Spok Holdings, Inc. (NASDAQ:SPOK) Q3 2023 Earnings Call Transcript

Spok Holdings, Inc. (NASDAQ:SPOK) Q3 2023 Earnings Call Transcript October 26, 2023

Operator: Good morning, and welcome to Spok Holdings Third Quarter 2023 Earnings Call. [Operator Instructions]. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Al Galgano. You may begin.

Al Galgano: Hello, everyone, and welcome to Spok Holdings Third Quarter 2023 Earnings Call. I am joined by Vince Kelly, Chief Executive Officer; Mike Wallace, President of Spok Inc. and Chief Operating Officer; and Calvin Rice, Chief Financial Officer. After a brief presentation by management, we will open up the call to your questions. I want to remind everyone that today’s conference call may include forward-looking statements that are subject to risks and uncertainties relating to Spok’s future financial and business performance. Such statements may include estimates of revenue, expenses and income as well as other predictive statements or plans, which are dependent upon future events or conditions. These statements represent the company’s estimates only on the date of this conference call and are not intended to give any assurance as to the actual future results.

Spok’s actual results could differ materially from those anticipated in these forward-looking statements. Although these statements are based upon assumptions that the company believes to be reasonable, they are subject to risks and uncertainties. Please review the Risk Factors section relating to our operations and the business environment, which are contained in our third quarter 2023 Form 10-Q and related documents filed with the Securities and Exchange Commission. Please note that Spok assumes no obligation to update any forward-looking statements from past or present filings and conference calls. With that, I’ll turn the call over to Vince.

Vincent Kelly: Good morning. Thank you for joining us for our third quarter 2023 earnings call. I’m very pleased with how our team performed in the third quarter. We are excited by the growth we are generating in terms of revenue, profitability and cash flow. And we are excited by our prospects and our outlook. Our strategic focus remains the same, that is to generate cash and return capital to our stockholders over the long term. We’re accomplishing this by responsibly investing in our business to support growing revenue while closely managing our operating expenses and capital expenditures. While the dividend level we declared when we announced our pivot in 2022 may have initially seemed high, we believe Spok has struck an excellent balance between making the necessary investments to fuel future growth while continuing to demonstrate our prowess in generating cash flow and then returning capital to our stockholders.

We believe we are on a sustainable path to continue paying our quarterly dividend at these levels for the foreseeable future. Further, we believe our cash flow is on a path to grow into our current dividend level. And based on our updated and increased guidance for the full year of 2023, we expect to cover at least 95% of our $1.25 annual dividend this year based on the midpoint of our adjusted EBITDA guidance less capital expenditures. Today, we’ll share with you an update on how our strategic business plan is progressing in support of this goal as well as our financial results for the quarter. I’ll start by reviewing the agenda for today’s call. The order will be as follows. We’ll begin by reviewing our strategic focus and goals and looking at our progress against those goals.

Next, I’ll turn the call over to Michael Wallace, our President and COO, who will provide a review of our operational performance for the quarter. Mike will then turn the call over to Calvin Rice, our CFO, to review our third quarter 2023 financial highlights in more detail. We will then conclude our prepared remarks with our business outlook and updated financial guidance for 2023. And finally, we will then open up the call to your questions. Any discussion regarding Spok’s third quarter results has to start with how truly proud I am with this team and the continued growth momentum that we were able to generate in the period. That momentum continued in the third quarter after our record high software operations bookings in the second quarter.

Our second quarter results included some new customer contracts that we had anticipated to close in the third quarter. Software operations bookings are always going to be lumpy, and we believe the best way to view them is over a broader window. Through the first 9 months of this year, our software operations bookings are up over 38% compared to the same 9-month period in 2022. Again, we were able to grow total revenue as we achieved year-over-year software revenue growth of 12% for the quarter and 7.9% growth on a year-to-date basis. We were also able to keep wireless revenue levels consistent with the prior year quarter and slightly up on a year-to-date basis. We continue our focus on expense management as adjusted operating expense levels through the first 9 months of the year are down nearly 12% from the same period in 2022.

As part of our continuing focus to manage expense levels in September, we exercised an option for the early termination for the lease on our corporate headquarters in Alexandia, Virginia. Consistent with how we have been operating since the onset of COVID-19, employees of the Alexandra headquarters will continue to work remotely. Calvin will provide more detail regarding the lease termination when he reviews the financial results, but the bottom line is that we expect to save approximately $1 million annually beginning at the conclusion of our lease in September of 2024. However, our focus on expense management is a driver to generate increased cash flow does not come at the expense of our product platform as we continue to make the necessary investments in product development, sales and marketing, customer support, professional services to support the growth of our Spok Care Connect and wireless solutions.

Our cost savings focus also does not come at the expense of our employees who make Spok success a reality as we mindfully address compensation levels for all employees to be sure we are fair and competitive in a heightened inflationary environment. We look forward to continued success and believe our extensive experience operating our established communication solutions will unlock even more efficiencies and create significant value for stockholders over time. In short, we continue to fire on all cylinders and are confident about the future as we close out 2023. Based on our performance in the third quarter, we are once again increasing our guidance estimates for revenue and adjusted EBITDA generation. I want to point out, we have increased our guidance each quarter this year every time we have reported.

We are increasing the midpoint of our revenue and adjusted EBITDA guidance by $1.75 million or an additional almost 7%, demonstrating our ability to generate cash. All of our increase in revenue guidance this quarter is falling to the bottom line. Calvin will go in more detail later in the call, but we expect to grow consolidated revenue for 2023 on a year-over-year basis for the first time in the company’s history. And the low point of our revenue guidance reflects our confidence. We believe we will do so again in 2024. Before we dive into our operational highlights for the third quarter, let me take this opportunity to briefly summarize our mission for those of you that may be new to our story. Our strategic goal is simple: run the business profitably, generate cash flow and return that capital to stockholders.

Spok has a proud legacy of creating stockholder value through free cash flow generation, and we intend to continue this track record. Since the beginning of our strategic pivot, which started about 20 months ago, Spok has returned approximately $44 million or $2.20 per share to our stockholders in the form of our regular quarterly dividend. In fact, since we founded this company in 2004, Spok has returned nearly $670 million to our stockholders either through our regular quarterly dividend, special dividends or share repurchases. In the third quarter of 2023, the history of returning cash to our stockholders continues as we again generated impressive levels of adjusted EBITDA and returned $6.2 million to our stockholders and we expect to pay dividends totaling approximately $25 million in 2023 as we did in 2022.

Spok remains committed to our dividend policy and returning capital to our stockholders. When you take into consideration our current cash balance, distributions to stockholders, share repurchases, debt repayments and acquisitions, Spok has now generated more than $1 billion of free cash flow since our 2004 inception. Our focus on maximizing cash over the long term supports the 4 major tenets of our strategy, and those are: one, continued investment in our wireless and software solutions; two, stabilizing and growing our revenue base; three, disciplined expense management; and four, a stockholder friendly capital allocation plan. Going forward, we believe our extensive experience operating our established communication solutions and world-class customer base will continue to create significant value for our stockholders.

Now I’ll turn the call over to our President and Chief Operating Officer, Michael Wallace, who will talk about our operational accomplishments. Mike?

Michael Wallace: Thanks, Vince, and good morning, and thank you all for joining us for another solid quarter of results from Spok. We are happy to report that we have continued to execute on our business plan and in the third quarter of 2023 we generated GAAP net income of $4.5 million or $0.22 per diluted share, which represents a 52% increase from net income of $2.9 million or $0.15 per diluted share in the prior year period. We accomplished this while continuing to generate year-over-year third quarter software operations bookings growth. Again, on a year-to-date basis, software operations bookings have totaled $26 million, up more than 38% from the prior year levels and have already surpassed our full year total for 2022.

Also, total 2023 software bookings are on track to reach levels not seen since 2019. Amidst all the progress in creating a solid financial platform and stockholder-friendly capital allocation strategy, we remain true to our mission of being a global leader in health care communications. We deliver clinical information to care teams when and where it matters most to improve patient outcomes as Spok enables smarter, faster clinical communications for our customers. And importantly, we continue to maintain our reputation as a thought leader in the health care communication space. Now let me take a couple of minutes to tell you about 2 recent events that underscore our industry-leading reputation. First, earlier this month, we released the results of Spok’s 13th annual survey on communications and health care.

This year, more than 150 executives, physicians, nurses, IT personnel and contact center representatives responded with input about the state of communication at their respective organizations. The survey results unveiled 3 major takeaways. First, unified communication across the organization is essential for modern health care. Health care leaders won a unified communication platform that integrates features such as secure messaging, on-call scheduling, clinical alerting and mass communications, one that is a centralized approach rather than one that is siloed, all of which Spok provide. Second, addressing burn out across the organization from clinicians to IT personnel is imperative. Although we have seen a positive shift on this front as about 2/3 of respondents noted their organizations are trying to tackle work-related stress and burnout.

And lastly, diversity and communication devices remains relevant. Health care organizations recognize the importance of versatile communication devices, whether that be smartphones, WiFi phones or encrypted pagers. Despite the challenges hospitals and health care systems face, we realize that effective and efficient communication is crucial for improving patient safety and outcomes and mitigating the risk of clinician burnout. While budget and resource constraints remain the biggest challenge for health care leaders when considering new technology, the quality and safety of patient care remains paramount. The same week we released the survey results Spok hosted in our annual user conference, Connect. We held the event again this year on a virtual basis and had over 150 attendees, representing nearly 100 organizations.

The event included presentations by both our management teams and our customers as well as breakout roundtable discussions and general Q&A sessions. Based on the feedback we received and the amount of customer participation in our group chat, questions and forms, we believe this was the most successful virtual customer event we have ever hosted. And we are proud of the unparalleled reputation have built within the market that we served and want to take this opportunity to thank our customers for their loyalty and their support. Spok has over 2,200 health care facilities as customers, representing the who’s who of hospitals in the United States. We have built our solutions over many years and have long-standing valuable customer relationships.

A woman signing a healthcare plan document in her home office.

This is an amazing and valuable asset for this company, and these hospitals buy from us regularly and renew maintenance at a high level. Despite the record $14 million of software operations bookings in the second quarter, that saw several large deals pulled forward that were anticipated to close in the second half of 2023. Our team was still able to generate year-over-year growth in software operations bookings for the third quarter. Included in this quarter’s bookings were 11 new 6-figure customer contracts and 1 7-figure contract. Our achievements in the third quarter can largely be attributed to 3 multiyear engagement contracts we secured. The first was with one of the largest nonprofit integrated academic health care systems in the United States.

Another with a large university medical system in the Northeast and the final with a leading cancer center hospital in the Northeast. The first health system boasts over 27,000 employees across 14 hospitals and leverages the Spok Care Connect platform for entering over 200,000 monthly operator calls, sending over 35,000 pages per month and managing over 120,000 on-call assignments each month. We are delighted to announce today that our multiyear engagement with this health system includes Spok’s smart suite upgrades, unlimited Smart Suite console licenses, extended Spok mobile usage for all of the organizations, almost 4,000 users, one of the largest deployments of Spok global in the country. And additional Spok professional services for small engagements outside of the identified upgrades.

And as an existing Spok customer, the health system also opted for a variety of Spok’s value-added services, including data integrity, workflow analysis and organizational change management. These value-added services help this partner drive maximum value from our solutions. Looking ahead, we’re excited about the prospects of expanding Spok Mobile and implementing Spok Smart Suite in other locations within this organization. Spok boasts a remarkable history of delivering efficient communication solutions to health care facilities. Another of our standout customer contracts last quarter was with a leading academic teaching hospital with over 900 beds and almost 10,000 employees across it’s campus. This 5-year engagement was Spok is for enterprise consolidation across multiple facilities on Spok Smart Suite, Spok’s Messenger and speed solutions as well as Spok’s value-added service solution assessment.

Finally, we executed another 5-year engagement with one of the world’s most respective comprehensive cancer centers with over 500 inpatient beds and over 5,500 attending physicians and nurses. This contract was for new licenses and upgrades across multiple facilities on Spok Smart Suite, eNotify and our messenger solutions as well as the solution assessment value-added service. Our third quarter success continues to showcase our commitment to providing unmatched communication solutions to our clients, and we are confident that our software solutions will continue to drive positive change for health care institutions nationwide. While we are certainly pleased with the continued momentum that we saw in the third quarter, coupled with the historic level of second quarter software operations bookings.

As we have noted in previous quarterly earnings calls, we believe it is more appropriate to look at software operations bookings on a calendar year basis. While, of course, we spend a great deal of time analyzing sales on a contract-by-contract basis, when assessing overall performance of our software operations bookings a full year basis better normalizes both positive and negative timing anomalies that could arise out of the sales cycle. We believe looking at growth in software operations bookings over an annual period is more reflective of the momentum that we are generating and is most appropriate for investors as well. With that said, we now expect 2023 year-over-year software operations bookings growth in percentage terms to be in the upper teens to low 20s for the full year.

With that, I’d like to turn the call over to our Chief Financial Officer, Calvin Rice. Calvine?

Calvin Rice: Thanks, Mike, and good morning, everyone. I would now like to take a few minutes and provide a recap of our third quarter 2023 financial performance, which we reported yesterday. I encourage you to review our 10-Q when filed as it includes significantly more information about our business operations and financial performance than we will cover on this call. Turning to our income statement. In the third quarter of 2023, GAAP net income totaled $4.5 million or $0.22 per diluted share compared to net income of $2.9 million or $0.15 per diluted share in the same 2022 period and in line with our record second quarter performance. For the third quarter of 2023, total GAAP revenue was $35.4 million compared to revenue of $33.7 million in the third quarter 2022.

Revenue for the quarter consisted of wireless revenue of $19 million, which was essentially flat to revenue of $19.1 million in the prior year period and software revenue of $16.5 million, up 12% from last year, reflecting the significant year-over-year increase in professional services revenue driven by the significant increase in bookings and related backlog of professional service projects. With respect to wireless revenue, third quarter performance continues to be primarily driven by improvement in average revenue per unit, or ARPU, which saw growth of $0.19 on a quarterly basis year-over-year. This improvement is largely the result of additional pricing actions taken in September of 2023. These pricing actions will be fully reflected in our fourth quarter results, and we anticipate a corresponding increase of $0.15 to $0.19 in ARPU in relation to the $7.59 realized in the third quarter, all things being equal.

Net unit churn continues to remain at historically low levels as net units in service declined by roughly 4.7% from the prior year period. While we believe the demand for our wireless services will continue to decline on a secular basis, as reflected in declining pager units and service, we are hopeful that our focus on pricing and other initiatives like the Gene pager will continue to further offset revenue lost through pager unit decline. This is further reflected in our updated financial guidance, which I will walk through shortly. Turning to software revenue in the third quarter. License revenue of $2.4 million was up by more than 12% from the third quarter of 2022. Maintenance revenue totaled $9.4 million and was up from revenue of $9.2 million in the prior year quarter.

As we have discussed in previous quarterly calls, as we continue to make progress on our product road map with Spok Care Connect, we expect bookings will continue to grow in the coming years and maintenance revenue along with it. Given the nature of maintenance revenue, higher license sales will work through revenue on a lagging basis. So we look first to stabilizing that revenue decline, which we believe we are close to accomplishing and then beginning to grow it. Professional services revenue was a healthy $3.8 million versus $2.8 million in the third quarter of 2022 and consistent with the record levels achieved in the second quarter of 2023. We continue to see sustained improvement in resource utilization, delivering on our internal initiatives to better align total resources with our backlog and driving a higher rate of net cash flow.

We have been hiring service professionals in the second half of 2023 to meet our current backlog needs, and we expect that to continue throughout 2024 to meet anticipated sales demand. Third quarter adjusted operating expenses, which excludes depreciation, amortization and accretion and severance and restructuring costs totaled $27.9 million, representing no change from the prior year period. Increases in research and development were largely timing in nature with reductions in technology operations driven by our normal practice of cost reduction and relationship to declining wireless revenues. Increases in selling costs, which primarily relate to commissions and higher French costs were more than offset by savings in G&A, which continues to see year-over-year benefit from our cost-saving initiatives.

As we look at the fourth quarter and into 2024, we foresee a need for additional sales resources and would expect sales and marketing costs will continue to marginally increase as a result. These resources will support our robust sales pipeline and generate additional sales activity as we look to extend the sales success we have achieved over the last 2 years. Also, while we are on the topic of operating expenses, let me briefly add some detail to Vince’s prior comments regarding the early termination of our release of the Alexandria headquarters building. In September 2023, we exercised an early termination option for the lease of our corporate headquarters in Alexandria, Virginia. The lease will now end 2 years early on September 30, 2024.

As a result of the early termination, we paid a onetime termination fee of $0.7 million, reflected in our cash balances as of September 30, 2023. The termination fee and remaining lease costs will be amortized to severance and restructuring through September 30, 2024. Thereafter, we expect to save approximately $1 million annually as a result of this decision. And as Vince mentioned previously, a portion of this benefit will go towards offsetting salary increases expected in the fourth quarter. In light of our strong financial performance and the heightened inflationary environment we have all been experiencing, we believe it’s important how we take care of the people that make these results a reality. These increases will be company-wide based on certain qualifications at all levels below senior management.

Additionally, it’s important that we take care of our employees to ensure we can compete in what is still a highly competitive market. The company anticipates relocation of its headquarters to the existing corporate location in Plano, Texas and does not expect material costs to be incurred as a result of this change. Approximately 30 employees will be impacted as a result of this decision. As Vince pointed out, these employees will formally transition to remote work. We see no risk related to this transition and expect no issues given this has largely been our posture since early 2020. While this decision was not made likely, the company expects to benefit greatly from significant cash savings, greater flexibility for our employees and higher levels of productivity we have seen from the preexisting work-from-home posture.

Lastly, as Vince pointed out earlier in the call, adjusted EBITDA was a near record $8.4 million in the third quarter, up nearly 25% from $6.7 million in the same quarter of 2022, reflecting the progress made to date with our strategic pivot. In fact, through the first 9 months of 2023, adjusted EBITDA has totaled nearly $24 million, up nearly 156% from the prior year period. Our performance in the first 9 months of 2023 in terms of strengthening software operations bookings, robust backlog levels, improvement in wireless trends and strong adjusted EBITDA has led us to, again, increase our expectations across all categories for the full year. As a reminder, the figures I’m going to discuss today are included in our guidance table in the earnings release.

In 2023, we now expect total revenue to be in the range of $136.25 million to $139.25 million, a $1.75 million increase from the previous guidance midpoint. More importantly, as Vince pointed out, this represents the first time in the company’s history that we expect to grow consolidated revenue from the prior year, and the low end of our guidance reflects that with a 3.5% annual growth rate at the high end of our revised guidance. Included in the revised guidance, we expect wireless revenue to range between $75.25 million to $76.5 million, a $750,000 increase from the previous guidance midpoint as we expect recent trends will continue to improve, as I discussed earlier. Software revenue is expected to range from $61 million to $63 million, with a midpoint implying total software revenue growth of more than 5% from prior year levels.

Lastly, based on these improving trends and our performance in the third quarter, our revised adjusted EBITDA guidance for 2023 is $27.5 million to $29 million, a $1.75 million increase or almost 7% from the previous guidance midpoint. With that said, I will now turn the call back over to Vince.

Vincent Kelly: Thank you, Calvin. Before we open up the call to your questions, let me just reiterate how proud I am of the entire Spok team and their ability to maintain the momentum and generate further growth despite coming off a record second quarter that shattered all performance metrics. It is their efforts which gave us the confidence to increase guidance yet again, and we believe will provide the springboard to take us into an even stronger 2024. I’d also like to thank our stockholders for their continued support and want to assure you that our primary focus remains on generating cash and increasing stockholder value. We’re committed to our current dividend and capital allocation policy. On a final note, I’d like to tell everybody about Spok’s presentation at the upcoming Piper Sandler Healthcare Conference in New York.

Look for a press release soon with the dates and timing of our presentation. We hope to see many of you there, and we’ll continue to look for opportunities to tell our story to the investment community and focus on investor marketing activities that we know the ultimate attraction will come as a result of our consistent and successful business execution. That concludes our prepared remarks. At this point, I’ll ask the operator to open the call up for your questions. We’d ask you to limit your initial questions to one and a follow-up. And then after that, we’ll take additional questions as time allows. Operator?

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Q&A Session

Operator: [Operator Instructions]. Our first question comes from Eric Martinuzzi with Lake Street.

Eric Martinuzzi: Congrats on the revenue and profitability as well as the second quarter in a row now of year-on-year growth. I had a question regarding the price increase that you rolled in, in September. What — how much was the price increase? And what percentage of the installed base is impacting?

Calvin Rice: Good. Eric, this is Calvin. Yes, so we rolled out a 6% price increase in September to the customer base that impacted probably somewhere between 65% and 70% of that customer base, and we expect that to be fully reflected in the fourth quarter here.

Eric Martinuzzi: Okay. And then I did see an uptick in churn in the third quarter. You guys have been, I think Q2 was 3.5%. Q1 was 3.2% and then we saw an uptick of 4.7% in Q3. What are you expecting for churn kind of a range that investors can look to?

Calvin Rice: Yes. So we’ve been very fortunate for probably the last 9 months preceding the third quarter in terms of the lowest churn rates on record probably over the last decade or so, and it’s been a consistent decline. I would say that uptick in third quarter is isolated, we don’t believe it’s part of any new trend. Those will be variable from one quarter to the next. We’d expect to see churn anywhere in the range of probably 3.5% to 5%, give or take.

Eric Martinuzzi: Okay. And then I noticed a disconnect between your adjusted EBITDA and the cash from ops. The adjusted EBITDA coming in at $8.4 million and yet your cash balance declined sequentially and the cash from ops was $3.2 million. So just walk me through the delta between the adjusted EBITDA and the cash from op.

Vincent Kelly: Yes, Eric, we had a couple of onetime things in the third quarter that affected working capital. One of the things we did is we paid out our PTO and went to a different policy, that’s going to save us about $0.5 million a year going forward, but we had to spend about $3 million to do that. And then the other thing was the early termination on the lease, we spent about, what, Calvin, $750,000 buying that out. That’s going to save us about $1 million a year going forward. All this stuff is focused on getting to free cash flow. Those are working capital items that were both in the third quarter that won’t be obviously in the fourth quarter or the first quarter or ever again.

Eric Martinuzzi: Okay. And then lastly, just stepping back, you’re tracking to year-on-year growth here in 2023. I’ve got you up about 2% on the year. Obviously, that’s roughly flat on the wireless and up about 5% on the software side of the house. You did comment in your prepared remarks about anticipating growth in 2024 for those of us modeling out. Can you give us kind of a range? Or is it too soon to talk about potential growth rates next year?

Vincent Kelly: Look, I mean this is obviously the first time, Eric, that we’re going to grow the company in the company’s history from a top line perspective. And right now, everything is going right. We’re hitting on all cylinders. When we look at our plan, we beat on total revenue. We beat on adjusted EBITDA. We’re beating our guidance. We’re beating your model. When we break our service lines out and look at software and wireless, we’re doing the same across the board. Bookings is a huge plus for us, up 38% compared to the same 9-month period last year. The gross additions on our wireless plan are beating, Gena sales are beating our plan, professional services, their hours, their rate, all that’s beating, maintenance is beating plan.