Verra Mobility Corporation (NASDAQ:VRRM) Q4 2023 Earnings Call Transcript
Verra Mobility Corporation (NASDAQ:VRRM) Q4 2023 Earnings Call Transcript February 29, 2024
Verra Mobility Corporation misses on earnings expectations. Reported EPS is $0.24 EPS, expectations were $0.26. Verra Mobility Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good afternoon, ladies and gentlemen, and welcome to the Verra Mobility Fourth Quarter 2023 Earnings Conference Call. [Operator Instructions]. This call is being recorded on Thursday, February 29, 2024. And I would now like to turn the conference over to Mr. Mark Zindler, Verra Investor Relations. Thank you. Please go ahead.
Mark Zindler: Thank you. Good afternoon, and welcome to Verra Mobility's Fourth Quarter 2023 Earnings Call. Today, we'll be discussing the results announced in our press release issued after the market closed along with our earnings presentation, which is available on the Investor Relations section of our website at ir.verramobility.com. With me on the call are David Roberts, Verra Mobility's Chief Executive Officer; and Craig Conti, our Chief Financial Officer. David will begin with prepared remarks, followed by Craig, and then we'll open up the call for Q&A. Management may make forward-looking statements during the call regarding future events, anticipated future trends and the anticipated future performance of the company.
We caution you that such statements are not guarantees of future performance and involve risks and uncertainties that are difficult to predict. Actual results may differ materially from those projected in the forward-looking statements due to a variety of factors. These factors are described in our SEC filings. Please refer to our earnings press release for Verra Mobility's complete forward-looking statement disclosure. We do not undertake any obligation to update forward-looking statements. Finally, during today's call, we'll refer to certain non-GAAP financial measures. A reconciliation of these non-GAAP measures to the most directly comparable GAAP measure is included in our earnings release, which can be found on our website at ir.verramobility.com and on the SEC's website at sec.gov.
With that, I'll turn the call over to David.
David Roberts: Thank you, Mark, and thanks, everyone, for joining us today. For today's call, I'm going to first provide a high-level discussion on our strong fourth quarter results and key drivers. I'll then move on to a discussion of several key trends that are shaping the smart mobility market before closing with our strategic priorities that will influence our 2024 operating plan and build upon the foundation for the long-term outlook that we outlined at our Investor Day in July of 2022. We delivered fantastic results for the fourth quarter, highlighted by robust revenue and adjusted EBITDA. Fourth quarter revenue of $211 million exceeded our expectations and was primarily driven by strong U.S. travel and tolling trends in our Commercial Services segment.
Adjusted EBITDA of $91 million for the fourth quarter was slightly ahead of our forecast despite an approximate $4 million onetime noncash charge, which Craig will elaborate on in his remarks. Our strong results are aligned with 3 macro trends across our operating segments. First, we're seeing strong travel demand by both consumers and businesses, particularly in the U.S. Recent commentary from the major airlines and our RAC partners suggest continued strong demand through at least the first half of 2024. The second macro trend is the continued push for safer roads and communities, which drives the need for investments in automated safety enforcement. We experienced a record year in 2023 with the passage of new automated safety enforcement legislation as lawmakers across the globe recognize the efficacy that automated safety solutions have in reducing traffic fatalities.
And lastly, the complexity surrounding university and municipality parking create opportunities for customers to use our software-enabled parking management solutions. Now moving on to our business unit operations. The commercial services team delivered outstanding results driven by strong and durable domestic travel trends and our continued strong performance in the fleet management business. Fourth quarter revenue of $95 million grew 16% over the year -- the prior year quarter and adjusted EBITDA margins of 66% were up about 570 basis points over last year due to the strength in rack tolling and prior year FMC growth investments. As we disclosed in an 8-K and you'll see discussed in our earnings release and Form 10-K, we entered into a business arrangement with plus pass, which fully and finally resolve all litigation and disputes between the parties and pursuant to which we acquired certain assets from plus pass.
We accrued $31.5 million for this matter at December 31, 2023, and the resulting payment will be made during the first quarter of 2024. Transitioning back to the business fundamentals. Full year 2023 TSA volume was about 101% of 2019 volume and about 113% of 2022 volume. Track tolling revenue increased 23% over the prior year quarter due to increases in adopted rental agreements, the increased adoption of all-inclusive pricing plans and a durable trend of longer car rentals. Additionally, our FMC business generated 24% growth over the prior year quarter, primarily driven by enrollment of new vehicles and tolling growth from existing customers. The FMC business delivered $63 million of [indiscernible] full year growth and outstanding accomplishment.
I'm incredibly proud of our team's execution efforts. Looking ahead, as I've discussed previously, we expect FMC revenue growth to slow to mid- to high single digits, primarily as a result of tougher comps in 2024. I'm also pleased to report the launch of Hertz Italy in the fourth quarter of 2023. We're excited to support our partner in the rollout of their tolling program and Italy in a market with strong and growing cashless tolling trends. Lastly, the secular trends underpinning these business drivers continued conversion to cashless tolling and new toll roads continue to positively impact our business. Cashless or all electronic toll roads reached approximately 67% penetration this year -- this past year and 9 U.S. toll roads were completed in 2023 as well including in the metropolitan Washington, D.C. area, Denver, Colorado and Orange County, California.
As we look forward, CS is positioned as a high single-digit grower, driven by strong and durable travel trends, continued growth in cash flow tolling and new toll roads. The transition to all-inclusive pricing plans, segment expansion and a nascent, but attractive connected vehicle opportunity. Moving on to Government Solutions. Recurring service revenue, which reflects 97% of total revenue for the quarter grew 10% over the same period last year. The recurring service revenue growth was driven by program expansion from existing customers and new cities implementing photo enforcement efforts to improve road safety. To this point, outside of New York City, we drove strong revenue growth due to our existing customers' demand to expand their programs.
From a profitability standpoint, Government Solutions adjusted EBITDA declined 22% compared to the prior year due to a noncash charge I mentioned earlier and the platform investments that we're making in the business. Looking forward, in addition to the new legislation passed in Florida, Connecticut, Colorado, Washington State and California, Pennsylvania signed new automated enforcement legislation into law in the fourth quarter. The legislation enables new use cases in select cities, including school zone speed management and school bus stop arm safety. It also extends and expands existing use cases for work on speed management and highway speed management. The passage of this new legislation resulted in a significant TAM expansion, which we currently estimate at about $50 million and potentially growing to approximately $150 million annually within the next few years if the legislation allows.
Moving forward, we're now focused on the next steps in the procurement process. In Florida, procurement processes are ramping up. And in California, we may see RFPs as early as the second quarter continuing into the second half of the year. In Colorado and Washington State, we have had success expanding existing programs enabled by the new legislation, and we have won several new procurements. Additionally, in the international side of the business, we are experiencing attractive award activity in our expansion efforts in New Zealand as well as expansion in new business awards across several provinces in Canada. In New York City, we are awaiting the issuance of the RFP for the city's automated enforcement renewal contract. The timing of the RFP is uncertain, but we are working hard to position ourselves for a successful outcome more to come as this process moves forward.
Now stepping back and looking at the big picture, GS is currently positioned as the mid-single-digit grower on the basis of our existing portfolio, improving net retention rates. We are operating in a very favorable environment to states continue to demonstrate confidence and optimism, enabling various use cases to automate traffic safety and make mobility safer and easier. Moving on to T2 Systems. Fourth quarter total revenue increased 13% over the prior year quarter, driven by strength in software services revenue. Adjusted EBITDA of $5 million was in line with our expectations and reflects year-over-year SaaS and services revenue growth. We expect Q2's growth rate to moderate to mid-single digits in 2024, but over the long term, we continue to see T2 growing at a high single digits driven by the strength and focus on SaaS and the introduction of transactional revenue pricing opportunities.
Additionally, hardware, particularly pay stations, will likely become a smaller percentage of revenue as the market transitions away from hardware and continues to move towards software and mobile solutions. Turning to the balance sheet and capital allocation. Over the course of 2023, we fully leased back in our fifth year of being a publicly traded company. I am pleased to report we've lowered net leverage, nearly a full turn over the course of 2023, ending the year at 2.5x adjusted EBITDA. In addition, we purchased $100 million of shares over the course of 2023 and in November, as we previously reported, our Board of Directors authorized a new share repurchase program for $100 million. Overall, 2023 [indiscernible] all-time highs in revenue, adjusted EBITDA and adjusted EPS.
We benefited from the record airline passenger traffic with 2023 TSA volume at 101% of 2019 levels. And in Government Solutions, we experienced highly favorable legislative environment resulting in a long-term total addressable market expansion of up to $150 million. Next, I'm pleased to report that we recently published our inaugural corporate responsibility report, which outlines how our core values, purpose, vision and operating system form the foundation of our corporate responsibility strategy. We believe that our technology helps make the world safer and a better place and are committed to being good corporate citizens and supporting the communities in which we and our customers live and work. Now I will turn to our top strategic priorities in 2024.
Over the past 2 years, we have implemented the Verra Mobility Operating System, or VMOS, a robust standard business system that drives growth, efficiency and talent development. At the heart of VMOS are 3 strategic pillars: Drive core business outcomes, build the Verra Mobility of the future and create engaging and fulfilling workplace experience. As you'll see on Slide 5, in 2024, we established key objectives for each of these pillars focusing on financial execution of the 2024 annual plan, leverage recent investments to capitalize and expanded TAM and drive operating efficiencies, pursuit of accretive expansion opportunities, accelerating our portfolio model adoption and making Verra Mobility a best place to work. Through execution of our 3 strategic pillars, we are poised to deliver superior long-term value creation for all stakeholders.
Next, I'll drill down a layer and focus on key priorities for each of our business segments as described in more detail on Slide 6, 7 and 8. In commercial services, where we benefit from strong secular tailwinds, including increased adoption of cashless tolling, new toll roads and a transition to all-inclusive pricing models, we are focused on growing the core while simultaneously capitalizing our numerous expansion opportunities. Our top priorities include execute the core business while investing in growth continued segment expansion in fleet management and European tolling enforcement and violations and laying the foundation to capitalize on next-generation connected vehicle opportunities. In Government Solutions, where we benefit from an expanding addressable market for automated enforcement, our top priorities are to win our share of new contract awards in Florida, Colorado, Washington, California, Canada and New Zealand position ourselves to retain the New York City at contract renewal and leverage 2023 and 2024 investments in our software platform to enhance our strategic advantages.
And finally, in T2 Systems, where we have significant runway for continued growth and profitability in the university segment as well as our focused efforts to penetrate the municipality segment, our focus is on the following priorities: continue to focus on growing our high-margin core permits and enforcement business, successfully launch new products to drive transactional revenue growth and investments in our software platform to further enhance strategic position. These are our top priorities as we execute our strategy in 2024. As I've said previously, this is a great business with a bright future, and I look forward to sharing updates on our progress as we execute our plan in 2024. Craig, I'll turn it over to you to guide us through our financial results and 2024 guidance.
Craig Conti: Thanks, David. Good afternoon, and thanks to everyone for joining us on the call. I'll start out today by providing an overview of our fourth quarter and full year 2023 results, followed by a detailed overview of how we're thinking about 2024. Let's turn to Slide 9, which outlines the key financial measures for the consolidated business for the fourth quarter. Total revenue increased approximately 13% year-over-year to about $211 million for the quarter, driven by strong recurring service revenue growth across the company. Recurring service revenue grew 13% over the prior year quarter, driven by strong travel demand in the GS business and recurring service revenue growth outside of New York City and the GS business.
At the segment level, commercial services revenue grew 16% year-over-year. Government Solutions service revenue increased by 10% over the prior year and T2 Systems SaaS and services revenue grew 10% over the fourth quarter of last year. Product revenue was $9 million for the quarter, about $6 million of this was from T2 Systems, while $3 million was from Government Solutions, the majority of which were international product sales. From a total profit standpoint, consolidated adjusted EBITDA of $91 million increased by approximately 9% over last year. As David mentioned, we took a $4 million noncash charge in the GS business for inventory obsolescence, largely driven by supply chain optimization. Excluding this charge, year-over-year adjusted EBITDA growth would have been 14% and consolidated margins would have been about 45%, which is consistent with Q4 of 2022.
We reported net income of $3 million for the quarter including the $31.5 million plus pass accrual pursuant to our legal setting, which is discussed in more detail in our 10-K. Adjusted EPS which excludes amortization, stock-based compensation and other nonrecurring items, including the plus pass legal settlement, was $0.24 per share for the current quarter compared to $0.25 per share in the fourth quarter of 2022. The primary driver for the reduction compared to the prior year was the $4 million pretax inventory write-down in the GS segment and our increased share count resulting from the exercise warrants and the issuance of earn-out shares in the second and third quarter of this year. As David mentioned earlier, the company is fully leaseback with no remaining warrants or earn-out shares.
We delivered $19 million of free cash flow for the quarter, which resulted in meeting our annual guidance of 40% full year conversion rate, but was below our recent quarterly run rate, largely driven by timing. The primary factors driving our performance were $14 million in accounts receivable we expected to collect in December, which shifted to early January and about $4 million of incremental CapEx relative to quarterly trends. When comparing to the fourth quarter of 2022, in that period, we generated a source of working capital, about $16 million higher than normal, driven by increased collections and higher accounts payable balances. Moving forward, I expect to return to an approximate $40 million free cash flow run rate, subject to historical seasonality in our CS business.
Turning to Slide 10. We generated about $372 million of adjusted EBITDA on approximately $817 million of revenue for the full year, representing a 45% adjusted EBITDA margin. Additionally, we generated about $149 million of free cash flow or a 40% conversion of adjusted EBITDA, representing $0.93 of free cash flow per share for full year 2023. Moving to Commercial Services on Slide 11. We delivered revenue of about $95 million in the fourth quarter, increasing $13 million or 16% year-over-year. Rack tolling revenue increased 23% or about $12 million over the same period last year, driven by robust travel demand and increased rental volume. Additionally, our FMC business grew 24% or about $3 million year-over-year as our growth initiatives continue to produce the intended results.
Fourth quarter adjusted EBITDA in Commercial Services was $62 million, representing 27% year-over-year growth. Adjusted EBITDA margins of about 66%, a 570 basis point increase over the fourth quarter of last year were largely driven by the continued strength in rack tolling and execution of our growth initiatives. For the full year, Commercial Services generated $373 million of revenue or 14% growth over last year. Adjusted EBITDA of $242 million resulted in margins of about 65%, a 100 basis point improvement over the prior year driven by volume-based operating leverage. Let's turn to Slide 12, and we'll take a look at the results of the Government Solutions business driven primarily by growth outside of our largest customer, New York City, service revenue increased by $8 million or 10% over the same period last year to $91 million for the quarter.
Product revenue was about $3 million for the quarter and was driven by internationally -- was primarily driven by international programs. Adjusted EBITDA was $24 million for the quarter, representing margins of 26%. The reduction in margins versus the prior year is due to the $4 million inventory obsolescence write-down I previously discussed and increased spending on platform investments and business development efforts. For the full year, Government Solutions generated $358 million of total revenue, a 6% increase over 2022 and adjusted EBITDA was $114 million for the year, effectively flat with the prior year. Let's turn to Slide 13 and take a view of the results of T2 Systems, which is our Parking Solutions business segment. Revenue of $23 million and adjusted EBITDA of approximately $5 million were in line with expectations for the quarter.
Software and services sales increased 10% over the prior year quarter and product revenue increased to $6 million for the quarter. This sequential increase is consistent with historical seasonal trends. For the full year, T2 delivered revenue of $86 million or approximately 9% growth over last year and adjusted EBITDA of $15 million. Okay. Let's turn to Slide 14 and discuss the balance sheet and take a closer look at leverage. As you can see, we ended the year with a net debt balance of $918 million, resulting in net leverage of 2.5x at year-end as as well as significant liquidity with our undrawn credit revolver. The primary drivers of the reduced leverage for strong free cash flow and the exercise of warrants, which yielded approximately $160 million in cash proceeds during the second and third quarter of 2023.
Through year-end, we paid down approximately $180 million of floating rate term loan debt. Our gross debt balance at year-end stands at about $1.1 billion, of which approximately $700 million is floating rate debt. With a notional hedge of approximately $675 million, we have hedged about 95% of our current floating debt total with a float for fixed rate swap. This hedging instrument fixes the SOFR portion of our Term Loan B at a rate of 5.2% for 2 more years with a monthly option to cancel that began in December of 2023 that we can execute in the event that interest rates move in our favor. In addition, subsequent to the end of the fourth quarter, we completed a successful repricing of our $700 million term loan B. Our offering was materially oversubscribed, and we achieved a 50 basis point reduction in the coupon rate and also eliminated a historical 12 basis point credit spread adjustment to currently.
The transaction yields about $16 million in cash savings, net of fees over the remaining life of the debt. On our total debt stack, this lowers our weighted average cost of debt to about 7%. The fourth quarter marks our second closing period and first year-end under our new engagement with Deloitte as our independent accounting firm. The partnership has been excellent and our audit, while compressed from a time line perspective was thorough and well executed. In our 10-K, you will note that we have disclosed several deficiencies regarding IT general control gaps, which aggregate to a material weakness for 2023. It is important to note there were no errors in our current or past financial results as a result of these controlled findings. We've already identified a detailed path to correct these gaps and remediate this material weakness in 2024, and we will update you regularly on our progress.
Now let's turn to Slide 15 for a discussion on 2024, which we expect will be another strong year for the company. We expect total revenue in the range of $865 million to $880 million, representing approximately 6% to 8% growth over 2023, consistent with the long-term outlook we shared at our Investor Day in July of 2022. We expect adjusted EBITDA in the range of $395 million to $405 million, representing approximately 8% growth at the midpoint over 2023. This represents an adjusted EBITDA margin of about 46% or about 50 basis points of margin expansion year-over-year. In Commercial Services, we expect high single-digit revenue growth driven by increased TSA volume and product adoption. In addition, we are expecting increased FMC revenue at a growth rate in line with the overall CS business.
Consistent with historical trends, first quarter is forecast to be our lowest revenue-generating quarter followed by a sequential -- followed by sequential revenue increases in the second and third quarters, followed then by a decline in the fourth quarter as the summer driving season comes to a close. As a reminder, all revenue in this segment is service revenue. Government Solutions is expected to generate the high end of mid-single-digit total revenue growth driven by the expansion of camera installations with existing customers and new customers awarded in fiscal year 2023. We expect annual product revenue in the GS segment to be comparable to 2023 levels. As we previously discussed, we are anticipating a planned increase in CapEx to support GS long-term growth, which I will elaborate on shortly.
Lastly, Parking Solutions revenue is expected to deliver mid-single-digit total revenue growth. The temporary reduction in revenue growth -- this temporary reduction in revenue growth is driven by strong demand in SaaS and services growth offset by a reduction in onetime product sales as the industry transitions to a focus on software and mobile solutions. As David mentioned, over the long term, we expect parking to return to high single-digit growth as we execute our SaaS and transactional revenue growth strategies. For the company as a whole, we are guiding to a 2024 non-GAAP adjusted EPS range of $1.15 to $1.20 per share. Adjusted free cash flow is expected to be in the range of $155 million to $165 million, representing a conversion rate of about 40% of adjusted EBITDA.
Adjusted free cash flow excludes the after-tax plus past legal settlement, which was accrued in 2023 and will be paid in 2024. The 40% free cash flow conversion rate is below our long-term guidance due to our plan to spend an incremental $30 million to $35 million in 2024 CapEx. The vast majority of the CapEx will be spent in Government Solutions to enhance and consolidate our software platform and for revenue-generating cameras contingent on winning procurements during the year. We also anticipate spending about $4 million in corporate CapEx to upgrade our current ERP system. Lastly, based on the adjusted EBITDA and free cash flow guidance and excluding capital allocation investments, we expect to reduce net leverage to about 2x by year-end 2024.
Other key assumptions supporting our adjusted EPS and adjusted free cash flow outlook can be found on Slide 16. In summary, we generated strong fourth quarter and full year results, and I'm confident in our ability to deliver on our 2024 outlook. We're operating in attractive end markets with strong secular tailwinds, and I believe we're making the right investments to continue to drive growth and margin expansion throughout the company. This concludes our prepared remarks. Thank you for your time and attention today. At this time, I'd like to invite Ina to open the line for any questions. Over to you, Ina.
Operator: [Operator Instructions]. And your first question comes from the line of Keith Housum from Northcoast Research.
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