Innodata Inc (INOD) 2011 Q2 法說會逐字稿

Good morning and welcome to the Innodata Isogen Second Quarter 2011 Earnings Release Conference Call. Today's conference is being recorded. At this time I would like to turn the conference over to Amy Agress. Please go ahead.

Thanks Tasha. Good morning everyone. Thanks for joining us today. Our speakers today are Jack Abuhoff, Chairman and CEO of Innodata Isogen, and O'Neil Nalavadi, our CFO. We will hear from Jack and O'Neil and then take your questions. First let me qualify the forward-looking statements that are made during the call. These statements are subject to risks that include; the primarily at will major of the Company's contract with his customers and the ability of the customers to reduce, delay or cancel projects including projects which the Company regards as recurring.

Continuing revenue concentration in a limited number of clients; continuing reliance on project-based work, inability to replace projects that are completed, canceled, or reduced; depressed market conditions; changes in external market factors; the ability and willingness of our customers and prospective customers to execute business plans that gives rise to requirements residual contents and professional services and knowledge processing; difficulty in integrating and deriving synergies from acquisitions; potential undiscovered liabilities of companies that we acquire; changes in our business or growth strategy and the emergence of new or growing competitors. Our FCC filings also mention other risks. Actual results may differ significantly. Thank you. I will now turn the call over to Jack Abuhoff.

Thank you, Amy. Good morning, everyone. Thanks for joining us today. I will begin with an overview of our second quarter 2011 results and then I will provide an update on our progress and our three-year strategic plan.

Revenue in the second quarter was $16.3 million which was $1.6 million or 11% sequential increase over first quarter. Revenue included a one-time settlement fee of $600,000 from an early termination of an engagement we reported in Q4 of last year. We also saw a sequential improvement in gross margins from 27% to 30% and $900,000 sequential improvement in pretax earnings.

Over the past several months, one of our primary objectives has been to bring in revenue that yields higher margins. So I am particularly pleased to share with you today's results which reflect the success we have had in this regard.

In addition to focusing on driving revenue that yields higher margins, we've also focused on improving the volume of business we bring in. As a result of our successes on this front, and looking out to the third-quarter, we again anticipate sequentially improved revenue. We anticipate the third-quarter revenue will be approximately $17.5 million or more.

The reason I'm saying or more is that right now we have a number of opportunities in our pipeline at late stages which we think may likely close this quarter. Although timing is difficult to call. If one or more of these opportunities do close in the third quarter, depending on timing, revenue from them may likely accrue in the third quarter.

During our call last quarter, I spoke about our 2011 three-year strategy. The goal of which is to make Innodata a $100 million revenue company within the next three years while becoming a truly globally respected business services company. I introduced the four key financial objectives and key strategic objectives which comprise our strategic plan. I will now update you on our progress on executing our plan. We will take the financial objectives first.

Our first strategic objective is to increase bookings. The amount of business we win by 20% this year over last year and another 20% year-over-year in each of 2012 and 2013. When I speak of bookings it is important to note that bookings are not a formal gap accounting measure; moreover because most of our customer contracts don't have fixed commitment amounts, we estimate each contracts value. Therefore we use bookings as a performance indicator rather than a formal reporting metric. During the first six months of the year, we have doubled the business we booked over the same period last year. That's two times as much.

Our second financial objective, is to achieve a labor margin on new bookings that is 12 to 14 percentage points higher than the overall labor margin we had in 2010. Within the court business segment, we are working on several fronts to accomplish this. First, we are instilling process and discipline in the salesforce regarding pricing decisions. Second, we're automating more of the work that we do.

At the same time, we are increasing the proportion of higher value strategic services we provide. Finding new ways to combine technology services with our core content KPO services and continuing to emphasize the value that our consulting services group brings to customers. Similar to first quarter, I am encouraged report that margins on our second order bookings are indeed anticipated to be 12 to 14 percentage points higher than the overall labor market margin we had in 2010.

So again, this quarter we are both significantly accelerating the sheer amount of business we book, and at the same time, booking business that has a significantly higher labor margin than the business we were booking a year ago.

Our third of financial objective, is to improve labor margins on our existing portfolio of recourring revenue. We intend to do this by investing in further process and technology driven improvements. Our engineering group is on target for accomplishing its goal in this regard. Based on the successes we have achieved so far, and the second quarter, we have decided to increase our commitment to R&D. We are opening a technology outpost in Princeton, New Jersey where we will have a small country of senior technologists working on advanced technologies. Helping us push the envelope on automation opportunities. We will scale the commitment based on the results that it achieves for the business.

Our fourth financial objective, is to reduce our overhead spending by approximately $1 million per year. Based on the actions we've taken through the second quarter, we have reduced costs by about $900,000 annualized.

As I mentioned in our last call, the first two of these three financial objectives are the most important; that is growing bookings by 20% year-over-year, and ensuring that our new bookings, which include the net new growth and the replacements business, throw off labor margins that are 12% to 14% higher. The cumulative effect of this should be increased bottom line. So that covers our four key financial objectives. I will now turn to our three strategic market objectives.

The first market objective, is to launch new productized service offerings in our existing markets. We are using the term product high service offerings here, to distinguish these new kinds of service offerings from our existing service offerings in the following way. Our existing service offerings tend to be very highly customized to each client. When we finish a highly customized project for a client, there is a lot of learning and even some technology that is not reusable.

Productized service offerings on the other hand, will be designed to meet a generic market need as opposed to unique customer need. This greater level of technology and process reuse will support our growth and profitability objectives. We expect that these new products high service offerings will have a shared core technology component put into good work investments we've been making in our content technologies area.

Well there are some very interesting projects in the works, this is one the few areas in which I am not happy with our progress. Part of the problem is that we write senior product marketing executive on our team. We are aggressively recruiting for this position and I hope to have some good news to report on this front sometime soon. Having this person on board will, I believe unlock a lot of opportunity here.

Our second market objective, is to launch new information analysis businesses in new markets. In our last earnings call, I shared with you that in Q1 we had closed a new contract for data analysis services for one of the top four global accounting organizations. That project is up and running and doing exceedingly well. In the second quarter, we launched a new segment we're calling Innodata Advanced Data Solutions, or IADS for short. IADS will perform data analysis work for a number of industries outside our core information and publishing sector.

Where the kind of analysis we do can help reduce risk or otherwise help manage key business processes. Under the umbrella of IADS, we have launched two divisions. The first is called Synodex and the second is called DocGenix. Synodex will perform a range of data analysis services related to digital medical records. DocGenix, on the other hand, will perform a range of data analysis services related to special kinds of legal agreements loosely referred to as derivatives. It is been suggested that problems managing portfolios of derivatives contracts were at the heart of the collapse of Lehman Brothers and AIG, which in turn triggered the September 2008 financial crisis.

With the DocGenix approach, critical data from derivatives contracts are lifted from the obscurity of the contract and fed into our clients risk systems as well as software that the clients can license from us for monitoring exposure. [Mike Welk] was an experienced derivatives lawyer and has led the effort on creating the XML data model behind DocGenix, does a great demonstration where he can show perspective clients how the advances 2008 might have been foreshadowed if key players had been able to access information relating to complex legal concepts contained in the contracts the way that the DocGenix solution provides.

We will report IADS as a separate segment in our FCC filings, so you will be able to monitor our progress. IADS has so far brought on six clients and is actively in discussions with new client prospects. That said, this is a new business, so I would suggest we think about revenue contribution as coming in 2012.

Our third market and strategic objective is internally focused. We're going to step up our efforts at promoting a stronger, more unified company culture. We're attacking this on several fronts; everything from stepping up internal communication to branding. So that's our update and our plan.

A couple of important cautionary notes that I'd like to provide; first, foreign exchange fluctuations and wage inflation in India and the Philippines will likely be persistent headwinds for the next couple of years. Second, while our first-half bookings have significantly exceeded our 20% year-over-year goal, quarter-to-quarter bookings will likely be uneven, it's the nature of the business. What we are striving for is 20% year-over-year bookings growth over the long term, and so far so good. I will now turn the call over to O'Neil who will provide additional insight into the Q2 financial results. After that we will take your questions and then I'll wrap up with some final comments. O'Neil.

Thank you Jack. Good morning everyone. Thank you once again for joining us today to review our second quarter 2011 financial results. Jack just reviewed our operating performance, underlying business trends and new initiatives. I will share my take on this quarter's financial performance and then review the key line items in the financial statement.

In our last earnings call, we mentioned that based on an acceleration in bookings, we are anticipating revenue growth in Q2. We are very pleased that this quarter, we achieved a top line of $16.3 million and increased 11% over Q1 and surpassing the high end of our guidelines of $15.2 million. We are also pleased that we grew both margins at the faster rate below revenues, which underscores our dual commitment to grow revenues with higher margins. This sharp focus on growth margins has contributed to our and all-around improvement in our financial performance in the current quarter.

Here development perspective to show our plan and action and our progress in margin improvement. Year to-date and both in 2011 and 2010, we had the same level of revenues of $31 million. But our growth margin improved by 38% or $2.4 million and from 21% to 29% as a percentage of revenues. This margin expansion contributed to the turnaround round in our earnings from a pretax loss of 4% in the first half of 2010, to a pretax profit of 3% in the first half of this year. In dollar terms, this is an increase of $2.4 million in pretax earnings.

While we feel good about the progress and the near term prospects, we acknowledge that we have a lot of hard work to do to enhance performance on a sustainable basis. The other important insight I wanted to share is that while having one leg in the present we also have our other leg in the future. We are continuing to invest in building our integrated service offerings to address market needs and in building Innodata Advanced Data Solutions or IADS, that Jack referred to.

Our improved performance this quarter is after absorbing $300,000 of investment expenses on IADS through our income statement. Please note that we will be including IADS as a reportable segment in our earnings call, in our financial statements, and our filings with the SEC.

Let me now review our operating performance. As in the past, I will discuss the sequential changes from last quarter, as we believe this will give you a more meaningful analysis of the run rate of our business. Should you have any questions on the year-over-year results I will be happy to answer them during the Q&A session.

Now for the various line items in the financial statements. Revenue in Q2 was $16.3 million compared to $14.7 million in the last quarter; an increase of 11%, or $1.6 million. This topline growth of $1.6 million was driven mainly by a $900,000 increase in our e-book business. The other drivers were $150,000 in recurring revenues from a new customer in financial data analytics and another $600,000 from a one-time settlement fee for early termination of an engagement that we reported in Q4 of last year.

Our top three clients, contributed $6.5 million, or 40% of revenue this quarter, compared to $6.1 million or 42% of revenues in the previous quarter. Our recently formed IADS division had no revenues in the quarter. Our gross margins, increased by 300 basis points to 30% of revenues in the current quarter from 27% of in the previous quarter and up from 22% in Q4 2010. In dollar terms, gross margins were $4.9 million this quarter, compared to $4 million in the last quarter; an increase of $900,000.

Approximately 70% of the growth in gross margins was attributable to our deal focus on achieving the growth in both the volume and quality of revenues. The balance of 30%, or approximately $300,000, was due to a one-time gain from settlement fees for the early termination of an engagement referred to earlier, net of certain one-time expenses.

SG&A expenses where about $4.1 million in both the current and the previous quarter. In the current quarter we benefited from a $200,000 recovery from a previously fully reserved account receivable which was however offset by other one-time expenses of a similar amount. Total SG&A expenses on our newly formed IADS were $200,000 this quarter.

Moving down the pretax earnings, we made a pretax profit of $1 million net current quarter or compared to a pretax profit of $100,000 in the last quarter. This was primarily due to the $900,000 increase in gross margins that I mentioned earlier.

In the current quarter, our tax expense was $230,000, or 23% of pretax earnings, this was $70,000 in the previous quarter. With improved profitability our tax accrual for this quarter is within the range of approximately 22% to 25% that we discussed in earlier calls .Getting down to net earnings, our net profits for the quarter were $800,000, or $0.03 per diluted share compared to a breakeven of the previous quarter. Now onto our cash flows and the balance sheet.

Our earnings before depreciation, interest, taxes, and allowances, or EBITDA were more than double the $1.7 million this quarter compared to $800,000 in the in the previous quarter. We generated cash from operations of $150,000 in the current quarter compared to $1.2 million in the previous quarter. The cash generated from operations decreased mainly because of increase in EBITDA was offset by an increase in the account receivable balance of about $1.6 billion.

Our account receivable balances trended upwards because of the 11% growth in revenue this quarter. Now looking at our liquidity position, we entered the quarter with $27 million in cash, cash equivalents, and investments and term deposits with banks. Compared to $28.6 million at the end of last quarter, this decrease was in line with expectations as we undertook share purchases of $900,000 under a previously announced buyback plan, as well as $700,000 in capital expenditures.

In addition to cash and bank balances and investments of $27 million, our liquidity sources include an unutilized line of credit amounting to $7 million. We believe that our existing cash balances together with operating cash flows and funds available under our current lines will provide sufficient sources of liquidity to satisfy our financial requirements for the next 12 months.

Now for capital expenditure and changes in accounts receivable. We incurred capital expenditures of approximately $700,000 in the current quarter compared to $500,000 in the previous quarter. The capital expenditures in the current quarter include $400,000 on the recently formed IADS division.

Let me now review our anticipated capital expenditures for the rest of the year. We are budgeting a total spend of $4 million to $4.5 million for the second half of 2011. Of this, we will be spending $2 million to set up a new 50,000 square feet global delivery center in India with the capacity to accommodate 600 employees. And out of the $300,000 to accommodate 200 employees in Sri Lanka.

This is primarily to provide for growth and expansion of our new service offerings. In addition to the new center, we will be investing about $1.5 million to set up platform and work flows in IADS and $500,000 in other routine capital expenditures. We entered the quarter with accounts receivables of $9.6 million compared to $8 million at the end of last quarter. In terms of efficiency, our day sales outstanding, or DSO, increased marginally to 54 days compared to 51 days in the last quarter.

As discussed earlier, the increase in our accounts receivable balance of $1.6 million primarily reflects our 11% revenue growth this quarter. Working capital at the end of the quarter was $24.6 million, compared to $25.5 million at current spend. The decline resulted primarily from a $1.6 million increase in accounts receivable offset by $700,000 reduction in cash, cash equivalents, and short-term investments.

Now for some other financial highlights; first, the share buyback program. This quarter we repurchased 342,000 shares of our common stock for a total cost of $900,000 under the previously announced buyback plan. These repurchases were at an average weighted price of $2.57 per share. So, at the end of Q2 2011 the total common stock repurchase was 606,000 shares at a total cost of about $1.7 million. The balance amount available for repurchase under our buyback plan amounts to approximately $400,000. Now let me review the tax NOLS. We have approximately $10.5 million of federal tax annual carry forwards in the US. Which we anticipate will give us a cash tax shield in the current and future years.

Finally, let me review the products hedging program. As of the end of Q2, we had current policy forward contracts worth approximately $33 million. These contracts were taken to mitigate foreign currency risks associated with our future currency expenses in our lower production centers in Asia. On these forward contracts we have approximately $700,000 of unrealized gains based on conversion rates as of June 30, 2011. As these are qualified hedging contracts, we do not recognize gains based on mark to market; instead gains are recognized on the income statement as and when the contracts mature. I will now open the line for questions.

Thank you.

(Operator Instructions)

We will take our first question from [Charlie Pine], please go ahead.

Hi and good morning Jack and O'Neil and congratulations on a very encouraging quarter and the outlook for the rest of the year.

Hi Charlie, thank you.

A couple questions, I think for the first time ever you kind of emphasized that a lot of the increase in the business this quarter came in from increased bookings in the e-books base. I was hoping you could possibly elaborate a little bit on that and one thing that I like to ask you said only about $900,000 of the increased revenue came in the e-books base in this quarter versus the last quarter. How much did you do in actual dollars in that business in Q1? And then if you could, just elaborate a little bit more Jack, in general about what's going on with the e-books base and how are things going with your relationship with Apple. And then I have a follow-up question.

That's a lot. Let me try to dig in there. I guess Charlie in the first six months of the year we did about $5 million of e-book work. And we see that on a projected steep increase which is very encouraging. From a market perspective, we are very encouraged by the fact that e-book sales are way up, there are publishers who are saying they are accounting for as much as 20% of their annual book revenue at this point. We are seeing real seismic shifts in the market. Last week we saw the demise of the number two owner of brick-and-mortar bookstores are, Borders. These things in combination with the direct conversations we're having with our clients, who as you know include five of the six of the major e-bookstores is very encouraging for us.

Anything specifically that you could tell us to characterize where things are now in your relationship, with your, status with Apple, and providing your services for the iPad?

Sure, I have reluctance to talk in detail about any specific customer. With that said, I can say that it is a very exciting relationship for us. We are very gratified to have it and we are doing everything we can to provide tremendous value to Apple. To have been selected as their E publishing services provider is a wonderful opportunity for us and our shareholders, obviously, we believe that we will cultivate that relationship and grow their relationship and we are only encouraged.

Do you feel better about it at this point say in July than you did when you first inked the deal last November.

I think it was December, I've been excited about it all along. I think that it is gratifying to see it proving itself out and to see continuing expansion possibilities.

Thank you and we will now take our next question from Tim Clarkson, please go ahead.

Hey guys, great quarter. A just a little bit more background on, obviously you talked about sales discipline and growing bookings can you talk a little bit about your new sales manager and about maybe some new salesman that you hired and obviously they did a good job the last quarter or two.

Sure, you know [Tim Lewis] came on board late last year and he got his feet under him very quickly. He understands content, he understands technology as a result of having been [Burlitz's]; CEO of Burlitz's Services business. And as a result of having been a - someone who's thought a lot about the sales process and how to drive sales in the company, he's been a trainer to over a thousand high performing sales forces.

He was in pretty good position to know some people that he was able to call up and recruit into our company. So, I think it's going really well. At some level I think he's only gotten started. He's put in place some very good discipline I think we are seeing that in the numbers. I think the next thing that he's turning to is how to even further accelerate and to pick up on bookings, and then how to get into more of the marketing side of things. So, I am very encouraged.

One follow-up question, you mentioned that you were going to be making some additional investments in India and Sri Lanka, would you describe the service offerings as proprietary services? How do they fit, are these low-level people you are hiring? What level, what skill level are you going to be hiring over there?

I think most of our hiring, it'll be skills that are appropriate for the parts of the service people out to perform. As you know, that ranges from low-level people to people with advanced degrees; you know law, doctors, things like that. I think the expansion areas, the places that we are making investments, the IAD as in particular, we are looking to create preparatory solutions. DocGenix, I think is an example of that. We've got a proprietary information model, and a proprietary application that we are going to the licensing to our customers. That is going to generate good differentiated recurring revenue and I think that model is the model we are going to look to follow for the areas that we are investing in.

What was the recurring revenue for this quarter?

Tim, we want to avoid giving that breakdown because increasingly it is difficult to identify what stream of revenues is recurring and nonrecurring. As you will notice in our 10Q as we start giving that classification. But obviously; the moral the business people are pursuing is with a focus on a recurring and continuing relationships with their clients.

Thank you, our next question comes from Joe First. Please go ahead

Good morning gentlemen, and congratulations on a good quarter. I'm glad to see that you are making good progress towards your goals. I just had a couple of quick questions. One, the bottom of your news release you talk about an arrangement with the US Commodity Futures Trading Commission, you are selected beyond technology advisors, can you explain that a little bit what does that mean to the Company as far as potential revenue is concerned?

Well I think it is something we are very excited about. I'd like to start by saying that the CFTC sees the subcommittee as performing a very important function which is helping it understand, and helping the industry, come up with a way of representing some of these financial contracts in data terms. And, you know, that's where docGenix and Allen & Overy the law firm, spent an awful lot of time, and we spent a lot of time working on how to create that data representation.

So, the fact that it's see our data model, and understands what we have done and it's invited us to be one of the 19 players on that committee which includes Goldman Sachs and Bloomberg and Blackrock and Marketsurf and people like that, it's very gratifying. So, in terms of the revenue possibilities that docGenix represents, we are excited about it. With that said it is an early-stage opportunity we are going to have to grow it and make some good decisions. But right now-I feel we have made some good decisions, some that are speaking for themselves and getting selected for this committee is early evidence of that.

Okay thank you and my second question is more for O'Neil I guess, right now you are bringing about 5% of revenue down to the bottom line. As time goes on, as your revenue increases and you get more high-margin business, what level, what percentage, do you think you can get the bottom line sometime in the future?

If you remember under the three-year plan we set out to achieve, our purpose was to get to 10% pretax profit.

yes.

And then increasingly as we migrate more of our business to the proprietary based higher-margin, you can see that going into double digits.

Okay, are you done? Thank you.

(Operator Instructions)

We will take a follow-up questions from Charlie Pine. Please go ahead

Yes, I would like to ask something of little bit further about the docGenix acquisition. Are you able to expound a little bit on the terms of that, what it cost you? And are there any earn outs involved in that without Allen & Overy at all?

There is a -- we have not disclosed the terms of that because it was, our attorneys said that they are not material. We are the 80 something percent owner of docGenix now and will be reporting on that basis. So what we have seen is an opportunity with docGenix and Synodex to provide some equity to the people that are going to be driving that business forward. And you know we think that creates tremendous incentive for them to drive performance and I think it is a really good model for us. As a way of harnessing our capabilities to something that's pretty exciting.

And lastly for you, O' Neil, could you repeat once again a the silos were those CapEx spends are going to be in the latter half of the year. You went by them rather quickly, I couldn't quite get them jotted down fast enough

Sure, okay. Total CapEx spend for the second half is between $4 million to $4.5 million. Of that, $2 million will be spent in setting up a new global delivery center in India, which will accommodate approximately about 600 employees more in the higher-end and service offering category. Another $300,000 in Sri Lanka for an expansion of our existing center and $1.5 million in the IADS division; mainly in developing platforms, workloads and proprietary software. And another $0.5 million in routine capital expenditures.

Thank you we'll take our next question from Perry Highland. Please go ahead

Good morning, guys, and congratulations on a very good quarter with what looks like good things to come. On the IADS side, would that be, hopefully we will be seeing meaningful revenues, what next year? Or by the end of this year?

Hi, Perry, good morning. Yes, I think that we should think about meaningful IADS revenue in 2012.

Okay, are you going out on any roadshows or with the results now?

Yes, I think it makes a lot of sense now for us to be stepping up activities there. Now we have been having some meetings in second quarter and we're going to continue that into the third and fourth quarter as well. Absolutely.

All right. Thank you much, Jack.

Thank you, Perry.

Thank you, and we will take a follow up from Joe First. Please go ahead.

I also wanted to comment you for buying back your own stock and doing it so cheaply. And I wonder what your thoughts on that now? Are you going to expand that program when this one runs out, because it has almost run out. What you thoughts on that?

Sure, yeah we've got another 400,000 of authorization left and I think as soon as that one is up or as near as being up, the board is going to get together and discuss a further authorization. I think the decision, as you said, to be buying stock has proven to be a good one. I think that, I believe that continues to warrant very serious consideration. I will make sure that it's put on the agenda.

Thank you and keep up the good work, we appreciate it.

Thank you.

It appears we have no further questions at this time.

Good. Well, thank you, Operator. To recap a bit. Revenue, gross margins, and net margins were all up both sequentially and year-over-year. Our bookings for the first six months of the year were twice our bookings during the same six-month period last year. Next quarter we expect revenues to be $17.5 million or more. We are progressing well on most fronts of our 2011 three-year strategy. We are expanding labor margins 12% to 14% over 2010 levels on bookings.

We've reduce overhead costs by $900,000 a year annual wise. And we have launched our IADS segmented to bring our capabilities to some new markets, with both Synodex on the digital medical record side and docGenix on the legal financial side. So thanks, everybody, for your time today. I look forward to sharing with you our continued progress on these strategic objectives as we move into the second half 2011. As you know our goal is to become a $100 million company over the next three years, to develop into a truly globally respected business service Company, and to create significant shareholder value along the way. So thank you again for joining us today. I'll look forward to talking with you soon.

Thank you. This does conclude today's teleconference. Please keep in mind that a replay is available at 888-203-1112 or 719-457-0820. Please enter the passcode 5406898. We thank you for your participation and have a great day.