Digi International Inc (DGII) 2003 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Digi International first fiscal quarter 2003 conference call. During the presentation all participants will be in a listen-only mode. Afterwards, we will conduct a question-and–answer session. At that time, if you have a question please press the one, followed by the four on your telephone. As a reminder, this conference is being recorded Wednesday, January 15, 2003.

I would now like to turn the conference over to Mr. Kris Krishnan, Chief Financial Officer. Please go ahead.

Good afternoon, and thank you for joining us today. Due to logistic reasons at BusinessWire the numbers have not yet crossed the wire, but we’re going forward with the call.

Before we start, I would like to remind our listeners that our remarks might contain forward-looking statements that involve risks and uncertainties. These forward-looking statements are not a guarantee of the company’s future performance. Important factors that cause actual results to differ materially include and are not limited to the following: rapid changes of product and technology that may displace product sold by Digi, the [definition] of industry in which Digi operates, Digi’s reliance on distributors, declining prices on network and products, and changes in the company’s level of profitability.

I would now like to introduce Mr. Joe Dunsmore, the Chairman, President, and CEO.

Thank you, Kris. Welcome to the call, everyone.

Fiscal Q1 was another challenging quarter in the communication technology sector. All indications are that the market remained flat quarter-to-quarter. Given the market backdrop I am very pleased with our performance for the quarter.

Our revenues of 25.5m compared to 25.1m in the prior quarter showed growth in a flat market. Revenue for the quarter was at the high end of our guidance range. Revenue from Digi products addressing growth markets totaled 10.5m during the quarter or 52.2 percent of Digi product revenue, compared to 9.3m or 47.4 percent of Digi product revenue in the previous quarter. This is significant since we’ve now surpassed the 50, 50 equilibrium point for growth versus mature product revenues, an objective that we’ve been striving towards for the past couple of years.

We are pleased with the effects of last year’s divestiture and acquisition activity on this quarter’s operational results. Operational efficiency has been improved, and gross margins have increased. In fact, gross margins in the first fiscal quarter of 2003 were 60.1 percent, compared to 55.9 percent in the previous quarter, and 53.5 percent in the first fiscal quarter of 2002. The increase in gross margins is primarily a result of higher gross margins from NetSilicon and Digi growth products, in addition to continued improvements in manufacturing efficiencies.

Operating expenses for the quarter excluding amortization and restructuring expenses totaled 12.3m, compared to 15.6m in the previous quarter. This reduction is primarily due to cost saving measures that we announced last year. In addition to the improved EPS results for the quarter these measures will also provide improved earnings for the year, which Kris will articulate later in this call in his discussion of our guidance.

Next, I’ll cover a few of the quarter’s highlights. NetSilicon introduced the first in a new series of small form factor 32 [byte, net plus arm] processors. This provides for a lower cost of entry for 32 byte networking.

Our AnywhereUSB Remote I/O Concentrator was chosen as one of three finalists in PC Magazine’s ‘Awards For Technical Excellence.’ This further validates Inside Out Networks’ position as an industry leader in providing USB connectivity solutions. Additionally, the Inside Out Networks introduced a complete line of plug-and-play USB devices for 24 x 7 asset monitoring.

During the quarter we signed an agreement with Lantronix to dismiss the patent infringement and trade secret lawsuits between the companies. The companies also agreed to cross-license each other’s patents.

Digi repurchased 1.2m shares from Sorrento Networks resulting in the acquisition of one-half of Sorrento’s equity interest in Digi.

One final note on a highlight that we just released this morning, Digi just received a 2002 Control Engineering Magazine ‘Editors’ Choice Award’ for our Digi One IA RealPort product. This product is the first to simultaneously support multiple industrial network protocols in a single device. This is just another example of Digi’s progress in launching innovative, highly differentiated products into the marketplace.

Now, I will hand it back to Kris to discuss our financial results.

Thank you, Joe.

As Joe stated, our revenue for the quarter was 25.5m, compared to 25.1m in the prior quarter, and 25.2m the first quarter fiscal 2002. Our results are at the high end of the range of our previously disclosed guidance of 24.5 to 25.5.

This quarter’s revenues included 18.9m from Digi Connectware products, and 6.6m from [Device Networking] products which includes both NetSilicon and the [Device Server] product lines. Revenue from the Device Networking products remained flat compared to the previous quarter.

Digi’s Connectware growth products accounted for 10.5m, or 52.2 percent of Digi’s product revenue. As Joe had mentioned, we surpassed the growth part of our product over 50 percent. Revenue from our growth products continue to sequentially increase quarter-over-quarter, and it increased 13.2 percent in the first fiscal quarter of 2003, compared to the fourth fiscal quarter of 2002.

As Joe had mentioned previously, the gross margin for the quarter was much higher than the previous quarter and the first quarter of fiscal 2002. This increase is primarily due to higher gross margin product sales in NetSilicon and Digi growth products. The gross margins for the rest of the year are expected to be in the range of 58 to 59 percent.

As previously announced, Digi adopted the Statement of Financial Accounting Standards Number 142, ‘goodwill and other intangible assets,’ effective October 1, 2002. Accordingly, Digi recorded a non-cash goodwill impairment charge of 43.9m or $1.99 per share which is reported as a cumulative effect of a change in accounting principle.

Excluding this charge net income was 1.1m for the quarter or five cents per diluted share, compared to a net loss of 4.4m in the previous quarter or 20 cent loss per diluted share, and a net loss of 500,000 or three cents loss per diluted share in the first fiscal quarter of 2002. This quarter’s EPS exceeded our previously disclosed guidance of zero to two cents.

During the quarter our EBITDA, earnings before taxes, depreciation, and amortization, which was 3.9m or 18 cents per share. With the repurchase of shares from Sorrento Networks our shares outstanding at the end of the quarter were 21,146,941 shares.

Turning to our balance sheet, our cash position at the end of the quarter was 54.4m, down from 58.1m at the beginning of the quarter, a decrease of 3.7m. The decrease was primarily due to the repurchase of 1.2m shares from Sorrento for $3.6m.

During the quarter our accounts receivables and inventory [combined] also declined 1.6m from the beginning of the quarter. Our DSO for the quarter was 33 days, flat with the previous quarter.

During the quarter we also paid $2m associated with the earn-off for the acquisition of [Decision Europe] and IO Networks. The payoff of Decision Europe was borrowed in Europe, and is reflected in our current notes payable.

Our current ratio was 3.8 to one, up from 3.7 to one in the previous quarter. Our net tangible book value per share totaled $3.64, and cash value per share was $2.57.

But let me take a few moments to give you some guidance. For the second fiscal quarter of 2003 we expect revenues to be in the range of $24.5m to $25.5m. For the year our revenue guidance remains the same as previously reported at 101m to 103m. For the second fiscal quarter we expect the range of EPS to be in the range of two to four cents.

We are increasing our guidance on the EPS for the year to 13 cents to 17 cents, up from eight to 12 cents excluding the impairment charge relating to the adoption of FAS 142. For the full fiscal year the EPS loss will be reduced to a range of $1.82 to $1.86, from $1.97 to $2.04 including the impact of the impairment charge relating to the adoption of SFAS 142.

Now, I would like to open the call to questions. Operator.

Thank you. (Caller Instructions.)

The first question will come from the line of William Becklean with Commerce Capital Markets. Please go ahead, sir.

Hi, guys.

Hi, Bill.

Hi, Bill.

That’s a pretty nice quarter in a tough market. My question has to do with the break-down of revenues. It looks to me like you’ve kind of re-jiggered the categories in which you’re going to be reporting revenues. It looks like – have you taken some net Silicon revenues and put them up into – I mean have you split up the net Silicon into the Digi mature and growth markets, I guess is the way to ask the question?

No, Bill. I think early last year we indicated when we were going to combine the businesses between NetSilicon and Device Servers’ product line …

Yeah, right.

And we are going to be calling it starting this fiscal year as ‘Device Networking Products.’ That’s how we’re going to be reporting, if you look at segment reporting in the Q. And the only reason we are – so all it does is it takes the Device Server and the NetSilicon and we combine them as Device Networking product groups.

Yeah, and then on the gross versus mature breakout, because we didn’t want to confuse people, we continued with the previous definition because we’re on a track to drive to over 50 percent to that equilibrium point on the Digi only product. So we wanted – since we’d been reporting that we wanted to continue to report that at least until we hit that equilibrium point, Bill.

Well, I – you’ve explained it but I still don’t understand it. Last quarter, in the third quarter – I mean, I beg your pardon, in the fourth quarter of last year, right?

Right.

We had Digi growth markets, Digi mature markets, and NetSilicon.

Correct.

Now, you’re not reporting those line items this time. How do they transform into the new numbers? Could you go back and give us the fourth quarter numbers in the new split?

Yeah, I’ll come back to you with the new split on that for fourth quarter, Bill. Let me work through that number.

Okay.

I’ll come back to you in a few minutes.

Okay, fine. So I’ll go – you can go on to the next question.

Okay, thanks, Bill.

The next question will come from the line of John [Taylor] with Taylor Research. Please go ahead.

Yes, likewise a very good quarter. I was just surprised you didn’t make any comments about cash flow other than the fact that I think it’s obvious that it’s positive. Can you elaborate there any?

Yeah, I mean operationally, obviously, EBITDA was very healthy, and cash flow was positive from operations. We had some one-time outlays, obviously, with the 3.6m that we paid for the stock buyback with Sorrento, and the roughly $2m in earn-outs that we paid.

Okay.

Which, obviously, offset some of the operational cash flow that we generated.

Okay, but those are seen as one-time, and operationally you should look pretty good.

Yeah, operationally we’re in good shape.

Very good. Thank you.

Bill, coming back to answer your question. The fourth quarter for the Digi Connectware products would be 18.5m, and the Device Networking would be 6.6m.

As a reminder, ladies and gentlemen, to ask a question please press the one, followed by the four at this time.

William Becklean with Commerce Capital Markets, please go ahead with your follow-up question.

Okay, so it splits 18.5 from the Digi products?

Digi Connectware products, and the 6.6 for Device Networking products. So that compares to what we reported, the 18.9m this quarter and 6.6 from Device Networking products.

Okay.

Which were – I indicated were flat in the Device Networking products.

Yeah, okay. Now, let me just go back and look. And you said that the growth part of the Digi products were 10.5, right?

Correct.

Okay, so we’ve got 8.0, or 8.4 – okay, fine.

Yeah, the only – the thing that is confusing is that the device server products from Minneapolis …

Yes.

Are included in that growth number, because they always have been.

The device – they always have been in the Digi number, right?

They’ve always been in the growth number.

But are you saying that they’ve taken it out, or are in the Device Networking number now?

Yeah, in that breakout it’s in the Device – it’s combined with NetSilicon in that Device Networking number.

Okay, okay, fine. I’ll have to think about that offline.

Now, the guidance you’ve given on revenues is for fundamentally a flat quarter in the second quarter but you’ve sort of ramped-up the revenue target for the year, which means you’re looking at a year that’s a little bit – no, I guess you’re still flat on the year, right?

Yeah, our revenue target …

101 to 103.

Remains the same.

Yeah, 101 to 103 is still flat. So you’re really squeezing some EPS out of the operating margin line?

Yeah, well, we had a good quarter. Our EPS was up this quarter, and we certainly felt like we would continue to perform the plan going forward. So as a result of that we felt like we needed to up our EPS guidance.

Okay, so are you talking about flat business on basically all of the core pieces of the business, or are you talking about some growth in the growth business and some continuing deterioration in the legacy business?

Yeah, you know, I think that what we’re seeing, Bill, is a trend in the growth part of the business, of growth. So in the last quarter we grew that about 1.2m roughly. And we expect, you know, throughout the year to continue to drive growth in the growth part of the business. And, you know, as we’ve stated in the past the Async mature business has been on a very predictable decline. And that very predictable decline will continue.

Has the retail sector continued to be strong for you? What’s going on there?

In previous, the last couple of quarters, I think, we’ve reported that in the retail sector especially with the IO Networks’ products that we saw a slowdown from a couple of our major customers. We’ve got some pretty large customers in that space. And they were slowing down their purchases. And in the last, you know, this quarter or next quarter we’re expecting that to, you know, come back, and that’ll come back over time. And so, you know, the IO Networks’ business was up quarter-over-quarter, and we expect that trend to continue.

So the retail is off what part of IO Networks’ business is showing decent growth?

Well, that was soft. You know, the last couple of quarters it was soft. And what I am saying is that those large customers, they’re starting to come back and we’re starting to see orders again with those large customers. So we’re expecting to see, you know, pretty strong performance from retail with IO Networks.

Okay. Thanks, Joe.

Okay.

Your next question will come from the line of John Taylor with Taylor Research. Please go ahead with your follow-up.

Yeah, just a simple question. I happened to note that [Cypress Semiconductors] has in their product list embedded computing. Do you see them – and it seems to be oriented towards industrial automation – do you see them at all in the marketplace that you’re involved in?

No, they’re not one of our primary competitors.

Thank you very much.

The next question will come from the line of Jay Meier with MJSK Securities. Please go ahead.

Good afternoon, guys. Great quarter.

Thanks, Jay.

I am curious to know if you can give us a little bit more light on how you expect your operating expenses to track as we go-forward? You know, you came-in on the high end of the range on revenues, and the operating expenses were substantially lower than my number. Are you expecting those to track relatively flat quarter-over-quarter?

Yeah, Jay, I think you’ve got it. It’s going to – you know, we made a major move at the end of last year in terms of reducing our expense load. And you’re seeing the affect of that this quarter, and you’ll see that continue throughout the year.

Okay, good. Thank you.

(Caller Instructions.)

[Ross Therell] with RBC Dain Rauscher, please go ahead with your question.

Hi, guys.

Hi, Ross.

Hi, Ross.

How many design wins at NetSilicon for the quarter?

Well, we had a total of 46, and we’ve gone through a reclassification process of how we look at those. We look at high volume versus lower volume, and we had a significant number of high volume design wins also. So all in all, we think we had a good quarter.

You mean you had 46 for the quarter?

Yeah.

Very good. What – my final question is what are you seeing out there in the field in terms of the general activity level business-wise? Is it about the same, or are things starting to pick-up finally? What is your read on it?

Well, you know, there’s a lot of ways we look at that. One of the ways that we look at it that has a direct impact on our business is, you know, we have a significant part of the Digi business that goes through the two-tier distribution channel. And so one of the indicators that we look at is looking at the major distributors, people like Ingram, [Tech Data], et cetera, how are they doing.

And what we’ve seen is flat to down, quarter-over-quarter with them. So in a broader sense that’s what they’re saying. Now, within our segment, you know, I think that that’s generally true. But our performance has been good, I think, because we continue to focus on gaining share in that environment.

The other thing that we’re seeing is pretty good activity. In terms of deal activity I’d say that probably primarily a result of better execution we’re seeing a pretty good deal flow, and we’re building our pipeline. And so that’s positive, but that’s a statement of taking share more than I think a broad statement that we see the overall market coming back in any way yet. Still hopeful that we’ll see, you know, a rebound in the second half of this year. But we’re not saying that yet.

And, you know, if you look at other indicators, if you look at what Intel said, they were up slightly from a revenue perspective this quarter but they said next quarter is going to be down. And so in general I think, you know, if you look at what other people are saying they’re saying the same thing.

Okay, thanks, Joe.

Thanks, Ross.

(Caller Instructions.)

John Evans with Tucker and Palmer, please go ahead with your question.

Can you give us a little sense of, I guess, if you do have up side to revenue down the road what kind of incremental margin are you getting at these kind of revenue run rates? Is there any way you could give us that?

Well, I’ll just go-back to our margins. We’re – we’ve been driving margins up over the last couple of quarters. It’s primarily a result of the divestiture and acquisition activity. So we’ve driven up from lower 50s to, you know, 60. Now, I think the 60 that we achieved this quarter was probably a little bit on the high side. We had a couple of real positive things that have happened in the quarter that we may not see again.

So I’d say 59 percent, maybe 58, 59 percent is more of a current view of where I would expect us to be, with the desire and with the plan to go drive in order to get to 60 percent, 60 percent plus over time. But, you know, so as we see up side revenue opportunity we should continue to see, because it’s going to come from the growth side of the business, we should continue to see real healthy gross margins with that.

What – I guess, my question was more kind of below the gross margin line on the operating margin?

Okay, there’s a lot of leverage with gross. We feel like we’ve got the expenses in line, and that we have the opportunity to grow at some level, at a significant level with the current expense levels. So we think we have significant leverage.

And one last question, did you get any more visibility going into the next quarter? Just since you had such a positive quarter? I mean were you able to push any business out, or can you talk about that?

Yeah, I’d say the visibility quarter-to-quarter is about the same.

Okay, thank you.

(Caller Instructions.)

Gentlemen, I am showing no additional questions at this time. Please continue with your presentation or any closing remarks you may have.

Okay. I’d like to thank everybody for attending the call. I think, once again, I think we had a good quarter. And we look forward to a good year in 2003. Thank you.

Ladies and gentlemen, that does conclude your conference call for today. And we thank you for your participation, and ask that you please disconnect your line.