Amit Birk - VP, M&A and General Counsel Guy Bernstein - CEO Asaf Berenstein - CFO

Bhavan Suri - William Blair Tavy Rosner - Barclays Kevin Dede - H. C. Wainwright

Ladies and gentlemen, thank you for standing by. Welcome to the Magic Software Enterprises Limited Fourth Quarter and Full Year 2014 Results Conference Call. All participants are at present in a listen-only mode. Following management's formal presentation, instructions will be given for the question-and-answer session. [Operator Instructions] I'd also like to remind you that this call is being recorded. A replay of this call will be available after the call on the Investor Relations Section of the company Web site. With us on the line today are Mr. Guy Bernstein, CEO; Mr. Asaf Berenstein, CFO; and Mr. Amit Birk, VP, M&A and General Counsel. I would now like to turn the call over to Mr. Amit Birk of Magic Software. Please go ahead.

Thank you, and good morning, everyone. Our quarterly earnings release was issued before the market opened this morning, and is available on the company's Web site at www.magicsoftware.com. Before we start, I'd like to remind everyone that this conference call may contain projections or other forward-looking statements. The Safe Harbor provision provided in the press release issued today also applies to the content of this call. The company expressly disclaims any obligation to update or revise any of these forward-looking statements whether because of future events, new information, in change in its view or expectations or otherwise. On this call today, we will provide you with details about our performance in the fourth quarter and full year of 2014, including certain non-GAAP financial measure. We provide non-GAAP financial measures because we believe that they are the most valuable way to review our core operating results. We've provided a reconciliation of non-GAAP measures to their comparable GAAP measures in our earnings release. In addition, as explained in our press release, on January 28, 2015, as a result of an arbitration proceeding filed against us and one of our subsidiaries in 2009 by a software company and one of its owner claiming an alert breach of non-disclosure agreement. The arbitrator rendered his ruling and determined the damages that we and one of our subsidiaries should pay the plaintiff. Therefore, our financial result of operation for the fourth quarter include a net impact of $1.6 million resulting from the arbitration. We're still considering our options following this ruling. I will now turn the call over to Guy.

Thank you, Amit. Good morning, everyone, and thank you for joining us today as we report our fourth quarter and full year 2014 financial results. I will provide you with the highlights of our fourth quarter and full year results and a review of our business activities, and then turn it over to Asaf, who will drill down into the numbers. We are pleased with our strong revenue growth and operating results for the fourth quarter and full year of 2014. We came in at $154.3 million for the year, which is near the top end of our revenue guidance, and this is our fifth straight year of bringing record-breaking revenue and operating income. Revenue in the fourth quarter reached $42.5 million, an increase of 3% year-over-year with non-GAAP operating income of $7 million, reflecting an increase of 3% over the prior year. While I'm pleased with these results, they could have been better had we not been negatively impacted by foreign currency devaluation and one-time arbitration cost. As far as our businesses, we are continuing to experience steady growth across our software products, maintenance, and professional services lines of business as a result of continuing enhancement to our products and services, winning dozens of new customers and leveraging opportunities to cross-sell and up-sell existing customers. We are also continuing to work on closing some M&A activities to strengthen our portfolio and enable us to accelerate growth in 2015. I would now like to turn the call over to Asaf, our Chief Financial Officer to discuss the financial results in more details. Asaf, please?

Thank you, Guy. Today we will be analyzing our results on a non-GAAP basis, which as mentioned at the beginning of the call, better conveys the operational state of the business. The financial tables provided in our fourth quarter and full year 2014 earnings press release included detailed reconciliation of non-GAAP measures to the comparable GAAP measures. As Guy mentioned, our fourth quarter revenue was $42.5 million, up 3% compared to $41.2 million for the fourth quarter last year and up 6% compared to $40.2 million for the third quarter of 2014. As we derived approximately half of our revenues from EMEA and APAC, our revenues for the fourth quarter were negatively impacted by approximately $1.5 million compared to the fourth quarter of 2013 and the in the third quarter of 2014, mainly due the devaluation of the Euro, Japanese Yen, and new Israeli Shekel, which decreased 8%, 14%, and 9% respectively versus the dollar compared to the fourth quarter of 2013 and 6%, 10%, and 9% respectively versus the dollar compared to the third quarter of 2013. Having said that, since our headquarter; main R&D center located in Israel, this had no material impact on our operating income. Our non-GAAP gross profit was $18.2 million up 2% compared to non-GAAP gross profit of $17.9 million in the fourth quarter of last year and up 12% compared to non-GAAP gross profit of $169.3 million in the third quarter of 2014. Non-GAAP gross margin for the fourth quarter was 42.8%, reflecting an increase of 240 basis points compared to 40.4%, comparing to the third quarter of 2014. Growth in gross margin resulted from increased sales activity across all our revenue streams. Our non-GAAP operating income for the fourth quarter of 2014 was $7 million or 16.5% operating margin, up 3% compared to non-GAAP operating income of $6.8 million or 16.5% operating margin in the fourth quarter of last year, and up 9% compared to $6.4 million or 16% operating margin in the third quarter of 2014. Our non-GAAP net income was $5.6 million or $0.13 per diluted share based on $44.5 million fully diluted shares outstanding, compared to the non-GAAP net income of $6 million or $0.16 per diluted share, based on $37.5 million diluted shares outstanding in the fourth quarter last year. Our non-GAAP net income was negatively impacted by the devaluation of cash and other working capital balances denominated mainly in Euros, Japanese Yen, and new Israeli Shekel by approximately $800,000 or $0.02 per diluted share following devaluation of these foreign currencies agains the U.S. dollar. Furthermore, I would like to remind you that part of this decrease in EPS is due to our share count increasing as a result of our $59 million public offering this past spring. Turning to the results for the year, revenues for the year increased 13% to $164.3 million compared to $145 million in 2013, this all-time high in revenues reflects increases across all our revenue streams, including software and licenses, maintenance, and professional services. Our non-GAAP gross profit was $68.9 million up 9% compared to non-GAAP gross profit of $63.2 million in 2013. Non-GAAP gross margin for the year was 41.9% compared to 43.6% recorded in 2013. Though we experienced increase across all our revenue streams, the decrease in non-GAAP gross margin resulted from changes in the mix of revenues generated by professional services versus software and maintenance and support. Our non-GAAP operating income for the year was $25.9 million or 15.8% operating margin, up 14% compared to non-GAAP operating income of $22.7 million or 15.7% operating margin in 2013. Our non-GAAP operating income for the year was $20.3 million or $0.47 per diluted share compared to non-GAAP net income of $19.5 million or $0.52 per diluted share in the fourth quarter last year. Our non-GAAP net income was negatively impacted by devaluation of cash and other working capital balances denominated mainly in Euros, Japanese Yen, and new Israeli Shekel by approximately $1.6 million or $0.04 per diluted share following devaluation of these foreign currencies against the U.S. dollar. Turning to the balance sheet, we ended the quarter with $84.4 million in total cash and short-term investments. Our strong financial position, including strong free cash flow enables us to maintain a dividend policy for our shareholders. Our policy is to return up to 50% of our net income in the form of dividend. During 2014, we distributed on aggregate approximately $8.7 million or 21.5 cents per share in accordance with our dividend policy. Our current dividend yield is approximately 3.2%. With that, I will turn the call back to Guy for closing comments.

Thank you, Asaf. So in summary, we had another year of record revenue and operating income, and met the high end of our revenue guidance. However, our results would have been even better had we not been hit by foreign currency devaluation and the one-time arbitration expense. With that, I would like to turn the call now over to the operator for questions.

Thank you. [Operator Instructions] The first question is from Bhavan Suri of William Blair. Please go ahead. Q - Bhavan Suri: Hey, Guy, Asaf. Can you guys hear me okay? A - Guy Bernstein: Yes.

Yes. Q - Bhavan Suri: Okay. Thanks for taking my question. Let me just start off on the first one, can you just give a little bit of color guide on this arbitration issue and sort of -- are you putting policies in place or are there policies in place that are not enforced that led to that non-disclosure or the disclosure, rather? A - Guy Bernstein: Again, again, I didn't -- I'm not sure we heard the question. Q - Bhavan Suri: Yes. So obviously you have this issue with the arbitration and I guess I'm wondering is there a policy in place that you're managing through the process, but none of the -- there's no chance this happened again. A - Guy Bernstein: When you work with a company then you sign all kinds of documents. You always have a chance that someone will decide to sue you. The problem is that the full arbitration process is under confidentiality. Therefore we cannot expose any details. But other than that, it's -- something we never expected that we'll get to anything significant. Unfortunately, the arbitrator decided differently, and we had to take some expense due to that. But usually we are quite cautious with all the documents we sign. But people that want to sue you, there is nothing you can do with it. Q - Bhavan Suri: Sure. And then… A - Guy Bernstein: And the answer is no. We don't expect any more things like that over -- anyone can sue us. Q - Bhavan Suri: And then when you look at the growth this year and even in the quarter, you said that the mix was healthy, but was it similar or do you have a little more shift towards license because margins seem to have improved on the gross margin level nicely. A - Guy Bernstein: Yes, in fourth quarter we had a shift towards licenses. Q - Bhavan Suri: Right. Any color on whether you think that will sustain that mix shift although that is more on the services side, as you look out to you know 2015 and 2016? A - Guy Bernstein: Let's say whatever we have visibility for, let's say, for Q1 for example, it looks like it's sustainable. But with license, you can either make it or miss it. It can shift easily between the quarters. Q - Bhavan Suri: Right. And what do you think striving at uptick, Guy, you had a pretty steady mix and now you're seeing a slight improvement in there? Is that you think the hybrid model of the cloud? Do you think it's the mobility portion? Or do you think its more the integration platform, or the development platform? What's driving that uptick? A - Guy Bernstein: I think mostly it's between integration; it's between the hybrid models of the cloud, and a lot of preparations for the mobility trends. In terms of business on the mobile side, you'd see quite small amounts of this, meaning a lot of bills but small amounts. But in terms of the preparations, you'd see a lot of projects around it. Q - Bhavan Suri: Okay. And one quick one, last one from me, I know you're not guidance, but if you think about growth rates, just help us sort of benchmark, is this business longer term or even as you look out over the next couple of years, a low double-digit business or is there a chance we see some acceleration? A - Guy Bernstein: Let's put it this way, if we are planning as is without any good surprises we expect it to be around I would say 12%, 14% year-over-year without acquisitions. But we definitely -- we always wish that one of the things will keep up -- will pick up strongly and then you will see an improvement. Q - Bhavan Suri: Yes, that's helpful. Thanks for taking my call, Guy. A - Guy Bernstein: Thank you, Bhavan. Q - Bhavan Suri: Nice job on the numbers. A - Guy Bernstein: Thank you.

The next question is from Tavy Rosner of Barclays. Please go ahead. Q - Tavy Rosner: Hi, thank you for taking my question. I was wondering if you could give little more colors on your -- just as a follow-up to your soft guidance for 12%, 14%, would that include potential negative impacts of currencies or that would be some kind of a net organic growth? A - Guy Bernstein: This is what we evaluate at the moment to see what is going to be the impact of the currencies because it will hit us assuming they will remain as is. So we as always you want to be cautious to come up with numbers that you can mix. So it will probably take us a few more days.

Okay, understood. And last quarter, you talked about M&A and having few targets under your radar back then. Can you give us some color of what type of targets you have on the distribution side or on the product side? That would be helpful. A - Guy Bernstein: I can give you some more colors and then someone will sue me for breaching the NDA. I'm joking. Yes, we have like three opportunities on the table right now. One of them quite mature; I'm hoping to close it in the next, say, week or two. And of course if we will close it we will announce it. It's a company that provides services on one of the platforms we sell. And it's a good one with good margins. We have two more that are -- let's say in more kind of preliminary stages, but interesting. So I don't see any point to talking about it. Other than that we do have a lot of cash, we generate a lot of cash, and we do look for something which is a game changer in order to boost the growth and profitability and everything. But this is more difficult because we compete with the private equity funds that are spending tons of money with outrageous valuations that we cannot mix. So it's more difficult. Q - Tavy Rosner: Great, understood. Thank you.

[Operator Instructions] The next question is from [Barten Brass] [ph]. Please go ahead.

[Foreign language] I'm here. A - Guy Bernstein: Hi. [Foreign language]

Last CC you talked about three -- are these the same three M&As that we were talking about last quarter? A - Guy Bernstein: Well, I think one of them is the same, one of them sell down and one of them is still I think it got a bit cold but we're still talking to them.

Okay. So the one you were talking about you might close in the fourth quarter was the one that your M&A -- close to now? A - Guy Bernstein: Yes.

Okay. The secondary was last spring?

Yes.

Can I ask what the purpose of the secondary was? A - Guy Bernstein: Yes, definitely. It was for two main reasons; one of them was in order to hire to increase the sales task, the sales force of the organization. And unfortunately with this we had some difficulties. And the other one was to boost the M&A activities.

I have the same problem in the light business, I wonder if that's the general thing hiring sales people and such staff. A - Guy Bernstein: In the state, it's quite tough. I must say it's -- you take some guys, they look perfect -- they leave before you hire them.

Yes. It's a different situation in States, very, very different. A - Guy Bernstein: Yes.

Can I ask a very general question? What is your goal? I mean, secondary -- this is the second secondary in about what three or four years -- every time the price gets up to a secondary comes in -- your market timing is perfect. I mean you know as an investor you're perfect about when to take the secondary, but I'm wondering what is the long-term goal? What is the goal of Magic? A - Guy Bernstein: I can tell you that the -- let's put it this way the idea of raising the money was first to bring some new investors because the company was under the radar and no interest whatsoever so -- in the States you cannot bring new investors unless there is a deal on the table. No bank will work for you unless you have a deal.

Okay. A - Guy Bernstein: This is one thing. Then, I can tell you that my personal target with Magic is to take the company to the next level, bring it to over $300 million in terms of revenues and making the same profitability and maybe even a stronger profitability. And this is the goal for me.

Okay. Okay, thank you. A - Guy Bernstein: Thank you.

The next question is from Kevin Dede of H. C. Wainwright. Please go ahead.

Hi, good afternoon gentlemen, it's Kevin Dede, H. C. Wainwright. I'm just wondering guys you saw some seasonality in the fourth quarter that I think you normally do see, I'm just wondering if you could speak to that a little bit. A - Guy Bernstein: Yes, I think all in all what you see in the fourth quarter usually is we are a bit stronger on the technology sales but on the other hand on the services side it's a bit weaker because of Christmas and you know people getting ready to the holidays. But all in all in terms of the mix it's better. There is some nice seasonality.

Would you say your services business is strengthening in North America? How would you characterize that? A - Guy Bernstein: Yes, it did get weaker in the beginning of the year and we see some positive signs.

Okay. You see positive signs but it was in -- I mean given the strong licensing are -- I guess it's tough to chop to the weeds. I was wondering if you could just sort of comment on it, North America versus say the other geographies in Europe, in particular just given different economic growth rates? A - Guy Bernstein: You can say something about that, Asaf?

Again, the way that our revenues steadied across the year is pretty much the same, and we bought it on a quarterly basis. We have a good opportunity to create the business calling from the Americas, around 42% coming from EMEA, and the rest from APAC, 10%.

Right. Okay. So, is there any noticeable change in the competitive environment? I know that some of the larger EMEA probably asked us at least three times last year too, but I'm just wondering if you're seeing more pressure from the larger software vendors to provide integration services and how you're dealing with that. A - Guy Bernstein: The competition is there, meaning, I think the main advantage that we bring to the table that were never -- there is a new trend in the market whether we talk about cloud computing or we talk about mobility, we're ahead of the big competitors with some good solutions and we're not talking about the same price range, because when you go to Accenture or Informatica, it's different price, sales, and usually they work with much big organizations. I think we are more concentrating on the DSME markets, or if we go up to the corporate, then usually on a more kind of departmental level because we don't spend our sales force time on going after the edge of seas of the world.

I understand that, but do you see a potential conflict as you try to push the company to greater scale? Do you see some of those larger software vendors coming downstream, and at some point you're going to meet them face-to-face competitively? A - Guy Bernstein: First of all, we do meet them. We see Telefonica, Informatica, and we see IBM, and we see all the rest of them; it's not that we don't see them.

Okay.

On the integration side, we do see continuous improvement in terms of license sales. If we look at the last five years, meaning, in this year we had the largest amount of sales coming from integration licenses. This is every other year.

Right. So I guess that's -- and so, to your point that you're seeing these competitors but they're not winning where you're in.

Yes. And we don't win where they are, unfortunately.

Well, I mean it becomes a question whether or not you build and meet demand of really, really large customer too.

Yes.

So, can you talk about your R&D development and what you're hoping to add to your product and service portfolio as the year unfolds? What sort of changes and service and product, specifically product offerings…

I think in terms of R&D, first of all, there is -- I think every quarter they come up with some new ideas. The idea is basically to analyze the market and see where the money is, because I can -- say for example, on the mobile, yes, there is a lot of traction around it, but small money for now.

I'm sorry. You said no money for now?

No, small money.

Small money for now…

Yes. You see a lot of organizations that are…

You see a lot of customers aren't making an important aspect of growing their business?

Yes, they do, but unfortunately for now, they are starting in a small scale where they negotiate with you for large scales on the licenses. So for now, we still see some small amounts on the mobile side.

Okay, I see that. But are you working to increase your product offering, so you have more capability to offer customers or are you just waiting to see how they might want you to help them?

No, we work all the time to provide some new capabilities to our customers in large, and basically, for example, with the integration we look all the time for new ecosystems that we can ride on and provide with the new solutions. With our product, with the development, we add capabilities in order to support whatever it is, Big Data and the rest of the trends out there. We do it all the time.

Okay.

For example, this year we developed a new connector [indiscernible] CRA and we increased our capabilities there in all connectors; for example, for the DLM system. So every time when we see a need and when we see that we can help ecosystem, software vendors, we will invest in the product.

And then, of course you make sure that you're able to take that development and offer it as a capability to other customers?

Yes.

Could you give us your headcount at the end of the year, and where you expect to be at the end of 2015 without acquisitions?

Today we are approximately at 1200. A - Guy Bernstein: Let's say, without acquisition I don't think it's going to change dramatically unless we'll succeed with hiring more sales people, which is not easy.

Yes. You did talk to that; can you talk about consultants and technicians, I mean if you are hoping to grow the business, won't you need more people to actually get it done? A - Guy Bernstein: Yes, I would say that to estimate number of employees, it would be between 8% to 10% increase for next year. Most of it will come of course from professional services side.

Okay, great. So we could expect your headcount to go to 1300 or 1350, somewhere in that range? A - Guy Bernstein: Yes.

Okay. All right, fair enough. Thank you for entertaining my questions, and congratulations on a nice quarter. A - Guy Bernstein: Thank you.

You guys did a nice job finishing up the year. A - Guy Bernstein: Thank you very much.

There are no further questions at this time. Mr. Bernstein, would you like to make any concluding statements?

Just one or two, thank you all for joining our call, especially on Friday, I'm hoping to bring some good news next time. Thank you.

Thank you. This concludes the Magic Software Enterprises Ltd. fourth quarter 2014 results conference call. Thank you for your participation, you may go ahead and disconnect.