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eGain Corporation (NASDAQ:EGAN)
Q3 2019 Earnings Call
May. 8, 2019, 5:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day and welcome to the eGain Fiscal 2019 Third Quarter Financial Results Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Jim Byers of MKR Group. Please go ahead sir.

Jim Byers -- Investor Relations

Thank you, operator, and good afternoon everyone. Welcome to eGain's third quarter fiscal 2019 financial results conference call. On the call today are eGain's Chief Executive Officer, Ashu Roy; and Chief Financial Officer, Eric Smit.

Before we begin, I would like to remind everyone that during this conference call, management will make certain forward-looking statements, which convey management's expectations, beliefs, plans and objectives regarding future financial and operational performance. Forward-looking statements are generally preceded by words such as believe, plan, intend, expect, anticipate or similar expressions. Forward-looking statements are protected by safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to a wide range of risks and uncertainties that could cause actual results to differ in material respects. Information on various factors that could affect eGain's results are detailed in the Company's reports filed in the Securities and Exchange Commission. eGain is making these statements as of today May 8th, 2019, and assumes no obligation to publicly update or revise any of the forward-looking information in this conference call.

In addition to GAAP results, we will discuss certain non-GAAP financial measures such as non-GAAP operating income. Our earnings press release can be found on the news release link on the Investor Relations page of eGain's website at www.egain.com. The tables included with the earnings press release include reconciliation of the historical non-GAAP financial measures to the most directly comparable financial measures. A replay of this conference call will also be available in the Investor Relations section of the eGain's website.

And now with that said, I'll like to hand over to eGain's CEO, Ashu Roy.

Ashutosh Roy -- Chairman and Chief Executive Officer

Thank you, Jim. Good afternoon everyone. We performed well in the third quarter with both our top and bottom line ahead of consensus estimates. We saw some continued positive momentum and strong business interest in the quarter, and we also completed a successful equity raise to strengthen our balance sheet. This positions us well to execute on our growth plan moving forward.

So let me share some financial highlights for the quarter. Our SaaS revenue grew year over year by 31%. Our subscription revenue grew year-over-year by a 15%. Our gross margin in the quarter over 70%, up from 66% in the same quarter last year. We were GAAP profitable for the quarter with net income of $1.4 million compared to a net loss in the same quarter last year, and we generated $3.8 million of cash from operations in the quarter.

Turning to business performance. We have healthy bookings in the quarter across new customers, expansion opportunities and renewals. A couple of new customers that I want to mention. One is a, one of the larger retailers -- apparel and home retailers in the US, a great brand, and we won this account as a replacement of one of the point solution providers. And what was interesting about it was, we got into this account, the sales cycle was extremely short, because we were introduced to a partner in this case, Cisco, and we deployed this customer in two weeks in an enterprise environment for digital engagement. So that's a great example of partnership with Cisco and eGain displacing a competitor -- point solution competitor for one of the largest retailers in the US. So that's a good one.

Another one that I feel good about is, one of the leading payment processing providers in the US. They came to us with a need for knowledge in AI across their enterprise, starting with customer care and we won that account and now we're deploying for a pilot which is significant to begin with, but we'll scale to almost 1,000 agents after the deployment of the pilot phase. So again a very exciting new account for us.

On the partner front, our business momentum with Cisco continues to be very positive, and we continue to work hard at developing and creating more pipeline with some of our other partners like Avaya and Amazon connect. So good progress on those.

Stepping back and looking at our business and our growth plans. One of the things that we did last quarter which we are very pleased with is a successful equity raise. We went through that exercise very efficiently and effectively, good interest, good demand. Thanks to that fund raise as well as the continued positive cash flow from operations. Our net cash is up to about $30 million from roughly about $3 million the quarter before. And so with that strong balance sheet, we feel like we now have a nice runway we have in front of us to accelerate growth.

So with that sort of mindset of accelerating growth, I'm pleased to announce that we recently attracted Evan Siegel to our leadership team. Evan reports to me. He joined early April and he's focused on new growth initiatives for us. So couple of areas. One is developing new routes to market, and second formulating vertical solution extensions.

Before joining us, Evan was the SVP of Virtual Channel Strategy at Wells Fargo, and before Wells, he was a management consultant with Stanford, Bain and Monitor (ph) among others. My team and I are super excited to have him on Board. His expertise in financial services which as you all know is our number one vertical with close to 40% of our revenue. So both his expertise in that vertical as well as his leadership and management experience will strengthen our team as we drive more growth in the business.

In the market, just a little bit of color and I want to share some of the things we've seen. We see some interesting trends in the enterprise market. First, when it comes to new capability investment, from our vantage point it seems like enterprises are focusing their innovation budgets more and more on digitalization at scale. And in the enterprise, we see them parking their legacy voice infrastructure in maintenance mode. Remember, I'm talking about the enterprise, where typically these companies have significant voice infrastructure in place already. Thanks to continued digital migration of the customer contact.

What we are seeing is that voice based contact volumes in enterprises are now starting to drop in absolute terms year-over-year. And further, good digital engagement consistently delivers better CX metrics like NPS at a lower cost of service. And for most enterprises what we're seeing is that digital customer engagement is now a given. The question becomes what solution approach works better? So typically there are two approaches that enterprises have taken in the past. One has been where businesses try out point solutions for specific digital capabilities, but what we see happening more and more with time is that they get burned as they try to operationalize those capabilities at scale, because these point solution create silos, and also these point solutions typically lack the technology depth and the rich use case capabilities that you need to deliver value at scale in the enterprise.

The other extreme we see happening now which is businesses getting frustrated by what we call check box, digital and AI capabilities from larger providers, the typical systems of record CRM vendors, and mixed with tall promises of improvement that never seem to quite materialize. And we see an increased impatience on the part of enterprises as they're falling behind and unlocking the potential of digital and AI in their customer engagement.

What seems to be coming out of this for us and this is relevant for us is, an articulating market need for a production which is a customer engagement hub that is omni-channel and digital first, but overlays existing systems of record, legacy contact centers, and multiple repositories of content in the enterprise. And what we're seeing with these customer engagement hub requests now what are being presented on omni-channel service requirements is that on the backhand, enterprises want these hubs to connect into the existing systems of record and communication and content sources, and on the front end, the requirement is to deliver digital first connected and consistent experiences across all channels, digital and voice. So integrating into existing voice infrastructure, integrating into existing CRM systems. We see that need becoming more and more clarified and specific.

What's good about it for us is that's exactly what we at eGain offer today and better than anyone else and quicker than anyone else we believe. For example, just to kind of give you a little bit of a story around one of the clients that we have been working with in the last three quarters, this is a large financial services client. Our team sat down with their client executives last month for a strategic review and they told our team two things --

positive things. Of course, they gave us a long list of product enhancements and things they would like us to do better which is great, we continue to work on that, but the positive things they told us was that before they engaged us, they had been working with three different providers for point capabilities that they were looking to integrate themselves to deliver that customer experience that we delivered with one platform, eGain platform, via configuration and no integration across these capabilities, which we thought was really quite a nice thing to hear.

And the second thing they said was that we delivered in three months what they had tried and unsuccessfully saw to do in about a year. And now the client is expanding the use of eGain across the enterprise. So we are delighted by that validation and that's sort of the converged need of a customer engagement hub that we are starting to see more and more in the enterprise. It's no longer just knowledge in AI, no longer just one digital channel or the other, it's a collection of this which is a modern customer engagement hub which is digital first, omni-channel, and take advantage of existing investments of the enterprise in CRM system and contact center legacy platforms.

Before I hand off to Eric, I want to mention one more thing, because we're very excited about this. We're really looking forward to our eGain DX19 London event next week, specifically on Monday. This is our annual one day customer event in Europe, where our customers share success stories, we announce in demo new innovation, and eGain experts and analysts like Gartner discuss market and technology trends.

One thing I want to bring out which is kind of very nice to see is, we announced a new capability in that event, we call the Bot Factory, it's a workshop. We're organizing on the sidelines of the event. This Bot Factory will be a complementary workshop, two our long, guided by eGain experts for attendees who are interested and by the way we already oversubscribed which is fantastic for this limited event. And what we are going to be doing for the attendees is that we will consult, help them configure and take back at the end of the workshop an operational virtual assistant from eGain, which will have the ability in a limited way of course to converse reason, resolve and connect. That capability set that we are bringing which is not a point solution which still connecting to the rest of the enterprise is something that is very unique to what we do. Another example of how we are offering quick value to customers.

So with that little plug in our excitement, I will ask Eric to share his comments. Eric?

Eric Smit -- Chief Financial Officer

Thanks Ashu. Before I review our quarterly results, I'd like to remind everyone that we adopted the new revenue recognition accounting standard AFC 606 effective July 1, 2018, the start of our fiscal year. And unless otherwise noted, the results I will discuss today are presented in compliance with AFC 606. A reconciliation of the AFC 606 to 605 results is included in our press release we issue today that is available on our website.

Now turning to our financials. As Ashu noted, we saw continued positive momentum during the third quarter. We achieved top and bottom line results that were ahead of Street consensus and generated strong cash flow from operations in the quarter. We are pleased to achieve these results despite Q3 typically being a seasonally slower quarter for us from a business standpoint.

Now let's look at the numbers. Total revenue in Q3 was $17 million, up 8% year-over-year. Subscription revenue was $15.3 million, up 15% year-over-year and accounted for 90% of total revenue in Q3, up from 85% in the year ago quarter. Breaking out the revenue components, SaaS revenue was $11.8 million, up 31% year-over-year and accounted for 70% of total revenue in Q3, up from 58% in the year ago quarter. While SaaS revenue was essentially flat sequentially, this was driven by the timing of seasonal SaaS revenue. Recall last quarter we talked about approximately $900,000 in seasonal revenue contributing to our Q2 results. While looking at the details for Q3, we had approximately $500,000 in additional seasonal revenue which we do not expect to repeat in Q4. The point being that quarter-to-quarter we are seeing fluctuations in our SaaS revenue and we will continue to see that at our current scale, and the reason why we focus on providing annual versus quarterly guidance.

Now turning to our legacy support revenue, that came in at $3.5 million, down 19% from the year ago quarter. This reduction was primarily driven by on premise customers migrating to our SaaS offering. Legacy support accounted for 20% of total revenue in Q3, down from 27% in the year ago quarter. As we move through the remainder of this year, we will be driving a more accelerated transition of our on premise customers, and as such, we expect to see a foster decline in legacy revenue over the next several quarters. We are targeting legacy support revenue to decrease to less than 10% of total revenue by the end of calendar 2020.

Professional services revenue was $1.7 million or 10% of total revenue, which is down from 29% from $2.4 million or 15% -- which is down 39% from $2.4 million or 15% of total revenue in the year ago quarter. As we've noted before, our goal is to get our PSU revenue in the range of low teens to high single digits as a percentage of total revenue. We are obviously within that range now and would expect for our PSU revenue to remain in this range as a percentage of total revenue for the remainder of the fiscal year.

Now looking at the non-GAAP gross profit and gross margins. Gross profit for the third quarter was $11.9 million or a gross margin of 70%, up from a gross profit of $10.4 million or gross margin of 66% a year ago. The year-over-year increase in the overall gross margin reflects a combination of the benefits we are starting to see in the scale and efficiencies around our cloud operations, and the growth in our higher margin SaaS revenue, while a lower margin PSU revenue declines. To further illustrate at this point, if you look at the breakout of gross margin by revenue type in Q3, our subscription revenue gross margin was 77% compared to our professional services gross margin of 7%.

Now turning to operations. Non-GAAP operating costs for the third quarter came in at $9.5 million, up 4% from the year ago quarter. Overall this resulted in non-GAAP operating income in the third quarter of $2.4 million or an operating margin of 14% compared to $1.3 million or an operating margin of 8% in the year ago quarter.

Looking at net income, non-GAAP net income for the third quarter was $2 million or $0.07 per share on a basic and $0.06 per share on a diluted basis. This compares to non-GAAP net income of $713,000 or $0.13 per share on a basic and $0.02 per share on a diluted basis in the year ago quarter. GAAP net income for the third quarter was $1.4 million or $0.05 per share compared to GAAP net loss of $99,000 or $0.00 in the year ago quarter.

Now turning to our balance sheet and cash flows, we regenerated strong cash flows from operations of $3.8 million or an operating cash flow margin of 22% in the quarter. During the quarter, we completed a successful capital raise that significantly improved our the cash position and enabled us to fully pay down our debt. We ended the quarter with a net cash position of $31.1 million compared to $3.7 million at March 31, 2018. This improved financial position will allow us to confidently execute to our growth plan.

Now turning to our guidance. Given the continued positive momentum we are seeing in our business, we expect our SaaS revenue and subscription revenue to come in at the higher end of the previously announced guidance, which is for SaaS revenue growth for the year of between 30% to 35% and subscription revenue growth for the year between 13% and 16%. And while we expect total costs and expenses to increase in Q4, driven by compensation adjustments, increased marketing spend, particularly for our customer events in London that Ashu referred to, and then also increased hiring as we grow the business. We do however continue to expect to be cash flow positive from operations for the full fiscal year.

Lastly, on the Investor Relations front, eGain will be participating in three investor conferences later this month. These include the Oppenheimer Emerging Growth Conference taking place May 14th in New York, the Needham and Company Emerging Technology Conference taking place May 21st, also in New York; and finally the Craig-Hallum Institutional Investor Conference taking place May 29th in Minneapolis. We hope to see some of you there.

This concludes our prepared remarks. Operator, we will now open the call for questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) The first question will come from Ryan MacDonald with Needham. Please go ahead.

Ryan MacDonald -- Needham & Company -- Analyst

Yeah. Good afternoon Ashu and Eric. Thanks for taking my questions. Congrats on the great quarter. I guess, first, talking about the partner channel during the quarter, it sounds like obviously Cisco continues to trend well, but can you talk about, what impact that you're seeing if any from sort of the refresh cycle around the CCE 12 better solution and sort of how -- what benefits that having in the current quarter and also on pipelines as we look forward?

Ashutosh Roy -- Chairman and Chief Executive Officer

Sure. So the -- as you know, we have two streams of business with our Cisco partnership. One is the OEM stream and the other is the retail stream. The OEM stream are something that does benefit from the CCE refresh quite directly, because we get royalties and revenues as part of the embedded OEM that we have with Cisco. So that's a good thing for us.

On the retail side, the momentum continues to be positive. We see good -- now that people are deploying the CCE upgrades, they are seeing the value of the digital channels embedded alongside the voice piece in the Cisco platform which is part of the OEM we just talked about. And also, we're seeing more need for omni-channel analytics as a kind of pull through effect, we are seeing some of that where businesses are looking to do better omni-channel analytics. And as you know, analytics is one of the areas where we do really well in the Cisco ecosystem. So we see that as an emerging pipeline impact and those are the two comments I'll make for now.

Ryan MacDonald -- Needham & Company -- Analyst

Got it. And then just a follow-up on that. Thanks for the color. With the addition that you mentioned to the executive team and sort of the focus on growth initiatives as we look out into the next fiscal year, can you just talk about -- maybe just generally how you're thinking about sort of balancing growth and profitability as we look into fiscal '20 just given sort of this increased focus on growth initiatives? Thanks.

Ashutosh Roy -- Chairman and Chief Executive Officer

Sure. So at this point I think a couple of comments I'll make. One, it's very much top of mind for us to accelerate our growth in a justifiable way, which means that we can quite effectively justify the investment we make in increasing that top line growth. So something that we are very mindful of. But what we wanted to do and we continue to want to do is to strengthen our team, because we do need to increase our number of high level initiatives that we will be driving to increase our growth rates. So bringing on the right kind of people who bring an intersection of capabilities and an experience that we want in our kind of verticals that we are looking at to grow in, as well as sort of expertise and intellectual caliber that we think we need to drive growth.

Ryan MacDonald -- Needham & Company -- Analyst

Got it. Thank you very much.

Operator

Thank you for your question. The next question will come from Richard Baldry with ROTH Capital. Please go ahead.

Richard Baldry -- ROTH Capital -- Analyst

Thanks. You're about two months away from the end of the year. So I'm sort of curious with the new equity brought on to bolster the balance sheet. How do you think that changes sort of your growth strategies longer term, maybe in areas of either acquisitions, marketing, hiring, you know it's a much different position than you've been, say the past two years or so? Thanks.

Ashutosh Roy -- Chairman and Chief Executive Officer

Sure. So I think to your point, there are essentially three things that the balance sheet strength gives us. One is, implicitly gives us the right sort of derisked provider optics that do help in business. So that happens without us doing much but that's an important one to start with. The second is, just us being able to more confidently roll out our growth investments and to stay with them through the scaling process and do that in a more deliberate and intentional way over a longer period of time. That's something you'll see us do more. So yes we -- and I think Eric mentioned this that on the cost side, we are looking to increase our investments and you'll start to see that starting Q4, which is this current quarter and then of course into fiscal '20.

And then the last piece is, new initiatives which could be organic or inorganic and we are looking at both, and that as you know it's a target rich environment right now in the space we are in and we see that there is -- there are several areas where adjacent to our core strength, we could extend not necessarily just for product and capability but also for the ability to acquire new customers in a quicker way in our target market. So those are all things that we are looking at. And as we we start to share some of our fiscal '20 plans, it will become more forthcoming.

Richard Baldry -- ROTH Capital -- Analyst

Great. Thanks.

Ashutosh Roy -- Chairman and Chief Executive Officer

Eric, do you want to add anything?

Eric Smit -- Chief Financial Officer

No, that's good. I mean, I think at this stage I know it's preliminary but the expectations are not to get into a significant loss situation. So as we ramp up the business, our current view is that we'll continue to be at or above the break even stage on an annual basis, but we'll certainly look to provide more color on that with our Q4 results when we'll come out with our initial guidance for '20.

Richard Baldry -- ROTH Capital -- Analyst

Great. Thank you.

Operator

Thank you for the question. (Operator Instructions). The next question will come from Mark Schappel with Benchmark. Please go ahead.

Mark Schappel -- Benchmark -- Analyst

Hi good afternoon. Thank you for taking my question. Ashu, starting with you, it's my understanding that about 50% of your customers on a customer account basis are still on premise and have yet to migrate to your SaaS offering. I was wondering if you could just trust some of the plans you have in place to encourage the customers to migrate in your SaaS platform. You touched on this a little bit in your prepared remarks as one of you just go a little bit deeper in that?

Ashutosh Roy -- Chairman and Chief Executive Officer

Sure. So three things I'll mention. One is, we have internally set a goal that by the end of calendar 2020 which is about 18 months or little more than 18 months from now, 20 months from now, we will be -- we plan to be less than 10% of our revenue on the legacy support recurring revenue stream, which is an important market we have laid out. To get to that, we're doing two things. One, we are creating more aggressive offers to these customers, which may not be as commercially profitable for us in terms of uplift, but we think that as we have gone through the migration of the customer we've already migrated to the cloud. We have seen that once customers move to the cloud, they do buy a lot more. And so we are betting on that and we are -- that benefit of added insight, betting on the up, and we are offering more aggressive migration offers to the remaining customers.

The second piece that we are driving more aggressively is the gap between our new product as it continues to become more and more capable on the cloud, because we are not doing any development on the legacy -- on premise products anymore that customers are getting to a point where they have to make a choice. But we are not -- yet we haven't brought the hammer down in terms of support and seizing support, but the gap in capabilities continues to grow. So for instance, all the virtual assistant capability that we are talking about with our bot workshop and bot factory offer, those all are available only in the cloud. So there's a lot of that carrot business that we are driving at this point and I think in the course of the next six to nine months we'll probably start to drive the stick element as well, but for now we're driving the carrot parts.

Mark Schappel -- Benchmark -- Analyst

Okay. Thank you. And then in your prepared remarks you mentioned that you brought on a new executive that will help who look to drive growth for the Company in the future. One of the ways at which we were to look in some new verticals as one of you just give us a sneak preview of maybe what some of those verticals that you are currently eyeing?

Ashutosh Roy -- Chairman and Chief Executive Officer

So given his background which is mostly financial services, I would expect that it's quite likely the first set of capabilities we announce or start to roll out with customers will be in that area, in financial services, which is about 40% of our business today.

Mark Schappel -- Benchmark -- Analyst

Okay. Thank you. That's all from me.

Operator

Thank you. (Operator Instructions) I'll now turn it back to eGain management for final remarks.

Ashutosh Roy -- Chairman and Chief Executive Officer

Okay. Thanks everybody. I look forward to updating you at when we do our Q4 results, and hopefully get to meet some of you in person at the upcoming investor conferences later this month. Thank you.

Operator

Thank you. Ladies and gentlemen, this concludes today's conference. You may now disconnect your line.

Duration: 31 minutes

Call participants:

Jim Byers -- Investor Relations

Ashutosh Roy -- Chairman and Chief Executive Officer

Eric Smit -- Chief Financial Officer

Ryan MacDonald -- Needham & Company -- Analyst

Richard Baldry -- ROTH Capital -- Analyst

Mark Schappel -- Benchmark -- Analyst

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