Constellation Software's Management Discusses Q4 2013 Results - Earnings Call Transcript

Constellation Software Inc. (OTCPK:CNSWF) Q4 2013 Earnings Conference Call March 7, 2014 9:00 AM ET

Executives

Mark Leonard - Chairman and President

Jamal Baksh - Chief Financial Officer

Analysts

Scott Penner - TD Securities

Richard Tse - Cormark Securities

Thanos Moschopoulos - BMO Capital Markets

Stephanie Price - CIBC

Paul Steep - Scotia Capital

Nikhil Thadani - NBF

Blair Abernethy - Cantor

Paul Treiber- RBC Capital Markets

Ralph Garcea - Global Maxfin

Jamie Keating - MFS

Operator

Good morning, ladies and gentlemen. Welcome to Constellation Software Inc.’s Year End Q4 2013 Results Conference Call. I would now like to turn the meeting over to Mr. Mark Leonard. Please go ahead, Mr. Leonard.

Mark Leonard - Chairman and President

Thank you, Melanie. Welcome everyone to the Q4 call. As you know, we go directly to questions. Melanie is going to provide the introduction for how to queue up those questions.

Question-and-Answer Session

Operator

Thank you. We will now take questions from the telephone lines. (Operator Instructions) The first question is from Scott Penner of TD Securities. Please go ahead.

Scott Penner - TD Securities

Thanks. Good morning. Just maybe first of all, Mark, the Q4 EBITDA margin was I think a fairly big surprise, I noticed a couple of inter-quarter accrual movements, but I guess the question I wanted to ask is should we be thinking about higher CSUs, so ex the TSS acquisition margins or is it still call it, let’s say, in the 20% to 21% annual EBITDA margin range?

Mark Leonard

So it’s a bit of a surprise for me too. Scott, the first thing I did was dive into the inter-quarter accrual one-time event type stuff. And I think we called that out fairly specifically. Jamal did a nice job of explaining it in the MD&A. So outside of that, I think there was still an increase in EBITDA margin compared to what we have seen over the last little while perhaps not back a few years ago. And the problem as always with our business is that it really is the 100 and something business units and so there is no – nothing generic happening out there that leads me to believe that we are going to see a significant increase in margins over an extended period of time. So I think it’s a blip, couple of quarters into it, I will tell, be able to tell better.

Scott Penner - TD Securities

Okay. In the TSS letter to shareholders, you mentioned that some of the businesses at TSS either have a reduced or really no vertical market component at all, is some of those businesses, I mean, are selected divestitures something we could see from the TSS business?

Mark Leonard

It’s not something we like to do. We pride ourselves in buying and holding forever businesses and believe that, that affects how we act towards them. And so our strong, strong preference is to hold things. Now, there are some businesses that were sold in the past, for instance, a hardware distribution business that related to school, where it clearly was in our core competency and something we have focused on and we ended up selling it. So I wouldn’t say it’s out of the question, but it’s certainly not a first priority. First priority is talking to the TSS people about our best practices, how we do stuff and trying to get them to think about the businesses that we do, the way we do.

Scott Penner - TD Securities

Okay. One last one for me and that is on the R&D initiatives at TSS, organic growth looks fairly low for an extended period of time in that business, do they manage and treat track initiatives similar to you and is there an opportunity in your mind to take that investment higher?

Mark Leonard

So there are multiple business units inside of TSS. They have different approaches to initiatives. One, which is kind of interesting and unique, is a group where they in essence have almost an incubator for initiatives. And so I am intrigued to study that and understand how they do it. We have tried that here as well and we sort of have a hybrid of that approach inside of one of our operating groups. So all kinds of models and approaches to doing initiatives are being tried already inside of Constellation and I welcome the opportunity to figure out what they are doing inside of TSS. It will probably be the area that we have the least influence on in the short-term, because it’s a long-term investment in many of these investments they have already launched into and they have views on how they are going to evolve, but it warrants tracking from the get-go. And so I am trying to get them to breakout initiatives and start tracking them and start forecasting how they will do with the initiatives, but they don’t anticipate that there will be any change in how they do, what they do on the initiative front for a while.

Scott Penner - TD Securities

Okay. I will pass the line. Thank you.

Operator

Thank you. The following question is from Richard Tse of Cormark Securities. Please go ahead.

Richard Tse - Cormark Securities

Yes, thank you. Mark, with TSS being one of your international acquisitions, is that kind of signal that, that’s where they were a lot of the opportunities are going to come from over the next few years here?

Mark Leonard

Well, I still see very, very significant growth in our prospects in the international area. We had a lot more leads there than we had in North America on a percentage basis. Nonetheless, we still add a ton of leads from the North American markets. So I think it’s going to be a balance, Richard. It really comes down to attractive opportunities and where they pop up.

Richard Tse - Cormark Securities

Right. And I don’t know if you can comment on this, but by region there are certain areas that you see more opportunity than others in Europe and abroad or is it pretty much equal all over the place?

Mark Leonard

I think the point I have made previously is that software tends to be a substitute for labor. And hence high labor cost areas tend to have more attractive software prospects for us to acquire.

Richard Tse - Cormark Securities

Okay.

Mark Leonard

Hence, we have not gone into developing nations as a target, an aggressive target. We are doing a few things in developing nations, but very small.

Richard Tse - Cormark Securities

Okay. And there is one follow-on for me if you look at the cost in the professional service side, it seems to be up kind of little bit more than some of your other areas of spending, is that sort of a temporary list or you need to sort of build that services organization a bit more to support some of these new acquisitions?

Mark Leonard

I am looking vacantly at Jamal right now.

Richard Tse - Cormark Securities

Okay.

Mark Leonard

My sense is in some of the groups like North American transit, they have been adding professional services staff, but I don’t get that sense generally across the board. It’s something to watch, because as I have mentioned before, I think professional services expenses are a bellwether for what happens in the business. I don’t tend to look at it in an aggregate, but if it keeps trending upwards, it probably means that the managers see within each of their businesses the opportunity to deploy professional services people, which means that they are probably installing systems, which means the maintenance is probably likely to go up. So I think it tends to be tied to economic circumstances more closely than a lot of other functions inside of software businesses. It’s not something you often hear people talk about, but I think it’s one of the better bellwethers.

Richard Tse - Cormark Securities

Okay, great. Thank you.

Operator

Thank you. The following question is from Thanos Moschopoulos of BMO Capital Markets. Please go ahead.

Thanos Moschopoulos - BMO Capital Markets

Hi, good morning. Mark, now that you have owned TSS for couple of months, can you talk about the opportunity for margin expansion in that business as you start talking to the managers and sharing your best practices with them?

Mark Leonard

Well, whenever you have intelligent managers, they of course believe that they are doing a great job. And when you come in and say there are some best practices that you might consider, they – because they are smart people can explain to you the hundreds of reasons why those best practices won’t work. So we are sort of going through that phase right now. We are trying to expose them as much as we can to the people and the practices at Constellation. I am very hopeful that over time some of those will transfer to PSS. And so my expectation and hope is that we can help them run those businesses better and presumably some of that will show up on the bottom line.

Thanos Moschopoulos - BMO Capital Markets

Okay. In the MD&A you comment that you are looking at selling a minority stake in TSS and since that’s not something that you typically do, could you provide some color on your thinking there?

Mark Leonard

It was part and parcel of the transaction. We have not historically had minority shareholders in subsidiaries. The managers and shareholders of TSS wanted that ability to reinvest. And so that was negotiated as part of the transaction.

Thanos Moschopoulos - BMO Capital Markets

Okay. And finally how should we think about management’s available bandwidth in the near term with respect to completing more M&A, so does TSS slow you down in anyway shape or form while you are digesting this acquisition or on the contrary to TSS actually sustain or accelerate your pace of M&A given that you now have more of a team in Europe that can help you identify more targets?

Mark Leonard

Well, there is certainly one school of thought that having me spending time with TSS keeps me out of the hair of the general managers at the other operating groups and hence the business will do better. And I don’t anticipate personally being involved in any large transaction for the next year or so. So it will be business as usual at head office with the exception that I will be spending time with TSS. And down at the operating groups, I don’t think they are really affected other than I am trying to get them involved in sharing best practices. So I don’t see any real bandwidth issue, Thanos in terms of TSS. Obviously, banging through the little acquisitions a year is non-trivial and the operating groups have been doing it for a few years. It would be lovely to see that ramp to 50 a year and that will be the challenge providing that integration capability the ability to bring those companies into the fold and bring them up to speed is the challenge that a lot of the operating group general managers have to deal with.

Thanos Moschopoulos - BMO Capital Markets

But is it fair to assume that since with TSS you are buying a team that had done M&A previously might that help you over a long-term scale up your M&A deployments?

Mark Leonard

As you may have noticed and I don’t recall if we called it out specifically, they have already completed one acquisition since TSS became part of Constellation. And I anticipate that they will very quickly fall into the same sort of cadence of acquisitions that our other operating groups have.

Thanos Moschopoulos - BMO Capital Markets

Great. Thanks Mark. I will pass the line.

Mark Leonard

Yes.

Operator

Thank you. The following question is from Stephanie Price of CIBC. Please go ahead.

Stephanie Price - CIBC

Hi, just a bit of a follow-up to Thanos’ question, in terms of the pipeline for larger acquisitions, are you seeing more larger deals after doing a couple of big ones this year? And what does the pipeline look like?

Mark Leonard

Two questions in there. What does the pipeline look like and what does the large company pipeline look like? Large acquisitions tend to be in the pipeline for relatively short periods of time from NDA through to close. They tend to be broker transactions. They have got a life of let’s call it a couple of months. And you run to a clock that is set by the brokers and the vendors. Hence, we don’t see those a long time before they happen. And when they do, we tend to go very quickly, because that’s how they drive you through that process. And I guess what I am trying to say is there is very little visibility on the large transactions and when they are going to happen and when they are going to enter the funnel and how quickly they will leave the funnel.

Back to the smaller transaction is the ones where we caught the owners stay in touch with them as opportunities arise, talk to them about how it might work, and then hopefully having built a relationship sort of gradually move towards an acquisition, we see those a lot further out. And right now, the funnel is not particularly robust. It’s back sort of mid last year kind of levels and have no real sense of what that means, because as we have said before, the predicted power of our M&A funnel is very, very poor. Obviously, Q4 was a big surprise compared to what we expected both on the large transaction front and on the small transaction front.

Stephanie Price - CIBC

Okay. And in terms of organic growth in both the public and private businesses, can you talk about the outlook going into 2014, organic growth has been pretty strong in the last couple of quarters?

Mark Leonard

Yes. The operating group general managers tend to be optimistic and they nearly always slip a few points of organic growth during the course of the year from what they forecast at the beginning. Right now I’d say they’re modestly optimistic and but given that history of slippage you have to look at that with a somewhat jaundiced eye. Now, there are some out lawyers where they actually hit their organic growth forecast and I went back and due to an analysis of this about a year ago. So my ability to forecast based on their forecast is limited. But I’d say if you wandered around the groups right now this has slight feeling of optimism about the economy compared to the last two or three years.

Stephanie Price - CIBC

Okay, okay. And just one for Jamal, on the – can you talk about the adjustments between the TSS income statement and the BAR in your Q4 report. I’d like to know that the TSS margins and the BAR were a bit higher than in your Q4 report, is that just translation, currency translation?

Jamal Baksh

It shouldn’t be sorry you’re saying the margins in the BAR different than in our MD&A.

Stephanie Price - CIBC

In terms of the TSS acquisition, it looked a bit higher in the BAR?

Jamal Baksh

It could be that once EBITDA – you’re doing EBITDA to EBITDA.

Stephanie Price - CIBC

Oh maybe that’s it. Okay, yes, I’ll back and look at that.

Mark Leonard

Then the other issue is capitalization of softwares well maybe.

Jamal Baksh

No. If everything else should tie like they come like it’s – the same number is going to both so it’s just be a matter of the numbers we put in the BAR tied to our financials versus the MD&A to EBITDA now.

Stephanie Price - CIBC

Yes, you’re right. That’s probably is what it does. Thanks.

Mark Leonard

Okay.

Operator

Thank you. The following question is from Paul Steep of Scotia Capital. Please go ahead.

Paul Steep - Scotia Capital

Thanks. Hey Mark, maybe we can talk a little bit about the TSS, the statement that you’re investigating or looking to adopt some of the financing techniques of maybe some of the private equity peers to compete a little more effectively for deals, certain sizes. What do you entail that sort of envisioning down the road as we go here in terms of leverage, comfort levels?

Mark Leonard

That really comes down to management, the TSS and what they want to do. I’ve seen private equity firms leverage firms to the hilt drive for cash flow, pay-down the debt, do recaps. And basically run their business around a financial model rather than an operating model. I’ve seen other private equity firms use something they call a leverage buildup where they also acquire and they build their financing facility so they can continue to acquire. And you don’t get as much financial leverage there but you get some hopefully strategic and operating leverage. And so it will be an evolving thing, Paul. This is a team that is very sophisticated and capable of doing either of those approaches and I obviously much rather to see them build the business as opposed to melt the business. And I’m pretty sure that’s where we’ll end up going.

Paul Steep - Scotia Capital

Is there the potential to go back and refinance and implement this strategy across some of the other groups in the business?

Mark Leonard

It’s for sure would be a way of financing Constellation if other sources of capital were not easily available. Right now I feel that other sources of capital are available and that we don’t need to do that.

Paul Steep - Scotia Capital

Okay, great. I guess the second one is more on management structure, you talked a little bit I think first off to Scott and maybe in one of his questions just a bit the cost and the margin. Bust as you steam towards 7,000 staff across the overall group, what about the need for additional structure or you feel like it’s pretty much just organically getting built in or sort of assuming that in the cost base as we go?

Mark Leonard

Well hopefully it’s already there because we’re over 8,000 right now. So but your underlying question is a legitimate one and that’s – how do you manage something with 100s of business units. And we’re obviously studying people who have gone before to see how they’ve done it.

Paul Steep - Scotia Capital

Fair enough.

Mark Leonard

All of our businesses are dealing with the issue right now and what tends to happen is, but many of the things inside of Constellation, we bubble up people who have both the ambition and the talent inside the organization, the roles that are increasingly large, so someone who ran the function often ends up running a business unit, someone who ran a business unit ends up running a group of business units and someone who runs a group of business units ends up running an operating group. And that’s worked well for us over the years. And I feel really comfortable with the quality of people that we have in the organization and the cultural alignment with the organization. And it means that we can run the place with relatively low overheads compared to command and control type organization.

Paul Steep - Scotia Capital

Okay. And last one from me, just maybe revisiting what we talked about I guess March 7, the last year around some of the European margins and the impact and we spent some time on that call talking about we weren’t sure how long it was going to take to bring them on plan. It seems like you made great progress there what appeared there is progress there, what’s played out I guess over the last almost now it’s a year?

Mark Leonard

So, there has definitely been progress, but it’s been uneven. Some of our European operations are doing far, far better than others and we are learning a lot about operating in Europe. I wouldn’t call as masterful yet in terms of our ability to manage European vertical market software businesses and be great owners of such businesses, but I think we are learning.

Paul Steep - Scotia Capital

Great, I’ll pass on.

Operator

Thank you. The following question is from Nikhil Thadani of NBF. Please go ahead.

Nikhil Thadani - NBF

Great, thanks guys. Mark, just going back to some of the previous questions, could you maybe talk a little bit more about some of the best practices that you could adopt as a company based on the TSS acquisition for further large deals down the road?

Mark Leonard

That’s a big question. So the most obvious thing is benchmarking. You compare business units to each other and you look at how they differ and you try and understand whether those are legitimate differences or merely differences in execution. If it’s execution, then you work on execution.

Nikhil Thadani - NBF

Okay.

Mark Leonard

It’s compensation it’s just a host of different things. I mean, it’s kind of like trying to describe a building as a whole as opposed to the individual bricks that go into it. If you pick a brick, I can talk about it, but there is an awful lot of bricks in the building.

Nikhil Thadani - NBF

Right, right. Okay, so, fair enough to say that I mean based on the TSS acquisition and the fact that there is enough bandwidth you would not be sort of constrained in any sort of way for further large deals just from a management capacity and bandwidth point of view, right?

Mark Leonard

No, I think I said the opposite of that. I personally would not be able to go work on any large transaction for the foreseeable future. I think each of our operating group managers has that capacity, but within their realm, there may only be a handful of large potential transactions that they would want to go chase, nearly what was somewhat strategic. And so there aren’t going to be a lot of those bubbling along, but it’s something in North America came along in one of our key verticals that was large, I think we do it. We would find a way.

Nikhil Thadani - NBF

Alright, great. Okay, fair enough. And just a couple of quick housekeeping questions, does TSS have any sort of expense seasonality, which is similar to what Constellation might have?

Mark Leonard

I am not close enough to their tax issues to understand whether they run into that Q1 tax and HR contribution issue that we run into in North America.

Nikhil Thadani - NBF

Okay. And just one last one then overall how should we think about the tax rate going forward, maybe not on quarterly basis, but just sort of rough ballpark?

Mark Leonard

Well, I think long-term, I would think about tax rates going up, it appears that governments everywhere are teams who shutdown whatever tax structures are available and move everyone towards the marginal rate. So as we have said year-after-year if we were to stop acquiring our tax rate would go up dramatically and we are in the fortunate position that’s right now in both the U.S., Canada. When you acquire particularly if you acquire assets you can write them off relatively quickly for tax purposes and that shields our short-term tax rate.

Nikhil Thadani - NBF

Okay, great. I will pass the line. Thanks.

Operator

Thank you. The following question is from Blair Abernethy of Cantor. Please go ahead.

Blair Abernethy - Cantor

Thank you. Mark, I wonder if you could just touch on maintenance renewal levels in the sort of December-January timeframe and the pricing environment and also how does that – how do renewals look at the TSS business?

Mark Leonard

We have so many clients that it would be very, very hard to do that on a monthly kind of basis, what we do is once a year send out a request to the operating groups and generate the stats for the year. And we usually publish that around May, early May and you will be able to sort of delve into that in some detail. There is pricing, there is attrition, there is new adds and there is acquired maintenance broken out separately and hopefully adding up to our overall net maintenance revenue.

Blair Abernethy - Cantor

Okay, great. And then in terms of software-as-a-service, you have talked in the past about maybe starting to disclose your business, your software and service offerings, what’s your thinking at this point on that?

Mark Leonard

So, we had a discussion of the board yesterday. We have the information we are reasonably comfortable that we have got it crisp enough that we could share it. I am a little uncomfortable that the cost of goods sold associated with a lot of the SaaS and hosting and transaction-based models are not clear yet to us. And hence if we tell you that SaaS revenues are X percentage of overall maintenance revenues and we can’t answer the subsequent question of whether that’s a good or a bad thing, I am not comfortable. And so we are going to get some more information before we start sharing that information.

Blair Abernethy - Cantor

Okay, great. And Jamal just one for you in the business, in the BAR report, it notes the service revenue of €166 million last year for TSS, what was – how much of that was maintenance revenues versus what you would consider consulting services or IT services?

Jamal Baksh

So in the MD&A, we breakout the different revenue streams for TSS. Is that which number you are actually referring?

Mark Leonard

Yes. I think that’s what it’s like. So, I think Blair there is more detail in the MD&A.

Jamal Baksh

Yes, like in the MD&A, we breakout license TSS hardware and maintenance occurring.

Blair Abernethy - Cantor

Okay, great. I just saw the minor breakouts. What page?

Jamal Baksh

So Page 12 of the MD&A.

Blair Abernethy - Cantor

Page 12. Great, thank you.

Operator

Thank you. The following question is from Paul Treiber of RBC Capital Markets. Please go ahead.

Paul Treiber- RBC Capital Markets

Thanks very much. Mark, I just like to pick your brain for a moment on sort of the longer term strategy and the move to financially lever deals. And so I think in your letter last year you mentioned that it will be a fundamental change to move to those type of structure. And in particular, considering the use of a standalone debt financing and that the return is below your hurdle rate if you don’t use the leverage. My question is this what you see is the opportunity or why go this route considering the hassle of having to put in place the financing structure versus your model in the past, which has been acquire a lot of small businesses?

Mark Leonard

We are going to keep acquiring a lot of small businesses. I wouldn’t see us touching this large leverage transaction market until we felt we had exhausted the small business acquisition market. So, it’s a, I would say, much less attractive business model than our core business model.

Paul Treiber- RBC Capital Markets

And so there is no décor is still in place which is the 20 to 30 perhaps 50 smaller deals per year?

Mark Leonard

Absolutely. And I would not do anything to put that at risk or to divert capital from that.

Paul Treiber- RBC Capital Markets

So is this more of a you are just putting your toe in the water and is almost an experiment at this point before delving into it at some point when the smaller market is exhausted?

Mark Leonard

Absolutely.

Paul Treiber- RBC Capital Markets

Okay. And then thinking also about these financially leveraged deals, is it probably safe to assume that you are paying closer to market rates for the assets in the smaller ones. So is there inherently more value creation opportunity based on timing the market in making opportunistic acquisitions during market duress so like in 2007-2008?

Mark Leonard

So I think two different issues there. One is I think we pay market for both. And so in the small transaction market, they tend to trade at lower multiples than very large businesses that have been optimized. In the large transaction market, usually you have had fairly sophisticated though perhaps short-term oriented shareholders owning these businesses. They may or may not have had software expertise to bring to the table. If it was a strategic acquirer and they decide that software is harder or not as good a fit as they thought, those distressed assets can be very attractive to us. If it’s an economic recession, it may not be that the software assets are suffering it could be that the parent business is suffering and they are looking for ways to free up capital.

What we discovered during the recession, John Billowits and I at the time, John was the CFO went around and visited all the private equity groups, because we thought we were going to have a heyday buying up troubled software businesses, but what we discovered was they all came through the recession in pretty good shape. So despite the fact that they were leveraged to the gills, they managed to do fairly well. So I don’t think you see a lot of distress because of financial leverage type opportunities even during recessions. I think it’s more the sort of strategic disposition market. You don’t need if you are getting them at attractive prices to leverage them up. And I think there is real benefit to not having management worry about both financial risk and operating risk. If they are focusing on building a great business as opposed to meeting bank covenants, I think they are going to do a better job of building that business.

And so financial leverage to me is a last resort as opposed to a first resort inside of our operating groups, at the parent company, it maybe a different issue as I have studied the high-performance conglomerates over the years. What I have seen is that nearly all of them have used increasing amounts of leverage over time, particularly if they are fairly diversified. And I think we have certainly qualified for that category. The trick of course is to end up with the right kind of capital in the business, capital that you feel good about that is long-term oriented and that you can live with. And that’s the challenge that I have got right now is trying to figure out what the best sources of capital for Constellation are long-term. Did I answer at least part of your question, Paul?

Paul Treiber- RBC Capital Markets

Yes, yes. And I think that the follow-on to that is I think that the comment about the dividend and your flexibility around the dividend and is that more about using it as a source of capital, if there are the right opportunities available?

Mark Leonard

Yes. The dividend has got me torn. Finance theory says if you need the cash and you are paying a dividend and there is no transaction cost, it’s a legitimate place to go and raise capital so to speak. At the same time, we feel this obligation to the people who came in to help us transition out our private equity shareholders two or three years ago or over that period of time to maintain the dividend, because that’s one of the things that attracted them. And so we are torn between sort of two poles. However, what I wanted to do is signal to shareholders that the dividend is always up for consideration by the board if we were to stumble across an attractive acquisition for one of our – in one of our key verticals and needed the capital, we would sacrifice the dividend. Absolutely.

Paul Treiber- RBC Capital Markets

Okay. And just lastly on TSS specifically, it seems like they in the past is looking at their past annual reports, they had a slightly different strategy than the way you have run your business, I think they use a little bit more integration of the units and more sort of like a branding strategy across the units. From a philosophical point of view I mean do you think that you see that model changing towards the way you run the business more or is that – are they deadset on that strategy on the way they run their business or is it sort of a blending of the two?

Mark Leonard

We’re quite different in our approaches to branding and things of that. What I find wonderful is there intelligent open to rational argument and I suspect will end up somewhere in between although I’m not about to end up with a pink and blue logo.

Paul Treiber- RBC Capital Markets

Okay, alright. Thanks, thanks very much. I’ll pass the line.

Operator

Thank you. The following question is from Ralph Garcea of Global Maxfin. Please go ahead.

Ralph Garcea - Global Maxfin

Good morning Mark. And I mean just looking at your pipeline going into 2014 versus last year. Are you seeing better quality targets that need less restructuring as you sort of take a first look at these companies or the quality sort of remains the same year-over-year?

Mark Leonard

So this is one of the debates that comes up with the board over time which is should we buy quality companies or companies that are of great value. And I think we have the capacity to do either, but we tend to fall into natural categories. So the businesses that people have built over 20 or 30 years that are independently owned by founders tend to be high quality businesses. They love their clients, their products and their people and they pour usually the proceeds of their business back into building those things. Hence they’re inherently high quality businesses. A business that has been a subsidiary of larger business and has been sold – has been mismanaged let’s say.

Ralph Garcea - Global Maxfin

Yes.

Mark Leonard

And it’s been sold in distressed often has lost some of it’s franchise, some of it’s key employees, some of it’s products have gotten longer and they’re too thin and will be more of a long-term challenge. So those are the two sort of broadest categories you tend to run into.

Ralph Garcea - Global Maxfin

And what do you see in more of this year versus last year or is it the same or…

Mark Leonard

I would say mostly we’re seeing the mom and pop businesses that a 25 to a 50 people maybe a 100 people that have been built up over the years; they tend to be nice businesses there.

Ralph Garcea - Global Maxfin

Okay, excellent. And then on the vertical side I mean where are you seeing the highest opportunity for growth, healthcare, automotive, logistics as you sort of look at the private sector opportunities?

Mark Leonard

We tend to be kind of cyclical so we’re usually looking for the things that are suffering right now. And so there aren’t many unfortunately sectors that are suffering, but if there is one we’re probably looking.

Ralph Garcea - Global Maxfin

Okay. Thank you.

Operator

Thank you. The following question is from Jamie Keating of MFS. Please go ahead.

Jamie Keating - MFS

Thanks very much. I wanted to follow-up on Paul’s line of questioning and I dearly hope you didn’t answer this, I might have missed some of the answers, Mark, but other than keying on size and the considerations related to size on the need or desire for debt. I wonder if you could just focus on the idea of complexion of the deal and whether maintenance and events is having been such a great model. With the incursion of more SaaS may change the complexion of the acquisitions and therefore the cash flow dynamic such that debt maybe more of a requirement. Is that a consideration?

Mark Leonard

It certainly would affect the economics of whatever business we buy. But there are some heartening trends out there in the industry. So the original promise of SaaS was pay as you go and a lot of the models were monthly pay. And what we’re seeing is that sales forces started to change the way they’re charging and source that and I can’t remember where, but I think it’s said between 80% and 90% of their revenues are now annually in advance. So the economic model of SaaS I think is recognized that it’s a way better to collect the doe in advance. And with the leader in the SaaS world going there I think others will follow and so I am hopeful that, that will become the norm in the industry and that it won’t be any different from a normal conventional maintenance model from an economic perspective.

Jamie Keating - MFS

Thank you, Mark.

Operator

Thank you. (Operator Instructions) The following question is from Scott Penner of TD Securities. Please go ahead.

Scott Penner - TD Securities

Thanks. Just Jamal, I wanted to kind of pin you down a bit on the tax rate at least on the income statement. I think in the past you have said 10% to 15% and then it will probably creep towards the high end of that range, what – I mean is that commentary is still hold with the combined company in the next year?

Jamal Baksh

Yes, definitely. I mean, the tax rate at TSS average is probably higher than what CSIs was, so that wouldn’t bring it down by any means or yes, it’s not – materially not to bring it outside of that range.

Scott Penner - TD Securities

Okay. And lastly the – any worthwhile commentary would give rise to the bargain purchase gain in the quarter? Is that more of an accounting construct than anything else?

Jamal Baksh

Yes, again, it’s just an acquisition we found where the assets weren’t of value to the seller, but are of value to us.

Scott Penner - TD Securities

Okay. Alright, thanks Jamal.

Operator

Thank you. (Operator Instructions) There are no further questions registered at this time. I would like to turn the meeting back over to Mr. Leonard.

Mark Leonard - Chairman and President

Thank you for joining the Q4 call. We are always happy to meet with shareholders. So, if would like to meet in person, just give us a call and we’ll make the time to see you at our office. Good bye now and we’ll talk you on the Q1 call. Thank you, Melanie.

Operator

Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.

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