Avante Logixx Inc

XTSX:XX

Earnings Call Transcript 2020-Q4

[Operator]

Good morning, ladies and gentlemen, and welcome to the Avante Logixx F '20 Earnings Call. [Operator Instructions] This call is being recorded on Thursday, July 30, 2020. And I would now like to turn the conference over to Craig Campbell. Please go ahead.

[Craig Bradley Campbell, CEO & Director]

During today's conference call, management will be making forward-looking statements that constitute future-oriented financial information, as such term is defined in securities regulations. Listeners to this call should read the company's forward-looking disclaimers contained with each of the filings related to this fiscal period.Good morning, fellow shareholders, and welcome to our Avante Logixx Q4 Fiscal 2020 and Year-end Earnings Call. This morning, I'm joined by Steve Rotz, the company's Chief Financial Officer. And today, we look forward to providing an update on the continued strengthening of Avante Logixx, our focus on execution and strategic priorities, and we'll review the financial results for the fourth quarter ended March 31, 2020.We're well into our transformation journey at Avante and our XX 2.0 strategy. 30 months ago, I took over at the helm of Avante and told you that we had a clear vision for the future, a detailed plan and then fully aligned with shareholders. Since then, I'm proud to highlight 138% growth and a much more diversified and solid underlying group of companies.During Q3, we completed our largest acquisition to date with the addition of A.S.A.P. Secured. During Q4, we made significant progress towards integration, the realization of acquired synergies and expanding our customer relationships. We now have 3 exceptional platforms to grow both organically and acquisitively on national infrastructure and a widening opportunity.We continue to see organic growth and organic growth opportunities. We have the right teams in place as we continue to integrate, having a solid improving MIS platform and are confident that we'll see increased earnings in the coming quarters.Our portfolio is strong, backed by exceptional brands and an amazing base of reoccurring monthly revenue. This is proven in our relative resiliency during the COVID-19 pandemic, which we will report on next month in respect to our first quarter ended June 30.In Q4 and the future quarters to follow, you can expect continued and focused execution around the strategic priorities of XX 2.0. We intend to build and generate cash. We'll strengthen our competitive advantage with our investments in business systems, and significant work has been completed on several IT-related initiatives. Over the next 6 to 9 months, the management team will focus intensely on organic growth and integration activities.While we are always receptive to acquisitions that are accretive to shareholders and that further our long-term strategy, we will not be overly seeking such opportunities in the short-term as we have seen a major gap created between sellers' expectations and the value of those terminal cash flows. We'll now have -- we now have sufficient scale in place to achieve what we set out to do, and we'll focus on achieving our goals over these coming months.Within our subsidiary Logixx Security Inc., we are focused and winning new customers. We are cross-selling existing customers. We will continue to work on converting customers to technology-enabled and managed securities programs and services.At ASI, our residential platform, we will continue to make it easier for customers to interact with us by implementing a new customer payment portal. We are upgrading and standardizing technologies for all of our Avante Security customers, and we work hard to add new customers every day for this amazing business.I'll now turn the presentation over to Steve to discuss the financial performance for Q4.

[Stephen David Rotz, Chief Financial Officer]

Thank you, Craig. I will focus on Q4 and on sequential comparisons versus Q3. Year-end financial statements and MD&A are available on our website and are filed with SEDAR.As of Q4, Avante Logixx operates through 3 platforms, consisting of Logixx Security, Avante Security and 70%-owned City Wide Locksmiths. Within the MD&A, we previously reported revenues and margins by type of service. We are now transitioning to reporting of the 3 platforms.During Q4, we have provided both levels of disclosure for the MD&A. Next year, we'll only report on the information based on the 3 platforms. And today, I will speak in context for those new platforms.Turning first to the income statement. First, a reminder that the fourth quarter includes 3 months of ASAP's earnings, whereas Q3 had just 1 month. Total revenue for Q4 was $18.4 million versus $14.1 million in Q3. The acquisition of ASAP positively impacted the sequential growth. We did have some negative impact on sequential revenues due to COVID-19, as we will explain during the call. With the acquisition of ASAP, our largest platform is Logixx Security, representing 72% of Q4 revenue versus 21% for Avante Security and 7% for City Wide. Logixx Security grew revenues by $4.4 million during Q4, which was largely due to the inclusion of ASAP.Our blended gross profit was 19.2% during Q4 versus 23.6% in Q3. Sequentially, we experienced stronger gross profit margins in Logixx Security, growing at 13.7% from 12.4% in the prior quarter. Avante Security had lower margins in Q4 at 33.8% versus 44.9%. This sequential change was caused by inventory adjustment related to implementing a new inventory management system in October 2019. Adjusting for this issue, Avante Security's quarterly gross margin would have been 39%, and Q3 would have been 40% and more typical for this division.City Wide sequential margins were largely the same. However, our total GP percentage came down and messes largely by design. That is, we set out to establish a core national platform within Logixx Security to provide technology-enabled security services to our large and growing blue-chip customer base. By definition, this leads to lower total blended margins initially. As of December 1, Logixx Security has been winning more business and is well positioned to build off that newly acquired national base to implement additional higher margin services. Note that gross profit margins in Monitoring & Managed Services are typically much higher. And as we cross-sell these higher-margin services, we expect to see improved total margins over time.As the next 12 months unfold, we expect to see the benefit of cross-selling these higher margin services. This plan was temporarily impacted by COVID-19, as customers were not willing to allow our technicians in the buildings to install new equipment, but we are now seeing good indicators from our order backlog for this kind of work. We also expect to see the full integration of back-office activities and technologies, reflecting previously discussed synergies.Adjusted EBITDA was unchanged during Q4 at negative $0.5 million versus Q3, negative $0.4 million. As we said at the end of Q3, results were not as expected. We immediately took steps to reduce our costs going forward and looked to be more aggressive on the realization of synergies. A restructuring charge of $0.8 million was taken during the last weeks of Q4, and we anticipate annual savings of approximately $1.3 million from these efforts effective April 1, 2020.There are 2 key metrics that I would like you to focus on. Firstly, RMR, which means recurring monthly revenue. And we have 2 sources of RMR, recurring monitoring and response services and recurring contractual protective services. As reported in our MD&A, we grew total RMR to $18.4 million during Q4 versus $14.1 million during Q3 and $11.8 million during last year's Q4. That is 80.2% of our revenue is now RMR as of Q4 2020, leading to stability and predictability. Secondly, I'd like you to focus on adjusted OpEx as a percentage of revenue. It's another measure that we look at. Direct operating expenses amounted to $3.8 million during Q4. These are net of depreciation, amortization and share-based payments. A portion of these operating expenses represent pursuit cost related to our stated strategy of growing the business strategically. For the past 2 years, we've had a well-articulated plan to grow our business, both strategically and organically. This has required upfront spend, negatively impacting reported EBITDA for the time being. We are now seeing the benefits of scale though.Adjusted OpEx as a percentage of revenue was 20.5% during Q4 versus 27.6% during Q3 and 29.9% during last year's fourth quarter. We remain focused on improving that percentage by growing revenues and reducing administrative expenses where possible. As noted by Craig earlier and in the press release, our focus over the balance of this fiscal year is on organic growth and operational excellence. This should further improve our operating expense percentage as the year progresses.Now looking at the balance sheet. Total assets increased to $49.1 million at Q4, an increase of just $6.6 million since our third quarter. However, this was an increase of 43% or almost $15 million since the prior year-end. Closing the ASAP acquisition on December 1 accounted for most of this increase at $9.3 million. Note 12 of the financial statements provide a summary of the increase in assets related to ASAP.Financing the total increase in net assets since last year was from the issuance of convertible debentures, a promissory note from the vendors of ASAP and a net increase in senior debt.Accounts receivable is an area that management focuses on, given the importance of working capital to our business. At March 31, 2020, total AR was $16.5 million, up from $15.7 million at the end of Q3. Some of this increase during Q4 related to slow paying by customers as a result of COVID-19 but also was due to increase in revenues during the fourth quarter. Our historical track record of collections is excellent, so we are not concerned by the short-term trend we experienced in March. Over the years, we have seen immaterial bad debt given the high quality of our customer base. But let me be clear, it is the top priority of the team to reduce the amount of capital employed in this business, and you can expect improvements in future quarters.There are 2 additional accounting and finance items -- and financing items that I want to cover this morning. Firstly, under IFRS, the issuance of $8.3 million of convertible debentures requires that we split the actual liability into 2 components. One of these is an estimated derivative liability representing the holders' equity conversion rate. That reported liability will move up and down each quarter, depending mainly on our stock price and the volatility of that stock price and will reduce -- and with reducing time value with each quarter is completed.With the decline in our share price since December 31, we showed a large IFRS net income pickup during Q4. We normalized this out when reporting adjusted EBITDA to give a truer picture of operating performance during the quarter.As at the end of Q4 and Q1 June 30, Fairfax waived compliance with its related financial covenants. We have the right draw an additional $9.7 million of debentures until August 27 and subject to shareholder and regulatory approvals.My second additional topic deals with the senior debt. After quarter end and during the early days of the COVID-19 pandemic, we obtained approval from our senior banker to increase the revolver by $1 million. This was done to increase liquidity. Senior debt, ignoring the new IFRS 16 liabilities, was $6.7 million as of quarter end. This is fairly small in context of our RMR of more than $14 million per quarter. This level of senior debt is also small in context of our accounts receivable of $16 million and inventory of $2 million. We are working on increasing and amending senior debt arrangements to support our organic and strategic growth plans.As at the end of Q4, March 31, and Q1, June 30, the bank waived compliance with the related financial covenants. I will now turn the call back over to Craig.

[Craig Bradley Campbell, CEO & Director]

Thanks, Steve. We also want to provide some comments on the impacts of COVID-19 to our business. Monitoring & Managed Services performed very well within both Logixx and Avante. Protective Services within Logixx was not unscathed but only negatively impacted by a small amount. Since late May, we have seen elevated revenues versus the pre-COVID levels.Implementation revenues of our integrated systems in the Electronic Security Division were impacted negatively at both Logixx and Avante, as residential and corporate customers did not want us entering their sites initially, but this concern has been subsided.Implementation -- or sorry, City Wide was forced to close its retail store during March, and installation of hardware was largely delayed until June. During April and May, City Wide did benefit from the federal government's Canadian Emergency Wage Subsidy plan.During the very early days of the COVID pandemic, we took additional steps to preserve employment at our workforce and cash flow. As of the first payroll period in April, voluntary across-the-board salary cuts were implemented, scaling from small single digits for our least paid employees and increasing to the executive team, where we reduced salaries by 20%, as well as the Board of Directors reducing all of their director fees. On an annualized basis, this is expected to save $700,000. However, our intention is to unwind these reductions as the year progresses and stability in the business is well in hand.To summarize, during the early days of the pandemic, the company's management moved decisively to take prudent action to minimize expenses, while ensuring that all customer requirements were met and staff were protected with the appropriate equipment. We also ensured that our company was well positioned during the financial crisis.Along with the salary cuts previously mentioned, we implemented a hiring freeze and a moratorium on all discretionary expenses. Avante continues to operate and is close to business as normal as is possible under these conditions. We are an essential service under all applicable government roles, and significant work by the operations team ensured that we are able to continue providing service to all of our customers.We transitioned seamlessly from a work -- to a work from home for many of our non-frontline staff and ensure that constant communication with customers occur. I do want to take a moment to thank all of the staff and dedicated employees of the Avante group for the tremendous job that they have done.In late August, we will report Q1 which ended June 30. Typically, we do not provide guidance, but given the timing of the release of Q4, the impacts of COVID-19 just discussed, we are providing the following guidance with respect to Q1. Our business is resilient, and we are very proud of that. Total revenues are expected to be in the range of $19 million to $20 million, with blended gross margin percentage to be between 21% and 24%. Operating expenses are expected to be lower than Q4, benefiting from the Q4 restructuring charge, the temporary salary cuts implemented during early May as well as aggressive pursuit of additional synergies.In closing and as I addressed on the opening of the call, our fiscal year-end and quarter end highlights a strategic shift in our business. 30 months ago, we were a single vertical, small boutique residential security business operating in Toronto, with $22 million in revenue and 125 employees. Today, we are a business with a $90 million run rate at the top line and over 1,500 dedicated employees. We now have 3 platforms, one of which is national in scope; and a second one has broadened to additional communities. We are builders. We are aligned shareholders, and we are focused on long-term value creation for all.That will conclude my formal remarks. And operator, Steve and I -- I'm sorry, Veronika, Steve and I would be pleased to address any questions at this time.

[Operator]

[Operator Instructions] Your first question comes from Doug Taylor with the company, Canaccord.

[Douglas Taylor, Director]

First question, I mean, Q1 appears to show a bit of an uptick in terms of growth. I'd just like to understand whether some of this is working [indiscernible] or have you [indiscernible].

[Craig Bradley Campbell, CEO & Director]

Doug?

[Operator]

I'm very sorry, Doug. We're having a very hard time hearing you. You've been cutting a little bit on and off. Could you please repeat the question?

[Douglas Taylor, Director]

Yes. One second. Sorry. Can you hear me better now?

[Craig Bradley Campbell, CEO & Director]

Yes.

[Operator]

Yes, much better.

[Douglas Taylor, Director]

First question is about [indiscernible] uptick in growth with your guidance. I just want to understand if that's positive bookings trends, or is any of this degree working through prior backlog of [indiscernible] are wins that were achieved pre-COVID?

[Craig Bradley Campbell, CEO & Director]

Yes. So Doug, there's still a bit of breakup on the line. But if I heard the question correctly, it said, I'm interested in the growth on Q1, how much of this is working through prior backlog versus growth in the business. Is that correct?

[Douglas Taylor, Director]

That's correct.

[Craig Bradley Campbell, CEO & Director]

Okay. So yes. So Doug, most certainly, this is more predominantly focused on the growth of the business within the COVID environment. We have -- we, for Q1, still will not be at a, I'll say, a full recovery on our systems and integration and sort of what we've referred to earlier in the call as implementation revenue.So in our reoccurring revenue base, which would include the contractual side of the Protective Services, we've seen solid growth in spite of the places where we have felt the pain, which is the delay of implementation revenues. So the resiliency of that core business definitely is carrying us and giving us solid tailwinds into future quarters, where we expect the implementation revenue to catch up and then smooth out as the year progresses.

[Douglas Taylor, Director]

Okay. But the Q1 guidance, it [indiscernible] into the next quarter but as [indiscernible] can the EBIT [indiscernible].

[Craig Bradley Campbell, CEO & Director]

Doug, again, I really am sorry to say I'm only getting kind of every other word or every fifth word there.

[Douglas Taylor, Director]

Apologies for the connection. I'll try and log back in.

[Operator]

So your next question comes from Nick Corcoran with Acumen Capital Company.

[Nick Corcoran, Equity Research Analyst]

Just a few questions from me. I think in your prepared remarks, you said that City Wide benefited from the Canada wage subsidy in Q1. Can you give any indication what the size of that wage subsidy would have been?

[Craig Bradley Campbell, CEO & Director]

Yes. First of all, City Wide is now a very small part of our total business, and we only own 70% of it, just caveat to that. So I don't want to get too micro data here. But it was just 2 months' worth of benefit. They did not qualify in June because the revenues have recovered. So the dollar amounts are not significant in the context of our business.

[Nick Corcoran, Equity Research Analyst]

Okay. And then just maybe backing up a little bit and just think about the impact in Q4 of COVID and probably the last 2 weeks of March. Can you maybe just go into a little bit more detail on how your operations were impacted?

[Craig Bradley Campbell, CEO & Director]

Thanks, Nick. So as we say, sort of a real solid 2 weeks, we saw an initial dip in our Protective Services side, largely through what I'd call that first 6 weeks of lockdown, so early March -- or sorry, mid-March into the end of April, early May. And as I said in my remarks, through May and June, we have seen volumes return and are above any pre-COVID averages. So we have seen a very solid uptick in business. A portion of that business is related to new requirements and new services being provided to customers, in some cases, in support of their return-to-work plans, so think about temperature monitoring and additional access control, things like that as well. So the fact that we are performing above our pre-COVID levels is encouraging while a number of our customers continue to be in shutdown mode.And -- so in a COVID environment for our industrial and large commercial customers, for the most part, security was never taken away and only in some cases, increased in securing empty facilities. As the economy reopens, we've added on additional services. And as the economy fully reopens to the extent that we were exposed or have exposure to retail customers, commercial shopping malls, things like that, we expect to see further increases in business in addition to our ongoing sales pipeline.

[Nick Corcoran, Equity Research Analyst]

Perfect. And then there's a restructuring in acquisition cost in Q1 or Q4. Did any of those carry into Q1?

[Craig Bradley Campbell, CEO & Director]

So we took the charge, and as I said in Q3, on the call, to say that we were not pleased and with the progress that we have been making. Before COVID, we had taken steps to get more aggressive at getting after the synergies that we've spoken about related to the acquisitions we did. So of the $800,000 charge, a bunch of it is head count. That was already well in the works ahead of the COVID impact. So that charge, which carries a $1.3 million annualized savings is synergy and integration-related. And as we pursue further, so the effects of that from an EBITDA state -- EBITDA impact will be seen in Q1 and coming quarters. The full effect of the cash relief of those savings, the severances or salary continuations tail off and are completely done at the latest by late October, early November. And then we will continue in the coming quarters to get after additional savings.The salary reductions I referred to in my comments were a direct impact for COVID, where as opposed to -- because we're an essential service, and we're trying -- we already were trying to run leanly versus taking out specific head count, we decided strategically that we would take the costs out across the board vis-à-vis the salary reductions so that we didn't have to go and take out people in the short term.So we did that to shore up some cash flow in the salary reductions. We will look to unwind those as the year progresses, but we felt like it was a prudent response to the uncertainty of COVID. And then we are keenly focused on getting after further synergies and integration cost just as a steady-state business to improve our earnings to be where we've told shareholders to expect in the past.

[Nick Corcoran, Equity Research Analyst]

Great. And then just the last question for me. Can you maybe just give a little bit more color on what you're seeing in the M&A market? And whether the discussions with the potential targets have been kind of ongoing from pre-COVID, or whether they've maybe picked up in pace.

[Craig Bradley Campbell, CEO & Director]

Yes. No, so we talk a lot about nurturing an active pipeline of targets. We have definitely seen COVID impact in 2 ways. In the businesses that we have been pursuing that have an RMR base, I would say some of the sellers' appetite, whether it be their value expectations or just their own future uncertainty, have either the values have gone up to a place where we're not comfortable with the purchase price, or they've pulled back their interest because they know a good reoccurring revenue base is a great asset to hold as the time became uncertain.To the acquisition opportunities that we are pursuing that are more implementation-based, the system integrators, other more project-based, we've put a moratorium on them simply because we value them off of historical cash flows. And without our comfort level on the certainty of future cash flows, we've just chosen to sort of mothball them until everybody understands the world a bit better.So as I said in my prepared remarks, we will definitely keep the door open and the phone answered for opportunities that come our way. And if there's something that proves to be of good value and good opportunity, we will pursue them. But right now, we are focused over the next 3 quarters internally on our organic pipeline as well as our operational excellence to get this thing producing the EBITDA that is expected.

[Operator]

[Operator Instructions]

[Craig Bradley Campbell, CEO & Director]

Okay. Seeing no more questions, I will bring the call to a close. I will close by, again, thanking all of the team, all the dedicated employees that are working hard to keep the business performing at optimal levels.I look forward to being back on the line with my fellow shareholders in less than 30 days' time, where we will discuss our Q1, and in the meantime, wish everybody safe and healthy times ahead. Thank you.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines. Thank you.