Aware, Inc. — FY2016 Form 10-K
Business context and reporting period. Aware develops and sells biometric software and related engineering services for government and commercial identity systems, with most business historically tied to government customers. It also sells medical and advanced-imaging software and receives legacy DSL royalties. This filing covers the fiscal year ended December 31, 2016; quarterly figures are unaudited.
Financial performance and position
| Metric | FY2016 | FY2015 |
|---|---|---|
| Revenue | $21.6 million | $19.6 million |
| Operating income | $5.9 million | $3.9 million |
| Operating margin | 27.4% | 20.0% |
| Net income | $4.1 million | $4.6 million |
| Diluted EPS | $0.18 | $0.20 |
| Operating cash flow | $3.8 million | $6.7 million |
| Cash and cash equivalents | $51.9 million | $51.2 million |
| Investments | $1.0 million | $0.9 million |
| Working capital | $51.3 million | $49.2 million |
| Total liabilities | $4.1 million | $7.4 million |
No borrowings or material capital-expenditure commitments are disclosed. The company said available cash and investments should fund operations for at least the next 12 months.
Material changes versus prior period
- Revenue rose 10%, primarily on higher software-license revenue, including large sales to the U.S. Marine Corps, U.S. Navy, and a systems integrator, plus recognition of a prior imaging-software license arrangement.
- Software-license revenue increased to $14.1 million from $10.1 million; maintenance revenue rose to $5.1 million from $4.7 million.
- Services revenue fell 47% to $1.7 million, reflecting completion of large prior-year projects. Hardware revenue fell 71% to $0.3 million as Navy purchases wound down. Management expects hardware sales to be minimal and has no hardware backlog.
- Operating income improved by $2.0 million, including $0.8 million of patent-related income. Net income declined despite higher operating income because 2015 included a $0.5 million income-tax benefit, while 2016 had $2.1 million of tax expense.
- Operating cash flow declined to $3.8 million, in part because deferred revenue decreased by $3.1 million. The 2015 comparison included a $3.6 million increase in deferred revenue.
- For Q4 2016, revenue was $3.9 million, operating income $0.6 million, and net income $0.5 million, compared with $6.9 million, $2.6 million, and $1.8 million, respectively, in Q4 2015.
Outlook, commentary, and risks
- No quantified revenue or earnings guidance is provided. Management intends to continue investing in product development and pursue broader biometric solutions, commercial opportunities, and international markets; such investment may reduce near-term profitability.
- A third-party development project for a new product began in Q4 2016 and was expected to finish in mid-2017. The company estimated up to an additional $750,000 of R&D expense in the first half of 2017, depending on milestones.
- Year-end backlog was $3.3 million, mostly software maintenance; approximately $2.7 million of that maintenance backlog was expected to be recognized in 2017. Services backlog was $0.4 million, expected in Q1 2017.
- Customer and government-contract timing can create substantial period-to-period volatility. In 2016, the Marine Corps and Leidos each represented 18% of revenue and Telos represented 12%. Commercial biometrics adoption, including the Certisign service rollout, had been slower than expected.
- Other significant risks include dependence on government funding and channel partners, intense competition and pricing pressure, evolving technology and standards, privacy concerns, software defects, intellectual-property claims, and retention of key employees.
- Patent-related income of $0.8 million in 2016 arose from a third party’s patent-monetization activity; future proceeds are uncertain. DSL royalties declined to $0.3 million and are expected to continue declining.
- The company plans to adopt the new revenue standard in 2018 using full retrospective application. Management expects a potentially material change to the timing of revenue recognition for a 2015 imaging-software contract, as well as changes affecting royalty and minimum-payment arrangements.
- The company repurchased 690,801 shares for $3.7 million during 2016 under a $10 million authorization expiring December 31, 2017. No dividends were paid in 2016 or 2015. The auditor gave an unqualified opinion and concluded internal control over financial reporting was effective.
Important facts for investors to verify
- Whether large government software-license orders recur and how customer concentration changes.
- Whether services revenue stabilizes given the limited year-end services backlog, and whether hardware revenue effectively ceases.
- How much of future operating performance depends on nonrecurring patent-related income and the declining DSL royalty stream.
- The eventual impact of the revenue-standard transition, especially on the 2015 imaging contract and reported comparative results.
- Progress, cost, and commercial demand for the new product and for commercial-market initiatives.
- Cash deployment under the repurchase authorization and the sustainability of cash generation as deferred revenue and major contract timing change.