Telkonet, Inc. (OTCQB:TKOI) Q4 2019 Earnings Conference Call March 30, 2020 4:30 PM ET
Jason Tienor – Chief Executive Officer and Director
Gene Mushrush – Chief Financial Officer
Conference Call Participants
Marc Minkoff – Minkoff Capital.
Good afternoon. And welcome to Telkonet’s Fourth Quarter and Year End Earnings Conference Call. As a reminder, today’s conference is being recorded.
Before I turn the call over to Jason Tienor, Telkonet’s Chief Executive Officer, I would like to read the following statement. Certain statements included in this conference call may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements involve a number of risks and uncertainties and such as competitive factors, technological development, market demand and the company’s ability to obtain new contracts and accurately estimate net revenues due to variability in size, scope and duration of projects and internal issues in the sponsoring client.
Further information on potential factors that could affect the company’s financial results can be found in the company’s registration statement and on its reports on Form 8-K filed with the Securities and Exchange Commission. Telkonet is under no obligation to update items discussed in today to reflect subsequent developments. Lastly, I would like to remind everyone that this call will be recorded and made available for replay via a link available in the Investor Relations section of Telkonet’s Web site at www.telkonet.com.
With that, I would like to now turn the call over to Jason Tienor, Telkonet’s President and CEO, to discuss the results. Mr. Tienor, you may begin.
Thank you, operator. Good afternoon. And thank you for joining us for Telkonet’s fourth quarter and year end earnings call. As you can see by the financial posted earlier today, we continue to make steady progress and key initiatives. We are pleased with our 2019 results and outlook moving forward. But the strong fourth quarter performance, we effectively closed out a record year and carrying forward into 2020 with strong and growing momentum for our products, and unmatched pipeline for new opportunities and management environment around the plan to deliver consistent and steady improvement in cost and margin.
While current events involving Covid-19 have since had a considerable impact on our target markets and the economy as a whole, Telkonet continues to identify key market niches that provide ongoing opportunity during this current environment. By all measures, Telkonet entered the New Year well positioned to grow value for our shareholders in fiscal 2020 and beyond demonstrated by the dramatic increase in industry activity and improvement in key business metrics through 2019 resulting in our fourth quarter earnings results. Regarding those results, I’m very pleased with our quarter over prior year’s quarter revenue growth of 44% and a fourth quarter gross margin performance of 50%.
These dramatic improvements provided an $830,000 profitability swing resulting in our first positive quarterly EBITDA of $116,000. I credit this performance to a management team who had concentrated on efficiency and achieving bottom-line results through managing top-line expenses and to amazing amount of talent throughout our organization that is willing to assist in all areas as our business continues to reach new heights. While historically our business was largely driven by performance within a single market. Our consistent marketing and sales efforts have enabled us to expand our success across several key industries. This expansion is crucial in assisting our ongoing business interests during the current Covid-19 environment.
These diverse sources of revenue growth and the strong underlying drivers of each have me excited about the opportunities at hand, as we continue to fuel top-line growth and increase profitability to steady execution against our plan. Especially as we consider the market activity during economic recovery. Additionally, Telkonet team remains fully committed to delivering next generation innovation and comprehensive intelligent automation solutions scaled for commercial markets. Supported by the strength of our technology, in the fourth quarter, we demonstrated progress against four key business initiatives.
First, we delivered strong results in market growth and expansion across our secondary markets. Over the past year, we’ve seen growth in each of our target markets resulting in the record revenues posted. In addition, identifying niche environments where our technology provides significant savings and operational benefits has allowed expansion across their commercial audience. Our efforts in the military markets through our ESCO channel had not only resulted in positive results but have generated additional growth in 2020 and looking forward.
The second initiative, our efforts over the last several years to cultivate strong relationships with foreign partners in order to expand geographic reach into key geographies is going to pay significant dividends. Key investments in the development and support of valuable relationships have proven instrumental in international growth efforts. 2020 demonstrated the extensive success that these efforts have generated through $1.9 million or 16% of Telkonet’s full revenue. This international demand peaked in the fourth quarter resulting in approximately half of the year’s International revenue for approximately $950,000 in the quarter alone. We currently maintain a focus on these efforts as the International commercial markets are exhibiting a growing appetite for smart technologies even during the current worldwide pandemic.
One of the Telkonet’s primary efforts is our work with channel growth. Through the development of robust tools, training and resources in combination with strategic investments in marketing and sales support, we continue to generate strong results in our channel performance having grown from 70% of sales in 2018 to 80% of sales in 2019. A continued focus in investment in these relationships is expected to further drive top-line growth through 2020 as well as contribute to increased profitability.
Lastly, our focus on the sales cycle and broadening market access, has contributed to the channel development just mentioned as well as assisted and expanding Telkonet’s compatibility and availability. Through development and integration efforts with OEMs such as IEC. Trane, Island Air and soon-to-be-released Mitsubishi and LG, we continue to demonstrate market leadership of innovation and compatibility. These native HVAC integrations provide a reduced cost for a superior solution while being offered directly by the manufacturer as well as Telkonet and our channel partners. These relationships pay significant dividends and are an area of ongoing focus and engagement.
Due to these efforts in just one short year, we’ve grown our top-line revenue by 44% while increasing our channel contribution significantly. As a reminder, Telkonet generated a majority of our revenues through direct sales just four years ago through targeted marketing and sales, we’ve been able to significantly expand geographic coverage across international markets and work closely with HVAC manufacturers to provide a superior product for Telkonet’s primary markets.
Finally, our primary initiative in the fourth quarter, a variety of efforts spent on gross margin expansion was reflected in the continued improvements within the period. These improvements benefited from four key areas. A comprehensive products, price and mix review and adjustment released during the quarter to adjust for market changes in manufacturing increases, a more stringent management of inventory levels and shipments as well as a reduction in freight deliveries in the quarter resulting in minimal tariff expenses. The deployment of automated tool throughout the sales cycle to monitor and ensure a baseline margin levels on individual sale opportunities and strategic implementation of our best operational measures resulting in significant cost savings and organizational efficiencies.
In combination, our progress across all four of these key business initiatives puts Telkonet in a strong position with positive momentum moving forward into the year. These activities have not only yielded top-line results but positioned us for ongoing success looking forward. We’re very pleased with a pipeline and backlog. Our account growth to date and the ability of our channel partners to grow their customer base with us continuously after coming on board. The growing industry interest in smart technologies and intelligent automation has driven market demand and our innovation and technology and positioned as well for the impending market growth. RFP activity has been strong throughout 2019 from all target markets and the average project has grown in size and technology, and an increasing number of customers are planning for comprehensive room integrations beyond simple energy management.
This demonstrates that Telkonet’s vision for our EcoSmart platform recognized the future potential of this evolving industry.
Now I’d like to take a moment to address the current business climate and its potential impact on Telkonet’s full year 2020 and future outlook. As we stand today, the two largest external impacts to Telkonet’s business include the ongoing trade war with China where our products are manufactured and the expanding Covid-19 epidemic that it impacts all areas of our business. From hospitality industry performance, impacting sales, international manufacturing efficiencies affecting inventory, operational functionality affecting staffing and as fundamental as declining travel availability impacted deployments. While we’ve enacted strict disciplines around our inventory planning, scheduling and shipping to the point of using direct freight shipments to international customers, we will continue to incur additional costs regarding tariffs until either they’re removed, we complete our transfer of manufacturing lines later this year.
Our current efforts with our Chinese manufacturer underway and we expect to see completion early in the second half of the year.
Next regarding Covid-19. We continue to monitor the situation and address its impact on our operations. Current activities include weekly updates with our manufacturer to ensure deadlines aren’t slipping and our shipping days are maintained. We also engaged several lines of communication with customers and partners to understand how their forecasts have been affected in order to address our sales targets and efforts. In addition, we continue to refocus efforts in markets where the virus is having the least impact especially those outside of the hospitality industry. Internally, we continue to monitor our facilities and staff that address the risk on an ongoing basis in order to ensure continuity of business. While we can’t be assured of zero-impact to business, we believe that we’ve taken and continue to take all necessary precautions in order to minimize the impact and ensure Telkonet’s performance moving forward.
One last topic to cover would be our ongoing strategic discussion. While we consistently monitored the industry for relevant activity end partners, we continue our discussions with several parties regarding operations and potential synergies. These conversations have grown more rapid since the beginning of year that further demonstrated the potential for Telkonet’s future growth. While moving through these various conversations, we’ll continue to update our valued shareholders as we move closer to the next chapter of Telkonet’s growth. 2019 was a very promising period for us as a company and I am very proud of the efforts of our entire organization. Our impressive fourth quarter performance capped off an incredibly strong year and our 2019 performance has proven that the platform that Telkonet has created is resonating with the fledgling IoT industry and that our organizational development has started the path for Telkonet’s growth and value creation moving forward.
The focus of our development has always been to lead in innovation and to provide a comprehensive platform for the provisioning of intelligent automation and generation of energy savings. Our EcoSmart platform positioned us as a leader in our commercial target markets during industries early development. Our RHAPSODY platform is building on the lessons learned as the industry has evolved and consumer interests expanded. The tools that we’ve created in the relationships that we’ve developed have enabled us to broaden our value and deepen our integration within our customer deployments.
With that once again I’d like to thank you for your time and interest. And now I’d like to hand the call over to Gene Mushrush, Telkonet’s Chief Financial Officer to review the quarterly financial performance with you. Gene?
Thank you, Jason. Ladies and gentlemen, good afternoon and welcome. Today, I will be presenting our fiscal 2019 financial summary. Total revenues of $12 million represented a 42% increase year-over-year. Product revenues increased 47% to $11.2 million when compared to the prior year. Product revenue is derived from value-added resellers and distribution partners were $8.6 million for the year ended December 31st, 2019, an increase of 39% compared to the prior year period. The increase in product revenues over the prior year period was due to hospitality revenues increasing $2.2 million to $8.6 million. Governmental revenues increasing $960,000 to $1 million; Educational revenues increasing $390,000 to $1 million. And multiple dwelling at $90, 000 to $1 million and multiple dwelling unit revenues increasing $90,000 to $560,000.
Installation revenues decreased approximately $330,000 to $1.4 million for the year ended December 31st, 2019. Beginning in the third quarter of 2019, the company began implementing portfolio pricing increases which under normal circumstances would be expected to positively impact product revenue. But given the Covid-19 pandemic, the impact of these price increases may be offset by reduced demand for our products in the near term. For the year ended December 31st, 2019, recurring revenue decreased by 6% to $769,000 when compared to the prior year. The decline was related to decreased unit sales of call center support services.
Backlog orders were approximately $2.7 million and $3.4 million at December 31st, 2019 and 2018 respectively. Gross profit for the year ended December 31st, 2019 increased 32% when compared to the prior year period. The actual gross profit percentage decreased 3% to 42%. Product costs increased 53% compared to the prior year period. The variance was primarily attributable to an increase of $1.2 million in material costs, an increase of $490,000 in logistical expenses inclusive of import tariffs, an increase of $32,000 in call center salaries and recruiting efforts and an increase of $440,000 in the use of installation subcontractors. Material costs as a percentage of product revenues were 42% for the year ended December 31st, 2019, a decrease of 8% compared to the prior year period.
Our core products are manufactured in China and as a result tariffs imposed on Chinese imports resulted in an adverse impact of approximately 6% on actual gross profit percentage for the year ended December 31st, 2019 compared to approximately 2% for a pro-rated year ended December 31st, 2018. Year-to-date operating expenses grew 2% to $7 million. The variance is attributable to $140,000 increase in sales commissions; $170,000 increase in audit and legal fees, $90,000 increase in salary expense offset by a $50,000 decrease in advertising; $40,000 decrease in computer software expenditures and $142,000 decrease in engineering expenses incurred with third party consultants and headcount.
Operating expenses as a percentage of revenues fell 23% to 58% compared to the same period prior year. We incurred operating losses of $2 million and $3 million for the years ended December 31st, 2019 and 2018 respectively. Negative EBITDA and non-GAAP measurement of $1.9 million and $2.9 million were recorded for the years ended December 31st, 2019 and 2018 respectively. We reported approximately $3.3 million in cash and equivalents at December 31st, 2019 compared to $4.7 million last year. Cash used in operations during the year was approximately $1.9 million compared to approximately $3.9 million for the prior year period.
During the 12-month period into December 31st, 2018 the company’s cash balance decreased approximately $309,000 per month. In comparison during the 12-month period ended December 31st, 2019, the company’s cash balance decreased approximately $115,000 per month. This improvement is the result of increased revenues and cost management efforts. The company’s estimated cash requirements for operations over the next 12 months are anticipated to benefit from the cost elimination and liquidity management actions that the company has initiated. However, due to the speed with which the Covid-19 pandemic is developing and the uncertainty of its duration and the timing of recovery, we are unable to predict at this time the extent to which the pandemic may impact our results of operations, including liquidity.
We reported working capital surpluses measured as current assets less current liabilities of $4.2 million and $6.2 million at December 31st, 2019 and 2018 respectively. As of December 31st, 2019, we had a borrowing capacity of approximately $1.1 million and outstanding balance of approximately $624,000 and availability of $424,000 on the asset based credit facility. In comparison as of December 31st, 2018, we had borrowing capacity of approximately $622,000 and outstanding balance of approximately $121,000 and availability of $500,000. The final 90 days of the year historically a softer quarter, capped a year that witnessed aggregate revenue growth greater than 40% and the first profitable quarter as a single reportable business unit.
However, as positive as our 2019 ended, the start to 2020 has been unsettling to say the least. On January 30th, 2020, the World Health Organization announced a global health emergency because of the new strand of the novel coronavirus in Wuhan, China and the risk to the international community as the virus spreads globally. In March 2020, the WHO classified the outbreak a pandemic. The spread of the virus has caused significant volatility and uncertainty in US and international markets of which the full impact of the outbreak continues to evolve daily. The outbreak has resulted in and could continue to result in reduce demand for our products and/or cause customers to be unable to meet payment obligations to the company. The industries we operate in have already been impacted with shelter-in-place directives, school closures, visitor restrictions, travel restrictions, heightened border security and event cancellations.
The outbreak could adversely affect our supply chain and production capabilities of our primary products supplier located in China due to quarantines, worker absenteeism, facility closures and/or increased international trade restrictions or regulations. If any of our supply chain phases were interrupted or terminated, we could experience delays in our project fulfillment process. Delays could result in increased fulfillment costs and customer pricing concessions or overall project cancellations. Developments such as social distancing, shelter and place directives furloughs worker absenteeism and travel restrictions could impact the company’s ability to deploy its workforce effectively and efficiently.
In response to these uncertainties, we have implemented and are continuing to review strategic cost reductions across all functional areas. At this time, the disruption is expected to be temporary. However, the length or severity of this pandemic is unknown; management is actively monitoring the impact of Covid-19 financial condition, liquidity operations, supply chain management, industry and workforce. While we expect this disruption to have a material adverse and impact on results of operations, financial condition and overall liquidity for the year 2020, the company is unable to reasonably determine the impact at this time.
In closing, thank you for your interest and to our shareholders specifically, thank you for your continued support. In addition, here’s wishing everyone affected by this pandemic a speedy recovery. And I’ll turn the call back to Telkonet’s President and Chief Executive Officer, Jason Tienor.
Thank you, Gene. Now like to hand the call over to our moderator to take any questions you might have. Moderator?
Our first question is from Edward Stein, Private Investor. Please proceed.
Hi, Jason. It must be tough to deal with those kinds of ups and downs all following one another. Sounds like you’re doing the best you can to manage it though. Can you hear me? Okay. The first question is assuming that you had to furlough a few workers; it seems to me you might be a candidate for a loan from the SBA and the terms are from what I’ve read pretty attractive. Are you exploring that by any chance?
Yes. Gene could speak more to that but we’re monitoring since the release has been released or been signed. We’ve been monitoring the resources that are available in order to determine what applies to us and make sure that we’re applying to them as soon as possible. So appreciate that feedback and absolutely, yes, we are looking to take part in whatever areas that we can.
This morning they said something about through the SBA if you have less than 500 employees there might be loans available and if you hire back some employees and keep them for, I think, eight months, six months or eight months, the loan could be forgiven. So it could be cash infusion, sounds attractive and it sounds like you qualify.
Absolutely. Yes. Gene and I were already on the SBA website this morning. They have a very streamlined process we’re applying to those. So I do believe that it will apply to us and it will be helpful. Unfortunately, we’re not the only ones that this applies to, so somebody of course will respond at this time, but we’ll keep asking them.
That’s an understatement. Well, good luck with that. The second one is you mentioned things about working with other companies. And it sounded like joint ventures or partnerships or whatever and I know you’ve reported them from time to time. Are we still talking to anybody who is considering a merger or an acquisition or some of the things that people were looking at a year ago?
We are, in fact, we actually have a few conversations that have just started in the last several months specifically since the beginning of the New Year. A lot of companies were waiting until after 2019. They got done with their existing strategic initiatives and right at the beginning of the New Year, we had a couple of companies that approached us in order to initiate conversations of a variety of natures. So we continue to have those ongoing and we pursue them as readily as they’re available and as far as the interest goes. We have a number of different activities taking place right now. And we’ll continue to update you guys as events continue to move forward.
At this time, we have nothing of concrete — of a concrete nature in order to share with you other than the fact that we continue moving ahead with those discussions.
Our next question is from Marc Minkoff with Minkoff Capital. Please proceed.
Can you hear me? Okay. Jason, congratulations on a great year and lots of success moving forward and the improvements. Can you share with us your strategy of how to move away from China as a source of your product and or how you think you can navigate through this process?
Thank you for the question, Mark and thank you for attending the call as well. With regards to our manufacturing capabilities at this time, while we are moving forward with the existing manufacture in order to move away from the tariffs we are actually transferring all of our lines of manufacturing outside of China to a new production facility that does not have a tariff requirement associated with it. So that’s how outside of anything being done here domestically to improve the situation, we’re moving forward with taking care of resolution ourselves. That being said we continue to do each and every year additional analysis on other manufacturers, Mexico, Taiwan here domestically in the US to determine if we can find a suitable manufacturer that would be able to do so for at less cost and easier terms that we have in existence.
One of the biggest problems that we’ve reported on before that we currently have is we’ve been with our current manufacturer for so long that we receive exceptional pricing and quality from them. And it’s very hard to match with any alternative manufacturer. That being said we do have a couple of conversations taking place in reference to Ed’s question, a couple of conversations taking place in reference to Ed’s second question whereby part of those conversations would include the ability to transfer manufacturing of our products to other facilities through the transaction with those parties. So to answer to your question, Mark, we have a couple of different irons in fire, and trying to determine what is best suitable for the company moving forward. But understand, we’re consistently trying to relieve some of the burden that the tariffs are placed on us at this time.
Well, lots of success in moving away from China and establishing new territory without the tax implications. You had spoken about, and I saw the numbers in terms of military sales. Are they, do you see them expanding in the future to a greater extent?
I can tell you that prior to the current pandemic situation that was exactly what was taking place. The one large project that we had won last year with one of the ESCO partners that we have, we were engaging in two new projects of similar size and scope to that same play opportunity. Because of the pandemic, it will have an impact on those abilities not necessarily canceling them out but obviously delaying them until some point later in the year. Largely and specifically because many of the parties involved here have the same type of stay at home or work at home requirements that we ourselves encounter on a daily basis thus we’re unable to send resources for deployment or enable to send workers on travel. We are having a difficult time with some of these projects to keep them moving forward as well as our ESCO partner is under the same requirements this time.
So I hope and I wish for all involved is that we can move through this situation as rapidly and successfully as possible. So that as we come out at the other end, we’ll be able to accelerate some of these project, Marc. But, yes, we expect to see them continue to grow. It’s just because of the uncertainty with the pandemic; I can’t exactly speak to when and when that would begin.
I understand and thanks for your explanation and so important to stay in contact and be transparent with your sources because that way when it does open up you’ll be right there. So again congratulations on a great year and lots of success moving forward. Thanks for answering my questions.
End of Q&A
This does conclude our question-and-answer session. I would like to turn the conference back over to management for closing remarks.
Thank you, operator. Thanks again for everybody’s continued interest and support over Telkonet. And as I mentioned earlier, our best wishes and best hopes for everyone, your families; your co-workers. We’d love to see this current situation resolved itself most quickly and possibly for everybody’s best interests. If anyone would have any remaining questions, please you may contact our IR services at 414-302-2299 or by emailing IR at telkonet.com. Once again, have a great afternoon and until next time.
Thank you. This does conclude today’s conference. You may disconnect your lines at this time. And thank you for your participation.