Brian T. Crowley - President and Chief Executive Officer
Scott C. Mahan - Senior Vice President, Operations and Chief Financial Officer
BSQUARE Corp. (BSQR) Q2 2013 Earnings Conference Call August 13, 2013 5:00 PM ET
Good day, ladies and gentlemen, and thank you for standing by. Welcome to the BSQUARE Corporation 2013 Second Quarter Earnings Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator instructions) This conference is being recorded today, Tuesday, August 13th of 2013. I would now like to turn the conference over to Mr. Scott Mahan, BSQUARE's Chief Financial Officer. Please go ahead, sir.
Scott C. Mahan
Good afternoon, everyone. Before I begin, let me remind you that this call is being broadcast over the Internet and that a recording of the call and the text of our prepared remarks will be available on our website.
During this call, we will be making forward-looking statements. These statements are based on current expectations and assumptions that are subject to risks and uncertainties that could cause actual results to differ materially. Please refer to the cautionary text regarding forward-looking statements contained in our earnings release issued today and in the posted version of these prepared remarks, both of which apply to the content of this call.
All per share amounts discussed today are fully diluted numbers where applicable. We provided color in our earnings release on significant year-over-year trends and therefore the focus today will be on quarter-over-quarter trends. With that said, let me recap our results.
We reported total revenue in this quarter of $21.8 million, up 4% quarter-over-quarter from $20.9 million. The growth was driven by anticipated increases in service and third-party software revenue, offset by a shortfall in proprietary software revenue. Total revenue for the six months was $42.7 million, down 15%.
Third-party software sales were $16.3 million this quarter, up 5% quarter-over-quarter from $15.5 million. The growth was driven by higher sales of Microsoft Embedded operating systems across all customer segments, offset partially by a decline in Window Mobile sales. Total third-party software sales for the six months were $31.7 million, down 7%.
Proprietary software revenue was $597,000 this quarter, down 40% quarter-over-quarter from $1.0 million. The decrease was driven by a decline TI OMAP revenue as the first quarter included significant royalties from one customer which did not reoccur in Q2. Proprietary software revenue for the six months was $1.6 million, down 16%.
Service revenue was $5.0 million this quarter, up 14% quarter-over-quarter from $4.4 million. The increase was the result of improvement in all major geos. The MyFord Touch program accounted for $1.3 million in service revenue this quarter, $1.7 million in the year-ago quarter, and $1.3 million in Q1. Service revenue for the six months was $9.3 million, down 33%.
Turning to gross profit, overall gross profit was $3.8 million this quarter, or 17% of total revenue, compared to $3.3 million, or 16% of revenue in Q1. The increase in total gross profit and gross margin resulted from higher service revenue. Total gross profit for the six months was $7.1 million, down 22%.
Third-party software gross margin was 16% this quarter and in Q1. Proprietary software gross margin was 63% this quarter and 83% in Q1. The quarter-over-quarter decrease was driven by the revenue decline compared to a relatively fixed cost of sales base. Service gross margin was 18% this quarter and 0% in Q1. The quarter-over-quarter increase was primarily driven by a 12 percentage point improvement in utilization.
Moving down the P&L, total OpEx was $4.6 million this quarter, up 7% quarter-over-quarter from $4.3 million. The increase was primarily driven by sales and marketing, a portion of which related to our worldwide sales conference. We mentioned on last quarter’s call that we expected a sequential increase in this area. Total OpEx was $8.9 million for the six months, down 9%.
Now, I’ll speak to our bottom line results, we reported a net loss for the quarter of $805,000, or $0.07 per share, compared to a net loss of $862,000, or $0.08 a share, in Q1. We reported a net loss for the six months of $1.7 million, or $0.15 per share, compared to a net loss of $390,000, or $0.04 per share, in the year-ago period.
We generated negative adjusted EBITDAS of $337,000 this quarter, compared to negative adjusted EBITDAS of $485,000 in Q1. We generated negative adjusted EBITDAS of $822,000 for the six months compared to positive adjusted EBITDAS of $828,000 in the year-ago period.
Cash and investments increased $680,000 to $21.0 million at quarter-end from March 31, $875,000 of which is classified as long-term. CapEx ran $49,000 for the six months. We currently anticipate FY '13 CapEx to come in well south of the $550,000 estimate provided on our Q4 call, although Q3 is expected to increase.
Headcount, including contractors, is currently 259 compared to 247 as of the date of our last call. Engineering services headcount is currently 159, up from 152. Now, I would like to turn the call over to Brian Crowley, BSQUARE’s Chief Executive Officer.
Brian T. Crowley
Thanks Scott. First I will discuss Q2 results and then will update progress on our turnaround and our initiatives. Starting with our third-party software sales results, when comparing the first two quarters of 2013 with the first two quarters of 2012, our third-party revenue was down by a little over $2.3 million. The primary driver for this decline was Windows Mobile revenue down by almost $3.6 million as compared with the same two quarters of 2012.
The decline in Windows Mobile is a result of the loss of our Windows Mobile distribution contract in Korea, which made up approximately $1.7 million of the loss, coupled with the more general long-term decline in demand for Windows Mobile as some OEMs switched to more modern operating systems for their devices.
Our third-party team has been working on several initiatives to offset the Windows Mobile sales decline including sales expansion in Europe, efforts with Future Electronics and our System Builder initiative with Intel. These efforts have led to steady growth in sales of Windows Embedded software, which grew from $44 million in 2011 to $49 million in 2012, and we expect this growth to continue in 2013. For the third quarter, we currently expect that our total third-party revenue will increase sequentially. We have discussed in the past our efforts to improve service results.
Comparing the first half of 2013 to the first half of2012, our service revenue has declined by almost $4.7 million. The drivers of this decline include the expected decline of the Microsoft/Ford Sync program as work on the Generation 2 product continues to wind down, a lull in the work we are performing for a large Japanese automotive supplier that we don’t expect to pick back up until later this year, and two large Android-based industrial handheld programs that wrapped up in the middle of 2012. These declines were somewhat offset with new work we have won at Coke and Intel, work on a new Android-based smartphone program and a new Android-based industrial handheld program.
We’ve talked in the past of our Windows Embedded Handheld 8 efforts. To review, Windows Embedded Handheld 8 is the successor to Windows Mobile which for many years has been the operating system of choice for OEMs building industrial and ruggedized handheld devices. Windows Mobile is built on old technology and has not been updated by Microsoft for several years, making it difficult for OEMs to build devices using the latest technologies while sticking with this operating system.
Some OEMs have tried building devices on other operating systems, such as Windows CE or Android, with mixed success. The industrial and rugged handheld market has been very important for BSQUARE over the years, and we have won many millions of license, service and products revenue. Therefore, we were quite pleased when Microsoft finally announced Windows Embedded Handheld 8 as the successor to Windows Mobile and named BSQUARE as Microsoft’s prime systems integrator for this program. We trained engineers on the new operating system and expected the initial wave of OEMs to begin development of new products in the first quarter, expecting that this would lead to increased service revenue and staff utilization for BSQUARE.
Unfortunately, Microsoft delayed the release of Windows Embedded Handheld 8 development kits until later this year, and in turn this has caused OEMs to delay their projects. We feel that once this program is rolling, we should be winning more than $5 million per year in service revenue. We see some improvement in the situation. During Q2, we started work for an OEM developing a Windows Embedded Handheld 8 device and expect to start another program in late Q3 or Q4.
Our product revenue was below our expectations and this was primarily as a result of not closing any large orders in the quarter. Our product pipeline contains multiple large opportunities, and if we are not able to close on any of these opportunities in a quarter, our quarterly revenue can be lumpy. The focus for the product team is continued development of our HTML5 Rendering Engine product, as I will discuss in a moment, and harvesting as much revenue from TestQuest as possible. Based on current forecasts, we expect our product revenue to improve in Q3.
Now let me give you an update on a few of our other initiatives. Our work to retool our sales force is complete at this time. As we mentioned in the today’s release, between January and June, we have almost completely turned over and upgraded our North America Solutions sales force and have also replaced sales personnel in China and Germany. We made these changes because sales productivity was not up to our expectations. The new sales personnel we hired have all come with experience from companies that serve our industry, such as Symphony-Teleca and Wind River. It normally takes as much as nine months for a new sales person to become fully productive, but by hiring experienced personnel who are familiar with our industry we hope to shorten that ramp time.
As I have discussed in the past, our HTML5 initiative is designed to build core technology that we can apply to vertical markets such as industrial, retail and automotive markets that we successfully serve. Customers can use our product to build rich user experiences for their devices using the HTML5 standard. We see much interest in HTML5 development across our customer base and based on our market research, we believe that there are thousands of embedded project starts each year that are potential customers for HTML5 products and services and that this product line should ultimately be worth over $10 million in product and service revenue each year.
To date, our relatively modest HTML5 investment has driven well over $4.5 million in cumulative product and service revenue and we have a pipeline of over two dozen customers that we are working to close. The product team is working to advance our technology based on feedback from our customers, by improving performance and adding new functionality. Our HTML5 efforts are clearly a work in progress, but show good promise and we intend to continue our work on expanding the scope of our solution, possibly to encompass operating systems beyond Windows CE.
Our Application Development and Porting Service revenue grew again this quarter. By the end of the year, our goal is to have booked over $1 million of application porting revenue. You’ll remember that our service is designed to make it very efficient and easy for companies and developers to get their applications ported to Windows 8 and Windows Phone 8. We are focused on Android and iOS application ports, however we can port from other operating systems such as BlackBerry or Windows Mobile 6.5. We think that this service can grow into a multi-million dollar per year offering that enables not only application porting and delivery but is a bridge to customers who are interested in our longer term vision of offering products and services around connecting devices to the cloud.
Now to wrap up, I expect that Q3 revenue will be up sequentially in the $22 million to $24 million range. I expect all three of our revenue lines will grow as compared to Q2. With that, I wish to thank you for your interest in our Company and will now end the prepared portion of our call and ask the operator to open up the call for questions.
Thank you, sir. We will now begin the question-and-answer session. (Operator instructions) Mr. Crowley, I’m showing there are no questions at this time. Please continue.
Brian T. Crowley
Okay. Well, with that then we'll go ahead and end the call. Thanks so much for your attention this quarter and we will talk to you again next quarter. Operator?
Ladies and gentlemen, this concludes the BSQUARE Corporation 2013 second quarter earnings call. You may access the replay system at any time by dialling 1-877-870-5176 or 1-858-384-5517 and entering the access code of 4631390 Thank you for your participation and you may now disconnect.
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