Northern Technologies International Corp (NTIC) 2020 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Northern Technologies International Corporation Fourth Quarter 2020 Earnings Conference Call and Webcast. (Operator Instructions)

As part of the discussion today, the representatives from NTIC will be making certain forward-looking statements regarding NTIC's future financial and operating results as well as their business plan, objectives and expectations. Please be advised that these forward-looking statements are covered under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. And that the NTIC desires to avail itself of the protections of the safe harbor for these statements.

Please also be advised that actual results could differ materially from those stated or implied by the forward-looking statements due to certain risks and uncertainties, including those described in the NTIC's most recent annual report on Form 10-K, subsequent quarterly reports on Form 10-Q and recent press releases. Please read these reports and other future filings that NTIC will make with the SEC. NTIC disclaims any duty to update or revise its forward-looking statements.

I would now like to hand the conference over to one of your speakers today, Mr. Patrick Lynch, President and CEO. Sir, please go ahead.

Good morning. I'm Patrick Lynch, NTIC's CEO, and I'm here with Matt Wolsfeld, NTIC's CFO. Please note that the financial results for our fourth quarter and full year fiscal 2020 were included in the press release issued earlier this morning, a copy of which is available at ntic.com.

During this call, we will review various key aspects of these financial results as well as provide a brief business update before concluding with a question-and-answer session.

The COVID-19 pandemic had a material impact on our business for a significant portion of fiscal 2020. Since this crisis began, we have focused on safely providing uninterrupted service to our worldwide customers, and I'm proud of our team's efforts and accomplishments during this trying period. Overall, our fourth quarter and full year financial results reflect our ability to navigate the challenging COVID-19 market conditions.

Our experienced management team, which has successfully steered NTIC through multiple market cycles, including the Great Recession of 2008, 2009, has been key to our ability to operate in current market conditions. The lessons learnt during prior periods of unrest, combined with our larger-scale end market diversification and strong balance sheet have provided NTIC with the flexibility to confront current macroeconomic challenges.

Naturally, we also have continued to invest in research and development initiatives that will support our long-term growth and product strategies. Over the near term, however, the pace of our recovery remains uncertain as the waves of the COVID-19 pandemic continue to rock the global economy with several significant European markets reimposing lockdowns this month. As of today's call, NTIC as well as all of its subsidiaries, joint ventures, suppliers and customers are deemed essential businesses and continue to operate.

Furthermore, to date, we have not seen any negative impact to our recent sales trends as a result of recent increases in COVID-19 cases or new pandemic countermeasures, and I am encouraged by the sequential quarterly improvement in sales we experienced in the fourth quarter of fiscal 2020 as well as the start of fiscal 2021. We are actively watching all our end markets, engaging with our customers and supporting our joint venture partners. We believe we are well positioned to prevail in the current macroeconomic environment.

So with this overview, let's examine the drivers for the fourth quarter. For the fourth quarter ended August 31, 2020, our total consolidated net sales decreased 25.4% to $10 million as compared to the fourth quarter ended August 31, 2019.

Broken down by business unit, this included a 58.5% decrease in Natur-Tec net sales and a 13.1% decrease in ZERUST Industrial net sales, partially offset by a 53.5% increase in ZERUST oil & gas net sales and a slight increase in net sales from NTIC to its ZERUST joint ventures.

Total net sales by our joint ventures, which we do not consolidate in our financial statements, were $18.5 million for the fiscal 2020 fourth quarter compared to $28.6 million for the same period last fiscal year. This 35.4% decline in joint venture net sales was due primarily to the global COVID-19 pandemic.

Fiscal 2020 net sales by our wholly owned NTIC China subsidiary increased 2.9% to a record $13.4 million despite having endured COVID-19 shutdowns during the fiscal year. NTIC China sales for the fiscal 2020 fourth quarter increased 2.7% over the prior fiscal year period to $3.4 million, and were up 11.2% from the fiscal 2020 third quarter. We believe that this encouraging sequential quarterly improvement in NTIC China sales is due to new customer development efforts and our successful expansion into nonautomotive markets. We remain optimistic about our long-term potential within this large and growing market.

For fiscal 2020, ZERUST oil & gas net sales increased 2% compared to last fiscal year. For the fourth quarter, ZERUST oil & gas net sales were $770,000, an increase of 53.5% over the prior fiscal year period, and were up 81.4% from the fiscal 2020 third quarter.

Fourth quarter fiscal 2020 oil & gas sales benefited from a marked decrease in travel restrictions, which allowed us to deliver and install our solutions at our customers' job sites. In addition, we have successfully grown sales of our ZERUST oil & gas pipeline and storage tank solutions to new and existing customers, and we believe we are well positioned for additional opportunities within the oil & gas market in fiscal 2021 and beyond.

Now turning to our Natur-Tec bioplastics business. The COVID pandemic has continued to have a material negative impact on college campuses, stadiums, arenas, restaurants and corporate office complexes, which were all large users of bioplastics. These are also expected to be some of the last businesses to reopen, and many of these institutions have still not announced reopening plans.

Furthermore, production across the apparel industry has declined sharply, further decreasing demand for our Natur-Tec bioplastic bags, which had become an important part of numerous sustainability initiatives within this industry. As a result, fourth quarter fiscal 2020 Natur-Tec sales were $1.9 million, a 58.5% decline over the prior period -- the prior year period, and a decline of 21.4% from the fiscal 2020 third quarter.

We expect market conditions for our bioplastic solutions will remain soft in the near term. However, as the world recovers from the COVID-19 pandemic, we believe the bioplastics market will rebound in the coming quarters and long-term trends within this market are extremely encouraging.

Now moving forward into fiscal 2021, we currently believe that while our first quarter financial results will noticeably improve from fourth quarter levels, we expect our net sales and earnings will still likely come in below what they were during the same period last fiscal year. Furthermore, since we continue to benefit from our product and end market diversification strategies in the fourth quarter, we intend to continue to partially offset market weakness by gaining new customers, developing new applications of our corrosion prevention solutions and expanding into new market segments.

While the timing and pace of the global economic recovery remain uncertain, we continue to follow our long-term operating strategy, maintain a strong balance sheet and invest in our technologies, people and global platform.

Finally, on behalf of the entire leadership team, I'd like to use this opportunity to thank all of our global employees and joint venture partners for their hard work and dedication throughout this crisis.

With this overview, let me now turn the call over to Matt Wolsfeld to summarize our financial results for fourth quarter and full year fiscal 2020.

Thanks, Patrick. Compared to the prior fiscal year period, NTIC's consolidated net sales decreased 14.5% in fiscal 2020 and declined 25.4% in the fiscal 2020 fourth quarter because of the trends Patrick reviewed in his prepared remarks. A 35.4% decline in fourth quarter sales across our global joint ventures impacted joint venture operating income, which decreased 37% for the fiscal 2020 fourth quarter compared to the prior year period. For fiscal 2020, sales across our global joint ventures declined 31.4%, and impacted joint venture operating income, which decreased by 31.4% or by $4.1 million compared to the prior fiscal year period.

As expected, total operating expenses improved during the fourth quarter and totaled $5.3 million compared to $6.3 million for the same period last year, and $5.7 million for the fiscal 2020 third quarter. The 15.3% fourth quarter year-over-year decrease was primarily due to lower selling, general and administrative expenses incurred during the quarter. We remained focused on proactively controlling expenses and total operating expenses declined 3.4% in fiscal 2020 compared to the prior fiscal year period.

During the fiscal 2020 fourth quarter, net income was impacted by a onetime $1.6 million noncash adjustment to the company's deferred tax asset, which was required to remove the net U.S. deferred tax asset from NTIC's balance sheet. As a result, NTIC reported a net loss attributable to NTIC of $1.8 million or a loss of $0.19 per diluted share for the fiscal 2020 fourth quarter compared to a net income of $829,000 or $0.09 per diluted share for the fiscal 2019 fourth quarter.

For the year, NTIC reported a loss of $1.3 million or $0.15 per diluted share compared to last year's net income of $5.2 million or $0.55 per diluted share. As of August 31, 2020, working capital was $27.1 million, including $6.4 million in cash and cash equivalents and $5.5 million of available-for-sale securities compared to $25.5 million, including $5.9 million in cash and cash equivalents and $3.6 million in available-for-sale securities as of August 31, 2019.

As of August 31, 2020, the company had $24.1 million of investments in joint ventures, of which nearly 59% or $14 million is in cash, with remaining balance primarily invested in working capital.

With this overview, Patrick and I are happy to take your questions.

(Operator Instructions) It looks like our first question is going to come from the line of Tim Clarkson with Van Clemens.

Good quarter in comparison to where we've done. So just a couple of questions. First one for Matt. Can you kind of explain in plain English, what the catalyst was for this write-down of the tax deferral?

Sure. I mean it's kind of important to point out because without the write-off of that 1.6 -- without recording the $1.6 million valuation allowance, our fourth quarter would have been very close to breakeven, which would have been almost a $0.10 improvement over the third quarter. So it kind of -- it certainly skewed things as far as people being able to see the positive trends that we're seeing going from third quarter to fourth quarter now into first quarter.

But basically, what we had is how you -- when we evaluate our deferred tax asset, we need to look back at our profitability in North America specifically over the past 3 years. Because we had losses in North America, and just keep in mind that the income that we show in North America is -- doesn't include the equity income from joint ventures, which is a significant portion of our income. So basically, when you look at that -- when you look back over 3 years, it shows losses and the inability to use that deferred tax asset. It's pure accounting. It's following accounting rules.

And so when we had to go in at the -- at year-end and evaluate the ability to utilize that deferred tax asset that was on our books, when you follow the accounting rules, we showed that we had to set up a full valuation allowance on that $1.6 million. So it doesn't mean that any of the things that made up that $1.6 million, nothing expired. That included research and development costs that have been previously capitalized, net operating loss carryforwards and stock-based comp that were all previously a component of that deferred tax asset.

So what we're looking is that as we monitor our future North American operations as well as any changes to U.S. tax law and things like that, it's altogether likely that in the future, all or a portion of that valuation allowance will be removed in subsequent fiscal years as things turn around. So while we don't like to take onetime charges certainly that -- in fourth quarter right now, that kind of skew things and then potentially several years down the road reverse them. Because of the accounting rules, we are required to do that. But keep in mind, it is noncash.

There are -- we didn't have to pay anything. It's simply just creating a valuation allowance on our balance sheet, but we obviously had to take the expense for it in fourth quarter. So there's certainly much more explanation of that and exactly what makes up. Everything involving our taxes that's going to be in the 10-K, which will be filed tomorrow. So I encourage everybody to read the tax footnote in the 10-K, if they want more explanation on the valuation allowance.

Sure. Okay. In terms of new applications you talked about in the quarterly report, Patrick, can you just give us an idea of where some of the successes are coming from and...

You mean which market sectors or applications?

Yes. Well, applications in both the United States and China without giving away any corporate secrets.

Well, then you make it tricky for me. I would say that the majority of the new applications right now we're finding in China, some in the United States. But I think it would be a little bit imprudent to talk about them right now in this context, if you don't mind.

No, I get it. And then lastly, just again on the compostable stuff, I know it was a rotten quarter for compostable. But just one of the reasons I'm in Northern Tech is because of the socially conscious investing potential here, and there's no question from a vantage point. I know McDonald's has stated that they're committing to converting to compostable packaging in the next 2 to 3 years, and you guys already have a relationship with McDonald's. I mean we actually have a waste basket here at Van Clemens that has compostable items, and we use it every day.

And then lastly, just a point, I know that your compostable materials really are proprietary. I know that you've had some -- even in this COVID environment, you've had some luck with, and you might want to comment about a customer that's using the resin in a machine and it -- in (inaudible) plastic forks and plastic knives, and they came to Northern Tech because of the fact your compostable resins were the only ones accurate enough to not gum up the machines?

Well, yes, that's true. We are currently supplying, and they've increased their orders to us for the resin compounds that they use to make compostable plastic cutlery, particularly because our resin compounds allow the finished products to be produced faster. You can knock [them out of molds] easier and harden quicker while they're curing in the ovens. So we managed to help them make a product that they had tried to do themselves but were unsuccessful and -- after trying to do it on their own for a number of years. So we're very happy with that relationship, and it is growing over time. So we have great expectations for this going forward.

I think it's also -- Tim, I think it's also to point out, specifically with Natur-Tec, that although we're seeing -- we saw a significant decline, obviously, after March of 2020, although sales are down 50-plus percent at this point in time, we've continued to add significant customers, distributors, what have you around the country and in different areas around the world. So we're still continuing to see the rate of customer -- the rate of customers that we're adding to the portfolio increasing. Although the size are down because of what we're seeing, the volumes that are being ordered from existing customers, we're still seeing a net increase in customers so that as we hopefully come out of the COVID situation, I think there's going to be a pretty significant tailwind that we're going to feel from a Natur-Tec standpoint.

And we're also finding new applications during this crisis that for the compostable plastics, particularly in Southeast Asia. So we are seeing some very nice opportunities that we didn't have before that are currently developing.

Our next question comes from the line of Jim Dowling with Jefferies Capital.

Could you give us more color on the trends in all of the segments in September and October? And what you're seeing so far in November?

I mean I can comment -- I mean I can roughly comment without giving you sales. Obviously, given that it's mid-November, we're pretty well into our first quarter and we have a pretty good idea, obviously, of where things ended up from a revenue standpoint in September and October. What I can say is that across the divisions as far as ZERUST Industrial, we've seen a significant pickup in revenue from September, October, November to where we were in fourth quarter.

One of the things that skews our numbers a little bit is that our third quarter numbers had a very, very good March in it, which was actually oddly enough March, while when the pandemic was just starting, it was actually one of our strongest months of the year. So that skewed our third quarter revenue numbers a little bit higher than where they were if you just look at the trends going from April and continuing through today.

But what we're seeing is that order levels are now starting to rebound back up in September, October, November, back to being very close to pre-COVID numbers in North America. So we're single-digit percentages behind where we were -- at least we're trending right now with single-digit percentages behind where we were in the first quarter last year.

Natur-Tec still remains further behind, as we talked about. Their revenues look like they're improving from where they were in fourth quarter, but they're not back up close to where they were from a pre-COVID level. As we kind of talked about recently in the call, they're going to be one of the slower groups that we have as far as how they rebound. And that's going to be the Natur-Tec product line in North America, in India and in China. It's just going to be slower to rebound than what we're seeing from an industrial standpoint, given the use of the products.

Similarly from an oil & gas standpoint, oil & gas has had a strong -- compared to first quarter last year, a strong show in the first couple of months of the year. So all in all, if you look at the growth that we saw from third quarter to fourth quarter as a total company, it was only up about 2%. Expectations are that kind of going forward from fourth quarter to first quarter, you're going to see closer to a 20% sequential growth from quarters.

Just one follow-up question. Is it -- are you able to forecast that the oil & gas sector for you will become less lumpy?

I would love to be able to forecast it less lumpy. The problem that we run into is that the size of the projects that we work on for oil & gas are significantly bigger than the average order sizes that we see for Natur-Tec or for ZERUST. And so we tend to have orders come in that -- one order comes in that's $80,000. Another order comes in that's $125,000. It just lends itself to being more lumpy.

I think that -- I think what you're going to end up seeing is that as the oil & gas business grows, meaning 18 to 24 months from now as we establish a base of business with customers and repeat orders, that's when things are going to be less lumpy. So I think everybody from an oil & gas standpoint is more interested in when are we going to see a significant increase in contribution coming from oil & gas. It's not when are you going to go from total sales of $3 million to $4 million, it's more when are we going to see some significant contribution to the overall total company sales. So I think when we see that and when oil & gas becomes a significant contributor, that's when it's going to be less lumpy.

(Operator Instructions) And our next question comes from the line of Gus Richard with Northland.

In terms of the Natur-Tec, can you just talk a little bit about the declines in the garment bags versus cutlery? And sort of which ones have been more impactful to the revenue line?

Well, you're talking about different markets. And the cutlery is more important to our sales in North America, while the packaging for the garment industry is all in Southeast Asia. And certainly, since the pandemic with the closure of shopping malls, et cetera, the consumption of new apparel has gone down significantly. Obviously, once the markets recover or once we are opening up our economies, we expect those sales to increase again significantly.

The same thing with the cutlery and the waste liners. As I mentioned earlier in my prepared remarks, the primary sales there were to sports arenas, stadiums, large college cafeterias and large corporate cafeterias and foodservice centers. And since a lot of these arenas and sporting venues, and college campuses were closed or some of them remain closed, that's what's holding back our recovery of those particular sales. In the meantime, we are, as I mentioned, also finding new applications that are -- in this pandemic, which are showing great promise, but it's going to take us some time to develop those, to ramp up and significantly expand into those new applications.

Got it. And is there any opportunity in, say, e-commerce and making those -- that packaging more sustainable?

Making -- oh, you mean like the...

Amazon.

Like Amazon?

Yes.

Yes. We're in conversations with those with packaging companies who are looking into doing something like that, but it's a little bit early in terms of -- particularly regulation is an issue for us there. Because at least in that industry, they haven't quite come to terms as to what they want in terms of sustainable packaging. If you -- I mean if you're experienced with Amazon, for example, the packaging varies every day when you get your package delivered. And so they haven't come up with a -- I'm looking for the word, a standard of any kind. Yes.

Got it. And then are you seeing any competition from PHA versus PLA?

At this time, we're not. I mean at this point in time, the base resins that NTIC are utilizing were not using PHA. Natur-Tec is base resin agnostic. At some point in time, we could potentially utilize PHA, and it's something that we're considering. But at this point in time, we're not seeing either competition from it and we're not currently utilizing it.

Is that basically a cost decision or a product quality decision?

I think given kind of at least for us as far as me hearing about it, PHA being relatively new, I know that we've been utilizing PLA for a long time. So to change resins, I'm guessing would take a certain amount of research, certain amount of development to get there. I believe the price points on PHA are higher at this point in time than PLA as well.

And our next question comes from the line of Joe Vidich with Manalapan Oracle Advisers.

I was wondering, you guys had ramped up your expenses in India. And I was just wondering what the status of your operations are there?

As far as the ramping up of expenses in India, one of the main things that we've done in India is we're trying to make that more of a center for Asia to be able to provide goods for that region. And so during the past year, we invested in certain equipment, certain extrusion equipment, certain general expenses to make that a key base of operations, especially given the issues that we were seeing with the Chinese tariffs and what have you.

So we have a -- we see that market in Southeast Asia, whether it's India, Pakistan, Sri Lanka, Bangladesh, China as being pretty key to the overall Natur-Tec growth. I mean I can say that when I look at the increased revenues that we're seeing at Natur-Tec in China, it's pretty clear that the overall markets and applicability of our products to be able to solve some of these larger sustainability initiatives and add to that what these companies are doing, that's a very big market for us. So that's why we're investing in India and in that region.

I'm showing no further questions at this time. And I would like to turn the conference back over to Patrick Lynch for any further remarks.

I'd like to thank everyone for participating today and for your interest in NTIC. Have a great day. Thank you very much.

Ladies and gentlemen, this does conclude today's program. You may all disconnect. Everyone, have a great day.