Enea AB

STO:ENEA

Earnings Call Transcript 2018-Q3

[Operator]

Welcome to the Enea AB Q3 Report 2018. [Operator Instructions] Today, I'm pleased to present CEO, Anders Lidbeck. Please begin your meeting.

[Anders Lidbeck, President & CEO]

Thank you. Good morning, everyone, and thank you for giving me this opportunity to walk you through our Q3 numbers. I will follow the same agenda as I normally do, little bit about Enea, dive into the financials and then discuss way forward. So if we switch to the intro slide and then to Slide 4 here. You know that last year, our revenue was SEK 589 million. On that, we reinvested 17% in R&D, and we delivered a operating margin of 23% with 463 employees. Now that's a bit dated since the acquisition of Openwave Mobility back in March this year. So I have here on this slide also the Q3 revenue numbers, and times 4, you see that we are now somewhat north of SEK 800 million revenues on a 12-month basis. We're slightly shy of 600 employees. And in Q3, we actually increased our operating margins to a bit shy of 25%, while still investing some 17% in R&D. 2018 is our 50-year birthday here at Enea. If we look at the next slide, in 1968, this company was founded by 4 students at the Royal Institute of Technology here in Stockholm. Some -- not 20 years, but some 15 years later, the product that has taken us to this situation where we are today was becoming -- winning the operating system, the OSE product. In the beginning of this millennium, it was built into more than 1 billion devices, and it's been the basis for our acquisition of Qosmos in 2016 and Openwave Mobility in 2018. An important note also on this journey is the divestment of the Nordic consulting business because for the first 40 years of our history, we're actually a -- have a quite significant Nordic consulting one that is grown since 2011 and now, it's all about focusing on our global software business and accelerating that growth, prioritizing organic growth and now also growth over margin expansion, and the acquisitions of Qosmos and Openwave Mobility have been examples of that -- been part of that journey. You'll probably rely on Enea software as of right now if you're dialing into this call via mobile phone or if you were on this call from the laptop, but over the Internet, you'll probably rely on these assets, 3 billion people every day. And the reason for that is, of course, the big success of our customers, Nokia and Ericsson are building -- have built more than 50% of the world's 3G, 4G and 5G networks in combination, and our software is part of their infrastructure. With Openwave Mobility, we've also added a lot of significant customer names from the operator side to our customer list, among them Vodafone, Orange and Zain. Qosmos and Openwave Mobility have also increased our global presence, even though we had more or less offices in the same countries, also before the -- these 2 important acquisitions for Enea. We now have a more even spread. We have a more significant presence in U.S. and we have a bigger business in Asia, bigger footprint, more customers in Asia. That takes us into the financials. And if we move to Slide 10, which is about the operating profits. This is yet, again, a record quarter from an operating profit perspective. It's the highest operating profit in a quarter ever. Excluding nonrecurring items and also including nonrecurring items, the growth is 44% over the same quarter last year, and we're north of SEK 50 million in profits in a quarter. Also, earnings per share, it's a record. It's 17% over the same quarter last year, and it's record-ever EPS if we exclude the capital gains from the Nordic consulting divestment. If we take a look at revenues on Slide 11, also that is a record. It's the highest Q3 revenue ever. It's actually also the highest growth number on record. The 44% revenue growth, you might remember that we had 44% revenue growth also in Q3, in Q2 this year. But if you look at one more number here, one more decimal, this is actually the best growth ever in the history of Enea in a quarter. So related to that, it's worth to be noted that for the first time in many quarters, actually, we have a quite significant support from currency. And if we would adjust for currency, we would still have a very strong growth number of 36%, but as you can see it's actually quite a difference between the 44% in Swedish currency and the 36% adjusted for currency fluctuation. If we break the revenues on geographies, which we do on Slide 12, it can be said that the biggest region still being Europe, Middle East and Africa represents 55% of the revenues in this quarter. Here, we had a 35% growth over the same quarter last year. And we have growth both in our software operation as well as in our European services operation. So actually, very good and Enea has an already stable development in Europe, Middle East and Africa, given the acquisitions we've done mainly thinking about the Openwave acquisition that we did in March. In Americas though, there is a significant increase in Q3 over the same quarter 2017. Obviously, the majority of this comes from Openwave. And with Openwave Mobility, our footprint on the U.S. market has clearly increased. Now America for us is not only the U.S. It's South America where we have customers for our software business, both on the operator side as well as on the telco side; and in Canada, where we also have customers, both operators and embedded telco developers. In Asia, we have a smaller growth of 3% compared to the corresponding quarter last year. Asia represents 8% of our total revenues. You remember -- might remember that after Q2, was quite pleased with Asia being more than 10% of our Q2 revenues. It's worth noting here that we're inheriting the Qosmos business, the DPI business as well as in the traffic project management business. It's a larger proportion of new deals, new business in a slightly different business model also with more perpetual contracts and with a variance in the size of the recurring revenues. And this means that there will be differences between the individual quarters in the regions, but also on the -- as a total. And this comes with a territory of doing more new bids, which is actually in the end a good thing, but it might stir up comparison between the different quarters. The headline here is correct. It's a strong Global Services operation in Europe, and that's a good thing. But it's also a pretty slow development for our services operation. As a total, we grew 2% in Swedish currency, but if you would have local currency here, we would have seen a decline in our services operation. I said before that, we've had a good development in Europe. But we have some pressure in the U.S. -- in our U.S. services operation that is headquartered in Phoenix, in Arizona. And we have absolutely no satisfactory top line development in the U.S. organization for quite some quarters now, and we're addressing that with different actions. But it's still compensated by the growth in Europe, which is the good news, and it's also compensated to some degree by the new services business we're developing here in Sweden. And that services organization is not a local -- Swedish local services business. It is a Bridge Services business where we help customers in Sweden to develop software from our Romania operation. We have the same type of business that we're trying to grow in the U.S. where we have our U.S. customers to develop software and systems from our Romanian operations. And in that combined entity, we actually saw small growth in Q3, which is important for us. Now this -- services business now representing 17% of Q3 numbers, takes us to Slide 14 where we can see this shift in our product revenue mix being consolidated. In Q2, we had the same number for Global Services being 17%, and this is actually creating a significant jump in gross margin for Enea. So in Q3 2017, we had 70% gross margin. And now, in Q3 '18, we have almost 74% gross margin. And that is not only coming from an improved operation and becoming a couple of not just more efficient every quarter, but it is absolutely coming from the fact that Global Services now represents under 20% of our total revenues, and that's good news from a -- from an earnings perspective. Operating systems. It's a flat to long term, slightly decreasing business. It's very profitable, and we have a large proportion of these revenues coming from our key accounts. But it takes a cash cow in the operation, and it represents 29% of our business in Q3. So very important now is that the fastest-growing part of our business, mainly network solution, as it did in Q2, also in Q3, it represents more than -- is the biggest product group in our operation and now represents more than half of our quarterly revenues. So this revenue mix that we have in Q2 -- in Q3 is actually very important for our opportunity to produce these record profit numbers. Also, the next slide, which shows how revenue from different customer groups have developed over the years. It's very significant to our earnings capacity. So again, we see the 17% coming from Global Services. And if we move back 4 years or 3 years, you can see that it represented almost 30% of that quarterly revenue stream. Now it's down to 17%. Key Accounts in Q3 '14 represented 57% of our -- that quarter's business. It now represents 25%, and what we call worldwide software sales, i.e. software sales to new and existing customers outside the top 2, now represents 58% of our revenues. That's 136% year-over-year growth compared to Q3 '17. So this change in revenue mix has significantly improved our earnings capacity. It has significantly improved our gross margin. And obviously, it has significantly reduced the dependency on a single customer and on a single product. It's in the numbers. It's more than half. And we're saying here also that this change has happened during a period where we've had 17 quarters of year-over-year growth. So 17 consecutive quarters of year-over-year growth and 16 out of the 17 quarters we've had year-over-year EBIT margin. During this period, we have completely changed the product mix of the operation, and we have completely changed the customer mix of this operation, which is all good news from a shareholders' perspective.If you look at the cash flow, cash flow from operations in the quarter was SEK 23 million compared to SEK 30 million last year. But if we look at the cash flows before change in working capital, we have almost a doubling of the cash flow, and it was SEK 63 million compared to SEK 35 million last year. We now have a cash and cash equivalent of SEK 206 million, and that should be noted that this is now 6 months after the Openwave Mobility acquisition. And clearly, that is balanced by the fact that we have liabilities at the end of the quarter at SEK 573 million compared to SEK 116 million a year ago, but obviously, the net debt position and interest-bearing liabilities is to a large degree related to the Openwave acquisition. The equity ratio is a healthy 47% or almost 48%, but again following the same logic, it's down from a year ago. If we take a look in our outlook or way forward, let me just, again, on Slide 18 just down the line that the focus for Enea now is to accelerate growth. We do think size matters. We do think we do want to reduce the dependency we have on single product and single customers even further. And we want to expand the portfolio and the addressable market. And we think we need acquisitions to do this. We will continue to focus on organic growth. We'll continue to focus on the acquisitions we have made, but we will continuously look at further potential acquisitions to accelerate growth going forward. We said many times that now we prioritize growth over margin expansion. Still, we had very strong margin development during 2018. And it's really astonishing actually and very satisfying to see how we have evolved margins in the companies that we have acquired, and operating on a close to 25% total operating margin half a year after the Openwave acquisition and little more than 1.5 year after the Qosmos acquisition, it's very satisfying. So what we're doing on Slide 19 is that we're also moving up the software stack. 10 years ago, or even if we had a small middleware operation also 10 years ago, but before these changes that starts accelerating the last couple of years, we had software as a fundament for the network infrastructure, software that we sold as embedded software for other people to embed in their products. Now on top of that, we also have solutions and even applications that we're selling to the end user. We have a traffic management application. We have a subscriber data management application selling to the end users, giving us access to the end user, which is very important for us. And from the Qosmos business or from the DPI business, we also have traffic classification, and from the combined R&D efforts, we have network virtualization. So we have software-as-a-component still and as a platform for the network. On top of that, we have middleware and also on top of that, we have applications. So we're climbing the software stack. And our direction is clear. We want to become a cloud-native networking software vendor. The tip of this direction is very focused on telecoms and network. That's the red arrow in this triangle. The top here is actually traffic management and subscriber data/cloud data management applications that we're selling into the telecom domain. The traffic intelligence that, to a large extent these applications are based on, we're also selling into cybersecurity, the customers who're into the cybersecurity domain, as an embedded software product. And the base is still the operating system. It's still the cash cow for all of our operation, the most profitable piece of our business. Here we have proprietary-based operating systems. We have open source-based operating systems, and we have virtualization platforms. This base is not at all as focused from a customer perspective as the tip is. In the quarter, for example, one of the smaller deals we did from the -- the new deals we did with our operating system was into medical device company. Another one was into aerospace defense company. We have our operating system also in the automotive industry. And it's -- we have open source in a marine tech company. We have our open -- our operating system going into many different companies. Services is represented by the light blue around the triangle and also here we're selling services to many different customers in the base. It's also services that is not connected to our software, but in the tip of the triangle, at the top of the triangle, all services or majority of the services are coming with the applications that our customers are buying. If we go to Slide #21, we're actually very proud of this award. So just a few weeks ago, at the Layer123 event in The Hague in The Netherlands, we were awarded Best New NFVi Platform with our NFV Access product. And that's a great win for us, and it's a great tribute to the efforts that we have -- and the investments we put into our NFV development, and kudos to the organization within Enea that has developed markets to this product. And as I said, we now hope that our NFV investment will also generate revenues or significant revenues going into 2019. And the pipeline looks actually very promising for this product. So on Slide 22, I'll talk about market outlook for 2018. So we'll now return now to this year. And after a record Q3, we've actually already surpassed the 2017 numbers. So we have achieved the objective we had for this year that we communicated back early February. But given the fact that it's not more than 2.5 months to go of the 2018, we'll still give no further guidance for the full year, but just to conclude that we have already achieved the objective we had for this year. So with that, thank you very much. And I will be happy to take any questions.

[Operator]

[Operator Instructions] Our first question comes from Viktor Westman of Redeye.

[Viktor Westman, Analyst]

Two questions. First, I wonder if you can talk a little bit more about the possibilities in cybersecurity solutions or in a sense, what's the pipe, how much you will invest, et cetera. And second, I wonder if you can give us the underlying growth, excluding currency and acquisitions.

[Anders Lidbeck, President & CEO]

Thank you, Viktor. So the last question first. So the acquisition we do, even if we tried to have a -- any duration strategy that is long term, so we don't break up the mid -- the whole company we have acquired immediately, instead, we have a slow and long-term acquisition strategy and so integration strategy. Still, we don't break out the organic revenue growth of the entire company. We've never done that because we do integrate the companies into the Enea organization, and they become part of our business. But in Q3, we have -- we do have a quite good growth in all the different organizations. And if you -- I know you did that after Q2 because we do -- in the report, we do discuss how the latest acquisition developed, and if you use those numbers, you will see that also the rest of the organization has grown in the third quarter. So on the first question from you, the cybersecurity domain. So cybersecurity, it's a very fast growing and important market in the whole change, in all of the connected society now. Both corporations, individuals as well as families have different needs for cybersecurity. You need to protect your children. You want to protect your children from accessing all kinds of different Internet pages, often known as parental control. That's an area for us. Companies won't survive firewalls, that's an area for us. And in this domain, still a smaller piece of our business, it still represents a smaller piece of our business. 83% of our revenues, rolling 12-month revenues, goes into what we call the telecom and network domain, i.e. the arrowhead of the triangle I showed on Slide 20. So only 17% comes up from outside of telecom and networking. And in here, you have automotive, you have aerospace defense, you have medical. So only a quite a small percentage of our business is cybersecurity. But it is an important piece for us going forward. And it is also to -- it's also in line with the objectives we have not becoming too independent on single customers or single products. And we want to expand our business also outside the telecom and network space.

[Operator]

[Operator Instructions] There are no further questions on the line. So I'll hand back to Anders for the closing comments.

[Anders Lidbeck, President & CEO]

Okay. So thank you for that. Thank you for listening and hope to talk to you soon again. Thank you, and goodbye.