Roper Technologies Inc
F:ROP
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Earnings Call Analysis
Q3-2023 Analysis
Roper Technologies Inc
The company experienced robust operational success, exemplifying the quality of their business portfolio, leadership, and governance. Notable financial highlights include a 16% growth in total revenue, boosted by the 6% organic growth and strategic acquisitions. Recurring software revenue also saw a commendable increase in the high single-digit range. Free cash flow exhibited significant gains, rising by 19% over the trailing twelve months and by a staggering 77% for the quarter. Furthermore, this positive momentum has empowered the company to uplift their full-year revenue growth guidance to 14%+, organic revenue growth to 7%+, and diluted earnings per share (DEPS) guidance to a range of $16.62 to $16.66, representing a $0.21 rise at the midpoint compared to the previous forecast of $16.36 to $16.50.
The quarter reflected dynamic activity on the M&A front as the company strategically invested about $2 billion, including key acquisitions like Syntellis and Replicon. These acquisitions were secured for approximately 14 times next year's EBITDA, signaling a value-creation opportunity. Additionally, a $125 million minority investment was made in Certinia, creating a partnership with Haveli and General Atlantic Ventures. The company's ability to rapidly integrate acquisitions and implement cost synergies ahead of schedule further solidifies its position in the market.
The Application Software segment generated $803 million in the third quarter, marking a 5% organic growth and surpassing EBITDA margins to 44.6%. Deltek's consistent performance, Aderant's record-breaking bookings, and Vertafore's steady run, alongside the promising contribution of other companies such as Frontline, substantiated the segment's strength. The Network Software segment also performed well, with organic growth of 5% and EBITDA margins at 56.3%, despite the broader market challenges. The Technology, Energy, and Photonics (TEP) segment outperformed with a 10% organic growth and healthy EBITDA margins at 36.5%. Striking performances from Neptune and Verathon, coupled with resilience in surmounting supply chain adversities, contributed to this success.
The company maintains a solid financial stance, ending the quarter with net debt at $6.6 billion and net leverage of approximately 2.7 times, boasting a capacity for further capital deployment exceeding $4 billion. Their disciplined approach to capital allocation, driven by cash flow growth optimization, indicates a potential for large pipeline exploration while retaining a disciplined position. This balance supports their dedication to delivering value for investors through meticulously vetted investment opportunities.
With a commitment to customer intimacy and strategic focus, the company advances its product offerings by embracing Generative AI and other innovative technologies. This strategy not only bolsters their market share but also ensures their products remain mission-critical and relevant, fortifying their competitive edge. This forward-thinking approach, augmented by positive customer feedback and compelling combined product development prospects, cements the corporation's market leadership now and in the foreseeable future.
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Good morning. The Roper Technologies conference call will now begin. Today's call is being recorded. [Operator Instructions]
I would now like to turn the call over to Zack Moxcey, Vice President, Investor Relations. Please go ahead.
Good morning, and thank you all for joining us as we discuss the third quarter financial results for Roper Technologies. Joining me on the call this morning are Neil Hunn, President and Chief Executive Officer; Jason Conley, Executive Vice President and Chief Financial Officer; Brandon Cross, Vice President and Principal Accounting Officer; and Shannon O'Callaghan, Vice President of Finance.
Earlier this morning, we issued a press release announcing our financial results. The press release also includes replay information for today's call. We have prepared slides to accompany today's call, which are available through the webcast and are also available on our website.
Now if you'll please turn to Page 2. We begin with our safe harbor statement. During the course of today's call, we will make forward-looking statements, which are subject to risks and uncertainties as described on this page, in our press release and in our SEC filings. You should listen to today's call in the context of that information.
And now please turn to Page 3. Today, we will discuss our results primarily on adjusted non-GAAP and continuing operations basis. For the third quarter, the difference between our GAAP results and adjusted results consists of the following items: amortization of acquisition-related intangible assets, the financial impacts associated with our minority investment in Indicor, transaction and restructuring-related expenses associated with our completed acquisitions and lastly, a gain from the sale of nonoperating assets. Reconciliations can be found in our press release and in the appendix of this presentation on our website.
And now if you'll please turn to Page 4, I will hand the call over to Neil. After our prepared remarks, we will take questions from our telephone participants. Neil?
Thank you, Zack, and thanks to everyone for joining our call. We're looking forward to sharing our third quarter results with you this morning, which like each of the first 2 quarters this year, were quite good.
As we turn to Page 4, let's look at today's agenda. As usual, we'll start with the most recent quarter's financial highlights, then Jason will discuss our results. After that, we'll turn to our segment-specific discussion and wrap up outlining our increased 2023 enterprise guidance.
Let's go ahead and get started. Next slide, please. As we turn to Page 5, the 4 main takeaways for today's call are: first, we continue to perform at a high level operationally, delivering another quarter of very strong financial results, definitively demonstrating the quality of our portfolio of businesses, our leaders and our governance system; second, we continue to be very active on the M&A front, deploying about $2 billion over last quarter; third, we're increasing our full year guidance; and fourth, we remain very well positioned for further disciplined capital deployment.
As it relates to the first takeaway, our continued strong performance, we saw total revenue growth 16% and organic revenue growth of 6%. Consistent with our long-standing strategy, we continue to not only scale our enterprise but also simultaneously improve this underlying quality and recurring revenue base with organic software recurring revenue growing high single digits in the quarter. Importantly, the cash. As we've been highlighting throughout the year, we had very strong cash flow performance, with free cash flow growing 19% for the most recent TTM period and 77% in the quarter.
Turning to our second main takeaway, the deployment of $2 billion over last quarter was led by our acquisitions of Syntellis and Replicon, both of which are bolt-ons for Strata and Deltek, respectively. These are each strategically interesting bolt-ons and are highly compelling from a value creation perspective as we're able to buy these businesses for about 14x next year's EBITDA. More on these in a bit.
In addition, in the quarter, we made a $125 million minority investment in Certinia, a professional services automation software business. We're excited to partner with Haveli and General Atlantic Ventures to deploy the value creation thesis associated with this unique opportunity.
Third, we're increasing our full year total revenue growth to be 14% plus, increasing our organic revenue growth to be 7% plus, and increasing our full year debt guidance to be in the range of $16.62 to $16.66 or up $0.21 at the midpoint versus our previous guidance of $16.36 to $16.50.
And fourth, we continue to be very well positioned for further capital deployment by having over $4 billion of M&A firepower. We remain very active in the market as we evaluate and diligence many attractive opportunities.
So with that, Jason, let me turn the call over to you, so you can walk through our third quarter results and our very strong financial position. Jason?
Thanks, Neil, and good morning to those that have joined our call, and thank you for your interest in Roper.
Turning to Slide 6, I'll take you through our third quarter enterprise results in a bit more detail. Revenue of $1.56 billion was 16% over prior year, with 6% organic growth and a 9% contribution from acquisitions, led by Frontline.
As Neil mentioned, organic software recurring revenue growth was in the high single-digit area. This was led by strength in customer expansion and net new logos across our enterprise software businesses. Additionally, our product businesses continued to deliver with 10% organic growth in the quarter, highlighted by Neptune and Verathon.
Revenue converted nicely through EBITDA, with EBITDA of $652 million or 18% over prior year. Margin expanded in the quarter to 41.7%, with EBITDA operating leverage of 46%. This all translated to depths of $4.32 versus our guidance of $4.16 to $4.20. Of note, our recent acquisitions had minimal impact on earnings this quarter. We expect debt accretion from these deals in 2024 as we pay down the revolver and benefit from full synergy realization.
Free cash flow was very strong in the quarter and came in line with our expectations. We generated $625 million of free cash flow, which is up $272 million over prior year. As a reminder, our Frontline business delivers most of its free cash flow in the third quarter. So that, plus a terrific organic contribution drove the significant growth.
Looking at cash flow on a trailing 12-month basis, as shown on the slide, provides a more relevant comparison. With the Frontline renewals tucked into the third quarter, our TTM free cash flow was $1.82 billion, which is up 19% over the prior TTM period. With the expectation for a strong Q4, we're on track to deliver north of 30% free cash flow margins in 2023.
Taking a broader view, our TTM free cash flow has compounded 16% over a 3-year period, which is in line with EBITDA growth. In summary, our focus on compounding cash flow is evident in our results and will continue to guide us into the future.
Next slide on Page 7 here, taking a look at our financial position. We ended the quarter with net debt of $6.6 billion, including about $900 million drawn on our revolver. With trailing EBITDA of over $2.4 billion, this leaves us with net leverage of about 2.7x.
Looking forward, we have capacity to deploy $4 billion or more over the foreseeable period even after deploying $2 billion in the third quarter. As always, cash flow growth optimization guides our strategic choices. So while our balance sheet may be primed, we will be disciplined and patient when it comes to capital deployment. To that end, private markets are slowly thawing, with activity picking up over the last quarter.
With that, I'll turn it back over to Neil to go through the segment results and outlook. Neil?
Thanks, Jason. Let's turn to Page 9. And before we walk through our segment details, we'd like to start with an overview of our acquisition of Syntellis and the combination with our Strata business. To remind everyone, Strata has been part of Roper for 8 years as a leader in delivering SaaS-based financial planning, decision support and performance analytics solutions to U.S. hospitals and health systems.
Syntellis is a leading provider of SaaS-based enterprise performance management and data solutions to hospitals, higher education and financial institutions. As many of you know, U.S.-based hospitals and health systems continue to face intense pressure from macro market trends, challenges resulting from care setting shifts, reimbursement rates, lagging rising costs and labor staffing issues.
The combined Strata and Syntellis business will uniquely be able to help health systems address these difficult financial and operational challenges. Together, the enterprise has relationships with about 70% of the country's health systems.
Stand-alone, Syntellis meets all our acquisition criteria, a leader in a niche market, delivers mission-critical application-specific solutions, is an HSD organic growth business and operates an extremely asset-light business model. Taken together with Strata, it only gets more attractive in terms of the combined customer base, the combined product offering, the combined financial profile and the combined future product development opportunities.
For 2024, we expect Syntellis to deliver about $185 million of revenue and about $90 million of EBITDA inclusive of cost synergies. Of note, this EBITDA is $5 million higher than at the time of our deal announcement. Considering the $1.25 billion net purchase price, the valuation is about 14x next year's EBITDA and will only improve from there.
Operationally, the teams have moved quite expeditiously and are ahead of schedule relative to the near-term value creation plan, having implemented about 85% of the cost synergy opportunities within the first 45 days. In addition, the customer feedback has been overwhelmingly positive.
Finally, the new combined leadership team headed by Strata's CEO, John Martino, are turning their strategic attention to new combined product development ideas. Net-net, this is a highly compelling value creation opportunity for our customers and our shareholders.
And with that, let's now turn to Page 10 and walk through our Application Software segment. Third quarter revenues for Application Software segment were $803 million, up 5% on an organic basis and EBITDA margins increased to 44.6% in the quarter.
We'll start with Deltek. Deltek was solid in the quarter with sustained momentum in their SMB channel and the private sector solutions. They continue to see sluggish activity in their GovCon Enterprise segment given the backdrop of federal government spending uncertainty. Retention rates across the entirety of Deltek remain high.
Importantly, over the last couple of months, Deltek released a GenAI-enabled data collection capability for the GovWin IQ business and LLM-based processing features for their VantagePoint product. It's good to see further adoption of GenAI within the portfolio.
Also in the quarter, as we outlined on last quarter's call, Deltek closed the acquisition of Replicon, albeit about a month later than anticipated. To remind you, Replicon is a market-leading timekeeping and workforce management SaaS solution focused on professional services firms and is highly complementary to Deltek's strategy. We continue to expect Replicon to contribute north of $70 million of revenue and $24 million of EBITDA next year.
Aderant, our software business focused on the needs of law firms continues to excel and delivered a very strong quarter. In the quarter, Aderant saw record third quarter bookings and continued success in the adoption and cross-sell of their SaaS solutions.
Also and importantly, during the quarter, Aderant continue to mature and gain market traction with their generative AI enabler, MADDI. Aderant's most recent GenAI product release enables passive fee earner time entry assistance through Aderant's iTimekeep product line. Great to see this rapid product innovation at Aderant.
Vertafore, our software business that tech enables property and casualty insurance agencies continues to be a great business for us, with solid performance across our core P&C business and their recent MGA solutions bolt-on.
Strata, independent from the Syntellis acquisition, was strong in the quarter and continued to gain market adoption of their leading decision support and financial planning solutions. Finally, Frontline had strong customer renewal season and delivered significant cash flow, as Jason mentioned, to the enterprise in the quarter. Looking to the final quarter of the year, we expect to see organic revenue growth to be in the mid-single-digit area for the segment.
Turning to Page 11. Third quarter revenues for our Network Software segment were $364 million, up 5% on an organic basis and EBITDA margins were 56.3%.
Let's start with our U.S. and Canadian freight matching businesses, DAT and Loadlink, both of which grew in the quarter despite the continued challenges across the broader freight and logistics markets. Over the last quarter or two, these businesses have done a fantastic job of baselining their cost structures while continuing to invest in new product development. This led to strong segment margins in the quarter.
Relative to product development, and as we highlighted a touch last quarter, DAT launched GenAI-enabled solutions among other initiatives targeted to combat freight industry fraud, which is a problem that plagues the entire industry. Within the first month of release, DAT has made a significant dent in fraudulent activity and DAT's customers have noticed and recognized this great accomplishment.
This is a shiny example of why and how Roper businesses continue to innovate through and across macroeconomic cycles, which enables us to consistently deliver on market and customer opportunities, ultimately leading to market share gains.
Turning to our iPipeline, our network software business that tech enables the distribution channel for life insurance and annuities. iPipeline continues to execute at a high level and gain market share. In the quarter, they had very nice ARR gains driven by strong retention and customer expansion activity. This growth is directly attributable to iPipeline's strategy that is laser-focused on their core life insurance and annuity customer base.
We talked about this concept during our Investor Day earlier in the year. A closely held value of Roper in our businesses is a notion that we compete and win based on customer intimacy. Customer intimacy requires focus and strategic choice. iPipeline, over the last 2 to 3 years, has excelled at this, the concept of focus on the core and choice, which enables further market share gains. Great job, team.
Foundry, our media and entertainment postproduction software business continued their business model transition to a subscription model and is ahead of plan in that regard. Though industry demand was temporarily paused given both the Hollywood writers' and actors' strikes. Notwithstanding, Foundry continues to innovate their product offering and will aggressively compete for customer wallet share in the coming months as the actors' strike resolves.
Finally, our alternate site health care businesses, MHA, SoftWriters and SHP, were strong in the quarter. Execution was solid, and the business has benefited by having improved census in skilled nursing, assisted living facilities and home health reaching the highest occupancy levels and patient volumes since the onset of the pandemic. For the final quarter of the year, we expect to see low single-digit growth for this segment based on continued challenging freight market conditions and the actor's strike impact on Foundry.
Now let's turn to Page 12 and walk through our TEP segment. Revenues in the quarter were $396 million, up 10% on an organic basis. EBITDA margins for the segment were strong at 36.5% in the quarter.
We'll start with Neptune, our water meter and technology business. Neptune delivered another fantastic quarter of operational and financial performance. As has been the case for several quarters, Neptune continues to see strong demand and momentum for the residential and commercial ultrasonic or static meters and increasing adoption for their meter data management software. We remain bullish about Neptune and the market in which they compete, given this market tends to be quite steady as Neptune's customers' budgets are typically fixed year-to-year and not tied to broader macroeconomic trends or cycles.
Verathon was awesome in the quarter as well with double-digit order growth and tremendous operational execution. Specifically, Verathon saw strength across the reoccurring single-use products, both bronchoscope or BFlex and video innovation or GlideScope as well as BladderScan capital purchases. A group of smaller businesses here, Inovonics, IPA and RF IDeas were fantastic as they were last quarter, substantially working through a series of nagging supply chain challenges. Relative to the final quarter of the year, we expect to see low double-digit organic growth for this segment.
Now please turn to Page 14, and let's go through our increased 2023 guidance. Based on our strong third quarter performance, we're raising our full year 2023 guidance for total revenue, organic revenue and adjusted debts. For 2023, we now expect total revenue growth to be 14% plus, an increase from about 13% last quarter. In addition, we're raising our full year organic revenue outlook to be in a 7%-plus ZIP code, an increase from about 7% last quarter and 5% to 6% in our original guide for the year.
As a result of our improved revenue outlook, we're increasing our debt guidance for the year to be in the range of $16.62 and $16.66, up from our prior guidance of $16.36 to $16.50. Assumed in this guidance is the tax rate trending to the high end of our 21% to 22% range. For the fourth quarter, we're establishing adjusted DEPS guidance to be in the range of $4.28 and $4.32.
Now please turn over to Page 15, and then we'll look forward to answering your questions. We want to leave you with the same 4 points with which we started. First, we delivered yet another solid quarter. And in the third quarter, revenues increased 16% to $1.56 billion. This growth was underpinned with 6% organic revenue growth and high single-digit organic software recurrent revenue growth. In addition, EBITDA margins were notably strong at 41.7% and cash flow was outstanding, growing 77% in the quarter and 19% on a TTM basis.
Second, we successfully deployed $2 billion of capital in the quarter, led by the bolt-ons of Syntellis and Replicon. These 2 deals will deliver about $115 million of EBITDA next year and are priced about 14x next year's EBITDA, quite compelling.
Third, based on the strong quarter performance, the recurring nature of our revenue stream and the importance of our solutions to our customers were increasing our full year total and organic revenue growth outlook and increasing our full year debt outlook to be between $16.62 and $16.66. And finally, notwithstanding this quarter's $2 billion of deployment, we continue to be active with our capital deployment activities as we have north of $4 billion of available M&A firepower.
As we've been discussing over the past several quarters, we have a very large pipeline of opportunities, though, as always, we remain super patient and highly disciplined to ensure the continued optimal deployment of our available capital, just as we did with the Syntellis and Replicon acquisitions. We firmly believe that patience, as is always the case with capital deployment, will be rewarded.
Before we turn to your questions, I'd like to share an exciting addition to the Roper executive team. During the quarter, Janet Glazer joined our team and is leading our acquisition cultivation and corporate development outreach efforts. Janet will partner with our M&A resources, our corporate leadership team and several of our business units to increase our forward-leaning posture with private equity sponsors and their businesses. Most recently, Janet was a global sector leader and portfolio manager at Fidelity. We're super excited that Janet has joined our leadership team, and welcome aboard.
Now as we turn to your questions, and if you could flip to the final slide, our strategic flywheel, we'd like to remind everyone that what we do at Roper is simple. We compound cash flow over a long arc of time by operating a portfolio of market-leading application-specific and vertically-oriented businesses.
Once the company is a part of Roper, we operate a decentralized environment so our businesses can compete and win based on customer intimacy, yet we chose our businesses on how to structurally improve their growth rates and underlying business quality Finally, we run a centralized process-driven capital deployment strategy to focus on finding the next great business to add to our cash flow flywheel. Taken together, we compound our cash flow in the mid-teens area over a long arc of time.
So with that, thank you for your continued interest in Roper, and let's open it up to your questions.
[Operator Instructions] The first question comes from Julian Mitchell with Barclays.
Maybe I just wanted to focus on the network software business for a second. One question, really trying to put a finer point on how much of a headwind in that Q4 sales guide you have from the freight markets, what sort of pace of decline or softness there? And is Foundry more of a sort of rearview month of October type headwind? And then was there anything onetime in the network software margins in Q3 that made them so high?
Julian, thanks for your question. So I'll try and take them in reverse order. The margins I tried to cover in my prepared remarks, how DAT and Loadlink have just done a great job in Q2 and Q3, aligning the cost structure of where the business is today. And so they're actually a little bit ahead of where they wanted to be in that regard, so that's what drove the margins.
Relative to Foundry, it's very much in Q4. I mean there's still much -- very much is an active strike for Foundry in post-production. They need content flowing through the pipeline. And right now, writers are writing, but actors aren't acting. The general consensus is that will sort of resolve itself in Q4, but one never knows. Then the pipelines will build and sort of leading into maybe the second half of Q1 and Q2, Foundry's demand will sort of dip back to normal levels. So it's sort of the Q3, Q4, maybe Q1 impacting.
Relative to DAT and Loadlink, I'll remind that DAT has just been remarkable over the last couple of years. it's really been abnormal growth. It's been exceptional. DAT has a super long history of being very steady and growing. They grew in the quarter. They continue to innovate in October here. We've seen sort of -- we're bouncing along the bottom, if you will, maybe a slight uptick in the first handful of weeks in October, who knows if that sort of started the trend or just some of the yellow sort of capacity coming into a different part of the market and reshaping. But we expect normal behavior for DAT. It's just we've got to wait to about get off the bottom here in terms of the industry group volumes.
If you want to add that, Jason?
No, I think that's right. I mean the abnormality, if you draw a straight line from 2019, you'd see the business has been up substantially, right? So we have sort of this exceptional growth. A lot of carriers come in the market, they're exiting out. And again, it's just been a good steady growth for us over the last 20 years, absent sort of this exceptional period.
And just back on Foundry, I would say that what we've observed is the gross retention of the business has been extremely strong. We have moved to a subscription model this year, and so that gives customers pause on if they get off maintenance, they're going to have to come back on a subscription. So we feel good to -- once the actors' strike is done, that business is going to pick back up next year, hopefully.
And then just a quick follow-up. It sounds like Syntellis is off to a strong start. But maybe my question on Certinia more, maybe a slightly unusual structure for Roper to go into this minority interest approach given the attributes when you bring something in-house. So maybe just sort of explain why you went for this structure. And any sense of the scale of Certinia or the size of that business?
Yes. So we're partners with Haveli principally in -- the Haveli partners, we know quite well. It was one of the founders of Vista and then the person who led the tech practice at Bain, came together and joined Haveli, so the long history of both of them as individuals, they actually approached us to see if we can lend some of our expertise to the situation. So we're intrigued by being able to help. We're intrigued by the value creation opportunity here. It's a very compelling value creation opportunity.
And then we'll also learn a thing or two along the way. I mean this is a smart group of people that have a long history of doing this type of transaction. It's a unique opportunity, Julian, as you mentioned. We're not looking to do a lot more of things like this. This is not the beginning of like a large book of minority investments.
We'll continue to be opportunistic, but it's not going to be anything -- it's going to be few and far between in terms of our pacing and volume on this. And the scale, I think we're on it at the private business, so we'll sort of keep the scale of the business sort of in the private domain.
The next question comes from Allison Poliniak with Wells Fargo.
Going back to the technology-enabled products, it seems like certainly a tick up in terms of where you were expecting the second half of this year. I know you mentioned Neptune and Verathon. But any specific vertical driving sort of that outperformance in the sector in the space?
I'm sorry, you broke up just on the very end there, Allison. So I would say -- so just to reiterate it, sort of Neptune is -- I mean, it is a bit market based and that market continues to be very healthy. The customers are -- ordering patterns are consistent and robust, lots of backlog carrying into next year. So there's market share gains and product advantage we have and also a cooperative market for sure.
With Verathon, the market dynamic is moving towards single-use in the category in bronchoscopes from reusables because of infection control. So it's a market that is definitely a growth market that we are very soon to be the #1 player in, knock on wood, maybe this quarter. And so that's market related, but just tremendous execution by the team, both go-to-market and product, it means tons of product vitality.
And then also in the segment, we have a couple -- we mentioned a couple of smaller RF product businesses. That's less market and more just clearing through just a mountain of supply chain problems that plague the businesses for many -- a few quarters. And second quarter and third quarter are great in that regard to those businesses.
Understood. And then just turning to M&A. You mentioned sort of those private markets starting to fall. Can you maybe talk through sort of the multiples that you're starting to see there? Are they as attractive as what we've just seen this past quarter? Or do they still need to come in a little bit here?
Yes. That's really the question. The -- so it's like the market Jason sort of referred to it is like a coiled spring. I mean there is a tremendous amount of activity, like forming activity, investment bankers, pipelines are filling processes are starting. There's increasing pressure from the LPs onto the sponsors to start thinking about getting some liquidity back to them.
The sponsor is starting to think about raising new funds, they need liquidity to do that. So there's a lot of the precursor activity that is required to see transactions come back into the market. The question still remains about the bid-ask spread between buyers and sellers.
You still -- the number of printed deals to date is still small, right? So this is -- and we anticipate -- well, we know there's going to be more opportunities. We don't yet know where they're going to clear we continue to be super patient. The market is coming to us. We don't have to chase the market. If we can find very compelling value opportunities like Replicon and Syntellis, we'll do them. If we don't, we'll remain patient.
The next question comes from Deane Dray with RBC Capital Markets.
First, congrats on hiring Janet. I've known her many years, I think she'll be a great addition to the team. So congrats.
Thanks for saying that. We're looking at her, she's sort of -- she's not on the exact script, we're looking at her, and she's blushing. So she's going to be great as part of the team for sure.
That's fabulous. All right. So first, I wanted to go back, more of a macro question. Have there been any changes at the margin and customer decision-making, the pace of new logos? You called out Deltek, which is understandable given their government service side, some of the uncertainties there. But just kind of broad brush, are you seeing any changes in customer behavior?
So it's played out as we anticipated over the course of the year. It's really been a mixed bag. Just look at one company in Deltek, strong across SMB, both on the government contracting and private sector, professional services markets, strong at the enterprise level for PS, less strong on the government contracting side at the enterprise level. So it really is a mixed bag. In that case, it's less macro related and more tied to the uncertainty around what's happening to the federal government and budgets and what's going on there.
You see strength across the pipeline. You see strength at Aderant. Those are very healthy customer bases. So it really is a mixed bag. Obviously, the weakness at DAT given that we just talked about with just where freight markets are, so it's really a collection of bespoke things than it is sort of a broad brush macro across the portfolio.
All right. That's good to hear. And then second question on -- maybe more of an update on GenAI. It was interesting that you called out several initiatives that the companies are pursuing, DAT and Aderant. Are these mostly bottom-up initiatives by the companies? Or is there anything from the headquarter side, maybe you're getting some expertise to help identify opportunities? And maybe give us a sense of how penetrated it is today within Roper and what kind of adoption might you see a year from now, just to kind of -- it sounds like you're playing more offense here in this, and would love some insights.
Sure. Yes. So we're definitely playing offense here. We think this is a transformational technology, right? It's not a trendy paradigm or hyping a fab. We think this is a foundational technology that will change the way we all live our personal lives and business will be conducted over the course of the next 5 to 10 years, right?
So that's our view on the technology of GenAI and large language models, et cetera. So what we're doing is really a combination of top-down bottoms up, if you will. From a top-down perspective, Deane, we've organized -- we've deputized, I should say, a couple of our group executives, Satish Maripuri, Mike Corkery, to lead an education series across a variety of topics for GenAI for our companies.
So we've done a series of Zoom meetings, 3 or 4, we've got 5 or 6 still to go. They're spaced out every 3 or 4 weeks around -- but started with what is GenAI. And it's evolving more and more into how do you deploy, methods of deployment, where and how the organization deploys both from productivity and new product ideas.
So the hope with that is that it creates -- it spurns this creative thinking across the 18,000 people at Roper to think about how they impact our customers positively, how it impacts our operations positively. So ultimately, it will be a bottoms-up ground-12 ideas, but we're accelerating the learning, if you will.
Ultimately, we might do a couple of other things at the center around contracts with some of the larger players or deployment models for cybersecurity, safety and security purposes. But as with Roper, all the good ideas will be generated bottoms-up from the field and the leadership team and the employee base.
The next question comes from Joe Vruwink with Baird.
Great. In the slides, you make the distinction that organic software growth, the recurring software growth, that's already in the high single digits. And then, of course, your reported organic is 5%. And I guess the question, is that generally going to be the spread you would expect just given professional services and probably license attrition over time? And then is that spread expected to be consistent in the foreseeable future?
Joe, it's Jason. I would say that there always will be a spread. It was probably a little bit more pronounced this quarter just because we had some deals in AS pushed out, and we have -- we talked about Foundry going from perpetual to subscription. So yes, there always will be a spread. It's -- like I said, it's probably a little bit more pronounced than the third quarter though.
Okay. And then I wanted to go back a couple of quarters ago now you mentioned that AS had ramping services capacity that was to support strong bookings in your health care assets. I'm wondering if you can maybe just provide an update on maybe whether those awards have gone live.
And then in the broader health care apparatus, what are you seeing there? Obviously, you're increasing exposure there now via M&A. I guess, how does maybe organic growth as a profile stand relative to the AS broader segment?
Yes. So relative to the professional services ramp build, that was principally at our laboratory -- global laboratory business, CliniSys. They've done just a tremendous job competing and winning in the U.K., in the French market, in the Benelux region, they tend to be larger installs, and they did a nice job there. It also is around power plan, where -- and that, I think, their second quarter services bookings was the largest services bookings quarter in the company's history, if my memory serves me correctly. So the deals have sort of formed in the capacity, is in the process being utilized. So good operational sort of foresight from those 2 businesses.
And then relative to health care exposure, I mean, it's -- with Syntellis, I mean it's a stand-alone high single-digit growth business. Our Strata business was a little bit better than that over our ownership period. And the companies -- the combined company, now they've got most of the cost synergy work, is super excited about the new product development ideas they have to further monetize both the customer base and persona. I mean we have 70% of the health systems as customers with the persona of the CFO, which is -- it's not just the same customer, but the same persona in between the 2 companies, and we're very excited about what that can do.
The next question comes from Scott Davis from Melius Research.
Guys, when you compete -- when you're doing a more bolt-on-ish deal in this kind of rate environment, are you competing against a different type of competitor in these things versus maybe a year or two ago? Is there less PE shop showing up? And just kind of trying to get a sense of if there's just less competition overall for those types of transactions.
So what I would say is, as a general matter, we're still competing against the sponsor community, though the depth of the field is a little thinner. In the case of Syntellis, it was really a proprietary deal. And we haven't seen many proprietary deals in a long time, right? I mean in a more frothy market, even if you were the most likely owner of an asset, the seller would run a market check. And in this case, we're able to just sort of cut through all that and reach a deal that made sense for both parties. So maybe in that regard, I mean, the competition is a little thinner, but it's the same set of characters.
Okay. Makes sense. Not much to pick on, very solid quarter overall. But can you give us a sense of materiality of kind of the foundry, just the strike impact and everything. If foundry wasn't in the mix, would growth have been higher than the 5% segment growth.
Yes, I'd say a little bit. I mean it's -- for the second half, it's like single-digit revenue impact relative to our last guide. Mid-singles.
The next question comes from Terry Tillman with Truist.
The first question is on Frontline. If I'm not mistaken, you have this important renewal season. We saw the strong cash flow in the quarter. I'm curious, those are important kind of milestones when they're renewing and you get the cash flow. So what happens and what did you see with expansion or interest in expanding products or modules, adding more seats, taking pricing? And then the second part of my first question is just how is new business growth going in Frontline?
Okay. So Frontline, as we mentioned, I mean, it was just a good first year. The renewals and the -- were right on plan, consistent with last year. Gross retention was in line with historical and net retention. So relative to the upsell, cross-selling was in line with historical rates, sort of [ 103, 104 ], was very consistent in the quarter for Frontline, for net retention. So steady as she goes. It just goes to the criticality of what Frontline does for the customers in which they serve. Again, they empower the frontline of education. So it's good.
In terms of the new cross-selling -- or excuse me, net new customers, it's been very good on the -- sort of the run rate business at Frontline. Actually a little bit better than prior years. And then as it goes with the loss of small numbers, there's a handful of large deals that Frontline normally gets in any given year. The larger deals have been a little slower to show up this year.
They're still in the pipeline. They're just starting push things to the right, but we're talking about 3 to 5 deals in the course of a year. It could -- it's just a lot of small numbers, so we're not reading too much into that. Hard to recall a macro or a lack of execution. It's just a small number of deals.
Okay. I guess just my follow-up is on Neptune. Do you foresee this momentum continuing into '24? And how much should we hang our hat on this meter data management product? I mean does that move the needle? Does it have good attach rates?
Yes. So Neptune, Neptune has got a lot of backlog carrying next year. And obviously, we've got to go through our planning process for all of our companies and understand the puts and takes. But we expect Neptune to have another good year as a general matter, just given the momentum in the backlog, the market positioning, the capacity they have, the competitive advantage they have.
Related to master data management and the software, it's been an important part of this business. As we have more technology on the meter to get more data off the meters and do and push more capability to the theaters, you have to be able to start to process a gigantic volume of data, to be able to put it into a billing system or cash collection system.
And so we have a pretty decent size and highly capable software group at Neptune that didn't exist 10 years ago, that deals with this, and it's a growing part of the business. It's always -- it's a smaller part of the business, but it's a fast-growing part of the business, one worthy to call out in the quarter. So I appreciate the question.
The next question comes from Christopher Glynn with Oppenheimer.
So a lot has been asked. I was curious about some language in the press release that guidance doesn't include, obviously, future acquisitions or divestitures. You've had a pretty broad stroke of divestiture over a couple of year period recently passed by. So curious if that -- the intent on putting that word in the press release.
It's just standard language, Christopher. So nothing to read into that.
The next question comes from Joe Giordano with Cowen.
So on M&A, like if we're going into like kind of a more murky kind of macro environment here, a little bit more uncertain, I get why it would kind of open up those markets a little bit. But do these large -- like larger-scale bolt-ons become incrementally more attractive to you in like times like this just because you kind of know the markets more, you probably have kind of more certainty around an outcome than like bringing in something that perhaps is an adjacency or something that you're just less familiar with in general?
Well, Joe, I would say yes and no to that. I would -- I mean, first of all, times of uncertainty relative to our capital deployment, our history and pattern recognition says those are great times for us, right? You go back to like the pandemic, we do Vertafore. Like in the late summer of 2020, it was a terrific business for us, a great asset for us, our largest deal. Because of our balance sheet strength and our flexibility, we were in business when nobody else was and the sellers need to sell. Frontline, very different reasons last year, very similar. Syntellis, I mean, it's opportunity in this uncertainty, so we like that.
Now as it relates to is it going to be deployed as a platform or a bolt-on, we've built over 20 years, the ability to understand -- be a great, if you will, humbly, a business picker. And part of that is understanding the markets and understanding competitive advantages. But in that, we're looking for stability, right? We're looking for stable competitive forces, observable competitive forces, small markets, clear leadership position, high gross and net retention. That's a formula for stability from which to grow from. And so if we see things like that in these uncertain times, we'll certainly lean into that.
At the same time, as we talked about at our Investor Day, for our capital deployment strategy, we are trying to lean in to do more bolt-on activity, because they've historically been the best value-creative deals we've done. They help our businesses, once they turn organic, grow faster. That's a gigantic part of what we brought Janet in to do to, is to help lead that part of our investment strategy. And so we'll do either, but you understand sort of the dynamic between -- the interplay between the two.
Yes. That makes sense. And then just last, we still don't have a speaker of the House, we may have a government shutdown coming at the end of the year. What are the implications of something like that on Deltek's business?
I think all of that is factored into the current environment. I think the large government -- the enterprise class government contractors, based on just the uncertainty have -- or just are being very cautious in their activity. They've been cautious over -- it fits and starts this year.
So I think it's baked in. It's certainly reflected in our balance of the outlook for this year, sort of continued uncertainty. And this -- but the good news is this will eventually clear itself and then the government gets back to spending, and that will be a catalyst for Deltek.
I'll just echo Deane's comments. Great hire on Janet. We'll miss her as a client, but a good home for her and great hire for you guys.
Thank you.
The next question comes from Steve Tusa with JPMorgan.
Congrats to Janet as well. Yes. can you guys just -- obviously, great cash in the quarter, I guess, you guys have talked about the seasonality here. How do we kind of think about the 4Q from a working capital perspective now? Like how should we -- should we look at history? And is there anything that kind of gives back when it comes to front line in the fourth quarter? Like what -- how do we think about working capital? Should we expect another strong working capital performance similar to what we just saw in the third quarter -- like history?
Yes. I mean before Frontline, Q4 was our strongest quarter of the year. We have a lot of large renewals at our enterprise software businesses we expect it to be strong again this year. I mean I don't think Frontline is going to really give back. They're just not going to give, right? They'll be kind of flattish on cash. So we feel good about sort of the fourth quarter and how it's going to close out the year. We still expect to be north of 30% free cash flow margins for this year. And so Q3 was obviously strong, and we expect the same in Q4.
And anything else year-over-year in Q4 from a cash tax timing perspective or outside of working capital we have to be aware of?
Not really. Yes.
Okay. So effectively, net income growth and then some working capital benefits?
Right.
Okay. Great. And then just following up on the environment and enterprise software. You guys mentioned there's like -- there's pockets of softening, I think. Just -- could you just clarify like what you're seeing broadly there from customers into '24? It just seems like the economy is mixed, but a lot of the software businesses out there are holding up really well. How would you guys kind of characterize the environment maybe a little bit deeper there?
I mean I think it's -- again, just to remind everybody, right, I mean we've got a business model that's like built on durability, right? So it's very highly incurring. What we do is mission-critical, so we're not -- we're not on the fringe, generally speaking, something that can be turned off and on. We're just -- we're a system of record. We operate sort of the freight markets, like our customers need our software that leads to high retention. There's pricing, that's routine in the growth algorithm. Most of the cyclicality has been taken out of the business. And so this is -- the macro is it's a very durable set of businesses. So we're talking about a point or two here or there relative to the impact of all of this.
There isn't -- we talked quite a bit getting rid of this call, Steve, about is there some broad brush, a [ pan room ] for macroeconomic impact. And what we say is -- what we said from the beginning of the year is we just expected from our January call that software would be a little slower. Because generally, you're not going to buy new large software with uncertainty in the market.
So the impact on our growth algorithm is gross retention is -- we expect that it is a little bit higher. Cross-selling and up selling should be a little bit lower, because you're not going to grow as much with your customers. And then we're not -- so net retention is going to net out to be in the same area code as it always has been. And then you're not going to sell as many large new things, and that's essentially what's played out across the enterprise.
But there's pockets of differences. You've got a ton of strength at Aderant. You have a little bit of weakness in Gatan and Deltek. You've got strength at -- help me -- with iPipeline, sorry, tons of strength in iPipeline, improving strength at ConstructConnect, but then you have the DAT headwind. So it really is a mixed bag of things.
The next question comes from Joe Ritchie with Goldman Sachs.
And congrats to you both, Janet. I look forward to reconnecting sometime in the near future. Just my first question, maybe just talking on the bolt-ons for a second. So clearly highlighted Syntellis and Replicon today. As you look across your portfolio, where do you see the most opportunity to potentially bolt on?
So we're in the early stages of doing that, right? So we don't want what we do not and we will not do, is do a center-led process from Sarasota and say to any one of our companies, here's something you should buy. We're not going to do that. We will not do that. What we are going to do is we're asking the vast, vast majority of our businesses as they go through their strategic planning cycle to have both an organic and an inorganic strategy.
And so as we go through that vetting exercise, we'll build -- we'll understand the strategic areas of expansion and then we'll have the discussion, should it be organic or inorganic. From there, we'll then forward lean to figure out the inorganic opportunities and then go from there. So that's the process.
As a general matter, I think the larger businesses are the most obvious ones, where we'll start, Deltek, Frontline, Vertafore. But it's not limited to the largest ones. I mean Strata was sort of an average or a mean size business for us, if you will, and there was a very compelling opportunity. I think we'll ultimately have, if you will, again, the vast majority, maybe as many as 20 of our 27 companies will have some inorganic growth strategy. Whether or not we execute against that is a whole nother thing, but at least we'll have strategies formed across the vast majority of the portfolio.
Got it. That's helpful, Neil. And I guess maybe just a follow-on question. As you think about renewal rates, you mentioned Frontline. So I think 3Q tends to be more like the typical quarter where you'd see more renewals for Frontline. Across your portfolio, does it tend to be more weighted around like the fourth quarter? Or just any -- any color you can give us on, I guess, the confidence in your retention rate staying very high going into next year?
Yes, Joe. Yes, fourth quarter is a very strong renewal season for us at Deltek, Vertafore, Aderant. So -- but I'd say it is balanced across the year but more in the fourth quarter. But obviously, with Frontline in the third quarter, that's changed the dynamic there. But we expect some strong renewals. We had our operating calls this quarter and the renewal process has already kicked off for the fourth quarter for these businesses, and we're hearing positive feedback.
The next question comes from Brett Linzey with Mizuho.
Congrats on a nice quarter.
Thank you.
Hey, just wanted to come back to ConstructConnect. I think in the previous comment, you said improving strength. I was just hoping you'd put a finer point on that improving activity, just particularly given some of the incoming data, construction is a little bit weaker, higher rates and so on. So I'd just be curious what you're seeing there.
Yes. So just to remind everybody, ConstructConnect is the leader in commercial construction informatics. So in this data set, it's used in the planning stages of construction. So once the shovel goes in the ground, that's a different part of the industry and one in which we do not compete.
So it's actually -- so think about if you're a contractor or a building product manufacturer and there's so much work to do that you have a backlog, you're not even responding to RFPs, that's the environment we've been in for the last handful of years. It actually has a dampening demand driver for our business.
When business is harder to find, there's fewer projects, then the contractors are having to work harder and find opportunities that plays into the strength of ConstructConnect. So to the first point, why we're seeing some improving strength there is because the market is coming to us. It tends to have countercyclical demand drivers.
But we have to -- when we talk about construction, we've got to talk about the operational improvements that have happened in the business with Matt Straza and his team at ConstructConnect. They're doing a tremendous job taking complexity out of this business, having a go-to-market motion that's more efficient, having a product motion that's more efficient, having a marketing message that's more efficient. And so when the market is coming to us, we're going to do -- we are doing a better job capturing that demand. So it's a combination of both market and operations.
Got it. I appreciate the color. And then just last question on the margin outlook. I understand you don't want to give full guidance here in October for next year. But just thinking about the moving pieces, the mix differences in the businesses, is there a framework to think about in terms of percent margin expansion, incremental margins and particularly within network software, I mean, do we build off these high levels for next year?
Yes. I mean I think it's a little early to talk about margins for next year. But I mean, broadly, 45% operating leverage is sort of what our long-term model is, and we've been close to that this year. You're probably right, though on network, it will be maybe a little bit above that next year, but it's still too early to tell.
The next question comes from Brad Hewitt with Wolfe Research.
So I noticed that Tim Haddock, your VP of Acquisitions, is on the Board of Certinia. Is there anything to read through there in terms of potentially seeing that relationship with Certinia evolve and deepen over time?
I wouldn't read too much into that. We have a Board member and a Board observer. And part of us delivering our knowledge, if you will, to that enterprise and also learning from the enterprise comes partially through the Board interaction. And so I would not read anything into that other than he was -- Tim was the one who helped shepherd the process. He had the relationships. Obviously, the M&A team leads the diligence. And so he's just a named Board member. I wouldn't read anything into that this is a one step into a second step transaction.
Okay. That's helpful. And then maybe switching gears. In terms of free cash flow conversion, you guys have typically targeted conversion of about 80% of EBITDA and historically, you've executed on that. But now following the Indicor sale, just curious if you guys have kind of reassessed that number and whether there's scope to kind of outperform on that from a longer-term perspective.
Yes. I mean I think I've said it for about a year, we kind of look at things as a kind of a margin as a percent of revenue. And being north of 30% of revenue on free cash flow is kind of the right way to think about it. With EBITDA, obviously, with interest rates changing, it's not -- it's good to look at it in a certain point in time, but over time, that could change. So a percent of revenue is sort of how we think about it, north of 30% is our target.
This concludes our question-and-answer session. We will now return back to Zack Moxcey for any closing remarks.
Thank you, everyone, for joining us today. We look forward to speaking with you during the next earnings call.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.