Spok Holdings, Inc.
Q2 2018 Earnings Call Transcript

Published: 26 Jul 2018

[Operator:]

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

[Michael Wallace:]

Good morning. Thank you for joining us for our second quarter 2018 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 on 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 business environment in which we compete contained in our 2017 Form 10-K, our second quarter 2018 Form 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. Also, please remember, on January 1st, 2018 Spok adopted Accounting Standards Codification, ASC 606, revenue from contracts with customers, using the modified retrospective methods applied to those contracts which were not completed as of January 1st, 2018. Unless otherwise stated, results for reporting periods beginning after January 1, 2018 are presented under ASC 606. While prior period amounts have not been adjusted and continue to be reported in accordance with the Company's historic accounting under ASC 605. Please refer to the tables provided in yesterday's press release to obtain revenue, net income, earnings per share and EBITDA results under both ASC 606 and 605 formats. With that, I will turn the call over to Vince.

[Vincent Kelly:]

Thanks, Mike, and good morning. We are pleased to speak with you today regarding our second quarter operating results, and what we believe is a good start as we enter the second half of 2018. Our performance in the second quarter of 2018 was in line with our seasonal expectations. We saw strong performance on a number of key operating measures and sequential improvements in subscriber retention, sales bookings, backlog levels, and operating expense management. We believe our year-to-date results provide a solid base and position us well as we enter the second half of the year. Overall, we continue to generate positive EBITDA. We returned nearly 15 million of capital to our stockholders through the first half of the year in the form of dividends and share repurchases, and we enhanced our product offerings through our continued investments in our integrated communications platform, Spok Care Connect. We continue our substantial investment in our development team and are leveraging our decades of experience in critical healthcare communication to deliver a cloud-based data platform that will bring the latest in communication technologies to the market. As previously outlined, we believe these investments will yield significant future benefits in the form of our improved, integrated communication platform as well as higher future bookings levels supported by our enhanced and upgraded sales teams. Our teams remain on target to meet our development goals for the year. In the first half of the year, we were particularly pleased to see software revenue on a GAAP basis to grow by 11% year-over-year with each quarter up from the prior year. Additionally, we continue to see a more than 99% renewal rate on our software maintenance contracts. Similar to our wireless revenue stream, software maintenance revenue is largely a recurring revenue stream that provides the Company with a more stable revenue base. Through the first six months of 2018, over 80% of our revenue base is recurring in nature. Now before I turn the call over to Mike and Hemant to provide additional details on our financial performance and operating activity in the second quarter, I want to briefly review some key results for the second quarter. First on a GAAP basis, software revenue of 17 million was up nearly 2% from the prior year quarter, and our related software backlog at June 30th was 36.3 million, up 1% from the prior quarter. Our sales team will continue to be laser focused on generating activity throughout the remainder of the year. Second, wireless subscriber and revenue trends continued to exceed our expectations. Spok posted solid results for wireless products and services in the second quarter. Gross pager placements of approximately 35,000 were up sharply from the prior quarter. As a result, net pager losses totaled approximately 6,000 units in the second quarter, which was down 68% from the prior quarter. We are pleased to see the continuation of these more stable trends, especially in our top performing healthcare segment which comprises approximately 82% of our paging subscriber base. Finally, in addition to our financial performance, progress was made in several other areas including product development, product strategy, and key strategic partnership agreements. During the quarter, we added more than a dozen new customers to the Spoke family. Spok continues to build an industry-leading reputation. We are proud of the strong partnerships we are establishing such as the ones with Bernoulli Health and Zebra Technologies, they were outlined in our earnings release. I believe these and other strong partnerships validate the proposition that we have created for our customers. Also last quarter, we strengthened our position as an industry thought leader, at the C-Suite conferences we attended where key Spok executives made presentations and facilitated focus groups. Last month, we also enhanced our industry reputation with the release of the results of our eighth consecutive survey of mobile strategies in healthcare. Respondents to that survey include more than 300 healthcare professionals, 44% of whom are clinicians from hospitals and health system around the country. In a few minutes, Hemant will give you a little more detail regarding the findings of that survey, and the tremendous value it brings to our organization in terms of lead generation in sales. I will make some additional comments on our business outlook shortly, but first Mike Wallace our Chief Financial Officer will review the financial highlights for the quarter and after that Hemant Goel, our President will comment on second quarter sales and marketing activities. Mike?

[Michael Wallace:]

Thanks Vince. Let me give you a little more detail on our financial performance in the second quarter. I would again encourage you to review our second quarter 2018 Form 10-Q, which we expect to file later today as it contains far more information about our business operations and financial performance that we will cover on this call, as well as specific revenue comparisons between ASC 606 and ASC 605. As Vince noted, we were pleased with our overall operating performance in the second quarter and believe that our year-to-date performance positions us to take advantage of the typically increased activity in the second half of the year. Key drivers of our financial performance during the quarter were sustained year-over-year improvements in software operations revenue, software maintenance revenue renewal rates which continue to exceed 99% and continued stable levels of churn in wireless paging units. Lastly, continued disciplined operating expense management has also allowed us to absorb the impacts of our planned investments in product research and development expenses while generating positive EBITDA. Over the next few minutes, I will review key areas which drove our second quarter financial performance. They include; one, a review of certain factors impacting second quarter revenue. Two, selective items which influence second quarter expenses; and three, a brief review of the balance sheet. Finally, I will review our financial guidance for 2018. As usual, if you have specific questions about these items or any of our quarterly financial results, I will be happy to address them during the Q&A portion of this morning’s call. With respect to revenue for the second quarter of 2018, total GAAP revenue was 40.6 million or 41.8 million when adjusted to exclude the adoption of ASC 606 compared to 42.3 million in the first quarter of 2017. We were again pleased with our ability to generate a year-over-year increase in software revenue. Through the first six months of 2018, GAAP revenue totaled 83.7 million. Again, when adjusted to exclude the adoption of ASC 606 revenue totaled 84.3 million up from revenue of 83.8 million in the first half of 2017 where the year-over-year increase in software revenue outpaced the erosion of our wireless revenue. Adjusted to exclude the adoption of ASC 606 total second quarter software revenue of 18.1 million reflects an 8.7% increase from the second quarter of 2017. Through the first six months of 2018, again adjusted to exclude the adoption of ASC 606 software revenue totaled 36.3 million, a 12.6% increase from the prior year period. This performance was driven by a 23.9% year-over-year six month increase in software operations revenue, coupled with a 4.8% maintenance revenue growth as we continue to refine and enhance our processes specifically related to the implementation of our software solutions. Also contributing to the first half performance with a stable level of pager units churn. As a result, wireless revenue for the first half remain solid declining only 6.9% from the prior year. This continued performance in our wireless business is being driven by the combination of solid gross addition, minimization of churn with different customers and maintaining stable unit pricing. Turning to operating expenses. We continue to maintain our focus on creating efficiencies in our expense space in order to offset some of the planned increases in our product research and development category. During the second quarter of 2018 reported consolidated operating expenses which excludes depreciation, amortization and accretion of 40.1 million up from 37.1 million in the year earlier quarter. Nearly half of the anticipated $3 million increase from the year ago period was driven by higher research and development costs, reflecting our continued investment in our Spok Care Connect platform. Additionally, nearly 800,000 of the increase was driven by sales and marketing expense over the period, reflecting our investments in our sales organization and our increase presence at trade shows and conferences. In the second quarter 2018, research and development costs totaled 6.2 million. This represents a 32.5% increase from the second quarter of 2017, down from the 39.7% year-over-year increase we saw in the first quarter. Sequentially, research and development costs were up 442,000 from the prior quarter, a sharp reduction from the $800,000 sequential increase we saw in the first quarter of 2018. We believe that this overall trend will continue as we are now past the initial portion of our investments in research and development and those expenses should approach a more steady state level. Our capital expenses in the second quarter were approximately 2.3 million. Through the first six months of 2018, capital expenses totaled 3.5 million and are in line with the guidance we have provided. Capital expenses are incurred primarily for the purchase of pagers, network infrastructure to support our wireless customers, as well as the necessary infrastructure to support our software business. We do not expect any significant changes to the level of our capital expense requirements for the balance of 2018 and expect to be within the guidance range for the year. Turning to the balance sheet and other financial items. Through the first six months of the year Spok generated approximately $4.8 million of EBITDA or earnings before interest, taxes, depreciation and amortization. And when adjusted to exclude for the adoption of ASC 606 this along with cash on hand was used to fund the quarterly dividends of 5.2 million and share repurchases of 9.5 million as well as capital expenses of 3.5 million. We ended the quarter with a cash balance of 94.1 million down approximately 13.1 million from December 31, 2017. Finally, with respect to our financial guidance for 2018. Based on our performance of the first six months in 2018, we are maintaining the guidance we previously provided which projects consolidated total revenue to range from 161 million to 177 million. Consolidated operating expenses excluding depreciation and amortization and accretion of the 158 million to 165 million and capital expenditures to range from 4 million to 8 million. I would remind you that our projections are based on current trends and that those trends are always subject to change. With that, I will turn the call over to our President, Hemant Goel who will update you on our second quarter sales and marketing activities. Hemant?

[Hemant Goel:]

Thank you, Michael, and good morning. As you heard our sales and maintenance teams have delivered software bookings in the second quarter of 2018 totaling $18.5 million. Second quarter performance was up 2% from the prior period in line with our seasonal expectations. Healthcare remains a key part of our growth and primary focus making up 89% of overall bookings in the United States for the second quarter. During the quarter, we completed 17 six figure healthcare deals including three with customers who have never worked with us before. In total we added nine healthcare software customers to the more than 1900 hospitals that use Spok solutions. Those customers include all 30 adults and children healthcare organizations on the current best hospitals honored by U.S. News & World Report. During the second quarter, we closed a seven-figure deal with the large West Coast Academic Medical Center. The five year deal will nearly double the organizations licenses for our mobile application going from 4000 to 7000 users. The customer chose Spok as an important part of its initiative to improve its clinical communications. As with many hospitals today the customer look first to its electronic health record vendor for communications solutions. But they found that there are limitations to what they can do with the EHR. One of the main downfalls that relying on the EHR for clinical communication and collaboration is that only clinicians can communicate through the EHR and not the full range of the healthcare team will need to work together to deliver better patient care. Spok Care Connect is a perfect complement to these systems allowing for the delivery of the right message, to the right person, on the right device, at the right time. We see this partnership as a solid endorsement that we can help hospitals and leverage their major investments and the EHRs through our clinical communication and collaboration platform. One of the new customers in the second quarter was at 260 regional medical center in the Midwest. The hospital has been a magnet designated hospital by the American Nurses' Credentialing Center since 2004. This natural recognition indicates that the organization have the highest level of nursing standard in the industry. The six figure deal includes our nurse cloud solutions that will integrate with the hospitals existing systems for patient monitoring and routing alerts and staff assignments that customer will also use the Spok webpage solution replacing its in-house bill paging system. The second quarter 2018 was also a solid quarter for the wireless sector, exceeding all defined goals in sales, revenue and retention. The second quarter is traditionally our strongest quarter for paging and this year was no exception. As hospitals take on medical rather than some interns in April, May and June they are issuing them pagers plus the influx during this period. That's the strong indication for us that our wireless technology remains an integral part of clinical communication for our healthcare customers. Our paging biz continues to remain stable and we have seen a growing interest in both our encrypted paging network as well as our secure smartphones and mobile solution. Our professional services group continues to focus on efficiency and streamlining operations to have sales resources and deliver a more consistent experience to our customers. During the quarter, professional services completed a major installation of our 911 alerting system for a large government agency with several campuses. The situation was unique and that there were 275 data switches, a set-up that potentially could have slowed data transmission and created a safety issues. Instead of re-architecting on our entire application Spok made a smaller change to batch data switches so communication could be completed within the 150 second time frame specified. As Vince noted, our software development team is on target to meet our development goals for the year. Including the evolution of Spok Care Connect include cloud based solutions that will integrate with our existing software. Before turning things back over to Vince, I want to provide a brief update on recent marketing activities designed to help us establish our brand, prior leads and some of the sales pipeline. In June, we released the filings of our 8th annual survey on mobile strategies in healthcare. For the third consecutive year more than half of the survey respondents reported having a mobile strategy in place. With those organizations with the strategy there is a strong continues improvement feedback loop between policy owners and clinical teams when it comes to keeping global policies current. One of the most popular reasons for updating a policy was to address change in clinical workflows. This is in line with our experience with healthcare customers as we see continued growth in the number of clinicians included in the decision making process for choosing our solutions. The mobility survey is an important part of our annual marketing strategy not only does it position us as a thought leader in this area, but the survey has generated 100s of leads and has been cited in nine industry publication. We also continue with our strategy to gain recognition and reputation by presenting at leading healthcare C-Suite events. During the quarter our Chief Nursing Officer presented at the American Organization of Nurse Executives AONE Annual Meeting and our Vice President of Products Strategy spoke at the healthcare IT institute and facilitated a focus group at the end, this solution computer connect symposium. At all three events, Spok representatives focused on how an enterprise communication platform such as Spok Care Connect can solve many of the communication challenges hospitals face today. Our customers and potential customers believe in our strategy to deliver an enterprise healthcare communication platform. Our brand is gaining traction in the market place, and we expect our bookings will continue to grow. Looking forward we anticipate continued market demand for a clinical communication and collaboration platform and healthcare. With that, I will pass it back over to Vince.

[Vincent Kelly:]

Thank you, Hemant. Before we open the call for your questions, I would like to comment briefly on a couple of items. First, I want to update you on our current capital allocation strategy and second, I want to review our key goals and business outlook for the remainder of 2018. With respect to our current capital allocation strategy, our overall goal is to achieve sustainable, profitable business growth, while maximizing long-term stockholder value. To that end, the allocation capital remains a primary area of focus. Our multifaceted capital allocation strategy includes dividends and share repurchases as well as key strategic investments that include augmenting our product development and operating platform and infrastructure. Our strategy also includes the potential for acquisitions that are both strategic in nature and that are accretive to earnings. We are a company in transition and believe the financial flexibility over the long term is important to the success of our strategy. Spok is laser focused on delivering the next generation of our software platform, and we believe that our cloud-based and fully integrated communications platform will be a game changer in our chosen market. As I said at the start of this call, I’m happy to report that we are on-track with our development efforts and rollout plan and look forward to taking advantage of what we believe is a large market opportunity for this technology. Our capital allocation policy includes occasional stock repurchases along with our recurring dividends of $0.125 per share per quarter and capital investments in our business. We remain debt-free. We will continue to evaluate our capital allocation strategy and communicate our plans in each quarter when we report our earnings. Finally, with regard to our key goals and business outlook, we believe our first half activities in investments have positioned us to be successful in the second half of 2018. In order to take advantage of a large opportunity in our chosen markets, our business goals for the year remain unchanged. They include accelerating development of our products and services, building a stronger infrastructure, aligning resources and focusing where most needed, and driving software revenue growth while managing wireless revenue declines. At this point, I will ask the operator to open the call for your questions. We would ask you to limit your initial questions to one and a follow-up and then after that we will take additional questions as time allows. Operator.

[Operator:]

Yes sir, thank you. [Operator Instructions] Our first question will come from Scott Williams with [indiscernible] Capital Management.

[Unidentified Analyst:]

Hey guys thanks for taking my question, this is Ryan [indiscernible]. We are three years into the five-year investment cycle. Now, first off, how do you see the software revenue building in the back half of the year? What specific line items do you see contributing to the growth, and then for the next couple of years, what sort of and when 2.0 is fully built out, what sort of revenue growth trajectory in the software would you be pleased with? Thanks.

[Vincent Kelly:]

Well first of all with respect to the back half of the year, I think we just reiterated this morning that we are fine with the guidance that we gave at the beginning of the year. There has been no change in that. We will have our results posted within that guidance. We typically have a better bookings experience in the back half of the year just because that’s the way the deals usually get done, so usually we have a much stronger fourth quarter than other quarters. Sometime, the third quarter is pretty good too depending on the government deals we bring in. Typically, Ryanit takes us about two months before you start recognizing revenue after a booking and then you recognize that ratably over about a nine -month period. So the later in the year that you generate bookings, the it more impacts the following year, and so if you have a really strong fourth quarter, that’s really going to impact 2019 not 2018. But in terms of what we see for this year, we feel very comfortable with the guidance range that we gave you guys at the beginning of the year and that we just reiterated today. In terms of looking out into the future, and we don’t give guidance past the current year. We have never done that in the past and we are not going to start doing that now, but obviously we wouldn’t be doing this if we didn't see a big market opportunity. We think the total addressable market out there for this type of critical communications and collaboration platform is over $2 billion. Now having said that, there’s other people that have targeted the same market, and so we are going to be competing against others. We think that the cloud-based platform we are delivering in many respects is going to be a game changer, and we think that the workflow engine and some other things and aspects that we are building into it is going to be transformative. We are very excited right now with our development partners, they are working with us on this. They are very happy with what they have seen so far. We expect to roll this out and begin to introducing it conceptually and demoing it at our user conference in October, Connect 18, and we expect to be in beta by the end of the year. We expect to have some sales of this platform in 2019, and you will see much more contribution for it in 2020. So, I can't give you specific numbers. Obviously, we have got our own forecast and we wouldn’t be doing this if we didn't think it was going to be very important to our future.

[Unidentified Analyst:]

Okay. Thank you very much for the color.

[Vincent Kelly:]

Thank you.

[Operator:]

Thank you [Operator Instructions] Alright, gentlemen, there are currently no further questions in the queue at this time.

[Vincent Kelly:]

Okay. Thank you operator and thank you shareholders and investors for joining us this morning. We look forward to speaking with you again after we release our third quarter results in October. Everyone have a great day.

[Operator:]

Thank you ladies and gentlemen, this concludes today's teleconference and you may now disconnect.