Earnings Call Transcript - CCSI Q2 2024

Operator, Operator

Good day ladies and gentlemen, and welcome to Consensus Q2 2024 Earnings Call. My name is Paul and I will be the operator assisting you today. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. On this call from Consensus will be Scott Turicchi, CEO; Jim Malone, CFO; Johnny Hecker, CRO and Executive Vice President of Operations; and Adam Brown, Senior Vice President of Finance. I will now turn the call over to Adam Brown, Senior Vice President of Finance at Consensus. Thank you. You may begin.

Adam Brown, Senior Vice President of Finance

Good afternoon and welcome to the Consensus investor call to discuss our Q2 2024 financial results, other key information, our Q3 2024 quarterly guidance, and full-year 2024 guidance. Joining me today are Scott Turicchi, CEO; Johnny Hecker, CRO and EVP of Operations; and Jim Malone, CFO. The earnings call will begin with Scott providing opening remarks. Johnny will give an update on operational progress since our Q1 2024 investor call, and then Jim will discuss Q2 2024 financial results, our Q3 2024 quarterly and full-year 2024 guidance. After we finish our prepared remarks, we will conduct a Q&A session. At that time, the operator will instruct you on the procedures for asking a question. Before we begin our prepared remarks, allow me to direct you to our forward-looking statements and risk factors on Slide 2. As you know, this call and the webcast will include forward-looking statements. Such statements may involve risks and uncertainties that would cause actual results to differ materially from the anticipated results. Some of those risks and uncertainties include, but are not limited to the risk factors that we have disclosed in our 10-K SEC filing. Now, let me turn the call over to Scott.

Scott Turicchi, CEO

Thank you, Adam. We had a strong Q2 outperforming in both channels of revenue, adjusted EBITDA, adjusted earnings, adjusted EPS, and free cash flow. As we laid out in our Q4 earnings call, our goals for this year include the following. First, eliminating certain costs of the SoHo channel, especially in the area of marketing, to provide for stabilization of the base of revenue over time. Second, continuing to pursue the acquisition of customers primarily in the healthcare space for our corporate channel. Third, reviewing and improving our overall cost structure with the goal of driving adjusted EBITDA margins to the higher end of our 50% to 55% range. And fourth, continuing to repurchase our debt to further reduce our total debt to adjusted EBITDA ratio in anticipation of the first tranche maturing in October 2026. Let me provide a few additional highlights before turning the call over to Johnny. Our corporate channel continued to add new customers, primarily through upgrades from our SoHo base as well as our relatively new e-commerce offering, eFax Protect. Notwithstanding the lower ARPA of these customers than our current average, we were still able to maintain a $310 ARPA and a tight range over the past several quarters of between $305 and $320. We continue to see additional sites from the VA rolling out, driving new levels of revenue. Our SoHo revenues beat our expectations for the quarter. I would remind you that in Q2 2023, we finished the price increase to our base and actually saw slight growth in revenues versus Q2 2022. As we stated, at the time, we viewed this growth as anomalous. We continue to track ahead of our 2023 budget and have found additional marketing opportunities while maintaining a strong LTV to CAC. We were able to substantially reduce our marketing spend and still generate 61,000 paid ads more than Q4 2023, and similar to Q3 2023, which had higher levels of spend. Our cost structure benefited from a full quarter of the cost optimization that we discussed on our Q4 call. As a reminder, most of those cost reductions came primarily from the SoHo marketing mentioned earlier. The result was a 4.7 percentage point pickup on our adjusted EBITDA margin to 56.1% for the quarter, which is above the upper end of our long-term range. The combination of improved adjusted EBITDA, strong cash collections, and retirement of debt allowed us to improve our free cash flow by more than $11 million from Q2 2023. We were able to repurchase an additional $29.7 million of debt during the quarter. This brings our total repurchases since launching the program in November of 2023 to $156 million and reducing our outstanding total debt to $649 million or 3.4x our trailing 12-month adjusted EBITDA and 3.1 times on a net debt basis. I will now turn the call over to Johnny, who will provide you with more operating details.

Johnny Hecker, CRO and Executive Vice President of Operations

Thank you, Scott, and hello everyone. Today I will share business and go-to-market updates covering both our corporate and SoHo businesses, along with more details on the public sector, specifically the VA rollout and product enhancements. Let's start by sharing our sales and operations update and then the solid performance in the corporate business. We are pleased to report revenue of $51.7 million versus $50.4 million last year for Q2, marking an approximate 3% increase over the same period last year. This outcome serves as a testament to the use cases for cloud fax in corporate settings, especially in healthcare. I am most pleased with the increase in the variable portion of our revenues, indicating mostly upmarket growth. It marks another record-setting quarter for our corporate business, emphasizing the unwavering strength and effectiveness of our offerings. The e-commerce and SoHo upsell strategy continues to be a valuable source of customer acquisition with approximately 2,700 customers added in Q2, demonstrating the effectiveness of our strategy. During the last call, we projected a decline in our SoHo to corporate upsell during Q2 due to planned operational changes. However, the growth of our eFax Protect service helped us offset the slowdown to a large extent. We will continue to invest in and expand this e-commerce offering, which aligns with the go-to-market realignment strategy we shared last year. The next phase of this offering will include in-product upsell options for our customers, eliminating the need for in-person interaction with customers for that process. The metrics we share reveal that the growth in corporate accounts driven by those new customers at the lower end of our customer continuum also leads to a higher corporate cancellation rate. It has increased by 103 basis points year-over-year and 37 basis points quarter-over-quarter, reaching 2.29% in the second quarter of 2024. Normalized for eFax Protect, the cancellation rate in corporate remains significantly below the 2% mark. I would remind you that our cancellation rate is based on accounts and not on revenue. We foresaw this trend with the launch of the e-commerce channel and are pleased to report that corporate ARPA has remained steady for several quarters within the $305 to $320 range at just above $310 this quarter. During Q2, advanced products accounted for 14% of new sales, aligning with the performance of the second half of the last year while being lower than the Q1 contribution. This temporary slowdown is mainly attributed to our Unite offering after a strong sales performance in Q1. It's important to note that this percentage fluctuates and is also influenced by the new sales of our core fax services. Overall, we're on track with the execution of our go-to-market plan in 2024. We're increasingly closing customers in the lower ARPA spectrum through fully automated e-commerce processes, allowing for our sales team to focus on larger deals driving up overall sales productivity. I'd also like to highlight our public sector business. The implementation of EC Fax at the VA is proceeding as planned, and our enthusiasm for its potential remains unwavering. We are observing steady growth in line with our projections, and we confidently confirm that we forecast more than $2 million in revenue from the EC Fax program in 2024 and expect continued growth in the coming months and years as we move forward. EC Fax stands out as the sole cloud fax solution on the FedRAMP marketplace with the additional exceptional distinction of complying with the high impact level controls. This attests to the utmost level of security, integrity, and availability vital for government agencies operating in sensitive sectors like law enforcement, healthcare, finance, and defense. As we advance our relationships with these agencies, it becomes increasingly apparent that meeting the FedRAMP high impact standard is a prerequisite for even being considered as a potential solution by the government. We are pleased to share the discussions with other agencies are proceeding. We're witnessing heightened demand for our solutions in a second relevant area of the public sector, state and local government, and education. This prompts us to explore strengthening our emphasis on the public sector as a critical pillar in our corporate business beyond healthcare and commercial as we approach our 2025 planning process. Regarding our cloud fax business, we remain committed to investing in the ongoing development and enhancement of our cloud fax platform. Adopting a fully cloudified approach has demonstrated to be the optimal strategy, particularly in terms of scalability, resilience, and innovation. We consistently strive to enhance the platform, keeping our customers' best interest at the forefront, while ensuring our continued economic success. We continue to receive robust interest in our AI offering, Clarity, which leverages our proprietary LLM and related technologies to unlock valuable insights from unstructured data. Customers and potential clients are particularly intrigued by the possibility of tailoring Clarity models to their specific use cases, enabling them to extract actionable intelligence and automate workflows in ways never before possible. This heightened interest is reflected in the growing number of proof-of-concept requests, which are currently contributing to our expanding implementation backlog. Turning to our SoHo business, Q2 revenue was $35.8 million versus $42.4 million the previous year, consistent with the focused marketing changes we announced last year. The total SoHo account base has decreased from 808,000 to 785,000 during the quarter. Similar to last quarter, we again remain slightly ahead of expectations with a continued reduction in free trials and the majority of customers signing up for a first-month discounted price plan, allowing us to increase revenue velocity inside the customer population. We see ARPA stable at $14.97 in Q2, while the cancellation rate is improving slightly to 3.4% sequentially and improved from 3.57% in Q2 of the previous year. Our smarter ad spend strategy, which centers around boosting profitability in customer acquisition continues to yield positive results. We have successfully automated and optimized this program leading to improved outcomes. Coupled with robust organic returns from our SEO initiatives and our refreshed eFax web presence, we are pleased to report that the SoHo business is meeting the intended objectives and marginally outperforming expectations as evidenced by certain stable key metrics. As a result, we expect to nominally increase our marketing spend using this new approach in the second half of 2024 by approximately $2 million. This concludes my update on our SoHo business. In closing, in light of ongoing economic uncertainty, cost awareness, and limited IT resources for our customers and prospects, their decision-making processes remain slow. To navigate these challenging market conditions, we maintain a high level of flexibility in our go-to-market approach and prioritize sales efficiency. We remain committed to our strategy with a strong focus on cash generation and profitability, while our go-to-market efforts will continue to center on driving growth within the corporate business. And now I'll hand the call over to our CFO, Jim Malone, who will provide further details about our financial results and guidance.

Jim Malone, CFO

Thank you, Johnny, and good afternoon, everyone. In our press release and on this earnings call today, we are discussing Q2 2024 results and Q3 2024 guidance. We are reaffirming full-year 2024 revenue and adjusted EBITDA guidance while increasing our full-year adjusted EPS guidance range. We expect to file the 10-Q today. Let's start with our corporate business results. Q2 2024 revenue was a record at $51.7 million, an increase of $1.4 million or 2.7% over the prior year, and performing in line with our expectations. Corporate ARPA of $310 was down from $317 or 2% in the prior year, consistent with the last several quarters ranging from $305 to $320. Q2 2024 customer churn of 2.29% increased by 103 basis points year-over-year and 37 basis points sequentially, primarily driven by new customers at the lower end of our customer continuum. As Johnny mentioned in his script, normalized for the eFax Protect project, the cancellation rate would have been below 2%. Notwithstanding this, these customers are net economically beneficial, and I would also remind you that our cancellation rate is based upon customers not revenue. Corporate delivered a trailing 12-month revenue retention of 99%, an improvement over Q1 2024. Moving to SoHo, Q2 2024 revenue of $35.8 million is a decrease of $6.7 million or 15.8% over the prior year and better than our expectations. The year-over-year decrease was driven by planned reduced advertising spend and year-over-year base reduction due to fewer paid ads. With an increase of $0.02 sequentially, ARPA of $14.97 decreased by 4.6% year-over-year as a result of shifting to price plans with a discounted first month versus a free trial resulting in higher paid ads in the quarter. These plans are net economically beneficial. Churn declined 17 basis points to 3.4% year-over-year and was in line with expectations. As you recall, Q2 2023 was the final quarter of our price increase cycle. Moving to Q2, consolidated results revenue of $87.5 million is a decrease of $5.3 million or 5.7% over Q2 2023, in line with our expectations and driven by the planned reduction in SoHo revenue. Adjusted EBITDA of $49.1 million represents an increase of $1.4 million or 2.9% over Q2 2023, driven by the cost structure optimization primarily in the area of SoHo advertising. Adjusted EBITDA margin of 56.1% was 4.7 points above the prior year, exceeding expectations at the high end of our range, which is 55%. Adjusted net income of $28.1 million is an increase of $1.3 million or 4.9% over the prior year, driven by adjusted EBITDA flow-through and net interest expense as a result of the bond repurchase activity offset by higher D&A and income tax expense. Adjusted EPS of $1.45 is higher than the prior year by 6.6% or $0.09 driven by the items I mentioned and a modestly lower share count. Q2 2024 non-GAAP tax rate and share count was 21.3% and 19.3 million shares, both consistent with our Q2 guidance. Let's talk about our capital allocation strategy. As mentioned in our Q3, November 2023 earnings call, we announced a $300 million three-year bond repurchase program. In Q2 ‘24, we repurchased approximately $30 million face value for $28 million in cash. Program to date, we've repurchased $156 million face value for $143 million in cash. We have approximately $144 million remaining under this program. The debt to adjusted EBITDA ratio, with the debt repurchases mentioned, is 3.1x, well on our way to achieving our goal of 3x. We ended Q2 with $49 million in cash, which is sufficient to fund our operations and repurchase debt and equity. Q2 free cash flow was $15.8 million or 295% positive versus the prior comparable period. Q2 2024 CapEx spend of $8.5 million is down $1.6 million versus the prior year. Based on our year-to-date results, we are increasing our full-year EPS guidance range and reaffirming full-year 2024 revenue and adjusted EBITDA guidance at the midpoint as follows: Revenue between $338 million and $353 million with $345 million at the midpoint; adjusted EBITDA between $182 million and $194 million with $188 million at the midpoint; adjusted EPS guidance range from $5.45 to $5.55 with $5.50 at the midpoint; our estimated share count and non-GAAP income tax rate was 19.3 million to 19.4 million shares; and a tax rate of 20.5% to 22.5%. For additional guidance within the quarter spread of guidance, we are providing Q3 2024 guidance results as follows: Revenues are expected to be between $83.5 million and $87.5 million with $85.5 million at the midpoint; adjusted EBITDA between $44.5 million and $47.5 million with $46 million at the midpoint; adjusted EPS between $1.25 and $1.35 with $1.30 at midpoint; Q3 2024 estimated share count and income tax rates are 19.3 million to 19.4 million shares and a tax rate of 20.5% to 22.5%. This concludes my formal remarks. Now I'd like to turn the call back to the operator for Q&A.

Operator, Operator

And the first question today is coming from Jon Tanwanteng from CJS Securities. Jon, your line is open.

Unidentified Analyst, Analyst

It's Charlie for Jon Tanwanteng here. With unemployment slightly fluctuating, do you think that healthcare clients might be starting to recover and ease the friction in deployments, or is that still a while away?

Johnny Hecker, CRO and Executive Vice President of Operations

You faded in and out? I'm not sure what the issue is with the audio. I know you had something to do about unemployment ticking up, but could you rephrase it again?

Unidentified Analyst, Analyst

Yeah. Absolutely. Do you think that your healthcare clients might be starting to be able to stack back up and reduce kind of friction in deployment?

Johnny Hecker, CRO and Executive Vice President of Operations

Yeah, got it. Understood. So, interesting question. It’s a good question. Appreciate it. Thank you. This is Johnny. So right now, we don't have any indicators that we see clients really finding the talent that they need to drive more IT projects. We don't see any changes in that dynamic in the market at all, to be honest.

Operator, Operator

Next question is coming from David Larsen from BTIG. David, your line is open.

David Larsen, Analyst

Hi, can you talk about the deployment process at the VA? How far along are you? Any metrics around how many sites the VA has, how many you're deployed at? When did that start? And then when will you sort of get to sort of, we'll call it, not a full ramp-up, but a pretty good pace and the total dollars tied to the VA? Just more color there would be very helpful. And how has that situation evolved? Is it improving in terms of access and deployment timing? Thanks very much.

Johnny Hecker, CRO and Executive Vice President of Operations

Yes. Hi David. This is Johnny. Good question. Thank you. I think we're in a position where we can't really specify the percentage of site metrics at this time. They have about 2,200 sites based on what we currently know, but a site can vary significantly from a small office at a cemetery to a large hospital. Therefore, the site metric doesn't effectively indicate volume; it's more about the number of employees and the number of workstations we have. Additionally, we need to consider what applications these people are using, but we don't have a clear inventory of that right now. Keep in mind that we are working closely with our partner Accenture and Federal Services on this rollout, as they are primarily managing the deployment at the sites and training the end users. We are responsible for providing the infrastructure. As I mentioned in my opening remarks, we are currently on track with the rollout as we expected, but there is significant potential within that account. We prefer not to estimate a final number because it's uncertain even for the VA; it's a massive organization that operates hundreds of fax servers and thousands of multifunctional devices, and they are gradually migrating to the EC fax solution. As we progress with the rollout, we'll gain a better understanding of the overall opportunity, but we are still in the very early stages.

Scott Turicchi, CEO

I would like to add to what Johnny mentioned earlier, David. Regarding the first part of your question, it was about a year ago, specifically in September 2023, that the real rollout began. The initial phase from March to July was primarily focused on test cases. Following that, there was a significant meeting to review the rollouts, the formats used, and alternative strategies, as the VA shares our incentive to accelerate the rollout. This led to several months of discussions around different structures beyond simply bringing a facility online. Initially, the plan was to proceed facility by facility until reaching 2,200. While that remains true, there has been remarkable progress in the number of facilities gaining access to the service. As Johnny pointed out, this is just one of many important metrics, especially considering nearly a million employees are within the VA. This represents another significant group of users, along with various embedded applications. We have observed what I would describe as a greater flexibility in how the rollout is proceeding, with some degree of rollout happening each month compared to the previous one, resulting in increasing traffic. As Johnny referenced, we anticipate revenue of about two million this year, which reflects a substantial increase from last year. I expect that number to grow significantly as we move into 2025, based on the exit run rate we will have at the end of 2024, even before we begin adding new users or facilities in 2025. I understand that this isn't the precise number you were hoping for, but we won't provide specifics because, as Johnny said, the situation is quite complex. Given the VA's numerous embedded applications and systems, it can be challenging for them to determine what that number truly is.

Jim Malone, CFO

I believe we have several years of growth ahead, considering our current position, in achieving what could be seen as a significant, though not complete, market penetration of the VA opportunity.

David Larsen, Analyst

It sounds like things are improving is, is what I'm kind of hearing. And then also when you list - okay, was that a yes?

Johnny Hecker, CRO and Executive Vice President of Operations

Yes, that was a yes.

David Larsen, Analyst

When you listen to the reports from publicly traded hospitals, they consistently mention that labor shortages are being resolved, inflation rates have improved, and their reliance on contract labor has decreased. Volumes and EBITDA margins at these hospitals appear to be strong. What are your thoughts on the current demand levels from the hospital market and the healthcare facilities you are working with? Has there been any improvement?

Johnny Hecker, CRO and Executive Vice President of Operations

Again, good question. Right now, we're seeing both sides of that coin. We see hospitals that are doing very well. I think they are covering on the clinical side, which is what you are hearing is that they're actually hiring that kind of staff. They're still very cost-conscious and trying to manage their bottom line as well. We don't see a necessarily increase in the IT staff, which is where we need most of the support. And then you also do see the flip side of the coin where you see hospitals that are in distress, right? I mean, very public is probably the Steward Health case that they just filed Chapter 11 recently. So I think you have both sides of that coin in the healthcare industry. You have the very large ones that are doing well. But you also have the ones that continue to struggle. Now, that's not necessarily bad for us, right, because they're looking to optimize their costs as well. And we can contribute to that. So we can use that as an opportunity to help them save some money and get rid of legacy infrastructure, which is usually costly. But on the labor side, we don't see a lot of improvement at the moment.

David Larsen, Analyst

Okay. That's helpful. And there's just one more quick one from me. Any comments on the clarity prior auth solution or clarity clinical documentation? What sort of uptake rate are you seeing there and any way to sort of take a stab at total dollar, incremental dollar flow from your clients or incel opportunity? Thank you very much.

Jim Malone, CFO

Yes, so we do see increased interest in that product line. We have a lot of customer engagement, as I said, particularly in proof of concepts. So we have to go through these motions. It is building backlog on our implementation teams as we're building out that implementation capacity. But I think, it would be with that large amount of fax revenue that the company has, which is still growing, which we're adding to every quarter, the clarity contribution on the revenue side is not material at this point.

Scott Turicchi, CEO

Before we take any more live questions, Paul, we've got a couple of questions that have come in by email, which I'd like to address and then you can recheck for the queue if there are any other questions that want to come in. So we have a question regarding the SoHo business. It's really a perspective question for ‘25 about the expected rate of decline in SoHo in ‘25 versus ‘24, and how that might be changing given the increase in our marketing spend. So let me actually answer a question that's maybe even more near-term relevant, which is the last two quarters of ‘24. So just so everybody understands, but we have a certain pace of spend in the first half of ‘24 that is substantially lower than the first half of ‘23. And some of that was in my prepared remarks. Some of that has been noted by Johnny and Jim. We have seen, based on the cohort analysis and based on the marketing programs, the ability to spend incrementally. Now from a budgetary standpoint or a forecast standpoint, we've assumed an incremental million dollars in each of Q3 and Q4. And as a result, that's particularly in the near term, I hit the EBITDA in the Q3 quarter. What I think is important to understand is that is not an authorized amount of spend; that's a budgeted amount of spend. The key is really that both the marginal contribution and the average of that spend maintains what we consider to be a strong LTV to CAC. If we see in given programs or chunks of programs that you just can't spend more beyond a certain limit, we don't intend to spend it. So a lot of the answer to the ‘25 question, or at least a portion of it, is a function of what will be the sustained level of marketing spend as we exit ‘24 and go into ‘25. It is our current expectation and certainly our hope we can fully spend that million dollars in each of Q3 and Q4. So you should be expecting a lesser decline in the SoHo business in Q3 and Q4. Those are easier comps for us than Q2, which was our toughest comp of the four quarters of this year. And then as we address the Q3 results on the November call, I think we'll have good insight in terms of what we expect in ‘25. I expect a lesser rate of decline in the SoHo business than we saw or are seeing from ‘23 to ‘24. But in terms of quantifying it now, a lot of it will hinge on the exact level of marketing spend and what is that stabilized run rate as we look forward into ‘25. The second question had to do with one of capital deployment or CapEx. It's premised on the question of the nearing and refinancing. So I would just remind people that we have, as was noted by Jim, $649 million of debt. There are two tranches of that. The 6% notes are due in October of ‘26, so more than two years away. Although, as the question is premised, I think we will be looking at what our options are certainly in ‘25 or at a minimum addressing the tranche that will be maturing in ‘26. The second tranche, which is larger, the 6.5 mature in October of ‘28. Our CapEx this year has been more front-end weighted. So we've given you a range of $26 million to $30 million for the year. We believe we're going to come in near the high end of the range for ‘24, around $30 million. So you'll see step-downs on a sequential basis in Q3 relative to Q2 and Q4 relative to Q3. This is really a budgetary question as it relates to our level of capital investment in ‘25. We obviously have not started that process yet. I would say sitting here today, I don't see any material change in the level of CapEx spend. Could it be $2 million or $3 million lower or $2 million or $3 million higher? Yes, a lot will depend on what projects are we carrying into ‘25, which ones are we greenlighting, which ones are we not greenlighting, but I actually don't see the amount of CapEx on the margin as being in any way influential in terms of how we think about refinancing either tranche of debt. Paul, back to you if there are any more live questions.

Operator, Operator

There are no other live questions at this time, Scott.

Scott Turicchi, CEO

So we want to thank all of you for participating in our Q2 earnings call and look for press releases in terms of various upcoming conferences that we may be participating in. As I just mentioned, we will announce our Q3 results in the first, I think full week of November. So there'll be a press release as we get closer to the exact date and time. And, of course, if any of you have any other questions, you can reach out to us by email or call us as you digest the results. Thank you.

Operator, Operator

Thank you. This does conclude today's conference. You may disconnect at this time and have a wonderful day. Thank you for your participation.