American Software, Inc. (NASDAQ:AMSWA) Q2 2023 Results Conference Call November 17, 2022 5:00 PM ET

Company Participants

Allan Dow - President, CEO
Vince Klinges - CFO

Conference Call Participants

Anja Soderstrom - Sidoti & Company
Matthew Galinko - Maxim Group
Will Miller - William Blair
Zach Cummins - B. Riley Securities

Operator

Good day, everyone, and welcome to today's Second Quarter FY '23 Preliminary Financial Results. [Operator Instructions] Please note, this call may be recorded. assistance.

It is now my pleasure to turn the conference over to Vince Klinges, CFO, American Software. Please go ahead.

Vince Klinges

Good afternoon, everyone, and welcome to American Software's Second Quarter of Fiscal 2023 Results. 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, 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 predictable 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.

So at this time, I'd like to turn the call over to Allan for our opening remarks.

Allan Dow

Thank you, Vince. I'm pleased to report that we delivered strong adjusted EBITDA in our second quarter results on revenue that was mostly in line with expectations with the exception of our professional services revenue which I'll cover in more detail later in the discussion.

We achieved a 19% year-over-year revenue growth in our subscription revenue and have maintained a very solid maintenance retention rate, thus delivering recurring revenue that represents 67% of our total revenue. Total revenue in our Supply Chain Management segment was up 5% year-over-year. Our solid top line performance was accompanied by continued expansion in our adjusted EBITDA margin, both sequentially and year-over-year.

In regard to the decline in professional services, we principally saw the pullback in our IT consulting business, which is more sensitive to macroeconomic conditions and started the decline coming into the fall. In addition, we've experienced some delays and slowdown of projects in the Supply Chain segment, which we anticipate will continue into the new calendar year. Once our clients return from the holiday period, we expect to have a number of deferred projects starting up. Furthermore, we are fortunate that we've been delivering more projects through our partners, which in turn gives us the flexibility to shift resources with market demands more easily.

During the first quarter, we announced our most recent acquisition, the team that came over from Starboard has been fantastic to work with. The client community has embraced our strategy, and we're seeing a growing pipeline for network design optimization, both as stand-alone opportunities as well as a strategic part of the integrated planning suite. We see this acquisition to be everything we expected, if not more, in regard to a productive expansion of our footprint. The rapid success on this one clearly leaves us with the capacity to pursue other acquisitions with an objective to find at least one more with a strategic fit for our portfolio before the end of our fiscal year.

As you're all aware, the continuation of major geopolitical events, inflationary pressures and the signs of a recession continue to stir some business uncertainty in our consumer goods and retail markets. We've started to see some moderation in the pipeline expansion and are seeing delayed start dates on a number of projects. These delays have not only slowed services revenue but also slowed the capture of subscription revenue in the current fiscal year.

Given the current market conditions, we believe it's prudent to adjust our guidance for fiscal '23. Due primarily to a reduction in our expectations for professional services, we're resetting our fiscal year revenue guidance to fall between $125.5 million and $127.5 million. Given the delayed start of projects in our backlog, which impacts the timing of when we recognize subscription revenues, we expect to see recurring revenue approach the low end of our original guidance and land between $85.5 million and $87.5 million.

Finally, reflecting a more measured pace of investment as we await more clarity in the recessionary pressure on our clients, we are increasing our adjusted EBITDA expectations to a range of $18 million to $20 million. Overall, we remain confident in the need for new supply chain solutions in our target markets, and we're competing effectively, so we expect our growth to reaccelerate in the new year.

In summary, we're pleased with the second half quarter results and the Supply Chain segment and expect to extend the performance improvements of our financial model during the remainder of this fiscal year. Our pipeline is steady. Our competitive position is strong, and we see long-term need for transformative supply chain solutions. We remain as bullish as ever in our market opportunity.

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

Vince Klinges

Thanks, Allan. For the second quarter of fiscal year '23, total revenues were $31.4 million, that was a 1% increase from $31.2 million in the same period last year, primarily driven by subscription fees, which increased 19% year-over-year to $12.3 million, while software license fees were $0.7 million compared to $0.8 million in the same period last year.

Our Professional Services decreased 11% to $9.6 million from $10.8 million in the same period a year ago. This year-over-year decrease reflects a 1% decrease in our supply chain unit and a 20% decrease in our IT consulting business unit, the Proven Method, which was impacted by timing of project work.

Our maintenance revenues declined 5% year-over-year to $8.8 million, reflecting a normal falloff rate this quarter. And total recurring revenues, comprised of subscription and maintenance fees, represented 67% of total revenues for the second quarter, that compares to 63% in the same period last year. Our gross margin increased to 60% for the current period versus 59% in the same period last year. Our subscription fee margin was 67% for both the current and prior year period. And excluding noncash amortization of intangible expense of $464,000 in the second quarter, our subscription gross margin would have been 71% versus 74% last year. And amortization of cap software was $690,000 in the prior year period.

Our license fee margin was 86% compared to 75% in the same period last year, and our service margins decreased to 29% from 31% last year, primarily due to lower revenues. Our maintenance margin increased to 82% for the current quarter compared to 81% in the prior year period.

Gross R&D expenses were 14% of total revenues for the current and prior year period. Our sales and marketing expenses were 19% of revenues for the current quarter compared to 18% in the prior year period. And our G&A expenses were 19% of total revenues compared to 18% last year. This was due to higher stock option incentive expense, insurance, computer IT infrastructure and some recruiting costs.

On a GAAP basis, our operating income increased 3% to $2.8 million this quarter compared to $2.7 million in the same period a year ago. Net income decreased 37% to $2.1 million, or earnings per diluted share of $0.06, compared to net income of $3.3 million or $0.10 per diluted share last year.

On an adjusted basis, which excludes noncash amortization of intangible expense-related acquisitions and stock-based compensation expense, adjusted operating income increased 16% to $4.4 million compared to $3.8 million in the same period last year. Adjusted EBITDA increased 4% to $4.9 million from $4.8 million last year. Adjusted net income decreased 21% to $3.3 million, or adjusted earnings per diluted share of $0.10 for the second quarter, and that compares to adjusted net income of $4.2 million or adjusted earnings per diluted share of $0.12 in the same period last year.

International revenues this quarter were approximately 19% of total revenues, and that compares to 16% in the same period last year.

Taking a look at the numbers year-to-date. Our total revenues increased 4% to $62.7 million due to a 21% increase in our subscription fees of -- to $24.4 million. License fees were $1 million. Professional services declined by 3% to $19.6 million, and we had a 5% decline in our maintenance revenues to $17.7 million.

Adjusted operating income year-to-date increased 31% to $8.3 million, and that represents an operating margin of 13% compared to $6.4 million or 11% margin in the same period last year. Adjusted EBITDA increased 13% to $9.6 million compared to $8.4 million in the same period a year ago, representing an adjusted EBITDA margin of 15%. Adjusted net income totaled $6.6 million or $0.19 per diluted share compared to $7.8 million or $0.23 per diluted share in the same period last year.

We exited the quarter with the remaining performance obligations, or RPO, which is a reference to backlog, of $123 million. Our total RPO was relatively flat from the prior year due to shorter contract duration from recent deals, which is noted on our short-term RPO actually increased 5% from the same period last year, and it was up sequentially as well.

Looking at the balance sheet. Our financial position remains strong with cash and investments of approximately $106.8 million at the end of the quarter. During the quarter, we paid $3.7 million in dividends. Our days sales outstanding as of the end of the quarter was 78 days, and that compares to 65 days the same period last year. And this increase is primarily due to timing of billings and delays in some collections compared to last year.

As Allan indicated, we're looking at our guidance. We are raising our adjusted EBITDA guidance despite a reduction of revenue guidance we provided at the beginning of the fiscal year. We now anticipate revenue in the range of $125.5 million to $127.5 million, including recurring revenue of $85.5 million to $86.5 million. And as Allan indicated, the decline of our revenue guidance was primarily due to a $6 million reduction in our expected expectations for professional services, which the majority is attributable to our lower-margin IT consulting business.

For adjusted EBITDA, we are raising our guidance to $18 million to $20 million, and that's up from $16 million to $18 million range prior year -- a couple -- last quarter. This reflects a more gradual pace of headcount expansion across the company than we anticipated coming into the year.

At this time, I'd like to turn the call over to questions.

Question-and-Answer Session

Operator

[Operator Instructions] And we'll take our first question from Matthew Galinko.

Matthew Galinko

I guess it sounds that the commentary, to me, sounds like you expect some confidence to come back in, in the end of the calendar year. So did I understand that correctly? And I guess, what gives you confidence that deals are going to start moving forward again as we move through the balance of this calendar year?

Allan Dow

Matthew, it's Allan. Yes, good catch. That's exactly what we wanted to convey. The reason for confidence is that in the dialogue with prospective clients, people that we're negotiating contracts with, they had anticipated starting projects at this time or a little sooner than now actually in a few cases. And they've come back and said, we just got to take a pause. We want to get through the holiday season. We're going to pick it back up in January. Let's get ready, and then we'll revisit it come the first of the year. So that's what's given us that confidence. We haven't seen wholesale cancellations or undescribed delays. It's been fairly specific in the conversations about the timing of when they want to rally the troops and get going. Does that help?

Matthew Galinko

Terrific. And then as a follow-up, I know you touched on the Starboard, I guess, the beginning of the pipeline build for Starboard. But can you go into a little bit more detail, how is the reception with your existing customers? And at what point do you expect that to start making it into sales or having stand-alone sales through that?

Allan Dow

Yes, a little bit of both, actually. So we -- fairly early in our first quarter results, we talked about a few transactions that we completed. We doubled down on that in the second quarter. And we've done a number of new contracts already underway. In fact, there were a couple of them that were early in the quarter that we've already got up and running. The implementation time line for those projects is rather rapid due to the product design and the availability of in-house data that we can provide. So we've got them up and running. We've done a couple more transactions where that was integrated in the suite already. And we've -- I would say, we've -- since the last time we spoke, we probably tripled the pipeline out there.

So overall, I would say the reception is very strong. And we are reinitiating a number of campaigns right now to do outreach to our installed base and try to mine that community for even more projects add-ons, and then leveraging it rather effectively in new campaigns where we're trying to bring a new logo on board and using it as a competitive weapon in those discussions as well.

So really excited about that. The team is great. Our team that was here at Logility prior to the acquisition has really adopted the suite. The R&D team has done a marvelous job of getting us prepared for integrating it into the platform. And as I mentioned in my earlier comments, we're just -- we're ahead of the game on that acquisition. So excited about that one.

Operator

Our next question comes from Will Miller.

Will Miller

This is Willow on for Matt Pfau. So following up your comments about clients pausing projects due to the holidays. Previously, you mentioned client staffing challenges were contributing to sales cycle elongation. Are you still seeing this? Or again, is this primarily due to projects being delayed due to the holidays now?

Allan Dow

New question. Will, thank you. Welcome to the call. Thank you so much for joining us. We still see some staffing challenges in there. I think we're all in a -- we're all in the mode of where we anticipate coming into the new year that people are going to settle into their roles. A number of people walking out the door will probably diminish, a number of available resources on the market will probably become a little more plentiful. So we anticipate that our clients will be able to fill some of those positions, and they're doing a good job.

The reference to delays that we experienced now are more related to just timing of projects. Our clients -- we focus on consumer goods. We focus on retail, direct-to-consumer business as well, through brand owners. And this is the most important time of the year for them. You come into the holiday season, watch TV and you know what's going on, everyone's begging for the consumers to come out.

So there -- it's an all hands-on-deck kind of view. Let's focus on finishing the year strong, getting through the holiday season from our client perspective. And then we'll pick back up in the new year. So that's the kind of feedback we're getting right now. So it's probably more related to economics and their desire to do the best they can in this holiday season without any distractions on new projects, sort of thing. So does that help, Willow? Does that give some clarity in my comments?

Will Miller

Yes, that's definitely helpful. And just one more question. So -- and this is in response to the sequential increase to EBITDA margin expansion. So you mentioned moderating headcount. Was that intentional? Given the softer macro environment, are you looking to pull back on any expenses?

Allan Dow

Well, we're -- as you come to know us, you'll get to know we're conservative on all expenses. So we've been scrubbing the ranks across the board on anything we can look at to see where we are. We've successfully, like everyone, we've moved to a hybrid model, so we need less real estate. So we've been able to reduce some of our lease, our overhead costs in those kind of areas. But headcount is principal cost for us as a software organization. It's, by far, the #1 cost. So we made a conscious decision to not accelerate as quickly as we had originally anticipated. And it's just a cautionary move. At this point, we've still got a couple of dozen open roles that we're trying to recruit for. You'll see that happening. We'll be announcing new folks joining us as we go forward into the new year. So we haven't shut it down, but we're just being a little more conservative.

If the recession hits and hits hard, we'd rather be in a conservative posture than be in a cutback mode. The folks that we're bringing on to the team, we think, are very valuable and good contributors and will lend credibility to our organization. So we want to make sure we hang on to the folks we hire. So it's just a conservative posture while we wait out the next couple of months and see what happens with the retail market.

Operator

[Operator Instructions] And our next question comes from Zach Cummins.

Zach Cummins

Allan, can you just talk about more of the overall pipeline on the subscription side of the business? It sounds like maybe there's been some moving parts going on there. Just curious, I know much of the guidance reduction for this year is related to your professional services, but can you give us any insight into kind of the deal cycles in the pipeline on the subscription side of the business?

Allan Dow

Sure. Yes, I made a quick comment in there. Thanks for the clarifying question. This probably deserves a little more dialogue. We're -- right now, we're seeing our pipeline is kind of balanced off. It's kind of holding the line. We're not retracting at all. So we've got a healthy pipeline still lying ahead of us, both for the coming quarter as well as for the year ahead. So we feel good about that. We're still actively recruiting. We've got new stuff coming in. We do have some things that are falling out, both through closing and from cancellations. So it's -- we're in balance right now. So we're not growing and expanding the pipeline, but we're keeping the pipeline steady.

Now with that, I think it's worthy of noting that this is the time of the year when our prospective clients are working on their budgets, and we usually see an uptick in activity after the holidays. We start the new calendar year, which is the fiscal year for most companies. They've got the approvals on the budgets. They got projects authorized and all of a sudden, they dust off from the holidays, come back and get to work, and we usually see a pickup in the pipeline. So I would say that probably in spite of what we're seeing right now, the most important time period is going to be in the January, February time period, and that will be a much stronger indication of the calendar year ahead for us.

But we're confident there's still a lot of good dialogue, still a number of folks that are saying, give me a few more weeks or give me another month and we'll know where we stand on budget. So we feel good, which is why we commented earlier on about the strength of this market is still there. Demand will be strong. It's just -- it's a timing factor.

Zach Cummins

Understood. That’s helpful. And I know it’s a noncore part of the business, but can you dig a little bit deeper into kind of the decline that we’ve seen in the Proven Method business? Is it a matter of just lower volume coming from some of your larger customers? Or what are some of the dynamics that are impacting that business?

Allan Dow

Yes. Turnover of projects was the primary thing and then not a replenishment of those. We’ve actually been very active with the team trying to expand our – the number of clients that we have so that we have less density and less reliance on any given few. So we’ve got an expanded footprint of clients that are out there. We’ve also had a real push on improving the margins in that business. We don’t think it needs to be a supply chain relative margin, but we want a healthy margin for a consulting business. And the team has done that effectively.

Vince and I were on a call with them earlier today, had some good dialogue about prospective opportunities that are expanding. And folks, similar to what I was saying a few minutes ago, quite frankly, starting to pick up the pace and anticipating bringing some new resources online in the new year. So we don’t think we’ll see a significant continued decline in that business, but it was a bit of a level set coming into the fall as people kind of turned over projects that they’ve been working on.

Zach Cummins

Understood. That’s helpful. And final question for me is geared towards events. In terms of the subscription gross margin we saw in this quarter kind of a downtick in both sequentially and year-over-year, was there any onetime impacts here in this quarter? Or what are some of the puts and takes for subscription gross margin?

Vince Klinges

Yes, Zach. Yes, sometimes there are some investments on the hosting business that we have to make with Azure to kind of step up the environment. And that – sometimes that – the timing of that doesn’t correlate to when we start taking revenue on those customers. So there’s a little short-term kind of adjustment that goes on there. So we anticipate that the margins will start to tick up in the subsequent quarters.

Zach Cummins

Got it. That’s helpful. Best of luck here for the rest of the year.

Allan Dow

Thanks, Zach. Thanks for joining us.

Operator

And our last question comes from Anja Soderstrom.

Anja Soderstrom

Some of them have been addressed already. But I'm just curious, you're talking about delaying projects, but do you also see a moderation in the size of the projects? Or is it just a matter of a delay at this point?

Allan Dow

No. Anja, thank you for joining us. No material change in the size of the projects or the scope, the relative rate of pay in that. We actually have contracts in the backlog that are under contract and slated to start in January. So that was part of the impact that we had on the subscription revenue. So those will formally kick off and get running coming in the new year. So it's really -- it's a timing topic, not so much a size or scale.

Anja Soderstrom

Okay. And then in terms of CapEx, it picked up a bit in the first half. What have you been investing in? And how should we think about that for the remainder of the year?

Vince Klinges

Yes. Anja, this is Vince. We have 2 things. We're actually building out our sixth floor to get ready to move our R&D folks up there to give them a better working environment. So that's one of the things we're investing in. And the other thing is we're working with Microsoft to kind of restructure some of the relationship as far as how we pay for some of the services they do, where we actually did a CapEx spend and bought some licenses as opposed to having the cost in the cloud. So that's what we did. That's -- we did that in the first quarter. So that's -- those 2 events are pretty much one-offs. So going forward, I would anticipate the CapEx spending to go down significantly.

Operator

And it appears we have no further questions at this time. I will now turn the program back over to our speakers for any additional or closing remarks.

Allan Dow

Well, thank you, everyone, for joining us. We appreciate the time this afternoon, and we look forward to speaking with you again in a few months. Have a good evening.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. You may now disconnect.