Dynatronics Corp (DYNT) 2011 Q2 法說會逐字稿

This is Kelvyn Cullimore, President and CEO of Dynatronics Corporation. Like to welcome everybody to our conference call today reporting the financial results for the second quarter of our fiscal year of 2011.

Before we begin, as a reminder, during the course of this conference call, we may make forward-looking statements regarding future events or the future financial performance of the Company. Those statements involve risks and uncertainties that could cause actual results to differ, perhaps materially, from the results projected in such forward-looking statements. We caution you that any such statements should be considered in conjunction with the disclosures, including specific risk factors and financial data, contained in the Company's most recent filings with the SEC, including its most recent annual report on Form 10-K.

Today, I will update you on our results for the second quarter -- our second fiscal quarter that ended December 31, 2010. And, following my presentation, we'll open the call up for questions, if you should have any.

Let me start off first by addressing sales for the quarter and for the six months ended December 31, 2010. For the quarter, sales were down about $300,000, or 3.5%. For the six months, they were down about 4%. And, just to address the lower sales number at this point in time, there's obviously continued weakness in the economy, which is never good for capital equipment. And, out of our -- all of our product sales, capital equipment is where we are seeing the weakness. Everything else seems to be holding steady or growing. We attribute that partly to lack of credit facilities and the general economic weakness I just mentioned.

We also recognize that there are some segments of the country that we're seeing that are showing more weakness than others. For instance, California has been particularly hard hit by the recessionary pressures, and that's been a fertile field for us in the past. We've been able to overcome some of those declines by improvements in other areas of the country geographically, and also by increasing the number of direct sales representatives that we have in the field.

Today, we have 52 and growing number of direct reps, and that compares to about 24 that we had back when we first merged with our distributors a little over three years ago. And, certainly up from last year, as well. And, that growth of sales representatives is expected to continue. So, the sales weakness is virtually all attributable to the capital sales, which is also linked to the slower economy.

Let me address profitability for a minute. For the quarter, we were down about $200,000 in overall pre-tax profits, from $310,000 down to $113,000. And, for the six months, we were down about $310,000 from $452,000 to about $142,000, pre-tax. There are some very obvious reasons for the decline in profitability, and the most obvious is our investment in research and development. That has risen significantly this year, as we work on new products for introduction towards the end of the calendar year.

Of the approximate $200,000 less in pre-tax profits for the current quarter, $150,000, or three-fourths of that, was due to our investment in R&D. The balance of that was associated with the lower gross profit due to lower sales, but that was offset by lower expenses as well, and particularly interest expense, which I will talk about in just a minute. For the six months, of the approximate $310,000 in lower pre-tax profits, $280,000 of that was in higher R&D expenses. The R&D expenses have been the main contributor to the lower profits reported for the period and for the six months. Even so, we're pleased that this is our eighth consecutive profitable quarter, although we would hope that we can improve that profitability despite the R&D expenses.

Lower expenses did help us offset a little bit of the lower gross margins associated with the lower sales in the quarter and the six-month period. For instance, we are saving almost $50,000 a quarter in interest expense. Our line of credit two years ago was standing at about $6.2 million. Recently, we dropped to below $2 million on that line of credit. So, reducing that line of credit by over $4 million has been a significant improvement in our cash position, and we've accomplished that primarily through inventory and receivable management, profitability of the Company, and some tax refunds. Fortunately, we just renewed our line of credit for another two years.

The other contributing factor to lower interest expense was the renegotiated mortgage on one of our facilities, where an interest rate was dropped from a fairly high rate, about 9%, to about 5.5%. So, those factors are the main contributing factors to the financial report for the quarter and the six months.

We have some fairly exciting news, as we have released in the -- in recent days in press releases. Even with the continuing weak economy, some may criticize our decision to invest in R&D at this particular point in time, as it has been a little bit of a drag on our profitability. However, we feel it's crucial for us to maintain our status as an innovator, offering the most technologically advanced equipment on the market at the highest value. So, we plan to release the new products later this year, towards the end of the calendar year. While this will necessitate some ongoing increases in R&D expenditures in the next few quarters, we believe that investment will pay off well as we introduce some new products, which will position us very well for the future.

In addition, we've been very successful with our e-commerce offering that we began in the first quarter of this fiscal year, about six months, or in July of last year. We are now approaching about 30% of our orders coming through on that electronic portal. While that is important, and certainly a contributor to making it easier to do business with us, the critical component of having that has been the doors it has helped open for GPO business. We announced recently that we have signed two contracts with GPOs.

For those who may not be familiar with what a GPO is, let me just explain briefly. A GPO -- GPO stands for group purchasing organization. There are approximately six large GPOs in this country that provide medical supplies, equipment to hospitals, clinics, long-term care facilities, et cetera. They are the gateway through which many of these customers make their purchases. In the past, Dynatronics had been excluded from this particular market segment. Number one, because we didn't have a broad enough product offering. And, number two, we did not have the cohesive sales force and ability to offer the service that we do today.

GPOs typically renew their contracts every three years, so, in the last couple of years, there have been opportunities to explore that business, and we are very -- we were successful in obtaining our first contract with Premier, who is one of the largest GPOs in the country, who has -- who services over 90,000 locations. We are on contract with them for their college and university segment. But, it has also overlapped -- allowed us to obtain business in other segments that they service, as well. So, we continue to seek additional business with them and to explore that particular contract.

The other one is with Amerinet. Amerinet is a competitor to Premier. They're a smaller competitor with somewhere around 50,000 locations that they service. And, we are on contract with them to supply capital equipment for their physical medicine facilities. That is a dual contract, as was the Premier one, where we are on contract with another supplier. So, these contracts begin March 1, 2011.

They represent a significant opportunity for us that we have never had access to before. It is a hunting license, for all intents and purposes, where we're able to go out and call on these customers of the group purchasing organizations. To be clear, the group purchasing organizations themselves do not make any purchases. They are simply a negotiating arm for the facilities they represent. We have -- we will be selling the product directly to the facilities that are parts of these GPOs. The contracts will last for three years, and we are now working on a contract with a third GPO. We believe that these GPOs represent the most significant opportunity for growth that we've had maybe ever in our history.

In addition to that, we continue to work on national accounts. We picked up several of them in the past year and continue to work on others and finding ways of differentiating ourselves in the market and making it easier and a value to do business with us.

We also announced, since our last call, the introduction of a new product that we refer to as STREAM, STREAM by Dynatronics. STREAM is a unique product, in that it is not a tangible device or supply. It is service -- software by service, or service by software, as they call it, where we provide a significant service for clinics that ties into their database and enables them to be more efficient in their operations in recruiting and maintaining patients, in building up their business, in being more visible in social networking, on the website, and in marketing to their customers. We have -- we are approaching 200 contracts already since we've introduced this, and anticipate even this growing at a steady pace over the coming year.

The unique factor to this is that it represents an annuity stream. Contracts are signed for two years. Monthly payments are made for the software as a service, and they are able to access it and use it to market to their patients and to improve their practices.

Probably the most significant potential for this particular product is not just what we offer to the clinic itself, but it is ultimately the access that it provides through to the patient population of the practices. As an example, we had a practitioner in Alabama who signed up and has been just thrilled with the success they've had with this. They have over 13,000 patients in their database that they send out e-mail marketing to through this service. Well, ultimately that gives us access for selling products directly to practitioners' patients, as well. So, the potential for this particular product is fairly unlimited and is something that we're very excited about. We believe it will be a long-term build, and we have partnered with a company who actually provides the service, and we feel very, very good about that partnership.

So, in summary, despite the significant R&D investment and continued weakness in the economy, we were able to report our eighth consecutive profitable quarter. We have some very exciting prospects for improving sales and profits in the near term and long term, including the GPO contracts, drawing national accounts, and increasing our base of direct representatives. The new products that we have under development. STREAM, our new software as a service product that we have been offering that provides the annuity stream to the Company. Our continued focus on information systems and e-commerce.

We may never have had in our history a -- more opportunity than we do right now, as we look to the future for growth and profitability. We recognize that we are still under a potential de-listing concern with NASDAQ, with our stock trading below a dollar. We have seen some strengthening of that position in the last month, and are, we believe, within striking distance of that dollar minimum bid requirement that we have to achieve before the June date in which the deadline has been set by NASDAQ. So, we're hoping that as investors, those on this call and others, examine the opportunity with Dynatronics, they'll recognize that some of the diminishment in profitability is a result of our investment in the future with R&D and a general reflection of weakness that we hope doesn't continue in the market. And, will see the vast potential that exists for the future with the opportunities that I have articulated in the call today.

So, with that, I will open the line for questions, if you have any about any of these opportunities that we've mentioned, financial performance, things of that nature. I would be happy to address those questions now. So, I'll ask the operator to go ahead and open the line, and feel free to ask your questions.

All lines are open, sir.

Thank you.

Hello?

Yes, go ahead.

I think it's real exciting what you're doing with your GPOs. Just to get a little further color or background on that, your press release indicated that there's $50 million in business that you could get annually out of this. Is that correct?

Yes. Our estimate of the amount of business in our market segment done by these two GPOs is north of that number.

Okay. And, the question I had then would be, number one, do you have an internal sales projection as to what you would expect to generate in the sale from April through the end of December of this year, or maybe fiscal 2012 also? Can you share with us, give us some color as to how successful you think you'd be in generating additional revenue or quantifying it for us?

Well, I would say that anything I would say at this point would be speculative, because we are so new to this particular opportunity. It's hard to know. I will be very conservative in my comment here. The company that we are competing against has been the incumbent in both of these situations for the last two decades. They've had very little competition in that regard, and, so, it will be very interesting to see what kind of inroads we can make. We would certainly hope in the next -- between the end of March and the end of the calendar year to tack on several million dollars of additional sales. I think that's a fairly conservative projection.

And, I think that will dictate and will indicate to us what we can expect in the next calendar year beyond that. If we find -- if we run into significant resistance to obtaining that business, we'll have to work a little harder. If we find that there are customers out there who are frustrated with having had the same incumbent for a period of time and are looking for new opportunities, we could find that those gates could open much wider. But, I would be -- I would be hesitant to try and speculate on how successful we might be at that. We just are thrilled that we got in the door. That alone has not been an easy chore.

Right. That's fair. The other question I have concerning the GPOs would be -- your gross profit margins generally run 38%, 39%.

Correct.

Would you expect this to be, due to the nature of the market, to be significant less than that, or what's your target for gross margins on this category of business?

I really don't believe that we will see much of a diminishment in gross profit margin as a percentage. In fact, I would expect it to go up, and I know that may sound counterintuitive, but let me explain why. What we are on contract for, for these accounts, is primarily capital equipment. Our capital equipment margins are typically well north of 50%. And, so, if we are focusing on capital equipment, we should see average margins increase, not decrease. Now, that said, if we are successful in converting some of them to supplies, that would certainly drag down the percentage margin.

But, right now we're not on contract with Amerinet for supplies. We're only on contract for capital equipment. And, with Premier, the primary area that we are on contract with, which is colleges and universities, is very heavily focused on equipment as opposed to supplies.

Okay. Can I ask another question also?

You bet. Go ahead.

With reference to STREAM, you've promoted that very well. With the 200 customers that you currently have, could you kind of share with us what the annual revenue from those is, approximately? Per customer?

The annual revenue per customer -- let me -- just a little math here real quick. It's going to be -- it's going to be in the neighborhood of $2,000 per customer.

Okay. And, is it fairly accretive to profitability after you pay the provider that provides the service to you?

Oh, I'm sorry, that was net of what we pay the provider.

Okay.

I was only talking about what we receive.

So, you'd receive about $400,000 a year?

From 200 customers, that's correct.

Okay.

I'm going to double-check my math here to make sure I'm not lying to you.

Okay.

I am lying to you. I am lying to you. It's about $1,800 per customer.

Well, that's close. $360,000.

Yes.

Okay. A lot of support required to maintain the STREAM operation?

Not from our end. Not from our end. We are the marketer, and we develop some of the content for the newsletters and things of that nature and product offerings. But, the actual day-to-day support, installation and all is done by our partner.

Okay. Going to R&D, if I may --

You bet.

As an investor, I look at R&D, and it's significantly less than what it was in prior years, a number of years ago. And, now, you're ramping it up again.

Yes.

And, I think you're trying to project to us that it's an investment in your future.

That's correct.

So, you are going to launch a number of products with the R&D that you have this year, and fiscal 2012, or calendar 2012. Do you have internal criteria which kind of could bracket for us how much additional incremental revenue that would bring in for your Company?

Not that I'm prepared to share at this point. We do expect a release of the product lines towards the end of the year, and we do believe that -- and what we see, if you look at our history, every time we introduce new product lines, we get a bump, and then it tends to settle down to where, when there's nothing new out there any more, there's no motivation, and so you basically see just a basic turnover. And, so, we believe the new product line should bump our sales, we would hope, of just the products that we introduce by $1 million to $2 million a year in the initial phase.

Okay. And, the new product development R&D, is it primarily new product out there, or refinements of additional best sellers and products that you sell, and sales declined because you haven't kept up with the features that the customers are looking for?

It's the latter.

An upgrade enhancement?

Correct.

Things like that?

Yes. There's not a lot new under the sun that doesn't require tens of millions of dollars of investment to get FDA approval on. So, we've not gone that direction, but we have done some work to upgrade current product lines and make them much more attractive for the current market environment.

And, my final question or comment would be, so you're getting 30% of your business through e-commerce. It must be saving is you a lot of money. It's kind of a mystery to me, with all the cost savings programs that you've put in place in the last year or more, that your G&A is still running kind of -- SG&A is still running around 32% of sales. Is that where we're going to end up here, or do you have additional initiatives in place that could drop SG&A costs 10% or 15% or more in the next 12 months?

I don't think we will see the full benefit to our cost line from e-commerce until it has really been functioning for eight to 12 months.

Yes, I'm not speaking relative -- just directly about e-commerce, but your total cost structure, I thought it would have come down a lot more. And, I was hoping you would get a 3% or 5% pre-tax income increase due to the changes that you are making, because we were all excited as investors, some of the things that you've been working on. And, it appears that it hasn't materialized yet.

Some of it has not materialized as well as we had hoped, that's true. Part of the issue is that our largest expense is our sales expense, and one of the things that has caused some of that cost to offset has been the addition of many more direct sales reps. And, so, our commission expense has increased significantly over where it was.

That's -- in some respects, this may sound like something I shouldn't say, but with sales only down 3% to 4% in a market where many are seeing significantly more sales diminishment, we've been able to maintain sales, in spite of significantly lower capital equipment demand, and partly because of bringing on the additional sales reps, the direct sales reps. And, that has had an effect in increasing SG&A expense.

So, it's been your feeling that in the rough time that you've actually -- although sales have trended down slightly, you've been able to pick up market share in a tough economic environment?

We believe we have. And, I think what you'll see is, as we start to see, perhaps with new products coming out, or if this economy ever does start to bounce back a little bit, I think what you'll see is that the sales, or the SG&A expense as a percentage will start to diminish.

And, then, finally, we appreciate all the things that you're doing for us shareholders. Do you have an internal target as to what you would like to see your pre-tax margin be, eventually as a percentage of sales? To your point, you've been profitable, but it's so marginal in nature, a lot of us are wondering what it takes to get you over the hump here so you can get the Company to cash flow better and to grow the Company more. Do you have internal targets you can share for us?

Well, I can certainly tell you what we're hoping to push it up to, closer to double digits. That's where we'd like to be. We'd like to be --

Pre-tax profit margin as a percentage of sales?

Yes.

Okay. Do you think you have a solid plan to get there, or you're still working on that plan?

Well, I -- again, you have to harken back to the whole issue with the GPOs and the business opportunities that exist there. If those materialize as we think they will, we think those kinds of numbers could be realistic in the future. If those don't materialize, it will be more difficult.

Well, I appreciate your comments and feedback and insights you gave me on the business. Thank you very much.

I appreciate your questions. They're all very good ones. Anybody else have questions, or did our first caller cover the map? If there are others that have questions, feel free to speak up. Well, it appears that the first caller's interview was successful in covering most everybody's questions, and, so, with that, unless there are any other questions, one last call?

Then, we'll go ahead and terminate our call today and remind you that we are available to answer questions directly if you should have them. You can call myself or Mr. Bob Cardon, who is our VP of Administration and Director of Investor Relations and we will be happy to answer any questions you might have. We appreciate you being on the call today and look forward to additional calls in the future with even better news. Thank you for being with us.