Neal's answers to some of my questions:
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Saturday, 8/1
Ty:
I'll try to respond to these questions as best as I can. Please bear in mind that, in the wake of the market reaction to our earnings,
a) I've been busy, and b) I'm still shellshocked. I'll try to get this out today.
Neal Sanders
>
> Percent Percent
> Quarter Revenue Change Expenses Change EPS diluted
> Q3 97 1,816,423 2,516,000 $(.06/share)
> Q4 97 2,914,000 60% 3,344,000 35% $(.07/share)
> Q1 98 4,169,000 42% 4,141,000 25% $.01/share
> Q2 98 5,816,000 40% 5,537,000 35% $.04/share
>
>
> If IAI can continue to grow revenue at 40% per quarterand
> maintain total expenses growth rate of 35% per quarter, I would
> expect the following:
>
>
> Percent Percent
> Quarter Revenue Change Expenses Change EPS diluted
> Q3 98 8,142,000 40% 7,474,000 35% $.08/share
> Q4 98 11,398,000 40% 10,458,000 35% $.12/share
>
> FY 98 29,525,000 27,610,000 $.25/share
>
>
> One thing that concerns me is that the total operating expenses > seems to be growing at about 35% from quarter to quarter. Other
> companies, such as Alydaar (ALYD) have, over the past year, had a
> nearly fixed expense rate of $6.5 million or so (ie an expense
> growth rate of 0%). Last quarter they announced $.10/share and this
> quarter they just announced $.16/share and (according to the
> statement made by the CEO in a press release), they fully expect to
> see double digit quarter-to-quarter growth in earnings and revenues
> over each of the next six quarters. NOTE - I am using ALYD for
> comparison because I believe they are a direct competitor to IAIC
> and they seem to be making extremely good progress.
>
> Could you offer some guidance as to what the "expected" expense
> growth rate going forward will be and possibly break that down in
> terms of cost of professional services, cost of software sales and
> general operating expenses.
>
Fair question. Note from the earnings release that sequential SG&A was up only about $40 K despite significantly higher sales. That's the number to keep your eye on. Software COGS will bounce around based on the kind of sale made... a software sale made by CA provides "pure" revenue to IAI (e.g., CA has already taken their cut); a software sale made by IAI will be "diluted" in COGS by the royalty payment back to CA.
The professional services margins are a better metric... it's people x
labor rate x hours against a cost-per-line charge. That number improved in 2Q as a percentage of sales.
> My concern is that the cost of professional services in IAI's
> solution factories will continue to grow at nearly the same rate
> as the revenue and thus eat into any profits. This to me is
> the MOST noticeable thing when comparing IAICs earnings report with
> that of ALYD over a 1 year period.
>
See above. I think Rich DeRose noted in the conference call that
productivity is expected to improve as people are with us longer; they
get better at using the tools, and process more code in the same number of hours.
> This concern is magnified by the fact that once Y2K work is
>complete, a significant downsizing of staff will occur and revenues
> will return to something significantly less that what they are at
> this time!
>
If IAI's post-Y2K strategy is valid, there's not much downsizing... the same organizations that we made Y2K compliant become the candidates for migration work in 2001, 2002, etc.
> 3rd, it was mentioned in the CC that there were bookings of > 20 million LOC in the quarter.
>
You heard right. We have a total of 30M LOC in backlog.
> Correct me if I'm wrong but I thought I heard Sandy say the expected
> bookings for Q3 were 50 million LOC and 100 million LOC in Q4.
>
No. Sandy said we have 24 proposals out (in response to RFPs and
specific requests by prospects) for 20M LOC with a prospective value of $10M. We also have what he called "hard leads" on 50M LOC, excluding "big deals" that tend to take much longer to close. We could end up all of that, or none of it. What Sandy said was that it remains IAI's goal to have capacity for 50M LOC in Q3 and 100M LOC in Q4. The difference is in getting customers in the door and then getting the code remediated.
> What is IAIC's current LOC pricing? I understand that it may vary
> from $.10/per-loc to $.55/per-loc depending upon the amount of LOC
> the client delivers and the complexity of the code.
>
There are two costs: software and professionals services, which vary by kind of code. If you take the three government contracts announced on Friday, you'd conclude that the average per-line charge was 30 cents (4 million lines, $1.2 million revenue). A big chunk of those particular orders, however, was Easytrieve, which is usually less date-intensive and so costs less. ADS is ususally very date-intensive and so costs more.
> Does IAI have plans to increase its pricing?
>
You heard Sandy say he saw prices firming, and the probability of a
price increase.
> IAI had also mentioned that it's goal was to have the ability to fix
> 400 million LOC per year in its solutions factory. Is IAI currently
> able to process that much in its factory (in one year) and
> if not, why? (i.e. how many people will it need to hire and how much
> more hardware expense will be incurred)?
>
100M LOC per quarter = 400M LOC per year. No, we don't have the current staffing to do 100M LOC per quarter; current staffing could probably do close to 50M, provided there are sufficient orders. Have you ever operated a loom? (Probably not). Processing code is a lot like weaving... it takes a weaver days or weeks to set up the loom; to get the right pattern and colors. The actual weaving time is quite short. It's the set-up that requires the skill. I believe I heard Sandy say it would "a few hundred" people to get to the 100M goal, versus a staff of 140 at present.
> Could you also touch on the LOC throughput of some of the other
> factories? How many IAI employees exist in such facilities? What
> expenses does IAI incur by using those facilities and what revenues
> does it receive from them?
>
We see mixed results because most partners are still new at the process, and most still have people in our factory learning the process. You also heard Sandy say that he sees a new, interesting pattern emerging... partners with projects for, say, 30 million lines of code, 4 million of which is CA languages, subcontracting the CA portion to us while doing the 26 million themselves. They don't want to divert the manpower to self-remediation until they have critical mass.
> Lastly, I listened to the CC on Monday and was please to hear that a
> number of well know investment houses had representatives attending
> the call, including Legg Mason and PW. It's 2 weeks since the
> investor conference, could you report on any institutional coverage
> that may be coming? Oh, yeah, it
> seemed as though 2 large (100,000 share block) sales took place on
> Tuesday, do you know if Crutterden Roth dumped their shares, and are
> they still covering the stock? Also, what are the expected Q3 and
> Q4 earnings.
>
Keep in mind these things -- while there were at least three sell-side
analysts (analysts who work for brokerage firms and whose business is
recommending stocks) on the call, those Legg Mason, Morgan Keegan, and
Paine Webber queries you heard were from brokers with large positions,
not analysts. I'm not aware of the blocks you refer to from Tuesday,
though you may be right and I may have missed them (as I said, Tuesday
was a very busy day, so I didn't see every trade).
Monday 8/3
As to Cruttenden Roth; no, there was no wholesale dumping of shales by
them. Most of the selling on Tuesday came from a firm called Newby and Co. (market maker symbol: GURU). And C-R continues to cover the stock. I am told the analyst changed neither his numbers nor his
recommendation. (But please get this verified from C-R... I cannot be
certain if any info I have from third parties is the most current).
> Neal....I know I have alot of question, but please bear with me. > I've been in IAI for 18 months now and have a significant investment > in the company. I'm also advising numerous other investors in IAIC, > each with sizeable holdings. Your responses have been most
> valuable and I hope I may count on them in the future.
>
There's no need to apologize for good questions. This has been the kind of week that adds grey to ones's hair.
Neal Sanders |
