Spok Holdings, Inc.
Q4 2022 Earnings Call Transcript

Published: 25 Feb 2023

[Operator:]

Greetings, and welcome to the Spok Holdings, Inc. Fourth Quarter 2022 Earnings Results Call [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce you to your host, Al Galgano. Thank you, sir. Please go ahead.

[Al Galgano:]

Hello, everyone, and welcome to Spok Holdings' Fourth Quarter 2022 Earnings Call. I am joined today by Vince Kelly, Chief Executive Officer; Mike Wallace, President of Spok Inc. and Chief Operating Officer; and Calvin Rice, Chief Financial Officer. 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, which are contained in our 2022 Form 10-K 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:]

Thank you, and good morning, everyone, and thank you for joining us this morning for our fourth quarter and full year 2022 earnings call. Today, we will share with you an update on how our strategic business plan is progressing as well as our financial results for the quarter. I'll start by reviewing the agenda for today's call. The order will be as follows. We will begin by providing a review of our operational performance for the quarter and full year. I'll then turn the call over to Mike to review our fourth quarter and full year 2022 financial highlights as well as our pro forma results. We will then conclude our prepared remarks with our business outlook and financial guidance for 2023. And finally, we'll wrap up with some Q&A. In general, I want to reiterate how proud I am with what the Spok team has been able to accomplish in 2022 and believe that we have established a solid foundation for the future as we continue to execute. We now have a singular focus of generating cash flow and returning capital to shareholders. We did it last year, and we'll do it again this year. In terms of operating results, over the last year, we made progress in key performance areas, including wireless trends, software bookings and backlog levels as well as expense management as we successfully aligned our cost structure with our updated business plan. Going forward, we believe our extensive experience operating in our established communications solutions will create significant value for stockholders by maximizing revenue, cash flow generation and return of capital. Certainly, 2022 was a year of change. In an effort to quickly respond to marketplace dynamics as well as demand for our products and solutions, last February, we announced a new strategic business plan that set a priority on maximizing cash flow with the goal of returning capital to our shareholders. As part of that strategic pivot, we made the tough decision to discontinue the development and sale of Spok Go and eliminate all associated costs. Additionally, we expanded upon our already disciplined expense management track record to rightsize the company to focus on cash flow generation. This was accomplished by streamlining Spok's management and Board structure by approximately 50%, reducing our employee headcount by about 30%, rationalizing external costs, reducing capital expenditures and consolidating offices. These difficult steps were taken due to the challenging financial and resource environment, our hospital customer base has experienced and continues to experience due to the pandemic. This was and is not a good environment for new projects as hospital resources and budgets remain tight and are focused on getting more out of their existing solutions. Spok's Wireless and Care Connect suite service lines are ideally situated for this environment. Spok has an excellent track record of driving revenue and cash flow from these business lines and enjoys significant market leadership position, narrowband personal communication services and hospital call center software. Since our strategic pivot last February, morale has been high and Spok has seen a significant improvement in virtually all areas, including sales, product development and overall execution. In 2022, Spok generated nearly $25 million of pro forma adjusted EBITDA and has returned $25 million in cumulative capital to shareholders since the implementation of the strategic business plan. And as you've seen from our guidance, we're on track to do it again this year. Despite the difficult changes that Spok implemented in 2022, we've remained true to our mission of being a global leader in health care communications. We deliver clinical information to care teams when and where it matters most to improve patient outcomes, as Spok enables smarter, faster clinical communications for our customers. Spok solutions for critical communications provide a vital service for our trusted customers. These customers include 18 of the top 20 adult hospitals and all 10 children's hospitals named to the U.S. News & World Report's 2022, 2023 Best Hospitals Honor Roll. In fact, over the past decade, nearly every hospital named to that honor roll has been a Spok customer. We have over 2,200 healthcare facilities as customers, representing the who's who of hospitals in the United States. We've built our solutions over many years and have long-standing viable customer relationships. We honor and respect our customer service and providing world-class health care, and we value our place in their communications ecosystem. This is coupled with the financial strength that over 83% of our revenue is reoccurring in nature. We're a company with no debt, which provides us significant flexibility. We continue to focus on investing in and enhancing our integrated Spok Care Connect software solutions and wireless products in order to continue our long-standing relationships with the nation's leading healthcare providers. In 2022, that we sharply reduced our research and development spend from the previous year, we still spent approximately $8.7 million to support development of our Spok Care Connect platform as well as wireless products, such as our new GenA pager. We expect to expand that investment to approximately $11.3 million this year, in line with spending levels prior to the introduction of Spok Go. This investment is important relative to our plans for stabilization and eventual growth of future software revenue, and these incremental costs are embedded in our guidance that Mike will cover later in this call. We believe these attributes, combined with our experienced, dedicated and committed employee base, are what will allow us to generate significant cash flow into the future and return capital to our shareholders. So with that said, let me take you through a few highlights for the fourth quarter of 2022. We were successful in stabilizing our business and positioning Spok for future growth. In addition to the highlights listed on the slide, other noteworthy fourth quarter performance included

[Mike Wallace:]

Thanks, Vince, and good morning, everyone. I would now like to take a few minutes and provide a recap of our fourth quarter and full year 2022 financial performance, which we reported yesterday. I encourage you to review our 10-K, when filed, as it includes significantly more information about our business operations and financial performance than we will cover on this call. But before I do, I would like to briefly outline for you our updated definition of adjusted EBITDA as contained in our financial statements and the associated adjusted EBITDA reconciliation table included in our earnings release. We believe that this treatment will give you greater clarity into the performance of the ongoing operations of our company as well as be more reflective of best practices of our software peers. Under the old method, adjusted EBITDA started with net income and then subtracted capital expenses and added back stock-based compensation and any noncash charges for asset impairment. Under the new method, the calculation, again, starts with net income, and then adds back the stock-based compensation, any noncash asset impairment and any severance or restructuring charges. The difference between the two methods being

[Vince Kelly:]

Thank you, Mike. Finally, before we open the line up to questions, I'd like to dive a little deeper and answer some analyst questions we received prior to today's call. The first one was about sales full-time equivalent levels that being down relative to prior years. Do you feel you have the necessary levels to achieve your sales goals? I think, yes, our pipeline is growing every month. Many of the deals we're looking at are multiyear deals with additional licensing value-added service engagements and further future upgrades. Our sales team coverage is good. They're more efficient now than they've been in the past. Most of the headcount we took out of our salespeople was from Spok Go and much less from our Care Connect suite solutions. And we're in the process of adding inside sales roles now, a new channel director just came on board and two new regional sales directors as well. So we're going to continue to add talent when needed to support our sales targets, and we feel good about those resource levels. Second question has to do with customer sales engagement. During COVID, it was hard to get face-to-face meetings. How is this going in today's environment? Actually a great question. So we're still seeing a hybrid mix of meetings. Some are in person, some are outside the hospitals and some are still remote. It's getting better, but it's still a challenge. We're always pushing to get on site. And when we can, we're traveling much more strategically. We're maximizing every meeting opportunity. And it's important to understand that the way our business works on both the software and the wireless side and the associated sales we drive, they're almost exclusively the result of our sales team's direct interaction with our customers versus responding to RFPs and the like. So it's critical that we're seeing more and more "in-person meetings." Although like everyone, we've adapted to virtual meetings as best as possible given the pandemic. Third question. Are sales cycles elongating just given rising interest rates and other macro pressures? So another good question. We're not seeing any delays on our existing customer upgrade sales cycles, and we are seeing it shorten a bit with our multiyear deals. However, new project initiatives are still pretty slow in hospitals due to their resource constraints, both financial constraints and personnel resource constraints. They're trying to get more out of what they already have and leverage existing systems and networks for our strengths because we're an industry leader in the contact center solutions. We're an industry leader in narrowband wireless messaging. So we can really meet with them and help them see how they can leverage our solutions. So, so far, so good there. Fourth question. What percentage of your software base do you think went through communications upgrades, i.e., PBX in '22? And what are you expecting for '23? So, again, I mean, that's not something we track in terms of PBX upgrades at our customers. Our sales are not dependent on that. For customers with CTI integration, the need to upgrade their Spok solutions can arise from a PBX upgrade. Now CTI integration, I've said this before, it's one of our strengths, and we believe we're an industry leader there. However, that's only one of many drivers that can lead to additional sales opportunities. Over the last couple of years with increasing prevalence of cybersecurity breaches, the need to maintain updated operating systems and update your database and other critical functions, that's been a really big factor in the upgrade frequency. And average upgrade cycles for our solutions in the past have generally ranged between 2 and 4 years, depending on the size and the complexity and the number of solutions the customer might have and a number of other factors. So, so far, so good there. Number five. You talked about the upsell opportunity within your base, i.e., customers only use one or two products. Where is the low-hanging fruit? And what we do differently today to capture that opportunity relative to how you pitched a few years ago? So we really have a good handle on what our customers do and don't have today with respect to our solutions. And our strategy with the multiyear deals allows us to build into their quotes additional licensing opportunities for additional solutions and services. We're also focused on value-added services that our customers purchase called a solution assessment, and that really shows the solutions that will be most helpful to their organization in terms of the way they're structured with their workflow. So our technology approach with full integration with our platform is one of our major advantages. Question number six was update on selling software into smaller hospitals. So we're in the process of hiring two inside salespeople right now to get started on selling our subscription offering in the small hospital. That's our hosted solution. We should be -- we have one customer up on it right now and running, and we're going to bring that online around the 1st of April. We should be fully staffed by March 15. We'll start selling immediately. None of that's in our forecast. There's no upside in the forecast for it or in our guidance. We've already had one customer, like I said, up and running, and we plan to ramp it up slowly in the second half of this year. So we'll see how that goes, and we'll keep you posted. Number seven. How is the next-gen pager release tracking? So we delivered 8,300 GenAs in 2022, and we're expecting to deliver more than 20,000 units in 2023. We're getting a big ARPU advantage from these units, and we want to maintain that balance discipline, while we roll these new devices out. They've been very well received. Number eight, retention levels in 2022. Given the drop in full-time equivalents and a new strategic plan, how do those compare to prior year? So I would say right now, morale inside the company is as high as it's been in years. And I think that's for a lot of reasons. They appreciate the business plan we're running right now. We're hitting our numbers. A lot of competitors are struggling. We're a company with no debt. We're making a lot of money, and so it's really helping morale. And you can see that in the numbers. In 2019 and 2020, what we call regrettable turnover -- and regrettable turnover, we define as people who voluntarily leave for other jobs. So that's going to include people who we terminate for performance or for retirements. It's people we don't want to lose basically. 2019 and 2020, it was around about 11.5%. In 2021, it was about 19.5%, about 9% last year in '22. Right now, we're at a less than 1% run rate. So we'll see how the year progresses, but we're really in good shape right there. Number nine. Any synergies between the two businesses that are untapped? Can you grow the 20% of hospitals that use both services? So we've got a strong sales incentive plan in place right now, utilizes both wireless and software teams to maximize our success there. In '22, we sold about $2.5 million in software sales collaboration deals. And in 2023, we're expecting to do more. We've also added numerous wireless accounts that weren't with Spok prior. Our plan is to continue to grow the percentage of the hospitals that use both service, and our team is motivated and compensated to do so. Question number 10. Is there a threshold of bookings where you'd have to consider reducing the dividend down the road if you fell below it? So we're committed to paying an annual dividend of $1.25 in 2023. And as I stated previously, we believe we'll generate sufficient cash to continue paying its level of dividend for the foreseeable future. Obviously, this is a Board decision. The Board looks at this every quarter. We declared the dividend like we did in the press release last night, and so far, so good there. Last pre-submitted question, number 11. You had mentioned at one point trying to more purposely exploit opportunities for the communications console outside of healthcare. Is that something that's a priority for '23? Or is it longer term? Short answer, longer term. We think there's opportunity there in other market segments, but we're not focused on that this year. We've got about 10% of our total revenues today coming from hospitality and from government. We would have to have additional development spend in those areas to really grow that a lot, and so that's a longer-term opportunity. So I just want to leave you with the fact that our priority is generating adjusted EBITDA within the guidance range that we gave you and returning capital to our shareholders. So at this point, I'll ask the operator to open the line up for any additional questions. Operator?

[Operator:]

[Operator Instructions] Our first question is from Eric Martinuzzi of Lake Street Capital Markets.

[Eric Martinuzzi:]

Congratulations on a strong finish to 2022. It's -- really a lot was accomplished in a relatively short period of time. My question has to do -- just starting off with the 2023 financial outlook. On the wireless revenue side, we had kind of a balance, if you will, in 2022 in the unit churn versus the ARPU. Just wondering what the expectation is for 2023, given the revenue guide for wireless?

[Mike Wallace:]

Yes, our thought process is that we'll continue to see unit churn pretty much consistently with what we've seen in '22. We have, as you've probably noticed, actually seen an uptick from an ARPU perspective. And that's a function of some of the pricing actions that we took, the GenA pagers that Vince talked about in his remarks, all of that's having a solid impact, if you will, from an ARPU perspective. So those are kind of the underlying drivers, if you will, that's driving that range that we have there for '23 in wireless revenue.

[Eric Martinuzzi:]

And then just a Q4 question. The license revenue of $1.27 million, I only call it out just because it was down 15%, and that's the first negative comp we've seen in that revenue category since Q3 of 2021. What's going on there? And what's the expectation?

[Mike Wallace:]

There's nothing going on there really. It's just a function of mix at the end of the day. From any given quarter, you can have some ups and downs as it relates to what the mix is from a license perspective. And it's just -- it's tough as we go through the different quarters for that to be sort of static and grow in a linear fashion. The reality is that as we expect to grow bookings in total, we would expect that over, let's say, an annual period, you will certainly see license bookings and thus, license revenue to be up. So it should track with overall bookings.

[Eric Martinuzzi:]

And I realized it was a good comp for the year in 2022 full year. The 17 -- congrats, again, also on the 17 6-figure deals that you had in Q4 and the 66 for the full year. You talked about your pipeline growing as you've exited the year here. What -- do you have a number for us? Is there a certain percentage you can give us, either by customer category or just raw numbers of large deals versus a year ago?

[Vince Kelly:]

Look, we don't provide guidance in terms of what our total pipeline growth is. We did start from a pretty low base last year because our focus, prior to the pivot in February of '22, was on Spok Go. So we really started growing that pipeline with our Care Connect suite solutions in, say, mid-2022. But it's been growing pretty nicely since then, and we did a lot of big deals in the last year, and we expect to do a lot more than this year.

[Eric Martinuzzi:]

And my last question has to do with the cash. Obviously, you returned $25 million to shareholders in 2022, and that's the plan, again, in 2023. How much of that is coming from operations? Or maybe another way to ask it is, given this midpoint adjusted EBITDA of $25 million and let's call it $4 million of CapEx, is the assumption here that we'll generate about $21 million of the return to shareholders from operations and dip into the balance sheet for the remaining $4 million?

[Vince Kelly:]

You're spot on.

[Eric Martinuzzi:]

I answered my own question.

[Vince Kelly:]

It doesn't look like we have any other questions in the queue. Operator, are there?

[Operator:]

No, we have no have further questions, sir. So if -- I will hand the floor back to you.

[Vince Kelly:]

Yes, we're going to wrap up. I want to thank everyone for joining us today. We appreciate your support and interest in Spok. We look forward to updating you, again, next quarter. And I want to -- on a final note, kind of under the one more thing category, we think it's important to give our customers and our investors the opportunity to see our business and talk with our broader management team. We have customer meetings on a regular basis. And with respect to our investors, we're going to have an Investor Day on Thursday, May 4, 2023. We're going to host this one in Dallas, and we may do another one in the fall and do that up north. The program is going to have management presentations. So I'll be there. Mike and Calvin will be there. So will our Head of Sales, Jon Wax; and our CIO, Tim Tindle, will all be presenting. There'll be Q&A opportunity. And the event will also be webcast for those that can't join us in person. We'll get more details on that out to you over the course of the next quarter. But if you have any questions about it, just reach out to Al Galgano, our Investor Relations contact, and he'll coordinate things with you. Anyway, look, thanks all for joining us this morning, and have a great day. We really look forward to talking to you next quarter when we report our first quarter earnings. Take care.

[Operator:]

Thank you very much, sir. Ladies and gentlemen, that then concludes today's conference. You may disconnect your lines at this time, and thank you for your participation.