Senstar Technologies Corp Q2 FY2021 Earnings Call

Greetings, and welcome to the Senstar Technologies Second Quarter 2021 Earnings Conference Call. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Brett Maas, with Hayden IR. Thank you. Please go ahead.

Thank you, operator. Welcome to Senstar's Second Quarter 2021 Earnings Conference Call. I'd like to welcome all of you to the conference call and thank Senstar Technologies management for hosting this call. With us on the call today is Mr. Dror Sharon, CEO of Senstar Technologies; and Tomer Hay, CFO. Dror will summarize key financial and business highlights, followed by Tomer, who will review Senstar's financial results for the second quarter. We'll then open the call for questions-and-answer session. Before we start, I'd like to point out that this call may contain projections or other forward-looking statements regarding future events or the company's future performance. These statements are only predictions and Senstar cannot guarantee that they will, in fact, occur. Senstar does not assume any obligation to update any information. Actual events or results may differ materially from those projected, including as a result of changing market trends, reduced demand and the competitive nature of the security systems industry. The unanticipated and unknown effect of the coronavirus, including on our operations and our clients as well as other risks identified in the documents filed by the company’s Securities and Exchange Commission. In addition, during the course of the conference call, we will describe certain non-GAAP financial measures, which should be considered in addition to and not in lieu of comparable GAAP financial measures. Please note that in our press release, we have reconciled our non-GAAP financial measures to the most directly comparable GAAP measures in accordance with Reg G requirements. You can also refer to our website at www.senstar.com for the most directly comparable financial measures and related reconciliations. And with that, I'd like to now hand the call over to Dror. Dror, please go ahead.

Thank you, Brett. Thank you for joining us today to review Senstar Technologies' second quarter 2021 financial results. For the sake of clarity, while Senstar Technologies is the name chosen for the companies following the divestiture of its Integrated Solutions division, the company's legal name remains Magal Security Systems Ltd. until the name change is formally approved by the Israeli company's register, which we expect will take place later this month. In the second quarter, Senstar delivered 30% revenue growth, along with an improvement of 270 basis points in gross margin and an EBITDA increase of 95% to $2.5 million. The strength of our financial results in the quarter demonstrates the results of executing well against our growth strategy and the benefit of our strategic decision to divest the project division. We are now singularly focused on developing Senstar's highly scalable business model, having completed the divestiture of the Integrated Solutions division on June 30, 2021. At the shareholders' meeting on August 15, the company name of Senstar Technology Limited will be submitted to a shareholders vote, and we are confident that it will pass. Afterwards, we will work with NASDAQ to change the stock symbol. As the Integrated Solutions division was considered a related party of Senstar until June 30, 2021, our reported consolidated revenue excludes Senstar sales to the Integrated Solutions division of $112,000 or 1% of consolidated revenue. As of the third quarter and onward, sales to the former Integrated Solutions division will be included in our revenue like any other customer. In the second quarter, many business activities returned to standard procedures following several quarters of disruption caused by COVID. Borders are reopening, people are returning to the workplace and offices, and the resumption of trade shows is improving the business climate and facilitating Senstar's ability to grow its pipeline. Based on our pipeline and closing ratio, the outlook for Q3 and the remainder of 2021 looks very positive. We hope that the COVID Delta variant will not undermine the positive business atmosphere evidenced in the last quarter. Senstar's gross margin in the second quarter was 69%, on par with last year's second quarter and up nicely from 62% in the prior year quarter. However, the industry has been impacted by various supply chain dynamics. For the remainder of 2021, some material costs may increase, particularly for semiconductors, but not only. We have long-term procurement agreements in place and are working to secure necessary components and mitigate further price increases. However, supply chain challenges may affect gross margin in the second half of 2021 and potentially the first half of 2022. Anyhow, Senstar's gross margin is expected to be above 60% for the full year. With the launch of our new Fusion's hardware software offering in the second half of 2021, we anticipate software sales to increase post-launch and result in raising gross margin over time. We expect that the main impact will be evident during 2022. Senstar's EBITDA margin in the second quarter was 25%, an increase of 800 basis points from Q2 2020. One factor contributing to the higher EBITDA margin was the subsidies received from the Canadian government in the quarter. But even without those subsidies, the EBITDA was in the range of 19%, which is better than last year's results. Looking out into the second half of 2021, we anticipate continued revenue growth with Q4 typically being our strongest quarter. Operating expenses are expected to remain relatively stable for the remainder of the year. Our public company expenses and amortization are expected to be stable or lower for the entity for each quarter, thereby improving our record operating performance by the second half of 2021. We anticipate positive net income through the end of the year. Now, with the divestiture behind us, we are focused on driving growth across each of our key verticals. We are executing our tactical plans to achieve this, including further improvement of our solution along with a strengthened sales structure. We have transformed the company image with the Senstar Technology branding, which has a deeper connection with technology innovation. This allows us to leverage Senstar's strong industry standing to bring an enhanced technology offering to the market later this year. In addition, we plan to cross-sell and upsell to our existing customer base. Lastly, we intend to continue growing the business pipeline with new distribution channels by leveraging OEMs, system integrators, and value-added retailers. As I stated last quarter, the drivers for growth for 2021 are increasing sales in our four key verticals, broadening our sales distribution, leveraging our R&D investment into new sales, and making acquisitions to provide technology and expertise. This quarter, we increased revenue from each of our four key verticals: energy, corrections, logistics, and critical infrastructure. The most significant contribution to this quarter was our multimillion dollar contract with a major Asian airport for an integrated perimeter security system. Our revenue growth is attributable to our product strategy and our technology-rich paid solutions. This, paired with our software offering, delivers a high-value solution to thousands of Senstar customers in over hundreds of countries. Changes made this year to leadership in key regions and the implementation of new KPIs are working as evidenced by the growth in the second quarter. Today, half of our employees are customer-facing. This close relationship with customers is evidence that improves our ability to land new customers and enhance our ability to upsell to existing customers. In the second quarter, we enjoyed success with both new and existing customers. Our sales team is growing our pipeline in all regions and is successfully converting new opportunities into bookings. In the second quarter, bookings increased year-over-year, laying a strong foundation for future revenue growth. The investment we are making in R&D gives Senstar a competitive advantage in the market. By extending the advantage with the recent launch of version 8 of our Symphony Commerce Operating platform. Symphony 8 is a security management system, which functions with functionality beyond the traditional video management system platform. Symphony 8 includes AI analytics, access control, video integration, and inputs from our paid products. What sets Senstar Symphony apart from the competition is the sense of Fusion engine. By intelligently combining Senstar data with video analytics, the Senstar Fusion engine delivers performance significantly above that of individual devices. Senstar Fusion combines the input from our traditional paid products into a solution that enhances the intelligence gathering for end-users. The Senstar product development team is working on a new product to further develop the performance of our current offering. In early 2022, we plan to release a new FiberPatrol, a short-range and optimized solution. Our product technologies, cross-platform analytics are components that leverage data to improve the analytics of our Symphony 8 Common Operating platform. This improved platform puts us in a position to provide a category by combining our SMS capabilities with our first-in-class feed for system integrators and end users. With this strategy, we are targeting new customers, higher contract value, and stickier revenue streams. The divestiture of Magal Integrated Solutions closed on June 30, 2021. Now that the transaction is completed, we have cash of $50.5 million with no debt. We have funds budgeted for ongoing R&D investments and targeted M&As. Our pristine balance sheet gives us leeway to pursue our M&A strategy. We are selectively considering opportunities to acquire innovative technology and essential expertise that will support our brand leadership. Senstar has an attractive economic profile that generates free cash flow. We remain careful in how we allocate our capital. We prioritize our uses of cash for internal investment R&D to drive future growth, targeting technology acquisitions, and returning cash to shareholders when there is excess beyond what is needed for R&D investment. Presently, we are engaged in active discussions for the potential acquisition of a company with sophisticated technology applicable to several key verticals. Ideally, any acquisition we pursue will enhance the company’s capabilities to increase sales with existing clients and attract new clients. We are negotiating certain elements of this particular transaction and the timing is uncertain, but we are optimistic and highly engaged with this target. Lastly, in the proxy statement filed on July 16, we are asking shareholders to approve a dividend distribution not to exceed $40 million with the final amount to be decided by the company's Board. The vote will take place next week on August 15 at our Annual General Meeting. After that, we will issue a press release with details of any dividend-related decision by the Board. In closing, I'd like to thank all of our employees worldwide for their commitment and excellent work. Collectively, we are working to deliver growth, improve our profitability, and ultimately deliver shareholder value. I would also like to thank the employees and leadership of the Magal Integration Solutions Division for their hard work over the years and wish them lots of success. I'm sure Magal and Senstar will continue to work together as partners for many years to come. Lastly, I want to thank my dear friend, Kobi Vinokur, our former CFO, for his excellent contribution to the company and wish him lots of success in his new role. And now I will pass the call to Tomer, who seamlessly took over the CFO role as a natural replacement for Kobi. Tomer walked closely with Kobi during his tenure with the company and brings years of excellent experience, especially as Magal's VP Finance for the last 10 years. Tomer, please go ahead and review the financial results.

Thank you, Dror. First, I would like to join Dror in wishing Kobi lots of success in his new role. On a more personal note, I would also like to thank Kobi for his mentorship, professionalism, friendship, and for being there for me whenever I needed support. As Dror mentioned, we are reporting this quarter the results of continuing operations based primarily on Senstar's stand-alone revenues and the corporate entity containing the cost of our public platform. In addition, we show, in a separate line on our P&L, the net results of Magal Integrated Solutions operation and divestiture defined as income or loss from discontinued operations. As a reminder, up until completion of the divestiture, which occurred on June 30, 2021, the Integrated Solutions Division was still a controlled operation and therefore, was considered a related party. This means that Senstar sales to Magal were eliminated from the top line in this quarter. With the completion of the divestiture, Senstar sales to the Integrated Solutions Division as an unrelated external customer will be included in the reported revenues starting July 1. Our reported revenues for the second quarter of 2021 were $10.1 million, an increase of 30.9% compared with reported revenues of $7.7 million in the second quarter of 2020. The increase was primarily due to increased sales across all geographic regions. The geographic breakdown as a percentage of revenues for the second quarter of 2021 compared to the year-ago quarter are as follows: North America, 47% versus 54%; Europe, 22% versus 24%; APAC, 28% versus 19%; and Latin America remains flat at 3%. The second quarter reported gross margin was 69.8% of revenues versus 67.1% last year. The increase in gross margins was primarily due to increased sales and a shift in sales mix towards high-margin products. Our reported operating expenses were $4.8 million, a 16.1% increase from the prior year second quarter operating expenses of $4.2 million. The increase in operating expenses is due primarily to an increase in business and sales expenses such as travel and marketing, offset by the benefit of payroll subsidies granted by the Canadian government. Our reported operating income for the second quarter was $2.2 million compared to $1 million in the year-ago period. Our reported income from continuing operations was $0.7 million in the second quarter of 2021 compared to $0.5 million in the year-ago quarter. The company's reported EBITDA from continuing operations for the second quarter was $2.5 million versus $1.3 million in the same period last year. Financial expenses were $0.2 million compared to $0.5 million in the second quarter last year. This reflects an accounting effect we regularly experience due to the adjustment of our monetary assets and liabilities denominated in currencies other than the functional currency of the operational entities in the group. As Dror mentioned, thanks to our operating leverage and with the anticipated ramp-up in quarterly revenues, we expect to report improving operational performance. We also anticipate that we will continue to produce positive net income from continuing operations during the remainder of 2021. Net income attributed to Senstar Technologies' shareholders in the quarter was $11.8 million or $0.51 per share versus $0.2 million or $0.01 per share in the second quarter of last year. The reported net income includes $11.1 million in income from discontinued operations versus a net loss from discontinued operations of $0.4 million in the same period last year. The net results from discontinued operations included the net loss of the Integrated Solutions Division in the quarter, certain transactional expenses, as well as the expected capital gain impact of the divestiture completed on June 30, 2021. Added to Senstar's operational contribution are the public platform expenses and the amortization of intangible assets from historical acquisitions. For both the second quarter of 2021 and 2020, those expenses were $0.9 million. Cash and cash equivalents as of June 30, 2021, were $15.5 million or $2.18 per share. As of June 30, 2021, assets attributed to discontinued operations were $4.8 million, with liabilities attributed to discontinued operations of $5.3 million as compared to assets attributed to discontinued operations of $49.6 million and liabilities attributed to discontinued operations of $25.2 million as of December 31, 2020. That concludes my remarks. We are happy to take your questions now.

Our first question is coming from Sam Rebotsky of SER Asset Management.

Do we have any plans for acquisitions with the $40 million? How close are we to making an acquisition? Also, how much of the $40 million do we expect to distribute as a dividend, and when would that occur?

You asked a few questions. First, as I mentioned, we are negotiating now an acquisition. I don't know yet when it will be able to close, mainly due to the other party. So this is one. So we are on top of it, but I don't know yet what the date of closing will be, if it will be closed. Second, we ask the AGM to vote on distributing up to $40 million in dividend next week. Then the Board will take a decision on what will be the amount of money that is distributed.

But do we want to distribute a significant amount of cash? Or do we want to hold most of it back and run with the extra cash that we have?

We have excess cash above the $40 million, although I am not sure yet what amount the Board will approve. Additionally, Senstar generates cash as well, so I do not foresee any issues using this cash generation for acquisitions.

Can you discuss what range these potential acquisitions might be for the use of the cash? I assume we expect to use part of the cash for an acquisition and not for stock?

Okay. There are things that are under NDA, so I cannot elaborate too much on this opportunity. But usually, we are looking between $10 million to $20 million in investments.

Our next question is coming from Sal Borders, a private investor. Sam Rebotsky, Analyst, asks if they can discuss the range of potential acquisitions for the use of the cash, assuming part of it will be used for an acquisition rather than stock. Dror Sharon, CEO, responds that there are aspects under NDA, so he can't provide too many details, but typically, they look for investments between $10 million and $20 million.

Congratulations on an outstanding quarter. I had a question that I asked before and I'm just trying to catch the status of this. On the foreign tax that was withheld on the Magal dividend in December 2020, it was noted that there would be an instruction letter posted on the Magal website to see if one could qualify for an exemption or a lower tax rate. I have not seen anything on that yet. Can you give me a status on that instruction letter?

Thanks for the question and for congratulating us on this quarter. Regarding this, unfortunately, we are stuck in the same position we were in the previous quarter. The tax authorities in Israel are working slowly on that because of COVID; we are waiting for some kind of document to support this. We are pushing month after month. Hopefully, it will be solved in the upcoming weeks. We are also frustrated with this situation. But again, hopefully, we are pushing, our consultants are pushing, and we hope to get it resolved soon.

Okay. When that comes out, would that be announced in a press release, do you think?

We will do whatever it takes. Yes, we will ensure that everyone receives the message.

We can do a press release.

Our next question is coming from Fred Ehrman, a private investor.

Tomer, nice to make your acquaintance.

Thank you.

I also want to add my thanks to Kobi, who was just a pleasure to deal with as an investor and wish him the best of luck as well. My question also has to do a little bit with the previous question. We've been asking for quite a long time to get this tax ruling and I know you've been frustrated as well. Possibly, since there may be another dividend coming shortly, is it possible that maybe the authorities will combine both dividends into one ruling?

So look, we will wait first for the decision of the AGM and then the decision of the potential distribution. If that will happen, we will certainly try to approach the tax authorities again using our consultants and see if we can manage to submit both as one and not need to wait a few more months for the second one. But we don't have the answer now. We didn't approach it yet; we are still waiting for the decision of the AGM and then the Board of Directors.

Okay. My second question has to do with the potential acquisition you've mentioned, and you commented that the ball is in the court of the other side. They're apparently the ones that have been holding up any closing of it. Are there problems with potential other buyers competing, or are the terms more or less agreed upon? But at least from your point of view, are there still a lot of open issues? The company has been involved in merger discussions over the last few years, some of which have not been completed. I'm just wondering what the possibilities are for this one closing. I know you can't answer that question because it's not up to you. But could you give us shareholders at least an indication of how it looks?

First, as far as we know, there are a few other competitors on this target, but I think we are in a good position basically. The main stop or the main issue over there is they are dealing with some kind of litigation, and we want to acquire a clean company. So once it is resolved, hopefully, we'll be able to close it. But again, things can change any day. It's not in our hands, so we'll have to wait. We are doing everything we can to be able to close it, but now it's not only up to us.

Again, congratulations on the quarter and good luck in the coming periods.

Thank you very much.

Thank you very much, Fred.

At this time, I'd like to turn the floor back over to management for any additional or closing comments.

Thank you, operator. On behalf of the management of Senstar Technologies and Senstar, I would like to thank you for your continued interest and long-term support of our business. I look forward to updating you next quarter, and have a good day, and keep safe. Thank you very much. Bye-bye.

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