Roper Technologies, Inc. (ROP) Earnings Call Transcript & Summary

All right. This is first time doing one of these. So welcome, everyone. So we have Jason here, CFO of Roper Technologies as well as Zack, who's Head of IR.

And I guess maybe just to start off, would love to just hear a little bit more about the story, maybe introduce the company to people that are a little less familiar, and then we'll take it from there.

Great. Thanks, Michael. Thanks for having us. And sorry, Joe, got caught up in the bus system here. So yes, so thanks for having us. So Roper, it's -- at the top level, it's a very simple story. We're a vertical market software and technology compounder. We sort of sustainably can compound cash flow in the mid-teens over a longer time. We've done that historically. We plan to do that going forward. And really, just like a lot of diversified industrials, not so many diversified software companies have this motion is we've got 2 ways to achieve that growth objective. One is through organic growth. So today, we own 28 business or so, depending on how you count it, that are sort of vertical market leaders in their respective markets and we love these small TAMs that they participated in because we can grow with our customers, and there's just plenty of opportunities very protected. We like that, but there's also a lot of opportunity when you have market leadership. And so today, they're sort of in the mid-single-digit plus organic growth area, but obviously, very cash-efficient businesses, negative working capital, very little CapEx. So that sort of converts to high single-digit organic cash flow. And we take all of that cash flow plus just some investment-grade leverage to redeploy that to the next great vertical market software business, the most recent one being CentralReach, which I'm sure we'll talk about. So with that, you just sort of get this continuous flywheel of cash flow compounding over time. I think the interesting part is these are wonderful businesses, and I think Joe -- Joe does a good job of when we buy a business, he'll research it and kind of fact check how good is the business we own. I think he could probably attest that they are good businesses. So I think we buy these reasonable businesses that you can't really otherwise own in the public markets, right? They're too small. They're not going to go public. And we tend to -- we make these businesses better over time. I think that's sort of an underappreciated part of our story. And I think we're sort of GARP investors, if you think about it, like we're going to buy good businesses, but we're going to pay a reasonable price. We're going to grow in our environment. And I think we're really in the early innings of increasing the organic growth of our businesses. So we'll probably talk about that today. Our objectives are to capture more value out of capital deployment and then increase the organic growth of the businesses, and we're sort of on that journey. It's not an overnight thing that happens, but we're certainly making a lot of progress there.

Great. I think that's a great segue actually to our next question. Roper has been going through a software evolution over a long time. You had mentioned previously too, that you're trying to change the organic growth profile of the business. Would love to understand a little bit better from the existing business as well as you mentioned inorganic capital deployment is a huge part of the story, how we're trying to increase the organic profile of the business over time?

Sure. Yes. And I mean just maybe to level set, so Roper was able to sort of compound TSR in the high teens over a long arc of time without really asking their businesses to grow faster. And so as we set our strategy probably back in 2019, we said sort of going forward, in order to accomplish our TSR objectives, which is really through free cash flow, we're going to want more organic growth out of the businesses and increased capital deployment effectiveness. And on organic growth, I think the reality is we did a deep dive strategy on the businesses, and there's still a lot of latent potential in the businesses. We never really asked our leaders to do this. And so we really set higher expectations. That was sort of the first step along this journey. And then it was around putting in new leaders, right? When you set that higher objective, leaders that really want to grow their business, they want to build their business. They're going to have -- they're going to be competitors. They're going to be super dynamic. They're going to be learners. So we've defined what a great leader looks like. And then we ended up -- basically, over the last 5 years, we've put in 16 new leaders, I think, is that right Zack? Over that time. So we've got -- we've profiled what that leader looks like. We sort of use selection criteria against that. We use an outside selection tool to do that. And then we have 8 or 9 of us interview. So anyway, we feel like we have a great set of leaders on the field. Now they're starting to hire great leaders, right? We've put -- based on year-over-year growth, we've now put a higher incentive for long-term organic growth. So we've aligned incentives against their performance. And we also had a lot of incentives that were more tied to Roper sort of time-based Roper stocks, and now it's more based on their performance. So I think we put all the ingredients together. We're doing much more deep clinical review on strategy now, much more data informed. And so now we've got the strategy. Now it's all about execution. And so I think we're on that journey of how do we make our businesses better. We're doing that through things like how do we harness the power of Roper where we get pricing excellence. We have cloud ops excellence. We've got product velocity excellence. And so that's sort of the inning that we're at now. We've stood up a continuous improvement function within Roper and think of them as a resource to the businesses to help them improve their processes. So all of these things take time, right? It's not just one quick fix. It's -- the business has to identify where their growth vectors are going to be in the next 3 to 4 years? How are they going to build capabilities around that? How are they going to build processes around that? So what you've seen, I think the results of that have been we were kind of in the 5% to 6% organic growth range about 4 or 5 years ago. There's been some noise with COVID. We've sort of posted some 8s and some 9s. We've been in the 7% range. And that's just because of some of that COVID noise. We think we're kind of in the 7% to 7.5% range today with aspirations to grow to high single digits over time. Clicking into the businesses that we're looking to acquire. So really, if you think about it, like what we had bought in the last decade have been businesses that were maybe 3 or 4 -- 3 turns private equity, call it. They have been pretty optimized. They were sort of mid-single-digit plus growth, had some margin expansion opportunity, but not a ton. What we're looking at today is to kind of go click earlier, buying businesses that may be one turn out of private equity, growing at a little bit of a faster market. Still have all the characteristics of a more optimized business, but just earlier in its life cycle, so that we can sort of enjoy the growth in that business. So you get both sort of the growth aspect and then you typically get margin expansion as a result of that. The last 2 maturing leaders that we've acquired, reason why we're calling them maturing leaders was Procare, we did -- it was the beginning of 2024. And then we just recently acquired CentralReach. So you're going to get margin expansion from those businesses just from growth. And that's -- so that's the first archetype. The second is -- and it's really one we've done quite a bit historically, but just more bolt-ons. Bolt-ons have been a story for Roper probably for the last 10 years, but not as strategic, I would say. We're really looking at every business, what's their organic and inorganic strategy, where is it an adjacency that we'd have a high right to win, and then we're cultivating and targeting those lists. So just being much more intentional about our bolt-ons. And the whole goal of the bolt-on is to increase the organic growth for the platform. It's not to do some sort of multiple arbitrage or what have you. Now as a result of those bolt-ons, obviously, we get a lot of cost synergies or some cost synergies as a result. So they're definitely higher return deals, too. So those are like the two that we're like mainly been pivoting towards.

Great. And I think that sort of lends itself to different margin opportunities as well. You mentioned maybe acquiring companies a little bit earlier in the life cycle. Joe, welcome to the stage.

Coming in hot...

Take us away.

Hi everyone, you can keep going, let me catch my breath and...

Sure. [indiscernible]. But in terms of buying opportunities potentially a little bit earlier in the life cycle, perhaps margins aren't optimized at that point and scaling would help with those margins. Is there any appetite from acquiring a business maybe has a little bit more of a turnaround potential to it, whether it's an early stage or later-stage type business? What are your thoughts regarding anything like that?

Yes. I think we always look at sort of cost synergies through a risk lens. I mean, obviously, it kind of starts with what's the lowest risk, it's G&A, then you sort of move on to maybe sales and marketing or marketing and then sales. I think if you're looking at something that's a turnaround, especially if it's a product rewrite, we have no interest in that. There's just too much risk to onboard even if you can get it from a reasonable multiple, you just have too much tail risk on that. So the synergies that we've mainly been able to realize have been through the bolt-ons, and we've had some very successful sort of combinations, if you will, with Strata and Syntellis a couple of years ago. And then last year, we combined Transact with CBOARD. And so that's where I see probably the most margin opportunity. These maturing leaders, like I said, they get margin expansion through scale. And we think that's just sort of a better way to get margin.

So then maybe on that point, just take us through CentralReach. How do you identify that deal? What do you like about it specifically? And like what hurdles did you have to get past to make the move there?

Yes. So really excited to close on CentralReach last month. It's just -- it sort of checks all the boxes for Roper. It's sort of mission-critical. So let me back up. So CentralReach is a leader in providing software solutions for the autism spectrum disorder market. It's got about 200,000 professionals that use the software every day. And what it's doing is really allowing these clinics to be more efficient in the way they -- from the time they sort of set up a patient all the way through reimbursement. There's digitization and through all of those workflows, there's AI-enabled digitization as well, which we really liked about the business. And so it's a great business in that it's increasing efficiency. It's helping realize more revenue for the business. It's in a great market. If you think about the sort of the tailwind there is really around there's so much more demand than there is supply. So there's fewer therapists than there are individuals that need the treatment. And so you're talking about 900 million -- just to scale it, 900 million hours of demand and 300 million hours of supply today. So we think that sort of tailwind can go for the next decade. You also have reimbursement that's sort of available, both commercial and Medicaid. And so those are all sort of positive parts about the market. And CentralReach, like many of our other businesses are the market leader. And with consolidation, we tend to kind of win with the winners, if you will. So we see benefit there. And in terms of -- there's just multiple paths to growth, so we like that in terms of both cross-sells. There's a bunch of AI solutions that have been released in the last 12 months, and we're seeing tons of traction there. And that's through scheduling, that's through claims adjudication, note taking, right, translating the notes from the session in a Gen AI format to make it much more seamless. And then just like I said, just kind of growing with the market. So really excited about that. This is a business that we looked at probably for the last year. And so it's just really part of the cultivation work that we're doing -- that we have been doing, but we've been doing increasingly more in the last few years with sort of increasing the talent in our M&A department to really go deep with a lot of the sponsors on the portfolio and find out areas that we can get a first look at. So this is one where we had developed a relationship with the management team and really did a lot of our homework. It really matters when you do your homework and you ask good questions that kind of wins over the other side. And so we were able to just sort of move swiftly as we do and close on the deal.

Like to me, that's a very down the middle Roper deal, right? Like a niche software platform, I can see with the growth paths. You've also started to do a little bit more bolt-ons now, and you mentioned that when I ran in here. What allowed you to shift that strategy a little bit? And now like how -- if you're weighing 2 bolt-ons versus one big one, like where is the preference if there is one?

Sure. My preference, I mean, well, it depends on the value, right? You probably have to do 5 for 1. I would prefer to do bolt-ons just because you get -- you sort of increase the organic growth of the platform, as I said, and you get some synergy opportunity. It's low risk. I mean, I think everything we do is low risk, but you can get more sort of certainty there with bolt-ons. So I would say kind of pre-Neil CEO days, the bolt-ons were sort of opportunistic. They were, I would say, probably more on the arbitrage side of things, not as strategic. But what we learned even acquiring Deltek and some of these other software players, we had real opportunity to do some add to another one where we had real opportunity to buy product into the distribution that we have. And so we got comfortable and confident as we saw success there that we really should be more intentional about this because prior, we kind of let the businesses sort of do it on their own, and we didn't really say you should have an inorganic strategy. Now we have that for every single business. And so we just see that there's a ton of opportunity to capture there. And so that was really the confidence, the capability. And now we have a pretty well-worn M&A process and diligence process around that such that we sort of reduce risk on any bolt-on that we do.

So is that being driven a little bit more by the central function than it used to be on the bolt-on side?

It's -- I would say we've initiated it more, but it's a partnership, right? It's a monthly call that Janet and her team will have with each of the businesses around, okay, here are the -- after we've selected the targets, who's sort of on first in terms of the conversations we want to have with the right stakeholders, be it the founder or whoever it is, such that we're sort of keeping things warm and that it's just like the coordination is really important there because you don't want to trip over each other. And then once we get into diligence, it's definitely a partnership. We'll do all the compliance-related diligence. Businesses will typically -- they'll own the financial model. They'll own the commercial side of it with our support.

So you recently did a couple of them for DAT with Trucker Tools and Outgo. So maybe how did those -- like what was the impetus for those and then take us through like kind of that process?

Yes. No, it's a great example where we've sort of -- we've set the strategy for DAT. We have a great new leadership team. Jeff Clements became the CEO just probably, I don't know, half a year ago. He joined us as a product leader and then transitioned to the CEO. But they have taken a real strategic view. This -- by the way, Jeff has a huge like network background. He worked at eBay. He stood up the e-commerce at Walmart. So he really understands network. So we really did a deep dive on how can we increase sort of the network value for all stakeholders and just sort of realize more in this because we've got this captive audience of brokers and carriers. So how do we sort of increase that? So this was specifically around what are some of the pain points for -- in this case, it's brokers, right? With Trucker Tools, there's a lot of fraud in the spot -- there's a lot of fraud in the spot market. So shippers want to know where their cargo is. So they're going to the broker saying, "You need to tell me where your trucks are? Well, the brokers like I don't have that information." But with Trucker Tools, they do have the information. And so they're able to sort of track that. So that's a key just again, it's an enabler. And then we recently acquired a business called Outgo and this is a fintech company basically enabling factoring to happen in the spot market. So it really helps carriers get cash faster. And so if you think about they go into the load board, they already see that Outgo is -- they can click on the Outgo and they can go write it in. So it's just kind of like a one-stop shop.

Outgo is the financing mechanism itself?

It is today. So at some point, so it will come on to our balance sheet for a little while, but we assume to get a partner. So we're not funding that. But super excited about the tech. We had partners that we used for this before for factoring. So we had sort of a rev share agreement. And we saw tremendous growth with those -- those partners have tremendous growth with us. So we're really excited about owning this part of the ecosystem now.

Yes, that makes sense. I mean just since I've covered the company, the portfolio has changed quite a bit. I know you talked about with Michael before I got here on the move towards software, but you still have a decent amount of larger product businesses, and you've divested some similar types of things in the past. Like how do you see those businesses within the context of the current portfolio?

I mean, I think they're great vertical market technology businesses, right? I mean a lot of it's tech-enabled products. And so to us, we see similar sort of characteristics in terms of there's a lot of reoccurring revenue. The businesses are growing tremendously. They're winning in their markets. So to us, the whole point of divesting the energy and industrial businesses was to remove the cyclicality out of the portfolio. I think we've effectively done that. And so we're delighted to -- as long as investors are happy with it, we're happy with it, and we'll just continue to own them because they're a key part of our growth, and they're just wonderful businesses. Anything to add there?

No, good.

I mean to that point, though, you're kind of in an interesting spot, right? So when I launched a new industrial company, now it's a software company, but you kind of have the benefits of dual-class ownership essentially across multiple verticals? And I guess, how do you weigh a potential divestment of something versus losing the ability of some portion of your investor class to like be allowed to invest in you?

Yes. I guess I don't think of it that way. I just look at it through the lens of like how do we optimize free cash flow compounding. I mean, frankly, I think if we can get to the generalist portfolio manager, I think they'll be -- in my view, you can challenge me on this, but that will be fairly indifferent to what sector in and it's more about the model and sort of how we build businesses and the types of businesses we own versus sort of what the portfolio is made up of as long as those -- as long as it is sort of like industrial logic, which I think to me is the market leadership, the high margins, all those things are sort of continuous throughout the portfolio.

I'd be curious for that context.

Yes. No, I would agree. I think that -- I think we've never defined ourselves by our end businesses first. I mean our businesses obviously matter a lot to us. But at our core, we're a cash flow compounder, and that resonates with all audiences. And I think what we've done is there's parts of our story that you might have to emphasize a certain aspect of it a little bit differently. Certain metrics you hear us talk about a little bit more as it relates to software investors. We're talking more about gross retention and sort of like bookings growth, that sort of a thing. So I think we can highlight different parts of our businesses to speak the language of their respective audiences. But I would agree with it, Jason, in the end, there's not a huge divide in terms of it. And I can -- with my role going to a lot of these conferences, I can tell you, there are "technology-focused investors going to more multi-industry conferences and vice versa." I was at one yesterday, it was a tech conference, and there were industrial investors there. So I think that we'll talk to people wherever they are and whatever their focus might be. And I think there's less of a hard line between the two in our experience.

So it's more just using appropriate verbiage for the people that you're talking to, I guess, to tell the same story?

Yes.

Fair enough. Cash flow, you mentioned at your core, you're a cash flow compounder. I know that we've written about that. We've talked about it a lot. I guess I've heard CRI mention less over the last several years. I know it's still kind of like the way you operate, but is that intentional? Like how should we think of -- was there kind of a shift in nuance there?

I think it's a nuanced shift. I think -- so cash return on investment. So cash is still there. Cash is so important. Cash flow growth is super important. The CRI strategy, which was super effective and still is a big part of our ethos was to buy businesses that have sort of better, more negative sort of working capital than the business we own. And that was the strategy up until we kind of got into this realm where how many more negative -- like companies that we can -- that pay annually and customers pay annually in advance can we buy. And so that sort of naturally just limit the amount of business you can look at. So as long as they are sort of generating cash as they grow, we're good with that. And so that's really the shift is like we -- CRI was able to -- and by the way, the strategy of doing that was to rerate the multiple, which we did. And so we still think there might be a little bit of multiple rerate if we increase organic growth, but really now it's all about cash flow growth, right? As we grow cash flow, then the stock price will increase. So that's really the -- so we -- everything -- every business we look at from a deal perspective, we do go through CR. We look at it as a key input, but it doesn't have to like drive the whole decision.

Okay. So I mean, I know the object in the past is to like buy things that move CRI up the curve to rerate to that point, right? So now is it -- it's less, it has to be more CRI like it doesn't not to necessarily accrete the CRI, just has to be attractive to CRI and compound the cash flow.

That's right. It's all about what kind of year 5 EBITDA multiples and sort of how we think about returns.

When does that really like kind of click that we're moving off of that a little bit?

It's around the '20, I would say, '21 time frame.

Okay. I guess we should talk AI, and it's probably the biggest question we get. A couple of years ago when we started with the all AI boom, it was -- honestly, one of the reasons we downgraded at the time was the questions we were getting from people, we didn't agree with them. I was like if I'm going to have to answer these questions every day, is going to have a hard time working. So I think the thesis back then, and we subsequently upgraded, it's one of our top picks, just to be clear on the same page. But that AI was going to like eat your businesses. That was the thesis. So let's start there. Why -- how do you respond? How did you respond to that? What have you seen over the last couple of years?

Well, I mean, I think everybody was still trying to figure out what this could mean for all markets 18 months ago. I think -- so we were all experimenting at the time. And I think what we came to learn and got conviction about is that the tech has been democratized around being able to do -- if we're going to be disrupted, we have the right to win before anybody else, right, because the tech is available. And so I think being a vertical market software player, like you've got access to the data, you've got the context. And so it's really our markets to win. And I think if anything now, we're more convicted about the TAM expansion opportunity because of the agentic workflows that we can help to monetize, right, through labor replacement and the like. So we're getting more convicted as we're seeing more -- as we're seeing the technology evolve and the closer we are to it, the closer we are to our business models and the ability to develop products that we're in a very good spot there.

Maybe a couple of examples of how you're utilizing this as a tool to help you make these businesses better rather than being a threat from an outsider?

Yes. Look, I mean, it's -- for us, it's all -- first, it was education. And now it's really like harnessing the power of collectively across Roper. So every week, Neil is like sharing kind of new thoughts about how different business models can be disrupted. All of our businesses are now going through and like kind of reimagining not only what their business is going to look like, but their customers' business is going to look like and how they're going to participate in that. So they're all re-underwriting that just from a business strategy standpoint. We're going to have -- we have agreements with all the major enterprise players now. So all of our businesses are in and working in a shield of Roper environment, but they have their own sort of instance. So we're leaning in heavily to that. And now we're starting to share use cases across Roper. I think Aderant was one of the first to come out, and we've got ConstructConnect that's making a ton of progress on real TAM expansion for them around -- I can give you specific, but we can keep going to Frontline has an AI-first strategy. So they're all -- it's sort of all happening real time here, and we're super encouraged by what can happen. I'll give you the one, for instance, on like the TAM expansion. So ConstructConnect is a business that does preconstruction. They basically provide pre-concession data. So that's their primary business. So they get data for both public, which is publicly available projects, but also private is sort of the secret sauce. So they have all of this data that they can use to then inform another product they have, which is an estimating tool essentially. So it can take a blueprint and do the lift off to make -- to estimate what that project is going to cost. And so we've been able to use this tons of rich data that we have to feed LLMs to then inform this product called Boost. It's a takeoff boost product. And what that's going to enable them to do is essentially you've got a $10 billion or more market of estimators out there that will now be -- have the ability to be more efficient or have even more importantly, take some cost out of that.

That was a service that was not available as part of the core product?

It was a service, but it was still very manual. So it's basically a software tool, not an actual AI takeoff solution.

Interesting.

I'd just add real quickly. I mean, you've covered us for a while. You know like our model is very much a decentralized operating structure. This is an instance where there's much more push from the center than really anything that we've had. And I think that reflects the magnitude of the opportunity that we see and also the importance of acting urgently for our businesses. So we're not being overly prescriptive. There's not like a playbook that all 29 are going to follow. But they're all going to craft that based on their deep knowledge of their individual markets and all that. But we're definitely, as Jason said, trying to educate harm, make sure everybody is ready to act.

How much can you do centrally for that? Is it -- are there different -- I mean, different models for different businesses? Like how is the push for mandates to figure out a way to harness this and kind of go out and do it? Or is there like centralized resources and things like that?

Yes. I mean I'll give you like the other thing we're doing is we're doing a value chain analysis for our top 6 businesses, where we're like going through clinically like what is this going to mean for their customers? And then like how is that going to inform product strategy? And then how is that going to evolve our product road map for those businesses. So we're not prescribing, but we are sitting partnering with them to go through that analysis to make sure that we do it. I think the -- what we're also seeing just on the internal efficiencies is like -- as an example, Cloud Code is now being adopted across a number of our businesses because Deltek did a webinar 2 months ago on like specific use cases of why this is working, not just from the leader, but from several of the developers. So just that power of like being in a portfolio of companies where they can learn and kind of have the free-flowing information has been super helpful as well.

How do you -- when you're evaluating targets now, I assume this has to be like a critical piece as to ensuring that this can't be dis-intermediated for whatever reason by something like that. How is the evaluation process changed?

Yes, I think that's 100% right. I mean even if it's seat-based, we have to kind of look, okay, well, it's seat based, but is there an opportunity -- like what's going to -- again, what's going to happen with their customers? What's that workflow going to look like? And how does -- how are agents potentially going to play a part in that? And then how elastic will that be in terms of being able to charge for that. I think that's one aspect. The other is what's the mindset of the company around AI, right? I mean you have to get -- there's some lead time around that to get leaders bought in and the company bought in. So like are they an AI first? Are they taking an AI-first approach to running their business? And you got to look past sort of the investment banker sale on that. Like is it truly something that's going to be like something that we can gravitate towards. And so CentralReach is a great example of that where not only are they -- their business model is serving therapists that have to tactile like sit with their patients. So that's not going to be disrupted, right? And then they have this AI-first mindset where they had an AI leader that was separate from their development leaders. They had this like very interesting way of developing products. There's conflict, good healthy conflict between software development and AI. And so we've actually thought that was a great model to sort of emulate and we've shared that around the portfolio.

For what it's worth, and I can say this as an industrial guy, all the pushback we get currently on AI as a threat comes from industrial analysts and the software analysts who definitely know more software than I do. I think that there's no risk of that. So that's an interesting dynamic here. We have only a few seconds left here. I'll turn it over to any last-minute questions from the audience. I think otherwise, that's a good place to leave it. All right. Well, thank you guys for joining us. Thank you, Michael, for standing in. We'll see you guys through the rest of the conference. Thank you.

Thank you.