BIO-key International, Inc. (NASDAQ:BKYI) Q1 2023 Results Conference Call May 16, 2023 10:00 AM ET

Company Participants

William Jones - Catalyst IR

Michael DePasquale - Chairman and CEO

Cecilia Welch - CFO

Conference Call Participants

Jack Vander Aarde - Maxim Group

Operator

Good morning, everyone. Thank you for standing by, and welcome to the BIO-key International's First Quarter 2023 Conference Call. [Operator Instructions]. As a reminder, this conference call is being recorded today, Tuesday, May 16, 2023.

I would now like to turn the call over to Mr. Bill Jones of Investor Relations. You may proceed.

William Jones

Thank you. Thank you for joining today's call. Participating today are BIO-key's Chairman and CEO, Mike DePasquale; and CFO, Cecilia Welch. I remind everyone that today's conference call and webcast as well as answers to questions will include forward-looking statements, which are subject to certain risks and uncertainties and that can cause actual results to differ from those expected.

Words such as anticipate, believe, estimate, expect, plan, project or similar words generally identify and express such forward-looking statements. These statements are made based on management's beliefs and assumptions today using information currently available pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995.

For a complete description of these and other risk factors that may affect the future performance of the company, please see risk factors in the company's annual report as filed on Form 10-K with the Securities and Exchange Commission. 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 with that, I'll turn the call over to Mike.

Michael DePasquale

Thanks, Bill, and good morning, and thank you for -- to everyone for joining us today. We held our Q4 call just six weeks ago, and so we can keep our comments brief on this call. After Cecilia does a brief update on our -- the status of our filings, our 10-K and 10-Q, she'll review our financials and then we will open the call to investor questions.

We are very proud to report quarterly revenue growth of 59% from $1.9 million to $3.1 million for Q1 '23, along with the substantial improvement in our bottom line performance, reducing our operating loss by 70% from $1 million to $308,000. As we have discussed, our quarterly performance reflects our growing base of annual recurring software and maintenance revenue as well as strong new customer activity, reflecting our growing global base of partners in our Channel Alliance Program as well as enhancements to our direct sales efforts, including a disciplined focus on larger enterprise opportunities. These go-to-market paths are resonating in the market we serve and are generating a growing pipeline of opportunities, including several large customer prospects in the mid- to high six digits and above range.

Specifically, our Identity-Bound Biometric solutions, which address customer mandates for phone-less, token-less or password-less authentication, are really resonating in the marketplace. For example, at a recent Gartner-hosted event, including the Gartner IAM conference in April, we have developed several significant IAM deployment prospects that we are now working to progress to formal engagements.

The Gartner events have proven to attract a very strong base of larger prospects with particular requirements that match well to our solutions. We're optimistic that a number of these larger opportunities will progress to formal deployments later this year, including a few that are already in proof-of-concept stages.

Building on this traction, we attended the RSA conference earlier this month and we'll be attending the Identiverse Conference early June. We've also refined our focus in Africa, signing a number of new partners who will sell our PortalGuard solutions to the emerging markets in a number of countries on the continent.

Concurrently, we continue to serve the larger contracts that we've executed two years ago. Our work with Nellix in supporting the onboarding of young college level graduates to support the emerging identity and payment ecosystem is starting to gain traction, and you will be hearing more from us on this initiative in the coming months.

First quarter developments included the expanded use of our biometric client identification system to 21 million users by Capitec Bank in South Africa from just 9 million users in March of 2020. Our solution delivers enhanced security which streamline client identification in a highly scalable manner. Capitec has been a flagship banking client since 2015 when they took the pioneering step to leverage fingerprint biometrics to secure their clients against fraud and theft. Our work with Capitec has developed into a long-term relationship, a very valuable customer case study, and, of course, a growing base of recurring revenue for BIO-key.

Also, in Q1, our Swivel Secure business launched a project to enable 1.5 million citizens in a Central American nation to securely access their country's online tax applications. Our solution will reduce long queues for tax delivery, providing substantial benefits to both taxpayers and the tax authority. We have also recently supported Dayton Children's Hospital with their migration to Epic Hyperdrive, the next-generation web-based medical records application.

Our PortalGuard solutions provide support for their existing deployment of our biometric authentication solution in this new web-based Epic environment. Our work with Dayton's provides an excellent proof of concept for other Epic clients, utilizing our biometric solutions who are now contemplating the migration to Epic Hyperdrive.

Our Identity-Bound Biometrics, or IBB, capabilities create a personalized authentication solution that is both highly secure and frictionless for end users. Shared workstations are common in a variety of settings in health care, customer service centers, and even in manufacturing and industrial settings. Such shared workstation access creates the potential for security vulnerabilities due to password, token, or card sharing.

Our IBB solutions allow customers to cost-effectively deploy flexible authentication capabilities in a boneless, token-less, and cardless environment balancing strong security, expediency, and convenience.

Another Q1 highlight was with Alabama Power, headquartered in Birmingham, which selected BIO-key's PortalGuard and WEB-key to secure their 15 enterprise Air Gap networks, representing a new customer relationship for us. BIO-key serves over 600 customers around the globe with strong engagement and higher education, county governments, health care, and financial services.

Customers are attracted to our highly efficient, cost-effective solutions that deliver secure, scalable, easy-to-use, quick-to-deploy user access across hybrid user environments. As mentioned, we are seeing particularly strong engagement prospects that are seeking a more robust authentication solution to meet their specific needs and eliminate commonly used authentication factors that are failing.

To address this global opportunity, we continue to build on our technology and distribution partner efforts to position BIO-key solution before a broader base of prospects. We're also working to more deeply engage with some of our larger and more influential partners. For example, our EMEA group recently met with a leading global web service provider about quickly onboarding BIO-key into their accelerator program.

We hope to have more to say on this next quarter. Additionally, we have an effort focused on building technical alliances with other leaders in the IAM industry, such as BeyondTrust and [indiscernible], where we can collaborate to bring the best-in-breed solutions to their customers. Though we had viewed these companies sometimes as competitors, we recognize today that there are mutually beneficial ways that we can work together.

We continue talking with other industry leaders where we feel there are good synergies. We expect these tech partnerships to open new sales opportunities, both small and large, and we would not -- that we would not otherwise be able to pursue. As partner source sales opportunities are increasing, we're building awareness, engagement, and understanding of our capabilities within our CAP program members. In that vein, we have watched the program we call BIO-key University for channel partners to train online on BIO-key integrated solutions with the first version ready to roll out this quarter.

In terms of product development, we recently completed a WEB-key password list log-in browser for Epic, I mentioned that before. We're releasing two new PortalGuard family products: a PortalGuard desktop MFA for Windows and Mac this month and PortalGuard for MSPs this quarter, as part of our effort to expand the capability and relevance of our suite of software solutions, especially for managed service providers, managed security service providers and all of our other partners in our partner network.

On the marketing front, we have implemented an account-based marketing model where our marketing and sales resources are better focused and aligned to target new commercial account opportunities with larger deal sizes. Our goal is to increase our average project size by 50% this year. For perspective, we've contacted 35 new marketing qualified accounts in April alone, leveraging this new approach.

Cecilia will review our Q1 financials next. But from a high level, the strategic actions we have been taking enabled us to achieve record quarterly revenue in Q1 '23 while also trimming our operating loss. Considering this solid start to 2023 and our growing pipeline of new and existing customer opportunities, including larger engagements, we are confident BIO-key is positioned to deliver top-line growth and bottom-line improvements for the full fiscal 2023 year with some variability in our quarterly results driven by timing of new business activity.

With that, I'll turn the call over to Cecilia.

Cecilia Welch

Well, thanks, Mike. I'd like first to address the status of our SEC filings. As many of you know, our filing of the 2022 annual report on Form 10-K has been delayed. After over a decade of never missing the SEC filing deadlines for our quarterly and annual reports, we were unable to file our 10-K on time this year. This was primarily due to our acquisition of Swivel Secure in March of 2022 and our auditors being acquired by Marcum, LLP in February of 2022.

The combination of the expanded operations in Europe and the transition to Marcum, a large national accounting firm, increased the scope of work for both our internal financial team and outside auditors. Due to resource constraints, the completion of the audit process and the 10-K filing have been delayed. We now expect our Form 10-K to be filed by the end of this week, and we expect our Q1 '23 Form 10-Q to be filed early next week. Importantly, we've had no difference of opinion with our auditors and we do not anticipate any material changes to our 2022 results or our first quarter 2023 results from the results disclosed in our news release.

Now I'll turn to the first quarter results. Q1 '23 revenue increased to $3.1 million or 59% over Q2 -- Q1 '22, reflecting higher software license and service fees and the full quarter benefit of Swivel Secure Europe, which was acquired in March of 2022. Revenue from software licenses increased 69% in Q1 '23 and 136 sequentially to $2.5 million in Q1 '23, reflecting strength from new PortalGuard customers, existing recurring revenue contracts, and Swivel Secure.

Service revenue increased 33% year-over-year to $527,000, which is down from $587,000 in Q4 2022. Due to the timing of new customer projects and existing customer migrations to the PortalGuard IDaaS from their on-prem version, hardware revenue was down 15% year-over-year and 43% sequentially, which was related to the mix of installations and other projects completed in the period.

We view ourselves as primarily a software solution provider and use hardware to support the sales of our software primarily for biometric deployments. Gross profit increased to $2.3 million from $1.6 million in Q1 2022 due to revenue growth. As a percent of sales, gross margin declined to 74% from 83% in Q1 '22 with a variance reflecting a full quarter of Swivel Secure revenues in Q3 -- Q1 '23, which reflects third-party software license fees. Sequentially, our consolidated gross margin improvement from 66% realized in Q4 due to a mix due that included more high-margin license fees in Q1 '23.

Total operating expenses decreased modestly to $2.57 million in Q1 '23 from $2.60 million in Q1 '21 -- '22 as higher selling, G&A expenses related to Swivel Secure were offset by lower research and development and engineering expenses, following the completion of significant enhancements to our mobile app and the PortalGuard IDaaS enhancements. Generally, we expect lower R&D expenses in 2023 as the outside resources required in 2022 are no longer required. IOC has also taken a number of expense reduction initiatives that should help to reduce the overhead expenses in the coming quarters for the full year of 2023, particularly as a percentage of sales.

As a result of the higher revenue and slightly lower operating costs, BIO-key reported a reduced Q1 net loss of $526,000 or $0.06 per share versus $1 million or a loss of $0.13 per share in Q1 2022. IoT ended the quarter with current assets of $9.3 million, including $700,000 of cash and cash equivalents, $3.4 million of accounts receivable, and $4.4 million of inventory. Our receivables are typically selected on the nonpayment term of 30 to 90 days. In terms of inventory, much of what we purchased to avoid the supply chain concerns in anticipation of ramping up requirements related to the civil ID prog. projects in Africa is now being fully sold and liquidated to further strengthen our financial position.

That concludes my remarks. And now we can turn the call back over to the operator for Q&A.

Question-and-Answer Session

Operator

[Operator Instructions]. And the first question will come from Jack Vander Aarde with Maxim Group. Please go ahead.

Jack Vander Aarde

Okay. Great. Good morning, guys. I appreciate the quarterly update, and really good to see the strong growth in operating improvement. Michael, great to see as well record quarterly revenue of $3 million. I imagine the majority of that first-quarter revenue is attributed to recurring license revenue.

Last year, looking at the second quarter and the third quarter, it did dip down below the first quarter. So just looking ahead for this year, do you expect a similar sequential trend? Or do you expect sequential growth throughout the year? Thank you.

Michael DePasquale

Well, we don't provide quarterly guidance so I can't address that very specifically. But our base is growing, as you can see, and getting much stronger. We did have a strong Q1 and Q4 last year. And so, if you think about our European business, for example, the summer is always a very slow period. So, the third quarter in Europe might be lower than, for example, our domestic business.

So, there will be variability, but we certainly believe that this business is going to grow. Our base is growing. Our pipeline is growing. The size of the opportunities that we're pursuing is growing. And so, all of this combined should put us in a very nice position to do two things: number one, continue to grow aggressively, continue to build a significant base of customers, which we already have, but to build on that; and ultimately, to get the company to breakeven and profitability, which we expect to happen as we proceed through the year.

Jack Vander Aarde

Okay. Fantastic. I appreciate the color there. And obviously, so, the licensing side of the business on the PortalGuard side is clearly ramping. I do want to just touch on the Africa contracts. I know you're expanding with other opportunities in Africa and elsewhere in the world. But can you just provide an update on your visibility regarding the original two large Africa contracts?

Michael DePasquale

Yes. I made some comments actually in my prepared comments, mentioned that we are expanding our partner network on the continent to push and sell our IAM solutions. We do have a really nice base in the Middle East, and so we're continuing to expand our partner network to sell our traditional products there. As it relates to the two contracts we have, I mentioned that the larger one, the one that fundamentally allows for us to help the country employ college graduates, young college graduates and get them into the identity and the payments ecosystem is progressing forward, albeit slow. But you'll hear more from us shortly.

That program and the initiatives that we have centered around that contract are starting to take hold.

The other contract, as it relates to the hardware sales for identity and identity management, there was -- that's centered solely in Nigeria. And there was recently a national election. So, the new regime is kind of taking over. And we're hoping that the country will settle down, and that will begin the initiatives to continue to, enroll all of the citizens there will continue. But we have a significant, as Cecilia mentioned, portfolio of inventory associated with that project.

We're not sitting on it. We are actively selling that inventory off to other projects and other programs while we expect in Africa that to begin to produce and bear fruit for us as we get through the rest of the year. But we're not sitting on that. I mean, it's been nearly two years. And just the tumult in the country, the consternation with the World Bank just makes it very, very difficult for us to continue to sit on that inventory and wait for that project to move forward. So, we've got, I'll call it, a lot of irons in the fire right now, and we're progressing forward.

Jack Vander Aarde

Okay. Great. And then maybe just one more follow-up for me on the liquidity side, given the current cash balance. I know you mentioned you're rolling out some cost reduction initiatives. But can you just speak to your liquidity needs and cash runway? Thank you.

Michael DePasquale

Well, I think we -- you can see we have a significant portion of receivables. And as Cecilia mentioned, we have -- our DSO is pretty good. Typically, we collect all of our receivables in a 30-day to 90-day period. Some customers again are net 45, most are net 30 but some are even out to net 90. So, we have a significant chunk of receivables that we expect to collect going forward, well over $3 million. And we have the hardware inventory that we expect to be selling almost on a weekly basis. So, we expect that our cash flow from those two items right now will satisfy our business requirements.

Jack Vander Aarde

Okay. Great. Yes, I see that looking at your balance sheet now. Okay. That makes a lot of sense. Very helpful. Again, congrats on the strong momentum and a record quarter. It's great to see. Thanks Michael.

Michael DePasquale

Thank you, Jack.

Operator

[Operator Instructions]. Our next question will come from Dan Kamis with [ph] private investor. Please go-ahead sir.

Unidentified Analyst

Nice quarter, guys. I'm trying to understand the mix. Was there a large biometric deal in that $2.5 million of license fees? Or was the big increase in license fees mostly slow? Just trying to understand the mix a little bit.

Michael DePasquale

Actually, it's a combination of all of our business. The large contract with Capitec Bank in South Africa is a biometric contract. So that is a substantial contract and that is biometric. So, it's a fair piece of that total license revenue is biometric as well.

Unidentified Analyst

I see. And was the Central American deal like six figures or something? Or you mentioned...

Michael DePasquale

Yes. It's a high six-figure deal.

Unidentified Analyst

Okay. Got it. In the past, I think there have been some large seven-figure foreign contract receivables and they haven't been able to be collected. I mean, is there any chance that any of these receivables, especially that $2 million increase in AR, becomes uncollectible?

Michael DePasquale

No. Actually, all of these receivables are solid contracted orders, recurring revenue or new business that's solidly contracted. So, no, the answer to that question is -- there's always a risk, right, in any contract, but the answer is no. These are all, I would consider, low-risk contracts.

Unidentified Analyst

All right, fantastic. In terms of variability, do you expect at least year-over-year growth each quarter?

Michael DePasquale

We don't provide quarterly guidance. I'm just not going to go there. I think, again, the base is -- I don't want to repeat myself. I think you heard me. The base is growing, the deal size is growing, the pipeline is growing, we expect to grow this business.

And we'd love to grow it on a record basis every quarter. I don't know if we can do that, we're certainly going to try. But we're going to grow pretty significantly through the rest of this year. And goal and objective, Dan, is to clearly get to breakeven at a minimum profitability and be cash flow positive as we leave the year. I mean, that's our goal and objective. And we're on a pathway to do that. We've got to execute.

Unidentified Analyst

I understand. Maybe Cecilia, if you can answer a couple of these. The OpEx came down to $2.6 million from $3.4 million in the third quarter, which were significant drops in SG&A and R&D. On the fourth quarter, you guys were giving estimates of $3 million to $3.5 million. Was this an anomaly? Or is this kind of the range moving forward?

Cecilia Welch

So, the lower range for the first quarter is the one moving forward. The end of last year, we wrote off some of the things we have been running off slowly. We just wrote them off in full at the end of the year. So yes, the first quarter -- or the fourth quarter was very different from the first quarter. First quarter is more realistic for the expenses going forward, yes.

Unidentified Analyst

That's fantastic. Can you say why -- or what happened to reduce the SG&A? I understand about the R&D. What came out of the SG&A?

Cecilia Welch

Well, we have been writing off -- we have a note receivable we are writing down slowly. We have been collecting it slowly but just not fast enough to present a nice financial picture. So, we wrote off the rest of that, which was $146,000. It's in bad debt. But like I said, we expect to collect it but more slowly than the GAAP likes to let you recognize.

And then there was another receivable that we also wrote off that we're not confident on selecting that one. So, there was a couple of bigger numbers in the fourth quarter to finalize those, in particular, those two items.

Unidentified Analyst

Okay. The other thing I was curious about, Cecilia, was there's -- the inventory was $4.9 million in September. I think Mike said on the call that it was down to $4.8 million, But now we're down to 4.4 million, so -- but only 72 [ph] in sales. Was that written off, too? Or am I missing something?

Cecilia Welch

Yes, we took a reserve on the inventory, $400,000. That was in the fourth quarter numbers. So, it will be in the final K numbers, but we did take that $400,000 reserve against the inventory just based on slow-moving inventory, again, another GAAP requirement.

Unidentified Analyst

Okay. Well, let's see. I have one more question, I think, on that inventory. I'm wondering, can you give us, Mike, some color on -- a little more color on how much of that inventory you expect to sell moving forward this year? And do you need to sell that inventory to be able to pay off the note I think are...

Michael DePasquale

Dan, are you done?

Unidentified Analyst

Yes.

Michael DePasquale

Okay, yes. So, the answer to that question is all the inventory. So, remember that, that $4-plus million number is not all associated -- inventory associated with Africa. So, we have -- we do sell, for example, to a number of our larger clients, we sell full and complete solutions. So, we sell the hardware and the software to them, right? So, we keep a decent amount of inventory on hand so that we can quickly turn around for them.

So that's probably $0.5 million or so, even maybe more. It depends on timing. But we expect to sell all of that inventory this year, not some of it, all of it. And certainly, that sale of that inventory will help us pay off the AJB note that we have, which is a $2 million note. So, the answer to that question is yes on both.

Unidentified Analyst

Okay. There is one more. Ping was bought out recently and you mentioned competitive synergies. Is there a capability that you guys have that competitors are particularly interested in?

Michael DePasquale

Absolutely. I mentioned it in my prepared comments, and you'll see it as a common thread in all of our messaging on our website at every event that we do and fundamentally every talk that we give. It really is about providing token-less password-less solutions that don't require a phone. So, in the context of kiosks and roving users and workstations that are shared, we have a solution that others, including Ping and Duo, a lot of the larger players do not have.

And in larger accounts, for example, on the manufacturing floor or in the customer call center, where they don't allow phones, we have a solution that can be complementary to what they may offer for SMS push or for, again, a phone token type option.

So, we don't necessarily have to be competitive. We can be collaborative. And I think that's what I was trying to get across. And we're working with a number of these very large players to integrate into their overall ecosystem to provide that kind of a solution for those types of users within larger entities.

Unidentified Analyst

Okay. Fantastic quarter. Good luck in the rest of the year.

Michael DePasquale

Thank you, Dan.

Operator

[Operator Instructions]. Showing no further questions at this time, the question-and-answer session has ended. I would like to turn the call back over to Mr. Mike DePasquale for any closing remarks. Please go ahead, sir.

Question-and-Answer Session

Michael DePasquale

Thank you, and thank everyone -- thank you, everyone, for joining today's call. We look forward to updating you on our Q2 call in August. As always, we'll provide news by press releases regarding anything that is appropriate. Once again, thank you for joining us this morning, and have a great day.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.