TSS Inc (TSSI) 2022 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the TSS fourth quarter of fiscal 2022 earnings call. I would now like to turn the call over to John Penver, Chief Financial Officer. Please go ahead.

Thank you, Mandeep. Good afternoon, everyone. Thank you for joining us on TSS' conference call to discuss our fourth quarter and our fiscal '22 financial results. I am John Penver, the Chief Financial Officer of TSS. And joining me today on the call is Darryll Dewan, the President and 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 we issued today. That same language applies to comments and statements made on today's conference call.

This call will contain time-sensitive information, as well as forward-looking statements, which are only accurate as of today, April 3, 2023. TSS expressly disclaims any obligations to update, amend, supplement or otherwise, review any information or forward-looking statements made on this conference call or replay to reflect events or circumstances that may arise after the date indicated, except as otherwise required by applicable law.

For a list of the risks and uncertainties which may affect the 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.

Darryll will kick today's call off with an overview, then I will provide a review of our fourth quarter and our fiscal 2022 results and then turn the call over to Darryll to discuss our strategy and direction. Darryll?

Thanks, John. Hello, everybody. Excuse me, earlier today, as John pointed out, we issued a press release announcing our financial results for the fourth quarter and for fiscal 2022. A copy of that release will be made available on our website at www.tssiusa.com.

During the fourth quarter, we experienced several important changes in our business. First, we announced the CEO transition by which I joined the company on November 14 as President and CEO. There were other changes in leadership within business units and operating roles. All of which occurred during a period of very busy customer program activity.

Further, the complexity of certain new customer programs in our systems integration business required extra labor and overtime beyond what we had projected. The absolute requirement was that we deliver for our customer, which we did. I'll have more to say on this later but suffice it to say now we're working out these issues.

We expect this inflated level of costs to continue into Q1 of 2023. The labor markets remain very tight, cutting costs. Now, we put our execution at risk, which is not the prudent thing to do. We are experiencing higher costs in Q1, but we are taking steps to remediate them and to not persist materially past Q1. We do expect to continue to be adjusted EBITDA positive going forward.

There were many positive trends in 2022 that point to a strong base of business for the future. Our modular data center, or MDC deployments, increased by $3.9 million, or 262% during 2022, versus the prior year. The improved supply chain climate also allowed our systems integration revenues to grow by 27% compared to 2021 as components that were difficult to source or carried long lead times became more readily available.

As a smaller company, our business can be lumpy, and we showed that in Q4. Our MDC business was down, but our reseller and systems integration business were solid. As a result, our revenue for the fourth quarter was strong, but our bottom line suffered from the operational cost overruns and executive transition. Still, we managed to report positive adjusted EBITDA in the quarter.

We are focused on three objectives. Number one, making the needed changes to manage the current business to improve profitability. Let me restate that, making the needed changes to manage the current business to improved profitability.

Number two, investing in the business to be able to scale it further. And number three, strategically positioning the company to grow within current customers while adding new customers and new market segments.

I'll dive into this further but let me first turn it up back to John to provide some financial detail.

Thanks, Darryll. As Darryll said, looking back at the positive progress we made as a company in 2022 when compared to 2021, we grew our revenues in 2022 by 12%, or $3.2 million, to $30.6 million. We increased our gross profit by $2.6 million, or 41%, compared to 2021. And we improved our operating results from a loss of $831,000 in 2021 to operating income of $914,000 in 2022, a $1.7 million improvement.

We increased our adjusted EBITDA by over $2 million compared to 2021. We also managed to pay off $2 million of long-term debt from our operating cash flows during 2022, leaving us with no long-term debt except for our operating leases.

Now, let me turn to the P&L with some more details. Our total revenue for the fourth quarter of 2022 was $10.9 million, this compared to total revenue of $14.6 million in the fourth quarter of 2021, and up from $8.1 million in the third quarter of 2022.

Changes in the level of procurement and reseller revenues are the main driver of change compared to 2021 as our reseller revenues decreased by $4.1 million from $11.7 million in the fourth quarter of 2021 to $7.6 million in the fourth quarter of 2022. This was offset by a $0.6 million increase in our systems integration revenue compared to the fourth quarter of 2021.

Our facilities business, which includes our modular data center deployment and maintenance services, generated $1.2 million of revenue during the fourth quarter of 2022. This was $0.2 million, or 13% lower than such revenue from the fourth quarter of 2022. This was $2.1 million, or 63% lower than the $3.3 million we recorded in the third quarter of 2022.

We had a temporary slowdown in deployment revenues during Q4, largely due to container availability and the timing of customer programs. Our level of deployments has picked up again in the first quarter of 2023.

Now, for 2022 year, our facility business overall grew by 44%, or $3.1 million, to a total of $10.2 million for the year. This was driven by the overall increase of deployment of MBCs during 2022. As Darryll said, our deployment revenues grew 262% in 2022 as our customers worked through their backlog of deployments that have been delayed during the pandemic.

Our systems integration revenues were $2.1 million in the fourth quarter and $7.2 million for the full year of 2022, this represented $0.6 million, or 41% growth in the fourth quarter of 2022, compared to the fourth quarter of 2021. This was driven by an increase in our rack business in particular, including the first deliveries of complex and liquid cooling solutions, a new offering from our largest OEM customer, and the primary driver of the excess cost that was referred to earlier.

On a year-to-date basis, revenues from the integration business have increased by $1.5 million, or 27%, to $7.2 million in 2022. This operation was more impacted by supply chain issues during 2021 and the first half of 2022. And the overall supply chain challenges have definitely improved from where they were in 2021.

However, it takes only a single component on a project to have some supply issues and be delayed. That would then prevent us from completing a project for our customer and recognizing the revenue from this work. We anticipate that our level of integration services will stay at similar levels in the next quarter and improve from these levels going to 2023.

We were able to increase pricing going into 2023 to recapture some of our higher operating costs. And we do anticipate ongoing supply issues will continue to impact our integration business for the foreseeable future based on feedback from our vendors and customers who supply material to us.

Our reseller revenues decreased by $4.1 million, or 35% compared to the fourth quarter of 2021, but they were $4.5 million higher than the third quarter of 2022. The timing and the volume of these reseller and procurement transactions is often beyond our control. For the year, the total dollar volume of reseller transactions that we processed increased from $29 million in 2021 to $79 million in 2022.

Now, during the fourth quarter of 2022, most of these procurement reseller transactions were what we call agent transactions, where we recognized GAAP revenue as the amount of any fee or commission that we are paid. Now, some of these agent transactions can be quite large, and in fact, the gross value of all the procurement and reseller services during the fourth quarter was $34 million, compared to $24 million in the third quarter and $17 million in the fourth quarter of 2021.

But based on the accounting treatment of the agent transactions, that $34 million is translated into $7.6 million of reported revenue during the quarter. The higher volume of transactions allowed us to increase gross profits from this business by $900,000 compared to the fourth quarter of 2021.

So on a year-to-date basis, revenue from our procurement and reseller services decreased by $1.4 million, or 10%, to $13.2 million in 2022 compared to $14.7 million in '21. But our gross profits have increased by $1.7 million when compared to 2021 due to the higher level of agent transactions. We recommend that investors focus on the gross profit generated by this business, which we will continue to report.

We financed most of these deals for a short period of time. Higher interest rates caused our increased profit to be offset by an increase in $0.6 million in interest costs from financing these transactions. We increased our pricing for procurement services in the latter part of 2022 to account for the higher interest rate and to protect our profits.

In total, our gross profit margin of 18% during the fourth quarter was up from 12% in the fourth quarter of 2021. Our gross profit margin is directly influenced by a number of factors, including the mix of revenues between systems integration, facilities maintenance, and our reseller business, and the accounting for the reseller revenues.

In Q4 of 2022, our reseller revenues were 70% of our total revenues compared to 80% of our total revenues in the fourth quarter of 2021. And our rescaler -- sorry, our reseller revenues, were skewed towards agent-type arrangements, which is why we're seeing the gross profit margin improved compared to the prior year. Absent this business, we did see a decline in gross profit margins in 2022 through the impact of higher costs in our systems integration business that I was alluding to earlier.

From a mix perspective, for fiscal '22, our procurement reseller revenues were 43% of total revenues compared to 54% in 2021. And this helps explain why our gross profit margin improved for the year to 29% in 2022 from 23% in 2021. And overall, in actual dollar value, our gross profits increased in Q4 by $245,000 -- sorry, $254,000, or 15%, despite lower revenues compared to the prior year.

Our selling, general, and administrative expenses during the fourth quarter of 2022 were $2.5 million. This was up $871,000, or 53%, compared to the $1.7 million we had in the fourth quarter of 2021. Approximately [$591,000] of this increase was due to expenses incurred in connection with the change in our CEO that occurred during the fourth quarter. We obviously consider this a one-time expense.

The remaining portion of the increase was attributable to higher employee costs, primarily in our systems integration business. And for the year, our selling, general, and administrative expenses of $7.7 million were $1 million or 15% higher from the level of 2021. The CEO transition costs, along with the higher staffing and related expenses are what caused this increase.

So let me be clear about the excess cost we're incurring. The combination of the transition incurred in our executive leadership, but also personnel changes within the business unit, the cost of delivering new water-cooled solution offerings from our OEM partner, and the high level of program activity, all resulted in more labor required and more overtime during the quarter.

Not executing for our customers is not an option. We are executing plan changes to our labor sourcing model and training, and clearly see how these costs will normalize. Costs will remain higher than normal in Q1 as these plans take effect but should come back into alignment with revenue thereafter.

Discussing cost excesses is never positive. But I should remind everyone this occurred in response to customers demand and is a positive statement that our customers trust on us to deliver new and complex programs.

After the above, we recorded an operating loss of $723,000 in the fourth quarter of 2022 compared to an operating loss of $100,000 in the fourth quarter of 2021. The CEO transition cost represents most of this difference.

For fiscal '22, we've recorded operating income of $914,000 in 2022 compared to an operating loss of $831,000 in 2021, showing an improvement of $1.7 million in operating income compared to the previous year. After interest and tax costs, we had a net loss of $1,141,000, or $0.05 a share in the fourth quarter of 2022, this compared to a net loss of $264,000, or $0.01 a share in the fourth quarter of 2021.

For the calendar-year basis, our net loss was $73,000, to $0.00 per share in 2022, compared to a net loss of $1,297,000, or $0.07 a share in 2021, which was an improvement of $1.2 million. Our adjusted EBITDA, which excludes interest, taxes, depreciation, amortization, stock-based compensation, and the CEO transition costs, was a profit of $90,000 in the fourth quarter of 2022. That compared to an adjusted EBITDA income of $138,000 in the fourth quarter of 2021.

On a calendar-year basis, we had adjusted EBITDA profit of $2,243,000 in 2022 compared to an adjusted EBITDA income of $174,000 in 2021, meaning that we improved our adjusted EBITDA in 2022 by $2.1 million compared to 2021.

Now, turning to the balance sheet, our balance sheet position remains healthy. The timing of events around the reseller transactions definitely has material impact on our balance sheet. And changes in cash balances and increase in deferred costs, inventory, and accounts payable since the prior year are primarily due to the timing of cash receipts and payments related to reseller transactions.

We ended the year with over $20 million of cash on hand, but a comparable level of accounts payable as we had many reseller transactions where we'd been collecting proceeds from our customers but had yet to pay the related vendors and service providers. We continue to feel good about the strength of the balance sheet and are looking at ways to utilize it to assist us in growing future cash flows. We believe that we will have adequate trade credit available to us to continue financing our reseller activities as we grow this business during 2023 and beyond.

In July, we repaid in full all of the outstanding balances, including accrued interest from our notes payable to MHW Capital. We were able to repay this debt using existing funds on hand.

Now, MHW exercised outstanding warrants that have been issued in connection with this debt, allowing us to receive $0.4 million in proceeds from the warrant exercise in July. The shares underlying the warrants had been included in our earnings per share computation, except for those periods where it would be anti-dilutive since they've been granted back in 2015 and '17. So excluding our lease-related liabilities, we now have no long-term debt outstanding and a clean balance sheet.

With that, I will hand the call back to Darryll for his comments on the fourth quarter and how we see the business evolving into 2023. Thanks, Darryll.

Okay, John. Thank you very much. Appreciate a lot of numbers. Let me make a couple of comments on what I think we're focusing in on.

So my first call with investors was my first day on the job back in November. So now four months under my belt, it's good to have this opportunity to share my point of view of our business with each of you in addition to what John just presented and share my excitement about the future. And then I really need to underline that I'm very excited about our future.

So as we have reported, we structured a CEO-to-CEO transition that lasted about 1.5 months, which ended December 31, 2022. You can see how this impacted our financials in Q4, but it's really hard to quantify just how helpful this handoff was. While historically valuable with the data sharing and information of what we did in the past, it also allowed me and mainly allowed me and us to more quickly formulate our go-forward tactical and strategic goals, which I will address today.

I like in my role in so many words to being a head coach, player selection, game plan development, put the right people in the right jobs. You make adjustments; you need to communicate; and you execute. That's what we do. We're making sure that we do that during this time of change. We have engaged with our largest customer, and we have been challenged by them.

The message to me was very clear. They value TSS far more than I would have guessed, yet they question our ability to scale our business. We are taking this challenge head on. We have short-term issues to address in order to remediate the cost issues that impacted us in Q4, plus we are investing in talent and capabilities to prove our ability to deliver more customer programs in volume and in complexity.

Finally, we are aggressively considering our growth strategy. So let me address the Q4 issues and where we have taken action.

Number one, we have implemented new incentive compensation plans for our sales maker to foster quarter-by-quarter performance focused on execution. Number two, we've hired new operational leaders in our systems integration business, which clearly has its challenges, but also has its opportunities. Number three, we are optimizing our labor force to reduce total cost and to invest in people and training.

Number four, we've improved our customer engagement. Critical to our success will be gaining better demand visibility to our systems integration business, which very candidly, we didn't get before. So with this demand visibility, we can plan labor and material a lot better. We have lived with through dramatic swings in demand, which we will work to level out at higher volumes.

Number five, we've identified talent leadership within the organization and remove people or functions that hindered our ability to work as a team. We will continue to do this. Number six, set annual operating goals for 2023 that are planned based on driving profitable growth. We also have a stretch goal internally, but it's all based on profitable growth.

Now we have taken quick action to plan to scale. Number one, operational improvement is needed in our Round Rock integration facility. This includes updates to our automation systems to improve the management of cost schedules, data analysis, and warehouse management. This is underway.

We've had -- we are completing an industrial design review, which will provide a redesign of our process flow, allowing for scale and predictability of our systems integration business, and namely our rack-and-stack business. We are building to scale profitably in that facility our facility of 2 to 3x over our current capabilities, 2 to 3 times.

Number two here is demand generation activity. With the operational improvement step on the gas, so demand generation, as we internally say, our goal is to find ways to monetize our customer relationship and to build profitable growth. We have made a couple of key hires to generate new business in our systems integration and our facilities management units, focusing on demand generation and revenue growth.

One of our top five company goals is to obtain 10% of our revenue in 2023 from new logos to the company. These hires will help us reach our goals. We've begun the strategic planning process to identify ways to add additional value to our business. This translates to doing things that relate to the reasons why I remain very excited about the company.

We have core businesses that report as systems integration, facilities management, and reseller. Functionally, these businesses overlap. For example, our systems integration business may complete modular data centers in our facility in Round Rock and then we hand them over to the facilities management team for deployment and maintenance. A key value to our customers is the flexibility of our capabilities and our combination of integration and deployment.

If you will, we do the hard stuff. There are other larger, lower-cost integrators, but we perform the more challenging programs often associated with new offerings from our OEM customer or those that require more white glove service. We need to leverage this positioning in growth markets.

Clearly, technology is playing an increasing role in our lives. Our large OEM partner has plans to capture more of the growing market for IT infrastructure. We want to be their go-to market partner for the non-commodity high-value offerings, offerings such as modular data center, edge computing, and services directed markets ranging from hyperscale data centers to enterprise to telco and 5G are growth opportunities and may require extensions of our current capability. We will invest alongside our current customer and prove our differentiation to new customers in 2023.

We have a strong base of business, new energized management teams, and market opportunities to attack. I have joined TSS because I believe there's a significant opportunity to profitably grow our business. We have tried today to carefully explain the higher Q4 and Q1 costs we're experiencing.

The truth is I do not view these as operating costs, but instead as investments. We are investing in the people, training, and systems and sales to be able to profitably and substantially grow our company. We will emerge from the short window with the right players and a game plan for a successful future for the company and our shareholders.

With that, I'll turn the call back over to John and we can go over any questions you may have. John, cheers.

Do we lose John?

Sorry, I was about to say we should hand the call back to Mandeep to moderate any questions that anybody may have.

Okay. Very good. Good.

(Operator Instructions) [Maj Sudhin, Gale Investing].

Hello, Darryll. Thanks, it's been a really great call there. And putting some things in perspective, I think you answered a lot of my questions. I'm walking outside, I'm sorry if you might hear some noise here now. But the one question I had was this, to reach your -- or some of your goals of like diversifying your customer base, I think you said you wanted to get like 10% of the revenue from doing that.

Is that organically? Are there other opportunities from an acquisition point of view there to reach those goals too? Because that might be the easier way to do it along that will reduce that customer concentration.

Maj, I think answer it this way -- by the way, good to hear your voice, and thanks for the question.

I believe, when you say organically, can we do it with -- does that mean with the -- our current team and in our current operating mode? Is that what you mean?

Yes.

So the short answer is yes. It's a step in the direction. 10% is not where we want to end up, but it's the start.

So what kind of -- so that's -- you're going to do that from your current team and your current infrastructure. What type of opportunities exist outside that to grow inorganically, like through acquisitions? Is there -- how does that market look right now to be able to do that? Is it a real possibility in 2023?

Yeah, we're building that plan. I think, maybe there's an expression that it's all the facts are friendly. So it could be anything. Right now, we're looking at what have we looked at in the past, where's the market going, who are in -- who's playing in that market. Ultimately, at a bigger picture, I would like us all to find ways to build a recurring revenue flow that leverages a platform of sorts, if you will.

Our expertise, the facilities, the combination of our people and our knowledge to either partner in new ways that opens up new avenues of revenue or acquire. So I know that sounds kind of heady, but I'm not -- I don't think anybody on the Board or in the management team is against looking at ways to scale through acquisition if it makes good sense.

Right now, we're building that plan. We're trying to do two things at the same time, which is tactical growth, profitable tactical growth. I need to underline that because technical growth at any cost is dull. But strategic growth too, which is going to give us the bigger picture where we want to go when we grow up.

So tactical growth is -- clean up our operations, built for scale, get a better demand signal from our key customer, look for new opportunities in the same time, and manage that -- manage our operations much better than we did in the past, formally to make sure that we do this well and properly and profitably.

Great, great. And one more question, Darryll, is -- so your retail business can be quite volatile and lumpy. Are there some things -- and you may address, I missed the first few minutes of the call, but are there ways you can -- you're looking at to smooth that out and make them more consistent? I think the valuation stock out too, you can get that going.

Yeah. No, another good call. Good question. I'm going to shut you off, man. You can't have more than three questions. So I'm having some [fun with you], guys, [to tell you that].

We just -- we hired a business development lady to work alongside our efforts with our key customers, especially in the OEM space and in the Fed space. We expect that this lady and her skill set, her knowledge of our customer will allow us to build more demand that gives us the kind of, if you will, the coverage. If one thing doesn't happen, another thing does happen.

So we are in the pipeline development game. We've got to have enough coverage to help us smooth out the demand. The lumpiness oftentimes is -- it's the expression of football, right? You run to win, you throw to score. If you throw in to score, you either win bigger or you lose big. We've got to establish our running game, which in effect, is what we're talking about is building up pipeline.

All right. That's all I got. Thank you.

All right, man. Good to talk to you. You bet.

I would now like to turn the call over to Darryll Dewan for closing remarks.

Okay. I said earlier, I think I might have closed out a little ahead of schedule. But as I said earlier, I'm very excited about the business and our team. We're building a team of people who want to win, and that's exciting. And we've got some more work to do.

As we mentioned, we are carefully working on ways to improve our operating costs and reduce them and then also make the investments we need to scale. I think we will emerge, as I said earlier, from this period and be stronger and more exciting as a company to not only our employees, but also to our customer -- and customers, hopefully, and also to our shareholders.

So with that, I'd like to say thank you. I'm proud of our team. I appreciate everybody's help and support here. And I'll turn it back to our moderator.

Thank you, ladies and gentlemen. This does conclude today's call. Thank you for your participation. You may now disconnect.