Haivision Systems Inc. (HAI) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for standing by. My name is Abby, and I will be your conference operator today. At this time, I would like to welcome everyone to the Haivision Fourth Quarter 2024 Earnings Conference Call. [Operator Instructions] Thank you, and I would now like to turn the conference over to Mirko Wicha, President and Chief Executive Officer. You may begin.

Thank you, Abby and thank you, everyone on the call, for joining us today to discuss our fourth quarter and our fiscal year 2024, which ended back in October 31. At the end of our Q4 last October, we have completed our 2-year strategic plan as promised back in 2022 to deliver a major EBITDA and profitability transformation. And as a result, I would say we delivered significant metrics in our operational performance between '22 and '24, a 2-year performance we are very proud of and one that I will summarize later in my prepared remarks. Now we are already well into our new 2-year strategic plan for fiscal 2025 and 2026, which will complete our overall business transformation and return Haivision to double-digit revenue growth. It will also return us to our long-term CAGR growth rate between 15% and 20% per year. As mentioned earlier, we have completed our operational efficiency model and have a great handle now on the OpEx, gross margins, EBITDA, cash generation, and the focus now will be high revenue growth. Let me share a few thoughts on what to expect from us during fiscal '25, which we're already in, to prepare for this growth in '26 and to demonstrate the business scalability we have been talking about. Our main fundamental business model for the control room market, which pivots away from being an integrator to manufacturer that we've been talking about, is continuing throughout this year and will affect our revenue this year, similar to what kind of happened in 2024. Now by design, we are continuing our control room business transformation to the higher margin manufacturing scalable model from the bespoke, hard-to-grow integrator model. Now as mentioned during the past several quarters, this major business transition has exceeded expectations. However, it's a long road to complete. It's about 9 months away until we can begin to see what I would call a net revenue increase in our overall control room business. Now this will be an important moment in time where scalability and high growth will begin to show. Now we have always said that this transformation will be at the expense of our top line, and that's similar to when we decided to transition out of the House of Worship market, if you remember. However, what is left is a proprietary high margin business, which is great business. And this is something we have been planning for, working towards all year last year, and we expect to finish the process by the end of this year. Now the good news is that we've been seeing a growth in control room sales already back in Q4, and our long-term sales pipeline is growing very nicely. Now the increase in our sales pipeline is an important indication to our future revenue growth, which gives us confidence in our future growth overall. Remember that the control room sales and pipeline is very different and will start to convert to revenue during the second half of this fiscal year and the next and continuing. Remember that this business is longer term and typically takes at least 2 to 4 quarters to realize revenue, very different from our traditional book and ship the same quarter business that we're used to. Now we always expected this to be an 18 to 24 month transition, and looks like we will complete the full business transition during the second half of this fiscal year, thus we are very close and excited to see the return to high growth in our fiscal 2026. Now our partners and resellers globally are also very happy to see us embracing the partner model to scale this business and moving away from being an integrator actually and a competitor to them. And Haivision has always supported and believes in a strong partner model to be able to scale globally. Now we also expect to be training and preparing many of our global AV partners on the new C360 fully scalable platform by next month in preparations for professional training rollout during the next 2 quarters. I would now like to highlight the many exciting and noteworthy events and projects we've been working on that will significantly and positively affect our long-term revenue growth as our new 2-year revenue plan unfolds. Our 5-year $82.6 million supply agreement to the U.S. Navy we talked about earlier and our Haivision Mission-Critical Systems announced back in September that we're awarded that significant 5-year production agreement. This prestigious agreement positions Haivision at the forefront of delivering cutting-edge combat visualization and video distribution systems to the U.S. Navy's surface combatant fleet. This is huge and a showcase of what is yet to come. We also announced last year that Haivision joined the multi-company consortium led by Airbus Defense and Space to develop new technologies for rapid, secure, and reliable communications, representing a multiyear and multimillion-dollar development contract. As part of the Air!5G project, Haivision will develop 5G transmitters that provide connectivity in mission-critical situations where normal communication lines are disrupted or unavailable. This consortium is building land and sea-based tactical 5G communication systems to support all of our mission-critical operations [indiscernible] where network infrastructure is compromised or absent. That's another very exciting project. Now we've got a lot of strategic developments planned this year in AI. We announced already last year that Haivision is partnering with Shield AI, a leading defense technology company whose mission is to protect service members and civilians with intelligent systems. Now with this partnership, Shield AI Kestrel can now be fully integrated with Haivision's real-time transcoding Kraken software system and deployed across a wide range of air, land and sea-based platform. But we are increasing our investments into our next-generation hardware AI technology, and we'll be launching our new AI-based platform and edge devices for the defense and ISR markets later this year. We are the standard low latency edge transcoding delivery platform in the defense market and a market leader. We expect our Kraken AI technology to drive many long-term defense projects and increase our footprint within the global defense space. Now also, as mentioned earlier last year, Haivision was extremely busy at the Paris Olympics. The Haivision technology was widely used across many events, and our broadcast partners used well over a 1,000-plus Haivision Makito encoders, decoders, SRT gateways, and our Pro Series 5G transmitters in all the main events and venues during the Paris Games. We even showcased the first ever private 5Gs at Olympics with the lowest latency and the first ever use of remote mobile device camera management. There were many examples in Paris that has propelled Haivision to the forefront of innovation and performance, not to mention winning many prestigious awards, including the coveted IBC Innovation Award for the second consecutive year. Now let's talk some high level numbers resulting from our 2-year plan. Now as demonstrated by the results we announced earlier today, our business fundamentals are strong. We have been telling you that we will significantly increase our operational efficiency and adjusted EBITDA throughout the past 2 years, and our 2024 performance continued in that direction, with some noteworthy highlights to demonstrate our 2-year comparisons. Let's talk about revenue. This is interesting. Our actual comparable revenue between fiscal '22 and fiscal '24, this is after taking effect of the reduction of revenue due to the exiting of House of Worship market. Remember that in 2022, we were doing approximately $8 million in House of Worship revenue, and that includes the reduction of our 2024 revenue moving away from the integrated model within our control room market to get rid of third-party hardware. Our 2-year revenue growth was still an impressive 9% growth. So I'd like to say that even after all that transformation, all of the exiting and getting rid of the bad revenue, we still actually showed 9% growth in 2 years. So pretty compelling performance. Now in the same timeframe, our gross margins have improved 440 basis points, going from 68.7% at the end of '22 to 73.1% at the end of '24. And interestingly enough, our OpEx in 2024 after 2 years was actually lower by 2.5% over 2022. So that alone was impressive and clearly was a major focus for the company. Our operating margin went up 109% from 6.4% to 13.4% in the same timeframe, and as a result, our adjusted EBITDA went up 115% from $8.1 million to $17.3 million. I would like to add finally that we also generated, during that period, $24 million in cash. These are all acceptable results from our [indiscernible] to increase the profitability and operational efficiency at Haivision. We couldn't be happier with our performance, and now we move our focus and attention to one simple thing, and that is high revenue growth. So Dan, please continue with the detailed financials of Q4 and 2024.

Thank you, Mirko. So let's begin. So revenue for this fourth quarter of fiscal 2024 was $30.1 million. That represents a decrease of $5.6 million from the previous year comparative period, and revenue for the fiscal year 2024 was $129.5 million, a decrease of $10.3 million from the prior year comparative period. As has been conveyed in our earlier calls, there are quite a few moving pieces to this revenue story. Year-over-year comparisons are being clouded by our strategic decisions to change the nature of our control room business and to exit the House of Worship vertical. Now remember, last time we derived any revenue from House of Worship customers was in April of 2023, the first half of the prior year. Last call, we discussed in detail our initiative to migrate from the systems integrator in the control room space to that of a manufacturer of proprietary products. Strategically, this decision would improve our gross margins and resulting net margins as low-margin, third-party components become a smaller part of our overall business. But more importantly, it enables us to scale the control room business more quickly, not only in North America, but even more so in international markets. We don't have to build the same internal infrastructure to support the integrator model, which is even more complicated when selling in a myriad of countries. Further, this migration endears Haivision to the various channel partners that want to represent Haivision in this market. Not only is this more consistent to their business models, but channel partners will be able to derive incremental gross profit from the sale of these third-party components. It also eliminates the appearance of Haivision as a competitor in the market. The strategic benefits are clear, and we have seen gross margins and EBITDA margins increase over the last 12 to 18 months. To give you a sense of the impact to fiscal year 2024 revenue, third-party components and professional services revenues related to that integrator model fell by almost $6.5 million from the prior year. And because of the timing of our exit from the House of Worship vertical in fiscal 2023, we derived revenues of $3.5 million versus no such revenues in 2024. Bottom line is that we are a more efficient organization, and we have set the groundwork for scalability. However, one of the other big factors that may have affected second half revenue is the changing behavior of the U.S. government. We just did not see the revenue bounce that we typically see in our fourth quarter, which is commensurate with the U.S. government's fiscal year-end. And 2 factors may be in play. First, the incoming administration is facing a budget deficit and has an interest in providing tax cuts that may increase those deficits. Nevertheless, the new administration believes they have a mandate to cut spending, and they even established a Department of Government Efficiency to execute on that plan. The second factor that may have impacted our fourth quarter revenues is that the U.S. Congress is increasingly relying on continuing resolutions rather than a complete appropriation bill. It changes the very nature of long-term planning, production and increases in spending. Ultimately, we are witnessing a change in the buying behavior of those mission-critical customers that we support. Gross margins on a year-to-date basis are 73.1%. That compares to 70.5% for the prior fiscal year, a 260 basis point improvement. Now in the fourth quarter alone, our gross margins were 73%, less than the 75% we experienced in the prior quarter and slightly less than the 73.5% we believe to be our long-term average rate. Certainly, gross margin percentages may vary based on the mix of products sold. Additionally, there is a component of COGS that is fixed in nature that can be leveraged across higher revenue. We just didn't see those higher volumes in this last quarter. That is typically why we see higher gross margins in every one of our fourth quarters. We just didn't get that bounce this year. We may continue to see quarterly variations of gross margins related to the seasonality of certain product families, although the gross margin differences between our product families are dissipating, and we are seeing modest increases in the uptake of software-only options or virtual machine deployments, which have a higher gross margin than our typical software appliances. Total expenses for this fourth quarter were $21.8 million. That's a decrease of $1.2 million when compared to the same period in the prior year. I want to mention that our third quarter, our total expenses were $21.9 million. So total expenses have largely stabilized at these levels. Now we may see some changes in total expenses related to the timing of marketing expenses, including the timing of our trade shows, and in fiscal 2025, we may see increases in compensation for existing staff and strategic incremental investments to capitalize on emerging opportunities. We'll see increases in the cost of prototypes and certifications in support of the exciting new products that are going to be released throughout 2025, and we're going to see some increases in the cost of our internal technology stack that we're deploying to help in our overall efficiency. Much of those increases are slated for the second half of fiscal 2025. On a year-to-date basis, total expenses were $89.2 million. That's a decrease of $8.2 million when compared to the prior year comparative period. As has been the case for several quarters, the decrease in total expenses are largely related to reductions in compensation expenses, the result of our restructuring exercise, while we can see remaining decreases in restructuring costs, amortization and depreciation expenses, professional services expenses, technology and communication expenses and occupancy expenses. The result of lower gross profit and lower expenses is an adjusted EBITDA for the quarter of $2.9 million, down from last year's comparable period of $3.8 million. However, for the full year, our adjusted EBITDA was $17.3 million, a $2.6 million or 17% improvement from the prior year. The adjusted EBITDA margin for this quarter was 9.8% compared to 15.9% for the prior year comparable period, the result of the revenue shortfall. For fiscal 2024, however, the adjusted EBITDA margin was 13.4%, a sound improvement from the 10.6% experienced in the prior fiscal year. Our adjusted EBITDA margins have been purely in the mid-teens for several quarters right now. So said another way, despite the $10.3 million decrease in revenue, we are seeing increased efficiencies resulting in increasing adjusted EBITDA. Operating income for the quarter was $300,000, a decline of $3.4 million from prior year comparable period, again, largely the result of the fourth quarter revenue. For fiscal 2024, however, operating income was $5.5 million. That's a $4.2 million improvement over last year, representing a 345% improvement. And for the full year, net income was $4.7 million. That's a $6 million improvement when compared to the net loss of $1.3 million last year. That's a 470% improvement. I want to note that this is our fifth consecutive quarter with positive net income and positive earnings per share, and it's our eighth quarter since being a public company. With respect to the balance sheet, we ended the quarter with cash balances of $16.5 million. That represents an $8.2 million increase from the end of fiscal 2023, and an increase of $2.9 million from last quarter end. Further, the amount outstanding on the credit facility was only $2.2 million compared to $4.7 million outstanding at the beginning of the year. And if we add back the $3.6 million invested to buy back shares through the NCIB, total cash generated during the year was $14.3 million, or approximately 83% of our EBITDA. In terms of our capacity, we still have a credit facility in place for $35 million, of which only $2.2 million is outstanding, and that credit facility can be increased by another $25 million, assuming financial performance to support the increase, plenty of capacity for acquisitions if the opportunity arises. Total assets at year-end, $143 million. Now that is a decrease of $2.8 million from the end of last year, but that decrease is largely related to almost $6 million in intangible assets, the result of ongoing amortization expenses, a $4 million reduction in inventories as we continue to squeeze out efficiencies in our supply chain, a $2.8 million reduction in right-of-use assets, largely the result of a terminated lease, and payments against our lease obligations and then a $1.6 million reduction in receivables. Now these were all offset by the increase in cash, $8.2 million, and increase in deferred income taxes of $3.1 million. Total liabilities at year-end were $44.5 million, a decrease of $5.4 million from prior year-end, and those decreases are largely the result of the $3 million decrease in lease liabilities and term loans related to the termination of the existing lease, the payment of our lease obligations and the payments against our term debt. We also reduced our line of credit by $2.5 million and reduced payables by $1.6 million. Now these reductions were offset by the $2.1 million increase in deferred revenue related to our maintenance and support programs, a recurring revenue element of our business. So to summarize our balance sheet performance, cash balances continue to climb and the ratio of adjusted EBITDA conversion to cash remains pretty static. Debt outstanding, including the line of credit, continues to decline, and we have improved our working capital efficiency, particularly related to inventory. Now with respect to guidance. Haivision's business continues to evolve rapidly, presenting significant opportunities for growth, however providing definitive guidance for fiscal year 2025 has become increasingly challenging due to several dynamic factors, including the ongoing transition from integrator to manufacturer within the control room space; the timing and scope of the U.S. Navy production agreement; option year purchases, which may present additional opportunities; shifting and changing purchasing behavior within the U.S. government and the uncertain spending priorities under the new administration; performance and opportunities in our U.S. transmitter business, including both direct sales and long-term rentals; the need for strategic investments to capitalize on emerging opportunities; and the precise timing of our upcoming product launches. We remain highly optimistic about our growth prospects in 2025 and into the future, however these variables introduce a level of uncertainty and complexity that makes it difficult to deliver accurate revenue guidance. As a result, we have decided that it is in the best interest of our shareholders, our analysts, and employees to prioritize transparency over speculation. So given those variables moving forward, we will not be providing quarterly or annual guidance. We look forward to updating all stakeholders on our financial performance on a quarterly basis as we continue to execute on our significant growth initiatives. So that really concludes my prepared remarks. So I'm passing the microphone back to you, Mirko, and then we will open the floor to questions.

Thanks, Dan. Abby, can we open up for questions?

[Operator Instructions] And your first question comes from the line of Rob Young with Canaccord Genuity.

Place I'd like to start, I know you gave some of these numbers on the call already, but just to put them all in one place. I was just trying to get a sense of the relative impact of these factors you highlighted in the quarter, the shift in the business model in the MCS business and, I guess, the slowdown or uncertainty over the timing of large deal activity with the U.S. government on existing programs. And I think you also mentioned the leasing of the transmitters, but I don't think you noted that as an impact in this quarter. So maybe you just talk about the relative impact of those 3 items and if there's something I'm missing. That'd be helpful.

Well, let me take that, Dan. Let me just take one, and then you can finish up. I was just going to make a comment on the business. Q4 has always been, for 20-plus years, our traditional largest quarter because it's the government year-end, right? And definitely, this year, I think that was the majority of -- we didn't get that bump. As Dan mentioned, we just did not. And I think it's because of the elections, the transition, the new administration, not to mention all of the debt stuff. And it was just one of those weird year-ends. So I would say, and Dan, you can correct me, but I would say majority, if not all of it, was mainly to do with the U.S. government. The transformation from the integrator to the manufacturer model, that's just part of the cause, probably to a lesser extent. But I would just say that, by far, the majority was all about the government not having a bump in our traditional Q4. So it's not like we lost anything. Nothing got lost. Things just got shifted, things got postponed. So it's all good for business. But unfortunately, with the change of administration, it's all going to move to the next purchasing cycle. Dan?

Right. And I would agree with that. If you're trying to look at what is the difference between actuals and guidance, I would have to say the exact same thing. We did not get the bounce that we were expecting from the U.S. government. If you're looking for other explanations for the difference between 2023 and 2024, we can point to these 2 examples of why the comparisons may not be fair, the first being the transition from the integrator model to the manufacturer model. When you look at those third-party components and look at the professional services fees that we would have derived for having been a systems integrator, we saw the difference between 2023 and 2024 to be $6.5 million. And then if you were to look at what was the impact of the House of Worship business in this comparative period, we had $3.5 million in 2023 versus $0 in 2024. So that largely bridges the gap between 2023 performance and 2024 performance.

I think one theme in this earnings cycle is going to be the tariffs and trying to understand relative impact. And I know there's no way to really understand what will come of that. But I was just curious if you could maybe opine a little bit on Haivision's manufacturing footprint and how you're set up to withstand maybe tariffs between the U.S. and Mexico and Canada or between the U.S. and China, given, I guess, a lot of raw materials are going to come out of China, and I believe some of your manufacturing is in Canada and some in the United States. Maybe you can just give an overview of that landscape so we can understand it a little better.

Right. So it's an interesting question, and it's something we've been speaking about for quite some time here. But I think we're fairly well positioned to weather this in the event that it happens. And that's particularly because we have systematically made our contract manufacturer posture more flexible than it has been in the past. You might remember years ago, I guess maybe that's even before we actually went public, we were working with a single factory manufacturer out of Cornwall, Ontario. And we just felt that we outgrew them. And it didn't take that much of an effort for us to migrate from that company to another company to give us a little bit more flexibility and to give us a little bit more security. We moved part of our manufacturing to a company called Plexus. They're a very, very large, multibillion-dollar manufacturer. So we became a small fish in a big pond. We have since moved to a different contract manufacturer, Creation Technologies, and they happen to be a North American-centric contract manufacturing company with facilities in Canada, United States and Mexico. And we've already started having discussions with them about migrating that business from our Canadian facility to that of the U.S. facility in the event of a tariff issue. And it doesn't take a tremendous amount of effort for us to move it. Obviously, there's a little bit of time that we would have to overcome. But because we're talking about moving between entities, it's a fairly easy move. Contract manufacturing is a bit of a commodity service of sorts. You don't want to have to move, but there are reasons why you want to move. And we've demonstrated that we can move our contract manufacturing from one facility to another, at least on 2 earlier occasions.

Okay. Great color. Good to hear you're thinking about that. Maybe last question for me. You'd said that you'd be opportunistic on M&A and that you had maybe a pipeline or maybe some evaluation going on. Maybe you just give us a sense of how active you are there and how you feel about your capacity now that MCS and Aviwest, and maybe later down the road in the integration, maybe just rehash your position for M&A.

Well, I would tell you that we are so keenly focused on the restructuring and now the revenue growth of sorts. That's where our key focus is going to be. But that doesn't mean that we haven't put acquisition strategy on a backburner of sorts. We still are having conversations with many, many different people out there, and we're looking for proper fit, we're looking for proper economics, so on and so forth. Obviously, it becomes a little bit more challenging when the share price doesn't give us a currency to help us in that initiative. But we'll continue to keep our eye out for it, and we want to exploit the opportunities when they're presented to us.

Yes. And I would just add to that, Robert, that we're continuously talking to many, many people, as you can appreciate. And if there's a good opportunity, we're ready to jump. Now our facilities are completely clear. We can actually do stuff. But I think if we want to do something, I want to do it transformational. And I think that's going to require our share price to be -- reflect our true value, and I think we're just not there. I still believe -- I think we believe that our shares are extremely undervalued, even though the run-up of the last year, given where we see our future, I think there's still some significant room to grow. And at that point, it becomes a little bit easier.

[Operator Instructions] And your next question comes from the line of Thomas Hui with Paradigm Capital Inc.

Thomas here filling in for Daniel today. I just want to unpack a little bit about the missed volumes in the government. Was it one specific large contract renewal that didn't go through? Or was it broadly across the board there?

No, no, it's absolutely not. We don't really have any concentration of revenue whatsoever. So no, it was not any one specific. I think it was in general in our government/defense and government enterprise, as we call it. It was across the board. It was just -- unusual slowdown. So it was not one single thing.

Okay. I guess my next question goes towards Dan's comments about the fiscal deficit and just being more cost conscious, at least that's the narrative going into the next administration. Do you see any changes in the relationship with, I guess, your customers? Do you see any threat of competition, maybe switching to a lower-cost vendor for encoders and that sort?