Spok Holdings, Inc.
Q2 2017 Earnings Call Transcript

Published: 27 Jul 2017

[Operator:]

Good morning, and welcome to the Spok's Second Quarter Investor Call. Today's call is being recorded. On line today we have Vince Kelly, President and Chief Executive Officer; Michael Wallace, Chief Financial Officer; and Hemant Goel, President, Spok Operating Company. At this time for opening comments, I would like to turn the call over to Mr. Wallace. Please go ahead, sir.

[Michael Wallace:]

Thank you and good morning. Thank you for joining us for our second quarter 2017 investor update. Before we discuss our operating results, I want to remind everyone that today's conference call may include forward-looking statements that are subject to risks and uncertainties relating to Spok's future financial and business performance. Such statements may include estimates of revenue, expenses and income, as well as other predictive statements or plans, which are dependent upon future events or conditions. These statements represent the Company's estimates only on the date of this conference call and are not intended to give any assurance as to actual future results. Spok's actual results could differ materially from those anticipated in these forward-looking statements. Although, these statements are based upon assumptions that the Company believes to be reasonable, they are subject to risks and uncertainties. Please review the Risk Factors section relating to our operations and the business environment in which we compete contained in our 2016 Form 10-K, our second quarter 10-Q, which we expect to file later today and related documents filed with the Securities and Exchange Commission. Please note that Spok assumes no obligation to update any forward-looking statements from past or present filings and conference calls. With that, I'll turn the call over to Vince.

[Vince Kelly:]

Thanks, Mike, and good morning. We are pleased to speak with you today regarding our second quarter operating results and what we believe was a solid performance for Spok. We continue to see the benefits from investments that we're making to enhance and upgrade our product development team and tool as well as our sales infrastructure and management. We believe these investments will yield significant future benefits with respect to our integrated communications platform Spok Care Connect, our enhanced and upgraded sales team and our growth potential. During the quarter, we saw a strong performance in a number of key operating metrics, and made further progress towards transitioning Spok to a long-term growth model by delivering industry leading clinical communications solutions. In general, our performance in the second quarter was consistent with our expectations and the seasonal trends we typically experienced during the year. We were particularly pleased as we saw a continued reduction in the decline of our paging units and wireless revenue to record low levels. Software revenue was up more than 7% from the prior quarter and in line with the prior year performance. We believe we're well positioned for the second half of the year as software bookings exceeded 20 million and we're up 3% from the prior quarter while our backlog was up nearly 7.2% over the same period. Software maintenance revenue was another area of strong performance due a more than 99% revenue renewal rate on maintenance contracts. Similar to Spok's wireless revenue stream, software maintenance revenue is a recurring revenue stream that provides the Company with a more stabled revenue and margin base. This quarter more than 84% of our revenue streams were recurring in nature when you consider our solid wireless base and software maintenance contracts. The strong revenue base provides us with the ability to make key investments in our business while executing on our capital allocation strategy to enhance long-term stockholder value. In the second quarter, we also saw a strong performance in a number of other key operating metrics including solid improvements in operating expense management. Overall, we continue to operate profitably, enhance our product offerings and maintain a strong balance sheet while returning capital to our shareholders in the form of dividends and stock repurchases. Mike and Hemant will provide details on our financial operating performance shortly, but before that I want to highlight a few key results for the second quarter. First, wireless subscriber and revenue trends continue to improve. Our annual rate of paging unit erosion for the quarter improved to a record level of 5.1% while the quarterly rate improved 40 basis points sequentially to a 0.4%. Our healthcare segment increased by approximately 3,000 units in service in the second quarter. In addition, our annual and quarterly rates of wireless revenue erosion improved. Also contributing to slower wireless decline was stable ARPU or average revenue per unit. We were pleased to see the continuation of these positive trends especially in our top performing healthcare segment, which now comprises approximately 80% of our paid and subscriber base. Second, software bookings of 20.4 million in the second quarter included 10.5 million of rate maintenance renewals which is a record high. Operations bookings totaled 9.9 million for the second quarter in line with prior year results and our software backlog grew to nearly 43.5 million at midyear. Bookings included sales to both new and current customers with existing customers adding products in applications to expand our portfolio of communication solutions. Overall, we continue to see growing demand for our software solutions for critical smartphone communications, secured texting, emergency management, and clinical alerting. We are proud to be working with more than 1,900 hospitals worldwide including all the best adult and children's hospitals as defined by U.S. News & World Report. Spok continues to build an industry leading reputation and is generating activity and momentum at conferences we attend. We are continuing to establish ourselves as a thought leader within the industry. In May, we released the second part of the Company's annual Mobility in Healthcare Survey. Spok has been conducting the survey since 2011 to assess mobile workflow enablement trends is hospitals across the country. More than 300 U.S. healthcare professionals responded to this year survey regarding mobile strategy development, bring your own device policies, communications infrastructure and opportunities to improve mobile communications. Spok will continue to leverage the attention that we are receiving as a thought leader within our industry. Third, consolidated operating expenses in the second quarter excluding depreciation, amortization, accretion and research and development costs continue to improve on both an annual and sequential basis. We've discussed the investments that we are making in our product development and sales platforms. Most of that increase is reflected in our research and development category, which is up approximately 45% on a year-over-year basis. Mike will provide a bit more detail in a few minutes, but net of these expenses we have seen improvements in many expense categories. Fourth, consolidated EBITDA earnings before interest taxes depreciation and amortization was 5.3 million, a 12.5% of revenue in the second quarter, a 130 basis points improvement from the EBITDA margin in the prior quarter. Of course, margin levels will fluctuate overtime, reflecting our level of investment and aggressive hiring program in the areas of product development and sale. However longer term, we are focused on transitioning to a sustainable and profitable growth model. And finally, again we generated free cash flow in the second quarter contributing to our ability to return significant capital to our stockholders in the form of cash dividend and share repurchases. During the quarter, the Company paid cash dividends to stockholders totaling 2.5 million at $0.125 per share. We also repurchased nearly 573,000 shares of common stock under our stock buyback program. I'll comment further on our capital allocation strategy later in the call. All in all, we posted solid operating results in the second quarter and we look forward to further progress throughout the second half of 2017. I'll make some additional comments on our business outlook in a few minutes, but before I turn the call over to Mike Wallace, to review the financial highlights. Let me briefly talk about a key addition we made to support the management team in the second quarter. In mid-May, we announced that Mark Costanza has joined the Company in a new role of Spok's Senior Vice President of Professional Services. The addition to this role reflects our plans to broaden our portfolio of professional services and upgrade our enterprise delivery services and capabilities. Mark has been a great add to our leadership team. We've already seen the benefits from the experience and talent he brings to our organization. With his background in building vision and cultivating relationships as well as his track record of improving the operations of hospitals and other healthcare IT businesses, Mark is the right person to join our executive team as we build for the future and growth. Spok has been very successful in the past few quarters in building our bookings and backlog levels. Mark will be laser focused on running our professional and services group to accelerate the conversion of that backlog into our revenue stream as we continue to take advantage of the large market opportunity in the healthcare and IT market. With that, I'll turn the call over to Mike.

[Michael Wallace:]

Thanks, Vince. Before I review our financial highlights for the second quarter of 2017, I would again encourage you to review our second quarter form 10-Q which we expect to file later today since it contains far information about our business and operations and financial performance that we will cover on this call. As Vince noted, we were pleased with our overall operating performance for the second quarter and remained focused on executing against our business plan, as we enter the second half of the year. In addition to the substantial progress we made towards meeting our long-term business goals, we saw a solid sequential improvement in a number of key operating metrics. Revenue contribution from both software and wireless combined with focused expense management helped to increase our quarterly operating cash flow, EBITDA and operating margins for the quarter, as we continue to invest in our business for long-term growth. We are also maintained our already strong balance sheet and continue to operate as the debt free company at quarter end. In the interest of time today I will not review our second quarter performance on a line by line basis since most of that information is contained in our news release, schedules and federal filings. If you have specific questions about our quarterly financial results, I would be glad to address those during the Q&A portion of this call. Instead, I would like to focus this morning on four key areas that I feel will give you a better idea of the drivers of our second quarter performance. These include a review of certain factors that impacted second quarter revenue, a review of selected items that impact the second quarter expenses, a brief review of certain balance sheet items and finally our financial guidance for the remainder of 2017. With respect to revenue of the second quarter, total revenue was $42.3 million up more than 2% from the prior quarter. Second quarter revenue performance resulted primarily from continued strong maintenance revenue renewal rates from our software customers, and a lower rate of paging unit erosion that favorably impacted wireless revenue. Most sequential and year-over-year wireless attrition were at historical lows. Wireless revenue continues to exceed expectations as we saw quarterly page unit erosion slow to a record 0.4%. As a result, wireless revenue totaled 25.6 million down only 200,000 from the prior quarter. This solid overall retention reflected another strong performance by our sales team to again generate significant wireless gross additions while minimizing churn and maintaining stable unit pricing. Second quarter software revenue of 16.7 million was up more than 7% from revenue of 15.6 million in the prior quarter As I've noted on previous calls, our software operations revenue is now generally recognized on a ratable basis and total over 7 million for the second quarter, up nearly 17% from 6 million in the prior quarter. Maintenance revenue, the other component of software revenue increased nearly 6% to 9.6 million in the second quarter to 9.1 million in the prior year period. It was also up slightly from the prior quarter. This increase reflects our continuing maintenance renewal -- revenue renewal rates in excess of 99% from our installed software solutions base. Turning to operating expenses, we reported consolidated operating expenses excluding depreciation, amortization and accretion of 37.1 million in the second quarter. The year-over-year increase in our operating expense base is mostly due to the planned investments and our Spok Care Connect platform, primarily in the research and development category. Net of those planned investment costs operating expenses totaled 32.4 million as compared to 32.6 million in the year ago period. Continuous leverage of our operating platform continues to yield greater efficiencies across the business including cost to revenue, service, rental and maintenance, and in certain areas of sales and marketing. This performance is the direct result of our cost management initiatives, but has not come at the expense of our business operations as we continue to upgrade processes as well as human capital. Turning to headcount, we continue to adjust our employee levels to meet anticipated demand as well as make the necessary additions to support investments in the Care Connect platform. Our full-time equivalent employees or FTEs were 604 at June 30, 2017 versus 587 FTEs at December 31, 2016 and 597 FTEs at June 30, 2016. The majority of these additional FTEs are the incremental R&D staff for our software business in our Eden Prairie, Minnesota facility and the build out of our Care Connect platform. These employee levels will continue to change as we execute against our business plan. Turning to the balance sheet and other financial items, cash totaled $107.2 million at June 30, 2017. Included in the 18.7 million net reduction and cash balances from the beginning of the year was the use of 20.2 million to fund dividend payments and share repurchases, and 5.2 million spent to purchase property and equipment. This was offset by 6.7 million of cash generated by operating activities over the six month period. We expect to continue to use a portion of our cash in connection with quarterly dividends going forward. We exited the quarter with no debt outstanding and continue to operate as a debt free company. Vince will comment further on our capital allocation strategies shortly. Finally with respect to our financial guidance for 2017, as a result of the solid performance we saw in the second quarter, we're maintaining the 2017 guidance range that we provided last quarter. That includes total revenue to range from a 161 million to a 177 million, operating expenses excluding depreciation, amortization and accretion to range from a 153 million to a 159 million, and capital expenditures to range from 8 million to 12 million. I would remind you once again that our projections are based on current trends, and that those trends are always subject to change. With that, I will turn call over to Hemant Goel who will update you on our second quarter sales and marketing activities. Hemant?

[Hemant Goel:]

Thank you and good morning. As previously outlined, our sales and marketing team delivered software bookings in the second quarter totaling $20.4 million, this performance was up on both the sequential and year-over-year basis. Our momentum continues and we believe our strategy is resonating with our customers. Market recognition for the value of our enterprise healthcare communications platform is increasing, demonstrated by the level of conversations we have had with several customers and prospects, the volume of activity we see on our websites, and most notably, by the stories behind our quarterly bookings. During the quarter, we welcomed more than three dozen new customers to the Spok family, primarily in the healthcare and government sectors. Healthcare remains a key part of our growth, comprising 88% of overall bookings in the U.S. for Q2, nearly a quarter of that business came from new hospitals and health systems that had never worked with us before. Among our new customers this quarter is an urban hospital in the north east. This hospital is part of our health system that is working to standardize their communication technology among all member hospitals. They have children Spok Care Connect because of our diverse capabilities. Spok will support the vital communications infrastructure including contacts center operations, automated caller sources, emergency notifications and code calls. Another new customer this quarter a mid-sized hospital in the eastern United States is looking to eliminate paper binders of on-call schedules and contact information. With Spok solution, they will be able to streamline and automate much of their code whole process to save previous precious time during emergencies when patients lives there are taking every second counts, to be affective emergency communications must be dependable and reliable and area that is becoming a top priority for many hospital leader. We are seeing an increasing demand for our solutions-based on these needs. For example, a southeastern hospital health system that has been a Spok customer for more than a decade is planning to consolidate multiple hospital call centers into a single secured location. The first step is to centralize all of the alarms that are currently handled at each individual facility. To implement this, the customer requires a reliable, dependable alerting solution to ensure continuity of coverage and they chose Spok because of our ability to meet this requirement. In the Midwest, a health system that had experienced a large increase in call volume over the past several years is moving and then expanding their call center. Beyond simply adding more operators, this long time customer also wants to ensure that continuity of vital communications in the event of emergency. Endurance of the system is a top priority and this customer places their trust in Spok to deliver it. And at a hospital in the southeast a Spok customer that recently upgraded their secured messaging and emergency notification solutions is working with us to add a redundancy to their communication infrastructure and update their contact center. This customer relies on Spok solutions to process all of their code calls including paging positions from other locations. The final example I want to highlight this quarter is a health system in the southeast that is upgrading all of their Spok pagers, more than 7,500 units to our encrypted pagers with display lock and remote wide capabilities, a long-time customers already utilizing Spok Care Connect to support their communication infrastructure. This customer wanted to enhance the security of their network and further protect patient privacy and safety with secured messaging from ends to end. All of these examples demonstrate the strategic enterprise level investments hospitals are making with Spok. These customers are working with us to improve the reliability of their communications and capture the value that our unified healthcare communications platform make possible. While healthcare comprise of the largest percentage of our business, public safety remains and important part of our strategic plan. Public safety customers around the world rely on our solutions to support critical communications as well as emergency call handling at their 911 dispatch centers. Another of our six figure deals this quarter comes from a public safety customer that serves one of the most populous counties in the Western United States. They want to update their system and choose to stay with us because Spok meets all of their technical requirements, has reliably supported their dispatchers for nearly a decade and they have the utmost confidence in our ability to also have them streamline and simplify their workforce during the upgrades. Often organization purchase the Spok solutions a highly skilled professional services group gets to work, delivering an exceptional experience and setting the customer for success. In addition to implementing Spok solutions, these experts also help our customers optimize their communication environments. For example, in second quarter one of our newer customers a mid-sized hospital in the east, needed to get ready for an international sporting competition being hosted in their area. Prior to working with Spok, it took more than 2.5 hours to alert the emergency preparedness team at a large event. With Spok solution and assistance from our professional services team, the hospital reduced the time to less than 10 minutes, helping ensure that their staff is able to assist quickly in the event of an emergency. Before turning things back over to Vince, I want to provide a brief update on our marketing activity. Ongoing investments and activities in these areas help us drive leads and fill the sales pipeline. Our new website that launched in January includes changes to enhance the Spok Care Connect story, improve our visibility in searches, and provide a better experience of visitors and mobile devices. These efforts are proving to be highly effective. The percentage of mobile users have more quadrupled over the past year and our website traffic overall has more than doubled over that period largely driven by stronger ranking in the search engines. Additionally, our social reach continues to show a significant growth and engagement to their audience. Such as likes re-tweets and comments has also been more than doubled than past year. Marketing is also responsible for planning and coordinating Spok's presence at a large number of trade shows throughout the year. There were three notable shows for us in the second quarter that goes Hospital review, Healthcare IT Institute and the Association our Medical Directors of Information Symposium Systems, PCC Symposium. We are strategically expanding our participation at these events with speaking engagements and focus groups to evaluate our brand awareness among C-level executives. For example at the Healthcare IT Institute show in early June, I presented on the topic of how to bolster the benefits of an EHR by improving hospital communications. I received very positive feedback from the audience of Healthcare IT executives and our CMO, Dr, Andrew Mellin, got a great response at his talk about the CIO perspective on supporting clinical workflows at Baker as well as his focus group at end the symposium on clinical communication inside and outside the EHR. A large percentage of the audience at all of these shows is meant of VPs and C-level type outs and more than half of the leads we received from new prospects. These shows continue to be valuable opportunities for us to grow our brand and showcase the benefits of our integrated platforms Spok Care Connect. Looking forward, we expect continued market demand for our integrated communication especially in healthcare. Our investment in the search and development is ongoing. We have hired more than three dozen skill professionals so far in 2017 to help us accelerate product development, meet the demand for Spok Care Connect and enhance our solutions for clinical workflow improvements and better patient care. And our customers continue to reinforce that an enterprise-wide communication platform fulfill their needs and is a right strategy for Spok. With that, I'll pass it over to Vince.

[Vince Kelly:]

Thanks, Hemant. Before we open the line up for your questions, I like to comment briefly on a couple of items first. I want to update you on our current capital allocation strategy and I also want to review our key goals and business outlook for 2017. With respect to our current capital allocation strategy, our overall goal to achieve sustainable business growth while maximizing long-term stockholder value through our multifaceted capital allocation plan that includes dividends and share repurchases, key strategic investments to improve our operating platform and infrastructure, and potential acquisitions that could provide additional revenue streams and broaden our portfolio solutions. We expect to continue paying our quarterly dividend of $0.125 per share or $0.50 annually for the foreseeable future. Additionally, during the second quarter, we executed against our previously announced $10 million share repurchase authorization. So to the midpoint of 2017, Spok has returned more than $20 million to our stockholders including the special dividend that was declared in December 2016 and paid in January of 2017. Next, as part of our capital allocation strategy, we're continuing our investments in product strategy and development where we believe we can generate attractive returns for stockholders as we pivot to a growth model in our software solutions sales. As usual, we'll continue to maintain ample liquidity to support our working capital needs. Last, we've not yet executed on the acquisition component of our strategy for a variety of reasons; however, we continue to review candidates that could be a good fit for our platform and solutions portfolio. We remain disciplined in our approach to ensure that any acquisition demonstrates both synergistic and strategic value for Spok. In the meantime, we'll continue to weigh increases in our internal R&D expenditures against M&A opportunities. Finally, with regard to our key goals and business outlook, we believe our first half activities and investments have positioned us well for a successful 2017. In order to take advantage of the large opportunity in our chosen markets, our business goals for the year are simple and straight forward. Number one, accelerating development of our products and services. Number two, building a stronger infrastructure. Number three, aligning resources and focusing where most needed. Number four, increasing Spok's long-term growth potential. We would do all of this with the ultimate goal of creating long-term stockholder value and fulfilling our commitments. Wrapping up, Spok continues to build an industry leading reputation. We remain committed to our core value of putting customer first, providing solutions that matter, innovation and accountability. We believe our past results and future plans reflect those values and beliefs. So, at this point, I'll ask the operator to open the line up for your questions, and we'd ask you to limit your initial questions to one and a follow-up and after than we'll circle back and take additional questions as time allows. Operator?

[Operator:]

Thank you, sir. [Operator Instructions] And so there's….

[Vince Kelly:]

Okay, I don't see any questions in the queue. So, look, thanks a lot for joining us this morning. We look forward to speaking with you again after release our third quarter results in October. Everyone have a great day.

[Operator:]

That does conclude our conference for today. We thank you for your participation.