BIO-key International, Inc. (NASDAQ:BKYI) Q2 2023 Earnings Conference Call August 15, 2023 10:00 AM ET

Company Participants

Bill Jones – Investor Relations

Mike DePasquale – Chairman and Chief Executive Officer

Ceci Welch – Chief Financial Officer

Conference Call Participants

Jack Vander Aarde – Maxim Group

Operator

Good morning, everyone. Thank you for standing by, and welcome to BIO-key International Second Quarter 2023 Conference Call. During management’s prepared remarks all participants will be in listen-only mode. [Operator Instructions] As a reminder, this conference is being recorded today, Tuesday, August 15, 2023.

Now, I would like to turn the call over to Mr. Bill Jones, Investor Relations. Please proceed.

Bill Jones

Thank you, everyone, for joining today’s call. Participating here today are BIO-key’s Chairman and CEO, Mike DePasquale; and CFO, Ceci Welch.

As a reminder, today’s conference call and webcast as well as answers to investor questions include forward-looking statements, which are subject to certain risks and uncertainties that can cause actual results to differ from those currently expected. Words such as anticipate, believe, estimate, expect, plan, project or similar words, typically identify and express forward-looking statements. Such statements are made based on management’s beliefs and assumptions as of today, using information currently available pursuant to the Safe Harbor from liability provisions of the Private Securities Litigation Reform Act of 1995.

For a complete description of these and other risks that may affect future performance of the company, please see risk factors in the company’s annual report as filed on Form 10-K with the SEC. Listeners are cautioned not to place undue reliance on forward-looking statements, which speak as of today’s date only. BIO-key undertakes no obligation to revise or to disclose revisions to any forward-looking statements to reflect circumstances or events that occur after today.

And now, let me pass the call to Mike to begin. Mike?

Mike DePasquale

Thanks, Bill. Good morning, and thank you, everyone, for taking time with us today. After my remarks, Ceci will review our financials, and then we will open the call to your questions. Although our Q2 revenues were roughly flat compared to Q2 2022, largely reflecting the timing of larger opportunities, our first half performance reflects growing demand for our unique set of identity and access management solutions.

Our first six months revenues rose 29%, reflecting solid progress in the growth in our software license and services revenue, which carry higher margins, and we were able to trim our net loss to $0.17 per share versus $0.34 per share in the year ago, first half.

Importantly, we are building a growing base of annual recurring revenue in key verticals, including healthcare, government and higher education, along with a robust pipeline of highly qualified large revenue opportunities that we expect to benefit our results in future periods. Our internal sales and marketing efforts have generated several significant IAM deployment prospects that we are working to advance to the contract stage. The scope and size of these projects typically involves longer sales cycles, so the timing is harder to predict. We believe BIO-key’s growing traction in the IAM space is a reflection of the strength of our flexible, scalable solutions and our leadership in identity bound biometrics.

Our suite of solutions offers a wide variety of multifactor authentication options to uniquely address customer mandates for password-less and phone-less authentication, and are opening up larger opportunities for our company. I said last quarter that we’ve done particularly well in generating larger enterprise leads at recent Gartner-hosted events, proving a number of quality sales engagements with target enterprise accounts.

Building on this direct sales effort, we also attended Identiverse in June and the NACo CIO Summit in July, and are planning to participate over the next few months in a number of security events along with our partners. We are confident that some of these larger scale opportunities should progress to formal deployments in the coming months, including a few that are already in proof-of-concept stages.

Complementing these efforts is our expanding base of global technical alliances and distribution partner relationships, which positioned BIO-key to participate in a much broader base of opportunities on a global basis. Key partners include Intelisys, which operates on a global basis and 3Eye, which is focused in the financial services and healthcare verticals.

In Q2, we added Savvy Info Tech in Ethiopia, Africa’s second most populous country and one of the fastest growing economies in the world. Savvy provides Ethiopian banks and government institutions with digital and banking solutions, including end-to-end card personalization, data protection, identity and access management, payment switching, and fraud management services. We also forged the partnership with Pixel Infinito to bring our innovative IAM solutions to their customers across Angola.

We are also now officially in the AWS ISV Accelerate Program. You’ll hear more from us on that later this week or early next week, which is a very large and important ecosystem. This will provide access to all AWS financial services and healthcare selling teams. We are now working with the AWS network in Europe, the Middle East, and in Africa, helping customers to move their IAM deployments to the cloud for greater availability, scalability, resiliency, and reduced overhead costs. Working with AWS plays a critical role, particularly in this region. Due to the AWS Partner Network, we can now effectively extend the scope of marketing our sophisticated cloud-based IAM solutions worldwide through all of their sellers.

We also have a newer effort that is focused on building technical alliances with other leaders in the IAM industry, such as BeyondTrust, ForgeRock, Ping Identity and others. This strategy is designed to leverage our mutual strengths to enhance our ability to bring BIO-key solutions to our mutual customers. Through these companies, we are also – although these companies are also at times competitors, we have found ways to work together to identify and pursue significant new sales opportunities, some of which would be hard for us to pursue on our own.

As partner source sales opportunities are increasing, we are expanding engagement and awareness of integrated BIO-key capabilities with our Channel Alliance Partners. We initiated what we call BIO-key University for online training in BIO-key solutions in the second quarter. And the next phase of the platform is targeted for October release.

Our Q2 performance highlights included continuing traction with PortalGuard IDaaS in supporting existing healthcare company clients in their migration to the browser-based Epic Hyperdrive patient management solution by November 2023.

Recent deployments include the University of Iowa Hospitals and Clinics, Paulding Hospital and Dayton Children’s Hospital both in Ohio. These existing BIO-key biometric authentication customers are tapping the SAML capabilities of our PortalGuard IDaaS platform to leverage their existing use of our Identity-Bound Biometric solutions to provide strong authentication of healthcare personnel that are accessing shared workstation environments.

PortalGuard benefits our customers by letting them extend the value of our biometric solutions, while also avoiding user re-enrollment or the adoption of more cumbersome, expensive or shared multifactor authentication solutions. PortalGuard’s industry standard identity provider or IdP capabilities fully support Hyperdrive’s modern authentication approach.

Importantly, BIO-key’s unique identity bound biometric capabilities provide a personalized authentication solution that is both highly secure as well as frictionless for end users. Shared workstations which are common in healthcare, customer service centers, even in manufacturing and industrial centers provide security and access risks due to password token or card sharing. BIO-key’s IdP solutions address these vulnerabilities, supporting strong authentication capabilities in a cost effective manner, balancing strong security speed and convenience.

Turning to product. We recently completed the development of PortalGuard PG Desktop multifactor authentication for both Windows and Mac environments. We are currently redesigning our authentication engine and introducing certificate-based authentication to deliver an improved experience, also expected to be completed and released later this year. We also expanded PortalGuard’s support for managed service providers and introduced an enhanced IDaaS platform with infrastructure improvements and Linux support.

These are all part of continued efforts to build upon the value and functionality of our solutions, working to strengthen our internal sales effort we recently unified our sales and channel leadership under Galen Rodgers, to position our team for enhanced success in North America. New sales tactics are being deployed to enhance the quality and size of our engagements. We are starting to see progress in building our sales pipeline and improvements in sales forecasting, all benefiting from his guidance. Our goal is to grow our sales opportunity pipeline by 3x or three times in the second half of 2023.

We recently onboarded a new sales engineering resource, who comes to BIO-key with many years of experience, most recently from Okta. He brings a new level of refinement and structure to our sales engineering capabilities that will positively influence our ability to close direct sales and support our channel partners. Our marketing effort also continues to drive demand through channel and partner marketing, supported by the recent launch of our partner channel blog.

We are implementing account-based marketing, targeting larger commercial accounts and adjusting our process to incorporate channel marketing and partners. In summary, given our progress to date and the actions we have taken for the future, we remain confident that BIO-key is positioned to deliver significant top line and bottom line improvements in fiscal 2023. With those comments, I’ll now turn the call over to our CFO, Ceci Welch.

Ceci Welch

Thank you, Mike. First off, we expect to file our 10-Q this week and to remain fully up-to-date in our SEC filings. Turning to the recent quarter. Our Q2 revenues nearly matched those of Q2 2022, as growth in high-margin service and software license revenue more than offset the decline in hardware revenue. Growth in the service revenue was driven by customer deployments, migrations and expansions, including Swivel Secure customers in the EMEA region, as well as higher deployments in the U.S. higher education sector.

In the first six months of 2023, BIO-key’s revenues rose by 29% to $5 million compared to $3.9 million, also reflecting growth in service and license revenue, partially offset by a decline in hardware revenue. Gross profits grew 8% to $1.3 million in Q2 2023 versus Q2 2022, principally reflecting a gross margin increase of 69% versus 63% in Q2. Gross margin benefited from a larger percentage of higher-margin services and software revenue, as well as a decrease in third-party software costs due to regional software revenue, more than offsetting a year-over-year decrease in hardware revenue.

For the first six months, gross profit grew 27% to $3.6 million, again related to the growth in service and license fee revenue, partially offset by lower hardware revenue. Operating expenses decreased 10% to $2.5 million in Q2 2023 versus Q2 2022, due to an ongoing overhead reduction initiative, resulting in lower research and development expenses, as well as lower selling, general and administrative expenses. We are pursuing a number of overhead expense reduction initiatives aimed at improving our bottom line performance.

The completion of BIO-key’s MobileAuth application earlier this year helped to enable a decrease in R&D costs. The decrease in Q2 2023 SG&A costs reflects lower marketing personnel costs, offset by increased professional service fees related to regulatory filing delays. Given higher gross profit and lower operating costs, BIO-key was successful in trimming the net loss to $1.4 million or $0.16 per share in Q2 2023 compared to $1.7 million or $0.21 per share in Q2 2022.

Likewise, the first six months of 2023, we reduced our net loss to $1.7 million or $0.19 per share from $2.7 million or $0.34 per share in the first six months of 2022. BIO-key enabled Q2 – ended Q2 [ph] with current assets of $8.5 million, including $600 million of cash and $3.2 million of accounts receivable and $4.4 million of inventory. Our receivables are typically collected on normal terms of 30 to 90 days.

In terms of inventory, some of the excess inventory that we have purchased to avoid supply chain concerns and in anticipation of ramping requirements related to the civil ID projects in Africa, is slowly being sold and liquidated to further strengthen our financial position. That concludes our prepared remarks. And now we will turn the call to the operator to begin Q&A.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] Our first question comes from Jack Vander Aarde with Maxim Group. Please go ahead.

Jack Vander Aarde

Okay. Good morning guys. Thanks for taking my questions. So Michael, you mentioned some great stats at the pipeline in your prepared remarks, and I think, I just missed some of that, can you – I think you had some quantifiable pipeline remarks. Can you just remind me of what you said?

Mike DePasquale

Yes, I said that our goal and objective is to increase our pipeline size by a factor of 3x in the second half of 2023. And most of that is happening as a result of two factors. Number one, our partner program is exploding. And we, through, again, as I mentioned, AWS and other more strategic players are going to increase our deal flow and in particular, our partner sourced deal flow right, that they bring to the table. So that’s one.

The second is, what I mentioned, not just on this call but on our last call, that we’ve been very successful in creating a number of larger opportunity pipeline inputs from the Gartner events that we attended. So these are much larger customers that have very large populations of employees and customers that are interested in our IBB and our general PortalGuard IDaaS solutions. So that’s how we’re going to grow our pipeline. That is how our pipeline is going to expand and that’s going to continue to grow as we evolve through the second half and into 2024.

Jack Vander Aarde

Okay. And that goal though was to increase the pipeline by about 3x in the back half?

Mike DePasquale

Correct. Correct. That’s triple our pipeline. So that’s pretty significant, and we could never do that with I’ll call it, a handful of sales resources that we have. That is clearly – it’s been our goal and objective for the last year to 1.5 years, to really pushing the majority of our business to get it sourced and then to push for fulfillment through our partner network, and that’s really starting to expand.

Jack Vander Aarde

Okay. Great. And then let me ask a question on the quarter itself. The second quarter itself, I am still – I guess, I’m struggling to still understand why your recurring revenue is flat year-over-year relatively if you’re seeing such increased demand and you’re adding new customers, are you giving pricing discounts? Is it just a lumpiness in the business? I know one of the – like a – or you had one customer account or contract. I think it was like $0.3 million, maybe – maybe slipped, but just help me understand that. When can we see more of a meaningful ramp – in more of a smooth growth ramp going forward? Thank you.

Mike DePasquale

Yes. Well, first of all, again the bulk of our business is recurring revenue. So we still do have some legacy customers that buy license from us. But the bulk of our business has really evolved to recurring revenue. And that’s a combination of – on the legacy side, customers that are paying maintenance, right? But its contracted maintenance as well as new sales that are subscription based. So that is our model. And clearly, again, short of some of those legacy customers, that’s what we’re doing. That’s what we sell.

In the context of this quarter, our business was flat year-over-year for that one customer, that’s the Defense Ministry customer, which was about a $350,000 order, they wanted to negotiate a longer-term arrangement, a multiyear arrangement. So it took a few extra weeks to do that. But if that has fallen on the June side of the quarter, we would have grew about 15% or so. And on a year-over-year basis, we would have been somewhere around 35% or so instead of the 29% that we’re at right now.

Clearly, our business is growing, and it’s ramping. You’re going to see it again happened because of two things. Our commercial business, our small and medium-sized opportunities sourced through partners and fulfilled through partners is going to grow. And then the larger, more strategic opportunities, as I described, which are harder to predict in the context of timing, they will have a big impact on our business.

So for example, when you’re working a large opportunity that could be anywhere from $500,000 to $1 million or more in ARR, right? That’s recurring subscription revenue. When you close that in that quarter, it’s going to have a big impact on top of the contracted base we have. And so it’s – we’re close, but we still have work to do to get both of those engines, the partner engine and close down on some of those larger strategic deals to begin to see more, I’ll call it, more significant growth and more consistent growth.

Jack Vander Aarde

Okay. Great. Great. And then just to that point, let me ask one more thing and then I’ll switch gears. But – so, I guess, what I want to understand is, what you mean by significant top-line growth? Because I think investors lined up when you talk about your outlook, what is – what do you mean by significant top-line and bottom line improvement? So if I look at year-to-date – year-to-date, Michael, your revenue is up 29% for the first six months of the year, it looks like.

Mike DePasquale

That’s right.

Jack Vander Aarde

So is 29% year-to-date, is that where you consider significant? Just help us understand just to get a sense of what the back half of the year could look like based on your kind of informal guidance commentary?

Mike DePasquale

Well, again, we’re not providing guidance. And I could have provided guidance at the beginning of the year and said, look, we’re going to do x over. We did about $7 million last year, what is the number going to be? I’ve been very cautious about that because we’re trying to be – first of all, it’s very difficult for us to be ultra predictable while we’re in this transition to our partner and our new strategic kind of sales focus. It’s very, very difficult because of the timing. The larger deals with larger companies tend to – tend to take on a life of their own. Sometimes they slip, sometimes they just require six months or nine months of selling cycle. So it’s very difficult to predict.

So, I’ve been very cautious about that. I did not want to paint the number that the company will not be able to achieve. But I will say this, we have grown annually each of the last two years into this year, and we’re going to grow significantly this year again. And I hope and we believe it’s going to be well north of where we are today. The third quarter, as you know, is generally our slowest quarter because of our business in Europe, which – as you know, Europe is fundamentally closed in July and August. But we believe this quarter will be a very solid quarter, and we will have by the end of the year, by the fourth quarter, that partner engine really humming and some of these strategic deals landed. And so significant is – significant is significant. Let’s put it this way, more than we’ve grown in the last two years.

Jack Vander Aarde

Okay. Great. That’s helpful. That’s helpful. I appreciate the added color there. And just your comment on third quarter, seasonally slower because of the European business and the nature of that. That makes sense. But would it – do you expect the third quarter to be up year-over-year since it’s against another seasonally slow period last year in the third quarter?

Mike DePasquale

Yes, we do. And keep in mind, we have that $350,000 order slip into Q3. So we kind of came over the transom with an advantage. So yes, I think it’s safe to say, we believe that, yes.

Jack Vander Aarde

Okay, great. And then just one more question per usual. My favorite question is because it’s such a material opportunity, can you just give us an update again on the two original large after contracts, and if and when we could see any sign of meaningful revenue recognition from those? Thanks.

Mike DePasquale

Thanks. Great. Good question. As you know, we came into the year and we totally discounted any business or revenue from Africa from those contracts. We did that because the delays have just been incredible, right? We’ve been dragging these for two, 2.5 years. They are still alive and the business is clearly still alive. There’s – in particular in Nigeria, there’s a new President that’s taken over and there’s a renewed focus including from the World Bank now that they’ve developed a new data privacy commission, and they’re starting to put a lot of thought into the identity ecosystem to bring people out of poverty, not just in Nigeria, but across Africa.

So we’re hopeful. We still have and maintain I’ll call it resource there to focus on that and to stay on top of things. But once the money flows, we’ll be there and we’ll be able to take advantage of the investment that we’ve made over the last couple of years. But it’s – it is – it remains a very, very difficult environment. And I think, although we’re optimistic that may change, it’s not factored into our numbers this year.

Jack Vander Aarde

Okay. That’s helpful. And then if I may just try to probe again not factored in your numbers this year, it’s very difficult to get visibility into it I understand. Is there based on where you see things today, is there line of sight though, or opportunity for these two start moving forward in 2024?

Mike DePasquale

Actually there is, and hopefully before the end of 2023. But we have an initiative underway in the payment space that is commercial. So it’s not directly related in any way to the government, which again, it is an opportunity to create revenue flow and margin and profit for us in a commercial business there, which it is the – I’ll call it the largest emerging market in the world and everybody wants to be there. But it takes a lot of staying power and it takes a lot of time, energy to generate meaningful revenue. But I do believe that it can happen before the end of the year and certainly into 2024.

Jack Vander Aarde

Okay, great.

Mike DePasquale

And one other comment that…

Jack Vander Aarde

Yes, go ahead.

Mike DePasquale

And one other comments I just want to make, I think in my prepared remarks, I talked about a couple of partners that we had brought on board. So we also are very focused, and not just again in Nigeria, but in Angola and Ethiopia working with partners who have the cultural business experience and who have the connections in the industries that have money and can spend money not just again the government. That’s also our target and our goal. And we signed three or so really, really good partners just in the last quarter who are going to help take BIO-key solutions into that market. So that’s another way for us to leverage ourselves in Africa.

Jack Vander Aarde

Okay. I appreciate the added color. That’s it for me. Thanks, Michael.

Mike DePasquale

You’re welcome.

Operator

At this time showing no further questions, the Q&A session has ended. I’ll now ask Mike DePasquale for any closing remarks.

Mike DePasquale

Thank you everyone for joining us today. We look forward to updating you on future updated calls. And we expect to attend two conferences this fall in New York. Specifically, we expect to participate at the H.C. Wainwright Conference in September and the [indiscernible] Conference in October. Please reach out to your representative there or our IR team whose contact information is in today’s press release for details. We’ll update you again on our Q3 call in November. And as always, we’ll provide interim news updates via press release. Again, thank you for your time this morning and have a great day.

Operator

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.