Creative Realities, Inc. (CREX) Earnings Call Transcript & Summary

Good morning. This is Will Logan, Chief Financial Officer of Creative Realities, Inc. Welcome to our first quarter 2022 financial results and earnings call. [Operator Instructions] The company has prepared remarks summarizing the Q1 results, along with additional industry and company updates. The company's prepared remarks will include a brief overview of our financial results, which can be seen and heard through this webinar by logging into the joinwebinar.com and entering the meeting ID 618-107-963. Following the company's prepared remarks, there will be a live question-and-answer session. [Operator Instructions] This call will be recorded, and a copy will be available on our website at cri.com following the completion of the call. Joining me on the call today is Rick Mills, CEO of Creative Realities Inc. I'd like to take this opportunity to remind you that our remarks today will include forward-looking statements. The words anticipate, believes, expects, intends, plans, estimates, projects, should, may, propose and similar expressions or the negative versions of such words or expressions as they relate to us or our management are intended to identify forward-looking statements. Actual results may differ materially from those contemplated by these forward-looking statements. Factors that could cause these results to differ materially are set forth in our quarterly financial statements on Form 10-Q and in our annual report on Form 10-K filed with the SEC on March 22, 2022. Any forward-looking statements that we make on this call are based on assumptions as of today, and we undertake no obligation to update these statements as a result of new information or future events. During this call, we may present both GAAP and non-GAAP financial measures. A reconciliation of those GAAP to non-GAAP measures is included in our public filings and in our earnings release that was released yesterday. It is now my pleasure to introduce Rick Mills, CEO of Creative Realities Inc.

Thanks, Will. Good morning, everybody. I want to start this call and just tell you that we're very pleased to announce record Q1 2022 revenue of $10.8 million. That's a $5.8 million increase or 115% year-over-year. Revenue from our core digital signage and services increased $6.8 million or 133% over 2021, and our annual recurring revenue is at a record $13.5 million run-rate at the end of Q1. These results are in line with our previously stated expected targets of $43 million this year in revenue for 2022, and we expect to end the year at an ARR run rate of $15 million heading into 2023. Will Logan and I are going to provide more detail around our Q1 results as well as expectations for the balance of 2022. But first, I would like to build on thoughts I have shared on our previous earnings calls. On our last call, I discussed in some detail who we are and what we do. I did so because we have just completed a merger with Reflect Systems, which added important new capabilities in a number of new investors and shareholders. It is my understanding that many people found this to be incredibly helpful. So today, I'd like to build on that discussion by articulating our strategy for value creation for all of our shareholders. First, I will briefly recap what I said on the last call. I talked about all the things that we do in the digital signage industry and importantly, several key high-value adjacencies. I detailed how we sell and install digital signage, display technology devices as well as provide a considerable array of services that build off this installation services business. We own several proprietary software platforms, which generate significant Software-as-a-Service or SaaS revenue. We serve market-leading companies across many prominent verticals. And if you leave your home today to shop, work and eat, play, it's highly likely you will encounter 1 or more of our digital signage experiences. We have a number of revenue sources with the first and foremost being managed services. These revenues primarily represent sticky long-term contractual agreements comprised of subscription licensing and support services for our digital signage software platforms, which is sold through a subscription or SaaS model. Other services include assisting our customers in the hardware design and engineering of their solution to fit the specific space, and that includes hardware installation, content development and content scheduling. We also provide post-deployment network and field support services, which we commonly refer to as day 2 services. Through our merger with Reflect, we acquired an additional revenue stream. A media sales and add traffic in the business through which we conduct the direct and indirect sourcing of advertising revenue for client-owned networks. This is both a critical technology demanded by the advertiser and digital-out-of-home community and a capability for the company's entry into a high-margin, high-growth space to deliver network monetization products for our clients. Finally, we sell the hardware itself, primarily screens, media players and related items, and we're currently managing in excess of 120,000 endpoints. The combined devices that we are managing or touch with our network today exceeds 300,000. Thus, I'd like to underscore that we indeed are a software-as-a-service company. We focus on increasing the number of managed devices and leveraging our subscription-based signage platform related services, delivering ads on ad-supported networks. This extended product set ultimately results in driving higher annual recurring revenue through an enhanced and broader software lineup. That's really what we're all about. We sell the hardware and install it ultimately to end up with the SaaS subscription, managed services and media sales revenue follow-on. On our last call, we discussed the cross-section of all the products and services that we supply. It's about a $20 billion industry. Projected growth rate to that industry is in the 8% to 12% over the coming years. And as you all know, our projected growth rate far exceeds the industry average. We're excited as to how our company is now even more favorably positioned to acquire and defend significant market share in a highly fragmented industry, owning to our extended product set, technology stack and importantly, our people, all driven by this very compelling business model. We believe we are built for scale and ultimately profit and free cash flow. We addressed this on the last call and are summarizing again to reinforce how we will use this competitive advantage for the benefit of all of our shareholders. I'm pleased to share our 6-point plan for value creation that is the focus of the company's strategy and multiyear strategic thought process and planning. Our value creation focus will be to do the following: number 1, grow revenue; number 2, improve margins; number 3, grow annual recurring revenue or SaaS and translate that ARR to EBITDA and free cash flow; number 4, reduce our debt leverage ratio; number 5, sustained and consistent focus on investor relations activities, folks on traveling all over; number 6, opportunistically pursue accretive M&A, if appropriate. I'll discuss specifics around each of these value creation points after Will Logan provides the Q1 '22 results. For the Q1 202 review, I'll turn it back over to Will Logan.

Thanks, Rick. I will now summarize our financial results for the 3 months ended March 31, 2022, as compared to the same period for 2021. Regarding the 2022 results, we note that the MD&A section of our quarterly report on Form 10-Q provides unaudited quarterly financial information derived from the company's annual and quarterly financial statements. We've also provided a reconciliation of GAAP net income to non-GAAP quarterly EBITDA and adjusted EBITDA for the current and previous 4 quarters therein as well as our earnings release filed yesterday. As I review the quarterly financial information, all references to 2022 and 2021 represent results for the 3 months ended March 31 for each period, unless specifically indicated otherwise. Our revenues were $10.8 million, representing an increase of $5.8 million or 115% as compared to the same period in 2021. Revenues generated from our core digital signage products and services increased $6.6 million or 133% in 2022 as compared to 2021. Despite continued supply chain disruptions related to semiconductor chips, delaying the delivery of digital displays and media players to the company. The supply disruption for digital displays prevented the company from delivery of hardware and execution of installation activities during the quarter of about $1.2 million that revenue has not been lost, but rather simply shifted to 2Q 2022 delivery. CRI acquired Reflect on February 17, 2022, and the company's consolidated results for the 3 months ended March 31, 2022, include 44 days of Reflect's operations. As the company has completed the merger as of December 31, 2021, the combined company would have revenue in excess of $12 million during the 3 months ended March 31, 2022. Hardware revenues were $6.5 million in 2022, an increase of $3.6 million or 129% as compared to the prior year. Services and other revenues were $4.3 million in 2022, an increase of $2.1 million or 96% with the inclusion of 44 days of Reflect in the consolidated results. Managed services revenue, which includes both our Software-as-a-Service, SaaS and help desk technical subscription services were $2.7 million in the 3 months ended March 31, 2022, as compared to 1.3% in the same period in 2021, which included $0.8 million contributed by Reflect for the 44 days from February 17 to March 31, 2022. The company's annual recurring revenue run rate now exceeds $13.5 million as of March 31, 2022. Gross profit increased by $1.7 million or 74% and driven by an increase in revenue, but offset by a slight reduction in gross profit margin. Gross profit margin decreased to 36.2% from 44.6% driven by a shift in revenue mix to 60% hardware in the first quarter of 2022 related to material customer rollouts that are actively underway. We expect this contraction in gross profit margin to be less severe as we move forward into the second quarter of 2022 and beyond with significant pressure in the current quarter, driven by a single large-scale hardware-heavy deployment. With respect to our operating expenses. Sales and marketing expenses increased by $0.4 million or 111% from $0.3 million to $0.7 million in 2022, driven by the acquisition of Reflect during the period. Immediately following the acquisition of Reflect, the company integrated the sales and marketing functions and does not disaggregate these expenses between the 2 legacy companies. Through the acquisition and integration activities, the company has adopted certain tools, technologies and processes particularly with respect to digital marketing utilized to generate demand and qualified sales leads that were only minimally invested into by Creative Realities in the past. Additionally, the company formally engaged an investor relations firm and has increased investor relations activities, including conferences and presentations. As a result, we expect the sales and marketing expenses of the combined company to continue at the current pace for future periods. Research and development expenses increased $0.1 million or 41% in 2022 from 0.1% during the 3 months ended March 31, 2021 to $0.2 million during the 3 months ended in 2022, driven primarily again by the acquisition of Reflect. Through the acquisition of Reflect, we acquired a fully staffed, experienced software development team and elected to retain these resources intact in full particularly given employment market conditions with respect to talented software engineers. We have integrated the preexisting CRI development team with the acquired team and have experienced speed to market on feature and functional functionality development activities from enhancing this resource pool. We expect this elevated level of expense to continue into the future as we continue to develop our current and future product set. Our general and administrative expenses, excluding bad debt expense, increased $0.6 million or 31% from $2.1 million during the 3 months ended March 31, 2021 to $2.7 million during the 3 months ended March 31, 2022. While the company anticipates carrying higher general and administrative expenses moving forward as a result of the acquisition of Reflect, the integration activities include several projects that we expect will be realized by the end of 2022 and will produce flattening or reducing general and administrative expenses over time. Bad debt expense returned to a normalized rate of $0.1 million during the 3 months ended March 31, 2022, representing an increase of $0.6 million as compared to the prior year as a result of a bankruptcy recovery in the same period in 2021. Our general and administrative expenses also included $0.6 million in noncash stock compensation expenses. When looking at our operating loss, and net income and EBITDA. Our operating loss was $1 million during the 3 months ended March 31, 2022, which included the following $1.7 million in noncash charges. Amortization of intangible assets was $0.7 million was $0.4 million, the result of 1/2 of 1 quarter of incremental amortization related to intangible assets recorded during the acquisition of Reflect. Those assets are still going through a formal third-party valuation and may be updated in the second quarter. We incurred deal and transaction costs of $0.4 million and expenses incurred to facilitate the Reflect acquisition and related financing activities, which should minimally continue and dissipate through the second quarter. We had noncash employee and director stock compensation expenses of $0.6 million for both time and performance vesting options in the current year. Our net income was $2.5 million during the 3 months ended March 31, 2022, and included a $5.5 million gain on marking outstanding warrants to fair value, a $1.2 million noncash charge related to the issuance of warrants in exchange for a debt waiver, a $0.5 million of interest expense $0.2 million of which represents noncash amortization of debt discount recorded in conjunction with the issuance of warrants, and $0.3 million loss related to amending and extending our debt facilities. EBITDA was $4.1 million in 2022 with adjusted EBITDA of $0.6 million, bringing our adjusted EBITDA margin to 6% during the period. A couple of other quick notes on transactions in the period. Through our debt and equity offerings to facilitate the Reflect transaction, we issued certain warrants that were deemed to be classified as liabilities for accounting purposes. From the date of issuance through the end of the first quarter, we recorded a gain on marking those warrants to fair value at the balance sheet date. The company is evaluating its ability to mind these instruments to alter their balance sheet classification for accounting purposes only, which would not impact their life or strike price. In executing our debt offering, we issued warrants to certain equity holders, which resulted in a noncash P&L charge of $1.2 million in the period as a result of Black-Scholes calculation of the grant date fair value of those awards. We would not expect that to repeat in future periods. Lastly, the company incurred numerous costs associated with the M&A activities and its debt and equity financings, 2, total deal and transaction costs were $0.4 million in the first quarter of 2022. These primarily represent onetime transaction-related expenses, which we do not expect will recur. We expect some immaterial remit expenses in the second quarter associated with audit and tax-related activities, but then expect those to dissipate for the rest of the year. For balance sheet highlights. The company's unrestricted cash position as of March 31, 2022, was approximately $6 million, which we believe, when combined with our accounts receivable and SaaS contract billings provides sufficient cash runway to service our debt and operate our business moving forward. The company also produced a net working capital surplus of approximately $2.2 million as of March 31, 2022. At this point, I'll turn the call back over to our CEO, Rick Mills.

Thanks, Will. Great detail. Now everyone -- now that you've got the Q1 financial update. Let's take a moment and discuss each of our value creation points in more detail. Number 1, we talked about grow revenue. Growing revenue may seem like a fairly obvious objective for any growth company. We believe the platforms that we have assembled have put the company in a position to enjoy revenue growth rates in excess of the industry norms in 2022 and beyond. As Will Logan just detailed, this is already evident organically and strategically with our Q1 results, a previously provided fiscal year 2022 guidance of at least $43 million in revenue, which is 40% lower than the 30.7% 2021 pro forma combination of CRI and Reflect. We believe this classified us as a rule of 40 SaaS company. We reiterate this guidance with confidence and see the number climbing above $50 million in 2023. We expect to provide formal guidance for 2023 as we approach year-end. Number 2, the second point, improved margins. We have previously communicated expectations for an adjusted EBITDA margin of approximately 5% of revenue for 2022. EBITDA for Q1 is impacted by a number of onetime merger transaction expenses and other related items as detailed by Will. We expect ongoing margin expansion throughout the year as these effects subside and do not reoccur. Additionally, there are other effects that will continue to drive margin improvements. We fully expect to reach our synergy target for the CRI merger or CRI, Reflect merger by the end of the year, and also, please keep in mind how hardware sales, which produce additional SaaS media sales and other high-margin services downstream affects the sales mix and temporarily margin mix in the short run. As we scale organically and realize the value of the merger, and the scaling of our new lines of business, we would expect to see adjusted EBITDA margins above 15% as soon as 2023. Just to be clear, at scale, we believe this is a 20% adjusted EBITDA margin business that will deliver significant free cash flow. Third bullet point, growing our annual recurring revenue and at the bottom -- at the end of the day, when you grow your ARR, that translates ARR to EBITDA and free cash flow. So we previously conveyed an ARR run rate of $12.8 million with a target run rate of $15 million by the end of this year. Well, I'm here to tell you we're ahead of schedule. We are now at an ARR run rate of 13.5% and on our way to a year -- to our year-end target. Our 2023 goal will be to scale ARR to a point that it covers and exceeds our operating expenses. In this manner, ARR will translate to EBITDA at an increasing rate. Once we cover operating expenses with ARR, every incremental dollar will flow to the bottom line at a significantly better incremental margin percentage. Scaling ARR should also have a beneficial impact on revenue predictability and volatility, which are obviously a key reasons why SaaS companies are often valued at attractive multiples. Number 4, we want to talk about reducing our debt leverage ratio. We took on debt to acquire the Reflect transaction, but we believe as we grow and as our EBITDA expands, it will reduce leverage. We have $6 million in cash as of the end of Q1, which gives us plenty of runway to realize all the aforementioned effects to grow revenue and improve EBITDA. We expect to reduce our leverage to less than 3x EBITDA within the next 12 months on a run rate basis. A little bit also about our equity. The majority of outstanding warrants do not have a currently exercisable cashless feature. And if such warrants are exercised, would generate significant cash, which could further reduce debt. As we continue to scale the business, we will look to migrate to an optimal structure to reduce our cost of capital in a manner aligned with our business plan for growth. Fifth bullet for value creation. Sustained and consistent focus on investor relations activity. We have already discussed how we view the company as much more than a pure-play digital science infrastructure. Company, especially given our expanded product set with the high-margin services and media sales. This is a competitive advantage over the majority of our pure infrastructure competitors for a variety of reasons. Many enterprise customers require a supplier with scale across the U.S. for their digital signage and place-based media needs, which the competition simply cannot offer. Indeed, these customers require business solutions beyond a basic digital sign. CRI provides such integrated offerings. And in most instances, the competition has minimal ability to upsell or cross-sell other products as a result of a singular product or service delivery. One excellent example is our company's network monetization program, which provides an array of services that allow our clients to traffic paid content on their networks. We have an entire team helping clients to realize these newly found revenue streams from the reach of millions of impressions. Other similar solutions for omnichannel and ad tech also speak to the company's expanded -- their extended capabilities. And there is an optionality to continue to grow this from the core. The company is best viewed as a sum of highly synergistic parts well beyond hardware and software sales. And so we believe that it will require a consistent focus on investor relations to drive these points home to many shareholders and private equity firms who might own our shares in stock. Expect Rick Mills, myself to be on the road with Will Logan at times, attending many conferences throughout the year. And our sixth bullet point for value creation is opportunistically pursue accretive M&A. We continue to look for the right synergistic opportunities throughout the market are shown raise off the hook, and we continue to talk to folks. Now before I turn it back over to Will Logan to close, we do have another -- a number of other noteworthy activities and achievements to share. As Will mentioned, the company is formally engaged in investor relations firm and has increased IR activities to ensure that we communicate the company's strategy, the strength and positioning of our products and platforms that we have assembled and our plan for material value creation for our shareholders. We have held a number of one-to-one calls with existing and prospective investors. This March, we participated in a Virtual Growth Conference. I personally is scheduled to attend a number of conferences throughout the balance of 2022. So I look forward to those discussions and hope to see some of you listening on this call. Another event. Creative Realities was recognized by Samsung at an event that was happened in March as the breakout partner of the year for sales and also the retail installation partner of the year, honoring us as a top-performing digital signage partner to watch in 2022. Because of Samsung's market presence and expansive sales team and partner network, the recognition is a particularly important achievement as it acknowledges and raises aware throughout the ecosystem of the unique capabilities that continue to help us accelerate business growth. Number 3, we've ramped up our marketing engine to remain in the front end or in the viewpoint of our end-user buyers through organic paid, search SEO, digital marketing and end-user attended events and deliver top of funnel and qualified sales leads to our sales team. Since our acquisition, we've accelerated our share of voice in the industry media from 15% in 2021 has Creative Realities alone to 52% now as a combined entity. One out of every 2 people who's looking at signage certainly sees now CRI. With that, I'll turn it back over to Will Logan to close.

Great. Thanks, Rick. We will now open the phone lines in order to respond to any questions. [Operator Instructions] It looks like we've had a few questions that have come in via the [email protected] mailbox. So I'll address those first and then anyone on the phone. First question was at the current share price. Would the company consider a stock buyback? I'll take that one, Rick. While our focus has been reinvestment of capital and free cash flow into growth of the business, we are actively evaluating all options that could impact our share price positively. We're aware of the disconnect in the valuation in the marketplace and our internal valuation and that would include a stock buyback. We don't have any immediate plans to effectuate a buyback, but the tool is in our toolbox, should we not achieve traction through financial results alone. So it's something that we continue to evaluate. Second question from the inbox. You have an aftermarket offering in place. Can you provide some context in your plans? Yes, I'll take that one as well. So most micro-cap NASDAQ companies do have an ATM in place and the goal of that typically is to facilitate opportunistic capital activities at lower fundraising costs, if those become available. In the case of our ATM, it is actually not currently active. It's registered, but we haven't kept it current. And we have not utilized that ATM since October of 2020. Our current strategy does not include any plan to utilize the ATM, but we have kept it in place given legal costs associated with reopening should we close. That said, consistent with the thought on stock buybacks, and we are evaluating whether the closure of the ATM would create positive momentum in the market with respect to eliminating the possibility that we are in the market looking to do equity offerings. Third question here that's come into the mailbox. Can we expect any additional M&A activity in 2022? Rick, will you?

Yes, I'll take that one. So the answer is, yes, we have an active buy-side program, and we continue to talk to folks throughout the marketplace. As I stated earlier, we've become a go-to acquirer of these assets. But obviously, today, our stock price is currently disconnected and depressed. And so our focus is bringing the stock price up so that we can achieve or be in a place for accretive M&A. So that's how it will kind of address M&A. Any other questions Will that have come in?

Yes, we've got a few here that have been written in during the call. So the next one says, do you foresee the chip supply issues being a hindrance going forward with completing contracts currently signed?

Boy, that's a great question. The answer is, yes, they -- it's a challenge, it's a challenge every day in the supply chain. We have had some cost increases from a couple of the key components in our business, the key components are the display and a player technology if you will, and we have seen cost increases in those 2. The panel, the display problem has mostly been mitigated, and we have plenty of supply but the players tend to remain tricky, and we are very proactively ahead of the game with our ordering to -- so that we do not have an issue. Okay? Any other questions that have come in?

No. And currently, there are no hands raised on the call. So with that, let me conclude by thanking all of our shareholders, clients, partners and employees for their continuing efforts, commitment and support as we continue to work together to transform Creative Realities into the leading brand in digital signage solutions. This concludes the 2022 First Quarter Creative Realities Inc. Earnings Call.