Innovative Solutions and Support Inc (ISSC) 2021 Q2 法說會逐字稿

Good day, and welcome to the Innovative Solutions & Support Second Quarter 2021 Earnings Conference Call and Webcast. (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Mr. Geoffrey Hedrick, Chairman and Chief Executive Officer. Please go ahead, sir.

Good morning. This is Geoff Hedrick. Welcome to our conference call to discuss our performance for the second quarter of fiscal 2021, current business conditions and outlook for the coming year.

Joining me today is Shahram Askarpour, our President; and Rell Winand, our CFO. Before I begin, I'd like Rell to read our safe harbor message. Rell?

Thank you, Geoff, and good morning, everyone. I would remind our listeners that certain matters discussed in the conference call today, including new products and operational and financial results for future periods, are forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially, either better or worse from those discussed, including other risks and uncertainties reflected in our company's 10-K, which is on file with the SEC and other public filings.

Now I'll turn the call back to Geoff.

Thanks, Rell. It was a stronger quarter with revenues up, margins up, cash flow positive and a solid bottom line profitability. In addition to new orders -- in addition, new orders were strong, and we ended up the quarter with sequentially increase in backlog.

Over the past several years, we have implemented a strategy to establish a better balance of OEM and retrofit revenues from a more diversified set of products to reduce volatility and prevent -- and provide a broader foundation for our continued growth. These efforts continue to succeed.

As the pandemic recedes, production contracts are now producing steady, predictable revenues from some of our largest names in aviation, Pilatus, Textron and Boeing. Sales of our patented autothrottle continue to grow. Most recently, we announced that Textron had added our autothrottle as standard equipment to another of their new King Air aircraft, the King Air 260.

In addition, have been shipping into their global network of service centers to retrofit -- for retrofit applications where pandemic has been slowing adoption. In these recent quarterly report, however, Textron indicated they expected the retrofit market to improve and could open a significant market opportunity that is multiple times that of the production market.

The cooperation and relationship with Textron has been very strong and very rewarding. We believe that we could develop additional opportunities across their product portfolio. The success of our ThrustSense technology in general aviation is creating opportunities in other markets, such as the military, air transport and several multi-engine aircraft.

We currently are seeing interest from far beyond King Air. One reason for this interest is that we have the only auto trial with LifeGuard that is easily retrofittable. We -- this is appealing to owner/operators because it means they don't lose revenue and can use their aircraft and loss -- and prevent loss of control.

Currently, the development is in -- currently in development is an autothrottle that will offer customers a simplified solution at lower costs. This will allow us to penetrate the lower end of the market, which is substantially larger than the turboprop that we [see right] now. The same features that we offer in the turboprops we now offer in turbofans or turbojets.

As a result, we are seeing interest from multi-engine aircraft, much bigger airplanes even with poor turboprops. We are -- that they are asking us to supply an autothrottle and we are looking at several military aircraft making the same requests. In addition, the following interest -- in addition to the growing interest to our autothrottle, there remains strong demand for our legacy products.

For instance, cargo conversion upgrade activity remains strong and growing, leading to continued demand for our flat panel display technology. And upgrades to existing systems, such as Synthetic Vision, upgrades to Eclipse and other source of future growth. One of the key advantages to our retrofit is it takes approximately 1/5 of the amount of time to modify an aircraft, meaning that they save hundreds of thousands of dollars in lost revenues from the aircraft.

With the first half of fiscal 2021 now completed, we feel we have made significant progress and are enthusiastic about the opportunities we expect to arise as concerns about air travel and global pandemic begin and continue to fade. While the ongoing global pandemic continues to present its challenges, we remain confident that there are, over the longer term, unique capabilities and unparalleled pricing -- price from performance advantages of our technology will strengthen our hand and our brand globally.

I'd like to turn it over to Rell now for the details of the financials. Rell?

Thank you, Geoff, and thank you all for joining us this morning. Looking at the second quarter, revenues were $5.1 million, up 5.9% from $4.8 million a year ago, primarily due to increased shipments of King Air autothrottle systems to our OEM customer.

Gross margins for the quarter were 56.7%, improving as expected from both 47.5% in the year ago quarter and 52.7% in the previous first quarter. The improvement reflected reduced procurer costs due to product mix, partially offset by higher labor costs. Total operating expenses for the second quarter of fiscal 2021 were $23.4 million, up a margin of 2.1% from a year ago and down 1.8% from the preceding first quarter of fiscal 2021. We continue to emphasize tight operating cost control, and we believe current quarterly operating expense levels will be maintained for the balance of the year.

Research and development expense decreased from the year ago quarter and was primarily the result of a higher proportion of efforts focused upon product development programs that were allocated to cost of sales in the quarter. Research and development expense was almost 14% of quarterly revenues, which is a reflection of our strong commitment to innovation and new product development.

Selling, general and administrative expenses were up 4.6% from the year ago quarter as a result of an increase in payroll-related benefits, partially offset by reduced trade show expense. For the quarter, we generated net income of $609,000, a 39% increase from $438,000 in the year ago quarter. The company remains in a strong financial position with cash on hand of $6 million at March 31, 2021.

Our cash position is net of nearly $20 million of dividends dispersed in the fourth quarter of calendar 2020 bolstered by approximately $600,000 of positive cash flow from operations in the second quarter. We anticipate being operating cash flow positive for the full year. The company is debt-free. Consequently, we believe the company has sufficient cash to fund operations for the foreseeable future.

Now I'd like to turn the call over to Shahram.

Thank you, Rell, and good morning, everyone. The solid financial results that Geoff and Rell described are a testimony to our brand recognition, our business model that focuses on both OEM production and retrofit opportunities, and the diversity and high-quality of our customer base.

This quarter, we saw strong performance in our OEM production contracts, which have generally proven to be less sensitive to the influence of the pandemic. For instance, Textron recently noted that virtually every model of jet and turboprop they have is seeing strong activity. Adding interest in the acquisition of new jets were still largely driven by personal travel, but corporate aviation departments are starting to come alive.

This is not only encouraging news for our Textron business, but also for Pilatus PC-24 business as well. We believe these programs as well as our KC-46 contract with Boeing for the U.S. Air Force to run for several years, offering a stable foundation of predictable recurring revenues from which to build.

Geoff briefly mentioned our development of a more easily retrofitted autothrottle. We are working on a single button, simple operation autothrottle that will lower -- offer lower cost installation. The single button [placed at] a high-resolution OLED display that occupies minimal cockpit space. It can be installed in multiple aircraft with different cockpit layouts and its generic nature will significantly reduce the time and expense of obtaining FAA certification on multiple platforms.

Autothrottle remains a top priority of our research and development budget. The retrofit market is experiencing some weakness as the pandemic curtails travel, while also creating some degree of caution among buyers. Nevertheless, we are having retrofit success in the air cargo market, where the growth of online shopping continues to drive strong cargo conversion activity. Consequently, shipments of flat panel display systems for 75 (sic) [757] and 767 remains robust. With many of over 1,000 operational 757 and 767s still available for cargo conversion, we expect to see our flat panel display business remain strong.

On the military market, as Geoff noted, our KC-46 program remains on track, and we remain optimistic that the air data computer developed for the U.S. Navy can penetrate foreign military markets once limits on international travel and other similar restrictions are lifted. New orders in the second quarter of fiscal 2021 was $7.6 million, and backlog as of March 31, 2021 was $6.7 million, up $2.5 million on a sequential basis from $4.2 million on December 31, 2020.

We continue to aggressively pursue growth opportunities in both the production and retrofit markets. However, as has been previously noted, safety protocols throughout our industry from those at the FAA to those restricting travel to certain countries to individual companies in-person meeting restrictions remain a headwind. As these restrictions are lifted, we believe there is a growing market of owners and operators interested in adopting our autothrottle technology.

Before turning the call back to Geoff, let me quickly note the efforts of our employees to integrate new safety protocols to our standard operating procedures, and how this has enabled us to maintain productivity without jeopardizing their health, safety or well-being.

I'd like to turn the call back to Geoff for some closing remarks.

Thanks, Shahram. The second quarter was another quarter in which we achieved the objectives we believe best builds shareholder value, revenue growth, profitability and positive cash flow. The second half improved sequentially from the first half's solid start during the fiscal year. Backlog also rose. All signs of healthy growing business.

In the second half of calendar 2020, we distributed nearly $20 million in dividends, showing our commitment to rewarding our loyal shareholders. We remain optimistic about Innovative Solutions & Support's future. And we thank you for the ongoing support, encouragement and the audience today.

Operator, please turn us over for questions.

(Operator Instructions) And the first question will come from George Marema with Pareto Ventures.

A couple of things. So I wanted to ask you on the new orders for Q1. Did a lot of this come from the Boeing like sort of the cargo retrofits? Or was it a lot of OEM orders?

Let me have Shahram answer that in specifics. But the distribution generally was more uniform than even we had anticipated. Shahram, can you comment, please?

Sure. Yes. So we received new OEM orders from Textron, Pilatus as well as Boeing. As well as on the cargo market, we had strong retrofit orders.

That's Q2. He said Q1, he meant Q2.

Well, yes, the current quarter. Yes, this quarter.

Then you meant Q2 of '21.

Yes. What's rewarding is the demand at Amazon continues.

Yes. Okay. Yes, I just want to see how heavy it was because I know on the OEM business, like the King Air is they only produced 7 planes in Q1, but that's our seasonal low quarter. It just goes up sharply from here into the fourth quarter. I'm talking about calendar quarters now. But yes, I just want to see the flavor of how the ordering there on how it came.

And then also, I was excited to see in your press release about your new low cost product, which sounds like that is going to address the piston engine market, correct?

Bingo.

I'm sorry, what?

I said bingo. I'm sorry.

Bingo, okay. Yes, okay. That's what I thought, okay.

What we believe is, it turns out, the technology was -- turned out to be ideal. We were able to reduce our costs probably in half or better and produced a simpler, lower cost installations. So we see this as a broad application to a lot of the Textron product lines and also a very easy retrofit. It reduces the retrofit time in less than half.

Wow, okay.

It's cool. It's a very good product. And it's -- yes, it's very nice.

So the new product can also be applied too like the King Air platforms as well?

Yes. You could put it in the King Air. The question is -- look, what it does is it allows you to operate the autothrottle far more simply. There's not a lot of -- there's no setting of numbers or anything else. You push a button on and off basically. So that makes it much simpler to operate. But the real advantage to it is that it will provide a very fast retrofit time.

Yes. Well, I'm also excited about the piston market because, as you know, that's a huge market.

How about the [T-58], they made 8,500 of those, and they still have common problems with [all twins] that we had a solution for. So we think it's going to be a very good product for us and for Textron. And Textron has been remarkably supportive. We're delighted.

And about how long do you think until this becomes available on the market for retrofits and all that?

I just assume that it will be soon.

It will be soon. Okay, okay.

But actual day, I can't. I mean this is an engineering program at the same time. It's pretty much done, actually. We're in plane test now, but like everything, as soon as you give it a date, you know you're going to slip it. So I'm being a little cautious.

But you're thinking 2021, though, it sounds like?

Absolutely. Yes.

Okay. In terms of the retrofits, what is sort of the cadence going on right now? And what do you anticipate? Well, I guess, this new product will change the inflection on that, you predict. But what's the current cadence of the retrofits?

It's really, it's a sort of a steady progression. As more and more people install it, they feel more comfortable with it, et cetera, et cetera, et cetera. But most importantly, remember, autothrottles were always considered -- especially when we got started, people said, what the hell do I need that autopilot, an autothrottle for? I don't need a cruise control. I want to fly my airplane.

Well, our most recent product, which is tied to the one button literally means that you can fly the airplane just like you always did, except it provides a background safety so that you get the effect of FADEC engine and safety controls that have never been seen before. So it's the ideal situation. It's for the pilot that says, "I still want to fly my airplane, but I would like all of our safety features," this does both.

Okay. And how -- and my last question is, in terms of supply chain of getting product to make your product, is that okay right now? Or do you have a lot of problems with that?

You mean trying to get parts?

Yes.

Yes, yes. And look, I've been through this over the years. But I think it will work out. We have a couple of choke points that we were monitoring carefully. But I'm not overly concerned.

Okay. But so far, you've been able to make product and ship product, it sounds like.

Yes. We're doing that now. But remember, we also have inventory in. And so it's not a simple answer, but in general, that's an accurate one.

The next question will come from [Michael Friedrich], investor.

Congratulations on the quarter with the new products. I had a question for you about the turbofan market, right? Are you guys finding that your autothrottles are actually displacing existing FADEC like autothrottles that are on the marketplace?

No, no. You wouldn't replace a FADEC autothrottle. What our autothrottle does is it puts the FADEC attributes like protection against overtemperature, overspeed in a turbofan, overtorque in a turboprop. It provides those safety controls and prevents you from these horrendous damage you can do to a turboprop, easily get $0.5 million worth of damage in literally a couple of seconds. So this prevents that. That's why you have it.

You have it, even more importantly, to prevent loss of control actions where allowing the airplane to get too slow, you lose control and it's catastrophic. And our autothrottle has got a patented feature that prevents that. So those are the strengths of it, but we're not going to replace FADEC. But remember, about 80% of all the engines out there are non-FADEC.

Okay. Okay. And...

Now with the bigger engines, we're obviously not going to go after the big air transport engines because they're all FADEC. But we can provide similar -- a similar operation in a non-FADEC engine.

So you're saying that most existing turbofans are not FADEC?

Most existing turboprops. Now I don't know about turbofans. But I'm going to tell you that it wouldn't surprise me that there is a significant number, if not a high percentage, of turbofans that have -- that are non-FADEC.

Got it. Got it. Another question for you, Geoff, is on the new product, when we're talking about piston planes like Cessna's and whatnot, I know there's a -- there are all different levels of pilot certification, like some people can only fly during the day. Others have to fly -- others have instrumentation approvals and everything. Would the implementation of autothrottle actually help accelerate a pilot's ability to move up that chain?

Actually, we don't look at it that way. I'll tell you how we do look at it. Primarily, the system was conceived to take the workload off of the pilot, which is important. But remember, even though you're taking the workload off of it, you still got to be prepared and capable of managing without the thing operating. So you don't gain a great deal there. Where you do gain, we believe, is a safety feature, which is unique to our technology. We're the only people in the world that provide proportional mitigation of slowing airspeed loss of control.

You only have to look at Addison -- the Addison crash to see what happens to an airplane when it gets too slow. And that's why people are strongly warned against it. In our case, we have something that actually proportionately controls the power on the engines to keep the flight path stable.

Understood. And Geoff, just ballpark, do you have any idea what percentage of the piston market is actually dual props as opposed to just single prop planes?

No. I mean I really cant. I mean it would be -- but I can tell you there's an awful lot of piston twins.

Twins. Right. Okay. And that's where you're more applicable to the twins, correct?

Well, no, we're applicable to everything. I mean the single engines we started with PC-12, and it does a great job there. It manages the airplane in a way that most operators marvel when they see the airplane take off because it sounds like a single when it takes off, whether it's single or twin.

Now it's -- the twin, the advantage we have with the twin is its patented loss of control accident. And nobody's done anything about it for 100 years. The problem existed 100 years ago, nobody had a solution. We did. We finally came up with one. And it hasn't cost a lot. That's the good news.

Yes. You guys certainly cracked the code. Well, that's all I have for you, Geoff. Hopefully, all this mania will get behind us soon and you guys will be back at full speed.

Yes. Well, I appreciate that. Yes. We're working at it. We have a good team. The team works well. I'm proud of them.

This concludes our question-and-answer session as well as our conference call for today. Thank you for attending today's presentation. You may now disconnect.

Thank you, gentlemen.

Thanks. Bye.