TSS, Inc.

Good afternoon. My name is Colby and I will be your conference operator today. At this time, I would like to welcome everyone to the TSS third quarter 2022 earnings call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question, again, press star followed by the number one. Thank you. I will now turn the call over to John Penver, Chief Financial Officer. You may begin.

Thank you, Colby, and good afternoon, everyone. Thank you for joining us on TSS's conference call to discuss our third quarter 2022 financial results. I'm John Penver, the Chief Financial Officer of TSS. And joining me today on this call is Darryl Dewan, who a few minutes ago we announced as the new President and Chief Executive Officer of TSS. As we begin the call, I would like to remind everyone to take note of the cautionary language regarding forward-looking statements contained in the press release that we issued today. That same language will apply to comments and statements made on today's conference call. This call will contain time-sensitive information as well as forward-looking statements, which are only accurate as of today, November 14th, 2022. TSS expressly disclaims any obligations to update, amend, supplement, or otherwise review any information or forward-looking statements made on this conference call or replay to reflect events or circumstances that may arise after the date indicated, except as otherwise required by applicable law. For a list of the risk and uncertainties which may affect future performance, please refer to the company's periodic filings with the Securities and Exchange Commission. In addition, we will be referring to non-GAAP financial measures. A reconciliation of the differences between those measures with the most directly comparable financial measures calculated in accordance with GAAP is included in today's press release. So I will begin the call with a review of our third quarter 2022 results and then turn the call over to Daryl for his comments. Earlier today, we issued a press release announcing our financial results for the third quarter of 2022, and a copy of that release will be made available on the company website at www.tssiusa.com. Overall, we once again had very strong operating results during the third quarter of 2022. We had strong growth in both of our reporting segments compared to the third quarter of 2021, when the impact of the COVID pandemic on our business and our operating results was more pronounced, and we had strong results also compared to the second quarter of 2022. Improvements in global supply chains during 2022 have resolved equipment supply delays and allowed us to increase the number of MDC deployments, such that a lot of our growth this year has come from our deployment revenues, which have increased by $4.3 million or 436% compared to the first nine months of 2021. As in the second quarter, our deployment revenues in this third quarter of 1.6 million were greater than our total deployment revenues for all of calendar 2021. Overall, our facilities revenues of 3.3 million for the third quarter were up by 34% compared to the third quarter of 2021. On a year-to-date basis, Through the three quarters, our facilities revenues have increased by 3.3 million or 59% compared to the first nine months of 2021. We are still experiencing some disruptions to component supplies that continue to impact our systems integration and our procurement and reseller services. Delays in receipt of necessary components forces us to delay completion of projects and recognition of revenue. Despite this, our overall systems integration business has increased by 3.5 million or 49% compared to the first nine months of 2021. Total revenues have grown by 54% or 6.9 million compared to the first nine months of 2021. This has allowed us to generate an additional 2.4 million of gross profit compared to 2021 and with relatively flat operating expenses has allowed us to improve our bottom line, both net income and adjusted EBITDA by over $2 million compared to 2021. For the second quarter in a row, we've recorded over $1 million of adjusted EBITDA from our business. We repaid all of our long-term debt in July and have generated strong cash flow from operations so far during 2022. We have a healthy balance sheet, strong backlog, and strong demand for our services, which causes us to be optimistic about our future. So let me provide some more details on the third quarter 2022 results. Our total revenue for the third quarter of 2022 was $8.1 million. This compares to total revenue of $4.6 million in the third quarter of 2021 and to $6.4 million in the second quarter of 2022. Changes in the volume of MDC deployments and an improvement in our integration services business, especially with our procurement and reseller services, are primarily responsible for the fluctuations in the total quarterly revenue. Our facilities business generated 3.3 million of revenue during the third quarter of 2022 and this was 0.8 million or 34% higher than such revenues in the third quarter of 2021. This was 0.3 million or 8% lower than the 3.6 million we had in facilities revenue in the second quarter of 2022. The improvement compared to last year is driven by the large increase in deployment revenues from the deployment of new modular data centers and our deployment revenues increased by 1.6 million or 100% compared to the third quarter of 2021. As I said earlier, on a year-to-date basis, our deployment revenues have grown by 4.3 million or 436% compared to the first nine months of 2021. And this is really what drove our total facilities revenue up by 3.3 million or by 59% to $9 million in the first nine months of this year compared to 5.7 million in the first nine months of 2021. This business has been impacted since mid 2020 by the COVID pandemic as travel and site restrictions and more recently supply chain challenges had impacted the delivery of needed equipment and our ability to deliver services at our customer locations. As the supply conditions have improved in 2022, we've been able to deliver on our backlog of deployment projects. And as our efforts focused on UMBC deployments by our customers, revenues from providing refurbishment, upgrade and refresh activities have decreased compared to the prior year. We do expect the level of MDC deployments to decrease over the next several quarters before picking up again in late 2023 based on preliminary indications from our customers. Our systems integration revenues were 0.2 million or 17% higher in the third quarter of 2022 compared to the third quarter of 2021. On a year-to-date basis, revenues from this business have increased by $0.9 million or by 22% to $5.1 million in 2022. This operation has been more impacted by supply chain issues, and this has continued into the third quarter of 2022. The overall supply chain challenges have definitely improved from where they were in 2021. However, it takes only a single component to have issues and be delayed that could prevent us from completing a project for our customer and cause a delay in recognising revenue for this work. We've been able to work through a large portion of the backlog in this business over the last several quarters as we saw improvements in component supply that have allowed us to increase our rack and stack revenues in particular. We anticipate our level of integration services will stay at similar levels in the next quarter and hopefully will improve from these levels as we go into 2023. We do anticipate ongoing supply issues will continue to impact integration business for the foreseeable future based on feedback from our vendors and the customers who supply material to us. Now, our reseller revenues increased by 2.4 million or 347% compared to the third quarter of 2021, and they were 2.3 million higher compared to the second quarter of 2022. The timing and volume of these reseller and procurement transactions is often beyond our control, And this continues to drive large fluctuations in our quarterly revenues. And our medium to longer term goal will be to drive more consistency of this revenue stream. During the third quarter of 2022, most of our procurement and reseller transactions were what we would call agent transactions, where we have no control of the goods or services before they are transferred to this customer. In these instances, we're acting as an agent in a transaction and recognize revenue as the amount of any fee or commission that we expected to be entitled to after paying the other party for the goods or services provided to the customer. Some of these agent transactions can be quite large. In fact, the gross value of all the procurement and reseller services during the quarter was $24.5 million. But based on the accounting treatment of these agent transactions, we actually only recorded $3.1 million of this as revenue during the quarter. This higher volume of transactions, however, allows us to increase gross profits from this business by $600,000 compared to the second quarter of 2022. On a year-to-date basis, revenues from our procurement and reseller activities have increased by $2.6 million compared to the first nine months of 2021. Now, gross profits have increased by $0.9 million when compared to 2021. Now, from a cost perspective, we have been experiencing unfavorable cost pressure, particularly with regard to labor costs in the Texas marketplace. where demand for qualified labour is particularly strong. We've also seen inflationary pressure on many of our other overhead costs during 2022. This has caused an increase in the cost of operating our integration business, and our ability to adjust our customer pricing to recover these additional costs will directly impact the operating profitability of our integration business moving forward. Our gross profit margin of 34% during the third quarter was down from 42% in the third quarter of 2021. This decrease is driven by the higher proportion of our total revenues that come from the procurement and reseller activities. We make lower margins on procurement and reseller activities, so if the percentage of revenue from these activities increase, we would normally expect our overall gross margin to decrease as a result. The margins on our core facilities and integration revenues, which excludes the procurement and reselling activities, was 41% in the third quarter of 2022 compared to 44% in the third quarter of 2021. This change in margins reflects lower margins on integration services compared to our facilities business and reflects some of the impacts of the cost pressures we've seen in this business unit. Our overall gross profit improved by 0.8 million or 44% to 2.8 million in the third quarter of 2022 compared to the $1.9 million gross profit we had recorded in the third quarter of 2021. Our selling general and administrative expenses during the third quarter were $1.8 million. This was up $266,000, or 17%, compared to the $1.6 million we had in the third quarter of 2021. Almost all of this increase is attributable to higher compensation costs, including incentive compensation costs arising from our increased profitability in 2022. After the above, we recorded operating income of $871,000 in the third quarter of 2022. This compared to an operating income of $228,000 in the third quarter of 2021. And on a year-to-date basis, we've recorded operating income of $1,637,000 this year compared to an operating loss of $730,000 in the first nine months of 2020. Our interest expense has increased by 90% compared to the first nine months of last year. This is due to the high number of agent-type reseller transactions that we had in 2022. So the gross value of the reseller transactions for the first nine months of 2022 was over $39 million, even though net we only reported 5.6 million of revenue in this period. But we incur financing costs on the gross value and this drives the increase in interest expense compared to the comparable period of 2021. After interest and tax costs, we had net income of $605,000 or $0.03 a share in the third quarter of 2022. This compared to a net income of $123,000 or $0.01 per share in the third quarter of 2021. On a year-to-date basis, we've reported net income of $1,068,000 or $0.05 a share in 2022 This compares to a net loss of $1,032,000, or negative six cents a share, in the first nine months of 2021, an improvement of $2.1 million. Our adjusted EBITDA, which excludes interest, taxes, depreciation, amortization, and stock-based compensation, was a profit of $1,043,000 in the third quarter of 2022. That compared to an adjusted EBITDA income of $476,000 in the third quarter of 2021. On a year-to-date basis, we had adjusted EBITDA profit of $2,202,000 in 2022. We had an adjusted EBITDA income of $36,000 in the first nine months of 2021, meaning that we've improved our adjusted EBITDA by $2.2 million compared to the first nine months of 2021. Now turning to the balance sheet, our balance sheet position remains healthy. The timing of events around our reseller transactions definitely has a material impact on our balance sheet. and the changes in our cash and the increases in our deferred cost inventories and our accounts payable since year end are primarily due to the timing of cash receipts and payment related to the reseller transaction. We continue to feel good about the strength of our balance sheet and are looking at ways to utilize it to assist us in growing future growth and cash flows. We believe we'll have adequate trade credit available to us to continue financing our reseller activities as we grow this business during 2024 and beyond. In July, we repaid in full all of the outstanding balances, including accrued interest from our notes payable to MHW Capital. We were able to repay this debt using existing funds on hand. MHW exercised their outstanding warrants that have been issued in conjunction with this debt, allowing us to receive 0.4 million in proceeds from the warrant exercise in July. And the shares underlying those warrants have been included in our earnings per share computations, except in periods where that would be antedilutive, since they were granted back in 2015 and 2017. Excluding our lease-related liabilities, we now have no long-term debt outstanding in the company and a clean balance sheet. So with that, I will now hand the call over to Daryl for some comments on the third quarter results and how we see the business evolving moving forward. So Daryl, there you go.

John, thank you very much. Hello, everybody. Congratulations on Q3. As John said, just a short while ago, we announced the transition of the CEO role from Anthony Angelini to me. Let me first thank Anthony for his support throughout this process and his commitment for ongoing support as we make this transition during a very busy period of client deliverables. We're a relatively small company with a concentrated customer base, so transitions like this will need to be handled especially carefully. to keep customers and key employees informed. Anthony has already proven himself to be a trusted partner throughout this process. I'm very fortunate to join TSS at a time when our performance is strong. The company has strengthened its balance sheet and profitability for this year is stronger than any other previous year. The transition is being made at a time of strength for us, not new action problems in our performance. So let me first tell you a little bit about myself and why the opportunity to lead TSS was so exciting and enticing to me. I joined TSS from Dell. where for the last 10 years I led Dell's software security business, where we focused on selling cybersecurity software and services solutions. I arrived at Dell via an acquisition of our software company called Credent Technologies, where I led sales and operations for five years. Prior to Credent, I was a group president for two other software companies, VA Software Solutions and i2 Technologies. I spent my early years at IBM having been through the rigorous and well-known sales training programs. While my experience at Dell was in their software group, for those of you who know how Dell or other large OEMs operate, for that matter, you know the software is a component of the overall package the OEM seeks to sell the customers. And so people in the software group are integrated into the supply chain and process just like a piece of hardware is. So I'm quite familiar with the data center logistics business and the services we provide to our customers. TSS has a strong reputation with its customers and delivers high value. It's not easy being a small-sized partner in the overall supply chain of a large OEM or large OEMs, and you have to fight and defend for your processes you know how to manage, for order flow inconsistencies which add variability to your business, but may be small blips to the OEM, and then for every dollar in order to ensure the value you bring is recognized by your OEM customer. TSS is respected by its customers and hard fought those battles well. However, strategically speaking, TSS needs to be positioned for the future with its customers and the end markets and the customers it serves. The data center business will continue to grow. Consumers and business data consumption, as we all know, continues to grow unabated and will likely be resistant to economic downturns. The infrastructure to serve that data consumption will grow, modernize, become more efficient and more green, in quotes, as years pass. These trends play to TSS's strengths in rack integration and modular data center integration and deployment. So as our customers seek to add greater value at lower costs to their end users and user customers, TSS must continue to add value in the processes and services we provide. I have a good grasp of how we can do that today, and I have a good feeling for where the market is heading and what we need to do. Our job will be to marry these two elements into a strategy for the company's future. Having been in this role all for about an hour, it's a bit premature for me to dive into how we're going to do that now, but I look forward to communicating this strategy to our investors as it comes together. I will say, and I believe this, TSS can and may very well need to grow substantially in order to retain our relevance to large OEM customers. We have all the makings for a wonderful growing company. I'm looking forward to spending more time with our people and customers to realize our potential. So with that, let me turn the call back to John, and thank you for listening.

Thanks, Daryl. Actually, Colby, we will open up the call to see if there's any questions at this time.

At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. We'll pause just for a moment to compile a Q&A roster. We have no questions at this time. I will now turn the call back over to John Penver, Chief Financial Officer, for closing remarks.

Okay. Thank you, Colby. Thank you, everybody, for your time today on the conference call. I hope you'll join me in welcoming Daryl to the company, and we'll look forward to providing some updates on our fourth quarter results in the new year. Thank you, and this concludes today's conference call.

This concludes today's conference call. You may now disconnect.