Earnings Call Transcript - ITRN Q3 2022

Operator, Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Ituran third quarter 2022 results conference call. All participants are in listen-only mode. Following management's formal presentation, instructions will be given for the question-and-answer session. For Operator assistance during the conference, please press star, zero. As a reminder, this conference is being recorded. You should have all received the company’s press release. If you have not received it, please contact Ituran’s Investor Relations team at EK Global Investor Relations at 1-212-378-8040, or view it in the News section of the Company’s website, www.ituran.co.il. I will now hand the call over to Mr. Kenny Green of GK Global Investor Relations. Mr. Green, would you like to begin?

Kenny Green, Investor Relations

Thank you. Good day to all of you and welcome to Ituran’s conference call to discuss the third quarter 2022 results. I would like to thank Ituran’s management for hosting this conference call. With me today on the call are Mr. Eyal Sheratzky, CEO, Mr. Udi Mizrahi, Deputy CEO and VP Finance, and Mr. Eli Kamer, CFO of Ituran. Eyal will begin with a summary of the quarter’s results, followed by Eli with a summary of the financials. We will then open the call for the question-and-answer session. I would like to remind everyone that the Safe Harbor in the press release also covers the content of this conference call. Now Eyal, would you like to begin please?

Eyal Sheratzky, CEO

Thank you, Kenny. I’d like to welcome all of you and thank you for joining us today. We are very pleased with the achievements during the third quarter. Apart from our excellent results, we surpassed the goal that we have had for many years at Ituran, which is surpassing a subscriber base of 2 million globally. Given our continued strong subscriber growth adding a net of 48,000 new subscribers in each of the past few quarters, we achieved this goal earlier than expected. This is because it is quite clear that the aftermarket subscriber growth rate has accelerated in recent quarters. In the second half of 2019 prior to the COVID area and even over the past two years, apart from the shutdown of our Q2 2020, our aftermarket growth run rate was approximately 20,000 net new subscribers per quarter. Today we have shared with you our new aftermarket growth expectation going forward. Based on the recent run rate, we increased our expectations for the growth rate of our global aftermarket subscriber base ahead, expecting 180,000 to 200,000 net new subscribers annually. I want to add that we are not making any predictions in the OEM subscriber base growth rate as this doesn’t depend on us. It can vary quite a lot and is harder to forecast. The recent strong subscriber growth is starting to be reflected in the current quarter subscription revenues, which continued to grow despite currency headwinds due to the dollar strength. Revenue grew 10% year-over-year and 13% when calculating in local currencies, and we have all the reasons to believe that this trend will continue well in 2023. The gross margin on the subscription fee also grew and demonstrates some of the operating leverage in our model becoming more apparent. We recorded gross margin of 57.2%, up from 56.5% in Q3 last year and 56.8% last quarter. This increase in subscribers came from the growth in our traditional aftermarket business and was also boosted by the various growth engines that we have seeded over the past few quarters across all our geographies. One growth engine I would like to highlight this quarter is our service to financial firms active in the secondhand car market in Latin America. Because of the shortage of components and ultimately new cars, the secondhand car market has grown stronger everywhere. New fintech start-ups as well as major banks have come in to provide financing to this growing market. However, they all need a way to track the collateral on the loans they provide, which is the car, and Ituran provides the perfect solution with its location-based and connected car technology. We have already started working with financing customers in Latin America and we are also talking to some major financial institutions in those markets, which we hope to close in the near future. We are constantly looking to bring in new financing customers and broaden the service to additional geographies. We are excited about this business and see great potential for additional growth in the coming years. In summary, we are very pleased with our performance in the quarter, both the financial performance and in particular the continued strong subscriber growth which has led to the milestones we announced regarding servicing 2 million subscribers. Both ongoing solid performance in our traditional aftermarket business and especially our growth engines are driving this subscriber growth. The subscriber growth will ultimately translate into increased subscriber revenue growth and faster growing profitability in the years ahead, and we can already see the initial fruits of that in the current quarter. It is clear that our subscriber growth rate has accelerated and today we increased the expectation going forward. We now expect the aftermarket subscriber annual growth rate to be between 180,000 to 200,000 net. All in all, I am more excited now than ever about our long-term potential and look forward to a strong Q4 and 2023 ahead. With that, I hand over to Eli. Eli, please go ahead.

Eli Kamer, CFO

Thanks Eyal. I'd like to note that the summary results I present will all be on a GAAP basis. Revenues for the third quarter of 2022 were $72.7 million, an increase of 11% compared with revenues of $65.7 million in the third quarter of 2021. Revenues from subscription fees were $53.1 million, an increase of 10% over third quarter 2021 revenues. The strong appreciation of the U.S. dollar versus the currencies in the geographies where Ituran operates over the past year impacted the revenues as reported in U.S. dollars. In local currency terms, third quarter revenues grew by 13% compared with that of the third quarter of last year. The subscriber base amounted to 2,020,000 as of September 30, 2022, an increase of 48,000 net over that of the end of the previous quarter, which includes a net increase of 50,000 in the aftermarket subscriber base and a net decrease of 2,000 in the OEM subscriber base. Product revenues were $19.5 million, an increase of 12% compared with that of the third quarter of 2021. In local currency terms, third quarter revenues grew by 16% compared with that of the third quarter of last year. The geographic breakdown of revenues in the third quarter was as follows: Israel 51%, Brazil 25%, Rest of World 24%. Gross profit for the quarter was $34.6 million, which is 47.6% of revenues, a 7% increase compared with gross profit of $32.2 million or 49% of revenues in the third quarter of 2021. The gross margin in the quarter on subscription revenues improved to 57.2% compared with 56.5% in the third quarter of 2021. The gross margin on products was 21.5% in the quarter compared with 28.3% in the third quarter of 2021. The product margin was impacted by higher component prices and we expect this impact to ease in the fourth quarter and early 2023. Operating income for the quarter was $14.7 million, or 20.2% of revenues, an increase of 6% compared with $13.9 million, 21.1% of revenues in the third quarter of last year. In local currency terms, third quarter operating income grew by 9% compared with that of the third quarter of last year. EBITDA for the quarter was $19.6 million, or 27% of revenues, an increase of 6% compared with $18.5 million, 28.1% of revenues in the third quarter of last year. In local currency terms, third quarter EBITDA grew by 9% compared with that of the third quarter of last year. Financial expenses for the quarter were $0.7 million compared with the financial expense of $2.7 million in the third quarter of last year. Net income for the third quarter of 2022 was $10.1 million, or 13.9% of revenues, equating to earnings per share of $0.49 compared with $7.3 million, or 11.1% of revenues, equating to earnings per share of $0.35 in the third quarter of last year. Cash flow from operations for the third quarter of 2022 was $11.4 million. As of September 30, 2022, the company had cash, including marketable securities of $30.5 million and a debt of $16 million, amounting to a net cash of $14.5 million. This compares with cash, including marketable securities of $54.7 million and a debt of $31.4 million, amounting to a net cash of $23.3 million as of December 31, 2021. For the third quarter of 2022, a dividend of $3 million was declared. This is in line with the board’s current policy of issuing at least $3 million on a quarterly basis. Under the current buyback program announced in August 2021, 79,816 shares, amounting to $2 million, were purchased in the third quarter of 2022, and approximately $6 million remains under the current program. The share repurchases, if any, will be funded by available cash and repurchase of Ituran’s ordinary shares will be made based on SEC Rule 10b-18. With that, I’d like to open the call for a question-and-answer session. Operator?

Operator, Operator

The first question is from Chris Reimer of Barclays. Please go ahead.

Chris Reimer, Analyst

Hi, thank you for taking my questions. Just regarding the subscriber guidance, you mentioned the opportunity in the second-hand car market in Latin America. I was just wondering if you could give any color on some of the other growth drivers that led you to the new number?

Eyal Sheratzky, CEO

Yes, so we remarked a new service that we just launched during the last, I would say, over six quarters, which is very important. We see that it has created a lot of traction in the market. But having said that, of course we still have, let’s call it our bread and butter, which is the SVR in fleet management. Regarding the SVR, we also see that since, again, since the COVID crisis where new car sales decreased, there are more spare parts requirements and inventories are low. The nature of this situation is that there are more attempts of car theft. When this situation is affecting all the geographies that we operate in, it’s clear that the insurance companies need more services like we offer. Since we’re dominant in the geographies that we operate in, most of the requirements of the new policies for security systems, fortunately we succeeded to penetrate. After almost a decade where the car theft rates were very low, we have maintained our market share and subscriber base growth on the SVR. I must say that in the last 12 to 18 months, we have seen a dramatically higher car theft rate. This is one reason. Second, we are focused on other segments, such as UBI, which in Israel is another growth engine. We have, as we said, collateral solutions for sub-prime customers, which until recently we operated in that segment only in the U.S. but now we have expanded to Latin America, mainly Brazil and Mexico, which are huge markets where banks are trying to handle the financing situation and attract more car buyers, and we allow them to do so for segments that in the past they didn't target. So, all in all, those three items, plus the traditional fleet management, allow us to show much higher subscriber growth than ever.

Chris Reimer, Analyst

Okay, yes. That’s very helpful. Just another question on margins, what are some of the challenges you’re seeing in supporting your operating margins, considering the current macro environment? Are you expecting any impact from inflation or higher labor costs, etc.?

Eyal Sheratzky, CEO

First of all, we already handled this situation in the past. As you know, we have been operating many years in Latin America, where inflation is not a new phenomenon, unlike in more advanced countries like the U.S. or Great Britain or even in Israel. Historically, we use the same solution, which is to manage our costs. Of course, our costs are growing. Our main cost is human resources, particularly compensation, and always when there is inflation, we have to adjust their compensation based on unions or legal requirements. However, because it’s very common for us to experience inflation, we are accustomed to adjusting our sales prices accordingly. We have managed to do this around the world, including in Israel, and we always attempt to align costs with prices, which more often than not, we successfully achieve. For B2B transactions, our customers are in the same situation, so they understand and while tougher negotiations may be necessary at times, we manage. On the other hand, I would remind everyone that most of our customers in Israel and Brazil are retail customers, and in such cases, we behave like any retail company. Unfortunately, we have to raise prices, which we did recently. In summary, we believe that we will succeed in maintaining the margins and profitability.

Chris Reimer, Analyst

Okay, understood. Thanks, that’s it for me.

Operator, Operator

If there are any additional questions, please press star, one. If you wish to cancel your request, please press star, two. Please stand by while we poll for more questions. The next question is from Abba Horwitz of Old School. Please go ahead.

Abba Horwitz, Analyst

Hi, good afternoon, and thank you for a really good quarter, especially in this tough environment. I wanted to understand next year, 2023, if you could explain what you think perhaps the operating margins will look like, given that there should be certain margin expansion in 2023. I was wondering if you could comment on that.

Eli Kamer, CFO

We are not providing specific guidance, but I can speak generally. Since we operate on an operating leverage model, we do not expect to increase our budgets. However, we anticipate having around 180,000 to 200,000 subscribers, and based on this model, we expect to see improvements in our operating margins. While I cannot provide an exact figure, I believe that a year from now, we will demonstrate higher profit margins.

Abba Horwitz, Analyst

Okay. Also, is the price for a used car the same as a new car?

Eyal Sheratzky, CEO

Yes, historically we have seen that. Also, we talked specifically about the finance segment. In that segment, it’s purely a B2B market, meaning in the end, the finance bank or finance company is our customer. They decide which of their customers they want to secure the collateral for, so it’s B2B, hence it's totally negotiated between both sides. When we talk about the retail market, we always sell both used and new cars, and the price is usually not dependent on whether it’s a used or new car; rather, it depends on other factors.

Abba Horwitz, Analyst

Okay, all right. Thanks and congratulations on a really nice quarter. Thank you.

Eyal Sheratzky, CEO

Thank you.

Operator, Operator

There are no further questions at this time. Before I ask Mr. Sheratzky to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available tomorrow on Ituran’s website, www.ituran.co.il. Mr. Sheratzky, would you like to make your concluding statement?

Eyal Sheratzky, CEO

On behalf of the management of Ituran, I would like to thank you, our shareholders for your continued interest and long-term support of our business. Have a good day. Goodbye.

Operator, Operator

Thank you. This concludes the Ituran third quarter 2022 results conference call. Thank you for your participation. You may go ahead and disconnect.