Leland Strange – Chief Executive Officer.

Sam Robotsky – Private Investor.

Good morning. My name is Stephanie and I will be your conference operator today. At this time, I would like to welcome everyone to the Earnings Release and Investor Conference Call. All lines have been placed on mute to avoid any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you.

Mr. Leland Strange, CEO, of Intelligent Systems, you may begin your conference..

Good morning. Welcome to the Intelligent Systems investor conference call. In line with our past investor calls, I expect my prepared outline portion of this call to last about 20 minutes. I plan to do two things.

First, briefly comment on the 2017 year-end balance sheet and results and second, update you on the progress and outlook for our CoreCard business, which is our primary business. Keep in mind that CoreCard and its affiliated companies is really our only operating entity.

I’ll adhere to the, be brief and be gone at it, as you all have time at the end to ask any questions on material that I don’t cover to your satisfaction. The purpose in having the call is to add flavor to the factual information that you have with what we file and just summarize where we are this year thus far.

I’m going to assume by being on the call that you have a copy of the earnings from this morning. I’m not going to repeat all of the information in the press release. Our CFO, Karen Reynolds is with me on the call, if you have any questions specific to the numbers in the Q&A. We will file our Form 10-K for the past year later today.

It will be available on our website at intelsys.com and also at sec.gov shortly thereafter. Obviously, there’s a lot of detail in that and you should read it for more complete understanding of our business and its risk and opportunities.

Even what I call my proclivity for brevity, I still need to do the legal preface and point out that this call will contain forward-looking statements, as an SEC recognized term about Intelligent Systems and its operations.

Much of my commentary will fall within the definition of forward-looking statements, for example, where I use words such as anticipate, or I believe or plan or expect or likely or intend or any other similar expressions. I'm going to provide my best judgment and description of things as I see them as of this minute and it might prove to be wrong.

In fact, I can almost guarantee that our situation will evolve so I cannot or will not be entirely accurate. Let's start with the financial results, when we review financials, I’ll remind you again that CoreCard is ISE’s core business and the primary focus of our management time and resource allocation. So, first, about liquidity.

Our cash decrease from about $17 million at the end of 2016 to $14 million at the end of 2017. A big reason was that in December, we purchased approximately $1.7million of additional processing equipment to be able to handle a potential new customer.

This year, we made substantial additional purchases in anticipation of a contract currently in negotiations with this potential customer. It was only a slight risk as a potential customer agreed to take ownership and reimburse us for the equipment if things don't work out.

However, we believe this relationship will have a positive outcome and the equipment had to be purchased in order to meet some aggressive testing timelines. Also during 2017 we invested slightly less than another million in capital equipment for CoreCard’s processing and technical operations.

We used approximately $700,000 in cash for operations and customer expenses. The $700,000 cash used for operations is less than the approximately $1.3 million used in the prior year.

So, operationally revenue from services which includes licensed software, software maintenance, processing services and professional services grew 9% overall in the fourth quarter of 2017 and 14% for the full fiscal year compared to the same periods in 2016.

We benefited from both an increase in our processing services customer base and the number of transactions process, as well as, increase in our maintenance and software support. License revenue actually decreased year-over-year, if you remember in 2016 we had the initial implementation of a global license customer.

We caution then we did not anticipate having the same growth for license revenue in 2017, although the customer did implement a second site and has plans to do a third site this year. This is an international licensee that utilizes a significant quantity of CoreCard resources on an ongoing basis.

In fact, we have a permanent team devoted to the customer and work with them at their processing plants throughout the world. Let me stray here from strictly financial analysis for a little more explanation about licensing versus processing. It's a question I’ve received from several newer shareholders for the past couple of months.

CoreCard is unique and enable license to an entity the same software it uses in its own processing environment. But our history has now educated us to the extent that we actively discourage licensing in most situations.

What we have found is that the licensee quickly wants one off software code to meet their customer needs and needs a lot more ongoing services from CoreCard that they originally anticipated when they made their decision to license rather be processed.

So, they really say very little considering the total cost of ownership while having to support their own infrastructure. It’s simply just for the licensee sends or spends their money.

They do not get the cost benefits that come from sharing a data center with all of its infrastructure cost such as annual PCI audits or shared management of the CoreCard environment.

We obviously cannot give priority to every now and then type of demand from our licensing customers as we need to focus on our processing customers, which is an everyday recurring task.

In the future, we will be charging more for licensee professional help that were processing customers professional help unless they guarantee certain minimums that will support management and our team, since it requires almost standby resources.

So, yes, we will license special situations, but we don't plan on using our resources to build up that side of the business. We’d rather focus on processing where we can scale and not requires many personnel resources dedicated to one customer’s custom software.

Back to financial discussion, as in the past, we will continue to caution about the timing of revenue recognition, particularly our new contract. It's often unpredictable and often not under our control. Quarterly, an annual revenue is still not large enough to account for some of the quarterly swings in revenue we're likely to experience.

We expect to continue to see volatility in revenue and the income line, such as our processing services grow, we will slowly begin to level out from the volatility, but don't expect that this year. As you also can see from the press release our R&D expenditures increased 59%, 2017 over 2016.

We started an expansion in our India operations during 2017 adding 40 additional staff and we opened a second office in India near Mumbai in the fourth quarter. You'll most likely continue to see us increase expenditures in R&D in the near term, as we continue to enhance our product offerings.

With the increased R&D expenses, CoreCard operations, which includes our India and Romania subsidiaries experienced a small loss from operations for 2017. From those, let’s go to investments.

From time-to-time when an appropriate opportunity becomes available, we do invest in companies, primarily in FinTech or related industries that complement our CoreCard operation. During 2017 we’ve sold the majority of our equity position in one such investment. It is a company, which also has a substantial processing contract with CoreCard.

And we were happy to be one of their first investors. This resulted in an approximately $1.5 million gain. We had various other investment activity during in 2017, which you can read about further in the footnotes to our financial statements. Shareholders often ask, do you have any other gems hidden in the investment category.

Well, my further response is I hope so. But the truth is that it’s likely to be ready and as you have seen in the past we sometimes end up with the kind we prefer to forget that Intel write-offs. But yes, we hope we have some possibilities, will eventually generate some good returns. But don't expect one to materialize in 2018.

Primarily because the investment income recognized in 2017, Intelligent Systems is reporting a $473,000 profit for the year. Although, you're always pleased to end the year net positive, regardless of how you got there, we remained focused on the operations side of the business.

Then looking at strategic initiatives, I've often mentioned that we're exploring and open to strategic initiatives that would benefit the company. We still remain open and we're still considering various alternatives as I’ve stated in the past.

We want to do what is best for the shareholder, of which I'm aware with, that could take the form of a sell of the company, a merger or we could acquire another company for cash or stocks, complimenting to CoreCard that will speed up our growth.

How does that play out there today? We have conversation with private equity groups and others, who have capital and are serious about this place. But we don't go looking for them, they come to us. Some we engage in a little more conversation and some we dismiss.

They typically end up saying they’re looking for opportunities that are under managed, that they control management act to make the returns.

After minimum due diligence, if you can call it that, they report back very impressed with our customer base and with our platform, but they don't see how either more resources or additional management would be beneficial. So, frankly, we're not a good fit for a financial buyer or partner, we’re a good fit for someone already in the business.

And we do talk to others in our business that might make sense in thinking about business combinations. And we’ve talked to some banks that want to expand their programs and policies and visions either to buy them, they buy us or we merge.

And we have conversations with current and prospective customers who may want to lock up CoreCard for their particular business. The point I'm making is two-fold. One, we will be opportunistic and two, nothing is serious with any current conversation, so if there is nothing you can bank on here.

But we run the company day-to-day as if we're going to be here and independent for a long time and grow to be a substantial player in the payment issuing and processing business. That means we may turn down quick chunks of revenues that does not move us for being a good long-term, recurring revenue business.

So, there are three keys to our build of scales. The resources and by this we primarily talk people, there is a strong customer base and then there's the power of our platform, let me comment on each of those.

From resources, we now have around 350 experienced, a very talented technical payment professionals at our subsidiaries in the U.S., Romania and India. Again, from a operational perspective, we consider them to be one company under the CoreCard name.

We are enjoying and experiencing strong demand for these very talented and experienced technical resources on both the license and processing sides of our business. And our increasing capacity to support our growth, but it takes a year or more for them to be productive.

In India, we have expanded our employee by about 25%, since the end of 2016 and we're going to continue to add more resources. We have approximately 315 employees, primarily house in our building plus we opened a second location near Mumbai. In the U.S., our management team remains constant with greater than 12 years average with the company.

The management team is highly integrated with offshore and we are adding a few resources in the U.S. Romania remained a small developer tester group average tenures, 10 years. We may add some specific skill sets to the Romanian team. So, that’s the best resource side. Then the customer base.

We have a customer base that accomplishes a wide range of spectrums. We have very large customers who have hundreds or even thousands of internal IT resources and then we have some small startups. We have recently added a second license for our global license customer that's a prepaid card processor with complex and dynamic program requirements.

They also use what I will call fleet like CoreCard software and they process from the European headquarters. We have also successfully completed conversion from our competitors. And whatever licensees with a great deal of assistance from CoreCard has completed a conversion of 1 million plus accounts for an Australian bank.

So, our software is used around the world by our customer base. Then the third point was the platform. We're very good with revolving credit processing, that's private label, which sometimes called closed loop and association network, Visa MasterCard.

We can do really complex things and it's being recognized in a FinTech world, even though we do no marketing and have no sales force. We're very fast to market, we’re very flexible and we do some things other large processors cannot do well.

Plus, we do prepaid in all its very issues including payroll and gift, we play cards with a really robust architecture, we do installment loans, rewards, virtually anything that has an account with a currency attached we can handle. So, we believe we're good now, but our goal is to be able to say, we are a world class processor by next year.

That leads me to the outlook summary. I mentioned earlier some of the relationships that are active. Due to the time lag it may take for startup or to reach large quantities of accounts, coupled with the additional R&D expenses we may choose to incur to prepare for future growth.

It's difficult to project 2018 numbers, but I fully expect to have a good year. We believe we will at a minimum continue to grow revenue similar to or better than last year. Certain recent relationship discussions and short term contract work may result in significant revenue and profit growth in this year and our future years.

But we do not, as of today, have this work contracted beyond the short-term. So, we will be conservative and just predict what we’re doing now. It will be very difficult to add any more business relationships this year, 2018. We're working with some very well known companies and have severe resource constraints in taking care of everyone.

We don't want to take business that we cannot deliver successfully. So, in summary, you want to know how we’ll do this year. The answer is very well, but I don't know how that will translate in actual revenue and profit recognition.

We have signed and unsigned relationships that would definitely provide good revenue, if and I underline that some contracted business has the account expansion they believe that will happen. We execute contracts with each of the groups we’re currently providing services for. We will have a really good year in 2018 and a great year in 2019.

I should add, it's possible we will not be able to come to terms with one of the relationships and, if not, we will still generate good revenue as we help them transition at work.

A basic ethical premise of our business and you've heard me say this before is that we treat all customers fairly and expect to be paid the same thing for the same services, adjusted for volume and circumstances. Sometimes that gets in the way of a deal, but in the long run, it makes us a stronger, incredible company.

So, I hope all this helps as shareholders and prospective shareholders understand management’s view of our current business. With that, I will open things up for questions and we'll try to provide answers if anybody has any..

[Operator Instructions] Your first question comes from Sam Robotsky. Please go ahead..

Yeah good morning, Leland. Maybe there are other people online to ask questions, and I'll jump off and then come back. It seems like you made a lot of good accomplishments during the current year, increasing the number of employees in the potential business.

One thing you probably don't realize the 10-K has been filed and that makes it easier for me to be more aware of what's going on. So, as far as the $1.7 million processing equipment.

Was that paid for or does that have anything to do with the notes receivable $1,250,000 or what's the story about the $1.7 million additional processing equipment?.

So, the $1.7 million was paid for with cash. We have now are invoiced for the $1.7 million, plus a substantial additional amount that is – has involved this year.

We may or may not get that paid for by the end of this quarter, so it may show up as a received within the quarter, but it's with A111, AAA whatever ready company, so we don't have any problem believing that we’ll get paid for that, unless we decide to keep it on our balance sheet which is unlikely, highly unlikely and move this from a license to a processing situation..

So, this is the notes receivable $1,250,000 at year end?.

No, that is the note receivable has to do with, I might call it investment, it’s actually, sometimes we do our investments in ways that we feel are protect us the best, so we have effectively loaned someone some money and it'll be a convertible or with warrants, I don't really want to get in detail, but it will be, consider it equity..

Okay..

But although we earn interest on it quarterly and we expect to get it paid back and still have a equity of the company..

Okay.

So, your revenue increased about $1.1 million for the current year and you're talking about a similar percentage increase and you don't expect for 2018 any other customers to really go into full force with this revenue can increase more significantly? What do you have to do to get more expansive growth in the revenue on product sales?.

I think what I currently see is the revenue could increase greater than what we did last year, but I'm not saying I'm going to be conservative, I don't have that contracted.

In the processing business we can only process what our customers bring in, meaning if they're accounts grow rapidly then we're going to get more revenue, but they're not really our accounts, that’s their accounts and their business.

So, their business has to grow for ours to grow and I think I said the some of the – either customers or potential customers expect their account base to grow significantly, if that happens our revenue will grow quicker, but it's not something that we control.

I can't add new customers, so we're at this point at the mercy of the growth of the folks that we have not contracted or that we’re potentially contracting..

Okay. So the significant customer would add to significant revenue, would that be something you'd put out a press release on.

Is it that significant or material?.

I don't know that I can answer that, because it could be just quarter-to-quarter growth that we show up in the core release. So, no, I don't think there’d be a situation where we would probably be putting out a press release.

We're not talking about doubling revenues now, we're just talking about maybe growing in excess of the 14% percent we grew last year..

Okay. Now, the R&D that you're spending like $4,367,000 versus to $2,740,000, you expect that to increase.

You get reimbursed for this R&D or do you - how does that work?.

We don't get reimbursed for R&D. R&D is money that we spend on our product to make it better..

Okay. But you spent $4,367,000 with revenue of $9 million that's pretty - is that included in - that's really pretty heavy expenses.

Now to the extent that you charge off this R&D, what timeframe do you have to expect to receive rewards for the money you're spending on?.

I expect to see rewards every quarter. This is not R&D that we can look and capitalize over long-term, this is very short-term kind of things that go into our base products, so it's not charged to a particular customer..

Okay, okay.

Okay, let's see as far as the investment that's carried $1.35 million, this is the new $1 million that you invested in early 2017?.

Yes..

Okay. So, I guess, the bottom line is, I mean, you're spending a lot of money on R&D, you have that capital to do that. I guess, the timeframe for being rewarded for that at this point is a little longer. Even though you're breaking even or you're losing a little money..

Yes, I think, you have to understand is that we talk about, we operationally, we use about $700,000 last year that included all that $4 million or $5 million R&D. So, the overall cash is not negative, it’s not going negative despite the R&D. If you want to be a world class processor, you're going to spend money on R&D..

Okay, okay. Well, look it's a good result and hopefully you can get more customers, so that you could make some decent amount of money, more so sooner than later. Leland, good luck going forward..

Thank you..

[Operator Instructions].

Okay, if there are no more questions, I will tell you that our next conference call would generally be at the end of the second quarter, unless they are significant new developments to report before then. We thank you for your interest in the company. We look forward to continued good results. Thank you everyone..

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