Welcome to Ooma's discussion of the 2600Hz Acquisition. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. To ask a question during the session, you will need to press star one one on your telephone. To remove yourself from the question queue, please press star one one again. I would now like to hand the call over to Matt Robison.
Thank you, Latif. Good day, everyone, and welcome to the corporate update call of Ooma, Inc to discuss the acquisition of 2600Hz announced this morning. My name is Matt Robison, Ooma's Director of IR and Corporate Development. On the call with me today are Ooma's CEO, Eric Stang, and CFO, Shig Hamamatsu. This morning, Ooma issued a press release announcing the acquisition of 2600Hz. This release is available on the company's website, ooma.com. This call is being webcast live and is accessible from a link on the Events and Presentations page under the News and Events tab of the Investor Relations section of our website. This link will be active for replay of this call for at least one year. During today's discussion, our executives will make forward-looking statements within the meaning of the federal securities laws.
Forward-looking statements generally relate to future events or future financial or operating performance. Our expectations and beliefs regarding these matters may not materialize, and actual results are subject to risks and uncertainties that could cause actual results to differ materially from those projected. These risks include those set forth in the press release we issued today, and those risks more fully described in our filings with the Securities and Exchange Commission. The forward-looking statements made today are based on information available to us as of the date hereof, and we disclaim any obligation to update any forward-looking statements except as required by law. Please note that other than revenue or as otherwise stated, the financial measures that may be discussed on this call will be on a non-GAAP basis.
The non-GAAP financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with GAAP. Please refer to our Q2 earnings release, which is available on our website and discusses our presentation of non-GAAP financial measures generally. Ooma is in the third month and quiet period of its fiscal third quarter, and management does not intend to discuss guidance or other topics unrelated to the 2600Hz acquisition. We expect this call to be complete by 8:15 A.M. Pacific Time. Now I will hand the call over to Ooma CEO, Eric Stang.
Thank you, Matt. Hi, everyone. Welcome to our call today. We're here to discuss the exciting news that Ooma has acquired 2600Hz. I'd like to share with you today the background and rationale for this acquisition, how this acquisition repositions Ooma strategically, and the expanded opportunity created by integrating 2600Hz into Ooma. For background, 2600Hz provides open source, core calling functionality, named Kazoo, that is in use today by many telecom providers. Kazoo stands out for its modern, API-based architecture, which allows providers to develop their own applications and integrations utilizing the Kazoo core calling functionality. Since initially launching Kazoo over a decade ago, 2600Hz has expanded to provide its own non-open source suite of pre-built UCaaS, CPaaS, and call center applications.
Telecom providers have the choice of relying solely on open source Kazoo and building applications themselves, or contracting with 2600Hz for a more complete solution. 2600Hz today provides hosted cloud, private cloud, and customer-operated solutions to approximately 130 paying customers who serve hundreds of thousands of end users. The company runs data centers in 8 locations spread across North America, Europe, and Oceania, maintains a workforce of about 110 employees and contractors, and has revenues of approximately $7 million annually. In addition to recurring revenues, typically billed on either a per-user or per-use basis, 2600Hz also earns professional services revenue through paid engagements to assist customer adoption. Ooma and 2600Hz have been close partners for over a decade, going back to when the Kazoo open source functionality was first launched.
We employ Kazoo in our business solutions, and our two companies have collaborated over the years in a variety of ways, particularly in regard to product roadmaps, quality assurance, and engineering. As such, we know Kazoo and the founders and team at 2600Hz extremely well. At times in the past, we looked at acquiring them, but the timing was never right until now. Recently, 2600Hz was approached by another party, and that prompted a restart of our dialogue together. Through that dialogue, we identified a compelling business rationale to move forward in the market together, and the 2600Hz founders agreed to proceed. At the core of our rationale is the opportunity we see as a wholesale provider in the marketplace, driven by the unique position 2600Hz has in the industry and Ooma's ability to enhance 2600Hz's offerings and credibility.
In the marketplace today, there are carriers and others looking for UCaaS, CPaaS, and call center, and even contact center solutions. Their choices are surprisingly limited. For carriers and others who want to build upon and operate a modern designed platform that is customizable, we believe 2600Hz's Kazoo stands out versus competition. Kazoo offers open APIs for developers to build their own custom applications and is proven to scale. We believe Kazoo truly is the wholesale solution for the future. As a small company, 2600Hz has been held back by lack of resources on the application side of its business, and perhaps more significantly, lack of business scale credibility with larger potential customers. Ooma directly addresses each of these challenges. Ooma's engineering and the applications we've developed can improve and expand the paid applications now offered in the market by 2600Hz.
Large corporate customers can trust that Ooma, an established public company, can be relied upon when they make long-term strategic decisions. By enhancing 2600Hz's applications through leveraging what Ooma is also developing, and by bringing supplier credibility to 2600Hz, Ooma can drive growth in the number and size of telecom providers utilizing 2600Hz technology. Furthermore, by virtue of bringing greater international reach to 2600Hz's business, Ooma can engage a larger market opportunity as well. Secondly, and also at the core of our rationale for this acquisition, 2600Hz fundamentally enhances Ooma's strategic position. Ooma today is increasingly developing deep relationships with carriers and other partners.
Through our partnerships with T-Mobile and U.S. Cellular, and through the conversations that AirDial, in particular, is driving for us with other carriers and partners of all types, we are engaged in exciting opportunities and understand what carriers need from a partner. We believe there are carriers and other partners who want to work more closely with us, not only for AirDial, but across all of our solutions. By owning 2600Hz, we place ourselves in the strategic position to control and direct 100% of the technology stack to benefit our existing and hopefully new to come, carrier and other relationships. We have the strategic position to direct a complete engineering program to meet complex requirements and to enable deep and long-term partnerships.
These two factors, our ability to make 2600Hz more successful in the marketplace, and the new strategic position Ooma can now bring to large partnerships, are what make this acquisition compelling to us. Nonetheless, on top of these two drivers, there are also other material benefits to be had. Technologically, 2600Hz increases Ooma's capabilities and speed to market. For example, 2600Hz has developed an integration into the IP Multimedia Subsystem, or IMS core of a major carrier. This required significant development effort. They have interesting AI and contact center applications in development, among other initiatives. 2600Hz provides CPaaS solutions, such as powering a WebRTC client connected to an existing contact center solution, which they do for a large corporate customer today. Their strong engineering team will allow Ooma to move faster and do more.
At the same time, there are areas of engineering overlap as well, where synergies can be realized. We estimate Ooma would be able to repurpose or save over $2 million of engineering spend per year. Eventually, this could amount to as much as $4 million per year. This amount of savings is significant to our financial outlook. Similarly, Ooma can bring its lower cost structure and scale to improve 2600Hz's business. Our lower cost of providing service can be used to create new products and services for sale across 2600Hz's customer base. This could lead to a material increase in revenue for 2600Hz over time. Our first step is, of course, to integrate 2600Hz into Ooma, with particular focus on combining the engineering roadmaps.
Our initial actions will be directed toward both growing 2600Hz and making it adjusted EBITDA accretive within six months. I will let Shig provide more information in a moment, but first, I want to mention that 2600Hz's annual customer conference, called KazooCon, takes place this week in Las Vegas, starting today and going through Wednesday. We're looking forward to talking with everyone at the conference and hearing how we can make Kazoo even more valuable to them. We're also excited that 2600Hz will be making some important new product announcements at the conference. I'll now turn the call over to Shig, our CFO, and then return with some closing remarks.
Thank you, Eric, and good morning, everyone. I'm going to spend a few minutes providing details about the financial aspects of the 2600Hz transaction. We paid $33 million in cash to acquire 2600Hz, and there are no contingency payments for this acquisition. Additionally, following the closing, certain former 2600Hz employees who join Ooma will be granted equity awards, subject to vesting conditions.
With regard to funding of $33 million cash purchase price, we used approximately $15 million of cash from our balance sheet, and the remaining $18 million came from a new $30 million revolving line credit with Citizens Bank, which was put in place just prior to the closing of this acquisition. The new credit facility has a two-year term, and the borrowing under it will bear interest rate based on SOFR, that is S-F- SOFR, excuse me, plus applicable margin, or approximately 7.4% today. The additional details on the credit facility will be available in a Form 8-K to be filed after the close of the market today, as well as in a 2023 Form 10-Q to be filed in December.
As Eric mentioned, 2600Hz is expected to add approximately $7 million of recurring revenue on an annual basis initially. For Ooma's fiscal third quarter, ending October 31, 2023, we anticipate 2600Hz will contribute approximately $0.2 million of revenue and $0.4 million of non-GAAP expenses, both of which represent estimates for the last 11 days of October. As was the case for our past acquisitions, we will be undertaking a number of initiatives to realize operational synergies. We expect 2600Hz operations to be accretive to our adjusted EBITDA within six months and make increasing contribution to our overall adjusted EBITDA in subsequent periods. As for the impact of this acquisition on our fiscal fourth quarter, fourth quarter, we look forward to providing more details during our next earnings call. I'll now pass it back to Eric for some closing remarks. Eric?
Thanks, Shig. We feel this is truly an exciting time for Ooma. Three considerations are driving our excitement. The first is we see significant potential for growth as a wholesale provider and believe we have the market-leading solution to do so. Furthermore, with Ooma's engineering capability, applications, and international reach, we can strengthen 2600Hz's competitive position and potential for growth. Second, we feel our combination with 2600Hz significantly enhances our strategic position and better enables us to serve the fundamental needs of large carriers and other partners efficiently and with total in-house control over technology, development roadmaps, and service delivery. And thirdly, we believe we can capitalize on significant operational benefits. Technologically, for example, we now can add improved call center and soon contact center applications to our business, and we strengthen our ability to provide CPaaS applications for customers.
From an R&D standpoint, we can drive expanded development and/or spending savings by leveraging our activities now over the full wholesale customer base with 2600Hz. While not the primary reason for this acquisition, these operational benefits alone can have a significant impact on our financial results. Thank you. We'll now take questions.
As a reminder, to ask a question, you will need to press star one one on your telephone. To remove yourself from the queue, you may press star one one again. Please stand by while we compile the Q&A roster. Our first question comes from the line of Mike Latimore of Northland.
Great. Great, good morning. Yeah, congratulations on this, this deal here.
Thanks, Mike.
I guess on the historic relationship between your firm and 2600Hz, can you just elaborate a little bit on how tightly integrated their technology is with yours? You know, sort of all of your customers leverage some of what they have? Just trying to get a sense of, you know, that historic relationship.
Sure, Mike. Yes, we started out the development of Ooma Office and Ooma Enterprise, by the way, is the same. But we started out developing Ooma Office, utilizing their open source technology for core calling functionality, and have built the user applications and really all the things people do with our platform on top of that open source. So it is fundamental to our solution. One of the benefits of that is that everything we've developed can also be applicable to all the other open source customers of 2600Hz, and gives us the ability to leverage R&D across a much larger base of customers now.
Got it. That makes sense. Okay. And then just on the revenue model, can you touch on that a little bit more? I think you said it was both seat and usage-based. I guess, what's the mix? You know, how variable is their revenue? You know, how much is truly recurring versus maybe usage-based? And then, you know, what has been the growth rate of their business?
Yeah. So, you know, they earn revenue from customers who have decided to take advantage of the proprietary applications that they've built on top of their open source. And there are a lot of customers out there who just use their open source. I think those customers in themselves are an opportunity. Some of those companies are by... I mean, you can debate what's sizable, but by our perspective, sizable. And so, their customer base is a combination of folks who have chosen to utilize their paid applications and those who could in the future. Almost all the $7 million is recurring revenue to them today. Their revenues do fluctuate some with whether they have a new engagement and are doing professional services for that customer. They have had substantial professional services revenue in the past.
Currently, they do not have much going on. Almost all the $7 million is recurring revenue. We're optimistic that as we help them garner new customer opportunities, new paid customer opportunities, we'll be able to drive both recurring revenue and more professional services revenue.
Got it. And then, has their revenue been growing, stable, declining?
It's fluctuated with-
Mm-hmm.
the new engagements that they've brought on board. We have talked to them over the years, and years ago, they were substantially smaller. So I think if you look at it over, you know, a time period, they've been steadily growing. And their existing customers do grow each year, and have been a solid base for them.
Yeah. Okay. Very good. Thank you.
You bet.
Thank you. Our next question comes from the line of Josh Nichols of B. Riley.
Yeah, thanks for taking my question. Just to dig in a little bit deeper, is the company's gross margin profile similar to that of Ooma's, at least given that most of this business is recurring, whether it's from seats or subscriptions?
Hey, Josh, thanks for the question. So, you know, their recurring margin is lower than Ooma's, and, you know, we got a number of synergy initiatives identified, as I said earlier, and so, you know, we're gonna be taking on those projects pretty quickly here. So, you know, similar to kind of a onset margin profile, we've been improving over time, even though this is a wholesale market we're talking about on recurring margin. But, you know, it's lower than Ooma, and I think over the next, you know, several months to 18 months, you know, we wanna get it up to closer to upper 60%-70% range, which is much closer to Ooma's recurring profile.
Yeah, thanks for clarifying on that. And good to hear, but there's this up relatively quickly to be realized, hopefully $2 million in engineering spend per year. Is that really gonna be one of the key drivers that gets you to breakeven EBITDA contribution within the first six months or so?
I think there are two key drivers. That is one, the synergies, operational benefits, as we look at all the different things they and we are developing. The second is just the core calling services that they provide their customers today. Our cost structure is much, much less than theirs, and we can bring cost of goods sold line synergies to them. And frankly, I think that can become a growing area of growth as well, because many of their customers may be using third-party solutions today, where we can help them with a better solution. So, I think it's on both sides. We wanna...
It's gonna take some time for us to think through engineering roadmap wise, where what they've built is the best way we wanna move forward, and where what we've built is the best way we wanna move forward. As we make those decisions, it'll free up resources to do other new things and to go faster as well.
Yep, and then last question from me is like: what would you say is like the biggest opportunity over, let's call it, the next 12 months? Do you think that's like, to expand the company's capabilities now as a wholesale provider, or do you think it's that you're better positioned with these large carriers that you already have relationships with, and how that could materialize to the company's growth trajectory overall?
Yeah, I think all three of the things I concentrated on are opportunities in the nearer term. We will drive operational benefits between our two organizations and be able to go faster. That's a clear opportunity that in and of itself can be financially significant. And, you know, if you look at 2600Hz's customer base, they've been more successful with smaller players in the market than larger players in the market. And that's partly based on, I think, their size and scale. And, we bring a level of commitment to this business that larger partners can depend on.
I do think that there are important opportunities out there that we're going after and going to go after, and that will be significant for us as we go forward here. How long that'll take is hard to say, and once something like does happen, there will be time involved to put the solution in place and get the customer running. But we are looking at this as certainly for its growth opportunity.
Appreciate it. Thank you. I'll jump back in the queue.
Thanks.
Thank you. Our next question comes from the line of Erik Suppiger of JMP Securities.
Yeah, thanks for taking the question, and congratulations. One, can you just talk a little bit about if there's much of a developer community that's been involved with Kazoo? And then secondly, you said that previously the timing for acquiring 2600 Hz was not good. What were the issues that prevented you from doing this previously?
There is a developer community for this solution. In fact, and I will say that the API-based design of this platform fits in well with what developers might develop for other CPaaS-type solutions out there in the market as well. It's not difficult to take code that's been written for another CPaaS solution and move it onto the 2600Hz platform, which in a way kind of expands the developer reach, even though those developers may not be explicitly developing for 2600Hz today.
But it has also been the case that when a new customer goes with the 2600Hz platform, if that customer doesn't want to do the development work themselves at the application level, they might turn to 2600Hz to help them get that done, because 2600Hz does have a significant team of very accomplished resources for that kind of activity. You know, in the past, the conversations we've had with them have been, you know. It wasn't right in the past for kind of two reasons. One is they weren't as far along as they are today.
There's a lot more overlap today between what they're trying to do for their 130 paying customers and what we're doing as a business, fundamentally, in terms of building, you know, the functionality that our customers use. And so there's more synergy today than there was in the past. And then secondly, it's all a matter of timing and valuation. They had another suitor in this situation, and I think that helped frame the deal all around, and that also, I think, helped make this good timing. I can tell you that 2600Hz, they've invested a lot in this platform over more than 10 years, and it's very capable.
And I feel like they want to take the next chapter, next step in the development of their business, and they're ready for it. And I think they realize that being an independent company of their size wasn't, wasn't as easy to take that next step. And by being part of Ooma, together, we can take that next step. And so I feel like that they've come a long way, and now is a good time to be thinking about what's next in a bigger way. And, you know, that wasn't the case three, four or five years ago, for instance. So it's, it all kind of lined up in those ways. And, you know, we're excited about this. This is something we've always thought could make sense for us, in terms of Ooma's direction.
Good. Thank you.
Thank you.
Thank you. Again, I'm sorry. Again, to ask a question, please press star one one on your telephone. Again, that's star one one on your telephone to ask a question. Our next question comes from the line of Brian Kinstlinger of AGP.
Great. Thanks so much, and congrats on the acquisition. Obviously, it's a lot of-
Thank you.
- information to digest. Last year, you acquired OnSIP for less than 1x recurring revenue, and that company was clearly EPS and adjusted EBITDA accretive. For today's announced acquisition, clearly, you're paying 4x-5x recurring revenue, closer to 5x, a valuation where few small caps trade currently. The company has been very careful in my time covering this stock and M&A, for valuation purposes and strategic purposes. So maybe if you could help identify the primary reasons that the valuation is more steep than, say, past acquisitions.
Yeah. Hi, Brian. It's simple. This is a very different type of acquisition from, say, OnSIP. OnSIP was essentially customer growth for us at a very attractive valuation, better than our own sales and marketing spend to achieve that growth. We like that kind of growth, and we're willing to do more of it, and we do see opportunities out in the marketplace for it. But this is a different nature. This is a core calling functionality technology that's that you know is gonna be valued on a different basis. Admittedly, the multiple, if you look at it as a multiple here, is significant.
But it is off a small base, and the operational synergies alone, I think, justify the price we're driving here. And what's really justifying this in our mind is the strategic position it creates for Ooma, fundamentally. We have the ability to direct 100% of the technology stack to support what we hope will be large partners for Ooma in the future. And you know, we didn't, you know, we've obviously been able to do everything we wanna do in our business using 2600 Hz as open source and doing the rest of what we've done.
For ultimate flexibility and ability to move fast and, frankly, have total control, I think we've become a lot more attractive to partners who will wanna work with us in fundamental ways. So, we feel we got operational benefits to make this make sense, and we have a position now that could lead to a lot more for us with 2600Hz. So that's what drove it, fundamentally. We actually think we got a good buy on it. I won't say more of that here, but that aside, that's why this worked out this way.
Okay. Just two quick follow-ups. The first is, can you share the trailing twelve months EBITDA losses? I know that you don't wanna discuss future. And then can you also quantify the number of shares that you'll be issuing to the key employees for retention?
Shig, I don't know how much you can comment on the first. We're still working through the second, and so I'd rather not share that here now. But, obviously, we will... That, that will be available soon.
Yeah. On a 24-month basis, you know, I'm not gonna be too specific here, Brian, but, you know, let's say they were a couple million dollars of EBITDA loss run rate. Looking backwards again, I think we're comfortable that we have a very specific actions identified already, ready to execute, and I think we've proven in the past that we're good at it, in the past acquisitions, to drive the EBITDA accretiveness. So, you know, despite the run rate I mentioned, I think we feel pretty comfortable about executing to achieve the adjusted EBITDA accretive in 6 months, as we said.
Let me add to what Shig just said. That should be taken maybe in a little bit bigger context. This company has also made money at times, and, you know, it depends a fair bit on the amount of professional services revenue they have going on with customers and also how they've staffed their business for the different things they're doing. And, we're pretty confident, we're confident that, you know, I talked about getting to adjusted EBITDA positive within six months, and we'll get there.
Well, I guess one follow-up on the professional services that no one asked: How do we think about that? Is that generally the percentage of your recurring revenue? Is it lumpy with installations? I mean, maybe a range for the last couple of years. Is it consistent generally? Just any kind of sense for what that contribution is.
It can be a seven-figure number a year. And it tends to be longer-term engagements with a partner who's putting, you know, something in place. I talked in my opening remarks about how 2600Hz developed an integration into the IMS core of a carrier, that was professional services work, for instance, by them. So, I think that, you know, as they win customers, they will drive both recurring revenue, but also the engagements to make that customer successful.
And Brian, just to add to what Eric said, it is lumpy and could be lumpy, and I don't think we can really say it's a certain percentage of recurring revenue on a consistent basis at this time.
Great. Thank you.
Thank you. I would now like to turn the conference back to Eric Stang for closing remarks. Sir?
Well, thank you, everyone. I appreciate your quickly joining us for this call today. It's an exciting time for Ooma, and we see tremendous potential here, and we're excited to get going with it. Frankly, this is a way for us to broaden ourselves in the industry in a fundamental way, and leverage the significant investment we make in our business across a broader customer base. I think, you know, we are committed to the 2600Hz community and the open source elements of 2600Hz's solution, and I think this has the potential to be better for all the members of the 2600Hz community. So we're excited to take this next step. Thank you, everyone. Thank you for your time.
This concludes today's conference call. Thank you for participating. You may now disconnect.