Business Context and Reporting Period
eGain Communications Corporation provides cloud and on-premise customer interaction software for sales and service, including hosting, licenses, maintenance and support, and implementation services. The company operates in North America, EMEA, and Asia Pacific.
This unaudited Form 10-Q covers the fiscal quarter and six months ended December 31, 2011, with comparisons to the periods ended December 31, 2010. The filing was signed February 14, 2012. The company reported 24.4 million common shares outstanding as of February 9, 2012.
Key Financial Metrics
| Metric | Three Months Ended December 31, 2011 | Three Months Ended December 31, 2010 | Six Months Ended December 31, 2011 | Six Months Ended December 31, 2010 |
|---|---|---|---|---|
| Total revenue | $10.8 million | $9.5 million | $21.2 million | $22.6 million |
| Gross profit | $7.6 million | $6.7 million | $15.2 million | $17.3 million |
| Gross margin | 70% | 71% | 71% | 77% |
| Operating income (loss) | $(0.5) million | $1.7 million | $0.5 million | $6.5 million |
| Operating margin | (5)% | 18% | 2% | 29% |
| Net income (loss) | $(0.8) million | $1.0 million | $(0.3) million | $5.9 million |
| Diluted earnings (loss) per share | $(0.03) | $0.04 | $(0.01) | $0.24 |
| Cash flow from operating activities | Not separately provided | Not separately provided | $1.3 million | $7.8 million |
Quarterly revenue increased 14%, while six-month revenue declined 6%. Recurring revenue was $5.7 million for the quarter and $11.5 million for the six-month period, representing 53% and 54% of revenue, respectively. Professional services revenue increased to $2.1 million for the quarter and $3.8 million for the six-month period.
At December 31, 2011, cash and cash equivalents were $11.5 million, restricted cash was $1.0 million, and total cash and restricted cash was $12.5 million. Working capital was $1.1 million, compared with $3.8 million at June 30, 2011. Deferred revenue was $5.1 million, compared with $5.8 million at June 30, 2011.
Debt included $5.3 million of related-party notes payable and approximately $4.2 million outstanding under the Comerica term loan. No amount was outstanding under the $1.5 million Comerica revolving line of credit. The company was in compliance with its principal debt covenants.
Material Changes Versus the Prior Comparable Period
- Quarterly revenue increased by $1.4 million, driven by higher license, recurring, and professional services revenue. Six-month revenue decreased by $1.3 million, primarily because the prior-year period included a large one-time license transaction.
- Recurring revenue increased 9% for the quarter and 19% for the six-month period. Hosting revenue increased 4% and 19%, respectively, while maintenance and support revenue increased 14% and 19%.
- License revenue increased 13% in the quarter but declined 41% for the six-month period. Approximately $1.3 million of license transactions signed in the quarter was deferred because all revenue recognition criteria had not been met.
- Gross margin declined to 70% for the quarter and 71% for the six-month period, compared with 71% and 77%, respectively, in the prior-year periods. The six-month decline primarily reflected the lower proportion of high-margin license revenue.
- Operating expenses increased substantially. Quarterly sales and marketing expense rose 72%, and general and administrative expense rose 120%. Six-month sales and marketing expense increased 41%, while general and administrative expense increased 79%.
- Operating results deteriorated from quarterly operating income of $1.7 million to an operating loss of $0.5 million. Six-month operating income fell from $6.5 million to $0.5 million.
- Net cash provided by operations declined to $1.3 million from $7.8 million for the comparable six-month period. Investing cash outflows were $0.3 million, and financing cash outflows were $1.8 million, including $1.0 million placed in restricted cash and $0.8 million of bank borrowing repayments.
- Stock-based compensation increased to $135,000 for the quarter and $265,000 for the six-month period, compared with $50,000 and $104,000, respectively.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management expects a continuing shift toward hosting transactions in the second half of fiscal 2012. It anticipates fiscal-year license revenue will decline, while recurring revenue and professional services revenue are expected to increase.
- Management expects approximately $1.3 million of deferred license revenue to be recognized in the second half of fiscal 2012. Revenue remains sensitive to sales-cycle length, contract timing, customer acceptance, and the mix between license and hosting transactions.
- Management expects sales and marketing spending to increase as it expands its worldwide sales team and invests in marketing and partner development. Research and development expense is expected to increase slightly, while general and administrative expense is expected to decrease in future periods.
- The company believes existing capital resources will support current and planned operations for at least the next 12 months, but may seek additional capital or exchange debt for equity. There is no assurance that financing will be available on acceptable terms.
- The Comerica facility requires a minimum cash balance of $1.0 million and a liquidity-to-debt ratio of at least 1.50 to 1.00. The amendment dated December 28, 2011 extended the deadline for repayment or conversion of the remaining related-party debt to June 30, 2012. A covenant breach could permit acceleration of outstanding amounts and termination of further credit availability.
- The company is exposed to foreign-exchange risk, principally involving the Euro, British Pound, and Indian Rupee, and does not use derivative instruments to hedge this exposure.
- The IPO securities litigation concluded through a settlement entered into January 9, 2012, with dismissal with prejudice and no expected financial liability to the company. A third-party indemnification claim relating to Microlog patent litigation remains ongoing; direct claims in that litigation were settled in October 2011.
- General and administrative expense included a one-time legal settlement and Form S-3 filing costs, as well as higher bad-debt expense. The filing does not state the amount of the legal settlement separately.
- On February 10, 2012, the company entered into a lease for approximately 15,000 additional square feet in Slough, England, with estimated average annual payments of approximately $100,000 through December 20, 2016.
- Management concluded that disclosure controls and procedures were effective at the reasonable-assurance level as of December 31, 2011, and reported no material change in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether the approximately $1.3 million of deferred license revenue is recognized in the second half of fiscal 2012.
- Progress toward repayment or equity conversion of the $5.3 million related-party debt by June 30, 2012.
- Compliance with the Comerica minimum cash and liquidity-to-debt covenants after the reporting date.
- Whether increased sales and marketing investment produces sufficient revenue growth and operating leverage to restore profitability.
- The sustainability of recurring-revenue growth and the effect of the continuing shift from license sales to hosting.
- The status and potential exposure from the LaQuinta indemnification claim related to the Microlog litigation.
- Cash availability after accounting for the $1.0 million restricted balance, debt repayments, capital expenditures, and the company’s limited working capital.