Spok Holdings (SPOK) Q2 2021 Earnings Call Transcript

Spok Holdings (SPOK 2.72%)
Q2 2021 Earnings Call
Jul 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 second-quarter investor call. Today's call is being recorded. On the line today, we have Vince Kelly, president and chief executive officer; and 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

For 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 relating to our operations and the business environment in which we compete contained in our 2020 Form 10-K, our second-quarter 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 from 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, everyone. I hope all of you, your families and friends are and remain safe during these unprecedented times, especially as we continue to navigate the challenges presented by COVID-19 and the Delta variant. At Spok, we continue to take this situation very seriously and are ensuring that our employees are getting vaccinated to secure a safe work environment.

As always, we want to thank our customers, many of whom are on the front line fighting this virus and saving lives. We are forever grateful for their sacrifice. We are entering the second half of the year with an improved outlook based on important progress made over the second quarter in several key performance areas. Overall, we saw software revenue increase from prior-year levels, continued improvement in wireless retention trends, particularly the significant increase in our year over year pager placements and continued expense management that resulted in sequential declines in many expense categories.

However, our second-quarter results also demonstrate continuation of the very challenging selling environment we are operating in as a result of the COVID-19 pandemic and the related impact on our customers' budgets and ability to focus on new projects. While we are certainly not satisfied with the level of software revenue bookings in the second quarter, we believe that the pandemic and its aftereffects on hospital financial health and resources had a large impact on our second-quarter performance. We remain encouraged by the size and quality of our pipeline software deals for the second half of 2021 and believe that we will see improvement in this area over the course of the remaining two quarters. We've developed the company with a strong operational foundation built on three pillars.

First is our best-in-class paging network, the largest in the United States that continues to generate strong results. Next is our Spok Care Connect suite of products with a viable maintenance revenue stream, contributes just under $10 million per quarter. Last is our new subscription-based cloud data platform, Spok Go. Spok continues to demonstrate a stable revenue base with over 82% second-quarter 2021 revenues recurring in nature, coming from either our legacy wireless business or software maintenance contracts.

Spok provides a valuable and critical service to our customers, delivering clinical information to care teams when and where it matters the most to improve patient outcomes. We remain committed to our mission to create beautiful software that delights our customers, the vision to be the strategic partner of choice, of enterprise-grade, clinical communications, and patient care coordination. Our core values include putting the customer first, respecting what they do and a continuous commitment to innovation and accountability. So while this pandemic continues to create a challenging environment, we are encouraged by the long-term trends in healthcare and the need for a sophisticated system of action represented by Spok Go.

Turning to our second-quarter results. First, wireless subscriber [Audio gap] units were up sharply from the prior quarter. As a result, net pager losses declined to approximately 5,000 units, a record-low of 0.6%. We were pleased to see the continuation of these more stable trends, especially in our top-performing healthcare segment, which comprises nearly 85% of our paging subscriber base.

Next, on a GAAP basis, software revenue of $15.9 million was up more than 8% from the prior-year quarter. The increase in year-over-year performance resulted primarily from a nearly 28% increase in second-quarter professional services revenue as hospitals are starting to allow more people on site and our integration teams are completing many of the postponed projects from prior quarters. However, our related software revenue backlog at June 30 was 45.6 million, down 3.2 million from the prior quarter. The sequential decline in our software revenue backlog was driven primarily off the level of our second-quarter operations software bookings.

As I mentioned before, current healthcare crisis is also a financial crisis for many of our customers. Many deals got put on hold and pushed out. However, we are optimistic that many of these will revert back in the second half of the year provided the backdrop does not worsen due to the Delta variant. Our sales team will continue to be laser-focused on generating activity throughout the remainder of the year and booking additional sales of Spok Go platform, adding to the $3.1 million of Spok Go deals we've already posted.

Finally, Spok continues to demonstrate disciplined expense management. Mike will review the specifics of the quarter in minutes. However, let me point out that we continue to make the necessary investments in our product development, sales and marketing infrastructure to support the evolution of our new platform. That being said, second-quarter operating expenses were down sequentially on both a GAAP and adjusted basis.

I'm proud of what our team has been able to accomplish in this area in such a short time in order to align our expense base with market demand. However, we did a lot more than just manage costs in the second quarter. I'm excited to share some of our new business generated in the quarter. We added six new customers to the Spok family, including three wireless and three software.

I'd like to highlight a couple of the six-figure second-quarter deals for you. Our software bookings included two Spok Go deals from existing customers transitioning to our new Spok Go platform with an aggregate contract value amount of approximately $1.3 million. In addition, we had eight other six-figure deals in the second quarter, including one with an academic medical center that operates the oldest medical school in the South. As an existing customer, this hospital extended its Spok console licenses to an enterprisewide agreement, including services and maintenance.

This sale contributed to the strong sales we have seen from our console solutions. These are just a couple of the examples of the activity level that gives us confidence as we move into the second half of the year. I'm proud of what our sales team has been able to accomplish against very strong headwinds this year. On a final note, in early June, we announced the release of Spok's first Environmental, Social and Governance, or ESG, report, which provides an overview of the company's policies and commitments.

Since the company's inception in 2004, focused and committed to sustainability and being a responsible corporate citizen. We are proud to have published our inaugural ESG report and look forward to working hard on the initiatives we identify. We believe we have a meaningful impact in the communities that we serve and where we live and work, and we take our commitment very seriously. As we all continue to cope with ongoing impact of COVID-19, as well as ongoing social unrest in the U.S., Spok recognizes and embraces our role as a company that can help shape culture, social attitudes and societal outcomes.

Spok will strive to be an example of social responsibility for all our constituencies, and we look forward to providing future updates in our journey. I'll make some additional comments on our business outlook shortly, but 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

Thanks, Vince. I'll provide certain details of our financial performance in the second quarter, but I would again encourage you to review our second-quarter 2021 Form 10-Q, which we expect to file later today as it contains far more information about our business operations and financial performance than we will cover on this call. As Vince noted, progress was made in several key performance areas, with software revenue up more than 8% from prior-year levels, albeit as compared to the lower revenue levels in 2020 due to the pandemic, continued improvement in wireless trends and continued expense management. However, our second-quarter results demonstrate the continuation of a challenging selling environment we are operating in as the COVID-19 pandemic continues to impact our customers and their budgets.

While not satisfied with the level of software bookings in the second quarter, we remain encouraged by the size and quality of the pipeline of software deals for the second half of 2021 and believe that activity will accelerate in the second half. As a result, we are confident in reiterating the financial guidance that we provided last quarter. In the balance of my comments, I will review key areas which drove our second-quarter financial performance. They include: First, a review of certain factors impacting second-quarter revenue.

Second, selected items which influenced second-quarter expenses. And lastly, a brief review of the balance sheet. As usual, if you have specific questions about these items or any of our quarterly financial results, I'll be happy to address them during the Q&A portion of this morning's call. With respect to revenue for the second quarter of 2021, total GAAP revenue was 35.7 million, unchanged from total revenue in the second quarter of 2020.

For the first six months of 2020, GAAP revenue totaled 71.8 million compared to revenue of 73 million in the first half of 2020. With respect to wireless revenue, first half performance was driven by a lower level of pager unit churn on a year-over-year basis. In fact, the net pager decline in the second quarter averaged 0.6%, another record-low. As a result, wireless revenue in the first half of 2021 remains solid, declining only 5.9% from the prior year [Audio gap] adding stable unit pricing.

For software revenue, total second-quarter performance of 15.9 million reflected a more than 8% increase from the second quarter of 2020, with year-to-date software revenue of 31.8 million, up more than 4% from prior-year levels. Both the quarterly and year-to-date improvements were driven primarily by a 27.6% increase in year-over-year second-quarter professional services revenue, which is almost exclusively related to our legacy products, as our teams have continued to increase utilization from an all-time low in the second quarter of 2020 as a result of the significant lockdown efforts across the country. Customers have also continued to reengage on implementation projects at a greater pace with each passing quarter. And while we were pleased with the recovery from the all-time lows in professional services revenue, on-site access to our hospital customers continues to remain below historical levels.

With that said, access continues to improve, and we are hopeful it will normalize to pre-pandemic levels during the second half of 2021. Regarding software maintenance revenue, which is a critical source of our recurring revenue stream, second quarter and year-to-date 2021 revenue was 9.6 million and 19 million, respectively, versus 9.5 million and 19.2 million in the corresponding year-ago periods. As we continue to focus the majority of our development efforts on Spok Go, we anticipate a purposeful continued decline in our ability to sell new licenses for the Care Connect suite of products. Our intent is to offset customer churn over time sale of Spok Go.

Given these dynamics, we would expect relatively flat, slightly down annual maintenance revenue as we move forward and especially as we transition existing customers to a subscription model over time. Also included in software revenue in the second quarter, albeit small, was $90,000 in subscription revenue from our Spok Go platform, bookings in the quarter of 1.3 million in total contract value, or TCV, with annual recurring revenue or ARR of 0.2 million and an average contract life of approximately five years. These bookings originated from an existing customer transitioning to the new platform. In aggregate, since inception of our first Spok Go deals in the third quarter of 2020, we have had bookings of 3.1 million in TCV with ARR of 0.6 million.

Turning to operating expenses. Expense management continues to be a key focus as we continuously align expense levels, market demand for our products. In the second quarter, both operating expenses and adjusted operating expenses were up from the prior-year levels, as the year-over-year comparison is disjointed given the timing of furloughs and CARES Act reimbursement. In the second quarter, we continued to maintain our focus on creating efficiencies in our expense base and benefiting from the cost reduction initiatives we had implemented to offset the impact from the pandemic on our revenue streams.

For the second quarter of 2021, we reported adjusted operating expenses, which excludes depreciation, amortization and accretion and includes capitalized software development costs of 37.6 million, up from 34.1 million in the same period a year ago. Adjusted operating expenses are higher, largely as a result of the following two items. We incurred approximately 1.7 million of greater payroll and related costs in the second quarter of 2021 as compared to the same period a year ago as employees incurred one week of furlough as opposed to two, higher healthcare costs as many individuals delayed wellness visits and medical procedures with lockdowns in place during 2020, and higher average employee costs as the healthcare technology market continues to see low unemployment, as well as tougher competition for employee retention, partly attributable to the market adoption of remote working environment, which has broadened the reach of many companies. And two, the second quarter of 2020 included approximately 0.8 million of onetime savings related to refundable tax credits for employee retention taken under the CARES Act.

And lastly, regarding operating expenses. As we discussed last quarter, we have discontinued the furloughs as of the third quarter of 2021. This is reflected in our current financial guidance. Our capital expenses in the second quarter were approximately 1.5 million.

For the first six months of 2021, capital expenses totaled 2.2 million and was up slightly from the first half of 2020. Capital expenses are incurred primarily for the purchase of pagers, network infrastructure to support our wireless customers, as well as the necessary infrastructure to support our software business. We do not expect any significant changes to the level of our capital expense requirements and plan to be in the range of our guidance. Finally, turning to the balance sheet and other financial items.

We ended the quarter with a cash balance of 68.1 million, down approximately 10.6 million from December 31, 2020. This reduction was primarily used to fund first half quarterly dividends of 5.2 million and capital expenses of 2.2 million. With that, I'll turn the call back over to Vince for some closing comments before we open the call up. Vince?

Vince Kelly -- President and Chief Executive Officer

Thanks, Mike. Before we open the call up for questions, I'd like to comment briefly on a couple of items. First, I want to update you on our current capital allocation strategy. And second, I want to review our key goals and business outlook for the balance of the year.

With respect to our current capital allocation strategy, our overall goal is to achieve sustainable, profitable business growth while maximizing long-term shareholder value. Towards that end, the allocation of capital remains a primary area of focus that our board is constantly reviewing. Our multifaceted capital allocation strategy currently includes dividends, as well as key strategic investments that augment our product development, operating platform and infrastructure. Our strategy also includes the potential for acquisitions that are both strategic in nature and that are accretive to earnings.

However, as we've mentioned in prior quarters, the main focus is on the development and enhancement of our software solutions versus acquiring additional functionality at the present time. We believe the cost of acquisitions and the integration of disparate architectures and functionality is much less efficient and, ultimately, limiting than the internal build approach we are taking. Finally, with regard to our key goals and business outlook, we believe our efforts in the first half of the year have positioned us to see improvement as the healthcare industry eventually fully recovers from this pandemic. However, we will closely monitor market conditions this year in terms of our progress on selling Spok Go and other software.

We will remain nimble in being able to react to changing market conditions and being able to quickly align our operations with the demand levels that we are seeing. I'd like to thank our shareholders for their patience and support. I'd like to also thank them for their participation in our annual meeting last week. As we reported, each of the 10 nominees to the company's board of directors were elected to one-year terms.

Spok does not have a classified board and our directors stand for reelection every year. For a full review of the final voting results, please see our disclosures in a report on Form 10-K filed with the Securities and Exchange Commission. So at this point, I'll ask the operator to open the call for your questions. We'd like to ask you to limit your initial questions to 1 and a follow-up.

And after that, we'll take additional questions as time allows. Operator?

Questions & Answers:

Operator

[Operator instructions] And our first question comes from Ryan Vardeman with Palogic. Please go ahead.

Ryan Vardeman -- Palogic Value Management -- Analyst

Hey, guys. As you start selling existing customers transitions from the legacy platform to Spok Go, what do the selling efforts look like? And what sort of maintenance revenue to Spok Go subscription revenue per year does that typically look like?

Vince Kelly -- President and Chief Executive Officer

So the selling efforts -- I'll take that one and then Mike can take the latter. The selling efforts consist really of two pieces, Ryan. No. 1, we have a new business group that we put together, and we've gone out and recruited people with deep clinical backgrounds in terms of sales capability, and they have a quota that's 75% Spok Go and about 25% of our legacy software.

And then, we also have three operating regions. In those regions, essentially, international east and west have people that are ESPs, that are enterprise sales directors, that are used to selling our existing software, and their quotas are about 75% of our legacy software and 25% Spok Go. So that's the current structure in terms of how we go to market with that particular team. We've also recently conducted a study, a pricing study with an outside third-party consultant in terms of what the industry is seeing in pricing and where we need to be pricing our solutions on a per-user, per-month basis.

That has been completed. We are in the process of rolling that out, and we'll start seeing the benefits of that here in the second half of this year. So those are our primary areas in terms of how we're going to market. We're also using from our existing innovation partners, and we're talking about Mayo Clinic here, and we're talking about TidalHealth, etc., feedback from them in terms of our development, in case of the latter, specific case studies in use cases, particularly around the emergency department to help use that as a referenceable account, referenceable studies in terms of how you can improve your communications with our new platform.

So that's the primary area there. Mike, do you want to take the second half?

Mike Wallace -- Chief Operating Officer and Chief Financial Officer

Yeah, Ryan. Good question on the Spok Go to existing customers regarding maintenance. In this case, as it relates to the deals that we announced, they did not have a great deal of maintenance. So it was a product that we had sold them from our legacy that went end of life that we were able to transition them to Spok Go, which is the perfect scenario really.

But over time, as we transition the entire base, as we make that progress, I'll actually report out on existing customers and the amount of maintenance that would, in theory, be going away by the replacement of Spok Go. But in this one case, it was very little.

Ryan Vardeman -- Palogic Value Management -- Analyst

OK. So going forward, the maintenance to Spok Go revenue kind of expectation -- and we have 40 million on maintenance today. If we were to convert all of our customers to Spok go, what might we think about insofar as subscription revenue is concerned there? And then, I've got a follow-up question.

Mike Wallace -- Chief Operating Officer and Chief Financial Officer

Yeah. I mean, that's a big question to answer. Obviously, we have an expectation over time that the subscription revenue from Spok Go will significantly exceed what we're getting in maintenance today. But again, I think given where we're at today, and we don't have that many of existing customers that have switched, we're going to need to let that play out.

Ryan Vardeman -- Palogic Value Management -- Analyst

OK. About a year ago, you guys provided a framework by which to think about the sum of the parts, cash plus wireless business, where -- stock is currently trading meaningfully below kind of the cash plus wireless business. At what point do you think operational results will give the public the confidence that you say you have that we have not spent a decade developing a software business and waste $270 million?

Vince Kelly -- President and Chief Executive Officer

Thanks, Ryan. Look, nobody is more frustrated with the stock price than I am. And we look at this business and we see our wireless business exceeding every expectation that we have internally month after month, quarter after quarter doing fantastic. We think it has a very solid value, and we think it has a great future.

In fact, we were talking with the hospital CIO yesterday, and he said there's a chance paging might make a comeback because of all the things that are going on in cybersecurity these days, and we have, as you know, encrypted pagers, and we'll have some more news on some more products around the paging business in the second half of this year. Then we have our legacy software business. You probably saw the press release this morning. U.S.

news and world report put out its honor rolls of the top adult hospitals in the nation, the top children's hospitals in the nation. All 30 of them are Spok customers. I mean, we have a franchise there that is incredibly valuable. And now we've rolled out a new platform.

We launched it in the middle of the pandemic. It is the worst selling environment I've seen for new projects in my career. We have no problem going to existing customers, selling add-on business to things they already have. They're trying to get a consensus internally right now to take on new projects.

And these sales cycles often involve more than one decision-maker. Frankly, it has just been very, very difficult. The pipeline has continued to grow. We think there's great value in that.

We're not excited about what's going on with the Delta variant right now. That's the third piece of our business that we think has a good future. But look, we're not on a crusade here. We're going to look at this thing very closely as the year goes forward into next year, and we'll make the best business decisions we can about what we're going to do in the future.

I think where the stock is trading right now, this company is worth a lot more than where it's trading right now. We have a situation at the end of June, where we came out. I'm sure you're aware, we came out of the Russell indices. They raised their market cap with all the stacks that have gone out there.

We were underneath that bar. And with a huge institutional ownership we have, there is a lot of trading, huge spike in our volume, and we traded down on that as we traded out of a lot of those funds. Same thing happened this week with an S&P index. It's unfortunate that there was no news from the company and then all of a sudden, huge trading and a reduction.

I think -- I personally think we're worth more than where we're trading right now. I think we've built a great platform. I think we have great customers with that platform. We planted our flag in Australia.

We've planted it in Canada. Obviously, we've planted it here in the United States. We've got real customers using it, implementing it. We are frustrated with the progress there.

We need to see an improvement in the environment. We need to see the hospitals opening back up, not shutting back down to get real traction there. But we're not quitters. We've not given up, but we're also not going to be, like I said, crusade on it.

We're watching this very, very closely, and we'll try to make the best business decisions we can. So you're a shareholder. You're one of our biggest shareholders. I apologize to you where we are.

It's my responsibility. I'm going to do absolutely the best I possibly can as long as I'm here running this company to improve that situation line. And I can tell you that nobody here is satisfied with where we are.

Ryan Vardeman -- Palogic Value Management -- Analyst

OK. I mean, yeah. And again, I've been asking it for the last couple of years about quantifiable metrics by which we could judge the company on a go-forward basis, and we still don't have any sort of framework as it relates to what we've been investing in, etc. So that continues to be a source of frustration.

So best of luck. Thank you.

Vince Kelly -- President and Chief Executive Officer

Thanks, Ryan.

Operator

Thank you. Our next question comes from George Melas with MKH Management. Please go ahead, sir.

George Melas -- MKH Management Company -- Analyst

Thank you. Good morning. In the last call, you talked about the integration of Spok Go with your three contact center solutions. Can you update us on that and maybe give us a broader sense from a functional from an integration point of view? What would stimulate the adoption of Spok Go? Also, what would remove the barriers to adoption?

Vince Kelly -- President and Chief Executive Officer

Yeah. Great. Absolutely. Yeah.

Well, two things really. If you have to look at our customer base, the existing customers that are using our existing contact center solutions, of which we have three, we have one we developed internally historically and two that we acquired over the years. We have made a ton of progress integrating those contact centers. Some of them have been in place because they're premise-based, server-based, in-house solutions.

Some of those have been in place over 20 years, and they've been highly customized. So when you talk about contact center integration, it's the degree of integration that's important because these workflows in these hospitals are built around those contact centers in the directory. And so, we have delivered contact center integration, and we have a target list that is a subset of our total customer base right now, where it's greenlit to our salespeople to go to those specific customers, pitch them on the platform and go ahead and book sales. There's another subset where we have to deliver enhanced functionality, and we're looking at this on a road map and on a priority.

And you can imagine we're constantly trying to prioritize because we don't want to spend a lot of development dollars for just one customer. We've got to do our efforts where we think we're going to get the biggest bang for our buck. So I'd say in terms of console integration, where we want to be, ultimately, we're probably still four or five months away from the end game there. By the end of this year, I think we'll be where we want to be ultimately.

There might be a few tweaks or console integration next year. There's a couple of other integrations that we've asked to do that are not our software with other things like some scheduling software, etc., that is in progress, and that is going well. I think as those integrations get complete, we'll have a lot better success in terms of some of our marketing and selling results. And there's some other areas when we look across the functionality, the hospitals' need in clinical care and communications, things like patient outreach and other things that we don't have on the platform yet that are kind of a little bit of a different creature than exactly what we've done historically.

And we're looking to partner with some companies with respect to that. And those conversations have been ongoing, and we're well down the road with them, and we'll continue that. So that's basically the main things that we have to do on our road map with respect to console integration. Mike, is there anything you want to add on that?

Mike Wallace -- Chief Operating Officer and Chief Financial Officer

No, I think that's perfect.

George Melas -- MKH Management Company -- Analyst

OK. Great. Maybe I'll sort of ask a follow-up on that. So you have three consoles.

Is one of that -- and what sort of the share of those three consoles within your customer base? I'm trying to understand, is the integration more complex with what -- I'm just trying to get some granularity about because that's important to do that for the adoption of your product.

Vince Kelly -- President and Chief Executive Officer

Yeah, great question. Here's the challenge. Our customer base is split about a third, a third, a third between our medical console, our old Amcom console and a console that we call SmartSuite. Now the console that we call SmartSuite is more feature rich.

It's a lot more complicated of a beast than the other two. So the other two are actually a little bit easier to do integration with, but we're putting a lot more effort into doing the integration with SmartSuite, which is about a third of our customers. Of course, a lot of those customers who use SmartSuite happen to be your larger healthcare organizations because they wanted that added functionality. So we are having to do all three.

And as you can imagine, with the development team, it's not like, hey, go integrate with a console, it's integrated with three consoles that are based on disparate architectures, and that's why it's been taking us a little bit longer. Now, having said that, we've got our hands around it. It's in process. And as I said, I think as we end this year, we'll be in really good shape there.

Hope that's helpful. Mike, do you want to --

Mike Wallace -- Chief Operating Officer and Chief Financial Officer

No. I think you explained it perfect.

Operator

[Operator instructions] And we have no additional questions at this time. I'll turn the call back over to Mr. Kelly for any closing remarks.

Vince Kelly -- President and Chief Executive Officer

Thanks a lot for joining us this morning. We look forward to speaking with you again after we release our third-quarter results in October. And everyone, have a great day, and please stay safe and healthy.

Operator

[Operator signoff]

Duration: 35 minutes

Call participants:

Mike Wallace -- Chief Operating Officer and Chief Financial Officer

Vince Kelly -- President and Chief Executive Officer

Ryan Vardeman -- Palogic Value Management -- Analyst

George Melas -- MKH Management Company -- Analyst

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