Frequency Electronics Inc (FEIM) 2016 Q3 法說會逐字稿

Greetings and welcome to the Frequency Electronics third-quarter fiscal-year 2016 earnings release conference call. (Operator Instructions)

As a reminder, this conference is being recorded. Any statements made by the Company during this conference call regarding the future constitute forward-looking statements pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements inherently involve uncertainties that could cause actual results to differ materially from the forward-looking statements.

Factors that would cause or contribute to such differences are included in the Company's press release and are further detailed in the Company's periodic report filings with the Securities and Exchange Commission. By making these forward-looking statements, the Company undertakes no obligation to update these statements for revisions or changes after the date of this conference call.

It is now my pleasure to introduce your host, General Joe Franklin, Chairman of the Board. Thank you, Mr. Franklin. You may begin.

Thank you very much, Tim, and thank you all for calling in. Welcome to our third-quarter call for results. I'm joined by Martin Bloch, and Martin will go through the details. Turn it over to you, Martin.

Good afternoon, everybody. This is Martin Bloch. I have with me Steve Bernstein, who is the corporate controller; and Richard Steile, who is a CPA advisor to the Company. Alan Miller will not be with us; he is enjoying a well-deserved vacation and holiday in Africa, in South Africa. I will have Steve give us a rundown on the financials, and then I will give you the usual color on Frequency Electronics. Steve, please proceed.

Thank you, Martin. Q3 satellite payload revenues again represent approximately 60% of consolidated revenues, similar to that in the last two fiscal years. As previously discussed during the Q2 conference call, due to delays in new contract awards, most of which are sole-sourced to Frequency Electronics, satellite payload revenues are lower by about $2.5 million for the quarter and $8.2 million for the first nine months of fiscal 2016 compared to the prior year.

US government DoD non-space revenues decreased quarter over quarter and accounted for approximately 20% of consolidated revenues. This decrease in revenues is reflected primarily in the FEI-Elcom subsidiary. On a year-to-date basis compared to last year FEI-Zyfer, where we provide solutions for secure communications on GPS-dependent systems, reported higher revenue.

Network and other commercial product sales represented approximately 20% of consolidated revenues. Although fiscal 2016 consolidated revenues will not reach the record high levels achieved in fiscal 2015, based on the current anticipated schedule of satellite payload and other US government DoD program awards, further significant revenue declines are not expected going forward.

Gross margin was $4.7 million compared to $5.9 million last year, resulting in a gross margin rate of 35% in Q3 of fiscal 2016 compared to 32.1% last year. Despite lower sales, the gross margin rate increased due to favorable contract mix and the impact of cost reduction activities previously discussed during the Q2 conference call.

SG&A expenses were $3.2 million or 23% of consolidated revenues as compared to last year's $3.6 million or 20% of consolidated revenues. This level of SG&A spend is in line with our targets, and we expect it to remain at a similar level in Q4.

Internal R&D spending in Q3 was $1.3 million or approximately 10% of consolidated revenues compared to last year's $1.3 million or approximately 7% of consolidated revenues. For the nine months of fiscal 2016, R&D spending increased $430,000 compared to prior year. For fiscal 2016 as a whole, we expect R&D spending to be in line with the prior year and less than 10% of consolidated revenues.

We reported a $272,000 operating profit in Q3 compared to $1 million last year. Other income, which generally consists of investment income, interest expense, and other income and expenses, netted to income of $30,000 in Q3 as compared to $81,000 last year. This yields a pretax income of $302,000 in Q3 compared to $1.1 million in the prior period.

For the quarter the provision for income taxes is $20,000 or 6.6% of pretax income. This low effective tax rate is attributable to the reinstatement of R&D tax credit by Congress during the quarter. Our year-to-date effective tax rate is 45%.

Q3 net income is $282,000 or $0.03 per diluted share compared to net income of $878,000 or $0.10 per diluted share for Q3 of fiscal 2015. For Q3 we generated $4.9 million of cash from operations, primarily from the collection of receivables. As a result, we generated $2 million of cash from operations in the first nine months of fiscal 2016 and expect to generate positive operating cash flow for the full fiscal year.

Our backlog at the end of January 2016 was $22 million compared to $23 million at the end of the second quarter. We expect significant contract awards to occur before the end of fiscal 2016 and a positive book-to-bill for the fiscal year.

We look forward to your questions later. For now I will turn it back to you, Martin.

Thank you, Steve. As you can see, this was a year that we had lower revenues, and they are primarily caused by the facts that we have stated in our press release. There were significant delay in government satellite programs which are sole-sourced to Frequency, as well as DoD hardware, which were also sourced to Frequency, which we've seen -- now appears to them being placed in the very near future of this.

During that time we weren't sitting idly and praying. We instituted some significant forward productivity by automation and by automatic test equipment, and we were able to demonstrate to our customers that we have achieved the throughput capacity that is necessary to support their programs. During the slowdown on satellites both on military and commercial, due primarily to replanning by the satellite buyers on what they really need in these coming years to provide the service that they need on this, we had other small competitive issues with our customers where they decided to keep more work in house rather than to give it out to us.

However, to overcome this we have invested in streamlining our product line to be a lot more competitive so we can take advantage in the future. We have made significant progress in the design and development of our secure communication equipment -- that's primarily a joint venture between FEI and FEI-Zyfer -- and provided the initial test instruments, and we expect significant increase in revenue from those products. It's an expanding market and it's for us to take advantage of it.

We have also submitted a large number of proposals which are outstanding -- I would estimate someplace between $150 million and $200 million. That includes our regular product lines as well as the up/down converters.

Another significant achievement that was done is that we have been able to increase our production throughput on the L-band up/down converters that we are making for Iridium. And we are now shipping to the schedule that they need, which is good for Frequency and good for our customer.

I'm very hopeful on having a significant increase in backlog before the end of this year, and we are looking forward to a profitable fiscal 2017, with increased revenue as well as increased backlog.

I'd like to turn this over now to questions and answers. What I would appreciate, since Alan is goofing off in Africa, if you have specific accounting questions, to please call in and either I or Steve will answer you. And the number is 516-794-4500, extension 5000, which you have in the press release.

I would like to turn over now to questions and answers.

(Operator Instructions) Sam Rebotsky, SER Asset Management.

Hi, Martin. We got a different time, Martin, huh? We're changing.

Well, we are not changing on this; it's by necessity. I wanted Joe Franklin to be available, and he was there, plus the fact that we have paying customers that are coming in at 3 o'clock. So I decided that it would be appropriate to still hold the conference on the same day.

Well, that's wonderful! Now, tell me, as far as firm contracts, firm commitments, we spoke of $35 million or $23 million to $35 million. What kind of firm contracts do we have? That's not including -- yes?

The totally funded contracts that we have as of today is approximately $22 million on this, as we have stated in our report. We do have -- we are in the process of negotiating additional contracts, and approximately $30 million-plus which are sole-source, which we expect to conclude very shortly.

When we spoke on the last conference call I thought there was $23 million to $35 million or $35 million. And you had -- were also expecting to get $5 million to $8 million from the export/import. Did that come through? And what is the -- how does it differ from last quarter?

Okay. Well, many of the contracts that we talked last time got delayed, and they haven't been placed yet. The contract from the export/import -- we are just starting to get funding on it. It's still in limbo, and we expect the full booking on it to be within the next four to five weeks. But outside of that, significant -- a government satellite contract got just pushed from November, October-November, and we now expect them to be placed before the end of April.

Okay. Now, I guess -- you say two to four months, and hopefully something happens that sort of -- you could put a press release with a significant contract.

Yes, we will do that, Sam. And I believe that the delays are behind us, because the launch schedules for those government satellites is very critical. And for them to meet their hardware that we have to deliver, I don't think they can delay it any longer. And the programs are totally funded; there has just been one delay after another, to the point of ridiculous.

Okay. Now, you speak of --.

But they are ours for sole-source.

Okay. You speak of proposals of $150 million to $200 million. What were the proposals at the end of the last conference calls?

About $100 million.

Okay. So you are making more --.

They have increased significantly because of the new satellite programs that the providers are planning. There is a shift that's going on, and the providers are really reconfiguring on what they need to provide in the future, which is part of the delay in the commercial satellite arena. They want to provide more bandwidth and more coverage, and all of a sudden they are reconfiguring the satellite. The only good part about it is that it will require more hardware on the satellites, and that should give us more opportunities.

And you mentioned that more work is going in-house in some of the large corporations. And you were talking to merger partners and various type of joint ventures. Do we need to do something quicker to deal with this work that's going in-house -- to get bigger, sooner?

We are proceeding on all of those fronts of mergers or acquisitions on the -- that's important. What we need to break out the work from in-house is, A, is to be more cost effective; and, B, for our customers to get some more work so they are not so desperate to feed their own rice bowl.

Okay. Now, as far as the April quarter, do we expect similar sales? Of course, last time we spoke of $16 million the previous quarter, we got it down, but -- we got a profit. I'm trying to understand the profitability in the fourth quarter. We speak of being profitable for the year, but do we expect to be profitable in the fourth quarter, etc.?

The answer is yes, we expect to be profitable in the fourth quarter, as you can see that we weren't sitting idly during the time. We have trimmed expenses. At the same time we did not sacrifice the research and development effort in product development and to optimize our productivity to be able to demonstrate throughput. And at the same time we have been able to improve our margins and improve our cash flow. And I expect the same in the next quarter.

All right, Martin. Good luck, and maybe I'll get back in. Hopefully there's somebody else with questions.

K.C. Hamann, NS Advisors.

Martin, this is for you. I wanted to know -- on the second-quarter earnings release, you guys were quoted as saying you expect there's an upturn with significant additional bookings by the quarter ending this April. You talked about having a robust pipeline. It sounds like some of that has gone into the $150 million to $200 million you are talking about now. But can you comment at all on the timing to give us something to hang our hat on to queue what kind of revenue you would be doing in the future?

Well, we expect significant booking in this quarter to materialize. We have, like I said, about $30 million plus that is sole-sourced that are just pending in contract negotiations. And I hope to do my best to see if we can book them in this quarter.

Okay. So the significant additional bookings that you outlined in the second quarter release -- did that -- the activity you've seen -- has that met your expectations? Or did that come in below your expectations?

The activity exceeds my expectation. We have been brisk. And I'm telling you, we moved up the conference call because we have to get two major proposals out today. The activity is brisk.

The decision time on placing them is something that we don't have a control. But we see enormous opportunity both in military and commercial satellite, as well as -- I want to emphasize that our development on this secure communication equipment has also great opportunities. And we are focusing very hard to get this equipment into the field and demonstrate their capabilities.

Okay. And I know you guys don't historically provide guidance, but would you guys be willing to comment at all on the next call about -- just to quantify some of the opportunities, so it makes it easier for us to understand what the earnings could look like?

It's a deal. I'll work on it very hard, I promise.

Okay. All right, thank you very much, Martin.

(Operator Instructions) Brett Reiss, Janney Montgomery Scott.

In the past you spoke about missing some potential business because some of the potential customers were uncomfortable with your ability to fill orders, and there was some hiring you had to do to fill out capacity. Is that all in place, and that's not a concern going forward?

You hit the nail right on the head on this. That was our major focus during that year. And in addition to trimming some of the personnel, we actually added key personnel to increase our throughput. But primarily we improved our automation and our automatic test equipment, and we have demonstrated to our customers that we have the capacity to take on additional work and to produce on time.

There's one other enormous type of pressure that has developed in the industry. The service providers wait until the last moment to place a satellite, and then they want to launch it in 20 months. That has significantly applied pressure on us to be able to design and supply the hardware -- what usually used to be 22 to 36 months in 12 to 14 months. And we have done a lot in order to standardize, improve our inventory on long-lead parts, and improve our automatic testing method to be able to respond to that demand.

Okay. Now the delays in the government satellite programs -- does that have anything to do with the sequester which the military labors under? Is that what is causing the delay?

No, no. I wish I could give you a better answer. There is really no reason for it. The programs are totally funded, and they are critically needed. And they have not been -- they have just been delayed. And I would be a lot richer if I knew the reasons.

Well, when you ask them, what feedback do you get back from the people from the government in response to why there's a delay?

Oh, because they have to replan on how to do it. They have to put additional features on the satellite, so therefore they might have to make minor changes on our hardware. Nothing very fundamental on this. And they have just said, you know, complicated programs takes longer. That's --. (laughter)

Right, right. Now, this may be an accounting question, but did I hear you say that our effective tax rate is 45%? Bernie Sanders hasn't been elected yet, has he?

Say that again? Oh, Bernie has not been elected yet.

I mean, that's a high tax rate, isn't it?

Steve, can you put some color on why 45% is expected for the year?

The main reason is because the losses in the foreign affiliates is not allowable for here on our reporting. So it's the way it calculates.

Okay. All right, thank you.

But don't vote for Bernie. (laughter)

Okay. Thank you for answering my questions.

Beverly Machtinger, Grace & White, Inc.

I was wondering if you could talk a little bit further about your plans for the Gillam facility. You've been losing money there for quite some time, and I know you spoke about doing something with it. I was wondering if you can just give us an update on that.

That's a good question.

A very good question.

As a matter of fact, I'm just packing my suitcase. I'm going out there with Olie Mancini on the 29th for a total review and to see what we can do. It's an issue that we have to resolve, and I hope to be in a much better position to assess that situation within the next couple of weeks.

I'll tell you the issue. They have enormous potential, but it all gets delayed. As an example, their prototype, their electric monitor to the French, and to -- the French were going to install it with large quantity and software. Instead of thousands, we are getting hundreds.

When it comes to the communication equipment, we have prototyped a large system for the electric and power companies in China to use the US 5G. And they talk about large numbers, but they have always pushed a little bit further. So I want to get some clarity, and by the next quarter we will have a solution.

Is there any way to consolidate that operation into your other two facilities?

No; that's part of the problem in Europe. You cannot move. You got to make it profitable or get rid of it.

Okay, great. Well, I appreciate the insight.

Andrew Jones, North Star Partners.

Comments were made about revenues on a quarterly basis. And I just wanted to get some clarification. I think the comment was that you didn't expect revenues to decline further, and I was wondering if that was on a sequential basis or a year-over-year basis that you expected there to not be a decline from.

On the sequential basis.

Okay. So the sequential -- from the $13.5 million that we did in third quarter -- because last year in the fourth quarter you did $19 million. So you are not talking about being anywhere near $19 million in the fourth quarter. Is that right?

That's correct. I don't think the contract -- for this to happen, we would have to have a release this week on these major contracts, which I don't think is going to happen.

So if it's flat for the year, that would put us at about $62 million, $63 million in revenue. And --

Yes, someplace in that range.

And then you said that in 2017 you thought you would see increased revenue in backlog, but you didn't say anything about earnings. I was just wondering if there is anything about the business you expect to sign that would be lower margin. Or if the revenues grow, should the earnings grow also?

As a matter of fact, the earnings will grow with an increase in revenue, since we are operating at much higher efficiency with more automation and automatic test equipment. So I expect that -- the increase in revenue and better margins.

Okay. And the second question I had was just -- in looking at the share ownership, I noticed that the ESOP, it looks like, bought a fair bit of stock in the last quarter. Could you tell us what the plans or the guidelines are there, how much stock that could buy, or what kind of drives that?

The ESOP didn't buy any stock.

No.

The ESOP and the 401(k) plan, which is owned by the FEI employees, about 10%-plus, but they have not bought any FEI stock -- nor, I don't think, by our rules, can they buy.

Okay. I must be looking at a bad data source, then. I'll check that.

Yes, or a different company.

I think it's the same Company, but I'll check.

Okay, please. Let me know if I'm wrong.

Dave Starkey, Morgan Stanley.

Just a couple quick questions. I had some clients who wanted to ask you, have you in the past quarter, either direction, spoken about any kind of M&A with any other companies?

Yes.

Okay. And can you elaborate at all? (laughter)

No, we cannot elaborate. I'm not allowed to elaborate it at this stage of the game.

Okay, no problem. And yes, you had said, I know, on a previous conference call that the Gillam -- you would decide by the end of this fiscal year. That's the purpose of your 29th trip?

Yes.

Just to get an idea on that? Okay, okay. And can you just give me a couple of quick balance sheet items in terms of cash on the books at the end of the latest quarter and approximate book value?

Yes. Go ahead, Steve. The cash is -- it's about $18 million?

Yes. No. It's $18.8 million. $18.8 million.

$18.8 million in cash. And what else did you want to know?

Just approximate book value.

Cash and marketable securities.

Cash and marketable securities.

I'm sorry; $17.8 million is cash and marketable securities -- $18 million.

Approximately $18 million.

Okay. And the other thing was -- I'm assuming, now, you are expecting potentially some pretty healthy contracts over the next, really, almost few weeks to a month or two, based on what you are saying. Will you be able to make some announcements in the majority of those cases, so we get a little bit more news flow from you? We haven't really seen anything the last few months.

Yes. We will be able -- this is part of the thing that I cleared with our customers. We will be able to make announcement. We will not be able to tell who is the customer and what is the hardware, but we will be able to announce the award. They gave us that permission.

Okay, great. And you had spent a lot of time the last few years upgrading your technology, so you are able to bid on a lot more per satellite. Is that developmental program pretty much behind you now, so you do have the complete offerings now?

Well, we have a lot of complete offerings. But it's a dynamic situation. You always have new requirements for satellites, which you have to upgrade your offering. But we now have gone from the $100,000 quartz oscillator to the most complex box we offer for $6 million. So we have progressed enormously.

In some of the new contracts, there are very complex boxes that have a lot of electronic and microwave wrapped in one box. And that's proceeding very well. But it's a living process. You always have to upgrade this in order to be able to get more percentage of the payload.

Would you say that these new products are a significant part of the added contract bidding that's occurring? Or do you just have more customers that you are going after?

No, it's significant. The number of customers are about the same. There are about half a dozen satellite customers, both military and commercial, on this. It's more to the same customers.

And can you detail anything related to specifics, maybe related to SpaceX or a particular customer that you might be trying to work with right now?

We are working with everybody. Our motto has always been -- is we are a supplier to all and a competitor to none, although they don't totally believe it, since we want some of the work that they are doing in-house.

Okay, okay. All right. Well, thank you guys for your time, and good luck with the next year here.

There are no further questions in the audio portion of the conference. I would now like to turn the conference back over to management for closing remarks.

Okay. Joe, since you are older than me, you will get the honor.

(laughter) Thank you, Martin. And thank all the rest of you for tuning in.

I must state that your questions are a great help to us, and I urge you to keep doing that, because it helps us to focus on where we are going. Martin has got it all down.

And so it's good to have everybody, and we will announce again when we are ready to go for the fourth quarter. And hopefully, as we said, things are moving in the right direction.

Okay. I'd like to add my thanks to all of the employees at FEI that are working hard during this time to increase efficiency and demonstrate throughput, and to our loyal customers. And I'm confident that we will not disappoint you. Thank you all for listening in and have a good time. Bye.

This concludes today's teleconference. Thank you for your participation. You may disconnect your lines at this time.