NetSol Technologies, Inc. — Form 10-Q Summary
Reporting period: Three months ended September 30, 2018, the first quarter of fiscal 2019. The interim financial statements are unaudited. NetSol provides enterprise software, licensing, maintenance, implementation, consulting, BPO, and IT services primarily to the automotive finance, leasing, banking, and financial-services industries worldwide.
Financial Performance and Position
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Net revenue | $16.40 million | $12.82 million | +27.9% |
| Gross profit | $8.24 million | $4.81 million | +71.2% |
| Gross margin | 50.2% | 37.5% | +12.7 percentage points |
| Operating income (loss) | $1.60 million | $(1.12) million | Improved $2.72 million |
| Operating margin | 9.8% | (8.7)% | Improved 18.5 percentage points |
| Net income (loss) attributable to NetSol | $0.96 million | $(0.37) million | Improved $1.33 million |
| Basic and diluted EPS | $0.08 | $(0.03) | Improved $0.11 |
| Adjusted EBITDA, net | $2.20 million | $0.97 million | +126.6% |
- Revenue growth was led by license fees of $5.96 million versus $0.33 million, primarily from an NFS Ascent implementation contract in China. Maintenance revenue increased modestly to $3.64 million, while services revenue declined to $6.42 million.
- Asia-Pacific generated $13.63 million, or 83.2% of consolidated revenue; Europe generated $1.92 million and North America generated $0.84 million.
- Cost of revenues was $8.16 million, or 49.8% of revenue, compared with 62.5% in the prior-year quarter. Operating expenses increased 12.0% to $6.64 million but declined as a percentage of revenue to 40.5% from 46.3%.
- Other expenses totaled $0.08 million, compared with other income of $0.96 million in the prior-year period. The comparison was affected by a much smaller foreign-currency gain and a larger loss from the equity-method investment in WRLD3D.
- Cash and cash equivalents were $20.44 million at September 30, 2018, compared with $22.09 million at June 30, 2018. Current assets were $50.69 million versus current liabilities of $20.59 million.
- Net cash used in operating activities was $0.34 million, an improvement from $4.15 million used in the prior-year quarter. Investing activities used $1.14 million, including $0.76 million advanced under a related-party convertible note and $0.56 million for capital expenditures.
- Total debt and capital lease obligations were $8.73 million, including $8.43 million current and $0.30 million long term. Management reported compliance with all borrowing covenants and no defaults.
- Accounts receivable, including related-party receivables, totaled $10.53 million. Revenues in excess of billings totaled $13.41 million. Average days sales outstanding improved to 156 days from 251 days.
Material Changes Versus the Prior Comparable Period
- The company returned to GAAP profitability, with operating income of $1.60 million compared with an operating loss of $1.12 million and NetSol-attributable net income of $0.96 million compared with a loss of $0.37 million.
- Revenue mix shifted materially toward licenses and away from related-party services. Related-party services declined by approximately $1.57 million, primarily due to lower activity with NetSol-Innovation, Investec, and WRLD3D.
- Foreign-exchange movements reduced the reported revenue increase by approximately $1.91 million; constant-currency revenue growth was approximately $5.48 million compared with reported growth of $3.58 million.
- The company adopted ASC 606, Revenue from Contracts with Customers, using the modified retrospective method on July 1, 2018. The adoption reduced opening accumulated deficit by $5.80 million and non-controlling interest by $2.96 million, for a total equity reduction of $8.75 million. The reported quarter’s revenue was $16.40 million; under prior GAAP, the filing indicates revenue would have been $16.54 million.
- Contract assets, or revenues in excess of billings, were $13.34 million at September 30, 2018, versus $6.96 million at July 1, 2018 after ASC 606 transition adjustments. Contracted but unsatisfied performance obligations were approximately $91.63 million, with approximately $15.17 million expected to be recognized over the next 12 months.
- NetSol issued 73,891 common shares for officer, director, and employee services valued at approximately $446,540 during the quarter. Stock-based compensation expense was $432,048.
Guidance, Outlook, Risks, and Unusual Items
- Management described its outlook as optimistic and expects continued growth from NFS Ascent, legacy NFS products, maintenance renewals, and expansion in Asia-Pacific, Europe, and other emerging markets.
- During the quarter, NetSol signed a five-year NFS Ascent contract with a tier-one auto captive finance company in China valued at approximately $30 million, signed a multi-million-dollar China contract with a major multinational automaker, and began or advanced implementations in South Africa and Japan.
- Management expects approximately $2.5 million of capital expenditures over the next 12 months for business development and infrastructure, funded from current operations.
- Key risks include foreign-currency volatility, continued depreciation of the Pakistan rupee, geopolitical instability and terrorism, customer liquidity constraints and delayed receivables, dependence on major customers, project-estimate uncertainty, technology obsolescence, and the ability to recruit and retain qualified personnel.
- Daimler Financial Services represented 28.8% of quarterly revenue. The related 10-year agreement has provisions permitting withdrawal from certain modules or termination for certain countries before implementation under specified circumstances.
- The company held approximately $19.25 million of cash deposits in foreign entities that were uninsured as of September 30, 2018. Approximately $19.3 million of total cash was held by foreign subsidiaries.
- NetSol advanced an aggregate $2.13 million under a related-party convertible note to WRLD3D, including $0.76 million during the quarter. The filing also reports a $2.96 million equity-method investment in WRLD3D and a quarterly share of net loss of $0.30 million.
- The filing reports no material legal proceedings, no identified risk-factor changes, no defaults, and no material weakness in internal control over financial reporting. Disclosure controls were considered effective.
Investor Verification Items
- Verify the sustainability and timing of license revenue from the approximately $30 million China contract and the associated implementation milestones.
- Assess customer concentration, particularly Daimler Financial Services at 28.8% of quarterly revenue, and review termination or module-withdrawal provisions.
- Reconcile ASC 606 effects on contract assets, deferred revenue, accumulated deficit, non-controlling interest, and future revenue timing.
- Monitor cash conversion, the large balance of revenues in excess of billings, 156-day days sales outstanding, and the company’s ability to fund planned $2.5 million capital expenditures internally.
- Review foreign-currency exposure, especially Pakistan rupee depreciation and the concentration of cash and operations in foreign subsidiaries.
- Evaluate recoverability and governance of the WRLD3D investment and related-party convertible notes.
- Confirm ongoing compliance with NetSol PK and other subsidiary debt covenants and the ability to refinance or repay revolving facilities at maturity.