NetSol Technologies, Inc. — Form 10-Q Summary
Reporting period: Quarterly and nine-month periods ended March 31, 2014. The provided metadata identifies “2013 Q3,” but the filing is the fiscal 2014 third-quarter report. Financial statements are unaudited. NetSol develops and provides software, implementation, consulting, maintenance, and IT services, with operations in North America, Europe, and Asia-Pacific.
Financial Highlights
| Metric | Three months ended March 31, 2014 | Three months ended March 31, 2013 | Nine months ended March 31, 2014 | Nine months ended March 31, 2013 |
|---|---|---|---|---|
| Revenue | $9.36 million | $12.61 million | $26.84 million | $34.88 million |
| Gross profit | $2.38 million | $6.90 million | $8.84 million | $19.82 million |
| Gross margin | 25.43% | 54.72% | 32.95% | 56.83% |
| Operating income (loss) | $(2.68) million | $3.14 million | $(5.43) million | $8.56 million |
| Net income (loss) attributable to NetSol | $(1.30) million | $1.56 million | $(4.02) million | $4.71 million |
| Basic EPS | $(0.14) | $0.19 | $(0.45) | $0.59 |
- Revenue mix: Quarterly license revenue declined to $2.12 million from $4.79 million, while maintenance revenue increased modestly to $2.56 million from $2.49 million and services revenue declined to $4.69 million from $5.33 million.
- Cash flow: Nine-month operating cash flow was $15.33 million, compared with $9.74 million in the prior-year period. Investing cash outflow was $10.89 million, including $9.58 million of property and equipment purchases and $3.16 million of additions to intangible assets. Financing cash flow was $0.21 million.
- Cash and liquidity: Cash and cash equivalents were $12.38 million at March 31, 2014, up from $7.87 million at June 30, 2013. Restricted cash was $2.50 million. Current assets were $35.38 million versus current liabilities of $15.06 million.
- Receivables and billings: Accounts receivable were $12.97 million and revenues in excess of billings were $4.52 million. The combined balance declined to $17.49 million from $30.05 million at June 30, 2013, primarily from collections, reclassification to receivables, and lower revenue.
- Debt: Loans and capital lease obligations totaled $7.69 million, including $5.86 million current and $1.84 million long term, compared with total debt of $6.72 million at June 30, 2013. Management reported compliance with applicable financial covenants and no defaults.
- Capitalization: Total assets were $103.69 million and total stockholders’ equity was $86.79 million. NetSol had 9,150,889 common shares outstanding as of May 9, 2014.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue declined 25.7%, and nine-month revenue declined 23.1%, largely because customers and the company shifted from the legacy platform to the next-generation NFS Ascent platform.
- Quarterly and nine-month gross margins fell substantially as license revenue declined while salaries, consultants, and depreciation and amortization increased in preparation for expected NFS Ascent projects.
- Operating expenses increased 34.8% for the quarter and 26.8% for the nine-month period. Selling and marketing costs rose to support the global NFS Ascent launch; general and administrative costs also increased.
- Foreign exchange results shifted from a $97,831 gain in the prior-year quarter to a $908,192 loss in the current quarter. For nine months, the foreign exchange gain declined to $299,270 from $997,725.
- The company sold Vroozi, Inc. on March 31, 2014, for a stated purchase price of $2.72 million and recognized a $1.87 million gain. Vroozi was reported as a discontinued operation.
- Accumulated other comprehensive translation loss improved to $14.92 million from $15.71 million, reflecting favorable currency translation during the period.
Guidance, Outlook, Risks, and Unusual Items
- Management outlook: Management expected license revenue to remain depressed through June 30, 2014, with potential deal closings and implementations beginning in the fourth quarter of fiscal 2014 and the first quarter of fiscal 2015. Maintenance revenue was expected to remain approximately flat until new NFS Ascent licenses are sold.
- Long-term targets: The company’s three-to-five-year plan contemplated double-digit revenue growth after NFS Ascent adoption, gross margins of 50% to 55% in 2015, and gross margins of at least 60% thereafter. These are management objectives, not guaranteed guidance.
- Investment program: NetSol hired more than 275 personnel during fiscal 2014 and reported 704 employees dedicated solely to NFS Ascent. It planned to expand its NFS domain-expert workforce to more than 1,000.
- Liquidity needs: Management estimated $2.5 million to $3.5 million of working-capital needs over the next 12 months for business development and infrastructure. Approximately $8.35 million of cash was held by foreign subsidiaries and was intended to remain permanently reinvested outside the United States.
- Foreign and geopolitical exposure: Operations are concentrated in Asia-Pacific, with exposure to Pakistan, China, Thailand, foreign exchange movements, geopolitical unrest, credit restrictions, and regional economic conditions.
- Control deficiency: Management concluded that disclosure controls were ineffective and identified a material weakness in internal control over financial reporting related to insufficient technical accounting training for certain accounting staff. Management expected the appointment and oversight of the new CFO to address the weakness in subsequent quarters.
- Other risks: The filing highlights technology obsolescence, dependence on qualified personnel, third-party technology licenses, pricing competition, delayed customer decisions, and the ability to convert the NFS Ascent pipeline into revenue.
- Unusual items: The Vroozi disposal gain, a $908,192 quarterly foreign exchange loss, increased capitalization and amortization of NFS Ascent-related product licenses, stock-based compensation, and noncash stock issued for services and vendor settlement affected comparability.
Investor Verification Checklist
- Verify whether NFS Ascent generated the expected license bookings, implementations, and margin improvement after the reporting period.
- Assess whether the material weakness in internal control over financial reporting was remediated and whether later filings reported additional control issues.
- Review the collectability and aging of accounts receivable and revenues in excess of billings.
- Confirm the terms, maturities, collateral, and covenant compliance of subsidiary borrowings, particularly in Pakistan and the United Kingdom.
- Track foreign exchange exposure and the amount of cash held by foreign subsidiaries that may not be readily available to fund U.S. operations.
- Verify receipt of the $452,675 Vroozi note due September 30, 2014 and the separate contingent $452,675 note receivable, which was excluded from the gain calculation because realization was uncertain.
- Evaluate whether the stated gross-margin and revenue-growth targets were achieved and distinguish management targets from actual reported results.