Earnings Call Transcript - DTST Q1 2022

Operator, Operator

Good morning, ladies and gentlemen, and welcome to the Data Storage Corporation First Quarter 2022 Conference Call. At this time all participants have been placed on a listen-only mode, and we will open the floor for your questions and comments after the presentation. It is now my pleasure to turn the floor over to your host, David Waldman. Sir, the floor is yours.

David Waldman, Host

Thank you. Good morning, everyone and welcome to Data Storage Corporation's 2022 first quarter ending March 31, 2022 business update conference call. On the call with us this morning are Chuck Piluso, Chairman and Chief Executive Officer and Chris Panagiotakos, Chief Financial Officer. The company issued a press release this morning containing first quarter 2022 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 future or conditional verbs such as will, should, would, may and could are generally forward-looking in nature and not historical facts, although not all forward-looking statements include the foregoing. Although the company believes the expectations reflected in such forward-looking statements are reasonable, it can provide no assurance that such expectations will prove to have been correct. 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 its ability to maintain its NASDAQ listing. These risks should not be construed as exhaustive and should be read together with other cautionary statements including the company's quarterly report on Form 10-Q for the quarter ended March 31, 2022, and annual report on Form 10-K 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.

Chuck Piluso, CEO

Thanks, David. Good morning, everyone. I'm pleased to report that our growth has continued into the first quarter of 2022. We have witnessed increased sales as well as growth in monthly cloud subscription services. As a result, revenue was up 236% from $2.6 million to $8.7 million for the first quarter of 2022. At the same time, we achieved positive net income and generated over $600,000 of EBITDA, while investing in our infrastructure, sales, and marketing. As you can see, we have built a highly scalable business model. And as we continue to grow revenue, we have the potential to generate significant profitability. We have been providing reliable, efficient IT solutions including cloud infrastructure, hybrid cloud solutions, disaster recovery, IBM Systems, storage, software, cybersecurity, and other managed services focused on the IBM Power community across a variety of industries. The DSC website that directly focuses on IBM Power Systems migration to the cloud welcomed 55,000 visitors in 2021, a clear indication that this migration is now underway. Since surveys have indicated only 15% of users are on a cloud-based solution, this migration is underway. We have the right offering at the right time to deliver critically important cloud technology solutions to a niche multi-billion dollar market estimated at $48 billion in the USA and Canada alone. Towards this end, we have invested millions to establish ourselves as a leader within the IBM Power cloud infrastructure and disaster recovery marketplace. As anticipated, the Flagship merger is proving to be highly synergistic with our existing operations. Completing the Flagship merger has positioned us as a comprehensive, one-stop provider with the ability to cross-sell solutions across our respective clients. We enter 2022 with a baseline annual recurring revenue of $12 million. 2022 began with a notable multi-million dollar contract with a highly recognizable professional sports franchise. We were selected based on the scalability and performance of our solutions and believe this important contract illustrates the momentum we are gaining in the market. We recently announced the expansion of Flagship's partnership with PFL, the Professional Fighting League. PFL is pioneering the future of MMA proprietary technology, utilizing data analytics and AI that enables showcasing the sport like never before. They sought out our solutions and data scientists to assist in developing an unmatched MMA fan experience. Working with us, PFL has elevated the standard for measuring fighter performance. The insights gathered from smart cage technology and cagenomics data will be enhanced with IBM Watson machine learning to showcase what is taking place inside the cage and deliver accurate matchup outcome predictions for MMA fans around the world. Our business development team's focus on industry verticals is paying off. We have increased our outstanding proposals, of which more than half offer subscription-based prospects. At the same time, we have maintained a contract renewal rate of 94%, reinforcing the quality of our services, technical team, and customer loyalty. We have placed a heavy emphasis on growing subscription sales, which provide long-term high-margin revenue streams. We have witnessed particularly strong growth within our cloud infrastructure and disaster recovery services. In addition, we are increasing our sales force, expanding our marketing initiatives, and investing in highly skilled personnel and infrastructure to support our continued organic growth. It's worth noting that we did benefit from a large equipment sale in the first quarter. Equipment sales can lead to fluctuations from quarter to quarter, which is another reason we are placing heavy emphasis on subscription sales. That said, when opportunities exist for a large equipment sale, we will certainly take advantage of those opportunities as we did in the first quarter. To summarize, we have been executing our strategy. We have completed meaningful acquisitions and entered into strategic partnerships that provide us more inclusive features and services for our clients, demonstrating our commitment to offering customers the most cutting-edge and comprehensive technologies. We have also maintained a solid balance sheet with over $13 million of cash and cash equivalents as of March 31, 2022 and no long-term debt, providing us flexibility to take advantage of the opportunities within this emerging multi-billion dollar market. We have a strong team, robust proposal pipeline and limited competition. As a result, we believe we are well-positioned to drive increased profitability, given a highly scalable business model. With that, I'd like to turn it over to Chris, our CFO, to discuss the first quarter financials. Chris?

Chris Panagiotakos, CFO

Thank you, Chuck. Total revenue for the three months ended March 31, 2022 was $8.7 million, an increase of $6.1 million, or 236%, compared to $2.6 million for the three months ended March 31, 2021. The increase is primarily attributed to the additional sales from the Flagship merger and an increase in monthly subscription revenue. Cost of sales for the three months ended March 31, 2022 was $6 million, an increase of $4.6 million, or 323%, compared to $1.4 million for the three months ended March 31, 2021. The increase of $4.6 million was mostly related to the Flagship merger and the variable nature of costs incurred to produce and sell our products and services. Selling, general and administrative expenses for the three months ended March 31, 2022 were $2.5 million, an increase of $1.3 million, or 120%, as compared to $1.1 million for the three months ended March 31, 2021. The increase is primarily attributed to the increase in salaries as a result of the Flagship merger, new sales and marketing staff, increased professional fees, and increased commission expenses. Our adjusted EBITDA for the first quarter was $604,492. Net income attributable to common shareholders for the three months ended March 31, 2022 was $135,788 compared to a net loss of $36,784 for the same period in 2021. We ended the quarter with cash and cash equivalents of $13.4 million at March 31, 2022, compared to $12.1 million at the same time last year. Thank you. I will now turn the call back to Chuck.

Chuck Piluso, CEO

Thanks, Chris. And now I'd like to open up the call for questions.

Operator, Operator

Certainly. Your first question is coming from Matthew Galinko from Maxim Group. Your line is live.

Matthew Galinko, Analyst

Hey, good morning. Congrats on the strong quarter and thanks for taking my questions. Maybe to start, I think you said $12 million of ARR entering 2022. Did I get that figure correct?

Chris Panagiotakos, CFO

Hi, Matt. Yes, it's $12 million in annual recurring revenue as we enter. That's December 2021 times 12.

Matthew Galinko, Analyst

Got it. Thank you. And do you happen to have what the number was exiting or I guess entering 2021?

Chris Panagiotakos, CFO

I have that question, Matt. Give me a moment. Do you have another question? While I look that up, it's in one of my investor presentations. If you have another question, please go ahead.

Matthew Galinko, Analyst

Sure. I wanted to follow up on our discussion from last quarter regarding the expansion of our partner strategy aimed at the power and infrastructure opportunities. Are there any updates or milestones on this topic that you could share related to the first quarter?

Chris Panagiotakos, CFO

Well, in general, on the partnerships, we focus on a few different areas. The first one is the folks that have sold us equipment to begin with that was a one-time sale for them. They have to wait three to five years to, let’s say, refresh their equipment. Their clients now maybe they've moved over to a managed service provider with their x86 Intel Windows applications. And now they're sitting with their IBM Systems and are asking these folks who sold the equipment, who do you use for the IBM and IBM Cloud with that they become ideal clients for us, as well as software companies that sell software to folks that still have it on premise. But in addition to that, we're looking at non-traditional cable companies right now oppressed; the government's trying to give away their internet services. They’re looking to get more revenue from their existing clients. So we're trying to work with cable companies and telecom companies to be able to add disaster recovery and cloud infrastructure primarily on to the IBM Power, though we also have an x86 cloud. But so we're looking at cable companies as well. And we're also with distribution, we have a direct sales force, we're going to be adding to that direct sales force that's focusing on the verticals and big push towards government, but for the most part on distribution with partnerships I would say, folks that have sold the equipment or software initially or continue to, and moving them because they get an annuity for the life of the contract. So it's a lot better than just receiving it one time. Typically, it's around 18 months for them to break even if they move on services in there. And then after that, with a 94% renewal rate, they can basically retire.

Matthew Galinko, Analyst

Thanks. That's helpful color. I guess also, on the business pipeline, I think you shared some numbers around that last quarter. And obviously, you signed up pretty potentially material order that you announced with PFL. So can you maybe give us an update on what the pipeline looks like and maybe scope that a little bit between the large sorts of deals that you sort of get through Flagship and what's coming in from the more traditional and sort of DR and other types of business?

Chris Panagiotakos, CFO

Sure. Well, to start with PFL and some of the other sports and media type entertainment clients that Flagship works on, Flagship is a Gold Partner of IBM. They work very closely with Cisco, HCL, Red Hat, and IBM working closely. With that, there’s a lead exchange that goes on. And so with that, Flagship is very close with those vendors, and those vendors typically work with partners. And so Flagship has a great technical staff and they know that those companies will pass those leads over to Flagship to work those leads with them. So that's one way that the pipeline gets filled in the Flagship, as well as they have a job, they have over 100 customers, and they continue to sell into that customer base. So that baseline that pipeline continues to grow. When you look at the ratio between one-time sales and recurring sales, it's rounded out, it's around 80:20, 80% on the recurring side, but Flagship is also cross-selling Data Storage Corporation's cloud infrastructure for disaster recovery and cloud infrastructure. Between Mark and Howe, they've been pretty scientific about how they calculate this pipeline. If you were to ask how Schwartz, he would say, right now, how do you want to calculate it? Are we negotiating a contract with somebody, or is this a quote that's going out? Overall, we probably have over $20 million in total pipeline to answer the question directly, that can range between $12 million and $14 million on subscription services for just the Data Storage unit that sells DR infrastructure and cloud infrastructure. Then you have to add in their Nexus as well, for voice and data, as well as Flagship. But if I gave you a number, I would say around $20 million.

Matthew Galinko, Analyst

Got it. Thanks.

Chuck Piluso, CEO

It's comes from a couple of different ways. Matt, it's coming from channel partners that are in their own businesses, they’re companies that have sales forces, or owner-operators that now go into our sales force for program salesforce.com, and they can configure for themselves the proposal and that becomes a quote and a proposal and automatically gets generated to the client or delivered to the client from the pipeline. So everything is actually flowing through proposal development on it. So it continues to grow. We continue to find people that are, let’s say they're not ready to refresh yet, but are gathering information. And those are calculated on different percentages of, we are actually negotiating terms and conditions. So it varies on a different number of different ways. But our systems are basically flow through for proposals on cloud infrastructure and DR. But I would say around $20 million overall.

Matthew Galinko, Analyst

Okay. That's very helpful. I don't want to hog the queue, if there's any other questions, but I do have a couple more, if it's okay for me to keep going.

Chuck Piluso, CEO

It’s okay with me, Matt.

Matthew Galinko, Analyst

In the last quarter, we discussed the heightened cyber threat environment. Did you observe any effects from that over the past quarter? Additionally, how is your cybersecurity business performing overall?

Chuck Piluso, CEO

I believe, first of all, our technicians, they're cross-trained on multiple products. We're looking at, I believe, setting up a completely separate cyber unit. We continue to recruit talent in that particular area, and it will be a major focus for us to have a cybersecurity unit set up. I believe that’s what how Schwartz that runs CSC. I think we have been changing the name to Cloud First and Mark Wyllie out of Flagship are working together with Chuck Paolillo, our CTO. But yes, there is a high alert; people are asking the questions, but we've been rolling it out right to the end-user for some time, especially at the beginning of COVID when people were working from home. They’re getting instruction that they shouldn’t be opening up certain things at the same time. We've been rolling out software to the end-user to the firewall and our technicians work on that. I believe an NFL franchise has put in QRadar, which is an IBM software that we've implemented for them. So we're pretty active with it, and it's going to be a major focus — probably a separate business unit for the company as we move forward.

Matthew Galinko, Analyst

Thanks. And I guess final question is kind of on macro. And in two directions, one being, what are you seeing in terms of macro or customers more cautious in a rising rate environment to think about refreshing infrastructure, and does that push them closer to sort of going towards infrastructure as a service? Or is that having any impact on how your customers in your pipeline are thinking about how they manage their infrastructure? And I guess the second part of that question is going to be on the M&A front. Just given that we've seen such a pullback in the public market, does that create any opportunities or more incentive for some of the targets that you've looked at in the past to think about terms differently? Thanks.

Chuck Piluso, CEO

Matt, I have to see if I can remember both of those questions. But for the most part on the M&A, we're fairly active with that looking at multiple deals. We're not rushing towards it; in the environment with our stock price where it is right now, we don't want to be using any stock at all, and we're going to watch our cash position. So we are going to be spending some money on organic growth continue to. We've increased the payrolls in Flagship and its Cloud First DSC, on that as well as Nexus. But we're going to be careful on that. The M&A we're looking is everything from folks that are managed service providers in the IBM space or in general, cybersecurity. Regarding customers, as it relates to the cloud infrastructure, I think in some cases, many really don't realize why people go to the cloud. For the most part, it's pay as you grow, number one. And it's CapEx to OpEx. The main reason why folks initially didn't really move too quickly to the cloud with their x86 is because a lot of folks were concerned about security. Now that AWS, Microsoft, and Google hold 51% of the market, and that's all that they hold based on recent surveys, you can get an idea of those folks that either haven't migrated or they're using other managed service providers. They realized that cloud is secure. If you're doing those things, and in some case, backup retention, disaster recovery is more robust. It's more of a quality service when you do move to Tier-3 data centers with replication in multiple locations. So folks are more comfortable now that their x86 environment storage has moved over to that. This is the next stage, and we are positioned for it, and we're ready. We continue to add CapEx into our data centers, Tier-3 data centers. We have seven data centers in the United States, two in Canada as part of that seven partnerships in Canada, so we're ready.

Matthew Galinko, Analyst

Terrific. Thank you. And last question for me just on the OpEx. I think you talked about internal investment, SG&A was up a little bit sequentially and a little more meaningfully, if you go back a couple of quarters. So is this the new run rate we should be thinking about for SG&A? Or should we be looking to go higher from Q1 as we look to the rest of the year?

Chuck Piluso, CEO

Well, on the OpEx side, we're talking about cost of goods sold for a minute before, let's just go into that. As we add racks and additional cages, that will move up. I believe it's a smaller portion of our cost of goods sold in that area. So I don't think that that will go up significantly. In the case of our depreciation or leases that will continue to move up, but it moves up on a variable rate as it relates to revenue. On the SG&A, I would say in the case of SG&A, we're going to spend some money on building a first-class direct sales organization, business development organization over this next year. We are recruiting now. We're going after verticals that we know are powerful. Tom Kempster, who is an officer of the company that ran all of operations for a period of time and was part of the ABC acquisition, was focused on government. Government is a very large user of IBM Systems. So we will be spending money on that. But we're not going to be the company that's going to be hopefully losing money in the sense of it. But you do have to make an investment in a sales force. The benefit is that you're not paying them evergreen; usually they'll get paid direct sales, first-month billing. It doesn’t go on evergreen, like channel partners typically do. We will see SG&A go up, but it'll go up on the basis to hopefully ensure that we maintain positivity and profitability.

Matthew Galinko, Analyst

Well, thanks so much for taking my questions.

Chuck Piluso, CEO

No. Thanks for the questions.

Operator, Operator

Thank you. Your next question is coming from Helen Lessick from Force Capital. Your line is live.

Unidentified Analyst, Analyst

Thank you and congrats on the strong quarter. You announced two major customers in the sports industry. Can you talk about why Data Storage was selected? And beyond the sports industry, what other verticals are we focusing on?

Chuck Piluso, CEO

Sure. Just to cover the verticals; finance and banking, government, the sports field, we'll call it sports and entertainment, and also healthcare. Those are the verticals that we are actually directly going after. But at the same time, we are servicing distribution companies and retail, which is a large user of IBM cloud systems. On the sports side, Flagship has only between 22 and 26 events planned for 2022. We have a suite at the Atlanta Falcons Stadium. Typically the vendors, as I mentioned before, Cisco, HCL, IBM, Red Hat, will do events with Mark and Mark’s team. There will be collaboration between these vendors and Flagship, inviting customers and prospects and discussing technologies. So we do have other sports teams as well; we’ve worked on it with the Marlins, there's a list of them. I believe they're on the website. But they're selecting Data Storage because we have an incredible technical team that's trained on these technologies. So when IBM or Cisco, Red Hat has to select a partner, they're going to choose the one that knows their work and that we do a fantastic job at it. We have those references to go along with it. So the clients have some comfort level, and the vendors that we use have a comfort level that we can actually implement these services. That's the reason why.

Unidentified Analyst, Analyst

Awesome. Well, thank you so much for taking my question.

Chuck Piluso, CEO

No. Thank you for the question.

Operator, Operator

Thank you. That concludes our Q&A session. I'll now hand the conference back to CEO Chuck Piluso for closing remarks. Please proceed.

Chuck Piluso, CEO

Thank you and thank everyone for the questions. We continue to execute on our business growth strategy, which resulted in acquisition, significant contracts, and new partnerships. We have built a robust proposal pipeline and continue to support our future growth. We have and will continue to increase our sales force, expand our marketing initiatives, and invest in personnel and infrastructure. With over $13 million in cash as of March 31, 2022, we are well-funded to take advantage of the opportunities within this multi-billion dollar market. We look forward to reporting on additional developments as they unfold, and thank you all for joining us today.

Operator, Operator

Thank you, ladies and gentlemen. This concludes today's event. You may disconnect at this time and have a wonderful day. Thank you for your participation.