CSP Inc.
Q3 2020 Earnings Call Transcript

Published: 11 Aug 2020

[Operator:]

Good day, everyone, and welcome to the CSPi Fiscal 2020 Third Quarter Conference Call. At this time, all participants are in a listen-only mode. Later, you will have the opportunity to ask questions. Please note that this call is being recorded. And now, it is my pleasure to turn the conference over to Mr. Doug Sherk with EVC Group. Please go ahead, sir.

[Doug Sherk:]

Thank you, operator. Hello, everyone, and thank you for joining us to review CSP Inc.'s fiscal third quarter ended June 30, 2020. With me on the call today is Victor Dellovo, CSPi's Chief Executive Officer; and Gary Levine, CSPi's Chief Financial Officer. After Victor and Gary conclude their opening remarks, we'll then open the call for questions. Statements made by CSP's Inc.'s management on today's call regarding the company's business, that are not historical facts may be forward-looking statements as the term was identified in Federal Securities Laws. The words may, will, expect, believe, anticipate, project, plan, intent, estimate and continue as well as similar expressions are intended to identify forward-looking statements. Forward-looking statements should not be read as a guarantee of future performance or results. The company cautions you that these statements reflect current expectations about the company's future performance or events and are subject to a number of uncertainties, risks and other influences many of which are beyond the company's control that may influence the accuracy of the statements and the protection upon which the segment and statements are based. Factors that may affect the company's results include, but are not limited to the risks and uncertainties discussed in the Risk Factors section of the annual report on Form 10K and the quarterly report on Form 10-Q filed with the Securities and Exchange Commission. Forward-looking statements are based on the information available at the time those statements are made in management's good faith belief as of the time with respect to the future events. Although forward-looking statements are qualified in their entirety by these cautionary statement and CSP Inc. undertakes no obligation to publicly revise or update any forward-looking statements, which as a result of new information or events or otherwise after the date, excuse me, whether as a result of new information, future events or otherwise after the date thereof. With that, I'll turn the call over Victor Dellovo, Chief Executive Officer.

[Victor Dellovo:]

Thank you and good morning, everyone. Before we begin, I want to acknowledge the impact of the coronavirus pandemic and express our heartfelt concern to those who have been affected. Since we last talked with you in May, our team has continue to adjust how we operate the business to maximize our opportunities in a manner that is safe for both our employees and our customers. We've been able to maintain most of our workforce executing for our clients in more than 90% of the team is working remotely. We announced several months into the new normal and despite limiting our ability to visit our customers and potential customers, we continue to build a pipeline in all lines of our business. Total revenue for the fiscal third quarter was $13.5 million compared to $21.6 million we reported in the same period fiscal 2019. The year-over-year revenue decline was primarily related to COVID-19 pandemic, our decision to also transition our business to higher-margin products and services enabled us to significantly improve our gross margin. I believe this achievement demonstrates the soundness of our execution of our profitable growth plan. Further during this transition, our prospects remain quite high and if nothing else, the suddenness of the COVID-19 pandemic and unprecedented of remote working of our clients, is helping to highlight network vulnerabilities. Businesses, both large and small remain exposed to increased threat and there have been several well-publicized ransomware attacks. I believe this fear in addition to providing a secure remote work -- working environment is a growing concern for many businesses. It is critical that the businesses have a partner that understands the complex challenges. We're positioning CSPI to be that partner as our newer solutions ARIA and our unified communication as a service or UCAS team ready-made for today's critical network issues. For the quarter, our technology solution or TS revenue was $11.9 million. While the TS division was impacted by COVID-19, we were able to generate most of our revenue from our large customers. Our managed service practice or MSP continues to perform well as we signed new customers during the quarter, which include cloud business and UCAS. Accordingly we have not lost a single customer as they value the service we are providing. This stickiness demonstrates our influence to our customers even during these unprecedented times. I believe that the three lines of recurring revenue business we created, continues to bring stability to CSPI. Separately, the cruise ship industry remains one of the most COVID-19 impacted industries. When we spoke in May, many operators were looking to resume cruise during the summer month. However in June the Cruise Line International Association or CLIA announced that the association oceangoing cruise line members will voluntary extend the suspension of the cruise operations from the US port until mid-September 2020. However, some cruise operators have a plan to restart in the EU ports in the coming weeks. While the continued travel restrictions hamper the ability to gain access to the ships, we continue to communicate with the operators every other week and we are prepared to move on a moment's notice. On the positive side, these upgrades need to occur and the operators have already purchased the equipment, so we would expect these ships to be prioritized when business resumes. As we have consistently reported over the past few quarters, our Microsoft practice continues to perform well and this latest quarter was no exception. We are in a month through Q4, so I am reaffirming our belief that we will achieve a greater growth rate for the business compared to a full-year growth rate of 140% we achieved in 2019. Regarding our UCAS offering an all-in-one service for hard and soft phones including 24x7 security and technical support with redundant data centers both in Florida and Texas, as a reminder UCAS market size is expected to grow from $15.8 billion in 2019 to $24.8 billion by 2024, being driven by growing trends towards mobility and bring your own device of BYOD to the workplace. During the quarter, we continue to have success as we added new customers and expanded sites at our current customers, all while continue to increase the number of virtual product demonstrations we are performing on a weekly basis, the new business pipeline is promising and the team is engagement with prospects and is maintaining constant communication. Now I will move to our High Performance Products or HPP division. Revenue for the quarter was $1.6 million in line with our estimate and reflects revenue from our legacy business being offset by the expected decline in Myricom business. ARIA our award-winning next generation cybersecurity platform, the health organization protect themselves from heartful in attacks without human intervention is continuing to garner tremendous interest in customer success as we recently completed installation for international customer. Further we continue to be well positioned within a leading cable company and other OEMs opportunities for ARIA. I believe the testimony along with the industry acknowledgement and robust lead flow we are generating from virtual tradeshows will drive future sales in the HPP division. Additionally, we now have six partners for our official general program and we are speaking with several others to ensure a robust program. To summarize, the CSPI team is performing well and remain focused during the unprecedented times. We have made and will continue to make necessary adjustments to our operations to ensure business execution. Specifically, our new ARIA and UCAS offerings are generating the expected interest as we sign up new customers and broadening our pipeline. We have a diverse customer base both large and small and this quest will allow us to successfully navigate the near-term uncertainty. We are excited about our long-term growth prospects. With that, I will now ask Gary to provide a brief overview on the fiscal third quarter financial performance.

[Gary Levine:]

Thanks Victor. As Victor mentioned in his opening remarks, our third quarter revenues were $13.5 million compared to $21.6 million in the year ago third quarter and reflects our pursuit of higher margin business. We reported gross profits of $4.2 million compared to last year's third quarter profit of $4.8 million, resulting in a gross profit of 31.2% compared to the year ago gross profit of $22.4 an improvement of 9%. Our engineering and development expenses for the third quarter was $693,000 compared to $583,000 in the year ago quarter. In the prior year quarter, we received a refund of $150,000 from a consulting cost for a project that wasn't completed. Our SG&A expenses in the quarter were $3.9 million slightly decreased from $4.1 million in last year's fiscal Q3 due to a decrease in variable compensation costs. We reported a loss before income of $200,000 in Q3 compared to income before income taxes of $206,000 in the prior-year third quarter. During the quarter, we had income tax expense of $10,000. The prior year quarter had a tax benefit of $326,000. In early April, when it became evident that the COVID-19 would have a severe economic impact, we took several actions to improve our cash flow, including the suspension of our quarterly dividend, stopped our stock buyback program and applied for and received a PPP loan. These actions at the end of June, strengthened our cash position by approximately $3 million. We ended the third quarter with cash and short-term investments of $20 million, which includes cash of $10 million in the UK and we have a pension liability of $5.2 million. Our actions are designed to ensure that we continue to drive our bottom line performance and boost sales of our higher-margin products. With that, I will turn it over to the operator to take your questions.

[Operator:]

[Operator instructions] And we'll take our first question from Joseph Nerges from Segren Investments. Please go ahead.

[Joseph Nerges:]

I guess just a couple of quick questions. On the last conference call we were talking about proof of concept demos that you were attempting to do with the customers on this area product line. What's the status of that? Have we been able to get access at all to some of these customer sites?

[Victor Dellovo:]

Not yet Joe.

[Joseph Nerges:]

Not yet. So we have a backlog of -- we could have a backlog of proof of concept demos out there I assume that we've been…

[Victor Dellovo:]

We've been doing the virtual ones and we've been trying to do like a try and buy where they actually give us a purchase order stuff like. That's what we're offering. They want to see work, yeah exactly and we haven't been able to get on-site. Most of our customers still have unless you work there, you're not allowed to be on those facilities.

[Joseph Nerges:]

Okay. But the last, again on the last conference call, you were saying you were doing demos. So I assume you were able to do some sort of a demo absent the proof of concept?

[Victor Dellovo:]

We're doing demos. We're doing three to five demos a week consistently, but getting it to the next level of the proof of concept is what's kind of slowing things down at this stage.

[Joseph Nerges:]

Okay. And so I have to assume that in the last three months, you have quite a few virtual demos if you want to call it that on the -- and it's a matter of getting and so we have not been able to get the most customers sites at all, was that what you were saying? Okay on the UCAS offering I see we've signed a couple customers with UPS, have we -- are most of the customers that we're getting here, I think taken the standard price or we do modifications like you had indicated some conference call ago? Are we modifying into the customer specifications this fiscal?

[Victor Dellovo:]

I would say 50-50 Joe.

[Joseph Nerges:]

Okay. And I guess my question is are we competitive versus let's say the ring central of the world because they're out there doing the same thing right, pretty much is that fiscal product line, with the platform that we're utilizing very competitive in a market?

[Victor Dellovo:]

I would say Joe if you go look on this like three buckets that they sell into like a higher line where you get the WebEx and everything that goes along with that and there is a middle, the two middle tiers were very competitive, not a problem. If it's just a ring tone, it's probably not our bag, they're not customers that we were really interested in. If they try and do like $4 a month or something very, very inexpensive per user, that's not where we're trying to go after.

[Joseph Nerges:]

Okay. And you did indicate again that we still are in contact with the cable company. I'm assuming we haven't been able to do much because of the whole COVID situation.

[Victor Dellovo:]

A lot of communications just things have been, just slowing down. Yeah we do have if not weekly every other week conversations what things got pushed out a few months due to their uncertainty of how they want to move forward.

[Joseph Nerges:]

Okay. And one other thing, on the we are finally with technology solutions is finally offering a vital MDR advantage with you incorporating the area platform and I'm just wondering this is a perfect platform to obviously for any to manage security service providers. Have we been able to garner some interest in that two technology solutions group?

[Victor Dellovo:]

Well the technology solution here is offering a part of the managed service now. So that has been integrated in the sales force is working diligently to provide opportunities for that and then we're also talking to other MSPs on the area side that they discussing direct that they want to use our platform as they are sim.

[Joseph Nerges:]

But I'm assuming the same problem exists with Technology Solutions group that is they don't have -- that can't get access to the customer sites either, if they're interested in following through with this platform.

[Victor Dellovo:]

Exactly. We just have some stronger long-term relationships that we could kind of we're trying to push them to say hey, believe in us. You trust us for the last 10 years. We know this is going to work. So those are the conversations that we're trying to push on the TS side a little bit faster than we would normally on a brand new customer that may not know CSPi or ARIA.

[Joseph Nerges:]

Okay. How about any equity royalties in this particular quarter or expected in the next quarter?

[Victor Dellovo:]

In this current quarter, Joe we’re going to have royalties and we had a few in the last quarter, going into next year we just have to see how they fall out because what's happened over the last few years is they don't get the product out and it trickles into the first quarter of the fiscal year. So to see how they when they build the board.

[Gary Levine:]

Basically, we had a little bit this quarter and the current quarter we did and we’re expecting a little bit more in the fourth quarter.

[Joseph Nerges:]

Correct.

[Gary Levine:]

And then we just don’t know how it’s going to fall next year.

[Joseph Nerges:]

Correct.

[Victor Dellovo:]

Well, we know we're going to have royalties. We just don't know the timetable for the royalties to come in next year.

[Joseph Nerges:]

Okay. All right. Very good. That's about all I have R&D expenses, you said around $693,000 for the quarter. So again, we would have been obviously absent the R&D, we would have been profitable, essentially. All right, thank you very much. Appreciate it, guys.

[Victor Dellovo:]

Thanks, Joe.

[Joseph Nerges:]

Hopefully, we can get through over this pandemic and move forward with certainly some of the new offerings. Thanks a lot, guys.

[Victor Dellovo:]

Thanks Joe.

[Operator:]

And we'll take our next question from Jonathan with Compound Partners. Please go ahead.

[Jonathan:]

Gentlemen, good morning.

[Victor Dellovo:]

Good morning.

[Jonathan:]

And thank you for doing what you're doing. I represent an individual and a group, which is I believe a largest shareholder in the company, and we're extremely bullish about what you're doing. The technology is there, the innovation is there, the management is there. And the story is, and we believe the valuation to be really compelling especially when compared to so many names in your group. How can the story be best put out, let people know what the potential is here, especially given the market, could you speak to the size of the market for CSPi and how we can kind of help people to understand that this isn't a sleepy value opportunity. This is a growth company in the cybersecurity space that is trading at a massive discount in my opinion.

[Gary Levine:]

So I think that there's a few things that we're doing behind the scenes, we've got a new IR firm that we've hired and working with them, so that we're trying to get in front of more potential shareholders to get our message out. We're also continuing to at least trying to put the word out about the product itself, we're still competing in certain issues so that we get notified, I mean, noticed by different people in the media, and trying to get more there as well as we're being very proactive on the channel to get people there from the customer standpoint, but we really have to look at getting our message out more and more. We think you're correct in that and I know Victor is trying to get more things going on the IR front.

[Victor Dellovo:]

Yes, and I completely agree with you in the segment that we're competing with some of the competitors, they've been doing it maybe a little longer than we have. But if you really look at the technology, they do piece points where we feel that we're covering 70% to 80% of the overall security, we can cover with both the ARIA products that that we currently have. So I definitely think we're on the value, we need a few more customers to build up a little bit more of a reputation that you could go to some of the players that covered garden, the foresters and try to get them to cover it, but I put that product against any of the other products that are out there that you see on National TVs commercials and stuff like that, that are out there. But they've been doing it a little bit longer and definitely a lot bigger at this stage. But compared -- product wise, I definitely put us against the product any day.

[Jonathan:]

Thank you, Victor and thank you for the relationships that I know you're building and I don’t want to dominate the call but I'll ask very briefly two, can you speak a little bit to that because I think CSPi is undervalued small cap that has relationships with some of the largest large caps. Can you briefly speak to a couple of the companies that you're working with that you hope to work with that are among the well known, most well known in their spaces?

[Victor Dellovo:]

I can tell you, we're in the financial institutions, I rather not specifically mentioned the customers names without their permission, but we're in the largest, the large financial institutions, we currently talk to, the verticals are lower, banking and healthcare are the two verticals, we really started focusing on. I think even in this pandemic type of environment, they do have money that they have to spend in security, to protect whether it’s clients information both on the financial or on the HIPAA and in healthcare. So those are two verticals that we've concentrated on. And we're talking to like I said the largest cable companies that are out there, also that we're talking to right now. So, of course, there's always competition, but I think once we were able to get the product in there and show how it works, we'll have a good chance of earning the business.

[Jonathan:]

That's awesome. I mean, before the pandemic, interestingly CSPi traded very closely with the Cybersecurity ETF, it has recovered quite dramatically. CSPi obviously, to a lesser extent, so bullish and we really believe what you're doing and that's why we think this company's undervalued and continue to hold. Thank you again.

[Victor Dellovo:]

Well, thanks for your support.

[Operator:]

[Operator Instructions] And we’ll go next to Brett Davidson, a private investor, please go ahead.

[Brett Davidson:]

Hi, guys.

[Victor Dellovo:]

Hi, Brett.

[Brett Davidson:]

Following up to Joe here, Joe had some fast questions. I got some slow ones.

[Victor Dellovo:]

Okay.

[Brett Davidson:]

So you guys made reference, Victor, in your comments, you made reference to growth and I didn't catch all of it. I was wondering if you could just touch on that again.

[Victor Dellovo:]

In relation to…

[Brett Davidson:]

The prior-year, I wasn’t sure if it was where we were going to end up this year.

[Victor Dellovo:]

I was saying the growth was just on the Microsoft piece of it. The Office 365 we had a good growth rate on the iCloud business. That's what I was referring to.

[Brett Davidson:]

Got it. All right. There was a new customer installation which you had mentioned and I believe it was the UCAS and did that revenue, is there any of that dropped in the last quarter is or is that all going forward?

[Victor Dellovo:]

Well we've had new customers in both UCAS MSP over the quarter. We also had an installation of the ARIA product, it was an international customer that was installed and it wasn't large but we did book it last quarter.

[Brett Davidson:]

And the UCAS, I mean was it throughout the quarter, last quarter or?

[Victor Dellovo:]

Well, the UCAS is recurring, everything we're doing right now and I don't know if you caught it, this three business lines that we're trying to do, it's a recurring revenue model. So whether it's even ARIA can be as a recurring revenue model on a monthly basis, you have the UCAS on a recurring revenue model basis, usually the three-year contracts, and then so between UCAS potentially ARIA can be so just bought or month recurring revenue. And then you have the MSP, the managed service practice, which are all recurring revenue models. So we would recognize revenue as over the period of three years.

[Brett Davidson:]

So, I mean the prior-quarter was such disruption, I'm just having a hard time figuring out exactly what's going on inside the business. I'm just trying to get an idea whether that was late in the quarter, or during the course of the quarter or how that's going to impact revenues going forward? No, I mean, if it was the last week of the quarter, and you guys book some revenue, obviously it’s not representative of what this quarter will look like? I mean can you comment on that at all or is?

[Victor Dellovo:]

Well, I think throughout the quarter, I mean we had some ups and downs as many other did. We didn't and certain months were stronger than other, but the trends were that the customers were purchasing. So at some times with a buying product, you're getting the whole product more, but the reoccurring revenue was the ones that we're getting the new stuff and that was sort of spread throughout the quarter that different things came on board.

[Gary Levine:]

So it's difficult to answer your question because what happens is you can have a $400,000 contract that's spread out over three years. You got a million dollar contract. So you are going to see huge swings. Every month you're hoping you just keep increasing it, but then there has been a lot some large purchases, some of our financial institutions that towards throughout the whole quarter spend millions of dollars at a time. So it's a combination of what Gary is saying you’ve got just purchase orders of just selling product, delivering it and you're done and then you have the recurring revenue which it happens throughout the whole quarter and if it's at the end of the towards the quarter, you're not to get any of it until more than likely if we sign it the last week, we're not going to bill into the following month.

[Brett Davidson:]

Yeah, that's just what I'm trying to get a handle on is, how was this distributed? So if this was distributed evenly over the quarter, you have about a monthly or half total patient in the quarter. So all this activity was spread out evenly it's going to be a little different than if the majority of it was in the final month of the quarter.

[Victor Dellovo:]

As soon as we can gain the business Bret, we book it.

[Brett Davidson:]

Yeah, but I am just trying to get a handle on when this is coming? How it's going to impact us the euro coming quarter now that's going to be recognized for three months worth instead of one month or 1.5 or whatever. So you guys did book revenue from the UK as in the quarter?

[Victor Dellovo:]

Yes.

[Brett Davidson:]

Press releases I know in a prior call, you talked about issuing press releases and looks like there's been dislocated by the COVID thing to some extent. How do you see that going forward in the next quarter or two? Do you anticipate a flurry of press releases coming or nothing that you can really put your finger on at this point?

[Victor Dellovo:]

Nothing right this second. We have to just see how things roll out. There is still a lot of uncertainty as you know in the whole industry. So right now we just our heads down trying to focus on the new products and just trying to prospect with customers in a time where customers are just trying to figure out what their business looks like. So it's one of those balancing acts to push as hard as you can without upsetting the potential customers. So as soon as we have some press releases that are worthy, we'll get them back out.

[Brett Davidson:]

So do you guys, do you have any internal metrics that you guys use to give you an idea of what revenues might possibly look at? I don't believe you have any backlog, you guys don’t track anything like backlog, do you?

[Gary Levine:]

Yes. We do. You have to monitor the pipeline. You need to do all the metrics, but obviously we don't report that, but we have a lot of internal data that we do monitor and keep a pulse of whether business is doing and how we're doing. So we have many meetings going through those within all the operations of the company.

[Brett Davidson:]

Can you just give an idea what some of those things that you guys are actively monitoring?

[Gary Levine:]

Will obviously pipeline, backlog and items related to the sales metrics, as well as the engineering schedules and those kind of things are what we monitor very closely and watch that as well as we're always maintaining and watching the quality of our products group going on.

[Brett Davidson:]

And I mean how do you guys -- how do you quantify pipeline? Are you looking at the number of customers you contacted, the potential contract size? What is exactly that you're monitoring?

[Victor Dellovo:]

No, you look at when you're prospecting, you start off at 20%, 40%, 60%, 80% and closer rate and then you see as you move through the pipeline of what's moving ahead or behind, what you lost and that's kind of how you manage against it and then your will review it with your sales individuals and based on communication with the vendors or customers, you figure out how you move it up or down and then you always -- this move right. Things that were 80% with our close ratio, put on hold not cancelled just on hold. So you bring that back down to 40% or 60% or however we want to do and that's how we manage it and then we have sales meetings and reviews with the salespeople every week and they go over their pipeline and net new opportunities and then we have other meetings where we have our project managers on the phone with the lead and head of engineering and we go through all the business that's either new SOWs that went out the door to customers or current SOWs that are already been signed in rollouts and where we are in the project and when we expect to close them. So we can actually recognize revenue and those are things that's everyday business that we do.

[Brett Davidson:]

And I'd imagine in March this might not of been a real favorable looking thing, but has it generally recovered during the course of the summer here?

[Victor Dellovo:]

No, it's up and down. Some customers are better than others and it's a mix match of it's just constant communication. May honestly was the one the one month that hit us the toughest. I think we had enough backlog for March everybody just are shocked but business was already there. April I think there was enough backlog and for us May was the month that the brakes went on and then June kind of picked back up to where at least some normality but not back to where it was but at least people are talking now.

[Brett Davidson:]

So you guys like touched bottom in May and things are kind of pushing back in the other direction now?

[Victor Dellovo:]

Yeah they're significantly better than they were in May.

[Brett Davidson:]

So and last thing I might slow questions here is maybe you could just give a little color on what the current thinking is on the dividend?

[Gary Levine:]

Well, I think one of the important things for us is get profitability first as the company and take a good close look at it because the cash requirements if we're losing money and such that we just can't really do it, but we're certainly looking at that and discussing it every quarter with our board.

[Victor Dellovo:]

And I just think the economies are still too uncertain to even make that -- if this is something that you read something this morning that they have a vaccine then what does that actually mean to everybody when they get our rolls out, the conference levels, until we have some type of normality that we can count on. But we're having, we do review it every board meeting and then talk about it and what the options are, but right now I think we're just, I guess that we're cautiously optimistic right now.

[Brett Davidson:]

So that's how we can think about it once we cross the vide back to profitability than the dividend is going to be back on the table.

[Victor Dellovo:]

Yeah, that's certainly a metric to look at, yeah.

[Brett Davidson:]

All right. Well thank you very much for taking the time to answer and talk to you guys next quarter.

[Victor Dellovo:]

Okay. Brett, you too.

[Operator:]

And there appears to be no further questions at this time. I'll turn the call back over the management team for any closing remarks.

[Victor Dellovo:]

Thank you, operator. As always, I want to thank our shareholders for continued interest and support. Our strategy of pursuing higher margin business is generating the desired results and as we continue to transition the business, we are encouraged by the strong and growing interest in ARIA and UCAS offering. We do have a bright future. Have a great day.

[Operator:]

Thank you. And this does conclude your program. Thank you for your participation. You may disconnect at any time.