Earnings Call Transcript - VRME Q3 2023

Operator, Operator

Good morning, everyone and welcome to the VerifyMe Third Quarter 2023 Financial Results Conference Call. Please note that this event is being recorded. At this time, I would like to turn the floor over to Nancy Meyers, CFO. Ma’am, please go ahead.

Nancy Meyers, CFO

Thank you and good morning, everyone for joining us today for our earnings call presentation. On the call today, I'm joined by Adam Stedham, CEO and President, who will give an operations and strategic update. Following our management presentation, we will have a Q&A session. I would like to bring your attention to the note on forward-looking statements on Slide 3. Today's presentation and the answers to questions include forward-looking statements. It should be understood that actual results could differ materially from those projected due to a number of factors, including those described under the forward-looking statements caption and on the Risk Factors of the company's annual report on Form 10-K and quarterly reports on Form 10-Q. I will now turn the call over to Adam Stedham for some opening remarks.

Adam Stedham, CEO

Thanks, Nancy. Well, welcome, everybody. I'm happy to have an opportunity to discuss our third quarter with you. I'm pleased with our organic revenue growth and gross margin improvement in the quarter. More importantly, I'm excited about the success we're having in implementing our strategy. This is my second quarterly call since becoming the CEO of VerifyMe. During that first call, we described our new structure and strategy. We stated that we anticipated scheduling a more detailed explanation of our overall strategy to take advantage of the opportunity in front of us. Currently, we anticipate having that call towards the middle of January. Today, I'll discuss the overall business outlook, our capital position, and then provide an update on each of the operating segments. After that, Nancy will provide a more detailed third quarter financial overview. As I look out for the business and consider its outlook, I reiterate our expectations for 2023 revenues of approximately $26 million and a positive adjusted EBITDA. I expect double-digit organic growth in 2024. We'll discuss those growth plans more during our strategy call in January. Additionally, we are focused on revenue growth, margin improvement, and cash flow generation. Remember that Q4 is our strongest cash flow quarter of the year. Since our last call, we completed a relatively small capital raise that provided strength to our balance sheet at favorable terms. More importantly, it engaged insiders and outside investors that have a history of profitably investing alongside the new leadership of VerifyMe. Moreover, we just renewed our line of credit facility with PNC Bank. At this point, I feel very confident we have sufficient access to capital to pursue all of our strategy. Now, let's discuss the segments, starting with our Precision Logistics Segment. Overall, the business is tracking with our plan. We expect organic growth in 2023 and anticipate a higher growth rate in 2024. We have improved our margin profile with operating efficiencies and a focus on higher-value customers. One thing to note about these customers is that many don't experience the same revenue increase due to holiday shipments in Q4 that other customers might. Therefore, we're not anticipating as large of a Q4 uptick with those customers relative to Q3 as we experienced in 2022. Since our last call, I'm even more convinced about the meaningful growth opportunities associated with servicing the perishable market and the needs of the perishable delivery market. Furthermore, we have the ability to expand our relationship with the world's largest air freight company, benefitting both companies' customers and shareholders. We’re excited about the advancement and continued opportunity within Precision Logistics. Regarding the Authentication segment, through three quarters, our 2023 revenues have been below expectations. A significant contributing factor is reduced revenues with existing customers. However, I want to point out that we have not lost any customers in this segment. There are actually two underlying factors for the revenue decline with these customers: during 2022, we had customers place large orders for traceability products, and it's taken them longer to use up their inventory than they anticipated. We continue to have supplier relationships with these companies, and they've been working through their inventory throughout the year. Our insight into their current inventory levels gives us confidence regarding 2024 revenues. In addition, our APAC business has been impacted by economic and weather conditions. Looking at our current situation, I am reassured that we’re seeing our volume forecast increase in the region and winning new customers. In summary, 2023 has been a slow year for our existing authentication customer base; however, our customer base has remained solidly intact, and we’re seeing an upturn in pipeline and new customers. We have launched our new strategy that we discussed on our last call, which involves a combination of a change in pricing strategy and sales strategy. We're experiencing a significant increase in our sales pipeline, and I look forward to updating you as this pipeline converts to backlog. In conclusion, we believe our technology stack and strategy will allow us to expand our relationships and opportunities in the US market. We purchased Trust Codes business in March. Since then, we have focused on integrating their technology stack into our existing authentication customers and defining a clear food traceability strategy along with optimizing our ink strategy. The landscape of increased regulations combined with growing counterfeit and diversion activity creates a compelling opportunity for this segment. Our technology's ability to identify fraud or abnormal behavior while tracing an item's journey from production to the consumer's hands meets the needs of consumers, regulators, and brands. The integration of our custom software, patented technologies, and cloud environment positions us well to solve the challenges that the marketplace is experiencing. Recently, we announced our relationship with Amcor, and we expect there will be other announcements in Q4. This integrated VerifyMe Traceability Cloud is founded on end-to-end GS1 traceability and machine learning detection of counterfeit and abnormal behaviors. The traceability platform is interoperable with major retailers' anti-counterfeit solutions, enabling our customers to benefit from anti-counterfeit protections more easily and without requiring significant changes to their existing manufacturing and packaging processes. Our approach provides customers with an effective method to offer traceability and compelling consumer engagement. We are excited about the outlook for our authentication segment, similarly to our outlook for the Precision Logistics segment.

Nancy Meyers, CFO

Thank you, Adam. For today's call, I will touch on the financial highlights from the quarter. Third quarter revenue increased by 7% to $5.6 million compared to the prior year of $5.2 million. The year-over-year increase was primarily due to growth in the premium services in our Precision Logistics segment. The Precision Logistics revenue increased by $0.4 million or 8% year-over-year. Authentication revenue decreased by less than $1 million in the quarter. As Adam mentioned, we have seen less than expected in this segment but continue to work with existing customers and new growth opportunities. Gross profit increased by $0.4 million to $2.3 million in 2023 versus $1.9 million in 2022. As a percentage of revenue, gross profit increased to 41% in 2023 versus 36% in 2022. This year-over-year increase is primarily due to the shift in customer mix and service offerings in our Precision Logistics segment. You can expect some variability in gross margin in the Logistics segment as shifts in customer mix and service offerings occur. General and administrative expenses for the third quarter of 2023 were $2.8 million compared to $2.2 million in 2022. The increase relates primarily to the acquisition of Trust Codes Global that we completed in March 2023, severance expense of $0.2 million, and additional stock compensation in the quarter. Sales and marketing expenses for the third quarter of 2023 were $0.4 million compared to $0.5 million in 2022. The decrease was primarily related to a reduction in employees and consultants, partially offset by additional travel expenses in the authentication segment. Our net loss for the quarter was $0.9 million versus $0.6 million in 2022. However, 2023 results include the $0.2 million of severance expense, and 2022 included a gain on extinguishment of debt of $0.3 million. Excluding these nonrecurring items, our net loss improved year-over-year by $0.2 million. Our adjusted EBITDA increased by $0.4 million to positive $0.2 million in the third quarter of 2023 compared to a loss of $0.2 million in the third quarter of 2022. As mentioned by Adam last quarter, we implemented plans to optimize overhead expenses beginning in the quarter to ensure that our operating cost savings materialize and improved adjusted EBITDA going forward, and it is beginning to show in our Q3 results. On the last slide is our balance sheet as of September 30, 2023. Our cash as of September 30 is $3 million, a decrease of $0.4 million from $3.4 million on December 31, 2022. Through the nine months of 2023, we had a capital raise of $1.1 million through a convertible note, net borrowings of $0.1 million, severance payments of $0.2 million acquisition, professional expenses, and cash infusion into our Trust Codes acquisition of $1.2 million. Our debt, including our convertible note and line of credit drawdown is $3.1 million, and we have a further $0.5 million available to us under the credit line. As noted previously, our Precision Logistics segment is seasonal, with the fourth quarter being our strongest. We anticipate our receivables, unbilled revenue, and payables to increase significantly in the fourth quarter. We recently renewed our line of credit with PNC until September 30, 2024. On August 25, 2023, we entered into a convertible note purchase agreement with certain investors for the sale of convertible promissory notes for the aggregate principal of $1.1 million, approximately 40% of which was purchased by related parties. The notes are unsubordinated unsecured obligations of the company that mature on August 25, 2026, unless earlier converted or repurchased at a conversion price of $1.15 per share of common stock. However, the company may not redeem the notes prior to the maturity date. With that, I would like to turn the call back to Adam.

Adam Stedham, CEO

Thanks, Nancy. As I mentioned earlier, we plan to have a call to share our strategy for 2024 and beyond in January. After that, we'll likely have our Q4 2023 earnings call in March and our Q1 2024 earnings call in May. That cadence will bring us together every other month for the next several months. We have multiple exciting activities we're pursuing, and I look forward to sharing them with you during that cadence of calls. I believe the company is very much on track. We exist in an environment where the consumer has less trust that they will receive real products at the right time, in the right place, and in the right condition. Companies are experiencing increased regulation and growing losses due to spoilage, counterfeiting, and diversion. We have proven solutions to address all these issues. In the end, helping to solve significant challenges brings value to both our consumers and our shareholders. I look forward to updating you on this as time goes on. Now, we’ll open up for questions from the audience.

Operator, Operator

Ladies and gentlemen, at this time, we'll begin the question-and-answer session. Our first question today comes from Jack Vander Aarde from Maxim Group. Please go ahead with your question.

Jack Vander Aarde, Analyst

Okay. Great. Hi, Adam. It looks like VerifyMe is doing pretty well as well. So good to see the results and happy to hear about the double-digit organic outlook for 2024. Just to confirm regarding that 2024 organic outlook, do you expect both segments to contribute to that organic growth? And then I imagine the authentication business, as it's smaller, will likely outpace the Precision Logistics business. Can you share any insights?

Adam Stedham, CEO

Yes, you're spot on. We absolutely expect both segments to contribute to that double-digit organic growth, and we would expect the growth rate for our authentication business to be higher than the growth rate of our Precision Logistics business.

Jack Vander Aarde, Analyst

Okay. I appreciate the color there. I look forward to hearing more about the strategy and the pipeline conversion opportunities and status update in January that you alluded to. Is there any way you can quantify the size or just the growth of the pipeline that you mentioned earlier?

Adam Stedham, CEO

Yes, I would say that the pipeline has two important factors to consider: its size and its quality. The quality of our pipeline is significantly higher, and its size is approximately double what we've seen before. Especially in the ink sector, we aim to have our products specified earlier in the process, which greatly enhances the quality of the pipeline and its potential conversion rate.

Jack Vander Aarde, Analyst

Okay. Excellent color there. I appreciate that, Adam. One more for me. Given the recent convertible capital raise with insiders participating, which I view positively, do you have a sense of the current overall insider ownership level?

Adam Stedham, CEO

Our current insider ownership is approximately 20%, slightly below, but rounding to about 20%, which is about 80% higher than it was a year ago. I expect insider ownership to increase as we move forward.

Jack Vander Aarde, Analyst

Great to hear. I appreciate the time, Adam. I look forward to hearing more in mid-January. Thank you.

Adam Stedham, CEO

Thank you.

Operator, Operator

Our next question comes from Jeff Porter from Porter Capital. Please go ahead with your question.

Jeff Porter, Analyst

Thanks. Hi, Adam. I'd like to understand reasonable expectations for gross margin, specifically regarding converting customers into more premium specialized functions and the gross margins in the Authentication business.

Adam Stedham, CEO

Regarding our Precision Logistics business, our gross margins have been going up deliberately. The distinction between premium and proactive customers absolutely contributes to gross margin since our premium customers do not have freight moving through, which leads to a higher gross margin. However, gross margin improvement is not only based on customer type but also involves factors such as weight, distance, and additional services. We’ve focused on identifying our ideal customer profile to provide value, which contributes significantly to our shareholders and company. As for the Authentication business, it typically runs at over 80% for gross margins. Our historical ink pricing led to lower revenue numbers, but we have adjusted pricing to align with specialty ink markets, which impacted gross margins.

Jeff Porter, Analyst

Okay. One follow-on. Given our market cap of about $10 million, which is lower than our recent acquisitions, do you have plans to enhance the company's profile through promotion or Investor Relations so we could see a healthier stock price?

Adam Stedham, CEO

Absolutely, the stock price is a primary focus. I work for the shareholders, and I want the stock price to rise. We are indeed working on several plans to enhance the company's profile. I believe our market cap does not recognize our value. However, I believe the best way to boost value is through improved performance. I think Q3 was a step in the right direction, and I look forward to continued performance gains next year.

Jeff Porter, Analyst

Thanks. That's all I have.

Operator, Operator

Our next question comes from an unidentified analyst. Please go ahead with your question.

Unidentified Analyst, Analyst

Good morning. Thank you.

Nancy Meyers, CFO

Good morning.

Unidentified Analyst, Analyst

There was an announcement on September 5th regarding the show with Amcor. Is this a new relationship, and how did it go?

Adam Stedham, CEO

The relationship with Amcor is new in that it emerged from the Trust Codes acquisition. It went very well. We met with multiple Amcor customers, and Amcor is looking to provide an easy process for their customers to meet traceability requirements. Our goal is to enable them to serve their customers, leveraging our technology, which benefits both us and them. It was a good conference, and there are positive developments emerging from it.

Unidentified Analyst, Analyst

So their salespeople are doing the selling, or are you also involved?

Adam Stedham, CEO

It's a combination of both. Their salespeople have relationships with their customers, and we also engage our salespeople and technology team to explain to their customers how our technology integrates into Amcor's solutions.

Unidentified Analyst, Analyst

Okay. Sounds good. Best of luck.

Adam Stedham, CEO

Thank you.

Operator, Operator

Ladies and gentlemen, with that, we'll conclude today's question-and-answer session. I’d like to turn the floor back over to management for any closing remarks.

Adam Stedham, CEO

Thank you. We're pleased with the quarter; it's a step in the right direction. It's one part of a long journey, but we believe it's a journey full of exciting opportunities for the company, our customers, and our shareholders. I look forward to speaking with you about every other month for updates on our progress. Thank you for joining us.

Operator, Operator

Ladies and gentlemen, with that, we'll conclude today's conference call and presentation. We thank you for joining. You may now disconnect your lines.