ARC Document Solutions' (ARC) CEO Suri Suriyakumar on Q2 2015 Results - Earnings Call Transcript

May 05, 2015 9:53 PM ETARC Document Solutions, Inc. (ARC)
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ARC Document Solutions, Inc. (NYSE:ARC) Q2 2015 Earnings Conference Call May 5, 2015 5:00 AM ET

Executives

David Stickney - VP of Corporate Communications and IR

Suri Suriyakumar - Chairman, President and CEO

Dilantha Wijesuriya - COO

Jorge Avalos - CAO

Analysts

Matt Blazei - Lake Street Capital Markets

Operator

Please stand by, we are about to begin. Good day and welcome to the ARC Document Solutions Second Quarter Earnings Release Conference Call. Today's conference is being recorded. At this time I would like to the turn conference over to Mr. David Stickney, Vice President of Corporate Communications. Please go ahead.

David Stickney

Thank you, Michael and welcome everyone. On the call with me today are Suri Suriyakumar, our Chairman, President and Chief Executive Officer; Dilo Wijesuriya, our Chief Operating Officer and Jorge Avalos, our Chief Financial Officer.

Our first quarter financial results for 2015 were publicized earlier today in a press release; the press release and other company releases are available from our Investor Relations pages on ARC Document Solution's website at ir.e-arc.com.

A taped replay of this call will be made available several hours after its conclusion. It will be accessible for seven days after the call. The dial-in number is in today's press release. Per our usual practice, we are webcasting our call today and the replay of the webcast will also be available on ARC's website.

As a reminder today's call will contain forward-looking statements that fall within the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 regarding future events and the future financial performance of the company, including the company's financial outlook. Bear in mind that such statements are only predictions. And actual results may differ materially, as a result of risks and uncertainties that pertain to our business. These risks are highlighted in our quarterly and annual SEC filings.

The forward-looking statements contained in this call are based on information as of today, May 5, 2015, and except as required by law the company undertakes no obligation to update or revise any of these forward-looking statements. Finally, this call will contain references to certain non-GAAP measures; the reconciliation of these non-GAAP measures is set forth in today's press release and in our Form 8-K filing.

I will now turn the call over to our Chairman, President and CEO, Suri Suriyakumar. Suri?

Suri Suriyakumar

Thank you, David and good afternoon everyone. As you've seen in our earnings report earlier today, ARC Document Solutions got off to a good start in the first quarter with sales growth across all three of our service lines. Managed Print Services and Archiving Information Management both delivered solid increases and despite the harsh winter conditions in half of the country our construction document and information management business experienced meaningful growth as well.

Sales from equipment and supplies, sale in the first quarter due to software sales in the U.S. and in line with the continuing trend of our customers adopting in PF over outright equipment purchases. Along with this consolidated sales growth ARC delivered 70 basis points of improvement in our consolidated gross margin. Data sales, our continuing focus on cost control and a business mix weighted to our technology enabled services, delivered the continuing expansion we expected. Our sales and margin performance led in turn to another quarter of solid [adjusted PF] improvement.

The investments we have made in sales, marketing and training over the past, few two quarters continued into the first quarter. Training our teams to sell our new solutions and educating our customers on our current capabilities are two critical elements for a market which is going through a transformation. Even with the investments these necessary measures require we increased our EBITDA by 4%, matching our year-over-year growth in sales.

Given that our performance is in alignment with the expectation, we've set in our forecast just a few months ago, our outlook for 2015 remains unchanged. We are forecasting annual adjusted earnings per share to be in the range of $0.37 to $0.41 on a fully diluted basis. Our outlook for annual adjusted cash flow from operation is in the range of $61 million to $66 million. Our outlook for annual adjusted EBITDA is $75 million to $80 million.

What I'm most pleased with this quarter is how we report our revenue category. This is now in full alignment between what our customers need, how we sell and how we report. Our new revenue category, simplify and logically organize the solutions we offer in three different settings. Management services or MPS as we call it; addresses the current document and information management in our customer's offices, AIM addresses the legacy document and information management and CDIM addresses the document and information management for project oriented work.

As many of you know, in our recent Investor Day, we showcased a wide variety of solutions that make up our portfolio of offerings. The feedback we received after the event strongly suggests that our new reporting structure will help our investors better understand our business as well as to understand where we are headed in the future. As for now though there is much to do.

While the outlook for non-residential construction remains generally positive, the results of the oil and gas flat earlier in the year are starting to play out and some questions around the general economy are beginning to emerge. It comes as no surprise then that many of our customers and prospects have increased their interest in solutions like MPS and AIM due to their potential to reduce the cost of the operation and increase efficiencies around document management, distribution and production. These issues that is reducing cost and increasing efficiency are of course the core and the primary value proposition for each of our solution and we intend to capitalize on our customers' interest.

The sales pipeline for all of our services is healthy and in line with our expectation for the year.

Global Solution continues to actively engage our largest prospects and our regional sales team while brand new and only recently full staff is making good strive in identifying new business and engaging new prospects. As our growth in the first quarter implies, new end customers are also emerging across country in both construction setting and in facilities and property management. We are continuing to develop and enhance our services to meet the needs of a larger and more diverse customer base. '

With CDIM we continue to explore the opportunities of a changing product landscape. The hybrid nature of document management on job site continues to challenge the requirement of our customers and we are pleased to be able to meet their needs in both digital format and to provide traditional services when required. Few construction industry partners, if any offer as broad a technology and service portfolio as ARC does and our presence in this market remains strong and vital.

With that as a brief overview of our position after the first quarter, I will turn the call over to Dilo our COO and then of course Jorge our CFO who will provide some color on the numbers. Dilo?

Dilantha Wijesuriya

Thank you Suri. Management Services continues to drive ARC's business reporting a sales increase of approximately 9% for the period. Growth in the first quarter came from new sales and a mix of continuing rollout for our Global Solutions customers. As Suri mentioned, we continue to remain MPS contractor at local and at regional level but ARTC's MPS solution remains compelling for our largest prospects.

In the first quarter we won a four year exclusive engagement with -- a large well established architectural firm with 28 offices in the U.S. and several other locations worldwide. We will begin rolling out locations for the firm over the next several months. Our cost tracking and print management software Abacus was instrumental in securing the customer. With the opportunities being so numerous we are expecting great results from our regional accounts team. We continue to leverage our national and international footprint, our Abacus technology platform and our unique brand agnostic equipment offering to win customers in the AC vertical.

Archiving and information management also grew roughly 9% in the first quarter. Win for AIM continued to come from wide variety of customers who manage infrastructure related documents and information. City and state agencies and school districts have been notable customers in our recent wins. Our PlanWell archive cloud services are uniquely positioned in the market place. We are one of the only service providers who are able to capture, store, manage, review and distribute various architectural and engineering file types. Because we can sell this solution as a turnkey offering complete with consultancy services and flexible software platform, our customers don’t have to choose expensive, discrete and higher customized solutions that take a long time deploy and use.

Within a few weeks of beginning of project, most of our customers can have cloud access to their archived information as it's being built. Few, if any of our competitors can offer anything any close. The benefits we offer around AC documents however are only part of the story. Our solutions extend to other types of documents as well. Customers who have started an AIM project with infrastructure related documents are now looking at other more conventional documents to add to the cloud. Accounting, marketing and legal documents are common examples. Our ability to store and maintain all our customers' current project documents, business documents and legacy documents in one place with a single log in is unique, so it is no surprise to see how quickly our customers are willing to expand their idea of how we can be of service.

CDIM sales grew 2.4% year-over-year while we experienced some disruptions in January and early February due to weather, it wasn't as severe as what we saw in 2014. Demand is still compelling in the AC space but the mix of services we provide changes with each new customer we acquire. The continuing use and next experimentations with mobile application, tools like our [SmartPaint] and the variety of both input and output devices creates a dynamic sales environment. Once again, few of our competitors if any, can provide the diversity of product, support and hands-on service that ARC can.

Our sales team finished the initial training in January on SKYSITE. We also pursued a vigorous public relations program and raised awareness across many of the markets we serve. As a reminder SKYSITE is a complete cloud based workflow for project document using computers, tablets and other mobile devices to manage, distribute and share our information. As you might imagine with the new application the bulk of our early adopters are taking advantage of free trial version. But with more than 1,000 trials signed up today, they're quickly gathering data on customer preferences, usage pattern and other information to help us build on the early excitement of the product. Other technology solutions such as hyperlinking and [planwell smart screen] continue to gain significant fraction with our customers and support our paperless workflow.

In terms of our investment in sales and marketing our resources have been applied to a wide variety of events and purposes. We have exhibited at 15 industry association trade shows and other marketing events in the first quarter. We are conducting regular open houses at our service centers to introduce our customers and prospects to our new technology services. And we're using web based and email marketing technology to reach across our prospect space.

In addition we've brought on dedicated product and business development managers for each of our new sales categories. Finally we've hired and trained regional solution consultant to help identify new custom opportunities and support the sales team itself. We have strengthened our product, enhanced our team and set the bar for success. While there is always more to prepare for, ARC is at a point where I simply time to execute another plan. I look forward to telling you about our continuing success as the years unfold.

At this point I'll turn the call over to Jorge, for a review of our financials. Jorge?

Jorge Avalos

Thanks Dilo. Before we run through the numbers I wanted to offer our listeners a breakdown of our previous sales reporting format and our new sales category. This will likely help in adjusting model and give everyone an idea of how we keep about approaching the market with our service. Our MPS category includes our previously reported onsite services as well as sales generated from the servicing of equipment, which have been included in traditional reprographics. Sales generated from our AIM services have been split out from our previously reported digital services category and presented separately. The remaining sales generated from Traditional Reprographic, Color Services and Digital Services have now been combined in to CDIM.

Equipment and Supply sales remained unchanged. Like our previous sales category, we have directional estimate for growth margin on each of the new category. We estimate them and do not report that formerly a part of an audited financial, because we share resources such as equipment, facilities and labor across all our revenue lines. With that said, we believe the range of gross margin for MPS is between 32% and 35%, gross margin for AIM is in the range of 35% to 38%. CDIM of gross margin is in the range of 37% to 40% and the range of equipment and supply sales gross margin remains at 18% to 21%. These estimates represent our current [CEG] and we may update them after we get a few more quarters under our belt with the new reporting structure.

Moving on to our first quarter results, our consolidated sales growth allowed us to better leverage our fixed cost and labor while staying focused on controlling our variable cost and making the most of a better business mix. This resulted in a 70 basis points improvement in gross margin for the first quarter of 2015 compared to prior year.

This level of improvement is in line with our expectations for 2015 and exemplifies our ability to expand margin with any reasonable improvement in sale. Our SG&A increased approximately $1.3 million, reflecting both the increase in sales related items such as commission, as well as planned investment in sales and marketing. As Dilo pointed out, this included some hiring which occurred primarily in the last half of 2014. Hence the year-over-year comparison will be more meaningful in the second half of this year.

The 53% year-over-year gross and interest expense continues to demonstrate the power of our new capital structure. Currently we expect quarterly interest expense for the rest of the year to be within the same range as the first quarter interest expense. This will provide us with strong year-on-year comparison throughout 2015. Our cash taxes remain minimal, under 300,000 for the first quarter of 2015 given our cumulative net operating losses from prior year. So for modeling purposes we recommend a pro forma tax rate of approximately 39.5% for 2015.

Moving to the bottom of the income statement. Our adjusted earnings per share of $0.07 represent significant growth for the period, again due to our sales growth, gross margin expansion and the lower interest on the new term loan. Adjusted cash flow from operations in the first quarter of 2015 was 6.4 million as compared to 8.1 million in the first quarter of 2014. The decrease is due to the timing of sales and collection of the receivables during the period. This is reflected in our DSO which stood at 57 days for the quarter as opposed to 53 days for the same period in 2014. The quality of our receivables remain strong and we expect DSO to decrease significantly in the second quarter of 2015.

As was the case in 2014, cash flow from operations will accelerate during the remaining quarters of 2015. Adjusted EBITDA for the quarter was $16.8 million, a 4% increase nearing our sales growth for the period. As noted in our press release we achieved EBITDA growth despite our planned investment in sales and marketing. It is also worth mentioning that this quarter's adjusted EBITDA includes a one-time expense of 350,000 and severance compensation to our former CFO. Were we to exclude it, adjusted EBITDA growth for the period would have been 6%, outpacing our sales growth.

With our continued financial improvement and aggressive debt pay down, we have achieved a significant improvement in our debt-to-adjusted EBITDA ratio which now stands at 2.7 times as compared to 3.2 times a year ago. Much of what we see in the financials for the first quarter has set the stage for the year. Most of our base metrics such as SG&A, depreciation, tax rate and interest rate are likely to remain stable through 2015.

As Dilo said, our test this year is to execute and deliver on the opportunities we've created and that's exactly what we intend to do. Suri?

Suri Suriyakumar

Thank you Jorge. Operator, at this time, we are available to take our callers' questions. Please go ahead.

Question-and-Answer Session

Operator

Thank you very much. [Operator Instructions]. We will take our first question from Matt Blazei with Lake Street Capital Markets.

Matt Blazei

Just a question for you. I was just recording your comments about the 1,000 trials that are signed up with the SKYSITE products and that I assume that's all been in the last three months?

Unidentified Company Representative

Yes indeed. Most of the trials have been, you know they kicked off, what the date of kick off was?

Suri Suriyakumar

It was the end of January so most of the trials are coming, came along in February and March.

Matt Blazei

And what sort of penetration of that is your current, of your current customer base?

Suri Suriyakumar

I would say mostly, most of the customers that we have start up the trials are existing customers, we also have a good percentage that we have penetrated customers that haven't done any business with us in the past as well.

Matt Blazei

And is there a length of time on these trials? I guess what I am trying to get to is when do they start if they are going to convert, when would they start converting into potential contracts and revenue generation?

Suri Suriyakumar

Typically we are looking at about 60 to 90 days at trials and before they become a paid customer.

Matt Blazei

So potentially we could be seeing SKYSITE contracts in the second half of the year?

Suri Suriyakumar

From Q2 onwards we should see conversion of customers but it will start of small as you know customers do take little time to convert but we should see some early adopters in the Q2.

Matt Blazei

And is that also on the CDIM line, the revenue bucket?

Suri Suriyakumar

Yes, it is -- whatever SKYSITE revenue will come into CDIM bucket.

Matt Blazei

Got it, okay. And one second question. It sounds like you are still staying relatively cautious on the end markets on the non-res construction market, is that a good read on that or are you still assuming no growth in …?

Suri Suriyakumar

No, that's a good read Matt, I think that’s pretty much the way we are looking at the market, you know it's exactly what we expected, when we actually gave the guidance earlier in the year. So I don’t think anything has changed, it's pretty much in line with whatever expectations are, then we are hoping it will stay the same way. I mean we haven't see a whole lot of vibrant new activities in the non-res market, it's staying somewhat neutral in that sense and the fact that the oil price you know kicked in a little bit -- growing a little bit of range there as well. So we certainly think the market is just going to stay like that and continue for the rest of the year. We don't see any signs of aggressive growth or neither do we see it falling off.

Unidentified Analyst

Because there are some people that'll look at and say the AIA index which is been positive as you know for at least nine consecutive months now as a precursor to increasing construction activity here starting relatively, say second half of '15. What is your read on those sorts of surveys?

Suri Suriyakumar

Yes, I think the AIA definitely is an early indicator, there is no question about that, because obviously you have the architectural and then design and then bid and then go into the bill phase, so I don't think that's inaccurate, I mean directionally I think they're right. There's certainly a lot of green shoes and there are positive activities with regard to the design part of the activity which is going on there and we certainly hope they'll all stay on track and become real projects. I mean the outlook is positive there's no doubt, but we don't a whole lot of activity on the ground yet.

Operator

[Operator Instructions]. We'll go next to Peter [Luber] with [Post Street] Capital

Peter Luber

Just a little color on the MPS pipeline, what you guys are seeing in that pipeline right now?

Suri Suriyakumar

Right, so MPS we have, Peter you might have known that we break that down in to three different segments, one is we take that as the global customer and then we have regional customers and the we have the local customers which is actually in each of the divisions we've signed them up. They are the smallest of the lot. So the local customers we've signed up, I think, I'm just looking up those numbers here, last year -- last quarter one full -- the first quarter we did a 155 new contracts bringing our total number of contracts to 8,655. Those are the four machines, three machines, five machines, the real small customers. So they've played down 8,655. The regional accounting team, which goes after customers who are in multiple states, we just kick that off. We have, the pipeline is pretty healthy, it's starting to get filled up.

With regards to the global customer, its strong, it is just there isn't flow as much. We signed one up in the first quarter, which is what I think Dilo talked about daily, which is the good sign, we'll see more, obviously we can't talk about the specific customers, given the competitive nature of the business but that customer pipeline is pretty strong, it’s a question of how fast they come on board. Larger customers which are generally global customers, more to them billion dollars plus in terms of revenue, it takes a while to sign them up and implement them. But the interest in our product is really strong.

Unidentified Analyst

What do you guys think was the important aspect of the contract that got the one big customer over the finish line?

Suri Suriyakumar

So, importantly, the whole idea, I think at this point of time, what we focus on is our ability to actually streamline and actually improve the efficiency and reduce the cost for our customers, that's a big, big hot button for almost all of our large customers, everybody is looking to actually improve efficiencies, reduce cost and of course transitioning to digital is also a big topic these days. People are using, getting more and more accustomed even in the large companies to using digital technologies to be able to attract share [sole] document. So the one which takes us all the [humpiest] of fact that we can help them with their cost recovery that is very, very critical in the construction space, we can improve their efficiency and really streamline and consolidate their fleets and reduce their cost, those we can do them better than most of our competitors.

Operator

And there is no further questions in queue. I would now like to turn the conference back to David Stickney for closing comments.

David Stickney

Very good, thanks Michael, ladies and gentlemen, we appreciate your attention this evening and your continued interest in our document solution. Have a great night.

Operator

And ladies and gentlemen that does conclude today's conference; we thank you for your participation.

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