Spok Holdings: I'd Be Short If It Weren't For The Dividend

The bottom line issue with Spok Holdings (NASDAQ:SPOK) is that their business is in a highly competitive and stagnant industry and the company has been consistently losing revenues accordingly. Even so, the company has been making some moves recently which has me convinced that their growth problem isn't temporary and that these issues will haunt them in the long run.

The company specializes in communication and software solutions, primarily in the healthcare industry. While that industry is a fast growing one with the increase in technological solutions and adaptation, communications solutions remain rather stagnant due to a highly competitive environment and due to the fact that even standard communication devices like smartphones present a good avenue of communication for non-private healthcare information.

The company's one-way and two-way communications solutions have several applications in the field and their new GenA pagers do seem like they can have a use in various healthcare spaces. Yet, the core of their operations, and where over 55% of revenues are generated on an annual basis, is still declining on both an annual and a quarterly basis.

To make matters worse, the company has been making questionable moves when it comes to how they manage their operations and cash and this is where my negative opinion on the company really solidifies.

Let's take a dive into the various factors.

An Industry With Quite A Bit Of Promise

The company's main offering is 'wireless services', which provides solutions for communications, primarily in the healthcare industry.

The clinical healthcare communications market is projected to grow at a 17.5% CAGR (compound annual growth rate) from 2021 to 2028, growing from $2.1 billion to $5.2 billion. This is an impressive growth rate, even in the healthcare industry.

With so many healthcare operations searching for systems with increased efficiency, collaboration and communications has emerged as the center of this search, allowing clinicians and healthcare workers to more efficiently and effectively communicate with each other, saving time and resources while they take care of patients. With the vast majority (over 80%) of medical errors evolving from miscommunications, this also has the potential to save expensive lawsuits and insurance premium increases for hospitals and healthcare centers the world over.

However. Spok is a major player in this field, along with companies like Cerner (acquired by Oracle in 2021) (ORCL) and Cisco Systems (CSCO), they continue to lose revenues each quarter and each year and have mostly relied on cost cutting efforts to boost their EPS figures and pay out a hefty dividends.

This is where we get into the 'problematic' part of the company's prospects.

Organic Declines In Sales

The company generates roughly 55% of its revenues from direct subscriptions to its communication solutions, which have been declining over the better part of the last 10 years despite continuous price hikes for the company's services.

Here's what that looks like over the past 5 years:

(Source: Seeking Alpha - SPOK Income Statement, Annual)

As we can see, it's not just that the company's revenues are declining, but that the rate of decline isn't just not slowing down, it's potentially accelerating. The company has been losing subscribers and have also taken a hit to their other large revenue segments, the 'professional services' and 'maintenance', which are costs that their subscribers pay when they upgrade systems, need help setting up new parts of their services as well as periodic updates to software and hardware.

The slightly positive thing here comes from the company's effective tackling of its expense structure, which has allowed them to show significant progress in preventing losses in their net income, or earnings per share.

Cost Cutting Is Actually Working. For Now.

The company has laid off around 176 employees, a sizable number of their total employees after announcing their restructuring efforts back in 2021. This has resulted in significant savings on payroll, even though I think it's the wrong way to go in the long run, but I'll get to that in the next segment.

Here's a look at the company's expenses over the same time period as sales:

As we can see, and if you can guess, here is where my problem is with this strategy. Not only is the reduced headcount in large part from their 'professional services' which they now outsource when needed, but they cut a big chunk of their R&D (research & development), which means that they're not actually investing a whole lot into finding new technologies and solutions to expand their revenues streams.

Reducing the accompanying service staffing can be problematic, since that is a main reason a healthcare company would prefer paying for those type of services over using their own or a simpler platform - to know that if a problem arises, they'll be able to address it quickly and efficiently. Lower cost communications services are easy to find nowadays and pricing is one of the main reasons healthcare companies look for alternatives to relatively expensive service providers. Spok's frequent pricing increases have been noted as a contributing factor in losing business to competitors in their risk assessments in their recent filed 10-K, linked above.

Furthermore, the company's reduction in research and development spending is worrisome for the longer run since the company needs to be developing better software solutions for their organic services as well as the recently released GenA pager system.

Shareholder Value Clouding Growth

So the way I see it - the company has not been doing much to work on improving its wireless business over the past few years, focusing more on software, which has remained far more volatile given the fierce competition in the industry by huge players like Cisco Systems and the likes.

Furthermore, they've been spending their profits and then some issuing high dividend payouts to shareholders. As they stated in their recently filed 10-K, they have moved to focus on growing cash flows to return capital to stockholders. This was one of the red flags, as quoted from the filing:

...our strategic business plan announced in February 2022, our over-arching strategy has been, and will continue to be, the prioritization of free cash flow generation and the return of capital to stockholders, by maximizing revenue and cash generation from our established lines of business while effectively managing expenses.

This is worrisome, since they're seeming to focus more on the return of capital to shareholders than on their expansion, although they did add later in the filing their intention to work to grow their business services:

Through targeted investments in these important and valuable business lines, we aim to reinvigorate growth in our legacy software solutions and minimize wireless revenue attrition.

The company cutting employees and payroll, cutting research & development spending and distributing more than they're making in dividend payments doesn't look like they're prioritizing growth or where it can come from but rather how they can distribute their existing income and cash before it's gone.

Growth Is Nowhere To Be Seen

The company distributed $25 million in dividends last year and they're expected to do the same this year, while their net income is mostly negative (outside of some tax write downs which allowed them to report a large profit).

Up until 2018, the company held around $100 million in cash and equivalents, but that has since fallen and they currently hold just $35 million in cash as well as $15 million in short term investments, which they use to generate a few hundred thousand dollars in interest income.

I believe, that with the company paying out $25 million in dividends, while I don't expect them to generate anywhere near that amount in net income, will mean that their cash pile will likely be depleted relatively soon (within the next few quarters), forcing them to either take on long term debt in a high interest rate environment or dilute shareholders by offering equity.

While the company has talked about growing their business, they haven't shown any concrete ways they plan to do that or give projections for the coming years, just that revenues from their legacy wireless segment is likely to continue and decline.

Thesis Summary: A Borderline Short

As the title suggests, I am not shorting or going to short the company's shares due to their high dividend yield and the fact that even though I expect them to do worse overall, they still have ways to go with cutting costs and their roughly ~13% annual dividend yield is more than enough to offset most of the gains I would project over the coming year.

Even so, until the company provides a path forward to either improve and expand their existing offerings, as well as diversifying their communication solutions, I believe that revenues will continue and fall over the next 2-3 years and that the company's cost cutting will reach their limit over that time frame.

Furthermore, the company will likely be forced to cut or eliminate their dividend payments unless they reverse some of that decline, which may have a catastrophic impact on their share price.

Overall, I am highly bearish on the company's growth but given their cost cutting effort and high dividend yield, I refrain from taking action against the high price of their shares. I will revisit this thesis from time to time when we get more developments news from the company and the industry.