CAMP4 Therapeutics Corporation
Q2 2020 Earnings Call Transcript
Published:
- Operator:
- Welcome to the CalAmp's second quarter 2020 financial results conference call. As a reminder, this call is being recorded.I would now like to introduce your host for today's conference call, Leanne Sievers of Shelton Group, CalAmp's Investor Relations firm. Leanne, you may begin.
- Leanne Sievers:
- Good afternoon and welcome to CalAmp's fiscal second quarter 2020 financial results conference call. I am Leanne Sievers, President of Shelton Group, CalAmp's Investor Relations firm. With us today are CalAmp's President and Chief Executive Officer, Michael Burdiek and Chief Financial Officer, Kurt Binder.Before we begin, I would like to remind you that this call may contain forward-looking statements. While these forward-looking statements reflect CalAmp's best current judgment, they are subject to risks and uncertainties that could cause actual results to materially differ from those implied by these forward-looking projections. These risk factors are discussed in our periodic SEC filings and in the earnings release issued today, which are available on our website. We undertake no obligation to revise or update any forward-looking statement to reflect future events or circumstances.Michael will begin today's call with a review of the company's financial and operational highlights, then Kurt will provide additional details about the financial results and outlook followed by a question-and-answer session.With that, it's my pleasure to turn the call over to CalAmp's President and CEO, Michael Burdiek. Michael, please go ahead.
- Michael Burdiek:
- Thank you Leanne. We are pleased with our second quarter results as our consolidated revenue of $93 million exceeded the midpoint of our guidance, driven by record software and subscription service revenue of more than $31 million, up 65% year-over-year. Our three recent acquisitions performed well during the quarter and we also benefited from supply chain structure improvements. We also demonstrated improving profitability with non-GAAP earnings per share and EBITDA both at the high-end of our guidance range.Let me start by highlighting the further progress we have made in our transformation to become a global SaaS solutions provider. As I mentioned a moment ago, software and subscription service revenue reached another record and now represents 33% of total revenue as compared to 29% last quarter. As an example of organic progress, Toyota Motor Italy and CalAmp's LoJack Italy subsidiary announced a partnership to protect the entire line of Toyota vehicles sold in Italy with optional LoJack services. Now all Toyota models in Italy will have LoJack Stolen Vehicle Recovery service offered as an embedded option to improve security and peace of mind for its customers.Earlier this week, we also announced a strategic partnership with Sprint, a leader in IoT and telecommunication innovations to deliver CalAmp iOn Device as a Service subscription services and software application. This new partnership will expand Sprint's broad range of connected car, fleet and asset management services and create new revenue streams from Sprint enterprise accounts.We are also seeing the benefits of increasing demand for Synovia school bus fleet solutions as a result of consumer pull-through for the award-winning Here Comes The Bus application that tracks bus route activity and real-time student ridership. Numerous districts across the United States are beginning to recognize the benefits this powerful app affords parents to help them better manage their busy schedules while also staying more connected to their children traveling to and from school.In the second quarter, we also launched the Tracker branded SmartDealer lot management application to boost auto dealer profitability and enhance customer loyalty, along with SmartDrive to deliver connected car services to customers across the United Kingdom. These solutions integrate with CalAmp's telematics cloud Software-as-a-Service platform which will help accelerate Tracker's expansion and delivery of connected vehicle services across the U.K.Finally, we also saw strong performance from LoJack Mexico in the quarter and we expect the rollout telematics services similar to SmartDealer and SmartDrive in Mexico within the coming quarters. With all of these positive developments, our worldwide subscriber base has grown to 1.3 million subscribers serving as a strong indicator of our continued growth and expansion.Now turning to our telematics systems business. Revenue for the second quarter of $62 million was in line with expectations, down 2% sequentially and 20% year-over-year. During the quarter, our network and OEM revenue was down by $4 million, primarily due to our largest customer Caterpillar shifting from end-of-life products including 3G devices while preparing to ramp deliveries of our next generation LTE-based product family.We believe this product transition will pick up significant momentum in the third quarter, augmented by a significant pickup in order flow related to the 3G to 4G LTE field upgrade scheduled for delivery over the next two quarters. In the second quarter specifically, overall sales of CalAmp LTE-based technology devices increased to approximately 30% of revenue as compared to 15% in the prior year period, reflecting the momentum that's building across our installed base for this critical 3G to 4G upgrade cycle.Now I would like to highlight some customer case studies that underscore our ongoing SaaS transformation journey at CalAmp. The first case study involves a major global mail delivery and package shipping company adopting the full stack of CalAmp SC iOn supply chain visibility services to optimize routing for leased trailers on a real-time basis. The reliability, flexibility and dynamic capabilities of CalAmp's SC iOn platform were key to help streamline the routing of thousands of shipments per month based on volume and daily variability in the shipment process. This is the first real-time tracking solution for unpowered assets deployed by this customer and the initial engagement is expected to generate approximately $1 million of revenue for CalAmp's SC iOn subscription services.This opportunity was co-opted through a long-standing North American wireless network service provider strategic partnership which was recently expanded to include a resell arrangement for CalAmp SC iOn services. This new resell channel is starting to drive a meaningful expansion of SCI related pipeline opportunities globally, which we expect to help drive organic recurring revenue growth over the coming quarters and years.The second case study I would like to highlight relates to the successful completion of a new proof of concept with our largest freight and transportation SaaS customer as part of their 100,000 units smart trailer program. During the second quarter, we initiated pilot testing of a cargo sensing solution, utilizing cameras with embedded artificial intelligence algorithms to accurately assess cargo loading in three dimensions within trailer assets. This automated cargo sensing trial included integration with our newly deployed Apollo solar powered gateways that are planned to be retrofitted across a large percentage of the smart trailer fleet of this important freight transport and parcel delivery SaaS customer.The Apollo gateway, in combination with sensor solutions for accurate cargo sensing, tire pressure monitoring and remote doorlock and unlock, promise to produce significant ROI for this customer as well as across the global freight and transportation market as a whole. With initial revenue expected from this program to begin next year, the successful completion of this cargo sensing solution in combination with the future proof Apollo sensor gateway sets the stage for meaningful freight and transportation subscription revenue expansion in the coming years.In summary, we are tracking ahead of expectations in the first half of the fiscal year and expect the momentum to continue with an even stronger second half. We have set the stage for continued growth in our software and subscription service revenue while fully integrating our recent acquisitions, further streamlining and optimizing our supply chain and stabilizing our telematics business. I am pleased with our performance as we remain focused on consistent execution and our continued transformation to a global SaaS solutions provider.With that, I will now turn the call over to our CFO, Kurt Binder, for a closer look for fiscal 2020 Q2 financial results and Q3 guidance.
- Kurt Binder:
- Thank you Michael. My commentary will include reference to the non-GAAP financial measures of adjusted basis net income, adjusted EBITDA and adjusted EBITDA margin. A full reconciliation of these non-GAAP measures with the closest corresponding GAAP basis measures is included in the press release announcing our second quarter earnings that was issued earlier today.As Michael mentioned, we are pleased with our consolidated revenue and non-GAAP profitability results in the quarter, as well as the continuous progress we are making on our transformation to a global SaaS solutions provider. Consolidated revenue for the second quarter was $93.2 million, up 5% sequentially due to increased software and subscription services revenue and down 3% year-over-year due to an expected decline in telematics systems product sales. The software and subscription services revenue increased 65% over the prior year period to $31.2 million, driven by increasing contribution from our three recent acquisitions, especially the acquisition of Synovia as part of our fleet management services.In the second quarter our LoJack subscription services revenue was $9.8 million, almost double the revenue from Q2 of last year. Our LoJack subscription services now represents the LoJack Italy business as well as our recently acquired SaaS businesses, Tracker UK and LoJack Mexico. These three entities in aggregate provide a strong foundation for recurring revenue and are expected to contribute to continued expansion of our software and subscription services business.Additionally, we grew our global subscriber base in the quarter to 1.3 million unique subscribers as of August 31, 2019 compared to approximately 821,000 for the same period last year. In addition to new subscribers from our recent acquisitions, we also added new subscribers for fleet management services, international stolen vehicle recovery and telematics solutions. We expect to continue building on our subscriber base as we progress through the remainder of fiscal 2020 and beyond.Now turning to our telematics systems business. Performance in the second quarter was as expected, with revenue down 2% sequentially and 20% year-over-year to $62 million, principally reflecting decreases in MRM Telematics device revenue as well as network and OEM product sales. For these product categories, the sales decrease was isolated to a few of our top customers mainly our largest OEM customer, Caterpillar and to a lesser extent, the loss of a former customer of Synovia which we acquired in April 2019.Network and OEM products revenue was $12.6 million for the second quarter, representing a decrease year-over-year. The product revenue for this category was attributable to Caterpillar, which decreased 38% year-over-year. As Michael mentioned, Caterpillar is shifting from end-of-life products including 3G devices, while preparing to ramp deliveries of our next generation LTE-based product family. Caterpillar continues to be our largest customer with $9.3 million of revenue in the second quarter, representing 10% of our consolidated revenue. We expect a significant pickup in order flow from this customer related to the 3G to 4G LTE field upgrade scheduled for delivery over the next two quarters. Legacy LoJack SVR product sales including telematics sales to LoJack international licensees were up slightly by 2% over Q1 of this year, even with the lost revenue through the consolidation of Tracker UK and LoJack Mexico as previous customers of CalAmp.Consolidated gross margin was approximately 40% in the second quarter, slightly up from the prior quarter and down about 110 basis points in comparison to last year. Gross margin performance is expected to improve as we continue to benefit from the integration of our recent acquisitions, complete the transition of our suppliers and contract manufacturers, while also managing the closure of our U.S. manufacturing facility which is expected to be completed in December. Additionally, as we make progress towards our long term SaaS revenue targets, we expect to achieve meaningful progress towards our gross margin and EBITDA margin targets.In OpEx, our GAAP basis R&D, sales and marketing and G&A expenses in the second quarter of fiscal 2020 as percentages of revenue were approximately 8%, 17% and 14% respectively. In general, OpEx increased as a percentage of revenue due to higher expenses from the recently acquired businesses combined with the deferred revenue haircut or purchase accounting adjustments that I mentioned last quarter. As the revenue from our acquisitions begins to normalize and we fully integrate these businesses, we expect that our OpEx will decrease as a percent of consolidated revenue.On a non-GAAP basis, OpEx for the second quarter for R&D, sales and marketing and G&A expense as percentages of revenue was 8%, 16% and 11% respectively. For the full year of fiscal 2020, we expect GAAP basis R&D, sales and marketing and G&A expenses as percentages of revenue to be 8%, 16% and 16% respectively. And we expect non-GAAP R&D, sales and marketing and G&A expenses as percentages of revenue to be 7%, 15% and 12% respectively. The GAAP basis net loss in the second quarter was $7.4 million or $0.22 per share compared to a net loss of $8.7 million or $0.26 per share for the previous quarter. The GAAP basis net loss reflects the increase in OpEx due to the recent acquisitions and restructuring charge incurred as we realigned our organizational structure in the quarter.Non-GAAP net income for the second quarter was $4.8 million or $0.14 per diluted share and at the high end of our guidance, as compared to $4.2 million or $0.12 per diluted share in the first fiscal quarter. The sequential increase in non-GAAP net income primarily reflects the increase in revenue combined with improved margin performance. Adjusted EBITDA was $10.6 million in the second quarter with an adjusted EBITDA margin of 11% compared to adjusted EBITDA of $7.6 million and an adjusted EBITDA margin of 8% last quarter. This quarter's EBITDA margin performance represents meaningful progress towards our target of 20%.I will now provide some additional details on our balance sheet and liquidity position as of our fiscal quarter-end. At the end of the second quarter, we had total cash and marketable securities of $201 million and total outstanding debt of $300 million, which represents the aggregate carrying value of our convertible unsecured notes coupled with $16.9 million of amounts due to factors or assignees which was assumed in the acquisition of Synovia.Net cash generated in operating activities was $5.2 million for the second quarter of fiscal 2020, which reflects our net loss of $7.4 million, adjusted for certain non-cash items such as depreciation, amortization and stock-based compensation as well as changes in working capital. Our consolidated net accounts receivable balance was $75.6 million at the end of the second quarter, representing an average collection period of 64 days while total inventory at the end of the second quarter was $49.5 million, representing annualized inventory turns of approximately 4.5 times. The increase in inventory is aligned with our efforts to build buffer stock and to improve our overall supply chain performance. Our cash conversion cycle was 79 days at the end of the second quarter compared to 68 days last quarter. Additionally, our deferred revenue balance was $61.9 million at quarter-end compared to $60.6 million at the end of the first fiscal quarter.For the second quarter, we recorded an income tax benefit of $1.3 million, which is attributable to our pretax loss along with available R&D tax credits partially offset by other discrete items. For the same period last year, we recorded an income tax benefit of $497,000 for similar reasons that I just cited for the current quarter. For the remainder of fiscal 2020, we do not expect any material changes to our cash taxes due to our remaining federal net operating losses and other available tax credits.Now turning to our fiscal 2020 third quarter outlook. We expect the third quarter consolidated revenue to increase to a range of between $92 million and $98 million. Our third quarter outlook reflects revenue momentum across our SaaS businesses combined with an increase in telematics systems product sales due to customer LTE transition. We remain encouraged by the continued progress we are making across our business while cautiously managing through our ongoing supply chain transitions and tariff mitigation efforts.At the bottom line, we expect the third quarter GAAP basis net loss to be in the range of $0.23 to $0.17 per share and non-GAAP net income in the range of $0.11 to $0.17 per diluted share. We also expect third quarter adjusted EBITDA to be in the range of between $9.5 million and $13.5 million.With that, I will turn the call back over to Michael to provide some final comments before we open the call up for questions.
- Michael Burdiek:
- Thank you Kurt. I would like to reiterate the progress made past quarter expanding our software and subscription revenue and opportunities, further streamlining our supply chain and optimizing our cost structure. I am very pleased with the progress we continue to make and look forward to discussing additional updates and opportunities in the coming quarters.With that, I would now like to open the call up to questions. Operator?
- Operator:
- [Operator Instructions]. Your first question is from Mike Walkley from Canaccord Genuity. Your line is now open.
- Anthony Nemoto:
- Hi. Yes. This is actually Anthony, on for Mike. Congrats on the solid growth. In terms of the EBITDA guide for third quarter, given the full year targets, I think it implies a significant ramp in Q4. I was wondering if you could help us kind of break down the drivers of that, whether it's the Caterpillar ramp or maybe some of the OpEx synergies continuing to pull through? Any color there would be helpful. Thank you.
- Michael Burdiek:
- You are welcome. Well, it's a little all of the above. We expect continued progress as it relates to the purchase price accounting and deferred revenue haircut unwind, that being a big factor as it relates to our expected ramp in EBITDA - EBITDA margin through the balance of the year. We do expect, based upon us completing our various supply chain transitions through our third quarter that by the fourth quarter, given that most of that will be settled out we will see some cost of sales as well as OpEx benefits from that. And also, some of our recent consolidation efforts around consolidating sales and customer onboarding processes from the recent acquisitions should also play out very strongly later in the year, all of which would contribute to improved gross margin performance as well as EBITDA margin reaching somewhere in the mid-teens as we exit the year.
- Anthony Nemoto:
- Got it. Great. And then on the new Sprint partnership, I think you have mentioned in the past, the DaaS products generally require more services support on the structure of the agreement. I am just wondering how this partnership was visibly structured in terms of support? And can we expect other operator IoT platform partnership like this as part of a broader strategy to accelerate the DaaS program?
- Michael Burdiek:
- Yes. Well, great question. So the Sprint partnership is a resell arrangement targeting Sprint enterprise accounts. And Sprint was really keen to adopt and onboard our Device-as-a-Service program, because they see it as a way to lower friction for customer adoption and upgrade to 4G LTE devices as they consider the wind down of their 3G services. So it helps them transition some of their legacy 3G customers to 4G network connectivity through a relatively low upfront capital expenditure model, which we can facilitate through our DaaS partnership. Also, Sprint was keen to become a reseller of our supply chain integrity solutions, which we now call SC iOn.And we do have another partnership and in fact the case study that we highlighted in the prepared remarks is with another North American telecom service provider who is also a reseller of those solutions targeting specific verticals. So we see carrier partnerships, both domestically and outside the United States, as being ready channels to take some of these software and service solutions into specific verticals in certain regions around the world. We see it as a real, real nice growth opportunity in channel play, which we really didn't exercise in the past.
- Anthony Nemoto:
- Great. Thank you.
- Michael Burdiek:
- You are welcome.
- Operator:
- Your next question is from George Notter from Jefferies. Your line is now open.
- George Notter:
- I guess I just wanted to get back to the supply chain transition. I think if I go back to last quarter, you guys said there were a couple more quarters left. So this fiscal year happening now, how much of the supply is in China versus elsewhere? Just any more detail you could give us would be great.
- Michael Burdiek:
- Sure. Well, in the current quarter, our outlook is that roughly half of the MRM products that we will ship to customers in the United States will still be sourced in China. We expect that to drop off dramatically in the fourth quarter. And if we go back to the beginning of the fiscal year, it was probably something in the neighborhood of 70% to 80%. So we have made significant progress in terms of transitioning certain product lines to other manufacturing partners outside of China and we have reduced our exposure to tariff factors pretty significantly. And we have got roughly one more quarter to play out before all of our supply chain transitions and various tariff mitigation initiatives are more or less complete.
- George Notter:
- Got it. I think the end game is still kind of roughly 30% of the sourcing in China. Is that still the case?
- Michael Burdiek:
- That is correct. And most of that sourcing for completed products would be to international customers outside the U.S. And our primary supply chain partner in China will continue to manufacture certain sub-assemblies and components and supply those to our other Tier 1 contract manufacturing partners outside of China.
- George Notter:
- Got it. Okay. And then just on the Sprint deal, obviously the T-Mobile merger is pending, but I assume that relationship survives post T-Mobile/Sprint deal close.
- Michael Burdiek:
- I would anticipate it would. There would be no reason for it not to, especially given the enterprise focus that is really the premise of our relationship. I think Sprint's probably got a little bit more of an enterprise focus than perhaps T-Mobile have had historically.
- George Notter:
- Okay. Very good. Thanks very much.
- Michael Burdiek:
- You are welcome.
- Operator:
- Your next question is from Mike Latimore from Northland Capital. Your line is now open.
- Mike Latimore:
- Great. Thanks. Yes. Great results and the SaaS business looks like it’s doing well. In terms of the SaaS business, should we think about that sort of growing sequentially over the next couple of quarters? Or is there some seasonality that shows up here and there?
- Michael Burdiek:
- There is a certain amount of seasonality, especially with our LoJack international operations, very, very typical seasonality. It's played out this year just like it has in over the last couple of years. So we would expect to see us pull through the seasonal period or seasonal, I would say call it downturn, because the business is actually up on a year-over-year basis, but we would generally see the tailwind start to emerge in the September, October timeframe. And I think things were playing out pretty much as they have been in the past. So I would expect that there will probably be a little more organic kick in Q4, late in Q3 and in Q4 than we would probably see at the beginning of our third quarter.
- Mike Latimore:
- Got it. And Kurt, you originally talked about, I think, $120 million of SaaS revenue this year. Is that still what you are thinking? Or maybe tracking ahead of that now Or…?
- Michael Burdiek:
- There's no reason for us to deviate from that earlier guidance.
- Mike Latimore:
- Got it. And it seems like you have a number of drivers of your SaaS business, I guess. Is there one or two that are at the top of the list here? Or is it fairly diversified?
- Michael Burdiek:
- Well, it's fairly diversified. I think it depends on which timeframe you want to focus on. I think short to medium term, we see great opportunities to continue to grow our LoJack international operations and continue to build upon the momentum that we have experienced and Synovia experience prior to the acquisition in both the school bus market as well as the municipal government space. I think medium to long term, there is a tremendous pipeline of opportunities related to the transportation and logistics space. And so I think all of them can play in parallel but shorter term, I think it's more on the LoJack international and fleet management front. In longer term, we think there's a tremendous secular tailwind for us and a really interesting roadmap and pipeline of opportunities around transportation and logistics opportunities.
- Mike Latimore:
- Great. Thank you.
- Michael Burdiek:
- You are welcome.
- Operator:
- Your next question is from Jonathan Ho from William Blair. Your line is now open.
- John Weidemoyer:
- Thank you very much. This is John Weidemoyer for Jonathan. Thanks for taking our questions. We would like to ask, what you think of your sales and channel capacity for selling subscription as opposed to in extent to what you are preparing your sales force in the channel to sell subscription, more subscription and Device-as-a-Service relative to the prior focus on more hardware oriented sales?
- Michael Burdiek:
- That's an excellent question. Well, we have been working diligently on building what we call our vertical SaaS sales organization. We have actually brought in some new leadership and resources to really focus on those vertical opportunities. But in parallel, we have also been building up our channel and our channel initiatives to support various software and subscription service opportunities, not just domestically, but outside the United States.Our channel has been pretty solid on the telematics device front for the last couple of years. Now we are in the process of enhancing that channel and obviously bringing on new partnerships like Sprint to really become very, very solid sort of points of leverage for us as we grow our software and subscription service offerings both domestically and outside the U.S.
- John Weidemoyer:
- Okay. Good to hear. Could you just give some general discussion on any competitive environment, any changes there in either the telematics or the services business?
- Michael Burdiek:
- I really don't think that there's anything notable that I can identify that would be a change in the competitive environment. I would say, in the transportation and logistics space, in many ways it's bereft of competition. We think we are in a unique position, especially given our global scale to engage with the various enterprise class of customers that we would be targeting. And so I think there it's very much a greenfield opportunity. And outside of that, I don't think there's really any detectable change in the overall competitive environment.
- John Weidemoyer:
- Great. Thank you. One last question, if I could squeeze it in. Your long term target for $200 million in annual subscription revenue, is that from existing businesses, so it's an organic target? Or do you anticipate adding additional small acquisitions along the line?
- Michael Burdiek:
- Well, it's a target that sort of stands on its own and is not predicated on us necessarily continuing to do larger acquisitions. I think acquisitions tend to be part of any company's growth story. But those targets weren't set specifically around assumptions for incremental M&A.
- John Weidemoyer:
- Got it. Okay. Thank you very much. I appreciate it.
- Michael Burdiek:
- You are welcome.
- Operator:
- Your next question is from Scott Searle from ROTH Capital. Your line is now open.
- Scott Searle:
- Hi. Good afternoon. Thanks for taking my question. Nice quarter, guys. Hi Mike. Maybe just a little bit more color on the software & services side of the equation. It's a big step function up. I think you gave the breakout for LoJack. But just kind of wondering what Synovia looked like in the quarter? And if there are any one time events or revenue events in there? How we should think about normalizing that going forward? Or is this the base level we would be working off of? And I had a couple of follow ups.
- Michael Burdiek:
- Sure. Well, I think it's important to point out or remind everybody that a lot of the step-up was driven by having a full quarter of Synovia as part of our consolidated results, whereas in the first quarter we really only had a half-a-quarter or so. In addition to that, obviously is the continued deferred revenue haircut unwind or normalization. And so those were two key factors in terms of the incremental growth from Q1 to Q2.I would also point out, we did have organic growth despite the seasonality that we experienced in our LoJack international operations. And so I would say things are more or less playing out according to plan and the outline we talked about earlier in the year as it relates to the incremental contribution of the acquisitions to our software & subscription service revenue for our current fiscal year.
- Scott Searle:
- Great. Thanks. And on the OEM sales front, Caterpillar certainly down sequentially. It sounds like they are burning through 3G before moving to LTE products. How good is your visibility on that front? How quickly does it come back? Are we going to see Caterpillar up kind of in the range that they had been prior to this quarter, that $12 million to $15 million plus range, a quarter or two out? How long is it going to take back to get to those types of levels?
- Michael Burdiek:
- Well, as it relates to visibility, our visibility actually to the second half of the year is very, very good. We came into the current quarter with a substantial backlog position that suggests that Q3 could be in line, more or less, with where we were in Q1 from a revenue perspective. So we anticipate a pretty significant rebound in the Cat business in Q3.And there are really two key factors there. One, you identified sort of the wind-down of the take rates for 3G legacy products. There was a little bit of a delay in the ramp of our next generation products, which cover a larger footprint across the Cat product lines.And then we expect to see in Q3 and Q4, Cat start to initiate its field upgrade program, converting existing 3G devices to 4G devices in the field. So all of those things taken together give us pretty good confidence that we are going to see a significant rebound in the Cat business in Q3 carrying into Q4.
- Scott Searle:
- Got you. And then just to delve in a little bit more on the telematics systems business removing network OEM side of the equation. It seems like the LoJack number has been stabilizing and the non-LoJack business now is starting to get into growth mode. So kind of extrapolating that out into the second half of this year, it looks like we are finally going to be in a year-over-year growth mode. Is that what you are seeing? And what do you think is the sustainable growth now that we have got the LoJack business stabilized and the rest of the MRM business starting to grow?
- Michael Burdiek:
- Well, I wouldn't want to specify an exact growth rate that we anticipate, but I think you put your finger on the key factor and that is we do expect to see year-over-year growth beginning in Q3 and probably very strong year-over-year growth in Q4 based upon our increased visibility around the Cat business and obviously, some good momentum on the MRM front, as you pointed out and continued growth in our software & subscription service revenues, which are more or less tracking according to the plan that we talked about earlier in the year.
- Scott Searle:
- Mike, just to wrap up with one final question and looking at the guidance of $92 million to $98 million where you finished up in the August quarter and kind of the qualitative comments you are providing about network OEM bouncing back, the rest of the telematics systems business looking healthy, software & services looking healthy. What has to happen? What are you concerned about that revenues could actually be down sequentially as opposed to flat? If you could kind of just take us quickly through where you think those triggers are? Thank you.
- Michael Burdiek:
- Sure. Well, for us to be in the lower end of the range, well, put it this way. We have tried to accommodate all factors into our guidance range. The risks around supply chain transitions which we still have underway and will have through our third quarter, tariff mitigation activities and potential hesitation on customer's part around the tariff impacts. So that would sort of be pushes into the lower end of the range, accommodating those risk factors.But on the other side of the ledger, again, we have very, very good visibility on the Cat business in Q3 and into Q4. We are cautiously optimistic that the momentum will continue for MRM Telematics device demand despite some of those risk factors. And so that would push us more towards the upper end of the range if those risks dissipate or aren't realized and things kind of continue on the track that they were in Q2.
- Scott Searle:
- Great. Thank you.
- Michael Burdiek:
- You are welcome.
- Operator:
- Your next question is from Howard Smith from First Analysis. Your line is now open.
- Howard Smith:
- Good afternoon. Thank you for taking my questions. First question, I just wanted to follow up on a comment you made in your prepared remarks regarding the SC iOn new customer and opportunity. I think you said $1 million of revenue initially with that. Is that like a run rate it gets to? Or what period of time maybe the revenue recognition on that? And then, what might it be over time? What's the expansion potential there?
- Michael Burdiek:
- Excellent question. So the $1 million is the current engagement and it would probably be spread over roughly 24 months to 36 months. But this is almost a pilot level engagement at this point. So assuming that we are successful with this initial deployment, this program could expand pretty dramatically, perhaps not to the scale that we have with another freight and transport customer, but it could be quite large given the footprint of this business and the scale of this business from a mail delivery and package delivery perspective.So it's exciting because it's an initial engagement. That particular customer has not employed a lot of automation in its transport network. And so we think we are in prime position to be able to provide some additional automation and visibility into service offerings to improve the experiences of the customers with that particular opportunity.
- Howard Smith:
- Great. And kind of a numbers questions here on the inventory. You talked about the reasons for the increase with kind of managing the inventory levels, the reduced supply chain adjustments. Would you expect this as the new normal in terms of inventory turns? Or is this, once you get everything adjusted, you can start to tamp that down and get a little more efficiency there?
- Kurt Binder:
- Yes. I think at this point we wanted to make sure that we were comfortable as we headed into the third and fourth quarter to have adequate buffer stock to carry us through any of the challenges that might come up with the transition through our new contract manufacturers. We have also been focused on ensuring that we had adequate inventory to cover for any of the tariff risks that might come through. So we would expect this level of inventory would top out and then start to come down. We are laser focused on managing our working capital. And we think that if we are able to do that over the next couple of quarters, then our cash balance will be stable and come up actually as we head into the first quarter of next fiscal year.
- Howard Smith:
- Great. Thank you.
- Operator:
- Your next question is from Anthony Stoss from Craig-Hallum. Your line is now open.
- Anthony Stoss:
- Hi. Congrats on great execution in a tough environment, guys.
- Michael Burdiek:
- Thank you.
- Anthony Stoss:
- Just wanted kind of two part question related to gross margins, Michael and Kurt. As you have gone through the rest of these supply chain transitions, let's say two, three quarters from now, where do you think your gross margins could be? And then as a follow-up, the Sprint and other potential carriers supply agreements, what will pricing looks like? And will that have any impact to your gross margins?
- Michael Burdiek:
- Great questions. We would expect to see continued progress on gross margin expansion, more pronounced in Q4 than likely in Q3, given some of the issues we talked about early around supply chain transitions and some probably non-recurring costs associated with that. But we would expect to exit the year probably in the 41% to 42% gross margin range.And then as our software & subscription service revenue continues to grow and become a larger part of our overall mix, we would expect to continue to make progress towards our 50% consolidated gross margin target, which is a long-term target, obviously. But we think once most of these transitions are behind us and the deferred revenue purchase accounting adjustments have normalized, that we would see nice margin expansion, Q4 and into next fiscal year.As it relates to pricing, I think that these new channel arrangements are not necessarily in any way dilutive to gross margin. In fact, it should be accretive given the software & subscription service nature of those arrangements and those resell agreements. And that's a key area of focus for us as we talked about a little bit earlier, in terms of building out channels that can take those solutions to market.
- Anthony Stoss:
- And then just as a follow up to Scott's question, outside of Caterpillar, you expect your telematics now to grow sequentially over the next several quarters, kind of the worst behind us?
- Michael Burdiek:
- Well, I think that we are a little more cautious probably going into Q3 given the supply chain transition and tariff related risks. But we feel pretty good that the business has stabilized and is on a modest growth track again and we think that the industries need to transition to LTE and upgrade existing 3G devices that are deployed in the field will continue to be a pretty solid tailwind for us as we enter into the new fiscal year.
- Anthony Stoss:
- Nice job guys. Thank you.
- Michael Burdiek:
- Thank you Tony.
- Operator:
- There are no question at this time. Mr. Michael Burdiek, you may continue with your closing remarks.
- Michael Burdiek:
- Well, thank you for joining us today. And we look forward to your continued interest and support. Operator, you may disconnect.
- Operator:
- This concludes today's conference call. Thank you everyone for participating. You may now disconnect.
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