three five times.
As announced on May 1st Gogo made the strategic decision to pay down an aggregate principal amount of $100 million on our outstanding term loan debt facility.
As previously mentioned, we have a hedge agreement in place and the first step down to $525 million occurred in July now approximately 86% of our loan is hedged until July 2024, when the next step down to $350 million occurred with an increase in strictly from <unk> seven.
The 5% to $1 two 5%.
Gross leverage at the end of the first quarter was four two times and it was reduced to three five times at the end of the second quarter after the $100 million Paydown.
23 interest cost will be reduced by approximately $4 $5 million based on the July forward suffer curve and $3 million net of foregone interest income.
As a result of executing our more conservative financial policy with a lower leverage target and the paydown of debt Moody's upgraded our credit rating to be one with a stable outlook in may and S&P improved its credit outlook in June complete deep stable to positive outlook.
Another notable item in the second quarter was that we generated a positive shareholder about shareholder equity with our first time in our company's history of $9 2 million.
Primarily due to the release of the valuation allowance.
Our capital allocation priorities have not changed and are aligned with our strategic goals as a reminder of our capital allocation priorities are to filing.
Maintaining adequate liquidity.
Investing in strategic opportunities to drive competitive positioning and financial value, including <unk> and Galileo.
Third maintaining an appropriate level of leverage for the economic environment with a target net leverage ratio of two 5% to three five times.
And fourth returning capital to shareholders as appropriate in the future.
But the $100 million paydown of debt in May we are focused on building our surplus cash to fishing over the next few quarters as we continue to generate positive free cash flow. However, we don't anticipate any major capital allocation decisions until 2024.
I would now like to provide a summary of the expected financial impact of the partially funded FCC secure and trusted communications network reimbursement program from a Chicago expects to receive $132 million.
We are waiting to see if Congress will approve for funding, which would significantly increase our total reimbursement value as we were granted up to $334 million.
The company has recently retained external advisors to assist us in the reimbursement process.
<unk> and received our first reimbursement claimed in July that triggered the start of the one year clock to complete the program by July 21 2024.
In our application that we stated that we will need to have multiple exit extension to complete the program and are waiting to see if the FCC will grant a blanket extension.
Our request an extension in the coming months on our own.
So as long as incurred and will continue to incur costs for this program in three areas.
First network equipment <unk> Sulfates in data centers.
<unk> airborne equipment and related costs to enable existing customer aircraft communicated the new network, including swaps of LTE aircrafts to replace <unk> Aircard and third operating expenses.
We expect this spend to be partially offset by the FCC reimbursements.
In the second quarter, we recorded a <unk> 9 million receivable from the FCC, which is included in prepaid expenses and other current assets on our balance sheet, primarily for the reimbursement of network equipment purchases and a corresponding reduction to property and equipment.
Since the program is currently partially funded we have some optionality on what we request reimbursement for that could impact what grant money received will be recorded between the income statement and balance sheet.
In addition, the overall process is complex with specific documentation requirements that may change our assumptions on reimbursement accruals in our forecast.
At a high level, we expect 2023 and 2020 for free cash flow to be negatively impacted by the SEC program and a benefit in 2025 due to the timing of reimbursement proceeds. However, this timing is a bit unpredictable as we are still early in the process.
Now I'll turn to our financial outlook.
<unk> is updating our fiscal 2023 financial guidance and long term targets to reflect the market dynamics that despite the impact of their best participation in the FCC program and the <unk> delay.
We'll go now expect 2023 total revenue to be in the range of 410 million to $420 million. This decrease is driven by expected reductions to both equipment and service revenue.
On the equipment side. The drivers are twofold first we are we have seen excess inventory in the channel as we adjust from long haul that lead times to our usual very short lead time.
Second we anticipated shipping a large backlog of <unk> orders in Q4 that now will be delayed pushing $7 million of <unk> equipment revenue from 2023 to 2024.
On the service revenue side. The decrease is driven by the accounts suspension and activation issues, we discussed in depth earlier, reducing our expectations for aircraft online for the year.
We continue to expect 2023, adjusted EBITDA to be in the range of $150 million to $160 million, we are able to maintain adjusted EBITDA guidance. Despite lower revenue as we prudently manage costs down as well as push out <unk> spend due to that.
Okay.
This guidance now includes operating expenses of approximately $20 million compared to $30 million previously put strategic and operational initiatives, including $4 million in expected <unk> delay, which reflects the shift of $5 million from 2023 to 2024 latest chip the chip delay.
Approximately $13 million of Galileo development spend and approximately $3 million and additional operational initiatives focused on penetrating the 78% of the global business aviation in flight connectivity market that remains untapped and maintaining our long term competitiveness.
Our adjusted EBITDA guidance also includes approximately $10 million of costs related to the FCC program offset by a $100 million of accruals for the expected FCC reimbursements.
We expect our 2023 capex to be at the low end of our previously announced range of $30 million $40 million, including $12 million for the Gogo <unk> program, which reflect shifting $8 million to 2024 as a result of the delay and approximately $3 million related to the FCC.
Graham.
We are revising our 2023 and free cash flow guidance to a range of $60 million to $70 million driven by the additional SEC related spend including increased inventory purchases and the expected lag of FCC reimbursements.
Before I review the revised long term targets issued this morning, I'd like to provide some color on the expected financial trajectory for 2024.
As we previously stated 2024 will continue to be an investment year with an increase in Google Galileo expense as anticipated, but now further burdened due to the push out of <unk> spend.
These investments coupled with the lower shipments and lower aircraft online this year and delay in <unk> launch will negatively impact our financials, causing 2024 to be a trough free cash flow year.
Given the near term headwinds <unk> discussed we have updated our long term targets as follows.
We are revising our revenue growth at a compound annual growth rate to a range of approximately 15% to 17% from 2022 through 2027 with global broadband expected to materially contribute to revenue in 2025.
We continue to expect annual adjusted EBITDA margin to be in the mid 40% range by 2027.
We are revising our 2025 free cash flow target, excluding the impact of FCC to begin the range of $150 million to $200 million.
With solid growth in 2026 and beyond.
We expect that the FCC program to negatively impact 2024 and to positively impact free cash flow in 2025, however, the timing of reimbursements is unpredictable.
While it is disappointing to lower targets I would like to remind you of the evolution of our business. Since we set the $200 million 2025 free cash flow target in September 2021 at that time, our target included Delevering assumption, but did not include investing in Colo Galileo since then.
Been able to absorb the Galileo investment.
First the delay of the launch and invest in operational initiatives with a lower aircraft online this year and now the second launch delay we feel it's prudent to provide an expected range for our free cash flow target as we make progress and continue to assess the potential impacts for our long term plan.
We believe that our value proposition is underpinned by this future strong growth in free cash flow and near term headwinds from birth.
Gogo <unk> in Galileo investments and benefit from the revenue growth, our new products and services will generate.
Execute and Underpenetrated global market.
Gogo is confident in our current strategy and market position and we are determined to support long term success and deliver value for our shareholders and customers as we continue to grow our business.
Before we open the call up to questions I want to thank the entire Gogo team for their continued commitment and for providing unparalleled service to our customers.
Operator. This concludes our prepared remarks, we're now ready for our first question.
Thank you as a reminder to ask a question.
Press Star one on your telephone and wait for your name to be announced to withdraw. Your question. Please press star one again, please standby, while we compile the Q&A roster.
Yeah.
Our first question comes from Richard Prentiss with Raymond James Financial Your line is open.
Hey, good morning, everybody.
Good morning, good morning, Greg.
Yes, yes.
Obviously, some disappointment on the <unk> ship delay.
Laid out pretty well.
Their spend at GCT to Samsung to sub design shop.
How comfortable are argue that they have got some issue identified and what specific steps are they taking that get you comfortable than that.
Release date is mid 24 now.
Yes.
I think we're very comfortable they have identified the root cause.
And as I said in my comments, there's still.
Developing the exact plan for remediation, we actually expect that next week.
We're very very confident he is going to deliver.
We're a very significant.
Design House in the <unk> World did a great job there.
One of the few players that.
Our competent enough to play in the <unk> World.
Right now Theres really two two chip companies that are producing five G chips.
Calm and Mediatek.
We were too small for them.
There are two others coming along behind them at DCT is one of those two we think there.
They are a front runner. There. So we are we're confident in that.
<unk> also made some changes in their lineup in terms of the sub design house that Samsung designated before now they're pulling in.
It's a design house that GTT is more familiar with and has worked with a lot in the past that gives us confidence in.
Because of the sort of acute nature of this at this point.
Both are standard GCT really opened up to a combined working team with Gogo is project management team.
Really.
Our managers I guess in a more transparent manner for us so that we can keep a very steady eye on how things are going so.
We're confident.
<unk>.
As you know Theres always risk in these kinds of projects.
And we'll know more in a week or two.
And we will keep people updated as things develop.
Great Thanks for that.
Also in your prepared remarks, you talked about that there were some customers that were looking at wanting to understand competitive offers that might come into the marketplace can you elaborate a little further on that is that the <unk> is that the leos is that air to ground.
Were where people are saying well, let me take a look at what the competitors might be offering.
I think everybody is kind of curious about what starlink will do in this vertical.
I don't want to speak for Starlink and but.
I think that they seem more focused frankly on other verticals right now that are easier to serve where there's less customer service demanded in that frankly, there's a lot more of a revenue opportunity for them.
People are not terribly curious about <unk> at this point.
<unk>.
Due to some of the bad luck that Viasat had that.
The Geo presence in the market is.
Sure.
Risks than it has been in a while and I think we.
We're very we're quite convinced the leos are going to replace Geos over time in this vertical.
And then the last one would be smart.
Smart Sky homes.
Still around.
<unk> has been making a lot more noise recently in terms of their publicity.
But.
I think they have a hard.
A hard path in front of him just because.
Their product is.
Probably about half the speed of our <unk> product.
And.
Their customer service is really not there and this is a market where I think an established player that's profitable that has great customer service reputation.
Delivering a better product is probably going to win so.
That's how we how we view the competitive environment.
Alright.
Final one for me on the suspensions, obviously somewhat off guard, what's the best way that you all have found to kind of get.
I have a handle on the suspensions and how should we from the external side, what's the best way to say for us to kind of monitor suspensions and trends.
Well, we track every day activation and suspension by cause.
And I shared some of that data on the call.
So.
And then on top of the sort of tracking at all.
Reality chested are tracking in the quarter by reaching out to a 100 I think 97.
Accounts that had been that were suspended for more than 45 days in the second quarter.
And we just basically corroborate our own data most of the ones that were suspended.
Bill on maintenance.
So.
It's I think it's hard from outside to really track it Rick I mean, there arent does not published data in terms of how many are.
Aircraft are in the shop or on the <unk> or anything like that.
You can track it probably best just anecdotally.
Yeah, and colleague dealers and asking them what's going on.
So.
<unk>.
We did have one anomaly in the quarter.
Drove things a little bit which is one fleet.
One small fractional fleet went bankrupt and that was <unk>.
<unk> D activations, but in those cases, those aircraft will end up somewhere else and owned by somehow so they're already installed most people will turn those aircraft back on.
So sometimes watching what's happening in some of the fleets that you could see that news.
That would be an indicator.
The potential impact on us.
Great well I appreciate everyone stay well thank you.
Thanks, a lot.
Thank you one moment for our next question.
We have a question from <unk>.
Lance Vitanza with TD Cowen Your line is open.
Thanks, Thanks, guys for taking the questions.
First on the <unk> delay, obviously disappointing for Gogo and its investors, but what are you hearing if anything from your customers I guess, our aircraft owners and and or dealers are they complaining or they frustrated.
I know in the last question you talked about some of the competitive questions, but is your sense that the.
Are the questions around competition intensifying in the wake of the <unk> delay or people kind of taking it in stride I'm just trying to get a sense for the impact on pent up demand for a competitive product here.
Yes, no I don't think it's changing the competitive dynamic.
People are actually pretty excited about having the Alex five finally announced in public.
With the delivery date on that to coincide with the launch of <unk>.
A lot of.
And I would say this most of our big customers and dealers and Oems.
Aware that Alex five is coming along under NDA.
And they in that.
They really love that product I mean, it's so much easier to install than the farmer configuration, where we had an L. Five box in this X three box.
So people are really happy about that.
We're continuing to take orders there are people are changing orders from extra <unk> five to <unk> five already.
And.
Well people are a bit disappointed I think there are some of the dealers out there who are kind of relieved some of the OEM aftermarket divisions are really because they were kind of behind on their stc's and this gives them a chance to catch up.
Couple of my voice that that relief as well so I don't think we see a big impact.
Of course, the impact to US is just the revenue loss and the unit count in the Meanwhile, so.
Sure sure of course, so on the suspension side your comment that when planes are grounded they don't want to pay for internet, but I just wanted to probe that a little bit more because part of our investment thesis at least has been that the cost of Internet was a pretty small fraction of the total cost of aircraft ownership kind of whether you are flying it or not perhaps that's no longer there.
Case can you discuss that concept and maybe remind us. If you are paying goes I know obviously the costs are going to vary depending on what type of claim you have but if youre paying gogo, let's say three four granted for internet.
How much are you paying to hanger the aircraft and the other kind of ancillary expenses that are needed to maintain that weight.
Well you are paying a lot more that's for sure I can't give you an exact breakdown.
Hey.
To hang of the aircrafts I mean, most of these aircraft that they're they're stuck without engines for instance, they're sitting out on the tarmac.
I doubt, they're getting charged that much by the dealer, whether just sitting out there they probably have some fee.
Not aware of exactly what it is the data is going to make most of their money taking engines off repairing them putting them back on.
They probably make up probably make some money in leasing engines for temporary use which there.
Sure.
Which are hard to find right now and that's part of what the dealer would be tragic, but I think.
That that people slight departments are trying to make the owners happy.
It's an honor was going to ask well.
I am sitting here for six months.
Not able to use my plane.
Why shouldnt, we be able to reduce the expense and operating in the.
The pilot.
Director of the flight departments Guy might be able to say, yes, we shut down the internet were not doing this are not paying for that so you are actually saving money, while we're sitting here so and we've always offered.
Suspensions for maintenance and it's one of the things customers like about us.
So.
It's very common for that for this.
If you go back to Covid for instance, we had a huge number suspension. So I think 20% of the cuts customer base suspended service so.
<unk>.
So this isn't I would just say, it's not very unusual in times when people are suspended when theyre down for maintenance for a long period for them to spend and we.
We also view it as.
Something that frankly, if you look at what the Starlink Starlink says you can turn off your internet anytime.
We don't want it and then start making people pay for when they are paying us down on the ground.
Sure.
In any case it ultimately right, we certainly want the log jam removed.
That.
As the industry sort of responding to the problem and where are we seeing more capacity coming online or do you think that that we will see more capacity come online or is it just no. We're just going to have.
We're going to have to sort of suffered through this period of excess.
Excess demand for engines and parts and so forth.
Well I think the engine Oems.
Sure.
Cranking up their production as fast as they can and that's where the parts shortages really are impacting supply.
And they've been hit with a couple of things that it's been a pretty dramatic increase.
The orders at the business.
Business aircraft Oems, which is driving demand for engines and then.
This unusually high activity.
And maintenance events.
Where people are wanting to lease additional engines.
At the same time so.
We would expect that they will be working through that over the next couple of quarters and that the supply will increase and also the aircraft that need to go in for these big C checks.
We will get through those and.
That that demand will decrease it is hard for us to predict the pace of that though so we're not.
That's putting it a corner on it when it's going to alter her out.
I would say it but I imagine it will take a couple of quarters.
Sure and then maybe just one quick one for Jesse.
You mentioned this on the call the EBITDA it sounds like it benefited your EBITDA in the quarter. It sounds like it benefited from some nonrecurring and perhaps noncash items in the quarter could you just go over those again quickly for me. Thanks.
Not the EBITDA net income so our net income benefited from.
Tax benefit because we had a reversal of our valuation allowance.
And then on the EBITDA side there was a.
<unk>.
Reduction in personnel expenses due to a lower bonus expense, so thats not going to be necessarily recurring.
Was that a benefit in the quarter for the EBITDA.
Great. Thanks, so much.
Thanks Lance.
Thank you.
One moment.
We will have a question from.
Phil.
Phil Cusick from Jpmorgan Your line is open.
Hi, guys. Thank you.
So you've addressed this somewhat already but I wonder if you could.
Just explain to me number one where we are in the inventory issues you had talked about an inventory drawdown last quarter.
And number two why did these maintenance issue issues hitting now you've had a deceleration for a couple of quarters in terms of atg net adds but but this is pretty stark and I don't understand why it's happening right now and how we should think about <unk>.
Thank you.
And I heard I heard Joe I hear you talking about better in the second half but.
But the trend is not it doesn't look great for Turkey.
Yes, I mean, I think now because what happens.
And the charterer and fractional markets they've had such huge demand.
Over the last couple of years, they didn't have enough jets to meet that demand.
They are now taking deliveries at a more rapid pace from the Oems and that's helping relieve that demand, but what happened.
There are a number of ways you can maintain an aircraft.
One is that you take it in for more frequent short <unk>.
Inspections and maintenance events.
And then that reduces the amount of time you have to be in for a large type of C check kind of maintenance event.
But when you've got a lot of demand and you've got.
Taking that jet out of the sky for those short intervals.
He's a real revenue hit.
Number charter operators in Fractionals would say, okay, well that's optional we don't have to maintain it that way, we don't have to take it out now so let's delay well what's that what that has delayed.
Has put more pressure on these big maintenance events.
This year and we've seen it climbed steadily yet started climbing.
First quarter I think.
We did not understand the full extent of that to be honest, we should have.
But it did really accelerate this quarter, but when we go in and really look at it and we go talk to people. It's nothing different in terms of what's just the numbers that are different it's nothing different in terms of.
Theyre going to competitors or theyre shutting off because they don't want the internet or whatever so.
I think.
I think thats the real cause Phil in terms of.
Why it's going up now.
I can't tell you that we can predict exactly where that's going to go.
In Q3.
Q4.
But we.
We started calling around some dealers last week, saying, hey, when can I get in to get a seat Jack if I wanted to.
And it was the one answer we got first answer we got was Q2 2020 for a couple of other dealers were more in the fourth quarter. This year. So.
There are there is demand and people are booked.
What was the second part of your question felt that that was what I was trying to.
Where we are in the inventory inventory sort of dry so we're watching but just to go back to your comment.
So you see this easing in July and into August or should we think about sort of a.
Very low third quarter, and then a bounce in the fourth quarter.
I'm just trying to get an idea of where you see the sort of current level.
Yes, I can't give you any more than I have given you.
We don't know what's sitting out there in terms of <unk>.
3000 planes it could be very good.
Nida.
To go into maintenance, so, we're calling around and trying to figure that out.
<unk>.
Frankly, I just cannot predict.
I can't answer that question.
On the inventory front on.
On the inventory front.
The biggest thing is how much of that inventory sitting out there is spoken for and how much is it and I think we're feeling pretty good about that because the amount that spoken for it went up to 85% in Q2. So.
I think.
Bob a couple of things first of all it's about 900 units there and that inventory count about 200 of those are on aircraft already but not activated because they are installed at Oems, where we're basically standard line fit so we come out on every aircraft not everybody wants the internet. However, some aircrafts go overseas.
Can't really use it.
Overseas because were North American Atg company and others, just don't turn it on they didn't want to order. It was just part of the aircrafts standards. So there is that 200 units and we're down to 700.
Another 700 Theres about 100.
30 units that are not spoken for it right now.
And the vast majority of those about 90 or at dealers that regularly churned through inventory. So we feel good that those are getting installed.
And then there's another 40 or so that our dealers that that basically ordered that inventory during COVID-19. Just in case somebody came in and wanted an install but don't regularly churn through our inventory so those might be at risk for not being in stock for a while but the rest I think are pretty solid.
The other thing is activations are good I mean, we're having a record year on activations. So it's really not the pace at which equipments going into aircraft, it's hurting us it's the pace of suspensions.
Thanks Chuck.
Thanks, Phil.
Thank you one moment.
Our next question will come from Simon Flannery with Morgan Stanley . Your line is open.
Thank you very much good morning.
Wanted to come back to the new product developments will help us with the timing of getting real revenues out of the <unk> product.
I would think Alan that your product.
Does that really start from early Q3 or are we actually going to see.
Aircraft flying and start to ramp fairly steadily from there or is this sort of it will be a couple of quarters to really.
Got it working properly and then it's really more of a 2025 before we see any material revenues from that.
That would be great.
Yes, I mean, I think we often.
Get a boost in equipment revenue when we first launched.
There's a backlog of orders so you could see that in Q3 Q4 next year.
Service revenue, then does have to get installed and some service revenue ramps a little more slowly.
But when do you think.
When do you think Youll actually have these services installed on the aircraft and actually start generating revenues is that a Q3 event for both of them.
Well.
On the <unk> part, we said mid.
Mid year would be launched plus or minus one or two months depending on the exact.
The remediation plan that the GTT implements theres four options right now and and.
But they all would have us launching mid year, plus or minus one or two months on either side, depending which when they end up with will know that in about a week.
So you could see shipments in Q3.
Our.
If there's a delay or whatever maybe Q4 for five G. I'll. Let me first start ship and then the service revenue would ramp up as those got installed in <unk>.
Five.
On the on the and I would say, it's kind of the same on the HD X terminal.
With Galileo.
Exxonmobil.
Will it be until 'twenty five of course.
Thank you and then on the.
Galileo.
You gave some speed estimates on the <unk>.
Performance there how does how does performance stack up versus Sterling for the <unk> product.
Is it going to be pretty comparable.
The big difference with central satellite links and things like that.
Yes, I think it will be comparable and then with Gen. Two one web we may even move ahead a little bit.
<unk>.
To be clear the new announcement was around our mdx internal which is a larger esa than the earlier announcement, which was HD X. So the performance data.
Sure. There's a 190 to 200 megabits per second.
Was it ft X performance alright.
And that's designed for the heavier aircraft Xilinx, it's still smaller than its Darlington Tanner.
And in terms of performance, we think it's comparable on J S X. They are doing 100 to 150 megabits per second so.
And everybody is very happy about that.
So with the 190 to 200 is a great speed and there'll be viewed as comparable.
When Gen to one where it comes out which will have met their satellite links and all that we actually see that speed doubling or tripling even so.
That will be obviously, a few years out but there'll be great. So it'll be a really great performance.
Great. Thank you.
Thank you.
And our next question comes.
From.
Louie Dipalma with William Blair. Your line is open.
Okay, Jessie and good morning.
Hey, good morning.
Or is there any change to the planned commercial launch timing for Galileo.
Is there.
Significant chip risk for the Galileo product.
No there is no chip risks for the Galileo product.
All of that is working already which is why we're able to Delaware.
And.
Theres been timing the only timing is we actually pulled.
<unk>.
The delivery of the smaller Galileo and 10 of the HD X in two months, but we did that a quarter or so ago. So nothing new in this quarter.
Okay. So is it still on track for the second half of 'twenty four and for the right one.
Yes, exactly second half 'twenty four for the online in the first half of 'twenty five for the larger one.
Sounds good and.
The engine log jam issue is well documented in.
The engine MRO industry for for business Aviation, However are there any signs.
Matt.
A significant portion of the day Activations is related to customers, leaving four competitors or are you are you able to pinpoint it to.
The engine log jam issue.
I think we were able to pinpoint it I mean, we actually reached out to 190, some odd customer.
Customers in Q2, who had been suspended for more than 45 days.
66% of those responded.
And not one was going to a competitor.
Sounds good and.
For the.
The FCC reimbursement plan.
<unk> is to upgrade to <unk>.
<unk> classic customers to to Avon.
Has there been.
Any pushback from some of your strategic customers or do you have.
Visibility is that youre going to be able to to upgrades.
Essentially all of your strategic customers.
Okay.
Yes, they're all strongly they need to upgrades and they need to do them anyhow.
Then mats.
<unk> been putting off.
Upgrade programs are still flying the classic product.
Our customers don't like it anymore, so they need to upgrade so.
We are making good progress there Lee.
Sounds good that's it from me thanks, everyone.
Alright, thank you.
I'm showing no other questions in the queue I would like to turn the call back to.
Davis for closing remarks.
Thank you Catherine This concludes our second quarter earnings Conference call you may disconnect.
Okay.
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