NetSol Technologies, Inc. — Form 10-K Summary
Reporting period: Fiscal year ended June 30, 2017, compared with fiscal year ended June 30, 2016. The filing was signed September 28, 2017. Although the request references “2016 Q4,” this filing is an annual report for fiscal 2017, not a quarterly filing.
Business Context
NetSol provides enterprise software, licensing, implementation, consulting, maintenance and support services primarily to the global leasing, automotive finance and asset-finance industries. Its principal products are the NetSol Financial Suite and next-generation NFS Ascent platforms. Operations are organized into North America, Europe and Asia-Pacific, with approximately 1,461 employees at June 30, 2017.
Asia-Pacific generated approximately 80.9% of 2017 revenue. Daimler Financial Services accounted for approximately 44.25% of consolidated revenue, while 1insurer accounted for approximately 8.67%, creating significant customer concentration.
Key Financial Metrics
| Metric | FY2017 | FY2016 | Change |
|---|---|---|---|
| Total revenue | $65.4 million | $64.6 million | +$0.8 million |
| Gross profit | $28.4 million | $30.8 million | -$2.4 million |
| Gross margin | 43.5% | 47.7% | -4.2 percentage points |
| Operating income (loss) | $(1.0) million | $6.3 million | -$7.3 million |
| Net income (loss) | $(1.7) million | $5.1 million | -$6.8 million |
| Net loss attributable to NetSol | $(5.0) million | $3.4 million | -$8.4 million |
| Basic and diluted EPS | $(0.46) | $0.33 basic; $0.32 diluted | Declined |
| Adjusted EBITDA, net | $2.8 million | $9.1 million | -$6.3 million |
| Cash flow from operations | $0.5 million | $1.7 million | -$1.2 million |
Revenue composition shifted materially: license revenue increased to $18.2 million from $8.4 million, primarily because of $16.3 million recognized on the 12-country NFS Ascent contract. Services revenue declined to $24.8 million from $30.0 million, while maintenance revenue increased to $14.2 million from $13.3 million. Related-party services declined to $7.6 million from $10.9 million.
Cost of revenue increased to $37.0 million from $33.7 million, and operating expenses increased 20% to $29.4 million. Selling and marketing, general and administrative expense, and the provision for doubtful accounts were the principal drivers of the increase. The company recorded $1.4 million of bad-debt provision in 2017 versus $0.2 million in 2016.
Liquidity, Debt and Capital Resources
- Cash and cash equivalents were $14.2 million at June 30, 2017, compared with $11.6 million at June 30, 2016. Approximately $11.6 million was held by foreign subsidiaries.
- Current assets were $44.3 million and current liabilities were $21.1 million.
- Total loans and capitalized lease obligations were $10.6 million, including $10.2 million due within one year.
- Net cash used in investing activities was $2.7 million, including capital expenditures, a $1.1 million cash investment in WRLD3D and a $0.2 million convertible note receivable.
- Net cash provided by financing activities was $4.4 million, primarily reflecting $6.2 million of bank borrowings, partly offset by debt repayments and a $2.2 million subsidiary dividend to non-controlling interests.
- Combined accounts receivable and revenue in excess of billings increased to $32.6 million from $26.7 million. Days sales outstanding increased to 165 days from 119 days.
- The company stated that it was in compliance with applicable debt covenants and had no defaults. It anticipated $1 million to $2 million of working capital for the following 12 months.
Material Changes Versus Prior Period
- Revenue was broadly flat, but profitability deteriorated sharply because of lower services revenue, higher personnel and selling costs, increased bad-debt expense and implementation delays.
- Gross margin fell from 47.7% to 43.5%, and the company moved from operating income to an operating loss.
- Asia-Pacific revenue increased to $52.9 million from $48.4 million, while European revenue declined to $6.9 million from $10.7 million. North American revenue was relatively stable at $5.6 million.
- The company completed the first phase of an NFS Ascent upgrade in Australia and New Zealand and continued implementation in China, Korea and South Africa.
- A restructuring initiated in December 2016 was expected to produce approximately $4 million of savings over the following year.
- NetSol invested significantly in WRLD3D and began accounting for the investment under the equity method after determining it had significant influence. The company’s CEO’s son became WRLD3D’s CEO, and company executives had a financial interest in another investor in WRLD3D.
- The company repurchased 7,500 shares during fiscal 2017. Subsequent to year-end, it repurchased an additional 111,780 shares at an average price of $4.48 per share.
Outlook, Risks and Unusual Items
Management expected growth from NFS Ascent adoption, replacement of legacy systems in North America and Europe, expansion in China and other Asia-Pacific markets, increased maintenance revenue and broader sales and marketing efforts. No formal revenue or earnings guidance was provided.
- Customer concentration: Daimler represented 44.25% of revenue and had a 10-year contract with approximately $81 million of license and maintenance fees, but certain country or module commitments could be terminated under specified conditions.
- Contract accounting and collection risk: Revenue in excess of billings totaled $24.4 million current and $5.2 million long-term. The company reported increased days sales outstanding and higher doubtful-account provisions.
- Internal controls: Management concluded that disclosure controls and internal control over financial reporting were ineffective due to a material weakness related to the restatement of quarterly financial information. Remediation included implementation of a global ERP system and engagement of an internal audit consulting firm.
- Foreign exposure: The company is exposed to foreign exchange, political, economic and regulatory risks in Pakistan, China, the United Kingdom, Thailand and other markets. Management generally does not hedge its currency exposure.
- Litigation: A shareholder derivative action was settled and dismissed with prejudice effective June 29, 2017. A separate Conister Bank claim against VLS alleged damages exceeding £200,000, approximately $260,000; VLS denied the claims and reported insurance coverage for expenses.
- Related-party exposure: The WRLD3D investment, convertible note and services arrangement involved related-party relationships and subsequent additional lending of $500,000 after year-end.
- Non-GAAP results: Adjusted EBITDA declined substantially and excludes recurring stock-based compensation. Investors should reconcile these measures to GAAP results.
Important Facts for Investors to Verify
- Progress, billing and collectability of the 12-country Daimler NFS Ascent contract and the related $24.4 million of current revenue in excess of billings.
- Whether the announced restructuring achieves the expected approximately $4 million in annual savings and restores positive operating margins.
- Remediation of the material weakness and effectiveness of the new ERP and internal-audit processes.
- Customer concentration, particularly Daimler’s approximately 44% revenue contribution and contractual termination provisions.
- Foreign-subsidiary cash accessibility, debt maturities, covenant compliance and potential tax costs of repatriating foreign earnings.
- Recoverability and governance of the WRLD3D investment, convertible note and related-party service arrangements.
- Ability to reduce receivable aging and days sales outstanding while funding implementation and expansion activities.