GSE Systems Inc (GVP) 2003 Q2 法說會逐字稿

Good morning and welcome to the GSE Systems second-quarter conference call. I would now like to turn the conference over to Ms. Marilyn Meek, FRB Weber Shandwick..

Thank you. By now everyone should have received yesterday's press release. However, if you have not, please call our office at 212-445-8473, and we will get you a copy and add you to our e-mail and fax list. On the call with us today is Gill Grady, Senior Vice President, and other members of management.

Before we begin the call, I would like to remind everyone of forward-looking statements that involve risks and uncertainties. The actual future results of GSE Systems may differ materially due to a number of factors including, but not limited to, the delay and introduction of products for enhancements, size and timing of individual orders, rapid technological changes, market acceptance of new products and competition. These and other factors are more fully disclosed in the Company's periodic filings with the SEC. These cautionary statements also imply to the contents of the Internet webcast on www.companyboardroom.com as well as today's call.

With that, I will turn the call over to Gill Grady.

Thank you, Marilyn. Good morning everybody, and thank you for joining GSE's 2003 second-quarter results conference call. At GSE this morning we have Jerry Jen, our President and COO; Jeff Hough, our CFO, and me, Gill Grady, Senior Vice President for Business Development. Following our normal format, we are going to discuss the following events. Mr. Jen will provide some introductory remarks. I will follow it up with a more detailed report on the Q2 results and provide an update on our power and process businesses including growth strategies and opportunities. And before we go to the question-and-answer session, Mr. Jen will provide or discuss direction for 2003.

At this time, I would like to introduce Jerry Jen, President and Chief Operating Officer of GSE, for opening comments.

Thank you, Gill, and good morning everyone. For Q2 of 2003, GSE had a total revenue of $9.77 million. These numbers compare to revenues of $12.131 million in the second quarter of 2002. Operating comp for the quarter was a loss of $895,000 versus an operating income of $220,000 in 2002. The losses primarily attribute to the thrust automation business and includes a onetime reconstruction cost of $213,000 and multiproduct development costs of $100,000 for our security business.

The power generation business is profitable again this quarter. The main reason of the loss from thrust automation business is due to the slow recovery of the U.S. economy which causes the delay of capital spending. Net income in the quarter was a loss of $1.13 million compared to net gains of $123,000 last year.

(inaudible) business update I would like to share with you. First, we have completed the facility consolidation by moving process business units from Baltimore to Columbia office. This will provide a significant savings on our facility leasing costs and also improve the efficiency of business operations. Second, we developed a few more of the latest position of our D3 systems to upgrading older versions of the existing systems during the second quarter. Due to expensive efforts we put in for designing, testing and validation, it is well accepted. By the (inaudible), in terms of its quick installation, ease-of-use and additional features to enhance (inaudible), we expect it will provide more opportunities for system operating projects in the future.

But first the rep organizations and system integrators there were set up during the past twelve months have gradually brought in potential customers in the small and mid-size manufacturing sector. We believe we can turn these opportunities into real customers in the near future. Four, (inaudible) book constructs over $27 million. These constructs include orders in the areas of brand-new power plant simulators, nuclear power plant simulator modifications, brand-new fossil topline simulators, also topline simulator modifications and the (inaudible) support for Navy simulators, simulator maintenance, security (inaudible) services and the process emulation (inaudible) services. These are all the businesses we are pursuing. We have shown the success of our efforts.

Third, we continue R&D and marketing efforts for our security business. The leads have been coming in from U.S. nuclear power plants, chemical process plants and the U.S. government. Since GSE security (inaudible) is designed for a highly regulated environment, we do believe GSE has a competitive edge in the market compared with companies who sell traditional security systems.

Gill Grady will provide you with more details later. At the end of the call, I will discuss our future business direction for the remaining of the year 2003. Now I will turn the discussion back to Gill who will provide more details on the business and our business initiatives.

Thank you, Jerry. First, I would like to update you on our process automation business unit. For the second quarter of 2003, our process automation business had revenue of 4.3 million versus 6.9 million in Q2 of last year. Our operating results for this business were a loss of 703,000 versus an operating income of 733,000 for Q2 of last year. Included in the 703,000 of operating loss was a onetime restructuring charge of 313,000. That was associated with moving and related expenses associated with our building consolidation activities back in April and May of this year. Over the remaining five-year term of our lease, we expect this to save our process business well over $2 million.

The slow economic recovery has negatively impacted business performance for our process business; however, we have seen a 13 percent increase in orders between the first and second quarters of this year, and that trend continued in July. There are also positive signs of improving orders for the rest of year including potential orders from some new customers related to our new D3 compact operate.

Since our last call, the process business has named a new Director of Product Development, Mr. Shaw Kahn (ph). Mr. Kahn (ph) comes to GSE from Rockwell Automation and Marconi where he had several managerial and lead engineering positions. He is keenly aware of the trends of process automation industry and will bring new insights on how to evolve our products to meet those trends.

R&D progress continues as outlined during the last call with particular emphasis on features that will help improve our customers ROI. Focusing on the ROI benefits of the D3 product has led to customers contracting with our process automation business to perform studies on how their particular automation situation can benefit from upgrading their control system. We expect these studies to lead to projects in the second half of this year.

We have also spent a significant effort to meet the future needs of the pharmaceutical industry's 21-CFR Part 11 directive from the Food and Drug Administration. That directive covers electronic signatures, documentation and archiving of all processing control steps taken in the manufacture of pharmaceuticals, including feed products that go into the making of pharmaceuticals. Although that is not an immediate requirement, meeting that directive will be key to the business in the future.

As we also mentioned in the last call, we are aggressively marketing our D3 Compact automation system through trade journal advertisements and our indirect sales channel organization. These efforts have yielded new needs and request for quotes from our direct and indirect sales channels to pursue. Our most recent success has been the selling of D3 Compact to a new customer in the Netherlands. We expect to announce additional new customers and sales of the new D3 Compact system in each of the subsequent quarters of this year.

In the area of sales and marketing, we have also added two additional systems integrators to our indirect sales channel organization as well as established partnering agreements with three firms to provide advanced process control, neural networking and asset management capabilities for our customers. Both of these initiatives should bear fruit toward the end of this year as well as into next year.

Next I would like to update you on our power business. For the purposes of this discussion, we have extracted the figures from our emerging businesses of process emulation and security in reflecting solely the Power Simulation business. For the second quarter of 2003, our Power Simulation business had revenue of 5.3 million versus 5.0 million for the same quarter last year. Our operating profit for this business was 5 K. This compares to an operating loss of 254 K for the second quarter of last year. At the end of the second quarter, the power business backlog grew from 25.7 million to 30.1 million, our highest in several years.

Now I would like to talk about the accomplishments and ongoing efforts regarding our focused growth areas for the Power Simulation business that we have mentioned over the past few conference calls. First is to maintain our nuclear simulation base. We have often discussed the fact that the operating license extensions being obtained by U.S. nuclear plants will require a significant effort from the plants to improve efficiency and safety through modernization.

Through this process, nuclear power plants are expected to make significant changes in the areas of physical equipment and control strategies. In turn, regulations require the upgrade or replacement of the existing simulators for plant operator training. We have seen the demand increase during this year, and GSE has been successful in receiving some of the significant simulator upgrade awards domestically and internationally. We believe this trend will continue for sometime. With our significant install base, we definitely have an edge to compete in this market segment.

We continue to establish long-term engineering service contracts to provide a steady revenue base. As we announced in April, we won a contract to provide engineering services and simulation products to a national laboratory funded by the Department of Defense to manufacture simulators for the U.S. Navy. We are still pursuing more opportunities to provide even more engineering staff to fulfill the needs of this project.

This is a long-term multiyear engineering services contract which provides a very steady revenue stream. Based upon the information we received, there will be more simulators required by the U.S. Navy in the near future. Since we have the largest most capable simulation engineering staff, we believe it will be an excellent growth program for the Company.

We are also using our success with the Navy projects as a reference to pursue other U.S. military related simulation contract since our real-time simulation technology is applicable to any industry, which requires simulator operator training. We previously reported that electric utilities are reducing their direct support staff to reduce costs under intense profit pressure. Simulator maintenance and operational training staffs are some of the victims since they are not part of the revenue generating group.

Over the past few months, we have received a few small contracts for simulator maintenance both in nuclear and fossil simulator markets. The maintenance service demand is going up, and we are ready to provide cost-effective and competitive support due to our Web-enabled technologies.

We also continue our expansion into the fossil power plants simulator market. As we stated in our press release in July, we received two more full scope fossil plants simulator contracts from major power plant DCS vendors. All of the effort we have put into improving the simulation tools in the area of ease-of-use and maintenance and high fidelity has allowed us to become extremely cost-effective and competitive in the fossil simulation segment.

We believe we are in a great position to capture more market share for two reasons. First, our previously mentioned improvements in our technology make us more cost-effective without diminishing fidelity or quality. Second our enlarged engineering staff, an extensive power plant simulation experience, allows us to work on all types of plants with different DCS vendors whether it be Emerson Westinghouse, ABB Bailey, Siemens, Honeywell or Fox Borough (ph).

Our final strategy or strategic thrust in the simulation area is to explore the opportunities to launch power plant simulator training over the Internet. Since our last call, we have developed more features in our simulation software tools in the area of improving operator training through linkage to electronic procedures, plant databases for inventory and financial information. Due to stiff competition in the energy market, utilities are putting tremendous pressure on their plants to cut operating costs and improve electrical output. This situation is especially significant for fossil power plants, and we believe this will continue to increase the demand for our sophisticated simulation technology.

We are also expanding the use of our simulation technology beyond operator training. We are developing tools to help our customers optimize plant performance by analyzing real plant performance against simulator generated scenarios in determining what operating changes can be made to increase plant efficiency.

We also continue to corporate with general physics to pursue what we call a total training system, which includes simulator and operator training programs. We expect competitive pressure will cause electric utilities to focus on their core competencies and outsource their training programs. This is one of the businesses that can give us some long-term recurring revenue.

Finally, I would like to shift our discussion to our two emerging market areas, Plant Security and process emulation. Revenue for these emerging businesses was 210,000 for the second quarter versus 212,000 for the same quarter last year. These businesses had an operating loss of 125,000 for the quarter versus an operating loss of 187,000 for the second quarter of last year.

In June, we intended two major trade shows for our target areas in the security market. First was the National Nuclear Security Conference, which is an annual meeting of all nuclear plants security personnel. We had a major presence at the conference and developed several leads. The second conference was the Chemical Plant Security Summit held in Philadelphia. Both conferences confirmed there will be increased activity particularly in the nuclear industry later this year. Significant effort has been spent by these plants in brick and mortar changes, and security system changes are slated to come up for bid in the fourth quarter and early next year.

The Chemical Industry Conference also reflected an interest in our products, particularly the GAARDS validation server we are developing. This is a server that will help add an additional layer of security to distributed control systems and address some of the industry's cyber security concerns. In the meantime, we have received some engineering contracts that keep our staff busy and expect to announce more awards soon.

We have also embarked on an effort to be awarded a GSA schedule for our GAARDS project and related engineering services. We have some potential government customers who have indicated that having our products on a GSA schedule will make it easier for them to do business with us. Our chemical customers were also expressing more concern regarding control system security; that is why we have embarked on the R&D effort to integrate our GAARDS security with our process control network. This will make the D3 system unique in the sense of not only providing process automation control but also adding security and authentication requirements that the FDA requires be placed on many chemical, food and beverage and pharmaceutical customers.

We have also routinely reported that our process emulation business is included in the results of our Power Simulation activity due to the similarity in the nature of the technologies. This year we have received several simulator modification contracts primarily from refinery customers in Germany and Norway. Since some of the customers are in the process industry, the overall business was affected slightly due to the weak economy. We expect to generate around $1 million in revenue in our process emulation business this year and for that business to be profitable.

Now I would like to turn the call back over to Jerry Jen for discussion on our future business direction.

Thank you. With the very healthy backlog for power business going forward and expect a strong quarter projection and good second half of this year from (inaudible ), this gives us excellent confidence that GSE will be profitable for the remainder of 2003. The strategy we put forward for Power Simulation business is working except it took a bit longer than we expected as Gill mentioned. Now we are planning to growth simulation into non-traditional GSE business such as military simulation, total training systems and PowerPoint performance optimization. For the process business, even under the current economic conditions, we project an improvement in orders for the rest of the year 2003, and we are continuously redefining our data operations including cost-cutting measures to ensure profitability.

Please note that these 2003 projections are considered forward-looking statements. As such, actual results may differ materially from such anticipated results. We undertake no obligation to update these statements under any circumstances. This ends management's formal presentation. We would like to open the lines to any questions.

It appears there are no questions at this time. Please continue.

Well, if there are not any questions, we would like to thank you for participating in the conference call which will obviously also be recorded and available on the companyboardroom.com Website as well as through our Website. We look forward to following up with our Q3 results, and we will be talking to you soon.

Pardon me, gentlemen. We have a question from Barbie Waktel (ph), Waktel (ph) & Company.

I am sorry to step on your closing statement there. You won't have to repeat it at the end. I have two questions. The first is, does the current power situation that we are living through, do you see that as having any impact on the business either positive or negative looking out for a while?

The other issue is I am again concerned, as I think everybody is, about the level low profitability and how to locate GSE realistically in terms of what you could be earning or should be earning. We have almost tagged teamed every quarter as to which division is having a big loss. As you look out and both companies stabilize, I know you have done a helluva lot of work on them over the last couple of years of getting them into some sort of a running order, could you refresh my memory as to what you think the margin -- a realistically possible margin would be bearing given some sort of playout of normal revenues? And you don't have to put any sort of timeframe on that.

Based on the historic average for the process, the historic average is between 19 to 21.

That is an operating margin?

No, the revenue. The margin is really hard to predict. We just right now are shooting for profitable every year, at least (inaudible). But sometimes what we shoot for, we are happy to get it. But this time the second half of the year, we really have some (inaudible) looking profitable.

That is okay except that leaves me with a value on the stock of zero. If you're marginally profitable and breaking even, why should anybody take an interest in this? It is useful in these calls to remind us all not that just you are not going to go bankrupt, which you have put a lot of effort into getting that message out, but also as to what there is to look forward to when the Company straightens out. That is a suggestion perhaps for future calls.

Without relaying a value to it, some of the things that we are trying to doing and continue to try to do for both businesses is to get more out of the assets that we have we have, whether it be through partnering or developing additional channels so that maintaining the status quo is not what we have to look forward to. That is why we talked about we are developing sales channels for the process business to try and increase our volume there, as well as looking at partners that can bring value-added to the equation that may be able to get us higher margins on projects through asset management and optimization and things like that. So trying to find ways of adding additional value to our traditional products that have an improved bottom-line impact. And we do the same thing for the power business as well.

Your first question?

The first question was about the blackout in the Northeast.

If nothing else, I think it indicates there is probably a generating capacity issue within various parts of the United States, and we have seen a cyclical turn in power generation in a couple of years, there is a big thrust to increase the number of plants. A lot of gas turbine plants went into production, and their natural gas prices went through the roof. So a lot of those were canceled, and now I think you're seeing some of the effects on it. We don't see this as being bad in any way, and typically it will be positive as more traditional coal-fired oil-fired plants come online to replace the gas-fired plants.

The training requirements are a lot different. It is a lot more complicated we think to run the traditional fossil power plants than it is the gas turbine plants, and we see additional operator training, simulator and training opportunities for that. So we hate to revel in other people's misery, but we think it is indicative of changes going on in the power industry that will have good trends for us.

There is a (inaudible) impact based on what I heard from the news is we do not have enough power to supply to the grid, so we know they are going to build a new power plant as Gill just said. Once they do that, they need training. Second thing is with the power grid solved, the operator needs to be trained. I don't think right now there is a very good simulator for that purpose. So in our mind, that will be a very positive impact to GSE's power business because that is what we do today.

I thought it would be positive, and that is why I asked the question. Let me again make a suggestion for future calls that when you're giving guidance you not feel so hemmed in about giving financial guidance for just the next quarter or two or the end of the year, although it is nice to have that. But I would also look toward a planning or a target guidance so that we can have some idea of how management and the Board is thinking, even if we all know that is not something that is perhaps in terms of a classic projection that people can have a lot of confidence that it is going to happen. I do think it would be very helpful, however, especially given the state of rather disappointing results we have seen over the last couple of years.

I will take your suggestion. I hope we can do better next time.

Gentlemen, it appears there are no further questions. If you have any additional closing statements, please continue.

At this time, I would like to thank everybody for their participation, and we will talk to you at the end of the third-quarter.

Ladies and gentlemen, this concludes the GSE Systems second-quarter conference call. If you would like to listen to a replay of today's conference call, please dial 1-800-405-2236 and enter pass code 548619. You may now disconnect, and thank you for using AT&T teleconferencing.