ePlus inc. (PLUS) Q1 2014 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the ePlus Earnings Results First Quarter Fiscal Year 2014 Conference Call. [Operator Instructions] Today's conference is being recorded. I would now like to turn the call over to Mr. Kley Parkhurst.

Thank you, Catherine, and thank you, everyone, for joining us today. With me are Phil Norton, Chairman, President and CEO of ePlus; Mark Marron, COO and President of ePlus Technology; Elaine Marion, Chief Financial Officer; and Erica Stoecker, our General Counsel. I want to take a moment to remind you that the statements we make this afternoon that are not historical facts may be deemed to be forward-looking statements and are based on management's current plans, estimates and projections. Actual and anticipated future results may vary materially due to certain risks and uncertainties detailed in the earnings release we issued yesterday and our periodic filings with the Securities and Exchange Commission, including our Form 10-K for the year ended March 31, 2013. The company undertakes no responsibility to update any of these forward-looking statements in light of new information or future events. I'd now like to call the turn -- turn the call over to Phil Norton. Phil?

Thank you, Kley. We posted solid results for the first quarter of our fiscal year 2014. For the quarter ended June 30, 2013, revenues grew 6% to $259.3 million, our 14th consecutive quarter of increased revenue, a clear demonstration that ePlus is building and delivering solutions that our customers demand. We believe that we have the right focus on providing advanced technology solutions in the highest growth areas in our industry, including Managed Services, security, BYOD, big data and cloud. We have over 2,300 loyal customers, the right mix of products and solutions and believe we can continue to capture market share from our competitors and wallet share from our existing customers to enhance future growth. Over the past year, we have continued to focus on our strategic growth initiatives, aggressively hiring top talent in the industry to build our sales force and sales management nationally in new locations and to strengthen our existing locations. We are hiring engineering professionals to meet current customer demand in managed services and professional services and to facilitate future opportunities in the market. And we are building out a new network operations center in Raleigh, North Carolina, to increase capacity, as well as take advantage of the region's rich technical talent pool, drawing from multiple universities and military installations nearby. Year-over-year, our headcount increased by 83 people or 10%, the majority of which are sales and engineering personnel. There is a lag between the time we hire these personnel and the positive effect on the bottom line, as it can take some time to generate revenues related to complex multi-month engineering projects. We also hired additional administrative and IT staff to scale operations as a result of these headcount investments, which are necessary to capture the market segments which we find most attractive, such as managed services and security. SG&A expenses increased at a higher rate than our gross profit. For the quarter, SG&A increased 14%. Net earnings were down slightly to $7.9 million, and fully diluted earnings per common share were $0.97 per share, as compared to $8.1 million and $1 per share in the quarter ended June 30, 2012. We are fully confident that the investment in human resources is necessary to handle expected future growth and scale our operations to meet customer demand. In particular, due to the high demand for managed services, we added 17 people in our managed services area. We continue to focus on expanding our security solutions and engineering services. We have hired multiple national security architects to drive pre-sales, customer engagements in support of our end-user sales force under the direction of our national security practice leadership. We are addressing our customers' security needs in the 3 fast-emerging areas: cloud, big data and BYOD, by providing assessments, architecture and management through our security operations center. Security is an increasingly relevant concern to all of our customers and is a fundamental pillar in our solutions graphic because it touches almost every other solution we sell, and customers are demanding it. Today, we announced our new designation as a Master Cisco Cloud Builder, Cisco's highest cloud builder tier. This specialization recognizes ePlus as having the capabilities to build and deploy cloud-ready integrated infrastructures based on Cisco solutions and technology partner cloud offerings, such as NetApp's FlexPod and EMC's Vblock. It also includes e-workspace solutions including Cisco, Citrix and VMware. ePlus has built and delivered end-to-end cloud solutions and developed cross-industry expertise and virtualized and highly agile compute network and storage infrastructures. The Master Cloud Builder designation is a strong commitment to our own branded solution, ePlus eCloud, an offering that is comprised of 4 components: cloud readiness assessments; pre-bundled, pre-packaged solutions from major manufacturer; cloud automation and management tool; and cloud support services. Our financing business exhibited a renewed strength this quarter, with lease and financing origination volumes increasing as customers lock in low interest rate. Customers are continuing to value our lease process automation using our proprietary software and processes. We provide direct tangible cost reductions and process efficiencies for the ongoing order processing of equipment, including procurement, payment and asset management. Sophisticated customers are doing leasing as a combination of payables outsourcing, strategic sourcing, procurement services and financial controls. The results is lower costs, better information and higher productivity. A significant component of the increase this quarter was leasing to the federal government, which tends to be larger transactions. Overall, our financing segment is continuing to expand, and we announced 2 new senior managers this quarter. We are also continuing to see higher origination volumes through both technology vendors and federal integrators, who appreciate our fast and reliable approach to providing financing for their customers. We continue to review many acquisition opportunities. And given our balance sheet resources, we have the capital resources to execute acquisitions and hire people in new territories. Our strategic growth plan of building a national footprint through a balanced program of acquisitions and new hires is an optimal way to build the company conservatively. We are also focused on finding acquisitions that can accelerate our growth in key technologies and solution areas. And we are committed to investing in our people, acquiring new technology solution expertise and delivery capabilities, expanding our national footprint and lowering operating costs. We are working to expand recurring revenues through our managed services and staff augmentation, leasing and Collaboration as a Service offering. Our customers rely on us for the key elements of their IT infrastructure, not only supporting and scaling their current environment, but also planning for the future, whether it is the cloud, BYOD or big data. We offer differentiated services as compared to our peer group, including asset management, supply chain services through OneSource IT, which includes optimized ordering processes, electronic invoicing and many other e-procurement functions and financial services to help our customers select, procure, finance and manage needed goods and services. In summary, we remain highly focused on executing our growth plans and improving shareholder value. At the end of this call, I'd be happy to answer any questions. But first, I'd like to introduce, Elaine Marion, our CFO.

Thank you, Phil. As Phil mentioned, we continue to drive top line growth, as consolidated revenues for our first quarter grew 6% to $259.3 million, the 14th quarter of revenue growth on a year-over-year basis. The growth in quarterly revenues is attributable to increases across both technology and financing segments. In the technology segment, revenue for the quarter increased 5.2% to $248.5 million compared to the prior year's quarter, primarily from increased demand for products and services from our Fortune 100 customers. In the financing segment, revenues for the quarter increased 28.2% to $10.8 million compared to $8.4 million in the quarter ended June 30, 2012. The increase in revenues was due to higher net gains on sales of financial assets, driven primarily by financing of federal government contracts originated through our system integrator customers and earnings generated from our financing portfolio, consisting of notes receivable and investment in leases. Year-over-year, our financing portfolio increased 8% -- 18% or $20.9 million to $138.3 million at June 30, 2013, from 174 -- $117.4 million in the prior year. We are seeing an overall increase in demand for leasing by our customer base, as well as new vendor financing programs that we have established over the last year. In the technology segment, the gross margin on sales of products and services increased 70 basis points to 17.7% for the quarter ended June 30, 2013, from 17% for the same quarter last year. The increase in gross margin was primarily due to a larger amount of revenues from the sale of third-party software assurance, maintenance and services, which are presented on a net basis. Net earnings were $7.9 million, and fully diluted earnings per common share were $0.97, compared to $8.1 million in net earnings and $1 per share in the quarter ended June 30, 2012. As Phil mentioned, as part of our strategic plan, we are aggressively hiring personnel to meet current demand and to facilitate future growth. And as a result, in the technology segment, total overhead expenses increased $35.6 million for the quarter compared to $31 million in the same quarter last year. We had 860 employees in the technology segment as of June 30, 2013, as compared to 777 a year earlier. Most of the 83 net new employees are sales and engineering personnel, as we continue to invest in such personnel in order to build out our geographic footprint and expand our solution offering. Technology segment earnings before tax was $9.6 million for the quarter compared to $10.8 million in the same quarter last year. In the financing segment, total costs and expenses were $7 million compared to $5.7 million in the same quarter last year. The increase was driven by a higher direct lease costs due to an increase in depreciation expense for operating leases. The increase in total costs and expenses was also attributable to higher commission, due to the increase in gross profit during the quarter. As a result, segment earnings before tax for the quarter increased 38.9% to $3.8 million from $2.7 million for the same quarter in the prior year. As of June 30, 2013, we had $72.7 million of cash and cash equivalents as compared to $52.7 million at March 31, 2013. We continue to identify investment opportunities to expand the business, such as acquisition and the build-out of our national footprint. Our liquidity and strong balance sheet provide us with resources to execute quickly when opportunities arise. As of June 30, 2013, our total stockholders' equity was $246.2 million as compared to $238.2 million on March 31, 2013. That concludes our prepared remarks. Catherine, can you please open the line for questions?

[Operator Instructions] Our first question comes from John Lewis.

I just had a couple of quick questions regarding your managed service opportunity. Can you just give a little color in terms of the -- like how the contracts work in terms of -- what are the average length of a contract, how much does -- how do you price the contract, and really, what the opportunity is, given your current customer base?

John, I'm going to have Mark Marron answer that. He's our Chief Operating Officer and responsible for Managed Services.

Thanks, Phil. A couple of different things here. Managed Services, maybe taking one quick step back on this, Managed Services is one of the key areas that we think for growth as we move forward. It's basically management and monitoring different assets from servers, storage, video, security for our customers. The average length of the contract is normally 3 years. We have -- we do have contracts for as much as 5 years, but the average is 3 years.

And can you talk a little bit about the size of a contract typically? I mean, I know these are for large organizations, but is this a $10,000 contract a year or $200,000 contract? Just ballpark in terms of the opportunity that you're going after.

Hey, John, it's hard to give you an exact figure only because it's based on the different assets that we're managing, it's based on the different sizes of the companies. It can range anywhere from, effectively, $50,000 a year up to $600,000 a year, just to give you a feel of the different types of deals that we're seeing.

Got it. And if you look at your base today of 2,000-plus customers, do you think this is appropriate for a small subset or...

I'm sorry, so meaning, when you say a small subset of those [indiscernible] we actually -- we actually feel that this is a service that many of our customers are looking for. So of our 2,400 customers, we feel our Managed Service capabilities would be a fit for most, because in a lot of cases, we're selling the servers, the storage, the networking and the things that they're looking for a company like ePlus and this service to provide for them. So it's actually a natural fit for us to go back to all of our existing customers with our Managed Service offerings.

And you guys are in position to do that today?

And we are in position to do that today, and we are doing it.

John, John, this is Phil. One other thing on that is what we see is customers out there are restrained on budget for IT, that they are trying to outsource some of the functions they used to do themselves. And this is one important function which we can -- bring more talent to the table than the people have internally. So we can do a better [indiscernible] balancing of the hours worked and be able to charge a higher fee at still a lower cost for our customers.

While you're rolling this out, is this holding down earnings in any way? Is there a lot of front-loaded costs in this business?

Well, if you look at the way these contracts go, it's almost like infrastructure as a service. We have a lot of costs that go into making the Managed Services big enough. We have people we have to hire in advance based on our projections. And the contracts come over a 3-year period of time. So as we build up the base, it starts to produce very high margins, but it costs us a little bit for the period of time until we get -- build up to a breakeven.

Our next question comes from Gregg Hillman, First Wilshire Security.

Just, I guess, 2 questions. About your Systems integer [ph], how many dedicated programmers do you have working for the company right now?

How many -- sorry, Gregg, I'm not sure we understand your question. How many dedicated programmers working for ePlus or?

Yes.

We don't typically have programmers. We have engineers. We don't really -- we don't write code or software, except for ePlus Systems or the procurement system. Is that what you're referring to?

Yes, I'm not talking about software programmers, people that write code.

Okay. For our ePlus Systems, we probably have, probably, 25 to 30 programmers maybe.

Okay. And -- okay. And do you have other programmers for other divisions?

No, ePlus Systems is the only part of our business where we have our own proprietary software. The other software that we sell is a third-party software.

Okay. And are these programmers working with, like, your procurement suite of products or are they working -- doing something else?

Yes, they are working with our procurement suite of products.

Okay. And then -- and Phillip, I had a question for you just in terms of kind of like critical mass for the company. I -- it's -- the company has grown so fast. It seems like, at some point -- how did you get to critical mass, and then to get to this platform that you're growing from right now, and do you need to build out your platform for growth any more than where you're at right now and what you're trying to do, so you can grow faster in the future?

If you look back a couple of years ago, our earnings were flat, so we were adding a lot of people for taking on a new business and it significantly changed the business by having more engineering talent and starting up Managed Services. I think that's going to be a factor of how fast we grow. There's -- we're not someone that's trying to actually hire a lot of people unless we know there's a need for it. So we see the need today. And as we get more volume and more business, the requirements to add other people will diminish.

Okay. And what's the importance of your brand right now? Does the ePlus brand have value or some of your other brand -- do you go to market under other brands than ePlus?

Not really.

Okay. And then does that have value or is it just the relationship with the series of companies you bought over the years, with their customers and gradually just building up? Or are you like -- or have you reached such a critical mass, if there is such a thing, in value to the ePlus brand?

I think, slowly but surely, we're building value in ePlus brand. But to this point, it's really regional, and it's really the ability of our sales force, which is very large, to get out in front of customers and provide events, of which we do a significant number in each one of our regions. And I think that's really where the branding part comes in. But in general, today -- up to today, it's been really salesmen on the ground and engineers providing services to our customers.

Okay. And then in terms of the way you positioned your managed services relative to other offerings, there seems to be like a lot of managed service companies for cloud computing and whatnot. Is it basically that you're just able to sell [ph] because you have more feet on the street and customer relationships that eventually leads to managed services? Or do you -- is your Managed Service offering really differentiated and unique or better than something else that's currently out there?

Hey, Gregg, this is Mark. Here's one thing that'll maybe kind of give you a better picture. What we believe we have at ePlus is we have the ability to provide the full solution that our clients are looking for, which means from the upfront assessment, sitting with clients, assessing their existing environment and this new environment they're moving to, providing the analysis and the solution that they're looking for. And then on top of that, being able to provide the Managed Services staffing and other flexibilities that they may look at in terms of how they purchase or procure other product. So the big picture message is, they're able to deal with ePlus for all those different pieces as compared to dealing with multiple different resellers and/or vendors.

So nobody else does -- don't the other VARs do the same thing?

Well, not all -- no, not all the VARs, no. Not all have leasing, for example. Not all have procurement, not all have managed service capabilities. So if you look at where a lot of our clients are looking for, most of them are looking to, obviously, reduce their costs, they're looking to consolidate the vendors and/or resellers that they deal with. One of the strengths we have is that we can address things in each of those 3 areas. The other things that we do, as it relates to managed services, it ties to all the key areas -- or I should say focus areas of where the market is going. So if you look at BYOD, big data, cloud, security, we have managed service offerings that tie into selling both of those products, being able to implement and install those product for our clients, and then optimize that solution by providing managed service capabilities as they go forward.

Okay. And there's not -- but you're not unique in this offering, but there's not -- so how many other people have the same capabilities set that you do in the country right now?

Well, we'd like to think we're unique, but maybe that's just my opinion, Gregg. In terms of overall, I couldn't guess right now in terms of how many different resellers have all those capabilities tied together.

Gregg, this is Phil Norton. But I think that size is an important factor here and the ability to grow this and having the capital to be able to invest because it's heavy investment. And then to be able to provide different services from a monitoring and to -- threat analysis from a security and other issues that may come up and be able to actually send people to be able to determine what the problem is and take that requirement away from the manufacturer. And the manufacturers are moving more and more to having the partners do the work versus themselves, so they reduce their cost. So I think the future is going to be significant for us.

Right. So -- and then in terms of what's your size relative to your addressable market?

What do you mean by that?

Well, for this new -- your new beefed-up company with all the additional services, what will be the addressable market? I mean, I guess, just for a VAR, I guess it's -- it must be a lot bigger. It's in the tens of billions maybe. But all these managed services offerings, too, I mean, I'm just trying to get a sense of -- I guess, I don't know, there's a lot of different markets. I want to get a sense of what your addressable market is and your share of market for some of the various sub-segments you're addressing, in particular, procurement software and managed services, for example.

Well, I think it's a very big market, if you look at -- we are -- $1 billion is probably 0.1% of the addressable market in the country. We have 2,000 customers, that gives us a base that's significantly higher than most of our competitors. The amount of capital, as I mentioned before, to get in this business and to be able to provide this service is significantly higher than most people have on their balance sheet. I think we are positioned better than most of our competitors because we have a strong balance sheet. We are able to invest in these new opportunities, and I think it's a limited number of VARs, and I think in today's environment, I think we look much more like an integrator and being able to provide complex solutions to our customer base. And we're driving higher up into the market, into the higher mid-market, into the enterprise and having a lot of success there.

And then so do you think the current situation, your size will result in another round of consolidation in the industry because a lot of people can't keep up with you, so to speak?

Well, it's not just keep up with us. There's other people that are in our peer group that are also, because the market is so big. There's no way that we can cover it. But I think -- I call it the have and the have-nots. People who have invested heavily in engineering and very talented people are the ones that are being able to provide the best services to the larger customers. The vendors themselves, whether it's HP, Cisco, EMC, are all moving towards the channel and trying to get them to drive more services and be able to provide to the bigger customers. And that takes a significant amount of resources. And there -- I can't give you the exact number, but it's very small, the number of people who can do that. So I think we're significantly differentiated ourselves as one of the ones that have the capabilities, and then most of the people don't have the money or the capabilities.

So you have a lot of runway left to grow? There's no reason why you can't grow a lot in the next 5 to 10 years?

Well, I can say this. We continually try to plan where we're going. We think that the opportunities in the market are significant. And we think that we have as good or better reputation. We've been able to help our customers architect and design cloud offerings, as well as the managed services. And that's a significant growth part of the business also. And I think that we are well positioned to capture market share from our competitors and prove our offerings to our customers.

I'm showing no further questions. I would now like to turn the call back to Phil Norton for any further remarks.

We'd like to thank you very much for taking the time to join our conference call. And if you have any questions, please feel free to contact us. Thank you very much.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.