TeraGo Inc.

Good morning, ladies and gentlemen. Welcome to Tarah Doe's Q3 2020 Financial Results Service Call. At this time, our participants are in a listen-only mode. Following the presentation, we will conduct a question and answer session with pre-qualified analysts on the call. Instructions will be provided at that time for you to queue up for questions. If anyone has any difficulties in the process, please press star followed by zero or operate at a distance at any time. I would like to remind everyone that this conference call is being recorded. Tarasco would like to remind listeners that the company's remarks and answers to your questions today may contain forward-looking statements that are based upon management's current expectations. are made pursuant to the state public provisions of and are intended to be forward listed statements under actual Canadian securities legislation. When relying on forward listed statements to make decisions with respect to the company, we should carefully consider the risk set forth and the risk of the consumption of each of the annual MD&A The year ended December 31, 2019, and the Q3 2020 MD&A, which are available on www.pdar.com. Except as may be required by Canadian security laws, the company does not undertake any obligation to update any for the statement as a result of new information. We would also like to remind listeners that TARIC uses certain non-negotiable financial measures to arrive and adjusted results to assess its business and to measure overall performance. Tarago believes that these financial measures provide readers with a better understanding of how management views the company's overall performance. I will now turn the conference over to Mr. David Shirai, Interim BOMT Financial Officer at Tarago. Please go ahead.

Well, thank you, and good morning, everyone, and thank you for joining Tarago's third quarter 2020 earnings conference call. After the market closed yesterday, we issued a press release announcing our results in the third quarter and it's December 30th. And in that press release, that financial statements and MD&A are currently available on CDAR as well as our company's website, along with the slide deck that I will use for this call. Before I get into the financials, I want to provide an update with respect to our operations. First, I wanted to preface that every year around this time, the board and the leadership team hold detailed strategic planning sessions And one of the main topics this year, among other things, is the appointment of a permanent CEO. And given the importance of this decision, the board has elected to continue their confidential review to first solidify the long-term strategy of the business and then align on the skill sets, qualifications, and requirements of TerraGo's next CEO. Nevertheless, the board has full confidence in our current management team, with me as interim CEO, and the rest of the senior leadership team. I'm pleased to share that we have recently promoted our Chief Revenue Officer, Blake Russell, to the additional position of Chief Operating Officer. Blake's expanded mandate includes growing both Parago's top-line revenue as well as leading the engineering and operations team in delivering best-in-class service to our customers. I'd also like to quickly touch on some C-Street operational highlights and KPIs. Again, I'm pleased to share that we are exceeding our expectations as we continue to operate within this era of the COVID pandemic. As an essential service in Canada, we've been tracking our progress with bookings, cash collection, cash management, and other internal metrics, and I'm very pleased with the results across these three stats. We've achieved year-over-year growth in our cloud and co-location business, stabilized custom returns, and significantly grew our productivity backlog, all of which I'll discuss further. Additionally, as a reference in our previous earnings call, we received a net promoter score of 70, which is well above the industry average in the class of superior customer service and our ability to swiftly provision new services to customers. This accomplishment is certainly a testament to our resilient business model, as well as our team's ability to adapt and execute. In fact, let's take a quick look at our key operating metrics for Q3. On slide five, starting first with our backlog monthly recurring revenue, or MER, in our connectivity business. At September 30th, the backlog MER increased to 113.2K, driven by higher sales volumes from both the direct sales team and the channel. The cloud and co-location backlog MER in Q3 grew to 71.9K. The increase was due to strong bookings activity in the quarter that had yet to be provisioned. Taking a look at average revenue for customer in ARPU in our connectivity business, ARPU for the third quarter of 2020 was relatively flat at 10.28 compared to 10.14 in Q3 of last year. However, our cloud and co-location ARPU for Q3 was 34.68, up 7%. from 3248 and Q3 of last year. The increase is due to strong upgrade activity from existing customers, and we've seen increased demand for more CPU, storage, and other options within our cloud and co-location portfolio. Looking at our third key operating metric, churn, for the third quarter of 2020, churn in our connectivity business was 1.4%, down significantly from the 1.7% recorded last quarter. churn in our cloud and co-location business decreased to 0.9% in the second quarter of 2020. Overall, the decrease in churn levels were a result of improved retention efforts and reflects the essential nature of our service to our customer service. Turning now to the financial performance for the third quarter, on slide 6, you can see that our total revenue in the third quarter declined 4% from the prior year period, to $11.3 million compared to $11.8 million in Q3 of last year. Connectivity revenue in the quarter decreased 8% to $6.9 million compared to $7.5 million in Q3 of 2019. The decrease was attributable to churn exceeding customer provisioning. Cloud and co-location revenue for the third quarter of 2020 grew by 1.7% to $4.3 million in the quarter. Turning now to EBITDA in the third quarter, our adjusted EBITDA decreased to $3.8 million compared to $4.4 million in Q3 of last year. The decrease was primarily due to the decrease in revenue as well as the in our go-to-market scheme. Moving down the income statement, net loss in the third quarter of 2020 totaled $3.2 million compared to the net loss of $0.9 million in Q3 of last year. The increase in net loss was primarily driven by lower revenue and the severance charges recorded in the quarter. Turning to our cash flow on Friday, in the third quarter, we generated $3.7 million in cash from operating activities, while capital expenditures were $2 million, or 18% of total revenue, driven primarily by strong success effects in the connectivity business. At quarter end, we had $7.6 million in cash, which was down from $8.7 million at the end of Q4 of 2019. Additionally, as we shared on the last call, we continue to have access to a revolving credit facility with RBC and TD Bank. And although this facility provides cargo with additional financial flexibility, we have no plans to draw from it in the near future. Instead, I intend to continue using cash in the balance sheet We expect that our growing bookings and provisioning activities will generate incremental cash flow from operations. I'd now like to review the current progress on executing our multi-pronged growth strategy, which we think of as three pillars on slide nine. Starting with the first pillar of stabilizing our business and generating free cash flow. As I mentioned earlier, we saw excellent progress on churn returning to more normal rates as a result of an excellent customer retention efforts which have certainly been encouraging. On the second pillar, we have significantly increased our overall backlog MER. In particular, I'm pleased to see continued increases in our connectivity backlog, which validates improvements we've seen in our sales efforts in our business across inside sales, direct sales, and our channel teams. And finally, I'd like to provide an update on our 5G testing, which will continue to advance in our technical trials in the greater Toronto area. We are optimistic in achieving even greater performance with higher power radios from Nokia and next-gen CPE devices from both ASCII and Integra, which we now expect to receive in C4. We're having meaningful discussions with partners and potential customers about promising 5G private network use cases in logistics, manufacturing, mining, education, and transportation to name a few. In the meantime, we continue to add innovative capabilities to our connectivity portfolio, such as network-managed services we plan to launch in 2021, in addition to our internet SD-PEN and SD-LAN solutions which we recently announced. In conclusion, thanks to our diversified customer base, predictable recurring revenue, prudent approach to cash management, strong order backlog, and outstanding customer service, I believe we are well poised for both its exceptional end as well as exciting future growth. That concludes my prepared remarks, and we can now open the call for questions.

And as a reminder, if you would like to ask a question, please press star, then the number one on your telephone card. And then press star, then the number one.

These will all be compiled into a roster.

And our first question comes from Bentley Cox with TD Securities.

Hey Dave, two questions if I may. One is a short-term question on the path log. When can we expect that to start trickling into revenues? And then a bigger strategic question, taking into my thoughts on the value of the data center business to TerraGo going forward, wondering if I might be more up to this task. And then there's an extension of that, if you can help us check the docs a little bit and talk about margins by segment, just to help us value that. We'd be much appreciated. Thanks.

Sure. Sure. Thanks, David. Two good questions. So first with regards to the backlog, you know, our provisioning teams are working hard out right now to provision those backlog orders into revenues. what I can say is that, you know, we're starting to see, you can tell from my prepared remarks, we're starting to see, you know, excellent execution in our data market strategy. You know, it feels like all the elements are firing on all cylinders right now. And so, you know, we've got, in the short term, we've got, I'll call it a good problem to have and that's, you know, backlog growing and our provision team is being extremely busy right now. And as I look into the fourth quarter, you know, we're seeing that level of activity increase and continue. And so, again, it's a problem to have, but we're going to really need to think about how we improve and increase our resources for containment to match the demand that we're seeing on the sales side. And so, you know, coming back to your question here, is do we expect that to convert to revenue in the fourth quarter? And, you know, we're expecting continued activity into next year. As far as the data center business, you know, most of our capital allocation and, you know, you've seen the sales activity, you know, is around what happens in our connectivity business. That being said, we're seeing very good demand on the sales side in the data center business. And so that, you know, that business is chugging along nicely. It's kind of steady-eddy from a growth perspective. We don't feel the need of, you know, deploying additional capital to grow that business. But it is, you know, it is a very important factor of business for Tarago. And so one of the things that, you know, I get asked a lot, and I think what you're asking, that I get asked on Best Development Time is, you know, how... How do the margins stack up? And so, you know, I think while we don't disclose the margins for a line of business, it's important to think about, you know, the two lines of business. That's what's important to think about is two lines of business. The margins for the connectivity business are different from the margins for the cloud business and are different from the margins in the conversation business. And, you know, how to rank them in terms of profitability, our connectivity business is the most profitable. Our cloud business is the next most profitable. The co-location business is probably the least profitable of the three lines of business that we have. And I'll start with the co-location business, which primarily says we have excess capacity in our data centers. And as we continue to see, you know, our backlog increasing in cloud and co-location, as we start to fill up the data centers, I expect that, you know, that those margins will increase, but as it stands today, that's the relative ranking of the key businesses.

Thank you, Claudia. And our next question comes from David McFadden with Claremont Security.

Oh, yeah, just a couple questions. I was just looking on slide eight, you know, you detail your operating leverage, 3.15. Can you just remind us again what the covenant is? I know you want to provide guidance, but do you expect that, say, in six months or 12 months from now, that your leverage will be down from where it is right now?

Thanks, David. That's a great question. So, you know, our... Our debt facility takes us to two and a half times leverage. And you're right, we're over three. We're at 3.1 and change right now. And I do expect, and I will say, David, I do expect that over the next couple of quarters, our contract to come down. And the reasons are around the revenue that I expect to see increase, just given our backlog and given the sales momentum that we have over the next couple of quarters. As well, we've taken some actions, David, in the quarter to reduce expenses, and you'll see that in, you know, the second charges that we've recorded. And so, you know, that happened mid-quarter, and so I expect that, you know, in the next couple of years, we'll see full-quarter benefit from those changes. And so, you know, we put those two things together, as well as, you know, continuing to pay down the debt and not drawing any further on it, because, as I mentioned, when I prepared those remarks, I do expect, you know, a leveling off and a decline in that leverage over the next couple of quarters.

And then just another question. I'm just looking at the term rate. I mean, the term rate is heading in the right direction generally. It's flat or down. So it looks like COVID and, you know, small businesses, small businesses, it doesn't really just hit like that. Is that the correct way to think about it?

That's indeed correct, David. At the very beginning of the pandemic, we were cautiously optimistic that because of our diversified customer portfolio, we had customers in 34 industries. And so when we looked at our customer base and where But it's that we've had very little exposure to customers and industries that are, you know, I'll call it, you know, directly impacted by COVID. We've been fortunate in that regard. And we've monitored our metrics very, very closely. And as I mentioned, we've seen the cash collection and provisioning and so on. And we've, you know, we've been very fortunate that because of the essential nature of our services, we haven't been adversely affected by COVID.

Mm-hmm. Okay, great.

Thank you. Thank you. And then the question from Matt. He was just trying to forward.

Hey, morning, Dave. Just in terms of connectivity, I mean, you know, I'm looking at the revenue number, and obviously it comes back because it is, you know, a larger decline than it usually comes due to. Can you maybe talk to why that is? I know you said, you know, churn, you know, a greater amount of churn than provisioning, but maybe you can talk about, you know, was it a large client or a number of small clients or, you know, what's going on there?

Yeah, I'll talk about that. I'll provide some color there. So what we've been seeing in our connectivity business has been continued churn of the small business segments. And so it's those customers with, you know, one location and, you know, it's a combination of being very price sensitive. And some of them, frankly, have been hit by COVID, the small, small businesses. And so we've seen some decline there. But what we fully expect to see as our backlog is increasing, as you've noticed, you know, we're targeting our efforts to the bid market, to customers that require multiple locations and multiple sales across Canada. And so we've seen pickups in everything from lead generation to pipeline growth, and then now we're seeing it in our backlog. And that is very encouraging in our connectivity business. We see that coming to happen, and I expect over the next couple of quarters we'll try to see one intersection point where, you know, that growth will start to happen in the business that we've been waiting for quite a long time.

Yeah, I think that was really my next question. You know, kind of when would you tag your earnings from positive? Is it an early 2021 thing or late 2021 or late 2021?

I think we'll start to see some improvements in early 2021. you know, it all depends on timing of deals that we accept the flows and then the provisioning of that. So, you know, when we speak again in February for our year end, I'll provide more color on that as we start to see and I'll have another quarter in my belt to observe, you know, that the timing of orders and provisioning. But as it stands now, I would expect in early 21 to see that inflection point.

Okay, thank you very much. Thanks a lot. And again, if you would like to ask a question, please press star, see the number one, and you'll come home to that. Again, there's star one. And next question comes from Jerome DeBrieu with Desjardins.

Yes, thank you. Good morning. Thanks for taking my questions. Can you maybe tell us, what the board is looking for primarily for the new CEO? Is it a cost-cutter from those capabilities?

Hi, Jerome. Thanks for the question. And so, as I mentioned in my prepared remarks, you know, we're going through, I'll call it a very detailed strategic planning review with the board. And this is something that, you know, in the 30 years I've been doing this, You know, it happens every year. You know, you sort of sit back and you reflect on what you want to do when you grow up. This year, given the massive change that we've made and given the great board position we call it, with Tom Campbell joining our board, you know, we're actually doing a deeper dive than normal. And so as we're working through that, it's probably no surprise that, you know, a lot of what we're seeing What we're coming up with is, you know, excitement about the connectivity business, excitement about our assets that we have across Canada on 600 rooftops and almost all the major business parks across Canada, and, of course, our sites. And so, you know, as we think about how we're, you know, trying to position ourselves for growth and the upcoming, you know, 5G opportunity in front of us, you know, there's probably no surprise that's where we're leaning. But until we work through, you know, that full strategic planning exercise, and the board, you know, is very happy with what they're seeing right now with the current management team and the trajectory that we have and the progress that we're making. And so it's likely that What we're going to need is somebody to manage this growth and drive this growth. It's not going to be somebody who's going to be the one coaching. We see great growth trajectory in front of us. And I think it's very fair to say, well, it's going to be a leader that can help us drive growth.

I think that's helpful, and maybe another quick one. Do you expect any CapEx impact in the first quarter from the additional equipment investment?

Yeah, that's a good question, Jerome. Thanks. And I do expect sort of continued CapEx spending at the rate that we've seen in the last couple of quarters, and it is driven by the growth that we're seeing in the connectivity business and backlog, and so I would expect them to see something similar in that respect.

Thank you. And then another question is at this time.

This is Sharon. I'm going to call back to you.

Okay, great. Thank you, everyone, for joining on the call today. And on behalf of everyone at Terrigal, I'm going to thank you for your continued support. I look forward to providing an update next quarter.

Thank you for participating. You may now disconnect.