Enghouse Systems Ltd

TSX:ENGH

Earnings Call Transcript 2022-Q2

[Operator]

Good morning ladies and gentlemen and welcome to the Enghouse's Q2 2022 Conference Call. At this time, all lines are in a listen-only mode. And following the presentation we will conduct a question-and-answer session. [Operator Instructions]. This call is being recorded on Wednesday, June 8, 2022. I would now like to turn the conference call over to Mr. Stephen Sadler. Please go ahead.

[Stephen J. Sadler, Chairman and CEO]

Good morning, everybody. I'm here today with Vince Mifsud, Global President; Rob Medved, VP Finance; Todd May, VP, Legal Counsel; and Sam Anidjar, VP, Corporate Development. Before we begin, I will have Todd read our forward disclaimer.

[Todd M. May, VP and 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 forward-looking information. 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 and CEO]

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

[Rob Medved, VP, Finance and Corporate Secretary]

Thank you Steve. Good morning everyone. I will be discussing the financial and operational highlights for the three and six months ended April 30, 2022 compared to the three and six months ended April 30, 2021 as follows. Revenue achieved was 106.3 million and 217.4 million respectively compared to revenue of 117.3 million and 236.4 million. Results from operating activities were 31.1 million and 66.8 million respectively compared to 36.9 million and 77.6 million. Net income was 17.9 million and 39.5 million respectively compared to 20.7 million and 41.4 million. Adjusted EBITDA was 33.8 million and 72.3 million respectively compared to 40.2 million and 84.7 million. Cash flows from operating activities excluding changes in working capital was 34.5 million and 73.3 million respectively compared to 42.6 million and 84.3 million.

Revenue for the second quarter of 2022 was 106.3 million with results from operating activities of 31.1 million and cash flows from operating activities excluding changes in working capital of 34.5 million. As a result, we closed the quarter with 231.2 million in cash, cash equivalents, and short term investments with no external debt. We remain focused on operating a profitable cash flow positive business that generates the necessary capital to fund our acquisition strategy without the need for financing. Revenue for the second quarter of 2022 was down from 117.3 million in the same period of the prior year and was negatively impacted by 3.7 million as a result of unfavorable foreign exchange as European currencies have come under pressure with the recent conflict in Ukraine.

Excluding the impact of foreign exchange, our asset management group had comparable revenues to the second quarter of 2021. Our interactive management group is experiencing increased competition from cloud solutions providers as the market shifts towards the cloud as more businesses adopt work from home operating models. While we differentiate ourselves from our competitors by providing customers choice between on premise solutions, private cloud, and multi-tenant cloud offerings, we are augmenting our existing channel partner model with additional focus on our direct go-to-market approach for our cloud solution that is still in the early stages of its global rollout.

Net income for the quarter was 17.9 million or $0.32 per diluted share compared to 20.7 million or $0.37 per diluted share last year. The decrease in net income is a result of higher revenue in the comparative period despite lower operating expenses in the current period. Adjusted EBITDA was 33.8 million or $0.61 per diluted share compared to 40.2 million or $0.72 per diluted share in the second quarter of 2021. Enghouse closed the quarter with 231.2 million in cash, cash equivalents, and short term investments compared to 198.8 million as at October 31, 2021 with no external debt. The cash balance was achieved after making payments of 17.8 million or dividends in the first six months of 2022.

Enghouse remains focused on its long-term growth strategy, investing in products while ensuring profitability and maximizing operating cash flows. As a result, Enghouse continues to replenish its acquisition capital while annually increasing its eligible quarterly dividend. Yesterday, the Board of Directors approved the company's eligible quarterly dividend of $0.185 per common share payable on August 31, 2022 to shareholders of record at the close of business on August 17, 2022. This payment represents an increase of 16% compared to the prior year. I will now hand the call back to Mr. Sadler.

[Stephen J. Sadler, Chairman and CEO]

Vince will now give some operational highlights of the quarter.

[Vince Mifsud, President]

Thank you Steve. As Rob has communicated, we continue to generate positive operating income and cash flows. This quarter's EBITDA was 33.8 million representing 31.8% of sales and we closed the quarter with $231 million in cash with no debt. This leaves us in a very good position to fund future acquisitions. Gross margins in the quarter were 68.4%. We added a number of new staff to our team in Q2 to deliver the next phases of our large public safety projects which take about 90 days to be fully productive.

Our revenue in Q2 was 106.2 million, lower than Q2 of 2021 of 117.3 million. This decline comes from our interactive division and foreign exchange. Foreign exchange continued to have quite a negative impact on our revenue. Foreign exchange decreased revenue by 3.7 million compared to prior year Q2 2021 and 8.1 million on a year-to-date basis. The overall contact center market is growing and the shift to the cloud is accelerating. The accelerated shift was primarily driven by COVID resulting in contact center employees working from home and now many companies adopting some new form of working from home program. However, the overall need for companies to improve their customer experience to retain customers is only increasing and technologies like us that help improve these experiences are growing in significance. Enghouse has made several investments in our go-to-market strategy to address the growing cloud shift over the last 12 to 18 months.

We added some new senior management with cloud go-to-market experience including a recent hire of a new Global Head of Demands [ph] in Q2, a newly created role for us. Our sales teams are more focused on selling direct to augment our channel programs with Telcos and we have stood up for cloud nodes globally so we can now provide software as a service directly to our customers in the United States, Canada, Europe, and Asia Pac. These initiatives and efforts have resulted in a 65% growth in our contact center cloud sales pipeline this quarter compared to Q1 2022. And 40% of our total pipeline are now SaaS deals. We are still relatively early in the direct selling of our multi-tenant Enghouse CCSP product in our private cloud offerings.

Our direct selling approach is vertically focused. Rather than take a horizontal approach to the market which drives up customer acquisition costs and doesn't serve customers well, we focus on what we call micro vertical segments where we have good customer referencability and unique product advantages compared to generic horizontal offerings. We also sell and service customers with local teams in local languages and time zones across Europe, the U.S., Americas, Asia which provides an added level of comfort for customers which is really important when it comes to mission critical software. Enghouse CCSP is a comprehensive cloud contact center product. It has the ability to scale up and down, we have customers with as few as 10 agents on the platform, and as high as 2500 concurrent agents which allows us to service about 80% plus of the addressable market. Our product handles any customer interaction point including phone, website chats. We have over 20 social platform plugins. We handle email, video, we have embedded AI, floating chat bots, quality management, comprehensive CRM integrations, extensive BI reporting, etcetera. We are also very cost effective given our rapid speed of deployment in out of the box capabilities.

From a product perspective we have an impressive offering and at this point our goal is to get in front of more direct cloud deals given we are not as well known in the market as a cloud provider because our historical indirect approach to the market. On the competitive front what we are seeing our cloud contact center -- in the cloud contact center market are some competitors operating their businesses at a significant loss depending on sales and marketing to win market share. However, this is not our business model or approach. We continue to be disciplined about running a sustainable profitable business and we maintain it for all parts of Enghouse including our cloud business.

Our video business has evolved quite significantly since the start of the COVID pandemic. At the start of the pandemic we experienced a massive spike in peer-to-peer video calling between a doctor and a patient which was our primary use case. This was then followed by continued volume declines and more price competitiveness for this initial use case which continued into this quarter. Now we are seeing healthcare demands evolve further, beyond just doctor patient calling, towards enhanced workflows and video patient monitoring. We have expanded our video telehealth products. Virtual Sitter [ph] is an example of a new product which is a patient monitoring tool that allows from a single screen a medical professional to monitor multiple patients. Patient Portal another new product, provides very complex doctor patient video communication workflows. These offerings which we launched over the last year are now being sold into the healthcare market and building momentum and we see these products and use cases as a potential catalyst to offset the decline in peer-to-peer calling.

On a constant currency basis our asset management division has improved again this quarter compared to Q1 2022 which was also up from Q4 2021. This division on a year-to-date basis, on a constant currency basis was up compared to 2021 also. Overall the division has delivered very consistent performance and continues to not experience any significant increase in demand for cloud solutions. We are investing ahead of the potential future cloud demand and have implemented a cloud readiness initiative for our key telecom products, who ensure they can be deployed in the cloud should the market move in this direction at some point in the future. IPTV which is our multi-tenant SaaS offering continues to see good demand signing new logos again this quarter. We now have 12 new IPTV customers and nine have recently gone live in the last six months.

Our large public safety projects are in full execution mode and we added a number of people to the team in Q2 to deliver the next phases of these projects. The transit automated fare collection payments business is also picking up momentum and we're rolling out our EMV solution across a number of our European customers and started actively selling and building our pipeline into the Americas market, leveraging the signing of a master framework agreement with the California State Department of Transportation. We are pleased with the performance of our asset management division and the initiatives we are taking in our interactive division to improve organic growth while maintaining our business model of profitability. Let me turn the call over to Mr. Steve Sadler.

[Stephen J. Sadler, Chairman and CEO]

Thanks Vince. In terms of acquisitions, the actionable pipeline continues to improve. As previously noted with rapidly increasing interest rates, declining public tech values, and the possibility of rising taxes valuations are becoming more realistic in terms of meeting our financial criteria. It is true that we have not completed any acquisitions for about a year, but we have maintained our financial discipline which seems to have been the right strategy considering the substantial recent decline in tech valuations. Our growing cash balance, no financial debt put us in a very good position for the future. Sometimes it's best to be patient, deploy ones cash to get the best long-term return for shareholders. I would now like to open the call for questions.

[Operator]

Thank you. [Operator Instructions]. Your first question comes from a Stephanie Price from CIBC. Please go ahead.

[Stephanie Price, CIBC Capital Markets]

Hi, good morning. I wanted to circle back on the direct sales force for the cloud contact center solutions. Can you talk a bit more about whether the team is fully stocked and productive and how we should kind of think about the role of the direct sales force team here?

[Vince Mifsud, President]

Yeah, I would characterize it as, we are never fully staffed but we are well-staffed and our direct. There's been a lot of training as well on selling cloud contact center and SaaS. So that training is largely behind us and we're building pipeline as I mentioned. So the pipeline has grown quite a bit and continues to grow. So that's where we are.

[Stephanie Price, CIBC Capital Markets]

Okay, thanks. And in the past you talked about 70% of your contact center revenue from on premise, is that still the number we should be thinking about and how does that evolves over time?

[Vince Mifsud, President]

Yeah, Stephanie I think it's about the same. It might be a lower total but I think the percentage is still about the same today 70% although we're moving more into the cloud now that we have set up these platforms in various regions which we didn't have before.

[Stephanie Price, CIBC Capital Markets]

Okay, thanks and just finally for me in terms of the partnership, you mentioned the Telcos and the cloud solutions, just curious how you are thinking about partnerships and how those relations there are evolving as you look at the market share?

[Vince Mifsud, President]

Yes, so we maintain the Telco partners because a lot of them have invested heavily and have stood up in our platform and are labeling it. So that continues that program and that the standing up of our own SaaS is just augmenting that. On the on-prem side given that there's less demand for on-prem contact center in general, resellers play a much smaller part in SaaS deals, they're more like -- consider them more like lead generation rather than delivering hardware and services. So they play a less role in SaaS world than they do on an on-prem basis. And less like our Telcos they stand up their own cloud and go to market directly.

[Stephen J. Sadler, Chairman and CEO]

Stephanie, just to add something to that, we're pretty strong with the Telcos but not in the U.S. We don't have a big Telco. We really have Telus in Canada but really don't have full coverage in Canada. We had nothing in Australia, so what Vince mentions, we set up platforms it's in basically areas where we didn't have Telcos to do what we need to be done on the SaaS side. So it's a bit of an expansion as well into areas where we didn't have a Telco partner and therefore we set up our own platform to go out those markets.

[Stephanie Price, CIBC Capital Markets]

Okay, thank you for the color.

[Operator]

Thank you. [Operator Instructions]. Your next question comes from Paul Treiber from RBC. Please go ahead.

[Paul Treiber, RBC Capital Markets]

Hi, thanks very much and good morning. In regards to the decline in IMG, on a constant currency basis can you clarify how much of the decline is related to video and how much is related to the rest of IMG?

[Vince Mifsud, President]

Yeah, good question. Substantial portion of the decline, I won't give an exact number is video. I think it's a material portion of the decline and foreign exchange. Those are the two factors driving the decline in interactive.

[Paul Treiber, RBC Capital Markets]

Okay, that's helpful. And then assuming -- in video, when you look at the acquisition in its entirety, you had the sort of the boom out of the gate, what would you say the IRR and the acquisition overall, is it above what you anticipated when you initially made the acquisition?

[Stephen J. Sadler, Chairman and CEO]

I would think so. We're now back to that volume but in the -- after the pandemic hit, we made substantial gains, all the revenue went up as people ordered more seats, etc. And that's why we paid out the 85 million special dividend. That dividend was really profit we made in about the first let's say 15 months and rather than go forward we tried to explain that it was an unusually bad therefore we took an unusual action and provided an unusual dividend. We've since gone back to our more normal level. It is profitable but it has lowered the profit a lot because during that period we made $85 million, we paid 40 million and we made the 85 million probably in 15 to 16 months. So the return was pretty good.

[Paul Treiber, RBC Capital Markets]

And looking at the remainder of IMG I imagine just given that the headwinds over the last couple years of the cloud, maybe renewal rates have gone down a little bit. When you look at overall like the returns in that segment what's your enthusiasm to continue to make acquisitions in IMG or has the underlying market structure, economics, changed towards less attractive to make acquisitions in that segment?

[Stephen J. Sadler, Chairman and CEO]

It's not as attractive device SaaS companies in that segment because they tend to grow and lose more money as they grow. So we tend not to buy those. However, it does put pressure on some of the other players who have good customer bases, good software like when we bought Altitude. And the return on investment is actually quite high for us because others are not interested because the market all want SaaS. But SaaS actually doesn't give a good return other than in the stock market than from what we actually get a return on cash from buying those companies. And if you look in the market today, some of those returns they were pretty frosty at the time, favored of course is 59 who's gone from both $200 to under $100, that's a good return. So we avoided those types of returns and we bought an Altitude, it really does the much growth, shrinking a little bit but has a very good return compared to what we paid and to what they added in value for us in terms of profitability and cash flow.

[Paul Treiber, RBC Capital Markets]

And just a last question for me, I mean just in terms IMG excluding video for a segment, like the segment continues to trend down. I mean obviously the long-term organic growth of stability in that business would have a significant impact on the IRR and acquisitions, where do you see -- do you see ultimately that business stabilizing and having a low-single digits positive organic growth, do you think that's still the reasonable long-term outlook for that segment?

[Stephen J. Sadler, Chairman and CEO]

Yes, I think that is a reasonable medium-term outlook for that segment versus long-term. And I also think there should be more opportunities for us to do acquisitions as some of those are competitors are feeling the same pressure from a 59 for example that is growing okay but not doing so well in terms of making money. So again from that side there is pressure in the marketplace from people trying to get market share versus profitability and that impacts a lot of people in the market. So I'm hoping it also will show up in some acquisition opportunities for us as well and we still invest a lot in our R&D and again we're still investing in building that business forward. It's a big market and we feel quite comfortable with our returns in that market even today, even with lower revenue.

[Paul Treiber, RBC Capital Markets]

Okay, thank you. I will pass the line.

[Operator]

Thank you. And there are no further questions at this time. Mr. Sadler you may proceed with your conference.

[Stephen J. Sadler, Chairman and CEO]

Okay, Enghouse is in a very strong financial position to execute our capital allocation and business strategy. I wanted to inform you we have recently increased our acquisition team in anticipation of more opportunities to deploy capital in the next couple of years. Also as Vince outlined we continue to invest in our operations to improve internal growth. We want to thank you for your patience and we look forward to talking to you again next quarter.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you very much for participating and ask that you please disconnect your lines. Have a great day.