People seem to take offence to the fact that Mr. Hamill points out that Netsol capitalizes their R&D without mentioning that they later amortize the R&D. This seems pretty basic in that nearly all capital goods used by a business are amortized. The point is that capitalizing something that most of the industry expenses digs into future earnings as the R&D has to be as it is amortized. At the same time it makes current earnings appear higher.
The point about DSO depends on what is counted in accounts receivable. Another device they use to pump up current sales is the revenue in excess of billing which Hamill, like Yahoo, counts as a receivable. Remember how they have stated that they book about 1/3 of a contract when it is signed. I would expect that most of this is not billed at signing. This is another device that pumps up current sales and profit figures without bringing in cash. You may argue that the DSO is lower by only using the actual billed part of the receivables in your calcalculation and you may be right. That does not, however, change the fact that there is a lot of cash to be collected that is already on the books as revenue.
There are other serious issues that Mr. Hamill brings up like the possible conflict of interest with the auditor as well as the hiring of Taglich Brothers as an analyst. You may not like the conclusions and question his motive but I have not seen any valid argument that effectively debunks the basic facts of the article.
In the end you have a company that has a 10K that clearly shows that they again need to increase the share count to stay in business. What will that do the the share price?
Whenever I am trying to determine if management is performing some accounting shenanigans, I review the cash flows. Cash is extremely difficult to fake, especially over a year. It may be possible in a single quarter, but not over a year. The SA article that bashed NTWK never discusses cash. It states accounts receivable are $30 million and that points to earnings of questionable quality. I feel that is a load of #$%$. Operational cash flow is the real indicator of how well a company is performing. (Remember Accounts receivables are NOT included in cash. The high A/R could be a positive in 2014 as all that cash is collected.)
I thought I would review NTWK’s cash flow.
2013 = $50,797,161
2012 = $39,775,524
Increase = $11,021,637
Cash flow from Operations (OCF)
2013 = $13,845,819
2012 = $8,112,715
Increase = $5,733,104
OCF as a percent of revenue (ratio)
2013 = 27.35%
2012 = 20.4%
Increase = 6.95%
Notice the $11,021,637 increase in revenue led to a $5,733,104 increase in OCF. NTWK turned 52% of the increase in revenue into OCF. Very impressive. Also, the 27.35% ratio is healthy. Room for improvement still exists though.
Based on OCF, what is a fair value for NTWK?
Stocks in the Russell 2000 are currently selling for an average of about 9X trailing OCF.
NTWK’s fair value (based on trailing OCF)
$13.8m / 8.3m shares = $1.67
Using the Russell 2000 average of 9X OCF, NTWK’s fair value based on 2014 OCF = $15.00
NTWK’s fair value (based on future OCF)
If revenues increase $20 million in 2014 to $71 million, that should increase OCF by the same 52% or $10.4 million. With the higher operational costs incurred by the increase in headcount, we probably lose about $4 million from the first $51 million in revenue, but I would estimate OCF of $20 million for 2014. (If revenues are $71 million. Obviously, that is a guess.)
$20 million / 9.3m shares = $2.15
Using the Russell 2000 average of 9X OCF, NTWK’s fair value based on 2014 OCF = $19.3
I agree with at least some of what you say about cash flow. You left out levered free cash flow which is more important in a company like this. When restricted cash is taken out of the balance sheet, as it is done in the 10K, they have virtually the same amount of cash on the balance sheet as a year ago. This is despite massive dillution. The only way this can be explained is by the cost servicing debt and other non operating expenses. If you read the 10K you will see that over the past year the compaIny took out money on over draft protection and again discusses the need to raise cash implying selling more shares. If their overall business were generating that much cash, the dillution would not be necessary. I am not implying that your calculation of operating cash flow is incorrect. It is just the wrong cash flow to look at in a company like this.
You say "but I have not seen any valid argument that effectively debunks the basic facts of the article." You admit Hamill forgot to include amortization in his calculations. By doing so he is making a $38 million mistake over the past 6 years. Doesn't that debunk his argument ?
I don't think this constitutes something false in the article because it is too obvious. Anything that is capitalised has to be amortized. It is like claiming that the anouncer in a baseball game is falsifing his destription by stating that the ball was hit really high because he fails to mention that it will eventually come down. I have said that this will affect future earnings negatively as the amortization is done but it will also pump up current earnings.
I'm a long and I agree with you.
Answer me however the alternative to the current method of accounting for these big contracts they are signing? The huge increase in hiring over the past year? These are not make believe jobs or contracts. They are real. I don't think there is a question about that. What is the incentive for fraud here? Again how else should they book these contracts if not the way they are currently?
Looking for real answers here.
I assume that using the revenue in excess of billing is ok by GAAP standards but it gives them a lot of revenue to be collected that is already on the books. I don't know of another legitimate company that has booked revenue that far in advance. In the company's response to the article, the stated that Hamill failed to mention that the amortized the past capitalized R&D. I would ask why at least some of the current R&D is not expensed in the current quarter as well. It also makes sense that this company would use questionable accounting practices considering their past problems with ethics. The most recent that stands out is the announcement of a stock buyback and share sale at the same time. They also restated earnings, I think at the end of 2008. If you are long, all I can say is good luck.
Great post ..... the pumpers will avoid your post like the plague ..... they rarely reply to common sense / logic / or the truth. They ALL seem to work for the SEC ...... NTWK ...... or SA ...... because they all have intimate knowledge of investigations and SEC inquiries and SA's / Hamill's involvement in a massive shorting scheme. It's almost child like. I mean how could anyone not see the writing on the wall ...... the three stooges are up to their same old tricks and we will probably see a restatement or dilution sooner than later
I also have not seen any valid argument that effectively debunks the facts of the article. All i've seen is loud pumper vitriol against the author, and raising wild accusations of fraud & prior short selling.