IRIDEX Corp (IRIX) 2008 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the IRIDEX fourth quarter and full year 2008 earnings call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions. (Operator Instructions). This conference is being recorded today, Tuesday, March 10 of 2009. At this I time I'd like to turn the conference over to Mr. Ted Boutacoff. Please go ahead, sir.

Thank you, and welcome to Iridex Corporation's fourth quarter and fiscal year 2008 conference call. I am Ted Boutacoff, President and CEO of IRIDEX and with me today is Jim Mackaness, our CFO. Before we get started, Susan Bruce, our Executive Administrator will read the required Safe Harbor statement.

This conference call will contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Act of 1934 as amended. Relating to the Company's financial strengths, growth, strategy and prospects, revenues, gross margins, earnings, controlling and prioritizing expenses, managing cash and cash flows and addressing our liquidity and capital resource needs. Actual results could differ materially and adversely from those projected in the forward-looking statements contained in this conference call. Additional information concerning factors that could cause results to materially differ from those in the forward-looking statement is contained in the risk factors discussed in our annual report on Form 10K for the fiscal year ended December 29, 2007 and our subsequent Form 10Q report each filed with the Securities and Exchange Commission. Forward-looking statements contained in this conference call are made as of this date and will not be updated.

Thank you, Susan. The topics we'll cover today -- this call will be a little longer than others, because it's an annual call. So we're going to cover the key accomplishments of 2008 and then Jim will talk about our 2008 Q4 and year-end financial results followed by evolution of our financial model and then our 2009 recession strategy. I will cover objectives for 2009 and then our long-term vision and key strategies, and the strategies will include our value proposition strategy, growth strategy and aesthetic strategy. After that, we will open up the call for questions.

So key accomplishments for 2008, I'll start with the beginning of 2008, what the status was. At the beginning of the year, AMS debt was $6.3 million. We were -- it was payable weekly over 36 weeks. Bank debt was $6.1 million net of restricted cash. $1.1 million term loan and $5 million asset-based credit facilities. Both were out of compliance. We had unrestricted cash balance of $5.8 million and we had a going concern qualification on our 2007 financial statements. As result of our financial condition, we focused on four objectives for 2008. One, to be cash flow positive. Two, to pay off AMS, three, to renegotiate our bank debt and four, to achieve financial stability.

At the end of 2008, we had generated $6.2 million in cash from operations excluding the AMS repayment. AMS was paid in full. The bank debt was at $6 million and this was a new $8 million asset-based credit facility and that was in compliance. Cash position was $5.3 million and working capital improved from $7.7 million to $9.2 million. We met our objectives of 2008 objectives, we generated cash, we paid off AMS, we renegotiated our bank debt and we achieved financial stability. To accomplish this, we structured the business segments by focusing on direct costs and direct contributions. Some examples: We reduced direct costs, particularly in areas of marketing and R&D programs, we flattened the organization and we invested and hired in areas with high contributions in order to plant seeds for growth, and we regained control over G&A expenses. This resulted in improved employee morale. Employees now are proud of their accomplishments in 2008 and have a restored confidence and optimism in our future. I'd like to now pass onto Jim.

Let me start by reviewing our fourth quarter performance.

Revenues for the fourth quarter of 2008 were $12.1 million, a 14% decrease compared to the corresponding quarter in 2007 but increased 1% on a sequential basis from $12.0 million as reported in Q3, 2008. Opthalmology revenues for the quarter were $8.5 million compared with $8.9 million for the fourth quarter of 2007, a decrease of 5% but were up 4% on a sequential basis from the $8.2 million reported in Q3 2008. Looking at these revenues geographically, domestic opthalmology revenues fell 2% compared to $5.2 million compared with $5.3 million for the fourth quarter of 2007. Fell 2% on a sequential basis from $5.3 million in Q3 2008. International opthalmology revenues totaled $3.3 million, were down 8% from the corresponding quarter in 2007 but were up 12% on a sequential basis from the $2.9 million in Q3 2008. The majority of our international sales for opthalmology are denominated in US dollars and therefore, our exposure to foreign currency gains or losses on translation to US dollars is minimal. However, the strengthening or weakening of the dollar will impact our prices competitiveness in overseas markets.

Focusing on our recurring revenues which consist of disposables and service, opthalmology recurring revenues were $4.9 million which represented 57% of total opthalmology revenues for the fourth quarter 2008, up 10% from $4.4 million in the fourth quarter 2007 and up 3% on a sequential basis from $4.7 million in Q3 2008. Recurring revenues in opthalmology have continued to increase year-over-year and more impressively, quarter-over-quarter despite the global recession. Opthalmology procedures are typically non-elected and in the US, reimbursed by insurance. This part of our business provides us with a dependable revenue stream and is a major strength that the Company can rely on during these challenging economic times. Opthalmology recurring revenues continue to be a key focus of the Company. Aesthetics revenues for the quarter were $3.6 million compared with $5.2 million for the fourth quarter of 2007, down 30%, down 4% on a sequential basis from the $3.8 million reported in Q3 2008.

Looking at these revenues geographically, domestic aesthetics revenues decreased 27% to $1.7 million compared with $2.3 million in the fourth quarter of 2007, down 18% on a sequential basis from $2.1 million in Q3 2008. International aesthetics revenues totaled $1.9 million, down 33% compared with $2.9 million for the fourth quarter of 2007, but up 13% on a sequential basis from $1.7 million in Q3 2008. We sell aesthetic systems directly through our French subsidiary and these sales are denominated in euros and therefore, there is some exposure to foreign currency gains for losses on translation to US dollars for these sales. Other international sales are predominantly denominated in US dollars and therefore, our exposure to foreign currency gains or losses on translation to US dollars is minimal. However, as previously mentioned, an increase in the value of the US dollar against any local currencies can cause our products to become relatively more expensive to customers in a particular country or region, leading to reduced revenue from that country or region. We do believe the current global economic crisis which has caused a run-up in the strength of the dollar against other currencies has caused an impact in the overseas markets.

In addition, a significant part of our international business is conducted through distributors who often purchase multiple units at one time and therefore, the timing of their orders can affect our performance in any one quarter. The global aesthetics market has seen a sharp contraction. Aesthetics procedures are frequently elected and paid for by the patient, so demand for these procedures is impacted by the availability of consumer discretionary dollars. Purchase of capital equipment in this market often relies on credit, and the current economic environment has resulted in tightening credit both domestically and internationally.

Switching attention to gross margin and expenses. Gross margin in the fourth quarter 2008 decreased to 37.5% compared with 44.6% reported for the fourth quarter of 2007 and decreased from the 41.6% reported in Q3 2008. Gross margins for the fourth quarter 2008 were negatively impacted by expensing of previously capitalized manufacturing overhead as a consequence of reducing our inventory levels 5.0 gross margin points. Amortization of intangible assets, 3.8 gross margin points. An increase in inventory reserves, primarily related to aesthetics inventories, 2.8 gross margin points. In aggregate, these items negatively impacted gross margins for the fourth quarter 2008 by 11.6%. I'll return to the subject of gross margins later in the call to provide greater clarity of where we see the current state of our financial model.

Expenses in the fourth quarter 2008 were $10.9 million which included a $5.4 million charge for the impairment of goodwill and intangibles. The goodwill and intangibles were created as a result of the latest scope acquisition that occurred in Q1 of 2007. At the year end, the Company conducted an impairment test in accordance with FAS 142, goodwill and intangible assets and determined that based on operating results for 2008 and the outlook for the aesthetics business for 2009 and beyond, there was significant impairment in intangible assets in goodwill. In addition, the Company revisited the useful eyes associated with the remaining intangible assets to ensure they reflected the revised outlook of the aesthetics business. A similar exercise was undertaken in the fourth quarter of 2007 which resulted in a $14.7 million charge in that period. Excluding the impairment charges from both periods, operating expenses for the fourth quarter 2008 were $5.5 million compared to $7.3 million. For the fourth quarter 2007 and operating expenses for the third quarter 2008 were $5.2 million. Management remains focused on controlling expenses to make sure expenses are appropriate for the level of revenues being generated and to meet our cash flow guidance.

As for the bottom line, the Company recorded a net loss of $6.5 million or $0.74 per share for the fourth quarter of 2008 as compared to a net loss of $15.8 million or $1.82 per share for the fourth quarter 2007. Impairment charge of $5.4 million in the fourth quarter 2008 represents $0.61 of the net loss per share in the impairment charge and the fourth quarter 2007 represents $1.69 of a net loss per share.

Turning our attention to the results of the 12 months ended January 3, 2009, for the full year of 2008, revenues were $48.5 million, down 13% compared with $55.5 million reported for the full year 2007. In 2008, opthalmology revenues totaled $32.4 million, holding steady with $32.3 million reported for the full year 2007. Aesthetics revenues totaled $16.1 million in 2008, a decline of 30% compared with $23.2 million for 2007. International sales in 2008 were $21.6 million, representing 44% of the total revenues, similar to 46% of total revenues in 2007. Sales in the United States were $27.0 million in 2008, representing 56% of total revenues, similar to 54% of total revenues in 2007. For the full year, gross margins decreased to 14.6% in 2008 compared with 43.7% reported for the full year 2007. Gross margins for the full year 2008 were negatively impacted by the amortization of intangible assets, 3.8 gross margin points, expensing of previously capitalized manufacturing overhead as a consequence of reducing our inventory levels 2.5 gross margin points and increases in inventory reserves primarily relating to aesthetics inventory, 2.0 gross margin points. In aggregate, these items negatively impacted gross margins for the full year 2008 by 8.3%.

As previously mentioned, both 2008 and 2007 included an impairment charge for the writedown of goodwill and intangible assets, excluding the charge in both periods. The net loss for 2008 was $2.0 million for a loss of $0,23 per share compared to a net loss for 2007, $7.6 million for a loss of $0.91 per share. Including the impairment charge in both periods, the net loss for 2008 was $7.4 million or a loss of $0.84 per share compared with a net loss $22.3 million for a loss of $2.69 per share for 2007.

Looking at our cash flows, for the fourth quarter 2008, we were cash flow positive. We generated $2.3 million in cash from operations. Our cash position at the end of Q3 2008 was $3.0 million with a bank debt of $6.0 million and our cash position at the end of fourth quarter 2008 was $5.3 million with a bank debt constant at $6.0 million. The goals we set ourselves for 2008 were to generate cash, to pay off AMS and return the Company to a solid financial footing. We have achieved these goals.

Now I'd like to turn my attention to the evolution of our financial model. I wanted to share how our financial model had evolved over 2008 to give more transparency into the Company and to allow you to understand the progress we've made. Using 2008 revenues as a baseline to look at some of the key metrics in terms of percentage of revenues, gross margins. Previously, I highlighted three significant categories of expenses incurred during 2008 that we see trending lower. Amortization of intangibles. We expect a minimal amount of expense to go to COGS going forward. Previously capitalized manufacturing overhead expensed as a consequence of reducing inventory levels, see this trending lower as inventories approach steady state.

Inventory reserves, we see this trending lower as inventories approach steady state. Therefore, we see gross margins in the range of 45% to 50%. Operating expenses, we see in the range of 40% to 45% and therefore, income before tax, between the breakeven to 10%. This would result in EBITDA of between 3% and 13%. My EBITDA here includes adding back FAS 123 non-cash stock compensation costs. This is unintended to be guidance for 2009 because of the lack of visibility over 2009 revenues. Goal is to help you understand the evolution we've gone through in 2008. With that said, let me spend a couple minutes sharing our short term strategy for the recession ahead of us.

The impact on the global recession reduces our visibility over 2009 revenues. However, we believe we will successfully navigate through the recession because our cash, our focus on cash management and our alignment of operating expenses with revenues in 2008 has prepared us for the recession. In addition, a significant portion of our revenues are recurring and therefore, more dependable. In 2008, recurring revenues from disposables and service amounted to $17 million or 53% of our opthalmology revenues. For aesthetics, service revenues amounted to $7 million or 44% of our aesthetics revenues. In total, $24 million or 50% of our 2008 revenues were from recurring sources. We see ourselves as under control and well positioned to navigate the curves ahead, and we are looking for ways to capitalize on opportunities that may present themselves during the recession. With that, I'll turn it back over to Ted.

I'd like to take this opportunity to share with you our objectives for 2009, and we have four of them this year. One is to continue to manage for positive cash flow and to continue to build our financial strength. Second is to continue to monitor each activity to ensure it is making a direct contribution and invest in those areas which are contributing. Third, to support our organic growth initiatives and fourth, to look for ways to capitalize on opportunities that may present themselves during the recession.

So I am moving now to our long term vision in key strategies. Our long term vision at Iridex, we see Iridex as a vibrant, leading, global medical device company. Our dominant focus is in opthalmology. We are clinically driven and provide value to our customers by contributing towards improved patient outcomes and therefore, create long term value for shareholders.

Our value proposition strategy: Iridex is an established, well recognized brand known for providing a comprehensive, high quality offering of products and services to deliver both traditional and newly validated clinical applications through a number of paths, and I have four of them to share. The first is through delivery devices and these are both disposable instrumentation and durable equipment and visualization systems through energy, laser systems, through position, education that enhances their ability to achieve the best clinical outcomes and through service to maximize the product up times. All of these are reached through our worldwide distribution channels, and we have zero tolerance for products or prophesies if these do not perform or do not add value to our customers. Our growth strategy is a combination of both organic and M&A growth.

Shared first, the organic growth opportunities in opthalmology and we have three initiatives to discuss today. First is to cultivate existing sales channels to drive more disposable revenues. We have been very successful with disposables and we are looking to add more instrumentation to drive more revenue from our existing presence in the operating room. Second is to be more aggressive with equipment sales in existing markets, and existing markets specifically are the glaucoma market and retina market. In the glaucoma market, we're working with doctors to confirm the hypothesis that MicroPulse laser trabeculoplasty, which is our technology, is equivalent to SLT or selective laser trabeculoplasty, which is a competitive technology and the dominant technologies used to perform laser trabeculoplasty today. A laser trabeculoplasty is the primary laser treatment for the treatment of open angle glaucoma. So if this is successful, this allows us to sell our existing laser systems to a broader glaucoma community. We're cautiously optimistic that physicians will purchase our solution in preference to competitive devices because it provides a wider range of applications at a lower cost. In the retina market, the addition of our new product, the IQ 577 yellow laser system provides us with an entry into the multi wavelength market segment and expands our market leadership position in opthalmology into the opthalmology retina market, specifically.

Third, to grow adjacent markets with existing sales channels in product offerings. We are being pulled further into the ENT opportunities by existing demand. We are currently selling a line of disposable ENT probes for otology applications. Servicing the ENT demand has been easy to cover by our existing opthalmology sales force because eye and ear services have historically shared facilities and therefore, are often the same call point. For example, New York Eye And Ear, Massachusetts Eye and Ear, and we're coming out with additional ENT specialized probes to service this marketplace. For strategic M&A opportunities in opthalmology, we're looking for accretive small tuck-in revenue opportunities that have complementary opthalmology products or complementary channels. For the aesthetic strategy, we are maintaining our activities in aesthetics in the aesthetics market because the aesthetics market is contributing by covering direct costs. It helps that about 40% of aesthetics revenues are occurring from service and turning inventory into cash.

We have shifted our sales and marketing positioning from practice expansion, which is an economic cell, to quality and clinical effectiveness, a value cell. And the -- that one emphasizes product performance and patient outcomes. We therefore are increasing our focus in -- on the core market, the market made up of dematologists, vascular, plastic and cosmetic surgeons and decreasing our focus on the non-core markets such as family practice, internal medicine, OB/GYN and medispas, and we're making small incremental investments to support these efforts. We see value in the large worldwide install base which recognizes good products that perform and excellent service. We also have a strong contributing network of field service engineers and we have intellectual property in high powered, solid state laser technology. Given the worldwide economy, we are attentive and continually assessing our position in this marketplace. Lastly, I'd like to summarize our points today. We have achieved our 2008 goals. We are generating cash, we see a 5% to 10% improvement in gross margins going forward, we are focused on opthalmology, we are well positioned to navigate through the recession in 2009 and our long term goal is to grow through organic and complimentary accretive acquisitions. I'd like to now open the call up to questions.

Thank you, sir. Ladies and gentlemen, we'll now begin the question-and-answer session. (Operator Instructions) Our first question comes from the line of Larry Haimovitch with HMTC. Please go ahead.

Good afternoon, gentlemen.

Hey, Larry, how are you?

Good, how are you, Ted?

Thank you.

I think you made a lot of progress in Q4. It was a tough quarter for a lot of companies, and you made some real progress, and there was -- Also, I wanted to say I really appreciate the detail you've gone into here on the call in terms of laying out some of the history this year and last year, more importantly, some of the goals and some of the strategies. That's very helpful. I think perhaps in the past you've been a little bit remiss, and I think that was a good update for us, so thanks for that. There were several things that came up in the calls. Some of them are -- these are little nitty picky things, but Jim, you mentioned capitalizing overhead and that being reversed. Why were you even capitalizing any expenses in the cost of goods in the first place? It's kind of confusing to me. I don't normally think of companies doing that.

The standard cost we use here includes the material and the direct labor. It does not include any overhead -- manufacturing overhead absorption. So to fairly state the value of the inventory on the balance sheet, we go through an exercise to determine the amount of manufacturing overhead that should be capitalized into that inventory. It's just a way of approximating a fully burdened standard cost. In normal situations, if we were at a much more steady state inventory level, it really wouldn't have that much of an impact. It's just been the significant reduction in our inventory levels has resulted in a sizeable movement in the P&L that's worth calling out.

Okay, let's talk about the inventory reductions. That's a significant number. I imagine that had to help some of the cash flow this past year. Talk about that a little bit, what you did, is there more opportunity to ring out cash from inventories, or are we unlikely to see that going forward?

I would say there are two primary focuses, again, consistent with our business segment. I think we did take advantage of bringing down our opthalmology inventory levels to something that I would say is approaching much more of a normal efficiency level. Obviously, we did have to incur the continual purchase of aesthetics inventory for AMS through the first nine months. So that sort of worked against our efforts to bring inventory on the aesthetics side down, if you like. But I would think that there are some efforts to continue to reduce the aesthetics inventory and as Ted mentioned, that's one of the primary contributions we see of the aesthetics business is the opportunity to turn the inventory that we have on hand into cash.

Okay. speaking to cash flow, you did well in the last year. I realize you haven't provided specific guidance to us on revenue or cash flow or earnings this year, which I think is appropriate, but assuming that the business holds itself fairly well, let's talk revenue in the range of, let's call it $45 million. So off some from 2008. Should we expect, Jim, the cash flow to be A, positive? I assume it would be, but A, positive and B, would it be reasonable to expect cash flow generation in the kind of same range as we did in '08? In other words, are there capital expenditures that you might be making that would affect cash, or is there anything else that could have a significant impact on your ability to generate cash?

We're definitely focused on maintaining a cash flow positive situation for the year. I think, as you said, somewhere around the $45 million should allow us to be cash flow positive. The one common denominator, I think, I'm trying to remember your question directly, but as obviously we get the advantage of leveraging some of our inventory reduction to generate cash in 2009 from turning the aesthetics inventory into cash. So we're very much focused on it. I don't know that we'll get exactly as much cash out as we did in '08, because we were able to use a lot more of the inventory that we would going forward, but as I said, definitely looking to be cash flow positive for '09.

I do have some other questions, but I'll jump back in queue.

(Operator Instructions) Our next question is a follow-up from the line of Larry Haimovitch with HMTC. Please go ahead.

I guess I have a private call here, this is great, thanks. So on the aesthetics side, a couple questions. One, what are the strategies, and I think Jim was before your time coming to the Company, was the idea that some of the plant was not being terribly well utilized in Mountain View that bringing the manufacturing in-house and absorbing some of the overhead would help the overall opthalmology business as well. Now obviously, the aesthetics business has shrunk significantly. But have you seen any benefit from that at all, Jim?

I have to admit, I have not spent a lot of time going back through to 2007, so I'm not sure I can speak too definitively on that. Logically, higher production through the existing manufacturing facility should drive efficiencies. The only other point I would make about our overall gross margin is obviously, we do view the aesthetic service as positive, but the aesthetic service business, because we put the expenses relating to the aesthetics department sits above the COGS, so aesthetics service overall would have a lower margin of perhaps just capital and disposable equipment. So you have to just bear in mind that if you like in the mix.

On goodwill, it looks to me from reading the balance sheet that you have eliminated all the goodwill associated with the laser scope acquisition. Is that correct?

That is correct, yes.

And then looking at -- this is,Ted, for you, don't want to leave you out here. Talk a little bit more about the yellow laser. We were all very excited about its potential approval, and it has been approved now. It has not been in the market, I know, very long, but can you speak at all to the reception it's received in the opthalmology community?

We've had a number of lasers out for physician evaluation. It has not passed out of our manufacturing release to market yet. So what we've sent out, our lasers that have been used. the uh, I can, and the -- I can -- the summary of the responses are quite good. I can go over a couple of them if you want me to spend just a moment on those.

We can probably do it privately since --

Overall, very good. There's some advantages. The biggest advantage that they see is that they can get a treatment effect with much lower power than they can with a conventional green laser on the range of 30% to 50% lower. And so -- and very, very excellent visualization. So they're quite pleased.

When was the product approved? I thought approved several months ago.

It is.

And still not shipping. Is there a --

One of the reasons is when we receive some of the comments of what the physicians would like to see in it, when we took it out for their evaluation, one of them was like, we have a power adjust remote foot switch. And they said "Geez, it would be great if I could have a voice confirmation of the power I change it to."

I see.

We said "Ah ha, that would be good to include up front before we launch." So we included that and several other suggestions that were made.

So basically, you had FDA approval. You went out to selected customers, got some feedback, incorporated those feedback and some changes and that product, when it's finished with the new improvements will then reach the market.

That's correct.

Got it. I would assume for '09 that the yellow laser could make a nice contribution.

We're looking forward to it.

Ted, talk a little about competition you're seeing in opthalmology, specifically in the back of the eye where you play. Are you seeing any uptick in technology, in competition at all from any -- any players?

The uptick in technology, of course, is on the high end from OptiMedica.

Yes, are you seeing an impact from them?

I have to say that, we provide a, a work horse product that's broadly used, has broad appeal. This -- they have a very, very high level product. And so we have some crossover and some funds that are used like major centers that are applied to purchase that device as opposed to ours. But overall, we're finding it has not impacted our sales that much, because again, our products perform a wide variety of application in a wide variety of settings, and not just a single setting or as a single set of applications.

Okay, one more question on the call and then I'll jump off and can speak to you guys later. And that is just to make sure I clarify, Jim, I thought you said that about half of the worldwide revenues last year were disposable, recurring or service revenues, is that correct?

For 2008, correct. If you include the aesthetics service components as well.

Right, which I imagine is fairly steady. Close contracts probably continue year-to-year.

Correct

Great. Okay guys, well, I'll catch up with you privately so we don't take the conference call time.

Thank you.

Thank you. (Operator Instructions) Gentlemen, we have no further questions in queue. Please continue.

If that's the case, then I will thank everybody for participating in the call and look forward to share our progress with everybody on the next call. Thank you.

Thank you, sir. Ladies and gentlemen, if you would like to listen to a replay of today's conference, please dial 1-800-405-2236 or 303-590-3000 using the access code of 11127343 followed by the pound key. ACT would like to thank you for your participation. You may now disconnect.