BIO-key International, Inc. (BKYI) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen. Thank you for standing by, and welcome to BIO-key International's Third Quarter 2020 Conference Call. [Operator Instructions] As a reminder, this conference is being recorded today, Thursday, November 12, 2020. I'd now like to turn the conference over to Scott Mahnken, BIO-key's Vice President of Channel Sales. Please begin.

Thank you for joining us this morning. With me today are BIO-key's Chairman and CEO, Mike DePasquale; Fred Corsentino, our Chief Revenue Officer; and Ceci Welch, Chief Financial Officer. I'd like to remind everyone that today's conference call and webcast may contain forward-looking statements that are subject to certain risks and uncertainties that may cause actual results to differ materially from those projected on the basis of these statements. The words project, estimate, intend, expect, anticipate, believe, plan, may, or will, and similar expressions generally identify forward-looking statements. Such forward-looking statements are made based on management's beliefs as well as assumptions made and information currently available to management 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 BIO-key International, see risk factors in the company's annual report on Form 10-K and its other filings with the SEC. Listeners are cautioned not to place undue reliance on these forward-looking statements which speak only as of the date made. The company also undertakes no obligation to disclose any revision to these forward-looking statements to reflect events or circumstances after the date made. And at this time, I'd like to turn the call over to Mike DePasquale. Mike?

Thank you, Scott, and good morning, everyone, and thank you for joining our call today. As we've all been dealing with the effects of the coronavirus pandemic this past several months, I wanted to start off by thanking the entire BIO-key team, including our new colleagues at PistolStar, for their hard work and commitment during these challenging times. I also want to congratulate Scott Mahnken, who just read our safe harbor statement for assuming the very important new role of Vice President of Channel Sales for BIO-key. Though the COVID-19 pandemic continues to impact our business in a variety of ways, the third quarter was a pivotal period for BIO-key as we not only completed the recapitalization of the company, but we were able to build revenue momentum, particularly with our integrated PortalGuard solution. During the quarter, we began to see a gradual return to more normal sales and marketing dialogues, though many of those are still remote meetings and many customer prospects have yet to fully reopen to IT vendor dialogues. Additionally, Q3 marked the first quarter incorporating the results of PistolStar and its PortalGuard multifactor identity and access management, or IAM, business. PortalGuard has proven to be an ideal solution for challenges created by the pandemic as businesses and institutions grapple to provide user-friendly remote access. In particular, PortalGuard has demonstrated growing traction with higher education institutions seeking to strengthen and streamline online access to educational resources for students, faculty and administration as these institutions manage the spike in remote access requirements. PortalGuard purchase formally closed on June 30, the last day of Q2. And we made significant steps in advancing our strategic vision for the company during the third quarter. In July, we successfully recapitalized our company with the proceeds from a public offering of common stock and warrants. This funding has put BIO-key now on the strongest financial footing we've had in over a decade. Importantly, it removes risk to our company from possible business disruptions related to COVID-19 or any other economic or political factors that could affect our company or our customers and allow us to focus our full attention on growth initiatives. After repaying short-term note financings, funding the bulk of the PistolStar acquisition and addressing other working capital needs, BIO-key ended the third quarter with $18.4 million in cash and just $235,000 remaining on a note payable related to the PistolStar transaction. Our financial strength also serves us well when dealing with large enterprise and government customer prospects as well as partners who seek assurances of long-term strength when choosing partners for mission-critical solutions. It also allows us to make prudent investments in our business, such as building out our BIO-key Africa subsidiary and enhancing our sales and marketing team initiatives. We're now extremely well positioned to execute on our backlog of over $75 million in contracts and to fully tap the sales potential of our expanded team. Enhanced product portfolio, growing customer relationships and expanded visibility in the lucrative growth market for identity solutions, including authentication, network security and access management. Ceci will review our Q3 financial results, which improved, showed solid top line improvements over Q2 2020 and the year ago third quarter. We expect this trend to continue into Q4 and 2021, supported by our contract backlog and a strong outlook for our solutions on a global basis, with particular emphasis on North America, Africa and Asia. As we mentioned in today's press release, we are achieving initial traction in our African contracts as we have commenced work on the first of the 2 large projects in Nigeria. These projects were delayed due to the COVID-19 pandemic and then more recently, following civil unrest related to the police as well as reform concerns. The Nigerian economy is now open. Business activity is beginning to return and our projects are beginning to move forward. The first project to get underway involves our providing software and hardware solutions in support of the Nigerian Ministry of Labor Program intended to create employment opportunities for recent college graduates in Nigeria. This program has gained even greater importance in the wake of the pandemic and its impact on employment. We're planning initial hardware and software deployments with anticipated orders for approximately $650,000 in this current fourth quarter. We expect the project to ramp substantially over the next few quarters with total expected revenue of approximately $45 million by 2022. We have another large-scale project to provide biometric security solutions for secure authentication of customers for a major African telecom provider that is slated to start early next year. This project is expected to generate approximately $30 million of revenue over roughly 2 years. On top of this, we are continuing to build out our BIO-key Africa subsidiary to support government civil ID and business enterprise authentication and security opportunities across the African continent. We believe our breadth of multifactor authentication offerings, coupled with our biometric expertise, positions us well in this burgeoning growth opportunity across the continent. For example, we are looking to team with channel partners to deliver biometric security solutions for identification needs in areas such as mobile communications and payments, immigration and border security and social welfare programs. Some of these initiatives are attracting international funding as well. Additionally, PortalGuard is becoming an integrated part of our core business, providing a more robust product offering across a broader range of business verticals. These verticals include financial, government and highly regulated enterprises as well as higher education and state and local government. It's not just market presence and customer reach, but we are now a larger company in terms of engineering, product development and sales and marketing. There's substantial cross-selling or upselling opportunity with BIO-key's biometric technology solutions that can provide a more robust multifactor identification and access management single sign-on to our existing PortalGuard customers. And we could also provide improved multifactor IAM and SSO solutions to our existing BIO-key customers. To enhance our marketing efforts for our expanded product suite, in August, we named Kimberly Johnson as our VP of Product Marketing. Kimberly's charge is to provide cohesive marketing leadership across the company, and she brings to BIO-key a strong track record of success. Under her leadership, last week, we unveiled a brand-new integrated corporate website to clarify our company and product messaging. Please be sure to visit our site at bio-key.com. Finally, with respect to our outlook for Q4, beyond the comments we have made, we expect revenue to be substantially higher than in Q3 and we expect continued momentum carrying into 2021, driven by the growth of our core business and the ramp-up of our African projects. Let me now turn the call over to Fred Corsentino to highlight a few specific developments in our business. Fred?

Thank you, Mike. As Mike said, Q3 was a better quarter in terms of both sequential and year-over-year revenue improvement and was achieved despite many projects in our pipeline being postponed or pushed into 2021 due to pandemic. We have made progress migrating to a 100% subscription model, which includes both SaaS or cloud-based offerings as well as on-prem offerings. The PortalGuard SaaS platform was completed in Q3 with a strategic product launch that includes enterprise-class AWS cloud infrastructure within a highly scalable system that is currently supporting over 35,000 end users and can easily scale to support millions as we grow. We have many customers who are migrating to the SaaS platform, which is both better for customers' budgeting and also provides BIO-key with an upsell of stable recurring software revenue. We are also better integrating our marketing and sales functions around 3 key verticals: education, financial services and government. Kim Johnson, who has previously mentioned, was appointed to head this effort to integrate the overall marketing plan, tailoring specific tactics within each sales vertical. For example, within the higher ed vertical, I know that one of Kim's priorities is to target larger institutions. We really believe that given our recognition and current customer base, that we can become a more dominant player in this vertical. We also plan to target new partners who align well vertically within each channel. In addition, we are also in the process of onboarding current Channel Alliance Program partners to our PortalGuard platform on the Scott's direction, thereby expanding the potential reach of our solutions. We also hired a strategic account executive late last month. Obviously, we're very excited about building the team as we believe there's a large market opportunity, both in the U.S. and abroad as we are working to extend our Channel Alliance Program beyond the U.S. and Africa to the Asia Pacific region and the Middle East. On the last call, I said that we believe that the PistolStar acquisition and the PortalGuard platform is a game changer for us, and you are just starting to see its impact in our revenue numbers, and that trend should continue. Combine that with the exciting opportunity in Africa, and we think we are set up well for 2021 and beyond as the pandemic recedes. We also think that the work-from-home and remote study are trends that will endure, creating increased ID authentication and access management challenges that we are uniquely positioned to solve. With that, I'll pass the ball to Ceci for the financial review.

Thank you, Fred. BIO-key's Q3 '20 revenues increased to $943,000 from $453,000 in Q3 '19, mainly due to higher license and service fees related to the PistolStar acquisition, which closed on June 30 and are included in the Q3 '20 results. Hardware sales decreased by $12,000 due to less hardware included in customer deployments and no orders for locks due to BIO-key's exit from the retail lock business. For the 9 months ended September 30, revenues increased to $1.77 million from $1.73 million during the comparable 2019 period, also primarily due to the higher license and service fees with the inclusion of the PistolStar 2020 results, partially offset by the lower hardware sales. Gross margin improved to 78% in Q3 '20 versus a negative gross margin in Q3 '19 primarily due to the noncash software license amortization expense recorded in Q3 '19, which did not recur in Q3 20. Adjusting for the software license amortization, Q3 gross margin would have been approximately 50% on a comparable basis. Q3 '20 operating expenses included $1.8 million from the $1.2 million in the partially -- with the increase primarily reflecting the inclusion of the PistolStar operating expenses in the consolidation. Higher expenses also included new marketing personnel, website integration of PistolStar and additional costs associated with PistolStar office staff and other expenses and costs associated with the setup of the African subsidiary. Overall, BIO-key's operating loss was reduced to $1.1 million in Q3 '20 versus $1.3 million in Q3 '19. Other expenses were $2.2 million in Q3 versus $558,000 in Q3 '19, primarily related to the amortization of the debt discount and debt issuance costs incurred as a result of the convertible debt financing. BIO-key resulted net loss available to stockholders of $3.3 million or $0.06 per share. And in Q3 '20 compared with $1.8 million or $0.13 per share for Q3 '19. For the first 9 months of 2020, BIO-key reported a net loss available to shareholders of $8.4 million or $0.28 per share versus $5.1 million or $0.36 per share for the first 9 months of 2019. In Q3, BIO-key completed the sale of common stock and warrants for the gross proceeds of $24.8 million, given the effect of the payment offering expenses and some accounts payable as well as the retirement of $4.2 million of convertible notes, BIO-key has $18 million in cash and owed $235,000 to the note payable for the BIO-key -- for the PistolStar acquisition. With that overview, I can now turn the call back to the operator for the investor questions. Operator?

[Operator Instructions] Our first question comes from Jack Vander Aarde from Maxim Group.

Let's see. So it's good to see the strong revenue result that exceeded my expectations this quarter. It looks like PistolStar definitely contributed nicely to the results. Wondering if -- I don't believe you disclosed it, but wondering if you're able to provide either an explicit or maybe a rough estimate of what PistolStar contributed to 3Q revenue?

Ceci, I'll turn that to you. What was the?

It was about a 50-50 split in the quarter.

Okay. So 50-50, Jack.

50-50. Okay. That's helpful. And then as you look at the next quarter here, obviously, the elephants in the room here for you guys that could really move the needle are these 2 large African contracts. And I appreciate the pretty granular update on the status of those. It's encouraging to see that you expect one of them to start deployment and generate some revenues. Of the $650,000 of revenue, $650,000 you expect from that 1 African contract in Q4, how much -- how should I think about that at the segment level in terms of the services revenue, licensing revenue and hardware? How would you expect that to be broken out just roughly?

Yes. Jack, good question, and it's one that I think we've addressed before. As we indicated, as we start, much of what we do will be delivering hardware and deploying hardware and putting that into the hands of the resources on the ground there. So you can look to that to be dominantly hardware.

Got you. Okay. And then just curious, I don't have as great of insight into how the deployment process and just the whole plans are unraveling here. So just curious to know why only a $650,000 kind of revenue initial hardware deployment just relative to the $45 million opportunity, it's such a minimal amount. So I'm just curious, why is it such a small piece upfront? Is that conservative to -- is there room for upside there? Or is that just kind of -- was that expected?

It's initial start-up. So it's what we expected at the outset when we would began deploying our hardware and our services. So we were expecting this to begin back in Q2. Obviously, things have slipped. So no, it was expected. It clearly and purely is start-up.

Okay. Understood. And then, I mean, do you have any insight maybe into -- just sticking with this particular contract, in terms of how the remainder of the revenue or the purchase order will be deployed or allocated throughout the quarters? Would you expect a sizable amount to then hit in Q1 '21 from that contract? Or is it really just still uncertain?

No, no. We expect the ramp to sequentially grow quarter-over-quarter. So as we get going, as we begin deploying, we expect that the ramp, meaning the revenue each quarter out through 2022 is going to grow. Obviously, this is a -- $45 million is a significant number. So we're going to have to see a significant ramp in deployment and delivery each quarter going forward.

Okay. Got it. That makes sense.

And let me just -- let me interject one other item. Hopefully, as we get to the end of the year, beginning of next year, we'll be able to predict and to be able to provide some guidance as to the deployment schedules, and then ultimately, what the order and revenue impact will be. So I think, again, as we get through the end of this year, as we see things opening up as we get more clarity on how things will proceed forward, we'll be able to be more predictable. And with our PortalGuard business, as you know, it's full and complete SaaS and -- well, not -- it's full and complete subscription. Ultimately, as Fred described, we're moving our customers to a SaaS platform. And right now, we're seeing great reception from our existing customers as well as prospects, I think will be much more predictable in 2021.

Okay. Fantastic. And that makes sense, too. As it relates to moving your customers to a SaaS subscription kind of model for PortalGuard, has -- were any of those actively converted and contributing to revenue in terms of like a SaaS revenue contribution? Or are those -- is that kind of expected to really be active in Q4?

No, as Fred described, we have customers on the SaaS platform. We have 35,000 end users that have been using the solution from the start of Q3 to the end of the quarter. So that's going to continue to grow. Now this is in place and running and operating, and we expect that to grow dramatically.

Okay. Great. Fantastic. And then if we just remove the -- when I'm looking at the fourth quarter here, and given your comments, you're very positive on your outlook of the -- I think the overall business, is fair to say. So if I exclude the $650,000 you're embedding from this Africa contract, would you still -- what's your confidence level or certainty and outlook on the non-Africa-related revenue? Would that be up? How confident are you that would be up Q-over-Q and year-over-year in Q4?

Highly confident.

Got it. Okay. Great. And then just lastly, maybe just a quick question for Ceci because I didn't see the -- I don't think the 10-Q is out yet. Do you have the stock-based comp number on hand for the third quarter?

I believe that was around 30,000 for the third quarter.

The total stock comp?

Yes.

Got it. Fantastic. All right. Well, Michael, I appreciate the update. Ceci, thank you for the data point. It's great to see the momentum building. It sounds like deployment of these major needle-moving contracts is finally on its way. So congrats on the progress update, and I'll hop back in the queue.

[Operator Instructions] There are no questions in the queue. This concludes our question-and-answer session. I will turn the call back over to Mike DePasquale for closing remarks.

Great. First, I want to thank everyone for participating in today's call. We look forward to updating you on our next quarterly call. And of course, we'll continue to provide interim news updates and reports, as warranted. Thank you, everyone. Stay safe and stay healthy.

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