Earnings Call: Q4 2019

Dec 13, 2019

Good day, ladies and gentlemen, and welcome to Enghouse's Q4 2019 Conference Call. As a reminder, today's conference is being recorded. At this time, I would like to turn the conference over to Steve Sadler, Chairman and CEO. Please go ahead, Mr. Sadler. Good morning, everybody. I'm here today with Vince Massoud, Global President Doug Bryson, VP, Finance Todd May, VP, Legal Counsel and Sam Manager, VP, Corporate Development. Before we begin, I will have Todd read our forward disclaimer. Certain statements made may be forward looking. By their nature, such forward looking statements are subject to various risks and uncertainties, including those in Encho's continuous disclosure filings such as its AIF, which could cause the company's actual results and experience to differ materially from anticipated results or other expectations. Undue reliance should not be placed on these forward looking statements and information and the company has no obligation to update or revise any forward looking information whether as a result of new information, future events or otherwise. Thanks, Todd. Doug will now give an overview of the financial results. Thanks, Steve. Yesterday, Enghouse announced its 4th quarter year end financial results for the period ended October 31, 2019. Revenue increased to $385,900,000 for the fiscal year compared to revenue of $342,800,000 in the previous fiscal year, resulting in another record year for the company. Revenue includes $219,600,000 from hosted and maintenance services, an increase of 14.9%. Operating expenses were $155,100,000 for the year compared to $136,200,000 in the prior year as the savings related to operating cost synergies were offset by the incremental costs related to acquired operations. Results from operating activities were $112,000,000 compared to $103,200,000 last year, a 13.9% increase. Operating expenses include special charges of $1,200,000 compared to $400,000 last year and reflect the costs related to the acquisition restructuring. Net income for the year was $70,800,000 or 1.29 dollars per diluted share compared to $57,700,000 or $1.06 per diluted share in the prior year, an increase of 22.7%. Adjusted EBITDA for the year was $115,600,000 or $2.10 per diluted share compared to 1 $106,000,000 or $1.94 per diluted share last year, an increase of 9%. 4th quarter revenue was $109,300,000 a 27.4% increase compared to revenue of $85,800,000 in the Q4 of the prior year. The revenue increase primarily reflects contributions from acquisitions. Results from operating activities were $32,500,000 compared to $27,300,000 in the prior year's 4th quarter, which reflects the impact due to changes in product mix on gross margins and strong operating margin contributions from acquisitions. Net income for the quarter was $24,700,000 or $0.45 per diluted share, an increase of 26.3 percent from 19,600,000 dollars or $0.36 per diluted share last year. Adjusted EBITDA for the 4th quarter was $34,000,000 or 0 point 6 $6.2 per diluted share compared to $27,900,000 or $0.51 per diluted share last year with the increase being primarily attributable to incremental revenue contributions from acquisitions. Operating expenses before special charges related to restructuring of acquired operations were $43,700,000 compared to $33,500,000 in the prior year's 4th quarter and reflect incremental operating costs related to acquisitions. Non cash amortization charges on acquired software and customer relationships acquired operations were $9,200,000 for the quarter compared to $6,400,000 in the prior year's 4th quarter. Enghouse generated cash flows from operating activities of $21,700,000 compared to $24,000,000 in the Q4 of the prior year and $81,400,000 for the year compared to 90 $8,300,000 in the prior year. Cash flows from operating activities excluding changes in working capital were 33 $900,000 compared to $29,500,000 in the Q4 of last year, an increase of 14.9%. For the year, cash flows from operating activities excluding changes in working capital increased 9.5 percent to 118,500,000 Working capital adjustments reduced operating cash flows by $12,100,000 in the quarter $37,100,000 annually largely as a result of settling liabilities assumed from acquisitions. Enghouse closed the year with $150,300,000 in cash, cash equivalents and short term investments compared to $193,900,000 at October 31, 2018. The cash balance was achieved after payments of $21,900,000 for cash dividends, an increase of 19% from the prior year as the company increased its dividend for the 11th consecutive year. The cash balance is also after the completion of 6 acquisitions in the year at a cost of $101,200,000 net of cash acquired. These complementary acquisitions increased revenue while expanding Enghouse's product portfolio and local presence in new countries. Late in Q4, Enghouse completed the acquisition of Eptica, which further expanded the company's footprint in France and added customer engagement software solutions powered by AI to the company's interactive portfolio. Finally, yesterday the Board of Directors approved the company's Elvorsville quarterly dividend of $0.11 per common share payable on February 28, 2020 to shareholders of record at the close of business on February 14, 2020. I'll now hand the call back to Mr. Sadler. Steve? Thank you, Doug. As Doug noted, we closed the quarter with over $150,000,000 in cash and short term investments after paying approximately $7,000,000 for Eptica October 22 just before the year end. It should be noted a holdback of $3,200,000 may also be needed for the Eptica purchase. Cash flow before working capital was $33,850,000 in Q4 compared to $29,500,000 in the prior year, an increase of $14,700,000 It's noted that net cash flow for operating activities was 21,700,000 dollars as income taxes paid increased with the added profitability and payments were made related to liabilities and provisions from pre acquisition activities. Revenue was as expected in Q4, although it was negatively impacted The balance sheet also had a small loss on foreign exchange in Q4, but was basically neutral for the year on the operations. Loss due to foreign exchange was about $4,300,000 from revenue and cost was the reduction was about $3,000,000 for the entire year. We have reasonable operational hedging. Fiscal 2019 had 2 large acquisitions in May. Both these companies had substantial losses over the last 10 years. As noted last quarter, the results of these acquisitions were EBITDA positive in the last quarter and in Q4 they both achieved our targeted EBITDA margins. For Espial, we continue to invest in IPTV and expect revenue to improve in the second half of fiscal twenty twenty. For video, we are planning to invest more in sales and marketing, especially in our international operation to improve growth. This will take time and cost to achieve, but we already have a global business structure on which to build. Ethoca was closed October 22, 2019 and had minimal financial impact on the quarter since it was completed so late in the quarter, but it did reduce our cash balance. For acquisitions in general, economic and market factors in our serviced industries continue to support our acquisition strategy and meet our acquisition financial payback criteria with strong return on invested capital. We continue to focus our capital deployment activities as well as positioning to improve internal growth in future years. I will now open the call for questions. Thank We'll now take our first question from Daniel Chan of TD Securities. Please go ahead. Hi, good morning guys. So you've got about $150,000,000 of cash and you generated about $80,000,000 of free cash flow this year. If we add back the $30,000,000 of operating cash flows from settling the liabilities that came with the acquisitions, that puts you at, call it, an adjusted free cash flow of about $110,000,000 for the year, and that's likely to be higher next year following the integration of these acquisitions. Do you think the opportunities in your acquisition pipeline are large enough for you to use up all your capital or are you considering any alternatives for the capital outside of acquisitions? Yes. Just I think the exact number is about 118 for the cash flow, if you add that back 118,000,000 dollars And we are seeing good opportunities as long as they can meet our financial criteria. We're comfortable that we can deploy at least some of that cash next year. Whether we deploy it all or not, time will tell. So I guess my question is, if you're not able to deploy at all, what are your thoughts on using the rest of it? Save it for next year to deploy it. Okay. Sounds good. And then also From a dividend point of view, we do look at the dividends in March and we have increased it every year for the last 10. So possibly the dividend will go up a little bit, some will be used for that. And we're sticking to our general formula where most of the cash we generate goes to acquisitions and about 15% to 20% goes to the dividend. And since our EBITDA is increasing, the dividend generally increases. Okay. Thank you. Switching over to AMG, in Q3 you mentioned there were some delayed deals. Just wondering if you were able to close those deals in Q4? All closed in Q4. There's always some deals that flow quarter to quarter, but there was a little bit more in Q3 and they closed as expected. Okay. And final question for me, just to get update on the IMG Microsoft Teams integration, how is that going? Going pretty well. We basically have the integration done. As we said in the last couple of quarters, we're now there's still always things to do in getting the APIs from Microsoft finished, but we are now actively starting to sell it. And beginning in Q2 it should help our revenue. Great. Thank you. Thank you. We'll now take our next question from Paul Steep of Scotia Capital. Please go ahead. Good morning. Steve Urmans, could you talk a little bit just about the organic initiatives? It looks like things have gone well this quarter in Interactive. Maybe how you're feeling about the build out of the lead gen engine and walk through what you've done over the last sort of 18 months and where we're at, where you feel you're at today and the outlook going forward? I'm going to pass it over to Vince, but this does take time to do. Demand gen, you've got to put you've got to start building things online, so people will understand what you do. We've done we've started that, we've done a lot of it, but it does take time. Maybe, Vince, you can go through what you've been working on. Yes. Just to continue on what I have said previously. So the demand gen part is part of us also going more direct. So that's moving along nicely. We are doing more on customer success in terms of selling to our large customer base, cross selling, that kind of thing. So overall, the progress is going pretty well. And generally speaking, you're starting to see some of those results happen. So like Steve said, it takes time and we're making some good progress there. On the direct sales force on that side, how far is the build out sort of through Vince? Are we are you still in the process of trying to recruit and build out the organization? Or you feel like, okay, we've done the building out and now we're just giving people time to season and sort of build a pipeline? Well, we've built out some of the direct sales force. What we're adding now, like Steve mentioned, is some direct in video in Europe. We think there's a big opportunity to sell video in the European market. So we'll be adding some more direct salespeople in Europe as well to sell the video product. So that's kind of still new. But the other direct sales teams are built out quite well over the last 18 months. Great. Maybe just on to margin upside. Obviously, Steve, you did a great job with video and eSpiel getting some cost out there. How should we think about where you're at in the progress of that? Have we sort of hit the full inflection point of you removing those costs or is there more to still come in terms of some opportunity for margin upside? We're pretty much at the margin, our standard margin plus a little bit. And now our objective for both was let's get the operations profitable. They hadn't been profitable for 10 years, get them profitable and then look at the cash we're generating and see how to re deploy that back and to grow the business and grow the operations. Again, for a spiel in IPTV, that's probably coming out for the second half of the year and we're still investing in that. So not much change there. For video, the margins actually are a little better than I would expect And we've got to invest, as Vince just said, in some of our global sales and marketing to grow the business a bit more, which again, it almost takes a little bit of time. So usually there's some cost before you get the benefit of extra revenue. But the margins are there now, we don't see really anything more to improve the margins, other than hopefully we can grow the video, but it will cost a little bit to do it. Okay, great. And then I'm not sure if I caught you. You went a little fast at the beginning. And so apologies if I grabbed the wrong one here. You talked about further investments. I know around IPTV, maybe talk about what that looks like into next year in terms of what you're actually building and when you think you'd have a product in market or if it's enhancements to the existing solution eSpiel had in market? The spiel was mainly cable. So it's actually a new product that goes for TV over the Internet. They were working on it and we continue to expect the product will be for first release around the Q3 or early in Q3, April, May next year. We already have interest in the product. One could say orders, but let's wait till we get the product all finished to make sure it does what everybody wants, which will be in the second half of next year. Great. And then just the last quick one for me, Steve. In the quarter, I know you had to recognize some of the licenses point in time. Should we think about next year when we anniversary that, that there's potentially a bit of a gap or no, those are orders that might have an annual cadence to them in the future? Is there a bunch of volatility? I know that was forced on you by the accountant's choices. Yes. Accountants like to change the rules, but we're pretty steady. We don't see any big impact plus or minus from that now. The 1st year is always tougher. We had to take some that we could not recognize in the prior year, about $2,200,000 that we did last November. So I think we're fine. It's pretty steady now as we go forward. Okay, great. Thanks guys. Happy holidays. Thank you. Our next question comes from Deepak Kaushal of Stifel GMP. Please go ahead. Hey, good morning guys. Thanks for taking my questions. Steve, I just wanted to follow-up on Paul's question on margins. So if 30% is your standard corporate rate and you're investing a little bit in sales and marketing and video next year, will that dip cause margins to dip below that standard rate or can you do that within the standard rate? First of all, our standard rate, which I usually tell everyone is 25% to 30%. So we're doing a little better than what I would say our standard rate is right now. We do have to invest a little bit into a video, but we do have a global infrastructure already in place. So it's not as much as a lot of other companies might have to do. If the revenue depends how fast it picks up, what happens to those margins? Initially, it would be a bit of a drag on the margin. So we might drop a little bit below 30%. But as revenue picks up, we should be back and above. But as I constantly mentioned, as we do acquisitions, they usually negatively impact the margins for a couple of quarters as we integrate them in. We happen to integrate both Espial and video, both large troubled companies very quickly. So that's why our margins are back up where they are, But depends on what we do with acquisitions in the future, what happens to those margins. So if we continue to do some more, they probably will come down a bit. Our Eptica didn't impact the margins very much negatively because there wasn't really much structure to be done, which as you know in France is very expensive. So we look for companies, we assess all those factors. So we're doing okay if margins are 30. We've always said you should think about 25 to 30. We've been beating it a lot, but it depends a lot on acquisitions and how much restructure we have to put through. Okay, that's helpful. Thanks. Yes, of course, notwithstanding future acquisitions. So a couple of follow ups. M and A, are you seeing any change in the dynamics from private equity, either competition or in terms of selling the M and A side or any new things on the video side since you've bought Ispial and Vidyo? Well, you know in Vidyo, there is a company called Zoom that trades about 20 times revenue and they're the market leader growing quite quickly. For us what that means it's a very good market and a big market, looking at their growth. So we don't see any difference there. In fact, sometimes that can help you because when you've got a large company doing well, there's capital allocator, so that may give us some opportunities. But we'll have to wait capital allocator, so that may give us some opportunities, but we'll have to wait and see. I think the rest of it, it's about the same it has been for a couple of years. Private equity has a lot of money and are active, but generally on bigger deals. They really we don't see them if the revenue is not $50,000,000 to $100,000,000 and mostly over $100,000,000 So under $50,000,000 where we generally play, they don't have a big impact. They've gone for bigger deals, but they do have money to spend. Okay, excellent. And then I know I've asked you about the potential risk on Brexit, but now we might have more clarity on that happening after yesterday. So given there's more clarity on Brexit, are there any opportunities that this kind of cements in your mind for your UK business and Europe in general? Haven't seen much impact one way or the other. Never thought of it as a big issue for us and actually don't see it as a big benefit for us either. So unless a company moves their contact center to another location and then has to buy another system, but that it's way too early for all that. So not really negative and not really positive other than its impact on foreign exchange. Okay, excellent. Thank you. Our next question comes from Stephanie Price of CIBC. Please go ahead. Good morning. Was hoping you could talk a bit about the Eptica acquisition in terms of what it was growing at pre acquisition, the revenue it brings and how you see it fitting in? So I think is a little bit unusual. I've said pretty open in the past, France is a hard place to do business. But this is a pretty good company that had some software that actually ties to contact centers. So we believe that we will and pretty good recurring revenue. So we believe that we can see this as a base for us in France to bring our contact center software in there. They have a group who can sell it and it's with our strategy of think globally, but act locally. Everyone's putting all countries and regions are putting bubbles over themselves, including the U. S. Now. And so we're in the countries, with support, with professional services, with management, and we see getting into we weren't in France really. We had a couple of customers, but now we can move in there. Video, we had a large customer there. So they will take on those customers in France and hopefully we'll improve revenue with our local presence. Okay. And then And then in terms of margins in the IMG division, they were stronger than we were anticipating. Is that mostly video integration or were there other kind of drivers of that margin in IMG this quarter? Yes. I don't know how you anticipated it. So it's a hard question for me to answer. Fair enough. Did you see any other one time But let me say the video margins were quite good and certainly at or above our normal margins as was the Espial margins. I mean, if I looked at the quarter anything, we took 2 large companies that never made money, had them break even after a few months and have them at our margins in the next 3 months. That's pretty good. And a lot of credit goes to all the staff will help get that done. Perfect. Thank you very much. Thank you. We'll take our next question from Paul Treiber of RBC Capital Markets. Please go ahead. Thanks very much and good morning. Just wanted to follow-up on the last comment you made just in terms of the integration, the pace of integration at Vidyo and Espial. You mentioned it's faster than the 4 quarter target that you typically have. Why could you elaborate on why the integration was so smooth and so much faster than the typical target? And then could you also speak to the impact, positive impact perhaps that your new financial systems are having in terms of integration? Okay. I have a couple of questions there. Remember I told I said before the deal even closed, action was taken to restructure their business. They were looking at doing that restructuring and then we of course did what they said and then trying to us did a little bit more. So it started earlier than normal. Usually you buy, you don't start until after you buy. Just one here, they both were troubled companies and were having to take some action themselves. So that's it started a little early. And then once we got into it, look, you just you sort of answered the question about the financial systems. We said we did a lot of that work over a couple of years and it was a little painful, so we could bring acquisitions in faster. I guess all I can say is it shows that we can do it. So we are bringing acquisitions in faster and we have taken their systems and put them all on our systems already. So we did that before the end of the year, had it audited. We're just getting a little better at it. Okay. That's good to hear. Just and also when you acquired those 2 companies, you gave a comment that the businesses would generate $70,000,000 to $75,000,000 in annual revenue going forward. Is what you saw Q4 consistent with that? And then looking forward, is there anything that you're seeing right now that would lead you to revise that outlook either up or down? Yes, it's very consistent with that, maybe a little on the high end and depends how well we move the video, how well internationally we can develop that business. The spiel I don't until the last half of the year and it always takes a little bit longer. So I don't see a lot of growth from that in the current year. We'll have to see how the new product works. And on the video side, we're hoping we can get a faster start because we do have an infrastructure, a global one with people in all those countries. So we don't have to add much cost, 1 or 2 salespeople, maybe a support person to start developing the product in those companies. We don't have to set up. We've already got management. We've already got support. We've got professional services and we got salespeople, but we do have to add a bit more in the sales and marketing side because it's slightly different than our contact center or our networks products. So we have to do that. It depends what happens there. We're usually pretty conservative, but it is a challenge to do that. And you've got a pretty big and good competitor in Zoom, although they're mostly U. S. So they don't I'm not sure that they have the same structure that we do. And I think local markets too tend to like having staff locally to support them. All right. Thanks for taking my questions. Thank you. We'll take our next question from Deepak Kaushal of Stifel GMP. Please go ahead. Hey, sorry guys. Thanks for taking my follow-up. Steve, just on your comments on Zoom, just kind of piqued my interest. Just kind of wondering if you could remind us on Vidyo, if how their technical infrastructure, are they fully cloud based? Is it totally SaaS? What are the differentiating or common features you have with a competitor like Zoom? So Zoom is really SaaS, cloud based. We're both. So we were they were on premise and had slowed it down for a couple of years. So we're still investing in sales and marketing. You'll notice our R and D is up because of that, because just fixing up their system. They were doing partly a new system, but they have a system that can be on premise or in the cloud and we're happy to do either one for the customers. We do have to make it a little bit more robust. We got to catch it up a bit. We've been working on doing that and we'll continue to. But pretty good shape. We're in the cloud and like everything we try and do both, let the customers choose if they want to be in the cloud or SaaS. Okay. And what percentage of your existing customers prior to Vidyo were overlapping with their product? Hard to say. Haven't gone all through that because it's sort of different groups. But I would say most of our customers did not overlap. They brought new customers to us, banking, hospitals, we weren't big in those two areas. So a lot of the customers were basically new. Okay, excellent. That's helpful reminder. Appreciate it. Again, I'll pass the line. Thanks again. Thank you. It does not appear we have any further questions at this time. I would like to turn the conference back over to Mr. Sadler. Thank you. Well, thank you everyone for your continued support and have a Merry Christmas and a happy holiday season. Ladies and gentlemen, this concludes today's call. Thank you for your participation. You may now disconnect.