i3 Verticals, Inc. (IIIV) Earnings Call Transcript & Summary

All right we'll go ahead and get started here. Thank you very much this morning for joining us to kick off the second day of the 2026 Morgan Stanley TMT Conference. I'm James Faucette, senior FinTech analyst and its FinTech and Vertical software analyst at Morgan Stanley. I'm very pleased to be kicking off this morning with Clay Whitson, Chief Strategy Officer of i3 Verticals. So thanks for being here. Before we get started here, a quick disclosure I need to read. Please see the Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. So Clay, great to have you here at the TMT Conference. For those who are not familiar with i3, particularly post the merchant services and health care RCM divestitures. Can you provide a quick overview of the company as it is today? What are your core end markets, key products, mix of recurring revenue and SaaS and how you think about the growth algorithm on a go-forward basis.

Okay. Well, we're currently pure-play public sector. We're in 5 markets: justice, transportation, utilities, public administration and education, which we've been in since 2014. Over 80% of our revenues are recurring revenues. The two largest components of those are either SaaS or maintenance from old perpetual licenses and transactional revenues, and I'll include payments in those transactional revenues. The remaining 20% is mainly professional services, but we still have a small amount of perpetual licenses, certain customers like to buy and even some equipment.

Got it. So when you look at and talk about the different parts of public sector, et cetera. Can you compare and contrast maybe some -- where you sit versus some of your competitors? And what kind of work you're doing for public sector typically?

Okay. Well, I guess, Tyler would be the most obvious public company comparable. We compete with them in certain markets, but not other markets of course, they're in Justice our largest and most quickly growing market right now. They have offerings in education, but they're not similar to our education product is the lunch programs and the payments associated with those. I'm not all that familiar with theirs, but I know they have bus routing in...

Yes, some of those things like in education, right.

Yes. In transportation, we don't really run into them. They're in utilities as we are, but they are in a different tiers than we are in utilities and the public administration, they've got the leading fund accounting product. And we have a cloud-based fund accounting product, but it's generally for smaller applications.

Got it. Got it. Got it. And is there a difference in terms of -- you mentioned utilities. Do you guys run into them for most of your customers in the same size municipalities? Or is there differences in the types of sizes of municipalities and other areas that you serve?

I would say, Justice is where we do run into them the most. But even their estimate of market share and market share is not all that easy.

It's tough in that sector.

To determine. Even in that sector, I think they estimate their market share at 10% which would put us maybe at 1%.

Right, right.

And so we do see them, but not all the time. Usually, it's local competitors who grew up and knew a judge and have established a business over time in a particular state.

Got it. Got it. And then one of the -- one of the companies we often hear about is -- have you run into much of Axon trying to come into the Justice system? I know that they've come more from the enforcement and, frankly, digital cameras and that kind of thing, but that's something that they've talked about. And do you see that much at all or not really?

We haven't yet. We do have a public safety group, and it is a good crossover with courts and the records police keep versus the records, the courts keep. So I do see it as a logical extension, and we're pushing more into public safety. Definitely, the entire public sector is underserved and outdated. So it's just a long runway for...

Yes. Like hyper-fragmented, it seems like, like you said, is that a lot of these systems were custom built by somebody local a long time ago.

Well in laws can vary locally. In Louisiana, they have on remnant of Code Napoléon, which is from the French influence there a long time ago, and it's just very different laws in each state.

Right. Yes. No, absolutely, absolutely. So you guys have been historically a very astute acquirer of businesses. Some of them are in some of these smaller solutions that we were referring to a moment ago. With the portfolio now really focused on public sector software, how is your M&A sourcing and target profile evolved, whether that be by product categories, geography, deal sizes?

Well, I do think we'll stick with our 5 markets now. When we first went public, we had a much broader focus as you know. But we self-source all of our deals. We work very hard on that, and it's through our network of CEOs and founders that we've gotten to know over time. I think we've earned a preferred buyer status. We're a very good home for a founder-led company who might have a son, a daughter, a granddaughter in the business, and they want to find a good home for the next generation. And so it's going to be hard to believe, but it's not all about the money when they reach a certain stage. So yes, the growth profiles we look for are the things we like are founder-led, no outside money usually. It's preferable if the founder wants to keep working. They can work their own. If they want to work 10 hours a week, that's fine with us. That 10 hours is very valuable. Financial profile, growing over 10% recurring revenues. We prefer cloud, SaaS, of course, good margins that shows defensibility in the business. Yes. So that's...

So when you're putting together this group, and as you said, it's like a lot of times, you have a preference to be cloud-based, et cetera. How much work are you able to do to harmonize those acquisitions and their platforms with your existing catalog or base of offerings? And over what time frame does that usually take place?

Well, it depends on the acquisition that's target. But the one we just did was very quick. If they're already on AWS or Azure, it's pretty seamless for us to integrate that. If their products are on-prem, it's a bigger lift, of course. And if their tech stack is different than ours, it's a bigger lift. But more -- the one we just bought is cloud-based, then it's Azure. I mean, it's a .NET stack. And so it was very easy to fit in.

Got it. And then from an ongoing basis, do you -- how do you handle service and maintenance and maintaining the code base of the acquisitions? And then do those ultimately remain kind of stand-alone just because of the way the customer sets are? Or do you end up with kind of -- are you trying to push towards homogeneity of code bases ultimately?

Well, we're organized by product, the 5 products I went through or market -- the 5 markets I went through earlier, and they report up to a common person. We have -- whose name is Chris Laisure. We have a CTO. One CTO and one tech stack and one horizontal payment stack, which is a PayFac model, you look at -- and so we do try to harmonize them. Education might be a good example. We've had it the longest since 2014. We originally had 4 different code bases there. We're now down to 2, one is .NET, one is PHP. And we're pushing those together over the coming years. But we go about it slowly. So that's a 10-year time period to go from 4 to 2. Our customers, not only in education, but the public sector in general, don't like change. And so we try to accommodate them as much as possible, but it does come a time where in education, we got down to '25 customers, districts, school districts, and we told them a year in advance, this time next year, we're going to have to turn off the switch. So you're going to have to either find a new provider or upgrade. I mean even if you're giving them a better product, maybe even for the same price, they still hold sometimes. I know it can be daunting, right?

Right, right, right. So speaking of acquisitions, can you just recap for us a little bit what you're pacing or how much you were able -- how many companies in revenue you were able to acquire in '25? And then how are you thinking about that for '26?

'25 were just 1 August of '25. And in '26, there have 2. And so that's 3 over the past two years. And they were gyms. So I think you'll see us acquiring less frequently, but we really, really like the ones we do decide to buy. And all 3 of those have been cloud-based. They've been primarily SaaS models. They're growing well, and we're really excited about their future.

Got it. So let's talk about one of those acquisitions that at least I found interesting is that you acquired a driver and motor vehicle insurance verification software company. And I think that acquisition was effective January 1 of this year. Can you walk through -- and you kind of alluded to a few things that you like, but what did you like about that asset, whether it be the market positioning, competitive positioning itself, cross-sell opportunity, et cetera?

Well, they're the undisputed leader in the market. We do this in Tennessee, and we have not been able to compete with them in RFPs. States are modernizing this way. Certain states mandate, I think maybe 20 -- they have maybe 20 states today and they mandate for the insurance companies to open up their files. And so this company has integrations with all the insurance companies, big and small in these 20 states. And in the old days, a policeman would pull you over and discover that your insurance had lapsed. And that's the only way they knew that. Now if an insurance does not get renewed, there's an automatic notice and the state can levy a fine and keep uninsured motorists off the road, and it is a revenue source as well to them.

Got it. Got it. And you said -- so this will take you into how many states? Is this taking you into 20 incremental states?

There might be some overlap. We were in maybe 18 U.S. states and 4 Canadian provinces. But there might be some overlap. But yes, it really helps. And they get along really well with our transportation people. They've known each other from being at conferences together and whatnot.

And then what's the cross-sell opportunity for something like that?

Well, they do 0 payments today. They just let the states have whoever their normal payment provider might be at the time. And their new offerings, they're bundling our payments with their software. And so they have one state, and it's one of the smaller states population-wise in the United States. And that small state earns more in payments. They have a payment model. I think the state must have wanted to do it that way. They earn more in that state of payments than they do selling their software and all these others. So it's a very good payments opportunity. Another is printing. They have to print bills as part of collecting and they outsource that, and we got a better deal for that. But those are the most immediate.

And what kind of growth profile did that have at the time you acquired it?

We think they'll grow over 20% a year for several years. wow because they're winning new states.

They are winning new states. Got it. Got it. That's really fascinating. And then on acquisitions. And their margins are 50% And you mentioned the ability to cross-sell payments, et cetera. Does that change the margin profile once you can start to layer that in?

Payments are a thinner margin than SaaS, but it's an incremental revenue stream. It's an additional moat if you believe the AI commentary these days. So it is a little thinner margin, but they're on the high end of our margin profile company anyway.

And as you said, it's incremental, just the same. So -- in the M&A market, obviously, you guys are always well engaged there. How would you characterize the valuation and seller expectations today versus, call it, a year, 1.5 years ago? And where do you see the best opportunities? Is it -- have those changed at all with those expectations?

Well, I think -- you won't remember this, but I think we had this conversation a few years ago.

I remember that's why I'm asking.

And it's surprising how disconnected to me, private companies' expectations are with what's going on in the public market. During COVID, after COVID, all types of the payments market gets whacked. The software part gets whacked. But for these founders, it's a life event for them. They've been running a company since they got out of college and maybe it's 30 to 40 years. And they're trying to think about retirement, the next generation. They want to take some chips off the table, but maybe they're not completely ready to retire. They want to find the right home. They, of course, want a fair valuation. But if they don't like what's going on in the public markets this year, they're just going to wait and do wait 2, 3 years from now.

Right. Got it. Got it. And so do you find people doing it like that's becoming evident now? I mean, particularly as a lot of the software valuations have been significantly compressed over the last really few months, but even going back a few quarters.

Honestly, I don't think these founders really care.

Really.

Yes. They have a certain price on their head that they think is fair, and that's from 20 years of reading the Wall Street. It's not from...

And I'm sure, to your point, is like as they're looking at a life event, they're kind of also having their own heads like what they kind of need or want to be able to move on, et cetera.

Yes. Yes.

That's interesting.

I mean they're all playing a long game. It's kind of more about timing to them than it is about what's going on this year.

Right. So let's talk about organic growth. In fiscal Q1 of 2026, your annualized recurring revenue ARR grew about 8%. And you called out SaaS growth of 24%. What is driving the SaaS acceleration? Is it new logos versus expansion within existing customers versus pricing? I guess maybe always trying to look forward, what needs to happen to sustain momentum through this fiscal year?

Well, first of all, the past 3 acquisitions we talked about a moment ago, all of those are SaaS-oriented, right? And so that's helped SaaS growth and will for the remainder of this year and next year. So that's part of it. We sell very few perpetual licenses anymore. We went through a SaaS transition about 2, 3 years ago. And now we've kind of plateaued at about $5 million to $7 million of perpetual license sales per year, and that will just kind of go sideways, I think.

Got it.

But as far as what's driving SaaS growth, organically, our NRR, our net revenue retention is 104%. And so that includes cross-sell, price increase, et cetera. It does not include new logos.

Obviously, yes.

And so new logos would be probably the biggest driver of SaaS growth within -- just talking about SaaS now.

Talking within SaaS, yes.

Price increases are inflationary, and they are easier to build into SaaS contracts. And so while our overall company price increase might not get to an inflation level within SaaS, it might get to an inflation level. And then there's some cross-sell. But most of our cross-sell is more transactional revenues like payments or data or revenue cycle than additional software products, but there are some.

Got it. Got it. So continuing here on organic growth, how are you thinking about that mix between SaaS subscriptions, transaction-based revenue, payment revenue and professional services going forward? And I guess as part of that, where do you see the biggest levers to increase payments and transaction attach within the installed base?

Well, so 80% of our revenues are recurring. And within that, the lion's share is either software or transactional revenues. Those are pretty equal proportion. And with transactional, I am lumping in payments. And in software, I'm lumping in maintenance. Those are fairly equal proportion. And I think they'll -- SaaS is growing faster right now. It will probably come to the mean over a few years, and the two will grow in equal proportion. We love the transactional revenues. It's really helpful for state and local budgets. We're revenue sharing with them. And so our CFO, Geoff Smith, uses an analogy. Like a state needs a road to the airport. They can either take taxpayer dollars and pay for the road or they can fill this toll road and then the constituents who are using the road actually pay for it. And so that's sort of a transactional model, and it's easier on budgets. It is a good moat coming back to that. But getting back to the 80-20, the recurring portion will grow faster than the 20%, which is professional services, a smidgen of equipment and some license -- perpetual license sales. But we will have good years in that 20%. So if I had to bet -- our professional services this year came down from $40 million to $31 million as our current projection. If I have to guess, I'd give it equal odds that it goes up, not down next year. It's not...

So what caused it to come down this year? And why do you think it can go back -- at least return to growth next year?

It's the timing. It's heavily concentrated in utilities because that is -- that customer prefers a perpetual license. They can put it on their balance sheet. They're allergic to SaaS or any other monthly payments because they have to build that into their pricing for their citizens, which is -- gives them political blowback.

Right.

And so they like professional licenses, which come with a lot of professional services and the -- we have some big customers in utilities. And if we have a good year in '25, that gives '26 a tough comparison.

Right.

A low '26 gives us a good comparison in '27.

Subsequent year. Obviously, obviously. So back on the SaaS growth of 24% that we saw in fiscal Q1. Can you break down for us how much of that was organic -- kind of what's the organic growth rate versus how much benefit did you get from these few acquisitions in that SaaS number?

Well, we purchased a utility company in April of last year, which has not annualized in the December quarter, and that was about $750,000 of revenues. Most of that would be SaaS. I don't have the exact amount. But I don't know, let's guess $0.5 million came from that. So the remainder would be organic.

Got it. Got it. Got it. That's really helpful. So one of the key questions that we get on whether it be i3 or across a lot of the other companies we cover are questions around the end market. And I would love to hear from you where is i3 seeing pockets of strength or weakness across your public sector markets? Is there something interesting or specific happening with transportation or courts in Justice, utilities? Just like how would you characterize the demand environment?

Well, Justice is our most successful market currently. We just won the state of West Virginia, which will maybe turn into our largest project over our largest revenue customer over the next 5 years. That was a big win. We're hopeful for some more wins in that area. And then we have just -- it's our best cross-sell area to transactional revenues, not to change subjects, but was a big part of our West Virginia win. And so Justice is one. Education has just been a great business for a long time. It's compounded EBITDA at 15% a year since 2014. And it's still growing double digits. So it's all a small base head, but it's just a real steady. So those would be the two. Transportation somewhere in the middle, I would say, and same with public administration. The one in '26, which is dragging us as we were just discussing is utilities, but we do think it will bounce back in '27 and beyond.

Got it. Got it. Got it. And then another question that we have, especially given the technology cycles, et cetera, and evolution. Are you seeing any changes from your perspective in procurement cycle times, RFP activity or even your win rates as we start calendar 2026?

Not that we can tell. I will say a general comment that we're moving slowly upmarket. Like West Virginia would be an example of that before that, Louisiana. And that means more RFPs. We used not to even 3 or 4 years ago, we didn't even enter RFPs because we were just a feature and some -- we were never the lead horse. And so with RFPs comes the implication that it's a little bit slower, they can get called off, they can get contested. It's probably a lower win rate. But when you win, the rewards are big, like West Virginia.

Right. So talking about like your customers in the context of rapid technology change, to what extent are your customers prioritizing modernization? And what are they prioritizing, whether that be cloud migration, analytics and AI, citizen engagement versus must-having compliance and maintenance spend?

Well, security is a big deal and fraudsters are becoming more sophisticated. I would say fear of failure is a big thing. All of our customers are very risk averse.

Got it.

And they don't want mud on their face, like that happened with Texas Utilities a couple of years ago or Southwest Airlines or -- and so their systems are getting so old and their predecessors kicked the can down the road, right? And there does come a time where they have to deal with it. They've also got a manpower shortage that's becoming more and more acute over time. You can imagine a sheriff's office who has one IT person. He gets poached by Amazon. They've got their software in a server in the closet. There's no documentation. It takes them 6 months to fill the job. That's untenable. That's not a model which can last. And so they need to outsource this stuff. We are the answer to all this. We and our peers, but software is the answer to all this in a chronic manpower shortage that can't compete with the private sector. We believe this will increase our demand as opposed to be a threat to it.

Got it. So let's talk about -- so I think that's a great secular backdrop. What about the -- how do you think about public sector budget risk over the next 12 to 18 months? And what are kind of the leading indicators you watch as to the direction of public sector budgeting?

Well, property -- so we have 0 federal exposure. States run on, income taxes if they have them, property taxes, sales taxes. So looking at taxes and the health of the economy and the real estate market in general are leading indicators. Case filings are indicators in justice, leading indicators. But right now, the state and local budgets are all pretty flush. I mean, the property market has -- property taxes they've just -- a lot of states have been jacking them way up, as I'm sure you're aware. So that's left healthy budgets for the foreseeable future.

Got it. Got it. And then let's talk about your profitability. Adjusted EBITDA margins in the fiscal first quarter of 2026 were around 25.8%, which were down a little bit year-over-year. Can you walk through the main drivers of that delta, whether that be hosting costs, investments and how you expect margins to trend over the rest of fiscal year '26?

Well, we made a large investment in Justice, and that's over 50 people and also in utilities. And so we're feeling those effects. Those did not really align timing-wise with the revenues we expect from them, but West Virginia is a good start, and we think that will happen for us in utilities also. I think we did quantify the Westford -- I mean, the Justice investment is $700,000 per quarter. Hosting had more than $1 million increase this December quarter versus the prior December quarter. And that's just variable usage going up. Now we do have one large customer that we pass through hosting to. And so we do pass it on, but it's a 0% margin, if you will. Anyway, that has something to do. And then the last thing is professional services. Declined $2.6 million. Now that's low margin, but we haven't been able to pivot our headcount immediately to match that revenue trend.

Got it. And so do you think your long-term target you've talked about in the past of 50 to 100 basis points of annual expansion. Is that still the right way to frame it over the medium to long term?

And I think we'll do that in this year in '26. The acquisition that was effective January 1 is over 50% margin. We do have some headcount adjustments we're making with a lag in regards to our professional services declining. So I think we'll do that this year, and we expect to do that in future years also.

So last couple of minutes here, Clay, to wrap up. Now that you're roughly 18 months past the Merchant Services divestiture and 9 months past the Healthcare RCM divestiture, can you walk through any unexpected learnings from operating as a more focused public sector software company, whether that be investor reactions, your go-to-market, capital allocation? Just kind of how are you looking at maybe some of the things you've learned as you've gone through these sale processes?

Well, just to start with capital allocation, it's good to have a nice strong balance sheet. We haven't had to choose between acquisitions. And I'm sure you're aware, we've been making repurchases. So it's kind of -- we're able to do both ends there. Learnings, the payment business was very steady, but it was lower margin, lower growth, same with health care. So that's been nice to not have those mixed in with our results. We do have larger customers in public sector. And now that our base is smaller, they can create these swings.

More volatility there a little bit.

More. But it's allowed us to knit together a lot easier and better and become more cohesive internally because our focus is just -- we're roughly half the size we were. And so that's been very nice.

That's great. Well, Clay, thank you very much for joining us today. It's been a great conversation. And certainly, as you've evolved the business, it's been really interesting and fascinating to watch. And public sector, as you said, looks to be a very strong growth opportunity for the company.

Thank you very much.