Powerfleet, Inc. Q3 FY2022 Earnings Call

Good morning. Welcome to PowerFleet's Third Quarter 2022 Conference Call. Joining us for today's presentation is the company's CEO, Steve Towe; and Principal Financial Officer, Joaquin Fong. Following their remarks, we will open the call for questions. Before we begin the call, I would like to provide PowerFleet's safe harbor statement that includes cautions regarding forward-looking statements made during this call. During the call, there will be forward-looking statements made regarding future events, including PowerFleet's future financial performance. All statements other than present and historical facts, which include any statements regarding the company's plans for future operations, anticipated future financial position, anticipated results of operation, business strategy, competitive position, company's expectations regarding opportunities for growth, demand for the company's product offerings and other industry trends are considered forward-looking statements. Such statements include, but are not limited to, the company's financial expectations for 2022 and beyond. All such forward-looking statements imply the presence of risks and uncertainties and contingencies, many of which are beyond the company's control. The company's actual results, performance or achievements may differ materially from those projected or assumed in any forward-looking statements. Factors that could cause actual results to differ materially could include, amongst other SEC filings, overall economic and business conditions, demand for the company's products and services, competitive factors, emergence of new technologies and the company's cash position. The company does not intend to undertake any duty to update any forward-looking statements to reflect future events or circumstances. Finally, I would like to remind everyone that this call will be made available for replay in the Investor Relations section of the company's website. Now I would like to turn the call over to PowerFleet's CEO, Mr. Steve Towe. Sir, please proceed.

Thank you, operator, and good morning, everyone. Thank you for joining PowerFleet's third quarter conference call. As you can see from our earnings release, the transformation of our business is being successfully executed as we delivered another quarter of very encouraging and healthy financial performance across the board. We grew revenue 17% year-over-year, gross profit by 20%, and generated strong adjusted EBITDA profitability. In fact, Q3 marked the fourth consecutive quarter of year-over-year revenue growth for our company. In addition to our top line growth, our rationalization initiatives are enhancing our organization's efficiency and profitability, producing a 23% sequential improvement in loss from operations, totaling a 68% positive shift from Q1 to Q3 in 2022. Ahead of schedule of success, an unwavering determination for improvement in this area has positioned us well to cross over to profitability on an operating basis in the first half of next year and is also supporting accelerated reinvestment in both go-to-market expertise and advanced software development. We have constantly communicated our goal of profitable growth. Our rebound improvement in product gross margin by 78% since Q1, despite very challenging ongoing supply chain conditions, is a prime example of the skill and grit of the updated organization to remove tough barriers in front of us and deliver outperformance against our competition and, in turn, exceed market expectations. As you can hear, I'm extremely proud of the strides our team has made towards positioning PowerFleet for predictable and profitable revenue growth in 2023 and beyond. We promised in January and throughout the subsequent Investor Day presentation of PowerFleet reimagined, improved consistency, better quality from our operations, tactical and strategic execution of our plans, aiming to improve internal and external confidence and, frankly, credibility surrounding our future plans and expectations for the business. We are delivering on our promises and building very solid foundations for high-velocity profitable growth on a global stage. Before I go further, I will now turn the call over to our Principal Finance Officer, Joaquin Fong, to provide details on our financial results for Q3. Afterwards, I'll review our operational highlights and outlook. Joaquin?

Thanks, Steve, and good morning to everyone on the call. Turning to our financial results for the third quarter ended September 30, 2022. Total revenue was $34.3 million, which is up 17% compared to the same year-ago period. As Steve mentioned, we're encouraged by the progress we are making in shifting our revenue mix to our SaaS and high-quality recurring revenue. It is worth noting that in late September, we were unable to ship approximately $430,000 of product because we temporarily closed our Tampa facility during Hurricane Ian. Our facility was not damaged from the hurricane and was back online and fully operational in early October. High-margin recurring and services revenue was $20.3 million or 59% of total revenue. This was an improvement compared to $19.8 million or 57% of total revenue in the second quarter of 2022. Product revenue, which drives future services revenue, was $14 million or 41% of total revenue. This compares to $10.8 million or 37% of total revenue in Q3 2021. Gross profit was $17.2 million or 50% of total revenue compared to $14.3 million or 49% of total revenue in the same year-ago period. Service gross profit was $13 million or 64% of total service revenue, an improvement compared to $11.7 million or 63% of total service revenue in Q3 last year. Product gross profit was $4.2 million or 30% of total product revenue compared to $2.6 million or 24% of total product revenue in the same year-ago period. The sequential improvement in product gross margin in Q3 2022 reflects our successful reengineering efforts and management of PPV challenges. We continue to work against the backdrop of macroeconomic headwinds affecting our ability to procure electronic components at an attractive price. In order to deliver on our customer commitments, we are actively managing these constraints in short order. Going forward into Q4 in 2023, we expect to realize sequential margin improvements through our product and reengineering initiatives. Looking at our expenses. Total operating expenses were $18.4 million compared to $17.8 million in the prior quarter and $17 million in Q3 last year. Despite marginal increases in our operating expenses in Q3 due to FX charges and other one-time nonrecurring costs, we remain confident in our ability to reduce our annual operating expenses by approximately $5 million over the next 12-month period. Looking at our profitability metrics. Loss from operations improved by $370,000 or 23% to $1.2 million compared to a loss of $1.6 million in the second quarter of 2022. It is worth noting that a significant portion of our loss in the quarter was once again related to PPV and foreign currency impacts. Looking at the progress we've made in truncating our cash usage and rationalizing costs, we still expect to cross over to profitability on an operating basis in the first half of 2023. GAAP net loss attributable to common stockholders totaled $3.5 million or $0.10 per basic and diluted share. This compares to GAAP net loss attributable to common stockholders of $4.5 million or $0.13 per basic and diluted share in Q3 of last year. Non-GAAP net income, a non-GAAP metric, totaled $1.5 million or $0.04 per basic and $0.04 per diluted share compared to a non-GAAP net loss of $364,000 or $0.01 per basic and $0.01 per diluted share in the same year-ago period. Adjusted EBITDA gain, a non-GAAP metric, improved by $1.8 million to $2.8 million compared to adjusted EBITDA of $1 million in the same year-ago period. At quarter-end, we had $17 million in cash and cash equivalents and $36.7 million of working capital. That concludes my prepared remarks. Steve?

Thanks, Joaquin. Following my appointment at the beginning of the year, we evolved the business strategy to position PowerFleet as a global leader of IoT SaaS solutions that optimizes the performance of mobile assets and resources to unify business operations. Following this move, it was imperative that we aligned our branding with our new position in mission. So, during the third quarter, we unveiled a new brand identity centered around being the People Powered IoT company, born from the knowledgeable, passionate, empathetic, and customer-centric qualities and values of our global team. As part of our brand evolution, the Pointer operating division, an Innovation Center in Israel, assumed an increased importance as the technology incubation hub and proving ground for our advanced IoT solutions. We'll be announcing later this week a very exciting new partnership with a leading-edge innovation technology partner in the personal safety space. In terms of our key operating regions, we continued to deliver impressive and exciting double-digit growth in the U.S. During the third quarter, we generated 33% year-over-year growth in our U.S. business, bringing our total growth in the region for the first 9 months of 2022 to 18%. More broadly, the high growth we've delivered this year is driven by building demand from our industrial and logistics customers in the region, including Toyota, Nissan, John Deere, Georgia-Pacific, and Walmart. These enterprises are looking for PowerFleet solutions to drive improved safety and productivity across their business operations. As the industry changes in response to the continued challenges, our technology plays a vital role in modernizing our customer software in support of their digital transformations. We look forward to accelerating the innovation of our software and data solutions. Our ongoing success in the U.S. not only validates our go-to-market strategy but reflects the untapped potential in the area. We're driving consistency and enhancing the profitability of our U.S. business and believe the region will be the key leading growth vector for PowerFleet in the years ahead. Our 2023 pipeline is looking strong, enhanced by the launch of our fleet and connected solutions in the region. We're excited by the early work of the new go-to-market team we've built for this market segment. Israel also performed well in the quarter despite the $900,000 foreign currency revenue hit we recorded due to the strong U.S. dollar. On a constant currency basis, revenue was up 22% compared to Q3 of last year. However, given the continued strength of the U.S. dollar, we expect to be hit by approximately $1.1 million related to foreign currency translation in Q4. Operationally, the Israeli business is executing to plan and bringing to market some exciting solutions to the IoT arena. In Mexico, the region delivered another strong quarter, also highlighted by a major win we secured with FEMSA, a Mexican multinational beverage and retail company. FEMSA is the second-largest company in Mexico and a good proof point of our go-to-market and technology strategy as we were able to displace an established global competitor with the win. FEMSA is excited to develop a strategic relationship to see how PowerFleet can provide further data insights and integrations across their business operations. In other international markets, we're making steady progress in introducing our IoT solutions in Dubai and the Arab Emirates, both of which are untapped markets that have expressed a deep interest in our technology. We're continuing to move upstream within the IoT ecosystem and cementing our position as a global mission-critical technology solutions company. PowerFleet makes a real and tangible difference to the organizations we serve in helping to save lives, creating more operating time and increasing profitability through the business change management we help to deliver. Part of reimagining PowerFleet's brand is our new IoT platform called PowerFleet Unity, which we will release on time later this month. PowerFleet Unity brings people, assets, and data together on a single intelligent platform to transform business operations. PowerFleet Unity's cognitive data engine applies AI and ML to provide traditional operational benefits as well as new data applications to solve some of the industry's most intractable challenges such as safety and risk management, advanced fuel management, sustainability, the move to electric vehicles, optimize fleet performance, fleet compliance, and maintenance. And although the platform is just about to be released, we are already receiving very positive feedback and interest from our beta, current, and prospective customers. We also remain on schedule to release new AI and data science-led value-added modules throughout 2023, with the first module for safety and security to be released at the end of Q1 2023. We have high confidence this rich solution will be game-changing in the industry. None of our success today and in the future could be achieved without our dedicated and talented global team. Our new tagline, People Powered IoT, reflects the importance we place on our world-class team that is committed to our customer success as well as advancing cutting-edge technologies and solutions that perform as promised. Aligned with our commitment to People Powered IoT, we're continuously building upon our existing tenured and talented team to drive towards sustained growth and profitability. Along that line, we've recently made several additions to our leadership team, including the appointments of Ofer Lehman as COO; Josh Betz as SVP of Enterprise Sales; Andrea Hayton as SVP of Marketing; and Ranjay Kumar as VP of Data and Artificial Intelligence Engineering. Each of these leaders brings impressive track records of executing large-scale initiatives for leading global SaaS technology companies. I'm really confident their experiences will help to increase PowerFleet's role with customers and the broader IoT ecosystem. To be sure, we earmarked a portion of the savings from our cost rationalization efforts to build out our senior team, including the additions of Ofer, Josh, Andrea, and Ranjay. Even with these additions, we continue to expect to realize $5 million in cost savings annually. Looking ahead, we entered the fourth quarter with solid operating momentum. We expect to complete the final stages of our rationalization efforts in Q4. These controlled actions are focused on shedding low-margin businesses and customers and placing even greater emphasis on our highest margin solutions, customers, and segments. Starting in 2023, these actions will help to drive higher margin revenue, profitability, and greater business value over the long run. In parallel, our proactive go-to-market promotions in the sales pipeline will continue to fuel growth within new and existing territories. We are executing according to plan and are confident our strategic roadmap will generate sustainable long-term growth. Overall, we are encouraged by the speed and tangible delivery of our transformation strategy throughout 2022 and expect to deliver greater business success in 2023 and beyond. The enhanced leadership team has brought a strong execution focus, making accelerated and consistent headway enhancing organizational efficiencies and driving our SaaS transformation. Our transformation is enabling us to refocus the company's core go-to-market strategy, realize the benefits from fully integrating acquired companies, and combining our extensive technology capabilities, all of which we believe will translate to sustainable, high-quality top-line growth with expanding profitability and positive cash flow. The outlook for PowerFleet is strong. The Board and executive team has a high degree of confidence we will be able to accomplish our goal of both obtaining and retaining a seat at the very top table of solution providers in the expanded global IoT market in the years ahead. We have much hard work in front of us, but our laser-focused, tremendous desire, and world-class global team gives us every chance of success. That concludes our prepared remarks. Now I'll turn it back over to the operator for Q&A.

Our first question is from Scott Searle with ROTH Capital.

Steve, nice to see you guys build the momentum as we go into the end of 2022. First, just a quick clarification. On the operating income comments for breakeven in 2023, I just want to clarify, that's on a GAAP basis, correct? And then, on the supply chain front, it seems like things are getting better, but there's still some constraints there. You had a really nice step-up in terms of the product gross margin. It sounds like from a combination of reengineering but also supply chain. I think you said you were expecting gross margins to sequentially tick up in the fourth quarter. Wondering if you could clarify that on the product side as we go into the fourth quarter, and what are the targets here for the gross margins on the product side over the intermediate term?

Sure. I'll ask Joaquin to take the first part of the question, then I'll take the second.

Yes. To answer your first part of the question, yes, it's on a U.S. GAAP basis. And the improvements that we're seeing in the margins are our ability to manage the supply chain issues right now and just analyzing our deals and making decisions. And we're in the middle of the reengineering process on our existing product line, and that's all contributing right now to the improvement in the product margin.

So, I mean, look, we've made tremendous progress in 2 quarters. A lot of hard work has gone into that. We're ahead of schedule to be at 30%. I think it will be a slight improvement in Q4. But I think, longer term, we'll be looking back into the mid- to higher-30s in terms of the product gross margin, but we still face the challenges. But I think due to the hard work and scale, and it's not just about the cost side but also improving our pricing with customers, we're starting to see some good fruitful output.

Got you. And if I could, just staying a little bit on some of the costs on the accounting side, currency has been a bit of a headwind. I'm wondering if you could take us through quickly just your high-level policies in terms of what you're hedging or not hedging. I got a lot of different regional exposure, so service generated. So, I assume that's all in local currency. I just want to clarify that. And then I had one follow-up.

Yes, we are operating entirely in local currency and are not engaging in any financial hedging. Therefore, we are dealing solely with currency fluctuations. While we do conduct transactions in local currency and have some transactions in U.S. dollars, which provide a slight natural hedge, we do not have any formal financial hedging strategies in place, if that's what you were asking about.

Yes. Perfect. Steve, you've accomplished a lot in about 10 months. It seems like there's a growing pipeline with new modules on the way, including data science modules starting to integrate as we approach 2023. Can you provide insight or a quantification of the pipeline's magnitude and size? What opportunities exist within current customers as you expand their spending potential? Additionally, what metrics should we focus on moving forward, and how will you report the business? We currently have services and products, but you're starting to categorize them into various sections like logistics, fleet, and industrial, among others. How should we consider the business, and what milestones should we use to measure your progress? Also, regarding your longer-term targets of $200 million in revenue and 25% EBITDA margins, are those still on track? It sounds like they are, but I want to confirm.

I appreciate your understanding if I miss any questions. Regarding our pipeline growth, I'm optimistic about the coverage ratios we're beginning to achieve for the business. This year, our growth has emerged from existing solutions, even amidst challenging times and significant business transformations. This resilience is a crucial indicator of our performance during tough periods. Looking ahead to 2023, we have great enthusiasm for the new technologies we plan to introduce. Our go-to-market teams are gearing up, and while they haven't fully launched yet, they're preparing for significant deal-making. We've also brought in new talent in the U.S. focused on the connected car segment, and these efforts are starting to build our pipeline. With the new team having 6 to 12 months of experience, we anticipate a strong growth year in 2023. We are confident about our short-term and long-term goals, and we have made notable progress in just 10 months. As for measuring the business, we will focus on a few key indicators such as improvements in service and SaaS gross margins, subscriber growth, and acquiring new logos, which will be a priority. We believe that our new value-added solutions will enhance our overall average revenue per user and strengthen our relationships with existing clients. As we clarify these aspects and gain better visibility on the outcomes, we will share more information. Our ultimate goal is to generate highly profitable SaaS revenue. You'll notice our strategic shift toward profitability emphasizes securing quality deals with good pricing and margins. We'll continue to be assessed based on this trajectory. Overall, we are confident in a strong future, having accomplished a lot in a short time to enhance our business's strength. We are eager to see some of the results of our efforts come to market in 2023 and beyond.

Great. Nice to see you getting the new team out on the pitch. I'll get back in the queue.

Our next question is from Mike Walkley with Canaccord Genuity.

And my congratulations also on the strong results and progress on the transformation. I guess, Steve, a follow-up question to some of Scott's line of questioning. Just on Unity, can you remind us how this might be priced differently or how to go to market differently? And what kind of ARPU uplift might this give to your installed base as you upsell this new platform?

Great question, Mike. Regarding Unity, we are merging all our various platforms into a single user interface. This will enhance our vehicle segment. As Scott mentioned, we have a range of sectors including industrial, vehicles, fleet, logistics, and IoT. It’s crucial to provide a unified view on one platform to enable multinational and multi-asset customers to access data from a single source, and we are excited about that. Additionally, there will be a base platform fee, with different modular charges based on the specific business needs, such as advanced fuel management, sustainability, safety and security, compliance, business effectiveness, and efficiency. We anticipate being able to increase our average revenue per user significantly, with a mid-term estimate of 10% to 15% improvement in ARPUs. Our go-to-market strategy will enable customers to adopt one module at a time, or the entire suite, and gradually expand with our solutions. We can also activate certain functionalities for customers to experience the benefits of other modules, creating new upsell and cross-sell opportunities that have not existed before. This will be a central element of our strategy going forward.

Great. That's helpful. And then, just on the solutions or services or higher area gross margin, you said your goal is to get those higher. You talked about hardware gross margins maybe getting to the higher 30s long-term, but where could the software services gross margin trend to over time if you're successful?

Yes, we'll be very disappointed if we don't get it above 70%, trending towards mid-70s is where our ambition lies.

And what would that time frame be?

I'm not going to put that in place yet. I think we've got too much work to do. All I would say is, when we do say we're going to do something, then hopefully you've seen over the past year that we do it. So, we need a little bit more time to kind of get that moving, and we'll update that as we feel more confident in being able to give delivery date.

Great. And last question for me, and I'll jump in the queue. Just how is the hiring environment to get the right people in place? You've made a lot of hires but you're also trying to reduce cost. So, how should we balance those two? And do you feel like you have the team in place now to execute on your go-to-market strategy?

I am truly impressed by the exceptional talent we've been able to recruit. This reflects not only the strong capabilities of our current team but also the strategic direction set by the Board and our plans moving forward. Early on, someone pointed out the challenges of growing while simultaneously cutting costs, but we are rapidly reengineering our business. We are effectively reducing expenses while adhering to our budget. This approach has allowed us to attract talented individuals and improve our financial performance. We are confident about our trajectory for 2023. We are excited about the new hires and believe that the combination of experienced team members and fresh perspectives from those with successful backgrounds in high-value SaaS companies will lead to amazing results. You can probably sense my enthusiasm for what this team can accomplish in the coming years.

Our next question is from Jaeson Schmidt with Lake Street Capital Markets.

You got Max on here with Lake Street. Just kind of first talking about the supply chain. I want to know, are you going to see any improvement in the supply chain in Q4? And then currently, what are lead times looking like?

We have observed some slight improvements, and there have been significant enhancements in product gross margin since the first quarter. However, supply timelines remain extended, which poses challenges for us. We're working diligently to secure the necessary components. Currently, these lead times are about 30% longer than what we've seen historically. Despite this, there is a glimmer of hope as we move forward. We are dedicated to investing now to ensure that when our growth and pipelines materialize, we can meet customer orders effectively. It’s a continuous balancing act, but we are closely monitoring the component lead times.

And then, just along those lines with inflationary pressures, have you guys instituted any price increases?

Yes, we have. We've started to. That's never easy. It's obviously easy to run new business, but we are actively going out to our customer base and having conversations and having very pragmatic conversations. And I think that's been very well received. We are, as we said in Q4, going to get a little bit tougher in certain areas and actually really focus on some unprofitable things that we have going on and make movements there. But overall, I think this is new for PowerFleet. I think it's the confidence that we now have in our technology and our value. And I think we're applying that with the go-to-market team led by Patrick Maley is applying that really well. And I think we'll punch our weight in the market in terms of the value that we give and what we get for our price.

Okay. And then, just my last one, and I'll jump back in the queue. Given we're about 1.5 months into Q4, how have order patterns trended so far in October and early November?

So, I would say, similar to Q3, it's still early in the quarter. But similar to Q3, nothing dramatic either way.

And our final question is from Gary Prestopino with Barrington Research.

A couple of questions here. Just to clarify, Joaquin, you said that you're still going to be looking for gross margin improvement on the product side going into Q4 from where you were in Q3. I just want to make sure I got that correct.

You got that correct. Yes, we said that, and I hope I answered that on one of the other questions. So we'll see a slight improvement. Again, momentum continues. And longer-term, mid-30s is the range and maybe a little better over time.

Okay. And then, are you starting to see any benefit from what you said as far as the $5 million of expenses you've been able to take out of the equation from what you've done?

Yes, we are. Obviously, we have invested significantly in R&D, data science, and AI capabilities. And we've also put more sales and go-to-market folks on the pitch. We've done the rebranding exercise and bought in a much, I would say, improved marketing and communications function, getting people to really understand what PowerFleet is all about and the broader scope that we have. We described ourselves as the best-kept secret in IoT at one stage, and now, we're starting to articulate the improved message externally. So we've reinvested some of that savings. You've seen some expansion in the gross margin lines as well. And we have some bigger woods to chop in terms of system integrations and efficiencies in the business. But we're very comfortable that on an annualized basis, that $5 million will be a net improvement over time.

So, for next year, we shouldn't just be expecting a step-down of $5 million in expenses overall because you are doing things to add to your team and spending money on branding, et cetera. Is that kind of a correct assumption?

We are focused on maximizing the unique opportunities in the market. We are reengineering the company, and while there may be some initial challenges in achieving the level of top-line growth we desire, we are committed to investing in this process. Over time, we expect to become more efficient and reduce costs as we implement operating systems and best practices, streamline business processes, and eliminate unnecessary expenditures. Our goal is to make the company more fit for the future, and we are confident in the progress we are making.

Okay. And then, just a couple of more questions here. A couple of questions on Unity. You say where you're going to combine your platform into one user interface. So, I would assume, the real benefit here is ease of use. But you also mentioned that it could give you a 10% to 15% lift in ARPU. Is that based on the clients taking some of the newer modules that you're going to be offering through Unity? Or is that just based on the fact that you're going to be charging more for Unity overall?

No. I believe that the usability will be significantly enhanced. We are in a much better position to become a multi-asset provider, which is likely to benefit larger enterprises. We've also modernized the user interfaces, creating a platform that feels relevant for 2024 and 2025. The real growth in average revenue per user will stem from the modularity, improvements in functionalities, and the value we provide through our data insights. Essentially, we are consolidating everything into one platform, making it user-friendly, and enhancing our capability to address multiple asset types. However, the true value will come from the data insights and the advanced functionalities that will enable us to drive business transformation for our customers in the future.

Okay. Lastly, regarding the deal with the Mexican beverage company FEMSA, could you provide us with some metrics or the size of this agreement? I understand they are one of the larger companies in the beverage sector there.

Yes. We cannot disclose those metrics yet on behalf of the customer, but they are the second-largest revenue company in Mexico, making them a significant enterprise with an extensive distribution network. We are proud of this deal. They have worked with multiple suppliers in the past and are now focusing on PowerFleet, aiming to strengthen that strategic relationship in terms of their operating platforms, business data, and driving change. We are very excited about this opportunity.

Is this related to logistics or the industrial side of the business, or both?

This is on the logistics side at the moment, but they are very excited about the other solutions that we have in our portfolio across that different asset type.

We will now take a follow-up question from Scott Searle with ROTH Capital.

Steve, just to follow up on the competitive landscape, particularly looking at deals like FEMSA and otherwise. What are you seeing on the competitive short list? And how are you guys faring there? What does the win rate look like? And why are you guys winning?

I believe we are witnessing a consolidation of major global players in the market. Currently, our win rates in these scenarios are around 30% to 50%, and I aim to increase that in the future. While it's better than last year, it's essential for people to recognize PowerFleet's size, scale, experience, and credibility, along with the wide range of solutions we offer to our customers. Our go-to-market strategy has significantly improved, as reflected in our numbers. I am eager to compete against our primary rivals in the coming years.

This does conclude our question-and-answer session. I would like to turn the conference back over to Steve for closing remarks.

Thank you, everyone, for the insightful questions, and thanks again for joining us this morning. I look forward to speaking to you again soon. Have a great day. Take care. Bye, bye.

Thank you for joining us for our presentation. You may now disconnect.