Quisitive Technology Solutions Inc.

Good afternoon and welcome to Quisitive's second quarter 2022 earnings conference call. Joining us for today's call are Quisitive Chief Executive Officer Mike Reinhart and Chief Financial Officer Scott Merriweather. Following their remarks, we will open the call for your questions. Before we begin today, I'd like to remind everyone that during the conference call, management will be making statements that contain forward-looking statements within the meaning of applicable Canadian securities legislation please refer to the company's forward-looking information disclaimer statement, which can be found on the notice for this call, our website, and the second quarter 2022 earnings release. And now I will turn the call over to Mike Reinhart. Please go ahead, sir.

Thank you, operator, and good afternoon, everyone. We appreciate you taking the time to join our Q2 2022 earnings call. We've successfully achieved another record mark for top line revenue of 47.6 million, up 107% year over year, coupled by the strength of our adjusted EBITDA metrics from both the dollar and percentage basis coming in at 6.9 million and 14.4% respectively. Both our payments and cloud solution segments contributed greatly to these results, highlighting the efficacy of our dual business model. In particular, The recent activation of the catapult business and the ramp-up of cross-sell and up-sell opportunities have begun to play a significant role in our growth trajectory. These consistent quarters of growth are a testament to the hard work and dedication of our management team has put forth on delivering on our stated thesis of generating transformational impact with immense value to our stakeholders. To quickly touch on the broad market at play and its potential effects on Quisitive, we're fortunate to say that we've maintained resilience and flexibility to the macroeconomic headwinds affecting many corporations of the international economy. A key indicator we focus on at this time is Microsoft's reported growth in their cloud business, as this is a proxy for Quisitive's potential. Microsoft CEO Satya Dadala reiterated again on their most recent earnings call that they project growth at 40% in that field, lending credence to the multi-trillion dollar total addressable market statistics frequently mentioned and associated with global cloud market. Our cloud solutions demand continues to remain strongly in line with Satya's comments. Our cloud solutions business is specifically designed with flexibility in structure and diversity in services to continue to deliver value to customers despite market changes. We continue to remain well diversified from a customer, industry, and platform perspective, offering a multitude of services for digital infrastructure and analytics optimization, spreading horizontally across healthcare, manufacturing, retail, and a multitude of other industries. With industry leaders continuing to forecast strong performance in the cloud solutions field, including IT investments as a protective factor against macroeconomic headwinds, Quisitive remains focused on playing the role of trusted advisor for our clients, aligning their technology investments with strategic business goals. We continue to anticipate strong performance and expansion of our market footprint across cloud solutions. Our cloud solutions platform has successfully grown sequentially and year over year from an EBITDA and revenue basis. Quisitive has again delivered on its thesis of harnessing Microsoft's cloud platforms to provide solutions to midsize and enterprise organizations to help customers achieve their goals of digital transformation. Our investment in the front half of this year on integration efforts with Catapult have resulted in advancements in cross-selling and organic growth across the cloud solutions segment. Central to our M&A strategy is the thesis that when we acquire a cloud solutions organization, it generates cross-sell opportunities that create lift and organic growth. With Catapult, this thesis has proven spot on. In H1, we expanded 15 inquisitive customer accounts by selling complimentary Catapult services and solutions. Recurring revenue was a primary component of these contracts, including managed services for Azure and our slide glass security solution. Because of the unique IP and recurring revenue streams that Catapult has brought to Quisitive, these cross-selling motions have both expanded key accounts as well as an intentional focus to diversify our revenue mix by increasing recurring revenue year over year. On the other side of the coin, we have leveraged Quisitive's blended resource model across onshore, nearshore, and offshore to accelerate the IP development for Catapult's Azure Managed Services offering, EverWatch. and also scale our managed services solutions to customers with 24-hour support capabilities. Furthermore, Catapult delivered strong additions to our marketing organization driven through campaigns aimed at our combined customers. As a result, Quisitive has experienced increased momentum in our marketing efforts that has generated significant uptick in our solution assessment pipeline as we head into the back half of the year. The Catapult business has now officially completed a rebrand as Quisitive. In addition to the public rebrand, in Q2, we have consolidated our teams into a singular structure and are now focused on integrating back office systems expected to be completed in early 2023. These integration efforts afford us the ability to go to market as a singular industry-leading brand, enhancing our value proposition to customer and accelerating customer acquisition. On the partnerships front, by committing to our strategic partnership with Microsoft, Quisitive has differentiated itself in the market and even from fellow Microsoft partners, namely due to our continued reception of partner awards. For consecutive years, Quisitive was the recipient of multiple awards as we recently announced receiving both the Microsoft United States Health and Life Sciences Partner of the Year, as well as being mentioned as a finalist for the Microsoft Worldwide Healthcare Partner of the Year. As I have previously stated, the relationship with Microsoft not only enables aligned sales and marketing motions that accelerate customer acquisition and drive revenue, but also it's established Quisitive as a premier solution provider in the ecosystem, providing enhanced opportunities for acquisition of other Microsoft partners and a reputation as a talent destination for Microsoft technologists. That said, I'd like to share some of our recent wins on the cloud business. Recently, Quisitive won an engagement with one of the largest global manufacturers to upgrade their ERP system from Microsoft Dynamics AX to Dynamics 365. This client's legacy implementation of Dynamics AX was one of Microsoft's largest ERP implementation, and the customer has now chosen Quisitive as their partner for their migration to Dynamics 365 ERP. Our introductory engagement with this customer was implementing our Quisitive shop floor IP solution for manufacturers and aligned to our strategy to accelerate impact and validate technical acumen via IP then expand to strategic cloud services. And we have now gained the trust of this customer to globally update their ERP system. Additionally, our strength in healthcare vertical continues to be proven. Of note is our recent contract to implement basic care suite of revenue cycle management tools for a pharmacy care services subsidiary of a major US healthcare insurance company. In this case, revenue cycle management is a complicated process for healthcare organizations, as many payees are stakeholders in a single transaction. The customer selected MesaCare because in comparison to the largest incumbents in the marketplace, MesaCare was designed for quality end-user experiences that limit user errors in addition to maximizing revenues. The contract revenue associated with this customer is split roughly 50% service fees and 50% recurring revenue from IP, and it will be completed on an accelerated timeline. With the customer being just one of a number of subsidiaries of the larger firm, we look to demonstrate our success as a partner and become the revenue cycle management vendor of choice for the organization at large. With that, let's transition to the payment segment. As you are aware, the payment solution segment includes the merchant payment processing services and the LedgerPay payment platform, the latter being a major differentiator for our global payment solutions team from our competitors. When taking a step back, we're encouraged to see extensive progress on both fronts, including the successful completion of the certification process for LedgerPay direct processing on the Visa network, a key milestone by our team that brings us one step closer to commercial utilization of the LedgerPay platform. In parallel with the MasterCard certification announcement, the completion of the Visa certification expands our network and positions us to begin to onboard merchants to LedgerPay. At this time, we're still in the process of completing the additional certifications with American Express and Discover, and look forward to updating you further on those developments. Building on the significant progress LedgerPay has made with the card associations, we continue to progress on our stated plan to onboard our first merchant that will transact on the LedgerPay platform later this quarter. This first merchant will be the start of the migration process of Bank Card USA merchants that will accelerate in 2023. Despite the broader status of the economy, we have been encouraged by some of the companies within our sector, such as MasterCard, American Express, and Visa, to name a few, as they've all experienced volume growth within their respective ecosystems. The pattern and trends they're currently seeing on brand with what our team is witnessing, which makes us hopeful for the future ahead. Our merchant services group, the arm of our payment solutions business that focuses on payment processing, recognized over $1.1 billion in payment volumes in the quarter, which is an increase from $962 million in the same year-ago period, and $12.2 million in average daily payment volume, which is an increase from $10.6 million in the same year-ago period. As we touched on in the previous call, seasonality plays a role in the quarter-over-quarter performance of this division. Generally speaking, the first and second quarters of any calendar year are primarily our strengths in volume metrics and revenue, while the latter parts of Q3 and Q4 see a slight tapering due to seasonal effect. This is predominantly due to the product sales mix of consumer purchases for our merchants, coupled with the strong wave of renewals we see from our customers who bill for membership services via annual fee structures they have in place, which are processed in the second quarter. All that is to say, the increasing improvement we've seen on volume is encouraging, one that we intend to continue growing going forward. To date, our M&A strategy has allowed us to grow sales capabilities, expand geographic presence, and facilitate the expansion of our products and services portfolios. Due to the success we've garnered and because our express goal is to continue to deliver value to our shareholders, remain on the lookout to find the right opportunities to drive our inorganic growth strategy. However, there is no material update to share at this time. We remain diligent and will keep you all apprised of anything material going forward. Looking ahead, we continue to see strong demand for our cloud solutions business, as well as the payments business, and expect to meet the previously published consensus revenue and EBITDA targets for the business. In closing, our cloud solution segment has the foundation needed to go to market and achieve the holistic cloud services value proposition that is central to our mission. Additionally, the continued growth momentum in the payments business and ongoing advancement of LedgerPay position the company for growth in the coming quarters. While we continue to work to refine our back office processes and support the realization of our full vision, this is an exciting time to be part of the acquisitive story as we continue to make significant progress on our growth initiatives across the organization. Thank you all for joining us as shareholders and supporters. I'll turn it over now to our CFO, Scott Merriweather, to discuss our Q2 2022 financial results. Scott? Thanks, Mike.

And thank you to all who are joining us for today's call. Our momentum continued through our fiscal year as we set a new quarterly revenue high watermark for the company, as Mike previously noted. Revenues for the second quarter ended in June, increased 107% to $47.6 million from $23.0 million for Q2 2021. driven both by our acquisitions and our healthy organic growth. Gross margin increased 133% to $19.3 million in Q2 of 22, over $8.3 million in Q2 of 21. Our gross margin as a percentage of revenue was 40.6%, continuing our sequential quarter-over-quarter trend of increases. For comparison, our Q2 21 gross margin percentage was 36.1%. We will continue to focus on increasing our gross margin percentage as we integrate our acquisitions and focus on cross-selling activities. In particular, we will focus on increasing our sales of our first-party IP within our cloud services segment. SaaS offerings in general tend to have higher gross margin profiles, and we would expect our SaaS and recurring revenue growth would blend towards higher overall gross margins over time. The activation of ledger pay will also drive increased gross margins in the future within our payment segment, though we do not expect ledger pay to make a meaningful impact fiscal year 22. Adjusted EBITDA increased 90% to $6.9 million for Q2 of 22 from $3.6 million for Q2 of 21. Adjusted EBITDA as a percentage of revenues was 14.4% for Q2 of 22, similar to last quarter. Our EBITDA margin with our cloud services segment increased from 13.3% in Q1, that was our first full quarter with Catapult, to 13.8% in Q2. This increase in EBITDA margins within our cloud services segment was partially offset by lower margins within our payments division as we continue to invest in our ledger pay platform as it nears market readiness in customer number one. We'll now move to discussing the specific performance of our segments. Revenue in our global cloud solutions segment increased 107% to another new record of $35.3 million for Q2 of 22 from $17.0 million for Q2 of 21, driven by the catapult acquisition and reflecting organic growth. Professional service revenue and managed services have grown significantly with the addition of Catapult. We acquired Mazic last year, effective April 1st, so that acquisition has fully lapped in our Q2 results when you look at quarterly comparative results. This segment's adjusted EBITDA improved 105% to $4.9 million for Q2 of 22 from $2.4 million for Q2 of 21. Our EBITDA margin within our cloud services segment increased incrementally to 13.8% for Q2 of 22. Our EBITDA margin has been inching up sequentially over the last several quarters after the catapult acquisition. We anticipate this pattern continuing for the next few quarters. As Mike alluded to, the response to our transition to a one-quisitive brand, both internally with employees and externally with customers, furthers our confidence in cross-selling and continuing our growth pace. We've also seen strong response to our first-party IP and believe these products will help open doors and drive revenue of both product and services going forward. Revenue for our global payment segment also set a quarterly record, increasing to $12.4 million for Q2 of 22 from $6.0 million for Q2 of 21. Substantially, all of the Q2 of 22 revenue was from our bank card acquisition. Mike has already discussed the seasonality in the business, and Q2 experiences the highest payment volume of the year. Looking at the remainder of fiscal year 22, we expect the bank card volume to continue to grow at its historical growth rate when compared to the same quarter in the prior year. Adjusted EBITDA for our global payment solution segment increased to $2.0 million in Q2 of 22 from $1.2 million for Q2 of 21. The bank card contributed record EBITDA results in the quarter, which were partially offset by spending on the LedgerPay platform. We noted on our last call that operating costs related to ledger pay would continue to modestly increase throughout 2022 as we reach market readiness and the launch of the platform. We've seen this trend over the last three quarters. We will continue to invest in ledger-based commercialization throughout this fiscal year as we prepare for more meaningful impacts from the product in fiscal year 23. Moving to the balance sheet, at June 30, we had 75.6 million of term loans outstanding and 9.2 million of cash on hand. As of June 30, our total leverage ratio was 2.93 times. As a reminder, our leverage ratio covenant stepped down to 3.0 times at June 30. In our August 4th press release, we announced an amendment to our credit facility subsequent to the quarter. After reported earnings, we will exercise a portion of the accordion feature within our credit facility, and we'll use this borrowing and cash on hand to fund the earn-out payments on our CRG and bank card acquisitions. We view this expansion to our credit facility as our cheapest source of capital in today's market environment. As part of the amendment to our credit facility, our leverage ratio covenant will increase to 3.25 times for the next two quarters. We are essentially returning to the leverage profile we had after the bank card and capital acquisitions, and we have demonstrated the ability to scale up our leverage ratio and then pay down debt. After this borrowing, our quarterly debt pay downs will increase from 2 million per quarter to approximately 2.5 million. As a result of this credit facility expansion, we will keep more cash in the balance sheet, which will allow us to invest in the launch of ledger pay, and it provides some ammunition for modest M&A activity if we find the right target. Keeping more cash on the balance sheet is also prudent should we begin to enter a greater recessionary environment. However, we want to stress that is not our current motivation, as we do not see demand slowing within our pipeline. Some of you may have noted that we followed a shelf offering within the past few weeks. Our prior shelf expired on July 12th, and this was just good corporate housekeeping. We currently have no appetite to raise equity at today's prices, so it felt like the best time to file the shelf was in this market, so it would be obvious we are not signaling any kind of imminent capital raise. As a note to better understand our working capital position, at June 30, we had $15.7 million of projected earn-out payments and short-term liabilities in the balance sheet, along with $2.1 million of projected earn-out compensation within accrued liabilities. All of these amounts should be paid out during the third quarter, using funds from the credit facility expansion, $5 million of equity, as contractually required by an acquisition agreement, and cash on hand. Our working capital deficit at June 30 is arguably overstated as it includes a $5 million non-cash item, which is the earn-out amount that will be paid with equity. Overall, working capital will look much different when we report our Q3 22 results because of the earn-out payments that we will make this quarter. The current interest rates on our term loans is approximately 5.25%. We currently convert over half of our adjusted EBITDA into free cash flow, which can either be used for acquisitions or debt repayment. We define free cash flows as adjusted EBITDA minus capital expenditures, internally capitalized software, cash interest, and cash taxes. On par with what Mike mentioned, as we look into the remainder of the year, we remain confident in our ability to deliver strong results. We do not currently see indicators of a slowdown in tech spending, and we like our position in the market. We are very pleased with the first half of 2022, and we are excited about the rest of the year. This concludes our prepared remarks. Thank you all for your time this afternoon. We look forward to updating you on our progress going forward, and we're now ready to open the call for your questions. Operator?