NetSol Technologies, Inc. — Form 10-K Summary
Reporting period: Fiscal year ended June 30, 2012. The filing also presents fourth-quarter results for the three months ended June 30, 2012. The requested “2011 Q4” period appears inconsistent with the filing, which compares Q4 2012 with Q4 2011.
Business Context
NetSol provides enterprise software, licensing, implementation, maintenance, consulting, systems integration and managed services. Its primary product is NetSol Financial Suite, serving leasing, asset finance, lending and banking customers. The company also operates Vroozi, an e-commerce and SAP procurement business, and has operations across North America, Europe and Asia-Pacific.
- Asia-Pacific generated 74.28% of fiscal 2012 revenue; Americas-Europe generated 25.72%.
- NetSol had 854 full-time and 3 part-time employees at June 30, 2012.
- The company acquired a 51% controlling interest in Virtual Lease Services Holdings Limited, which acquired Virtual Lease Services Limited, for approximately $1.0 million in cash.
Financial Performance and Key Metrics
| Metric | FY 2012 | FY 2011 | Change |
|---|---|---|---|
| Revenue | $39.78 million | $36.55 million | 8.83% increase |
| License revenue | $13.37 million | $11.28 million | 18.48% increase |
| Maintenance revenue | $7.87 million | $7.49 million | 5.06% increase |
| Services revenue | $18.54 million | $17.77 million | 4.30% increase |
| Gross profit | $21.50 million | $21.74 million | 1.13% decrease |
| Gross margin | 54.05% | 59.49% | Down 5.44 percentage points |
| Operating income | $7.26 million | $10.16 million | 28.53% decrease |
| Operating margin | 18.26% | 27.81% | Down 9.55 percentage points |
| Net income attributable to NetSol | $2.45 million | $5.73 million | 57.31% decrease |
| Basic and diluted EPS | $0.39 | $1.18 basic; $1.16 diluted | Decline |
| Net EBITDA | $7.89 million | $10.85 million | 27.28% decrease |
Cost of revenues increased to $18.28 million from $14.80 million, driven by higher technical salaries, travel, depreciation and amortization, and other operating costs. Operating expenses increased 22.92% to $14.23 million, including higher salaries and general and administrative expenses and the first-time consolidation of acquired operations.
Fourth-Quarter Results
| Metric | Q4 FY 2012 | Q4 FY 2011 |
|---|---|---|
| Revenue | $14.33 million | $6.89 million |
| Gross profit | $8.95 million | $2.82 million |
| Gross margin | 62.49% | 40.86% |
| Operating income | $4.71 million | $(0.56) million |
| Net income attributable to NetSol | $1.90 million | $(1.09) million |
Q4 revenue benefited from $7.28 million of license fees, compared with $1.03 million in the prior-year quarter. Asia-Pacific accounted for 82.12% of Q4 revenue.
Cash Flow, Liquidity and Debt
- Cash and cash equivalents increased to $7.60 million at June 30, 2012 from $4.17 million at June 30, 2011. Restricted cash was $0.14 million.
- Working capital increased to $22.67 million from $14.58 million.
- Operating cash flow was $8.11 million, down from $13.92 million.
- Investing cash flow was $(11.41) million, including $4.91 million of property and equipment purchases and $6.17 million of additions to intangible assets.
- Financing cash flow was $9.09 million, supported by $5.74 million from common-stock sales, $0.73 million from option and warrant exercises, $4.00 million of convertible-note proceeds and $4.19 million of bank-loan proceeds.
- Accounts receivable were $13.76 million, and revenues in excess of billings were $12.13 million. Days sales outstanding improved to 127 days from 150 days.
- Total liabilities were $16.35 million, compared with $20.74 million in the prior year. Convertible notes totaled $3.75 million, of which $2.81 million was classified as current. Bank loans totaled approximately $2.12 million, and loans and capital-lease obligations totaled approximately $3.71 million.
- Management stated that the company and its subsidiaries were in compliance with borrowing covenants.
Material Changes Versus the Prior Comparable Period
- Revenue growth was driven primarily by higher software licensing revenue and stronger Asia-Pacific activity.
- Profitability deteriorated despite revenue growth because cost of revenues and operating expenses increased faster than revenue.
- Net income attributable to NetSol declined substantially, partly reflecting increased non-controlling interests and lower operating and foreign-exchange gains.
- NetSol issued 1,667,500 shares in a registered offering for net proceeds of approximately $5.74 million, increasing the weighted average share count and contributing to dilution.
- The company established or expanded NetSol Beijing, Vroozi and VLS operations, while continuing investment in next-generation NFS software and infrastructure.
- Accumulated foreign-currency translation losses increased to $12.36 million from $8.81 million, primarily reflecting currency movements in international subsidiaries.
Guidance, Outlook and Management Commentary
- Management projected 15%–25% annual revenue growth for the next five years.
- Management targeted gross margins of 60%–65% in 2013 and an average of 70% over the following three years.
- The next-generation NFS product was expected to be completed during calendar 2013, although management warned that the product transition could temporarily pressure license-fee revenue.
- Management identified China, Thailand, Japan, North America, Saudi Arabia, cloud computing and Vroozi’s e-commerce platform as key growth opportunities.
- The company expected working-capital needs of approximately $4 million to $6 million over the following 12 months for research and development, product development, business development and infrastructure.
Risks, Contingencies and Unusual Items
- Management reported a material weakness in internal control over financial reporting because core accounting personnel lacked sufficient technical U.S. GAAP expertise. The auditor issued an adverse opinion on the effectiveness of internal control.
- The company remains exposed to geopolitical and operating risks in Pakistan and Afghanistan, including regional unrest and strained U.S.-Pakistan relations.
- Revenue is concentrated geographically and includes significant relationships with Daimler Financial Services, Toyota and Nissan. Although no individual customer exceeded 10% of revenue, Daimler-related entities represented approximately 19.72% of fiscal 2012 revenue.
- The company faces foreign-exchange risk because significant operations and receivables are denominated in foreign currencies. Management generally does not hedge this exposure.
- Most deferred U.S., Pakistan and UK tax assets were subject to full valuation allowances. U.S. federal net operating-loss carryforwards were approximately $29.03 million, subject to potential Section 382 limitations.
- Goodwill totaled $9.65 million, and no impairment was recorded. The Asia-Pacific reporting unit’s excess fair value over carrying value was large, but the Europe reporting unit had a lower stated cushion of 221.77%.
- The company completed a 1-for-10 reverse stock split on August 13, 2012. Reported share and per-share amounts were adjusted where applicable.
- No material litigation was reported.
Important Facts for Investors to Verify
- Reconcile the filing’s fiscal-year and Q4 figures with the requested 2011 Q4 period.
- Review the auditor’s adverse internal-control opinion and management’s remediation progress.
- Assess whether the targeted gross-margin expansion is achievable after the FY 2012 margin decline.
- Evaluate cash conversion, the high accounts-receivable balance and the 127-day collection cycle.
- Review the maturity and refinancing requirements for the $3.75 million convertible notes and other borrowings.
- Assess dilution from the public offering, convertible notes, warrants, options and equity compensation.
- Examine the sustainability of revenue concentration in Asia-Pacific and Daimler-related customers.
- Verify execution, timing and commercialization of the next-generation NFS product and Vroozi initiatives.