Tecsys Inc

TSX:TCS

Earnings Call Transcript 2018-Q4

[Operator]

Good morning, everyone. Thank you for standing by. Welcome to TECSYS' Fourth Quarter Year-end Fiscal 2018 Results Conference Call. [Operator Instructions] Please note that the complete annual and fourth quarter report, including MD&A and financial statements, were filed on SEDAR after market close on July 5, 2018. All dollar amounts are expressed in Canadian currency, are prepared in accordance with international financial reporting standards. 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 Friday, July 6, 2018, at 8:30 a.m. Eastern Time. I would now like to turn the conference over to Mr. Peter Brereton, Chief Executive Officer at TECSYS. Please go ahead, sir.

[Peter Brereton, President, CEO & Director]

Thank you, and good morning, everyone. We appreciate you joining us for today's call. Yesterday, after market close, we issued our fiscal 2018 fourth quarter and year-end financial results, and a copy of those results is available on SEDAR. Joining me today is Berty Ho, our interim CFO. Berty has been TECSYS' CFO from 1998 until last year and has recently returned to the role on a temporary basis. For today's call, I'll start by summarizing the key events of fiscal '18 and reviewing our financial results. Berty will walk us through the financials in more detail. I'll then close with a few comments on our outlook followed by a Q&A session. Fiscal 2018 was very much a year in 2 parts. In the first half of the year, our results were bolstered by strong sales in the complex description business, offsetting slowness in our U.S. health care business. In the second half, our health care business began to return to its pre-U.S. election activity. In fact, looking at bookings, first half was 2/3 complex distribution, 1/3 health care, and the second half was almost precisely the inverse. Overall, it was a solid year, with record revenue and for the 10th conservative year, increased dividends to our shareholders. Total contract value bookings for the year reached a record at $48.1 million, a 13% increase compared to $42.6 million booked in fiscal 2017. We added 12 new accounts over the course of the year. Nine of the contracts were in complex distribution. We concluded the addition of a fourth provincial liquor board as well as a Caterpillar dealer in line with our core strengths in the sector. One of these agreements was signed on a software-as-a-service model, and the another was signed through a channel partner. Our contract bookings in the fourth quarter of fiscal 2018 really demonstrated how our momentum increased through the year. We achieved $14.7 million in bookings in Q4, a 33% increase over the $11.1 million of Q4 2017. This growth reflects the return of our health care business. Uncertainty around health care legislation in the U.S. impacted momentum in our health care division in the first half of fiscal '18, resulting in no new contracts being received from hospital networks. Through this period, however, we continued to engage with hospitals, and our pipeline of potential customers remain very strong. That pipeline began to convert into actual customers in the second half of the year and resulted in the signing of 3 IDNs, 1 in Q3 and 2 more in Q4. With one of the IDNs, we signed a $6.2 million contract, the largest we've ever signed with a health care system. This network is not the largest of our hospital customers, but the unique way they engaged us speaks to the leadership position we have established in the industry. Other hospitals usually begin to work with us by putting our solution in one part of their facility and then build out from there. In this case, the customer did their research, visited point-of-use implementations at other hospitals and then contracted with us to put in place solutions at all of their network locations rather than doing a slow rollout. It's important to add that along with this strong flow of new business, we maintained a book-to-bill ratio of 108% overall for fiscal 2018. For the fourth quarter of the year, it was a very healthy 115%. Berty will now provide some details on our financials for the year and the quarter.

[Ho-Wo Cheong]

Thanks, Peter. Total revenue in fiscal year 2018 was $70.7 million, up 3% over $68.4 million achieved in fiscal 2017. On a same currency exchange basis, revenue grew by about 5%. In the fourth quarter of fiscal year 2018, total revenue was $18.9 million, about 2% higher than Q4 2017, when we achieved $18.4 million. On a same currency exchange basis, revenue was up by 6%. At the end of fiscal 2018, recurring revenue amounted to $26.2 million or about 37% of revenue. Proprietary product revenue was $6.9 million in fiscal 2018, 4% lower than the $7.2 million in fiscal 2017. This is due to the decline in proprietary hardware deliveries in the year. For the quarter, we saw a 16% increase in proprietary product revenue to $3.1 million as a result of increased proprietary software license revenue. Third-party products revenue was $6.8 million in fiscal year '18, even with fiscal year 2017. For the quarter of fiscal -- for the fourth quarter of fiscal 2018, we had an 11% decline of third-party product revenue to $1.9 million from $2.2 million in Q4 '17 as a result of lower third-party license and label revenue. We decided to exit the label business in August 2017. In fiscal year 2017, the label business contributed for about $600,000. Cloud, maintenance and subscription revenue was $27 million for the year, 3% higher as a result of increased proprietary maintenance contract compared to fiscal 2017. For the quarter, cloud, maintenance and subscription revenue was $6.9 million in Q4 2018, the same as the previous years.Increased customization and implementation services revenue was reflected in a 9% increase in professional services revenue in fiscal 2018 to 20 points -- $27.8 million compared to $25.6 million in fiscal 2017. Gross margin for fiscal year 2018 was $34.7 -- sorry, $34.9 million, a 2% increase compared to $34.2 million in fiscal 2017. The increase is a result of increased professional services and maintenance revenue where we achieved margin of 50%. The gross margin as a percentage of revenue was 49% in fiscal 2018 compared to 50% in fiscal 2017. Fourth quarter fiscal year 2018 gross margin was $9.6 million or 51% of revenue compared to $9.4 million or 51% of revenue in the previous year. Total operating expenses for fiscal 2018 were $30.6 million, 17% higher than $26.2 million in fiscal 2017. However, when you add back the $4.6 million of Canadian federal and nonrefundable R&D tax credit recognized in Q4 of 2017, operating expenses were actually down by 1%.Looking at our operating expense segments. Sales and marketing expenses were down 4%, while G&A expenses were increased by 7%, largely driven by higher salaries and benefits and increased recruitment cost. R&D expenses increased to $9.8 million from $5.3 million in fiscal 2017. This increase is a result of the $4.6 million R&D tax credits mentioned above. EBITDA in fiscal year 2018 was $6.5 million, down from $10.4 million in fiscal 2017. Adjusting for the impact of the R&D tax credit in fiscal 2017 mentioned above, EBITDA would be up 12%. In fact, if you adjust for the exceptional R&D tax credit as well as the currency headwinds, EBITDA rose 28% year-over-year.Looking at EBITDA on a quarterly basis, we generated $2.3 million in Q4 2018 compared to $6.7 million in Q4 '17. After the adjustment of the R&D tax credit in fiscal 2017 mentioned above, EBITDA would be up 12%. Net profit for fiscal year 2018 was $3.9 million or $0.30 per share compared to $6 million or $0.49 per share for fiscal year 2017. During the fourth quarter fiscal 2018, net profit was $1.8 million or $0.13 per share in Q4 2018, compared to $4.8 million or $0.39 per share for the same period in fiscal year 2017. Once again, to understand these numbers, you need to adjust for the exceptional R&D tax credits. We ended 2018 in a strong position with cash and cash equivalent as well as redeemable long-term investments of $23.5 million, an increase from $13.5 million at the end of our previous fiscal year. We believe this gives us a lot of flexibility in deploying capital. As Peter mentioned, based on the continuous progress achieved in 2018 and our expectations of continued success, the board decided, last November, to increase our dividend by 11% to $0.20 per share annualized, the 10th consecutive year in which we have increased dividend.I will now turn the call over to Peter Brereton to provide some outlook comments.

[Peter Brereton, President, CEO & Director]

Thank you. Thanks, Berty. In fiscal 2019, we are looking forward to the return of health care clients and delivering growth for both of our primary business sectors. The increased engagement of health care companies was evident in our recent user conference in June, where attendance from hospital network customers increased by 50% compared to our previous user conference. It seems that after approximately 18 months of uncertainty around U.S. health care legislation, the fears of radical change have subsided, and hospital executives have begun to refocus on the need for cost savings and efficiencies in the face of relentless pressure from payers and the need to maintain margins in the face of increased operating costs. In June, we hosted our annual user conference, SmartVision 2018, in Orlando, Florida. At the conference, current users reported savings from implementing our solutions and benefits with rapid payback periods. And other noted that with our solution, they were able to reduce their inventory by 30% and increase space availability by 25%. It is important to note, however, that the health care sales cycle is long, about 18 to 24 months, and we don't expect this to change very much despite pent-up demand. On the health care side, our pharmacy point-of-view solution is one that is creating a lot of interest among our customers from its potential to increase compliance while reducing costs. The first implementation is underway, as we have mentioned before, at a major university hospital, and we expect it will go live in September. Recently, TECSYS won a design competition from the Supply Chain Advancement Network in Health or SCAN Health, whose mission is to address key problems, challenges and opportunities of high strategic importance for health systems in Canada and around the globe. We are very pleased that SCAN Health selected TECSYS for the Alberta Health Services' perioperative services design competition. This represents additional validation of the TECSYS solution to improve the performance of perioperative practices. The judges assessed the competitive solutions -- sorry, the judges that assessed the competitive solutions were composed of an international panel operating in the health care supply chain space. We expect in-hospital solutions will be growing as a part of our business in the upcoming years. Innovation like this in health care as well as complex distribution will continue to be core to how we operate. We were pleased to, again, be named this past May as a visionary by Gartner on their magic quadrant for warehouse management solutions, a position we've held since 2010. I'm also pleased to announce the appointment of Mark J. Bentler as Chief Financial Officer. Mr. Bentler will succeed our interim CFO, Berty Ho-Wo Cheong, Vice President, Mergers and Acquisitions and former CFO, effective September 17, 2018. We are thrilled to welcome Mark to TECSYS. He brings a solid track record of leading in growing companies within the technology space along with an expertise in cross-functional leadership. We look forward to his contributions to our growth. With that, we will open the call up to questions. Thank you.

[Operator]

[Operator Instructions] Our first question comes from the line of Nick Agostino with Laurentian Bank Securities.

[Nick Agostino]

A couple of things. First, if I could just clarify, Peter, did you say it was one IDN win in fiscal Q3 and then 2 IDN wins in fiscal Q4, and one of those wins was a $6.4 million deal?

[Peter Brereton, President, CEO & Director]

That's correct.

[Nick Agostino]

Okay. And sorry, that $6.4 million was the one -- was one of the ones that are in fiscal Q4? Just to be clear.

[Peter Brereton, President, CEO & Director]

That's right, yes.

[Nick Agostino]

Okay, perfect. So just on the question side, you talked about health care turning to pre-U.S. elections activity levels. Can you maybe give us a state of what the growth rate looks like on the health care side as we speak? And then also, where complex distribution sits equally from a growth rate perspective, given your commentary at the beginning that health care was contributing to the second half of growth, where does complex distribution sit at the same time?

[Peter Brereton, President, CEO & Director]

Sure. I mean, the -- yes, a couple of comments there on the health care side. First of all, we feel that on the health care side, we are, in many ways, for the first time, in a position, where we really have some very exciting possibilities for health care revenue growth within our existing customer base. And I mean, our customer base of IDNs has always been a strong contributor to revenue. But with the availability now of our full point-of-use solutions spanning cath lab and OR as well as the availability of pharmacy solution, this is first fiscal year where we're really expecting that customer base to be a key part of the health care revenue growth. And there are some quite exciting opportunities in that base. On the new account side, though the activity level is also quite high. So we'll have to see how this plays out. There are -- some of these health care opportunities are now looking like they may go with a SaaS approach. And if they do, then, of course, you'll see -- you may see significant bookings, but with the revenue hitting over a more extended period of time. We're going to have to see how the year works out. We offer these solutions both ways, upfront license fees with annual maintenance or on a subscription basis. But as the market, sort of, continues to drift more towards subscription, that potentially impacts revenue. We'll have to see how that plays out. But certainly, the pipeline looks very strong. On the complex distribution side, it's always been lumpy, continues to be lumpy. We were pleased with how the team did last year. They showed a -- that team is, in essence, 3 years old, and they've now had 3 years of consistent year-over-year growth. I think in terms of total bookings last year, they grew their numbers by about 25% over prior year. And certainly this year, we're looking for similar levels of growth from that team because of the existing, sort of, large installed base, of course, 25% growth in bookings does not result in 25% growth in revenue. It -- complex distribution has been running at about 10% revenue growth, and we don't really expect much of a change there.

[Nick Agostino]

Okay, great. That was very helpful. And then just on the, I guess, channel partners. I know you've got some system integrators you're working with. I believe in the past, you may have been looking at potential health care partners, possibly from a resell perspective. Is that still an avenue that you are pursuing? And if so, is there any update on that front?

[Peter Brereton, President, CEO & Director]

There -- no, I would say, no exciting updates on that front. I mean, we continue that process. We're certainly continuing to work with RiseNow and a number of accounts out in the industry. We continue to work with Sisters of Mercy out in the industry. And -- so those efforts continue on the complex distribution side. As you mentioned, in Q4, we actually signed a deal through one of our resellers that we'd set up a little over a year ago. They signed their first agreement, and that implementation is commencing now. So -- we're seeing a continual slow pickup in the whole, sort of, channel side of things. But there's no question that, that continues to be sort of slow determining.

[Operator]

Our next question comes from the line of Justin Keywood with GMP Securities.

[Justin Keywood, Analyst]

On the 33% growth in bookings in the quarter, are you able to break it down, what was the growth in health care versus complex distribution?

[Ho-Wo Cheong]

Sure. Actually, the growth rate was fairly similar and as Peter talked about earlier on, a strong growth in bookings in first half was primarily complex; second half, primarily health care. So overall, for the whole year on an average, they worked out pretty much 13% each.

[Justin Keywood, Analyst]

Okay. And there was also mentioned that FX hit the annual sales a bit. Do you have the constant currency growth for Q4?

[Ho-Wo Cheong]

Yes. The currency hit on revenue side in Q4 was about $600,000.

[Justin Keywood, Analyst]

Okay. And then I'm just wondering on the competitive landscape. If you're noticing any change there? Are there any new products coming out or some of the ERP vendors may be having more interest in the areas that you're targeting?

[Peter Brereton, President, CEO & Director]

We haven't seen any change there. Of course, in health care, specifically, say, the last 18 months until quite recently has been quite slow. So that probably wouldn't have attracted a lot of interest anyway. But at this point, no, we have not seen any change. We continue to see, sort of, point solution competitors, but no broad-based competitor in the health care space.

[Justin Keywood, Analyst]

Okay. And then just finally, on the pharmacy solution, are you able to give any additional color on what that actually is? Is it like a hardware solution? Is it a software? And you mentioned that being sold to existing customers, but is it also a way to bring in new customers, maybe as a lead-in product?

[Peter Brereton, President, CEO & Director]

I mean, to your last question, certainly, it is. I mean, in fact, if you look at the agreement we signed with the University of Washington, and that was a brand-new client that signed with us specifically to work with us to develop the pharmacy solution. So there is a -- there's no question that the pharmacy solution is a potential way to entering new accounts. In terms of description, it is not a hardware solution. In fact, in some ways, that's what's unique about it. Because in -- the players that have been in pharmacy hospital pharmacy for years have been very focused on the hardware piece of it. Pill counting machines and dispensing machines and robots and this kind of thing. This -- our solution is an end-to-end software solution for pharmacy. So doing -- going all the way from forecasting and demand planning to managing the inbound pharmacy, it places the orders with the vendors, receives the inbound drugs and then provides complete traceability and -- right down to the unit level for full compliance with DSCSA and other regulations and then goes all the way to the in-hospital pharmacy and, in fact, receives the prescriptions from the doctors to actually dispense the individual doses. So it's an end-to-end platform for pharmacy. And the predominant payback that you look for with that is a dramatic reduction in expired product on the shelf. Product expiring on the shelf as well as, to some extent, in some class of drugs, you have a problem of theft. And -- but both of those problems are exacerbated by the fact that most of these hospital networks really have no way of knowing what's on the shelf and how old it is. It literally is down to the pharmacist, sort of, looking at the shelf and deciding, sort of, based on what the level -- how old the bottles are on the shelf, what the level of liquid may be left in a bottle, et cetera, and deciding when to order more. Because of that, you end up with a -- the inability to know what's being stolen and the inability to manage products expiring on the shelf. So those are the 2 areas that our focus is on, but our belief is that it -- managing those more properly will save tens of millions of dollars for a typical hospital network.

[Justin Keywood, Analyst]

That's very helpful. And it's going to be ready for commercialization by September, did you mention?

[Peter Brereton, President, CEO & Director]

We've actually already released the commercial product. There's a lot of data setup to be done to bring one of these pharmacy solutions live, including setting up drug equivalents codes and all kinds of stuff. So that work is underway right now. The -- our first client on it, University of Washington, is planning to go live with the solution in September.

[Operator]

[Operator Instructions] And our next question comes from the line of Blair Abernethy with Industrial Alliance Securities.

[Blair Harold Abernethy]

Peter, so just a little more characterization, I guess, on the health care pipeline, if you could. So if you look at your typical IDN deal, you say 18 to 24 months selling cycle. Now you've been -- arguably, they haven't had their checkbook out in the last 18 months that much. Where would you characterize the pipeline in terms of guys that are just entering the funnel versus halfway through that 18- to 24-month cycle versus how many are at the front edge of that?

[Peter Brereton, President, CEO & Director]

It's a good question. We've been looking at that ourselves because the challenge, of course, is you -- we had a number of them that were, sort of, let's say, halfway through the cycle, when all of a sudden, they hit the pause button because of the trauma going on in the U.S. health care space. And now they've, sort of, hit the resume button. So you sort of go, okay, so where are they in the sales cycle? And our belief is that at this point, we have a fairly substantial pipeline that is in the, sort of, the last 3 to 9 months of that cycle. We'll see how that pans out. But certainly, it looks to us as though there's quite a number of opportunities that are nearing the end of that cycle. We then have a number of other ones that are early in the cycle, that are just entering the cycle, and we've really just, sort of, started work within the last, sort of, 3 or 4 months. The -- I should provide a little bit of additional color on the sales pipeline comment or the -- sorry, the sales cycle timeline comment. For our base accounts, it is shorter, right? So -- that's really a new account comment. Because of the fact that our base accounts are becoming a more and more substantial portion of our bookings in the hospital space, that will be bringing down the -- in fact, we're already seeing it. It is bringing down the average sales cycle just because -- on the bayside, it tends to be more, sort of, 6 to 9 months.

[Blair Harold Abernethy]

Okay. That's helpful. And if you look at your signed accounts now. What's -- with the 3 -- with the 2 this quarter, 1 last quarter. With those 3, what's the total number of IDNs now? And of those -- of that number, are they all referenceable for some -- from some of the new guys that are coming into the pipe?

[Peter Brereton, President, CEO & Director]

Yes, they are. I mean, they -- our customer satisfaction rate in their -- the hospital community is very high. No, I would add, by the way, that it has to be high. This is a community where everybody knows everybody. So -- and it's not to say that during implementation, they don't encounter moments of challenge and difficulty and issues to be worked out and that kind of thing. But overall, they're -- that base is highly referenceable. From the standpoint of numbers of IDNs, it's -- it little bit depends on how you count it. We've got some IDNs that are merged with other IDNs. We've got some Canadian IDNs that are only using some of the point-of-use solutions and so on. So we look in total, it's still somewhere in the 30s. If you look at, sort of, major U.S.-based networks, it would be in the, I don't know what it would be, mid-20s right now, something like that.

[Blair Harold Abernethy]

Okay, okay, great. And then the last question I have is given this -- the taps coming back on in the health care vertical, what are you looking at in terms of your implementation team, growth plans so on and so forth this year?

[Peter Brereton, President, CEO & Director]

I mean our challenge right now is we're trying to sort of get our heads around. It's how fast you grow the sales side of the house. Our sales folks right now particularly in health care very busy. The opportunity seems to be growing pretty substantially and we're wrestling with sort of what do we do there. And I think in terms of our overall OpEx this year, sales and to some extent marketing, so call it sales and marketing in combination, is the area where there will definitely be some upward pressure. If you look at the last year, we actually brought total sales and marketing spend down. But it's clearly time to grow that number again to capture some of what's going on in the space. The other areas, I mean, there will be a little bit of growth in spend in R&D. G&A, I think, will remain pretty constant. So -- and services continues to grow as necessary to meet demand, but I mean the services side is, in essence, a cost of goods sold. I mean that's something that we can just grow as the services revenue grows, so that's not so much of an issue.

[Blair Harold Abernethy]

So you don't -- on the services side, you don't feel that you would -- like there's any capacity issues there?

[Peter Brereton, President, CEO & Director]

No, I don't think so. We've got -- the leadership that's in place there now too is leadership that is very used to dealing with and driving, sort of, high growth in services. And we've really got a great onboarding system there for introducing new talent, bringing them in, having them work for -- they work for a while in our customer care group, sort of in-house learning to support clients, learning to support -- solve issues with the products and so on. And then as they're needed out in the field, we can move them out into the field. But at that point, they're already trained and ready to roll. So it's a pretty effective onboarding process that we've developed there over the last couple of years.

[Blair Harold Abernethy]

Okay, great. And just one quick question on the tax, the tax rate, obviously, moving around a bit. But what -- are you -- what are you thinking in terms of on a modeling, what should we be looking at modeling kind of going forward the next couple of years? The tax rate is that 20% -- 20% to 25%, is that an appropriate level?

[Ho-Wo Cheong]

Yes. Yes. I mean the statutory rate for us is about 26%. So if we you use somewhere around 25% on a go-forward normalized basis, that would be a good way to.

[Peter Brereton, President, CEO & Director]

At the same time, Blair, we're -- I mean, we're still a long way from having to pay any substantial cash taxes.

[Operator]

And there are no further questions at this time. Please continue with your presentation or closing remarks.

[Peter Brereton, President, CEO & Director]

Okay. Well, thank you again, everyone, for taking the time to be with us. And as usual, if you have any additional questions, please don't hesitate to give Berty or I a call. And we look forward to talking to you in September to discuss our first quarter results. Have a great day. Bye for now.

[Operator]

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