Equillium, Inc. (EQ) Q1 2008 Earnings Call Transcript

Good afternoon. My name is Kristy and I will be your conference operator today. At this time I would like to welcome everyone to the Embarq earnings call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator instructions). Thank you, Mr. Erxleben, you may begin your call.

Thanks and good afternoon. Thanks to everyone for joining us for Embarq Corporation's first quarter 2008 investment community update. With me today are Chief Executive Officer Tom Gerke and Chief Financial Officer, Gene Betts. In addition Harry Campbell President of our Consumer Markets Group and Tom McEvoy President of our Business Markets Group will participate in the Q&A session at the end of the call. Before we get started there are a few items I would like to bring to your attention. First, if you have downloaded the first quarter presentation from our website, please turn to the cautionary statement on slide 2. As that slide indicates, our comments today will include forward-looking information and expectations involving a number of risks and uncertainties that could cause actual results to differ from our expectations. With that in mind I would strongly encourage everyone to review the detailed discussion of risks and uncertainties, that is included in our SEC filings in particular the risk factor section of our annual report on form 10-K. Second during our remarks today, we will be referring to certain non-GAAP measures. For reference we have included reconciliations of those measures to the appropriate GAAP measures and the appendix of the presentation as well as in the definition section of our press release. Finally, we have made two minor reporting changes this quarter, which are described in the reclassification section of our press release. The first change was to remove access lines that support internal administrative and operational activities from our business access line count. Since these are internal lines, they are not revenue generating so the change has no impact on either current or prior period financial results. The second reporting change is reclassification of USF surcharges related to long distance and wireless services. These amounts, which were formerly reported as part of our consumer and business revenues, have simply been moved to wholesale revenue consistent with other USF receipts are reported. So, with those very important topics covered I'll go ahead and turn the call over to Tom Gerke.

Thanks, Trevor. Our results in the first quarter were highlighted by increased efficiency and very strong cash flow. In fact, by almost any measure of profitability, this was our best quarter since the spin off in 2006. The economy, which I know is of an interest to investors, continues to affect our results, both positively and negatively. However, from a cash flow perspective, the net impact remains neutral, if not positive. Turning to slide 4, I will provide some detail on our revenue results, which were slightly lower this quarter than a year ago. In total, revenue declined just 1.1% from the prior year to $1.57 billion in the first quarter. Within that total Voice is the one area that's experiencing some pressure, which is focused primarily in the consumer market. In Q1, we lost 100,000 consumer voice lines, which is an increase of 29,000 compared to the year-ago period. Although the number of household disconnects was actually lower than a year ago, we saw a much lower level of gross additions. This was due in part to the slowdown in new home construction, which of course provides an offsetting benefit in the form of lower capital expenditures. In the business market, we have seen an up-tick in economic disconnects, but the rate of line loss remains relatively low and many of the reported losses are actually migrations to higher capacity Embarq services. Another factor to keep in mind, when making year-over-year comparisons is that we had a large customer win in Q1 '07 that we indicated was outside of the normal trend. Including the anomaly related to the large customer win last year, total access line attrition exceeded the year-ago level by 47,000 lines. Over the remainder of 2008, however, we expect absolute line losses to be closer to prior year levels. In part, the expected improvement is due to easier comparisons given the performance during the latter quarters of last year. In addition, March and April results were better than February. To enhance the value of the Embarq home phone service, we have introduced new features and functionality over the last several quarters and recently we announced the next generation of the home phone itself, known as EMBARQ eGo. This new device combines the quality and reliability of traditional voice service with the power of the internet to create the fourth screen of converged communications. The internet functionality of eGo gives customers the ability to access news, weather and sports information instead of trying to find a TV channel that happens to be showing the information they want or waiting for their computer to boot up. Customers can also use the phone to search business listings instead of trying to find their yellowpage directory or again, waiting for their computer to boot up. Another cool feature of eGo is visual voicemail, which displays a list of messages a customer has received, so they can decide which messages they want to listen to and which they want to delete or skip. The phone also stores contact information online, so it can be accessed from every eGo device the customers has in their house. The high-speed internet service that powers the eGo phone was again a source of strong revenue growth in Q1. HSI revenue grew 15% year-over-year to $133 million this quarter. Gross additions were up a bit from the fourth quarter level which contributed to a sequential increase in net additions to 63,000. Although consumers represent the majority of our subscribers, HSI services also popular among small business customers. As part of our focus on meeting the unique needs of small businesses, we recently enhanced our business class HSI offers with a set of value-added services. At our 5 and 10 megabit speed tiers, customers receive a free hosted website, a static IP address, a suite of messaging and collaboration solutions, as well as e-commerce tools. Subsets of this package are also available to customers who subscribe to one of our lower speed tiers. Commenting on these new HSI enhancements and analyst at research and consulting firm, Yankee Group recently said, "Embarq continues to build a reputation in the marketplace as a foward-looking provider, acting more like an IT provider. Their value-added services for business high-speed internet customers are examples of this approach". In another example of our IT centric approach, we recently announced a creation of what you might call a one stop security shop for business customers. Notice Embarq business security solutions, the portfolio includes desktop, network and e-mail security, as well as business continuity services such as remote backup, recovery and re-routing. While our business class HSI service meets the needs of many small business customers, large businesses gravitate to high capacity data services like Ethernet and IP. These services, along with wholesale special access are reported in the data revenue line which grew 4.8% to $198 million in the first quarter. The last revenue category I'll cover today is wireless, which as we indicated last quarter is an area we've been giving quite a bit of scrutiny. After narrowing our customer targeting efforts in Q4, we've made the decision to begin winding down the MVNO. As a result, we reported $16 million in revenue and ended the quarter with 112,000 subscribers, both of which are consistent with our results in Q4. Wireless dilution was also flat sequentially at $14 million. Although it's important to note that the number includes a $5 million handset inventory write-down. Going forward, we will continue to support our wireless subscribers and we're expecting significant improvement and a level of dilution. In fact, over the remainder of the year, we expect dilution to be less than $6 million, which will be less than $20 million for the full year. The decision to wind down the MVNO was essentially driven by the economics of the business model. Strategically, we continue to believe in the value of integrating wireline and wireless service. In fact, we already have two integrated calling features available to consumers today that work with any carrier wireless service. Using the Embarq Find Me/Follow Me feature, customers can have incoming calls ring not just their home phone but also two other wireless or wireline numbers they specify. Using a simple web portal, this feature can be set up to ring all three numbers simultaneously or one at a time in a specified sequence. With the other feature, Embarq call transfer, customers can transfer an incoming call after they've answered it on their home phone. For example, if a customer receives a call and they need to leave the house, they can push *99 to transfer the call to their wireless phone and continue the conversation. Subsequently, they can transfer the call back to their home phone or onto another number of their choice. In the future, we're planning to enhance the platform, the eGo phone uses to store contact information which will provide additional wireline/wireless integration. The new functionality will be able to aggregate contact information from a customer's home phone, their computer and their wireless phone, irrespective of which wireless carrier they use. In closing, I'll outline just a few of the many things we plan to do differently going forward in addition to reducing our emphasis on wireless. None of the changes represent a radical departure. They are essentially refinements of our current approach. In our consumer market group, for example, the decision to deemphasize wireless will enable us to increase the emphasis we placed on selling dish video service. We actually began to make this shift prior to the end of the quarter which led to our best DISH net add total since the spin. The increased focus on DISH will be part of a larger effort to more effectively target high value customers with triple play service bundles. It is often suggested that bundling HSI and video with home phone service increases customer loyalty. And our data confirms that this is in fact the case. In business, we'll be expanding a program that gives high performing sales representatives from our call centers the opportunity to go out and meet with small business customers face to face. In the past these reps have visited markets for a week or two at a time, but in light of the positive response from both the reps and our customers, we are effectively increasing our feet on the street by making these field assignments permanent. Finally, in wholesale markets our focus quite frankly is on maintaining the momentum. We have been able to establish to this point. Our emphasis on service quality has been well received by customers and earned recognition from industry experts and we are seeing improvement in the rate of special access growth. In summary, by refining our current approach, I think we can build on our solid financial performance this quarter. As Gene will discuss in more detail, our ongoing focus on efficiency led to improved income and cash flow results. Gene.

Thanks, Tom. We had a very strong quarter from a profitability standpoint, in fact, our best since the spin by almost any measure. In addition, while our stock has been trading at historically low levels we have been able to repurchase a significant number of shares under the buyback program, which we announced in January. Before I get into the details of our bottom line results, I will take a minute to provide a quick overview our first quarter revenue by market group. As you can see on slide 7, across Consumer, Wholesale and Business markets, revenue was down only modestly year-over-year. In consumer, the impact of access line attrition was mitigated by 5.3% growth in average revenue per household, therefore resulting in a 3% decline in revenue. Wholesale revenue, meanwhile, was down just one half of 1% as solid growth and special access nearly offset the decline in switched access. Business revenue in Q1 was also down only half a percent compared to the year-ago period. This is below the recent trend due in part to small, nonrecurring adjustments so we expect business to resume its growth trend going forward. Despite modestly lower revenue, our profitability in Q1 reached its highest level in the seven quarters we reported since becoming a standalone company. Although nonrecurring items have negatively impacted our results in some of those prior periods, this would still be our best quarter even excluding those items. Taking a more detailed look at our results, operating income was $434 million this quarter, which is the graph on slide 8 illustrates, is an improvement from the flat to slightly upward trend since the spin off. Operating margins also reached their highest level since the spin driven by sequential improvement in every operating expense category. Cost of services decreased $9 million on a sequential basis due largely to severance charges recorded in fourth quarter. The recurring benefit of last quarter's workforce reduction was offset somewhat by small, nonrecurring adjustments this quarter, so there should be a bit more improvement in this line item going forward. First quarter cost of products included the $5 million write-down of our wireless handset inventory that Tom mentioned earlier. Excluding that amount, the sequential improvement would have been consistent with change in product revenue. Moving to SG&A, the decline from the prior quarter totaled $46 million, half of which is attributable to nonrecurring spin off and severance costs recorded in Q4. The remaining improvement was driven by the recurring benefit of last quarter's workforce reduction, improvement in bad debt and small expense decreases in a handful of other areas. Since the workforce reduction accounted for a significant portion of this sequential decline, we don't expect the same degree of expense improvement over the remainder of the year. In fact, we could actually see a small step-up in the second quarter due to the timing of our annual compensation cycle. Below the operating income line, interest expense was flat sequentially at $104 million. Our income tax rate was 36%, which is below the 37.5% we typically expect to see and this was due to a favorable settlement of a state income tax issue. Finally, diluted earnings per share in the first quarter, was $1.38. Not only is this well above the $1.05 we reported in first quarter '07, it's again the highest level we have reached since the spin. Turning to slide 9, we continue to generate very strong cash flow and consistent with income, we saw year-over-year improvement in the first quarter. In addition to the increase in income, declining capital expenditures have had a positive impact on our cash flow results. At $177 million, first quarter capital expenditures were similar to the prior year in total, but within that number there was a decline in the amount we spent on new service addresses. Our original CapEx outlook for the year included an expectation of fewer new service addresses this year than last, but at this point it looks like the number could be even lower. Cash flow before dividends totaled $286 million in Q1, an improvement from the prior year. In fact, like other measures, cash flow before dividends was higher than in any quarter since the spin with or without the impact of nonrecurring items. In light of the stability of our cash flow, the Embarq Board of Directors authorized a 500 million share repurchase program in January. Although we couldn't begin the buyback until after our last earnings call in February, we were able to repurchase roughly 3.4 million shares by the end of Q1. During April, we continued to make purchases accumulating an additional 2.6 million shares through the end of last week. Thus, in total, we've repurchased roughly 6 million shares, ordinarily 4% of total shares outstanding at a cost of approximately $239 million. Our strong bottom line results this quarter give us confidence in our cash flow outlook for the year. On slide 10, is the summary of our current and previous expectations which I'll walk through very briefly. Starting with access lines, we have increased our expectation for absolute line losses in light of the magnitude of the year-over-year increase we have reported this quarter. However, as Tom noted earlier, we expect line losses to be closer to prior year levels over the remaining three quarters of the year. As a result of our decision to transition away from the MVNO, we now expect wireless revenue to be $30 million lower than the amount we originally projected. Thus we even lowered our telecom revenue guidance by the same amount which puts the range at 5.72 billion to $5.80 billion. As I indicated earlier, the number of new service addresses we are forecasting at this point is also lower than our previous expectation. As a result, we improved our outlook for capital expenditures to approximately $780 million which would be less than 14% of telecom revenue. Finally, despite concerns in the market about the economic cycle we continue to demonstrate the durability of our cash flow. In fact, we have raised our outlook for cash flow before dividends to between $960 million and $1 billion. In closing, the silver lining of the downward pressure on telecom share prices is that, it has provided an opportunity to repurchase shares at historically low levels. However, as we take advantage of that opportunity, we remain focused on maximizing value over the long-term. That starts of course with stabilizing the top line, which we expect to occur overtime as we get closer to a more stable consumer market share. In the mean time, we believe there will be additional room to improve our expense and capital efficiency. On that note, I will go ahead and turn the call over to Trevor so he can facilitate the Q&A session.

Thanks, Gene. While the operator opens the line for questions, I would offer my usual friendly reminder about limiting multiple or multi-part questions. It looks like we have 20 or 25 minutes available for Q&A at this point. And if possible, we would hear from everyone who has a question. So Kristy, when you are ready, would you mind viewing the process for submitting a question before you introduce the first person in the queue?

Certainly. (Operator instructions). And your first question comes from Gaurav Jaitly. Your line is open.

Great, thanks. Good afternoon guys. I have a quick question on the expense side. You mentioned several puts and takes in the cost of services in SG&A line. So how should we look at it going forward? I think you said that Gene that, the full run rate of the headcount reduction is not in your cost of services number yet. So should we expect to see sequential improvement? And given the other expense reduction initiatives, should we expect to see continued improvement in the expense plan going forward?

Yeah Gaurav, the script mentioned there was potentially a little bit of opportunity in cost of service. There are also some factors that relate for the compensation cycle which might cause some sequential upward pressure on expenses. Over the long-term, as Gene indicated, we think we have the opportunity to continue to improve efficiencies. So without providing specific expectations for next quarter or even the quarter after that, we believe the long-term trend is headed downward.

Okay, great. Thanks. I'll just stick to the one question. Thanks.

Thanks Gaurav.

Your next question comes from Mike Rollins, your line is open.

Hi, good afternoon.

Hi, Mike.

Hi, Mike.

I was curious if you could give us an update where are you in terms of the programs that you've announced to cut costs with respect to the total savings opportunity? I think it was as of the last call like $125 million to $150 million. And in terms of realized savings, when you -- what percentage along are you in capturing those in the numbers?

Okay, Mike, this is Gene. To set the stage, I think you are familiar that we have set forth an initial $300 million target, and I think on the last call we said that we had in motion actions that should result in about $250 million of the $300 million. Now some of those are projects that have not come online yet, like some of our workforce management programs in our network area but we feel very good about the trajectory we're on. We are not behind on any of the projects, so it is really no change. We expect to continue on the path to take out the 300 basis points. As we said, our objective really is to go further than that. We think that is really the minimum we should obtain and given our scale visa-a-vie smaller competitors it will not be logical that we could go somewhat beyond that.

And would you venture a percentage in terms of how far long you are if you look at the Q1 numbers? What percentage of 300 would be in the numbers?

I think we have tallied that up before and I think it's come up to 175 to 200 ranges in already.

Yeah, I think we are probably half in the way they are relative to the original comparisons we did. We will obviously refresh those comparisons over time to make sure we are still tracking toward the objective.

Yeah, the other thing I might point out as well that you may have noticed is, in addition to the margin improvements, we obviously focus on everything, that goes into MPV or EVA and that includes asset turns and I am not sure I have mentioned before that if you adjust for asset turns and use publicly reported data. Our Voice are actually the highest in the sector so they are actually higher than Windstream, Citizens and CenturyTel, because we basically turn at about 20 basis points more than they do. If you exclude purchase goodwill, which you can debate whether or not that ought to be in the calculations, it changes it somewhat to where I think we're number 2, but I would urge you to, as I'm sure you do, to not only look at the EBITDA margin percentages, but also at the asset turns and how much true value we're creating because we are, because of our higher turns, of course, mathematically even with a gap on EBITDA margins, our higher returns can make up for that and in fact is making up for it in a number of cases.

Thank you very much.

Thanks Mike.

Your next question comes from Tim Horan from Oppenheimer. Your line is open.

I think Tom. Could you give a little more clarity on why you think access lines were little weaker this quarter and why they can kind of improve the next three quarters particularly versus a trend here. Thank you.

Sure. Tom Gerke, let me kind of kick it off and give you pretty full some answer and ask Harry and Tom to chime in as well. First, I mean, it is an all-out effort, there's no part of our business that involves the line count that we are not giving additional scrutiny to and in that there's clearly no silver bullet, take that blocking and tackling effort. One is, this emphasis on dish. I mean, if there's a dish on the side of the house, there is not cable TV, therefore there's not a cable modem, therefore there's no cable phone. So, dish goes well beyond the economic relationship that we have and I think moving it up will play a far more strategic role for us, frankly, than wireless in addition to eliminating the dilution. We have just really been in the market and have not fully matured this wider selection of HSI speed, so that allows us to focus more on the bundle as well. One of the marketing channels that we're just starting to get attention, has got my personal attention is going to keep getting it is our technicians. We have started to get some real traction over the last month or two and they have to become a sales force and a sales channel for us, and we are seeing the progress. It is nowhere near where I think it can go, but that's something. I think there is a number of other initiatives, our save efforts. There are some things going on in the industry that we believe allowing us to implement a more aggressive save program that should help as well. The common factor that our entire industry has to wakeup to is constant innovation. I will not rehash the eGo. The security suite we have already talked about. There is a call screening aspect to our voice messaging that we just introduced in the last 10 days, which is a minor thing, but it is the one thing that customer say they would like have with our voice messaging. So, we are becoming much more innovative just as a core competency. We have broad based throughout the company two different initiatives, one on customer satisfaction and the other on business process improvement. The business process improvement designed to really go to what Mike was talking about in terms of cost and expense control, but will also add to customer efficiency. Then there are those common sense things, that you ought to do, but you just cannot take for granted and that is reviewing and refreshing our advertising, our marketing, our offers constantly, and frankly, paying a heck of a lot of attention to what's going on with the peers that Gene mentioned. They are an incredibly valuable data point for what others are trying and what may or may not be working. So, painted in a pretty decent mosaic here, but Harry and Tom you want to a little bit.

Sure. Tim, this is Harry, the specific question about why it got worse, I think Tom addressed it very well in the script. This is really a growth ad issue. It was not a disconnect issue and so when I talk disconnect, I truly mean all types of did disconnects, which include competitive disconnects and non-pay. We saw kind of a plummeting downward, where more than we would have anticipated at gross end. There's some geographic spreads there. We do not talk about that specifically. I don’t think we want to get into that granularity, but the answer is we were kind of surprised by the gross ad drop more than anything. And we did get a positive help from that. Tom covered the initiatives probably as much as anything I would say that we are going to shift our marketing in the consumer world more to targeting. We realized that this is in a metric we are going to chase after in terms of access lines. What we need to do is figure out the customers that are going to provide value, we need to get them, keep them, love them and sell them more. So, what you are going to find is we are going to go after more of those with triple plays, with saves, with win backs and the right people, at the right time, in the right areas. It is not something that our culture and our history would have said we would have done as well as we should have. We're going to do that more going forward.

Tom, you want to take the other segment.

Sure. Tim, Tom McEvoy - the business group. I just wanted to remind you that a lot of the losses that we see in business specifically on our disconnects are our customers, who remain with us and change the portfolio to a new IP type portfolio so we see access lines come down and we see broadband type pipe increase in our portfolio. But as was mentioned earlier in the script, we had seen a slight up-tick in economic disconnects, as I say a pretty slight tick. It wasn't a majority issue here and then we constantly look at competitive losses byline 2 and that's remained pretty consistent and flat. But to attack the marketplace, we continue to look at our product offering and Tom mentioned a couple of new things we have put in the market around building our business securities suite for our small business customers, also looking at refreshing our bundles and then putting more value into our products through some of our value added service with ah broadband products. Beyond that, expanding channels to make sure our indirect partners who are doing a lot of the selling for us are really focused on new business for us, as well as long-term contract renewals, as well as expanding our channel. And Tom mentioned, some of our permanent positions we have put in the small business market with feet on the street in some of our more competitive markets. Our campaigns, we constantly are looking at ways to put new save offers in the market and promotions to win customers our way. So there are many variables that go into us continuing to sustain growth in our business and to ensure that if we are going to lose an access line, it is to something else in our product portfolio and not someone else.

I would just close with one additional comment, Harry kind of touched on it. And that is, we are very focused on lines and service, but we are really focused on keeping our most profitable customers because that's our bottom line goal, is to keep the track record we have established of delivering the cash.

Tom, does it seem to be quite concerned that the weakness in some of your markets in terms of the housing in Nevada and Florida might be having an impact on access lines, did you see that this quarter? And how do you expect it to roll out? Is that a couple of quarter phenomenon and then prices will go down and people will start moving into the homes or does it maybe not have an impact?

Well, I think let Trevor answers well. But I think first, this has not been evenly felt across our footprint and I think you make a great point. I mean on the housing and what not there will eventually be some market equilibrium. When and how that occurs is probably something that you and the economist out there are as good as making a guess or estimate as we are. Trevor?

And in the mean time, obviously the declining capital expenditures continue to provide a cash flow offset which is obviously very important.

Thanks, guys.

Thank you.

Your next question comes from Simon Flannery from Morgan Stanley. Your line is open.

Okay.

Hello Simon.

Thank you very much. Good afternoon. On the wireless MVNO, can you just talk a little bit more about what we should expect in terms of the shape of the business over the rest of the year? I know some MVNOs that have shutdown are sort of given people 30 days and maybe negotiated something with the underlying carrier to switch over there and just be done with it. Is that something that you're contemplating? And was there no ability here in terms of the economics, clearly this was a business you had a lot of hopes for. A couple of years ago, was there no way to get a better deal out of the underlying carrier here and just try to work something that might have made sense for both of you? Thanks.

Yeah, Simon, we will take it in reverse order. We obviously had some discussion but frankly, as I talked about earlier with the importance of DISH moving up in the priority, frankly, our ongoing understanding of the take rates through our channels and of its importance in our overall bundle, and frankly, the absolute importance of not impairing the good customer experience we have with the product that, regardless of the carrier, sometimes presents more issues with the consumers is the reason we made this strategic decision clearly, a financial analytically made decision but for those parameters we landed on it. In terms of the wind down, we have an existing inventory of handsets which will either be sold through predominantly our retail channel, we're starting to pace back in our call center channel. We will have some opportunity to potentially accelerate that, maybe even substantially accelerate it through wholesale sale of those handsets, then we're satisfied once we've gone to the expense of acquiring those customers that we can continue to keep them through this year and frankly, through, at least, up to the end of next year and maybe even beyond. But for a substantial period of time here, and continue to reap the, what we think is positive benefit of the relatively nominal cost of taking care of those customers now that they are on-board.

Okay. Do you have a churn estimate? So if you do not add any more customers give us a sense of how long you think they are going to last?

Yeah, I do not think it clears at this point. We continue to believe we will have wireless revenue well through the end of this year and into next year but it is hard to be too precise about it.

Okay. Thank you.

Thank you, Simon.

And your next question comes from Tom Seitz from Lehman Brothers. Your line is open.

Yeah, thanks for taking the question. Three of the four national carriers are now essentially through with or mostly through with their 3G upgrades on their wireless systems, and we still have one to go. And I was wondering if you could talk about trends from the four carriers without naming names with respect to growth in circuits for wireless back haul. I mean do we still have an opportunity in front of us, a significant opportunity with one carrier still to go or have they been upgrading their network overtime and so that's not likely to be much of a growth avenue?

I think it is going to be real hard to predict on a long-term basis. I think that we are achieving the growth despite the fact that at least, maybe not on the wireless side, but at least on the wireline network there is a fair amount of consolidation going through two of the partners that merged, sort of lot of focus on synergies and how they operate their network. And we fought through that and still delivering the growth that we're talking about. With respect to wireless, I think it's not just the upgrade in the system that you're talking about, but frankly it's the amount of folks and the nature of their use of the devices, the nature of the devices that has potential to continue to drive, increases there. So we're pretty pleased and, frankly, we're focusing on service. That is a key metric for them with their end user and we have proven to be a pretty reliable partner and are looking for ways to make that relationship even smoother.

And I think it is accurate to say we have seen pretty consistent growth even before 3G and 3G adds to that, so the trend seems to be up in terms of usage, clearly, and there can't be timing because carriers will try to buy a bigger pipe and anticipation of future demand so there are some timing gaps, but I think all the trends we're seeing is just higher and higher usage.

Okay great. Thank you very much.

Thank you.

Thanks Tom.

Your next question comes from Chris Larsen with Credit Suisse. Your line is open.

Thanks for taking my question. Vegas is one of your larger markets and MetroPCS has recently entered that market with an all you can eat plan. I'm wondering if you can give us a sense for any difference in trends that you're seeing in the Vegas market as a result of that and how that's factored into your guidance for 2008. Thanks.

This is Harry, Chris, I'll take that. Frankly we really have not seen much an up-tick at all. We have had some markets over the last several quarters open up with a couple of these are, I'll call them alternative wireless carriers. Vegas is a pretty challenged market right now kind of housing-wise and economically, but at the end of the day we don't see any incremental loss to these folks and we're keeping an eye on it because it's important for us to understand that.

All right. Thank you very much.

Thank you.

Your next question comes from Frank Louthan from Raymond James. Your line is open.

Great, thank you. Just circle back looking at the margin. You said there is some -- obviously you've got some seasonality, some bonuses so forth in the second quarter and so can -- just to clarify, can you give us some idea of the marginal impact on an annual basis or ballpark for the dollar figure that that will impact and then can we assume that margins would return to levels we saw in the first quarter in the back half?

Again, our approach is not to be too specific on quarterly guidance. We had obviously a big sequentially step down in expenses from the fourth quarter to the first quarter related to the workforce reduction and so as Gene indicated in his script we don't see that same kind of sequential improvement over the remaining quarters. But again, continue to see opportunity in the long-term and feel comfortable with the cash flow guidance that we raised by $10 million this quarter.

Yeah, and Trevor I think it would be fair to say not to overemphasize the matter, we have -- that's our annual payroll -- our pay increase cycle and you can trust that we're well below what we think are national averages on salary increases given the competitive situation that we find ourselves in. So, it's just a -- it's just something that we have to fight our way through and we're used to having to more than overcome that with the additional efforts that we have underway that Gene has already talked about in detail.

You can't give us what that's been historically as an average percentage change or a range thereabouts?

Low single-digits.

Okay. Thank you.

Your next question comes from David Barden from Banc of America. Your line is open.

Hi, David.

Hey, guys. Thanks for taking the question. You have changed the revenue expectations for the wireless MVNO, but you have not changed the dilution numbers that are going to happen over the rest of the year. If you could kind of just help us understand how you take $30 million out of the revenues, but the dilution does not change. The margin improvement sequentially, normalizing for the one timers a sequential step down of about $28 million in costs, just frankly just a lot larger than I was expecting and, attributing it all in one quarter to headcount reductions and lower bad debt just seems tough. If you could just walk us through the math about how we got to the cost numbers this quarter sequentially on a normalized basis, it would be super helpful. Thanks a lot.

Okay. Let's start with the wireless revenue and dilution. In part of that and there are several moving parts that makes it net out like that, but part of it is as we came into this year, while we hadn't made the decision to exit wireless, we had made the decision that we were going to bring the dilution down substantially. So, we had already built a plan that was dramatically changing and cutting back on the customers we were going to target that just happened to get us into that dilution range. Then we subsequently made the decision to exit the MVNO. We did have some incremental cost there in terms of like the handset reserve we mentioned. But also by drawling back some on acquisition we saved costs so it just is I guess somewhat circumstantial that it happens to net out to about the same number. But that's, the reason, it comes out that way.

Okay.

On the costs, we have a major reduction in headcount and it is a 1000 people and I don't -- don't know if I can do the math on the fly, but it was a very substantial amount, maybe Trevor has some of the numbers.

On the last call we indicated that we would realize a savings run rate of $75 million a year. And so we are, as Gene indicated in the script, at that run rate already. So that's a big part of it. The bad debt is part of it and again, there were other very small things that contributed but you combine that with the non-recurring charges that impacted the fourth quarter, and I think you'll get the sequential improvement pretty easily.

Yeah. There is a couple of things on bad debts that help. One is, wireless bad debt was fairly high. The other thing that factors in, something that's a little counter intuitive but it's another one of these shock absorber effects is that, typically your highest bad debts even on wireline customers, you have much higher bad debts on customers who are new into the firm as opposed to customers who have been with the firm say six months or longer.

Right.

So part of this offset of having newer, less new customers coming in, tends to have a downward impact on bad debt expense. So now for the quarter, we are still higher in this quarter than we were a year-ago quarter, but we have actually seen it improve somewhat as we come into first quarter from fourth quarter.

And just to tie that out Gene, no one-timers on the revenue or expense lines this quarter?

Again, there was a $5 million handset write-down that Gene spoke about --

Right, right.

But no spin-off costs or anything like that, like we've had in the past.

Great, thanks so much, guys.

Thank you.

Your next question comes from Jason Armstrong from Goldman Sachs. Your line is open.

Thanks, good afternoon. Just one question following up on wireless, and maybe sort of a longer term question. I guess, given the dilution de-emphasizing the MVNO has made sense and MVNO in generally has been tough year but longer term wireless probably remains one of the biggest strategic questions facing you guys and especially given the divergence and approaches we've seen. One peer for instance, just bought a substantial amount of wireless spectrum and the spectrum auctions and really seems intent on rolling out a wireless network. How are you thinking about the long-term strategy in wireless? I know sort of upfront you're obviously de-emphasizing right now and you're sort of pinning a lot more hopes on DISH and the video strategy but long-term, can you just walk us through the thought process? Thanks.

There have been a couple of other non-facilities based wireless carriers over the past quarter or two that have reached the same conclusion. Second is, any facilities based carrier, the amount of integration and bundling they have ends up being for a substantial length of time with a relatively small sliver of their entire customer base. We believe our focus ought to be on trying to do integration that can interact with nearly all of our customer base. And so the Find Me/Follow Me, the call transfer, the eGo phone, as well as some of the additional continuing developments we expect with the eGo phone, and really every other aspect of our innovation effort and innovation counseling process that we're using to come from a company and an industry that doesn't do a lot of invading to one that continues to make itself relevant will focus on how we interact with our entire base, not a relatively modest sliver. I mean even if we have been wildly successful with out MVNO, it still would not have represented a huge chunk, and certainly not a majority of our customer base for sometime into the future. And so it's that strategic thinking. I also think of that broadband pipe coming into the house, that is going to more and more be the cockpit to the home and therefore, the importance of having this broad spectrum of services and speed allows individual consumers to get what they need. And then we integrate that connection with voice such as we have with the eGo phone. So I'm pretty comfortable that we're in lot of company on this point and that we haven't lost sight of the need to integrate both wirelessly, as well as with the high-speed connection.

Okay. That's helpful. Thanks, Tom.

Thank you.

And your next question comes from Jonathan Chaplin from JPMorgan. Your line is open.

Hi. I'm wondering if I could just follow-up quickly on the access line question. So, Tom I think you did a great job of describing a lot of different initiatives that should really help on the churn side. But I think you've also said that your problem is more on the gross ad side, and I'm assuming that that's driven more by macro factors that aren't really in your control, many of these initiatives aren't really going to help with. So I'm wondering if you could tell us what changed in the macro environment in March and April that led to an improvement in trends in those two months? And I'm assuming the shift in those two months as on the gross ad side, not on the churn side. And then, if I could just slip in the second question on special access. AT&T and Verizon have raised rates, are you going to be doing that also? Thanks.

Okay. Let me take them in reverse order on special access. We do not have anything to announce, so there is that piece. With respect to macro economics, I mean we're working hard just like you are to look at all the different independent variables out there, figure it out. And frankly as much as we hope it does, two months does not necessarily establish a trend that you can count on into perpetuity. So we're -- it's been bouncing around some. We're pleased to see those two months are better. We're watching the various factors. I do think that, broadly speaking there seems to be some absorption of the current situation. And you hear a lot of not us, but external people talking about you're closer to the end than you are to the start of whatever you want to call this thing that we're in. But beyond that, we're going to just make sure that we've got the right thing to keep our current customers happy. And then I did emphasize a number of different marketing things, keeping our offers fresh, keeping our safes fresh that are designed to both, slow down the D's, our disconnects, but also focus on the ends and make sure that at least on a relative basis given our geographic footprint, that we perform as well as can be expected. And in the meantime, we have a proven track record of correlating that performance to how we run the business in terms of efficiency, productivity and cost control to guard our core competency, which is delivering cash in a predictable fashion.

Tom if I could just follow-up on that. The improvements that you saw in March and April, did they -- did much of the improvement come from some of the markets that have been hardest hit from a housing perspective?

Again, the specific market information is not something that we've provided in the past and probably are unlikely to provide in the future. Again, the areas hit by the housing slow down are the areas where we've seen gross ads come down and CapEx come down. And so that has led us to be a little more optimistic about the future quarters of the year.

Thanks.

Well, I was just going to add as we've commented before, assuming this is just a delay in new housing and the impact is relatively minimal to us because as long as we're not spending CapEx in advance of the customers coming online, so what we obviously don't want to do is put CapEx in the ground now and have the customer show up two years from now. So we've actually gone to some unusual lengths we've never done before, putting gating on our new service address, build-outs, doing things like looking at housing developments to see if they really have the financing to build it out. And try to assess how quickly it might built out so that we do not get in front of our investment cycles. So as long as we're keeping our investment in sync with the growth, really the impact ought to be only that instead of investing and getting the customer this year, we presumably invest and get the customer a year or two from now.

Gene, that's very useful. Thank you.

Thank you.

Thanks, John. I think we actually got through all the questions in the queue today which is a first for us. So we appreciate everyone joining the call. And welcome you to listen to a replay on our website if there's anything you missed. That website is investors.embarq.com. Thanks again for joining us. And have a good evening.

Thank you.

This concludes your conference call for today. You may now disconnect your lines.