Data Storage Corp Q4 FY2021 Earnings Call

Good day, ladies and gentlemen, and welcome to the Data Storage Corporation Fiscal Year 2021 Earnings Call. At this time, all participants have been placed on a listen-only mode, and the floor will be open for questions and comments after the presentation. It is now my pleasure to turn the floor over to your host David Waldman, Investor Relations. Sir, the floor is yours.

Thank you, Holly, and good morning, everyone, and welcome to Data Storage Corporation’s fourth quarter and year-end 2021 business update conference call. On the call with us this morning are Chuck Piluso, Chairman and CEO; and Chris Panagiotakos, Chief Financial Officer. The company issued a press release this morning containing 2021 financial results, which is also posted on the company’s website. If you have any questions after the call or would like any additional information about the company, please contact Crescendo Communications at 212-671-1020. Before we begin, I’d like to remind listeners that this conference call contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 as amended that are intended to be covered by the Safe Harbor created thereby. Forward-looking statements are subject to risks and uncertainties that could cause actual results, performance or achievements to differ materially from any future results, performance or achievements expressed or implied by such forward-looking statements. Statements preceded by, followed by or that otherwise include the words believes, expects, anticipates, intends, projects, estimates, plans, and similar expressions are forward conditional verbs such as will, should, would, may and could are generally forward-looking in nature, not historical facts, although not all forward-looking statements include the foregoing. Although, the company believes that the expectations reflected in such forward-looking statements are reasonable, it can provide no assurance that such expectations will prove to be incorrect. Important factors that could cause actual results to differ materially from the company’s expectations include, but are not limited to the company’s ability to leverage the scalability and performance of Flagship Solutions, the company’s ability to benefit from the IBM cloud migration underway, the company’s ability to position itself for future profitability and the company’s ability to maintain its NASDAQ listing. These risks should not be construed as exhaustive and should be read together with the other cautionary statements included in the company’s Annual Report on Form 10-K for the year ended December 31, 2021, and quarterly reports on Form 10-Q and current reports on Form 8-K filed with the Securities and Exchange Commission. Any forward-looking statements speak only as of the date on which it was initially made. Except as required by law, the company assumes no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances or otherwise. I’d now like to turn the call over to Chuck Piluso. Please go ahead, Chuck.

Thank you, David. Good morning, everyone. I’m pleased to report that 2021 was a transformational year for the company. Among the accomplishments, we uplisted to NASDAQ, completed the acquisition of Flagship, grew our customer base, and expanded both domestically and internationally. I’m pleased to report we achieved revenue growth of approximately 97%, 60% for the fourth quarter and full year respectively. We also achieved positive adjusted EBITDA for both the fourth quarter and the full year. As a result, we are well-positioned heading into 2022. We are already realizing the synergies of the Flagship acquisition, which complements our overall business strategy and expands our offerings with an impressive roster of Tier 1 customers. Since closing the acquisition, we are already witnessing increased cross-selling activity and we awarded a multimillion-dollar contract with one of the nation’s premier professional sports teams. We expect to recognize the sales revenue in the first quarter of 2022. We have increased our outstanding proposals to over $20 million in total contract value, which is a historic high for the company. Our contract renewal rate is 94%, which further validates the quality of our services and customer loyalty. We have placed a heavy emphasis on growing subscription sales, which provide long-term high-margin revenue streams. In particular, we are seeing increased interest in our digital infrastructure, data integrity, and disaster recovery services. It is clear that these services are more important than ever given the heightened risk with cybersecurity from foreign nations and rogue actors. It’s important to point out that we’ve been protecting our clients’ data and providing secure hosting environments for over 15 years. This is not new to us, but current events are only heightening awareness of the need for these services. And we can offer our customers a complete end-to-end security and data recovery offering. As we’ve always stated, not all attacks or national disasters can be avoided, and it is crucial that organizations are prepared. Even though companies have firewalls and other protective measures, just like having a smoke detector in your home, what do you do when the fire starts? You need to have a fire extinguisher for rapid response. Companies need to back up data off-site, so information can be recovered, restored, and available within hours. Additionally, we provide critical security features that protect information, data privacy, and adhere to compliance standards. As an example, we recently partnered with Precisely, a global leader in data integrity and cybersecurity software solutions. The addition of Precisely expanded solutions within a cloud environment that allows us to offer an even more robust full-feature offering that addresses the most common IT security exposure issues, including ransomware. Our customer base now includes more than 400 customers and 30 active distribution companies. Without question, we’re successfully executing on our strategy to establish Data Storage as a leading provider of business continuity solutions ranging from managed cloud infrastructure to cybersecurity, to direct internet access, VoIP integrated with Microsoft Teams, and an array of managed services. And with the acquisition of Flagship Solutions, we are positioned as a leading one-stop provider for multi-cloud IT solutions. The time is now; the IBM on-premise service market has only begun to transition to the cloud in the last few years. Over 1 million virtual IBM Power services, and only 50% of these services have begun to migrate to the cloud. We believe this represents a multi-billion dollar global addressable market, and we are ideally positioned to capitalize on this trend. We are also expanding domestically and internationally with the opening of operations in Austin, Texas, earlier this year, as well as in Canada through the addition of two new data centers that went live in our partnership with Able-One. The partnership with Able-One fills an important need for cloud services in Canada among businesses that run IBM Power Systems on IBM I, AIX, and Linux operating systems. So to wrap up, we are growing rapidly. We have completed meaningful acquisitions, entered into strategic partnerships that provide a more inclusive feature and services to our clients, demonstrating our commitment to offering customers the most cutting-edge and comprehensive technology. We are also boosting our infrastructure, increasing sales, our marketing initiatives, as well as investing in personnel and infrastructure to support our continued growth. As an example, we have added business development team members, as well as a director of marketing; we are already seeing the benefits from these additions. We have also added technical personnel to support our anticipated growth. In addition to personnel, we’ve invested in expanding our cloud infrastructure, storage, network equipment, and computing power with IBM Power Services. We have a strong balance sheet with over $12 million of cash as of December 31, 2021, enabling us to execute on our growth strategy as well as explore opportunistic creative acquisitions that will further enhance our offering and geographic presence. As a result of our strong balance sheet, we have no need to raise capital and would not do so at the current levels. We are very proud of our accomplishments we achieved in 2021, and we believe the outlook for business is brighter than ever. We have a strong team, a robust contract pipeline with upselling and cross-selling opportunities with limited competition. To date, we are completing meaningful acquisitions and entered into strategic partnerships that provide us more inclusive features and services for our clients. As a result, we believe we are well-positioned for growth and improved profitability, given our highly scalable business model, which we expect will drive significant value for shareholders in the years to come. I’d like to turn the call over to Chris Panagiotakos, our CFO, to discuss the year-end financials. Please go ahead, Chris.

Thank you, Chuck. Total revenue for the year ended December 31, 2021, was $14.9 million, an increase of 60%, compared to $9.3 million from last year. The increase is primarily attributable to the additional sales from the Flagship merger and an increase in monthly subscription revenue. Cost of sales for the year ended December 31, 2021, was $8.5 million, compared to $5.4 million for the year ended December 31, 2020. The increase was mostly related to variable costs incurred to produce our products and services. As a result, our gross profit margin was 43.7% versus 41.7% in 2020. For the year ended December 31, 2021, selling, general and administrative expenses were $7.2 million, compared to $3.9 million for the year ended December 31, 2020. The increase was primarily attributable to an increase in salaries related to higher headcount, professional fees, and advertising expenses due to additional Flagship marketing campaigns launched post-merger. A majority of these expenses in SG&A are positioning us for 2022 and beyond. Our adjusted EBITDA for 2021 was $825,000 or 5.6% of revenue. Net income attributable to common shareholders for the year ended December 31, 2021, was $260,000, compared to net income of $174,000 for the year ended December 31, 2020. We ended the year with cash and cash equivalents of $12.1 million at December 31, 2021, compared to $894,000 at the same time last year. Stockholders’ equity increased to $22.6 million, compared to $1.9 million as of December 31, 2020. I am also pleased to report that we have remediated the material weakness that appeared in last year’s 10-K, illustrating the improvement in our overall financials. Thank you. I will now turn the call back to Chuck.

Thanks, Chris. I think at this point we can open up the call for questions.

Certainly. Ladies and gentlemen, the floor is now open for questions. Your first question for today is coming from Matthew Galinko. Please announce your affiliation, then pose your question.

Hi, good morning, guys. I appreciate you taking my question, Maxim Group. Congrats on the strong close for the year. Chuck, you mentioned I think in your press release and your commentary some uptick, but I guess since the federal government started raising their warning about cyber attacks in recent weeks, have you seen a change in customer behavior or willingness to move towards adopting disaster recovery solutions or any sort of security options?

Thanks, Matt. Great question. First of all, we roll out cybersecurity software directly to the end user because of the remote worker, and also on all of our infrastructure clients we are actually going to provide them and have been providing them with software cybersecurity. In a sense, they really need to be able to put this on there. Some have it already, but we’re insisting on it. So there’s a huge uptick that’s going on in cybersecurity across the board, and we’re hearing information from insurance companies that they’re taking a beating on these types of claims through the breaches. Because as we know, if hackers want to break through, they are going to break through. So the strongest piece for us is essentially, even though we take all the preventive measures for our clients, we maintain their data encrypted in our data vaults. So we have it on both sides of cybersecurity and the warning with tools like QRadar that give alerts to our software. But at the point, if someone does get through, we have all the versions by the hour, by the day, by the week for all of our encrypted data vaulting customers. So we are seeing that uptick, and we are rolling that out in a large way as cybersecurity as a service.

Got it. That’s helpful. And then I guess big picture, if you had to give your opinion on customer willingness to move towards sort of a power cloud infrastructure model, how have those conversations changed today versus how they were a year ago?

Well, we’re seeing the migration that’s represented in our sales pipeline. We have various levels of judging that whether it’s a quote or whether it’s someone that’s negotiating a contract with us. So there’s been an uptick. We had 55,000 visitors to our site in 2021, which is extremely unusual compared to previous years. So if you were to look at that, you’d have to say that uptick is actually there, and proposals continue to grow. The presentations that happen typically through our channel partners and our distributors and our business development team. So we’re seeing proposals being generated constantly. We have finalized a list of 1,000 plus companies that are just in our nurture list that continue to ask for information and not even yet a quote. So it’s moving at a pretty good rate. And Matt, by the way, we’ve actually increased our infrastructure, which I mentioned in the earnings call based on what we’re seeing in the soft tech.

Got it. Yes. I heard you mention that. I figured it wasn’t without cause, so that’s good to hear. All right. Last question for me before I jump back in the queue about that $20 million sales pipeline, I guess, help us break that down a little bit. How much is Flagship there? How much of that is recurring services versus sort of product sale? And is that mostly for 2022 projects, or does that go out multiple years? Just help us frame what that means?

Sure. Well, first of all, we have a backlog, I would say, Chris, probably around $2 million in equipment plus.

That’s correct.

And around $500,000 in total contract value in the DSC subsidiary. Let’s keep in mind, we operate through three subsidiaries, Flagship, Nexus, and DSC. Flagship’s funnel has a number of equipment proposals in it; it’s around $6 million, $13 million or $14 million in DSC, and that’s primarily subscription services. We talk about $14 million in total contract value. Our average term typically is 36 months, so you can divide that out to get a feel for it. But we understand the marketplace; it’s around $46 billion in Canada and the United States that we’re focused on, even though the total marketplace is $600 billion to $700 billion. We’re highly focused for the next few years on capturing a percentage of this $46 billion that’s transitioning to the cloud based on our estimates.

Got it. So of the – I think you said about $14 million in DSC, how much of that is realistically the customer going to make a decision on in 2022, whether it’s you or somebody else?

Well, that just brings up my religious background. I have to go to church and light candles to really answer that question 100%. It’s really very, very tough. I have to drill down. What happens is in our sales force, everything is calculated. So when it’s a 90% in sales force that comes up, what it means is you’re negotiating terms and conditions within the agreement itself. So it’s tough for me to give you that actual answer at this time.

No, that’s right. I guess last question, and I’ll be back in the queue, but is that $20 million weighted for kind of the probabilities that you just talked about, or is that just a straight number?

Well, everything is weighted by probabilities within sales force on the $14 million. $14 million is we’ve delivered a proposal to an end-user client, either through the channel partner or through one of our direct business development team members. The $6 million that’s in Flagship’s funnel is expected to come in, in 2022. We don’t really go out. When we send a proposal out, it’s not because they’re doing something in 2023, although it could just be a quote. Typically it’s an effort for the prospect and an effort for the company to generate that even though it is automatically done through sales force; it’s still a process. So these are folks that we are anticipating. We’ve seen a close rate of around 23% on our subscription proposals. I would estimate that around 23%, and I believe in the case of Mark Wiley at Flagship, his $6 million is proposals that are outstanding for 2022. Hal Schwartz talks about a 23% close rate, which is pretty good. It’s estimated, but…

Yes, no, that’s helpful color. I’ll turn back in the queue. Thank you.

Thank you, Matt.

Your next question is from Ryan Joseph. Please share your affiliation and then ask your question.

Hey, this is Ryan Joseph. Thanks for your time today. You briefly mentioned the market opportunity, but with only about 15% of IBM services transitioned to the cloud, what do you consider the market opportunity in such a large yet underserved industry?

Thanks, Ryan. First of all, let me be clear on the 15%. When we talk about 15%, it doesn’t mean that they are using infrastructure to service cloud infrastructure. It could mean that they’re using the cloud for disaster recovery, mirroring and data backup. So it doesn’t necessarily mean cloud infrastructure. The migration that we are seeing is actually moving from on-premise to cloud infrastructure in one of our six data centers in the United States. So just to clarify that, we’ve been offering cloud to IBM since we acquired SAFEData in 2010. But it is a $46 billion industry in the sense that we’re focused on offering disaster recovery in Canada and the United States. We know that the migration that Amazon, and I’ll use Amazon because they’ve been the longest, Microsoft came in a little later, and Google later than that; they have 51% of the marketplace today, and 1,000 others have all of the others. So we are seeing the migration from on-premise to off-premise, and I’m saying off-premise to cloud happening, and that’s really what I’m referring to. So 50% are using some type of cloud services. So, Amazon… Yes, go on Ryan. Sorry.

No, well, that makes sense. I mean, it does seem like a very large market and fragmented to that matter, though. And to that extent, could you speak more to upcoming M&A opportunities to help kind of break down that already fragmented market that you just described?

Right. I can talk about M&A a little bit, but before I do, I want to go back to your point that, when you say it doesn’t seem like a very large market. First of all, we’re focused on this space with probably three competitors. You might see many more. There are probably distribution companies, channel partners of ours. So at our pro forma revenue with Flagship, Nexus, and for a full year of Flagship, we’re talking about $23 million. So I wouldn’t mind capturing 10% or 5% of that marketplace, which pushes our revenue up to significant levels in the billion. So I think it is a significant size marketplace because of the limited competition. If we’re focusing on Windows and Intel, which we do have a cloud for that, you’re competing with 1,000 people there. It’s not what our approach is exactly at this particular time. So it is fairly significant and we can – and we have the ability, I believe, and we’re positioned and have the infrastructure and data centers to be able to do that. Just to go back to your M&A question, we’re looking for folks that might have sold equipment for 20 years and have a very reliable loyal customer base. Those customers are now ready to move towards infrastructure as a service. We probably have 125 companies under contract, but we have 30 active ones. We don’t bring up the a 100 plus; it’s just the ones that are really active on it. So we’re looking at M&A in that area. We’re looking for M&A in the area of VoIP that’s integrated with Teams. We know that this is in the billions as well, and people are using Teams, but certain industries will always require handsets and some type of voice VoIP type services integrated with Teams. We’re looking at data analytic companies as well, the folks that are doing that as a service where it’s recurring and not just a consulting contract. We’re focused on healthcare, media, entertainment. Tom Kempster now is running government where we have an offering for government. And with that, we’re also looking for M&A activity where folks already have relationships with government as an M&A target.

Very good. Well, you definitely answered both questions. They relate pretty well to each other about the strategy. So that makes a lot of sense. That’s all I’ve got. I appreciate your time though.

Thank you, Ryan.

Your next question is a follow-up question coming from Matthew Galinko. Matthew, your line is live.

Thanks for taking this again. I guess drilling a little bit further into the M&A topic. Chuck, I think you mentioned that you don’t have a willingness to capital raise at this in this equity market. So, is it reasonable to think about the deal size that you’re looking at now as tuck-in, or what are you seeing in terms of valuation expectations from the companies you’re engaged with?

Well, with a few million in backlog and a backlog in subscription, total contract value of $500,000, with probably $5 million plus in assets deployed, we shouldn’t be trading at liquidation value. I mean it really is keep shop at night, but every CEO of a company is probably saying their company’s undervalued, but it’s a difficult one. We have $12 million in the bank, deals that we're looking at; we would want to pay out over several years because we want the CEOs, the entrepreneurs that founded these companies to stay with us from another subsidiary, if it makes sense unless it makes more sense to blend it together. And we’re seeing economies of scale with work groups between Flagship and DSC. So on the capital raise, yes, we wouldn’t do it at this particular point in time. I can’t imagine the stock staying where it is for more than six months or a year. We have warrants outstanding; I believe it’s 2.2. Chris can correct me on that.

That’s correct.

And if we get over north of $7, it’s $13 million in additional cash in the bank. I can’t imagine that our pro forma for 2021 with a full year of Flagship, Nexus and DSC is $23 million in revenue. We’re on fire, and it’s just not being noticed yet. Matt, I don’t know if that answers your question, but it’s…

Yeah, no, it makes total sense to me. But I guess on the other side of the equation, are the people you’re talking to culminate deals, seeing the same pressure and valuations as you’re seeing in the public equity markets?

Well, we’re seeing somewhere between 8 and 10 times multiple of let’s call it, if it’s not EBITDA, and on equipment deals, 1 to 1.5 times on that. We’re really looking for recurring revenue, and any deal that we would structure with someone that isn’t the equipment business is looking to convert their customers over. They would be on notice. So yes, it’s just we’re looking at deals also. I remember the other part of your question, usually it’s somewhere between $8 million and $15 million positive cash flow companies.

Got it. Thanks. And then last one for me, you mentioned adding on the technical side, I think on the maybe advertising and I’m not sure where else in the organization, but what are you facing in the labor market? Is it difficult to add people? Are you feeling wage inflation? How has it been to try to build?

Well, Mark’s done a great job of bringing on a great team. Mark had a plan, and we agreed, and he’s increased it. So he is well connected and has done an unbelievable job with adding those folks in marketing and also in the tech space. I believe in the case of DSC and with Nexus, we’re not looking to add 20 people. We have a very senior staff, so we’ve added more junior people so that we bring them up. I don’t think that has been too difficult. We’ve been getting candidates in interviews continuing always, but we haven’t had a difficult time. I think it’s more in the case of anybody that was senior was brought on because there were relationships; anyone that’s junior, we’re bringing them out of schools and instructing them and coaching them and training them on our services, whether it’s IBM school or it’s software that we’re selling. So we’re not finding it difficult at this point, but we’re not adding 20 salespeople, which could be extremely difficult.

Got it. Okay. Fair enough. Last one for me is on the Flagship deal that you talked about; is that all expected to be recognized in the first quarter, or is there more of a tail to it?

Chris? I’ll turn it over to Chris.

What exactly do you mean by that?

So I think the commentary in the press release was that you announced a multimillion-dollar deal at the end of the – at the beginning of this year. And it’s a – yes, so it sounds like it’s going to be the revenue recognition will be in the first quarter, but I’m just curious if there’s going to be follow-on revenue recognition or if it’s sort of a one-shot deal in the first quarter.

Yes. So we’re still analyzing that. We’re getting ready to start our Q1 review. So we will be looking at that and recognizing revenue under the applicable standards accordingly.

Yes. And also keep in mind too, Matt, that we hope that it all goes into the first quarter, but for the most part, we don’t want to commit to that. So we’ll see what that looks like shortly, but there’s always, when you sell equipment, there’s always follow-on revenue with hardware maintenance and software renewals for these systems. Sometimes you’ll sell a three-year agreement, and then that kicks in, in the fourth year. Sometimes it’s annual. So anytime you’re usually selling equipment, it always has follow-on recurring revenue.

That’s helpful. Thanks so much.

Your next question is coming from an indiscernible source. Please state your affiliation and then ask your question.

Hi, private investor, we only own 20,800 shares, but I have a naïve question. It seems that everything I read is DTST is selling IBM products. I know that you – I’m sure you have other products available, but my question is how and when will you have your own proprietary product? Thank you.

Carl, that was brought up and said you folks look like you’re a reseller for IBM, and we’ve been trying to improve our messaging. So we have a corporate website that should be going up in April that really positions us to understand what we really do. So when we sell equipment, it could be IBM equipment; most of the time it is IBM equipment. But when we talk about subscription services, this is our own product. This is a product where we buy particular elements in technology. I don’t know how technological you are, but we’ll buy storage, computing power, networking, and we assemble this under a model that we’ve been doing since 2012, and this is our offering, not reselling IBM. So it’s a little bit different. I understand the messaging may be off on that, but this is our offering. The majority of the customers are all on disaster recovery, where we might have a – we subscribe to particular software. We then put it on data vaults and replicate it to other data centers that we have. So it really is our proprietary offering. Two or three other competitors that we may have in the space may do it a little bit differently. But for the most part, we are a build partner of IBM. So we’ve assembled all of the elements, and it’s our offering. Now, in the case of Flagship, just to follow it along, Flagship working closely with IBM, they may be using IBM’s cloud based on a customer’s requirement for certain types of compliance. But at DSC, it’s a DSC offering out of that subsidiary that we put together that’s in six data centers in the United States. It’s not an IBM offering; it’s an offering where we can take someone’s IBM equipment and move it to cloud infrastructure on their infrastructure. So it is our offering. Did I help, Carl?

Thank you. I appreciate it.

Okay, and thank you for being a shareholder.

There are no further questions in queue. I would like to turn the floor back over to management for any closing comments.

Thank you, Holly. Thank you all for the questions. Just to wrap it up, we’re very pleased with our accomplishments in 2021. We believe we’re well-positioned to continue to execute on our strategy and our growth strategy, M&A strategy. And we look forward to reporting on additional developments as they unfold. Thank you all for joining us today.

Thank you, ladies and gentlemen. This does conclude today’s event. You may disconnect your phone lines at this time and have a wonderful day. Thank you for your participation.