Data Communications Management Corp

TSX:DCM

Earnings Call Transcript 2021-Q1

[Operator]

Good day, and thank you for standing by. Welcome to the DATA Communications Earnings Call for Q1 2021 Results Conference Call. [Operator Instructions] Please be advised that today's call is being recorded. [Operator Instructions] I would now hand the conference over to James Lorimer. Please go ahead.

[James E. Lorimer, CFO & Corporate Secretary]

Thank you, Tabitha, and good morning, everyone, and thank you for joining us today for our first quarter of 2021 conference call. Speaking on the call this morning will be Richard Kellam, President and CEO; and myself, James Lorimer, CFO. The prepared remarks on today's call will be followed by a question-and-answer period. We'd also like to remind everyone that Richard and I can be available after the call for any follow-up questions that you might have. Before we begin, I'll remind everyone that we will refer to forward-looking information on today's call. This information is subject to certain risks and uncertainties as outlined in the forward-looking information disclosure in our press release and more fully within our public disclosure filings on SEDAR. We will be adding a brief video from Richard along with a summary of our results and key initiatives for 2021 on to our website following the call. Our detailed information will be published on our website and on SEDAR. You can also follow us on LinkedIn to review some of our business insights on relevant market trends and customer case studies. With that, I'd like to introduce Richard Kellam, President and CEO, and turn the call over to him.

[Richard Clarence Kellam, President, CEO & Director]

Thank you, James, and good morning, everyone. We're generally pleased with our performance in the first quarter of 2021, which was a tough comparative to last year. COVID-19 had little impact to the market and our business until late March 2020. The first quarter of 2021, of course, was a very different environment compared to last year with extended lockdowns of state home orders in effect. Despite the headwinds that lockdowns created in revenue flows, we continued to deliver improved mix and operational excellence, positively impacting our gross margin overall financial performance. Given our continued strength and partnerships with enterprise clients, we are well positioned for revenue recovery as vaccinations rollout and consumer movements return to some level of normalcy. Despite revenue declines compared to a year ago, in what we call the non-COVID quarter, first quarter 2021 revenues of $62.4 million were slightly ahead -- are 3% ahead of the average last 3 in-COVID quarters. Gross margin dollars of $18.8 million were the strongest since the second quarter of 2020, as was gross margin percentage at 30.1%, up from 28% a year ago. SG&A expenses of $15.5 million were down 10% from $17.2 million in the first quarter of 2020. With these improvements in mix, gross margin and SG&A, we delivered adjusted EBITDA of $9.4 million or 14.9% of revenue, up from 13.5% in quarter 1 2020. Today marks exactly 65 days into my new role with DCM, and I'd like to provide some further thoughts on our team, our position in the market, where we've been and where we're going. I have 5 key themes I need to touch on today. First, exceptional talent. On our last earnings call, I talked about the exceptional talent within DCM. We have a great mix of high performers, high professionals and high potentials. Our recently formed senior leadership team comprised of 12 highly engaged and experienced individuals. If you'd like to meet the team virtually, please visit our website under the About Us Leadership tab. I made some significant changes 2 days after joining the company on leadership transitions. I'm happy to report that this new leadership team has been entirely built from within, with no external hires having to be recruited. The team is also characterized by its diversity, client focus and experience in delivering operational excellence to our clients. and reflective of my belief in having an organization with wide spans of control and fewer management layers. Diversity in many forms is represented on this leadership team, including diversity of gender and culture plus internal and external experience. This breadth of diversity will be important to help us think outside the box as we plan for the future. So far, I've been quite impressed with the passion and collaborative approach of the team, and the team is taking, identifying and tackling a number of important projects we've been working on to further shape and focus the direction of our business in the future. Also, over the last 65 days, I've had the opportunity to connect and work with many of the 1,100 associates at DCM across all functions and business units. I continue to be very impressed with the talented teams and the individuals that I've had the pleasure of working with. The results in the past year bear witness to what the DCM team has been able to accomplish. We will continue to improve decision-making and workflow for reducing layers and increasing spans of control. The second area I want to touch on is our strong client engagement. Importantly, there is strong commercial representation on the leadership team with at least 5 team members focused full-time on leading our client strategy and development efforts. We've had some good success in the first quarter securing new business and renewals. Recent wins in the financial service lottery cannabis and retail sectors speak to the value we bring to our clients. We track our success in new business wins, and it's imperative -- and it's very impressive rather. Last year, we won more than 80% of RFPs we submitted. We renewed almost 95% of our existing business, and we were also chipping away at new business opportunities. These stats really speak to the trust our clients have in DCM and the value our solutions -- the value and solutions we bring to our businesses. A big part of why we're winning business is because of our digital technology that streamlines client workflows. We recently rebranded our technology platform to DCM Flex and have added some important client-facing functionality over the past year. More than 30% of our revenue is currently tech-enabled with DCM Flex at the heart of that. We are focused on significantly driving technology penetration with our enterprise clients moving forward. The third is operational excellence. The team has proven adept at driving operational efficiencies, rightsizing operations and managing costs through a difficult period, as you've seen over the past year in our financial results. Expect this to be a continued focus going forward, and we are setting ambitious goals for continued gross margin improvements. One of the projects I referred to earlier is focused on how we can grow gross margins to 35% to 40% over the next 3 to 5 years. In the near term, we are consolidating our footprint. We previously announced the planned integration of our Mississauga facility into our Brampton plant. That's a major move and is progressing on plan to be completed by the end of the year. Brampton is already our largest and one of the more profitable production sites. We're also announcing today that we will be closing our Edmonton facility and consolidating its print on-demand and warehouse into our Calgary plant. This will be completed by the end of June, and we will start realizing the benefits from this closure in the second half of the year. We're also looking to rationalize some of our smaller offices given what we've learned through remote working over this past year. The fourth area I want to touch upon is business intelligence. We have a small but agile, multidisciplinary team that is focused on enhancing our data aggregation and business intelligence capabilities with the objectives to pull together insights out of our new ERP system. The focus here is on leveraging the investment we made in consolidating all of our legacy systems by analyzing and segmenting clients and products, drive revenue and margin improvements and ultimately improve profitability. This project will accelerate through the second half of the year, and we expect to report back on some quick wins. A number of the key leadership projects we are working on will benefit from the work this group is doing. And finally, digital proficiency. The DCM team has strong experience delivering innovative solution to our clients. I mentioned DCM Flex earlier. While its roots are in managing the complexities of digital asset management and print from our first clients almost 40 years ago, we've consistently invested in its development, adding unique and expanded capabilities for digital asset management, direct to press production, logistics management, marketing workflow and other enterprise capabilities. Flex today is deeply embedded in over 100 of our clients' workflows and business processes. The capabilities of this platform and our tech-enabled service model is why we're winning and retaining businesses. Expect to hear more about this as we accelerate our commercial strategies around this key platform and DCM digital capabilities. I will now turn the call back over to James, who will take you through more financial details on the quarter. James?

[James E. Lorimer, CFO & Corporate Secretary]

Thanks, Richard. I'd like to provide some additional color on our progress regarding free cash flow, paying down debt and some balance sheet and other P&L items of note. Cash flow from operations and continued working capital improvements allowed us to continue to achieve significant additional reductions in our debt levels in the first quarter of 2021. We generated $10.6 million of cash from operations in the first quarter compared to $2 million a year ago. This despite lower levels of revenue and net income and higher severance payments in the quarter. The driving factor behind higher cash flow was from improvements in working capital, which generated $4.1 million in cash this quarter compared to a use of $6 million last year. This improvement is due to our continued focus on streamlining our billing and collections processes. We remain focused on delivering $5 million of additional cash flow from the conversion of our legacy billers released invoicing practice to invoice on production. Much of that will flow in the next 3 quarters. Our spending on CapEx and intangible investment activities remained modest in the quarter. As a result, total debts, including subordinated promissory notes at the end of March 2021 was $41.1 million, down $7.2 million or 14.9% compared to our December 31, 2020, balances. During the quarter, we paid down $5.7 million of our revolving line of credit, which had a 0 balance at the end of March. $1.5 million of our fixed term FPD debt and $175,000 of promissory notes relating to a prior acquisition. At March 31, 2021, we had record levels of excess availability under our revolving line of credit at $18.1 million. This is a significant, almost 40% improvement from $13.1 million at December 31, 2020. In January, given our improved liquidity, we successfully amended the terms of our revolving credit facility, resulting in a reduction in our borrowing rate. And importantly, the loosening of a number of restrictions that were added in late 2019 and early 2020, when our loan balances were significantly higher and our financial liquidity was quite constrained. With the senior management changes we announced in February and March, along with additional restructuring efforts, we took a total $3.4 million charge in the first quarter of 2021. In aggregate, these and other charges -- or sorry, these and other changes will generate more than $4.4 million of annualized savings going forward. It's important to restate, as Richard noted, that our entire new leadership team has been comprised of individuals from inside the business, a testament to the depth of the team we have. We received a total of $1.9 million of grant income in the quarter. $1.6 million of that was from the Canadian Emergency Wage Subsidy and $300,000 from the Canadian emergency rent subsidy program. This is reported as a stand-alone item as grant income. As previously disclosed, we also received a total of $1.5 million in the quarter from onetime noncurrent income, resulting from the termination of our Perennial brands option and the settlement of litigation. This amount, while included in our net income was deducted from our EBITDA to arrive at our reported adjusted EBITDA. Our planned maintenance and growth CapEx budget remains modest for the year at less than $1.5 million. We will be investing a similar amount in our digital capabilities. The majority of our CapEx will be related to our consolidation of our Mississauga, Ontario plant into our Brampton, Ontario plant, which is on track to be completed by year-end. The consolidation of our Edmonton, Alberta print-on-demand site into our Calgary plant will be completed over the next 45 days. Our priority remains on generating strong free cash flow over the balance of the year and continuing to focus our commercialization efforts on large enterprise clients and technology-enabled penetration. Back to Richard for some concluding remarks.

[Richard Clarence Kellam, President, CEO & Director]

Thank you, James. Before we turn it over to questions, I just want to personally thank the DCM team, business and client partners, suppliers, lenders, shareholders and the Board of Directors for all of your support in my accelerated onboarding process over the last 65 days. With our focus on talent, business intelligence, operational excellence, client engagement, importantly, our technology-enabled services, I am very confident in our outlook for success going forward. Our team is relentlessly committed to building both a better and bigger business over time. So operator, we'd like to now open up the line for any questions.

[Operator]

[Operator Instructions] Your first question comes from the line of Noel Atkinson with Clarus Securities.

[Noel John Atkinson, VP & Research Analyst of Growth and Innovation]

Well done in the first quarter. So first off, on the consolidation of the production facilities in Greater Toronto here as well as moving the Edmonton plant into Calgary. Can you give us a sense of what you think sort of the gross margin enhancement might be once that's all completed?

[James E. Lorimer, CFO & Corporate Secretary]

Sure. I guess maybe start with Edmonton, which is a smaller site. There's a smaller production team there, probably in the kind of 8 to 10 range. We expect annual savings there will be $0.5 million to $0.75 million. We'll get about half of that in the second half of this year. The ambassador plants is a much bigger facility. We expect there'll be some significant kind of workflow improvements because some production, for example, is performed in the Brampton plant and then gets finished over in our Mississauga plant, which is 20 minutes away. So we certainly expect some efficiencies there. For now, we're expecting that the savings will be largely kind of Brampton and some other headcount reductions. We haven't fully quantified that yet, but I think we've previously put out numbers in the range of kind of $1 million on an annual basis, and we certainly are working to exceed that.

[Noel John Atkinson, VP & Research Analyst of Growth and Innovation]

Okay. And can you give us a sense of capacity utilization if you're putting the Mississauga plant into Brampton, like -- and you say it's your most profitable facility to date, how much capacity do you have to be able to take on more work as reopening happens and your corporate accounts start printing more aggressively?

[James E. Lorimer, CFO & Corporate Secretary]

Sure. The Brampton plant right now does virtually all of our label production, and that would be virtually all the label production we do that serves the cannabis market plus other applications. That business is fairly distinct. We were in the process of building a clean room for our Gallus press, which does all our digital labels, including our cannabis labels. And the equipment that we're moving over from ambassador is digital equipment, does kind of print on demand, a lot of kind of Xerox equipment, iGen 5s and 4s, et cetera. So that requires a clean room as well. So we're able to consolidate all those kind of digital presses into the clean room. There was some excess physical space in the Brampton plant from kind of kidding and finishing work. And so we're squeezing everything we can into that plant. So we're also taking out some of our older kind of legacy forms presses that are in our Brampton plant and rearranging the footprint a little. So unfortunately, it's a little difficult to have tours, but I'd love to have you up and give you a tour and show you at some point what it looks like. But from a kind of physical footprint, it's going to be tight, but it's going to fit. But we certainly have excess capacity on the Brampton forms presses and on some of the label presses, the kind of nondigital presses.

[Noel John Atkinson, VP & Research Analyst of Growth and Innovation]

Okay. And then just a couple of quick ones here. So it's a great segue. You mentioned this cannabis LPs have become a meaningful vertical for you guys for label printing and other supply chain services and that. Now you've recently announced that you're expanding this effort into the U.S. market. So can you explain where you guys think you place in terms of competitive advantage and sort of how big the U.S. market is? And the time line to being able to start with some orders down there?

[Richard Clarence Kellam, President, CEO & Director]

Yes. So I'll pick that up. Noel, it's Richard here. So where are we placed in terms of competitive advantage, I'd say we're certainly very well positioned given the technology stack that we've -- or the technology platform that we've developed. And that technology platform manages digital asset workflow, regulatory compliance, variable data management, which I think is really important in the cannabis world given it's a high SKU, low-volume business, right? So you need to have that digitally enabled or tech-enabled workflow to be able to manage that large volume of SKUs and relatively low volume of print per SKU. So that automated workflow that direct to press that variable data management, that regulatory compliance, that's all critical, and we've created a platform which is quite unique. We actually haven't seen a competitor with a similar platform in the market. And that's why we've had the ability to secure an 80% market share of labels in Canada. We're literally bringing that market down into single state and multistate operators as we speak, with a partnered print supply side to support that as well. So early days. We're just -- we've started to amplify and accelerate conversations, but I think we're well positioned to secure some pretty sizable opportunities. Your question in terms of market size, we think the market size for just the value we bring, just kind of that technology or that printed value, that packaging value is roughly $150 million opportunity for us.

[Noel John Atkinson, VP & Research Analyst of Growth and Innovation]

Okay. All right. And then finally, so you talked about having more than 30% of your revenues now, while Q1 being tech or digitally enabled. And how has that evolved over the last, say, year? And what's your target for that over, say, the next 12 to 18 months?

[Richard Clarence Kellam, President, CEO & Director]

Yes, it's a great question. So it's -- exactly 32% of our current revenue is we call tech-enabled workflow or tech-enabled revenue. Our strategy is to significantly drive client penetration as we shift from a print-first company to more of a digital or tech-enabled first company. And our objective is to get to 45% penetration by 2022 and upwards of 75% penetration by 2025. There's many clients out there, Noel, that don't know that we are a tech -- or that we offer tech-enabled solutions because we've providing -- we've been providing more of kind of a print-first commercial model, and we're pivoting quickly to more of a technology-first commercial model and hence, the accelerated penetration you'll see in that tech-enabled service.

[Operator]

Your next question comes from the line of Mark Lawrence with NorthCrest Partners.

[Mark Andrew Lawrence, Principal]

James, 2 questions that may be tied together. What are the opportunities for tuck-in acquisitions into the DCM Flex? Is that going to be a focus while you continue to do your cost savings over the next year? And the second part may be tied in. For the 20% of the business that you don't get and I'm talking about the noncannabis business, why is it that you're not getting that right now? Is it technology? Is it strictly cost or other issues?

[James E. Lorimer, CFO & Corporate Secretary]

Okay. Thanks, Mark. Yes, we were certainly active on the acquisition front back in 2017 and kind of early 2018. That was very much focused on adding some kind of print capabilities that we didn't have in providing some access into kind of growth markets. And I'd say, by and large, those have all been worked out very well. In terms of acquisitions going forward, yes, I think we'll be opportunistic. I think with regards to DCM Flex, we've got some pretty tremendous capabilities already, and it's really focused on driving commercialization of that. And sales team is highly engaged. Many of our clients kind of know the capabilities, but many more of our clients don't know the capabilities that we offer. And so certainly, we'll look at opportunities for acquisitions to improve the reach and probably targeted more around kind of marketing workflows and process management-type opportunities. Maybe your second question was with regards to the 20% of the cannabis market that we don't have.

[Mark Andrew Lawrence, Principal]

No, no, no. Relating to that -- not to the cannabis part, but you initially said that you're getting 80% of the business you're trying to get. And just recently, you referred to the 20% in the cannabis market, but are you missing out just on 20% of the other stuff, noncannabis as well or and why?

[James E. Lorimer, CFO & Corporate Secretary]

Yes. I think maybe in Rich's opening comments talking about our new wins. We referenced numbers of kind of 80% to 90% renewals. We track RFPs that we participate in and many of our -- certainly our larger kind of enterprise clients go through formal RFP processes. And we've had a very high success rate in that. The reason that we don't get 100%, I guess, would be the incumbent is quite entrenched. We are also quite entrenched. So DCM Flex is really the kind of glue that keeps us in there, and we think that's a big part of the reason that we are winning new business, for sure.

[Operator]

And at this time, there are no questions. I'll turn the call back over to Richard Kellam for closing remarks.

[Richard Clarence Kellam, President, CEO & Director]

Okay. Thank you. Thank you, everybody. Appreciate you signing on and listening to our first quarter. As I said, as a team, we are relentlessly committed to building both a better and bigger business over time. We're really excited about where we're going and look forward to continue to deliver solid and positive progressive results out to all of our shareholders over the next quarter and importantly, over the long term. But thank you for the connect today.

[Operator]

Thank you, ladies and gentlemen. That concludes today's conference call. You may now disconnect.