Magic Software Enterprises Ltd (MGIC) 2007 Q2 法說會逐字稿

Thank you, and good morning to those of you in the United States and Canada. Good afternoon to those of you in Europe, Israel, and elsewhere. Welcome to Magic Software's second quarter 2007 financial results conference call, and thank you all for holding.

All participants are at present in a listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. As a reminder, this conference is being recorded today, August 9th, 2007.

Earlier this morning Magic Software issued its financial results for the second quarter of 2007. I trust that most of you have seen by now a copy of the press release but if you have not, you may view it in the Investor Relation section of Magic Software's website at www.MagicSoftware.com. On the call today are Eitan Naor, President and Chief Executive Officer, and Ziv Zviel, VP Finance.

Before we start I would like to refer you to our Safe Harbor statement. Specifically I advise you that some of the information we are providing during the conference call may contain forward-looking information with respect to plans, projections, or future performance of the Company, the occurrence of which involves certain risks and uncertainties including, but not limited to, the Company's ability to successfully execute its growth plans, the ability to recognize revenue in future periods as anticipated, the unpredictability of the IT market, product and market acceptance risks, ability to complete development of new products, the impact of competitive pricing and offerings, fluctuation and quarterly and annual results of operations, commercialization and technological difficulties, risks related to our operation in Israel, and other risks detailed in the Company's annual report on form 20-S and other filings with the Securities and Exchange Commission.

Magic Software undertakes no obligation to publicly release any revisions to these forward-looking statements to reflect events or circumstances after the date hereof, or to reflect the occurrence of unanticipated events.

With that, I would like to turn the call over to Mr. Eitan Naor, President and CEO. Eitan?

Thank you, Rachel. Good morning, everyone, and thank you for joining us today for our second quarter 2007 conference call. We are pleased to present you with good results, continuing the trend we began in the fourth quarter of 2006.

To summarize our achievements in the quarter, total revenues were $16.8 million, an 11% increase over Q2, 2006. Net profit was $0.8 million compared to $1.3 million net loss in Q2, 2006. Magic Software sustained profitability with net income of over $0.8 million. In Q2, 2007, the Company reported a positive free cash flow of $0.6 million.

Cash and cash equivalents, including short-term marketable securities reached $17 at June 30, 2007.

I would like now to talk to you about some of the more significant events that occurred during the quarter and subsequently. Our activities within the SAP landscape continue to develop. Further to our achievement with SAP Business One, SAP solutions from the small businesses market, we have recently launched iBOLT special edition for SAP R/3, aimed for the legacy SAP (inaudible) market installations.

This product is a fully functional version of our iBOLT2 integration suite, targeted to users of SAP R/3 and mySAP ERP software. iBOLT (inaudible) for SAP R/3 enables businesses to expand the capabilities of SAP R/3, addressing changes, collaboration processes, and allowing users to benefit from a service-enabled SAP landscape.

We have recently acquired new legacy SAP (inaudible) market customers. Among these are Sheba Medical Center, a major Israeli hospital. The medical center will use iBOLTs to expand the integration project implemented at the hospital following its transition to a health information system which runs on a SAP R/3 ERP platform.

We are strengthening our relationship with IBM. Magic was recently awarded the IBM Service-Oriented Architecture Specialty after successfully completing IBM's rigorous SOA technical and business requirements. With this achievement, Magic Software's technology integrates with the IBM software and strategy for SOA.

Gardener has recently positioned Magic in the visionaries quadrant of four Gardener Magic quadrants -- application infrastructure, application infrastructure for new service-oriented business application projects, application and infrastructure for composite application projects, and application infrastructure for back-end application integration projects.

Finally, our HERMES Logistics Technologies subsidiary, a leading provider of air cargo management solutions, has signed an agreement with KLM Cargo to deliver a state-of-the-art cargo management system for the KLM Cargo hub at Amsterdam's Schiphol Airport. The initial phase of the agreement is valued at over $1.3 million. The HERMES system is powered by our eDeveloper composite application platform.

With that, I'll turn over the call to our VP Finance, Ziv Zviel, to review the financials, after which we'll be available for your questions. Ziv?

Thank you, Eitan. I will now provide you with a summary of our financial results. You can find the results in more detail, as well as the GAAP results, in the press release issued earlier today. Second quarter 2007 results reflect our sustained profitability for a third consecutive quarter, and continued revenue growth. Total revenue for the second quarter ended June 30, '07, was $16.8 million, an increase of 2% from the $16.4 million reported in the first quarter of '07, and an 11% increase compared to the $15.2 million reported in the second quarter of '06.

Gross profit for the second quarter of '07 was $9.1 million compared to $8.7 million in the first quarter of '07, and $8.1 million in the second quarter of '06 last year.

Net income for the second quarter of '07 amounted to $0.8 million, compared to a net income of $1 million in the first quarter of '07, and a net loss of $1.3 million reported in the comparable quarter of last year.

In the second quarter of '07, North America, Europe, and Japan accounted for 43%, 35%, and 13% of total revenue, respectively. The rest of the world accounted for 9% of total revenue in the second quarter of '07.

In the first half of the year, total revenue reached $33.2 million, an increase of 9% over the $30.4 million achieved in the first half of last year. Licenses in the first half of the year reached $7 million, a decrease of 20% from the $8.8 million achieved in the same period last year. Application revenue was $3.5 million, an increase of 9% compared to the $3.2 million achieved in the first half of '06.

Maintenance and support revenue totaled $8 million, a 10% increase from the $7.3 million achieved in the same period of last year. Revenue from (inaudible) and other services increased 32% over the same period last year, reaching $14.6 million.

Gross profit for the first half of the year reached $17.8 million, an 8% increase compared to the $16.5 million achieved in the comparable period of last year. Net profit for the first six months of the year totaled $1.82 million, or $0.06 per share, compared to a net loss of $1.51 million or $0.05 per share in the first half of the last year.

In the first half of '07, Europe accounted for 36% of total revenue while North America, Japan, and the rest of the world accounted for 42%, 13%, and 9%, respectively.

Now we would be happy to take your questions. Operator?

Thank you, sir. Ladies and gentlemen, at this time we will begin the question and answer session. (Operator Instructions).

The first question is from Charles Silk of C. Silk Sons. Please go ahead, sir.

Okay. Eitan, first, I want to welcome you to Magic, and may Magic and our clients have a great success going forward.

Little disappointment on the bottom line, but I have a number of questions and I hope you can take them. On the SAP, I'd like to know what the revenue and the number of partners were in Q4 of last year, Q1 of this year, and Q2 of this year.

Charlie, the line is really bad, can you please repeat your question? I heard you -- you're asking something about the SAP business, but the line is really bad.

You're getting some feedback on there, but just let me know and I'll repeat the question. Okay, on the SAP, I'm trying to find out what the revenues for the last three quarters were on a quarterly basis, and the number of partners that you had starting with Q4 '06 and right up to now.

Charlie, we have here on the call as well David, our former CEO, so I will let him answer that question.

Hi, Charlie.

Hi, David, how are you?

Fine, thanks, how are you?

Well, I'd like to see it better, but going forward it looks bright. I'm asking about -- I want to do some comparisons and see what's happening on SAP and what the revenues were Q4, Q1, and Q2 for the revenue on the partners.

Well, this last quarter, I don't have the numbers with me although maybe we can go and fetch them afterwards. But the numbers for SAP for this last quarter were around $0.5 million, which we thought was a good -- which was our budget, so we were exactly on budget. We currently have 200 partners. We released a press release announcing our 200th partner, so we're also increasing the number of partners and we're quite happy with that progress. We are hoping that the SAP business will grow in due time.

There was a report in "The Wall Street Journal" about SAP's performance on the July 20th "Wall Street Journal." It said SAP is working on another product launch -- a simpler, cheaper web software service for small- and medium-sized companies. Investors are watching closely because (inaudible) SAP's first major foray into web-based software and small- and medium-sized business are crucial to SAP's growth. Now, what affect is that having on you?

Charlie, it's Eitan. One of the things we've started doing is starting to enhance our relationship with the SAP people, so they are talking about a product that has a code name called (inaudible) which is probably the product you're referring to. And we started talking to this guy just to understand the implications and the way they want to drive this to the market.

On the other hand, as I addressed previously in our script, we are making some progress with the SAP R/3 business which we launched earlier in the quarter on Q2. So if we look at the overall opportunity with SAP, it's not only SAP Business One, it is the SAP R/3 which we are starting to execute now. And since SAP hasn't launched its new product yet we are engaged in some discussions but we don't have any clarity regarding the SAP go-to-market strategy. (Inaudible.)

There was no revenue coming from the SAP R/3 and the mySAP, though.

Yes, there was some revenue already coming from the R/3 business, which we hope to grow in the next quarter.

Okay, good. Now, I understand that SAP had a conference in Washington, and I understand there were 3,000 to 3,500 attendees. Can you give me any color as to how Magic fared the conference, and have you acquired new partners because of it?

Yes, as we reported earlier this quarter, we have attended this meeting. We had our product guy -- the product manager -- the SAP product manager -- attending. This is where we announced the 200th partner signing. And overall we got good visibility with the customer base. Not all of them were relevant to the kind of business we're trying to do with iBOLT but overall good perception, good visibility, and we hope to continue and grow that business.

Did it generate good leads?

We got some leads, yes, yes. And most of those leads obviously are -- because this is an indirect business -- are being generated through the partners' network. So some of the (inaudible) were partners, some of the (inaudible) were end customers, and yes, we got some business from that convention.

Okay, in Japan, I'd like to know how the revenue has increased in the fourth quarter and the first quarter this year and the current quarter.

Well, the revenues are growing as expected in Japan. The first quarter was very weak, but the second quarter was a very good quarter for us and was on budget. So we also had a big user conference in Japan, I think I told you about it.

Right.

Which was very successful. And we had some very, very interesting new potential -- very big strategic customers who we're very hopeful about.

Okay, let's see. Is there going to be an increase in the Japanese market for upgrades of Developer version 10? Is that starting to kick in?

The purpose of the conference was really to officially launch version 10, and we're hopeful that it will increase the business.

Okay, what was the revenue from Japan for this quarter?

It was according to budget. I don't have the number in front of me, but it's in the millions. It's a percentage of the total revenues.

Okay, I'll get back to you on that one. All right, now as the IBM and AS/400, as I understand there's about 4,000 JD Edwards users out there, and you've got (inaudible) go with this to incorporate JD Edwards with iBOLT. Now, has there been any extensive marketing on this market? It seems like a ripe market for you.

Yes, Charlie, we've just recently launched the connector -- the iBOLT special edition for JD Edwards. Started working with some partners; we don't have any significant business with that community at this stage. I do agree that the potential is there, but at the end of the day we would need to find the right partner network.

Currently, unlike the SAP Business One type of channel, there aren't too many partners that have a significant coverage, meaning a single partner covering a significant number of end customers. So we are constantly looking at our strategy towards that segment to try to do -- or to get more business in a cost-effective manner. So that segment, even though it presents a large number of end customers, is not covered that well by specific partners.

Okay. Now on Oracle, I picked up a CCN article on Google and it was dated August 8th. And the article, let's see, it said Fusion middle -- just as far as Oracle goes -- Fusion middleware demonstration, exceptional momentum. Now, how are you competing with them? They complain -- no, they don't. They consider that they have 50,000 users on their Fusion. How is that going to affect you?

First of all, Fusion is not a competitor with iBOLT. We are targeting different segments. Fusion is mainly targeted by Oracle towards the high-end enterprise market; we are targeting iBOLT and iBOLT special edition towards the [SAP] market. To date, specifically if we talk about the series I segment or the JD Edwards users, Oracle does not have a competent version of Fusion for that specific segment.

Are you going to be able to go into that right away, or do you have the same problem that you have with IBM?

Sorry?

Are you having any problems getting into that segment that you're not really concentrating on? Have you made any headway in it?

Yes, as I said previously, it's a segment that we are trying to work with partners, but still we don't have a good coverage of partners in that segment because of the nature of the segment.

As I said, there are not so many partners covering an extensive part of the segment, unlike the SAP Business One. So we are engaged with few partners -- very few, I would say, at this stage -- and we don't have any significant business with the JD Edwards (inaudible).

Okay, next subject is the Rich Client. Now, how has the beta test been going, and what is the feedback you're getting?

Charlie, we can answer that maybe later. I'm worried that some other investors may be unhappy that we're only answering your questions. So should we maybe answer that one later?

Well, at the last two conferences there was only three people. It was me, Mark, and Randy.

I see.

All right, let them go in and I'll come back. I have some more.

Okay.

Okay?

Thank you. If there are any additional questions, please press the star followed by the one on your touchtone phone. If you wish to cancel your request, please press the star followed by a two. Please stand by while we poll for more questions.

The next question is from [Barton Brath], a private investor. Please go ahead, sir.

Well, I think you maybe went from three to two, the way it sounds. But David's the only one I know, so I'll address this to David, please. Hi, David.

Hi.

Am I on? Thank you. David?

Yes?

Hi, can you hear me okay?

Yes, we have a very bad line for some reason, but I can hear you.

Okay. I'm just wondering, I mean, I haven't looked at this and I don't look at it anywhere near as technically as Charlie does, but the software sales are down so significantly, I mean, could you talk about that for a minute, please?

Yes, the software license sales are unfortunately much lower than our expectations, and of course we're quite disappointed with the license sales and we're working very hard now with version 10 and with iBOLT to increase license sales. So Eitan now has a big plate in front of him to try and move this up because it is quite worrying and we hope that we'll solve some of the issues. This is a big challenge for us.

Have you seen any -- I mean, this is obviously significant. You're down quarter-to-quarter and year is almost, what, 20% down, it looks like. Have you seen anything or any chance of turning it around in terms of any initial sales or any initial more interest or -- I mean, that's got to be your main focus, isn't it?

It's definitely the main focus of the Company to make sure that our license sales will grow and stop declining. Eitan is working on this very hard. He's brought in a new VP Marketing to work on it with him.

Is that the global marketing person you were referring to in the release?

Yes.

Is that an Israeli? Is she an Israeli?

She is basically Finnish and Norwegian, but yes.

Okay, so in other words, where would she be headquartered? I'm wondering --

In Israel, (inaudible).

In Israel. Okay. You know, David, the last time I saw you, which was I think the end of last year, we were speaking about selling off in terms of when you just mentioned focus. About really focusing on the iBOLT, the eDeveloper, the real core of the Company, and spinning off the apps. And looking at this, if you spun off the apps, you wouldn't be talking about profit or gross sales. And it looks like here that everything's coming from CoreTech. I mean, the real growth is coming from Philadelphia, isn't it?

Unfortunately, a lot of the growth is coming from CoreTech and AOD and HERMES, from the application business and from the service business. As I mentioned before, we are disappointed with the license sales and we're working very hard to correct that. We indeed believe it's a major challenge, and we're making all the efforts necessary in order to change that.

Okay, well, let me ask a different question. In my mind, the profit comes from the licensing -- the real profit. To my mind, CoreTech is less profitable, but let's stay with that for a minute. CoreTech has all of a sudden started growing. I mean, it wasn't growing like this for a while.

You're right. CoreTech -- we made a major turnaround in CoreTech about two years ago. And the new management at CoreTech has made great efforts to grow the company. And although the margins there are very, very low, they're doing extremely well.

So let me stay --

(Inaudible).

Let me stay with that for a minute. Do you see -- so I'm assuming that you're not thinking of -- you're thinking of keeping all the apps.

The Company announced a strategy of opportunistically serving the application business, and it's going forward right now with that strategy.

So you are looking for opportunities to sell the apps.

Yes.

Okay. CoreTech is growing. Is there a chance that CoreTech will keep growing? I mean, are you going to make it -- that's quite a turnaround at CoreTech.

We don't know at this stage, and I would like to say that some of the growth you can see in our results is definitely not attributed to CoreTech. It's part of the core business professional services growing.

Well, I don't see that. I mean, the biggest thing I see is the drop in sales and marketing, which gives you the profit. I mean, the sales and marketing is down dramatically.

(Inaudible).

From $16.4 to $12.9, I mean, that's $2.5 million that comes right out of something. I'm just wondering if that -- if you're affecting sales and licensing because the (inaudible) R&D -- not in R&D but in SMA.

If you look at the Company numbers, obviously compared to second quarter of last year, the Company went through a restructuring process.

Yes, I understand that.

Okay. As part of the restructuring process, a lot of the costs -- I mean, there was the cost alignment, so sales and marketing, G&A, and some other operating costs went down, so this is the reflection you see here.

Okay. And it also reflects the bottom line, doesn't it?

Of course.

Okay, well, (inaudible), okay.

The fact that the Company is profitable, you've seen revenues which have grown as well. So profitability comes from both sides, meaning growing the revenues and reducing the costs, and that was part of the restructuring program.

I'm not arguing -- see, my propensity is sales, Charlie's is tech. And I'm just wondering when you drop SMA and sales go down at the same time, they're not necessarily incongruent. I mean, they work in sync.

You know, we can't have the cake and eat it.

Okay, no, no, no, I understand that and I'm glad that it was profitable and I'm not saying that. I'm just saying that you're going to emphasize sales, and that's fine. That's what I was trying to find out. That's what I was really -- I wanted to know what the focus was and if that's where the focus is, fine. Thank you.

Thank you.

Thank you. The next question is from Mark Silk of C. Silk and Sons. Please go ahead, sir.

Thank you. Eitan, I have a few questions for you. We've owned this stock since about '94, and one of the main problems that has really grasped the United States market, whether working with the magicians over here -- the programmers, etc., -- and we've had some unsuccessful, maybe, CEOs in the United States that couldn't really convey the strength of Magic like they can in Japan. So what kind of strategies do you have for growth in the United States for Magic Software?

Mark, as said, I came aboard about six weeks ago. I've spent a lot of time since then meeting with customers, partners, and obviously our own subsidiaries. We definitely have, as you all know, execution issues in some places. We would like, and we're certainly focused on growing our U.S. business.

I could give you, or I will give you much more clarity about the strategy going forward and the execution plans we will take on the next quarter call. So at this stage, really, I do acknowledge or I do agree with you that we could and should do better on our U.S. operations, and I could specifically relate to that in some more depth in our next conference call.

Okay, on another note, we actually had a small division of Nextel, and I would say they have as much coverage as Magic has with the investment community. What are you going to try to do, maybe, that you couldn't do at Nextel as far as getting, you know, the word out there to the investment community?

My real belief is first that once we have our very crystallized strategy and when we start executing on that and start showing results and growth, I would say, on the right parameters, we'll go out on specific road shows, and I'm sure once those things happen we'll get much more attention.

Okay. You guys kind of stayed away from guidance. Are you looking to be profitable in the second half of this year?

As you said, we stay away from guidance.

Okay. And the last question is on SAP. I know you said you generated about $500,000 the past quarter. Should I be looking at, sequentially, the growth in SAP, or should I compare it to year-over-year?

I would rather compare year-over-year. Because we have some seasonality in the business; SAP has seasonality in the business, as well. So you can't expect quarter-on-quarter growth.

All right, you and David, good luck in your endeavors.

Thank you.

Thank you.

Thank you. We now have a follow-up question from Charles Silk of C. Silk and Sons. Please go ahead, sir.

Hi, I'm back again. Okay, Rich Client. How are the beta tests going, and what is the feedback?

Rich Client beta hasn't been launched yet. It probably will be launched within the next few weeks. So it's going out of (inaudible) now. We'll have much more clarity, probably, for the next conference call.

So you haven't gotten any feedback from the people who were doing the beta test?

Not at this stage.

All right, how does the Rich Client going to differ you're your competitors'?

Meaning what?

Well, I mean, who are your competitors? There's Rich Client, exceptional -- as Randy's comment indicated there was some exceptional software. How does it differ, and do you have an advantage over your competitors with Rich Client?

Yes, I would say the following: at this stage, Rich Client is, I would say, a very interesting, a very promising technology exercise. It's not yet a product in that sense -- this is why we will be going through a very selective beta.

We truly believe that if this technology is viable -- and that still needs to be proved -- with the first beta customers, it can provide an organization using our eDeveloper and end-to-end capabilities to develop and deploy over a web infrastructure in the sense that it's very cost-effective and it's completely different from the approach that some of the competitors are taking, such as, I would say, if you look at other development frameworks, they don't give the end-to-end (inaudible) capabilities that we do with eDeveloper.

So the idea here is to give you the same framework that deployed this both in client server and over the web infrastructure. And in that sense, it looks promising.

Having said that, as I said previously, it is still, in a lot of sense, a technology exercise for us. We need to understand the perception and the acceptance of that technology with a few selective customers. Once that happens and we have some feedback, we can share this with you.

Okay. Now how would it be sold? Would it be maintenance customers to be provided this Rich Client at no cost? And what about non-maintenance clients? What will the charge be?

We haven't finalized yet the go-to-market approach for Rich Client, but I would say that if it goes beyond a technology exercise, we would definitely expect to license it. So again, we don't have that in place yet, but as far as our internal thinking currently, this is something we are going to license and not just give away as part of maintenance.

Okay, good. All right, I want to talk about Art (inaudible). With the sale and distribution of Art's newly published book, "Profit," in which he on chapter six extols a 20-year success in employing the best (inaudible) system in the market, i.e., Magic eDeveloper, have you received any inquiries from what he's putting out there, and generating anything about your product?

When I was at the user conference in Las Vegas I met with Art and we bought some books off him. We plan to give them out as giveaways to customers and potential customers. In actual fact, I have never seen a better advocate for Magic than Art, and I believe that our marketing people should try and use him to promote Magic further because that book is really compelling.

I mean, the way he describes how one can make money by using a product like Magic as opposed to any other of the conventional technologies or popular technologies out there is really fascinating, and it shows an immediate ROI. So I think we have talked about that internally, that we should try and talk to him and see how we can use and leverage that book. (Inaudible)

Well, (inaudible) sent me a copy of the book on email and I read it and I talked to Art and I was in contact with him. Matter of fact, I've got the customer that's underway right now in the Boston area. And the people are excited and she's going to him, and I think -- he's been in the Boston area (inaudible) a couple of times.

And I think this would be just idea if they -- when I first read the part of the book I said, this is a gem for Magic. How do we explain it? And I hope Art and you get together and work something out.

Now on the promotions, what are your plans to promote your product on the IT market around the world? Are you going to spend money on promotional and advertising?

Part of our marketing budget is allocated to advertising and beta tests. We are going to use [this book to try to leverage on that specific book as well.]

Okay. All right, the three subsidiaries are doing very well and contributing. I guess you'll generate -- I would like to see it holding, but it is (inaudible) giving you profitability. Now on the foreign exchanges, it's up and down with Israel and the United States. How has it impacted your bottom line?

The three subsidiaries were very successful this quarter and altogether they had a very substantial positive impact on our bottom line. But the accurate numbers, we are not publishing them, so.

Okay. Let's see, the revenue was up on the first quarter, but the bottom line was lower by $200k. Now, was that because of you putting more money in promotion or are you not getting enough licensing?

No, it's a combination of many factors. One is obviously, I mean, the lower number in terms of license. We had some issues with exchange rates, obviously, which affected our bottom line and (inaudible) of products, meaning we have a lower gross margin on professional services.

So in the second quarter, we have higher revenues on professional services, obviously affect the bottom line. So the bottom line you see for this quarter is a combination of all of the above.

Okay. All right, and there's one other thing. One every news release in the last several quarters you've announced new deals that you have signed. This is the first time I haven't seen any at all. Are there out there that you can't disclose or any kind of flavor on what's happening?

The ones we got, we already announced. And once we get new ones, we'll announce them, as well.

Okay. All right, I guess from when I was talking to David you'll be coming into the States in September and hopefully you'll stop off in Boston (inaudible).

Okay.

Okay, so I'm done.

Thank you.

Thank you.

Thank you.

Thank you. There are no further questions at this time. A replay of the call will be available on Magic's website at www.MagicSoftware.com starting in three hours. Mr. Naor, would you like to make your concluding statements?

Thank you all for joining us, we look forward to speak with you next quarter.

Thank you. This concludes Magic Software's second quarter 2007 results conference call. Thank you for your participation; you may go ahead and disconnect.