INX Breathes Easier After 'Long, Painful' Restatement Process

For a while, things were a little touch-and-go for INX, the Dallas-based infrastructure solution provider powerhouse and Cisco Gold partner.

No, the company wasn't in any danger of going under. It actually grew -- and grew significantly -- throughout the past two years' worth of accounting headaches. But in the process of reviewing tens of thousands of contracts dating back three years in order to fix the ways it recognizes revenue, its top executives learned more about the ins-and-outs of public company accounting than they ever thought they'd need to know.

"In today's complex world, with accounting and revenue recognition for public companies, you have to make sure you have the right systems and processes and not take any of that for granted," said Mark Hilz, INX's president and CEO. "We didn't get it exactly right. It doesn't matter how big or how small the adjustments we made were, the point is we didn't get it right. We're going to make sure in the future we do get it right and won't get back to this again."

INX in March 2010 said it would delay its fourth quarter earnings release, for the year ended Dec. 31, 2009, and would be unable to file its annual 10-K form for the fiscal year 2009 thanks to "the need to reexamine its revenue recognition." In a nutshell, what it meant was that INX had to go back through years worth of financial statements, and audit each one in line with proper accounting formats.

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The specific accounting regulation in question was Emerging Issues Task Force (EITF) 00-21: Revenue Arrangements With Multiple Deliverables, which addresses complex contracts that require the separate delivery of multiple goods or services. In the post-Enron era, where financial regulations like Sarbanes-Oxley are quoted like scripture, it's an example of the tighter financial reporting required of public companies, noted Andrew Cadwell, INX's vice president of sales.

"In our business, if we see our position as something that has Cisco or some manufacturers' product and our own services and managed services, each one of those things is recognized differently in revenue," Cadwell explained.

In other words, revenue recognition in a typical VAR engagement can get tricky -- particularly a deal that goes beyond basic product resale and includes products and services as part of a total implementation and solution provider sale.

"We look more like a professional services company that also resells stuff," Cadwell said. "We don't make anything except bundled solutions. The way you count the beans on that is similar to an industry like construction, but even then, selling lumber is a lot different than selling a box full of software. This takes some really specialized knowledge."

INX earlier this week at last confirmed the completion of its financial restatement, and filed both its 2009 and 2010 quarterly and annual financial statements. That document pile included its 2010 Form 10-K, including 2009 financial statements and restated statements from 2008, and 10-Q quarterly reports for the quarters ended March 31, 2010, June 30, 2010, and September 30, 2010, as well as those same quarters in 2009. It has not yet filed its first quarter 2011 financial statements, and according to a company statement, it will be doing so "as soon as practicable."

For the quarter ended Dec. 31, 2010, INX grew revenue 27.8 percent from the previous year's quarter, from $57.1 million to $73 million. It took a net loss of $1.4 million compared to $3.5 million for the previous year's quarter. On an annual basis, INX closed out its 2010 with revenue of $312 million, up 37.5 percent from $226.9 million the year earlier, and profit of $5.4 million, compared to a net loss of $4.4 million in the previous year.

"If you look at our filings, the net effect has been very minimal," Cadwell said. "There's a chance we may have been able to let things ride, but being a public company, we can't. I would bet we have the cleanest books in the industry now."

Next: Reports of INX's Demise Greatly Exaggerated

One of the big problems, Cadwell said, is that the new era accounting regulations ask for contracts to be broken up in terms of products and services and other factors, with plenty of exceptions. Many of INX's customers, however, don't like to see contracts broken up that way -- it's less cumbersome, Cadwell noted, to write service-level agreements (SLA) around completed, operational solutions, and package those agreements so the customer can sign off on the work being done.

"It was getting the transactions into the proper format, which required an enormous amount of field work," Cadwell said. "Then, it was creating new processes and systems for handling all of those new contracts, as well as maintaining our value proposition and getting our customers certain guarantees and assurances. All of those three things were playing out over the last 15 months."

Cadwell described the 15 month restatement process as "painful." Not only did INX need to keep its employees focused on business growth, but it also had to calm nervous shareholders and fend off whispers in the VAR community that the company was going under. Cadwell credited INX's strategic vendors, including Cisco, VMware, NetApp and EMC, for sticking by it during a tough stretch.

The actual work involved INX's top executives and most of its sales team digging through tens of thousands of contracts, and INX putting new controls in place to accurately and compliantly recognize revenue. Also, in the midst of the 15 month process, INX had a leadership change -- Hilz in October 2010 took over the top job from James Long, now INX's executive chairman -- and at the beginning of 2011 it named a new chief financial officer, Philip Rydzewski.

"In a hyper-compliance-oriented environment, it can be a really difficult thing to maintain your value proposition," Cadwell said. "Honestly, it's been such a long and involved process. This is a very unique business and there are reasons why the barrier for entry for a VAR to go public is enormously high."

As part of the corporate changes, INX has also moved its headquarters to Dallas from Houston. Before, it had what Hilz described as a "split headquarters" with offices in both cities. But as part of the changes INX undertook over the past 15 months, its Houston-based accounting and finance operations are now in Dallas, so all operations are in one headquarters.

"It's nice to be on the other side of it," Hilz said of the restatement efforts. "We look forward to continuing to grow the company. We've had nice growth during the process, and it's nice to see that the company has been able to grow. We're going to accelerate that growth now."

A lot of what helped INX stay focused in the past two years was its shift toward cloud-ready infrastructure and architecture-based sales just before both of those things became trendy in the channel, Cadwell said.

"We're pretty lucky to have gotten ahead of that, because it's driving an enormous amount of growth," Cadwell said. "Our data center business is just off the hook -- data center and collaboration. What we do is help clients do the cloud on their terms, meaning private and hybrid cloud, and what that means is IT-as-a-service environments and helping you figure out the overall hybrid cloud strategy."

Hilz said INX saw 38 percent growth overall, driven by 93 percent growth in its virtualization and cloud computing practice. INX's overall deal volume is flat to down this year, Cadwell said, but its average deal size has grown. Even with the economic downturn, INX's average spend per customer, from 2008 to 2010, was up more than 50 percent.

"It's a harder sale, and the sales cycle is a bit longer," Cadwell said. "Our average sales cycle has gone from four to five months to eight to nine months. But it's a function of what we're selling, which is selling the overall architecture."

He characterized INX's shift to more of a consultative sale to customers.

"You're not turning wrenches anymore, you're becoming a business partner to the customer," he said. "We're going across the business quite a bit more. It's not just IT, you're building these financial cases, and it's more than just cost justification. You do become more of a partner."