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Executives

Barry Shaked – President, CEO & Chairman

Hugo Goldman – EVP & CFO

Analysts

Ziv Tal – Oscar Gruss

Eric Best [ph] – Best Holdings [ph]

Retalix Ltd. (RTLX) Q2 2008 Earnings Call Transcript August 20, 2008 9:00 AM ET

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Retalix Second Quarter 2008 Conference Call. Leading the call is Retalix Chairman and CEO Barry Shaked. Joining him is Hugo Goldman, the Company’s Chief Financial Officer.

Before I turn the call over to them, I would like to remind our listeners that management’s remarks contain forward-looking statements. These statements include comments regarding the guidance and expectations about revenues, net income, margins, expense and tax rate, the Company’s ability to improve cash flow and profitability and to cut expenses, expected benefits from investments in product development and penetration into new territories, expected costs from the depreciation of the U.S. dollar, anticipated demand for the Company’s software products, anticipated rate of growth, and management’s expectation as to the Company’s future financial performance.

Such forward-looking statements are subject to risks and uncertainties and therefore Retalix claims the protection for such statements contained in the Private Securities Litigation Reform Act of 1995.

Actual results may differ from those discussed today and we would like to refer to a more detailed discussion of all these risks and uncertainties contained in today press release and in the Company’s filings with the SEC and in particular on Form 20-F.

Also, I would like to remind you that Retalix reports its operating income, net income, and earnings per share on both a GAAP basis and on an adjusted non-GAAP basis. Today’s press release includes a reconciliation of non-GAAP information to the most directly comparable GAAP information and is posted in the Investors section of the Company’s website at www.retalix.com.

I will now turn the call over to CEO of Retalix Barry Shaked. Mr. Shaked, would you like to begin?

Barry Shaked

Thank you, Elisheva [ph]. Welcome to all of you and thank you for joining us on this call. I am very pleased to report yet another quarter of improved profitability and also a record quarter of revenue for Retalix.

Total revenue in the second quarter of 2008 reached $59.3 million. After reporting two quarters of GAAP net losses, we have today reported net income for the second quarter of $1.5 million and adjusted non-GAAP net income of $3.2 million compared to $0.6 million in the second quarter of one year ago. We are encouraged by the progress we are making with our turnaround plan. We believe we continue to build on these results. While we expect to keep expenses at the current level, we will focus on increasing revenues in the next quarter. This should improve our operating margins even further.

Before we discuss the financials, let me briefly touch on some of the highlights of our business and operations. During the second quarter PetroChina accomplished the go-live of 30 pilot sites in a variety of provinces using Retalix software. We are very proud of this milestone, which was achieved through great effort of many dedicated employees.

The efforts continues as PetroChina plans to deploy our software in additional 1200 service stations by the end of 2008. The potential for 2009 and beyond is the remaining 1600 petrol – 16,000 petrol stations of PetroChina.

In Europe, a Tier 1 grocery retailer selected Retalix for a chain-wide point-of-sale upgrade project. This means that 10 of the top 30 grocery retailers worldwide will be using Retalix software.

In the U.S., we further expanded our relationship with Big Y Foods, a prominent mid-tier grocery chain the northeast, which has been using our point-of-sale systems since 2000. Last year, Big Y selected our Loyalty solution and during the second quarter Big Y selected Retalix HQ and Retalix InSync Purchasing to replace its current merchandising system.

This is another example of a customer that is going in the direction of our vision, selecting Retalix application gradually, integrating them with each other, and over time expanding the Retalix system to an end-to-end solution.

I believe that as our new products mature, we will see even more customers going this way like Big Y and Hy-Vee.

Meanwhile, Associated Food Stores, a Salt Lake City wholesaler, purchased Retalix TRICEPS wholesale – warehouse management system for two additional distribution centers, replacing a homegrown solution. AFS in already using TRICEPS in their main distribution center. When this latest contract is completed, Retalix TRICEPS will be – will manage all their distribution centers.

Also during the second quarter an additional food distributor in Australia signed up for our Power Enterprise system.

In convenience and petroleum segments, BP completed the rollout of Retalix software to the 300 plus sites in the U.K. We continue the project work for B.P. sites in the U.S. and we are starting to rollout these days.

In Mexico, ampm Convenience Stores, a BP brand, completed the rollout of Retalix point-of-sale and Headquarter software solutions.

And 7-Eleven Stores in Oklahoma are deploying Retalix DemandAnalytX, or what we call DAX, forecasting and replenishment solution at its 100 stores.

As you can see, the business front continues to be strong.

Now, I would like Hugo to review financials for the second quarter.

Hugo Goldman

Thank you, Barry. Total revenues during the second quarter reached a record $59.3 million, which was up from $55.5 million the same quarter a year ago. In the six months period ending June 30, our revenues totaled $113 million, which is 48% of our guidance for the year.

Our product revenues, and especially license revenues traditionally billed during the year (inaudible) our expectations for 2008. Our product revenues grew by 7% representing 36% of our total revenues this quarter similar to the second quarter a year ago. Sales of software licenses represented 13% of our sales in the second quarter compared to 18% in the same quarter in 2007. Sales of hardware represented 23% of our sales in the second quarter compared to 18% in the same quarter in 2007. Sales for maintenance included in the quarter represented 24% compared to 23% in the second quarter of last year.

Gross margins were 38%, reflecting the higher proportion of hardware sales in the total mix of revenues as well as the continued impact of the weakness of the U.S. dollar on the cost of professional services.

As we discussed with you on prior calls, beginning in the first quarter we took a number of steps moving resources into professional services as some of our products matured in the development cycle. This effort, which are reflected in the increased cost of services, are designed to help us better track the resources devoted to process and better manage profitability. We continue to monitor these to ensure that our resources are aligned with the market.

The weak dollar continues to be our biggest financial challenge. The dollar has declined to a percent from the beginning of the year until the end of June and is still 7% weaker than our original budget for the year. We estimate that the negative impact of the dollar weakness on our cost and expenses primarily in Israel will amount to approximately $6 million for the whole year. Half of this impact though is already reflected in the results of the first two quarters.

We continue to monitor closely the impact of currency exchange rates on our financial outlook for the coming quarter. Our current plan is based on the assumption that the dollar will remain at the leverage level of around 3.5 shekels per dollar for the remainder of 2008.

As we told you, during our previous call, we implemented a reduction in cost. While this reduction was part of our plan for 2008 it also provided cost savings that mitigated the effect of the strengthening of the shekel against the U.S. dollar. At the end of the second quarter we had 1410 employees worldwide.

We reported a small tax benefit in the second quarter because of two main factors. First, as a result of the quarterly calculation for tax purposes, partly deriving from the strength of the shekel and partly because of a change of a specific tax regulation in Israel. For the year, we expect an effective tax rate of around 20%.

During the second quarter of 2008 we used $1.2 million in operating activities compared to $1.5 million used in the second quarter of 2007. This included a tax payment of $2.3 million for a previous year. We expect cash flow from operations to continue the improving trend in the coming quarter.

During the second quarter of 2008 we have also used $1 million in investing activities mainly related to the self [ph] loan of our headquarters building, which we acquired last year and is being prepared for use later this year.

As of June 30, 2008, our balance sheet has $28.4 million in cash, cash equivalents, and marketable securities. We have practicably no debt. We have just $710,000 in long-term debt. Just to make sure I said as of June 30 we had $28.4 million in cash.

Shareholders’ equity grew to $226 million at the end of June. DSOs improved from 145 days in the first quarter and 133 days in the second quarter. We remind you, we discontinued (inaudible) receivables beginning in late 2007. Accounts receivable amounted to $88.1 million compared to $87.5 million at the end of the first quarter of 2008. As we told you in the past, the improving trend of our – for our receivable cycle is a gradual process which we expect will continue in the coming quarters. We continue to expect the improvements of cash flow to take a total of four to six quarters.

Now, I will turn the call back to Barry.

Barry Shaked

Thank you Hugo. Now, let me take a few moments to update you on the efforts we outlined earlier this year designed to improve our financial performance. We have reviewed our expenses structure as well as our resources we need to be able to serve our clients, bring new products to the market, and seize available opportunity. As we told you previously, we redefined some of our development priorities and restructured some of our R&D teams. In addition, in recent months, we have cut expenses in all areas, held back on new hires, and focused on reassigning and promoting existing employees.

We feel that we have reached the right size and the correct level of expenses. We are confident that all our ongoing efforts will help us to address the issues that affected our performance in the past and will help to improve our financial performance.

Regarding the general economic situation, I would like to quote from the AMR report, retail IT budgets benchmark report, which was published last week, AMR said, “Although retailers are continuously evaluating economic conditions as they head into the second half of 2008, they are largely moving ahead with IT investment plans. The economy may cause delays in planned investments, however, few will be willing to turn their backs on IT investments, realizing that slashing budgets in the short term jeopardizes their health in the long term.'' AMR’s comments reflect what we are experiencing in the market.

Although new deals are taking longer to be closed, we believe that we can achieve the goals we have set for 2008 of a total revenue exceeding $232 million, GAAP net income of $8 million and adjusted non-GAAP net income of $15 million. We also continue to believe that our investments in product development and in penetration into new territories will pay off in the coming years.

We appreciate the dedicated efforts of our employees worldwide and their continuous focus on driving a profitable business. We also appreciate your continuous interest and support. Thank you for your attention.

And now we are open to answers. Operator?

Question-and-Answer Session

Operator

Thank you. Ladies and gentlemen, at this time we will begin the question-and-answer session. (Operator instructions) The first question is from Ziv Tal of Oscar Gruss. Please go ahead.

Ziv Tal – Oscar Gruss

Hi, good afternoon, Barry and Hugo. My question is regarding gross margin. It was significantly low this quarter. Can you please elaborate on that?

Hugo Goldman

Sure, hi Ziv, on the revenues we had hardware revenues more than the normal. This is one reason we had this I would say few millions above and on the other hand license revenues were a bit softer. And those are the main reasons. One more reason, the services margin where we had additional cost and we had there the impact of the currency that added cost into that number. So altogether is the reason for the decline in the margin. Although the revenues went up one of the reasons went up much more than the expectation was on the hardware, which has – they have, as you know, margin which is much lower than the others.

Ziv Tal – Oscar Gruss

Alright. And what are your expectations I mean there were 47.5% for the year previously. Does that still apply?

Hugo Goldman

For – you mean the total – the gross margin for the year?

Ziv Tal – Oscar Gruss

Yeah.

Hugo Goldman

About 44%.

Ziv Tal – Oscar Gruss

44%. And can you split that product and–?

Hugo Goldman

46% product, 43% service.

Ziv Tal – Oscar Gruss

How much is the service? 43?

Hugo Goldman

43, yes.

Ziv Tal – Oscar Gruss

Okay. And will you be able to push OpEx further down? What expectation there? Will we see the OpEx going forward as Barry mentioned?

Hugo Goldman

We believe we reached levels of operating expenses that will come in full effect going forward so basically we don’t expect major changes in the operating expenses.

Barry Shaked

What we are saying is that effect of the reducing expenses you will see more effect already in –

Hugo Goldman

Q3.

Barry Shaked

In Q3.

Ziv Tal – Oscar Gruss

Okay. And again with regards to the top line (inaudible) expectations for the second half of the year fairly back-end loaded. What are you seeing into the second half? Is the demand exceptionally strong?

Barry Shaked

We are seeing a strong pipeline but as I mentioned we are witnessing delays in decisions. Our maintenance has grown a lot. Our professional service backlog has grown. So with the moderate increase in licenses, we feel confident that we can reach the goals and exceed $232 million. We have already done 48% of that in the first half.

Ziv Tal – Oscar Gruss

Yeah. And Hugo, with regards to financial income –

Hugo Goldman

Yes.

Ziv Tal – Oscar Gruss

What are you – what shall we model for the year?

Hugo Goldman

Because of the currency fluctuations, it’s very hard to model, so I would expect to go back to the level gave in Q1 will be close to 100 per quarter. So in Q2 we experienced certain financial income. So let’s assume it will be the 100 (inaudible)

Ziv Tal – Oscar Gruss

And okay with the strengthening of the shekel against the dollar, will you be executing activities that you may sidelined previously earlier during the year because of the – of exchange rate or will that go straight to you bottom line.

Hugo Goldman

First of all, when you say going forward strengthening of the shekel just –

Ziv Tal – Oscar Gruss

Yeah, yeah.

Hugo Goldman

And just to make sure to clarify, right now at the end of June the dollar rate was about 3.35 and today it’s 3.57. So, right now we have to monitor this very closely. Basically, our plans are until the end of the year is an average of 3.5 shekel per dollar. So this is the plan going forward. So – and maybe you can rephrase your question just to make sure if you are talking strengthening or weakening of the shekel.

Ziv Tal – Oscar Gruss

No, no, I am talking about – if it spends some – if it goes up to 3.6, 3.7, 3.8, above that –

Hugo Goldman

So we have – so then – so in that case we have some protection that can mitigate at least part of that.

Ziv Tal – Oscar Gruss

Yeah, yeah, I understand. I am not talking about mitigating. If the dollar – if the shekel gains strength against the – sorry, if the dollar gains strength against the shekel –

Hugo Goldman

That will hit our bottom line, exactly.

Ziv Tal – Oscar Gruss

Yeah, that’s what I am trying to understand or will you execute some activities that you sidelined before or will that go directly to the bottom line, that’s my question.

Hugo Goldman

Right now, as I said, since we are achieving the levels we wanted to achieve, any dollar gain will go to the bottom line.

Ziv Tal – Oscar Gruss

Okay, great, thank you.

Hugo Goldman

Thank you.

Operator

(Operator instructions) The next question is from Eric Best [ph] of Best Holdings [ph]. Please go ahead.

Eric Best – Best Holdings

Yes, hi, good afternoon. Congratulations on a – finally a good quarter. I have a couple of questions. What were the maintenance revenues for the quarter and for the six months?

Hugo Goldman

For the maintenance revenues – hi Eric, how are you?

Eric Best – Best Holdings

Hi.

Hugo Goldman

The Q2 14.3 compared to 13 – 14.0 in Q1.

Eric Best – Best Holdings

And for the six months, Hugo?

Hugo Goldman

Let’s put it together, it’s 28.3.

Eric Best – Best Holdings

Okay, so it’s very linear?

Hugo Goldman

Yeah, I mean it’s – it’s a bit of an increase from Q1. Q2 last year was 12.6, so if you compared year-to-year 12.6 to 14.3, that’s an increase of about 1.,7 which is close to 14% year-to-year.

Eric Best – Best Holdings

So, for the whole year I man is it something and the number should be around 60 million?

Hugo Goldman

The numbers should be similar, maybe a bit than Q2.

Eric Best – Best Holdings

I see, okay. Did you recognize any revenues from China?

Hugo Goldman

You mean the PetroChina, for example? Basically –

Eric Best – Best Holdings

And WuMart.

Hugo Goldman

Yes. We have – in the current quarter we have a lot.

Eric Best – Best Holdings

Okay. But in the past I mean did you recognize any revenue yet or–?

Hugo Goldman

There were some, yes, in the past.

Eric Best – Best Holdings

Okay. And my last question, in Q4 2007 there were three deals that slipped and closed at (inaudible) as all of us remember. Where any of those deals closed since then?

Barry Shaked

One of them I think was closed and one was completely the customer decided not to go ahead with the project and one we are still working on.

Eric Best – Best Holdings

Okay, great. Thank you.

Hugo Goldman

Thank you.

Operator

There are no further questions at this time. I would now like to turn the call over back to Mr. Shaked. Mr. Shaked, would you like to make your concluding statement?

Barry Shaked

Thank you very much for listening to the second quarter results and see you all in the third quarter and I would like to remind all our investors that we have conference in Dallas in October and you can see us on our site. Thank you very much.

Hugo Goldman

Thank you.

Operator

Thank you. This concludes the Retalix second quarter 2008 conference call. Thank you for your participation.

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