Innodata Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; unaudited. Innodata provides digital content and data services through Content Services (CS), Innodata Advanced Data Solutions (IADS), and Media Intelligence Solutions (MIS).
Financial performance
| Metric | Q1 2016 | Q1 2015 / comparison |
|---|---|---|
| Revenue | $15.7 million | $13.8 million; up 14% |
| Net income (loss) attributable to Innodata | $3,000; $0.00 per share | $(1.84) million; $(0.07) per share |
| Income (loss) before taxes | $409,000 | $(1.43) million |
| Adjusted EBITDA | $1.35 million | $(446,000) |
| Operating cash flow | $729,000 | $2.06 million |
| Cash and cash equivalents | $25.39 million | $24.91 million at Dec. 31, 2015 |
| Working capital | $26.12 million | $24.96 million at Dec. 31, 2015 |
Direct operating costs were $11.47 million, or 73% of revenue, versus $11.13 million, or 81%, a year earlier. Selling and administrative expense fell 8% to $3.81 million, or 24% of revenue versus 30%. The filing does not provide a consolidated operating-margin figure. Income tax provision was $518,000.
Segment revenue: CS $13.64 million (up 12%); IADS $897,000 (up 122%); MIS $1.16 million (roughly flat). CS reported $1.54 million of segment income before tax after intersegment eliminations; IADS reported a $671,000 loss and MIS a $462,000 loss.
Balance sheet, cash flow, and debt
Accounts receivable was $10.32 million, up from $9.25 million at year-end. Q1 operating cash flow declined year over year, with a $3.17 million cash use from accounts receivable partly offset by higher accounts payable and accrued expenses. Investing cash outflow was $153,000, primarily capital expenditures; financing cash outflow was $190,000 in payments on long-term obligations. Cash increased by $478,000, including a $92,000 favorable currency effect.
Total obligations were $5.04 million, including $1.45 million current and $3.59 million long term; these include lease, vendor, acquisition-related, and pension obligations. Contractual cash obligations listed were $1.89 million, including $1.25 million of non-cancellable operating leases. The company reported no variable-rate interest exposure on its fixed-rate lease financing.
Of cash, $22.2 million was held by foreign subsidiaries and $3.2 million in the United States. Management intends to permanently reinvest foreign funds except for a projected $3.0 million deemed-dividend situation; $2.0 million of payments to Asian subsidiaries were deferred in Q1.
Changes, outlook, and risks
- Improved results reflected revenue growth and lower selling and administrative costs, especially in CS. CS growth came from e-book-related work and other client projects, including a European publisher project. IADS growth came primarily from increased Synodex work.
- IADS remained loss-making. The company said it expects to invest $0.7–$0.9 million per quarter in IADS in the immediate future, and expects $2.5–$3.5 million in capital expenditures over the next 12 months. Management said existing cash and internally generated funds should meet needs for the next 12 months, while noting that investment or expenses could be reduced if funding proves inadequate.
- No specific revenue or earnings guidance was provided. Management cautioned that client projects may be reduced, delayed, cancelled, or not replaced; revenue is concentrated among a limited number of CS clients; and results can fluctuate with project start-ups, wage inflation, and seasonality.
- Investigation: The company disclosed potentially improper payments and related transactions involving employees of a foreign subsidiary. The Audit Committee began an investigation with independent counsel and forensic accountants; the company voluntarily contacted the DOJ and SEC and said it would cooperate. Management could not predict the investigation’s outcome, costs, control implications, or governmental action. It believed the amounts in question were not material based on information then available. Management concluded disclosure controls were effective at quarter-end, but said the investigation could prompt reassessment.
- Tax matters: Indian tax assessments and other tax proceedings remain contested. An Indian service-tax authority asserts that certain services may be taxable at approximately 14.5%; the subsidiary generated $4.2 million of revenue in Q1. The company disputes the position, and the filing does not state a clear ultimate exposure. Appeals also seek reversal of certain service-tax refunds, with delays in refunds expected pending resolution.
- Legal contingency: A Philippines employment-related case includes an approximately $8.0 million back-pay and benefits claim. The company, relying on counsel, said recovery against it was unlikely. Separately, adverse outcomes of up to approximately $100,000 beyond recorded amounts were described as reasonably possible for other proceedings and claims.
- Foreign currency exposure is partly hedged with forward contracts totaling $19.3 million notional; the company reported an unrealized gain of about $274,000. A 10% currency movement could materially change hedge fair value, though management expects corresponding changes in hedged cash flows to substantially offset it.
Important facts for investors to verify
- Progress and potential financial, legal, or internal-control consequences of the foreign-subsidiary payments investigation and any government inquiries.
- Resolution and possible cash impact of Indian tax assessments, service-tax disputes, and delayed refunds.
- Whether CS revenue growth and improved cost ratios continue, given client and project concentration.
- IADS’s ongoing quarterly investment and path to reducing losses, alongside MIS’s higher direct costs and continuing losses.
- Cash availability and transferability, including the large foreign-held balance, deferred intercompany payments, and potential U.S. tax consequences.
- Collections and working-capital trends, since accounts receivable growth contributed to lower operating cash flow.