Unisys Corporation (UIS) Earnings Call Transcript & Summary

We're thrilled to be back in person in Boca Raton, and we are thrilled to be back. I have Unisys with us today. And we have Deb McCann, who is the company's Chief Financial Officer. Deb, thanks so much for being with us.

Thank you for having us. Can everyone hear me? Okay.

So Deb, you've been Unisys' CFO since May. So before we delve into the company, any first impressions or anything unexpected that you've encountered?

Well, I think a lot is as I expected. So the reason I came here is strategy. I think strategy and the leadership team were just concerned [indiscernible]. That was really the reason I came here and that has been as expected. My first impression since I've been in the business is we really are investing in right areas. I learned to more see where we are investing. That's something I am happy with. Definitely, something I didn't expect, some of the headwinds we're getting from the macroeconomic environment. We're not something -- we didn't really expected it. It's slowing the pace of our growth. But the good news is the areas we are investing in are still growing. So for me that makes me excited to be here.

Okay. And then we're going to delve into the segment in a bit. But just to level set everyone, could you give maybe a 30-second history of Unisys, as the company has been around for a long time?

Right. It's been around very long time. So it's a global IT solutions company to help companies support their workplace solutions, their cloud and infrastructure as well as computing services. So it's been -- I think it's a 150-year-old company, is that right? I have Shalabh, my Treasurer here. So it is a company that's been around a while, started as typewriter. So -- and there has been the prior Unisys invented the QWERTY keyboard. So it's been kind of -- it's been the same. So it's been around a very long time. And so -- but it's really -- and I was at Dun & Bradstreet for 12 years before this, and then I was at AT&T. So I kind of have a history of being at companies with great history. So that's -- we used to be a lot of mainframe computing is kind of what's our history. After the typewriter, we moved into that. But now we're doing more services and solutions.

Okay, great. So to delve in more, so the company's go-to-market segments are: 1, a digital workplace solutions; 2, cloud applications and infrastructure; and 3, enterprise compute solutions. And I do want to say that just even reading those words, it's still pretty intangible. So what I'd like to do is to delve in deeper to make it more concrete. So could you provide a brief introduction of these go-to-market segments and what you actually do with some concrete examples? So, for example, if we started with the digital workplace solutions.

Okay. The digital workplace solutions is existing companies manage their devices or their -- all of their computing, the tools and resources that the employees use within that company to do their jobs, kind of anytime, anywhere. As you know, a company -- I'm here with my phone. Everyone has a laptop, phones and iPad, several devices that you expect to open up and have everything working and be able to access your work information in multiple devices, in multiple places now that we're in hybrid environment. And so what we do is we kind of have our traditional workplace, which is more of helping companies with desktops service, a service center, a fix it center, where we have permission to go around and help fix peoples' computers versus a more modern workplace solutions, which helps deliver software essentially, which helps monitor, how is everybody's Teams working, how is Zoom working, really help manage all of those devices, kind of endpoint business management, all those applications that's been on top of it and to really monitor how all that's working.

Okay. And then what's the scale of the segment relative to the total revenue base?

So right now, it's I think like 15% of [indiscernible]. Later when we talk about [indiscernible].

That's okay.

Yes. So I think -- sorry modern workplace, the modern workplace. So all of the -- please mute the mic. Okay, sorry. So the scale -- the 3 main business units are approximately 30% each for the total. But then modern workplace, which is the area that we're really focused on growing, that is about approximately 15% of the Digital Workplace Solution revenue. And it was 7% last year. So that's something we're excited about that it's growing as a part of the segment. And then it's -- our plan is for it to be approximately half of the DWS revenue than that modern workplace, which is more of those solutions that are higher margin, more digital, we expect to be more than half of that segment by 2025. So those are examples of the things we're investing in and that are a lot higher margin. And we expect the margin of that modern workplace business to be in the mid-20% range by 2025. So that's what we're seeing.

From what base now?

So right now, it's in the -- it varies, but it's more like low -- I don't have the exact margin, sorry.

Okay. And then the same question for cloud applications and infrastructure. What do you really do in that segment? And I think the sort of growth element there is the digital platforms and applications.

Right.

So how is that differentiated from the rest of the segment?

So I think we really designed to deploy -- help companies manage their multi-cloud environment. So we do, we really look at that cloud application infrastructure in 2 areas. We look at the more traditional infrastructure, which is more on-prem versus the digital platform and applications, which is helping companies manage the applications in that multi-cloud environment, data analytics, everything that kind of sits on top of that cloud environment. That's the digital platform and applications segment, which is our focus area within that segment. And so, for that, it's around -- we expect it to be around 20% of the C&I revenue this year, growing to about -- it's actually -- sorry, about 30% -- it was 20% last year. We expect it to be 30% this year and then growing to about 40% of that cloud application revenue by 2025.

Okay. And then finally, enterprise compute. There's something called specialized services and next-generation compute.

Yes. Yes. So we have -- ECS is kind of in 2 areas: licenses and support, which is our ClearPath Forward licenses and the support that goes along with that and that's a computing application. And then there's -- on top of that is specialized services and next-gen compute, which are offerings that create additional value for clients. So applications, industry solutions such as cargo, which I can give an example of. One of our companies that our customers is Malaysia Air Cargo and we help them with their logistics management and taking a bunch of data that they need to compute and helping them manage that data.

Okay. So who are your customers and how much cross-selling is there across your segments?

Yes. So for our customers, we have about 40% are commercial. But we also have a large amount that are public, so about 34% are state, local governments and then overseas a lot of -- a lot of country governments as well. And then about 25%, we have a large amount that are financial services companies that use our ECS computing product as well as all of our others. So -- and then as far as cross-selling, we have -- we really look -- the cross-selling most is between our DWS and C&I. And it's about 30% of our customers have both DWS and C&I. And so that's an area where we really see a lot of growth opportunity, because it's, 30% leaves a lot of opportunity to cross-sell more of those customers. So that's something that we have created kind of entry-level solutions for our customers. So if we have a DWS customer, we've gotten some packaged solutions that we go to them. It's a big focus area for our sales folks to go out and say, here is a solution that can kind of be an entry level into the compute -- the C&I business or vice versa. So it's a very big focus for our sales force right now.

Okay. So part of the company's, I would say, legacy business is the license and support revenue and the services that you provide. So the 5-year CAGR that the company has provided for that is negative 3.5%.

Right.

So it's something that's kind of stable to slightly declining on a 5-year basis. But in 2023, revenue is expected to be down 25% year-over-year, I think you said on the last earnings call. Then '24, up low single-digits; '25, up low double-digits. So why is that so volatile?

Well, the license and support business is when we sell that revenue, we get all the revenue in at that time. So we get the revenue and most -- and usually the cash as well. And so there's -- usually, there are 3 to 5-year deals and there's a renewal schedule. And so that revenue is really almost fully dependent on the renewal schedule. So if you have a 3 to 5-year deal, we can kind of look out and see when those are renewing. And so we've been hinting for the last few quarters that 2023 is a light renewal year. And we also had some companies that decided to renew early. And 2020 and 2021 were very heavy renewal years. 2022 is better than '23 will be but lower than '21 and '20. But then '23 is really just the lower renewal year. If you look 3 to 5 years back, that was probably -- that was also a low renewal year. So it's really based very much on the schedule of the renewals and the revenue because it's not a SaaS-model, that ECS revenue. And so it really just depends on those renewals. So we've been saying for a little bit that '23 will going to be a low year and so going into next year, it was good to kind of get that out there that it is what that number was. So people could, as they're doing their modeling, anticipate that.

Okay. And those are very high margin?

Yes. Yes, 60% to 70% margins, which is another reason when you look at our numbers, you'll see quarters a lot of times the explanation for quarterly profit being up and down is a lot of times how those license and support revenue schedules came in because a lot of the costs are fixed because it's a lot of amortization and the people that support that software. And those are pretty much steady. But then the revenue comes in and that impacts the profitability.

Okay. The company has also exited some low-margin deeds at its U.S. business, which has impacted the year-over-year revenue comparison. Is there more of this kind of pruning to come? And what do you consider noncore right now with regard to your business?

So as I described the DWS business earlier, the -- more of the traditional workplace, which is that desktop support and field services. So folks -- people on the ground that are going out and helping support those devices. That is what we really consider traditional. It's low margin, just more difficult to more fixed costs, that sort of thing. And so those -- that's what we consider our traditional kind of noncore. Now when I say noncore, it's important to note it's not that we're getting out of that business because for a lot of companies, that's kind of table stakes. They want to be able to do that and add some of those more modern solutions on top of it. And it's a fairly steady business. It's not as if it's dropping off, and it's just for us, for it to be worth it, we don't want companies to just have that, right? And sometimes, they just have that in the beginning. But they seem open to conversations about kind of moving up the value chain to the higher margin solutions. And so for us, that's the business we want to be in. And if someone just says, just run our field services, and that's it, then that's not something we want to be in. So that's an example of kind of the traditional business we're trying to not focus on as much because of the margins. And so as far as there were some big -- some deals last year that we got out of, because again, those customers didn't really want to move up that value chain. As far as - there's about 2 deals right now kind of in that same area that we're in the process of renewing now and those talks are going well. So we -- they do seem open to those higher-value conversations. So we don't -- as we look at the renewal schedule and a few in the next year or so, we don't see others that we would probably be pruning at this point.

Okay. So let's switch to exogenous factors, macro. So I think the company recently cited negative revenue impacts from macro headwinds, including, I think you said existing client budget constraints, renewal delays, reduction in scope, new logo signing delays. So doesn't sound like very curious things, but how material and prevalent are these impacts, and are conditions worsening in the year-end?

Yes. So I think we -- we're definitely seeing these headwinds. And I think it's consistent from what you'll hear from other companies in the IT space, which is really lots of conversations around delays. So we have existing customers that are renewing or looking -- we're already in conversations to potentially expand scope. And they're saying, you know what, for now, we're just going to keep our existing scope. We're -- let's just renew right now as is and hold off on that expansion conversation because of the macroeconomic issues that they're facing. So that's some impact with our existing customers, which is one of the larger impacts. The other one is for new logos. Again, we were already in conversations with planned on closing Q3, Q4, really said, you know what, let me delay. We're really interested in your product. It's not necessarily that they're going with another provider. They're just saying, we're going to delay till Q1 or from Q3 to Q4, which then doesn't give us as much in your revenue. So that's really what we're seeing from that environment. I think as far as what's going to come, I think we all probably have a view on that. I think it's -- for our guidance, we really tried to de-risk a lot of that for this latest guidance range we gave. So I think for '22, our guidance is the best view at the time. But I think '23, as we're giving our guidance for '23, that will be really where we'll have to be looking and seeing what we think for next year.

Okay. And then, touching on the other exogenous factors that we're unfortunately dealing with, to what degree has the company been impacted by supply chain constraints? And how much of that has been addressed or improved?

Yes, so the supply chain hasn't impacted us that much really. You know that we haven't really seen large impacts from that at this point, okay?

And then cost inflation, are you able to pass higher costs on to customers? And what is your pricing power like generally?

Yes. So we -- some of our contracts, we build in COLA, cost of living adjustments. And so we are approaching those customers to implement those. While there are some that don't have that built in and so as we're doing, we're going and having those conversations. And if they -- we try to get cost of living adjustments in at the beginning when we're negotiating the contract. If they don't want to do that, a lot of times we'll build in a 3 to 5-year contract efficiencies over time. So we'll just kind of build in our own buffers to ensure we're accounting for that cost inflation. And I think the pricing power, I mean, I think -- we bring a lot of value to customers, and in many cases, it's saving them money. And so I think we're able to still have some pricing power in that value proposition that we have for them.

Okay. And then on the labor side, do you have the workforce that you need?

Yes. We've been -- I mean, it is a challenging environment. But I think we...

Especially for IT stuff, right?

Yes, for IT. But I think it's easing up a little more than we saw earlier in the year. We've seen a 6% increase in applicants to our open positions. So we're seeing a little bit more supply out there, which I think is probably consistent with the market. And so we're -- but it does still remain challenging. But I think we're trying to create a brand awareness. I see our brand -- our logo up here, the readiness is. I don't know if anyone -- if anyone goes through our website today, we actually launched our new brand on Monday. So I have tried to send it down. I'm sorry if I didn't make it on the screen. But you can go to our website and see we did launch a new brand, its new colors. It's still the Unisys name.

Oh, sorry, it must have got...

No, that's okay. It's no problem at all. But I think you can go to our website and see. And it's not just about the brand and the logo. It's really -- it's not just about the logo, it's really the brand and trying to really associate it more with our more modern solutions. And we're hoping -- when you're talking about workforce, that's a part of the strategy is, of course, to attract more customers to -- for our go-to-market, but also to attract employees and try to let people know more who Unisys is.

Okay. So that was my next question. So there's a new brand identity and marketing campaign. And I think you've said it's designed to build awareness for Unisys and its key solutions and to catalyze growth. Now you have been around for 150 years. So what is this content about? And how are you trying to change the perception of Unisys?

Yes. Yes. So really, it is kind of from that mainframe, your grandmother at Unisys that was kind of -- people look at us is almost like a mini-IBM to more of our modern solutions, helping companies solve problems and really with breakthroughs. And so the marketing campaign is it's very targeted. Some people have said, in this economy, is this really the time to do this? But we had already gone down this path. And the logo that we just came out with on Monday was kind of the last pieces of work we've been doing all year, which is really not just the logo, but getting out there with more advisers, third-party advisers and industry analysts and getting a lot more recognition and we've won lots of service awards. We've won really big named as leaders and a lot of the quadrants for a lot of these third-party advisers. So it's really not just the marketing, but it's hiring people to get with these third-party advisers and have more conversations. It's the marketing. It's the very targeted to where our customers would be looking to really get out there with what our new solutions are and let people know more about who we are.

Okay. So getting to financial topics now. So the gross margins in enterprise computing, which have the high-margin licenses are higher, markedly higher than you have in DWS and C&I.

Yes.

So could you just talk about either your plans to be able to increase the segment margins for DWS and C&I? And then on a consolidated basis, what your near-term EBITDA margin outlook is? And maybe you can just recap the EBITDA guidance you've got out there as well.

Yes. Yes. So as far as the margin, a big part of our strategy is to look at our costs, how we're spending, how we're delivering in both DWS and C&I and really looking at that cost of delivery is a big focus for us while also still investing in the areas that we are -- where our biggest growth is. I think -- but another piece of it, so we're looking at the delivery, but also as I talked about those key focus areas, within DWS, moving into more of the modern workplace solutions, which are higher margin, more in that mid-20 as well as with the computing, more of the applications that sit on top of the cloud with those higher margins as we shift, right? So for DWS, we're at about 15% of our DWS revenue is that modern workplace with the target of those 20% margins, moving that to more than half by 2025 will increase those margins as well as on the cloud side to get more of that digital platform and applications revenue shifting to more about 40% of that unit's revenue by 2025 is that higher-margin business. So -- it's looking at our existing, how we're delivering today and the cost. But then as we shift to those higher-margin focus areas, that will improve the margins over time of the overall segments. As far as our EBITDA guidance, the guidance we just gave was 14.5% to 16.5% for this year of EBITDA margins and we haven't given beyond that at this point.

Okay. So free cash flow, you have guided to positive free cash flow in 2022. What's your ability to sustain and grow that? And if you can talk about capital intensity as part of that?

Okay. Yes. So we expect CapEx, we had said about $85 million to $95 million for this year, and that's about 5% of revenue. And that's the pace we continue -- expect to continue to see. In the past, it's been more in that 7% to 8% range. So we've definitely taken a harder look at how we're spending CapEx. And so that 5% is really what we expect going forward from a CapEx perspective. For free cash flow, yes, we do expect to be free cash flow positive. It is -- our cash flow is like same with our margin and our revenue can be highly dependent on that license that software license revenue and margin that comes in as well as the cash because typically we collect that cash. At the same time, we recognize that revenue. And so those -- getting those deals renewed kind of on schedule is a big factor there. But that's -- so as far as sustaining it, that's one of the things we'll be looking at next year. And luckily, as cash flow in those other units, and we're improving -- margin is improving, it can offset some of that cash flow headwind that we'll have from the licenses.

Okay. So pension, so you recently disclosed new estimates for contributions to the company's pension plans. Could you recap what changed and what the new estimates are?

Sure. So we -- typically, we come out at the end of every year and give an estimate of what our -- both our GAAP accounting deficits is for the pensions as well as what our expected contributions are. In the past, we -- at the end of 2021, when we came out, we had said international was still what it had been expected about $30 million to $40 million a year that we'd be contributing. While the expectation at that point was for the U.S. plan, the contributions that there would not be any in the near future that we saw. What's happened is throughout 2021, as equity -- the equity markets have deteriorated as well as the fixed income markets, the assets for that funding formula have deteriorated, while the liabilities have not necessarily come down, which they usually would as interest rates go up. But the way the funding formula works is that we use a 25-year average is the funding rules of interest rates. And so that 25-year average was already at a higher interest rate. So as interest rates have gone up, it hasn't brought the liabilities down. And so that's really what's happened. And so there's a few other factors, but that's the main reason. And so given that, what we see our current projections is we will need to, not until 2025 is the current expectation. But it could be as much as $100 million a year for the next several years. And so we thought it was important to let people know that I think a lot can change before 2025. As we know, this has been a very challenging market for equity -- a year for equity and fixed income. On the flip side, there's also the GAAP accounting deficit for the liabilities. And in that formula, the higher interest rates have brought down liabilities. So the GAAP deficit has actually improved, which we talked about on the call. And that's the true kind of economic number that is important to say what are -- what's the true deficit for that pension. And that actually has come down -- as we said about $750 million at the beginning of the year, and that's come down $100 million. So that's about $650 million. So that GAAP economic, that GAAP deficit, that's improved, but the contributions have deteriorated. But we're hoping there's -- a lot can change before then.

Okay. And then another issue that's come up is the company filed its 10-Q, I think, a little late and then disclosed a material weakness in disclosure controls, procedures and internal control over financial reporting. So what is this all about? How did it come about? And what are the impacts?

Okay. Yes. So as we were preparing our Q3 results, we identified some weaknesses in our controls that were mostly around information flow. So it's disclosure and ensuring that the information is getting to myself, to the CEO to ensure that as we're disclosing, we have all the right information. And so you can see with the remediation plan that we have in the latest Q, by looking at that, it gives a better sense. So enhancing our policy, for if there's a cyber-event, a written policy making it very clear how that information gets escalated, which is kind of an emerging area, right, in the cyber as cyber events are becoming more prevalent. And then as far as direct reports to the CEO, ensuring that they are representing before we file that they have told us all the information. So some of those remediation steps give you a sense of the types of things we're looking at. We really want to make sure our controls are tight and that we're getting all the right information. And so the good news is none of our numbers changed. So everything we did disclose was proper. So there was no concern with anything we did report. It's just as we were going through the earnings process, with the weakness it -- well, it could have been missed, right? And how do we make sure the controls are tight enough that we won't miss anything. And so that's really what it's about.

And so because this is a debt conference, we definitely have to talk about leverage a little bit. So the gross leverage is just under 2x for the company. Net leverage is under 1x. Do you have a leverage target or a minimum cash target? Or how do you think about the debt structure?

Yes. So just with the numbers just to make sure everyone is clear, I think the debt and the leverage numbers you're looking at are -- don't include the pension. So just to be clear, that's -- and because we now are anticipating U.S. contributions, we look at it both ways, that way as well as with the pension, where the numbers are higher.

So for your numbers with the pension included, what are your leverage?

Yes, it's more, if you use the publicly disclosed information of that -- the GAAP deficit we talked about going from $750 million to $650 million, if you use that $650 million add to our debt, remove the cash, the net leverage ratio is approximately 3x on a net basis and then 4x on a gross basis.

Okay. And is that your sweet spot target? Or where would you like…?

Yes. I mean it depends. We definitely want to -- we haven't given out a specific target. But we, of course, are always looking to improve and give ourselves maximum flexibility. But for now, we do still have ability to borrow. We have ability to invest. And so we're comfortable where we are. But we're, of course, always looking to improve.

Okay. And then what is the potential on the acquisition front? Are you actively looking at M&A?

Yes. Yes. We're always looking for opportunities, at this point, really tuck-in. We did a few acquisitions last year to kind of improve our capabilities in the focus areas that we talked about. And so we're continuing to look at more of those smaller tuck-ins at this point. But I mean we feel really comfortable with the solutions and capabilities we have. So it's not, it's -- we're always looking at it, looking to improve, but it's not -- we feel like we can perform with what we have. And so it's not something we need to do, but we're always looking at.

Okay. So with that, I think we're up on time. But would you like to make any final comment on anything we missed that you think is important or leave us with a key takeaway?

No. I mean I think I'm really excited to be here. And I think Unisys is -- it's an exciting place to be because it really is a company with a lot of opportunity and a lot of growth potential in those focus areas I talked about. And I think as we're moving to those higher value, higher margin businesses, I just see the potential is just something we're really excited about.

Okay, great. Well, Deb, thank you so much for joining us at the conference.

Thank you so much. Thanks.