Q2 2021 Earnings Call Transcript

Published: 16 Aug 2021

[Operator:]

Welcome to CynergisTek's 2021 Second Quarter Earnings Conference Call. Today's conference is being recorded. Joining us today from the company are Mr. Mac McMillan, President and Chief Executive Officer; and Mr. Paul Anthony, Chief Financial Officer. Before we begin the formal presentation, I'd like to remind everyone that some statements made on the call and webcast including those regarding future financial results and industry prospects, among others, are forward looking. These forward-looking statements can be identified by the use of forward-looking terminology such as believes, expects, anticipates, would, could, intends, may, will or similar expressions and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those described in the conference call. Certain of these risks and uncertainties are or will be described in greater detail in the company's SEC filings. Given the risks and uncertainties, listeners should not place undue reliance on any forward-looking statement and should recognize that the statements are predictions of future results, which may not occur as anticipated. CynergisTek is under no obligation, and expressly disclaims any such obligation to update or alter its forward-looking statements, whether as a result of new information, future events or otherwise. At this time, I would like to turn the call over to Mac McMillan.

[Michael McMillan:]

Thank you, announcer, and good afternoon, everybody. I never expected to be back in the seat, but I am, and I'm already at work. As a Board member, while I was encouraged by what I saw as good progress in rebuilding our business after the impacts from COVID, I felt we could and should be doing more and seeing quicker progress towards our return to growth. And as I told our employees a couple of weeks ago, my decision to return was made easier by the fact that this company continues to have a tremendous pedigree and reputation in the industry, particularly with our customers, but also with our competitors, which is directly related to their professionalism, talent and commitment to what we do for our clients. And we have a phenomenal clients, some of whom have been with us for almost 2 decades now since 2004. That type of longevity does not happen without building client loyalty by upholding the highest standards in our services and pursuing success in everything we do. It happens by solving the challenges that customers face, and delivering positive outcomes for them consistently, engagement after engagement. It's been encouraging to have so many of our clients as well as others in the industry, even some of you reach out to me and welcome me back. But more importantly, the offers of support have been greatly appreciated. I know that some might be concerned that we will return to what was perceived as a single health care focus. But I can assure you that number was and will not be the case going forward. There have been some great improvements and additions made to our services in the past 18 months that provide real benefit to our customers, and we're not going to abandon those because they can be applied more broadly to many industries as well. But health care is our core business and the primary source of our revenue. We need to be aware of that, and we will allocate the appropriate amount of attention and effort in promoting our business in a balanced way. Our sales organization for the first time in a long time is near full strength with solid sales leadership. We have new Board members since I was CEO last, who are more engaged than ever. And since my return, we have improved the strength of our Board membership with the addition of John Flood, a shareholder himself, who brings 35 years of capital markets and investor relations experience to the Board. We recognize that investors support and capitalization are important to our future. Shareholders have been asking us to add this type of expertise on our Board, and now we have it. To say that the company hasn't faced some tough times this past 18 months would be naive and say my predecessor did not manage during one of the most difficult times in corporate history would be unfair. But despite that, the company did make strides in its efficiencies. It did develop new service offerings, and it did position itself as the market leader in readiness for CMMC even though, unfortunately, our performance as a company overall is not where any of us would like it to be. That, as I say, is water under the bridge and where we must focus now and where I plan to focus is on the future. With the leadership changes, the changing environment post COVID, which is still challenging and the long-term market opportunities increasing, one of our first priorities is to do a deep dive and revisit and update our strategic plans to be well positioned to capitalize. This will include an emphasis on investing and accelerating growth over near-term profit. We have a solid foundation with a leadership position and strong relationships in health care and the addition of the CMMC initiative, greatly increasing our addressable market creates the opportunity to become a much larger company over the next 12 to 24 months. One of the first responsibilities of leadership is to create a shared vision for the organization to focus on, and I understand how important that is. But a close second priority will be concentrated on immediate short-term execution and results, which has already begun. This company was recently paid what I consider one of the highest compliments as the services business can receive. A recent independent industry analyst report listed CynergisTek as one of the top cybersecurity companies that health care CIOs consider as a true partner. This is a goal that has always been a core value of this company and has guided what we do, what we create and how we serve. As a result, this company has a great legacy. We have a great reputation, and we can be so much more than we are today. Our commitment is to build a more successful company for our employees, our customers and our shareholders. We'll do that by creating that shared vision, a solid plan and then executing. Successful organizations, successful businesses, successful teams, all share 2 things in common

[Paul Anthony:]

Thanks, Mac. As Mac mentioned, we want to start disclosing bookings. So we'll start with our Q2 bookings, which increased to $4.7 million compared to $2.8 million last year. Bookings year-to-date totaled $8.5 million compared to $6.6 million last year. As a result, our presold revenue continued to grow, increasing by an additional $0.5 million to $17.9 million and brings our total increase in presold to $2.3 million from its pandemic low in Q3 2020. Additionally, we saw our cost reduction efforts improve earnings year-over-year by just under $1 million. Our balance sheet ended the quarter with $4 million in cash and continues to benefit from reducing debt levels. We continue to qualify for the employee retention tax credits that provided -- that they are provided under the CARES Act and that's included Q1, Q2 and Q3 of this year. Since the end of last year, we haven't taken any additional stock issuances from the $5 million ATM under the shelf registration. We received notice from the SBA late last week that the full $2.8 million in debt that was received under the Paycheck Protection Program was forgiven. And we filed for and are expecting a tax refund here shortly on the carrybacks of available losses from 2020 of approximately $1.4 million. Addressing the Q2 standard financial disclosures, revenue was $3.9 million compared to $4.6 million in Q2 2020. Decrease from prior year was due to lower revenue from managed services, which reduced by $0.7 million to $2.2 million due to the impact of some customers canceling, delaying renewals and a reduction in net new customers from the pandemic. Consulting and professional services revenue increased $0.1 million to $1.7 million when compared to Q2 '20 as we started to see things rebound from their pandemic lows. Gross margin was 46% for Q2 2021, or an adjusted 33% when excluding the benefit from the employee retention tax credits. This is an improvement when compared to 27% in Q2 2020. The increase in gross margins is due to the staff and expense reductions, reduced travel and the delivery efficiencies that we've talked about over the last few quarters. SG&A expenses decreased to $2.7 million for Q2 2021 compared to $3.5 million for the same period in 2020. This decrease was due to a drop in payroll and benefit costs from headcount reductions, decreases in travel because of COVID-19 and the benefit from the employee retention tax credits. Non-GAAP adjusted EBIT loss was $0.6 million for Q2 2021 compared to $1.3 million last year. Full year financials and reconciliation of GAAP to non-GAAP information can be found in the earnings release that came out today. In summary, we're starting to see the return of the health care market as evidenced by the growth in bookings and presold revenue. We still have work to do, but we've made great progress, and we'll continue to benefit from a clean balance sheet and a simplified capital structure. This concludes the financials and the prepared remarks for Q2. Operator, please open the floor for questions.

[Operator:]

. And we'll go first to Matt Hewitt of Craig-Hallum Capital Group.

[Matthew Hewitt:]

Welcome back, Mac.

[Michael McMillan:]

Thank you, sir.

[Matthew Hewitt:]

Maybe first up, obviously, I think, it's -- over the last 2 weeks, you've had several new wins announced. And I'm curious if we could get a little bit more color on what's driving those -- the decision-making behind those contracts. You think back over the past year, I mean, hospitals were locked down. So there wasn't a lot being done on the cybersecurity side. So was it just a function of coming out of COVID, if you will? Or does it have to do more with what was going on this spring with -- you mentioned the Colonial Pipeline in the Scripps and there was roughly a dozen other major hospital security breaches. Was that driving it or is that confluence of both?

[Michael McMillan:]

I think, Matt, it's probably a confluence of both. Most of the folks that I've talked to in the industry have wanted to spend more on security in a lot of other areas, and they've just been held back because of the losses that most health systems have sustained during the pandemic. And so there was a time there where basically, if it wasn't an operational necessity basically just -- it didn't get signed. That has gotten better. And for a while there, it looked like we were well on the way to reopening. And we had folks like I said -- like you heard me say, we're actually even talking about getting together in person. Some of that has slowed down a bit now because of the Delta variant and the surge that we're currently experiencing, which is really impacting our children's hospitals even more so than our acute care centers. But even so, folks are still very keenly aware that they've got to do something about security, that's really not an option for them. And so they're really just being more prescriptive about what they're doing and what they're focusing on. And the things that they're most interested in right now is, obviously, maintaining their baseline, which is why most organizations have -- we've seen an uptick in the renewals and actually increases in those renewals in terms of the size of those contracts. But also, they're focusing on the things that are adding to their resilience from an incident response perspective. And you heard me talk about the insurance thing. I can't tell you how many of the CIOs I talked to at HIMSS this past week who said, Mac, we don't know what we're going to do because our -- they're telling us the premiums are going up or they're not going to cover us altogether. Even when they do cover us, the amount that they're paying out is incredibly small compared to the cost that we're seeing with these incidents. And so I think that's kind of all coming full circle to a realization that they're going to have to do a better job themselves of protecting their environment and being ready to respond to these things because they're not going to be able to count on insurance, and it's not going to go away.

[Matthew Hewitt:]

Yes. You mentioned operational necessity. I guess if you saw -- seeing what happened with Scripps and their inability to treat patients for several weeks, I guess that would qualify as an operational necessity. But we'll see what happens here. In the press release, you mentioned the Fortune 500. Is that entirely tied to the CMMC opportunity? Or are you starting to see interest even beyond the government mandate? Are you seeing companies reach out maybe not tied to that program, but just recognizing what's going on around them and maybe the need to have a heightened level of security?

[Michael McMillan:]

Well, I think it's both the -- because we -- if you remember, we put the non-health care business in either the -- under the Redspin brand division or the CMMC umbrella. And so that's where we're seeing those logos, if you will, show up. But yes, I think, it's a little bit of everything. But certainly, the good news is that we are beginning to start to see some traction with CMMC. We're still lagging as a result of DoD lagging because there are certain parts of the program that still have not been approved by the government yet. And so there are certain things you can't do until that occurs. But what we're finding is that people do want to get ready, and they are willing to spend the dollars on the consulting side, which is good because we can support them there as well. And generally, there's interest across the board. So we're hoping that what will end up happening is that by the time they get ready to kind of open the gate, so to speak, we will have everything teed up to include a healthy pipeline and as well as the mechanisms to support that to be able to exploit it.

[Matthew Hewitt:]

Okay. Great. And then periodically over the past year or so, there's been discussion about medical device cybersecurity. I'm just curious, how are those discussions progressing. Are you seeing interest from some of the device manufacturers and players in that market? Any color there would be helpful.

[Michael McMillan:]

So there's still a tremendous amount of discussion around medical devices and it's been -- frankly, it's not just medical devices, it's devices in general because when you look at a hospital's environment or just a business' environment, we have literally hundreds or thousands of devices connected to our networks today. Medical device is just being one type of device that's connected and having a little bit different kind of import -- or impact because it's in some cases, connected to a human or part of a part of care delivery. But devices in general, are -- just like third parties are becoming a real concern for just about everybody because they're recognizing that many of the attacks that they're seeing are occurring through devices or relationships that are not necessarily under their control or that they don't have as good a control of as they should. And they're realizing all of a sudden, as I said in my remarks, that any disruption to them is a disruption to the hospital as well or to the hospital -- to the business as well. And so they're having to kind of broaden their perspective as it relates to what is my threat footprint and what is my responsibility for maintaining my business when I'm taking advantage of using all of these different capabilities that are now causing me to have critical systems, critical data, critical processes, either hosted or performed by other people or a device on my network that I may or may not have as much control over as I thought I did.

[Operator:]

. And with no other questions in the queue, that does conclude the question-and-answer session. I will now hand it over to Mac McMillan for any closing remarks. Mac, please, go ahead.

[Michael McMillan:]

Thank you again, operator. Again, I want to first thank everyone who has reached out and expressed their support for this team and our company. I want to also thank you for your support you show through your continued investment. I want to reiterate that we have a great company. It has great bones as they say, with an incredibly talented staff. We live and work in a time when what we do is critically important to the people we serve. There aren't enough of us to meet all of that need. We have reset our sights on execution and growth and are pursuing the emerging opportunities that are in the market. We want to build and deliver services that help our clients solve the problems in cybersecurity, privacy and compliance that they face, and we want to maintain our first among peers' reputation as a trusted partner. Our Board is active in helping to shape the direction of the company, and we are and will be engaging at all levels, staff, management, Board and investor to redefine that path. Our near-term goal simply stated is to return this company to double-digit growth. Thank you for attending today.

[Operator:]

And so this concludes today's call. Thank you for your participation. You may now disconnect.