Quarterhill reports Q2 revenue of $43.1M with negative EBITDA; restructuring aims to save $12M annually and improve margins in second half of 2025.

OPERATOR - (00:01:01)

Good morning and welcome to Quarterhill's Q2 2025 financial results conference call. On this morning's call we have Chuck Myers, Chief Executive Officer and David Sharon, Chief Financial Officer. At this time, all participants are in a listen only mode. Following management's presentation, we will conduct a question and answer session during which analysts are invited to ask questions. To ask a question, please press Star one on your Touchstone phone to register. Should you require any assistance during the call, please press Star zero. Earlier this morning, Quarterhill issued a news release announcing its financial results for the three and six months ended June 30, 2025. This news release, along with the company's MD&A and financial statements are available on Quarter Hill's website and on SEDAR Plus. Certain matters discussed during today's conference call or answers that may be given to questions could constitute forward looking statements. Actual results could differ materially from those anticipated. Risk factors that could affect results are detailed in the Company's Annual Information form and other public filings that are available on SEDAR Plus. During this conference call, Quarterhill will refer to Adjusted ebitda. Adjusted EBITDA does not have any standardized meaning prescribed by IFRS.. Please refer to the Company's Q2 2025 MDNA for full cautionary notes regarding the use of forward looking statements and non IFRS. measures. Finally, please note that all financial information provided is in US Dollars unless otherwise specified. I will now turn the meeting over to Chuck Myers. Please go ahead.

Chuck Myers - Chief Executive Officer - (00:02:45)

Good morning everyone and thank you for joining us on today's call. Before I begin, I'd like to introduce David Sharon as the new Chief Financial Officer. David brings more than 15 years of public company CFO experience and a proven track record of driving growth and operational excellence in global telecom businesses. David's technology company experience, governance expertise and proven M&A track record make him an ideal leader to help us navigate through our current environment and execute on our next phase of growth. It's been a great addition to the team so far and in terms of agenda I'll discuss the highlights for the quarter, after which David will take a look at the key financial results. Following David, we'll open it up for questions in our Q2 summary: Looking now at the results for the quarter, we'll start with a review of the headline numbers. Q2 revenue was 43.1 million and adjusted EBITDA was a negative 2.7 million. Let me be direct with you. While Q2 results were below our expectations, we are not sitting still. We are taking decisive action now to put the plan on a path to exit this year with positive margins that we believe will continue to expand in the years ahead. How are we doing this? Through four targeted actions designed to generate sustainable positive operating margins, improved cash flow and a stronger balance sheet. 1. Our restructuring we have right sized our operations to improve efficiency and financial performance. As we announced on July 24, this resulted in a reduction of approximately 100 positions, roughly 15% of our total headcount. The reduction affected both contract and full time roles in roughly equal measurements and were split geographically between North America and the rest of the world. With the recent completion of certain tolling implementations, we felt we had excess capacity in that unit. Then we can quickly ramp up those resources as new business comes in. We've also rightsized our resources to more appropriately align with the economics of the two problem contracts that have been a drag on performance. Of note, we did not make cuts in our Safety enforcement unit, which continues to perform very well. Nor did we cut into the sales, company sales and marketing or new product development teams. In fact, we may reallocate some of the savings to add resources to the sales team. We expect this restructuring to save approximately $12 million per year in expenses with benefits starting to flow through in Q3. I want to emphasize that we structured this carefully. Our service levels to customers will not be impacted and it's about operational efficiency, not cutting corners on delivery. 2. We're making progress on our problem contracts since our Q1 call, we have made meaningful progress in resolving the two problem contracts. As part of the restructuring, we have substantially reduced our costs on these projects. For the larger of the two contracts which generated the majority of the combined monthly losses. We have reduced our costs by more than $650,000 a month. Second, we will be in mediation with this customer at the end of August in an effort to further resolve the situation going forward. On the second contract, we've reduced our losses by approximately $250,000 a month and we'll continue to pursue additional opportunities to mitigate those losses further. 3. We're growing our top line with higher margin business. We continue to win new business and are doing so at better margins. We've added $85 million in change orders and wins this year to date across both business units and recently received notification of an additional $25 million annual renewal for an existing contract post our second quarter. Our enforcement business continues to perform well and grew its top line in the quarter while delivering strong margins, growing from about 20% over 40% gross margin over the last six quarters or so. Recent International wins in Djibouti, Thailand, South Korea reflect the global demand for enforcement solutions and our expanded international footprint. The Djibouti deployment marks our first entry into East Africa through a World bank funded infrastructure project demonstrating our ability to customize solutions for diverse markets. Meanwhile, repeat orders from Thailand South Korea confirm the proven reliability and performance of our weigh in motion technologies, reinforcing our reputation as a trusted partner for governments seeking to improve roadway safety and efficiency. I've spoken previously of our Artificial Intelligence Vehicle Classification System (IAFEA) continues to gain market traction with recent deployments in six states Arizona, Minnesota, Mississippi, Nevada, North Dakota and Wisconsin. These wins demonstrate growing demand for non intrusive AI driven solutions that provide real time traffic data while prioritizing safety and privacy. The expansion includes both permanent installations for long term infrastructure and portable systems for flexible deployment showcasing IAFEA's versatility. Finally, we recently won a $2.8 million contract with the Louisiana Department of Transportation for work on weigh and motion systems at two commercial vehicle enforcement facilities facilities. This represents further repeat business with an existing customer. As I said in our last call, our overall pipeline remains robust at approximately 2 billion. We continue to have line of sight to a number of new opportunities for both the tolling and enforcement units. Importantly, every new contract we're bidding ensures positive cash flow through the implementation phase. This is a fundamental change from the historical practices that contributed to our current challenges. Fourth, we're investing in new generation technology. We continue to invest in our next gen technology platform built on microservices and AI architecture. The goals are generate a greater portion of our revenue from higher margin software, reduce development costs through our scalable platform approach and enable expansion into new verticals. In the third quarter, we are planning to launch an exciting project for a new technology platform with an existing tolling customer. This platform represents a step forward in our evolution to a software focused company offering modular capabilities that can integrate with existing infrastructure or operate independently. The platform leverages AI driven features like vehicle fingerprinting, predictive analytics and anomaly detection to ensure accuracy, reduce revenue leakage and accelerate issue resolution. By unifying data management with AI analysis, we're helping customers improve decision making and operational efficiency while supporting incremental adoption that allows them to quickly gain value and scale as their needs evolve. I'm also pleased to announce recently we hired Darren Lehrmont as our new Chief Technology Officer. Darren brings over 25 years of experience in technology leadership including senior roles at Thales, HID Global and Silicon Labs where he leads large scale software development initiatives. Most recently he served as CTO at several technology companies with particular expertise in cloud, native architectures and AI driven solutions. Exactly the capabilities we need to accelerate our technology transformation. Outside of that, our foundation remains strong. We are addressing legacy issues. I want to emphasize what hasn't changed. The underlying strength of our business. Our people and their deep expertise in the specialized market. A diversified customer base with long term relationships, strong technology development capabilities and emerging opportunities for AI to transform our industry. Our outlook, our plan is straightforward. Resolve the current problem contracts, realize the targeted cost savings and continue building our higher margin business. I believe doing so will lead to top line growth margin, expansive expansion, positive cash flow and growth and shareholder value. Success in building scale through organic and strategic M&A opportunities will further accelerate this creation. In conclusion, I'd like to thank our team for their dedication during this transition period. While the near term results are challenging, we're building a stronger, more resilient business with the right leadership team to execute our strategy. We're confident in our path to operating profitability and our ability to deliver the expanding margins improved performance our shareholders deserve. And with that, I'll turn it over to David to discuss our financial results in more detail. Thank you.

David Sharon - Chief Financial Officer - (00:12:42)

Thank you, Chuck and good morning everyone. Before I begin, I want to say how excited I am to be joining Quarterhill.. I see tremendous potential in the business given our market leading position, strong industry fundamentals and our ability to leverage technology to drive meaningful transformation in the meaningful transformation in the transportation sector. We have a clear plan to strengthen the company and I look forward to lending my skills in operations, governance and capital markets to help us achieve our objectives in driving growth, margin expansion and shareholder value. With that, I'll start the financial review with a look at the revenue in the quarter and a reminder that all figures are in US dollars. Q2 revenue was 43.1 million, up 4% from Q2 last year. This is also up 27% from Q1. The increase was primarily due to the strength in our safety and enforcement business. As Chuck mentioned earlier, this unit generated solid growth in both the quarter and in the year to date period. Tolling contracts that are in renegotiation contributed 2.8 million in revenue in the quarter. This revenue generates a significant negative contribution to operating margins, which is why we're pursuing the path to mediation. I'll touch on their margin impact in a moment. At quarter end, we continue to have a significant backlog of 463 million, providing good visibility into revenue for 2025 and the next several years. A large portion of the backlog is higher margin contracted maintenance revenue versus implementation revenue, which we expect will drive higher margins in the future. Gross margin percentage in Q2 was 15% compared to 21% in Q2 last year and up from 12% in Q1. The decrease to the year ago quarter was primarily due to the poor margin on the two noted tolling projects, which was partially offset by continued strong margin performance from our Safety and Improvement Enforcement unit. Of note, the restructuring that was announced on July 24 should result in improved gross margins in Q3 and then another step up in Q4 thereafter as the benefit of the reductions take hold. And it's important to recall that a majority of the cuts were made in the cost of sales line. Total operating expenses for Q2 were 12.9 million compared to 10.8 million in Q2 last year. The increase in the quarter and year to date is primarily due to the investments in leadership and resources for our project bid and product development teams. In addition to the restructuring, we see the potential to generate additional OPEX savings through rationalizations in certain third party contracts such as IT as those agreements come up for renewal over the next 12 months. Q2 adjusted EBITDA was negative 2.7 million compared to positive 1.7 million in Q2 last year, but up from negative 3.4 million in Q1. And as Chuck mentioned, the two problem contracts resulted in a reduction to Q2 adjusted EBITDA of 3.9 million. Excluding those two contracts, Q2 adjusted EBITDA would have been positive 1.2 million. And of note, the Safety Enforcement Unit continues to generate solid gross margins. Chuck said in his section, we are laser focused on driving stronger margins in the business as evidenced by a recent restructuring restructuring. We expect our margin profile to improve in the second half of the year based on the restructuring alone. Beyond that, we expect to drive margins higher via additional cost savings in areas I just mentioned along with better bid economics on new contracts. Turning now to the balance sheet, at quarter end we had cash of 22.7 million compared to 31.9 million at year end. Also at quarter end our long term debt was reclassified to current liabilities as the company was not incomplete compliance with its financial covenants at June 30. However, subsequent to quarter end we finalized an amendment to our credit agreement that provides us with additional financial flexibility and a waiver to our covenants through the Q3 of this year. More details can be found in our mda. Due to the nature of our business, operating cash flows may vary significantly between periods due to changes in timing and working capital balances, specifically with collections and payments. However, our outlook is for our cash situation to improve for the remainder of the year. We expect the cash burn to moderate and we expect to achieve positive cash from operations in the second half of 2025. And with that, I'll turn the call back to Chuck for his closing comments.

Chuck Myers - Chief Executive Officer - (00:17:29)

Great. Thanks, David. In summary, we're making decisive progress on multiple fronts. Our restructuring is delivering cost savings, we're advancing towards resolution of the problem contracts, and our enforcement business continues to perform well with strong international growth. With our new leadership team in place and a clear action plan being executed, we're confident in our path to sustainable operating profitability and margin expansion. I want to thank our employees, our customers, our shareholders and our analysts for their continued support. This concludes our formal remarks and I'll now turn the call over to the operator for Q and A.

OPERATOR - (00:18:13)

Thank you, ladies and gentlemen. We will now begin the question and answer session. To ask a question, you may press a star followed by the number one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press a star two with that. Our first question comes from the line of Gavin Fairweather with Core Mark Securities. Please go ahead.

Gavin Fairweather - Equity Analyst - (00:18:36)

Hello, good morning. Thanks for taking my questions. Maybe I'll just start with the tolling business and the two onerous contracts. And we saw that the cost take out which will help profitability. You know, in the script you talked about advancing progress on renegotiation. But I guess from an external perspective, you know, the update was kind of similar to what we saw in Q1. So maybe you can provide a bit more color on the tenor of those discussions and how they're kind of advancing under the hood.

Chuck Myers - Chief Executive Officer - (00:19:07)

I'll talk with the biggest problem contract first. We have a mediation is scheduled with a mediator selected for the end of this month. That project has taken a pretty big forward step from our perspective with most of the development being done and bug fixes working off at this point. So as this, as this situation has progressed, as time has progressed, we've made much, much more project project progress on the project. The other side of it is we recently we've been asking for request there to expand our call center capabilities, which we received a request from the customer to expand those with that being covered in payment. That was a $3 million request that we're currently negotiating. So we're making good progress there. On the other contract, we are in negotiations. It's a much more friendly situation there. Again, the program is implemented, we're collecting tolls. It's going well. It's really been payment issues primarily between a prime contractor, the consultant, the customer and us. And we're making good progress on that. As a matter of fact, just this week we have financial team on site trying to work through those final financial issues. So we get all caught up on payments on the implementation phase.

Gavin Fairweather - Equity Analyst - (00:20:40)

Appreciate that color, Chuck. And is that mediation process usually pretty fast or does it kind of drag on for a little while?

Chuck Myers - Chief Executive Officer - (00:20:47)

The answer is yes, I expect it to be quite quick.

Gavin Fairweather - Equity Analyst - (00:20:51)

Helpful, and then maybe you can just discuss a little bit more the new kind of tolling technology platform you talked about, vehicle fingerprinting, anomaly detection. I also wonder if there could be efficiencies in kind of the call center and issue resolution with customers. Maybe you can expand on that a little bit and whether you can leverage that platform with some of the existing customers to improve gross margins or if that's mostly the case for new customers.

Chuck Myers - Chief Executive Officer - (00:21:22)

No, I mean, I think that's why we talk about the microservices architecture is so that one of the issues with this business and why the consultants generate so much revenue is if you look at the way these contracts have been historically written, including the ones I've inherited here, these are contracts with three or four thousand requirements in them. And the requirements were written because people understand that these implementations can be three years, two years, three years, four years because they're big behemoth database driven implementations. With our new architecture, you can implement elements at a time. So what happens? Instead of maybe implementing a big huge contract, you can implement it in stages. So maybe it's your image review as the, the first phase, maybe your transaction allocation and your bill collections are in another phase. So what happens is it makes it much less risky. It makes it much less for a need for consultants on the project, or at least for them to spend much less and allows far quicker implementation with our customers. So we discussed our first pilot customer that we're in process of launching later this year. They actually have an existing system of which we're part of, but we're looking at implementing that in different. In a sandbox. We call it a sandbox. So we can replace elements at a time so it becomes much less risky for them. Much quicker revenue generation for us at a much higher margin. And AI is incorporated really on three levels. Vision models, which are usually transformer models, LLMs, that are being used with generative AI, as well as data analytics.

Gavin Fairweather - Equity Analyst - (00:23:24)

Appreciate that and I think I caught you say that you might reinvest a little bit of the savings from the recent cost takeout in sales. Maybe we could just discuss the size of the bid book, what you're seeing in the pipeline that leads you to think that you might need a bit more sales capacity.

Chuck Myers - Chief Executive Officer - (00:23:40)

Well, I think right now we have a $2 billion pipeline as I think the number that we quoted in there. And we actually have an extraordinarily small sales team. If you look at our SG&A per se, we have a very small marketing team. And Gavin, as you know I've said in the past I didn't want people bidding on things until we got our house in order. We feel like we've gotten our house in order. So we're being pretty aggressive on bids lately in terms of where we're bidding. We also will be submitting shortly and we've been in a process, it's actually particularly unusual process in Europe of doing our first European bid in the tolling space. So we continue to move forward on the that we do think that we need to with some of the changes. We want to bring in fresh eyes on our tolling bidding practices. So we'll be looking to fill one or two senior positions there as far as the development goes. Our development team is in place. We recently brought in a PhD AI person specifically to be our director of AI. We recently hired a CP senior person out of AI person out of IBM. So our team is full. We don't expect any extraordinary costs on that team and don't expect any extraordinary R and D or development costs outside of where we've been. So it's really that we're focused on it with a small, very nimble, you know, very talented team.

Gavin Fairweather - Equity Analyst - (00:25:24)

That's great. And then lastly for me, maybe for Dave, I might have missed it, but OPEX was up a little bit. Even if we pull out the stock based comp, was there any one timers in there that you would call out?

David Sharon - Chief Financial Officer - (00:25:36)

I think it's just really along the lines that we said in the script which was investment in people and that's what's hit the books at that point.

Gavin Fairweather - Equity Analyst - (00:25:49)

Thanks so much Thanks, appreciate it..

Chuck Myers - Chief Executive Officer - (00:25:51)

Thanks Gavin.

OPERATOR - (00:25:54)

And your next question comes from the line of Todd Coupland with CIBC Capital Markets. Please go ahead.

Todd Coupland - Equity Analyst - (00:26:02)

Yes, good morning. You know, I had a few financial questions to try and clean up my way of thinking about the company post restructuring and with with the violation of the debt covenant. First on the debt. So I guess if I do the Math, you have 1 million 5 in quarterly interest expense. EBITDA was 1.2. But you've done a restructuring that's supposed to save 12 annualized. So is a run rate EBITDA adjusted for the restructuring, you know, in the $4 million range currently.

David Sharon - Chief Financial Officer - (00:26:47)

I think the better way to think about it is we were losing roughly, you see, the last few quarters, $2.5 million a quarter on EBITDA. The restructuring, we're saving a million dollars a month. And so the restructuring alone will get us to break even on an EBITDA level. There's additional things that we talked about that we're going to be implementing on the cost saving side, Todd. And so going forward, you know, we'll be, we'll be improving our EBITDA in the second half beyond what is, you know, evident in the, in the RIF that we announced. So I don't know if that's. That answers your question or not.

Todd Coupland - Equity Analyst - (00:27:28)

Yeah, yeah, that, that does. So, you know, you called out, most of the savings are in cost of sales. So what should be a gross margin goal in Q3 and Q4 post the restructuring?

David Sharon - Chief Financial Officer - (00:27:44)

Well, we're looking to get our gross margins back up to, you know, around 20% or more. We haven't given, you know, direct guidance on that. But if you just look at the cost that we've taken out and all those cost savings are in the gross margin line.

Todd Coupland - Equity Analyst - (00:28:04)

And then in terms of the waiver on the debt, can you just summarize what that change has been and where you would expect to get those ratios to. Thanks.

David Sharon - Chief Financial Officer - (00:28:18)

Yeah. So the waiver, it's in the MD&A in the statements, Todd, when you have a chance to look at it. Basically the waiver applies to Q2, which we just announced, and Q3. And so, you know, the two covenants, the fixed charge coverage ratio and the leverage ratio are waived for those two quarters and it'll return to normal in Q4. So that gives us a lot of, you know, Runway to work through the two problem contracts which are really, you know, affecting the ratios at this point. So, you know, we've got good line of sight to what we need to do to get those back on track.

Todd Coupland - Equity Analyst - (00:29:03)

And then if we were to think about, you know, framing the business in 26 with, you know, the pipeline and reset business model, what's a, what's a good target model to think about in terms of growth and EBITDA margin?

David Sharon - Chief Financial Officer - (00:29:20)

We haven't provided specific targets, Todd, on that line, but I think, you know, when you listen to what, you know, Chuck said, Around, you know, with the RIF that we've done, the additional costs that we're driving out of the business, you know, you know, for us to get to double digit EBITDA next year is within our, within our, you know, within our sites. As far as a revenue growth. Growth one we've got a very strong order backlog that will be rolling into revenue, you know, over 2H25, into 26 and 27, 28. So our order book is very strong and with additional focus on new projects that Chuck described, we should be seeing, you know, some very nice top line growth. But we haven't given specific numbers on that.

Todd Coupland - Equity Analyst - (00:30:10)

Okay, great. I appreciate that. Color. Thank you.

Chuck Myers - Chief Executive Officer - (00:30:14)

Thanks. Todd.

OPERATOR - (00:30:16)

Your next question comes from the line of Stephen Lee with Raven James. Please go ahead.

Stephen Lee - Equity Analyst - (00:30:23)

Thank you. Welcome aboard. Dave, I got a question for you. Just to walk me through the problem contracts again. So the drag in the quarter was 3.9 right. From the problem contracts.

David Sharon - Chief Financial Officer - (00:30:38)

Yeah.

Stephen Lee - Equity Analyst - (00:30:40)

And if you've cut 900k a month. So that would mean you're still losing $5 million a year on these two contracts, assuming nothing changes from the mediation.

David Sharon - Chief Financial Officer - (00:30:55)

That's. We said we're saving approximately a million dollars a month on the RIF and you're seeing the two problem contracts at 3.9 was in. So we've taken most of the cost savings. You're right. Come out of those two problem contracts as we said, as Chuck described. And so there'll still be a small loss going forward on those two contracts, but we hope to make that up in growth in the other parts of the business.

Stephen Lee - Equity Analyst - (00:31:28)

Okay, got it. And then.

Chuck Myers - Chief Executive Officer - (00:31:31)

Stephen, on the other side of it is those contracts are nearing completion in their development. So the overall cost of those will continue to drop over time.

Stephen Lee - Equity Analyst - (00:31:44)

Okay. And a successful mediation check, would that turn the contract profitable or just stop losing money?

Chuck Myers - Chief Executive Officer - (00:31:54)

I don't know the answer to that. We feel we have a very strong case for recovering past losses and so that's why we're moving forward with that. Okay.

Stephen Lee - Equity Analyst - (00:32:09)

Okay, got it. And then just to tough one to answer for me. Right, right. No, I understand. And there's just one clarification on the restructuring. So saving 1 million a month. So that's $12 million. So that means the restructuring you announced earlier. So essentially is just for the two problem contracts. There's nothing, there's no optimization in terms of Quarter Hill co Quarter Hill excluding those contracts. Is that how I should read most.

David Sharon - Chief Financial Officer - (00:32:39)

Of it, as we said was in tolling in the cost of sales line, there were a few other changes we made. And we are restructuring the business just from an org structure perspective to make it more efficient. Right. So there's cost savings plus efficiencies. We're driving.

Stephen Lee - Equity Analyst - (00:32:57)

Okay, got it. All right. Thanks.

Chuck Myers - Chief Executive Officer - (00:33:00)

To go back to your 3.9 loss, we've significantly reduced that on a go forward basis.

OPERATOR - (00:33:11)

All right. Thank you. And that concludes our question and answer session. I would like to turn it back to Mr. Myers for closing remarks.

Chuck Myers - Chief Executive Officer - (00:33:20)

Thank you very much. In closing, I mean, I continue to thank everybody that's been involved in the business and thank you everybody for participating on the call. Again, thank you to our shareholders and we look forward to speaking with you again and keep you informed of our progress in the coming months. Goodbye.

OPERATOR - (00:33:39)

Thank you, presenters and ladies and gentlemen, this concludes today's conference call. Thank you all for joining. You may now disconnect.