NetSol Technologies, Inc. — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended March 31, 2013; filed May 9, 2013. The request metadata identifies “2012 Q3,” but the filing clearly covers fiscal 2013 Q3 and compares with the periods ended March 31, 2012. Financial statements are unaudited.
Business context
NetSol develops and markets enterprise software and provides systems integration, consulting, information technology and managed services, primarily for automobile finance and leasing, banking, healthcare and financial-services customers. Its principal offerings include NetSol Financial Suite and Vroozi smartOCI. Operations are organized across North America, Europe and Asia-Pacific, with Asia-Pacific generating approximately 69.8% of nine-month revenue.
Key financial metrics
| Metric | Three months ended March 31, 2013 | Three months ended March 31, 2012 | Nine months ended March 31, 2013 | Nine months ended March 31, 2012 |
|---|---|---|---|---|
| Revenue | $12.8 million | $10.6 million | $35.7 million | $25.4 million |
| Gross profit / margin | $6.5 million / 50.7% | $5.7 million / 53.7% | $18.5 million / 51.9% | $12.5 million / 49.3% |
| Operating income / margin | $2.6 million / 20.7% | $2.2 million / 20.4% | $7.1 million / 19.8% | $2.6 million / 10.0% |
| Net income attributable to NetSol | $1.6 million | $1.7 million | $4.7 million | $0.5 million |
| Basic and diluted EPS | $0.19 | $0.27 | $0.59 | $0.09 |
| Operating cash flow | Not separately provided | Not separately provided | $9.7 million | $5.3 million |
| EBITDA, non-GAAP | $3.1 million / 24.0% | $3.1 million / 29.1% | $9.3 million / 26.1% | $4.4 million / 17.5% |
License revenue increased to $11.5 million for the nine-month period from $6.1 million, maintenance revenue increased to $7.2 million from $6.0 million, and services revenue increased to $17.0 million from $13.4 million. Nine-month net income after tax was $7.5 million, including $2.8 million attributable to non-controlling interests.
Balance sheet, cash flow and debt
- Cash and cash equivalents were $7.7 million at March 31, 2013, compared with $7.6 million at June 30, 2012 and $9.1 million at March 31, 2012.
- Restricted cash increased to $2.1 million from $0.1 million at June 30, 2012.
- Accounts receivable increased to $17.6 million from $13.8 million. Management reported days sales outstanding of 135 days, improved from 158 days in the prior-year period.
- Total current assets were $41.8 million and total current liabilities were $14.3 million. Total assets were $101.1 million and total liabilities were $15.7 million.
- Operating cash flow of $9.7 million was more than offset by $10.9 million of investing cash outflows, including $6.8 million of property and equipment purchases, $3.5 million of capitalized intangible development and $0.8 million used to purchase additional interests in a subsidiary.
- Financing activities provided $1.6 million, including $2.2 million from option and warrant exercises, partly offset by debt and capital-lease payments.
- Debt and lease obligations included approximately $4.8 million of loans and capitalized leases, $2.0 million of bank loans, and $0.4 million of current convertible notes payable. The remaining convertible notes were converted in April 2013, according to the subsequent-events disclosure.
- The company stated that it was in compliance with borrowing covenants and had no defaults. It expects to fund obligations from internal sources.
Material changes versus the prior comparable period
- Quarterly revenue grew 20.8%, led by a $1.8 million increase in license revenue and a $0.7 million increase in maintenance revenue; services revenue declined approximately $0.3 million.
- Quarterly gross margin declined to 50.7% from 53.7%, primarily reflecting higher salaries, consultant costs and depreciation and amortization.
- Quarterly operating margin improved slightly to 20.7% from 20.4%, as operating expenses declined as a percentage of revenue.
- Quarterly NetSol-attributable net income declined 7.2% to $1.6 million, partly because of lower foreign-exchange gains and higher non-controlling interests.
- Nine-month revenue rose 40.3%, operating income rose approximately 177%, and NetSol-attributable net income increased from $0.5 million to $4.7 million.
- Nine-month gross margin improved to 51.9% from 49.3%, while EBITDA margin increased to 26.1% from 17.5%.
- Accumulated foreign-currency translation losses increased to $14.7 million from $12.4 million at June 30, 2012.
- NetSol purchased 4,071,400 shares of NetSol PK for $0.8 million, reducing the non-controlling interest from 39.48% to 34.35%.
- The company completed a 10-for-1 reverse stock split in August 2012. In September 2012, it replaced its convertible note, reduced the conversion price to $4.93 and recorded related financing and beneficial-conversion charges.
Guidance, outlook, risks and unusual items
- Management’s three-to-five-year strategy targets annual revenue growth of 15% to 25%, 2013 gross margins of 55% to 60%, and average gross margins of 63% to 65% over the following three years. These are management targets, not guarantees.
- Management expects continued growth in China, Thailand, Pakistan, Saudi Arabia, North America and the Vroozi e-commerce business, supported by new contracts, license sales, maintenance renewals and strategic alliances.
- The company anticipates working-capital needs of approximately $5.0 million to $7.0 million over the next 12 months for business development and infrastructure enhancements, while seeking to limit reliance on new external capital.
- Material risks include foreign-exchange volatility, geopolitical unrest and US-Pakistan tensions, recessionary conditions in Europe, pricing competition in China, delayed customer decisions and collections, restricted credit availability, technology obsolescence, dependence on qualified personnel, and the recoverability of capitalized software and intangible assets.
- The filing reports a material weakness in internal control over financial reporting related to insufficient technical U.S. GAAP expertise among accounting personnel. Management concluded that disclosure controls and internal controls were not effective as of March 31, 2013 and described training, recruitment and oversight efforts to remediate the weakness.
- Subsequent to quarter-end, $400,000 of remaining convertible-note principal was converted into 81,136 shares. Employees and an officer also exercised options for shares valued at $585,000 in aggregate.
- Management reported no material litigation and no defaults upon senior securities.
Most important facts for investors to verify
- Whether the company can sustain the sharp nine-month revenue and earnings growth, particularly the increase in license sales.
- Whether quarterly gross-margin pressure reverses toward management’s 55% to 60% target.
- Collection of the $17.6 million accounts receivable balance and the effect of a 135-day collection cycle on liquidity.
- The funding requirement for planned capital expenditures and the ability to meet the stated $5 million to $7 million working-capital need without dilutive financing.
- Remediation and independent validation of the disclosed material weakness in U.S. GAAP financial-reporting controls.
- Foreign-exchange exposure and the impact of the $14.7 million accumulated translation loss.
- The effect of non-controlling interests, option and warrant exercises, and the completed convertible-note conversion on future per-share results and dilution.
- Execution risk associated with the company’s aggressive growth targets, APAC concentration and expansion of Vroozi.