SuperCom Ltd. — FY2013 Form 20-F
Reporting period: Fiscal year ended December 31, 2013. This is an annual report, not a standalone Q4 filing. Financial statements are audited and prepared under U.S. GAAP; amounts below are U.S. dollars unless stated otherwise.
Business context
SuperCom provides digital identity and e-government systems, RFID tracking and electronic-monitoring solutions, primarily to government customers. On December 26, 2013, it acquired OTI’s SmartID Division, expanding its e-ID contracts, technology and international reach. The acquisition closed near year-end, so FY2013 results largely reflect the pre-acquisition business.
Key financial metrics
| Metric | FY2013 / Dec. 31, 2013 | FY2012 / Dec. 31, 2012 |
|---|---|---|
| Revenue | $8.822 million | $8.940 million |
| Gross profit / margin | $6.926 million / 78.5% | $7.321 million / 81.9% |
| Operating income | $1.514 million | $2.006 million |
| Net income | $6.466 million | $4.817 million |
| Income tax benefit | $5.108 million | $1.006 million |
| Cash from operations | $(567,000) | $24,000 |
| Cash and cash equivalents | $2.673 million | $225,000 |
| Total current assets / liabilities | $12.109 million / $8.157 million | $2.930 million / $2.796 million |
| Total assets / shareholders’ equity | $31.708 million / $19.392 million | $3.743 million / $711,000 |
| Bank credit / long-term debt | $1,000 short-term bank credit; no long-term debt reported | $101,000 short-term bank credit; no long-term debt reported |
Net income included a substantial deferred-tax benefit, largely from reducing the valuation allowance on tax assets; it was not equivalent to cash earnings. Operating cash use was attributed mainly to higher trade receivables and other receivables/prepaid expenses. The company reported $9.067 million of cash used in investing, including $8.788 million paid for SmartID, and $12.082 million provided by financing, principally net proceeds from a share offering. Working capital was approximately $3.952 million, calculated as current assets less current liabilities.
Material changes versus prior year
- Revenue declined about 1%; e-ID revenue rose 23%, but revenue from a one-time security contract fell 65% after its completion.
- Gross margin fell from 81.9% to 78.5%, which management attributed to a changed mix of product, service and royalty revenue.
- Operating income decreased about 25%; R&D and general and administrative expenses increased, while other expenses declined.
- Net income rose about 34%, primarily reflecting the larger tax benefit, despite lower operating income and a swing from $1.805 million of net financial income to $156,000 of net financial expense.
- Cash increased following a December 2013 offering of 3.45 million shares, generating approximately $12.043 million net proceeds. The company used $8.8 million for the SmartID acquisition.
- Assets and liabilities expanded sharply after the acquisition. The purchase-price allocation was provisional and included $8.1 million of customer contracts, $6.21 million of software and other IP, and $889,000 of goodwill.
Outlook, risks and unusual items
- Management expected cash on hand and operating cash flow to cover working-capital and capital-spending needs for at least 12 months. It provided no quantified revenue or earnings guidance and said 2014 results would be affected by SmartID integration.
- The SmartID purchase involved $8.788 million paid at closing and contingent consideration of up to $12.5 million. The recorded fair value of future earn-out liabilities was $5.738 million; actual payments depend on contractual milestones and may differ. Management expected to complete purchase accounting by December 31, 2014.
- Customer concentration remained high: one European governmental customer generated 73% of FY2013 revenue, versus 64% in 2012 and 95% in 2011. Management expected lower dependence after the acquisition but warned that losing or materially reducing this business could adversely affect results.
- Allowance for doubtful accounts was $2.084 million, up from $1.726 million; the 2013 doubtful-debt provision was $358,000. Receivables and collection quality warrant attention.
- Material execution risks include integrating SmartID, retaining its contracts and personnel, achieving anticipated synergies, and finalizing acquired-asset valuations. Competition, lengthy government sales cycles, budget constraints, supplier dependence, currency exposure and political conditions in Israel and overseas are also cited risks.
- Contingencies include an arbitration dispute with Merwell assumed with the acquisition and a Periscope Finance fee dispute in mediation. The company also described an old Slovak arbitration award that it had been unable to enforce; it did not provide a clear current recoverable value.
- There were no reported off-balance-sheet arrangements. The filing states that no significant change occurred after year-end other than items disclosed in the report.
Important facts for investors to verify
- Whether SmartID’s customer contracts transferred successfully and whether integration produces revenue growth, margin improvement and cash generation.
- The final acquisition purchase-price allocation, subsequent amortization and any changes to the recorded earn-out liability or payments.
- Revenue retention and diversification from the dominant European governmental customer, including the status and expected value of its contract through 2016.
- Cash conversion, collection of receivables, the adequacy of the doubtful-account allowance, and the realization of deferred tax assets underlying the unusually large tax benefit.
- Developments, potential liabilities and financial effects of the Merwell arbitration, Periscope mediation and Slovak award enforcement efforts.
- Potential dilution and financing needs following the 2013 share issuance and the acquisition’s contingent payment obligations.