NetSol Technologies, Inc. Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended March 31, 2019, filed May 14, 2019. The interim financial statements are unaudited. NetSol provides enterprise software, licensing, implementation, maintenance, consulting, BPO and IT services primarily to the global automobile financing and leasing industries.
Financial Results and Position
| Metric | Three Months Ended March 31 | Nine Months Ended March 31 |
|---|---|---|
| Net revenue | $17.1 million | $50.5 million |
| Gross profit / margin | $8.6 million / 50.0% | $25.7 million / 50.8% |
| Operating income / margin | $2.1 million / 12.2% | $5.9 million / 11.6% |
| Net income | $1.8 million | $7.4 million |
| Net income attributable to NetSol | $1.3 million | $5.1 million |
| NetSol basic diluted EPS | $0.11 / $0.11 | $0.44 / $0.44 |
| Adjusted EBITDA, net | $2.2 million | $8.5 million |
- Nine-month revenue increased 14.0% from $44.3 million to $50.5 million, primarily reflecting increased license revenue from NFS Ascent contracts in China. Asia-Pacific generated approximately 81.7% of nine-month revenue.
- Quarterly revenue was essentially flat year over year, increasing from $17.0 million to $17.1 million. Services revenue increased $1.2 million, but related-party services revenue decreased $0.9 million.
- Nine-month gross margin improved from 46.7% to 50.8%, while quarterly gross margin declined from 53.9% to 50.0%. Quarterly cost pressure included substantially higher travel costs related to major implementations.
- Nine-month operating margin improved from 4.4% to 11.6%. Quarterly operating margin declined from 16.2% to 12.2%.
- Cash and cash equivalents were $17.0 million at March 31, 2019, compared with $22.1 million at June 30, 2018. Current assets were $56.3 million and current liabilities were $21.3 million.
- Net cash used in operating activities was $0.3 million for the nine months, compared with $2.3 million of operating cash flow in the prior-year period. The shortfall reflected increases in accounts receivable, contract assets and other current assets.
- Net cash used in investing activities was $2.7 million, including $2.6 million of property and equipment purchases and $1.1 million advanced under a related-party convertible note.
- Total debt and capital lease obligations were $8.8 million, including $8.1 million current and $0.7 million long term. Management stated that applicable borrowing covenants were satisfied and no defaults existed.
Material Changes Versus Prior Comparable Period
- Nine-month license revenue increased $10.1 million to $13.3 million, primarily due to NFS Ascent implementations in China. Nine-month related-party services revenue fell $3.4 million.
- Nine-month cost of revenues increased in absolute dollars but declined as a percentage of revenue, aided by lower salaries and consultant costs following workforce right-sizing. Travel expense increased from $1.2 million to $4.7 million due to implementation activity.
- Research and development expense increased from $0.6 million to $1.3 million for the nine months, reflecting expanded Innovation Lab initiatives.
- Nine-month foreign-currency exchange gains declined from $5.3 million to $2.6 million, reducing the benefit from other income. The prior-year quarter included a $2.6 million foreign-exchange gain, compared with $0.05 million in the current quarter.
- Net income attributable to NetSol increased 62.5% for the nine months, from $3.1 million to $5.1 million, but declined 55.8% for the quarter, from $2.9 million to $1.3 million.
- The company adopted ASC 606 using the modified retrospective method on July 1, 2018. The adoption reduced opening accumulated deficit by $5.8 million and non-controlling interest by $3.0 million, for a total opening equity reduction of $8.8 million. The filing presents certain 2019 results under ASC 606 and provides prior-GAAP reconciliations.
- At March 31, 2019, revenues in excess of billings were $13.4 million and deferred revenue was $6.2 million. Contracted but unsatisfied performance obligations were approximately $76.7 million, with approximately $13.2 million expected to be recognized over the next 12 months.
Guidance, Outlook, Risks and Unusual Items
- Management described its outlook as optimistic and expects continued growth from NFS Ascent, legacy NFS products, LeasePak and SaaS offerings. The filing does not provide formal revenue or earnings guidance.
- Management reported several contracts and implementation wins, including a five-year NFS Ascent China contract valued at approximately $30 million, a multi-million-dollar China contract with a major automaker, and additional LeasePak, LeaseSoft and SaaS contracts.
- The company expects approximately $2.5 million of capital expenditures over the next 12 months for APAC, U.S. and European business development and infrastructure, to be funded from current operations.
- Liquidity is concentrated outside the United States: approximately $15.5 million of the $17.0 million cash balance was held by foreign subsidiaries. Foreign deposits were largely uninsured.
- Key risks include foreign-exchange volatility, continued Pakistani rupee devaluation, geopolitical and terrorism risks, Brexit and trade uncertainty, customer budget constraints and delayed receivables, concentration in Asia-Pacific and major customers, implementation and project-estimate risk, and the ability to recruit and retain technical personnel.
- The company held approximately $3.25 million of current convertible notes receivable from related parties, including advances to WRLD3D. Recovery, repayment or conversion of these notes remains subject to the applicable financing and change-of-control terms.
- NetSol reported no material legal proceedings, no material weakness in internal control over financial reporting, and no changes in internal controls that materially affected financial reporting.
Investor Verification Checklist
- Verify the effect of ASC 606 on reported revenue, contract assets, deferred revenue, opening equity and comparability with fiscal 2018.
- Assess customer concentration: two customers represented 33.9% and 20.5% of nine-month revenue, respectively.
- Reconcile the $76.7 million remaining performance obligation balance with expected implementation timing and future cash collections.
- Evaluate operating cash conversion, including the decline to negative operating cash flow and the increase in contract assets and receivables.
- Review foreign-currency exposure and the effect of exchange-rate movements on revenue, margins, equity and reported earnings.
- Confirm debt maturities, subsidiary covenant compliance and the availability of cash held by foreign subsidiaries.
- Monitor implementation costs, particularly travel and staffing costs associated with the China and other NFS Ascent contracts.
- Review the collectability and related-party nature of the WRLD3D convertible notes and the related-party investment.