TSS, Inc. (TSSI) Q2 2019 Earnings Report, Transcript and Summary

Welcome to the TSS Second Quarter 2019 Earnings Call. My name is Hilda, and I will be your operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to Mr. John Penver. Mr. Penver, you may begin.

Thank you, Hilda. Good afternoon, ladies and gentlemen. Thank you for joining us on TSS conference call to discuss our second quarter 2019 financial results. I'm John Penver, the Chief Financial Officer of TSS. Joining me on the call today is Anthony Angelini, the President and the Chief Executive Officer of TSS. As we begin the call, I would like to remind everyone to take note of the cautionary language regarding forward-looking statements contained in the press release that we issued today. That same language applies to comments and statements made on today's conference call. So this call will contain time sensitive information as well as forward-looking statements, which are accurate as of today, August 14, 2019. TSS expressly disclaims any obligations to update, amend, supplement or otherwise review any information or forward-looking statements made under this conference call or the reply to reflect events or circumstances that may arise after this date indicated except as otherwise required by applicable law. For a list of the risks and uncertainties, which may affect future performance, please refer to the company's periodic filings with the Securities and Exchange Commission. In addition, we will be referring to non-GAAP financial measures and a reconciliation of the differences between these measures with the most directly comparable financial measures calculated in accordance with GAAP is included in today's press release. So I will begin the call with a review of the second quarter results and then turn the call to Anthony for his comments on the business and the changes that we see coming. So earlier this afternoon, we released a press release announcing our financial results for the second quarter of 2019, and a copy of that release is available on our website at www.tssiusa.com. Now our second quarter results were lower in both revenue and profit from the previous quarter, largely due to some customer program changes and delays, as well as some supply challenges in our integration business. Despite the lower level of revenues, we have been able to sustain positive EBITDA earnings. The comparability of our results to the previous year should also take into account the sale of our power and cooling business in December of 2018. The results of that business are included in our 2018 numbers but not on our 2019 results. I'm going to reference the differences throughout my comments to assist you in understanding how our underlying core business is performing on a comparable basis. On a year-to-date basis, our revenues are down 4% compared to 2018. Our operating profit is down $250,000. One of our goals for 2019 is to replace the revenue and profits we had in the power and cooling business, with increased revenue and profits from our core integration and facilities maintenance businesses, and with revenues and profits from new service offerings, which Anthony will talk more about shortly. So let me provide some more details on the second quarter and our year-to-date 2019 results. Our revenue for the second quarter of 2019 was $3.5 million, this compared to $5.4 million in the second quarter of 2018. Our critical power and cooling business contributed $1 million in the second quarter of 2018. So our facilities business was down $154,000 or 7%, a lot of deployments of modular data centers and the systems integration business was down $703,000 or 32%, a low level for rack and modular data center integration activities. On a year-to-date basis, our revenue of $8.2 million compared to $10.2 million in the first half of 2018, and the power and cooling business contributed $1.7 million in the 2018 results. So absent this business, our year-to-date revenues are down 4%, $365,000 compared to 2018 with the decrease being in our systems integration business. The volumes in our system integration business can fluctuate significantly quarterly, due to changes in customer demand, including demand for modular data centers, due to component availability and other factors. So because of the fixed costs associated with operating our integration facility, increasing volume and consistency within this business a key operating goal for us and our ability to improve this will be a key influence on our levels of profits moving forward. Our gross margin of 41% during the second quarter 2019 was higher than the 38% margin we had in the second quarter of 2018, and up from the 35% margin we recorded in the first quarter of 2019. Looking forward, we still anticipate our gross margins to remain between 35% and 40% on our core business. Year-to-date, our gross margins of 38% in 2019 was the same as we had in 2018. Our margins will fluctuate based on the mix of services in any given period. A slightly higher margin we had this quarter could not mitigate the impacts of the lower revenues however, and our gross profit of $1.5 million was $0.6 million lower than the second quarter of 2018. Year-to-date, our gross profit of $3.1 million is $0.8 million lower than the $3.9 million we had in the first half of 2018. If we exclude the power and cooling business results from this comparison, our year-to-date gross profit would be $0.3 million or 9% lower compared to the first half of 2018. Our selling, general and administrative expenses during the second quarter of 2019 were $1.4 million. They were down $145,000 or 10% compared to the $1.5 million in the second quarter of 2018. The decrease compared to the prior year reflects the absence of operating costs of power and cooling business in the 2019 results. There are also $134,000 [indiscernible] first quarter of 2019, due to the first quarter including professional fees associated with our annual order. Year to date, our selling, general and administrative expenses are down 217,000 or 7% compared to 2018. After all the above, we recorded an operating profit of $2,000 in the second quarter of 2019. This compares to an operating profit of $449,000 in the second quarter of 2018, an operating profit of $50,000 in the first quarter of 2019. Excluding the results of the solid business from our comparable 2018 results, on a pro forma basis, our second quarter of 2018 would have shown an operating profit of $292,000. After interest and tax cost, we had a net loss of $94,000 or $0.1 per share in the second quarter of 2019, compared to a net income of $319,000 or $0.2 a share in the second quarter 2018. On a pro forma basis, excluding our power and cooling business from the results, a comparable second quarter 2018 would have shown net income of $148,000 or $0.1 per share. Year-to-date our net loss of $125,000 or $0.01 per share, compared to our net income of $398,000 or $0.02 per share in the first half of 2018, and pro forma net income of $75,000 or zero per share in the first half of 2018, excluding the power and cooling business. Our adjusted EBITDA, which excludes interest, tax, depreciation, amortization and stock-based compensation, was a profit of $168,000 for the second quarter of 2019. On a pro forma basis, this would have been an adjusted EBITDA profit of $448,000 in the second quarter last year and compared to an EBITDA profit of $203,000 in the first quarter of 2019. Looking to the balance sheet, there has not been any real significant changes, since we reported our Q1 results. We continue to have strong liquidity, working capital and stockholders equity. There have been a number of large changes in the balance sheet, since we reported our fiscal 2018 results. These changes are due to the adoption of a new lease accounting standard, under Accounting Standards Codification Topic 842 that was effective January 1, 2019. Under this new standard, we're required to account for all our operating leases on our balance sheet, rather than off-balance sheet, as had been the norm prior to that date. Upon adoption of ASC 842, we recognized the $2 million right to use lease assets and the associated $2 million leased liability on our balance sheet with effect from January 1, 2019. Absent the adoption of this standard and the capitalization the operating leases, there were not many significant changes in our balance sheet, compared to the end of 2018. We closed the quarter with $6.1 million of cash on hand down slightly from the $6.2 million we had at the end of 2018. And then working capital positions increased by $552,000 compared the end of 2018, which was almost entirely due to adoption the new lease accounting standards, now recording a portion of this lease liability of the current liability, as per GAAP. We expect our working capital position will fluctuate during 2019, mainly due to the timing of billings under maintenance revenue contracts, but I believe we have adequate liquidity to operate the business and provide flexibility for us to exploit new opportunities as they arise. We also, in the fourth quarter of 2018, added a $1.5 million bank revolving line of credit agreements to provide an additional source of liquidity for the company. But we've not drawn against that facility at this point. So with that, I'll hand the call to Anthony for a couple of comments on the 2019 results and the changes we seen in the business going forward during 2019. Here you go, Anthony.

Right. Thank you, John. While the second quarter was a transitional quarter in our much larger journey, we are excited about the developments that are happening within the business. Before I get to that, I'll discuss the current quarter. We have some projects that were postponed and as you know, we provide services in a channel manner. So therefore there are some changes in timing and scope within a large end user that affected us in the quarter, moved out about a $1 million out to sometime in the future. Despite these events, we were -- that were mostly beyond our control, we were pleased that we were able to still achieve positive adjusted EBITDA for the 13th straight quarter despite lower revenue levels. The EBITDA result reflects the efforts we've made over the last several years to lower the breakeven point for the company. We have adjusted our level of overhead and fixed costs, so that we can remain profitable at lower levels. This also has the added benefit of flow through, so that as we add revenue in a period, the incremental profit from those revenues will drop through to the bottom-line. I am excited to tell you that we have some additional programs beginning in the third quarter. As I discuss them, I want to point out some additional information about our business that is not always obvious. Currently, the majority of our services are provided as a value-add on consigned material. We are now engaged in some programs that have us perform as a reseller of sorts. We only engage in these when there is virtually no risk as we have a delivery order in hand. In these cases, we'll procure and resell the actual hardware, software or professional services. The low, but profitable markup of the other material will incrementally add to our gross profit. So achieving a small percentage on a very large pie, while pulling through services and adding additional new partner relationships, is like winning a trifecta. If you consider that we handle over a $1 billion of hardware product alone per year, just capturing small percentages will drive very large incremental contributions to the business. Due to the nature of these deals and their terms, as of today, we don't believe that there will be any significant additional working capital requirements. I will point out that we had not taken -- that had we not taken the steps we have in the past year or two, including the sale of the business at the end of last year, we would not have been in a position to step in and win this type of opportunity. Because of our strong balance sheet and the position the company is in today, we were able to move ourselves into this opportunity. So based on that, our current picture, we expect the end of the year with revenue -- we expect to end the year with revenue in the mid $25 million to $30 million range and gross margins in the mid 20% range, generating about a $1 million of net income or about $2 million of adjusted EBITDA. As all of the areas we're focusing on have large growth opportunities, we feel that we will have great momentum exiting 2019 into 2020. I think John has covered the numbers very well, therefore, there's not much for me to add those comments. We are focused on our execution of our goals, and we believe that 2019 and beyond will be an exciting next chapter for TSS. With that, we're happy to take any questions.

We will now begin the question-and-answer session. [Operator Instructions] We have Maj Soueidan from GeoInvesting.

Hello, Anthony.

Hi.

I have a question here, so it seems like you're exploring some more organic opportunities. I'm wondering if you can discuss what that means to your efforts to diversify your customer concentration and will distract you from any your pursuit of inorganic opportunities moving forward.

Yeah. Well, so I’ll position things a couple ways. One is pedals to the metal on our organic opportunities. We think that there's enough runway and a lot of opportunity even within our core customer to drive significant growth in the business. So job one is harvest and manage that. We are looking at other opportunities to supplement and do things in organically. So, we'll continue to focus on that. The beauty of some of the programs that we just pulled in is that it keep -- puts us in a relationship with other third-party hardware and software providers. So, that gives us an initial contract relationship, which is always the toughest piece to get from a new customer diversification standpoint. So, it gives us an initial run into that company, because now we have an agreement to do business together, which is -- when you're out prospecting in our space, it's always trying to get that initial deal and get a contract in place. So, we feel very positive about where we are and we think we're putting our resources and efforts in the near term and the places that are going to give us the biggest bang for the buck.

Great, great. And now one more question and I’ll let you go. Are you seeing any positive or negative change in the industry outlook that we need to be aware of, anything in sense to status quo since we’ve talk about.

There is here. So, first off our largest customer had -- so, as you talk about things going on in China and supply chains and everything else, it is having an impact, particularly around the timing of -- getting material what -- how the supply chains, cycles, et cetera. But we're fortunate. Our largest customer has a lot of diverse or distributed relationships throughout the world. So, their ability to source and deliver with the China man if you will or the China tariff is pretty good. So we -- others -- we're going to have some timing issues where there's some disequilibrium in the market, but for the most part, we're seeing that our size and we're facing with our customer that -- our largest customer that, they get that - the demand is -- it's coming in waves, it's strong.

Great. Thank you.

All right. Thanks, Maj.

The next question comes from Yaron Naymark from 1 Main Capital.

Hey, guys. Thanks for the color. Just two questions on my end. One, I guess, appreciate the comment on project delays, China related and just, I guess, sounds like economically related. But you have visibility into your market share. And, I guess, how that's trending relative to the broader industry, I guess, it's kind of similar to the last question, just a little bit of a different way to ask it.

So we play in a few different markets. So wanted to -- like, as an example, in the modular space and modular services in the field, we feel like we're a pretty strong network, got a pretty high market share, guys that are maintaining an installed base of modular centers in the field. On the integration side, that business which we monitor, it's got -- we're a very, very small piece of a very large pie. And in particular, when we're only doing and providing services, right. So our service revenue might look low, but we're really, like we mentioned, handling a $1 billion worth of material. So, if you think about what we're doing. And you kind of say, okay, these guys are taking in a $1 billion worth of stuff. That kind of sits where we are in the market, as you know, it's a much, much, much larger, multi-billion-dollar market opportunity. So, we feel like we're just scratching the surface. But through the reorganization of the business that we've done over the last couple of years, we feel like we've now got ourselves a position in a better pure play, to take advantage of that integration business and the opportunities that are in front of us, to capture more of that total available market. Yes, and we're tiny.

So its sounds like the project delays, it's not like you lost any project that you were expecting to win or anything like that. It's purely just timing, timing related.

Yes. There's timing. And then there was some that -- there's -- so part of the business that we lost was a -- not lost but got delayed, basically about a year, is some of the work we do around our installed base of modular data centers. And at time -- points in time those require kind of refreshes. Think about it, your 100,000 mile maintenance on your car. So some of that got delayed 120,000 miles, let's call it. So, where that was part of what -- it would hit us at the end of the year as some of those contracts were renewed. We also delayed some of what we call a refresh of the hardware in the field.

Got it. Okay. Helpful. And the same question I had was, did I hear correctly, as you said for the year, you expect to do about $2 million of the EBITDA and $1 million of net income?

That's what we said.

Got it. So that implies a pretty meaningful step up in the back half, is that just the new organic growth opportunities you referenced in the call? Or is that just some of the delays getting pushed into two-half. Either you have more visibility on, or it's all of the above?

I'm sorry. Say that last part again.

I guess what the biggest driver of the step up from, one-half to two-half. Is it just the push, the project delays that got pushed from the first half into the second half? Or is it the organic new revenue opportunities you referenced on the call?

It's both. So, that's some of what we felt the effect of in the second quarter was some of the timing of some things. Those are playing themselves out over in the third and fourth quarters. So there's just kind of roll over. Right? We're never going to get this quarterly thing perfect, right. We all agree with that. As with the trends like -- so really -- so is the trend in the right direction and I think that's what you're trying to ask. So in our core business, one of our goals has been to add new programs and to get our revenue level back up -- our revenue and margin level back up to where they were last year, right. So we're effectively growing that business. What percent is that John, $4 million of growth rate to get to $22 million?

Yeah, that would have been about a 20%, 23%.

So we see that business still growing at roughly 20%, plus on top of it now we're adding these new programs. So these new programs drive -- and by the way we're sitting here in the middle of October -- August. So understand that we're halfway through the quarter. We understand what we've got to put. And this is a question of timing of delivery at the end of the quarter that's sort of why we gave you guidance for the back half of the year, because the whether – all these happens in the third quarter or it happens between September, October, November, we feel like we're going be at that $25 million to $30 million in revenue by the end of the year.

Got it. Okay. Very helpful. That’s all I had. Thank you.

[Operator Instructions] We have no further questions. I would like to turn the call back to Mr. Penver for final remarks.

Okay. I'll take over for John, of course. So thank you all for attending the call. We really look forward to the developments that are going on in our business and we think this is a game changer. So stay tuned and we look forward to updating you on the results as we get into the fall season. Thank you.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.