American Software, Inc. (NASDAQ:AMSWA) Q2 2021 Earnings Conference Call November 19, 2020 5:00 PM ET

Company Participants

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

Conference Call Participants

Zach Cummins - B. Riley FBR
Matt Pfau - William Blair

Operator

Good afternoon, everyone, and welcome to today's Second Quarter Fiscal Year 2021 Preliminary Financial Results Call. [Operator Instructions] It is now my pleasure to turn today's program over to; Vince Klinges, CFO of American Software. Please go ahead.

Vince Klinges

Thank you, Jamie, and good afternoon, everyone, and welcome to American Software's Second Quarter of Fiscal 2021 Earnings 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, I'd to remind you that 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 these anticipated 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'd like to turn the call over to Allan for our opening remarks.

Allan Dow

Thank you, Vince. As we all continue to grapple with the level of uncertainty regarding the pandemic and a contentious political arena, we know that many individuals, families and companies have been adversely impacted. But we want to encourage everyone to stay strong.

Personally, and on behalf of the company, I want to express our gratitude to all the frontline workers in first responders, who continue to work tirelessly to keep us all safe and healthy as we battle through the resurging health crisis and the emotional and financial roller coaster, we've experienced this year.

As an organization, we've been blessed with good health, and the diversity of our team has allowed us to make balanced decisions about how we serve our customers well while maintaining a safe and productive work environment.

In regard to our second quarter results, I am pleased with how our team has remained focused on serving existing customers, accelerating ongoing implementations and bringing new companies into our customer community. We generated solid net new ACV growth. And as expected, our churn rate returned to the nominal levels we have seen historically. We held our first ever virtual customer conference named Disruption Rx in October, where it was amazing to hear so many inspirational stories about how our customers have leveraged our team members' insights to unleash the power of our solution platform.

Our customers have dealt with both ends of the spectrum for managing explosive growth for products and high demand to mitigating the staggered impact this pandemic has had on the bricks-and-mortar retail. We had a global record turnout for this event, which has stimulated a tremendous amount of collaboration across the customer community. This, in turn, is driving more success as well as creating incremental interest in new projects with existing customers and new prospects.

We regained momentum on our services performance and continue to drive more backlog for future work. While we typically experience a seasonal holiday slowdown here in the third quarter, we expect it to be less pronounced than in prior years, due to the virtual work conditions, which is providing a much more flexible project calendars.

With our strong implementation backlog in near 100% virtual work strategy, we expect the third quarter services revenue to remain relatively flat as compared to the second quarter. We are pleased to see that our focus on a cloud-first strategy is paying off, where the recurring revenue streams for cloud services and maintenance now represents approximately 62% of total revenues, a milestone achievement.

Our subscription revenue in the second quarter grew 27% year-over-year and the growth in annual contract value for cloud services over the prior year period was 33%. We expect the percentage of recurring revenue to continue trending higher in the future based on the strong preference for its subscription contracts.

Sales activity is running at a strong pace. And as a result, we're continuing to see growth in our pipelines, both in the number of opportunities and the size of the transactions. We are confident that we will see an upward trend in the second half of the fiscal year regarding the number of new projects that we will be initiating.

We welcomed six new customers in the second quarter, and completed subscription or license fee transactions in nine countries, reflecting our strong global presence. Transformational projects are continuing to drive pipeline as well as services backlog as we see customers adopt our platform to radically improve the speed and quality of decision-making that allows them to achieve the agility and resiliency needed to thrive in this new economy.

In summary, we are pleased by our progress as we strive for continued success to deliver exceptional values for our customers. Our mission of making our customers more successful year-after-year is paying off in customer retention and expansion as we introduce new innovative services. We are confident that we can continue to grow both revenue and profitability in the years ahead and are proud to be delivering incremental benefits to our customers in a time when they need it most.

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

Vince Klinges

Thanks, Allan. Comparing the second quarter of fiscal 2021 to the same period last year, total revenues were 29 -- excuse me -- $27.9 million for the current quarter, and that compares to $28.2 million in the same period last year. As Allan mentioned, our subscription fees increased 27% to $7 million for the quarter, and that compares to $5.5 million in the same period last year. While our software license decreased 57% to $0.5 million for the current quarter compared to $1 million the prior year period.

Our cloud services annual contract value or ACV, increased by approximately 32% to $29.6 million for the current quarter, compared to $22.4 million in the same period last year. As Allan mentioned, our churn rate improved from the elevated rates as seen earlier in the pandemic and was consistent with the pre-COVID levels.

Our professional services and other revenues decreased 5% to $10.2 million for the current quarter, compared to $10.8 million in the same quarter last year due to a 23% decrease in our supply chain unit, partially offset by a 21% increase in our IT consulting business unit, the proven method, as a result of timing of project work. We note that our backlog in our supply chain unit implementations remain robust. But several projects progressed more slowly than anticipated as a number of customers took vacation time in August.

Additionally, the restrictions on travel also reduced the amount of pass-through reimbursements we recognized to zero compared to $0.5 million in the prior year period. Maintenance revenues decreased 6% to $10.2 million, compared to $10.8 million, stemming from the normal falloff rate and lower levels of new perpetual license revenues.

So our combined recurring revenue streams of maintenance and cloud services were 62% of total revenues in the current quarter, compared to 58% in the same period last year. We believe this trend is due to a higher percentage in the recurring revenues as we transition to the cloud subscription revenue model.

Costs for the quarter, overall gross margin was 53% for the current period compared to 54% in the same period last year. Our gross license fee margin was negative 23% for the current quarter compared to 4% in the same period last year due to lower license fee revenue and a relatively fixed cost, such as amortization expenses.

Subscription fee margins increased to 58% compared to 52% in the same period last year, and that's primarily due to the increase in subscription revenue. When you exclude the non-cash allocation of amortization of cap software of about -- a little over $900,000 to the subscription gross margin, it would have been 71% compared to 73% in the same period last year, which included $1.2 million of amortization of cap software.

Our services margin decreased to 27% in the current period, compared to 30% in the same period last year. And that's primarily due to higher mix of professional service revenue coming from our lower margin, the proven method, business unit as well as lower utilization of our supply chain unit due to seasonality. Maintenance margin was 81% for the current period, compared to 83% in the same period last year.

Looking at our operating expenses, our gross R&D expenses were 16% of total revenues for the current period compared to 17% in the prior year period. As a percentage of revenue, sales and marketing expenses were 19% of revenues for the current period, compared to 18% in the prior year period, and that's primarily due to costs related to our customer conference this quarter and higher expenses from the increased headcount.

G&A expenses were 16% of total revenues for the current period compared to 17% in the same period last year. Operating income decreased 25% to $0.6 million this quarter compared to $0.8 million in the same period last year.

Adjusted EBITDA, which excludes stock-based compensation, decreased 21% to $2.8 million this quarter compared to $3.5 million in the same period last year. Our GAAP net income decreased 61% to $0.7 million or earnings diluted share of $0.02, and that compares to net income of $1.8 million or $0.05 earnings per diluted share last year.

Adjusted net income of $1.5 million was -- had adjusted earnings diluted share of $0.05, and that compares to $2.6 million of adjusted earnings or $0.08 in the same period last year and these adjusted numbers exclude amortization of intangible expense related acquisitions and stock-based compensation expense.

So our international revenues this quarter were approximately 15% of total revenues. That compares to 19% in the same period last year. Looking at the six-month period or basically year-to-date ended October 31, 2020. Total revenues year-to-date were $55.2 million compared to $55.6 million same period last year.

Subscription fees increased 34% to $13.3 million, compared to $10 million for the same period last year, while software license revenues were $1.2 million or a 56% decrease compared to $2.8 million same period last year. Again, this is reflecting our transition to the SaaS engagement model.

Our services revenues decreased 4% to $20.1 million compared to $21 million last year. Our maintenance revenues decreased 6% to $20.5 million compared to $21.9 million last year.

Looking at costs. Overall, gross margin was 53% for the current year-to-date period compared to 54% last year. Our license fee margin decreased to 1% from 15% last year, and that's due to lower license fees, while our subscription fee gross margin increased to 57%, compared to 52% in the same period last year.

Our services margin was 23% compared to 29% in the same period last year, and that's due to increases in service revenue from our lower-margin TBM business unit. Our maintenance margin was 82% year-to-date compared to 83% in the same period last year.

Looking at operating expenses, our gross R&D expenses were 16% of total revenues year-to-date compared to 17% in the same period last year. As a percentage of revenue, sales and marketing expenses were 18%, and that compares to 19% in the same period last year.

And G&A expenses were 16% of revenues for the current year period compared to 18% in the same period last year. So our operating income year-to-date decreased 8% to $1.5 million compared to operating income of $1.6 million last year.

Adjusted EBITDA year-to-date decreased 16% to $5.9 million compared to $7 million in the same period last year. GAAP net income decreased 11% to $2.7 million or $0.08 per diluted share compared to net income of $2.9 million or $0.09 per diluted share last year.

Adjusted net income year-to-date was $4.3 million or earnings per diluted share of $0.13 compared to net income of $4.5 million or $0.14 per diluted share last year. International revenues year-to-date were 15% of total revenues compared to 21% in the same period last year.

Taking a look at the balance sheet, the company's financial position remains strong with cash and investments of approximately $94.6 million at the end of October 31, 2020. During the quarter, we paid $3.6 million in dividends. Some other aspects of the balance sheet. Our accounts receivable was $18.5 million billed, unbilled was $2.5 million for a total of $20.9 million of accounts receivables. Our deferred revenues $31.2 million, and our shareholder equity was $119.1 million.

Our current ratio increased to 3, 3 as of the end of the quarter compared to 2.7 in the same period last year. Our days sales outstanding as of October 31, 2020, was 69 days for the current period compared to 58 days in the same period last year.

So Jamie, at this time, we'd like to open the call for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Zach Cummins. Your line is open.

Zach Cummins

Yeah. Hi. Good afternoon, Allan and Vince. Thanks for taking my questions. And nice to see the bounce back here in the ACV number in the quarter. Allan, I was just curious, first off, just get some of your feedback from your virtual customer conference at Disruption RX. I mean, can you talk about any of the follow-through, you've seen in terms of potential new customer lead and even expansion of business with your existing customer base?

Allan Dow

Sure thing. Yeah. It was a tremendous event. As I said, we had a record turnout, about three times what we had seen in the past in the physical events. And of course, it's a little easier to participate when it's virtual than it is to have to get on an airplane and travel even in the best of times. But we were excited about that, and it allowed us also to engage a much more global community. We traditionally have held the event in North America, because of the predominance of customers being here in North America. But this is a much more balanced event. We also had a record turnout for prospective customers, people who aren't currently using the applications, but participated and the theme of the event was around managing – managing around the disruption, and disruptions in general, not just the current ones that we've been experiencing.

So it was a great draw. We had a heavy level of customer presentations going on. So they were speaking directly about the kind of impact they've had. That subsequently has drawn interest from existing customers that have – that we've been able to put some activity onto the pipeline already that resulted from that conversation with existing customers, and accelerated the conversations with some prospective customers. They were predominantly folks that we would have been engaged with at some level. But what we've seen is an acceleration of their excitement and enthusiasm to get going on a project, and be able to reap some of the benefits that those customers who were speaking, we're talking about.

So I think overall, Zach, first of all, thank you for joining us, and thank you for the question. But I think the impact we've seen so far has really been an acceleration, with some new interest from existing customers out there.

Zach Cummins

Understood. That's helpful. And then to that point, I was going to be curious as to what you've seen in terms of sales cycles. I know, some other players in the supply chain planning space have highlighted some longer sales cycles in some instances, due to the pandemic. I was just curious, what you've seen in terms of sales cycles here in recent months?

Allan Dow

Yeah, great question, Zach. It's – and there's two prongs to it. First of all, particularly on larger transactions, we're seeing probably traditional, maybe even accelerated cycles getting to a decision and getting to the point where we start engaging around the contract in the final approvals. It's the contracting process and final approvals that we're seeing are running a little bit longer than history. And I truly attribute that to just the ability to get people attention. The focus team that's working on the project, that's going to work on the project, that's living with the challenges that they face in their supply chain without having to the capabilities we offer. They're really excited. They're engaged. They're making decisions quickly. It's at higher level when you get to the legal and financial process of getting the approval, that's been a bit challenging.

The flip side of it is, for a couple of quarters in a row now, we've had opportunities that bubbled up and actually got all the way to contracting kick off in a very short cycle, like three to four months, and we had not historically seen that and that was -- those projects -- I mean, there's only a few in each case in each quarter, but that's been an interesting model where people have really the need to do something quickly, and they've acted quickly, and they moved all the way through engagement, review decision, contracting and getting an implementation going. So, it's been kind of amazing to see how quick people can work when they are really motivated.

Zach Cummins

Understood. That's helpful. And then in terms of professional services, I mean, especially on the supply chain management side, I know still a few struggles there with people being on vacation here, but can you speak to some of the utilization rates? And I believe Q3 tends to be seasonally slower, but it sounds like that could likely not be the case this year just given your full virtual model?

Allan Dow

Yes, we truly believe that. We're seeing that -- we're not that far from the holidays as hard as that is to believe, but we're seeing the project plans that are laying out where people are pushing a little harder and continuing to work. I think just the nature of not having to travel, people are willing to take that extra day or partial week and actually do some productive work. So, we do anticipate -- we'll see how it plays out, but we do anticipate that it won't be as dramatic as it was in the past, when our consultants were getting on an airplane and flying out and the clients had to come to the office or in many cases, travel as well. When you hit the holiday week, they just didn't want to do that, and they basically put the project in suspension.

So, we think there's a -- there'll be some degree of seasonality to it, but not as dramatic as in the past. We came out of the summer, was -- on the last call, we had talked about that. I think, Zach, you may have been to want to ask the question, but we saw a slowdown in the summer that we had not anticipated just because people went on brake. It kind of felt like we were on brake, but the reality is people were under a lot of pressure. Given what we've been through. And they did take a break that slowed down.

We got back and get back to pretty good speed. We had some churn in projects where we were ending projects and restarting some new ones that had come in so we had a little turnover in teens getting on to the new projects. So, it didn't come back quite as strong as we had hoped here in the second quarter with the lingering holidays and starting up some new projects. But we think it will be strong into the holidays. So, I do -- as I said earlier, I do think it will be relatively flat to Q2 based on what we can deliver.

Zach Cummins

Understood, that's helpful context. And then just final question for me. I was just curious on your plans for sales and marketing spend in the coming quarters. I know you brought in some pretty key new talent in August, but how are you feeling in terms of sales capacity in place, just given all the demand that you're seeing right now?

Allan Dow

Yes, I think we still have room for growth. We're looking for some key individuals. When we find them, we'll bring them in. I don't think -- we're not in a position where we need to double down or do something any dramatic like that. But pipelines are full. The sales team members are busy. So we're looking specifically for a few key roles to get [ph] tilt as soon as we can find the right resources. It's a little challenging to get people on board and up to speed in this environment because you can't -- it's difficult to sit across the table and get people ramped up. But growth is still in our plans and we'll do it logically as we can and work our way through the holiday period here looking forward.

Zach Cummins

Great. That's helpful. Thanks again, Allan for taking my question and best of luck in the coming quarter. And hopefully you have an enjoyable holiday season.

A – Allan Dow

Yes, likewise Zach. Thank you for joining us again. Thank you.

Operator

Our next question comes from Matt Pfau. Your line is open.

Matt Pfau

Hey guys. Thanks for taking my question. Wanted to start off with churn and good do here that -- that returned to pre-COVID levels. And as you look out across the customer base, do you see any other customers that are in potential financial distress that could make this metric tick back up over the next several quarters, or do you think we're kind of in a state now where some of the more financially distressed customers have been flushed out and your expectation is kind of to be around this pre-COVID level going forward?

Allan Dow

Matt, Allan here. Yes, thanks. Again, thank you for joining us and great question. We don't have a crystal ball. But as we look at the customers that are out there today, they're active users, they're busy. They're engaging with us. They're working on it. So we can't make a prediction about their financial condition, although they're reporting, we can see that.

But we think we're solid and we don't see a dramatic level of churn in the next quarter or so as we look out and that's about as much visibility as we can get as a couple of quarters out, probably at best. So we think this -- we think we've got it behind us. It looks promising. There's a lot of activity and acceleration out there. So we think we're in a pretty good position now relative to that churn rate settling.

Matt Pfau

Great. And one of the things you mentioned in terms of getting deals across the line or one of the challenges is getting people's attention and as we move into the holiday season here. It's obviously a higher level of unpredictability than normal, and that could potentially be a distraction.

So how are you thinking about that in terms of its impact on your guys ability to close deals here in the current quarter that you're in. And then, I guess, the offset to that, too, is your software obviously helps with unpredictability and creating plans and adjusting them. So how do those 2 sort of dynamics impact you guys?

Allan Dow

So on the first one, I think what we're seeing is – well, the third quarter historically has been a positive one for us for a couple of reasons -- 3 reasons actually, that I always quote. Number one is, that you have end of the year money and to the extent that that's been budgeted and allocated. And then in most companies, it's a user or losing scenario.

So companies, if they've got a commitment and they've progressed the project, they'll use that to leverage to get people's attention and move the ball forward. So we think that the December season, for instance, is quite a good one because that's that year-end money use or lose it situation. So we'll leverage that as best we can to move those opportunities through the final stages. Then the other nice piece you have is the beginning of the year with new money coming available. And those who have progressed projects, made the decisions, done a little legal work. As soon as they can get their hands on the budget in the new fiscal year, they have the ability then to put them to paper, sign it and put it on the books.

So oftentimes, we'll see early in January. We've got a bit of bump there where people are all trued up, ready to go and ready to act on it. And then, of course, we have the end of the fiscal calendar for us, which is always a closing event for every software company. So we've got three trials at it. We think this year will look like a traditional model, where it will be strong for us from a deal closing standpoint. And we feel pretty good about that.

Yes, and I'm with you on that. The need for applications is strong. We've got a lot of pipeline around the finalization of next fiscal year, next calendar year/fiscal year budgeting. A number of companies, a number of projects are queued up for that. They look good. So I'm feeling good about the supply chain market in general and our ability to execute in that market and people actually putting dollars to their need in the year ahead. So I think, as we've said several times, the second half for us, the second half of the fiscal year for us still looks quite good.

Matt Pfau

Got it. Okay. And then looking at the license fees in the quarter, it was a decent step down sequentially. And I guess my understanding from our prior conversations is that the majority of those license fees are sales to existing customers that were already using the licensed products. So that stepped down, is it is it just timing, or are you seeing more existing customers move over to the cloud product?

Allan Dow

Yes, we're not – at this point, we're not seeing a dramatic what we call lift and shift, where they move from an on-premise model over, but we are seeing all of the license fee transactions we did were worth existing customers, no new customers in the past quarter. We are seeing an acceleration, where existing customers extending their footprint actually put the new capabilities in the cloud. With an eye of potentially in the future, bringing everything together under the cloud.

And then we still have maybe a small, minor uptick, a relatively small uptick in people that are doing a shift. So overall, I think we're seeing the solidification of the cloud-first strategy. In the minds of our – even our existing customers where anything new they do or if it's a new set of capabilities, they'll put it in the cloud-first perspective.

Matt Pfau

Great. That’s all I had guys. Thanks a lot for taking my questions.

Allan Dow

Thank you so much. Thanks. Have a good evening and again, thank you for joining us.

Operator

[Operator Instructions] It appears we have no further questions at this time. I will now turn the program back over to Vince Klinges for closing remarks.

Allan Dow

Thank you, all. This is Allan, actually. But thank you all again for joining us. We appreciate your participation on our earnings call, and we look forward to speaking with you all again in the near future. Jamie, thank you for hosting.

Operator

This does conclude our call. Thank you for your participation. You may disconnect at any time.