Symbolic Logic, Inc.
Q1 2017 Earnings Call Transcript

Published: 11 May 2017

[Operator:]

Good day, ladies and gentlemen, and thank you for standing by. Welcome to Evolving Systems' 2017 First Quarter Earnings Conference Call. At this time all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host for today presentation, Mr. Dan Moorhead, Chief Financing Officer. Sir, please begin.

[Dan Moorhead:]

Thank you. Good afternoon, and welcome to Evolving Systems' 2017 first quarter earnings Call. I am Dan Moorhead, Chief Financial Officer, and joining me today is Thomas Thekkethala, Chief Executive Officer. During the course of this call, we will be making forward-looking statements based on current expectations, estimates and projections that are subject to risks. Specifically, our statements about future revenue, expenses, cash, taxes, and the company's growth strategy are forward-looking statements. Listeners should not place undue reliance on these statements. There are many factors that could cause actual results to differ materially from our forward-looking statements. We encourage you to review our publicly filed documents, including our SEC filings, news releases and website for more information about the company. With that, I'll turn the call over to Thomas.

[Thomas Thekkethala:]

Thanks, Dan. Good afternoon everyone. Q1 was the 36th consecutive profitable quarter for Evolving Systems. Profit metrics was strong across the board. The highlights include a 205% growth in operating income, 128% increase in net income and EPS which double to $0.08 from $0.04 year-over-year. The acquisition of Sixth Sense Media helped transform Evolving Systems into the managed services model. Our closing of the business logic systems acquisition will help accelerate this transformation. Business logic systems or BLS specializes in data driven customer value management and customer engagement solutions that have been implemented in over 20 mobile operators in Europe, Africa, Asia Pacific and Latin America. BLS solutions essentially turn customer data into actionable insights and personalized contextual offers through their customer engagement solutions and customer value management expertise. Their team technologies and solutions at BLS dovetailed nicely with Evolving’s managed services model which should help greatly with the integration. The acquisition will also expand Evolving’s global customer footprint to over 100 carriers including some large mobile operator groups. BLS brings Evolving Systems roughly a 15% incremental revenue. We will realize cost savings from the obvious synergies and integration of our respective managed service offerings during the year 2017. We are targeting a June closing subject to standard closing terms and conditions. For those of you who may to new to Evolving Systems our consistent profitability is the result of increased efficiencies, stemming now from our transition to a managed service model that benefits from a shared resource pool in sort of the more cost intensive customer specific implementation and support team format which we used in the former licensed model. This kind of managed service model that has been successfully adopted by other leading enterprise software companies in recent years. This model is taking Evolving Systems to a new level of performance and profitability with a growing baseline of recurring revenues. In addition to being a leaner, more profitable way of doing business, it is designed to mitigate the kind of revenue unpredictability that’s common with traditional software license model. Managed Service also engendered more collaborative and sticky customer relationships because it involves our teams working onsite with each carrier which better positions us to identify and meet their needs and help drive new revenue streams for the customer and for us. As we have discussed in the past, there will be an initial period where revenues appear to be less during the transition to managed services because the revenue is recurring in nature and spread over a period of time. So for example, during Q1, we had one or two customers interested in buying some large unlimited licenses to use some of their CapEx budget left over at the tail end of their fiscal years ending March 31st. This could have generated additional immediate revenue to us, however we did not close those deals during Q1 and choose to position managed service models with these customers that would generate far more revenue over the next three years than the onetime fee they wished to pay. In addition, the new model should generate even more revenue from each customer engagement over the long term. Due to the potential for incremental performance fees, on top of the annual subscription fees. We are making good progress on the sales of managed services. We opened the year announcing multiple managed service wins in the first quarter. and that followed with two additional wins in April and May. These wins are of mix of new customers and existing customers who are expanding their relationships with Evolving Systems. I want to give a little bit detail on most recent wins which show the diversity of our value proposition. Last week we announced the win with an existing customer that elected to expand its relationship with an upgraded managed service contract that is designed to generate increased revenue for the carrier and Evolving over the long-term. Our solutions will accelerate customer acquisition, development and retention for the carriers 3G, 4G subscribers and will also allow the carrier to address future changes to their activation and provisioning systems. That win followed an earlier win in April with a new customer, a leading African carrier who selected Evolving Systems dealer optimization solutions to support their customer acquisition, activation and distribution functions. Our plan is to enable this carrier for the first time to sell generic SIM cards which will result in significant network and distribution savings. The solution also significantly accelerate the carriers 3G to 4G customer upgrade initiatives, and also addresses customer retention by offering its subscribers new features such as the ability to self authenticate, browse upgraded tariff plans, select customer numbers and consider upsell features and apps at the point of sale. We estimate Evolving Systems addressable market of mobile carriers is well over 500 carriers worldwide. The market outside North America is growing rapidly. Carriers have invested significantly in licensing spectrum and building out 4G network Carriers must sell data services since their traditional voice and messaging revenues is migrating to Skype, WhatsApp and similar over-the-top services. In addition, since the market is largely prepaid there’s fierce competition between the carriers because consumers churn frequently for the latest offer or lower-priced services from competing carrier. Mobile is transforming multiple industries like financial services, retail and entertainment. We announced the win in mobile entertainment earlier and we now have multiple trials of mobile consumer engagement in financial services markets. These trends fit into Evolving Systems strengths where the combination of our expertise and experience combined with our solutions offered as a managed service can deliver measurable financial impact for a carriers and for mobile-enabled financial services, retail and entertainment service providers. Our strategy going forward will be based on the following three principles; number one; a highly efficient and more profitable managed services as the baseline for all our solutions. Number two, a high touch customer engagement model with the team of on-site and offshore experts that drive organic growth at existing and new customers, and three; acquisitions that accelerate growth and profitability by migrating acquired customers into a managed services model. I’ll conclude by saying that we’re pleased with our continued progress on all fronts and optimistic about our long-term prospects of success. With that, Dan, I’ll turn it over to you for a detailed recap of financial results. Dan?

[Dan Moorhead:]

Thanks, Thomas. First quarter results; total revenue was $5.9 million in the first quarter compared to $6.5 million in Q1 last year. We expected revenue to be lower in the early stages of our transition to a managed service model and additionally weak foreign currencies also contributed to a lower revenue in Q1. Total cost of revenue and operating expenses in Q1 declined by 28% year-over-year to $4.3 million from $6 million last year. Last year's first quarter included 941,000 in restructuring charges related to our 2015 acquisition of $0.06 media. Product development expenses down 50% year-over-year, but with our transition to a managed service model some of the decrease is related to software development work which is requested by a managed service customer prior to the software is generally lease and therefore the development expense is recorded as a cost of revenue. In terms of our bottom line, we had a strong start to 2017 with our 36 consecutive profitable quarter, operating income more than tripled to $1.6 million, GAAP net Income increased to 128% to $1 million and diluted earnings per share increased to $0.08 from $0.04. Our gross margin was 74%, adjusted EBITDA was up 5% year-over-year to $1.9 million and adjusted EBITDA margin grew to 32% from 28% last year. These improvements in profit metrics which we’re achieving in spite of lower revenue underscore our focus on lean operations following the transition in our business models. On the balance sheet we’ve reported cash and cash equivalent of $7.5 million at March 31 compared to $7.6 million at December 31, 2016. Working capital was $9 million at the end of first quarter, up from $8 million at the end of 2016. I’ll close with the usual reminder that a single order can have a significant impact on our quarterly results. Accordingly we continue to advise that it's more accurate to judge our performance on annual rather than quarterly basis. With that, we thank you again for joining us today and we’re now happy to take your questions. Operator?

[Operator:]

[Operator Instructions] We have a question or comment from the line of Harvey Poppel from Poptech LP. Your line is open.

[Harvey Poppel:]

Yes. I have some questions about the income statement here. I understand what you’re saying of course about the transition to managed services and how the license fees are going to come down, but I’m not saying is service fees go up though. Service fees are lower than the first quarter of last year and by little bit, but still lower. And it’s actually lower than the average service fees over the four quarters of last years.

[Dan Moorhead:]

Okay. Hey, Harvey, its Dan. part of that is the managed service transition, most of it’s the managed service transition. When we sold those large DSA deals in the past there was a license and services deal and without selling those currently that's causing part of that service value to decrease from what we had last year. So, it's not unexpected with the managed service transition that the service fee dropped slightly as well. Obviously, we talk more about the license side, but some of those larger licensed legacy sales had fairly large service pieces in the initial installation as well.

[Harvey Poppel:]

All right. Maybe it would be helpful rather than talking qualitative terms to talking in quantitative terms. Can we take a hypothetical sale that in the past would've been let's say just to use around number $100,000 license fee and what that model would look like and how it looks like now on the service – managed service basis?

[Dan Moorhead:]

Yes, Thomas, do you want to take them through that, I know you gave that example before.

[Thomas Thekkethala:]

Harvey, I’ve discussed this before, you take a tier 1 carrier, I mean, who is been a customer in the past. In this model that you discuss let's say there was a $100,000 license, right. And then there was sort of the $50,000 in implementation. So in this first year there was this combination of $150,000, but what happens thereafter is that as the Carrier is adding more subscribers, since you've given them basically more or less unlimited license there isn't going to be those kind of additional revenues, plus since you don't have people on site working with them you don't end up generating this sort of recurring revenues on a going forward basis. In the newer model if in fact the value of the deal was 150,000 that deal will basically be spread out over 24 to 30 months, right. And so all the components basically will come lower and because what you’re looking to do is to engage the carrier and start upselling them because your on-site. So you might end up discounting quite a bit this managed service because the premium thing is to get into the carriers environment, be working with them on site and that's when new doors and opportunities open up. So we have carriers where we put a substantial amount of work upfront but we’ve seen no residual revenue for the next three to four years. And that's what we want to avoid.

[Harvey Poppel:]

Okay. But again just to quantify, if the original deal value in the license model was 150 as you postulated. Would you be looking at the initial contracted managed service revenue over 24, 30 months to be higher or lower than that 150?

[Dan Moorhead:]

It might be something like 10,000 or 8,000 a month which basically of it was a 10,000, it would basically net you 240,000 over two years or 360 over three years as oppose to 150,000.

[Harvey Poppel:]

Okay. So it should be more even without add-ons and other follow-on revenues that you might upsell?

[Dan Moorhead:]

You know, and it all depends on the carrier, the negotiation at the given time and so on. The other aspect, Harvey, that that is important is that in some of these cases in the 150,000 situation you have you know a small little Chinese company or Indian company that comes in and starts bidding lower, so you have a fairly high cost of sales and you don't win those deals. This way you win those deals because you’re essentially saying what you’re buying from us is our expertise. In some areas we are the leader by a distance. So, I am a big believer in getting into this carriers, engaging them, even though it might be small in the early days, because I’m very confident that they end going to their trusted partners inside the tent than people who are pitching things from outside the tent.

[Harvey Poppel:]

Okay. Now the company that you're in the process of acquiring, do they primarily work on a managed service model as well?

[Thomas Thekkethala:]

They have done managed service contracts. They call this customer a value management. They have a team of experts that basically have been doing that for the carriers. Some of them successfully, some of them not so, and the idea is to combine all managed services teams, you basically can create a critical mass and better service.

[Harvey Poppel:]

Okay. Back to the income statement, I noticed again just on an annual basis of comparison is rather significant drop in sales and marketing number. Is that because of the reduced commission fees that occur with over the migration from license revenue or something else going on there?

[Thomas Thekkethala:]

Well, the main things for that is because when you move into this models of managed services, you're not just lying on this one individual salesman who goes around, its like working for EMC or Cisco, you essentially have a team effort. So what you have now is you have fewer people who are sort of out there just as individual sales guys and you have a larger contingent of solution consultants and project managers all of whom are collectively working with the customer. So, that's one of the reasons why you’re going to get a gradual decline there as well because you have multiple managers engaging with the customer not just one because you have this managed service where people are on-site. And part of a state levels of commission they’re not being paid the same levels of commission by a distance compared to the sales guys.

[Harvey Poppel:]

Okay. And then…

[Thomas Thekkethala:]

Yes. I would just add. They are sort of baked into other areas like product development and other They are sort of baked into other areas like product development and other areas of the expense lines/

[Harvey Poppel:]

Okay. But you mention product development that was my next question. Product development expense on a year versus year basis is down 50% roughly?

[Thomas Thekkethala:]

Yes. And Dan alluded to that and what is happening that is when you move to a managed services model. So what happens you now engage with the customer, you have your team that’s partially on-site partially off-site, and you're moving along and they in that particular part of the world need feature that is really not yet in our product, right. And it's very unique to that particular region and we have one or two customers that say -- I mean, this is definitely having a lot in the Middle East, because of maybe Islamic law or in other reasons they ask for certain features. And now we basically will charge for that within the managed services. So that will be showing up in cost of revenue, right and will not be showing up in the product development line. So in a way you having the customers fund the future product releases. So what happens in those features will become baked into the product and now would be available to the entire market place that needs things like that.

[Harvey Poppel:]

Okay, so there was no....

[Thomas Thekkethala:]

So the way to think about engineering really is it’s a factory which is a combination of cost of revenue and product development.

[Harvey Poppel:]

So even though we can’t see the numbers on this press release capitalized software did that change materially?

[Thomas Thekkethala:]

We don’t capitalize software card. What are you referring to?

[Harvey Poppel:]

Well, so you have zero capitalized software expense.

[Thomas Thekkethala:]

Correct.

[Harvey Poppel:]

Okay. Last that was my final question. Thank you very much.

[Thomas Thekkethala:]

Okay. Thanks.

[Operator:]

Thank you. [Operator Instructions] I’m showing no additional questions in the queue at this time. I’d like to turn the conference back over to management for any closing remarks.

[Dan Moorhead:]

Just like to say thanks again for joining us today. As always we appreciate your support and look forward to speaking with everyone next quarter. Thanks.

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This concludes the program. You may now disconnect. Everyone have a wonderful day.