Enghouse Systems Ltd

TSX:ENGH

Earnings Call Transcript 2020-Q2

[Operator]

Good day, ladies and gentlemen, and welcome to the Enghouse's Q2 2020 Conference Call. As a reminder, today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Steve Sadler, Chairman and CEO. Please go ahead, Mr. Sadler.

[Stephen J. Sadler, Chairman & CEO]

Good morning, everybody. In this era of social distancing, I'm here today with Todd May, VP, Legal Counsel; and Sam Anidjar, VP, Corporate Development. Doug Bryson and Vincent Mifsud are on the phone remotely, but are also available to answer questions. Before I begin, I'll have Todd read the forward disclaimer.

[Todd M. May, VP & General Counsel]

Certain statements made may be forward-looking. By their nature, such forward-looking statements are subject to various risks and uncertainties, including those in Enghouse's continuous disclosure filings such as its AIF, which could cause the company's actual results and experience to differ materially from anticipated results or other expectations. Undue reliance should not be placed on these forward-looking information statements, and the company has no obligation to update or revise any forward-looking information whether as a result of new information, future events or otherwise.

[Stephen J. Sadler, Chairman & CEO]

Thanks, Todd. Doug will now give an overview of the financial results.

[Douglas C. Bryson]

Thanks, Steve. Yesterday, Enghouse announced its unaudited second quarter financial results for the period ended April 30, 2020. All the financial information is in Canadian dollars unless otherwise indicated. Key financial and operating highlights for the 3 months ended April 30, 2020, compared to the 3 months ended April 30, 2019, are as follows: revenue grew 58% to $140.9 million. Results from operating activities increased 73.8% to $46.3 million. Net income increased 63.8% to $27.1 million or $0.49 per diluted share. Adjusted EBITDA increased 81.3% to $49.3 million. Cash flows from operating activities, excluding changes in working capital, increased 72.5% to $50 million. Cash, cash equivalents and short-term investments were $168.1 million, an increase of $150.3 million -- from $150.3 million at October 31st 2019, despite making payments of $12.1 million for dividends and $48.2 million for acquisitions year-to-date. The company has no long-term debt other than nominal -- a nominal amount that is noninterest-bearing. In the quarter, the company experienced growth from both internal sources and from the acquisitions of Vidyo and Espial, both acquired in Q3 of 2019 as well as Dialogic acquired in Q1 of 2020. Internal growth includes the expansion of the acquired businesses, particularly Vidyo and Dialogic since acquisition. To date, COVID-19 has had an overall positive financial impact on Enghouse as sales of solutions that support remote work, including working from home, increased to meet heightened demand. Sales in Vidyo, our remote conferencing and telehealth financial services Vidyo platform and our remote computing solutions, were particularly strong this quarter. Although the overall impact to revenue so far has been positive, sales of hardware, professional services and certain business units have been tempered as a result of procurement delays, deferral of on-site installations and customers postponing upgrades and implementations. While the pandemic continues to have a significant impact on the economy, our team has reacted quickly and successfully transitioned to a work remote works environment. We are pleased that our team has remained safe, productive and is continuing to deliver high-quality results. Critical to this success has been our previous investment in upgrading our financial systems, combined with the internal deployment of Enghouse products such as Vidyo that support remote work. During the quarter, we substantially completed the integration of Dialogic, which was EBITDA-positive as expected following acquisition on December 31, 2019. Dialogic was accretive to both earnings and margins due to a significant perpetual license deal recognized in the quarter, which allowed the customer to respond to increased demand resulting from COVID-19. I'll now turn the call back to Mr. Sadler. Steve?

[Stephen J. Sadler, Chairman & CEO]

Thanks, Doug. As Doug noted, we had significant revenue growth both from internal sources and from recent acquisitions. In the current environment, when collection of cash could be a concern for companies, we have strong collections and net cash flow from operations of over $57.5 million. Our dividend was increased 22.7% in May, which you've received, and our cash and short-term investment balance at the end of the quarter was $168 million. Compared to prior year's Q2, foreign exchange was an estimated headwind of a minor amount, $0.2 million on revenue. But foreign exchange over the prior period, Q1, was a tailwind, improving revenue by $3.3 million. I should point out, in Q1, foreign exchange had a negative impact on revenue of about $2 million over the prior year's Q1. Q2, ending April 30, had over 50% of the business in the pandemic's lockdown. As many of you know, we plan and operate the business for longer term, but I thought I should give some data and comment on our revenue and profitability in the quarter. As already noted, foreign exchange rates added $3.3 million in revenue over Q1; but when compared to Q2 last year, had a small headwind, reducing revenue. Most of Q2 foreign exchange tailwind over Q1 came as a result of the weak Canadian dollar compared to the U.S. At today's foreign exchange rate, the Canadian U.S. rate revenue would be negatively impacted. We sometimes mention a large sale gets delayed from 1 quarter to the future. In Q2, we had a large license revenue sale of approximately $6 million, which was brought forward from future quarters related to our Dialogic acquisition and included in the IMG Group results. As you may expect, our transit revenue was well below expectation in terms of new revenue, and most transit projects were put on hold. This revenue is usually recorded in our AMG Group. Also, several projects were delayed, impacting both IMG and AMG groups, impacting overall revenue and especially professional services revenue in the quarter. Vidyo revenue exceeded our expectations by a significant amount. We completed the Microsoft Teams integration, and was one of the first contact center solutions to be certified. We do not give quarterly guidance as we build for the longer term, but our solutions are orientated toward visual computing solutions, remote computing activities and network infrastructure. Some of our customers have been significantly impacted by the pandemic and are very cautious in committing to new expenditures. As to acquisitions, we did no new acquisitions in Q2. The Dialogic acquisition has been mostly integrated by the end of Q2 with the large order in the quarter, which we believe was brought forward for future quarters, the business had EBITDA-positive above our historic results. But without the large order, the Dialogic business progressed as expected and was EBITDA-positive in Q2. We continue to focus on capital deployment as well as to improve our operations. We can do and have done most of our acquisition work remotely, but currently, we are limited by opportunities focusing on their own businesses and cash conservation delaying acquisition processes. The pipeline for acquisitions remains active. I would now like to open the call for questions.

[Operator]

[Operator Instructions] Our first question from Deepak Kaushal from Stifel GMP.

[Deepak Kaushal, Director and Technology & Communications Analyst]

I hope you're all doing well in the environment. Certainly, your results are looking well in this environment. Steve, I just wanted to ask you when you were on this perpetual license for Dialogic, what kind of color can you give us on the nature of the deployment? Is it an enterprise customer or a network customer? And how sustainable this kind of momentum or opportunity is what you're seeing in May and June?

[Stephen J. Sadler, Chairman & CEO]

Yes. It was a networks' customer with media processing software, that's why it's in the AMG group. We don't have many large license sales like that. So I pointed it out with the amount because it is possible that that customer can order that amount in the future, but you cannot expect it in your modeling or numbers.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Okay. So I mean, is there a market of similar types of customers that could do similar things? Or is this really just a one-off growth for Dialogic?

[Stephen J. Sadler, Chairman & CEO]

We pointed out because it was a little unusual and large in the quarter.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Okay. Okay, excellent. And then just on the asset management side, in general, from network service providers, what has -- I mean, we obviously know what the enterprises are doing in terms of supporting work-from-home. What are network service providers doing or thinking of in terms of responding to the increased bandwidth demand? What are you guys seeing? What kind of timing do you think might be associated with some of their movements here?

[Stephen J. Sadler, Chairman & CEO]

I think, as I said, service providers had the large order. I think some will move some of their purchasing up a little bit in the quarter. I think they're seeing greater scale, but they also are looking at how does it impact them in the future. So it's a bit variable right now, but they also have increased demand with more people working at home. So it's got pluses and minuses. Companies, there's less demand; people at home, more demand.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Okay. And then my last question on the M&A side. I don't imagine you're seeing any cheap acquisitions these days in the communication space or the Vidyo space like we were seeing last year. What segments are you finding good value in these days and things that maybe that can get you ahead of the game as we recover from COVID? What are your thoughts there?

[Stephen J. Sadler, Chairman & CEO]

We're finding the same value that we found in the past, and I'm not -- I wouldn't necessarily agree with your assumption.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Okay. So that is to say that in videoconferencing, communication, telehealth, you're seeing no valuation increases in terms of M&A targets? I mean not similar to what we're seeing in public...

[Stephen J. Sadler, Chairman & CEO]

Well, you see some value increases in larger ones, private, smaller ones because a lot -- if you remember, when we bought Vidyo, a lot of companies in that space do not make money. And therefore, they are challenged in getting money these days. So it hasn't really impacted values in some of them, but other companies, of course, like Zoom, they're not really in that space. They're more in the public market versus the business market. They're doing terrific. But if you look at the results, they still don't make much money. So think of the smaller guys, they generally are challenged in making money and cash, which doesn't hurt us in our acquisition activities.

[Deepak Kaushal, Director and Technology & Communications Analyst]

And no change in terms of bidding or is there competition from other people looking for these same assets?

[Stephen J. Sadler, Chairman & CEO]

Not really. There may be, but we haven't really -- nothing unusual. Let's just say it that way. There's -- you've got to have cash. A lot of people are holding their cash. They're not necessarily interested going out and spending that cash, buying something that's maybe not making money.

[Operator]

We'll take our our next question from Daniel Chan from TD Securities.

[Daniel Chan, Research Analyst]

Congratulations on the good quarter. Steve, can you remind us what the major competitive advantages are for your videoconferencing solutions over other immediate solution providers, you mentioned Zoom, but also web-acting, maybe, Skype?

[Stephen J. Sadler, Chairman & CEO]

Yes. I -- we're more concentrated in telehealth and financials. We are, therefore, from day 1, paid more attention to security. For example, Zoom has had many articles where they haven't, but don't really need to because it's really for the public, talking to your kids; it's for school kids, talking to their teachers. They still have some business as well, but their focus is more on the broader market. So ours more on the security side. And we mentioned that part, it's a little harder sell for us. So growth is a little bit harder. Because you really have the people who really understand not only the Vidyo technology, but also your customers and how they can use it.

[Daniel Chan, Research Analyst]

Yes. That's helpful. And Steve, do you have a view on whether the strength in the Vidyo segment will continue once the lockdowns are lifted?

[Stephen J. Sadler, Chairman & CEO]

No idea.

[Daniel Chan, Research Analyst]

Okay. I wanted to switch over to the network business. I wonder if you can comment a little bit on whether the CapEx spending has changed at all, I think, your major carrier customers? I know you said there was a little bit of a mix. But in particular, have you changed your timelines on network upgrades to things like 5G technology?

[Stephen J. Sadler, Chairman & CEO]

Yes. They've all -- they're working on 5G, that's an opportunity for us. But the 5G, if it's new things to put in today, they tend to have slowed that down a little bit, but they've increased their spending on infrastructure that they need to run the extra volumes of today. So it's a mix, just like you said.

[Operator]

We'll take our next question from Paul Steep from Scotia Capital.

[Paul Steep, Analyst]

Could you maybe talk a little bit about how you're viewing the business? I noticed you've tightened in some of the commentary, but how you're describing it in the overview of the business? Should we sort of read away that, sorry about that, and welcome to working from home. Not everybody likes Canada Post. So can you talk maybe a little bit about the M&A, just if you're shifting the focus a little bit? Because I noticed there's more emphasis on remote work, visual computing, should we read into it that similar to when you went into communications and call center that we're sort of heading maybe in more of a new direction?

[Stephen J. Sadler, Chairman & CEO]

Well, you've been around long enough, but we started out, what I've said today is what we said when we started. I didn't want to be back-office, I didn't want to be vertical markets, I wanted to be remote computing and visual computing. At the time we were doing graphical information systems, where we started out, then we bought -- got into the contact center space, and then we have built up infrastructure that supports remote computing and visual computing. So actually, we strayed a little bit away from the overall strategy or concept that I've always done from day 1. Whenever I've done anything, I thought of that. If we come up and say, here's a good GL system or accounts payable, we are less not interested. We're doing remote visual computing, things that are not in an office, that's what we've really done from day 1. And so we've just gone back and made sure everyone understood. That's the overall umbrella over our tactical strategy that we're doing.

[Paul Steep, Analyst]

Great. A couple of quick clarifications. Just on that Dialogic's deal, everything sort of shipped and booked into Q2? Or is there some -- or some that sort of come into the next quarter?

[Stephen J. Sadler, Chairman & CEO]

I think you will have revenue in the next quarter. I think the only thing that's really shift into Q2 was that one big deal. The rest was pretty normal, and that doesn't mean there couldn't be more. It doesn't mean it will pick up, but you've got to be cautious in going forward. Because a lot of people, once they're dealing with the capacity, they're waiting to see, is it there a -- is it a W on the pandemic? Is there going to be more? So once they got the infrastructure in place, which they mostly, I guess, have been working on, then they've got to think about new 5G and new things that they will do. That slowed down a bit. So I don't know where that's going next quarter. But I do believe -- I had to point out that we had about a $6 billion deal that I found unusual that you cannot expect to be in the next few quarters. And I think it came forward because they needed to get their capacity up faster than they originally thought.

[Paul Steep, Analyst]

Okay. And last 2 ones for me. Just potential cost savings on facilities reduction, you mentioned that in the MD&A, you've always been cost aware. What are we thinking in terms of moves or changes there that you might make over time?

[Stephen J. Sadler, Chairman & CEO]

So you've heard a lot of other people talk about everything is good but they're cutting staff. We have not cut any staff, we're adding staff. Really nothing more to say than that. We've always operated in a very way. If people don't perform, we look at it then. But we aren't doing any restructuring now really, unless it's the normal business thing we would have done with or without the pandemic. So we don't see -- we still have our current cost discipline, for sure, and we're going to continue that, but it's what we've done for over 10 years. It's nothing new. Others are all saying, yes, we're going to grow and be back, but we're cutting staff, 5%, 10%. Well, we're not doing that. We don't need to do that. In fact, I would guess we're a net hirer right now.

[Paul Steep, Analyst]

Good. Last one was, any comments just around the uptake of the no cost Vidyo licenses? Obviously, great move, smart marketing, what's been the uptake and then maybe the conversion that you're hoping to see on the back end of that?

[Stephen J. Sadler, Chairman & CEO]

Yes. The uptake, it's a new area for us. We had to move quickly to do it, which we did. Vince did a great job of getting that up and running quickly. We've had some interest in it. Where that leads, we don't know. It was normal things when you do that type of project, people come and try it out, but you don't know what they're going to do afterwards. The one thing I will point out, I didn't say in my messages. We did very well with Vidyo in the U.S. But I've always had and wanted to do it geographically and all our other regions. To me, that was weaker than I would have liked. In other words, we still have the opportunity to expand in our other geographical regions with our Vidyo product. So most of the Vidyo success was because of our U.S. group. Some outside but again, I think there's still opportunity for us in our non-North American operations to improve our Vidyo results.

[Operator]

We'll take our next question from Stephanie Price from CIBC.

[Stephanie Doris Price]

You mentioned in an answer to the earlier you mentioned into an earlier question that Vidyo at the moment is geared towards financial services and health care. Can you talk about the opportunity to roll it out more broadly to other verticals and potentially even more broadly to a Zoom-like offering?

[Stephen J. Sadler, Chairman & CEO]

We certainly can do that because we have a system that allows that to happen. Our limitation, of course, is our sales and marketing because we weren't preparing to do that. So we're gearing up a little bit more. Therefore, the free offering that was discussions on the previous call -- our previous caller. So we can do that. But let's face it, Zoom is very good at that. That's where they came from. We still have some work to do if we are going to expand that area. But we are getting some interest, again, because if you're a business and talking to your staff, you need security. It's not just health care. You need -- you want people to listen in on your calls or do you want -- and Zoom has changed some things, but they certainly have a much superior market presence and sales and marketing than we do right now, but they do not tend to do the private health care type stuff as much as we emphasize on that. They're more public education, where security probably is not quite as important.

[Stephanie Doris Price]

And then you mentioned also delays in hardware procurement and systems deployment, can you talk a little bit about the environment and what you've seen since the end of Q2 have on pandemic a little bit?

[Stephen J. Sadler, Chairman & CEO]

It's pretty much the same. Remember, our Q2, a lot of people that's reported their Q1 was the end of March. Our Q2 is the end of April, which is really a lot of the pandemic is already in there. So you probably had some people who said, we got to do something, and bought, so that probably helped. And then you got people who says, hold until we sort this out, everything is on hold. Transit, if you ever -- when everyone's staying at home, there's not many people riding the transit. So of course, they're really struggling. I think their numbers are down, probably 80%, 85%. So we got our ongoing revenue from that because we generally have maintenance there. We don't have by subscriber. So that's okay, but it's down quite a bit. And if you look at our group, we divided up by group segment reporting. If you look at the asset management group, the network side did okay, but transition, which is also in there, was quite weak. It -- so we have got a lot of variances. A lot of -- it's a little complex right now. Where it all ends up? I don't know. If transit picks up, are people going to go back on the buses? How quickly? Are they going to have money to spend? There's certainly projects in the works, and they're good projects for them, but they've all got different issues these days. So I don't know.

[Stephanie Doris Price]

Okay. And then last one for me is on the Teams integration that you announced at the end of March. Teams, obviously, seeing some strong growth in the current environment. Just wondering what Enghouse is seeing post the integration announcement? And how we should kind of think about the migration of those contact center customers to Teams?

[Stephen J. Sadler, Chairman & CEO]

Yes. We have a large Skype for Business so we are -- we went the Teams because they ended the live Skype for business. So we hope to protect that base. That's objective 1. Objective 2, of course, is get new revenue. We've seen interest but everyone slowed all that down right now. So there's really not much revenue -- additional revenue in our numbers in Q2 related to Teams. It's really being that we're there to do it. We've got interest. But everything is sort of delaying as people want to know how long this is going to last? Is it a swish? Is it W? Is it a V? What type of curve it is? And so everyone are being quite cautious. So we're optimistic that will help us in the future, but it hasn't really helped that much so far, other than people are more comfortable with Skype because we can now move into Teams when they want to move there.

[Operator]

We'll next go with Paul Treiber from RBC Capital Markets.

[Paul Michael Treiber, Director of Canadian Technology & Analyst]

Just wanted to be clear on -- Steve -- just want to be clear on Dialogic. You previously disclosed you expect $58 million to $63 million in revenue there. Is that the large $6 million license deal, is that upside to that outlook? Or was it already previously reflected in that outlook that just came earlier in the year than what you expected?

[Stephen J. Sadler, Chairman & CEO]

Good question. I could answer that either way. It might be upside, but it might have been moved earlier, and there's other things that won't make up for the future revenue we thought we were going to get. I wouldn't expect in the immediate future, it's probably part of the $60 million. But I will say that in the quarter, we did better than that rate. First quarter was a little light. Second quarter with that in there did better than the multiple to get to the $60 million. So it's hard to tell in this environment. We react -- we're not a huge company, but we do react well when we see what's happening. So if you're looking at it, trying to figure out your model, I would say it's in the $60 million. Put it in the $60 million.

[Paul Michael Treiber, Director of Canadian Technology & Analyst]

Okay. That's helpful. Also, in the prepared remarks, you mentioned Vidyo had significant contribution in the quarter. I was just hoping if you could quantify significant, like specifically, how much did Vidyo grow quarter-over-quarter or maybe put it in dollar terms? And then kind of a go-forward basis, do you expect that run rate to be sustained here?

[Stephen J. Sadler, Chairman & CEO]

Don't do forecasts, so we don't know what happens going forward. And in the quarter, it's significant. We don't give numbers. We don't want people to focus on a quarter. We try and think longer run. I don't know where the longer run is with work-from-home and all the changes that happened. So we're just not willing to give any more information and say we had a significant increase in the quarter.

[Paul Michael Treiber, Director of Canadian Technology & Analyst]

Okay. And those are licensed deals specifically. I assume there will be the ongoing maintenance associated with those deals as well?

[Stephen J. Sadler, Chairman & CEO]

Correct. And there are also some deals that would be hosted or in the cloud as well. But most of the benefit in the quarter were licensed deals. Yes, that's right. But how is everyone going to predict? What's going to happen, is there going to be a vaccination? Like I don't want to predict the future. We've never really did forecast and now everyone else seems to be following us and not giving forecast because of the pandemic. Certainly, I'm not going to start.

[Paul Michael Treiber, Director of Canadian Technology & Analyst]

Yes. No, that's totally understandable. Looking at -- switching gear to Espial. I think it's this quarter, Q3 is where Espial is expected to launch its new IPTV product. Is that launch on track? And then, like, are the carriers planning to roll it out? And then how material is the revenue associated from that launch?

[Stephen J. Sadler, Chairman & CEO]

So the launch is on track. We actually have an initial customer installed. We have some interest, and I don't do forecast.

[Paul Michael Treiber, Director of Canadian Technology & Analyst]

Okay. Last one for me. In Q2, how are renewal rates for the overall business tracking compared to your historical average?

[Stephen J. Sadler, Chairman & CEO]

I'd say pretty normal. You have a couple of customers might be in some difficulty, but we had before customers that would been required. So I would say it's pretty normal there.

[Operator]

We'll next go with Mark Gaskin from Manitou Investment Management.

[Mark G. M. Gaskin, President & Chairman of the Board of Directors]

Some of my previous questions have been asked already. Vince, can you just give us a little bit of an update on organic growth and how you're seeing a pickup amongst the various companies in terms of selling a suite of products and how some of these new acquisitions may be helping some of your existing companies sell more product?

[Vincent Mifsud, President]

Yes. There's a few questions there. Can you guys hear me?

[Mark G. M. Gaskin, President & Chairman of the Board of Directors]

Yes, clear.

[Stephen J. Sadler, Chairman & CEO]

Yes.

[Vincent Mifsud, President]

Yes. I mean, we're just continuing a lot of the things that we started a couple of years ago. So things like DemandGen, customer success, the Vidyo business, trying to expand it outside of just the U.S. market. So things are progressing well from an organic perspective.

[Mark G. M. Gaskin, President & Chairman of the Board of Directors]

Okay. Steve, do you have any comment on that?

[Stephen J. Sadler, Chairman & CEO]

No, Vincent said it very nicely.

[Operator]

We'll next go with Deepak Kaushal from Stifel GMP for a follow-up question.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Steve, I just had a follow-up to Paul's question, and I'm going to back up my fellow analyst here. I know you guys don't give forecast, but when we look at Espial and we look at the launch of a new IPTV product -- excuse me, I'm not barking at the postman. What kind of parameters can you give us to help us get a sense of what this business could do if this product is successful? How many telcos are you speaking to? What kind of ASPs are you looking at? Or how much could average telco do? Are we talking $10 million, $12 million per telco and you're looking at 20 of them? Any kind of parameters you can give us to help us forecast on your behalf would be helpful here.

[Stephen J. Sadler, Chairman & CEO]

Yes. Can't do it. No parameters. We're just putting it out there now. Whenever you put an early version out, you've always got to fix some things. I don't know if people are going to put in more products with a pandemic or what's going to happen with it in the future. So we've done what we said we would do and getting the product done. We think we have a good product. We have some interest, but that's all I got.

[Deepak Kaushal, Director and Technology & Communications Analyst]

Okay. And so that would be primarily an organic initiative. In terms of that line of business in terms of television for telcos on the IPTV side, are there any things that you need to round out the product suite that you'd be looking to put in on the M&A side? Or is this a purely organic thing, you got everything you need?

[Stephen J. Sadler, Chairman & CEO]

We always look for things on the acquisition side as well, and there's opportunities there. But mostly, this is an organic thing. They were in the middle when we bought a spill of developing the IPTV. We wanted to finish it and then take it to market. So we've done that. And so we'll have to see how that goes. This is not one where you've got massive orders all at once. So it is a business-to-business sale. So it takes time to put it in. And with a newer system, you know you're going to have issues. So it takes time to fix them. Can we add some items to that system? Absolutely. It takes time. But we have a system we can sell now, call it a basic first-level system, if you want. But it showed progress. We've got interest. And of course, we'll be putting more things into that system as we go along.

[Operator]

Thank you. It appears that we have no more questions at the moment. [Operator Instructions] It appears that we don't have any questions at the moment. I'll give the floor back over to the speakers.

[Stephen J. Sadler, Chairman & CEO]

Okay. Thank you, everyone, for attending our call and your continued support in these unusual times. Stay well and safe, and we look forward to updating you again next quarter.

[Operator]

This concludes today's call. Thank you for participating. You may now disconnect.