International Business Machines Corp (IBM) 2003 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and good afternoon.

Welcome to Corio Incorporated Third Quarter 2003 Earnings Conference Call.

Here with our opening remarks is Corio Incorporated Senior Vice President of Corporate Development Mr. Arthur Chiang.

Please go ahead sir.

Thank you operator.

Hello and thank you for joining us to discuss Corio's third quarter and fiscal 2003 financial results, which are for the period ended September 30th 2003.

If you don't have a copy of today's press release, please feel free to go to Corio website at www.corio.com where it is presently posted.

I'm here today with George Kadifa President and CEO of Corio, and Brett White Chief Financial Officer both of whom will be addressing you shortly.

George will report our financial results and take you through our business in the last quarter.

Brett will discuss our financial results in more detail and provide financial guidance.

George will come back for some closing remarks and then we will open up the call for questions.

First I'd like to start the discussion with our Safe Harbor Statement.

All forward-looking statements made during the course of this conference call are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements.

We are including as part of this conference call the discussion of targets for the financial performance of Corio for fourth quarter 2003.

All this discussion constitutes forward-looking statements regarding future events or future financial performance of the company.

The risks and uncertainties that cause actual results to differ from those expressed and implied by forward-looking statements include, but are not limited to, the risk factors noted in the Company's filings with the Securities and Exchange Commission including the Company's registration statement on Form S-1, it's respective co-related reports on Form 10-Q and it's annual report on Form 10-K.

The company assumes no obligation to update the outlook information that we are providing today.

With that, I will turn the call over to George.

Thank you Arthur and welcome everyone.

We are quite pleased by you being with us this afternoon.

First, I'm very pleased with our first quarter that was our third quarter which was another quarter of very solid execution by the Corio team across all dimensions of the organization.

And I would like to highlight three predominant areas of good execution; the first one was in the financial performance area, which was quite solid as you've seen from our press release.

We did meet our revenue goals at the upper end of the range.

Our revenues were $15.5m, while we gave you a guidance last quarter's between 14.5-15.5.

At the same time, we did exceed our cost reduction guidance.

Our reduced total cost which excludes any one-time cost benefit items was $1.5m and this reduction was above and beyond the guidance we gave you 90 days ago of a reduction of $1m and we did that while we actually have increased costs and we kept increased headcount while we kept investing in organizationally and from an R&D perspective.

And also from a cost guidance perspective and cost reduction side, our third quarter also exhibited EBITDA profitability so this is the third quarter in a row where we're positive from an EBITDA perspective.

What I would like to do next after I finish my part is I'll have Brett provide you with more details behind the numbers including any the one-time charges we actually incurred this quarter.

At the same time from a financial side that would show some good momentum going forward as we sign one of the largest contracts in Corio history.

That was the United Nations development program contract.

This is an important milestone for us based one on the size of the contract and two is on the global scale of the deployment of the solution and three is also based on who we competed against.

We basically competed in this situation against the world's largest systems integrators and out sources and we are able to win this on expertise and service offerings.

We also what you have seen in our earnings release is we had addition of comparative wins that is proving one more time our market leadership across all the product lines we service at Corio.

So that's from a performance perspective, we are quite pleased about that performance.

On the demand side, you know, some people ask us how to characterize, how we are seeing the market these days and frankly this quarter was a very improved quarter.

We have seen significant decision making that happened in Q3.

Obviously with at least four new customer wins in addition to several contracts, we close with our current customer base.

As a matter of fact, in the month of October, which is if the first month of Q4, we actually have one in addition of four new customers.

So we were seeing some significant momentum in the adoption of our services and business model accordingly.

At the same time, we are seeing some competition out there predominantly from the major system integrators and out sources.

However, our win rate against them has been very positive and very high also.

From a pricing perspective when we are looking at this market you know, this is similar to the overall IT or information technology market.

We are seeing continued pressure on pricing.

However, Corio has achieved a significant cost leadership so we are able to response at such pricing pressures in a very effective and efficient way simultaneously and what I mean that is we are able to offer the highest best or the best value out there in terms of the highest service at the lowest cost possible, while at the same time generating the profitability targets that we have in our financial plan.

From an outlook perspective, we are optimistic about the outlook going forward.

We have a guarded optimism that way.

However, the adoption rate we are seeing in terms of the businesses considering our services in particular in our industry in general, that adoption rate is increasing and is becoming more positive towards us.

So that's kind of the demand environment out there we are seeing.

The third case is we have announced the acquisition of Nexus Technologies and we have made that announcement late last week, and to give you some details on that, Nexus technologies is based in Chicago, Illinois.

It has evolved since 1996 a very strong position in the SAP [aqua] system by offering significant leadership and capabilities of services for SAP customers.

The quality customer base today of Nexus technologies that will be joining Corio is about 40 customers and they are all high quality customers that we are quite pleased to be servicing across, as part of the new combination, and there are significant opportunities for us to actually cross down into these new customers we have obtained.

By addition of services that Corio has in addition to what Nexus was offering to them.

From a business model perspective, historically, Nexus was running at the $2m run rate per quarter, or $8m on a yearly basis, and about half of it is application management services and the other half is professional services.

So on an overall level, we feel strategically that we have achieved a, you know, a good relationship and synergy with Nexus and bring the two companies together would produce the leadership position in the SAP space and that's something that we believe we achieved at this stage.

Now basically based on these three items in terms of the performance our demand environment at the Nexus acquisition, Brett will provide you more details in terms of financial numbers and metrics.

Brett?

Thanks George.

We are very excited to be with you today and share with you our financial results and accomplishments for the third quarter and to talk about our outlook for the fourth quarter.

I am just going to go through the GAAP result and then follow up a little bit to talk about some of the interesting one time items that appeared in the quarter.

Revenues for the third quarter are $15.5m, which is a 16% increase from last year.

Applications management revenue was $14.3m a 52% increase from last year.

This applications management revenue includes non-recurring customer settlement fees of approximately $1.5m versus approximately $500,000 for the last two quarters, so that was up significantly.

Included in this $1.5m of settlement fees was a single settlement fee of $839,000 that I'll talk about a little bit later.

Professional services revenue was $1.2m and that was less than expected due to the combination of some customer project starts that were delayed.

They had to do with some large projects where we actually had teams sitting waiting for the contracts assigned so they could get to work on it, lower than expected bookings in an accounting item that I'll cover here in a minute.

Expenses, total cost of revenue expenses, which includes application management services and professional services were 11.9 which is a decrease of 1.7m from the prior quarter and gross margins for the third quarter was 23%.

Cost of application management services revenue for the third quarter was 11.2, which is a decrease of 0.7m or 6% from the prior quarter.

Applications management services had a gross margin of 22%.

Cost to professional services was 0.7m for Q3 which is a decrease of a million from the prior million dollars from the prior quarter and professional services has a gross margin of 41%.

Indirect, operating expenses which include R&D, sales and marketing, and general and administrative net of their embedded amortization in total were 5.6m which was an increase of 2% from the second quarter.

R&D expense was 1.1m in the third quarter which was down approximately 17% from the prior quarter yet we had a total net add of 9 head counts in R&D.

Those are folks primarily being hired in product [inaudible] India.

Sales and marketing cost net of amortization were 2.1m which was up approximately 100,000 from the prior quarter.

As of September 30th we had 10 [inaudible] and general administrative expenses were 2.3m for the quarter an increase of 100,000 income 7% from the prior quarter.

Our GAAP loss for Q3 narrowed to $2.3m or 4 cents per diluted share which is a 78% decrease from 10.2m loss last year.

Our EBITA earnings which are earnings before interest, taxes, depreciation and amortization in Q3 was a positive 700,000.

This marks our third quarter of EBITA profitability.

On to the balance sheet, we finished the third quarter with $43.4m in cash, cash equivalents, short-term investments, and restrictive cash.

And our operating cash flow was a use of $2.2m.

The majority of this use of cash related to the pay down of accounts receivable and accrued liabilities associated with a transaction and I will cover it a little bit later here.

DSO was 19 days versus last quarters DSO of 16 days.

I think I said in the last call that we just stopped that 16 day number which was unusually low.

We are expecting to target DSO in the mid 20's going forward.

The key reminder I'd like to point out is that happy customers pay on time.

So receivables is clearly not a problem.

We had 303 employees on board at the end of the quarter which is a net increase of 16 head counts from last quarter.

The significant transactions in the quarter that kind of create one time items are as follows.

During the third quarter, we concluded the final settlement in purchase accounting for the acquisition of the cyber solutions business, the acquisition that we announced in Q3 of last year.

The highlights of this final settlement and purchase accounting are a further reduction in the purchase price of $855,000 which is recorded as a reduction to fixed assets and goodwill.

An $839,000 one time settlement fee which is recorded in applications management revenue that is part of the $1.5m settlement fee I discussed earlier.

We received a net cash receipt of $1.5m from part of the settlement and also included in the settlement were final fee reductions in storage cost and other items which have been previously factored into our guidance.

Also during Q3, we determined that Professional Services contract loss reserves that had been recorded by Corio in fiscal '01 and fiscal '02 were no longer necessary and should be reduced resulting in a one-time reduction in Professional Services revenue of $200,000, and a reduction in Professional Services costs of approximately $670,000 resulting in a net one-time benefit to gross margins of $470,000.

Metrics for our monthly reoccurring revenue for our hosting business is staying pretty steady at about $55,000 per month.

On the financial terms related to the Nexus acquisition.

As you saw in our press release last week, the consideration paid by Corio on closing on October 23, was approximately valued at about $10m, consisting of approximately 1.9m in cash and 2.9m shares of Corio common stock.

We expect to file an S-3 in the next few days to register these shares.

In addition, Nexus will be entitled to receive an earn-out payment of up to $2m to be paid in Corio common stock but based on the achievement of financial goals.

To earn the full 2m in worth of stock the Corio, sorry the Nexus business must build up to a $3m a quarter run rate by Q4 '04.

And at the closing of the acquisition transaction 5,000 of the cash consideration was placed in Escrow for six months.

The structure of the transaction was an asset purchase, so we didn't buy any liabilities know or unknown other than specifically identified ones.

We offered jobs and received acceptances to 37 employees have decided to join Corio including Dean Adamopoulos, who is a founder and CEO of Nexus who will be managing Corio's SAP practice going forward.

The assets we purchased were the customer contracts and on going relationships with approximately 40 customers.

We acquired internally used and developed software, and tangible assets such as servers, routers and other equipment with a book value of approximately 800,000, accounts receivables and prepaid expenses of approximately 1.2m, and intangible assets which would be valued as either customer contracts or goodwill of approximately $9m.

This amount is subject to an external valuation analyses which would be prepared shortly.

On the liability side, we have acquired the performance obligations under the contracts certain vendor contracts; we've acquired some equipment leases associated with the equipment assets noted above and we expect to takeover the office lease for their office in Chicago which has approximately 2 years left to run.

Regarding the P&L, we expect the Nexus business to be approximately 2m a quarter revenue run rate, business to start and has a solid pipeline to grow.

We expect it to be EBITDA positive beginning its first full quarter with Corio which will be in Q1 '04.

We expect revenue to be approximately 50% Applications and Management Services and 50% Professional Services with Applications Management Services growing as a percent of the total over the next couple of quarters.

Their current MRR monthly recurring revenue is approximately 12,000.

Onto Q4 guidance, we expect total revenue in Q4 '03 for Corio including the Nexus business to be in the 4, sorry 15.4-16.4m range.

We expect Corio revenue on a standalone basis to be between 14-15m.

We expect settlement fees in Q4 '03 to be approximately 300,000 versus the 1.5m in this quarter.

We expect Corio expenses on a standalone basis to be approximately flat from Q3, which when the one-time Professional Services expense reduction item is taken into accounts, it means the real expense decrease in Q4 of about 600,000.

In Q4 '03, we will include 9 days of revenue, or 9 days of operating results for the month of October, all of November, and all of December to the Nexus business.

We expect that this will result in approximately 1.4m in revenue from the Nexus business in Q4 '03.

We expect the Nexus business in Q4 '03 to generate approximately 20% gross margins and to be approximately $100,000-150,000 EBITDA negative.

The reason for the negative EBITDA is as there is going to be transition costs, integration costs, travel costs, and we believe that they will be EBITDA positive beginning their first full quarter in Q1.

With that, I will return the call to George for final and closing remarks.

George?

Thank you, Brett.

We are quite pleased with our performance in the third quarter, and our outlook for the fourth quarter, and just to give you kind of the main points of what we are looking at going forward.

One is, we are very pleased about the addition of customer adoption, that is we have seen at least in 8 new customers join us at Corio, in addition to the customers that we will obtain and gain from the Nexus acquisition.

Two is, we have accomplished the leadership we always thought in terms of PeopleSoft, Oracle and SAP.

In each one of these product lines we have significant advantages, capabilities, resources and scale up operation to make us the leader in these areas.

At the same time, we now have close to 120 customers that we can service and we can augments our services to and cross sell into this large customer base.

The fourth item is, we're pleased that this is the third quarter in a row where we had consecutive positive EBITDA profitably, and the fifth item is we're still showing scaling operationally where quarter-after-quarter we are showing expense reductions with revenue growth.

So, overall we are very pleased again with our performance.

I would like to take this time also to thank the contributions of our customers and partners, and all the efforts of the Corio employees and would like to welcome the former Nexus employees to the Corio family.

With that, we'd like the operator to get back to our audience with questions and answers.

Representing McDonald Investments, we will go to the line of Michael Keller.

Please go ahead.

Hi George.

Hi Michael, how are you?

Good.

I was interested to see the UN Development Program contract, just a question or two on that, when does the revenue begin on that one?

The revenue will start in Q4.

Okay.

I know it's a multi year contract at least the prime price contract, Unisys is multi year, your piece is a similarly long-term contract I presume?

Correct.

And it runs the same like the Unisys piece?

Correct

Okay.

Now as far as what you are actually delivering, are you delivering the service the actual delivery of the service, or are you selling the platform that you have developed?

No, let me go back and just describe to you basically the contract, just to give you the broader perspective on it Michael UNDP went through a process of acquisition and s formal RFP process to host and match the enterprise applications, it's basically a core ERP system, a core CRM system, and also a performance management system, all based on PeopleSoft technology.

Unisys and Corio were awarded the contract after a classic three month RFP process, and what we will doing together is Unisys will be responsible for program management and overall customer management, as well as, global support you know, in places other than the United States and what Corio would provide is basically our Applications Management Services and our Migration Services to host and manage these application in Corio designated data center.

Okay, that's helpful.

Brett, I am wondering if you have the CAPEX figure for the quarter?

Sure, it was about 1.4m pretty consistent with last quarter.

Okay.

Next I am presuming based on the vector EBITA negative a bit there also cash flow negative at the moment

The piece we pick up probably in Q4 it will be close, fairly though and then on Q1, I mean I think their CAPEX is going to be minimal, they have no debt so really cash flow should match EBITDA pretty closely.

Okay.

And the final thing just you know looking at the last few quarters really at this point, you know it is R&D, well it's picked on a bit this quarter, but it sort of leveled off vis-a-vis a few years ago, it's running at a higher rate, is this the right sort of rate to look at going forward, as far as, the percent of revenue?

Or are there things in there where the R&D spending is on things that are mature enough that you can begin to capitalize some of that so to help that GAAP profitability as opposed to expensing?

One is we are not capitalizing R&D, and so far I don't think we are planning on doing it.

We are more, we are recording it as expensed, or as incurred basically.

Two is, as percent of revenue expect our R&D expenditures to actually drop, and I would then sure that it will drop below maybe 5%.

Okay, but there won't be any change necessarily as far as things you would begin to capitalized based on the maturity maybe of the assets that are being developed?

I would revert back to Brett on it.

But my feel at this stage, we are not changing the accounting principles in that.

Yeah, we wouldn't - currently, no plans to start capitalizing these cost and no.

Okay that's helpful.

Thanks.

And really I may think the key takeaway here on R&D is I mean you hit the nail on head.

I think cost is going to go down as a percentage of revenue.

Because some of these things that we started building, you know a couple of years ago are mature functional works doing upgrades.

We're always improving on them, but we're also moving a significant development effort to India.

So, costs go down, but actually headcount goes up.

Right.

Okay.

Thank you.

You're welcome.

You are welcome.

Mr. Kadifa, Mr. White, and Mr. Chiang, we have no further questions.

Please continue.

Okay.

I think at this stage we're done with the earnings call.

Again, we thank everyone and we'll see you in 90 days.

Thank you.

Ladies and gentlemen, that does conclude the Q3 conference for this quarter.

Thank you very much for your participation, as well as for using AT&T's Executive Teleconference Service.

You may now disconnect.