ATS Corp (ATS) 2014 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the ATS Automation second quarter conference call. I would like to remind you that this conference call is being recorded on November 6, 2013, at 10.00 AMEastern Time. Following the presentation we will conduct a question-and-answer session. Instructions will provided at that time for the queue up for questions. (Operator Instructions).

I would now like to turn the call over to Stewart McCuaig, Vice President, General Counsel of ATS. Please go ahead, sir.

Thanks, operator, and good morning, everyone. Your main hosts today are Anthony Caputo, Chief Executive Officer of ATS, and Maria Perrella, Chief Financial Officer. Before we begin, I'm required to provide the following statement respecting forward-looking information, which is made on behalf of ATS and all of its representatives on this call.

The oral statements made on the call will contain forward-looking information. The actual results could differ materially from a conclusion, forecast or projection in the forward-looking information. Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Additional information about the material factors that could cause actual results to differ materially from the conclusion, forecast or projection in the forward-looking information and the material factors or assumptions applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information are contained in ATS's filings with Canadian provincial securities regulators.

Now it is my pleasure to turn the call over to Anthony.

Good morning, ladies and gentlemen. I'm assuming you have seen our press release. Maria will review financial highlights in a few minutes.

In the second quarter we continued to make progress with the value creation plan. Our financial were solid. Revenues increased, and we generated strong operating margins. Strategically we took a significant step in our value creation plan through the acquisition of IWK. Today I will update you on the Q2 performance, conditions in the market, and on IWK. I will review the highlights and status of the integration work. I'll then make some summary comments.

Q2 bookings were CAD110 million, which were approximately 30% lower than our recent run rate and consistent with Q2 last year. As I have indicated before, we expect variability in our quarterly bookings due to the types of programs we pursue and win. Overall, our [funnel-in] proposal activity is strong. Our bookings did not include payments related to our Nigeria program, as the customer believes it is now approaching financial close and therefore did not raise additional bridge financing.

Q2 revenues were CAD155 million, up9% from last year and 3% from Q1. Life sciences accounted for about 50%, and transportation accounted for about 40%, giving us good balance. Our Q2 EBIT margin, normalized for IWK acquisition costs and incremental stock comp, was 11%. This was the highest EBIT margin we achieved since we began executing our value creation strategy.

On our EUR65 million Nigeria enterprise program we have completed design work and some manufacturing. As I noted, the customer is working to secure financial close. Reaching financial close and/or the timing of additional progress payments will impact how quickly we can fully ramp up the program.

On our CAD40 million enterprise program with the North American life sciences customer , we are on track. We have kicked off assembly, and the program is progressing on schedule. Activity has ramped up, and we are engaged with the customer on future opportunities.

In the long-term our goal is to achieve backlog balance across our markets. Our current backlog is comprised of 40% life sciences and 40% transportation.

Turning to our markets. As I noted, funnel-in proposal activity remain healthy. By market, life sciences strong with number of new and follow on opportunities in both medical devices and pharma. Transportation also remains strong, with opportunities in both traditional and new technologies.

Energy continues to have significant activity, particularly in nuclear. Consumer and parts of electronics have been weak, although we do see some increased activity, particularly in the area of glass handling.

We successfully transitioned the quality of our backlog, which results in increased predictability, more strategic customer relationships, better program control and less sensitivity to macro economic forces. Our goal is to provide value-based enterprise programs where ATS delivers enabling plant-wide solutions for our customers.

As I've indicated before, this approach to market is a key differentiator for ATS and results in larger program wins with variability in quarterly bookings. I believe our approach to market will continue to serve us well.

In terms of outlook, the health of the global economy remains somewhat mixed. In North America and Europe the recovery is slow but encouraging. While growth in Asia remains slow, ourcompetitive position is strong. We are seeing significant opportunities, but some of our customers continue to exercise caution with respect to their capital investments.

Our balance sheet improved during the quarter, as we generated CAD5 million of operating cash. We have modest leverage, significant free cash flow, and therefore the funding capacity to continue to pursue our strategy.

Turning to IWK. Recall that strategically we target companies based on their ability to bring market or technology leadership, scale or opportunity. As I stated on our last conference call, this acquisition takes a lot of boxes for us. From a market perspective, IWK competes in the tube filling and cartoning segment of the pharma and personal care packaging machine sector, estimated to be about $1 billion, and as one of only two suppliers of machines capable of filling tubes at a rate of over 750 a minute.

IWK's leading position in dispensing allows us to establish a center of excellence for filling primary and secondary packaging within ATS. IWK brings a strong management team and core capabilities and customers in segments that are new to ATS, hence creating significant cross selling opportunities and key account development. This acquisition significantly advances ATS's services strategy.

We intend to expand and roll out IWK service modeling capability across all of ATS. In 2012 IWK had service revenues of approximately EUR33 million. ATS's current annualized service and spares revenues are approximately CAD45 million.

As with previous acquisitions, the addition of IWK gives us the opportunity to consolidate, realign segments and global capacity, and improve our cost structure. We expect to complete a number of actions during the third quarter and expect to incur charges of approximately CAD2 million with a one-year payback.

Our other M&A efforts remain very active. We continue to review companies against our acquisition framework and are applying considerable resources to this activity. I remain confident that the [settlement] of our strategy will contribute significant growth and value.

In summary, our second quarter operating performance was strong and market activity is robust. Strategically we made progress on our value creation plan with the addition of IWK. We began work to integrate the business into ATS, which I will expect will take two to three quarters to complete.

Organically we have successfully transitioned our backlog to include enterprise programs and are now focused on growth. Accordingly, the quality and predictability of our backlog and prospects for growth have improved. From an M&A point of view, we are engaged and remain focused on this key element of our strategy.

At this point I would like to turn the call over to Maria.

Thank you, Anthony. We continued to deliver strong operating results in the second quarter of fiscal 2014, with good revenue, cash generation and the highest normalized EBITDA and EBIT margins since we began executing strategy. In Q3 our consolidated results will include a full quarter of IWK operations. Q2 includes M&A costs, leading up to the close.

This morning, I will focus primarily on ASG and our balance sheet. I will comment on Ontario Solar as it relates to the income statement and impact on total EPS. I will start with results from continuing operations.

Q2 revenues of CAD155 million were higher than prior year's revenues of CAD141 million and higher than last quarter revenues of CAD150 million. Over the past four quarters revenues have been in the range of CAD144 million to CAD155 million.

Q2 bookings were CAD110 million, similar to last year Q2 bookings of CAD112 million. Over the last four quarters, bookings have averaged over CAD150 million. Our funnel is strong, and the timing of larger programs will cause this lumpiness.

With lower bookings, Q2 closing backlog decreased to CAD355 million. As Anthony noted, our any Nigerian program has not reached financial close, nor were any bridge financing payments received in Q2. We have approximately CAD8 million of the Nigerian program in our closing backlog, and approximately EUR45 million remains unrecognized pending financial close.

Accordingly our backlog profile has slightly changed. Approximately 40% of backlog will be revenued in the next quarter as compared to the approximate 35% in the prior two to three quarters. In addition, the conversion of backlog to revenue will also be impacted as IWK has shorter cycles.

We are in the process of reviewing information and aligning IWK reporting with ours. As differences exist, for example IFRS versus German GAAP, in internal reporting policies regarding backlogs, it is premature to provide more details on backlog and revenue cycles beyond what we provided at the time of acquisition.

At the gross margin level, we are seeing the positive impact of enterprise type programs in the last few quarters. Gross margins were in the 24% range in Q3 and Q4 of last year and then improved to the 26% range in Q1 and Q2 this year. We continue to work to improve our performance.

In Q2 SG&A spend of approximately CAD23 million included CAD900,000 of IWK related acquisition costs. Q3 will include additional acquisition costs related to IWK. Recall last quarter Q1 SG&A of CAD25.4 million included CAD2.2 million of restructuring charges. We said we expected payback over 12 months and are starting to realize the expected benefit in Q2. With the IWK acquisition we have the opportunity to integrate and improve our cost structure, and in Q3 we expect to incur additional restructuring costs in the range of CAD2 million.

As I noted, we had record normalized EBIT margins this quarter, demonstrating the strong performance of our underlying business. EBIT margins normalized for nonrecurring items and stock compensation expense was 11.6% this quarter, compared to 10.8% last quarter and between 10% and 10.2% in the previous three quarters. This quarter represents a 1% to 1.5% improvement from the last four quarters.

Our Q2 stock compensation expense was driven higher due to the increase in our share price. Stock compensation expense increased from CAD1.3 million in Q1 to CAD2.6 million this quarter, resulting in an approximately 1% margin impact. From Q2 last year to Q1 fiscal 2014 stock comp expense has been CAD600,000, CAD900,000, CAD1.3 million and CAD1.3 million respectively. Recall, based on our outstanding awards, each CAD1 increase in stock price increases stock compensation expense by approximately CAD500,000 per quarter.

Moving to the balance sheet,I will review cash and working capital as a percentage of revenue. Our balance sheet reflects an additional CAD40 million of cash and debt in preparation for the acquisition of IWK post quarter end. Cash net of debt was CAD139 million.

Normalized for these amounts, we generated cash of CAD8.6 million in continuing operations, and used CAD9.4 million in discontinued operations as we repaid deposits and taxes on Ontario Solar Q1 proceeds from the sale of projects and manufacturing assets. On a net basis, CAD12 million was generated between Q1 and Q2, and additional future proceeds of approximately CAD20 million from the divestiture of solar projects are expected in calendar 2014.

ASG working capital as a percentage of revenue was 15.9%. We expect to operate within the 10% to 15% range, which may fluctuate depending on the timing of milestone billings and payments. On a pro forma basis, post acquisition we will have net cash on hand of CAD41 million and unutilized borrowing room of CAD167 million under our existing credit facilities.

Turning to net earnings. In Q2 we generated basic earnings per share of CAD0.12 from continuing operations. Adjusted for incremental stock compensation expense, that is CAD1.3 million as a normalized run rate versus CAD2.6 million in the quarter, and IWK specific M&A costs, EPS would have been approximately CAD0.14, compared to CAD0.12 normalized EPS in Q1 and CAD0.11 in Q2 last year.

Discontinued operations EPS was CAD0.03, reflecting the reversal of a warranty accrual which management worked to positively resolve. Going forward, a gain and positive EPS from solar will be realized when the project sales are finalized in calendar 2014.

The effective tax rate for the quarter was 25%. The Canadian effective tax rate is approximately 27%, and we expect to average in the 25% to 30% range in fiscal 2014. There will be variability due to different tax rates and the availability of unrecognized tax assets in the various jurisdictions in which we operate.

Commencing Q3, our financial results will include IWK for the full quarter, which we expect will be immediately accretive to EPS. Our current view of the estimated purchase price allocation is approximately 50% of the purchase price will be allocated to goodwill and most of the remainder to amortizable intangible assets.

This is expected to result in additional amortization expenses of approximately CAD8 million to CAD10 million per annum, which will negatively impact EBIT by approximately 0.5% on a pro forma consolidated level. However, our EBITDA margins will not be impacted by the purchase price allocation. Going forward we will speak more to EBITDA.

In summary, our Q2 performance was strong. Our business continues to perform, and our balance sheet allows us to continue to focus on growth, both organically and through acquisitions.

Now we would like to open the call to your questions. Operator, could you please provide instructions to our listeners?Thank you.

(Operator Instructions). Your first question today will come from Justin Wu with GMP Securities. Please go ahead.

Good morning. My first question is on the Nigerian contract. From what you guys can see currently, do you think that financial close could occur before calendar year end?

Good morning. I think that would probably be tight, but the program started about a year ago, and the customer believes that he is pretty much there. We believe that he is there, or if he doesn't get there, that there will be additional bridge financing.

Okay. And you answered a bunch of numbers, Maria, but -- sorry,just in terms of clarity, how much have you guys booked into backlog related to that program?

We booked two amounts. EUR25 million in total, and of the EUR25 million, approximately EUR5 million is remaining or in our closing backlog at the end of Q2.

Got it, okay. And just second questions on the -- your other enterprise solution contract, the CAD40 million contract, when does your -- when does that program start to ship to your customer?

Several months. It is about 70% complete?

It is about, yes, 70% complete, and the remaining 30% will be revenued in Q3, Q4, Q1, approximately evenly, and therefore we will see shipment in [toward] the end of Q1, Q2 fiscal 2015.

Q1 to Q2 fiscal 2015, okay. And do you know when your customer launches that particular product?

Yes. We have insight but can't really discuss our customer's plans or intentions. What I could say is that if the product is successful -- and we all hope, of course, that it will be -- then there are follow-on opportunities for the products that we are building for our customer.

Great, thank you.

On the next question is from Mark Neville of Scotiabank.

Hi, good morning. Just a question on the IWK. You touched on it being shorter cycled. Forgive me if I've missed this, but have you provided a backlog number for IWK?

We haven't provided a backlog number, and that is for reasons -- some of the reasons that I explained. Their categorization of backlog is different than ours, and their reporting is German GAAP versus IFRS. And we are going through the differences now, and we are going to align and determine then what their closing backlog is, and it will line up with what we do. So we haven't provided that information, no.

Okay. And you mentioned that 40% of backlog should be recognized in the coming quarter. Is this just a temporary thing because of where the Nigerian contract is, or is this something more permanent?

It depends on really where our orders are. And I would say each quarter will be a different answer, depending on what is in our closing backlog. Therefore, it is not permanent.

Okay. So -- but generally speaking, I guess, maybe 30% to 40% is a good run rate to use?

Based on our experience over the last I think six to eight quarters, it is some where between 35% and 40%.

Okay. And then the Nigerian contract, should we still expect -- I guess it has been pushed out maybe a bit, the financial close, but should we still expect a majority, if it does close when they are expecting it to occur in the first three quarters of calendar 2014, the revenues, or again would that be delayed a little bit?

As you are saying, Mark, it depends on when financial close happens or when we get bridge financing. But just as an example, if financial close were to happen sometime in Q3 or Q4, we would see a good amount of the revenues coming through in Q4, Q1, Q2.

Okay. Just on SG&A, excluding the acquisition costs, I think you are around CAD22 million, previously I think you've talked about a CAD23 million to CAD24 million range. But should we start -- should we be thinking about CAD22 million as being the new normalized run rate, just given some of the restructuring efforts you have undertaken?

I would say pre-IWK, it is the normalized run rate, excluding M&A costs. Going forward, our income statement will look a little different, because with IWK we will see incremental SG&A.

Right. Okay. Thank you very much.

You're welcome.

Your next question comes from Cherilyn Radbourne with TD Securities. Please go ahead.

Thanks very much. Good morning. I think you've suggested in the past that the acquisition of IWK might perhaps open up other acquisition opportunities that would not have been a fit previously. I wonder if you could elaborate on how it is building block for you in that regard?

Hi, good morning. Maybe I will just start with the kind of underlying answer and then get to the building block.

So as we always do, we are talking a number of companies. Nowwe have a pretty strong M&A team in place. We know what we want. We can engage with higher frequency, and we can qualify and kind of make the engage / not engage decision more quickly.

And we are getting in the deal flow. And to some degree we are being recognized as a company that -- by peers and customers -- that has M&A as a core element of their strategy. So that is kind of the back drop.

The specifics of your questions, so IWK is going be ATS's filling, packaging, dispensing center of excellence, and they have very significant capability for liquids of high viscosity, but they have limited capability for liquids that are less viscous or equal to water, like filling syringes. So there are two benefits that IWK provides.

The first one, we have the opportunity to either organically grow capability or make bolt-on acquisitions in order to round that out as our Company's center of excellence for what I described before. But equally important it helps us be recognized as a legitimate quote/unquote company in terms of executing an M&A strategy, in this particular case in Germany, and it makes other companies more comfortable and more receptive to talk to us. So it is kind of lots of tick marks being ticked.

Okay. That's nice color. And then just a very general question, Anthony. Can you just comment on your overall view of the economy and customer attitudes towards CapEx? Is it better or worse or about the same versus recent periods?

I would say it is the same to slightly better. So it is sideways, but wefeel more optimism than we do pessimism. Some of our worst fears in Europe have subsided, and the US is encouraging, but we still see a disconnect between what we read and what we see.

So we haven't seen a US manufacturing renaissance. I hope that it happens. But it is certainly the same or better.

Okay. That is my two. Thank you.

(Operator Instructions). Your next question will come from David Tyerman with Canaccord Genuity. Please go ahead.

Yes, good morning. A question on margin. You indicated in the quarter that the margin improved. I was wondering if you could give some thoughts on further improvement and what kind of timing we should expect and magnitudes we should be thinking about?

Do you want to start? So, hi, good morning.

Good morning.

Just to recap where our initiatives with respect to improving margin are directed. The first is on program execution and making sure we don't have red programs and all that kind of stuff. And that in the olden days is how we got from zero to 10%.

Then it is about better utilizing our supply chain, not just externally, but also internally by giving each of our companies capability and flavor and so on and so forth. And that is how we got 5% more before corporate costs.

Then and now it is about improving our approach to market and going to enterprise programs where we are not only the plumbing company and dry waller and general contractor but also the architect. And that creates more opportunity, as Maria indicated, for improved margin. And then it is about buying companies like IWK and not increasing our corporate costs in order to manage them and to integrate them and getting the kinds of gains that I spoke about.

So IWK gives us an opportunity to better align our capacity and the things that I spoke of a few minutes ago. And we will spend CAD2 million, and we will get it back in a year. So if we can continue and make even bigger acquisitions, then our prospects for improved margins go up.

And then just in terms of timing, we have always said -- or we have talked about a range of possible improvement of 5%, and we haven't given a time line to that. But based on actions or activities that have taken place over the last two quarters, with addition of IWK and as Tony has said keeping our corporate costs the same, that improves our margin by about 0.5% going forward. And then with the restructuring that we did in Q1 and restructuring that we would do in Q3, that would add about another half a percent of margin improvement.

Okay. That is really helpful. And then the second question I had was on IWK and the services. So it sounds like they obviously have a lot more than ATS traditional proportionately, and it sounds like you are rolling their capability out. What sort of timeframe should we be thinking about having meaningful impacts on the overall ATS services proportion?

So I mean we -- so we took a good step, as I indicated, with IWK, so as a company we are -- on a pro forma basis we are somewhere below CAD100 million-ish. So that is a good amount of services revenue.

The next step is what you said, which is what I said, which is to combine what IWK does and what we do. So for instance, IWK has 25 service people around the world, so could we expand the 25 people and actually perform services on ATS's machines, and I think the answer is yes.

The next step is linking our service and our warranty, and the next step is making service a value added capability for our customers where we are selling uptime. So I would say that we are some where between step one and step two on that four-step plan.

Our intention -- now that we have a services core, our intention is to add leadership in this area, with a view to accelerating its contribution. I think it is real -- it is really quite low still in terms of its plan contribution to the Company.

So is this sort of two to five year kind of thing where it would be significantly expanded?

Yes, I tried not to answer that question, but I think two to five years is a long time, and I think we have the basis to go faster than that.

Okay. Okay. That's helpful. Thank you.

(Operator Instructions). And your next question will come from Mac Whale with Cormark. Please go ahead.

Hi, good morning. I just wanted to go back to something -- you haven't talked about in a couple of quarters -- and that is I think you talked about in the past on transportation and life science about reformulating your -- how you actually go to market, and in terms of putting like a corporate team I think is what you called it. And you hadn't yet done that in energy and the consumer products. Can you update us on the progress of that?

So, good morning. So I would say that our approach to market and in terms of how we approach gate one, gate two, gate three formulation of captured teams and the deployment of them to secure opportunities is more advanced in transportation life sciences than it is in consumer. And I think we are now focused on trying to bring consumer and energy to that same best practices, for lack of a better term. And by the way, that in part -- the application of what I just said is in part responsible for securing the large nuclear opportunity that we spoke about last quarter. So two out of three -- I wouldn't say we are there. Two out of three, we are on our way. And third, third we are on.

And now with IWK that you are integrating, does that in any way affect those in a big way? Is it disruptive? Is it -- can you comment on how you sort of manage that process?

Two separate questions. So significance and is it disruptive. I mean, it gives ATS -- the old ATS the ability to provide an enhanced offering by including capability, which is to the right from a value chain perspective of what ATS normally does. So you know, ATS makes the product, but doesn't sell it. ATS makes the device but doesn't package it. So now the old Automation can offer that.

Conversely, IWK, when selling products to market, it can also offer capability to the left of what it does -- so potentially even assembly -- and to the right of what it does, which it could not before. So there is certainly synergy there, and by the way, IWK's customers are new to ATS, with the exception of one off the top of my head, and the other way around as well. So the significant capability there. And synergy.

The second part of the question is ATS's consumer segment is not as advanced in its approach to market as some of the other area of our Company are, and I think that we can bring the best practices in that regard of ATS to IWK as well, just like IWK is bringing a bunch of best practices to ATS. So, long rambly answer, but I think it is a two step benefit.

Okay. And my question was rambling, too. The last thing then on the services -- just trying to understand on the service element of this. Is there a separate responsibility in each segment for rolling out that service part of your business, or is that almost a separate team of people focusing on that, which are trying to drive that part of your business in all segments? Or is it compartmentalized? So I'm just trying to figure out how the risk associated with trying to take what IWK does better than you guys do, and how you get that out of the consumer, say, or life sciences, into the other -- the rest of your businesses.

Okay, so that was a long question too, so now you are going to get a longer answer. I will try and keep it short. The first part of the answer that services in our Company is distributed, and services currently in our Company means different things to different divisions. And they sell it different and apply it different, so it is not cohesive.

The second part is that what IWK does is -- how it does it is better than how the other ATS divisions do it. And so there's a bunch of learnings that needs to be taken to each of the ATS divisions. And by the way, it's not black magic. It's about producing parts. It is about servicing the customer. It is about having service capability that are local. It is about giving machines the ability to communicate and ask for help.

All of those kinds of things that we know what to do but we just haven't done it. And then the third part of the answer is we will have a unified approach as a corporation to service, which includes some shared common elements as well as distributed service elements in our division. In our various divisions. So that is what we are going to do going forward.

Okay. That is all I have. Thank you.

Your next question is a follow-up from David Tyerman with Canaccord Genuity. Please go ahead.

Yes, just quickly, Maria, what was the number that you had for percentage of backlog that will be converted into revenue in Q3?

40%.

40%. Thank you.

You're welcome.

(Operator Instructions). There seems to be no further questions at this time. Please go ahead, Mr. Caputo.

Thank you very much, and have a nice day.

Ladies and gentlemen, that does conclude our conference call for today. We thank you for your participation. You may now disconnect your lines.