Innodata Inc. — Q2 2019 Form 10-Q
Business context and reporting period: Unaudited results for the quarter and six months ended June 30, 2019, compared with the corresponding 2018 periods. Innodata provides data and digital operations services using human expertise and machine learning; its segments are Digital Data Solutions (DDS), Synodex, and Agility PR Solutions (Agility). Amounts below are in U.S. dollars; financial statement figures are converted from thousands to millions.
Key financial results
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Revenue | $13.64m | $14.27m | $27.33m | $28.39m |
| Net loss attributable to Innodata | $(0.65)m | $(0.47)m | $(1.11)m | $(0.73)m |
| Loss per share, basic and diluted | $(0.03) | $(0.02) | $(0.04) | $(0.03) |
| Adjusted EBITDA, non-GAAP | $0.35m | $1.65m | $0.82m | $2.98m |
| Operating cash flow | Not separately presented | Not separately presented | $3.11m | $2.98m |
- Q2 revenue fell about 5% year over year; six-month revenue fell about 4%. Q2 loss before tax was $0.56m, versus $0.01m in Q2 2018; the six-month result shifted to a $1.04m loss from $0.30m of pretax income.
- Direct operating costs were $9.58m in Q2 and $19.14m for six months. They were 71% of revenue in Q2 2019 versus 69% in Q2 2018; the six-month ratio was 70% in both years. Selling and administrative expenses rose 24% in Q2 to $4.61m and 21% for six months to $9.22m.
- Segment revenue: DDS $10.05m in Q2 and $20.23m for six months; Synodex $0.92m and $1.94m; Agility $2.67m and $5.17m. DDS and Synodex revenue declined year over year; Agility revenue increased, led by subscriptions and its seasonal Bulldog awards program.
- At June 30, cash and equivalents were $12.26m, current assets $25.96m, current liabilities $15.18m, and working capital $10.78m, down from $12.98m at December 31, 2018. Accounts receivable was $8.51m, compared with $10.63m at year-end.
- Six-month operating cash flow of $3.11m was driven largely by a $2.39m reduction in receivables and other working-capital movements, partly offset by the net loss. Investing cash outflow was $0.81m, mainly capital expenditures; financing cash outflow was $0.70m for long-term obligation payments. Cash increased by $1.39m over the period.
- Long-term obligations, including their current portion, totaled $3.95m. Separately, operating lease liabilities were $8.43m ($1.16m current); the company adopted the new lease standard in 2019 and recognized related right-of-use assets. No debt facilities or lines of credit were in place.
Material changes and management commentary
- DDS revenue declined 8% in Q2, primarily from lower volume at three clients; for the six months it fell 5%, mainly due to one client. Management attributed lower direct costs partly to labor and delivery-center cost rationalization begun in 2017.
- Management said increased DDS product and marketing investment contributed to higher selling and administrative expense. Agility’s six-month net loss increased to $1.19m from $0.80m, with spending to support growth; its six-month Adjusted EBITDA loss was $0.42m versus approximately break-even a year earlier.
- Q2 and six-month 2019 results included a one-time $0.40m charge for retroactive foreign social security contributions following an Indian Supreme Court decision affecting companies generally. Q2 2018 and first-half 2018 included a $0.675m DDS goodwill impairment; there was no goodwill impairment in 2019.
- Management expects capital expenditures of approximately $2.0m–$2.5m over the next 12 months and believes existing cash and internally generated funds should meet financial needs for that period. No material capital expenditure commitments were reported. The filing provides no revenue or earnings guidance.
- Management noted quarterly variability as projects start, end, or change volume; Synodex revenue is typically lowest in Q3 and highest in Q4. Wage inflation in Asian operating locations may not be recoverable through customer pricing. Foreign exchange, customer concentration, project-based work, competition, cybersecurity and data privacy, and acquisition integration are identified risks.
Risks, contingencies, and other items
- Two DDS clients represented about 26% of total revenue in both Q2 and the first half of 2019. At June 30, two clients accounted for 36% of receivables; approximately 58% of receivables were from foreign clients.
- An Indian tax authority dispute concerns the classification of services for July 2012–November 2016. If the authority prevails, the stated tax rates are 12.36%–15% on approximately $68.3m of subsidiary revenue for that period. Management disputes the claim and, based on counsel’s assessment, recorded no liability. A separate dispute concerns approximately $0.16m of service-tax refunds; about $1.0m of service-tax credits remain recorded as a receivable.
- A 2008 Philippine judgment against a no-longer-active subsidiary, purportedly also against Innodata Inc., was approximately $6.2m plus accrued interest. A U.S. preliminary injunction barring former employees from pursuing U.S. enforcement against Innodata remained in effect. The filing cautions that a substantial recovery could materially affect the company. Management also identified approximately $0.275m of reasonably possible aggregate loss beyond recorded reserves for other proceedings.
- Unrecognized tax benefits and related interest were approximately $2.73m at June 30, 2019. The company maintains valuation allowances against U.S. and Canadian deferred tax assets. It reported $19.4m of unremitted foreign earnings intended to be indefinitely reinvested; future remittance could incur foreign withholding taxes.
- Management concluded disclosure controls and procedures were effective as of June 30, 2019, and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether DDS can stabilize client volumes and reduce reliance on a small number of customers, and whether planned sales, product, and marketing investment produces growth.
- Whether operating cash generation continues after the benefit from receivables collection, given working capital’s decline and planned capital expenditures.
- The progress and financial impact of the Indian tax disputes, including the recorded service-tax-credit receivable, and the status of the Philippine judgment and injunction.
- Agility’s path toward profitability, and the effect of customer acquisition and content-related costs on margins.
- Whether the company’s liquidity remains adequate without committed credit facilities, particularly if losses, legal payments, or other adverse developments reduce cash.