Tecsys Inc

TSX:TCS

Earnings Call Transcript 2019-Q1

[Operator]

Good afternoon, everyone. Thank you for standing by. Welcome to the TECSYS' First Quarter Fiscal 2019 Results Conference Call. [Operator Instructions] Please note that the complete first quarter report, including MD&A and financial statements are filed on SEDAR this afternoon, September 6, 2018. Some of the statements in this conference call, including the question-and-answer period may include forward-looking statements that are based on management's beliefs and assumptions. Actual results may differ materially from such statements. I would like to remind everyone that this call is being recorded on Thursday, September 6, 2018 at 4:30 p.m. Eastern Time. I would now turn the conference over to Mr. Peter Brereton, Chief Executive Officer of TECSYS. Please go ahead, sir.

[Peter Brereton, CEO, President & Director]

Thank you, and good afternoon, everyone. We appreciate you joining us for today's call. Joining me today is Berty Ho, our Interim CFO. I'll start by summarizing the key events of the quarter, Berty will then review our Q1 financial results and we'll then take your questions. Earlier today, we issued our unaudited 2019 first quarter financial results, and a copy of those results is available on our website at TECSYS.com. For the second year in a row, we made strong gains in terms of business development activity. This past quarter set records in terms of first quarter with contract bookings of $10.6 million, an 8% increase over the $9.9 million achieved in Q1 of 2018. This number includes strong bookings for our cloud business, which bodes well for the future. In fact, 19% of the bookings for the first quarter were recurring revenues versus 5% of bookings in Q1 of last year. Included in the new contracts are 2 IDNs, demonstrating a return to growth in our healthcare business. One is based in the Southern U.S. and is one of the largest public hospital systems in the country. It consists of 7 facilities, 4 affiliate hospitals and 2017 revenue of over $4.5 billion. The second IDN is based in New York State and comprises 4 general hospitals, 25 primary care centers and 3 walk-in clinics and pediatric care centers. It's 2017 revenue was over $1.3 billion. Like many of our IDN customers, both hospital systems have initially contracted for single solutions, one for delivery management and other for warehouse management. Both have significant room for expansion, and as we've seen with our other customers, our initial engagement provides the basis for us to offer more solutions. As we said last quarter, our healthcare business is picking up and hospitals have returned to actively engaging with us on our solutions, and we have also added personnel to address the increased demand we are seeing. It is important to note, however, that the sales cycle in the healthcare sector remains long and it takes about 18 to 24 months before a hospital typically signs on to a solution. We also signed a new customer that provides packing and distribution into the global pharmaceutical industry. This is a highly regulated industry that requires strict compliance and accountability from government bodies such as the FDA. Our years of experience developing software that addresses the needs of regulated businesses with high compliance requirements such as provincial liquor boards led them to choose TECSYS. Speaking of liquor boards, last quarter, we also signed a new contract with an existing provincial liquor board customer to upgrade their systems with our latest technology. This is a testament to the value our solutions deliver. Liquor boards require a high degree of tracking and traceability in their distribution systems, and our software allows them to do that efficiently with minimum scanning and product handling. While to some extent Q1 was a typical summer quarter, we continue to have success in our renewed healthcare business and in building our pipeline for longer-term growth. Q1 also included our User Conference held in Orlando. We hold this conference every 18 months and alternate between spring and fall as well as East and West. So this was the Eastern spring conference. Attendance was strong, and healthcare customer attendance was up by about 50%. This type of conference is a great investment in our customers and our future. The conference expenses added approximately $300,000 to our cost of services and operating expenses and impacted the bottom line by about the same amount. There was no equivalent expense in the comparable quarter of last year due to the timing of our conferences. Berty will now provide some detail on our financials for the quarter.

[Ho-Wo Cheong]

Thanks, Peter. Overall, our financial results were flat compared to Q1 of fiscal 2018, once we take into account the negative impact of the stronger Canadian dollar against the U.S. Approximately 64% of our revenue in the quarter was generated in the U.S. with the Canadian dollar valued at an average exchange rate of CAD 1.28 in Q1 fiscal '19 compared to CAD 1.32 in fiscal year 2018. Revenue in the first quarter was $16.3 million, a 1.4% decline from $16.5 million in Q1 fiscal 2018. The stronger Canadian dollar and the unfavorable variance of the company's partial hedging of U.S. revenue gave rise to an unfavorable variance of $300,000 in the first quarter of fiscal year 2019 against the same period of fiscal 2018. In the quarter, services revenue was flat at $6.1 million compared to $6.1 million in the first quarter of fiscal 2018. Most of our services revenue is for implementation assistance, which includes consulting, training and some product adaptation. With our backlog currently at $47.8 million, we expect that services revenue will remain healthy for the near-term and increase as we bring on new business.Proprietary product revenue increased by 6.2% in the quarter to $1.3 million from $1.2 million -- to $1.3 million, sorry, from $1.2 million in Q1 fiscal 2018 and third-party product revenue declined by 4.3% to $1.5 million. Cloud, maintenance, subscription revenue declined slightly by 1% to $7 million from $7.1 million in Q1 fiscal year 2018 due to the stronger Canadian dollar. Gross margin for the first quarter of fiscal 2019 was $7.6 million or 47% of revenue compared to $7.8 million or 47% in the first quarter of fiscal 2018.Operating expenses for Q1 fiscal 2019 were $7.7 million, flat compared to the same quarter of last year. As a percentage of revenue, operating expenses were flat at 47% of revenue this past quarter compared to the same quarter last year. G&A expenses remained flat year-over-year at $1.6 million. Sales and marketing expenses declined slightly to $3.4 million from $3.6 million. And R&D expenses increased by 7.7% to $2.7 million from $2.5 million in Q1 fiscal year 2018, primarily due to an increase in consulting and employee costs. Loss from operations in the quarter amounted to $98,000 compared to a profit of $65,000 in Q1 2018. The decline is explained primarily by the negative impact of the exchange rate, as mentioned previously. EBITDA was $536,000 for the first quarter of fiscal 2019 compared to $687,000 in Q1 of 2018. A decline of 22%, again a reflection of the foreign currency impact. We ended the quarter with cash and cash equivalent and long-term investment of $24.4 million compared to $23.5 million at the end of fiscal 2018 giving us a lot of flexibility for future capital deployment. I'll now hand it over to Peter.

[Peter Brereton, CEO, President & Director]

Thanks, Berty. While we are coming out of a traditionally quite quarter, our record contract bookings along with the increased activity in our healthcare business indicate that we have everything in place for a strong fiscal 2019, as well our Cloud-First strategy is starting to pay off. The total bookings during the quarter for our cloud offering surpassed the amount we booked during the whole fiscal year 2018. We believe increasing the value of our recurring revenue will drive value creation for our shareholders. So allow me to point out some of the interesting numbers again in Q2. You will note that deferred revenue on the balance sheet rose from 2 -- sorry, rose by $2.6 million from $10.8 million at the end of Q4 fiscal 2018 to $13.4 million at the end of Q1 fiscal 2019. Total bookings are up 8% to $10.6 million. Included in that $10.6 million booking number is $2 million of recurring revenue, up from $519,000 in the first quarter of last year. Our backlog rose by $6.1 million from the end of Q1 last year to the end of Q1 this year, rising from $41.7 million to $47.8 million. We believe that all of this signifies a rising acceptance of subscription-based options in the markets that we serve and provides long-term gains for both customers and shareholders. With that, I will turn the call over for questions and back to the operator.

[Operator]

[Operator Instructions] And our first question today comes from the line of Gavin Fairweather from Cormark.

[Gavin Fairweather, Analyst of Institutional Equity Research]

Just wanted to talk about on the cloud. You mentioned in your prepared remarks 19% of bookings being kind of cloud and the increased acceptance about the deployment in the market. How quickly do you expect this shift to take place? It seems like after being fairly slow, since you're picking up speed here. Just curious for your thoughts on how long this will take to play out, and ultimately how far it can go?

[Peter Brereton, CEO, President & Director]

I mean, to your question, we've seen, I mean, over the past several years, we feel like we've seen a lot of resistance to sort of a cloud-based approach, and particularly in the healthcare segment. But we feel like that's sort of melting away fairly quickly at this point. More of the players in the market, whether it be Workday or Infor, et cetera are all moving to a cloud-based subscription model. And as such as we look over the next couple of years, we fully expect that portion of the business to continue to rise. How high it will go? Hard to say at this point. I mean, personally I think we could see subscription-based bookings getting up into the sort of 30% to 40% range over the next couple of years. But that's not a hard and fast prediction, it's just my gut feel.

[Gavin Fairweather, Analyst of Institutional Equity Research]

Okay. That's helpful. And then just definitely before I re-queue, if I recall correctly, the first pharmacy customer will start to go live in September. Just curious if you have any color on how that's progressing, and any kind of takeaways to the process here?

[Peter Brereton, CEO, President & Director]

At this point, that go live is on track. They -- well, on track as these multiyear type of implementations go from the standpoint that I think the go live date slipped by a week or 10 days or something like this. So at this point they're still planning to go live in -- I think it's the end of the third week of September. And at this point, it's right on track. I mean, the challenge -- a lot of the delays through the last calendar year have been sort of polishing their data, and getting their data ready for final go live. But at this point, it looks like its tracking well and we're looking forward to being able to report back at the end of the quarter on how that -- how it's going.

[Operator]

Our next question comes from the line of Amr Ezzat from Echelon Partners.

[Amr Ezzat, Analyst]

Well, first on your contract bookings, congrats on another solid quarter there. I was wondering if you can give us some color on when we can expect you to start realizing some revenues on some of these contracts. And I appreciate that it's sometimes in the client’s hands, mainly last quarter, you mentioned signing your largest contract yet. So there, have you started doing any work? Or when do you expect to start realizing some of that revenue?

[Peter Brereton, CEO, President & Director]

Yes. That particular contract we expect that will go into sort of full implementation mode in about another 30 days. That project definitely sort of started a little more slowly than we were anticipating. It's sort of pushed towards contract signing and then sort of we lost -- definitely lost a little bit of momentum after that, but they had some work to do on their side, they had to assemble a team and get some infrastructure ready and so on. So they've been working on that. So that should -- we believe that's going to sort of pickup speed very shortly here. The scheduled start is, I believe is the end of this month. So I mean, Amr, from our standpoint, I mean, we run sort of 3 years in a row, kind of, with bookings sort of running in the $42 million to $43 million range. We're now sort of looking at our 12-month bookings running around sort of $48 million. So they really have sort of picked up a notch, and I mean, certainly our expectation is that that's turning into revenue now as we speak. I mean, there was definitely a lag time, but we're in it now.

[Amr Ezzat, Analyst]

Understood. That's very helpful. Then, I guess, if I'm thinking about the average life of a contract or -- of the bookings you announced like this quarter, how does it look like overall? And how does it look like for the cloud contracts relative to your traditional business?

[Peter Brereton, CEO, President & Director]

So I'm not sure I understood the question, could you -- Could you ask that one more time?

[Amr Ezzat, Analyst]

Yes. So in terms of the average life of these contracts, let's say, like that last contract, the largest one, like you're starting in 30 days, how long do you expect that contract to run?

[Peter Brereton, CEO, President & Director]

Yes. I mean, that implementation process is expected to run over sort of 24 to 30 months. During that time, they may well come back and sort of add to that contract, but in terms of that particular contract, that's kind of a 24- to 30-month contract, with then follow-on maintenance revenues to continue on from there.

[Amr Ezzat, Analyst]

Understood. Then is that like typical, when I'm thinking about your total contract bookings like over the last 12 months, would that be like your fair sort of average life?

[Peter Brereton, CEO, President & Director]

No. That's long. Because of the size of it and because they bought the whole suite at once, that's long. I mean, more typical for us is, we signed a contract, typically the bulk of the revenue is recognized within 12 months.

[Amr Ezzat, Analyst]

Understood. I just want to circle back quickly on the cloud bookings, again, like you said, 19% I think versus 5% last year. Is that's like a one-off from, like one customer? Or is it broad-based?

[Peter Brereton, CEO, President & Director]

No. That was pretty broad-based. I think we had about what, 8 or 9 accounts in there, I think. Yes, there was no elephants in there.

[Amr Ezzat, Analyst]

Understood. Then maybe just one last one. You mentioned in your prepared remarks that you added new employees to deal with the increased activity, yet your OpEx is still very flattish. So I'm wondering like what's happening there in terms of like headcounts? And are you going to layer more investments? Or how do we think about your capacity with the current headcount that you have?

[Peter Brereton, CEO, President & Director]

Yes. I mean, we've had some natural attrition in there. So we allowed sort of natural attrition to run, but focus the hiring around particularly point-of-use healthcare expertise. So -- hence the very flat OpEx from -- As we move forward from here, we do have to bring R&D numbers up a little bit, we're being very careful with that, but they will have to rise a little bit. But I think the investment focus from here is in sales and marketing. We feel like we're at a point where we have now, we've proven out the solutions, we've got successful ORs operating, we've got successful cath labs running, et cetera. The pharmacy that was -- we went to the first one, about to go live now. So we feel like we've sort of made that -- made the investment in the product and the proof-points around the product. And it's time now to sort of accelerate the sales and marketing and really focus on driving up bookings.

[Operator]

Our next question comes from the line of Nick Agostino from Laurentian Bank.

[Nick Agostino]

Peter, if we just look at -- just maybe give us a little bit of your outlook as far as the growth is concerned for fiscal 2019? How do you guys look at the overall top line growth? And has that changed given that fiscal Q1 came in flat year-over-year?

[Peter Brereton, CEO, President & Director]

Overall, it hasn't changed. I mean, we are seeing the -- we're always frustrated, and this -- I mean, we're frustrated with this for decades, I'm not sure it's changed. We're always frustrated by the lag time between when you see bookings rise and you begin to see revenue to rise. So you see that in there. As I mentioned earlier, the shift to a higher amount of our recurring revenue, of course, is a good thing for the business, a good thing for investors, but it means the revenue is just in Q1. So we're not really seeing a change. There is -- there are some disturbances still going on in the market. I mean, the fear around the Affordable Care Act has subsided and we've seen healthcare come back quite nicely. In fact, hospital bookings in Q1 were roughly doubled, hospital bookings in Q1 of last year. So that's a really good indicator. But on the other side, on the complex distribution side, the current sort of tera-force for lack of a better term is definitely a distraction in the general complex distribution market. We saw accounts in Q1 that we were actively engaged with, it have had to slow down a little bit, while they figure out sort of where to source products from and do they need to move their factories around and so on to deal with the various tariff tips that are going on. So there is some distraction there. We don't see it impacting our growth plans at this point for the year, but it certainly could if that worsens rather than improves.

[Nick Agostino]

I appreciate that color. And if we look at the deal sizes you announced this quarter, obviously 3 new wins, I think for a total of $1.9 million. Last quarter, and I think in prior quarters, the commentary was less potential IDN wins in terms of total number. But certainly deal size is getting bigger and I think last quarter you had one case, where a customer took on the full suite of products from the get-go. This quarter we're kind of seeing a little bit of reversion back to more deals, smaller sizes and may be taking one product. How do you guys -- 3 months later, how do you guys look at that market?

[Peter Brereton, CEO, President & Director]

Yes. I think I even made the comment in -- on the agreement we signed in the fourth quarter that sort of it was exceptional that they sort of took the whole suite. But certainly we have seen generally the trend to larger deal sizes. In this case, both of these organizations decided to start small. So trying to turn it into a trend is probably difficult. What we are seeing from a pipeline standpoint is that our customer base in the IDN space is willing to take on larger projects. And so where we're seeing sort of significant opportunities to sign agreements, it's in -- in most cases it is now with the existing established base where we already have sort of a trust and an understanding of each other, and we're able to put larger agreements together more quickly. So I think you'll see this year the larger agreements actually coming out of the base. Although of course, we do continue to pursue new accounts as well.

[Nick Agostino]

Okay. And then just one last one for me. In the case of the IDN wins, you broke out one being a warehouse management, the other one being delivery management. Can you indicate if in either case it was a competitive situation, just given the fact that it was -- the deals, the way they were allocated was segmented as opposed to a suite of products, I'll leave it there?

[Peter Brereton, CEO, President & Director]

I mean, in both cases there were some competition, but in both cases they do have their eye on a more -- on an eventual suite deployment, which then sort of leads them to want to go with a company that has the complete platform end-to-end. So I mean, in both cases, the end-to-end platform was a key factor to the win, but there were point solution competitors in each case.

[Nick Agostino]

Okay. Actually, I will add one more, because you just mentioned point solution. Is -- I think at your User Conference, the point-of-use devices were certainly resonated as far as quicker sales cycle, and there was a product that you are able to deliver across many areas for hospital, and I got the sense that there was lots of -- that the demand was growing in that particular segment. Is that still the case 3 months or couple of months later?

[Peter Brereton, CEO, President & Director]

Absolutely. I mean, summer is always quiet for that stuff, but if you were -- we don't share our pipelines on the -- publicly, of course, but if you were to look inside our pipeline, you would see a substantial amount of the pipeline activity is related to accelerated adoption of point-of-use capability within of our customer base.

[Operator]

[Operator Instructions] Our next question comes from the line of Justin Keywood from GMP Securities.

[Justin Keywood, Director of Equity Research]

On the comments of the preference by customers for cloud services over the license sales, is this on both the healthcare and complex distribution? Are you seeing strength in one over the other?

[Peter Brereton, CEO, President & Director]

No. I wouldn't say one over the other. We have seen in the past, I think it's more Justin that just we're seeing a softening on the healthcare side in terms of sort of resistance to subscription starting to soften. The complex distribution side has always been sort of somewhat open to it, looked at it in terms of sort of their own sort of capital situation, where they rather sort of buy or rent basically and so on. The hospital market has always been very against it, a combination of accounting reasons, a lot of these projects funded have been endowment funds, they didn't want to, so they've rather come in as a capital expense than as a -- or a capital item rather than an operating expense. But again that seems to be shifting. I think part of it is -- part of it is the attraction to have a sort of a bundled fixed expense that they can just count on year after year with us sort of handling more of the details of that for them. So I think healthcare is really more of starting to catch up to complex distribution a little bit. And we think overall the markets definitely continuing to move in that direction.

[Justin Keywood, Director of Equity Research]

Okay. And then I know, at least one peer that saw the license sales evaporate pretty quickly in preference for the SaaS or cloud revenue? Do you anticipate that type of transition to maybe play-out with you guys? Or you think it will be kind of more gradual?

[Peter Brereton, CEO, President & Director]

We think it will be more gradual, like we're just not seeing sort of a rapid shift to it. But we are seeing a softening. We can push it a lot harder, and move a lot faster in that direction if we wanted to, I don't see any reason to. The upfront license fee model with maintenance is a perfectly acceptable model for both customers and us. But so is the security model. So we intend to just sort of stay in lockstep with the market on that. If you look at our overall business model, so much of our business model is based on services delivered to our customer base, whether it would be cloud or customer care, maintenance, support, consulting and implementation, et cetera. That -- our license fees are not a large portion of our overall revenues anyway, so even if that did accelerate a little more quickly, I don't think you would be looking at sort of a huge chop to the P&L.

[Justin Keywood, Director of Equity Research]

Got it. Makes sense. And then just for acquisitions, the cash balance rose again this quarter. Are you seeing any change in the multiples out there or willingness of companies to sell?

[Peter Brereton, CEO, President & Director]

I don't -- we haven't really seen a change in multiples. We continue to look both sort of North American for add-on products that could add to our product portfolio as well as the European opportunities that could add to our geographic footprint. And we think there is some good opportunities on both sides. So I mean, you're right, the cash balance continues to grow, we continue to look for good opportunities to deploy it. And we're -- Berty has moved to focus exclusively on M&A for a while. Well, he has moved back in as Interim CFO. He has now been -- that's now been taking up some of his time, but he has definitely kept the M&A file moving along. And our new CFO, Mark Bentler starts in just over a week. And after a transition period, Berty will be back to sort of full time on the M&A file, so. He has achieved growth, so it makes it hard to get a deal done sometimes.

[Operator]

Our next question comes from the line of Blair Abernethy from Industrial Alliance.

[Blair Harold Abernethy]

Peter, just wondering if you could give us a little more color on the pharmacy solution, particularly, in charge -- in the sense of how was it progressing in the pipeline? Are you getting more interested in it? Just maybe a little more color around how that product is progressing.

[Peter Brereton, CEO, President & Director]

I mean, yes, we are, right. There is a -- as you can imagine, our customer base is looking at it with a great deal of interest. We actually got a couple of opportunities, where we're in fairly advanced discussions. By and large though, nobody wants to pull the trigger until UW has actually gone live. So that's where we're anxiously looking forward to seeing our first account go live on the product. And to then try to see if we can wrap up agreements with the other networks that want to get moving on.

[Blair Harold Abernethy]

Okay. And what do you think the typical or average deal size might be for the pharmacy solution?

[Peter Brereton, CEO, President & Director]

Wide range, right. I mean, we're licensing it really on the basis of the number of pharmacists. So it very much ties to sort of size of hospital, size of network, how much of the services they're going to do and how much we're going to do, but typically does this look like they are in anywhere from the sort of $1 million to several million dollar size.

[Blair Harold Abernethy]

Okay. And then just a question on your backlog. I just wonder if you can give us some more color into the makeup of the backlog or consistency of the backlog in terms of how much of it is really tending towards professional services versus product versus any recurring contracts in that backlog figure that you provided.

[Ho-Wo Cheong]

Sure. In terms of the breakdown, about 55% or so of the backlog is recurring. And I would say that the professional services piece is probably somewhere around 40% or so, and the rest really is product.

[Blair Harold Abernethy]

Is product?

[Ho-Wo Cheong]

Yes.

[Blair Harold Abernethy]

Okay. Great.

[Peter Brereton, CEO, President & Director]

Blair, but we always include -- we always include, Blair, the next 12 months of recurring revenue in that backlog number.

[Blair Harold Abernethy]

Okay. And last question for me is just, you commented about looking at adding headcount to or more resources into the healthcare side of things. So is that headcount coming out of the complex distribution side, or is this net additional headcount that you're looking at?

[Peter Brereton, CEO, President & Director]

I mean, ultimately it will be some net additional headcount. We have had some -- I mentioned some sort of overall attrition, and so we've ended up with the headcount remaining quite steady. But ultimately, I mean, the complex distribution business is actually -- I mean, in the last year it grew a few percentage points. It continues to grow. So we will need to continue to add there, but as I say, if you look at sort of overall where we plan to invest in the next 12 months, the lion's share of it is actually in the sales and marketing, where we feel like it's time to sort of crank that up, and we really haven't increased our sales and marketing spend in a couple of years.

[Operator]

[Operator Instructions] And there are no further questions on the phone lines at this moment.

[Peter Brereton, CEO, President & Director]

Great. Well, thank you, everyone, for taking the time to join us today. As always, if you have any additional questions, please feel free to give us a call. And we look forward to talking to you in late November to discuss our second quarter results. Have a great day. Thanks.

[Operator]

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation, and ask you please disconnect your lines.