CSP Inc (CSPI) 2011 Q4 法說會逐字稿

Good day and welcome, everyone, to CSP's fourth-quarter and year-end fiscal 2011 conference call. Today's call is being recorded. The financial results news release is posted on the website at www.cspi.com for those of you who did not receive it by email. Later we will be conducting a question and answer session. (Operator Instructions).

With us today are CSP's President and Chief Executive Officer, Mr. Alex Lupinetti, and Chief Financial Officer, Mr. Gary Levine.

At this time, for opening remarks and introductions, I would like to turn the call over to Mr. Levine. Please go ahead, sir.

Thank you, LaTonya, and good morning, everyone. With me on the call today is our Chairman, President and Chief Executive Officer, Alex Lupinetti. I will take you through our fourth-quarter and year-end results, and then Alex will review our operations before we take your questions.

But first, our safe harbor statement. During the call we will take advantage of the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to statements that may be deemed to be forward-looking under the Act. The Company cautions that numerous factors could cause actual results (technical difficulty) materially from forward-looking statements made by the Company. Such risks include general economic conditions, market factors, (technical difficulty) competitive factors, and pricing pressures, and others described in the Company's filings with the SEC. Please refer to the section on forward-looking statements included in the Company's filings with the Securities and Exchange Commission.

I would like to start by providing some background on the Form 8-K that we filed related to our financials. The Company's management determined that we needed to restate our consolidated statement of operations for the periods ended September 30 and December 31, 2010, as well as March 31, June 30, 2011 as a result of the way the Company is regarding revenue for third-party maintenance contracts in which CSP was not the primary service provider. And our independent auditor has also agreed with our determination.

We recommended to CSP's audit committee that we restate the aforementioned financial statements which they approved. To be clear, the adjustments made to the restated financial statements did not have any effect on income before taxes, net income, cash flows, total assets, total liabilities, retained earnings or total shareholders' equity.

The restatement reflected adjustments and reclassifications of revenue and cost of goods in connection with the identification of products that are maintenance and support services provided by third parties where CSP is not the primary provider of the service. Our previous practice was to record the total revenues received from these services as gross sales. Going forward, and restated for the relevant period, we will record the revenues for these services provided net of the cost of the services from the third party.

This has been the effect of reducing our revenues for the period, but will increase the gross profit margin. As part of the review, we also uncovered certain services provided by third-party contractors for which CSP is the primary provider that were correctly recorded as gross sales value. However, these services were recorded as product revenue and should have been recorded as service revenue.

As detailed in our news release today, we expect to file an amendment to the one 10-Q for the relevant period, an amendment to the Form 10-K for the fiscal year end September 30, 2010, with the SEC, in order to reflect the adjustments of the revenue and cost of sales and reclassifications.

With that, let's get right into the financial review. Total sales were $16.6 million compared to $22.4 million in the fourth quarter a year ago. The revenue decline is primarily attributable to a 32% decrease in our Services and Systems Integration segment. This was primarily the result of significantly reduced sales to a major hosting company.

As we have previously discussed, the customer had acquired one of our largest competitors in 2010. We recorded an 80% increase in revenue at our Systems Segment for $2.2 million to a $1.2 million order from an international sonar customer. The effects of foreign currency were $900,000 favorable on a year-over-year basis. For the full year, consolidated sales were down 18%, to $73.6 million.

CSPI's total cost for Q4 declined to $12.6 million from $17.9 million in Q4 2010, due to the lower year-over-year volume. Gross profit for the quarter was $4 million compared to $4.5 million, as a result of the lower sales. Gross margins, however, rose to 23.9% compared to 20.1% in Q2 of 2010, due to a better product mix and smaller average deal sizes.

Fourth quarter engineering and development expenses decreased to approximately $325,000, compared to $552,000 a year ago. As a percentage of sales, Q4 2011 engineering and development expense was 2% of sales compared to 2.5% last year. Our target range for engineering and development expense is 2.2% to 2.6% of sales.

SG&A expenses decreased on a real dollar basis to $3.6 million in the quarter from $3.9 million a year ago, as a result of lower commissions. SG&A was 21.9% of sales in Q4 of fiscal 2011, compared to 17.3% of sales in Q4 last year. The increase in percentage was due to the lower sales revenue. Our target range for SG&A expenses is between 17.9% to 18.6% of sales.

During the quarter, we had tax expense even though we had a loss. The tax expense was primarily due to year-end adjustments of our deferred taxes in Germany. In Q4 of last year we did not have a deferred tax adjustment for Germany. We expect our effective tax rate will be approximately 43% for the first quarter of fiscal 2012.

Net loss for the fourth quarter was $92,000 or $0.03 per share compared with net income of $46,000 or $0.01 per diluted share in the fourth quarter of fiscal 2010. For the year, we posted a profit of $369,000 or $0.10 per diluted share compared to a profit of $914,000 or $0.25 per diluted share in 2010.

Now let's turn to the balance sheet. Cash and short-term investments increased to $15.9 million at September 30, 2011, from $15.5 million a year ago. We purchased approximately $649,000 in CSPI stock during the year.

Going forward, our financial priorities remain the same. We will manage the Company cautiously, with a strict focus on controlling expenses and efficient working capital management, all while driving towards long-term profitable growth.

With that, I will turn the call over to Alex.

Thanks, Gary, and welcome to our call this morning. As we have been discussing, our financial results for the quarter and for the year were affected by reduced sales for a major hosting customer. While the year-over-year comparisons are disappointing, they should not obscure the progress we have made in executing our growth strategy during the quarter and the year.

Let's talk first about our systems segment, which consist of our multi-computer business. This business sells primarily through the major prime contractors that sell to the US Defense Department. As Gary mentioned, during the quarter we shipped a $1.2 million order for a FastCluster 3000 series MultiComputer system to an international sonar customer. FastCluster 3000 series MultiComputers are designed for deployment in harsh environments where performance and processing density are critical.

Last month we introduced our next generation FastCluster 3000 OpenVPX MultiComputer with converged fabric at the MILCOM 2011 conference in Baltimore. This converged fabric MultiComputer integrates virtual protocol interconnect technology from Mellanox to allow InfiniBand, Ethernet and Fibre Channel traffic to exist on a single one-wire fabric.

It also uses an optical interconnect for VPX that drastically improves performance and weight. As a result of the converged fabric and open interconnect for VPX technology, this product is ideal for military high-performance embedded computing platforms that require high bandwidth and scalability across both boards and systems. We are excited by the potential of this product, and will continue to invest in innovative MultiComputer systems to capitalize on the military's focus on intelligence, surveillance and reconnaissance.

Let's turn now to our Services and Systems Integration segment, which includes our Modcomp subsidiary. This segment provides solutions and services for complex IT environments, focusing on storage and servers; network security; unified communications; and consulting and managed services.

We made good progress this year in our strategy to grow the higher-margin segments for our business -- consulting, as well as solutions and managed services. This helped to significantly improve our gross margin, which was up by 400 basis points year over year for the fourth quarter, and by 300 basis points for the full year. Also contributing was the decline in lower margin business from our large hosting customer.

Driving the increase in this higher-margin business is the growing demand of our security and storage management expertise. Right now, we are performing a significant amount of consulting services, helping companies with their data de-duplication efforts. Data de-dupe, as it is called, is a storage management task to compress user data to allow for more efficient data storage.

Our utilization rate in Germany, which is our largest professional service provider, is high, at 67%. And we are investing in additional skilled engineers to meet their growing market demand. In addition, for our skilled engineers, another reason we have done so well in this area this year is the success of our partnerships with companies like Checkpoint, ArcSight and nCircle, which enable us to develop unique and powerful solutions for our customers.

Before I wrap it up, I would like to say a few words about the annual dividend of $0.10 per share that we announced this morning.

The Board of Directors decided to pay the annual dividend and determine its size based on the Company's strong balance sheet and financial condition. As we had mentioned before, our cash position varies significantly from quarter to quarter due to the high working capital requirements needed to fund large projects in both our systems and Services and Systems Integration segments. For that reason, we need to be particularly diligent about maintaining a healthy cash position. In addition, we need have enough cash on hand to finance growth opportunities.

The more carefully you evaluate our current cash position, considered alternatives for deploying our cash, including stock repurchases, and determine that paying a cash dividend was the right thing to do in order to reward and generate value for our shareholders in return for their commitment to the Company.

This is something that our shareholders have been asking for. And we are pleased that CSP has the balance sheet strength to respond accordingly. Going forward, the Board intends to review CSP's financial performance, balance sheet, and working capital requirements each year to determine any future annual dividends.

So, to wrap it up, we are approaching fiscal 2012 with cautious optimism. We continue to expect to record lower volumes from our large hosting customer, which could negatively affect year-over-year revenue comparisons. At the same time, however, we expect to see continued growth in higher-margin business or our Services and Systems Integration segment, and an increase in our gross margins in our Systems Segment because of an increase in royalty payments.

With that, let's go to your questions.

(Operator Instructions). Brett Davidson, DCIA.

Yes, I have a couple of questions. The first one is the accounting issues. Did that extend back prior to fiscal 2010?

Well we, Brett -- we have used gross before that, so -- but we are not required to go back and restate those. All we are required to do is last year and the quarters that we have indicated.

Yes, I'm just talking for comparison purposes. So that you really cannot rely on the revenues --

Correct.

-- for 2010, got you.

Correct.

Was any compensation, including bonuses or option grants, based on the revenue levels or revenue growth? And, if so, is any adjustment planned?

Yes, the revenue is a factor and no, no adjustments are planned because the executive management team that is on those particular bonuses was -- the budget was set based on the revenue recognition rules that we were using for the past several years.

Let me shed a little color on that. Every year -- not every year, but the revenue recognition issue has evolved over the last several years. And we have trained our people on how to break apart large orders that have -- that come in bundles that have -- they are called multifaceted orders that have different types of components, that they have different revenue recognition criteria.

The revenue recognition criteria we have been using for several years has been past all the audit tests that we have gone through. And what happened in the past year is that based on certain SEC comments -- not related to us specifically, the criteria that we have been using -- again, it is hard to explain -- but, evolved so that we had to take a re-look at it, and decide whether we want to continue using the methodology we had been using. And we decided to change it.

So, it's a very subtle thing. But it --- so, therefore, the budget we set for the year was based on the ongoing criteria we had been using. And the Board decided that the fairest thing to do was to evaluate the management based on the rules we started the year with.

Fair enough. One other question, maybe you can shed a little light on the E-2D Hawkeye. Have you guys shipped any of the content that is going to ultimately get installed that you can bill for?

You know, I can shed some light on that, Brett. We are excited to announce today that we have received a purchase order for the next 10 systems that come with LRIP 3 and 4. And, as we have said in the past, we -- for planning purposes -- we expect that those will ship over this fiscal year, next fiscal year. The most we have ever shipped in one year is five. That is not cast in stone, but that spreads evenly over two years. And I cannot comment on Q1 at this point. You will have to hold your breath on that one for a couple weeks. But things are moving forward.

So you expect that all the planes that are currently in the pipeline, that content that you guys have, is going to ship over the next two years. Does that also mean that you plan on being able to build for them over the next two years?

Yes, yes.

All right, sir. Alrighty, thank you very much.

Thank you for your questions.

(Operator Instructions). Will Lauber, Sterling Capital Management.

Yes, just following up on that Hawkeye question. So you have 10 over the next two years' view. Do you know any breakdown about the fiscal years, like, in this current -- or I guess, now current fiscal year, how many would ship?

Like we said, Will, the history is our best guide on this. It seems like they are able to build about five of those planes a year. They are on the same fiscal year we are on. So we're basically saying, for your planning purposes, that would be the best advice we could give you -- is plan on half this fiscal year and half next year. It may vary a little, but it is the best guideline we can give you right now.

Okay. And how much of an increase in the accounting fees will we see from this -- the restatement?

We don't know at this point. We have got to wait and see what they come up with. And then we will negotiate.

And the international sonar client, do you see more opportunities like that going forward?

Well, that particular client is a -- that was the first part of a long-term deployment over several years. Unlike E-2D, though, we are not allowed to give any specifics about it, but it is not a one-off. It is going into several votes over the course of several years.

And then, if you could just comment on the dividend policy, on the timing. I guess I'm a little bit confused, and the shareholders have been asking for this for at least four or five years. I don't think the working capital needs or the balance sheet has changed materially over that time. I'm just trying to get a sense of, if this would be a sign that you are more optimistic about future earnings or --?

We have been optimistic right along. I think that it's, basically, we have had a lot of input from our shareholders, so we have listened to them. We have looked at the results from the buyback program which has also been pointed out to us, and we felt that we could do both right now, and balance them and reward our shareholders for their long-term commitment. There is nothing special about the timing. It was just -- again, something evolved over time.

Are you going to continue the buyback, as well?

Yes, but it will be -- our discretion, as it always has been -- but we will continue to support the stock.

Okay. And then, I know -- was it about a year ago or so? You guys had brought in consultants on a dividend policy that you had referenced before. Did you -- I guess my first question would be is, how much did we pay for that study? And then the second is, did you disregard what the conclusions were?

It's like I said, it has evolved. At that point, we felt that we made a recommendation, we gave our conclusions. And since then -- now that is almost two years ago -- we are evolved to the point now where we feel it is something we can support.

Okay. Thanks.

William Kidston, North & Webster.

Good morning, gentlemen. Just a quick question regarding M&A activity. What do you guys see in your pipeline? And what segments are you guys trying to target with your M&A activity?

We really don't talk about any details about something we are working on until it is a done deal. We have seen more -- as we have looked in the market, we have seen more opportunities in the systems integration side of the business. But we are open to looking for growth opportunities in both segments, as long as the companies are compatible with our strategy, profitable, would be immediately accretive. But we have nothing else to really talk about at this point. There is nothing that we are working on that we can talk about.

There are no further questions in queue. At this time, I would like to turn the call back over to Mr. Lupinetti for closing comments.

Thank you for joining us today. We look forward to speaking with you on our Q1 call.

Thank you.

And that concludes our conference call. Thank you for joining us, and you may disconnect at this time.