Analysts: Paul Steep - Scotiabank Daniel Chan - TD Securities Deepak Kaushal - GMP Securities L.P. Paul Treiber - RBC Capital

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Operator: Good day, ladies and gentlemen, and welcome to the Enghouse Systems Limited 2018 Q3 Earnings Call. As a reminder, today’s conference is being recorded. At this time, I would like to turn the conference over to Steve Sadler, Chairman and CEO. Please go ahead, sir.

Stephen Sadler: Good morning, everybody. I’m here today with Vince Mifsud, President; Doug Bryson, VP, Finance; Todd May, VP, Legal Counsel; and Sam Anidjar, VP, Corporate Development. Before I begin, I will have Todd read the forward disclaimer.

Todd May: Certain statements made in this conference call may contain forward-looking statements, which are not historical facts, but are based on certain assumptions and reflect Enghouse’s current expectations. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results or events to differ materially from current expectations.

These risk factors or events are identified in Enghouse’s AIF and other periodic reports filed with applicable regulatory authorities from time-to-time. Enghouse disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

Stephen Sadler: Thank you, Todd. Doug will now give an overview of the financial results.

Doug Bryson: Thanks, Steve.

Yesterday, Enghouse announced its third quarter unaudited financial results for the period ended July 31, 2018. Third quarter revenue increased to $86.7 million, compared to revenue of $82.8 million in the third quarter of the prior year. The revenue increase primarily reflects contributions from acquisitions. Income from operating activities was $26.7 million, compared to $22.6 million in the prior year’s third quarter, an increase of 18.1%. Net income for the quarter was $16.1 million, or $0.58 per diluted share, compared to $11.2 million, or $0.41 per diluted share in the prior year’s third quarter, an increase of 43.6%.

Adjusted EBITDA for the third quarter was $27.4 million, or $1 per diluted share, compared to $23.4 million, or $0.86 per diluted share last year, with the increase being attributable to contributions from acquisitions and operating cost synergies. On a year-to-date basis, revenue was $257 million, compared to revenue of $241.1 million in the prior year, an increase of 6.6%. Income from operating activities was $75.9 million, compared to $66.6 million in the prior year-to-date, an increase of 14%. Adjusted EBITDA for the year-to-date increased 13.1% to $78.1 million, or $2.86 per diluted share, compared to $69 million, or $2.53 per diluted share last year. Net income for the year-to-date was $38.2 million, or $1.40 per diluted share, compared to $31.9 million, or $1.17 per diluted share last year.

Operating expenses before special charges related to restructuring of acquired operations were $34.1 million, compared to $35 million in the prior year’s third quarter and reflect operating cost savings, net of incremental operating costs related to acquisitions. Non-cash amortization charges on acquired software and customer relationships from acquired operations were $7.2 million in the quarter, compared to $7.4 million in the prior year’s third quarter. On a year-to-date basis, operating expenses before special charges were $102.3 million, or 39.8% of revenue, compared to $98.9 million, or 41% of revenue last year. The company generated strong cash flows from operating activities of $29.3 million, compared to $25.1 million in the third quarter of fiscal 2017. On a year-to-date basis, cash flows from operating activities were $74.2 million, compared to $54.1 million in the prior year, an increase of 37.1%.

As a result, Enghouse closed the quarter with a record $178.4 million in cash, cash equivalents and short-term investments, compared to $130.3 million at October 31, 2017. The cash balance was achieved after year-to-date payments of $13.5 million in cash dividends, $9.7 million net of cash acquired for acquisitions concluded in the current year and $6.9 million for acquisitions closed in prior periods. Yesterday, the Board of Directors announced approved the company’s quarterly dividend of $0.18 per common share, payable on November 30, 2018 to shareholders of record at the close of business on November 16, 2018. I’ll now turn the call back to Mr. Sadler.

Stephen Sadler: Thanks, Doug. As Doug noted, there is some good news and bad news with our cash position. We continue to roll our cash and short-term investments, which reached approximately $178.4 million. But this means, we did not deploy cash on accretive acquisitions as we would have liked in the quarter. Cash flow from operating activities was $29.2 million, a record and $74.2 million year-to-date, a 37% increase over the prior year.

You will note on the balance sheet, foreign exchange – the foreign exchange impact was positive $659,000 versus a loss in the prior year of $806,000. Other notable items are software licenses increased by 7.1% over the prior year, hosted and maintenance revenue increased over the prior year, overall revenue growth was about 5%, including acquisitions; and low single digits, excluding acquisitions. Adjusted EBITDA was 31.6% and 30.4% year-to-date. Foreign exchange was a negative headwind of about $1 million in the quarter, compared to Q2 2018 on revenue. We continue to focus on improving internal revenue growth, which is showing progress, but takes time to improve.

In terms of acquisitions, we did not complete any acquisitions in the quarter, but the economic and market factors remain favorable for acquisition opportunities. Sellers tend to want a little more value pulling through the public markets, but we maintain our financial discipline with a five to six-year payback. I would now like it to open the call for questions.

Operator: Thank you, sir. [Operator Instructions] We will now take our first question from Paul Steep of Scotia Capital.

Please go ahead.

Paul Steep: Good morning. Steve, maybe you or Sam could give us a little bit of an update on the M&A environment and how you’ve been building up the team and maybe the pipeline on that side of the business?

Stephen Sadler: Yes. The other – M&A environment hasn’t changed that much. A little bit people are still – there’s a lot of opportunities.

Some are asking more than we think give us a fair payback. We are finding that most of these opportunities that are not sold and they tend to come back to us to have further discussions. But it’s really not changed that much from the past.

Paul Steep: Okay. And then, I guess, maybe talk a little bit about how you’re thinking about the margins? Obviously, you’re still focused on driving deals.

But theoretically, if we didn’t do anymore M&A, where do you think you could actually take the margins in the business in a steady state?

Stephen Sadler: Yes, that that’s a good point. I mean, the margins are a little higher in this quarter, but it’s base, because we haven’t done acquisitions. As I mentioned, when we do an acquisition, the first quarter generally either doesn’t make money above break-even, the next quarter that makes positive contribution, the third quarter we try and make sure it’s half our margins, and by the fourth quarter it’s a full margin. Having not really done very much in acquisitions in the last two quarters, you’ll see our margins creep up. I think, we would creep up even higher, but I do believe we will have acquisitions in the future.

So I wouldn’t say, it’s steady state where it’s at today, except if we don’t do acquisitions, then we should be able to achieve these margins and maybe even a little bit higher. We still expense all our acquisition team in our numbers like we don’t break it out, we don’t capitalize anything. So that’s unchanged, whether we do deals or not.

Paul Steep: Okay, great. And then the last one on my end would be, I guess, just an update on some of the lead gen activities that you’re working around.

And I know, I guess, in the past you’ve talked about being excited about some of the opportunities around Skype for Business. If you could give us an update on that, that would be great? Thanks.

Stephen Sadler: Yes, we always – Skype for Business is something that we always had a lot of great hope for. But Microsoft seems to struggle with how to position it in the marketplace. So it has actually slowed down a little bit.

Demand Gen, I know Vince is actually bringing in some more Demand Gen talent and we’re changing the focus of the company a little bit away from what you’d call traditional marketing to more Demand Gen instead. We believe if we get into more opportunities, our revenue will grow faster. So we’re trying to take a different tack really to emphasize marketing on generating more opportunities for us to get involved in. It takes time. You got to get some people in, you got to change it.

It’s a process you just got to keep making headway on. And I believe we’re doing that.

Paul Steep: Okay, great. Thanks, guys.

Operator: Thank you.

We’ll now take our next question from Daniel Chan of TD Securities. Please go ahead.

Daniel Chan: Hi, thanks, guys. Just a follow-up on the sales team changes. What should we expect in terms of lead time for some of these Demand Gen initiatives? And on the cross-sell opportunities, I mean, are you – what kind of metrics are you guys tracking to follow those opportunities?

Stephen Sadler: I think, there’s a lot of interest and we’ve got a lot of potential in the area, but we’re hiring some new staff.

We’re taking a new approach. Some of that staff is in, but we’re still looking for some others. If I was looking at it, I see it as a next year benefit. It will show up – if it’s going to show up, because there’s always risk that it doesn’t. It would be next year.

I don’t see it really showing up immediately, although we’re seeing some signs that that there is more, we’re attracting more interest, let’s say. But it’s not something that will show up immediately like in the next quarter or anything like that.

Daniel Chan: Sounds good. And then any update on the competitive landscape. Are you seeing Amazon or Twilio in any of the engagements you’re having with customers?

Stephen Sadler: None.

Daniel Chan: Okay, sounds good. And then final one for me. Cash, cash is at an all-time high. I just want to check if there’s any changes in your thoughts on capital deployment?

Stephen Sadler: No, I mean, well, I still think it’s nice to have the cash. Everyone is concerned a little bit about markets, the Democrats in the U.S., Korea, there’s all kinds of things out there that that might cause the markets to change quite quickly.

If it does, we have the cash to take advantage of it. We see that as a positive and we continue to look for deals. So we have a disciplined acquisition strategy. We’re disciplined in how we look at our dividend, paying it as a percentage of cash flow. It seems to work well for us, so we see no reason to change it.

Daniel Chan: Great. Thank you.

Operator: We will now take our next question from Deepak Kaushal of GMP Securities. Please go ahead.

Deepak Kaushal: Hey, good morning, guys.

So just in Q3, no significant FX impacts, low single-digit overall growth and – sorry, mid single-digit overall growth and low single-digit organic growth. Steve, would this suggest that that the recent acquisitions aren’t bringing in as much revenue as you guys anticipate or expected or how do you characterize that?

Stephen Sadler: Absolutely normal. If you’re following the company, it’s what everyone would probably expect.

Deepak Kaushal: Okay. So in terms of Mobilethink, I think in the last quarter you said it contributed 300k.

And there were some commentary about it having done $13 million annually in past years. How is that performing and what is your sense of what that business could contribute to Enghouse over the next year?

Stephen Sadler: Well, we never mentioned $13 million in past years. I think another analyst put that out and they were incorrect. It would have added about $1 million in this quarter. And then we – that’s what we expected when we did the deal.

Deepak Kaushal: Okay, excellent. So that’s on – so Mobilethink on track?

Stephen Sadler: Yes. The other thing people should realize in the Mobilethink when the analyst put out that, Mobilethink was a much larger business and we only bought part of it. So that’s maybe where the confusion came from. So it was bought by another company and then we bought a part of it out, they kept part of it as well.

So you’ve got to think in terms of $4 billion, $5 billion in revenue, not $13 billion.

Deepak Kaushal: Okay, that’s an important clarification. Thank you. And then on the M&A environment, you mentioned higher expectations companies asking for more, they don’t get sold, they come back. Is this just suggest that that the cycle time or the turnaround time on closing some of these deals has lengthened versus a year ago? Is it taking longer to close deal?

Stephen Sadler: I wouldn’t say that, because we do value pretty quick.

So if the value is not right, we move on to the next one. So I don’t think the cycle time to close it is any different than it has been in the past. I do think we have more discussions going on to make sure that we are successful in doing the accretive acquisitions that, that meet our financial requirements. So we have – we’ve got – I’ve added one of my operational people who used to run one of our divisions, we restructured a little bit. And he’s going to be – he has been added to the acquisition team like a week or so ago.

So he is transitioning his operational roll out. And as of basically right now, but the transition will be done before the end of the fiscal year. He’ll be on the team too in helping to look at acquisitions, because we’ve got enough opportunity just to look at. So I just want to add a little more capacity in the looking. And then if we close them, it depends on if they meet our criteria.

If they do, great. If they don’t, we don’t do them.

Deepak Kaushal: Okay. So in terms of the the pipeline the opportunity set, just the geographic and business segment reach, there’s no issues it’s a matter of going through the deals and opportunities quickly enough and finding the right price. Is that a fair takeaway?

Stephen Sadler: I wouldn’t – yes, I wouldn’t say, the opportunities are better or worse.

I see it as very similar to what it’s been over the last couple of years. So it isn’t like it’s improved and it hasn’t really gone down. It’s pretty steady, would be how I see it. I don’t want to make it look like there’s a ton more opportunities or anything like that. It’s pretty steady like it has been in the past.

I just– we got to do due diligence to make sure that we can achieve our objectives that we set for doing the acquisitions.

Deepak Kaushal: Okay, excellent. And you did mention some of the concern in the markets and all sorts of things, I think, you said all sorts of things that could change things quickly. Have you seen any of these change or impact customer thinking at this stage, changes in Europe or in emerging markets like Latin America on the present side? What’s your kind of thought on not [Multiple Speakers] microenvironment?

Stephen Sadler: Not really. I mean, not really.

But the SaaS players are still out there strong. Again, some of them, they don’t really make much money, and I’m surprised that they still continue to get the investment, but they do. But that’s been there for five years. So I would say, there’s no real change that I’ve seen to answer your question.

Deepak Kaushal: Okay.

Any kind of goals you’re willing to share for the next – for the balance of this calendar year that you’d be hopeful to achieve or – either in turn on M&A or organically?

Stephen Sadler: No.

Deepak Kaushal: Okay.

Stephen Sadler: Not really. I think, as Doug pointed out – well, as Doug pointed out, there was about $74 million we made in cash year-to-date, $74 million and a bit. It would be nice to get that to $100 million, but who knows.

Deepak Kaushal: Okay, excellent. Well, thank you for taking my questions. I appreciate your time.

Operator: Thank you. [Operator Instructions] We’ll now move to our next question from Paul Treiber from RBC Capital Markets.

Please go ahead.

Paul Treiber: Thanks very much. Good morning. I just wanted to ask about license revenue and you obviously is strong in the quarter. I think you called out in the MD&A that it was in the Asset Management segment.

Could you just speak to what drove the strength this quarter? And then how sustainable you see that going forward?

Stephen Sadler: I’d love to give you a, “Hey, here’s a big plan we did”. It’s a lumpier business. Some quarters are up and some are down. We had a bit better quarter. There’s nothing magic about it.

So I don’t think you should put it in that there’s a high-growth aspect there. We’re hoping to have growth and it was a good quarter. But I can’t say, there is any dynamics that really have changed. I’d like to see better values in both divisions.

Paul Treiber: Was it a large deal, like a multimillion dollar deal, or was there several smaller ones that came in together this quarter?

Stephen Sadler: That business tend to have larger deals over $1 million.

So let’s say, we got one more than we did in the past last quarter, and that generally can make that number…

Paul Treiber: Okay, perfect.

Stephen Sadler: …turn out like it does. So it is, I would say, it’s hopeful, but it’s a trend. But I can’t say it, it’s necessarily a trend. But we always – they’re doing a lot of work.

We are building up and trying to improve internal growth. But I would say, I’m not prepared to say, it’s a trend at this stage.

Paul Treiber: Okay, that’s understandable. Just on your new ERP system or financial system that you put in place, I think, six, nine months ago. Could you – how – what’s been the benefit of that system now that you have it in place operationally in terms of either cost savings or just other sort of operational improvements?

Stephen Sadler: It’s interesting.

If you look at our cash flow, part of that the new system is providing more. So we can act faster in lot of areas. Part of our cash flow, if you look at our receivables, they’ve come down substantially. Again, that was when – part when the system was going in place. And now that’s in place for using the information to do better things there.

We’re also using this system to improve the foreign exchange impact that’s been had. So we’re starting to see some benefits and we hope to see more. The key benefit for that was when we’re organized was as we do acquisitions that we should be able to integrate them in faster. I can’t say that’s a benefit yet, because we didn’t do any acquisitions in the quarter, but certainly, I expect that’s still going to be the case as we move forward.

Paul Treiber: Okay.

Thank you. I’ll pass it on.

Operator: Thank you. [Operator Instructions] As there are no further questions in the queue, I would like to turn the call back to Steve Sadler for any additional or closing remarks.

Stephen Sadler: Well, thank you, everyone, for attending the call.

I just want to make sure you understand, Enghouse continues to be well-positioned for future success.

Operator: Thank you. That will conclude today’s conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.