M&A Announcement

Jan 28, 2019

Press Release

Welcome to Descartes Update. My name is Sylvia, and I'll be your operator for today's call. At this time, all participants are in a listen only mode. Later, we will conduct a question and answer session. Please note that this conference is being recorded. I will now turn the call over to Scott Pagan. Mr. Pagan, you may begin. Thank you, and good morning, everyone. Joining me on the call today are Ed Ryan, CEO and Alan Brett, CFO. I trust that everyone has received a copy of the press release relating to the Visual Compliance transaction issued earlier today. Portions of today's call other than historical performance may include include statements of forward looking information within the meaning of applicable securities laws. These statements are made under the safe harbor provisions of those laws. These forward looking statements include statements related to the potential closing of the Visual Compliance transaction and timing thereof, the expected purchase price and methods of funding the transaction, the ability to provide customers with additional products and services and to strengthen the relationships with existing customers of both Big Heart and Visual Compliance, Visual Compliance's domain expertise in this market potential benefits and synergies associated with the combination with Visual Compliance Visual Compliance's potential contribution to our revenue calibration, tax and other benefits of the acquisition and its structure and other matters that may constitute forward looking statements. These forward looking statements involve known and unknown risks, uncertainties, assumptions and other factors that may cause the actual results, performance or achievements of Descartes to differ materially from the anticipated results, performance or achievements implied by such forward looking statements. These factors are outlined in the press release issued today, and we encourage all listeners to review those risk factors closely in considering any forward looking statements that may be made during the call. We provide forward looking statements solely for the purpose of providing information about management's current expectations and plans relating to the future. You're cautioned that such information may not be appropriate for other purposes. We don't undertake or accept any obligation or undertaking to release publicly any updates or revisions to any forward looking statements to reflect any change in our expectations or any change in events, conditions, assumptions or circumstances on which any such statement is based, except as is required by law. And with that, let me turn the call over to Ed. Hey, great. Thanks, Scott. Good morning, everyone, and welcome to the call. Thank you for joining us today on shorter notice than usual. As you'll see from the press release this morning, it's a very exciting day for Descartes as we signed a definitive agreement to acquire Visual Compliance, the content business with a focus on the 9 party screening with the closing anticipated in February. The transaction details are included in the press release, but we're thrilled to be on this call this morning to discuss the transaction that we believe will bring great things to both Visual Compliance and Descartes customers. I want to make some opening remarks and then we'll open up the call to just a few questions from any analysts on the call. As a note off the top and as many of you know, we're currently in a quiet period as we approach the end of our fiscal year on January 31. So on this call, we've been limiting our comments to the Visual the of over 20,000 companies will see. We will not be discussing the card financial results for the quarter year ending January 31 or our expectations of financial results for any future fiscal period, including Visual Compliance's potential contribution to these financial results. We anticipate that we can provide you that type of information following the closing of the transaction when we announce our fiscal 2019 financial results currently expected to be sometime in early March. But while our comments are limited by the quiet period, there's some great things to talk about in this transaction. As many of you have followed Descartes will know, we've made several past acquisitions in the trade data content space. In 2014, we combined with customs info, a business that provides tariff and duty data to power global trade management systems, including those of our value partners, SAP and Oracle. In 2015, we acquired MK Data, a business that also provide data to fuel SAP and Oracle Global Trade Management Systems. MKA's business was specifically focused on denied party screening, aggregating list of people, companies and commodities around the world where there are restrictions or prohibitions on doing business with them. Then in late 2016, we acquired Datamind, the business that provides global trade flow information covering the global commerce of over 2 30 markets across 5 continents. Each of these acquisitions have 5 common themes when we made the decision to invest in them that have continued since when they've been a part of the global logistics network. First, they were each predominantly recurring revenue businesses. They provided their content and services on a subscription or transaction basis with good renewal and retention rates. 2nd, they were all very high margin businesses. Our adjusted EBITDA margins at Descartes have historically been lower, been in the lower 30s as a percentage of revenue, but these businesses had margins that were significantly higher than that. 3, they had the ability to grow profitably. Each had a somewhat fixed cost of data collection that could be leveraged for high incremental margins on future sales. 4, they had large satisfied customer bases that could be added to the global logistics network and gain access to the powerful products and services we otherwise offer. And finally, there are products and content that when made available in combination with our own products over the global logistics network, enhance the tools that our customers had available to them to manage the lifecycle of shipments. Each of these businesses are now a key part of Descartes and the global logistics network supporting our customers and our partners around the world. Their success has encouraged us to evaluate other opportunities to combine with businesses who share this profile. And that leads us to Visual Compliance, a business that follows the mold of our past data content acquisitions. Visual Compliance is a business that we've been following for a long time. Unfortunately, in recent months, the sole founder passed away and so the business needed to be sold. A very tough time for everyone involved in the business and the situation for which we extend our sympathies, the entire Manucha and broader global or Visual Compliance family. The families of state approached us about a potential transaction. We agreed with them that we would be ideal steward for the business and we're thrilled to be able to provide great continuity for the business, for customers, for partners and for the Visual Compliance employee family. Visual Compliance main business is in the denied party screening space. If the word denied party screening sound familiar, that's because I just described a previous acquisition of MK Data using those same words. Visual Compliance is even deeper into a business that Descartes is already successfully in. Looking at the same 5 criteria that we value in our previous successful data content acquisitions. 1st, Visual Compliance has a high degree of recurring revenues with customers subscribing to their data, content and services. And as you'll have seen from the press release, Visual Compliance had historical revenues for last fiscal year of approximately CAD40 1,000,000. Subject to foreign exchange fluctuations, we anticipate about 75% of those revenues being revenues that could be included as part of our initial calibration of our business. 2nd, Visual Compliance is a high adjusted EBITDA margin business consistent with our other trade content businesses and higher than Descartes corporate margin rates. 3, Visual Compliance has grown historically with high incremental margins. As you see in the press release, Visual Compliance historical average revenue growth rate was 10% over the last 4 years. Further, with both Descartes and Visual Compliance already incurring the cost of data collection, we anticipate that there may be synergies in data collection that will strengthen our incremental margins. 4, Visual Compliance serves over 2,000 customers who will be added to our global logistics network, existing 18,500 customer participants. That truly further entrenches the DLN as a powerful network for our carriers, logistics intermediaries, shippers and governments to use as they plan, monitor and execute shipments. And finally, Visual Compliance enhances Descartes' compliance application footprint print for denied party screening, denied party management and workflow and it addresses some basic shipment compliance matters such as export license controls. We believe we can cross sell this additional functionality to the entire Descartes customer base. The denied party screening business is one that we're excited to make even more of an investment in. As we're seeing in the news every day, global trade has become even more complex with new trade agreements, trade disagreements and ongoing geopolitical activity resulting in increased levels of sanctions and enforcement. We only look to the recent events in Canada and the United States relating to the Huawei executive to understand how big an issue trade sanctions and their enforcement has become for companies around the world. Denied and sanctioned party screening has become a critical must have for companies for every business dealing they have, whether it be for shipments of products abroad or relationships with new and existing customers, partners, suppliers and employees. We anticipate that the future may include regulatory mandates on certain businesses to conduct these types of screening activities. We're seeing demand for more screening services from our direct customer base with businesses stepping up their compliance activities in the face of increased enforcement. This includes new customers and businesses that aren't logistics intensive, the screening of business relationships becoming as important as screening of product shipments. And these aren't just our observations. As we support our own partners in the global trade management space like SAP and Oracle, we continue to see demand for more and more detailed screening data that captures the myriad of relationships and commodity shipments multinational companies can find themselves. Like Descartes, Visual Compliance is an existing partner of both SAP and Oracle. Where there are opportunities to invest to support partners like SAP and Oracle even further, we want them to know that we'll be there for them. It's great to know that we'll have even more team members in our business speaking with the non party screening and trade compliance language once Visual Compliance employee base joins. Visual Compliance brings over 100 people with expertise in logistics and international shipments to the global logistics network team, all focused on serving our customers at an elite level. And with the bulk of the Visual Compliance team being in Toronto, Canada, we welcome them as we did pinpoint earlier this year to a Canadian headquartered business with numerous team members already in Toronto, Waterloo and Ottawa, ready to support them as they integrate into the Descartes family. If you're wondering where Visual Compliance offices are and you're from Toronto, you've probably seen their e custom sign on the building as you travel down the Allen Expressway towards the 401. This will be one of the larger deals that Descartes has done over the past years. The purchase price multiples are similar to our previous data content acquisitions, though at the higher end of that range, but at a price that we're very comfortable with given our historical success in the data content market, our existing experience in the 9 party screen, our belief in the efficiencies of data collection and our belief in the distribution opportunities for Visual Compliance Data and Services over the Global Logistics Network and through our existing SAP and Oracle partnerships. Further, this transaction has been structuring on a tax efficient basis for us with approximately CAD80 1,000,000 in tax benefit to us over several years, which significantly lowers the cash payback period for this acquisition for us. As you've seen in the previous in the press release, we've also increased our existing revolving credit facility to $350,000,000 with an accordion feature that allows us to take it to 500,000,000 dollars in the agreement with the lenders. We're using this increased credit facility in connection with the Visual Compliance transaction and at the request of the sellers issuing about $12,000,000 Canadian in shares to personnel who will be continuing on with the business. We'll likely draw about $241,000,000 for the Visual Compliance transaction, leaving us plenty of room to access the lines further for other active acquisition opportunities we're pursuing. We're very comfortable with our debt levels, especially since we're combining with a profitable cash generating business that will allow us to pay down the debt in the ordinary course. In short, even after the Visual Compliance transaction is closed, we will remain ready, willing and able to compete with other acquisitions to complete other acquisitions as we have in the past. This is an exciting day for Descartes, an exciting day for the Visual Compliance team and a great opportunity for our combined customer base. We look forward to welcoming all Visual Compliance customers, partners and employees to Descartes and the global logistics network. And with that, operator, I'd like to turn it over for questions. Thank you. We will now begin the question and answer session. And your first question comes from Paul Steep from Scotia Capital. Hey, good morning, Ed. Hey Paul. You talked a little bit about in the script just the integration and synergies? Could you just go over a little bit more of how we should think realistically about a timeline to sort of bring, I guess, your customs datasets maybe together for a holistic offering for clients? Yes. We're working on that as we speak to the new joint access process. We've spent some time with them doing that. We'll be doing it in a very matter of fact way. I don't think of the exact time line, but we're talking sometime in the next several months, we'll start making moves in that direction. Legal compliance has a even broader data set than we have. So that's one of the things we're looking forward to is bringing that broader data set to our customers. And we'll be spending the next several months talking about how we start to combine those activities. I wouldn't imagine it's going to take terribly long, probably a year time frame, something of that nature. But our focus, much more than even the cost savings associated with it, is going to be making sure we have the best data set available for our customers and are able to bring an expanded data set to the entire customer base. And you also alluded, I guess, in the discussion about returning to M and A. I guess, maybe get your feeling as to whether or not you're going to take a bit of a pause and digest this one or if we should actually think that you might still be actively out in the market looking to do something soon or like wait till later in the year or next year? I don't think you're going to see any significant change in our acquisition activity. We're aggressively looking to consolidate this market and I don't think anything about this particular acquisition is going to change that. It's a pretty high quality business. You can tell from some of the things you may have seen in the press release. It's a business that looks a lot like ours. It's not going to be new for us to be working with a business like this. Even during the acquisition process, our team spend a lot of time together and they fit right in. So I don't think you're going to see us have a ton of activities to do for to combine the businesses as you might if you were buying something that was more of a fixer upper. In this case, we're buying something that's very similar to what we do. And the employees all kind of know the businesses inside and out. And I think as I've already watched them kind of sit in a room together, they quickly become friends and have a lot to talk about. So I don't think any of that's to put any stresses on our business that are abnormal. And I think you'll see us continue to move forward to be a pretty rapidly expanding business in part through acquisition. Great. And last one for me. Just in terms of the growth, you gave us a sense of what the CAGR was. Can you give us, without too much detail around it, a sense of how they've grown? Has it been broader usage, new clients, price lifts on the base? Or have they got a new sort of data set that's incremental that they've seen growth on? Thanks. Yes. Just real quick on that. I think it's pretty similar to the way our business has grown largely through new customer acquisition. Customers come in, they ramp up. They may expand in the business as companies that they do business with grow and they need to buy access to more data sets. But the vast majority of it comes from new customer acquisition as you've seen in our business. And also as you've seen in our business that tends to be pretty profitable, right? You already have the data set each new customer that comes on comes in at a pretty high incremental margin. One of the reasons we really like these businesses. Great. Thanks guys. Thanks, Paul. Our next question comes from Deepak Kaushal from GMP Securities. Hi, good morning guys. Thanks for taking my questions. Ed, I just wanted to ask you a quick clarification on the level of customer overlap. Based on the math you said in your comments, doesn't sound like there's much overlap here. Is that a fair conclusion? Yes. There's not much at all. So we're similar fixed customer basis, but if you were a customer needing denied party screening, you'd probably pick 1 or the other. Okay. And does this open up any new geographies for you? Do you have any expertise in specific regions around the world or specific industries? Any kind of color you can shed on that? Yes. Nothing regional, like we're both fairly fixated on North America, but it does bring in some other areas we hadn't traditionally focused on. One is colleges and universities that have increasingly high need for the 9:30 screen, not only with applicants, but also with professors and other people that may work on projects at that university, oftentimes coming from foreign jurisdictions that need to screen those individuals anytime they show up in the building. And they also have gotten into the business. You may have heard me mention if you got out in the road with me, because a lot of times when I'm out with analysts, I'm going into buildings. And Visual Compliance has gotten into the strain of individuals going into buildings in advance of them coming in. Maybe a high profile building has long queues to get into the building and they know that a lot of the people are coming in a day or 2 before and they prescreen those candidates. And Visual Compliance has done a real nice job to get into those businesses and we look forward to adding that to our portfolio. Okay. And yes, I do recall those conversations. And you mentioned a couple of times in your script, SAP and Oracle, I know you have a growing relationship with them. Is this a meaningful boost to your relationship with SAP and Oracle? How do we put this into context of that growing relationship? I think it will help. I mean, yes, go ahead. Sorry. Well, just at what point like do you become more meaningful as a partner to these guys? I think it will help. Visual Compliance is a partner of SAP and Oracle as well. So that's good. There's other services we can offer now that we have those 2. And I think we probably had a stronger partnership with SAP and Oracle and that our sales teams have been working together longer and selling more together. I don't think it's going to significantly expand the relationship with them. I think it will help. There's maybe some more list that we have access to now. Maybe we can do some better screens over the coming years for SAP and Oracle customers. But I don't think it's going to create a whole new relationship with them. It's pretty similar business. Okay. Okay, great. No, I appreciate you taking my questions. I'll pass on. Thank you. Great. Thanks, Deepa. Our following question comes from David Hynes from Canaccord. Hey, good morning, guys. Hey, Ed, what kind of fully integrated contribution margins should we be thinking about kind of to support the valuation here? Well, I think we've commented as much in my prepared comments and in the press release as we'll go into on today's call. But just to kind of go over that, much like our existing content businesses, when we bought Visual Compliance or signed to buy Visual Compliance, they have a higher margin profile than our average net margin, much more consistent with some of the margin profiles you'd see with the NPA Data business and the customs info and data mining businesses. So it's going to increase our margin levels. I think I'll leave it at that until we release our numbers in March where we'll provide some more information there in the call. Yes. Okay. That's fine. I'm going to try one more question that I don't know if you answer. So obviously, some unique circumstances that drove the timing of the acquisition here, right? But I'm anticipating some investor questions that are, hey, these guys are having to make a large acquisition to take attention away or mask a decelerating core. So I don't know what you want to say, but can you give us any kind of update on volumes or transactions that you're seeing on the GLN? Obviously, there's a lot of headlines out there around global trade. So I just figured I'd give you a form to give us an update. Well, I probably can't answer that question directly other than to say, if someone said that, I'd tell them that has nothing to do with why we bought it, right? We look at this as a great opportunity. This is something that business we've known for a long time. And because of some unfortunate circumstances on their end, we had an opportunity to buy a great business that we might not have had under other circumstances. So we were excited about it. Nothing to do with any existing performance in our business or anything else. We saw this happen and we went, wow, that's great. Yes. I got it. And I do it every day. Okay. Yes. I mean, obviously, the data acquisitions you've made in the past have been some of your most successful. So congrats on the deal. I'll pass the line. Great. Thanks. Our following question comes from Stephen Lee from Raymond James. Thank you. Hey, Ed. I think you said Vigil has 2,000 customers. How many customers would MK have today? I don't know off the top of my head. I don't know if anyone else or Alan or anyone else knows, but not as many as I could say there's not as many as customs Visual Compliance added. We custom Visual Compliance is a bigger business than MK by a bunch. Okay. All right. And if I remember, MK was in that 45% EBITDA margin range. And so based on your comments, this would be similar range? I don't want to say specifically because we haven't we kind of because we're in blackout, I kind of tried to keep the numbers mentioned to the ones that were mentioned in my prepared comments and the press release. But directionally, yes, it's a higher profile margin business than ours and yes, let's say similar to MK's. That's right. Okay, great. And then one last question. So given what you see as synergies, what is more likely to happen with Visual? Is it their margins push even higher? Or is it their growth accelerate within day car? Thank you. Thanks, Stephen. Yes, I think similar to the rest of our content businesses, the reason we really like these businesses and a lot like our network maybe even better than our network is they all have an absolute fixed cost to collect the data content. They're all growing at a nice pace given some of the things you just mentioned that are going on, but we're all right. More and more companies think this is more and more important. And that's a nice combination for us, right? So every new customer that comes in, we make a lot more money and a lot of new customers keep coming in because it's an important topic. So that's why we're excited about buying this business. That's why we jumped to the chance when it popped up. And we're very excited about it as we were when we bought customs info on MK Data and Datamont. So we think it's a big opportunity for our company and for our shareholders to take advantage of something that's going on in the market that plays right into our hand. Hand. Our next question comes from Blair Abernethy from Industrial Alliance. Thanks very much and congrats guys on the acquisition. Just Ed, I just wonder if you could tell us a little bit about the market space here. This obviously makes Descartes a much bigger player in the denied party marketplace. Are you guys going to now be the biggest player, if you will, give us some sense of what your market share will be? And is there any opportunity down the road for potential pricing power? So it makes us a major player in it. I think it's probably the largest player in it. One of the things that was really exciting to us is they kind of have a slightly different angle on this business than we do. And when combined, I think we have a great product footprint for the market. If you think about what MK was really good at, it was collecting this data. They had a very unique way of doing it similar to Visual Compliance, it's funny enough. And once they collected that data, what they were really best at was putting it in a SAP and Oracle format so that SAP and Oracle customers could easily digest it. They were also good at something called bulk screening, which is you send me a gigantic list of all of your customers' number Feet Data is very good at doing one time bulk screens. The Visual Compliance, they're very good at is rapid transaction processing of high velocity shipments. And so you're a customer that has a lot of partial shipments, let's say, about e commerce shipments, which is kind of increasingly important in the world. Visual Compliance has set a tool set up that makes that very easy for you to rapidly send individual screens to them. Hey, I'm about to send this package. Before I do, let me make sure that this customer I'm allowed to send it to and answering that question very accurately and quickly. And together, we think that's a great opportunity and creates the best company out there to do this with, and then with the widest footprint. So that was the part of this that was exciting to Descartes and I think puts us in a very good position in the market competitive. Okay, great. And on their growth rate, the 10% that they've done sort of on average in the last few years, where has that come from? Is that been mostly market or is new have they introduced a bunch of new products? Just kind of give some color on that would be great. I think it's largely going out and doing a good job of selling the product, much as we have with MK Data. They're in a market that knows that what they do is becoming increasingly important. The governments of the world are telling our customers that, hey, you better pay attention to this. And much as we have, they've done a pretty good job of going out and capturing that market and as a result have seen nice correct rates for a bunch of years now. Okay, great. And then just Alan, just on the taxes, how many years do you think it's going to take you? Or can you get the bulk of that benefit in the next, say, 3 years or so, that $80,000,000 And also the you mentioned there Ed mentioned the 75% of the $40,000,000 revenue run rate could be recognized next year. Is that accounting recognition? Is that what's setting that back? Well, I'll start with the tax comments. So a lot of the tax benefit that we talked about, we'll experience over the next 6 to 7 years. And then there'll be additional tax benefits that carry on for a number of years after that. To your other question with respect to the revenue, no, I think what we're referring to there is that about 75% or so of the revenues of this business are in our core sort of services or recurring type of business revenues, and the rest come from other areas of the business. That's what we're referring to there as we talk about the split of revenue. Got it. Thanks for clarifying that out. Our next question comes from Philip Wong from Barclays. Hi, good morning. First question on the bounces around from year to year? It's relatively consistent year to year. Okay. And then on the synergy for the collection of data, so to keep coming back to this, now that you've got such a critical the largest player in this sort of space, do you expect to have even higher margins than what you're able to obtain with empty data data mining group of companies in this category going forward? We expect the margins in this and all of our data content businesses to keep growing as we get more customers. That's the way these businesses work. That's why we like them so much. We didn't buy just because of the synergies, right? The synergies exist. They're not massive, but we both spend money to collect data content and it's obvious to us that we could probably cut some costs in the process of doing that. We're probably much more focused in this case given the way these businesses operate and their high margin profiles are getting new customers to make sure that we have a great data set and that we only add to that data set by putting these two businesses together. The cost benefits that we get from it are going to be nice to have, but certainly not the focus of or anything to do with why we really bought it. Just another nice opportunity to save some money. Got it. Okay. And then you mentioned cross selling is obviously a good opportunity. Are there any specific segments that you kind of see as easy cross sells initially for the company? I know you mentioned expanding to colleges and universities. I was wondering if you could talk about maybe some verticals that would be easy cross sells. Well, I mean, look, Visual Compliance is 2,000 customers that now have in a couple of weeks, they're going to have access to all the things that we do on the global logistics network. So that could study best. That always works out well for us when we have a bunch of companies that are focused on logistics and supply chain type transactions. And we're able to come in by that company and say, hey, I've got 250 listings that you can take a look at. But we all kind of built a look in conjunction with this. I think the obvious one is the customs info tariff and duty database, right? A lot of times people are thinking about what are the tariffs and duties and who am I allowed to send stuff to at the same time. So I think that's the first thing we'll see us do is go around to our customer base and say, hey, we also want customs info. Let me show you how that works. And much like we do to our customers, we'll be doing the same thing to their digital compliance customers. Got it. And last one for me. You talked about the different strengths of each of the businesses compared to Visual Compliance. I was wondering if you can talk about some of the intangible stuff in terms of how the businesses are run to cultures versus empty data and data mining testing. Do you just thinking in terms of integrating the businesses, wondering if you think about some of the key areas that you might focus on so that you can realize all the synergies that you're talking about. Thanks. Sure. It's remarkable how similar it is to M3 Data. If you remember back when we bought M3 Data, there was we made a lot of comments about how the cultures of the 2 companies are similar, how they were very focused on profits, Descartes is. And I think a lot of those things are true for Visual Compliance as well. If you run back on NK Data, we thought, hey, if there was anything to do here, it was maybe to spend a little bit more money on sales and marketing to try and get customers in the door I think you saw us do that. I think we started to combine some of the sales forces and these content businesses together, particularly with customs info. We had maybe spent a little more time, energy and money on sales and marketing over the years and saw a lot of synergies between those two businesses to approach a customer as one group. I think you'll see us do make similar moves with Visual Compliance to try to get the company going even faster because it's so profitable to do that, right, with each new customer coming in, being very profitable for us, it makes a lot of sense for us to make sure we can get every customer we can get our hands on. And I think you'll see make that move. Visual Compliance has done some of that, maybe a little more aggressive than MK had in the past, but I think you'll see us do it even more so. We have no further questions at this time. I'd like to turn the call over to Ed Ryan for final remarks. Great. Thanks, guys. As you can hear, we're very excited about this and look forward to giving even more detail on it in our conference call coming up in early March, where we'll announce the results for Q4 fiscal year 2019. Until then, have a great time, and we'll look forward to reporting back to you in a couple of weeks. Have a great day. Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.