Safeguard Scientifics, Inc.
Q2 2020 Earnings Call Transcript

Published: 11 Aug 2020

[Operator:]

Good morning, and welcome to Safeguard Scientifics’ Second Quarter 2020 Financial Results Conference Call. Please note, this event is being recorded. [Operator Instructions] I would now like to turn the conference over to Matthew Barnard, Safeguard’s General Counsel. Please go ahead.

[Matthew Barnard:]

Good morning, and thank you for joining us for this update on Safeguard Scientifics’ second quarter 2020 financial results. Joining me on today’s call and webcast are Robert Rosenthal, Safeguard’s Executive Chairman of the Board; Eric Salzman, Safeguard’s Chief Restructuring Officer; and Mark Herndon, Safeguard’s Chief Financial Officer. During today’s call, Bob and Eric will provide some corporate and strategic updates, and Mark will discuss our results. Afterwards, we will open up the call to your questions. Today’s presentation includes forward-looking statements, and those statements are subject to risks and uncertainties. The risks and uncertainties that could cause actual results to differ materially include, among others, our ability to make good decisions about the monetization of our ownership interest for maximum value or at all and the return of value for our shareholders; the ongoing support of our existing ownership interest; the fact that our ownership interest may vary from period to period, challenges to achieving liquidity from our ownership interest, fluctuations in the market prices of any publicly traded ownership interest, competition; our ability to attract and retain qualified employees, market valuations in sectors in which our ownership interest operate; our inability to control our ownership interest; our need to manage our assets to avoid registration under the Investment Company Act of 1940 and risks associated with our ownership interest, including the fact that most of our ownership interests have a limited history and history of operating losses, face intense competition and may never be profitable; the effective economic conditions in the business sectors in which Safeguard’s ownership interest operate, including the impact of COVID-19; and other uncertainties described in our filings with the SEC. Many of these factors are beyond the company’s ability to predict or control. As a result of these and other factors, the company’s past financial performance should not be relied on as an indication of future performance. During the course of today’s call, words such as expect, anticipate, believe and intend will be used in our discussion of goals or events in the future. Management cannot provide any assurance that future results will be as described in our forward-looking statements. We encourage you to read Safeguard’s filings with the SEC, including our Form 10-K, which describe in detail the risks and uncertainties associated with managing our business. The company does not assume any obligation to update any forward-looking statements made today. With that, here is Bob.

[Robert Rosenthal:]

Thank you, Matt. Good morning, and thank you for joining us today. The second quarter was a challenging period due to the COVID-19 pandemic and the follow-on impacts to our economy. In a few cases, the pandemic has provided a tailwind and has accelerated certain trends which were underway prior to the outbreak. Overall, we continue to assess the value and time frame for our exits and work with the management teams to drive value regardless of the macro environment. Safeguard holds a value portfolio of ownership interest in companies operating in exciting sectors of our economy and where we remain dedicated to maximizing ultimate value for our shareholders. I continue to be encouraged by the direction and activities of many of our ownership interests, which we believe will eventually lead to valuable exit transactions. Eric and Mark will now review our recent activities and this quarter’s results.

[Eric Salzman:]

Thanks, Bob. And thank you all for joining us this morning. While the current operating environment has been heavily impacted by the pandemic, we are happy to report that our companies are, by and large, tracking ahead of their COVID-19 plans. And in some cases, we are seeing pockets of strength and even tailwinds. Overall, we are at the early stages of a recovery but are substantially more encouraged today than we were when we spoke to you in April. We’d like to start by reviewing with you five areas we’ve been focused on since the last earnings call. The first is making sure companies have sufficient liquidity to operate in current environment. The second is working at the Board level of our companies to drive operating and financial performance. Three is helping the management teams position our companies for the most attractive exit opportunities. Fourth is, at the Safeguard level, driving down our costs to operate and taking steps to ensure we can support our companies. And fifth is, at the shareholder level, providing greater visibility engagement with Safeguard investors. On the company liquidity front, our companies have been able to weather the COVID-19 storm reasonably well. This was achieved through a combination of cost cutting, improved working capital management, business model alignment, access to PPP funds and securing other sources of capital. To provide greater detail, the majority of our companies are operating at cash flow breakeven or are funded with the expectation that they will get to cash flow breakeven. The remaining companies are exploring capital raises at different stages. Three of our companies are currently in term sheet phase that may involve participation by Safeguard. We are evaluating these opportunities. And if we do participate in these financings, we expect total investments in 2020 to fall within the guidance range we previously provided. Our second area of focus has been supporting our companies. As you know, we take an active role with our companies, and we have spent considerable time over the past few months with our management teams and co-investors. We and they have had to make hard decisions, decisions that test the leadership and capabilities of management at all levels

[Mark Herndon:]

Okay. Thank you, Eric. For the quarter ended June 30, 2020, Safeguard’s net loss was $9.9 million or $0.48 per share, compared with a net income of $36.1 million or $1.75 per share for the same period of 2019. Safeguard’s cash, cash equivalents, restricted cash at June 30 totaled $13.6 million and we have no debt obligations. Our funding to existing ownership interests continued this quarter, including $3.8 million to Syapse, which results in $4.4 million during the year-to-date period, so with Syapse after considering bridge loans during the first quarter. We made two other small deployments during the quarter and we continue to expect that deployments for the full year of 2020 will be between $8 million to $12 million. However, we expect to evaluate deployment activity for only three to four companies for the remainder of the year to give the circumstances Eric described earlier. The quarter’s results also included impairments of $5.7 million related to the lowering of our estimate of fair value for our ownership interest in Sonobi, T-REX, Beta and other ownership interest. These declines in fair value were impacted by our outlook for transaction values, as well as other companies’ specific factors. Our general and administrative expenses were $2 million for the three months ended June 30, 2020, as compared to $2.6 million in the second quarter of 2019. Our G&A expenses benefited from lower employee compensation, lower professional fees, lower office rental costs, lower depreciation and other costs. Corporate expenses for the second quarter, which represents general and administrative expenses, excluding depreciation, stock-based compensation, severance and retirement costs and other non-recurring or other items were $1.2 million, as compared to $1.9 million in 2019. In addition to the G&A reductions mentioned above, corporate expenses benefited from the reflection of director fees as a stock-based compensation item, as well as a change that will result in a portion of management’s estimated incentive bonus compensation to also be paid invested equity, instead of cash. Note that we made this change in the second quarter, but it will be applicable for the year-to-date period. So approximately $0.1 million of the decline is attributable to this catch-up for the first quarter’s portion. As we’ve mentioned before, we will continue to look for ways to reduce our cost structure. Some of the steps that we’re making now or plan to make a relatively small, but we understand every step counts. So as an example, we are continuing to seek to minimize our office related costs, as we’ve been able to effectively work remotely over the last few months. As a result, we expect that our corporate expenses for the full year of 2020, we’ll be at the low end or below our previously disclosed range of $5.6 million to $6.0 million as compared to $7.1 million reported for the full year of 2019. With respect to ownership interest at June 30, 2020, we have an aggregate carrying value of $61.4 million. As we’ve discussed before, this is a GAAP carrying value, which results from the application of equity method accounting. It typically reduces the carrying value for our share of the losses of the underlying company. And generally, it does not represent the fair value or expected exit value of those same ownership interests. Only when the fair value declines below our carrying value would we consider making a downward adjustment to the carrying value of our equity method investments. We also have a few ownership interest that are accounted for under the other method, which can have upward or downward adjustments resulting from observable price changes, if there are transactions in their security. Our share of the losses of our equity method ownership interest for the three months ended June 30, 2020 was $3.1 million as compared to $8.3 million for the comparable period in 2019. The decrease is the result of fewer companies being accounted for under the equity method, due to exits, changes in the basis of accounting in two companies that moved from the equity method to the other method, as well as lower losses on a net basis from our equity method ownership interest. There was also a benefit recorded resulting from a technical accounting change, the new revenue recognition standard at one of our ownership interests. This benefit essentially offset the cumulative effect of that same accounting change that was also required to be recorded directly to one of our ownership interests. So while this accounting change resulted in an income statement benefit for the quarter, there was not significant cumulative impact to our ownership interest balance as of the end of the quarter. I would also like to remind everyone that we report our share of the losses from the equity method companies on a one quarter lag. So this quarter share of the losses reflect the calendar first quarter for those companies. While many companies saw some impact from COVID-19 in the first quarter, their results in the second quarter will reflect the full quarter of operating in this environment, which we will report to you as part of our third quarter results due to the one quarter lag policy. So now, it is a time for us to turn to the Q&A segment of the call. So operator, please open the phones up, which I know you’ve already done, so we can answer a few questions.

[Operator:]

[Operator Instructions] First question comes from Michael Potter with Monarch Capital.

[Michael Potter:]

Hey guys. Congratulations on continuing to move this company forward. Just a quick question. The meQuilibrium presentation that we have fire side chat. Eric, what are the plans for additional presentations? Do you have the next company lined up already? Is this something that we can perhaps get scheduled for this month or early next month?

[Eric Salzman:]

Yes. Hey, Michael. It is definitely a priority of ours. We’re talking to management teams to see which companies both are at the right stage to talk to the public and which CEOs are – we’ll build it in. So we’ll get back to, I would say, within the next week, we’ll endeavor to make an announcement on who that company will be. And we look to do this on a regular basis, obviously, respecting the time challenges that the management teams have.

[Michael Potter:]

And just a follow-up on that, prior to your joining the company, one of the questions that I proposed was a lot of our portfolio companies have news flow of their own, especially Zipnosis during this time period, is there any way that this can – we can make releases or that our portfolio companies are issuing news and that have events on their own.

[Eric Salzman:]

So we’ve tied in the press releases for our portfolio companies to both auto – most cases auto-populate on our Investor Relations section. In some cases, we have to do it manually. So that’s a process that we started a couple months ago. We obviously can’t control the timing of a press release of the – of our portfolio companies. But it should be the case that if there’s a press release at the partner company level, then it should show up at our – on our investor site. And if that is not happening, that is something we’ll make sure is happening. We implemented it in the last four weeks or so. I definitely have seen it in a few cases, if you go to the – our Investor Relations side. But we think that’s a helpful. We do think that’s helpful. There’s probably a step beyond that, which could be webinars and white papers that are partner companies post. Having those pulled into our website would be maybe a next stage for us to explore. But on the press release side, we’ve been working on that. And that should be operating if not at 100% pretty close to it.

[Michael Potter:]

Okay. Thanks. I’ll get back in queue.

[Operator:]

[Operator Instructions] You have a question from Brian Cowens. Please state your company. Your line is open.

[Bruce Kallins:]

Hi, my name is Bruce Kallins, Yakira Partners. How are you doing today? [Technical Difficulty]

[Eric Salzman:]

Bruce, we’re having some trouble here. Bruce, you just got a little muffled there.

[Operator:]

And he has disconnected. [Operator Instructions] And we have a question from Lee Zimmerman. Please go ahead.

[Lee Zimmerman:]

Could you give us a little color, what medium they ask came out with this statement that they’re looking to reorganize or possibly sell? Could you give us a little color on that value and what’s going on there? Thank you.

[Mark Herndon:]

Sure. Yes. So the – it wasn’t a press release for MediaMath. That was picked up, I think, by an industry news outlet. But regardless, I’ll give you an MediaMath update. Obviously, so what’s happening on the – I’ll expand, even, Lee, beyond your question to that would be helpful. So obviously, the ad spend market, the ad tech market took a major step down in the March, April timeframe. MediaMath is experienced recovery in the ad spend. Actually, we’re pleased to see that their daily spend has returned to pre-COVID-19 levels and they’re seeing particular strength in certain geographies outside the U.S. also their connected TV product that they launched, which is doing very well it’s ahead of plan. So that’s on the positive side. They’ve also took some steps in the middle of the pandemic around cost alignment and really setting their company up to achieve better operating leverage as the company comes out of – and the entire sector comes out of the pandemic. What we’ve been working with the company on is ensuring that it has the right capital structure to leverage the opportunity that has as the number two second largest demand side platform out there. So we’re working on the – so to put it in finance world, the left side of the balance sheet, company’s doing quite well. As I said, recovering ad spend products are working, seeing strength as the overall ad tech market is improving. Right side of the balance sheet, we’re working on making sure that they have the right capital structure in place to be able to take advantage of that. Obviously, when you look at all options on capital structure, sometimes news outlets pick that up and report other things. But the main focus is ensuring that their capital structure is stable and sufficient to support the growth of the company as it emerges from Q2 and into what appears to be or starting to be a strong Q3.

[Lee Zimmerman:]

Thank you.

[Operator:]

[Operator Instructions] And we have a question from participant, please state your name and company. Your line is open. Participant, please state your name. Your line is now open.

[Bruce Kallins:]

Bruce Kallins, Yakira Partners. Can you hear me? Hello, can you hear me?

[Eric Salzman:]

That’s a little better.

[Bruce Kallins:]

[Indiscernible] it is a little tough in communicating with the – with most patterns. So I guess a couple of questions. First one, going into cash balance. If sales have a $13.6 million and we’re estimating other three companies’ expenses and [indiscernible] a little time as far as having enough cash. So with the letter of intent that you mentioned, it’s had – any expectation of when that’s going to be there to actually fund us? Or are they looking at any other resources or we do if it falls through because it fell through in the past?

[Mark Herndon:]

Okay. I think I got the gist of the question. Bruce, I hope you can hear us. So as we indicated, we have two companies that are under LOI and while there’s obviously deal risk. We have $13 million plus at the end of the quarter. And our expectation is that the exits that are planned plus other cost containment measures that we’re taking out the Safeguard front will fund the company for the next 12 months. We don’t know specific, obviously, estimating when deals close are difficult, but we are optimistic or cautiously optimistic of both of these processes. But we of course need to take contingency plans and we explore other alternatives to make sure that we are not in a position where we can support our companies as appropriate. So the that’s helpful.

[Bruce Kallins:]

That’s helpful. I see that we put more money into Syapse. And one thing we know is that we increased our investment by [indiscernible] in the prior quarter. I’m assuming that we’re not – we’re having the company in not investing or participating as much as possible. And how can that happen, how can you explain that?

[Mark Herndon:]

Yes. I can address that for you, Bruce. And for those of you who may have had a hard time hearing the question, the question was around Syapse and the fact that we have made an additional investment this quarter in Syapse and about how that investment for deployment relates to the change in our ownership percentage. And I would say, the round was essentially an insider-led round. So the proportions of ownership interest, and particularly ours, right, did not change substantially. I know from time to time, there are also option grants at the lower – at the employee level, which may I think change slightly the ownership percentages. But yes, I wouldn’t – I guess I would characterize the ownership percentage changes as not substantial in that case. And it was just – again, an important sort of step forward for the company, right.

[Bruce Kallins:]

Okay. And I guess my last question would be when we look at the revenue, just to give revenue figures on our partner companies. And I believe it’s somewhere around $350 million. And I guess we – on an average of about 25% of our companies or something like that. If you look at the multiple on where these companies trade usually, young companies, valour companies, and 4, 5 times, 6 times and even up to 10 times revenue on the choice. Having explain our valuation based on multiple of revenues based on the exit of the markets? And then is there anything – any comments on why it would be probably any clarity around this.

[Mark Herndon:]

Yes. Let me – and Eric, you may want to touch on this question as well. But let me just start, for those of you who may have had a hard time here, and Bruce, the connection is not great on your call, but the – your question is around transaction multiples for companies within our portfolio. And I think you referenced that revenue multiples can be 6, 7, 8, 9, 10 times revenue, if I characterize it correctly.

[Bruce Kallins:]

That’s correct.

[Mark Herndon:]

Okay. So and I would say that we have a much wider variety of revenue multiples that are possible. So – and in some and – each one of our companies has their own specific niches that they operate with them. And some of them are just not as high as what you’ve just described. I think the digital media space, in particular, has had – the multiples in that area have come down, and that’s something that we’ve seen. But there are a lot of company-specific factors that would go into how we would think about the value of any one of those individual companies.

[Eric Salzman:]

Yes. Let me try to provide a perspective on this on a couple of different levels. I think what you might be getting at is if the underlying companies are in attractive sectors growing and the public comps have high multiples like why or – how does that – what’s the read-through to Safeguard’s stock? Or what’s the read-through to our value? And maybe I can give you just a kind of a perspective from an investment standpoint. So listen, one of the reasons why I think I find Safeguard attractive, and just to try to address it from that standpoint is that, as we talked about, through Safeguard, do you have exposure to a basket of late-stage venture companies in two sectors primarily. You have tech-enabled health care and you have ad tech. So you’re playing on the tech-enabled health care side between Syapse, Prognos, Aktana, Moxe, Zipnosis and meQuilibrium, that’s $86 million of invested capital. So that’s over $4 per share. The tech-enabled health care as a space, as we’ve spoken about in prior conversations, there’s a secular tailwind as the health care industry is being transformed, using technology, reducing costs. These companies are well-positioned in a post-COVID-19 world and they are experiencing strong revenue growth and healthy, strategic and financial M&A activity. Obviously, you can take a look at the announcement this past week of the Teladoc-Livongo deal. Everyone wants to cite that, that was in the high teens, maybe with 17 to 18 times 2021 revenue-type multiple and a stock-for-stock deal. Deal made a lot of strategic sense between those two companies. But if you just macro up at another level, tech-enabled health care, the peer set that we look at trades at 8 times 2020 revenues. So that sector is a – call it, they have outliers. Teladoc might be an outlier of the transaction, but call it an 8 times revenue multiple. So for us, we look at Safeguard stock, and we’re saying, "There’s $4 a share of cost of tech-enabled health care that the public markets. The peers in the public markets are trading at 8 times." That’s kind of on one side. On the other side is, obviously, we have ad tech, mar tech bucket, which if you take Flashtalking, MediaMath, Clutch just those three, it’s $2.5 per share of cost. Now the ad tech space has a cyclical element or there’s cyclical recovery on top of a secular tailwind. Secular tailwind is obviously moving to digital spend, digital programmatic, linear TV adoption, et cetera. And the ad tech market is going through a recovery process. There’s no COVID-19 tailwind per se in ad tech. There’s a secular transition to digital programmatic, linear TV, et cetera. That bucket, if you will, of our investments, they don’t trade in the public market, as Mark said, at high multiples. Yes, there is Trade Desk, which is – trades at 31 times revenues or 24 times forward revenues. But there’s also the by and large, that sector, the median is roughly, call it, 2 times for Clutch comps and 4 times for Flashtalking’s comps. So you’re in a much different revenue multiple. It’s still an interesting sector. It’s still something we’re quite excited about. So when you look at the two together, there’s $6.5 cost in two sectors of which are both interesting, both have different dynamics. And through on – through at least why I’m taking over half of my comp and Safeguard stock so – and why I bought stock, Safeguard is a way to have exposure to that. Now its everyone one of our partner companies, every one of our portfolio companies as good as Teladoc or Trade Desk or something that’s trading at 15 times or 20 times. We’re not going that far in saying that. But we do think it provides access and exposure to an interesting portfolio of companies, growth companies that we’re working. And we’re providing as much insight as we can to you. And we believe that if we can execute and we can help drive value at the partner company level, and these companies can achieve exits in the reasonable time frame and at reasonable multiples, we’re not saying that these companies have to be a Livongo or a Trade Desk for this to be interesting for us. The stock and everything else will take care of itself and value will be created for the Safeguard shareholders. So I know, Bruce, it was a little long-winded, but I think I just wanted to frame at least how we’re thinking about the opportunity at Safeguard and how, when you double-click on Safeguard stock, you get two buckets. And each bucket, one is tech-enabled health care, the other is pretty much ad tech. And within that, those companies each have their dynamics. So I’ll stop there and see if that’s helpful at all.

[Bruce Kallins:]

Thank you.

[Operator:]

[Operator Instructions] And we do not have any telephone questions at this time.

[Robert Rosenthal:]

Okay. Thank you, operator. I’d like to express my appreciation for all those who joined us today and those who will eventually listen on the recording. In summary, while the second quarter was challenging for us and our companies and resulted in delayed – delaying expected transactions within our portfolio, I can assure you that we remain committed to encouraging our ownership interest towards monetization and return of value. We realize that it’s frustrating to see no exit activity this quarter, but we assure you that we are pressing to accelerate these events. Thanks for joining us today, and thank you for your continued interest and confidence as well as your support.

[Operator:]

This concludes today’s conference call. You may now disconnect.