Spok Holdings (SPOK) Q1 2021 Earnings Call Transcript

Spok Holdings (SPOK 0.97%)
Q1 2021 Earnings Call
Apr 29, 2021, 10:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, and welcome to Spok's 2021 first-quarter investor call. Today's call is being recorded. On line today, we have Mr. Vince Kelly, president and chief executive officer; and Mr.

Mike Wallace, chief operating officer and chief financial officer. At this time, for opening comments, I will turn the call over to Mr. Wallace. Please go ahead, sir.

Mike Wallace -- Chief Operating Officer and Chief Financial officer

Good morning. Thank you for joining us for our 2021 first-quarter investor update. Before we discuss our operating results, 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 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 related to our operations and the business environment which we compete contained in our 2021 Form 10-Q, which we expect to file later today, and related documents filed with the Securities and Exchange Commission.

Please note that Spok assumes no obligation to update any forward-looking statements past or present filings and conference calls. With that, I'll turn the call over to Vince.

Vince Kelly -- President and Chief Executive Officer

Thanks, Mike, and good morning. Thank you, everyone, for joining us on our first-quarter 2021 update call. As always, I hope all of you, your friends and families, are and remain safe. Unfortunately, we've had recently lost an employee, and we're down another -- we have another employee down hard right now with COVID along with his spouse.

We're praying for their speedy and full recovery. In the first quarter, we saw positive indicators that our customers are recovering operationally and financially from a very challenging year. In 2020, most of our customers were essentially shut down for new business and were unavailable to work with us to install existing backlog. As a result of the pandemic, primary spending focus went to patient monitoring, respiratory and vital science equipment, and medication administration and lab equipment, including PPE.

Health care IT and enterprise software products like ours understandably moved down on the priority list. That is starting to change. Like many companies, last year, Spok, followed the advice of healthcare professionals and essentially shut down our offices and stopped all business travel. That made it very difficult for our sales teams to prospect for new business while working from home.

Our customers were unable to focus on new projects or even grant us access to their facilities to install existing projects. The reality is that with a new product like Spok Go, we just can't sell effectively over Zoom. Early last year, we knew this pandemic would impact our results, and we took steps to preserve cash, continue investing in product and R&D, keep the team together by implementing across-the-board furloughs versus select RIF. We heard significant feedback from our employee base, thanking us for our approach and empathizing our decisions.

We are pleased to announce we are canceling those furloughs in the second half of this year as the economy reopens for travel and slowly returns to an office environment, albeit in a hybrid manner. We have successfully preserved our teams, and they are ready to hit the field in force. In spite of the challenges from the pandemic, this quarter, we made significant progress continuing our transition from a traditional communications company to an integrated clinical software business. we have achieved or exceeded the majority of our targets in the first quarter, including both wireless and software revenue as well as cash flow, starting the year off ahead of plan.

We've continued evangelizing selling and signing partners domestically and internationally for Spok Go, our cloud-native clinical communications solution. We've now signed up seven Spok Go customers and three clinical innovation partners through the first quarter. This includes customers in the United States, Australia, and Canada. We've continued to revise and refine our product road map and made significant progress delivering functionality.

We've expanded our pipeline of Spok Go targets. We're focused on increasing our momentum here as our customers open back up. As our customer base heals operationally and financially, we're building a referenceable Spok Go account list that creates further momentum. We need some big deals to come in, and we're all in the hunt.

Big deals require big conversations and big proposals. We've been focused on this and continue to make progress. We have multiple large deals in front of customers. We expect to see success here as the year progresses and as we continue to enhance and refine our go-to-market strategy.

Our wireless sales team has continued to exceed plan on gross additions, lowering cancellations, and outperforming the competition. We have linked our wireless offerings to our software solutions with over 25% of our customers sharing those service lines. In fact, our wireless sales team has preserved revenue from over 80,000 paging unit cancellations by placing subscribers' pager numbers on our Spok Mobile smartphone app, thus, preserving approximately $6.4 million in annual recurring revenue. Additionally, we placed approximately 78,000 HIPAA-compliant encrypted pagers into customers' hands, preserving those accounts and generating another $7.8 million in annual revenue.

We have a good-sized backlog to install even more. And the great thing about these two offerings is they are growing. We continue to innovate and are currently exploring more creative ways to combine our wireless network's unique capabilities with our software solutions. Thus, differentiating Spok further from the competition.

One of our newest directors, Brett Shockley, is helping us in this regard, and we appreciate his contribution. His background and technical expertise are adding significant value. We've continued our board refreshment process under the leadership of our chair, Royce Yudkoff, the chair of our nominating governance committee, Christine Cournoyer. Christine is, herself, one of our newest directors, and she has been leading our efforts to enhance and disclose more of our ESG framework as well.

We expect to report more progress on both these fronts in the coming months. I very much appreciate their efforts on our behalf as well as the support of the rest of our board as we create a bright future for our shareholders, customers, and employees. Turning back to Spok Go. We've continued to make significant progress in enhancing the product, particularly with respect to integration with our three contact center solutions, where Spok enjoys the largest market share in the industry in terms of large hospitals with 600-plus beds.

As we deploy this integration, this will open the universe of Spok Go to target customers significantly. We've also made significant progress as it relates to the Spok Go road map planning and execution. We have four major market releases planned for this year. We delivered the first one into January, and the second one was released yesterday.

Release three is scheduled for July and release four in October, time to be highlighted at our annual user conference, Connect. In 2020 alone, our engineering team delivered over 140 Spok Go capabilities and 430 features to an already robust and broad platform. Spok Go platform continues to exceed platform availability and reliability goals for our customers. Based on our product strategy team's research, we focused our efforts on continued integration by console solutions that we can sell into our customer base with an integrated solution without expecting them to replace what is currently working well for them.

We've also focused our teams on work necessary to support large complex clients as well as laboratory and radiology markets. As part of our efforts to support innovation planning, we're also purchasing a software solution that will allow us to conduct our own market research that will be used by our product team to ensure that we understand market needs and to help us make data-driven decisions. We believe that this investment in time and money pay significant dividends in focusing our product and engineering resources on the right things. This platform will also be used by marketing and customer service teams to help them with continuous improvement as well.

We've recently received the result of an independent third-party brand health survey we commissioned. Hospital CIOs and CMOs were contacted about their awareness, consideration, and impressions of Spok. The results are very encouraging, in spite of 2020 COVID impacts. Our brands continue to show strong growth and Spok now has the highest overall brand perception among our key competitors.

That makes me very optimistic for future sales. Our marketing campaign throughout the first quarter took our marketing to a new level, many press releases, key events, social media flips to drive traffic to our website, and new advertising in the Canadian and APAC markets. And we've seen high-quality earned media in a variety of publications, including the New York Times, Healthcare IT Today, health leaders, and hospital management. This year, we're opening our Connect user conference the week of October 11 in Dallas to shareholders for Investor Day.

We will communicate the details and agenda later. Broadly, our plan will be to kick off the show with both investors and customers present for the keynote and opening sessions. Then we will host a breakout where management would dedicate time to investors going over our strategy and plans and answering questions. The conference will take place over three days.

This would allow us to spend time with both investors and importantly, with customers and prospects. Investors will be invited to join us for the first day, and we would host our customers for an event that evening and give them our full focus on days two and three. In terms of our company, many of us have already been vaccinated. And as we shared with you, some of us will be returning to the offices in a hybrid manner over the next several months.

Mike and I have already done so, ourselves, along with other managers and employees. Outside our sales organization, some will continue to work from home, we've learned to do this effectively and now have the tools to manage and monitor productivity. Currently studying the need to maintain visible offices in several locations. We expect to make decisions on those in the coming months and quarters.

The world has changed, but we will change with it. We anticipate our customers will be returning to normalcy at about the same rate as Spok. The impact on their finances and budget cycles are still unknown and may depend on some more government health and the willingness of the customers to start returning for new procedures and treatments that were put on hold over the last year. We remain a debt-free company with considerable cash resources due to the disciplined manner in which we have operated over the years, notwithstanding returning significant capital to our shareholders.

To put it in context for you, we spent approximately $85 million developing Spok Go over the last five years. That investment represents approximately $4.50 per share. With that same time frame, we distributed approximately $95 million or $5 per share for our shareholders in the form of dividends and share repurchase. During the quarter, we further executed against our capital allocation strategy by continuing to make key strategic investments in our business while continuing to return cash to our shareholders during the quarter in the form of our regular quarterly dividend.

Before I turn the call over to Mike to provide additional details on our financial performance, I want to briefly review some key results for the quarter. First, software revenue of $15.9 million included continued high levels of maintenance revenue that was consistent with prior-year levels. We were particularly pleased with this milestone. This comparison was against the last quarter we had that had not been materially impacted by COVID-19.

Second, wireless subscriber and revenue trends continue to improve and remain strong. Third, we continue to demonstrate disciplined expense management. I'm pleased to report that in the first quarter, adjusted operating expenses continued to decline from prior-year levels, with improvement in most expense categories. Despite the challenges of the current selling environment, we believe the combination of Spok's strong team, solid financial base, and broad depth of our products and services position us to capture opportunity in the healthcare sector and stimulate sustainable growth.

We're encouraged by our performance in the first quarter and believe that it provides a solid foundation to exit the year on a very firm footing. I'll make some additional comments in a few minutes. First, Mike Wallace, our chief operating officer and chief financial officer, will review the financial highlights for the quarter. Mike?

Mike Wallace -- Chief Operating Officer and Chief Financial officer

Thank you, Vince. Before I review our financial highlights first quarter of 2021, I would again encourage you to review our 2021 Form 10-Q, which we expect to file later today, contain significantly more information about our business operations and financial performance than we will cover on this conference call. As Vince noted, we were encouraged by our performance in the first quarter and believe that it provides a foundation for continued momentum for the balance of 2021. The momentum that we saw over the last two quarters of 2020 has carried into 2021, and we were pleased to see several operating metrics return to levels consistent with those pre-pandemic.

Coupled with the stable trends in our reoccurring revenue streams of wireless and software maintenance and the traction we are beginning to see from the Spok Go platform, we believe we are well-positioned for the balance of the year. While overall, we were encouraged by our first-quarter performance, we are not satisfied with revenue levels and continue to work toward sustained levels of software revenue growth offsetting the planned attrition in the wireless portfolio. We made progress in a return to pre-pandemic operating levels in the first quarter and saw growth in year-over-year license revenue, continued low attrition of wireless revenue, and continued focus on expense management, resulting in net cash provided by operating activities of $0.7 million, while continuing our investment in the Spok Go platform. This was partially offset by investing activities of $3.6 million for capital expenditures and capitalized software development costs during the period.

We were able to achieve this performance as we continue to return cash to our shareholders as a form of quarterly dividend of $0.125 per share or $2.7 million while also investing in our business for the long term. Our balance sheet remains strong. Cash, cash equivalents, and short-term investments balance of $71.6 million at March 31, 2021, and we continue to operate as a debt-free company. As noted previously, we believe this provides us solid financial platform and positions us to execute against our long-term goals in 2021 and beyond.

In the interest of time today, I will not review our first-quarter 2021 income statement on a line-by-line basis since much of that information is contained in our earnings release tables and SEC filings. However, to the extent you have specific questions about our quarterly financial results, I would be glad to address them during the Q&A portion of this call. Rather, this morning, I want to focus on the specific areas of revenue, operating and capital expenses, and our updated financial guidance for 2021. With respect to revenue, in the first quarter of 2021, total revenue of $36 million was down from $37.3 million in the first quarter of 2020.

However, all of the year-over-year decline was due to the expected erosion of the wireless revenue portfolio, albeit at historically low levels. Looking at software revenue. Total first-quarter revenue of $15.9 million was consistent with revenue in the first quarter of 2020. While we were encouraged to see an increase in our legacy license revenues, maintenance continues to provide the foundation for our legacy software business and is critical to maintain as we ultimately transition existing customers from our legacy products to Spok Go over the next several years.

Regarding professional services revenue, again, almost exclusively related to our legacy products. First-quarter 2021 revenue of $4.4 million was slightly lower than revenue of $4.5 million in the first quarter of last year. However, when adjusted for the impact of travel revenue, which was negligent for the quarter, and the reduction of billable hours as a result of reduced work schedules during the first quarter of 2021, professional service revenue was higher in the current quarter. With that said, reduced access to hospital customers for on-site implementations continues to present challenges.

Over the past 12 months, these challenges, however, have been significantly reduced by our ability to perform these implementations remotely. Also included in software revenue in the first quarter, albeit small, was $45,000 in subscription revenue from our Spok Go platform; with bookings in the quarter of $0.7 million in total contract value, or TCV; with annual recurring revenue, or ARR, of $0.1 million; and an average contract life of 3.3 years. And in aggregate, inception of our first Spok Go deals in the third quarter of 2020, TCV is $1.7 million; and ARR is $0.4 million. In conjunction with our Spok Go transactions, the company provides minor implementation and consulting services by our professional services group, especially when compared to our legacy on-premise business model.

And that is included in the respective TCV. These implementation revenues are included in the services line of our detailed revenue tables. Wireless revenue trends in the first quarter remained solid, declining by only 0.9% as compared to 1.1% in the first quarter of 2020. Partially offsetting the planned attrition in the number of units in service was an increase in our average revenue per unit, or ARPU, to $7.34.

The increase in ARPU was attributable to an increase in government fees, which is generally a pass-through item. These results reflect another solid performance by our sales team to again generate significant wireless gross additions while minimizing churn and maintaining stable unit pricing. Our wireless business, along with the maintenance component of our legacy software business, continue to provide a cornerstone as they represented, in aggregate, approximately 82% of total revenue in the first quarter and allow for the ongoing development efforts of the Spok Go platform. Turning to operating expenses.

In the first quarter of 2021, adjusted operating expenses, which exclude depreciation, amortization, and accretion, and includes capitalized software development costs, totaled $38 million, down more than 7% from $40.9 million in the prior-year period. This performance primarily reflects the continued impact of employee furloughs alongside small reductions in many expense categories. Year-over-year reductions in operating expenses continue to be a critical component of our ability to drive positive operating cash flow while continuing our Spok Go development spend. Next, our capital expenditures for the first quarter of 2021 were approximately $0.7 million and were incurred primarily for the purchase of pagers and infrastructure to support our wireless customers.

This is down from $1.1 million in the first quarter of 2020, reflecting in part the decreased capital needs to support the Spok Go platform development as well as timing between quarters. We believe that we are past the major portion of our CAPEX requirements to support our strategy and that levels should remain generally flat over time. And lastly, with respect to our financial guidance for 2021. While there remains some uncertainty and challenges with respect to the markets and customers that we serve due to the pandemic, we believe we have increasing visibility into our operating performance through the end of the year.

Based on the encouraging results of the first quarter and the overall improving trends we have seen during the last three quarters, we are adjusting our guidance for 2021. Included in the revised guidance are Spok's expectations for software and wireless revenue generation in 2021. We expect total revenue to range from $138 million to $151 million, up from the previous guidance of $132.2 million to $127.2 million. Included in that total, we expect software revenue to now comprise $61 million to $70 million, up from the previous guidance of $58.2 million to $67.2 million.

Please keep in mind, as discussed previously, that approximately 95% of the software revenue guidance is expected to be driven by our legacy software solutions as bookings of Spok Go and the related subscription revenue continue to ramp up through 2021. At these early stages of Spok Go, not only the level of bookings, but also the timing of such bookings impacts revenue to be recognized during 2021. As our legacy on-premise bookings are replaced by Spok Go bookings in the coming years, our revenue recognition will also transition for more immediate recognition characteristics to ratable recognition over time associated with the subscription revenue model. Finally, based on the recent improvements in the operating environment, successes we are seeing with the distribution of vaccines and offices opening back up, we will be ending the furlough program we initiated at the onset of the pandemic at the end of the second quarter of 2021, which will increase expenses approximately $2.5 million.

Additionally, we plan to accelerate approximately $1 million to $2 million in additional research and development spend, which is meant to mitigate development efforts that were tempered during the pandemic as a result of furloughs. As a result, we now expect adjusted operating expenses to range from $151 million to $157 million. This is up from the previous guidance range of $142.7 million to $150.7 million. Finally, we have tightened the guidance range for capital expenditures from $3.5 million to $5.5 million.

I would remind you, once again, that our projections are based on current trends, that those trends are always subject to change. With that, I will turn the call over to Vince, who will make some closing comments before opening up the call to your questions. Vince?

Vince Kelly -- President and Chief Executive Officer

Thanks, Mike. Before we open the call to your questions, I'd like to update you on our business outlook and our strategic direction. Before I do, I'd like to briefly discuss the recent change that was made to Spok's board of directors. Earlier this month, in support of the board's refreshment process.

Brian O'Reilly, a member of the board of directors, informed the company that he will not stand for reelection to the board at the company's 2021 Annual Meeting of Stockholders. Let me be clear that Brian's decision was not the result of any disagreement with the company on any matter relating to operations, policies, or practices. He will remain a director and maintain this committee memberships through the 2021 Annual Meeting. I want to take this opportunity to thank Brian for his leadership on the board and the contributions he has made to the company.

Now with respect to key goals and business outlook, let me take a few moments to outline our outlook and strategy for 2021. As we've talked about in the past, about five years ago, we embarked on a transformation that was a title shift in our strategic direction for healthcare, our largest customer segment. The strategy pivot signaled a very intentional move from offering our customers point solutions or single product solutions for call center software, alarm management and secure messaging to offering them a cloud-based, single integrated clinical communication and collaboration platform called Spok Go. In many respects, this past year was the most challenging for Spok in our history from both a management and operational perspective.

Yet despite this upheaval, our mission and vision has remained unchanged. Simply put, our mission is to create beautiful software that delights our customers. Our vision is to be the strategic partner of choice for enterprise-grade clinical communications and patient care coordination. Our strategy to support that mission and vision is threefold.

It includes, first, minimize the planned customer attrition in our wireless product line by offering a comprehensive suite, state-of-the-art wireless products, and services integrated with our software offerings. Second, support our Spok Care Connect on-premise communication suite that was driven by the 2011 acquisition of Amcom Software. And third, develop new applications and capabilities as we did in early 2020 with the introduction of the cloud-native subscription-based Spok Go integrated communications platform. With respect to our capital allocation strategy, our overall goal has been to attain sustainable business growth while maximizing long-term shareholder value through our multifaceted capital allocation program, which has included over $500 million in dividends and over $115 million in share repurchases as well as key strategic investments to improve our operating platform and infrastructure in order to drive long-term organic growth.

For 2021, we're committed to continue paying $0.125 per share quarterly on our dividend while keeping an eye on profitability. We'll continue to evaluate our capital allocation strategy on a quarterly basis to communicate our plans with you with respect to dividends, share repurchases, and other uses of capital each quarter when we report earnings. We are focused on the huge opportunity in front of us in clinical communications. From a business configuration and strategy perspective, we believe we are strongly positioned.

We've created a long-term organic growth engine in Spok Go. We maintain a source of strong recurring revenue in our patient service lines, we run the largest paging offering in the world, we've integrated its operations deeply with our software operations while continuing to enhance our paging platform and user devices, and there'll be more news to come on this in coming quarters. We believe with these two assets is going for us, our best financial results are ahead of us, and Spok's future is bright. We're committed to delivering long-term shareholder value also paying due to our core values of putting the customer first, providing solutions that matter, innovation, and accountability.

I'd like to briefly comment on that last one that is so often overlooked in the world and greatly impacts our daily lives. Like you, I've been shocked at the news lately too often includes the multiple hate crimes against black, indigenous, and people of color and Asian-American, Pacific Islander communities. We are all saddened by the avoidable killing last spring of George Floyd, most recently of Daunte Wright. We all want to use these experiences to find a better way to treat each other and feel fairly and equitably with everyone regardless of the color of their skin.

I believe there are a lot of good people in this world, and it's their ideas and their social mores that should prevail. I want to remind everyone that Spok strives to be a safe place to work for people of all backgrounds. We condemn racism and xenophobia in all forms, and we are united in working toward a more inclusive future for all of our team members and colleagues. This is why we formed the diversity and inclusion council last year.

And moreover, this is an organizational focus area we will continue to develop, prioritize, and move forward. This is our goal at Spok, and I believe this is the culture we have created. We want all our employees to feel safe and welcome. We want all our employees to feel valued, empowered, able to express their diverse opinions and ideas, and to recognize that their contributions make a difference.

Thank you. Operator, you can now open the call for questions.

Questions & Answers:

Operator

Thank you. [Operator instructions] And our first question comes from Ryan Vardeman with Palogic.

Ryan Vardeman -- Palogic Value Management, LP -- Analyst

Hey, guys. Thanks for taking the question. I appreciate the color that you guys gave as it relates to the ARR progress. It sounds like you're still expecting somewhere around $3 million of revenue coming from Spok Go this year.

That kind of puts you close to $10 million, maybe $8 million or $9 million of ARR exiting the year on a run-rate basis. Is that kind of the right way to be thinking about how you guys are thinking about pipeline and pipeline conversion?

Mike Wallace -- Chief Operating Officer and Chief Financial officer

Hey, Ryan. It's Mike. It's the right way to think about it. As I said in my comments, the litmus test here is going to be, obviously, the level of bookings and the timing of those bookings throughout the year that will drive the SaaS revenue.

Probably what I'm most focused on, given the size and timing of those bookings once we have a full year of 2021, is really to see what the exit rate is from an ARR perspective as we exit 2021. But theoretically, yes, you're thinking about it the right way.

Ryan Vardeman -- Palogic Value Management, LP -- Analyst

OK. That would be quite a nice growth trajectory for the next two or three quarters if you're anywhere close to that. And then you brought up in your prepared remarks that you spent around $85 million investing in the Spok Go project. Do you think that you have built a business that will give you a -- that's worth more than what we spent so far and will give us a good rate of return kind of from 2015 and beyond?

Vince Kelly -- President and Chief Executive Officer

We absolutely do, Ryan. No question about it. That's why I've been a buyer of Spok stock the last three quarters. Absolutely.

Ryan Vardeman -- Palogic Value Management, LP -- Analyst

Great. Thank you.

Operator

Thank you. [Operator instructions] Speakers, at this time, we have no one else in the questioning queue.

Vince Kelly -- President and Chief Executive Officer

OK. Well, look, everyone, thank you for joining us this morning. Much appreciated. We look forward to speaking with you again after we release our second-quarter earnings in late July.

Everyone, stay safe out there, and have a great day. Thank you.

Operator

[Operator signoff]

Duration: 34 minutes

Call participants:

Mike Wallace -- Chief Operating Officer and Chief Financial officer

Vince Kelly -- President and Chief Executive Officer

Ryan Vardeman -- Palogic Value Management, LP -- Analyst

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