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Edited Transcript of STC.V earnings conference call or presentation 21-Oct-19 12:00pm GMT

Q4 2019 Sangoma Technologies Corp Earnings Call

MARKHAM Oct 23, 2019 (Thomson StreetEvents) -- Edited Transcript of Sangoma Technologies Corp earnings conference call or presentation Monday, October 21, 2019 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* David S. Moore

Sangoma Technologies Corporation - CFO

* John Tobia

Sangoma Technologies Corporation - VP of Mergers & Acquisitions and General Counsel

* William J. Wignall

Sangoma Technologies Corporation - President, CEO & Director

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Conference Call Participants

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* David Kwan

PI Financial Corp., Research Division - Technology Analyst

* Gabriel Leung

Beacon Securities Limited, Research Division - Research Analyst of Technology

* Gavin Fairweather

Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research

* Nick Corcoran

Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst

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Presentation

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Operator [1]

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Thank you for standing by. This is the conference operator. Welcome to the Sangoma Technologies' Fourth Quarter Full Year 2019 Investor Conference Call. (Operator Instructions) I would now like to turn the conference over to David Moore, Chief Financial Officer. Please go ahead.

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David S. Moore, Sangoma Technologies Corporation - CFO [2]

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Thank you, operator. Hello, everyone, and welcome to the Sangoma Investor Call. We are recording the call, and we'll make it available on our website for anyone who is unable to join us live.

I'm here today together with Bill Wignall, Sangoma's President and Chief Executive Officer, and John Tobia, our EVP Corporate Development and General Counsel, to take you through the results of our fourth quarter and full year for fiscal 2019, which ended on June 30, 2019, as well as our most recent acquisition announced almost simultaneously. As you can tell we've been busy.

We will discuss the press releases that were distributed over the wire services on Friday, together with the company's audited financial statements and Q4 MD&A, which are available on SEDAR and also on Sangoma's own website.

As a reminder, Sangoma reports under International Financial Reporting Standards, IFRS, and during the call, we may refer to a few terms such as operating income, EBITDA and adjusted cash flow that are not IFRS measures, but which are defined in our MD&A. Please also note that unless otherwise stated, all reference to dollars are to the Canadian dollar.

Before we start, I'd like to remind you that statements made during the course of this call that are not purely historical are forward-looking statements regarding the company or management's intentions, hopes, beliefs, expectations and strategies for the future. Because such statements deal with future events, they are subject to various risks and uncertainties and the actual results might differ materially from those projected in the forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements are discussed in the accompanying MD&A and in the company's annual audited financial statements posted on sedar.com.

With that, I will hand the call over to Bill Wignall.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [3]

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Thank you, David, and Good morning, everyone. For the call this morning, I've structured my prepared remarks into 4 sections. I will start by discussing our acquisition of VI, our eighth in 8 years. Second, I will walk you through our Q4 and fiscal 2019 financial results. Third, I will discuss forward guidance for fiscal 2020 provided for the first time in Friday's press release. And fourth, I'll then offer a brief update on the evolution of our company strategy over the past several years, a summary that will be familiar for those of you who have joined these calls for the past few years. Finally, I'll hand the call back over to David so that we may take your questions at our typical open Q&A session.

With that, let's turn to Section 1 on the acquisition of VoIP Innovations. As a reminder, before we get started, VI had previously reported under U.S. GAAP, of course, not IFRS. Most of you will know by now that we announced the acquisition of VoIP Innovations, LLC, Friday after markets closed, which we are very excited about. I'd like to cover this topic for you by briefly discussing VI and its business, then I'll describe the strategic rationale behind the acquisition as well as its advantages. And to wrap up this section, I'll explain the transaction itself and the associated financing that was used to complete the deal.

I'll now describe VI and the business we have acquired. VI is a privately-held cloud communication company that has been growing consistently over the last several years. They have about 35 talented employees all based in their Pittsburgh office. The company is led by their President, who we are pleased to report, will be staying with us to help grow this business for Sangoma. VI products specialize in wholesale SIP trunking as the primary line of business. This service is sold to partners, who I'll describe in a moment, but not typically to end users. Their wholesale SIP trunking service is therefore sold with a usage-based pricing model as required by those types of companies in the value chain. Sangoma also has a SIP trunking business, as you may be aware, but our service, called SIPStation, is typically sold to end users and is priced accordingly using a flat rate model.

The company has also recently launched its new strategic communications platform as a service or CPaaS product. CPaaS is an exciting new product category receiving significant attention from customers and investors alike that enables developers to add communications capabilities such as voice, video, messaging, et cetera, to their software and web applications without having to be communications or networking experts. The VI CPaaS product is called Apidaze. CPaaS as a category is quite hot these days with the likes of Twilio or Nexmo, which was acquired by Vonage, commanding very high valuation multiples. VI's customers are a series of partners that then resell the service to their own customers who are the ultimate end users, as you'd expect, given the wholesale model. These clients of VI customers include MSPs, service providers, PBX resellers, call centers and some large enterprises as well, most of which are based in North America.

An example or 2 might be a traditional reseller who would sell the SIP service to connect the Premise PBX they are selling concurrently, or it could be a service provider, such as a UCaaS company, since most all UCaaS offerings bundle SIP trunks as an integral part of their service. Sangoma does this with their UCaaS service as well. VI has over 1,400 customers with no significant customer concentration and a very successful channel program to recruit such partners.

Financially, VI has no debt, positive net working capital and is cash flow positive. It generated USD 18.9 million in revenue for the year ended December 31, and with it, produced adjusted EBITDA of about USD 5.6 million in 2018. Very solid company.

Second, I'd like to next discuss the strategic rationale and benefits of acquiring VI. Sangoma continues to look for prudent ways to grow our product portfolio, customer base, distribution network, overall sales, recurring revenue and EBITDA. This acquisition is strategic for us to all 6 of those reasons. And with about 90% of VI revenue being recurring, it should increase Sangoma's pro forma, recurring and services revenue to approximately 45% of total sales. And from the VI point of view, they wanted to be part of a larger organization with more resources, more products, a global footprint, et cetera.

Strategically, I think the fit is obvious. VI is a cloud company [in that] its sales are almost entirely recurring revenue, both of which are core to our straight -- stated direction. So strategically, it's right on point.

Next, Sangoma knows the SIP trunking business very well, so adding a wholesale channel and that customer base to our existing go-to-market approach and our current end-user clients is quite strategic. As you may have seen, Sangoma was recently ranked in a highly credible industry study of over 3,000 people as the top 2019 SMB SIP trunking company. So we like the SIP trunking business. It's a key part of our cloud service. We think we're good at it, and thus, we felt it prudent to continue our market-leading position by adding wholesale capabilities and expertise.

Further, we are excited to now add a CPaaS offering to round out our growing product portfolio and augment Sangoma's UCaaS and SIP trunking products. Sangoma sees an opportunity to help companies create communications applications using Apidaze, and the starting point can be our existing UCaaS and SIP trunking customers as well as our huge base of Asterisk users who are already application developers, an asset that any CPaaS company must nurture and one that Sangoma already has. These additional applications can be written by us, but also by third parties, which is one of the beautiful things about CPaaS. CPaaS is designed to enable developers to add these communication capabilities to their software and web apps without having to be communications or networking experts.

Finally, we see real cross-selling opportunities between the companies. For instance, offering the rest of the Sangoma product portfolio through the VI channel, which has been asking for more products and services beyond SIP trunking to offer their customers. We can deliver that to them. We can expand the VI service internationally. We can offer a wholesale SIP trunking service to our channel partners that today sell on-premise PBXs and may need a SIP trunk to connect them into the network, and of course, taking the new CPaaS product to Sangoma customers and channel partners.

Lastly, I'll explain in more detail the structure of the transaction and our financing strategy behind it. Sangoma acquired all the outstanding shares of VI for USD 36 million upfront, comprised of $30 million in cash and $6 million in shares. Given the USD 5.6 million in EBITDA that I mentioned earlier, this transaction is therefore being completed on an upfront purchase price equal to about 6.4x EBITDA on a trailing basis, an accretive transaction for us. Another, up to USD 6 million may be paid in cash, pending the achievement of predetermined revenue targets for VI during the 12-month period following closing.

The cash portion of the consideration has been funded through a combination of cash on hand, which primarily came from the equity financing we completed in the summer. And to minimize dilution, a new credit facility, jointly from TD and BMO, which is replacing Sangoma's former debt. A total of approximately $46 million has been drawn on this facility at closing, with about $22 million used to pay off the previous facilities. This new facility also provides for up to $8 million in a term loan, which would be utilized in about 1 year to pay out any of the up to USD 6 million in contingent consideration that is earned, which would not be drawn upon until that time, a cost-effective and flexible funding model.

Finally, it also includes a $10 million revolver available for general working capital purposes. The new credit facility will be drawn in U.S. dollars, repaid over 6 years and is expected to have an interest rate of about 6.75% per annum at closing.

To summarize this acquisition, our eighth in 8 years VI provides the combined company with several strategic advantages including increased scale, a recurring revenue contribution that continues to grow, robust EBITDA margins, an entirely new product category in CPaaS, a broader customer base and an excellent new sales channel that has expressed the desire for Sangoma's broader portfolio.

I'd like to pause here to offer a thank you. Your company has gotten quite adept at acquisitions, as you've seen, a skill we consider to be important given our strategy to complement critical operational strengths and organic growth with carefully chosen acquisitions. So I would like to thank our shareholders and investors for your confidence. Without the continued support and patience, this transaction would not have been possible. Overall, we're very excited about the acquisition and wish to welcome the entire team at VI, its customers and suppliers to the Sangoma family.

Now let's turn to our financial results for fiscal 2019. Our fourth quarter ending on June 30 was a record and the 18th quarter in a row where we've delivered more revenue for the same quarter in the preceding year. Sales for the final quarter of fiscal '19 were $30.1 million, 71% more than in the same quarter last year. The increase in sales came from the acquisition of Digium in September 2018, the compounding of recurring revenue and services and the ongoing intrinsic growth at Sangoma.

Gross profit of $18.7 million for the fourth quarter was 90% higher than that of the fourth quarter in fiscal '18. On a percentage basis, Sangoma's gross margin for Q4 was just over 60% of revenue, pretty much as expected these days and 6 points higher than the fourth quarter of fiscal '18 due to the Digium acquisition, together with a slightly more favorable product mix.

Operating expenses were $16 million in the fourth quarter, up significantly from the same quarter in 2018, mostly reflecting the additional expense following the Digium acquisition and some controlled spending increases to invest in Sangoma's growth. EBITDA was $4.1 million for the quarter, well above the $2.5 million of last year, and at 13% of sales, is on track for what we guided towards for fiscal '20, about 1 quarter ahead of schedule.

Next, I'll provide the update for the full fiscal year 2019. Sales for the year ended June 30, 2019, were $109.6 million, up 91% from the $57.4 million in fiscal '18. As indicated earlier, the top line growth this year was fueled by the same factors that affected Q4, namely a mixture of intrinsic growth at Sangoma, the compounding of our services revenue and most directly by the acquisitions of the CCD business from Dialogic in January 2018 and Digium in September 2018.

Gross profit for the year was $66.8 million, over twice that realized in fiscal '18. Gross margin at 61% for the year is higher than the previous year, which is mainly driven by the impact of the CCD and Digium acquisitions, together, again, with a slightly more favorable product mix.

Operating expense for fiscal '19 was $59.8 million, reflecting continued investment to drive Sangoma's top line growth and the additional costs attributable to the CCD and Digium acquired businesses. EBITDA for the year ended was $12.3 million, 81% higher than the EBITDA in fiscal '18.

And for the last portion of my commentary on fiscal '19, I'll briefly touch on a couple of highlights from our balance sheet and cash flow. We entered Q4 with $7.1 million of cash on hand and finished fiscal '19 with $11.7 million. Subsequent to year-end, in an effort to bolster our balance sheet and provide the initial capital to complete the VI transaction, we completed a bought deal of common equity for net proceeds of $21.6 million. Sangoma finished its fiscal year with $22.7 million in debt, mostly due to the acquisition of Digium, and we had positive net working capital at June 30 of $5.3 million.

Finally, for the year, I'm pleased to see $13.5 million of adjusted cash flow from operations compared to $5.9 million in fiscal '18. For this measure, we take out the onetime effect of acquisitions to help us compare on a more apples-to-apples basis across time periods.

Okay. With those comments on financial results, I hope they convey the magnitude of growth since last year and the continued overall strengthening of our business. I'd like to turn to our newly introduced fiscal '20 guidance.

As you may recall, we commenced providing guidance back in early calendar 2017, and many of you have told us you found this helpful for obvious reasons. In the 3 years since, I'm proud that we've not missed guidance a single time, including for fiscal '19, as you've now heard.

With that, let's discuss the company's guidance for the fiscal 2020 year as just released on Friday. We expect the revenue for fiscal '20 to be between $135 million and $143 million and our EBITDA to be between $19 million and $20 million. With the acquisition of VI today, it's worth noting that this guidance includes about 8.5 months of the merged entity.

And for my final section of prepared remarks, let's now turn to an update on your company strategy. As we've added quite a few new shareholders during the past year, I'll do this section in a bit more detail today, which we acknowledge will include explanations of some historical progress that longer-term shareholders will already be familiar with. Please bear with me.

As those of you who've joined us for these calls previously will know, I've characterized Sangoma's turnaround using the phrase investing to drive, restarted growth. We continue to seek that growth through a combination of organic means, augment it with prudent M&A activity, all while demanding healthy profitability. This is a conscious decision from your Board of Directors, one that most of you also support based on my discussions with many of the folks on this call. And we are continuing on that path.

Several years ago, when new management came in to take over the reins at Sangoma, we recognized that sales of telephony cards were unavoidably going to gradually decline as networks gravitated away from the PSTN towards the Internet. So the first stage of strategy was to begin a complete turnaround and rebuild of the company. It manifested as 3 principal planks: growth through broadening the product portfolio; penetrating new customer segments; and selling into new geographies.

Over the next couple of years, we evolved from a single-product line company to one with a much broader portfolio made up of multiple product lines, all part of plank #1, which has taken us on the path to becoming a full UC provider, both on-premise and in the cloud.

In order to expand our market presence, Sangoma began targeting not just our traditional customers in the SMB segments but also enterprise, OEMs and carriers, fulfilling the second plank in that turnaround strategy.

And plank #3 was to globalize the company and increase revenue outside of North America and especially in regions with higher growth rates. This has the ancillary benefit of also extending the life cycle of our PSTN-based products since those regions are moving away from the PSTN more gradually than in the more developed economies.

As the turnaround phase was unfolding, the next step in strategy was to go from a portfolio of individual products built during that phase to a complete solution. So Sangoma now has the ability to offer a full UC suite that includes not only the PBX software as the central part or the brains of this full solution but also the other products that purchasers often need with such a phone system that might include phones, telephony cards, gateways, SPCs, et cetera. I think you can see that the whole has proven greater than the sum of the individual parts and has allowed us to compete for a larger share of wallet in each sales cycle.

And finally, the most recent phase in our strategy was to take that full solution that could be sold on-premise, which is industry jargon, meaning that the software is installed at the customer's site, and introduce a cloud-based service in which we host their own software in data centers. We then use it to provide a monthly subscription service for customers who prefer a hosted cloud-based service to the on-premise model. This enabled the recurring revenue to begin its growth phase at Sangoma. One needs the full solution before launching a cloud service. Because of the nature of cloud customers who tend to prefer simplicity and are not interested in hearing, "We have a cloud service, but please go buy your gateway from one of these 3 companies or your SBC from one of these 2 or your phones from one of these 4 vendors." That update on strategy pretty much takes you to the end of fiscal '17.

In 2018, our strategy included 2 important acquisitions. I'm pleased to say that both have proven to be excellent decisions. VoIP Supply is performing well, giving us a sales boost, doing so with the strong e-commerce presence that's growing and delivering EBITDA in line with our expectations. CCD was part of Sangoma for the final 2 quarters of fiscal '18 and has added nicely to recurring revenue and delivered strong gross margin.

In fiscal '19, we made the strategic and transformative acquisition of Digium, bringing together the 2 most widely used open-source products in our industry under one roof. We have updated you on the progress with that integration over the past year. And most of you will now know that this work is now complete in the merged company, putting us soundly into the $100-million-plus revenue group of technology companies. And to bring you up to current day, we've now started fiscal '20 off with a bang by announcing our eighth acquisition in 8 years of VI, a cloud communications company. With this, we are adding scale, recurring revenue, talented people, valued customers and suppliers and a strategic new product category.

So where to from here strategically? Well, your company continues along its current path, one that has served us well and one that we are consistently executing on. We want to grow much further via our mix of organic and M&A, but we also seek to do so prudently, balancing growth and the investments that drive it with the desire for reasonable profitability and stability. In our marketplace, we try to identify competitive strategies in which we have a unique advantage or positioning, so we are very consciously not simply fighting head to head against larger industry players, but instead, competing in a way where we have an advantage. And that wise approach has worked quite well over recent years.

Okay. That's it for my prepared remarks. I'd like to wrap up with a quick summary. Sangoma has come a long way from being a nano cap stock with about $10 million in sales and running around breakeven. We now see, via a proven track record, that we're getting there. That means organic growth, driven by new products, new customers and compounding recurring revenue, but it also benefits from prudent acquisitions with good strategic advantages that can augment the organic growth. As we continue to grow, we are able to explore larger acquisitions that can add both new product lines and significant recurring revenue streams to our existing business.

Sangoma is now a much larger company with sales well in excess of $100 million, proven growth, 13% to 14% EBITDA margins, expanding recurring revenue, positive cash flow and a management to continue winning new customers, building new products and acquiring new businesses. This has created a strong public company with a history of delivering on its promises to both customers and shareholders. We've come a long way and fully intend to continue on this path.

As I've said previously, given your company's financial performance, track record, current state of the business and encouraging outlook, your Board sees today's share price in the $1.40 to $1.50 range as dramatically undervalued. But for analysts who cover us, that price target is way above today's level, and many competitors in our product categories are commanding much higher multiples. So we continue to work hard to get to these types of valuations, which we think are reasonable.

With that, I'd like to close off my prepared remarks for today. I remain very proud of our progress and our track record at Sangoma. We've come a long way in just a few short years when many folks didn't think it was possible, but we've now developed as a reputation -- developed a reputation as a company that says it will do what it says it will do.

Once again, I would like to personally welcome our new colleagues from VI. I'd like to thank our traditional Sangoma employees for their incredibly hard work delivering fiscal '19, our customers for their loyalty, our bank partners for their support, and you, our investors for your confidence as we work hard to deliver on our promises to customers and shareholders. We trust you see the rewards of that hard work.

And with that, I'll wrap up, hoping I provided with -- you with a clear understanding of your company and turn the call back to David for questions.

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David S. Moore, Sangoma Technologies Corporation - CFO [4]

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Thank you, Bill. To make sure everyone knows how to ask questions, I will ask the operator to go over the instructions. Operator, we are ready to take questions now, please.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Nick Corcoran of Acumen Capital.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [2]

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Congratulations on the acquisition and great quarter. So just a couple of questions for me on the acquisition and the quarter. My first is how do you see the integration of VI and (inaudible).

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [3]

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Well, I think the integration is probably less dramatic than the work to do so with Digium. VI is going to be run as a business unit of Sangoma. It's financially healthy, as you've now heard, Nick. We don't plan to rush any of those integration decisions. For instance, there are no personnel changes or terminations. We don't see very significant operating cost reductions or savings in non-personnel spending. Over time, we'll work together to seek out the revenue synergies that I described. But on a cost basis, there's not a whole lot there. In terms of personnel integration, they already have a very competent president. He's not one of the selling shareholders. He's going to stay on board, as I said, to help us drive growth. He will report to me, same as Sébastian, and the VI staff will continue reporting to him.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [4]

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That's great. And then can you give me any indication of what the accretion might be on a -- maybe a pro forma basis?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [5]

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David, do we want to do that? Or do we want to wait for -- I think, Nick, given it's day 1, give us a little bit of time to kind of get our hands around the whole thing before we start quantifying that.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [6]

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That's fair. And then maybe just to dig in a little bit deeper. You said that business has been growing for the last several years. Can you give any indication what the organic growth rate has been?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [7]

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Well, we tried not to break down the growth by segments of our company or product line. What could I say about this without kind of deviating from that philosophy? Yes. They've been growing consistently over the last few years. They've grown positively and in single digits. How's that Nick?

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [8]

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That's great. And then the last question for me is can you -- what do you expect in terms of onetime costs for this transaction?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [9]

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It won't be very significant. Onetime costs are often associated with breaking contracts or terminating leases or restructuring of personnel. Since none of those are going to be hugely material, I don't think the onetime costs will be large like they've been in other cases or with Digium. Beyond that, I don't think we should try and quantify it on day 1. But over the next, I don't know, quarter or 2, as we get some of that under our belt, we'll give you some numbers if it evolves that way Nick.

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Operator [10]

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Our next question comes from Gavin Fairweather of Cormark.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [11]

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Congratulations on the deal and the quarter. A few questions for you here. I was hoping just to start out on the process and maybe you can just touch on the process with VI that you went through. And specifically, I was hoping you could touch on how important fit was. It was mentioned in the press release, but how important of a factor was that in the decision to ultimately sell to Sangoma?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [12]

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Okay. Let me take the first one, the process, and then the fit second. Yes, the process was pretty typical. Processes like this, as you know very well, often fall into 1 or 2 buckets, either we're out finding a company that's not for sale or a company that might be available for purchase, has hired a banker and run a process. There were a number of parties involved in a process that lasted for about 1 year, in this case, I would guess. We've been actively engaged with them for the last several months, exclusively for the last part of that as you might expect.

And on a fit basis, I guess, I would say my answer to that is the same as it is in every acquisition. Fit is probably the most important thing, right? If there's not a fit in terms of, I don't know, product needs or customer segments or channel that we're looking for or geographic access, then it doesn't matter whether it's financially attractive or accretive. And this is no different.

We expanded our SIP trunking business a lot over the last year. It's a really material part of our Cloud Services, and cloud is the future. So SIP trunking is something we know and love. You've seen from independent surveys that we seem to be performing quite well in that product category. So the primary traditional business of VI was really clearly a fit for us, and the new product line they've launched, this CPaaS offering, which I touched on being so hot right now, is one we've been looking at for the past while. And we're super interested in exploring that, especially given that you need these -- this base of developers to build the apps, which is extremely hard to create if you don't already have it. And given Sangoma has products that have attracted such a base, we hope we might be able to tap into that. It's one of the things we'll be talking about at our AstriCon tradeshow later this month.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [13]

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Yes. I was asking about fit the other way in terms of the decision of VI to sell to you, and the -- I think the President mentioned that in the press release, and I think, you mentioned that there's not really any kind of personnel changes or heavy integration, so I was wondering if that was a factor.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [14]

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Well, I think, in the other direction, there were a few things that seemed to matter a lot to the sellers, right? And like any entrepreneur, in this case, it was 2 brothers who were building a company over many, many years, it becomes part of the legacy. And they're looking for a buyer who not only has the financial resources to get the deal done, but someone who cares strategically about the product, who values the people they've built personal relationships with, who will care about the customers and channels. Oftentimes, you see a financial buyer in the mix, and financial buyers tend not to have the same level of care and sensitivity to those kinds of issues that a strategic buyer like Sangoma does. So I don't know if I should speak on their behalf, Gavin, but as you saw in the quote, we got to know those brothers very well. They would be the first to say that mattered a lot when they were choosing who to sell to.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [15]

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Okay. That's helpful. So on the wholesale SIP business, I know you talk about a recurring revenue model. My understanding is that it's based on usage. Can you -- and you might not answer this question, but can you help me understand kind of the churn rate on that type of business?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [16]

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Yes. Not yet. The churn rate is it's very controlled, positive right now. We don't want to start citing stats on day 1. We haven't even done that for our core business. If you want to kind of peel back the layers a little bit, I probably won't talk about churn and quantify it, but I could say that -- I know, Gavin, you had sent me a note just asking a little bit about how it works. There's 2 subcomponents to the service. There's the portion of the service, which is paid for monthly but not based upon how much traffic, so you might be buying a [DID] or an 800 number or something. And then there's the other part of the business, which is using the network and paying for minutes of usage. So although that's not the direct answer to your question about churn, I'm trying to give you a bit of color about how that business works.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [17]

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That's helpful. And then on the CPaaS side, obviously an exciting product category. I'd imagine loss of appetite, particularly within the open source community that you helped steward. Maybe you could just help me understand kind of how the CPaaS platform that's come along with VI kind of differentiates itself between itself and Twilio or Vonage or some of the players active in that space?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [18]

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Yes. It's a little bit early for me to do that. What I would say is if you picture where we are in the launch of that product, it's brand-new. It's in the process of being actively launched as we speak. It's too soon for me to describe to you the competitive differentiation of Apidaze versus Twilio or Apidaze versus Nexmo, which was the Vonage acquisition or any of the others. The only thing that I touched on during the call that you just mentioned what you said the open source portion is it's less in this case about the fact that Sangoma is in open source and more about the fact that almost coincidentally, one of those open-source products happens to target developers who are looking to make use of a development platform or toolkit. Because as you know, Asterisk is not a fully built-out product that's ready to be used as an application. It's a starting point to build an application.

And because of that, there is a wide base of fairly loyal, fairly engaged developers. We have a conference that's dedicated entirely to them. They love when we do things right. And if we ever screw up and do something wrong, they're very vocal about it. And so that passion we hope will play out well in tapping into the base of users who can make use of Apidaze, which is one of the things that a company like Twilio, that you asked about, fit so well. They focus on building up a loyal base of developers who could build Twilio apps. How we end up differentiating versus them versus others like Nexmo and others, as I said, it's just a little bit too early, Gavin.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [19]

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Okay. That's fair. And then just lastly before I pass the line. Just on the guidance. I appreciate the business is getting bigger and kind of harder to kind of forecast and put guidance out there, but hoping you could just kind of share some of your thoughts and assumptions that went into the guidance there.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [20]

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Wow, that's tough. This took a long process. We've been working on it for weeks. The thinking, as I believe you can imagine, is both top-down and bottom-up. So it's what do we think is reasonable given where we're coming from, what were last year's results. We do a bottom-up analysis about product categories and by channel and by region. We talk to all of the sales regions. They provide numbers. We roll them up. We try and make sure there's a little bit of cushion between the rollup and our corporate targets. We look at businesses which might be operating a little bit more independently like VoIP Supply needs to or, in this case, like VI will or at least for some period of time.

And we then look at what else is going out -- on out there in the world. And I know, Gavin, you and I spoke at an investor conference recently about this. The management team here at Sangoma, like, I think, lots of other management teams at other companies that have nothing to do with us, see the economic outlook as maybe just a little bit more uncertain towards the latter part of 2019 versus how we felt last year. You can look around the globe, and in 30 seconds, fire off 30 different worrisome situations, whether it's Brexit or U.S./China or Germany and recession or Iran/Saudi conflict or North Korea or negative interest rate mortgages in Scandinavia or Venezuela or, or, or, or, or. So I would say, that probably also influences us a little bit. We're being, perhaps, a little more cautious about growth outlooks going into fiscal '20 than we did for fiscal '19.

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Operator [21]

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Our next question comes from Gabriel Leung of Beacon Securities.

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Gabriel Leung, Beacon Securities Limited, Research Division - Research Analyst of Technology [22]

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A couple of things. Maybe first on the acquisition. So on a go-forward basis, as I think about sales and marketing, how should we think about your SIP service offering? I mean as you sign new customers, how do we think about which SIP service are you going to market? Is it going to be SIPStation? Is it going to be VI? What are the thoughts behind that?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [23]

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Yes. It's going to be both, and that's primarily because they appeal to different audiences. So SIPStation is a service to end users and tied heavily into the product lines we have today. And that's the one that has the flat rate pricing, as it makes sense for those kinds of customers. And that product will continue being sold to those types of users.

The VI service is meant for partners who then take that SIP trunking service and sell it on to their end-user customers. And we will continue to sell the VI service to those types of customers. It's those kinds of companies, if you think about MSP or a service provider, like perhaps a UCaaS company, or a large call center or a PBX reseller who want the usage-based pricing, and that actually helps create a little bit of margin between us and them that lets them have some -- both skin in the game as well as financial benefit from reselling the [servicescape]. So they both continue full-fledged as they are now.

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Gabriel Leung, Beacon Securities Limited, Research Division - Research Analyst of Technology [24]

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Got you. And I imagine the wholesale market has been competitive for several years now. So maybe talk a little bit about how VI has been able to maintain its share. You mentioned that they were still growing single digits. Maybe talk about how they've been able to maintain the share, grow positively as it has. And how does being tied to Sangoma help them in terms of potentially accelerating their own growth?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [25]

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Yes. So 2 parts to your question. How do they differentiate and how might we help them? So VI differentiates in a few different ways. One is the way in which customers use the service and sign on to the VI platform involves a product, which they call TITANIUM, which provides a very elegant user interface to their customers to sign on their end users, configure the service, control what their customer sees. It allows some white labeling. And so what the customers can do with the service matches the way those customers run their business. VI also has very, very wide coverage across the U.S. in almost all rate centers, much more so even than their nearest competitors. They have a number of other carriers into which they connect. And so if you're a VI customer, you're looking to make sure you can get coverage wherever your customers are. And then from the point of view of how can Sangoma help, as I said, there's a bunch of things we can do. We can help their customers be more successful by offering them more products to sell into their end users, which helps them grow faster and be more able to financially invest in selling all of the products from us they sell, including the VI SIP trunking service. We can take the service internationally and roll out the capability to sell SIP trunking outside of North America. We can provide that same service into a new set of Sangoma customers and channel partners that provide nesting type of SIP trunking service to a new set of users. So there's a bunch of things we can do there. Which one's of those get the most traction and accelerate the fastest it's just a bit too early to talk about, Gabe.

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Gabriel Leung, Beacon Securities Limited, Research Division - Research Analyst of Technology [26]

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Got you. And 2 more questions for me, more on the financial side. So number one, what sort of gross margin profile would VI have? Is it comparable to what you guys have right now in that 60% range? That's the first question.

A second question on the financial side is -- so it looks like your net debt-to-EBITDA ratio is about 2x now. What's your comfort level on the upper end in terms of that ratio as we think about future acquisitions?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [27]

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Yes. So 2 totally different questions. The one is just factual, and the answer is yes. The VI gross margin is very similar to ours, Gabe, and we see that continuing. On the leverage question and debt-to-EBITDA, I mean, you've understood it correctly. We talked about this entire call. There's no single right answer. We've been anywhere between 1.5 and 2.5x debt-to-EBITDA. That feels like the right range. The management team here is pretty comfortable with a -- leveraging around 2x, I would say. It arguably goes up to 2.5 or maybe even as high as 3 temporarily if we needed to at the time of an acquisition. But I don't think anyone here around the table or around the rest of the executive team is interested in staying at 3x. We'd want that to come down naturally over time.

We've used leverage the way we have, partly because interest rates are reasonable these days and partly because of the comment I made in my prepared remarks that, in our view, the share price is just crazy low. So we're not looking to dilute any more than necessary, and tapping into the debt markets just makes sense. How much debt to take on, of course, is a function of the profitability and cash flow profile of the target, either at the time we buy it or after whatever level of restructuring might be needed on a case-by-case basis. So I guess that's the best I can do in a general sense.

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Operator [28]

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(Operator Instructions) Our next question comes from David Kwan of PI Financial.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [29]

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Can you talk about any retention contracts that you might have in place at VI?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [30]

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David or John, do you want to talk about that? I mean just generally, David, that's kind of -- it involves individuals and what they do or don't want in the public domain. They're not [NEOs], so it's not something we would typically disclose. At any acquisition, we look at that. Of course, this is no different. We've handled that appropriately. [We've stressed] that we're good at it, and we know where to use it and where not to, and we're in good shape here.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [31]

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Okay. And on the customer base, since, I guess, there's no significant customers, can you maybe talk about the size of the largest customer and maybe what, say, the top 10 customers would account for as a percentage of revenue?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [32]

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How would I give you some color on that? My recollection, John, from due diligence, the largest customer was around $300,000 per year. Is that right?

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John Tobia, Sangoma Technologies Corporation - VP of Mergers & Acquisitions and General Counsel [33]

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Correct.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [34]

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Yes. I mean the customer concentration is very low in this case. There's about 1,400 customers in the VI customer base. From the top of my head, David, I don't know what the revenue that's attributable to the top 10 would be, but they're kind of like Sangoma, right? There's -- there are no customers that are large enough that if we were to lose a single client, it would be disruptive to the business. Having said that, any time you buy a company, you do your very best to try and make sure you don't lose any customer. So there's a program in place rolling out this week in which -- [it's actually] what you'd expect from any company. We're proactively touching each of those customers, both the traditional Sangoma customer base as well as the VI customers. There will be a little Tiger team put in place to do calls to some of the larger ones, visits to the largest. So I feel pretty good about that in general across the acquisitions. We have not really had any kind of, I don't know, customer attrition in any significant or material way. So I think Sangoma's pretty good at that.

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John Tobia, Sangoma Technologies Corporation - VP of Mergers & Acquisitions and General Counsel [35]

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So to give you some context, the top 50 accounted for approximately 30% of the revenue.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [36]

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50. 5-0 for 30%. Okay. Thank you, John.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [37]

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That's helpful. And Bill, just on the contingent payment, USD 6 million, can you provide any details as to, I guess, the criteria for VI to hit those? And I assume it sounds like it's not "all or none." They can burn a portion of that?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [38]

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Yes. You're right about that. That's correct. It's not "all or nothing." The earn-out is measured over 12 months. It's on revenue because that's what we need the business focused on. But I think beyond that, David, it's not really appropriate on day 1 to talk about the specific revenue targets or the payout structure. Let's see how that unfolds. I think you would recall that in past acquisitions where there was some form of earn-out, we've been prepared partway through the year to say what we could if the performance was becoming obvious. And in one case, we kind of locked in the payment partway through the year rather than waiting for the end of the year. So just give us a bit of time. And we'll update you as we can but not today.

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John Tobia, Sangoma Technologies Corporation - VP of Mergers & Acquisitions and General Counsel [39]

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So on that front, the metrics themselves are competitively sensitive, so they won't be disclosed. And as Bill said, over time, we'll disclose sort of tracking to give you an indication of whether an earn-out will or will not be paid.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [40]

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That is fair. I appreciate that. Just a couple of more questions. As it relates to Digium, I assume here the integration is mostly complete there?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [41]

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Yes. I think, for all intents and purposes, it is complete, right? There's always, in any acquisition, a little bit of stuff that lingers on. In this case, I would say, what would be an example of that is there's some IT work in business systems that's ongoing. But from an investor point of view, looking in from the outside, you could think of it as complete. Yes.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [42]

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Great. And can you comment maybe on the progress that you've made on cross-selling onto other platforms?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [43]

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Between Sangoma and Digium, did you mean, David?

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [44]

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Yes.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [45]

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Yes. So that looks very different depending upon where you are in the world geographically. If you think outside of North America, you may remember that Sangoma had quite strong global presence with staff and a well built out channel network in lots of places around the world, whereas Digium was more North American-focused. So the cross-selling outside of North America really has come down to taking the Digium product portfolio and managing the sales process through the Sangoma international sales organization. The Digium channel partners that existed outside of North America have been integrated into that network. The cross-selling there, I think, is going perfectly fine. There were some Digium customers that are buying some Sangoma products and lots of Sangoma customers who are buying Digium products. Many of the Digium channel partners have come on board and are very happy to have someone able to support them in their local market, visiting them. It's not such a big deal to go visit a customer. In Europe, when you have people in the U.K. or the Benelux or Spain or in Italy or Germany, et cetera, versus popping, of course, on a plane and flying across the ocean. In the U.S., the cross-selling looks a little bit different. In the U.S., we have 2 different sales teams. Those teams are now integrated into a single organization. The channel partners that traditionally sold Sangoma are now selling Digium products as well, and the channel partners that sold Digium products -- or Sangoma products are now selling Digium or vice versa.

The cross-selling, I would say, is going pretty well. I think there's still more room to improve. And part of that involves us getting the familiarity or comfort level or product expertise inside the 2 separate channels to continue to grow. So if you're a traditional Digium reseller, you probably are still more comfortable with the Digium products and more familiar with them. And if you're a traditional Sangoma reseller, the opposite applies. We're trying to do everything we can to continue educating that group. We hold meetings with those channels. I mentioned our AstriCon conference, which starts next week at the end of the month. We have partners come in and meet all day to talk about this stuff. So it feels pretty good to me, David, but we're less than 1 year into it. And so there's room for that to continue to improve.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [46]

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Last question here. Just on the services revenue, in the quarter, it was down a bit sequentially. I think that's the first time we've seen that happen for -- in a couple of years. Can you provide any color on what happened there?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [47]

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David, could I ask you to take that one?

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David S. Moore, Sangoma Technologies Corporation - CFO [48]

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So David, there's a lot of things going backwards and forwards in any one particular quarter. And on the services side, the way that gets billed, the IFRS implications of it, as we've been integrating Digium and things like that. So there's nothing to worry about on that front.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [49]

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So it sounds like, David, it was just a year-end adjustment then?

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David S. Moore, Sangoma Technologies Corporation - CFO [50]

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Yes. It's more of the finalization of the year's numbers and just doublechecking all the categories as we go through our order process. There's a slight change in revenue recognition that was required this year. We've been through all of that. So there's not -- but from a directional perspective, don't look at that 1 quarter as being indicative of any change in the direction.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [51]

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Maybe the other thing I could add -- thank you, David, is the cloud portion of that services business -- because you may remember, there's a maintenance portion in there as well. The cloud portion continues to grow very well. There's nothing strange or unusual that happened in the quarter about that, David. We're continuing to grow in a 25%, 30%, 24%, 29% percent range. It depends upon which quarter, which year, which service inside the cloud service portfolio. So I just don't want you to have any worry about that part of the business, which is one of the engines of growth and continues to hum along quite nicely.

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David Kwan, PI Financial Corp., Research Division - Technology Analyst [52]

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Congrats on the quarter and the acquisition.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [53]

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Okay. Thank you.

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Operator [54]

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Our next question is a follow-up from Nick Corcoran of Acumen Capital.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [55]

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Just one more question for me. If you went back to the quarter, you talked in the preliminary revenue that the quarter benefited from a significant onetime order. Can you maybe just give some additional details on that?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [56]

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Yes. Sure we can. We've said a couple of times over the last 2 or 3 years that we've had customers come in looking to build specific applications for a use case with an end user. This was a company who was integrating a product from us into their solution and selling it on to a retailer to deploy at each store location. We're not at liberty to tell you the names of that as I think you would understand. We'd like to be able to tell everybody about customers, but not every customer wants their name used. The order for that project, I think, happened, what, in at least 2 quarters, David, over time?

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David S. Moore, Sangoma Technologies Corporation - CFO [57]

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Yes.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [58]

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It was a big-sized order, Nick. And as I said, at the time we released the preliminary numbers, I think that was the end of July or early August. That's why we try and tell you guys when that happens any time it does. So that was the factor in Q4. And then at the same time, we said, please just remember that in addition to that happening in Q4, Q1 has seasonality to it because of our strange fiscal year. Our Q1 includes the summer months. And summer months are always slower for us, especially in Europe, where many countries basically close down for 1 month at a time. So if you're thinking about the impacts of that revenue in Q4, you should also have in your mind the seasonality in Q1.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [59]

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And then maybe just thinking of the EBITDA margins that are really strong in Q4. How much of that onetime sale helped the margins in the quarter?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [60]

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Yes. Actually, that's a good point. I guess we didn't talk about that. I had an e-mail from someone saying, "Hey, I guess if you get a large order, you probably have to really slash your prices, and that probably hurts margins." And, of course that's, a logical assumption. I totally understand why someone would presume that. In this case, that was not true. The margins on this order were perfectly good. They've would've helped a little bit. It depends almost entirely, Nick, on the specifics of any one of those larger orders. We don't get them that frequently any more compared to 5 years ago. We talked explicitly in every call about how much of the revenue came from these large orders. And it's much more distributed now.

But if a particular order is part of a project that's really competitive or for a product where we have a lot of competition, then you could imagine that we have to be more aggressive on pricing. If the project is a bit less competitive and it's for a product where we have fewer direct competitors, we don't have to be cutting prices much. This particular project was the latter. But that's not necessarily true of any one other large order that could pop up down the road in any one specific quarter.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [61]

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Then maybe Q1 of this year won't have VI in it yet. Should we -- how should we think about margins? Like, will they come off a little bit? Or do you expect them to stay flat with Q4?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [62]

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I don't know that yet, Nick. We're not finished with the financial results. It shouldn't be anything significant or material. We could see margins up or down 1 point, 2 points in any one quarter based upon product mix. And I would think that should be true for Q1.

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Nick Corcoran, Acumen Capital Finance Partners Limited, Research Division - Equity Research Analyst [63]

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Congratulations again on the acquisition and a great quarter.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [64]

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Thank you.

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Operator [65]

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Our next question is a follow-up from Gavin Fairweather of Cormark.

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Gavin Fairweather, Cormark Securities Inc., Research Division - Analyst of Institutional Equity Research [66]

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Just a quick follow-up for me. Can you touch on channel overlap between VI and Sangoma and Digium?

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [67]

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Yes. There's not very much channel overlap, Gavin. There would be 1 or 2 or 3 or 5. We've not analyzed all 1,400 in detail, but there's not very many. That was a little bit of a surprise to us. It's a positive observation, not a negative observation, but the overlap is smaller than one might have guessed given both companies sell SIP trunking. And that's primarily because of the kind of customer base.

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Operator [68]

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This concludes the question-and-answer session. I'd like to turn the conference back over to Mr. Moore for any closing remarks.

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David S. Moore, Sangoma Technologies Corporation - CFO [69]

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Thank you, operator. Ladies and gentlemen, we really appreciate you joining us today. This concludes the conference call, a recording of which will be available on our website shortly. I want to thank you for participating. And again, we really appreciate your support to Sangoma over the past year and have a very pleasant rest of your day.

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William J. Wignall, Sangoma Technologies Corporation - President, CEO & Director [70]

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Thank you, everyone. Bye for now.

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Operator [71]

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This concludes today's conference call. You may disconnect your lines. Thank you for participating, and have a pleasant day.