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Executives

T. Kendall Hunt - Chairman, Founder and Chief Executive Officer

Jan Valcke - President and Chief Operating Officer

Cliff Bown - Executive Vice President and Chief Financial Officer

Analysts

Joe Maxa - Dougherty & Company

Scott Zeller - Needham & Company

Jeff Andry - Wunderlich Securities

Fred Ziegel - Topeka Capital Markets

VASCO Data Security International, Inc. (VDSI) Q4 2012 Earnings Conference Call February 21, 2013 10:00 AM ET

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the VASCO Data Security International, Inc. Q4 and 2012 Earnings Conference Call. During the presentation, all participants will be in a listen-only mode. Afterwards, we will conduct a question-and-answer session. (Operator Instructions)

I would now like to turn the conference over to T. Kendall Hunt, Chairman, Founder and CEO. Please go ahead, sir.

T. Kendall Hunt - Chairman, Founder and Chief Executive Officer

Thank you, operator. Good morning everyone, for those listening in from Europe, good afternoon, and from Asia, good evening. My name is Ken Hunt and I am the Chairman, Founder and CEO of VASCO Data Security International, Inc. On the call with me today are Jan Valcke, our President and Chief Operating Officer; and Cliff Bown, our EVP and Chief Financial Officer.

Before we begin the conference call, I need to brief all of you on forward-looking statements. Statements made in this conference call that relate to future plans, events or performances are forward-looking statements. Any statement containing words such as believes, anticipates, plans, expects, and similar words is forward-looking and these statements involve risks and uncertainties and are based on current expectations. Consequently, actual results could differ materially from the expectations expressed in these forward-looking statements. I direct your attention to the company’s filings with the U.S. Securities and Exchange Commission for a discussion of such risks and uncertainties in this regard.

Today, we are going to review the results for fourth quarter and full year 2012. As always, we will host a question-and-answer session after the conclusion of management’s prepared remarks. If possible, I’d like you to budget one hour a total for this conference call. If you limit your questions to one or two, it would be appreciated.

Our revenue from continuing operations for the fourth quarter and full year 2012 was $38.8 million and $154 million respectively, a decrease of 20% compared to the fourth quarter of 2011 and a decrease of 8% compared to full year of 2011. Although our revenues were down by 8% in 2012, please consider that we had a very strong performance in 2011 with 56% revenue growth over 2010. I think a more rational way to look at this is to consider the compound annual growth rate and revenue from 2009, the low point of the recent recession through 2012 which has been almost 15%.

Overall, I believe our business is healthy. For example, order intake for 2012 was approximately 20% higher than 2011 and the best in our company’s history. Our backlog as of 12/31/2012 was also up approximately 36% when compared to the year earlier period. Further, Q4, 2012 was another profitable quarter, our 40th consecutive positive quarter in terms of operating income.

Our gross profit for the quarter was approximately 63% of revenue and 65% for the full year 2012. Our operating income from continuing operations was approximately 9% of revenue for the quarter and 14% for the year. At December 31, 2012, our net cash balance was $106.5 million. We had $129.5 million in working capital. The strong cash position and strong balance sheet is an important tool to support VASCO’s future growth. VASCO’s existing traditional on-premise business will serve as a stable base for our future growth.

We expect steady growth for this business in the future. As a reminder, our traditional business consists of banking, enterprise security, and application security that is installed and managed by our customers on their premises. With cloud-based computing becoming more popular and acceptable, many companies are moving their applications into the cloud or are using applications hosted by third-party application providers in the cloud. Examples of such applications includes sales forecasting and reporting, workforce management and human resources, 401(k) and IRA payroll, insurance, financial data and analysis, and many other applications which support employees of enterprises and other organizations. But the biggest opportunity we believe are the consumers who access internet websites to do their banking, who play online games known as massively multiplayer online games, those who find entertainment and testing their skills by gambling with adversaries from around the world, those who purchase myriad of products and services online and many other examples too numerous to mention.

In April 2012, VASCO introduced its cloud-based security services platform MYDIGIPASS.COM. This platform is directed towards the consumer. Please understand that it is a work in progress. Since its introduction we have continued to develop and improve its features and functions. A consumer portal such as MYDIGIPASS.COM needs to be very accessible and user friendly. As a security company, we want our offerings to have a good balance between security and ease of use. For that reason, we have encouraged feedback from ASPs or Applications Service Providers and end users of MYDIGIPASS.COM.

This has already resulted in close to 30 different improvements in our MYDIGIPASS.COM portal. These changes include localization of the content to German, French, Dutch and Italian. If you want to do business with the consumers, you have to address them in their mother tongue, a new and improved consumer friendly layout. The development and release of plug-ins for the world’s leading website builders such as Magento, Drupal, WordPress, QR code scanning to the logon page, authentication clients supporting Apple and Android, geolocation capabilities that will recognize where the user is signing on from and adjust accordingly. And last the introduction of a launch pad and marketplace in order to allow consumers to have all their favorite sites at a glance.

On March 1st, we will introduce our next release of MYDIGIPASS.COM. We believe it will be even more attractive to the consumers and those who reserve them, Jan Valcke will tell you more about that. We believe that MYDIGIPASS.COM can be a global success and we are particularly optimistic about the American market. For this reason we are hiring a services focused sales team based in the West Coast of the United States.

If you wish to take a closer look at MYDIGIPASS.COM or want to speak to us in person please give us a call. You’ll find the contact information for our various offices on our website. We also invite you to attend the Investor Summit that we’re hosting in New York City on March the 12th. More information about this event can be found in the Investors section of VASCO’s website. We believe that our services business will be an important growth engine for VASCO. Together with our traditional business we are well positioned to be successful in the ever changing online security landscape.

At this time, I’d like to introduce Jan Valcke, VASCO’s President and Chief Operating Officer.

Jan Valcke - President and Chief Operating Officer

Thank you, Ken. Ladies and gentlemen, we believe that 2012 was a respectable year in which we achieved quite a lot we introduced MYDIGIPASS.COM, our consumer security service platform. We also announced important new partnerships, new products, received industry recognitioning and delivered our strongest performance in terms of order intake in the history of our company. For 2013, we expect a year of steady growth in our traditional business. We think the fact that our order intake in 2012 was the strongest in our company history supports that belief.

We also expect the first meaningful revenue for MYDIGIPASS.COM in 2013. For the near-term we expect the financial industry will remain the largest contributor to our revenue, while enterprise and application security will contribute to our gross margin. For our traditional business as for our new service businesses, our make or buy strategy stays intact. That strategy will allow us to choose whether we will build a technology or so or acquire a company that specializes in that technology.

After 40 consecutive quarters of positive operating income we have built a strong cash position that will allow us to keep investing in VASCO’s future success. During 2012, we began fine tuning over MYDIGIPASS.COM portal. Earlier Ken mentioned some of the changes and improvements announced for the system in 2012. The current MYDIGIPASS.COM portal is already perceived as an innovative product for the European market as illustrated by recent recognitioning by the European Seal of e-Excellence in the both category. We’ll keep improving and strengthening our platform. On March 1st, the next group of improvements will go live. This will include an easier activation process for end users and attractive layout as well as capabilities to store passwords. We will tell you more about this early March.

All the new features of MYDIGIPASS.COM will be available for our scrutiny at the Investor Summit in New York on March the 12th. MYDIGIPASS.COM launch pad is a consumer easy and secured gate to the Internet. It will also become the preferred way of communicating with consumer for VASCO, ASPs, and banks. In the near future, it will be possible to offer end users predefined launch pads based on their country, bank, employer, Internet preferences and many more.

By the way, we do have an internal target with regard to the number of end users we want to activate on MYDIGIPASS.COM platform in 2013. However, at this time, we choose not to disclose it publicly. We will choose to achieve this internal target. We will follow a three-pronged approach. One important target of MYDIGIPASS.COM is our customer portfolio of over 1,700 financial institutions. Several large banks have already joined VASCO’s DIGIPASS PLUS program.

DIGIPASS PLUS means that a second DIGIPASS profile is embedded within the banks hardware or software authentication client devices. The first DIGIPASS profile is used for securing banking transactions. The second one can be used for third-party applications available on MYDIGIPASS.COM platform. The benefits for the banks are two-fold. First, they deliver an extra service to their accountholders bringing banking levels security to their customer’s public sites.

Secondly, they create an additional revenue stream for every commercial transaction executed by their customers on MYDIGIPASS.COM secured sites VASCO receives a fee. The bank that joints the DIGIPASS PLUS approach will receive 20% of that fee as a commission. A second important target of MYDIGIPASS.COM or ASPs and the website owners, we have increased our actions towards ASPs via a dedicated MYDIGIPASS.COM sales team. A third important target of MYDIGIPASS.COM are consumers. We are currently developing numerous marketing actions that will push consumers towards MYDIGIPASS.COM. We will be able to tell you more about this in short-term. Thank you.

T. Kendall Hunt - Chairman, Founder and Chief Executive Officer

Thank you, Jan. At this time, I’d like to introduce Cliff Bown, VASCO’s EVP and Chief Financial Officer. Cliff?

Cliff Bown - Executive Vice President and Chief Financial Officer

Thanks, Ken and welcome to everyone on the call. As noted earlier by Ken, revenues for the fourth quarter of 2012 were $38.8 million, a decrease of 20% from the fourth quarter of 2011. For the full year, revenues were $154 million, a decrease of 8% from the comparable period in 2011. The decrease in revenue for the fourth quarter of 2012 compared to 2011 reflected a 17% decrease in revenues from the banking market and a 31% decrease in revenues from the enterprise and application security market.

The decrease in revenues for the full year 2012 compared to 2011 reflected a 9% decrease from the banking market and a 6% decrease from the enterprise and application security market. It should also be noted that the comparison of revenues was negatively impacted by the stronger U.S. dollar versus the euro for both the fourth quarter and full year 2012. We estimate the revenues in the fourth quarter and full year 2012 were approximately $0.6 million and $4.0 million lower respectively than they would have been had the exchange rates in 2012 been the same as in 2011.

For the fourth quarter of 2012, approximately 81% of our revenues came from the banking market compared to 78% in the fourth quarter of 2011. And for both the full year 2012 and 2011 approximately 81% of our revenues came from the banking market. Our revenues for the fourth quarter and full year 2012 continue to come predominantly from outside the United States. The geographic distribution of our revenue in the full year 2012 was approximately 62% from Europe, Middle East and Africa, 21% from Asia, 7% from United States and the remaining 10% from other countries. For the full year 2011 66% of our revenue came from Europe, Middle East and Africa, 9% from Asia, 10% from the U.S. and the remaining 15% from other countries.

Gross profit as a percentage of revenue for the fourth quarter and full year 2012 was approximately 63% and 65% respectively. In 2011, gross profit as a percentage of revenue for the fourth quarter and full year was approximately 66% and 64% respectively. Reduction in gross margin as a percentage of revenue for the fourth quarter primarily reflected an unfavorable mix of product sold with revenues from the banking market increasing from 78% to 81% of our total revenue. A decline in the gross margin from hardware products sold in the banking market due in part to an increase in card readers as a percentage of total sales. And a decline in gross margin related to changes in currency exchange rates, which were partially offset by an increase in non-hardware revenue as a percentage of total revenues and a reduction in adjustments to inventory. The increase in gross margin as a percentage of revenue for the full year primarily reflected an increase in non-hardware revenues as percentage of total revenues. A reduction in card readers as a percentage of our total revenues and lower non-product costs such as freight and customization cost which were partially offset by a decline in gross margins related to the changes in currency exchange rates and an increase in adjustments to inventory.

Card readers as a percentage of total revenue continue to fluctuate based on specific mix of deals in any given period. For the fourth quarter card readers as a percentage of our total revenues increased from approximately 13% of revenue in 2011 to 19% of revenue in 2012. For the full year card readers as a percentage of total revenue decreased from 19% of total revenue in 2011 to 14% revenue in 2012. Overall, non-hardware revenue which includes software maintenance and software based client devices improved for both the fourth quarter and full year 2012 compared to the same period in 2011. Non-hardware revenue was approximately 27% and 24% of total revenue for the fourth quarter and full year 2012 respectively compared to 19% and 21% of revenue for the fourth quarter and full year of 2011 respectively.

As previously noted the strengthening of the U.S. dollar versus the euro reduced revenue and gross margins by approximately $0.6 million and $4.0 million for the fourth quarter and full year 2012 respectively. The impact of the changes in currency rates resulted in a decrease of gross margin as percentage of revenue of approximately 0.6 percentage points in the fourth quarter and 0.9 percentage points for the full year 2012. We continue to monitor our inventory levels and write-down various items based on our evaluation of quantities on hand in relation to our estimates of future demands for that inventory.

For the fourth quarter and full year 2012, we wrote inventory down by $1 million and $2.0 million respectively. For the fourth quarter and full year 2011, we wrote down inventory by $1.3 million and $1.6 million respectively. Going forward, we believe that similar adjustments may be needed as it reflects the risk associated with recurring processes where in we’re making estimates on future demand and buying inventory to meet that demand on a recurring basis.

Operating expenses for the fourth quarter of 2012 were $20.8 million a decrease of $2.1 million or 9% from the fourth quarter of 2011. Operating expenses for the full year 2012 were $78.5 million a decrease of $4.8 million or 6% from the same period in 2011. The comparison of operating expenses in the fourth quarter and full year 2012 to the same period in 2011 was positively impacted by the stronger U.S dollar versus the euro and other currencies. We estimate that expenses were $0.8 million lower in the fourth quarter and $4.6 million lower for the full year than they would have been had the exchange rates in 2012 been the same as in 2011. The comparison of expenses for the periods was also affected by adjustments made to compensation expenses related to performance based incentive plans. Stock-based incentive plan cost, that were included in operating expenses in the fourth quarter and full year of 2012 were $1.0 million and $3.7 million respectively. For 2011, operating expenses in the fourth quarter and full year included $3.9 million and $6.1 million respectively of stock-based incentive plan expense.

Stock-based incentive cost for the full year 2012 reflected a benefit of $0.4 million related to the reversal of accruals for stock-based incentives in the third quarter of 2012, where management determined it was improbable that the performance objectives would be met. Stock-based incentives in the fourth quarter and full year 2011 included approximately $2.5 million of incremental expense related to long-term performance based incentives originally awarded in 2009 where the performance objectives were met as a result of the stronger than expected performance of the company in the fourth quarter of 2011.

For the fourth quarter of 2012, operating expenses decreased by $1.1 million or 10% in sales and marketing decreased $0.4 million or 7% in the research and development and decreased by $0.6 million or 9% in the general and administrative when compared to the fourth quarter of 2011. Our average total headcount in the fourth quarter of 2012 was 13 persons or 3% higher than the average headcount in the fourth quarter of 2011. The increase in average headcount included an increase of four person in sales and marketing and operations groups and an increase of eight persons in research and development and one person in general and administrative.

For the full year 2012, operating expenses decreased by $2.5 million or 6% in sales and marketing increased by $0.2 million or 1% in research and development and decreased by $2.4 million or 11% in general and administrative when compared to 2011. Our average total headcount for the full year 2012 was 12 persons or 3% higher than the average headcount for full year 2011. Our average headcount for the full year 2012 was one person lower in sales marketing and operations, and 13 persons or 10% higher in R&D there was no change in the average number of general and administrative staff.

Operating income for the fourth quarter of 2012 was $3.5 million a decrease of $5.5 million or 61% from $9.1 million in the fourth quarter of 2011. For the full year 2012, operating income was $21 million a decrease of $3.7 million or 15% from $24.8 million in 2011. Operating income as a percentage of revenue or operating margin was 9% and 14% for the fourth quarter and full year of 2012 respectively. In 2011, our operating margins were 19% for the quarter and 15% for the full year. The company reported income tax expense of $1.5 million in the fourth quarter and $5.5 million for the full year 2012.

The effective tax rate was 41% and 25% in the fourth quarter and full year 2012 respectively. The effective tax rate in the fourth quarter reflects the fact that we increased the full year tax rate, which had been estimated to be 22% in the third quarter to the actual rate for the full year of 25%. For 2011, the company reported an income tax benefit of $1.9 million for the fourth quarter and income tax expense of $1.6 million for the full year 2012. The effective tax rate was negative for the fourth quarter and was 6% for the full year of 2011. Tax expense in the fourth quarter 2012 included a net benefit of $3.9 million related to the reduction and reserves that had been established in prior years related to the use of tax loss carry forwards.

As a result of the strong performance in 2011 especially in the Americas, the management believes that it is more likely than not that we will use the remaining tax loss carry forwards in future periods. Excluding the benefits of the reduction in reserves, our effective tax rate for the full year 2011 would have been approximately 21%. The makeup of our workforce as of December 31, 2012 was 374 people worldwide was 173 in sales, marketing and customer support, 144 in research and development, and 57 in general and administrative. As noted previously, the average headcount for the full year 2012 was 12 persons or 3% higher than the average headcount for the full year 2011.

Our cash and working capital balance continued to strengthen in 2012. As of December 31, 2012, our net cash balance was $106.5 million, an increase of $22 million or 26% from $84.4 million at December 31, 2011. As of December 31, 2012, our working capital balance was $129.5 million, an increase of $20.9 million or 19% from $108.6 million at December 31, 2011. The increase in working capital is largely attributable to our strong operating cash flow. Our earnings before interest taxes, depreciation and amortization, EBITDA or operating cash flow, if you will, was $25.1 million for the full year 2012, a decrease of $4 million or 14% from full year 2011. We had no debt outstanding during the year.

Thank you for your attention. I’d now like to turn the meeting back to Ken.

T. Kendall Hunt - Chairman, Founder and Chief Executive Officer

Thank you, Cliff. In closing, I would like to comment on our guidance for 2013. Given the evolving state of our services business, we are only providing guidance for our traditional business. We believe that our revenue for full year 2013 will be in a range of $162 million to $167 million, and we expect that our operating income, excluding amortization of acquisition-related intangible assets will be in the range of 12% to 14% of revenue. This concludes our presentations today and we will now open the call for questions. As I mentioned earlier as a courtesy to others on the call, I would appreciate it if you would limit your questions to an initial question plus a follow-up. If you have additional questions, please get back into the queue. Operator?

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) And the first question comes from the line of Joe Maxa with Dougherty & Company. Please proceed.

Joe Maxa - Dougherty & Company

Thank you. Good morning.

T. Kendall Hunt

Good morning, Joe.

Joe Maxa - Dougherty & Company

Ken, I wanted to ask a little bit more on the guidance. I understand you are excluding the services business, but also I think I heard Jan correctly indicating you expect a meaningful revenue this year. So, help me connect the dots, I mean, what does that mean?

T. Kendall Hunt

Well, I guess the best way to describe it is the actions we are taking are starting to generate interest. We are getting ASPs to sign on to the portal. They are going to our developer website. They are downloading the tools, they sign up to do that. And then they go into test and then they go into live actually where they have installed a VASCO button, that’s the best way to describe it a VASCO button that’s on their sign on or login page. Our job from there is in partnership with that ASP and you can just think of all kinds of different applications that are hosted by these application service providers. Sometimes its online books, sometimes its things that people can buy sporting goods things like that, and they realize that they need stronger authentication. So, this is a very simple way to do it. So, once they install the button, they, with VASCO in partnership, they alert all their users that there is this secure access to the website. And if they go to the button and click on it, they can actually establish their own MYDIGIPASS.COM account for launching or access to the internet in general. So, we don’t really have a great handle on what the conversion is going to be for the rest of the year, we’d like to reserve that until we see a better pattern.

Joe Maxa - Dougherty & Company

I see. And as far as the -- how that system would turn into revenue for you, do you expect to see some upfront fees or would this be more of a again the license model?

T. Kendall Hunt

It’s a license model. They would buy a certain number of clicks. It’s almost like an SMS, text message arrangement with big companies. So, depending upon how many users they have they will secure or commit to a certain number of clicks and as they consume those clicks and a click is really accessing their website from the users account. And as they consume those clicks then we can record the revenue.

Joe Maxa - Dougherty & Company

I see, okay that’s helpful. Thank you.

T. Kendall Hunt

You’re welcome.

Operator

Thank you. And the next question comes from the line of Scott Zeller with Needham & Company. Please proceed.

T. Kendall Hunt

Hi, Scott.

Scott Zeller - Needham & Company

Hi, good morning. Wanted to ask about the mix, I mean you are very good always about offering color as to hardware versus software. But I did note that I think Cliff mentioned 27% of revenue in the quarter was non-hardware, is that correct?

T. Kendall Hunt

That’s correct.

Scott Zeller - Needham & Company

And I wanted to see with gross margins still seeing pressure, but yet software increasing as a percentage of revenue, is that increase in software and the benefit from it being offset by the increase in card readers in the mix. How would we explain the continued pressure in gross margin?

T. Kendall Hunt

Pressure, well there are so many factors that go into the gross margins Scott, it’s hard to put your finger on one. If I were to summarize it in terms of that particular quarter, the non-hardware revenue certainly improved our margins. Currency rates and the $4 million that we lost in revenue because of currency rates had a substantial depressive effect. And then there were other pressures associated with competition, the mix of the specific deals within the quarter that also go into that computation. But the two primary factors for the fourth quarter or for the full year really were the increase in non-hardware, the reduction from exchange. And for the full the year the third factor was the lower transport costs, you may recall in the first half of 2011 with the high volumes that we were getting, we were expediting a lot of the products to the customers, air freight and otherwise. For the full year, that was a benefit, for the quarter it was not.

Scott Zeller - Needham & Company

Okay. And then to follow up, I believe I heard backlog as of the end of the year was up 36% versus end of your calendar ‘11 is that correct and could you tell us the actual numbers?

T. Kendall Hunt

That is correct Scott.

Scott Zeller - Needham & Company

And the actual numbers, do you disclose that?

T. Kendall Hunt

We will be presenting the numbers in our 10-K as we do every year, so.

Scott Zeller - Needham & Company

Thank you.

T. Kendall Hunt

Yeah. And really Scott you can compute it from the numbers. I believe we had $33 million in last year.

Cliff Bown

Good.

T. Kendall Hunt

Yes.

Operator

Thank you. The next question comes from the line of Brian Freed with Wunderlich Securities. Please proceed.

T. Kendall Hunt

Hi, Brian.

Jeff Andry - Wunderlich Securities

Hey, guys. Hey this is Jeff in for Brian. Thanks for taking the question.

T. Kendall Hunt

Oh, hi, Jeff.

Jeff Andry - Wunderlich Securities

Can you provide any color into the linearity of revenue you expect next year, obviously particularly in March? And then relatedly do you have any update on some of these improved forecasting mechanisms you talked about implementing last quarter? Thank you.

T. Kendall Hunt

Yeah, in terms of linearity I think we’ve been consistent in describing that our business is somewhat seasonal. And so if you look at a year unless there is something extraordinary, like we had in 2011 with several big banks coming back to the table and ordering huge amounts of products from VASCO. Historically, second quarter is a strong quarter and then the third quarter is down somewhat because people take their vacations particularly in Europe. And then the fourth quarter is very, very strong. And then the first quarter as we enter the year is somewhat weak or down again because people have spent a lot of their budget in the fourth quarter and we have Chinese New Year in China. And so large number of people take their vacations, two weeks sometimes that overlaps to 30 days or lot of the workers aren’t at the factories to be producing the products that we need going forward so, we’re – we’ve been doing business manufacturing in China for quite sometime. So, were pretty adept at anticipating what our requirements are going to be and pre-manufacture before the holidays take place, but just generally speaking that’s what our year looks like strong second quarter down third quarter because of holidays, strong fourth quarter and down first quarter so, what was the second question?

Jeff Andry - Wunderlich Securities

Forecasting.

T. Kendall Hunt

Forecasting, yeah, I think that what we’ve done and I’m involved in this personally, what we’ve done is we’ve got a lot of transactions that we track and so, what I’m interested in and Jan Valcke and I look on a regular basis both how the MYDIGIPASS.COM business is evolving plus the traditional business. We look on a weekly basis at the larger transactions, the $100,000 or greater transactions and then we track them. And we have very specific conservations about everyone of those transitions and it’s improving our visibility right up to the top and so, that’s basically what we’ve been doing.

Jeff Andry - Wunderlich Securities

That’s very helpful. Thank you.

T. Kendall Hunt

You’re welcome.

Operator

Thank you. And the next question comes from the line of Fred Ziegel with Topeka Capital Markets. Please proceed.

T. Kendall Hunt

Hi, Fred.

Fred Ziegel - Topeka Capital Markets

Hi, guys. The – if I did my math right for the year, the application and enterprise security business was down a little bit, what’s going on there?

T. Kendall Hunt

Yeah. Jan, you should handle this. It’s mainly Fred and everybody else. It’s mainly that we went through a direct touch or direct sale model and we’re – we still have a channel of indirect partners that sell for us. But we felt that we needed to change for the larger transactions to more of a direct sale approach and to be honest with you, that the – it wasn’t that successful. We’ve made some changes and Jan, why don’t you comment about that.

Jan Valcke

Yes, well. First of all, well, like Ken mentioned we are changing our model from an indirect channel to more a direct touch. Direct touch means that we go directly to the end user to the customers, but that the business is done at the end through the channel. Secondly, that means that we need to change our sales force. We still have sales people who are only doing the channel, but more and more we added people in that direct touch scheme who is going directly to this end user. That will take us some time. We needed to train them. There was a little bit delay in the hiring process and thirdly also as we made a – that’s mainly the reason of the decrease as we mainly made last year or in 2011 a large transaction to a government agency and this government agency ordered less this year.

Fred Ziegel - Topeka Capital Markets

So, are you reassigning sales people because if I look at your headcount sales and marketing that number hasn’t changed all year so, or are those hiring in front of us?

Jan Valcke

Yeah well, that there are replacements that have been made in 2012 so, even if the total number has not changed so much, we need to do some replacements from indirect sales people to direct touch people. The second thing that how you mentioned in this earnings call is we are also in the phase of hiring for the MYDIGIPASS.COM business.

T. Kendall Hunt

Fred and everybody else I’d also like to mentioned that the channel is still a very important partnership for us. We through that – through the channel which we have located partners throughout the world they’re able to represent VASCO and present our products to smaller businesses and organizations and territories where we may not have the best our biggest presence. We also believe that these resellers can sell and represent us for MYDIGIPASS.COM and so we are just adjusting that’s how we’re doing.

Fred Ziegel - Topeka Capital Markets

So is there more of a focus on larger deals because my impression has always been that you went through the channel just given the price points in what essentially a booking ship business?

T. Kendall Hunt

Yes I think we feel much more competitive than we were several years ago as an example. We have a platform that is very competitive, very robust. It’s called IDENTIKEY Server. In fact we won an award I think it was from SC Magazine for it as a product compared to others in the market. We received five stars in about six different categories for that server. And so we’ve got something it’s very robust, its scales and its supports all our products and it’s that that our own sales people are direct sales, direct touch or sales people are representing to the larger companies. And we’re doing better and better in larger organizations and particularly in competitive situations.

Fred Ziegel - Topeka Capital Markets

Okay, thanks.

T. Kendall Hunt

Welcome.

Operator

Thank you. And we have a follow-up question from the line of Joe Maxa with Dougherty & Company. Please proceed.

Joe Maxa - Dougherty & Company

Hi, thanks. You note a deal with - Belfius with Belgian eID cards during the quarter and they were going to roll these out in the third quarter. Looks like it could be a larger deal how should we think about that as far as timing 2Q versus 3Q and then the margin impact with those would appear to be card readers?

T. Kendall Hunt

Yeah, Jan why don’t you first describe the transactions it’s a combination of a government ID that all the Belgian citizens hold in combination with Belfius Bank. Why don’t you describe that I think that arrangement we anticipate we can replicate in other countries?

Jan Valcke

So first of all there is a trend in the market and a trend in certain countries in the market that regulators are asking to banks to review their security and to add high level security, certainly when it comes to transaction with customers. In this particular case of Belfius, Belfius wanted to have a product at DIGIPASS that can access, that can have access with two cards, the first one being the EMV, the traditional bank card, the second one, a eID card. Now, in Belgium, all citizens have a eID card, this eID card is a PKI card that has two application on it. The first one is user authentication, and the second one is digital signing. Digital signing means really that can be used to secure contracts and that if these contracts are legal binding signatures. So in that case Belfius well deploys to all their customers readers with these two slots I should say one being the bank card, one being the eID card.

Now what is important there for VASCO is that this is really a perfect example of a new way of looking DIGIPASS PLUS the PLUS is here that the EMV card can be used for the traditional banking business, the eID as such it is PKI and PKI as such is not an application. And we can activate on our MYDIGIPASS.COM platform with this eID. That means not only we can use that for security transactions but we can also use that to verify and identity and that is quite important for some applications. And government like in Belgium but also in many other countries, they are doing a lot of applications with their citizens. We are not talking here of couple of them, we’re talking really of hundreds of them like in Belgium but also in a lot of other countries 500, 600, 700, 800 may be a 1,000 applications are available for citizens with our platform MYDIGIPASS.COM we well armed to play an important role in that.

T. Kendall Hunt

Jan, why don’t you give the audience and example of a couple or several applications that you just mentioned?

Jan Valcke

Yes government applications the most known one is what is called tax-on-web, tax-on-web is online you introduce your taxes. Why does a consumer do that instead of on paper first of all because the consumer or the taxes give some more time to the consumer to do fill in and it’s online and a lot of things are going online. You can ask for your pension online. You can if one of another application is student that work, if a student wants to work in Belgium they need to first ask for a Social Security number. That Social Security number with eID can be asked online. And so it’s all online. It make the life of the citizen easier. What is important for the government is if you only do tax on web, you only use that once a year, but if you have hundreds of applications, you will use that technology multiple times by month for all your business with the governments.

Joe Maxa - Dougherty & Company

Got it. Thanks. Thanks, Jan.

Operator

Thank you. We have no further questions at this time. I will turn the call now back to you Mr. Hunt.

T. Kendall Hunt - Chairman, Founder and Chief Executive Officer

Alright, thank you operator. Well, as always, thank you for attending today. We appreciate the opportunity to present our company always. And as usual, I want to thank VASCO people around the world for your hard work and your dedication. Everybody have a very nice stay. Good bye.

Operator

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.

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