Intrusion Inc. (INTZ) Q4 2019 Earnings Report, Transcript and Summary

Hi everyone, my name is Jeff and I will be your conference operator today. At this time, I would like to welcome everyone to the Intrusion Fourth Quarter 2019 Financial Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the call over to Mr. Michael Paxton. Sir, you may now begin your conference.

Okay, thank you. Welcome to this afternoon's conference call to review Intrusion's fourth quarter 2019 financial results. Also participating on the call today is Joe Head, Senior Vice President and Co-Founder of the company. I will go over financial results and Joe will go over current projects and give you a business update. We will be glad to answering questions after our prepared remarks. We distributed the earnings release at approximately 3:05 P.M. Central today. A replay of today's call will be available at approximately 6:30 P.M. tonight for a one week period. Replay conference call number, 855-859-2056, conference ID number, 2281388. In addition, a live and archived audio webcast of the call is available at our website, intrusion.com. Please be reminded that during this call, including the question-and-answer session, we may make forward-looking statements which reflects management's expectations regarding future events and operating performance and speak only as of the date here. Forward-looking statements involve a number of risks and uncertainties. Such statements include without limitations, statements regarding expectations of future revenue, product orders from new and existing customers, and profitability, and are qualified by the inherent difficulties and forecasts and future sales caused by current economic conditions, spending patterns of and appropriations to US government departments, the effects of sales and implementation cycles for our products on our quarterly results and difficulties in accurately estimating market growth, the unpredictability of government and corporate spending on information security products, as well as other statements. These statements are made under the Safe Harbor provisions of the Private Securities Litigation Act of 1995 and involve risk and uncertainties which could cause actual results to differ materially from those and forward-looking statements. The factors that could cause actual results to differ materially from expectations are detailed in the company's most recent report on Form 10-K and 10-Q, particularly under the heading risk factors. Now let's move to the financial results. Okay, the fourth quarter and annual 2019 financial highlights from the press release; revenue for the fourth quarter was $2.6 million compared to $3 million for the fourth quarter 2018. For the year 2019, sales were $13.6 million compared to $10.3 million in 2018. Gross profit margin was at 61% in the fourth quarter compared to 63% in fourth quarter of last year. For the year 2019, gross margin was 61% compared to 63% in 2018. Gross profit margin can vary based on product mix of deliverables. Intrusion's fourth quarter 2019 operating expenses were $1.3 million compared to $1 million for the comparable quarter in 2018, and $3.8 million for the fourth quarter or for the year 2019, compared to $4 million in 2018. Net income for the fourth quarter was $0.3 million compared to a net income of $0.9 million for the fourth quarter of 2018. Net income for the year 2019 was $4.5 million compared to $2.3 million in 2018. Thank you. And now, I'll turn the call over to Senior Vice President, Vice Chairman and Co-Founder, Joe Head, Joe?

Thanks, Mike. In the past two quarterly calls, I've touched on three items; the prospects for renewing the two large orders which were not set to auto renew, and steps towards the expansion of our business. As I mentioned in November, funds for new projects and non-program of record projects have not cascaded down to our customers, so we don't know yet what funding of our two bonus projects from follow-up money last year will be available. We were told the next round of funding would fall before Thanksgiving, but nothing happened. I presumed at that time based on previous similar circumstances, that the money for known program of record funds likely were swept away to fund the $2.7 billion for the Wall [ph] but this has not been confirmed. It's taken some time to understand the delay and for our customers to pass from despair to seeking a way forward. And as I come along later in the call, I'll give you some good news on that front. But if we reflect back to where we were in October, November; up until last week, when we got the good news on one of the big two, we were told this whole year might not -- might just be skipped over and that the prospects for underfunded requests were not good. So starting back in October, me and our new sales guy had been focused on all three items; investing market energy to get new business to grow our base in case to fall out funds, for the two big ones just didn't come through this year, but also staying in front of the two prospects to increase our chances of renewing them as well. Now, both threats looks like they'll be successful, but not without a dry spell while we waited. Recall, last time I reported over the past year, we've built new capabilities in three areas, one, improvement to Savant, and Savant Threat Analysis, which is our Hadoop-based analysis system, we can talk about later if you want it in the question-answer. We've built the TraceCop machine learning capabilities into a new platform along with adding some new TraceCop datasets, and started work on novel new kind of security solution in the zero trust space which complements Savant and STA without competing with it. We also built cash, paid off our debt, and hired some new staff to help our push into the new areas. As you know, I hired a new salesman to push Savant and Savant Threat Analysis into the Department of Defense space, into groups that we didn't know previously. And he got on board in Q3 last year. Far from being just a salesman, our new hire has a bachelor's, master's and doctorate in electrical engineering, and is one of the best cyber security folks around. As we've grown into this new area, I've been excited about what we've started up and new customer projects and portions of DOD who I've never worked with. To that end, we compiled a list of DOD entities that we should call on and we've also brought the list of program where he has connections; previous connections too and he began interacting with them for sales opportunities. So today, I'm happy to report that via his efforts, we've developed relationships with four new customers who are in the process of putting new contracts in place for us. These four represent $6 million to $8 million of potential orders this year, that's a potential orders we actually haven't forecasted, so not Pie in the Sky [ph] potential. And the first two are proceeding to contracts on their first few items to put under contract as we speak. By my count, we took the 16 we were working on in Q4 and turn four into the forecasted orders in 2020. In addition to those four, we're now working on 19 new prospects, and expect that pipeline to grow throughout the year. The ratio of larger projects continues to improve. Also, we've pushed hard to develop new relationships, we've built some good ones, and to our surprise, I found a number of teams that already knew us and we're looking at solutions right in our sweet spot. So we've had one of our Savant STA customers refer us to two companies in their industry that have suffered breaches while our customers stayed safe. We see that as a great opportunity, but one where we don't have enough staff to go engage the wider commercial marketplace. Even though we have a few good customers purely in the commercial space, ready to offer good referrals; further, over the last quarter, we've been pondering how best to expand our marketing and sales. To that end, I've been talking to a few potential partners or those who can introduce us to potential partners as a way to expand the sales of our products outside our normal DOD, customer base. No question will find some success and instrumentation of DOD with STA and Savant this year, but we believe the broader commercial market is ready for a more complete solution. So back to our renewal of the two non-automatically new [ph] projects. Last week, our customer for last year's $2.4 million project that ended in September told us that their goal is to have us back under contract and billing by April 1. And towards the larger of the two, they have one data purchase order that they might even get out in March. But we'll see about time where that gets us to March or and billing in March or April. But that will give us back towards the level I guided last time about those two combined being about half of last year's run. This project has several elements in the trace comp in Savant space, which are ongoing, and we've discussed before. But one of the prime movers is a new technology been working on for about six months. If we going to go through the goals of a defender, his job is to make it harder for an adversary to penetrate, to operate, and remain undetected in his infrastructure. So far our Savant, STA and Savant products and TraceCop as well, primarily address just two of those three. They help you prevent an adversary from operating and remaining undetected in your network, unless you trace some and attribute them, and it doesn't stop them from initially penetrating. So last year, we participate in the conception of a novel way to make it harder for an adversary to penetrate to. This is the area which is proven most elusive because a large number of unaddressed threats and realities, which I won't bore you with on this call, but we can talk about that separately if you want. This new thrust will make it much harder to penetrate a network in the first place, and harder to spread through an enclave by changing the approach radically. For sure this is what all antivirus and security products are marketed to do. But the ongoing number of breaches and huge sums of money being paid as ransom where criminals underscore that the world's current enclave network, desktop and post penetration defenses, just aren't working. This new set of solutions will be novel and greatly reduce the number of advertories [ph] and methods that can stay in the compromise game. We've worked out that there'll be a free version available to DOD and perhaps others in the federal government, but Intrusion will offer paid subscriptions and services to layer on top of the solution. And depending on that, like I said before, we believe that the $2.4 million will be back under contract and billing in Q2 and they have some funds to commit towards a larger contract that was not auto renewed from the original team that sponsored it. As I mentioned last time, it looks like the two will run about half of last year's revenues initially, but with the net upside as we booked the other four new businesses opportunities discussed above plus a few others will increase as above that. We will make sure to keep our customers happy as we always do and continue to add new and ever larger opportunities to our pipeline for next year. We were disappointed that funds our customers would have competed for to renew or two non-automatic renewals went on 100% -- I assume went 100% to the wall. But we've doubled our sales efforts to fill that potential hole with new projects, only to learn last week that they expect us to have us back under contract in Q2, as well. So we're excited to see that our new sales efforts have stirred up new opportunities, as well as seeking a sales partner to further add to our sales channel and optimized shareholder value. Mike?

Joe, thank you for your business update. You covered a lot of ground and we have a lot of work and challenges in front of us. Thank you for your attendance today, and for your continued support of Intrusion and special thanks to our dedicated employees. We have a tremendous team here at Intrusion. I'd like to go ahead and the prepared remarks so we could get on to the questions. Operator, could you please remind the participants how to queue up for questions?

Thank you, Michael. [Operator Instructions] We have one question from Howard Brous. Your line is now open.

Thank you. Mike, Joe, basically, this whole issue for the first quarter and this was not a surprise was the United States budget, is that a fair comment?

Absolutely.

And personally, I believe your wall is infinitely more important than the other wall that people are talking about, but that's just my own personal opinion. Just going through a few items that I'd like to address given the budget the way it is. Going back to discussions we've had in the past, they've been several Savant and Savant STA orders that you believe were in the pipeline; can you discuss those in particular? There was one for $2 million to $3 million and one for maybe $6 million or $8 million. Where do you stand on those in particular?

The one, six or eight has not -- I'm still interacting with the team but it hadn't gotten down to plans, I don't know if they've delayed, it was moving into a new facility. I'm not sure their timeline but I'm still talking to those guys about every two weeks, it's not dead but it's not imminent. At first I thought they were going to be moving in by June and we're placing the order about now, and it looks like they're placing orders maybe by June. So, not dead but not as hot as I wanted it to be. On the other one, it was going to be a couple of million -- that one is actually one that's developed pretty well. We've got -- we're engaged with a couple of outfits in DOD that are charged with a wider responsibility to basically chase down problems as they occur in real-time by sending teams on the ground to go sniff out what's happened when something happens. And then there are also some proactive elements that go out and instruments DOD contractors or help them with what to do, and that's kind of in the middle of what we've been working on for the last quarter and that actually looks pretty decent. But what's interesting, Howard, is that what I didn't expect is I thought we would be only instrumenting with our higher Savant and adding -- basically our own data and our own analysis only. And the teams that we're working with actually have a lot of history and a lot of instrumentation already there, and so there are actually a number of these new opportunities in that $5 million to $8 million I mentioned of the new stuff is actually going to be us enriching with our STA enrichment products, their data, and then do an analysis of the combination of our data plus their data, which is better for us in lots of ways.

Absolutely, I understand that. When we looked at the third quarter, it was about $3.5 million in procurement and $6.5 million hope to go into procurement. Where do we stand not on a $3.5 million but on the potential of $6.5 million in procurement? And that's without those two large orders. Is that a correct statement?

I think I was still hoping that the $2.4 million would come in the fourth quarter, which it did not. And so what was the bookings fourth quarter, Mike?

I don't have that right in front of me.

I think the delta between that number and what we booked was the $2.4 million by Joe's mind and Mike is the financial wizard, I'm the techie-engineer guy. I think we've got $4.4 million, so the Delta is $2.4 million that didn't come in on the one renewal.

Has anything come in from January 1 through today that you haven't announced?

I can't recall exactly which ones came in.

We've had some but we haven't announced any of the new ones yet. But as I've kind of inferred here, we've been holding our breath waiting on some of the…

No, we've haven't had any of these new customer orders come in?

No. So we're just -- after this call, I'll end up finishing the proposal for the first of the four which we'll submit tonight and they'll have us under contract by March 2.

So I understand that basically the shortfall isn't your business, it's procurement from the United States government?

Correct.

That -- has that process, wrong word, but basically, you're seeing it open up and having the ability, once you get the contracts to put them into procurement, and have them accepted, fair comment?

Correct. And then -- in further, some I didn't say in the prepared remarks, but is nonetheless true. I haven't had anybody telling me that that all this money got swept for the wall. But you know, where did they get $2.7 billion other than stealing everybody else's lunch money? And so what we did starting in October, is we actually hunted down programs that were already funded that couldn't get their money stolen because they were too important, if you're going to ask them, "Do they have the budget?" and then we engage with the guys that had the money. So like the Jesse James story; you robbed banks because that was where the money was. We've been prospecting people that we knew had money, and wouldn't have to wait till next September to get done [ph].

So were you looking at notwithstanding the issue of timing which obviously, isn't hitting the first quarter. But basically, if I add up all of these contracts that you'd expect the ones -- for all of these, you're talking about $18 million in contracts. Does that sound about right for this year?

I don't know if we --

I don't have a reason to doubt your numbers there, Howard.

Okay.

So, I think -- I'm sorry to add up but the potentials plus the run rate, it might not be a little less than that but that's roughly, right?

Yes, right. That's all I have for the moment. I'll come back in a moment in a little while. Thank you.

All right. Thank you, Howard.

[Operator Instructions] We have our next question from Ross Taylor [ph]. Your line is now open.

Thank you. As Howard said, I am not surprised by the fact that you weren't able to really kind of kick the top line into gear this quarter since it does seem that we are playing politics with our national security again, but that's an editorial comment. R&D and sales increased fairly significantly year-over-year in the fourth quarter. I assume the R&D is the new product initiatives; can you talk about how long you think it takes to get that R&D money into sales revenues? And how big the market opportunity is that you see in these new products?

Well, the R&D increase was because we normally had those folks under cost of sales working on billable projects. And they weren't working billable projects as normal last year in fourth quarter.

And I would take that one step to more extreme, the amount of R&D we had last year was smaller than we would have otherwise wanted it to be. Because we've just -- we're out people, so we've got those two big ones, we basically stalled [ph] all of our R&D. Right now, as Mike said, we've got more on R&D than we would wish just because they're not building on these contracts, we don't have any yet. But to your point about the size of the market, and what are we spending money on; there is a number of brand new things that we're doing that I'm pretty excited about. For example, one that we've pondered for a long time, and have not done as much of it as I expected to do is monitoring multi-level networks where you can have top secret and secret, non-classified in the same building to actually put together instrumentation on all three networks, to see if something happened. And you can have a bad guy move a file by hand, from the top secret to the secret network by mistake, and we like our instrumentation to be able to catch that. So the R&D we've been doing is to address some broad problems that just don't have viable solutions. We've had that in Savant to do check sums within the ability to compare them. We're adding a bunch of functions to expand our market. The other piece I think is substantial, Ross, is the automatic creation of reports. As we've done, relatively a few amount of customers, and we're looking at suddenly doing reports for upto 7,000 or so customers. You can't do that by hand because there are just not that many wizards. So we've spent a good part of the last two years doing machine-generated auto reports so that when the gusher occurs and we hit that elbow, we won't be out trying to hire people that don't exist.

Okay. So it sounds like you have a lot of really strong opportunities, you're looking at what should be another year that generates you some nice top line growth. Obviously, you have wild card with some projects because of the way the feds are spending money. But you also now have paid off your debt, and you're generating pretty substantial free cash flow going forward. Have you guys retained anyone that help you advice on strategic alternatives, whether it would be the sale of the company or the buying back of stock or things of that nature? And as answer that could be a yes or no, and no comment which means yes, by the way.

I mean, obviously, we think the same things you guys think. And we're sentient [ph]. So as I've said a couple times the shape of which I'm lobbying for is, I see a huge commercial opportunity and growing that inside is just not an option. And so you can view that as partnering by various methods, and obviously, we're looking at those; and that's also kind of an interesting time-related challenge as you don't always want to wait for the next horizon but in this particular case, dang, going from government DOD to commercial is a huge swing in addressable market and potential sales and market cap that you don't want to give up on or you see that elbow, but that is essentially our -- our largest challenge is how do we find. We've played in the past and I don't know if you've been on previous calls, a couple years ago, but we had one kind of dream large partner a few years ago, and then definitely went up at about 50 customers. But then they turned around and stabbed us and took the potential business in-house and just did it with their own staff. And so we found that while they were doing it, they sort of sucked at it, and didn't quite sell the stuff that you would wish to be sold. And they didn't position it well, nor push it very well. And one of their dreams was actually to go to all of their customers, which was tens of thousands, and give an option to push a button and get a $5,000 abort. And we had that coded over two years ago, and it's sitting there waiting for somebody to care. And so that's not one of those things that falls out as quickly as I would like. It's my horizon, if you can't do in two weeks, it's infinite. And so we're working that for a while with trying to see who would be a suitable partner from a trust and a scale perspective and certainly, we're talking to other people. That's my comment in the last paragraph of efforts to stir up as well as seeking sales partner to further add to our channel and optimize shareholder value.

So when you look at this, so yes -- to me, it would make sense a couple things. One is that if you choose to stay independent, I believe you should list on a significant exchange; you should probably be retiring shares because you're going to generate free cash flow. And the other side is it looks to me that you're probably sitting in a situation where it's not unrealistic to see you potentially doubling your top line over the next two to three years, would that -- I mean, it just seems that's probably fairly achievable.

Yes.

Given the penetration of commercial and the other government business? So…

Right.

And with your ability to drop revenues through to free cash flow and to drop revenues through EPS, it strikes me as this is an incredibly -- would be a lucrative time -- because if I said if you were going to be independent, if you plan on being independent in two or three years to actually take advantage of what seems like a pretty significant dislocation in the market?

Agreed. We just didn't make quarters like last quarter any less awful, when you lose [indiscernible]. If they don't renew you just feel like, aww [ph].

Yes. Patience is not a virtue I was born with but I think that in the case of working with this administration, one has to -- I mean, obviously, you're not losing business, you're simply not getting it right now. It sounds like from the comments you're making the need, and the recognition of the need is greater today than it was a year ago?

Yes. And I was -- and honestly I was sort of purposely understating, I wanted to be -- the reason I read a few more words than I usually do is this new product that we've ginned [ph] up is not yet as important as TraceCop and Savant STA, but it is; and I'm kind of modeling it sort of like a Red Hat thing where you have this wonderful thing that you give away the DOD for free because that was the deal I made with the guy that he and I figured it out together. But it has some nice potential that I would really like to see come along because right now, as we described security market now; it's like taking puppies to a sword fight with gladiators, they're just -- that's the way we are with all of our computers, they are all made in China and I think the Chinese won on it, they put on it when they made the damn thing. And so that's -- we wonder why we've got eaten by everybody. We're going to a battle of with unarmed in the security space. So that's the business we've been in is to help make it much harder to get not detected and make it easier to trace. But then, the highly specialized niche -- I think when we get to the point where you can say, here is the thing you can download and add to your mix, and it makes it fundamentally -- you take off the table the vast majority of enemies and leave yourself with a few and that makes your day easier. And I'd say there is nothing like that right now. Everybody know as they do, but it's sort of like Stone Age solutions to warfare; you find out later they didn't work that well.

Well, I would agree with you. I have a family member in cyber in the Pentagon and I would definitely agree that what you're saying is very true, and their need to addressing it very real. I will only comment you haven't met my puppy. I'll let someone else ask some questions. Thank you, gentlemen.

We'll figure your speech didn't work right if you're dog's isn't gay [ph].

This is a terrier, but don't worry, small but tough.

Thanks, Ross.

Okay. You too. Thank you, gentlemen.

Thank you, Ross. [Operator Instructions] There are no further questions at this time, please continue.

All right, operator, we'll wrap up the call at this time. Thank you for participating in today's call. If you did not receive a copy of the press release or if you have further questions, you can contact me at 972-301-3658, e-mail - mpaxton@intrusion.com. Thanks a lot.

Thank you. That concludes today's conference. Thank you everyone for participating. You may now disconnect.