Smith Micro Software, Inc. — Q3 2022 Form 10-Q
Business context and reporting period. The company develops wireless software, including family safety, visual voicemail and retail experience products. This unaudited report covers the quarter and nine months ended September 30, 2022; comparisons are with the corresponding 2021 periods. Smith Micro reports one operating segment, Wireless.
Key financial results
| Metric | Q3 2022 | Q3 2021 | Nine months 2022 | Nine months 2021 |
|---|---|---|---|---|
| Revenue | $11.7 million | $16.4 million | $37.1 million | $43.7 million |
| Gross profit | $8.1 million | $12.8 million | $26.2 million | $35.1 million |
| Gross margin | 69.0% | 77.5% | 70.7% | 80.4% |
| Operating loss | $(8.3) million | $(18.5) million | $(23.8) million | $(26.9) million |
| Net loss | $(5.8) million | $(18.6) million | $(21.3) million | $(27.0) million |
| Basic and diluted loss per share | $(0.10) | $(0.34) | $(0.39) | $(0.54) |
At September 30, cash and cash equivalents were $19.0 million, current assets $29.6 million, current liabilities $12.8 million, and stockholders’ equity $83.4 million. Cash was $16.1 million at December 31, 2021. Operating activities used $14.5 million in cash in the first nine months of 2022, compared with providing $2.3 million in 2021; investing activities provided $0.0 million, and financing activities provided $17.4 million. Net cash increased $2.9 million over the period.
Convertible notes had $15.0 million face value and $7.3 million net carrying value at quarter-end, with $3.4 million classified current and $3.9 million long term. The notes mature December 31, 2023. Warrant and derivative liabilities totaled $6.1 million. The company reported covenant compliance at September 30.
Material changes and drivers
- Q3 revenue fell 29%, mainly from declines of $2.4 million in CommSuite and $2.3 million in Family Safety. Nine-month revenue fell 15%, principally because CommSuite revenue declined about $7.6 million as legacy Sprint subscribers migrated to T-Mobile; Family Safety and ViewSpot partially offset the decline.
- Management said T-Mobile’s wind-down of legacy Sprint premium visual voicemail services is expected to bring the CommSuite deployment to end-of-life before the end of 2022.
- Gross margin fell in both comparison periods, reflecting lower revenue and product mix, as well as costs to operate acquired legacy Family Safety platforms. Nine-month cost of revenue rose $2.3 million.
- Q3 operating expenses were lower than the prior year, largely because 2021 included a $12.9 million contingent-consideration fair-value charge. In the first nine months, R&D expense increased $4.0 million, while amortization expense decreased $3.2 million.
Outlook, financing, and risks
- No numerical revenue or earnings guidance is provided. Management expects family safety platform revenue to increase in future quarters, citing white-label applications with all three U.S. Tier 1 wireless carriers. It expects development costs to decline as SafePath migrations progress and certain legacy-platform costs to be eliminated after migrations, which it anticipates completing over the next year.
- In August 2022, the company raised $14.0 million net from a $15.0 million senior secured convertible-notes-and-warrants offering and $2.8 million net from a common-stock-and-warrants offering. The notes carry 6% compounding interest, rising to 15% during an event of default; the filing reports a 155% effective interest rate including discount and issuance-cost amortization. The notes are secured by substantially all company and subsidiary assets.
- Conversion of the notes and exercise of warrants could dilute existing shareholders. The filing warns that cash flows may not be sufficient to meet debt obligations; default could trigger redemption rights, higher interest, discounted conversion rights, or foreclosure on collateral. Additional financing may be needed and may not be available on acceptable terms.
- Customer concentration is high: two customers represented 40% and 37% of Q3 revenue. Management also cites customer and carrier dependence, competition, technology and privacy/security risks, acquisition integration, and the need to remain profitable and a going concern.
- Unusual reporting item: After its November 9 earnings release, the company revised accounting for certain note redemption features. The adjustments reduced reported Q3 and nine-month net loss by $1.5 million and loss per share by $0.03 versus the release. The release was not amended; the filing includes the adjustments. The related warrant and derivative fair values use Level 3 inputs.
Most important facts for investors to verify
- Whether CommSuite revenue declines as expected from the Sprint-to-T-Mobile migration and service wind-down.
- Whether Family Safety growth and SafePath migrations deliver the anticipated revenue, development-cost and margin benefits.
- Cash burn, available liquidity, and the company’s ability to service or refinance the secured notes before their December 2023 maturity.
- The potential dilution and fair-value volatility from the convertible notes, warrants and embedded derivatives.
- The effect of concentrated customer relationships and the accounting adjustments disclosed after the earnings release.