By Lisa Thompson
Net Element (NETE) reported its smallest quarterly adjusted operating loss since 2014 at $1.3 million as revenues continue to grow. It grew total revenues 17.9% year over year in Q2 2017, with both North America and PayOnline showing growth in the low 30 percents. The company reported revenues of $16.1 million in 2017 versus $13.7 million in 2016. The North American Unified Payments division grew 30.8% and added $2.6 million to revenues. PayOnline grew 33.2%, adding $270,000 to revenues. The Mobile payments division declined 71% to just $518,000 despite the strength in the Ruble.
Russian Restructuring Should Reduce Losses
The company took steps during the quarter to reduce expenses in Russia by consolidating the two separate offices for Mobile and PayOnline into one, and eliminating redundant and excess staff. The company also cancelled its lease on a Russian apartment. The total expense reduction for these actions has not yet been evidenced, as they happened late in Q2 and throughout Q3. We expect their full effect to be realized in Q3 and result in a restructuring charge taken in this September quarter. At this point, we expect G&A to be reduced in Q3 from Q2 levels, but are not sure by how much nor the magnitude of the restructuring charge. The Russian operations are already cash flow positive and this reduction in expense can only help margins going forward.
Gross Margin Reaches Two Year High
Gross margin expanded in Q2 to 17.1% from 16.1% in Q1 2016 and from 15.5% in Q1 2017. This was the highest quarterly reported gross margin since June 2015. The 19% growth in sequential revenues added 34% in gross margin dollars. We expect gross margin to continue to improve in Q3 with volume. PayOnline was certified in the US on August 7th, and we expect Unified Payments to ultimately save some money using PayOnline rather than a third party, but this may take until Q4 to cut over to the in-house system. The company believes as much as 15% of Unified’s transactions could benefit from integration resulting in perhaps as much as $100,000 a quarter. Both online transactions and those that are API-based (such as those coming from Poynt’s terminals via the internet, rather than telephone-based transactions) would able to use PayOnline. More importantly is that with its own front-end, Net Element will be able to offer a product with more features than it would using a third party solution and will ultimately make it more competitive.
Total expenses decreased to $4.2 million from $5.0 million primarily due to a reduction in stock-based compensation. The operating loss decreased to $1.3 million from $2.8 million. With the consolidation in Russia, using PayOnline in the US, and increased volumes, the company should be able to continue to reduce losses.
Interest expense decreased to $322,000 from $429,000 in Q2 2016 due to more favorable lending terms. Of that $150,000 was cash interest.
This quarter there were 17.7 million average primary shares outstanding, while last year there were only 11.6 million, or 52% more than last year. The company is not in compliance to retain its listing and is in the process of requesting an extension. Management is getting prepared to reverse split the stock in order to regain compliance if needed. If it were to do so, it plans to wait as long as possible before taking this action.
The adjusted non-GAAP operating loss was $1.5 million versus $1.2 million a year ago. On a per share basis however, the adjusted non-GAAP loss per share declined slightly to $0.09 per share versus a loss of $0.10 per share in 2016 due the increased number of shares rather than a reduction in losses. The company reported it had 19.0 million primary shares outstanding on August 11, 2017.
The Cash Burn Continues as Net Element Invests In Growth
The company is still burning about $400,000-500,000 a month. This quarter it financed losses by borrowing an additional $2.6 million. In Q2, $563,000 was invested in client acquisition. After October, the company will be done paying for PayOnline, which now costs $200,000 per month. The company is still planning to launch its Aptito front-end system in Russia to be sold by PayOnline and is waiting on the Russian government to finalize new regulations. The company believes Aptito will be very competitive in the restaurant market versus the alternatives now available in Russia.
While the company continues to grow at high rates, it will continue to be cash flow negative. Net Element is focused on growing revenues and is willing to sacrifice short-term profits to generate revenues with a long tail, future profitability and higher margins. If it were to slow down growth it could be cash flow neutral. As long as public markets are willing to fund the company through equity, this strategy may play out in future years.
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By Lisa Thompson