Q3 2024 TSS Inc Earnings Call

We'll open the floor for your questions and comments after the presentation should you wish to join the queue to ask a question at any time you May Press star one on your telephone keypad and you May Press Star two should you wish to remove your line from the Q&A queue.

Speaker Change: As a reminder, this conference is being recorded it is now my pleasure to introduce your host James Carbonara Investor Relations at Hayden IR.

Speaker Change: Sir you may begin.

Speaker Change: Thank you operator, and good afternoon, everyone. Thank.

Speaker Change: Thank you for joining us for TSS as conference call to discuss the company's third quarter 2024 financial results.

Darryl Dwan: Joining me today on this call are Darryl Dwan, President and CEO of TSS and Danny Chism, the company's CFO.

Darryl Dwan: As we begin the call I would like to remind everyone to take note of the cautionary language regarding forward looking statements contained in the press release, we issued today.

Darryl Dwan: That same language applies to comments and statements made on today's conference call.

Darryl Dwan: This call will contain time sensitive information as well as forward looking statements, which are accurate only as of today November 14 2024 P.

Darryl Dwan: <unk> expressly disclaims any obligation to update amend supplement or otherwise review any information or forward looking statements made on this conference call or replayed to reflect events or circumstances that may change your arise after the date indicated except as otherwise required by applicable law.

Darryl Dwan: For a list of the risks and uncertainties that may affect the company's future performance. Please refer to the company's periodic filings with the SEC.

Darryl Dwan: In addition, we will be referring to non-GAAP financial measures.

Darryl Dwan: A reconciliation of the differences between these measures with the most directly comparable financial measures calculated in accordance with U S. GAAP is included in today's press release.

Darryl Dwan: With that Darryl I'll turn the call over to you.

Darryl Dwan: Great. Thank you James and good afternoon, everyone. Thank you for joining us today for our third quarter 2024 earnings conference call I'm very excited to share that today marks my two year anniversary with TSS I am very proud of our team's accomplishments to date and we look forward to continuing this journey together you will hear today, we have a lot of.

Darryl Dwan: Adding things going on we delivered exceptional results in the third quarter across all key financial and operational metrics and customer satisfaction remains high by all measures. It was a great quarter for TSS.

Darryl Dwan: This strong performance demonstrates that we are successfully executing our business strategy to deliver growth in revenue earnings and cash flow, while scaling our business and operations.

Darryl Dwan: Actions, we took in 2023 to streamline their operations by investing in people systems and physical layout of our main integration facility are producing excellent outcomes, we're delivering for our customers our shareholders, while laying a foundation for accelerating growth.

Darryl Dwan: For the third quarter, we delivered 71 million in total revenue representing year over year growth of 689% and nearly 12 fold increase in net income compared to the third quarter of last year and an exponential increase in diluted EPS from just a penny.

Darryl Dwan: In Q3 of last year to 10.

Darryl Dwan: In Q3 of this year.

Darryl Dwan: Importantly, the increases were driven by growth across all of our service offerings.

Darryl Dwan: These are impressive financial results are a direct outcome of our commitment to operational excellence strengthening relationships with our customers and highly attractive market in which we operate.

Darryl Dwan: As you May recall, we made a significant investment in our production capacity in the second quarter with these operational improvements we have decreased our cycle time to complete racks, and thereby increase our volume throughput.

Darryl Dwan: Computer racks that historically taken accompany two to three weeks to complete are now regularly down to turn times of less than one day.

Darryl Dwan: The first stage of a highly publicized integration program for AI enabled rags came online at the beginning of June the initial program carried well into the third quarter, our procurement business, where we source third party hardware software and services delivered an outstanding performance in Q3.

Darryl Dwan: And last quarter's earning call.

Darryl Dwan: We shared that we expected procurement revenues in the third quarter exceed $50 million in revenue I am proud to report that we exceeded that target by a fair margin with $60 5 million procurement revenues in the quarter compared to $5 4 million this quarter a year ago.

Darryl Dwan: For those familiar with our history Youll recall recall that our procurement segment, often experiences quarter to quarter fluctuations due to size timing and revenue recognition method used for these orders, although volumes may fluctuate quarter to quarter. This business lines overall trajectory remains upward consistently and increasingly.

Darryl Dwan: Contributing to our profitability.

Darryl Dwan: Shifting to a click a quick look at our facilities management activities, primarily for our modular data center or MDC as we referred to it we continue to experience moderate overall growth with this segment's revenue up 8% this quarter.

Darryl Dwan: This is a more predictable business line for us with healthy gross margins typically north of 50%.

Darryl Dwan: As previously highlighted a few challenges in this business primarily from rapidly increasing compute density and evolving cooling requirements. We believe the expanding adoption of AI enabled technology will drive an incremental demand for MDC and produce revenue in 2025 and beyond due primarily.

Darryl Dwan: The long lead times for the new modular data centers.

Darryl Dwan: Whether this materializes predicted.

Darryl Dwan: It remains to be seen we are strategically positioned to capitalize on this trend, particularly if AI clusters are delivered as freestanding racks or modules. We believe this may be an attractive option for medium to large enterprises that want computing power. They may not have the ability to scale to justify the cost of installing new direct liquid cooling.

Darryl Dwan: So as needed to support the next generations of expected a Iraq technology.

Darryl Dwan: MDC may be may be a cost effective way for enterprises to enter that space. Our key customers have robust pipelines and deals are beginning to close.

Darryl Dwan: So our strategic inclusion in key customer programs signals optimism.

Darryl Dwan: By us as pipelines materialize.

Darryl Dwan: Subsequent to quarter end, we entered into a long term agreement with our primary customer solidifying our position as a key partner for executing its technology roadmap by developing required integration and testing capacity to meet the demand driven by high performance infrastructure supporting generative AI.

Darryl Dwan: This agreement greatly mitigate operational risks for each of us enhances our revenue visibility and consequently greatly supports our ability to finance that needed investment in capacity and capabilities.

Darryl Dwan: It is a significant milestone for TSS and speaks volumes as to the status of our relationship with this important customer.

Darryl Dwan: The base case scenario for volume stipulated agreement is similar to or greater than the peak volume of AI enabled rack integrations that we delivered earlier this summer.

Darryl Dwan: Volume expectations are dependent on sales execution by our OEM partner, but our partner has shown great confidence in TSS by committing to help to smooth, what otherwise could be a feast or famine business.

Darryl Dwan: And the negotiation of the agreement was underpinned by our mutual recognition that we are in the very early stages of the development of AI infrastructure, which we both expect to be a massive multiyear market opportunity.

Darryl Dwan: The operational improvements we made in the second quarter and our facility, where a great interim step we recognize that given current market trends the expected increasing power requirements of upcoming generations of AI rack technology, our customers technology outlook in our goal to become the primary production partner for the AI related.

Darryl Dwan: Acknowledging that roadmap, we need to deliver and further expand our capacity so.

Darryl Dwan: So in concert with this new customer service agreement plans are underway for our relocation of our factory in headquarters to a new location just a few miles from where we stand today.

Darryl Dwan: This is a substantial next step in positioning our business for continued rapid growth.

Darryl Dwan: Given our current trajectory and accelerating demand for AI enabled technologies, we need more space to access and access to increased power. We expect our volume of rack integrations to be at or above the volumes that we experienced since June 24, but importantly that next generation of racks will consume up to.

Darryl Dwan: Six times more power than those being produced today at the new facility, we will expand our capacity by more than 60% from 105000 square feet today to almost 170000 square feet of operating space and more importantly, we will gain access to significantly.

Darryl Dwan: Greater power to accommodate the foreseeable technology roadmap and capacity planning one key reason we are favored by our partners is our ability to be agile and our ability to quickly modify production lines and process to meet customer and new requirements.

Darryl Dwan: That trade has manifested manifested in our systems and physical layout of any building we move too.

Darryl Dwan: Site plans call for investment of approximately $25 million to $30 million for improvements.

Darryl Dwan: With a significant portion of that cost allocated to bring in additional power into the building.

Darryl Dwan: The investment will provide greatly expanded cooling capacity for Iraq testing and validation stations tripling our capacity to test and validate direct liquid cooled racks. In addition to the more traditional air cooled racks as we've alluded to in recent announcements cooling methodologies are in development for <unk> with <unk>.

Darryl Dwan: Dramatically increasing power consumption, the thermal dynamics of which will all but required direct liquid cooling to effectively dissipate the heat generated.

Darryl Dwan: Our flexibility to handle air cooling and or direct liquid cooling as a critical differentiation differentiator of our service.

Darryl Dwan: We are exploring several buildings that are in the process of finalizing a lease agreement for our preferred property.

Darryl Dwan: And we are exploring bank debt financing alternatives for the leasehold improvements.

Darryl Dwan: Based on the structure of this multi year agreement with our customer we are comfortable that the revenues generated from that will be sufficient to cover the variable and fixed costs related to our rack integration activities, including the incremental lease obligation and debt service on any debt, we incurred to finance the capital investment.

Darryl Dwan: We expect to begin operations at this new facility. After the first of the year and to be fully operational and supporting our long term customer agreement from this new location in early 'twenty five.

Darryl Dwan: Turning to corporate governance for just a second.

Darryl Dwan: We recently announced the appointment of Michael <unk> as an independent director to our board and as a member of our audit and compensation Committee.

Darryl Dwan: Michael has a proven track record, leading digital transformation and advanced New technology solutions.

Darryl Dwan: That deliver significant revenue growth. He has been involved in it infrastructure and supply chain businesses with customers, including many of the largest technology companies in the world Mike will be an invaluable member of the team as we continue to execute our drugs growth strategy and further scale our business with Mike's appointment. Our board now is comprised of four directors three.

Darryl Dwan: Our whom are independent.

Darryl Dwan: Concurrent with our earnings we began trading today on the NASDAQ capital market. This is a great milestone we pursued this uplifting to improve our investors trading liquidity and to widen the pool of potential investors, including institutional investors, whose investment policies may prevent them from investing in companies trading over the counter.

Darryl Dwan: Yeah.

Darryl Dwan: We believe this is a huge accomplishment and a step forward another sign of the maturing of our company. Our ticker symbol has not changed and there should be no disruption to clearing of trades already executed.

Darryl Dwan: Serving our customers with the highest quality.

Darryl Dwan: With the highest levels of quality and integrity is the bedrock of our company.

Darryl Dwan: It is the basis by which we operate and is critical to our success. We were thrilled to be awarded the professional services best deployment partner Award for 2024 by our largest customer.

Darryl Dwan: The award highlights our rapid adaptability and unwavering commitment to our customer service.

Darryl Dwan: Our dedicated service and collaborative spirit have enabled us to execute.

Darryl Dwan: And often exceed our customers' expectations. The award is an incredible honor as is the opportunity to serve this customer each and every day we value. This relationship we are pushing the boundaries of what's possible in AI and high performance computing infrastructure.

Darryl Dwan: The market for AI infrastructure continues to advance customers are raising significant capital to deploy AI infrastructure. Many of the initial adopters, our datacenter and cloud technology companies building specifically for AI.

Darryl Dwan: The mass the vast majority of the market likely will be medium and larger enterprises that will build high performance compute environments not just for large language models and other training, but for AI application deployment.

Darryl Dwan: We are working with our key customer partners and directly with end user customers under us to begin to understand how hyper dense compute required for AI will be implemented in the vast majority of data center sites will have more on this and report more on this as the quarters and the quarters to come.

Darryl Dwan: So allow me now to turn the call back to Dan to discuss our numbers in a little bit more detail Danny.

Dan: Thanks, Darrell by all accounts it was a great quarter for TSS, let's jump into it.

Dan: Consolidated results consolidated revenues for the third quarter of this year was $70 $1 million almost eight times the $8 $9 million total revenues reported this quarter last year.

Dan: This is also a substantial increase in sequential results up from $12 2 million in the second quarter of 2024.

Dan: The increase was driven in large part by growth in our lower margin procurement services business as well as growth in our higher margin systems integration business revenue.

Dan: Revenue. This period grew in all major product lines compared to this quarter last year.

Dan: Our segment reporting looks a little different this quarter than it did last quarter beginning in the third quarter were breaking out our systems integration and facilities management revenues.

Dan: In a bit more detail to increase the transparency and give investors a clear picture of the drivers of our business.

Dan: Particularly within the systems integration segment, we are providing a bit more detail to understand the portion of growth driven by the procurement activities versus systems integration activities and in the MD&A section of the 10-Q filed earlier. This afternoon, you will find a tabular presentation of the procurement activities in particular and a bit more.

Dan: Detail not only to revenues the cost of goods gross profits and gross margins for each of those components of the systems integration segment.

Dan: Total revenue from the systems integration segment increased from $7 $1 million in the prior year quarter to $68 $1 million in the current quarter.

Dan: Current quarter segment revenues are comprised of $7 $6 million from integration services and $65 million from procurement services.

Dan: The integration services revenues of $7 6 million represents growth of 361% compared to $1 7 million in the year ago quarter.

Dan: The growth was driven by an increase in the AI enabled rack integrations, which began late in the second quarter.

Dan: Demand for this business is robust and the recently signed multiyear agreement mentioned by Darryl to provide these services greatly reduces the effect of fluctuating demand or supply chain issues that are inherent in this business, allowing us to maintain the facility and staffing levels to quickly serve our customers' needs enhancing our flexibility and ability to delight.

Dan: Our customer.

Revenue from facility management totaled $2 million compared to $1 8 million in the same quarter last year up 8% year over year as.

Dan: As Darryl mentioned this is generally a fairly predictable revenue stream with gross margins gross profit margins generally above 50%.

Dan: That was down slightly this quarter.

Dan: We see the potential for more robust growth in this segment in 12 to 18 months is more medium and large enterprise clients consider using modular data centers as a cost efficient means to harness the power of AI technology without the need to build out full data centers with all the requisite cooling capacity.

Dan: Revenue from procurement services totaled $65 million up more than 1000% compared to $5 4 million in the year ago quarter.

Dan: Recognize procurement revenues and related costs as well as the resulting gross profit gross margin percentage.

Dan: Based on recorded values can be heavily influenced by weather, we transform the product.

If we do something that transform the product we report the gross value of the transaction along with the gross costs of those goods called gross deals.

Dan: Often resulting in.

Dan: In recognized gross margins as low as 3% to 4% if we merely act as an agent and buying and selling the product we record our revenue as an agency fee called net deals, resulting in 100% margin.

Dan: In periods, where we have an increase in the proportion of procurement activities that are gross deals versus net deals it tends to inflate our gross revenues and costs and decrease the recognized gross margin percentage and vice versa without much impact if any on the gross profit dollars recorded.

Dan: This in turn can also have an impact on the companys blended gross margin percentages based on recorded values as the procurement business has much lower margins than the remainder of our business.

Dan: Increases in the recorded amount of growth procurement activities will have a downward effect on the company's overall margin percentages reported.

Dan: In the third quarter of 2020 for the majority of procurement activities were gross deals.

Dan: In the comparable prior year quarter. The majority were net deals as a result of procurement gross margin percentage based on recorded U S. GAAP values was six 1% in the current quarter versus 34% in the prior year quarter, while the gross profit dollars increased 125% from $1 7 million.

Dan: To $3 7 million.

Dan: And analyzing what I consider the true economics of our procurement activities, while its non-GAAP I find it most useful for me to look at the gross revenues and gross cost of procurement activities, regardless of whether they were recorded as gross or net deals.

Dan: On that basis, our gross revenues were up 94% from $41 million in the prior year quarter to $79 $6 million in the current.

Dan: In the quarter ended September 32024.

Dan: Gross profit increased from $1 7 million to $3 7 million.

Dan: Just like the GAAP figures and the resulting gross margin percentages based on these gross values improved from 4% in the prior year quarter to four 7% in the current quarter.

Dan: On a same basis year to date growth procurement revenues increased 33% from $95 million in the prior year to date period to $126 million in the current year to date period with gross margins on that basis, improving from three 9% to four 4%.

Speaker Change: As we continue to scale and grow the mix of our revenues will likely drive quarter to quarter fluctuations in our gross margins. The overall gross margin for the entire company was 11, 3% this quarter compared to 31, 9%.

Speaker Change: Q3 of 2023. This decrease is primarily due to the dramatic increase in revenues from our lower margin procurement services business combined with a greater portion of those sales being recorded as gross deals.

Speaker Change: This business line, while lower in margin serves as a conduit to providing.

Speaker Change: Some higher value add higher margin integration services.

Speaker Change: And it contributes nicely to the bottom line all by itself.

Speaker Change: Individual customer engagements in this business may be much larger than our typical integration or facilities management engagements.

Speaker Change: While procurement revenues remain it may remain at elevated levels for the next three to six months in comparison to historical trend. We don't currently expect them to be at quite the same level that we saw this quarter.

Speaker Change: As much of our procurement activity is ultimately related to federal government buying we believe this can contribute to some seasonality in these revenues as the federal government budget ends on September 30 at each year. We believe this may generally lead to an increase in procurement revenues in the quarter ending September 30, and again in the <unk>.

Speaker Change: Ending December 31, each year as federal agencies receive their budgets for the new fiscal year.

Speaker Change: Because revenues can be heavily impacted by gross versus net procurement deals even without any difference in economic reality I prefer to view, our consolidated costs as a percentage of gross profit rather than percentage of revenues.

Speaker Change: Which is generally the same regardless of the gross profits are generally the same regardless of how procurement activity is recorded and therefore more comparable between the periods.

Speaker Change: SG&A expenses improved as a percentage of gross profit to 49% in the third quarter of 2024 down from 72% in the year ago quarter on.

Speaker Change: On a dollar basis SG&A expenses increased to $3 9 million in the third quarter of 2024 up from $2 million in the year ago quarter.

Speaker Change: Our SG&A costs have increased as we've invested in people capacity and processes.

Speaker Change: The current quarter SG&A expenses also include some larger than normal accruals for commissions and other incentive compensation driven by the outsized operating results.

Speaker Change: Through the use of well designed incentive compensation plans. We believe we can reward and encourage outstanding performance by our staff like we saw this quarter.

Speaker Change: While automatically scaling back costs in periods with results that may not be as robust.

Speaker Change: Operating profit margin in the third quarter of 2024 was $3 8 million and.

Speaker Change: And 48% of gross profit, respectively, compared to <unk> $7 million and 25% in Q3 of 2023.

Speaker Change: Calculated as a percentage of recorded total revenue rather than gross profits or operating income margin was five 4% in the current quarter compared to eight 1% in the prior year quarter.

Speaker Change: This was largely driven by the large increase in gross procurement deals discussed earlier.

Speaker Change: During the quarter, we had net interest expense of $1 1 million. This was comprised of $1 $3 million of interest expense tied to factoring of receivables from our largest customer mostly related to procurement activity.

Speaker Change: Actually offset by <unk> 2 million of interest income earned from cash on hand.

This compares to net interest expense of zero point $5 million in Q3 2023 comprised of $661000 of interest expense, partially offset by $179000 of interest income on bank deposits.

Speaker Change: Combining the impact of all of these items net income for the third quarter of 2024 was $2 6 million more than 11 times the $209000 net income in Q3 of 2023.

Earnings per diluted share was <unk> <unk> for the.

Speaker Change: Third quarter of 2024 up from just a penny in the third quarter of last year.

Speaker Change: Adjusted EBITDA, which excludes interest taxes, depreciation amortization and stock based compensation was $4 3 million up from zero point $9 million in the year ago quarter.

Speaker Change: Turning to the year to date results for a second.

Speaker Change: For the nine months ended September 32024, total revenues were up 227% to $98 1 million compared.

Compared to $30 million in the year ago period.

Speaker Change: Gross profit for the first nine months of 2024 increased 96% to $15 $1 million and our SG&A costs improved to 59% of gross profit down from 84% year to date 2023.

Speaker Change: Year to date, our net income was $4 1 million compared to a net loss of $262000 in the 2023 year to date period and diluted EPS improved from <unk> loss to <unk> 16 in the current period.

Speaker Change: Turning to our balance sheet.

Speaker Change: As of September 32024, we had cash and cash equivalents and short term cash short term deposits totaling $46 $4 million and again ended the period debt free.

Speaker Change: The cash balance is somewhat inflated as we get paid almost immediately for billings to our largest customer through a financing program. They have in place where whereas we typically get 30% to 45 day terms to pay our vendors.

Speaker Change: In periods, such as the current quarter when procurement activities are unusually large we carry a larger than normal cash balance.

Speaker Change: We estimate that after removing the float we enjoy by receiving payments on factored receivables prior to needing to pay our vendors the remaining unrestricted cash balance available to fund daily operations. Our invest for growth is currently about $10 6 million.

Speaker Change: For the first nine months of 2024, we generated cash flow from operations of $36 9 million <unk>.

Speaker Change: Including the timing benefit from procurement activities compared to $8 6 million in the first nine months of 2023.

Speaker Change: Okay.

Speaker Change: Net working capital, which nets out temporary fluctuations due to timing.

Speaker Change: Of payments to vendors and receipts from customers increased from $893000 at the beginning of this year to $4 3 million at the end of September 2024.

Darryl Dwan: As Darryl mentioned.

Darryl Dwan: While we have not yet finalized the lease agreement and there is always risk until its completed we've had very productive discussions with our bank to finance the majority of the $25 million to $30 million, we plan to invest in our new facility with an eye to aligning debt service payments with revenues from our AI rack building activities.

Darryl Dwan: Although other banks have expressed strong interest in financing. This need we believe we will be successful in putting in place a facility with our existing bank with repayment terms that include a fully amortizing term loan.

Darryl Dwan: All in all it was another great quarter financially.

Darryl Dwan: While we're not providing specific financial guidance at this time based on our current visibility we expect profitability in the fourth quarter to be slightly below the third quarter level due to the timing of incoming projects and a smaller pipeline of procurement deals in Q4 compared to Q3.

Darryl Dwan: The additional contribution from procurement deals is nice when they spike, but with limited overhead direct labor or square footage dedicated to these activities, we don't need to cover significant costs in periods with lighter procurement activities.

Darryl Dwan: We expect the first half of 2025 to be in line with our second and third quarters of 2024 in aggregate.

Darryl Dwan: With that I'll turn the call back over to Daryl to share some insights into our expectations for the future and provide some closing remarks and Q&A great. Thanks Terry.

Speaker Change: To recap I'm very proud of our TSS team's ability to execute our operational commitments and our vision.

Speaker Change: And the high level of collaboration planning and teamwork that we have with our key customer.

Speaker Change: Our detailed focus on the customer and those relationships is critical to our continued success.

Speaker Change: This allows us to continue to innovate and execute in ways that have laid the foundation for long term success for TSS, our customers and our investors.

Speaker Change: So Tom if it's okay with you I'll turn it back.

Speaker Change: And we can handle Q&A.

Speaker Change: Certainly ladies and gentlemen, the floor is now open for questions. If you wish to join the queue to ask a question at this time. Please press star one on your telephone keypad, you will hear a brief tone to indicate you have successfully join the queue should you wish to remove yourself from queue you May press <unk>.

Speaker Change: Star two.

Speaker Change: Once again, if you wish to join the queue at this time to ask a question. Please press star one on your telephone keypad at this time and we do ask if listening on speaker phone today that you pick up your handset while asking your question to provide optimal sound quality. Please hold a moment, while we poll for questions.

Speaker Change: Thank you and your first question say is coming from John Schiller.

Speaker Change: For merchants and <unk>. Your line is live. Please go ahead.

John Schiller: Hey, guys.

Speaker Change: Thanks for taking my question and congratulations on the uplift to NASDAQ that's huge.

John Schiller: Certainly opens you up to several near term catalysts as well.

John Schiller: So your business is obviously seen tremendous growth in the last little bit here and.

John Schiller: And it looks like this growth is.

John Schiller: I expect it to continue for the foreseeable future with this multiyear agreement.

Speaker Change: I think theres been some talk on Twitter about you guys actually building Dx AI supercomputer for Elon Musk. So when I look at the financial position of the company today and the very strong stance that the company has taken against any dilutive equity financing it really increases my confidence in managements ability to drive home that long.

Speaker Change: Term shareholder value now my question is around future growth. So you seem like Youre. The hottest play an AI right now and on top of that we saw today that FMC I. Your biggest competitor is Fay.

Speaker Change: Facing serious concerns about.

Speaker Change: Around a potential delisting risk so theres, a very high probability that you'll be taking on a majority of their customers.

Speaker Change: That's a company that was trading at 30 times EV EBITDA back in June before all of their internal control issues were brought to light.

Speaker Change: How do you plan to execute on the potential upside scenario here and.

Speaker Change: Maybe mirror that valuation multiple.

Speaker Change: For deep.

Speaker Change: A lot of questions baked in there and some assumptions. So let me see if I can answer your overall. Thank you for your question and I appreciate your comments.

Speaker Change: Yeah as you know we can't comment on the customers and some things that you brought up but we're very proud of what we're doing.

Speaker Change: On the growth trajectory one of the reasons why we're moving us to accommodate growth and we expect that theres going to be some spikes. We anticipate the spikes how we're prepared for those spikes and we're also prepared for what we think is a more.

Speaker Change: Robust.

Speaker Change: Line of business like we say just a few minutes ago that we started to see in the middle of the year with a large project. We're excited about that we think it's going to continue we're prepared for that and all im saying is bring it on we will take it will take as much as you can give us and we'll go from there.

Speaker Change: The other I would share in aggregate as we move to our new facility.

Speaker Change: Part of what we're looking at is not only what the current needs of our.

Speaker Change: Customer are.

Speaker Change: But really can we build out to take on two or three times that kind of volume if that exists at least when we do our channel checks. It looks like there's a pretty significant amount of volume of the Iraq building.

Speaker Change: Coming.

Speaker Change: And we're preparing ourselves to be ready to take on not just the same kind of volume that we've done the last four months.

Speaker Change: It really up to three four times that amount.

Speaker Change: A deep to answer your question.

Speaker Change: Yes, it did.

Speaker Change: I do have a follow up here if you entertain it.

Speaker Change: Thanks.

Speaker Change: All right.

Speaker Change: Sorry, I know that.

Speaker Change: Dell prefers to outsource a lot of this work to.

Speaker Change: To you guys, but it seems like you'd be a great sort of.

Speaker Change: In house or.

Speaker Change: Our target for them at a price that is at least I would say anywhere two to three times more than where you are currently trading at.

Speaker Change: So the question is is that something that you would entertain I'm just curious to hear your thoughts around that.

Speaker Change: It for deep look I mean, we have an obligation to a lot of constituents in many many on this call today.

Speaker Change: And we will entertain anything that's good for the business for future growth our shareholders our investors.

Speaker Change: Our employees, so really nothing's off the table, but I can promise you that we are singularly focused on just execution and let everything else happened is M&A.

Speaker Change: Okay.

Speaker Change: Awesome. Thank you very much.

Speaker Change: Alright, thank you.

Speaker Change: Thank you as a reminder, ladies and gentlemen, if you wish to join the queue. At this time you May press star one on your telephone keypad once again that'll be star one if you wish to join the queue to ask your question. Your next question is coming from Kris Tuttle from Blue Caterpillar, Chris. Your line is live. Please go ahead.

Kris Tuttle: Alright, thank you.

Speaker Change: You guys are keeping busy.

Speaker Change: My question is.

Speaker Change: And I think.

Speaker Change: Generally interesting to people the facilities management business right.

Speaker Change: How how attractive do you think that is qualitatively long term like is this a business that could look could be as good as the integration business and a few years I just love to get your perspective on how we should be thinking about that business over the longer term.

Chris: Hey, Chris Thanks for the question.

Chris: If you research the market and the growth trajectory new compounded average.

Chris: Growth rates.

Chris: IDC has some interesting stats in that space of around 12% to 13% CAGR growth.

Speaker Change: Thats exciting because theres a lot of money involved I can tell you that we think there is an opportunity for MDC growth around AI one of the long pole in the tent is getting the container.

Speaker Change: Our lead time, and a container, especially now as you think about.

Speaker Change: What the design point needs to be for the container to accommodate direct liquid is little longer than we want and I think that the market wants. So it's got to come down its got to shrink it players in that space know that.

Speaker Change: <unk>.

Speaker Change: I think we're going to see some activity I don't know if I could.

Speaker Change: Reached the volumes of what we're talking about on rack integration because those volumes are significantly.

Speaker Change: Expanding.

But I do think into.

Speaker Change: In the near term.

Speaker Change: Im optimistic that we should be able to talk more about what we see happening that is around the bookings level by the end of the year that will produce revenue and 25% and 26. So I would say just let's see how this plays out.

Speaker Change: And I'm optimistic that we'll see something positive.

Speaker Change: Okay, great. Thanks, a lot guys.

Chris: Thanks, Chris.

Speaker Change: Thank you. Your next question is coming from Ian Kerr.

Speaker Change: Ian Your line is live please go ahead.

Speaker Change: Hey, guys. Thanks for taking a chance to answer the question and congrats again on the great quarter. So I just have a question about your new facility I know you mentioned the table to handle a lot more volume, but do you think you guys chose the facility that is large enough and if you do keep growing at the rate you are growing and hope to grow out as this facility can be able to handle that and into the current.

Speaker Change: Industrial Park of where this facility is are you going to be able to get a bigger facility if needed and what does that timeline look like.

Speaker Change: Ian you sounded like you've got some insight information here.

Speaker Change: No just the.

Speaker Change: Just a follower of the company that's all [laughter] alright.

Speaker Change: Yes for the time being we think it's sufficient.

Speaker Change: Todd Merit, you know runs our operations in Todd's got a variety of scenarios that allow us to plan out the growth a lot of it on the rack integration side, primarily based on test times, the percentage of direct liquid versus air.

Speaker Change: <unk> power needed et cetera, I think we've got a variety of different.

Speaker Change: <unk> options in front of us at this facility will handle for a while.

Speaker Change: Incidentally, where the facility is there's additional space stone's throw away that.

Speaker Change: Is available should we need it.

Speaker Change: And we also have a facility we're in which is another 100000 square feet that we have the option to sublet or to utilize.

Speaker Change: As a as a buffer so I think we're good and by the way what we spent time working on is moving.

Speaker Change: Moving inventory to get more production capacity space in our existing facility working with our customer on that and that's actually been a pretty good move so we're not.

Speaker Change: Wasting space.

Speaker Change: Storing stuff.

Speaker Change: So I'm optimistic I think Danny is and I know Todd is that we've got a plan and if we're in a fortunate position where we blow through this plan.

Speaker Change: We know the market we spent a lot of time surveying the market, we know where the players are for additional space. So I think we're good.

Speaker Change: To add onto that is really the primary driver of the move wasn't even square footage we could have handled a good bit more volume, where we are based on square footage. It was really power requirements.

Speaker Change: So it was going to take us probably 18 to 24 months to get the power that we would need in the existing facility to do that kind of volume and the higher powered racks that we see coming and we've got roughly $2 five megawatts coming into this building a little bit more than that.

Speaker Change: And we will have upwards of 12 megawatts pretty quickly in 'twenty, five and looking out at 20 or more megawatts within a year. After that so really that was more of the gating item in the square footage so that opens up a tremendous amount of opportunity with getting that.

Speaker Change: Ultimately you guys I appreciate it good luck for the rest of the year.

Speaker Change: Thanks, Barry I appreciate your question.

Speaker Change: Yeah.

Speaker Change: Thank you and as another reminder, should you wish to ask a question at this time you May press star one on your telephone keypad to join the queue.

Speaker Change: Once again checking if there should be any final questions with and you May press star one on your keypad to join the queue.

Speaker Change: And we have a question from Max gorgeous.

Max: Max Your line is live please go ahead.

Speaker Change: Hey, Max.

Speaker Change: <unk>. Your line is life you May proceed with your question.

Speaker Change: Sorry, sorry, I had it on mute how're you doing guys. Thanks for letting me ask a question when you guys look at your.

Speaker Change: Future growth potential over these next few years, what do you think is the biggest potential bottleneck to that growth is it facilities is it people is it power.

Speaker Change: Power.

Speaker Change: Power and probably availability of Nvidia chips to our customers.

Speaker Change: Yes.

Speaker Change: Okay.

Speaker Change: And what kind of what kind of impact do you think that will have as far as you know.

Speaker Change: Topping out how quickly you can grow.

Speaker Change: I can take.

Speaker Change: That is that the determining factor of how quickly you'll be able to grow is how quick you get those chips or the power whichever one is your answer.

Speaker Change: I think Max.

Speaker Change: Like I mentioned earlier, we do a lot of scenario planning and what if and we have a very.

Speaker Change: Close working relationship with our customers and we're constantly talking about technology and how do we adapt to the future technology. Many kilowatt I'm sorry, a rack today might be 88 kilowatts.

Speaker Change: Kilowatts.

Speaker Change: I felt we were looking at mid early to hundreds and it's now approaching 300, and it's going to get even more powerful. So the good news is as I mentioned Todd earlier.

Speaker Change: We're out in front of what that demand is going to be for power. So I say power because everybody is chasing power and it's going to be something we're going to have to deal with to but we're out in front of it.

Speaker Change: And.

Speaker Change: I think we're okay, I mean, I'm, not saying, we're not fat dumb and happy sitting back waiting back and it's all good.

Speaker Change: This is this a crazy world. We live in is very frenetic, and we just have to be out in front of it. So I think were okay for the time being based on our planning for.

Speaker Change: Anything in the next couple of years at least and what we're moving the city has been really cooperative in working with us on that I believe they are in fact building a new substation near where we are.

Speaker Change: So I think that expand some.

Speaker Change: Some possibilities for future expansion still you can't see it but I'm smiling here, because we are in Texas and usually around here when a guy or a women or somebody says to you that you've got a deal. It's good. It's good. So we've got a really good relationship with the city of where we're going and where we're at actually.

Speaker Change: And I think we're okay as Danny said, Danny entitled been working really hard on this as well as the people representing us with this site.

Speaker Change: And I am.

Speaker Change: You don't like minutes, there is no guarantee anywhere in this world, but I think we're in a good spot.

Speaker Change: Okay, great. Thanks, guys I appreciate the answer.

Speaker Change: Thanks Max.

Anna: Thank you Anna.

Speaker Change: And we have a question from Charles Hutchinson.

Speaker Change: Charles Your line is live please go ahead.

Speaker Change: Hi, guys I was wondering if you guys were operating near full capacity. When you guys were working on June.

Speaker Change: June project.

Speaker Change: Short answer is no.

Speaker Change: Got it.

Speaker Change: Yeah.

Speaker Change: That's it.

Charles you don't have any better net come out, but I can give you a better question.

Speaker Change: Yeah.

Speaker Change: I'd be curious how much of your capacity, where you guys are utilizing and I guess what is the timeline on time utilizing that full capacity if you have one.

Speaker Change: I wish I didn't say anything we were good at no.

Speaker Change: Yeah.

Speaker Change: The timeline.

Speaker Change: There's a lot of it depends on the demand signal.

Speaker Change: But we're good I think I mentioned once before that we have the capacity to grow tenex.

Speaker Change: And.

Speaker Change: I am comfortable that we have that capacity.

Speaker Change: So the timeline I'm a couple of years, maybe before we start to get a little tight but I think we're good for the time being.

Speaker Change: Alright. Thank you guys now, but I'll also say this I mean somebody who has deep brought up the supermicro I don't want to ever speak badly of anybody I don't wish any it will on anyone in our industry.

Speaker Change: If there's a demand increase because of something related to that we will adapt and adjust to it and that would be a spike that we're not planning for but.

Speaker Change: We can prepare and adjust to so.

Speaker Change: Like I said earlier, bringing on we will take it on.

Speaker Change: Alright, Thank you guys.

Speaker Change: You bet.

Speaker Change: Thank you.

This does conclude today's Q&A session I would now like to turn the floor back to Darrell to one for closing remarks.

Speaker Change: Thank you Tom and thank you everybody for listening to the call and Danny for your support here.

Speaker Change: As I've said in previous calls we remain focused on execution and we're excited to be in integration services leader at the intersection of advanced computing and AI.

Speaker Change: We could not have accomplished this alone we have a lot of people, helping us we thank each of them and you our investors for believing in our company.

Speaker Change: We remain optimistic about our future and our growth opportunities. So thank you.

Speaker Change: <unk> your participation today.

Speaker Change: Thank you. This does conclude today's conference call. You may disconnect. Your lines at this time and have a wonderful day. Thank you once again for your participation.

Operator: We will open the floor for your questions and comments after the presentation.

Operator: Should you wish to join the queue to ask a question at any time, you may press star 1 on your telephone keypad, and you may press star 2 should you wish to remove your line from the Q&A queue.

Operator: As a reminder, this conference is being recorded.

James Carbonara: It is now my pleasure to introduce your host, James Carbonara, Investor Relations at Hayden IR. Thank you, sir. You may begin.

Daryl Duan: Thank you, Operator, and good afternoon, everyone.

Daryl Duan: Thank you for joining us for TSS's conference call to discuss the company's third quarter 2024 financial results.

Daryl Duan: Joining me today on this call are Daryl Duan, President and CEO of TSS, and Danny Chisholm, the company's CFO.

Daryl Duan: As we begin the call, I would like to remind everyone to take note of the cautionary language regarding forward-looking statements contained in the press release we issued today. That same language applies to comments and statements made on today's conference call. This call will contain time-sensitive information as well as forward-looking statements, which are accurate only as of today, November 14, 2024.

Daryl Duan: PSS expressly disclaims any allegation to update, amend, supplement, or otherwise review any information or forward-looking statements made on this conference call or replayed to reflect events or circumstances that may change or arise after the date indicated, except as otherwise required by applicable law.

Daryl Duan: or a list of the risks and uncertainties that may affect the company's future performance, please refer to the company's periodic filings with the SEC.

Daryl Duan: In addition, we will be referring to non-GAAP financial measures. A reconciliation of the differences between these measures with the most directly comparable financial measures calculated in accordance with US GAAP is included in today's press release.

Daryl Duan: With that, Daryl, I'll turn the call over to you. Great. Thank you, James. Good afternoon, everyone. Thank you for joining us today for our third quarter 2024 earnings conference call.

Daryl Duan: I'm very excited to share that today marks my two-year anniversary with TSS. I'm very proud of our team's accomplishments to date, and we look forward to continuing this journey together. You will hear today we have a lot of exciting things going on. We delivered exceptional results in the third quarter across all key financial and operational metrics, and customer satisfaction remains high. By all measures, it was a great quarter for TSS. This strong performance demonstrates that we are successfully executing our business strategy to deliver growth in revenue, earnings, and cash flow, while scaling our business and operations.

Daryl Duan: The actions we took in 2023 to streamline our operations by investing in people, systems, and a physical layout of our main integration facility are producing excellent outcomes. We are delivering for our customers, our shareholders, while laying a foundation for accelerating growth.

Daryl Duan: For the third quarter, we delivered $70.1 million in total revenue, representing year-over-year growth of 689%, a nearly 12-fold increase in net income compared to the third quarter of last year, and an exponential increase in diluted EPS from just a penny in Q3 of last year to $0.10 in Q3 of this year. Importantly, the increases were driven by growth across all of our service offerings. These impressive financial results are a direct outcome of our commitment to operational excellence, strengthening relationships with our customers, and highly attractive market in which we operate.

Daryl Duan: As you may recall, we made a significant investment in our production capacity in the second quarter. With these operational improvements, we have decreased our cycle time to complete racks and thereby increased our volume throughput. Computer racks that have historically taken a company two to three weeks to complete are now regularly down to turn times of less than one day.

Daryl Duan: The first stage of a highly publicized integration program for AI-enabled racks came online at the beginning of June. The initial program carried well into the third quarter.

Daryl Duan: Our procurement business, where we source third-party hardware, software, and services, delivered an outstanding performance in Q3.

Daryl Duan: In last quarter's earning call. We shared that we expected procurement revenues in the third quarter exceed 50 million in revenue.

Daryl Duan: I am proud to report that we exceeded that target by a fair margin with 60.5 million procurement revenues in a quarter compared to 5.4 million this quarter a year ago. For those familiar with our history, you'll recall that our procurement segment often experiences quarter-to-quarter fluctuations due to size, timing, and revenue recognition methods used for these orders. Although volumes may fluctuate quarter-to-quarter, this business line's overall trajectory remains upward, consistently and increasingly contributing to our profitability.

Daryl Duan: Shifting to a quick look at our facilities management activities, primarily for our modular data center, or MDCs, as we refer to it, we continue to experience moderate overall growth, with the segments revenue up 8% this quarter. This is a more predictable business line for us with healthy gross margins, typically north of 50%.

Daryl Duan: I've previously highlighted a few challenges in this business, primarily from rapidly increasing compute density and evolving cooling requirements. We believe the expanding adoption of AI-enabled technology will drive incremental demand for MDCs and produce revenue in 2025 and beyond, due primarily to long lead times for the new modular data center. Whether this materializes as predicted remains to be seen. We are strategically positioned to capitalize on this trend, particularly if AI clusters are delivered as freestanding racks or modules. We believe this may be an attractive option for medium to large enterprises that want computing power, but may not have the ability to scale to justify the cost of installing new direct liquid cooling systems needed to support the next generations of expected AI rack technology.

Daryl Duan: And MDC may be a cost effective way for enterprises to enter that space. Our key customers have robust pipelines and deals are beginning to close.

Daryl Duan: So our strategic inclusion in key customer programs signals optimism by us as pipelines materialize.

Daryl Duan: Subsequent to quarter end, we entered into a long-term agreement with our primary customer, solidifying our position as a key partner for executing its technology roadmap by developing required integration and testing capacity to meet the demand driven by high-performance infrastructure supporting generative AI. This agreement greatly mitigates operational risk for each of us, enhances our revenue visibility, and consequently, greatly supports our ability to finance the needed investment in capacity and capabilities.

Daryl Duan: It is a significant milestone for TSS and speaks volumes as to the status of our relationship with this important customer. The base case scenario for volume stipulated in agreement is similar to or greater than the peak volume of AI-enabled RAC integrations that we delivered earlier this summer. Volume expectations are dependent on sales execution by our OEM partner, but our partner has shown great confidence in TSS by committing to help to smooth what otherwise could be a feast or famine business.

Daryl Duan: In the end, the negotiation of the agreement was underpinned by our mutual recognition that we are in the very early stages of the development of AI infrastructure, which we both expect to be a massive multi-year market opportunity.

Daryl Duan: While the operational improvements we made in the second quarter in our facility were a great interim step, we recognize that given current market trends, the expected increasing power requirements of upcoming generations of AI RAC technology, our customers technology outlook and our goal to become the primary production partner for the AI related technology roadmap, we need to deliver and further expand our capacity.

Daryl Duan: So in concert with this new customer service agreement, plans are underway for our relocation of our factory and headquarters to a new location just a few miles from where we stand today. This is a substantial next step in positioning our business for continued rapid growth. Given our current trajectory and accelerating demand for AI-enabled technologies, we need more space and access to increase power. We expect our volume of rack integrations to be at or above the volumes that we experienced since June 24.

Daryl Duan: But importantly, the next generation of racks will consume up to six times more power than those being produced today. At the new facility, we will expand our capacity by more than 60% from 105,000 square feet today to almost 170,000 square feet of operating space. And more importantly, we will gain access to significantly greater power to accommodate the foreseeable technology roadmap. In capacity planning, one key reason we're favored by our partners is our ability to be agile and our ability to quickly modify production lines and process to meet custom and new requirements. That trade is manifested in our systems and physical layout of any building we move to.

Daryl Duan: Site plans call for investment of approximately $25 to $30 million for improvements, with a significant portion of that cost allocated to bringing additional power into the building. The investment will provide greatly expanded cooling capacity for our rack testing and validation station. tripling our capacity to test and validate direct liquid-cooled racks in addition to the more traditional air-cooled racks.

Daryl Duan: As we have alluded to in recent announcements, cooling methodologies are in development for racks with dramatically increasing power consumption, the thermodynamics of which will all but require direct liquid cooling to effectively dissipate the heat generated. Our flexibility to handle air cooling and or direct liquid cooling is a critical differentiator of our service.

Daryl Duan: We have explored several buildings that are in the process of finalizing a lease agreement for our preferred property. And we are exploring bank debt financing alternatives for the leasehold improvement.

Daryl Duan: Based on the structure of this multi-year agreement with our customer, we are comfortable that the revenues generated from that will be sufficient to cover the variable and fixed costs related to our RAC integration activities, including the incremental lease obligation and debt service on any debt we incur to finance the capital investment.

Daryl Duan: We expect to begin operations at this new facility after the first of the year and to be fully operational and supporting our long-term customer agreement from this new location in early 25.

Daryl Duan: Turning to corporate governance for just a second.

Daryl Duan: We recently announced the appointment of Michael Fahey as an independent director to our board and as a member of our Audit and Compensation Committee. Michael has a proven track record leading digital transformation and advanced new technology solutions. that delivers significant revenue growth. He's been involved in IT infrastructure and supply chain businesses with customers, including many of the largest technology companies in the world.

Daryl Duan: Mike will be an invaluable member of the team as we continue to execute our growth strategy and further scale our business. With Mike's appointment, our board now is comprised of four directors, three of whom are independent.

Daryl Duan: Concurrent with our earnings, we began trading today on the NASDAQ capital market.

Daryl Duan: This is a great milestone. We pursued this uplisting to improve our investors' trading liquidity and to widen the pool of potential investors, including institutional investors whose investment policies may prevent them from investing in companies trading over the counter. We believe this is a huge accomplishment and a step forward, another sign of the maturing of our company. Our ticker symbol has not changed and there should be no disruption to clearing of trades already executed.

Daryl Duan: serving our customers with the highest quality of. with the highest levels of quality and integrity is the bedrock of our company. It is the basis by which we operate and is critical to our success.

Daryl Duan: We were thrilled to be awarded the Professional Services Best Deployment Partner Award for 2024 by our largest customer. The award highlights our rapid adaptability and unwavering commitment to our customer service. Our dedicated service and collaborative spirit have enabled us to execute. meet and often exceed our customers' expectations.

Daryl Duan: The award is an incredible honor, as is the opportunity to serve this customer each and every day. We value this relationship.

Daryl Duan: We are pushing the boundaries of what's possible in AI and high-performance computing infrastructure. The market for AI infrastructure continues to advance. Customers are raising significant capital to deploy AI infrastructure. Many of the initial adopters are data center and cloud technology companies building specifically for AI. The vast majority of the market likely will be medium and larger enterprises that will build high-performance compute environments not just for large language models and other training, but for AI application deployment. We are working with our key customer partners and directly with end-user customers to begin to understand how hyper-dense compute required for AI will be implemented in the vast majority of data center sites.

Daryl Duan: We'll have more on this and report more on this in the quarters to come.

Danny Chisholm: So allow me now to turn the call back to Danny to discuss our numbers in a little bit more detail. Thanks, Daryl. By all accounts, it was a great quarter for TSS. Let's jump into it. Consolidated revenues for the third quarter of this year was $70.1 million, almost eight times the $8.9 million total revenues reported this quarter of last year. This is also a substantial increase in sequential results, up from $12.2 million in the second quarter of 2020. The increase was driven in large part by growth in our lower margin procurement services business, as well as growth in our higher margin systems integration business.

Danny Chisholm: Revenue this period grew in all major product lines compared to this quarter.

Danny Chisholm: Our segment reporting looks a little different this quarter than it did last.

Danny Chisholm: Beginning in the third quarter, we're breaking out our systems integration and facilities management revenues in a bit more detail to increase the transparency and give investors a clearer picture of the drivers of our business. Particularly within the systems integration segment, we're providing a bit more detail to understand the portion of growth driven by the procurement activities versus systems integration activities. And in the MD&A section of the 10-Q filed earlier this afternoon, you'll find a tabular presentation of the procurement activities in particular in a bit more detail, not only the revenues, but cost of goods, gross profits, and gross margins for each of those components of the systems integration.

Danny Chisholm: Total revenue from the systems integration segment increased from $7.1 million in a prior year quarter to $68.1 million in a current quarter. Current quarter segment revenues are comprised of $7.6 million from integration services. $60.5 million from procurement. The integration services revenues of $7.6 million represents growth of 361% compared to $1.7 million in the year-ago quarter. The growth was driven by an increase in the AI-enabled RAC integrations, which began late in the second. Demand for this business is robust, and the recently signed multi-year agreement mentioned by Daryl to provide these services greatly reduces the effect of fluctuating demand or supply chain issues that are inherent in this business, allowing us to maintain the facility and staffing levels to quickly serve our customers' needs, enhancing our flexibility and ability to delight our customers.

Danny Chisholm: Revenue from facility management totaled $2 million compared to $1.8 million in the same quarter last year. of 8% year-over-year. As Daryl mentioned, this is generally a fairly predictable revenue stream with gross profit margins generally above 50%. though that was down slightly this quarter. We see the potential for more robust growth in this segment in 12 to 18 months as more medium and large enterprise clients consider using modular data centers as a cost-efficient means to harness the power of AI technology without the need to build out full data centers with all the requisite cooling Revenue from procurement services totaled $60.5 million, up more than 1,000% compared to $5.4 million in the year-ago quarter.

Danny Chisholm: Recognize procurement revenues and related costs as well as the resulting gross profit gross margin percentage based on recorded values can be heavily influenced by whether we transform the product. If we do something to transform the product, we report the gross value of the transaction along with the gross costs of those goods, called gross deal. often resulting in in recognized gross margins as low as three to four percent. If we merely act as an agent in buying and selling the product, we record our revenue as an agency fee called net deals, resulting in 100% In periods where we have an increase in the proportion of procurement activities that are gross deals versus net deals, it tends to inflate our gross revenues and costs and decrease the recognized gross margin percentage and vice versa without much impact, if any, on the gross profit dollars recorded.

Danny Chisholm: This in turn can also have an impact on the company's blended gross margin percentages based on recorded values as the procurement business has much lower margins than the remainder of our business. Increases in the recorded amount of gross procurement activities will have a downward effect on the company's overall margin percentages. In the third quarter of 2024, the majority of procurement activities were gross deals and in the comparable prior year quarter, the majority were net deals. As a result, the procurement gross margin percentage based on recorded U.S. GAAP values was 6.1% in the current quarter versus 30.4% in the prior year quarter, while the gross profit dollars increased 125% from $1.7 million to $3.8 million.

Danny Chisholm: In analyzing what I consider the true economics of our procurement activities, while it's non-GAAP, I find it most useful for me to look at the gross revenues and gross costs of procurement activities regardless of whether they were recorded as gross or net. On that basis, our gross revenues were up 94% from $41 million in the prior year quarter to $79.6 million in the current, in the quarter ended September 30, 2025. Gross profits increased from $1.7 million to $3.7 million, just like the gap. And the resulting gross margin percentages based on these gross values improved from 4% in the prior year quarter to 4.7% in the current.

Danny Chisholm: On the same basis, year-to-date growth procurement revenues increased 33% from $90.5 million in the prior year-to-date period to $120.6 million in the current year-to-date. gross margins on that basis, improving from 3.9% to 4.4%. As we continue to scale and grow, the mix of our revenues will likely drive quarter-to-quarter fluctuations in our gross market. The overall gross margin for the entire company was 11.3% this quarter compared to 31.9% in the Q3 of 2023. This decrease is primarily due to the dramatic increase in revenues from our lower margin procurement services business combined with a greater portion of those sales being recorded as gross deals.

Danny Chisholm: This business line, while lower in margin, serves as a conduit to providing some higher value-add, higher-margin integration. and it contributes nicely to the bottom line always. Individual customer engagements in this business may be much larger than our typical integration or facilities management. While procurement revenues may remain at elevated levels for the next three to six months in comparison to historical trend, we don't currently expect them to be at quite the same level that we saw this quarter. As much of our procurement activity is ultimately related to federal government buying, we believe this can contribute to some seasonality in these revenues.

Danny Chisholm: The federal government budget ends on September 30th each year. We believe this may generally lead to an increase in procurement revenues in the quarter ending September 30 and again in the quarter ending December 31st each year as federal agencies receive their budgets for the new fiscal year. Because revenues can be heavily impacted by gross versus net procurement deals, even without any difference in economic reality, I prefer to view our consolidated costs as a percentage of gross profit rather than percentage of revenue. Which is generally the same regardless of the growth profits are generally the same regardless of how procurement activity is recorded and therefore more comparable between periods.

Danny Chisholm: SG&A expenses improved as a percentage of gross profit to 49% in the third quarter of 2024, down from 72% in the year ago quarter. On a dollar basis, SG&A expenses increased to $3.9 million in the third quarter of 2024, up from $2 million in the year-ago quarter. Our SG&A costs have increased as we've invested in people, capacity, and process. The current quarter SG&A expenses also include some larger than normal accruals for commissions and other incentive compensation driven by the outsized operating resources. Through the use of well-designed incentive compensation plans, we believe we can reward and encourage outstanding performance by our staff, like we saw this quarter, while automatically scaling back costs in periods with results that may not be as robust.

Danny Chisholm: Operating profit margin in the third quarter of 2024 was $3.8 million. and 48% of gross profit, respectively, compared to $0.7 million and 25% in Q3 of 2022. Calculated as a percentage of recorded total revenue rather than gross profits, our operating income margin was 5.4% in the current quarter compared to 8.1% in the prior year. This was largely driven by the large increase in gross procurement deals discussed.

Danny Chisholm: During the quarter, we had net interest expense of $1.1 million. This was comprised of $1.3 million of interest expense tied to factoring the receivables from our largest customer, mostly related to procurement activities. partially offset by $0.2 million of interest income earned from cash.

Danny Chisholm: This compares to net interest expense. $0.5 million in Q3 2023, comprised of $661,000 of interest expense, partially offset by $179,000 of interest income on bank deposits.

Danny Chisholm: Combining the impact of all these items, net income for the third quarter of 2024 was $2.6 million, more than 11 times the $209,000 net income in Q3 of 2023. Earnings per diluted share was $0.10 for the third quarter of 2024, up from just a penny in the third quarter of last year. Adjusted EBITDA, which excludes interest, taxes, depreciation, amortization, and stock-based compensation, was $4.3 million, up from $0.9 million in the year before.

Danny Chisholm: Turning to the year-to-date results for For the nine months ended September 30, 2024, total revenues were up 227% to $98.1 million compared to $30 million in the year ago period. Gross profit for the first nine months of 2024 increased 96% to $15.1 million, and our SG&A costs improved to 59% of gross profit, down from 84% year-to-date 2020. Year to date our net income was $4.1 million compared to a net loss of $262,000 in the 2023 year to date period and diluted EPS improved from a one cent loss.

Danny Chisholm: $0.16 in the current.

Danny Chisholm: Turning to our balance. As of September 30, 2024, we had cash and cash equivalents and short term cash, short term deposits totaling forty six point four million dollars and again into the period debt free. The cash balance is somewhat inflated as we get paid almost immediately for billings to our largest customer through a financing program they have in place, whereas we typically get 30 to 45 day terms to pay our bill.

Danny Chisholm: In periods such as the current quarter, when procurement activities are unusually large, we carry a larger than normal cash balance. We estimate that after removing the float we enjoy by receiving payments on factored receivables prior to needing to pay our vendors, the remaining unrestricted cash balance available to fund daily operations or invest for growth is currently about $10.6 million. For the first nine months of 2024, we generated cash flow from operations of $36.9 million, including the timing benefit from procurement activity. compared to $8.6 million in the first nine months of 2020.

Danny Chisholm: Networking capital, which nets out temporary fluctuations due to timing of payments to vendors and receipts from customers, increased from $893,000 at the beginning of this year to $4.3 million at the end of September 2020.

Danny Chisholm: As Daryl mentioned, While we have not yet finalized the lease agreement, and there's always risk until it's completed, we've had very productive discussions with our bank to finance the majority of the $25 to $30 million we plan to invest in our new facility, with an eye to aligning debt service payments with revenues from our AI RAC building. Although other banks have expressed strong interest in financing this need, we believe we'll be successful in putting in place a facility with our existing bank with repayment terms that include a fully amortizing term.

Danny Chisholm: All in all, it was another great quarter financially. While we're not providing specific financial guidance at this time, based on our current visibility, we expect profitability in the fourth quarter to be slightly below the third quarter level due to the timing of the incoming projects and a smaller pipeline of procurement deals in Q4 compared to Q5. The additional contribution from procurement deals is nice when they spike, but with limited overhead, direct labor, or square footage dedicated to these activities, we don't need to cover significant costs in periods with lighter procurement activities.

Danny Chisholm: We expect the first half of 2025 to be in line with our second and third quarters of 2024 in action.

Daryl Duan: With that, I'll turn the call back over to Daryl to share some insights into our expectations for the future and provide some closing remarks and Q&A. Great. Thanks, Danny. Folks, to recap, I'm very proud of our TSS team's ability to execute our operational commitments and our vision. and the high level of collaboration, planning, and teamwork that we have with our key customers. Our detailed focus on the customer and those relationships is critical to our continued success. This allows us to continue to innovate and execute in ways that have laid the foundation for long-term success for TSS, our customers, and our investors.

Daryl Duan: So, Tom, if it's okay with you, I'll turn it back and we can handle Q&A.

Operator: Ladies and gentlemen, the floor is now open for questions. If you wish to join the queue to ask a question at this time, please press star 1 on your telephone keypad. You will hear a brief tone to indicate you have successfully joined the queue. Should you wish to remove yourself from queue, you may press star 2. Once again, if you wish to join the queue at this time to ask a question, please press star 1 on your telephone keypad at this time.

Operator: And we do ask, if listening on speakerphone today, that you pick up your handset while asking your question to provide optimal sound quality. Please hold a moment while we poll for questions.

Gurdip Janjua: And your first question today is coming from Gurdip Janjua from Merchant. Gurdeep, your line is live, please go ahead. Hey, guys.

Gurdip Janjua: Thanks for taking the question and congratulations on the uplist to NASDAQ. That's huge. It certainly opens you up to several near-term catalysts as well. So your business has obviously seen tremendous growth in the last little bit here, and it looks like this growth is expected to continue for the foreseeable future with this multi-year agreement.

Gurdip Janjua: I think there's been some talk on Twitter about you guys actually building the ex-AI supercomputer for Elon Musk. So when I look at the financial position of the company today and the very strong stance that the company has taken against any dilutive equity financing, it really increases my confidence in management's ability to drive home that long-term shareholder value.

Gurdip Janjua: Now, my question is around future growth. So you seem like you're the biggest competitor is facing serious concerns around a potential delisting risk. So there's a very high probability that you'll be taking on a majority of their customers. So that's a company that was trading at 30 times EBITDA back in June before all their internal control issues were brought to light.

Daryl Duan: So how do you plan to execute on the potential upside scenario here and maybe mirror that valuation multiple?

Daryl Duan: For Deep, a lot of questions baked in there and some assumptions. So let me see if I can answer your overall. Thank you for your question and appreciate your comments.

Daryl Duan: As you know, we can't comment on the customers and some things that you brought up. But we're very proud of what we're doing. On the growth trajectory, one of the reasons why we're moving is to accommodate growth. And we expect that there's going to be some spikes. We anticipate the spikes. We're prepared for those spikes. And we're also prepared for what we think is a more robust line of business, like we said just a few minutes ago, that we started to see in the middle of the year with a large project. We're excited about that.

Daryl Duan: We think it's going to continue. We're prepared for that. And all I'm saying is bring it on. We'll take as much as you can give us. And we'll go from there.

Daryl Duan: The other I would share on that, Gurdip, is as we moved our new facility. Part of what we're looking at is not only what the current needs of our customer are, but really can we build out to take on two or three times that kind of volume if that exists. at least when we do our channel checks, it looks like there's a pretty significant amount of volume of the AI rack building. I'm coming. And so we're preparing ourselves to be ready to take on not just the same kind of volume that we've done in the last four months, but really, you know, up to two, three, four times that.

Gurdip Janjua: Hey, Pradeep, to answer your question. Yes, it did.

Daryl Duan: I do have a follow-up here if you feel you'll entertain it. Sorry, I know that I know Dell prefers to outsource a lot of this work to to you guys, but it seems like you'd be a great sort of, you know, in-house or you know, buyout target for them at a price that is at least I would say anywhere two to three times more than where you're currently trading at. So the question is, is that something that you would entertain? I'm just curious to hear your thoughts around that. For a deep look, I mean, we have an obligation to a lot of constituents and many on this call today.

Daryl Duan: And we will entertain anything that's good for the business, the future growth, our shareholders, our investors, our employees. So really, nothing's off the table.

Daryl Duan: But I can promise you that we are singularly focused on just execution and let everything else happen as it may.

Gurdip Janjua: Awesome. Thank you very much. All right. Thank you.

Operator: As a reminder, ladies and gentlemen, if you wish to join the queue at this time, you may press star one on your telephone keypad. Once again, that'll be star one. If you wish to join the queue to ask a question.

Chris Tuttle: Your next question is coming from Chris Tuttle from Blue Caterpillar. Chris, your line is live. Please go ahead. Hi, thank you. Nice to see you guys are keeping busy.

Chris Tuttle: My question is, and I think it would be generally interesting to people, the facilities management business, right? Like how attractive do you think that is qualitatively long-term? Like is this a business that could look, could be as good as the integration business in a few years? I'd just love to get your perspective on how we should be thinking about that business.

Daryl Duan: over the long Hey, Chris, thanks for the question. If you research the market and the growth trajectory and compounded average growth rates, IDC has some interesting stats in that space of around 12% to 13% CAGR growth. That's exciting because there's a lot of money involved. I can tell you that we think there is an opportunity for MDC growth around AI. One of the long poles in the tense is getting the container. Lead time in a container, especially now as you think about what the design point needs to be for the container to accommodate direct liquid, is a little longer than we want and I think that the market wants.

Daryl Duan: So it's got to come down. It's got to shrink. And the players in that space know that. I think we're going to see some activity. I don't know if it could reach the volumes of what we're talking about in RAC integration because those volumes are significantly expanding. But I do think in the near term, I'm optimistic that we should be able to talk more about what we see happening that is around the bookings level by the end of the year that will produce revenue in 2025 and 2026. So I would say just let's see how this plays out.

Daryl Duan: And I'm optimistic that we'll see something positive.

Chris Tuttle: Okay, great. Thanks a lot.

Chris Tuttle: Thanks, Chris. Thank you.

Ian Carr: Your next question is coming from Ian Carr. Ian, your line is live. Please go ahead. Hey guys, thanks for taking a chance to answer this question and congrats again on the great quarter.

Ian Carr: So I just have a question about your new facility. I know you mentioned it's able to handle a lot more volume. But do you think you guys chose a facility that is large enough. And if you do keep growing at the rate you are growing and hope to grow at is this facility can be able to handle that.

Ian Carr: And in the current I'm no industrial park of where this facility is, are you going to be able to get a bigger facility if needed.

Daryl Duan: And what does that timeline look like Ian, you sound like you've got some inside information here. No, just a follower of the company, that's all. All right.

Daryl Duan: Yes, for the time being, we think it's sufficient. Todd Merritt, you know, runs our operations, and Todd's got a variety of scenarios that allow us to plan out the growth, a lot of it on the RAC integration side, primarily based on test times, the percentage of direct liquid versus air, the power needed, et cetera. I think we've got a variety of different options in front of us that this facility will handle for a while. Incidentally, where the facility is, there's additional space, stone-throw away, that is available should we need it. And we also have a facility we're in, which is another 100,000 square feet, that we have the option to sublet or to utilize as a buffer.

Daryl Duan: So I think we're good. And by the way, what we spend time working on is moving inventory to get more production capacity space in our existing facility, working with our customer on that. And that's actually been a pretty good move. So we're not wasting space storing stuff.

Daryl Duan: So, I'm optimistic, I think Danny is, and I know Todd is, that we've got a plan. And if we're in a fortunate position where we blow through this plan, we know the market. We spent a lot of time surveying the market. We know where the players are for additional space.

Daryl Duan: So, I think we're good.

Daryl Duan: The other one I'd add on to that is really the primary driver of the move wasn't even square footage. We could have handled a good bit more volume where we are based on square footage. It was really power recovery. So it was going to take us probably 18 to 24 months to get the power that we would need in the existing facility. do the kind of volume and the higher powered racks that we see coming. We've got roughly 2.5 megawatts coming into this building, a little bit more than that. And we will have upwards of 12 megawatts pretty quickly in 25 and looking out at 20 or more megawatts within a year.

Daryl Duan: So really, that was more the gating item in the square footage. So that opens up a tremendous amount of opportunity.

Ian Carr: Awesomely. Thank you guys. Appreciate it.

Ian Carr: Good luck for the rest of the year. Again, thanks, buddy. Appreciate your question. Thank you.

Operator: And as another reminder, should you wish to ask a question at this time, you may press star one on your telephone keypad to join the queue. Thanks again. Check.

Max Borges: There should be any final questions with, and you may press star one on your keypad to join the queue.

Max Borges: And we have a question from Max Borges. Max, your line is live, please go ahead. Max Borges, your line is live. You may proceed with your question.

Max Borges: Sorry, sorry, I had it on mute. How you doing, guys? Thanks for letting me ask a question.

Daryl Duan: When you guys look at your future growth potential over these next few years, what do you think is the biggest potential bottleneck to that growth? Is it facilities? Is it people? Is it power? Uh, power. Power and probably availability of NVIDIA chips to our Yeah, I think. Good. What kind of what kind of impact do you think that will have as far as, you know, topping out how quickly you can grow? Like, is that the determining factor of how quickly you'll be able to grow is how quick you get those chips or the power, whichever way you want to put it.

Daryl Duan: You know, I think, Max. Like I mentioned earlier, we do a lot of scenario planning, what if, and we have a very close working relationship with our customers. And we're constantly talking about technology and how do we adapt to the future technology. I mean, a kilowatt, I'm sorry, a rack today might be 88 kilowatts. And I thought we were looking at mid early 200s and it's now approaching 300 and it's gonna get even more powerful. So the good news is, as I mentioned Todd earlier, we're out in front of what that demand's gonna be for power.

Daryl Duan: So I say power because everybody's chasing power and it's gonna be something we're gonna have to deal with too, but we're out in front of it. And I think we're okay. I mean, I'm not saying we're fat, dumb and happy sitting back, laying back and it's all good. It's a crazy world we live in, it's very frenetic and we just have to be out in front of it. So I think we're okay for the time being based on our planning for.

Daryl Duan: Anything the next couple of years at least Yeah, what we're moving the the city has been really cooperative in working with us on that I believe they're in fact building a new substation near where we are So I think that expands and possibilities for future expansion. You can't see it, but I'm smiling here because we're in Texas. And usually around here, when a guy or a woman or somebody says to you that you got a deal, it's good, it's good. So we've got a really good relationship with the city of where we're going and where we're at, actually.

Daryl Duan: And I think we're OK. As Danny said, Danny and Todd have been working really hard on this, as well as the people representing us with this site. You know, look man, there's no guarantee anywhere in this world, but I think we're in a good spot. Okay, great. Thanks, guys. Appreciate the answer. Yep. Thanks, Matt. Thank you.

Charles Hodgkinson: And we have a question from Charles Hodgkinson. Charles, your line is live, please go ahead. Hi guys, I was wondering if you guys were operating near your full capacity when you guys were working on the June project.

Charles Hodgkinson: A short answer is no. Cut. That's it. Charles, you don't have anything better than that. Come on, man. Give me a better question. Yeah, I mean, I guess I would be curious how much of your capacity were you guys utilizing? And I guess what is the timeline on utilizing that full capacity if you have one?

Daryl Duan: I wish I didn't say anything, we were good at no. The timeline, a lot of it depends on the demand signal, but we're good. I think, you know, I mentioned once before that we have the capacity to grow 10x. And I'm comfortable that we have that capacity.

Daryl Duan: So timeline, a couple years maybe before we start to get a little tight, but I think we're good for the time being. Right, thank you guys.

Daryl Duan: Now, but I'll also say this. I mean, somebody, it was Pradeep brought up the super micro. I don't want to ever speak badly of anybody. I don't wish any ill will on anyone in our industry. If there's a demand increase because of something related to that, we will adapt and adjust to it. And that would be a spike that we're not planning for, but we can prepare and adjust to. So like I said earlier, bring it on. We'll take it on. All right. Thank you, guys. Thank you.

Operator: This does conclude today's Q&A session.

Daryl Duan: I would now like to turn the floor back to Daryl Dewan for closing remarks. Thank you, Tom, and thank you, everybody, for listening to the call and Danny for your support here. As I've said in previous calls, we remain focused on execution and we're excited to be an integration services leader at the intersection of advanced computing and AI. We could not have accomplished this alone. We have a lot of people helping us. We thank each of them and you, our investors, for believing in our company. We remain optimistic about our future and our growth opportunities.

Daryl Duan: So thank you. Appreciate your participation today. Thank you.

Operator: This does conclude today's conference call. You may disconnect your lines at this time and have a wonderful day. Thank you once again for your participation.