Socket Mobile, Inc. (NASDAQ:SCKT) Q4 2022 Earnings Call Transcript

Socket Mobile, Inc. (NASDAQ:SCKT) Q4 2022 Earnings Call Transcript February 22, 2023

Operator: Welcome to the Fourth Quarter and Full Year 2022 Financial Results for Socket Mobile. My name is Darrell, and I will be your operator for today’s call. Before we begin, I’d like to remind everyone that this conference call may contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of 1934 as amended. Such forward-looking statements include but are not limited to statements regarding mobile data collection and mobile data collection products, including details on timing, distribution and market acceptance of products and statements, predicting the trends, sales and market conditions and opportunities in the markets in which Socket Mobile sells its products.

Such statements involve risks and uncertainties and actual results could differ materially from the results anticipated in such forward-looking statements because of a number of factors including but not limited to, the risk that manufacturer of Sockets products may be delayed or not rolled out as predicted due to technological, market or financial factors, including the availability of product components and necessary working capital, the risk that market acceptance and sales opportunities may not happen as anticipated, the risk that Sockets application partners and current distribution channels may choose not to distribute the products or may not be successful doing so, the risk that acceptance of Sockets products in vertical application markets may not happen as anticipated, as well as other risks described in Socket’s most recent Form 10-K and 10-Q reports filed with the Securities and Exchange Commission.

Socket does not undertake any obligation to update any such forward-looking statements. At this time, all participants are in listen-only mode. Later we will conduct a question-and-answer session. Please note that this conference is being recorded. On the call with me today are Kevin Mills, Chief Executive Officer; Dave Holmes, Chief Business Officer and Lynn Zhao, Chief Financial Officer. I will now turn the call over to Kevin Mills. Kevin, you may begin.

Kevin Mills: Thank you, operator. Good afternoon, everyone and thank you for joining us today. I’ll begin with a review of both 2022 and Q4, starting with Q4. Our Q4 revenue was $5.2 million, a 15% decrease compared to the $6.1 million in Q4 of 2021 and a 39% increase compared to the $3.7 million reported in Q3 2022. Our gross margins in Q4 were 49.3% compared to 52.1% in Q4 2021 and 44.4% in Q3 2022. In Q4, we recorded an operating loss of $152,000 compared to an operating income of $693,000 in Q4 of 2021 and an operating loss of $947,000 in Q3 2022. In Q4 EBITDA was $301,000 compared to $1.1 million in Q4 of 2021 and a loss of $506,000 in Q3 2022. Looking at our full year results for 2022, excuse me, our revenue was — our revenue for 2022 was $21.2 million, compared to $23.2 million in 2021, a decrease of 8%.

Our gross margins were 48.8% compared to 53.6% in 2021, with reduction being driven by supply difficulties. Our operating loss was $446,000 compared to an operating income of $2.7 million in 2021. EBITDA for 2022 was $1.3 million, compared to $4.2 million in 2021. In 2022, our diluted earnings per share was $0.01 compared to diluted earnings per share of $0.48 in 2021, and both years benefited from income tax credits. Overall, 2022 was a strange and challenging year. We saw a very strong demand during the first six months of 2022 as distributors and resellers over-purchased due to supply and availability concerns. In the second half of 2022, we saw distributors and resellers reduce their purchases as they rebalance their inventories. Socket Mobile report sales into distribution as revenue, which made our 2022 revenue very lumpy.

We also measure sales out of distribution to gauge the actual demand. In the first half of 2022, sales out of distribution or a little over $10 million, as of second half, they were little under $10 million. So demand remained solid throughout the year with the first half being slightly stronger than the second half. Our application-driven business model does not enable us to impact near-term sales as demand is generated by application sales from our application partners. In 2022, we saw demand remain reasonable even in these difficult and uncertain times. During 2022, our focus was on developing new products and solutions that will enable Socket Mobile to achieve long term growth. I feel against this metric, 2022 was a very positive year for Socket Mobile, as we made significant progress in several areas, which Dave Holmes will discuss in a few minutes.

As regards the outlook for 2023, I think the market conditions will remain challenging, especially in the first half of the year, as inflation and uncertainty remain key concerns. So we expect we continue to face some headwinds in the short term. However, we do see a trend of people wanting to return to physical stores, which would be good for Socket Mobile, as there are more scanners needed in physical stores that are required with online shopping; especially, as many of the physical stores are now using Ipads as their primary point of sale device. With that said, I’ll turn the call over to David Holmes for his come. Dave?

David Holmes: Thank you, Kevin, and good afternoon, everyone. Today, I’d like to highlight a couple of the key milestones that we achieved in 2022, as we continue our journey of becoming a more comprehensive data capture company. We significantly improved Capture SDK, our unified software development toolset that supports our entire data capture portfolio. One integration will Capture SDK is our app provider partners and access to all Socket Mobile data capture solutions. We also expanded our development environment support. We now support Flutter, an open-source framework created by Google, Swift Package Manager, iOS’ native package managing solution for developers, and .NET MAUI, a replacement for Xamarin to create multi-platform apps using a single project.

One of the most important achievements we made last year is that Capture SDK now includes camera base scanning software. App providers typically had to integrate with multiple parties to support all of their end users. Now with one integration with Socket Mobile, we can support all of their needs. For the ultimate data capture experience, our hardware scanners continue to deliver best-in-class performance and in 2022, we added Socket cam CA20, a camera base scanning software to our product portfolio. The CA20 is included in the latest version of Capture SDK and it enables our app providers to provide their end users with free scanning support. App end users have a variety of profiles and requirements. Socket Mobile has traditionally addressed only the high end users who need the ultimate performance.

Our gorgeous barcode scanners have served this segment well. We have a commanding market share in the space. In 2022, we have opened the door for other tiers of end users to also leverage Socket Mobile’s data capture expertise. The Socket cam CA20, enables app-in users with free user-friendly barcode and QR code scanning capabilities without having to purchase any additional hardware. This allows end users to experience the capabilities and benefits of barcode scanning without requiring a large initial investment into physical barcode scanner. This is an ideal option for users who are new to scanning, have low scanning volume or simply need to test out their daily scanning needs. App providers that integrate the latest version of Capture SDK can support hardware scanners, free camera scanning and in 2023, this will also enable enhanced camera scanning.

Our C860 advanced technology will be available on a subscription basis and it will establish a recurring revenue stream for Socket Mobile for software sales. The app providers will not have to change their code as their end user’s needs change. The end users can upgrade from free to subscription, to a hardware scanner seamlessly, since all are supported with the same unified Capture SDK. Our SDK team has done an excellent job in delivering these new capabilities, and we believe this is a critical step in the data capture journey. We’ll make this a more complete hardware and software data capture company in 2023. Outside of camera scanning, we are seeing positive signs with our our NFC business as more developers begin embracing contactless technology.

Initial commercial deployments of our S550 NFC reader writer for mobile ticketing, emoney and loyalty applications are resulting in exceptional customer experiences and follow-on projects. The S550 was chosen as a finalist for the NFC Form Innovation Award and is outperforming competitive solutions and head-to-head competitions. We continue to be excited about the opportunity that digital ID is presenting and we spent time in 2022, ensuring that we are prepared to meet the opportunity. In addition to launching the S550, we also launched S370, a universal NFC and QR code mobile wallet leader to enable app partners to support Ewallet centric opportunities like mobile driver’s license and digital health care cards. Our app development partners love the technology flexibility to accept multiple formats with one device that their S370 provides.

With the myriad of credential types out there, S370 provides their partners with a piece of mind that they can implement one device and not have to worry about choosing the wrong technology. S370 can also read credentials following ISO 18013-5. This is a standard being adopted for mobile driver’s license or MDL in most states and countries. We’re seeing positive signs all around and we continue to invest in digital ID in MDL space. We feel our camera scanning and digital ID products create new opportunities for Socket Mobile. We can reach a large and more diverse set of application providers and their end users. With that, I’ll turn it over to Lynn for more details on our financial results.

Lynn Zhao: Thank you, Dave. Good afternoon, everyone. Thank you for joining today’s call. 2022 has been a challenging year with macroeconomic headwinds affecting our financial results. Revenue for the full year of 2022 decreased 8% year-over-year to $21.2 million versus $23.2 million in 2021. Gross margin was 48.8% compared to 253.6% in 2021. Operating expenses were $10.8 million, increased to 11% compared to $9.7 million in 2021 as we continue to invest in business to fuel long term growth. 2022 diluted earnings per share of $0.01 included a $0.09 per share income tax benefit, primarily related to the adoption of Section 174 of the Tax Cuts and the Job Acts of 2017, compared to diluted earnings per share of $0.48 in the prior year, which included $0.21 per share income tax benefit.

Section 174 eliminates the expensing of R&D cost the beginning in 2022. Instead, it requires the company to capitalize and amortize R&D expenditures, resulting in an income tax benefit and net increase of our deferred tax assets in 2022. Adjusted EBITDA for 2022 was $1.3 million compared to $4.2 million in 2021. Adjusted EBITDA margin for 2022 was 6.2%, compared to 18.2% in 2021. Our Q4 revenue decreased 15% to $5.2 million compared to $6.1 million in the prior year’s quarter, but the increase to 39% is sequentially compared to $3.7 million in Q3 2022. Q4 gross margin was 49.3% compared to 52.1% in the prior year’s quarter. The decrease in gross margin was driven by significant inflation and the persistent higher component cost. Compared to Q3 however, our gross margin improved 490 basis points, primarily due to the allocation of manufacturing overhead costs across improved production volumes in Q4.

Q4 operating expenses were $2.7 million, increased to 8.4% over the prior year’s quarter and 3.8% sequentially over their preceding quarter. Compared to the diluted earnings per share of $0.11 a year ago, a net loss per share of $0.11 in the prior year — in the prior quarter, Q4 diluted earnings per share of $0.06 included $0.08 per share income tax benefit related to the adoption of Sections 174 of the Tax Cuts and the Job Acts of 2017. Turning to our balance sheet, we ended the year with a cash balance of $3.6 million. In Q4, we invested $270,000 in capital expenditure, repurchased 85,000 shares for $176,000 and repaid $125,000 of loan balance. For the full year of 2022, we invested $1.2 in capital expenditure, repurchased 266,000 shares for $837,000 and repaid the $500,000 of loan balance.

The remaining loan balance of $125,000 was paid off at the end of January 2023. As of December 31, 2022, our inventory level, net of reserve, was $5.6 million compared to $5.2 million a year ago. We managed our inventory levels while maintaining our on-time delivery commitment to our partners. This wraps up our prepared remarks. Now I will hand the call over to the operator for questions.

Operator: And we have a question from Chris Sakai from Singular Research.

Q&A Session

Chris Sakai: Can you talk about the jump of 5% in gross margin? Is this sustainable? And how do you see this playing out in 2023?

Kevin Mills: Yes. So on the gross margin, we improved gross margin because we had more volume to cover the fixed overhead expenses. So obviously, in Q3, we shipped less. We also had — our gross margin had been impacted by the cost of components. We bought a number of components of the, I would say, pay for premium for a number of components in 2022 due to shortages and concerns over availability. So we feel that the gross margin in and around 50 points, maybe slightly above 50 points, is sustainable going forward and the business model is really based on that. Obviously, if we have a small shipping quarter, then we have more overhead to absorb on that small number. But long term, we feel 50, 50-plus points, is sustainable and that Q3 was really anomalous due to the low shipping volume.

Chris Sakai: Okay. Then can you comment on how is your supply chain looking? Is it improving?

Kevin Mills: Well, first of all, we didn’t really have a great deal of supply problems. I think that we probably panicked a little bit sooner than most, and we took an inventory position to make sure that the supply issues didn’t impact our partners. So throughout 2022, we were able to maintain and deliver against a 6-week lead time, which many of our partners appreciated. You’ll see, if you look at our balance sheet, our inventory did rise substantially from 2019. So in ’20 and ’21, we increased our inventory by several million dollars to make sure that there was no impact. Today, inventory is around the $6 million level. Our plan is to start to reduce that. The supply situation has improved, at least it’s stabilized, and there is now good availability on certain components. But as you need all components before you really solve the problem, we’re not completely out of the woods yet, but I would say the situation is significantly better.

Chris Sakai: Okay. And then talking about inventory, you say you plan to reduce it from $6 million level. About where would you say we could expect it in 2023?

Kevin Mills: Well, I would hope that we would get it down to more like $5 million by the end of the year. Certainly, with higher availability of supply, you don’t need to carry as much inventory. So as lead times start to fall, we will reduce our inventory to basically be more in line with that. So I would say $5 million towards the end of this year is reasonable if the supply situation continues to improve as we expect.

Chris Sakai: Okay. And then last for me, how do you see operating expenses in 2023? Is it — would it be growth as mainly from inflation?

Kevin Mills: Yes. I mean obviously, there is more pressure to increase salaries, which we have done in 2021. So we will see some pressure to increase operating costs. And we also continue to hire in select areas where we feel we need to add more resources. So I think moderate growth in expenses this year, primarily driven by inflation-related salary increases, yes, I think that’s reasonable.

Operator: And we have a question from Frank Petronas from Prudential.

Unidentified Analyst: I have probably a double-edged question. On the buyback, how many shares have you bought to date? I think you came out with a number of 266,000. I could have been writing too fast. But my question is, I know the buyback ends in May, and you had set aside $1.8 million. To date, how much of the $1.8 million has been used up? And if not, will there be an extended buyback period? And the second part is, is there any company that — it seems like many companies are suffering that 1 or 2 companies supply the bulk of their components. Is there any company that is either small enough that you can maybe buy a Goliath out there and buy a company that’s supplying your key components where you can reduce the cost and build a better base for your cost of your inventory?

Kevin Mills: So let’s answer those questions, and then you can ask some more. So maybe Lynn will provide detail of what we’ve bought back so far and what’s remaining. So Lynn, could you answer that question, please?

Lynn Zhao: Yes. So as of today, we have purchased 320,000 shares at the cost of slightly lower than $960,000. So the current repurchase plan will expire at the end of March, and we have about 38,000 shares to go. So after we reported Q1 results, our Board will make a decision to see if we are going to restart a new repurchase plan.

Kevin Mills: Okay. So hopefully that answers that part of the question for you, . On key components. First of all, in a very few cases are we singly sourced, so we make sure that we have more than one supplier. The issue with the lead times, it was really a combination of supply-related concerns. People were unable to manufacture because factories were closed, people were unable to go to work, particularly in China, etcetera. So there were some key components that weren’t made. And then there’s — many people who want those components. And it’s like any situation in life, when there’s a shortage, and there’s a lot of people who want it, you have to kind of hoard the components, which we did, which is why our inventory went up.

Now that the situation is resolving itself, we don’t need to purchase any companies to guarantee supply. We need to have multiple sources for each component, which we work hard to do, and the supply costs will come down because the demand is more in line with production. So to me, this is no different than the personal situation people had when COVID started, whether it was for household items or anything else. There was a shortage and people went crazy to buy and hoard that shortage. It drove prices up, and now they’ve come down again. And I think we’ve done a good job managing that. We spent a little bit of money and put it in our inventory. But now as situation resolves, we will reduce our inventory and get back to more — to better, more competitive pricing.

The one thing we did, which I think we received a lot of credit from our partners from is that at no time during 2021 or 2022 were we unable to deliver nor did we have to extend our lead times beyond our standard 6 weeks. So a lot of credit due to our operations team to manage that and to make that happen. So that’s the current situation as regards key components.

Unidentified Analyst: Okay. And one final question, if and when your supply chain reaches the capacity of your — I’m sure your original business plan has changed considerably. But as your new products are coming onstream, if and when, let’s say, everything goes back somewhere near normal, which I don’t think is going to happen for two, three years to come, but at what percent did you forecast if you had a full inventory for all your products and you’re selling is increasing? What could the shareholders expect as far as forecast for the next 2 or 3 years? Because the good news is I see your company is staying alive and functioning well with the products for the next 3 to 5 years. My question is, how do you see that where — going at maybe only 70% of the product or the components coming in as quickly as you can sell them?

Kevin Mills: All right. So I’m going to give you maybe a slightly different answer than you’re expecting, okay? First of all, we didn’t have any supply issues. I think what impacted our sales more than anything else was the availability of other components required to deploy a solution. So for a person deploying a mobile point-of-sale solution, they need about 5 components. They need an iPad. They need a stand. They need a cash drawer, a printer and a scanner. The availability of printers and cash drawers, and even iPads, were severely impacted in 2022, so that customers who wanted to deploy, and our scanners were available for them to deploy, were unable to deploy because they were waiting on printers and cash drawers. And without those 2 key elements, you can’t really set up a cash register.

The supply of printers and cash drawers has improved. It’s not where it needs to be, but I think that has retarded our sales in the short term not because we couldn’t supply, it’s because other people who are key components of the solution couldn’t supply. We’re monitoring that situation, and we feel it will be better certainly in the second half of 2023, and that will help us to be able to have more sales. But our products are not stand-alone products. They just don’t work on their own. They’re part of a system. And the unavailability of other elements of the system does retard our sales, and we pointed that out on the last call as well.

Unidentified Analyst: Okay. Well, the only problem I see is, with the buybacks and with you struggling through and I think succeeding very well as far as all the problems that basically the entire world is going under at this point in time, but the problem still remains that the price of the stock is so way undervalued. And it’s just so disappointing sitting here for 3 years, and the company is growing even though it’s flatlined, in some cases, just COVID and product and so forth and so on. But again, my question is the buyback, I mean it’s there and you’re doing it, it’s just amazing to me, as a former broker and shareholder of many of the companies that did do buybacks, in different related products and so forth, it’s just befuddles me to see the price just flatlined at $2 a share. That’s it.

Kevin Mills: Yes. No, we share your frustration. We’ll see what we can do to improve the share price as we have better results this year. But I think that overall, it’s been a tough 2 years for everybody, and we got through it reasonably well. And long term, we still have a lot of upside. So yes, we can’t do anything about it in the short term. We are buying the shares back, as you know, and we’ll see how things progress as the year rolls out.

Unidentified Analyst: Okay. Great job, guys.

Kevin Mills: Thank you very much, Frank.

Operator: And we have no more questions at this time. I’ll turn it back to the speakers for closing comments.

Kevin Mills: Okay. I’d just like to thank everyone for participating in today’s call and wish you all a good afternoon. Thank you.

Operator: And thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect.