NVE Corp (NVEC) 2016 Q3 法說會逐字稿

Good day ladies and gentlemen and welcome to the NVE Corporation third-quarter 2016 earnings conference call.

(Operator Instructions)

As a reminder this call is being recorded. I would now like to introduce Mr. Daniel Baker, President and CEO. Sir, you may begin your conference.

Thank you. Good afternoon and welcome to our conference call for the quarter ended December 31, 2015, the third quarter of fiscal 2016. As always I'm joined by Curt Reynders, our Chief Financial Officer.

This call is being webcast live in being recorded. A replay will be available through our website NVE.com.

After my opening comments, Curt will present a financial review of the quarter. I will cover business items and we'll open the call to questions.

We issued our press release and filed our quarterly report on Form 10-Q in the past hour following the close of market. Links to documents are available through the SEC's website, our website and on twitter.com/NVECorporation.

Comments we may make that relate to future plans, events, financial results or performance are forward-looking statements that are subject to certain risks and uncertainties including among other such factors as uncertainties related to future revenue, risks related to our reliance on several large customers for a significant percentage of revenue, uncertainties related to future dividends and stock repurchases as well as the risk factors listed from time to time in our filings with the SEC including our annual report on Form 10-K for the year ended March 31, 2015. The Company undertakes no obligation to update forward-looking statements we may make.

We're pleased to report a large increase in contract R&D revenue, solid results in strong cash flow for the past quarter despite an expected decrease in product sales. We also announced the dollar a share dividend.

I'll turn it over to Curt to cover details of our financial results.

Thanks, Dan. For the third quarter of fiscal 2016 total revenue decreased 4% due to a 15% decrease in product sales, partially offset by 143% increase in contract R&D revenue.

The decrease in product sales was due to decreased purchased volume by existing customers and a more aggressive pricing strategy in certain markets. The decrease in product sales was consistent with the outlook we have provided on previous calls and we believe our more aggressive pricing, product pricing strategy will help drive long-term growth.

We also faced a challenging global economic environment in the quarter and as we've seen in recent years, seasonally weak product sales late in the calendar year possibly due to ordering patterns or customer vacations and shutdowns. The large increase in R&D revenue was due to new contracts, particularly anti-tamper development contracts.

Gross profit margin remained a strong 75% of revenue for the third quarter of fiscal 2016 compared to 77% in the third quarter of fiscal 2015 despite a less profitable revenue mix. Total expenses decreased 7% for the third quarter of fiscal 2016 compared to the third quarter of fiscal 2015 due to a 24% decrease in SG&A partially offset by a 6% increase in R&D expense. The decrease in SG&A was primarily due to decreased sales commissions.

The increase in R&D expense was planned and discussed on our last call as we increased product development related to Internet of Things end node sensors. We currently expect research and development expense to increase in the fourth quarter from the immediately prior quarter and the fourth quarter of last year as our new programs have a full quarter of expenses. The increase in Company funded R&D along with an increase in customer funded contract R&D should facilitate future growth.

Interest income decreased 16% for the third quarter due to a decrease in interest-bearing marketable securities. As marketable securities mature, we have used some of the proceeds to help fund cash dividends and share repurchases.

Net income for the third quarter was $2.58 million or $0.53 per diluted share compared to $2.79 million, or $0.57 per share for the prior year quarter. For the first nine months of fiscal 2016, total revenue decreased 6% to $21.6 million. The decrease was due to a 14% decrease in product sales, partially offset by a 263% increase in contract R&D.

Gross profit margin decreased to 76% of revenue for the first nine months compared to 80% for the first nine months of fiscal 2015 due to a less profitable revenue mix. Net income decreased 9% to $9.69 million, or $2 per share for the nine months compared to $10.7 million, or $2.20 per share last year. Despite the net income decreased, operating cash flow and free cash flow are up considerably from the prior year.

Cash provided by operating activities increased 10% to $11.9 million in the first nine months compared to $10.8 million for the prior-year period. Free cash flow, which is net cash provided by operating activities less fixed asset purchases, was $11.7 million compared to $10.7 million in the prior year.

We've returned considerably more than our free cash flow, $16.4 million, to our shareholders through cash dividends and stock repurchases so far this fiscal year. Through the first nine months of the fiscal year we paid $14.6 million in dividends and repurchased $1.8 million of stock. We continue to aggressively return cash to shareholders.

This afternoon we announced that our Board declared a quarterly dividend of $1 per share or approximately $4.84 million payable on or about February 29 to shareholders of record as of February 1. That will bring our dividend this fiscal year to approximately $19.4 million.

Now I will turn it over to Dan for his perspective on our business. Dan?

Thanks, Curt. As we've said before our growth strategy is new and improved products in the near term and game changing technology for the long-term.

Contract R&D supports long-term growth with bold new ideas such as biosensors. So I will cover contracts, distribution and product of element.

We were pleased to extend our long-term supply agreement with Sonova AG, formerly known as Phonak AG, through March 31, 2020. Sonova is headquartered in Switzerland and bills itself as the leading manufacturer of innovative hearing care solutions. We filed the agreement with the SEC and it's available on the SEC's website or via our website.

We continued development of biosensors under a contract that runs through June by the US Department of Agriculture. The project titled high throughput salmonella detector focuses on detecting live salmonella organisms in industry relevant large sample volumes faster at lower cost and with comparable accuracy to existing methods. The goal is to improve food safety and this contract could help us develop commercial systems.

The platform can also be used for other pathogens such as E. coli, staph and Listeria. Our principal investigator on the salmonella detector project, Dr. Maria Torija, presented a paper titled GMR-based salmonella detection systems approaching one colony forming unit detection at the MMM-Intermag Conference last week. A colony forming unit usually means a single bacterium such as salmonella which we believe is an important achievable goal with our technology.

This is finding a needle in a haystack. In fact, a salmonella bacterium is 1/10,000 the size of a needle and could be detected in a milliliter of fluid. So this level of detection is equivalent to finding a needle in 35 million cubic feet which might be bigger than the Mall of America. There are links to Dr. Torija's abstract on our Twitter timeline and the R&D papers and presentations page of our website.

Turning to distribution, in the past quarter we added two new distributors, America II and Gemtech to extend our product reach. America II Electronics is number 15 on Global Purchasing's 2015 list of the top 50 distributors. America II gives us more feet on the street and is a savvy player in the high-volume markets which is a key element of our growth strategy.

Gemtech Is based in South Korea and specializes in transceivers which are higher value-added couplers. Asia is a key long-term growth market.

Turning to new products, in the past quarter we introduced a new isolated controller area network transceiver called the IL41050TT. The new product is in response to customer requests. Controller area network markets include cars and car factories but the protocol is also being used in the Internet of Things because of its simplicity.

Also in the past quarter we completed the introduction of our 6,000 volt V series couplers with best-in-class high-voltage performance. We now have a full line of products in the new grade. Applications of the high-voltage couplers include Internet of Things power management.

As we begin 2016 we look back at 2015 as a productive year for product development. Highlights of the past year include as we've just discussed 6 kilovolt high-voltage coupler models for smart grid and medical instrument applications, new angle sensors for energy and resource management, we advanced our biosensor technology and we began development of smart sensor interfaces for Internet of Things end nodes.

We strengthened our intellectual property portfolio with two new patents granted in the past year, one relating to tamper sensing and the other to biosensors. In addition, earlier today we were issued a notice of allowance for a low hysteresis high sensitivity sensor patent.

Now I'd like to open the call for questions. Tricia?

(Operator Instructions) Charles Haff, Craig-Hallum.

Hi, thanks for taking my questions and good evening. I had a question for you on product sales. The $5 million that you did this quarter was a little bit less than I was looking for.

Do you feel like the changes that you've made with the more aggressive pricing strategy and the purchase volume commitments that you have with your customers that this is a good kind of base to look at going forward? Or do you still have some upcoming challenges that will present challenges to your year-over-year comps in that regard?

Charles, yes, this is Dan. We do have some continuing challenges in the semiconductor market but despite those we hope to grow product sales sequentially from here.

We have, as you pointed out we have new products, we have a more aggressive pricing strategy and we have some visibility. So we're optimistic about the future product sales.

Okay. And then in the past you've talked about the backlog that you had in contract R&D and obviously you put in very a impressive performance there. Is your backlog still consistent with where it's been for the past couple of quarters or did that come down this quarter?

We did have some new contracts in the quarter and we also have a strong pipeline of possible contracts. We have some visibility into the next several quarters and we expect to maintain roughly the contract revenue rate we have had so far this fiscal year.

Okay. And you said maintain that rate, Curt, you're referring to the next couple of quarters or what time period are you framing that?

Yes, over the next several quarters.

Okay, great. And then a question for you in operating margins. You came in a little bit better than what I was looking for at about 56%.

I know that has a lot to do with product mix. But would you help us out a little bit to help us forecast operating margins given the product mix that you have going on? Should we expect some maybe further contractions from this 56% level?

Well, this quarter was probably where we've really started to see some of the adjustments from our pricing strategy. So the 56% going forward I think would be a fairly good number.

Okay. So you've had the pricing strategy in place for a couple of quarters now. So this is a good base to use going forward, do you think?

I would think so.

Okay. And then, Dan, I wanted to ask about the USDA program. I always have a little bit of trouble trying to understand the financial implications of that and can you talk about the time frames and where this could go?

I know you've talked about coming, you've had interest from commercial partners on salmonella detection. Just wondering how those are progressing? Just any additional color you could share with us to help us understand the financial implications to the programs that you're working on there.

Sure. Well first we should say that the financial contribution from the program itself and the grant from the contract from the Department of Agriculture is relatively modest. That's not why we do it.

We do it because it allows us to develop the technology and gives us contacts and credibility within the industry. So having a program that's under contract with the Department of Agriculture when the Department of Agriculture is regulating much of the food industry gives us some credibility. So the reaction from potential commercial partners has been very positive.

In fact, as I mentioned Dr. Torija and several of our staff were at a conference last week and there was interest in it there. The contract is scheduled to be completed in June. So our goal is to demonstrate feasibility of high volumes, large sample volumes at higher speeds and with comparable accuracy to existing methods which would be an important milestone.

The products would still have to be customized for a particular end user, a particular food producer in this case. And that will take some time and that's a little bit beyond our control but we're committed to work our end of the program as quickly as possible and get it commercialized as quickly as we can. So the next milestone will be midyear to demonstrate, hopefully demonstrate the goals that we've set out which are to be able to sample, to look for this needle in the haystack I was talking about in the prepared remarks to demonstrate that we can detect a single colony forming unit or very small numbers of bacterium in very large samples.

Okay. And with the very well-publicized pathogen issues that we've had in the food supply, the US food supply at least, do you find that the interest from commercial partners is increasing or holding steady? Or how would you characterize the interest level that you've had in this product?

There's very strong interest and of course it's a bit subjective but it seems to be increasing. As you say there have been some very high profile incidents of food poisoning and pathogens getting into food and the costs of that both in human, in peoples' health and in financial costs and burdens that it places on food producers and food distributors is considerable. So there's a lot of emphasis on ways to detect pathogens, detect them as early as possible to avoid these kinds of recalls that we've seen which of course get very expensive and damage the reputations of the companies that have to make them.

So we have seen a lot of interest in it. And what our devices will do is be able to run larger sample volumes faster which means that we'll be able to detect, more broadly detect any possible contamination because there's lots of places where for contamination to enter and it could be a small number of bacterium in one isolated spot but then they can grow. So we believe this is very important and I'm sure that was partly behind the Department of Agriculture awarding us this contract and we're seeing a lot of interest from potential customers in the food production business.

Okay, yes, it seems like the speed and accuracy is very high relative to the other tools that food producers have. I'm just wondering how long before you think it makes it to the commercial marketplace?

I know that's a difficult question to answer but could this be a back-half fiscal 2017 event or should we be thinking about this more in fiscal 2018? Or just any help that you can give us to frame the timing.

Right. Well, you know we'd like to make it happen as quickly as possible. I guess one way to look at it is this is the Phase 1 program, the one that we talked about with the USDA.

So that will -- that's scheduled to wrap up midyear and then Phase 2 programs can run typically they might run two years. So those would be getting products that are commercializable. But we hope we can do it more quickly but those are the kinds of time frames that one typically looks at in this industry.

Okay, thank you. I will jump back in the queue.

Jon Preizler, RH Capital.

Hi, thanks for taking my questions. I just wanted to know regarding the pricing strategy, potential replacing or taking share from other competitors or are you extending, because of the lower prices expanding the applications for those products?

Well, it's both. There are applications, to the second part of your question, there are applications that are price-sensitive where we have prospective customers who might be using conventional semiconductors or other technology and would like to go to our benefits but would like to take advantage of the benefits of our technology but the economics don't work for them.

So we have a business model now where we can make the economics more attractive. And then also it's -- the strategy is designed to increase our penetration in existing markets.

Thanks. Also if I could follow up, you referred in some of your comments about possible sequential growth from this level in revenues. I was wondering if that's from a higher mix of new products, perhaps some that you mentioned on this call, and/or from a visibility you're seeing in design wins or the like?

It's both. It's new products and that will allow us to grow where we don't have products now or products that are targeted at different submarkets and then growth with our existing products.

We believe that the pricing strategy that we just talked about will help us grow with existing products. And then we've got a number of new products that we talked about on this and previous calls that are seeing some visibility for design wins, for socket wins. And those start out slowly but then they build.

Are any of those for a high-volume products that might be more material if they are successful or are they all kind of more niche products?

No, some are for high-volume products and our products are used in a wide range of applications. We've talked about some of the target applications that medical devices and then in industrial control and process automation end nodes for Internet of Things. Those are the markets where our products are particularly strong and we have an excellent benefit proposition and some of those are very high-volume or relatively high-volume products.

Are you seeing any stability or deterioration in some of the medical device segments that you sell into? I was just hoping for some color there. There's always a lot of noise in the public companies, I'm just trying to figure out how much that affects you guys.

It does affect us. Medical devices is one of our strong markets and we have some large customers that are in those markets and that has been a challenging market. Certain medical device markets as you probably know and some of those companies have reported publicly have been slowing down for a variety of factors and that does affect us and gives us some headwinds.

But these are cyclical businesses. In the long term the demographics are positive. People are getting older, we're getting more and more medical treatments.

There are devices that use our products that can do some remarkable things and really improve people's quality-of-life. So we're proud to be a part of that but it's also a very good business in the long run. But we have to take a little bit longer view of it than quarter to quarter.

And does the consolidation on medical devices affect you guys at all?

There are a lot of factors in the medical device market that have caused it to slow down. But there are of course, as you know there's consolidation, there are regulatory issues, changes in the way healthcare is paid for and devices are reimbursed. But if we step back and look at it, we see it as an excellent market where our devices have convincing benefits and where the demographics and the long-term trends are very favorable.

You gave us some good color on the biosensor program. I was just wondering how you envision you selling into that commercially?

Is that via something that's handheld or fixed base equipment that would be in the food processors or meat processors? If you could give us some more color there, just trying to figure out, understand the TAM in the US and the TAM globally if it's more of a high-priced low-volume item or it can be high-volume as well?

Right. So we've looked at two different ways that our devices would be hooked into the process of food production. One is a continuous mode where there would be food product or food byproduct going by our sensor and it would be monitored in the same way that temperature or pressure or other critical parameters are monitored.

And the other method would be a batch method where they would take simples and they would be analyzed. And both have their pros and cons to each and it depends on the type of food industry and what their needs are.

As far as the second part of your question which related to the business model, these are relatively low volume for the equipment because these are big producers typically and a relatively small number of them, at least when you compare it to say consumer products. But we envision selling equipment and then also selling consumables which would include things like the aptamers which are the artificial antibodies if you will that are critical to these devices and the nanobeads that allow detection by our sensors.

So those are consumables that would allow us to we envision participating in the cost of each test that we would indirectly make some money off of each test. So we see it is a very viable business model but it's not just the equipment.

That's terrific. Obviously you thought through this carefully, it's exciting. Just lastly on prior calls you talked a little about couplers for hybrid electric vehicles and then you spoke about anti-tamper as of today and in the past, how would you handicap some of those products getting to higher volume production?

Well, we see automotive and hybrid electric vehicles in particular as an excellent growth market. The number of sensors in cars is projected to grow rapidly and our parts are smaller, more precise, more rugged and lower power. And those are all things that are important in the automotive market in general and hybrid electric vehicles in particular.

So one of the products that I just mentioned that's brand-new is the new controller area network transceiver which is ideal for hybrid electric vehicles and that's the IL41050TT. And that's in response to customer requests for more reliability than is possible with conventional semiconductors.

So we're working with our distributors and our potential customers to evaluate those products and to see if we can get them into subassemblies, automotive subassemblies as quickly as possible. As I mentioned in the prepared remarks, they have other applications as well such as the Internet of Things and such as automotive factory automation. But we also see in-car applications which I think is what you're referring to as an excellent growth market, potential growth market.

Terrific. Thanks for answering all my questions.

(Operator Instructions) Jeff Bernstein, Cowen Prime advisors.

Hi guys. Just a quick follow-up on the medical devices discussion earlier, can you talk specifically to St. Jude? I don't know if there was a contract that was coming up with them and just wondering what the update is on St. Jude specifically.

Right. So with St. Jude we had an agreement with St. Jude expired. But we've had relationship with them as you know for many years and we expect that to continue with or without a contract.

Got you. Okay. And so was that contract for firm kinds of volumes or pricing indications or something? Is there anything much that changes as a result of sort of being at a more arm's length now?

Well, the contracts have they are a matter of public record but there are a lot of provisions in them. And in general what we've said is that the contracts don't obligate or generally don't obligate up customers to buy particular volumes.

So in that sense they serve a number of needs but guaranteeing purchases may not be one of them. So we view these contracts as important if they are important to our customers but they aren't required for us to sell to them.

Got you. Great. And then just in terms of the product pricing discussion, that was really for products generally where you're looking to proliferate into new markets and applications as opposed to price reductions for current customer applications.

No, it's both. In existing applications we believe it allows us to grow in the long-term and to remain competitive with other technologies and alternatives that our customers may have. So it was a broad strategic initiative that relates to both new products and in some cases some existing products.

Now obviously we're looking at each product and each product line individually to see what the environment is and where the prices makes sense where they are we don't adjust them. If it makes sense to lower prices then we look at it. But overall we looked at a number of prices and made adjustments and I think we'll be seeing the benefits of that.

Great. And then just lastly on the anti-tamper developments, there's some folks out there trying to do things with thin films, addressing things like consumer products and higher volume, lower value items.

I think we talked about things like defense equipment where it would probably be a lot lower volume, a lot higher value. Is there a particular part of that market that we should think about you being focused on?

Well, you're very well informed and you're absolutely right, there are consumer applications and high-volume applications for anti-tamper. We've all seen the effects of cyber theft and the importance of credit card and other identification security. So those are markets that we're looking at.

Those tend to be longer-term markets but we are developing this technology and focusing some of our contract R&D in the anti-tamper space because we see that kind of high-volume potential. And we believe that this technology while as you correctly point out we're in the near-term targeting high-value applications such as the military defense and related equipment and electronics but in the long run we see consumer applications. And those have been part of some of our government contract proposals as well where part of the evaluation process is not just can we help the defense industry and related industries in the near-term but does this technology help in the long run to develop our economy and to make our country stronger.

So those are markets that we're looking at in the long term. In the near-term these products do tend to be very expensive and are used for high-value assets.

Got you. So you can see your way to process technology that would get you down to the costs needed for the high-volume products?

That is the long-term goal, yes.

That's terrific. Thanks very much.

I'm showing no further questions in the queue at this time.

Well, if there are no other questions thank you. We were pleased to report solid results and solid cash flow despite challenges.

We look forward to speaking with you again in early May to report fourth-quarter and full fiscal year results. Thanks again for participating in the call.

Ladies and gentlemen, thank you for participating in today's call. That does conclude the conference.

You may all disconnect. Everyone have a wonderful day.