American Software, Inc. (NASDAQ:AMSWA) Q3 2023 Earnings Conference Call February 23, 2023 5:00 PM ET

Company Participants

Vince Klinges - Chief Financial Officer
Allan Dow - President and Chief Executive Officer

Conference Call Participants

Ethan Widell - B. Riley Securities
Matthew Galinko - Maxim Group
Anja Soderstrom - Sidoti

Operator

Good day, everyone and welcome to today’s American Software Third Quarter Fiscal Year 2023 Preliminary Earnings Results. [Operator Instructions] Please note, today’s call may be recorded. It is now my pleasure to turn the conference over to your CFO of American Software, Vince Klinges. Please go ahead.

Vince Klinges

Thank you, Cloe and good afternoon everyone and welcome to American Software’s third quarter fiscal 2023 earnings conference call. On the call with me is Allan Dow, President and CEO of American Software. Allan will provide some opening remarks and then I will review the numbers.

But first, our Safe Harbor statement. This conference call may contain forward-looking statements, including statements regarding, among other things, our business strategy and growth strategy. Any such forward-looking statements speak only as of this date. These forward-looking statements are based largely on our expectations and are subject to a number of risks and uncertainties, some of which cannot be predicted or quantified and are beyond our control.

Future developments and actual results could differ materially from those set forth in or contemplated by or underlying the forward-looking statements. There are a number of factors that could cause actual results to differ materially from those anticipated by statements made on this call. Such factors include, but are not limited to, changes and uncertainty in general economic conditions, the growth rate of the market for our products and services, the timely availability and market acceptance of these products and services, the effect of competitive products and pricing and other competitive pressures and the irregular and unpredictable pattern of revenues. In light of these risks and uncertainties, there can be no assurance that the forward-looking information will prove to be accurate.

At this time, I will turn the call over to Allan for our opening remarks.

Allan Dow

Thank you, Vince. We delivered strong cloud revenue growth and adjusted EBITDA in our third quarter results. Similar to last quarter, our revenue was mostly in line with expectations with the exception of our professional services revenue where we were affected by a few factors, which I will address in a few minutes.

We achieved 20% year-over-year growth in our subscription revenue and have maintained a very solid maintenance retention rate, thus delivering recurring revenue that represents 70% of our total revenue. This is the first time our recurring revenue has broken into the 70% range. Reflecting our strong cloud revenue growth and maintenance retention, total revenue in our Supply Chain segment was up 3.5% year-over-year despite the slowdown in services.

In regard to the decline in professional services, the pullback was most prominent in our IT consulting business, which is more sensitive to macroeconomic conditions and started to decline late last year. However, we also saw a significant number of Supply Chain projects paused during the holiday period as clients focus their attention on business performance. We have just recently seen a recovery of project activity in the Supply Chain segment and are working diligently to continue that trend into the new calendar year. Furthermore we plan to leverage our service delivery partners in ongoing and new projects to allow for a more profitable and flexible model where we can shift resources with market demands more easily.

As we head into our fiscal year end, we are pleased to see a renewed growth in our pipeline. However, the potential for a recession continues to create uncertainty in our core consumer goods and retail markets. We have seen both our existing customers and prospects carefully scrutinizing their costs, resulting in longer collection times and elongated sales cycles. Although we expect to recover progress in the fourth quarter, it will have a diminished impact on the revenue for the fiscal year, delaying the capture of subscription revenue and professional services while projects go through a ramp-up period.

Given the current market conditions and the ramp time on revenue delivery, we’re making a final adjustment to our guidance for fiscal year ‘23. Due primarily to the reduction in our expectations for professional services, we’re lowering our fiscal year revenue guidance to fall between $123.5 million and $125.5 million. We are also reducing our recurring revenue guidance slightly to land between $84.5 million and $85.5 million. The revised range reflects both the delayed start of projects in our backlog which impacts the timing of when we can recognize subscription revenues and some added conservatism given the challenging economic conditions and our extended collection times.

To be clear, we have been through these cycles before and we remain confident in the strength of our customer relationships. We have not seen any uptick in churn thus far, but considering our experience during the pandemic, we want to ensure we can deliver on our financial guidance. Finally, even with our lower revenue outlook, we are maintaining our prior adjusted EBITDA expectations of $18 million to $20 million.

In summary, we are pleased with the third quarter results in the Supply Chain segment during these uncertain times and expect to see further progress during the calendar year ahead. We will remain disciplined with our investments in the near term, but continue to see a large growing market opportunity for our supply chain solutions.

At this time, I will turn the call over to Vince, who will provide the details on our financial results.

Vince Klinges

Thank you, Allan. Total revenues for the third quarter were $31 million that was a decrease of 4% compared to $32.4 million in the same period last year. Subscription fees increased 20% year-over-year to $13 million, while software license fees were $1 million for both the current and prior year period.

Professional services and other revenues decreased 27% to $8.4 million compared to $11.4 million in the same period last year. The year-over-year decrease reflects a 15% decrease in our supply chain management unit due to a pause in project activity around the holidays. And we also had a 39% decrease in our IT consulting business unit, the Proven Method, which tends to be more sensitive to economic conditions. Maintenance revenues declined 5% year-over-year to $8.6 million, reflecting our normal falloff rate this quarter. Total recurring revenues comprised of both subscription and maintenance revenues represented 70% of our total revenues in the third quarter, compared to 62% in the same period last year.

So our gross margin increased to 60% for the current period compared to 58% in the same period last year. Subscription fee margin was 69% for the current quarter compared to 68% in the prior year period. Excluding the non-cash amortization of intangibles of $425,000 in the third quarter, subscription gross margin would have been 72% versus 74% last year. So the amortization of cap software last year was $628,000.

License fee margin was 65% compared to 76% in the same period last year. Our services margin decreased to 24% compared to 30% last year due to lower revenues. Our maintenance margin was 81% for the current quarter compared to 80% in the prior year period. Our gross R&D expenses were 14% of total revenues for the current and prior year period. Sales and marketing expenses were 17% of revenues for the current quarter compared to 16% in the same period last year.

Our G&A expenses were 19% of total revenues for the current quarter compared to the 18% last year. So on a GAAP basis, our operating income decreased 9% to $3 million this quarter compared to $3.2 million in the same quarter of last year. Net income increased 14% to $3.3 million or earnings per diluted share of $0.10 compared to net income of $2.9 million or $0.09 earnings per diluted share last year. On an adjusted basis, which excludes non-cash amortization of intangible expense related to acquisitions and stock-based compensation expense, adjusted operating income increased 2% to $4.5 million compared to $4.4 million in the same period last year.

Adjusted EBITDA decreased 6% to $5 million from $5.3 million last year. Adjusted net income increased 18% to $4.5 million or adjusted earnings per diluted share of $0.13 for the third quarter, and that compares to adjusted net income of $3.8 million or adjusted earnings per diluted share of $0.11 in the same period last year. International revenues this quarter were approximately 20% of total revenues. That compares to 16% in the same period last year.

Taking a look at the year-to-date basis, the 9-month period, total revenues increased 1% year-over-year to $93.7 million and that’s due to a 21% increase in subscription fees to $37.4 million. License fees were $2 million. Professional services declined by 12% to $27.9 million and maintenance revenues declined 5% to $26.4 million. Adjusted operating income for the fiscal ‘23 year-to-date increased 19% to $12.8 million, representing an operating margin of 14% compared to – excuse me, $10.8 million or 12% margin in the same period last year. Our adjusted EBITDA increased 6% to $14.6 million compared to $13.8 million in the same period last year, representing adjusted EBITDA margin of 16%.

Adjusted net income totaled $11.1 million or $0.33 per diluted share compared to $11.6 million or $0.34 per diluted share in the same period last year. Our remaining performance obligation which we refer to as backlog was $119 million. Our total RPO was down 8% compared to the prior year, and that was due to shorter contract durations from recent deals. We note that our short-term RPO actually increased 7% from the same period last year and was also up sequentially.

Looking at the balance sheet, our financial position remains strong with cash and investments at approximately $105 million at the end of the quarter. During the quarter we paid $3.7 million in dividends. Our days sales outstanding as of January 31, 2023, was 101 days for the current period compared to 77 days in the prior year period. This increase is primarily due to timing of large annual SaaS billings usually in the second half of our fiscal year and some delays in collections when compared to last year. We remain confident on our ability to collect on our outstanding receivables due to the high-quality nature of our customer base.

As Allan indicated, we have revised our guidance on revenue to the range of $123.5 million to $125.5 million on the high end. This includes recurring revenue of $84.5 million to $85.5 million. We note that the low end of our recurring revenue guidance assumes an uptick in churn due to our experience in prior recessions, but we – but so far we’ve not seen any indication of our customers being in distress. For adjusted EBITDA, we maintain our prior guidance of $18 million to $20 million.

And at this time, I’d like to turn the call over to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we will take our first question from Zach Cummins.

Ethan Widell

Hi, this is Ethan Widell calling in for Zach Cummins. Thanks for taking my questions. To start, looking at the elongation of sales cycles, can you give us a little additional insight into what’s driving that? And do you anticipate customers beginning to move forward with decisions as they become more comfortable with the macro situation and can finalize budgets? Thanks.

Allan Dow

Yes. Great question. Thank you so much for that. That is precisely – the selection process is probably running at the same pace right now. We’re not seeing much difference there. It’s that final approval phase where they go seek funding and reach out to the CFO’s desk. I’m looking across to Vince, who are being a little conservative and just trying to balance their expenditures against revenues that are coming in and timing of projects and that sort of thing. So that’s the delay cycle. The – actually running the sales cycle, getting to a selection, getting into a contract process is pretty consistent. But we’re seeing extended times on those approvals. But it’s starting to turn. I think that’s the other good news we see in the recent periods here since the New Year. It’s picked back up again. We’ve seen it before. Vince and I and many of the others here have been through a number of these recessions. And the pause and the panic is really happens at the front end when the word recession comes out. As you get later in the cycle and people realize that they still got a business to run and things will keep going, then they lean back into those important projects like supply chain projects.

Ethan Widell

Great. Thank you. And I think that answers my second question. It sounds like project activity is starting to pick up since the holidays. Do you expect this past quarter to be the trough for professional services?

Allan Dow

Yes. I think for a couple of factors. One – number one is it’s a holiday period. It’s always a light period anyway. This year we saw kind of an unusual pattern partly due to the way the days fall in the calendar. It was a nice break, if you wanted to take time off due to the way Christmas and New Year’s fell, that week in between those two was a full solid week and it was a full stop on a lot of projects as things shut down. So due to the fact that people were really focused on delivering on their financial results, their business performance as I commented before and the way the calendar fell that made a natural break in projects. So we do believe that the worst is behind us. The hardest period is behind us and we will see a continued recovery from here.

Ethan Widell

Thanks. That’s really helpful. That’s really helpful. Then one last question for me, can you provide any update on your M&A pipeline?

Allan Dow

Yes, very active. We’ve continued to expand our reach there. A number of engagements that are going on right now in the due diligence process. We don’t have anything that’s imminent yet, but the number of prospects we have, the work that’s going into it, the folks that are on the other side of the table are open to this discussion at this point. So I think market conditions have probably helped us a bit in our favor there where they are realizing that maybe it’s the right time to be part of a bigger firm with a little more reach and a little more stature behind it and it will be helpful for their long-term business prospects as well. So I think we’re going to be able to move on a few things in the months ahead.

Ethan Widell

Excellent. Thank you so much.

Operator

And we move next to Matthew Galinko. Your line is open.

Matthew Galinko

Hey, good afternoon. Thanks for taking my question. I’m curious about, I guess, the mechanics of keeping the EBITDA guidance despite the revenue tweak. Is that just an underlying mix shift strength in higher margin and dip in lower margin yield is kind of consistent or are there any changes in hiring plans or pace of headcount additions given some of the delays you’re seeing in the macro environment?

Allan Dow

Yes, I think, Matt, you nailed it. There is a mix factor as we have a higher dependence of our revenue or higher mix of our revenue coming from subscriptions is a higher margin business. So that allows us to deliver to the bottom line a little bit better. We’ve also been conservative in our hiring. We’re still up in headcount. We’re still making progress on our headcount, but we’re not running at the pace we thought we were going to. There is always a lead time in bringing headcount on and being revenue producing. So when you’re in a hiring period, there is a bit of a hit in that initial phase before those folks become revenue producing. You think about even in the services side or the sales side, it takes a little time for them to ramp up, get familiar with our processes and start delivering on expectations. So just the slowdown in the hiring period has helped – in the hiring process has helped us a bit on the EBITDA margin also. So those two factors have weighed in and we feel really good about where we’re going to land on the margin.

Matthew Galinko

Got it. And then, I guess, just a follow-up on subscription margins and outlook. Any update on how you’re thinking about the evolution of that as that revenue line and business scaled up?

Vince Klinges

Yes, Matt. I think we’ve talked about this before. But we’re running at kind of the low 70s. If you take the amortization of cap software out and we kind of anticipate next year, we will start getting into the mid-70s and maybe towards the end of the year start trending to 75 – the high end of the 70s. But it’s going to be predicated on how the bookings perform for next year. But once we know that, then we should have some good certainty on getting the gross margins above 75%.

Matthew Galinko

Great. Thank you.

Operator

[Operator Instructions] We will move next to Anja Soderstrom. Your line is open.

Anja Soderstrom

Yes. Hi, thank you for taking my questions. I have a couple of follow-ups. So first on the hiring, how do you see that environment now? We hear a lot about layoffs. But it doesn’t seem like people are leaving for unemployment, they are moving somewhere else. And have you noticed that it’s easing up and has it become maybe even better for you to find talent and at a better expense?

Allan Dow

I wish the last part of that was true. Better expense would be wonderful. We haven’t really seen a pullback. But we’ve seen the slowdown in the inflation rate, labor inflation rate, certainly. We are finding more candidates today than we were in the midst of the pandemic, 6 to 9, 12 months ago. So the recruiting pace is much better. Typically we were finding one or two candidates for an open position and trying to make a decision there. Now we’re in the range of four to five that we can select from. We still are in the hiring process. We’ve got a number of positions we’d love to fill. And as we find the right folks for that, we’re going to pull them in. We are not laying off. Although our peers in the organization and the technology space as we all know in general is doing some cutbacks. So it’s enriched our environment for recruiting. So we feel pretty good about that.

Anja Soderstrom

Okay, thank you. And also among your customers, is there any sort of grouping that you can call out that’s maybe a little bit more challenging – challenge than others or?

Allan Dow

Hate to pick on anyone, but the retailers are always tough. They are naturally tough. That’s their business model. But I think they are the frontline of what the economic conditions are all about and they are experiencing some of that. But in general, as Vince commented, we’re not at a point where we’re seeing outright cancellations or churn. We’re just, much like I commented earlier on about people’s scrutinizing their authorizations to start new projects. They are doing the same thing on every invoice and looking for an opportunity to find another round of correct this and put the purchase order number on it. And then I’ll put it back in the queue and that will buy me another 30 days before I have to send the check out. So that’s generally what we’re seeing as opposed to outright, we’re not going to send the check in kind of conversations. Just taking a little extended time, I think that as Vince said though, the DSO number is not reflective only of our collections challenges. We had a tremendous billing cycle as we came into the New Year, January being in – falling in our third quarter. So we will see an uptick in collections, an uptick in our cash position. So I think we will land at the end of next quarter in quite a good position.

Anja Soderstrom

Okay, thank you. That was all for me.

Allan Dow

Excellent. Thank you, Anja.

Operator

[Operator Instructions] And it does appear there are no further questions at this time.

Allan Dow

Cloe, thank you for your assistance this afternoon and thank you for all the participants who joined us this afternoon on our third quarter earnings call. We look forward to getting back with all of you in a few months and talking about the fourth quarter. Have a good evening.