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Edited Transcript of SFE earnings conference call or presentation 2-May-19 1:00pm GMT

Q1 2019 Safeguard Scientifics Inc Earnings Call

Wayne May 10, 2019 (Thomson StreetEvents) -- Edited Transcript of Safeguard Scientifics Inc earnings conference call or presentation Thursday, May 2, 2019 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brian J. Sisko

Safeguard Scientifics, Inc. - President & CEO

* John E. Shave

Safeguard Scientifics, Inc. - SVP of IR and Corporate Communications

* Mark A. Herndon

Safeguard Scientifics, Inc. - Senior VP & CFO

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Conference Call Participants

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* James Robert MacDonald

First Analysis Securities Corporation, Research Division - MD

* Peter Kirk Lukas

CJS Securities, Inc. - Analyst

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Presentation

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Operator [1]

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Good morning and welcome to Safeguard Scientifics' First Quarter 2019 Financial Results Conference Call. Please note, this event is being recorded.

I would now like to turn the conference over to John Shave, Senior Vice President, Investor Relations and Corporate Communications. Please go ahead.

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John E. Shave, Safeguard Scientifics, Inc. - SVP of IR and Corporate Communications [2]

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Good morning, and thank you for joining us for this update on Safeguard Scientifics' first quarter 2019 financial results. Joining me on today's call and webcast are Brian Sisko, Safeguard's President and CEO; and Mark Herndon, Safeguard's Senior Vice President and CFO.

During today's call, Brian will provide a corporate and strategic update and review recent highlights, including developments at Safeguard and our partner companies, and Mark will discuss our results. Afterwards, we will open it up to your questions.

As always, today's presentation includes forward-looking statements, and those statements are subject to risks and uncertainties. The risks and uncertainties that could cause actual results to differ materially include, among others, our ability to make good decisions about the monetization of our partner companies for maximum value or at all and the return of the value to our shareholders, the ongoing support of our existing partner companies, the fact that our partner companies may vary from period to period, challenges to achieving liquidity from our partner company holdings, fluctuations in the market prices of any publically traded partner company holdings, competition, our ability to attract and retain qualified employees, market valuations in sectors in which our partner companies operate, our inability to control our partner companies, our need to manage our assets to avoid registration under the Investment Act of 1940 and risks associated with our partner companies, including the fact that most of our partner companies have a limited history and a history of operating losses, face intense competition and may never be profitable, the effective economic conditions in the business sectors in which Safeguard's partner companies operate and other uncertainties described in our SEC filings.

Many of these factors are beyond the company's ability to predict or control. As a result of these and other factors, the company's past financial performance should not be relied on as an indication of future performance.

During the course of today's call, words such as expect, anticipate, believe and intend will be used in our discussion of goals or events in the future. Management cannot provide any assurance that future results will be as described in our forward-looking statements. We encourage you to read Safeguard's filings with the SEC, including our Form 10-K, which describe in detail the risks and uncertainties associated with managing our business. The company does not assume any obligation to update any forward-looking statements made today.

With that, here's Brian.

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [3]

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Thanks, John. Good morning, everyone. Thank you for joining us today. We've continued down the path in 2019 that we started to pursue early in 2018. We've now returned an aggregate of over $120 million back to our balance sheet since we began pursuing this strategy, and we've paid down our aggregate debt by approximately $46 million. We continue to support and assist the development and maturation of our partner companies, and with the support of our financial adviser, Evercore, at the partner company level and with multiple other advisers at the partner company level, we continue to actively evaluate and explore potential opportunities and alternatives regarding the monetization of our remaining partner company interests and an efficient return of value to shareholders.

We have been and will continue to consider initiatives including, among others, the sale of individual partner companies, the sale of certain partner company interests in secondary market transactions or a combination thereof as well as the sale of the entire company. This process is consistent with the company's previously announced strategy of maximizing and monetizing the overall value of our partner company holdings and returning value to shareholders as soon as practicable. We remain committed to supporting the needs of existing partner companies, and we will continue to leverage our capital and relevant expertise to help Safeguard's existing partner companies achieve additional market penetration, revenue growth, cash flow improvement and growth in long-term value.

To reiterate some of what we discussed in our year-end call back in February, in 2018, we accomplished a lot under our new strategy, including streamlining our internal operations to reduce costs, repaying our maturing convertible debt and moving forward with strategic transactions with our partner companies that returned significant capital back to Safeguard, which has allowed us to make further debt repayments. We are pleased with what we have accomplished.

Our momentum in 2019 has been excellent. We continue to believe in the value of our portfolio, and we look at the Propeller transaction as the most recent example of the value potential in the portfolio. Safeguard is well-positioned to return value to shareholders. We believe that 2019 will continue to be a very active year for potential monetizations of our partner company interests as our partner companies continue to mature and as they attract strategic and financial buyer intention and as we continue to explore the other alternatives we referenced above.

Now I'll turn the call over to Mark for a review of the quarter's financial results.

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Mark A. Herndon, Safeguard Scientifics, Inc. - Senior VP & CFO [4]

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Thanks, Brian. Our first quarter resulted in net income of $21.7 million or $1.05 per share on a basic and fully diluted basis as compared with a net loss of $6.2 million or $0.30 per share for the same quarter of 2018. The largest event impacting the financial results for the first quarter was clearly the Propeller transaction that resulted in a $34.9 million gain, which has also significantly enhanced our financial liquidity.

Safeguard's cash, cash equivalents, restricted cash and securities at March 31, 2019 totaled $78.3 million as compared to $46.2 million at 2018's year-end. Safeguard's borrowings at March 31, 2019 under our senior credit facility totaled $68.6 million. As you know, the terms of the debt facility require that qualified cash balances over $50 million be used to repay principal along with the associated make-whole interest. In April, we made a principal and interest repayment of $27.4 million, resulting in a remaining debt balance of about $44.6 million.

As a result of our expectations of additional exit events in 2019, we expect to make additional early repayments in 2019. As a reminder, under the terms of the credit facility, the company is restricted from repurchasing shares of its common stock and/or issuing dividends until such time as the credit facility is repaid in full. Once the credit facility is repaid in full, we will move forward with our commitments to set aside appropriate funding for further partner company deployments and ongoing operating requirements and then with the assistance of Evercore, bring forward appropriate proposals for our Board to consider the best timing and method to return value to our shareholders.

Safeguard made $1.9 million of interest payments for the first quarter as compared to $1.3 million of interest payments in the first quarter of 2018. Our first quarter's interest expense of $2.5 million is higher than the cash payments due to the amortization of previously paid debt issuance cost and can be compared to $2.7 million of interest expense for the first quarter of 2018. Our aggregate interest payments will increase in the second quarter as our April prepayment of the credit facility included $3.4 million of accrued and make-whole payments.

We expect that the aggregate interest cost remaining on the credit facility will be approximately $9.6 million. Also related to the debt, I'll remind you that prior to the full repayment of our credit facility, we will, on a quarterly basis, for accounting purposes, estimate the value of our derivative liability under the credit facility based on the timing of the expected future prepayments. The value of that derivative liability increased by $2 million during the first quarter, reflecting our expectation of the accelerated repayment schedule. This amount is reported in the other loss, net line item on the statement of operations. The value of that derivative liability will decrease later in the year once additional repayments have been made, which will also be reflected as other income, net.

For the first quarter, corporate expenses, excluding interest, depreciation, severance, stock-based compensation and other nonrecurring items were $2.1 million, which is lower than the $3.4 million in the first quarter of 2018 but higher than the $1.9 million reported in the sequential fourth quarter of 2018. A decrease from the first quarter of 2018 is due primarily to the significantly lower level of staffing. The increase in these costs from the fourth quarter of 2018 is primarily due to payroll taxes that are typically incurred early in the year.

Notwithstanding that increment, we believe that corporate costs for 2019 will be lower than the $8 million to $9 million target that was announced in early 2018.

We are pleased about these savings for our shareholders, and we will continue to work towards continuing to decrease costs where possible. As part of those efforts, we are pleased to have entered into 2 sublease agreements, one for our existing office space and one for new, smaller, less expensive space, which will result in significant long-term cash savings. The sublease regarding our current space beginning in June 2019 will be concurrent with our existing lease and will result in $3.7 million of income that will substantially offset the remaining $4.2 million of lease payments that we are committed to under the original lease terms. While we do not expect further dramatic reductions to our cost levels, we will continue to look for ways to extract further efficiencies from our operations as we continue to pursue our strategy and support our partner companies.

Now with respect to our partner company holdings, at March 31, 2019, we had 19 partner companies representing an aggregate cost of $248.5 million and have a carrying value of $77.5 million. During the first quarter, we deployed $3.9 million of capital to 4 existing partner companies, the most individually significant being a $2 million funding into Sonobi. Additionally, in April 2019, we made opportunistic financings into 3 other partner companies. We deployed an additional $1.5 million into Zipnosis, $1.5 million into meQuilibrium, and $3 million into Syapse, each of which included significant participation from other investors.

While this quarterly funding level is higher than recent quarters, we continue to expect aggregate 2019 follow-on funding to be at a level similar to 2018 or less.

And finally, we would like to provide you with some commentary about the health and maturity of our portfolio. First, there were no impairments of partner companies in the first quarter of 2019. Also, our share of the losses of our equity method partner companies was $7.3 million as compared to $11 million in the first quarter of 2018 and $9 million in the sequential fourth quarter of 2018. These reductions are the result of less companies in the portfolio and more companies reducing their burn rate and trending towards cash flow breakeven. And lastly, we continue to project revenue growth in the aggregate, consistent with our prior guidance. Our projected range of aggregate partner company revenue for 2019 is now between $420 million and $450 million for the 19 remaining partner companies. That would represent a growth rate of between 11% and 19% for the same partner companies in 2018. I should also remind everyone that Safeguard reports the revenue on its equity and cost method partner companies on a 1 quarter lag basis.

Now here's Brian to share some final thoughts and lead us through the Q&A segment of the call.

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [5]

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Thanks, Mark. Operator, let's open the phones for any questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Bob Labick with CJS Securities.

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Peter Kirk Lukas, CJS Securities, Inc. - Analyst [2]

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Actually, it's Pete Lukas again for Bob. Not much to ask, pretty much same story here. Just -- if you could just touch on the funding that you plan to deploy for the second half of the year. I thought -- did you say similar to '19 or less? Can you quantify that in any way?

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Mark A. Herndon, Safeguard Scientifics, Inc. - Senior VP & CFO [3]

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Yes, the quantification we wanted to stick with was it would be similar to 2018 or less. And I think, right now, we're at -- for the first quarter, right, it's $3.9 million, but then the investments that we just listed off is another roughly $6 million, so round that to $10 million. So I believe last year's 10-K, the number was roughly $18 million.

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Peter Kirk Lukas, CJS Securities, Inc. - Analyst [4]

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And then, I guess I know -- okay. Sorry.

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Mark A. Herndon, Safeguard Scientifics, Inc. - Senior VP & CFO [5]

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Yes, go ahead.

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Peter Kirk Lukas, CJS Securities, Inc. - Analyst [6]

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And then I know there's probably not much you can say, but in terms of how the portfolio sets up for coming exits in the near term, is there anything that we should be looking at that we're close to? Or still just don't know at this moment?

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [7]

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Pete, I would just reiterate that I -- that we truly believe that 2019 will continue to be an active year. And I think I'd even go as far as to use the term highly confident of shorter-term exits. But obviously, until there's a transaction that I'm allowed to talk about, I can't. So -- but we're confident in the overall approach that we're taking and that, that approach will result in 2019 activity and not waiting until December for that activity to occur. If that helps you.

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Peter Kirk Lukas, CJS Securities, Inc. - Analyst [8]

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Yes. And then, I guess, just last one for me. Anything special that you can comment on that Evercore has brought to the table for you guys, a different way to look at things, whether it be selling. You mentioned this time, selling interests in companies or anything else that -- how helpful have they been so far?

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [9]

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Well, they're very active in the market in general. And their conversations with us and our Board have not produced any surprises, if that was the word that you used. Or -- there's only a limited number of different approaches we can take. So their work is concentrated on the obvious. But we're not in a position yet to make any further detailed announcements regarding their work. But they've been very active and our Board has been very active along with us in dialoguing with them about what the possibilities are for us in the second half of 2019.

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Operator [10]

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Your next question comes from the line of Jim MacDonald with First Analysis.

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James Robert MacDonald, First Analysis Securities Corporation, Research Division - MD [11]

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Could you give us your current thoughts on the digital media market where you have a lot of concentration and sort of -- and MediaMath in particular?

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [12]

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Yes. Well, I mean, obviously, with things like the Sizmek bankruptcy occurring in the market, it raises people's conscious level. But I think that, that was probably an outlier to how we're feeling in general about the digital media space. Sizmek was -- and I hope I don't get sued for saying negative things about them, but they -- it was kind of a hodgepodge of acquisitions that were brought together to try to create a platform. And I think it was sort of common knowledge within the industry that the pieces didn't fit as well as they might. So we continue to believe in the continued growth of the space. We continue to believe in, in particular, MediaMath's place in the higher echelons of that industry going forward. Companies like Sonobi that -- which I'll throw in that category, and QuanticMind, we still have a high level of confidence in what they're ultimately going to produce for us is on a returns basis. So that sort of, I think, capsulates our view of that market. Does that help you?

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James Robert MacDonald, First Analysis Securities Corporation, Research Division - MD [13]

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Yes. That's helpful. Just moving on to a couple specific portfolio company questions, if I can. You had Trice came in and talk to us a couple of years ago, and if I remember correctly, it sounded like they would have hoped to be over $5 million by now, but they still haven't seemed to graduate. Any thoughts on Trice?

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [14]

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No, I think, it's just a -- it's a function of a good company continuing to do what we want them to do and -- but with market penetration and scaling, not necessarily happening as quickly as we wanted it to, I mean, to be very clear about it. But the company has just, I think, just gotten to the point where as you've seen from recent announcements, we've elevated the leadership in the company to the commercial side of the business. Jeff O'Donnel did a great job building the company and getting it to the point of where it was ready for commercial scale. Mark Foster has now been elevated to CEO to take that to the next stage. I think the company is poised to expand its platform so that it's -- the value in that company as we've always viewed it would be is more as a broader-based value than just how many devices can you sell to look at people's needs. It's the whole approach to the less invasive, less expensive diagnostic platform that they've created and -- or started to create.

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James Robert MacDonald, First Analysis Securities Corporation, Research Division - MD [15]

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Great. And then, I think I'm right, but it appears that a couple of your companies have been taking on kind of quarterly probably bridge-type financing. Maybe you could give a little thought on -- and generally, you've done a great job, I think, getting your companies well-funded. But interested in specifically NovaSom and WebLinc that seemed maybe to be going from quarter-to-quarter.

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [16]

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Let me keep it at a higher level than getting down to individual partner company. Our approach with bridge funding falls into a couple of different categories, one of which is internal, and bridge is kind of a loose terminology that we -- that's utilized when you're funding through the internal group around the table, and you're typically either building towards a valuation metric of some sort or aiming towards a transaction so there's a lot of different varieties of what that looks like. But we utilize it as a means of further protecting downside. The structure of those transactions is such that you're playing both sides of it, not just the potential upside, but protecting your downside. And I think the companies that you mentioned fall into both of those categories. And you're right in identifying that we've done a fair amount of what we call bridge financing but keeping the amounts down to smaller levels. And that's all, I believe, consistent with our efforts to continually be positioning these companies for potential exits. Obviously, when you bring in a new third-party financing with a new price ground, you're probably resetting exit expectations. So we're cognizant of doing that in the right circumstances but not doing in the wrong circumstances where we're trying to move these companies along towards exit. We utilize that as a tool for doing that.

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Operator [17]

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And there are no further questions at this time. I will now turn the call back over to Mr. Sisko for closing remarks.

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Brian J. Sisko, Safeguard Scientifics, Inc. - President & CEO [18]

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Well, we know that much work lies ahead for us as we continue to execute the strategy. We'll continue to always focus on maximizing the shareholder value that we're producing. We'll keep you all apprised of our continuing progress. And in the meantime, thank you for your continued interest, confidence and support.

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Operator [19]

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This concludes today's conference call. You may now disconnect.