SideChannel, Inc. (SDCH) Earnings Call Transcript & Summary

Greetings. Welcome to the SideChannel Fiscal Year 2024 Q3 Financial Results Update Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instruction] Before we begin, I need to read the following statement. Statements or comments made on this conference call forward-looking statements may include, but are not necessarily limited to, financial projections or other statements of the company's plans, objectives, expectations or intentions. These matters involve certain risks and uncertainties. The company's actual results may differ significantly from those projected or suggested in any forward-looking statements due to a variety of factors, which are discussed in detail in our SEC filings. Please note, this conference is being recorded. I will now turn the conference over to your host, Brian Haugli. You may begin.

Thank you so much. Good afternoon, everybody. This is Brian Haugli, I'm the CEO of SideChannel. I am joined today by Ryan Polk, our CFO. We will just go over a couple of comments from myself and let Ryan dig into a couple of highlights from the queue, and then we will go to questions. So overall, really interesting quarter and, I think, time of the year for cybersecurity. It's becoming much more prevalent in the news, both for good or bad reasons. You've got, on one hand, organizations that are trying to do the right thing, like CrowdStrike that are unfortunately causing issues through their software. On the other hand, you see malicious organizations from nation states and hackers and others just causing real harm to good solid businesses out there. And that is, I think, where we have found the niche to solving with our clients. Our clients have just grown and those clients that are not new, but those clients that we have had for a long time, continue to look at us as trusted advisers and honest brokers and look to us to help them through with these issues, whether it is building out incident response plans, helping them with disaster recovery, making sure that they have a proactive stance and posture for them to be able to stand up against threats and risks that are out there. We just continue to see this need just growing, both obviously in the clients that we have, but also new clients and just the industry at large. I won't go through everything that's obviously in the queue, but I do want to kind of highlight a new area or at least a section that we really expanded on in the Q, which is the business overview. You'll find that down starting on Page 13 of the 10-Q. This quarter, I really wanted to highlight what's happening in the industry outside of SideChannel that we are reacting to, but also have kind of on our horizon and are watching and preparing for. And again, a lot of what we're doing with our clients is helping them prepare for a potentially bad day or at least reducing the risk should that bad they happen. And there are 3 key points data that I really looked at when we were writing this. The first one from Hitch Partners, their look at the vCISO provider space, of which, obviously, SideChannel is a leader in. Their surveys and their views and their information back, again, highlights a significant rise in the adoption of vCISO services, particularly among small and cloud-enabled companies, key services provided by vCISO such as governance and compliance, strategic planning and mentoring by security teams are areas that they noted. And these are really part and parcel to what SideChannel is able to go do, and I think why a lot of client's value what we're able to go do. So what we're seeing in the market, what we're seeing out of the report like this from Hitch again, supports our position in our delivery in the market and obviously, North America and potentially globally. The report notes that the flexibility and expertise offered by vCISO makes them attractive option compared to full-time hires, especially when you're looking at companies that are facing budget constraints and needing to still establish a robust security program. So again, this is where SideChannel shines and it's a testament to the team that we have now underneath Matt Klein, Eric Gauthier and Jared Brennan, who are leading operations in the vCISO area, but also Dele, who is leading our engineering capabilities in that team. So this company wouldn't be where it is if it wasn't for that team and their ability to deliver what we need for clients. So I just want to give a good public kudos and thank you to everybody in operations. When we look at other broader aspects of what's happening in the market and the current landscape, Verizon data breach report is the Cannon of documentation that we look at every year. And the 2024 report was no different than years past. It really highlighting trends that emphasize the importance of robust type of security measures for organizations to really start embracing or at least maturing if they've already embraced it. Financial motors are the primary driver behind 93% of cyber breaches. It's not Hollywood, right? [indiscernible] only accounts for 7% of issues. I think really large scalable breaches like the ones that are associated with [indiscernible], based on ease of exploitation, have a significant impact, surpassing previous incidents like [indiscernible] and others. I think what we're going to see is a continued reliance on software, open-source software that are going to go unchecked, that are going to require services like SideChannel to be able to step in, deliver a program to solidify the security base for those organizations that are relying on software like that. I think our comprehensive suite of security solutions and services are designed appropriately to protect digital assets for companies like this. And you'll see that our second revenue category encompasses an array and cybersecurity software and services, and that is going to be growing. And I think Ryan will be able to highlight some of those aspects of that. The last one and kind of honing in on Enclave and then I'll turn it over to Ryan. We look at what Gartner has in their Magic Quadrants and their yearly surveys, their look at the ability to implement zero trust strategies and for organizations to prioritize this has really come forefront. Their surveys have shown 63% of the organizations have fully or partially adopted framework but not many have maybe effectively adopted the technology to actually meet the needs of that framework. So it's always great to have an idea about how you execute is actually what differentiates you. And I think that's what we're seeing. So Gartner effort sizes, the importance of defining the scope early and then obviously being able to find the right tools to be able to deliver on that. And that's where we're really excited about what Enclave's able to go do. It's our proprietary software, our ability to create segmentation, which is a pathway to and a component of Zero Trust. And by using micro segmentation and software-defined networking, coupled with all of our other new capabilities that we are just seeing a continued and growing need for like asset intelligence, vulnerability discovery and secure web gateway. We feel that we have a good product that is at the right time for the market. And we're seeing right now a growing interest in that. We are positioning more proof of concepts. We're getting in front of more customers with Enclave. We are very bullish on what it's able to go do. And I think you'll start seeing over the next quarters and the next years being the increased usage and the revenue that is associated with us positioning Enclave at new clients, at current clients. So we're very excited by what we're seeing in the industry as a whole, as Gartner is highlighting, but also what we're seeing ourselves directly in the markets where we can make Enclave be a solid fit. So with that, I will turn it over to Ryan to highlight areas of this quarter and looking forward. So if that's all right, Ryan, I'll turn it over to you.

Thank you, Brian. Appreciate that. I want to just talk about the pride that our team feels about having 2 consecutive quarters of positive cash flow. It's taken quite a bit of effort and sacrifice from our team to accomplish that. But we certainly are proud of doing that. And I want to make a few comments about our cash flow. First, our working capital does have some seasonality, the deferred revenue line item on our balance sheet is the primary driver of our seasonality. Deferred revenue is an account that we use to record the cash received in advance of delivering services and products. In other words, it's cash received in advance of being able to recognize revenue. We've had growth in that account largely due to our increase in selling third-party software and services to our clients. These are annual licenses that typically renew for us between February, March and April. So on our balance sheet, deferred revenue is $647,000 at June 30, 2024. At the beginning of the year, in September 30, that number was $367,000. So it's about $280,000 higher than it was at the start of our fiscal year. One year ago, our deferred revenue balance was $289,000 lower than it is today. So we've had -- that is the sign that we've had an increase in selling more annually renewing third-party software and services to our clients during fiscal year 2024. But that deferred revenue is, like I said, driving some seasonality, which means that the bottom line is that we are likely to have similar or lower cash balances during the next 2 quarters that we report our fourth quarter, which ends September 30, 2024, and the first quarter of our next fiscal year, which ended December 31, 2024. Second, I want to focus on facts that we provided to you on the cash flow statement. The cash adjustment in our cash flow statement for depreciation, amortization and stock comp expense for the 9 months ended June 30, 2024, totals $587,000. Our net loss for the 9 months is $645,000, which means we have a gap in fiscal year '24 of $58,000 between our net loss and the cash add-back for those noncash expenses. Last year, at this time, that gap was $1.4 million. Again, our gap between net loss and noncash expenses, we're showing you that on our cash flow statement. That gap is only $58,000 in 2024. That gap was $1.4 million 1 year ago. Continued revenue growth as well as aggressive elimination of OpEx, the reasons that we attribute for the success at closing that gap. Unfortunately, we've had to make and make cuts in every area of the company, including selling and marketing. And so, we're not that high growth story that we should be because we've had to make those cuts. And as we've said on multiple occasions, as we generate cash from operations, we will look for opportunities to reinvest in selling and marketing so that we can harvest the growth opportunities that our business model and our industry are providing. The last thing I want to highlight is the progress this company has made during the last 2 years. If you've been following the publicly traded company pre July 2022 and post July 2022, I think you'll understand and appreciate what I'm about to communicate. We combined 2 businesses in July 2022 at the time one was called Cypher Lock, the second business was named SideChannel. At the time of the business combination, Cypher Lock was reporting quarterly losses that were averaging in excess of $900,000 and reported a cash balance at June 30, 2022, of $3.6 million. This implies that the company's operations as conducted pre-business combination could have been funded for perhaps 4 more months, which would take us to July 2023. It's August 2024. We have a company that's successful. We have a company that has a very narrow gap between net loss and noncash expenses, as I highlighted earlier. And we are now well beyond the 4 quarters at which Cypher Lock could have survived on the cash balance that it had, assuming that it was not able to raise additional capital. Of course, if it would have had to raise additional capital that would have been in the form of equity and would have been dilutive. And so, I think it's important for everyone who's followed this story for a while, premerger perhaps or you picked it up just after the merger that the result is a success for this company. And we are now in a phase, an era of positive cash flow with a growing line of revenue in our Services business and a promising pipeline for the software that originated with the Cypher Lock entity pre-July 2022. So I want all of us who have been in it for a while just to take some time to reflect and appreciate on the accomplishments that we have been able to deliver to ourselves as a management team, to our employees, our clients and to our shareholders. So John, that concludes my comments. We would like to go to Q&A. John, we're not seeing any Q&A. Let me refresh to see if we have any Q&A on the webcast. I don't see any Q&A in the webcast.

Okay. We'll be conducting a question-and-answer session. [Operator Instructions] We currently have no questions in queue from the phone lines.

Okay. Well, I want to thank everybody for taking the time today. We appreciate your attention as investors or interested parties. And again, obviously, we thank everybody who has joined us from SideChannel for all of your hard work, great team we have. We are very excited about what we are working on and looking towards the future on what we're about to go do. So with that, on behalf of Ryan and myself, the Board of Directors and the rest of the executive leadership team. Thank you again, and we will talk to you soon.

Thank you. This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.