Pro-Dex Inc (PDEX) 2011 Q2 法說會逐字稿

Greetings and welcome to the Pro-Dex second quarter 2011 earnings results conference call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator instructions). As a reminder, this conference is being recorded.

Please note that the comments made on this call may include statements that are forward-looking within the meaning of the securities laws. These forward-looking statements may include, without limitation, statements related to anticipate industry trends, the Company's plans, products, perspectives and strategies both preliminary and projected. Actual results or trends could differ materially. We undertake no obligation to revise or publicly release the results of any revision to the forward-looking statements in light of new information or future events. For more information, please refer to the risk factors discussed in the Company's Form 10-K for the year ended June 30, 2010, and the Form 8-K filed with the SEC today, along with the attached press release. Copies can be obtained from the SEC or by visiting our website at www.Pro-Dex.com.

It is now my pleasure to introduce your host, Mr. Mark P. Murphy, CEO of Pro-Dex. Thank you. Mr. Murphy, you may begin.

Thank you, Joe, and thank you all for joining us to review Pro-Dex's results for our second quarter and six months ended December 31, 2011 -- 2010, excuse me. In today's call Hal Hurwitz, our CFO, will provide us with us with a synopsis of our operating results, after which I will comment on various aspects of the Company and how those results were produced. Then, as Joe mentioned, we will open up the call to your questions. So let's get started with Hal.

Thank you, Mark. Sales for the quarter ended December 31, 2010 increased 8% to $6.2 million from $5.7 million for the corresponding quarter in 2009, resulting primarily from growth in sales of the Company's medical device products to its largest customer and from growth in sales of dental products.

For the six months ended December 31, 2010, sales increased 6% to $12 million from $11.3 million for the corresponding period in 2009, resulting from growth in sales of the Company's medical device and motion control products. Accompanying these sales increases was a shift in the mix of our business toward more profitable products which, along with cost reductions, had the combined result of improving gross margin for the 2010 quarter to 39% as compared to 35% in the 2009 quarter. Similarly, for the six months ended December 31, 2010, gross margin improved to 38% as compared to 34% for the corresponding six-month period in 2009.

Total operating expenses were relatively unchanged in both the quarter and six months ended December 31, 2010, from their comparative periods in 2009. For each of the quarters ended December 31, 2010 and 2009, operating expenses were $1.9 million. For the six months ended December 31, 2010, operating expenses were $3.6 million as compared to $3.5 million in the corresponding period of 2009.

The effect of increased sales, the improved gross margins and controlled operating expenses resulted in appreciably higher operating income, which increased 333% in the quarter ended December 31, 2010, to $571,000 compared to $132,000 in the 2009 quarter. Similarly, for the six months ended December 31, 2010, operating income increased 165% to $977,000 compared to $369,000 in the corresponding 2009 six-month period.

That income for the 2010 quarter was $401,000, or $0.12 per fully diluted share, a 31% decrease from net income of $580,000 or $0.18 per fully diluted share in the corresponding 2009 quarter, which included recognition of deferred tax credits of $499,000. For the six months ended December 31, 2010, net income was $743,000, a decrease of 3% from net income of $763,000 for the corresponding period in 2009, which also included recognition of deferred tax credits amounting to $494,000.

The 2009 deferred tax credits were attributable to income tax benefits recognized in 2009 resulting from utilization of net operating loss carry overs.

In the six months ended December 31, 2010, we used $58,000 of cash for operations as compared to the corresponding period of 2009, in which we generated operating cash of $971,000. A primary driver in this operating cash comparison is that in the first six months of fiscal year 2010 we grew -- I'm sorry, it should be 2011 -- we grew our inventory balance by $678,000 while, during the same period of fiscal year 2010, inventories decreased by $148,000.

This fiscal year 2011 increase in inventories is in response to customer orders on hand.

Cash on hand at December 31, 2010 was $2 million as compared to the $3.8 million with which we began this fiscal year. The decrease was due in part to the inventory increase described previously but was due primarily to our payment in September 2010 of the remaining $1.5 million balance due on the mortgage collateralized by our Carson City property, which fully retired this debt.

While on the subject of cash, I am pleased to comment on our new credit facility with Union Bank, which replaces our previous Wells Fargo Bank credit facility. The Union Bank facility consists of three elements -- first, a revolving credit line of up to $1.5 million based on eligible accounts receivable and inventories; second, a non-revolving credit line of up to $350,000 for the acquisition of equipment which will convert to a three-year term loan; and, third, a 3.5 year term loan that replaces the previously existing loan with Wells Fargo Bank. We look forward to working with Union Bank in the context of this new facility that gives us expanded credit facility.

As of December 31, 2010, and our backlog stood at $10.5 million, which is at the midpoint of our historical operating backlog range of $9 million to $12 million. With that, I will turn the call back over to Mark for his review and outlook comments.

Thank you, Hal. I will first focus on the operating engine of the Company and then comment on our strategic objectives. Our medical device products continued to perform well with year-over-year sales up 8% for the quarter ended December 31, 2010, and up 6% for the six months that ended, due in part to revenue generating repair orders placed by our largest customer. Gross margins also improved due to favorable shifts in product mix and to cost reductions.

Similarly, motion control sales posted year-over-year increases of 10% for the quarter and 50% for the six months ended December 31, 2010, as compared with the corresponding 2009 periods. These revenues are now stabilizing as we have recovered to pre-recession sales levels.

Our motor sales showed improvement for the quarter ended December 31, 2010, posting a year-over-year 4% increase over the corresponding 2009 quarter. This improvement partially compensated for a sluggish first quarter and resulted in a decrease of 4% in sales for the six months ended December 31, 2010, as compared to the 2009 six-month period.

Operating expenses continue to be held in check. For the quarter ended December 31, 2010, recurring operating expenses were unchanged from the corresponding period in 2009. For the six months ended December 31, operating expenses increased 4% from the 2009 period, reflecting the targeted investments we made in marketing, as we have discussed in previous quarters.

The combination of increased sales, improved margins and controlled operating expenses resulted in a 333% increase for the quarter ending December 31, 2010, and 155% for the six months that ended. Looking forward, let me comment on our initiatives to identify and secure new business.

First, with the backlog at December 31, 2010 at $10.5 million, as Hal mentioned, exactly at our historical midpoint, the immediate outlook remains positive. In terms of opening up the aperture from strictly custom engineered products to fully leveraging our medical device manufacturing capability, we have a few positive early data points.

First, our quality systems and manufacturing processes have recently been reviewed by one of the largest medical device OEMs in the country and found to be at the very top end of its existing supplier base. That OEM has recently placed an initial, albeit modest, contract manufacturing order with us which we believe represents a growing future opportunity.

Second, we are currently working with another large US medical device OEM to support their development and manufacturing needs for certain components of a product they plan to release in the late calendar year 2011. That relationship also resulted in a small order being placed with us last month.

Third, earlier this month one of our existing customers, another large medical device OEM, decided to incorporate a product they purchased from us into their newly released surgical instrument set, doubling our sales of that product of an annualized basis. In addition, we are working with them on the possibility of manufacturing the consumable business associated with that product.

In our legacy medical business, we are in conversations with two large medical device OEMs regarding the potential development of new products for them. While very early in the conversation stage, these represent new development efforts which were virtually nonexistent six to 12 months ago.

Our Beaverton operation continues to identify new motion control prospects in the life science arena to further diversify our reliance on the semiconductor segment. All of these represent relatively small opportunities currently, with none of these revenues yet reflected in our financials. They do represent movement in the right direction. They represent a year of planting seeds, expanding our offering, gaining credibility in the new market space and building relationships.

To be sure, this progress is but a first step in pursuit of the much larger strategic objective on which our leadership team remains focused. Our search for the VP of sales continues as one of the key elements of this strategy. Again, I invite you to visit our new website, where you will find an array of marketing materials, including brochures, videos, articles we have authored, case studies and product overviews.

We will now open the phone lines to answer any questions you may have.

(Operator instructions) Ben Sexson, First Wilshire Securities Management.

HI, actually, this is Scott here with Ben. Good quarter. Can you talk about, on the -- it looks like the sales mix, according to Q, was similar between the medical, dental and so on. But was there anything exceptional, large order that happened to coincide with that quarter or anything sort of one-time that might account also for the gross margin improvement?

In this particular quarter, in the medical sector, the large order was from our largest customer and it was more, actually, in the repair side of the house. It was not a single order, but there was a disproportionately large amount of repairs that were revenue generating repairs -- not warranty, but out-of-warranty repairs. So that -- if there was one item that one could point to in the second quarter, it would be that.

And just going on to cash flow, is there anything you could talk about in terms of CapEx for the balance of the year? It's been pretty small lightly.

CapEx has been small year to date. There are the normal items on the agenda that we anticipate for the balance of the year, but nothing of a really large variety. We do watch our CapEx, and we make those investments in equipment when we absolutely need to. So it will continue to be measured.

I think one of the things that we are open to, Scott, is as our opened-up value proposition emerges, if that calls for a particular capability we don't have, particular type of machining or process capability, then once we have sufficient proof that that would serve to expedite that new value proposition, we will make those investments.

And one of the things that Hal did with the Union Bank line is to make sure that it provided for that. So, while we don't have anything right now that says, other than the normal kind of recurring small things, I would say we are extraordinarily opportunistic and open-minded to make CapEx investments in any area that would better serve and accelerate the new opened-up aperture.

And just staying with cash flow, if you could talk a little bit about the increase in inventories and decrease in accounts payable, just whether this was just a timing issue, or kind of just talk about the inventory level, where it is now.

Yes, and it was a timing issue. In that cycle of ordering inventory in response to orders, paying for it, selling it and collecting it, December 31 hit pretty much three-quarters of the way through that cycle. So, as a result, what you still saw were relatively elevated inventory levels, but the fact that we had already paid the vendors for the inventory.

What I would emphasize in saying that is that the inventory buildup was in response to firm orders.

Well, thank you, good quarter.

(Operator instructions) Ben Sexson, First Wilshire Securities Management.

I had a question -- I was just wondering if you could elaborate a little bit more on these contract manufacturing from these large medical device OEMs. What sort of devices are we talking about, and what is the nature of these small orders?

The devices that we are talking about are typically surgical instrumentation of some type. And as in -- some of it is still relative to power, but some of it is relative to manual instrumentation. And the general type of product is either just the precision machined product or a precision machined product with some assembly required, some light assembly. And they are extremely small and initial orders. The main announcement or information or news that I'm trying to shed some light on is that there's a stage at which we say, hey, we want to get into this new business and look more at contract manufacturing, and then there's a process that takes six to 12 months of qualifications, etc. And you wonder, is there going to be light at the end of this one if they find out that we are good at what we do. And then there's a test P.O. where they give you a little bit and say, well, let's cut your teeth on this. And that's where we are.

There's no news at this point to say it has worked, you know, we've got proof in the pudding. It's just that we continue to step along a very long process. But it's also a very deep process; it's not the kind of thing that you -- that any -- the barriers to entry are pretty high if it takes you six to nine months of qualification before you can get a small P.O. So it's our objective to continue to do well and move up that scale, and maybe in three to six more months have something to say that's substantive to the financial impact.

I see. So your product development is going to take -- when are they expecting kind of a first draft?

Well, when we talk about contract manufacturing, we are specifically talking about things that they have already designed and they give us a print and say, will you make this for us? So the first large medical OEM, the P.O. is something that would be deliverable in six or eight weeks. And, while it required a little bit of process development on our part, it required no product development whatsoever.

That's what I mean. It's a short turnaround?

Correct, and that is the whole purpose for opening up the aperture, is to get things that can convert into revenue inside of a few months, as opposed to our more traditional 24-month cycle of on the back end of an entire product development and qualification.

I see. And are these -- are you taking business away from other contract manufacturers, or were these OEMs doing it in-house? Or what is the proposition, value proposition for them, using you?

I think at this point, it's a vendor shift from -- and it's not typically a vendor shift made based on price; it's a vendor shift made on quality systems and comfort that the vendor is in fact a medical device certified vendor, as opposed to maybe a legacy machine shop that has been doing the products in the past.

Okay, great, thanks a lot for your time, have a good afternoon.

There are no further questions in queue. I'd like to turn the call back over to management for closing remarks.

Okay. Thank you, Joe, and thank you, everyone, for joining us. We appreciate your participation in today's call and wish you a great rest of the day. Bye-bye.

This concludes the teleconference. You may disconnect your lines. Thank you for your participation.