NetSol Technologies, Inc. (NTWK) Q1 2013 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the NetSol Technologies Reports 2013 First Quarter Results Conference Call. During today’s presentation, all participants will be in a listen-only mode. Following the presentation, the conference will be opened for questions. (Operator Instructions) The conference is being recorded today, Wednesday, November 14, 2012. And at this time, I’d like to turn the conference over to Patti McGlasson, General Counsel. Please go ahead, ma’am.

Good morning, everyone, and thank you for joining us today to discuss NetSol Technologies fiscal 2013 first quarter results. On the call today are Najeeb Ghauri, Chairman and Chief Executive Officer; Boo-Ali Siddiqui, Chief Financial Officer; Naeem Ghauri, President-Global Sales and CEO of NetSol Europe and Vroozi; and Shaz Khan, COO and co-founder of Vroozi. Following the review of the company’s business highlights, financial results and discussions of the company’s strategy, we will open up the call for questions. I’d like to remind everyone that today’s call is being webcast at www.netsoltech.com. Following conclusion of the call, the webcast may be accessed on the NetSol website, where it will be archived for 90 days. A dial-in playback of the call will also be available for one week. Additionally, all of the information discussed on today’s call is covered under the Safe Harbor provisions of the Litigation Reform Act. The company’s discussion may include forward-looking information reflecting management’s current forecast of certain aspects of the company’s future. And our actual results could differ materially from those stated or implied. These forward-looking statements are qualified by the cautionary statements contained in NetSol’s press releases and SEC filings, including its Annual Report on Form 10-K and quarterly reports on Form 10-Q. I would also like to point out that NetSol will be discussing certain non-GAAP measures. And the release issued earlier today contains reconciliation of these non-GAAP financial results to the most comparable GAAP measures. With that said, let me now turn the call over to Najeeb Ghauri. Najeeb?

Thank you, Patti, and thank you, all, for joining us today. I’m very pleased to report a record first quarter revenue results. To look at where we were in the first quarter last year to then come back to record of strongest first year ever, it validates that our primary strategy to build out additional delivery and support capability in Bangkok is indeed working. A fact that is clearly apparent in our results today is a move that positions us for sustained growth in the future. As I’ve previously described, we are witnessing a fundamental shift in momentum throughout the business, a shift that is now fully underway. Throughout NetSol, we are energized like never before. We’re closing new deals. We’re reducing implementation cycles. We’re conducting more customized project, including consulting engagements and enhancing maintenance revenue agreements and improving our services billings. And we’re already witnessing some success with our strategy. I’m very pleased to report that during the quarter, we completed several NFS implementations, with a number of them just in China. While we may not be able to publicly announce every deal due to customer non-disclosure clauses, what I can say is that some of the completed implementation in China includes such industry leaders as Chongqing Auto Finance, JAC Santander Leasing and Mercedes-Benz Leasing Company. China continues to be a strong source of growth for NetSol, with our NFS solutions fitting squarely into the ongoing shift towards leasing in the country. In fact, Mercedes-Benz Leasing in China was only just recently approved as the first automaker in China to offer leasing options to private and commercial customers. This is important to NetSol, as it is prominently positioned in the middle of this trend, providing the leasing software solution to make this happen. Leasing for auto loan business is…

Thank you, Najeeb. Our results indicate that the strategies we put in place a year ago are now coming to fruition. We’re already delighted to have recorded our best first quarter to-date. Total revenue for the first quarter of fiscal 2013 was $11.1 million, up from $6.2 million in the comparable period last year. License revenue was $3.2 million compared with $1.1 million in last year’s first quarter, stemming from the addition of two new NFS customers. These new customers represent more than $4 million in combined license, maintenance and service billing. Maintenance revenue remained steady at $2 million, approximately equal to that in the same period of last fiscal year. With several implementations completed towards the end of the quarter and several lines in the last stage of going live now, our maintenance revenue for the current fiscal year will continue to trend up. Services reached $5.8 million from $3.1 million a year ago. Sequentially, services improved approximately 10% from $5.2 million in the fourth quarter fiscal 2012. Services revenue received a boost from additional consulting engagements along with a contribution from our Virtual Leasing Services subsidiary in the UK, also known as VLS. As Najeeb mentioned earlier, VLS is now experiencing greater business volumes. And, as such, we expect services revenue to improve going forward. Revenue in excess of billing reduced to $10.5 million in the first quarter of fiscal 2013 compared with $12.1 million in June 2012 due to further invoicing to the customers. Gross margin for the fiscal first quarter was 48% compared with 34% as reported in the comparable period last year. The year-over-year difference relates to the decrease in business activity experienced last year. The operating expenses for the first quarter of fiscal 2013 were $3.8 million versus $3 million in the first quarter…

Thank you, Boo-Ali. Indeed, we’re very pleased by our results and actions taken to position NetSol for future growth. Among those growth initiatives, I am excited about the recent developments in our Vroozi division. For those of you who are new to NetSol, Vroozi is a wholly-owned subsidiary of NetSol Technologies that offers its B2B e-Procurement cloud solution. Vroozi launched smartOCI last year to the SAP community and immediately gained traction as it solved two critical issues that ERP customers face, that is, ease-of-use and catalogue content management. With the new Vroozi platform release, we are able to integrate to other ERP systems, helping companies of all sizes to collaborate with their suppliers. This plug-and-play cloud e-Procurement solution is changing the game on how companies manage their procurement budgets. To discuss further on Vroozi and provide an update on recent developments, I’d like to turn the call to Shaz Khan, who’s our COO and co-founder of Vroozi. Shaz?

Thank you, Najeeb, and good morning, everyone. As Najeeb just described, Vroozi was founded to help companies of all sizes and industries transform their supply chain operations. Our mission is to deliver innovative e-commerce solutions that help companies discover, search, negotiate, and order goods and services from suppliers all over the world easily and efficiently. Our first product to market was smartOCI, a new search engine technology and buy-side content marketplace provider, which allows corporate buyers and shoppers a simple and intuitive user interface to search multiple supplier catalogues within their SAP procurement systems. And to market this product, we formed a division to provide a dedicated sales and delivery channel for smartOCI, as well as develop next generation e-commerce technology. On that note, today, I am proud to announce that we’re now offering Vroozi services under a software-as-a-service model, offering businesses of every size, the ability to search, source, negotiate and order goods and services from suppliers electronically, optimizing the procurement and supply chain operations. While some organizations can log in and use our software immediately, others may require some additional assistance. To meet that need, we’re also offering professional services to assist with setup and data migration, supplier catalogue enablement, marketplace training, and other general support. This differs from a smartOCI implementation, where all of these services are included within initial implementation feat. With this new offering and to help further increase brand awareness and the ultimate adoption of our products, I’m also pleased to announce that we recently welcomed Ivy Montgomery as Vice President of Marketing for Vroozi. Prior to joining Vroozi, Ivy held leadership roles at SAP, Oracle and PeopleSoft. Her addition is a great win for us as we ramp-up our marketing and business development efforts. To learn more about the products, the pricing model, the management team, I would like to encourage everyone on the call to explore the new website, a site that we just launched at www.vroozi.com. With that, I would like to turn the call back over to Najeeb. Najeeb?

Thank you, Shaz. With Vroozi solutions now being actively marketed in North America and European market, and through the addition of talented management team, we are very excited about the prospects ahead and look forward to an increased revenue contribution from the division. Now let me turn our attention back toward our next generation solutions, where we are actively marketing solutions, especially in the Asia Pacific region. About three years ago, we embarked on building a next generation NFS solution, a cloud-based solution as well, with new features and flexibility. To all three of our major geographic regions, while it took some time to develop the technology, we feel it will be a game-changer for NetSol, elevating us to the next level of growth over the coming decade and allowing us to penetrate in the North American market where we believe we will be the first to market with such a robust solution. We’re currently actively marketing next generation in the APAC region and expect to roll it out in the U.S. early next year. In summary, we have the growth drivers that we anticipate to more than double the revenue in the next three years, which is capacity building; continuously hiring new IT talents and senior managers to manage the growth, to penetrate next generation NFS in all APAC region, North America and, of course, Europe; major boost in services and implementations due to strong pipeline in place for core offering; and successfully build up Vroozi division which is the second only IP the company has after NFS. We are all very excited about the road ahead and opportunities before us. I like to thank our loyal customers for their business and relationship and long-term partnership. I like to thank our employees for their hard work and dedication. There’s a reason why we had record revenues in the first quarter ever and that is the result of our employees talents, hard work and commitment to NetSol. And finally, I’d like to thank business partners and our shareholders for their continuous support and belief in us. We all have your vested stake in this company. And our priority is to continue to enhance the long-term value of our company. With that, I’d like to open the call for questions and answer, please. Operator?

Thank you, sir. Ladies and gentlemen, we will now begin the question-and-answer session. (Operator Instructions) Our first question comes from the line of Howard Halpern with Taglich Brothers. Please go ahead. Howard Halpern – Taglich Brothers: Congratulations, guys. Great start to the fiscal year.

Thank you, Howard. Howard Halpern – Taglich Brothers: Could you describe a little bit what opportunity or service opportunity is in the Middle East because I know you had some contracts that you discussed in the prior quarter? Are they completed and are you getting more traction in the Middle East?

Howard, in the Middle East, we have a joint venture with a very established, diversified group, Atheeb Group, in Saudi Arabia. And we have a team of almost 12 people from NetSol and our partners who are based in Riyadh. We are basically going after public sector. Now, Saudi Arabia is one of the fastest growing economy and they’re investing billions of dollars in infrastructure, whether it’s education, IT, banking or building new sectors to grow their economy, not depending on the oil anymore, the defense administration. We believe those are the projects that we are working after with the help of our partner, Atheeb Group. Now, our belief is that this is a long-term strategy. To be present in that market with a most well-known, credible partner is a big success for us, but the team is building the pipeline to work on the big projects. It may not be a market for the NFS goal that we have, but it is a market for a public sector, we believe, that has exclusive IT partner. Through Atheeb Group, we can generate long-term stronger earnings in that region. And our agreement basically includes nearly every single GCC nation, all the neighboring Middle Eastern countries. The Saudi Arabia could be a potential for us. It’s a long-term thing and we are really investing our time and patiently looking for the future results. Howard Halpern – Taglich Brothers: Okay. Well, that sounds good. In terms of Vroozi, how many customer implementations have been completed and how many more are in the pipeline for the next couple quarters?

Yes. Shaz will jump in.

Howard, good morning. Howard Halpern – Taglich Brothers: Morning.

We have 13 customers signed to-date, of which eight are live transacting on our platform today. And we have a very, very strong pipeline right now of customers all over the world. Howard Halpern – Taglich Brothers: Okay. And what type of – on a relative basis, if you have the information. If you’re able to migrate more towards that SaaS model, what type of leverage will that give you on the gross margin line?

Right. So initially, when we’re looking at best-in-class from a software-as-a-service and realizing recurring revenues upfront, we’re targeting anywhere from 40% to 55% gross margins. Howard Halpern – Taglich Brothers: Okay. That sounds good. And in terms of, I guess, turning to the new service that you’re going to be offering to the VM, the cloud service, what type of gross margins are we looking at for that operation, once it gets on solid ground?

Right. So, Howard, as you know, infrastructure-as-a-services continue to be a very, very big area for companies to invest in, as they start looking at other avenues to host and manage their business processes and applications. We would be very aggressive in this front, looking at 50% plus margins in this business. And the value play really with a virtualized instance is that it’s a no-plus contract, pay-as-you-go, and you get a lot of speed and storage for the service that we’re providing. Howard Halpern – Taglich Brothers: Okay. That sounds promising. And turning to – I guess you talked about earlier you need – the need for people. Compared to what your head count is now, to achieve the top range, if you were to achieve $49 million in revenue for the fiscal year, how many additional people will you need to hire throughout the fiscal year?

Naeem, you can also step in because Naeem is very hands on, meeting the requirements for Asia. Naeem, you go ahead.

Yes, sure. Well, Howard, the challenge here is not so much just scaling the operation. What we need to do is the people that we already hired, the training and orientation with the product, the domain, that’s the key challenge. So I believe today, to make the $49 million, we’re adequately staffed. However, the main hurdle to overcome is training people that we hired. So, who we’re hiring now going forward are for actually beyond the $49 million for the next year – next fiscal year. So we are actually hiring a year ahead before these people become productive. So the recent hirings have all been for the current guidance and then the hiring in the future, three months to six months, is going to be for the fiscal beyond 2013. Howard Halpern – Taglich Brothers: Okay.

I would add one more comment, Howard. Howard Halpern – Taglich Brothers: Yes.

To Naeem. When you see our guidance of $0.80 to $1 for this fiscal year... Howard Halpern – Taglich Brothers: Right.

The CFO and the sales team has worked diligently to factor some of the new hiring in the estimates. That way, hopefully, there weren’t any surprise in terms of cost run-up. But like Naeem said, we’re really positioning – as I mentioned in my prepared remarks, really position the company for a bigger growth which is $80 million, $90 million, $100 million range in next two years time. That’s why we’re really investing in – the best asset is our people, whether they regard for the Vroozi expansion growth or Asia Pacific or even the U.S. market where there are key goal business. Really it is a future strategy to build the future revenue to double the $100 million range and I think the company is really well-positioned and geared up to achieve those – both revenues and the bottom line numbers. Howard Halpern – Taglich Brothers: Okay. One last question, because you talked about it a little bit in the press release. This was a record first quarter, very robust and how the second half is normally better than the first half traditionally. Is that still going to be the case this year or you think you’re going to even out a little more between the first and the second half based on the first quarter results and hopefully a stronger than normal second quarter too?

I’ll ask my Head of Sales, Mr. Naeem, to come in and help you with that questions.

Yes. Well, ideally, in any country, you would like to have four equal quarters. We have more predictability and we’re able to give you guidance more accurately. But, as a company, over the last 17 years, we have always found that our business is really not front-loaded. So first quarters typically in terms of sales cycles, we don’t get a lot of the decision-makers giving the green lights on the contacts. So really, for us, it’s still typical. The first quarter is seen as the lowest. We are already seeing better traction in the current quarter. So, I think we’re going to do better. And the last two quarters – traditionally, the last quarter has always been our best quarter. So, I don’t think that’s going to change so dramatically this year. It may be a little bit more even out but it still, I believe, would be -the last quarter will be – still be the biggest quarter and the first will still be the lowest. Howard Halpern – Taglich Brothers: Okay, okay. Thanks and keep up the great work.

Okay. Thank you.

Thank you. (Operator Instructions) Our next question is from the line of Mike Vermut with Newland Capital. Please go ahead. Mike Vermut – Newland Capital: Hi, gentlemen. A great quarter there.

Thank you. Mike Vermut – Newland Capital: A couple of quick questions for you. You mentioned the increased hiring in the quarter, I guess, on programmers. Can you just – if we were to strip that out to look at the margin because you had a fantastic revenue number. I’m trying to normalize your margin to get to what it would have been had you not had that increased hiring and expense in the quarter.

Yes. Mike Vermut – Newland Capital: Is there any way you can do that for us?

Yes. We can answer that. Mike, the fact is that we’ve been increasing our staffing level, both for the Vroozi which is still a new division for us. We hired some key personnel in the Q1 quarter. We’ve also been hiring in the (inaudible). If you just totally back out those new hires which is, like Naeem said, positioned for the growth, not for this quarter, but really for the long-term and we can sacrifice the growth and double up the margin, net income, for example, or we can double 48% gross margin to close to basically 55%, as Boo-Ali has reported. So really, it’s a strategy that we are building to make sure that we are capable with the capacity, building and expansion infrastructure in all the key places to really support the much bigger revenue base. And like Naeem said, this is really not for today. This is really for tomorrow. And yes, we have to sacrifice some margins because we’re hiring. We’re training them. We’re putting them to work, to be productive both for the new division and, of course, our core business. So, in reality, yes, the margin is going to be a lot higher. But then we have to sacrifice and we don’t want to hurt the growth that we’re looking into in the future next three years. Mike Vermut – Newland Capital: Is there any way you can quantify the impact on margins?

Yes, let me just…

Yes.

Answer that Mike. This is Naeem. We said if we could normalize the numbers and if we didn’t have the additional hiring, I would say we have about 80 to 90 resources in play which have not contributed to revenue yet. These are resources that are being geared up, trained for future quarters. Like I would say they would get productive from Q3 onwards. So, we can make our yearly – this year’s guidance of this $49 million – $46 million to $49 million with about 80 to 90 people less than what we have. And I don’t know in terms of cost, if Boo-Ali, the CFO, maybe if he can give you an indication. That would roughly speak for about $1.5 million a year – year-on-year cost, I think. So you can say that you can basically take back maybe $0.5 million, $600,000 out of the quarter, if you’re sure to take it over a year. So, essentially we are building for the future. The hires that we have are going to be effective up to 2013, 2014, in majority. And the new hires are going to be even further than that. So the answer is about 80 to 90 people. Mike Vermut – Newland Capital: New hires, okay.

Our – yeah, our new hires, yeah. Mike Vermut – Newland Capital: So the cost theoretically is $500,000, $600,000 in the quarter, right, of unproductive hires, right? That will become productive, but I’m saying just because they were hired in this quarter. Okay.

Absolutely, absolutely. This was R&D, should I call training cost. Mike Vermut – Newland Capital: Right, excellent. Okay. Another question I have when we’re talking about backlog and it sound – you sound very confident of the backlog. It seems like record levels. What are the type of contracts you’re bidding on now? Like has the size of the contract bids changed? Can you give us the scope of what you’re looking at and what you see out there to try to get this – how we’re going to get from the $48 million of revenues up to that $70 million, $80 million, $90 million, $100 million of revenues?

What’s happening, Mike, is our customer, maker has changed over the last two years in quite a dramatic way because we are now – so if in our pipeline, we used to have maybe one big and nine small and medium. We have now maybe four big and then two or three medium and one or two small. The small ones are maybe based on medium and large clients. And large are clients who would spend typically more than $4 million to $5 million on one contract in doing license and services. And that change is fundamentally happening because there’s such a lack of investment in systems during the recession and a couple of years before that that there’s a pent-up demand that basically has to resolve now. So we’re just getting out of the woodworks some very large clients. We just basically have done no investment over the last 10 years maybe. So they are now – actually now investing into systems. And these cycles of typically – in invest now, that’s a 10-year to 12-year investment and they write their systems down over that period before they renew them. So really we’re hitting some kind of good streak now. There is a demand. There is a need. And leasing and financing basically just is growing in all of the emerging markets in a big way and the penetrations are lower. So everybody is starting to get market shares and they need systems. So there’s absolutely no way you can win business for finance or leasing without a solid platform and this is the way in that solid position – so nicely in Asia Pacific, Australia, as well as in the U.S. I mean Europe is lagging a bit behind. So you will find these deal sizes are getting gradually larger than it used to be. Mike Vermut – Newland Capital: Excellent. Okay. I appreciate it. Thanks a ton for the answer.

Okay, well.

Thank you. And I’m showing no further questions at this time. I’d like to turn the conference back over to Najeeb Ghauri for any closing remarks.

Yes, thank you, operator. Thank you so much. I appreciate everyone joining us today. And we’re really excited about the future of this company. We’re looking forward to another stronger quarter going forward and we will talk to you the next earnings call. Thank you and have a good day.

Thank you, sir. Ladies and gentlemen, if you’d like to listen to a replay of today’s conference, please dial 1-800-406-7325 or 303-590-3030, using the access code of 4573511 followed by the pound key. That does conclude the NetSol Technologies reports 2013 first quarter results conference call. Thank you very much for your participation. You may now disconnect.