Dynatronics Corp (DYNT) 2011 Q3 法說會逐字稿

This is Kelvyn Cullimore, President and CEO of Dynatrics. We would like to welcome everybody to our conference call reporting the results of the third fiscal quarter ending March 31, 2011. The purpose of today's call is to discuss the financial results for that quarter.

And before we begin, as a reminder, during the course of the 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.

So today I'm going to update you on our results for our third fiscal quarter ended March 31, 2011. And following the presentation, I'll open it up for any questions that you may have and we'll do our best to give you the most information that we can.

As you've probably seen from the press release that went out this morning, we reported an improvement over the quarter for same quarter last year. Our sales were up about 2% to $8,383,000. We are somewhat pleased with that increase because the general economy continues to show weakness in especially capital equipment areas. Our manufacturing modalities are lingering behind other sales, because of that. But what we did see in this particular quarter that was encouraging was that we saw for the first time an uptick in new clinic openings and clinic expansions. Since late 2007 and 2008, when the economy took a downturn, new clinic openings and expansions almost ground to a halt. And that is the source of most of the sales of capital equipment, is when new clinics open and expand. So that engine seems to be starting up again and that did benefit us somewhat in the current quarter.

Most of you are aware, also, that we announced that we had signed contracts with some GPOs. And I'll talk about that a little more in detail after I go over the financial results. But the GPOs are group purchasing organizations, large organizations that represent thousands of clinics and facilities. And even though we signed some of those on March 1, there was virtually no contribution to sales in the current quarter from those contracts because we are just starting to get them going. We did show for the 9 months that sales were lagging a little behind the same period, down about 2.1% compared to the 9 month period last year. But the improvement this quarter helped to diminish that difference, and showing a positive trend towards an increase, even without the GPO business that we are anticipating.

We were fortunate in showing a slightly improved gross margin from 37.8% to 38.5%, in comparing the current quarter to the same one last year. That's attributable to two main things. One of them is the slight improvement in capital equipment sales during the quarter, which have higher margins than the supply products that we sell. But also, our new product that we introduced about 6 months ago called STREAM. It is a software service that we provide and that product, the margin that we generate from that, accounted for a good part of the improvement in margin for the quarter. We saw about $10,000 a month in margin from that product, and are seeing that start to ramp up, as well. And I'll talk a little more about STREAM at the end of the discussion of the financial numbers.

Our SG&A expense stayed pretty constant with last year. For the quarter, we're actually a little bit better than we were for the 9 months and so that's helping to contribute to the bottom line. Probably the largest factor in our profitability for the quarter and for the 9 month period has been our commitment to R&D expenditures this fiscal year. The R&D cycle for Dynatronics is just that. It's a cycle. And it goes through peaks and valleys, depending on where we're at in new product development. And right now, we are moving towards the peak of that cycle. As a result, we are showing about $400,000 more in R&D expense for the 9 months, $120,000 more this quarter, which is about a 50% increase over last year. And that's reflective of the fact that we are moving towards the final phase of new product introductions that we're anticipating later this year and early next calendar year. And as that cycle continues, we expect to see the R&D expenditures stay a little bit higher over the next 6 months. After which, we expect them to drop back more to historical levels, which will be lower during a period of time until we start to do another new product which will then bring the cycle up again at some point in the next couple of years.

But that R&D expenditure, which we feel is a necessary investment to keeping our product lines vibrant and attractive to the market, certainly diminished our profitability for the 9 month and for the quarter. Even though we were up 21% in pretax income for this quarter over last year at the same time, that is after reflecting the $117,000 in additional R&D expense. Had we been at the same level of R&D this year as we were last year, we would have shown about a double in our profitability, about 100% increase. But again, we feel that the R&D expenditure is important. It is reflective of the character of our Company from the beginning where we have worked to invest in keeping our product lines current and attractive, and so that is something that we are committed to now and in the future.

We also saw some benefit in this particular quarter from decreased borrowings. Our line of credit has diminished by about $1.2 million over where we were a year ago. We've also negotiated better rates on mortgages. Those have contributed to lower interest expense for the quarter of about $30,000. And so we are confident that we will continue that. We will see a continued profitability and expected to see continued diminished borrowings on that line of credit.

As far as the Company's near term and long-term future goes, we have been very focused in years past on the private practice segment of the physical therapy, chiropractic market, athletic training, as well. We have seen for the last 2 years a movement by our Company to try and gain access to the GPO business. GPOs are group purchasing organizations. They began a little over 20 years ago as an effort for hospital organizations to combine their purchasing power to try and get better pricing from their vendors. We've not done much in that particular arena, primarily because, until we made the acquisitions of our dealers several years ago and expanded our direct sales efforts, we didn't have the broad product line to offer that would make us attractive to those GPOs. But as we moved forward from the acquisition of those dealers into a direct selling model, we began to test the market a couple of years ago on obtaining business with the GPOs. Our initial efforts were not very fruitful but more recent efforts have been much more successful.

As we have announced, we did sign a contract with Premier, which is a large GPO headquartered in North Carolina, to provide product to their colleges and university segment. Their healthcare segment, we were not awarded the contract for. However, by being on contract with the colleges and universities, we do have visibility with their healthcare members and are in the process of negotiating some direct contracts with many of those particular healthcare members of that GPO. And we'll be making some more specific announcements about that in the coming weeks. We also were successful in negotiating the contract with Amerinet, one of the 6 large GPOs in the country. Amerinet, which is headquartered in St. Louis, put us on contract primarily for capital equipment. It doesn't prohibit us from selling supplies to their customers, but the main contract is for the segment of the business that we feel we do best, which is capital equipment, and also is the highest margin portion of our product line. Amerinet, that contract went effective the first part of March and we are working to exploit the potential of that contract now. FirstChoice is another smaller GPO headquartered in Texas, and we are on contract with them for all of the products that we offer.

It's important to keep in mind that a GPO contract simply is a door-opener. It is a hunting license, for lack of a better term. It is an opportunity to go and call upon these customers that are members of these GPOs. Without that, most of these members of these GPOs are not willing to talk to a vendor who does not have a contract. And so we are quite excited about the potential that this represents. However, it will take time to ramp up and to fully start to exploit that. We expect to see some improvement in Q4 as a result of GPO business. But as the next few quarters roll on, we expect to see that improvement increase, hopefully significantly.

We still have one large GPO that we will be working with over the next year. That is MedAssets. MedAssets is the largest GPO in the country. They recently bought out one of the other GPOs by the name of Broadlane. And Medassets is in process of renegotiating the contract for physical therapy products at the present time. We've had preliminary meetings with them and that process will go to the fall when they intend to make an award of a contract sometime before the November/December time frame.

And so we continue to seek the business from this GPO pool. It's an area that we've not had business from in the past and represents tremendous potential going forward. We believe that combined, GPOs represent potentially hundreds of millions of dollars of product sales in our particular market. We obviously don't have access to all of that at the present time but hopefully over the coming years that will prove to be more fruitful.

We are continuing to pursue also our STREAM product, refining our marketing of that particular product. The excitement about STREAM is that it represents literally an income stream for the Company. When a customer signs up, they sign up for a 2-year contract with monthly payments. And the revenue to the Company becomes exponential as we add more and more contracts to this particular product line. We are working with a Company who is the engine behind the product offering. It is a software service, as I previously explained, that enables a practice to be much more efficient, more profitable, better at marketing and is something that we believe is very well-priced for the benefit that is received. We have taken a little different attack on this particular product line, looking at larger groups as opposed to individual clinics. And believe that as we establish a base with larger customers and multiple location customers, that we'll be able to see this expand even more into the private practice arena.

We are continuing to expand our corporate infrastructure, primarily information systems, to be able to support the business on as economical a basis as possible. Since we introduced our eCommerce solution about 9 months ago, we now take about 30% of all orders come into us over that system, which represents a significantly higher amount than we had hoped to achieve in the first year. And so we are confident that that will help us to be more competitive and to be more relevant in the current electronic community.

Many have probably noticed that our stock has improved dramatically from the last time we had a conference call. We are very pleased with the performance of the stock, mostly the fact that NASDAQ has notified us that we have cured the deficiency that was previously in place that threatened our NASDAQ listing. And so we now have been fully restored to that listing. We have traded approximately 7 million shares of stock in the last 6 or 7 weeks. And so that has been generated primarily by interest in the potential that is represented by the GPO business, which we believe is a very compelling story and has great opportunities.

We have a stock buyback program that has been in place that we did because, again, we felt the stock was undervalued, and we believe that that stock buyback program helped to be somewhat of a catalyst to the current stock price. We are very pleased with the new interest that has been expressed, but the GPO business represents a whole new world for us, one that we are trying to fully understand, not only gain access to, but try and ascertain how much business that may represent in the coming year for us, as far as the profitability and sales increases for the Company. I'm sure there are those who would like to know what we think it will be and certainly we are hoping that over the next 12 months, we can run the Company's sales rates up by 10% to 15%. We think that's conservative, but we really are hopeful that that can be achieved, given the significant amount of business that is potential, even with the contracts we currently have. Again, it will take some time to ramp that up, but we are fairly confident that over the next year we will see some significant benefits from the efforts that we've been putting in for the last few years to get this business.

With that, I think I've covered most of the highlights. And we'll ask the Operator to go ahead and open the line so that those who may have questions can ask those questions. And we'll do our best to respond to them. So go ahead at this time if you have a question and we'll take them one at a time.

I'm a Minnesota investor in your Company. Couple comments. I want to congratulate you on improved results for the last quarter, congratulations on that. Concerning your stock buyback program, can you give us some guidance as to, of the $1 million that you allocated for share purchases, approximately how much was spent so far on that program?

We spent about $300,000.

Okay. Concerning your operating costs, I know you've had major initiatives in the last couple years, trying to get them in line or reduce them. Is it fair to assume that the costs, the reduction in cost bottomed out at this point going forward?

We are hopeful that our initiatives with the information system improvements will enable us to scale that even more. Right now, we are seeing a little bit of an increase as we anticipate the GPO business. We've hired a few additional people to help us service that business, but we don't believe that the incremental cost of servicing that business will be very significant. We believe that it will be significantly incremental to general profitability once we are seeing those revenues generated. So are we at a base on our SG&A expense? Probably pretty close. Doesn't mean that there aren't additional things we can do to improve it. And we believe with our electronic initiatives, we'll be able to do that more over the next year. But as far as R&D expenses go, that's a different story. Those will be very cyclical. We expect those to maintain at current levels for the next couple quarters and then we'll see them drop back fairly dramatically in the quarters after the products are introduced.

Okay. My final question is related to the GPOs, which you did a good job of explaining. I know it is really hard to identify what the sales will be in the future. Can you step us through the process of this, with the lead time you put in, you make price quotations. And is it a fairly lengthy process to do this between when you make the price quotation and when they select who the vendor will be? And secondly, how long will you be able to validate the profitability of this new segment of your business based on the prices you give? Or is it the bigger players out there, is it so price competitive that it may not be as profitable as you think because the competition for the equipment is much higher than you anticipated?

That's a very good question and let me address it in this fashion. We have one very large competitor by the name of Patterson Medical, also goes by the name of Sammons Preston, who have basically owned this GPO business for the last 2 decades. There has been very little by way of choice for the members of these GPOs. And so our advent into this market is providing an opportunity that has not been there in the past. I don't expect our competition to just walk away from business. We're going to have to compete for it. But the nice thing about it is, technically for the GPOs, while they are not legally required to only buy from those who are on contract, practically speaking 90% of them will only buy from those who are on contract. And since, for instance, on Amerinet, the only two that are on contract are us and Patterson. And so for Amerinet customers they have a choice between us and them. Our job is to go in and distinguish why doing business with us is an advantage to them.

And where we are strong is on the capital equipment side. Because we are actually a manufacturer of much of the capital equipment we sell, whereas Patterson is a distributor of those products. And so we believe we have not only a distinct advantage on pricing in that regard, but we also believe from a service and reputation point of view, the customers will be happy to have a choice. As an example, there was one hospital chain down in Texas who was a healthcare member with Premier, and they saw that we were on contract. And they wanted to buy from us and Premier said -- oh, I'm sorry, they're on contract for colleges and universities. They said doesn't matter, we still want to buy from Dynatronics. They are our preferred choice. And so they came to us. And we were able to get that business. And a lot of it is just a matter of having a valid choice that has not existed in the past. And so we believe it will take some time. How long? Some will be very quick. Others, it will take time to work with. But our salesmen have their hunting lists out there and they are pursuing the members in their various territories to work with them, to try and establish a rapport and a relationship that will allow us to get that business.

Okay. Do you anticipate that there will be a lot of contracts out there on an ongoing basis? Or what's the normal purchasing cycle for the GPOs?

The GPOs typically do a 3-year cycle on their contracts. And so with Premier and Amerinet, we're on for 3 years.

But do they put out a lot of items for you to bid, individual -- I'll call them orders, but is that an ongoing process?

No, it is not. Once it's done, it's done. Now we get to go and work with the individual members to get them to do business with us directly and convince them why they should do business with us instead of someone else who may be on contract.

Okay, I follow. Once again, congratulations on improved results. Very pleased with that.

We hope this is only the beginning. Next question. Anybody else have questions? Go ahead.

Hi. Can you talk about the operating model a little bit?

Sure. When you refer to operating model, do you mean overall as a Company or with the GPOs? What are you referring to specifically?

This is John Henderson, by the way. Just in terms of looking out the next couple quarters, was wondering if you could maybe shed some light for other investors, as in your press release you made mention about how operating margins should be ready to expand as incremental revenues come into the Company. Can you maybe explain where those operating margins can go over time?

You bet. Let me see if I can address that without getting me in too much trouble. We believe that the current foundation that we have as a Company is going to be mostly adequate to service a significant growth in business, 20% to 25%, with very little additional overhead. In fact, we are confident that with some of the eCommerce and electronic initiatives that we're doing, that we'll be able to keep our costs fairly low. Which means that, as this new business comes onboard, the incremental profitability of that business will be much higher than it has been in the past. And so we would expect to see the bottom line pretax profit numbers as a percentage of sales start to increase fairly exponentially as this business is brought onboard over the next 12 months. And so that's something that there would be some who might be concerned that your overhead grows with that. We don't believe that is the case. We believe we have a good model, good operating model in place to handle this business. We've worked hard for the last 2 years to get it established and we think that we are basically at an inflection point for the Company that will allow us to take advantage of these opportunities, with the current infrastructure that we have.

Great. And in terms of the STREAM product line, can you specify the exact amount in revenues booked in this quarter from STREAM?

That's about $30,000 this quarter, the quarter ending in March. And we don't think that's going to be an explosive growth opportunity but when it's a continuing revenue stream, it doesn't need to be too explosive for it to continue to expand and to add to a current base. And so we feel that steady progress with STREAM will yield some nice improvements in our overall margins.

Great. Congratulations and continued good luck as you guys begin the ramp-up.

Thank you, John. We're anxious for this next year. We think it's going to be the best we've seen in a long, long time. Anyone else have questions for us today?

Yes. This is Joe levy. You guys have done a good job in turning things around in the last couple of years. How many shares did you actually buy back in the last quarter?

About 300,000. Our average buyback price was right around $1.

Okay. And as far as the website, has that begun contributing as far as revenues? And what do you expect from that in the future?

The website represents a portal, if you will, for all of our customers to use. And so what it's doing is it's shifting business away from being the more expensive manually processed orders to a streamlined process of doing them electronically. And the benefits from that are not only lower cost. Part of the reason we believe we can handle additional business without a lot of additional overhead is because using the electronic means, we can process significantly more orders with the same number of people. And so that's where the real benefit comes. And there's also going to be some benefit from the retail customers who just find us online. But we don't expect that to be a huge part of a growth pattern. It's going to be more supporting existing sales.

Okay. And John touched on this when he asked his question, the margins right now, they've improved, like your operating income margin has improved, but still is at a pretty low level. At one point in past years it had been up to about 5% and now it's down averaging about 2%. What do you actually expect to be able to get as far as operating income margin and net interest margin?

Sure. I would remind you also that we have the higher R&D expense. If it weren't for that higher R&D expense being in the top end of that cycle right now, we would be up closer to the 4%, 4.5% on that margin.

I see you're over 4% with the R&D now.

Right. And so our expectation is we would like to push towards the 10% range. We really don't see any reason why we can't get there with this business. I think one caller asked earlier on how profitable we think the GPO business will be and we think it's going to be a volume game but we believe that it will be a profitable segment of the business for us.

Okay. Keep up the good work and I know you guys have really worked hard to get to where you are right now.

We're hoping what we've done is position ourselves for some significant improvement in profitability, and that's what we all want. We want to merit the confidence the market is showing in us.

Good luck to you.

Thank you, Joe. Other questions today? We really do appreciate the interest in the Company. We believe, as I said earlier, that we really are at an inflection point with the Company, where we probably never had as many opportunities as we do right now, and better positioned to take advantage of them. And we are committed to creating value for our shareholders and making this Company the most profitable it can be. And we will try and keep you posted as we generate additional contracts and business with GPOs and other customers, national accounts. Make sure the market is aware of those as they occur. And continue to try and turn this profitability corner and work hard to get there. So thank you for participating in the call. If you have other further questions, feel free to call us. We'd be happy to talk to you individually. Thanks for being on the call today.