StableX Technologies Inc (SBLX) 2008 Q3 法說會逐字稿

Welcome to WPCS third-quarter fiscal year 2008 earnings conference call. Your host for the call is Andy Hidalgo, CEO of WPCS International Incorporated. For the benefit of our conference call participants there will be a question-and-answer session after Mr. Adolfo's overview.

Hello, everyone. This is Andrew Hidalgo, CEO of WPCS International, and I would like to welcome all the participants to our third-quarter fiscal year 2008 investor conference call. Today I would like to discuss our third-quarter financial performance, our fourth-quarter expectations, economic outlook and provide an update on our strategic initiatives. Let's begin with the results for the third quarter.

From a revenue perspective, WPCS achieved $24.8 million. The revenue produced was an increase of approximately 37% from the same period a year ago. From an earnings perspective we achieved approximately $380,000 in net income or $0.05 per diluted share. The consolidated third-quarter gross margin was 27%.

For the third quarter the revenue and earnings achieved was below analysts' expectations. The third quarter some of our subsidiaries were adversely affected by significant project delays and competitive bidding pressure. However, I would like to emphasize that the third-quarter results do not indicate that there was a downturn in our business. As of January 31, 2008, the WPCS backlog as an all-time of approximately $67 million, and the bid list is approximately $129 million with margin integrity. This is an absolute indication that our business remains healthy.

The project delays were caused by weather and design engineering changes. It's important to note that the revenue is not lost, it's just postponed. And these delays are not caused by WPCS as we're waiting to complete our project assignments as subcontractors for these major projects. Some of these project will be recognized in the fourth quarter, and some will be recognized in fiscal year 2009.

In regards to the few subsidiaries that are dealing with competitive pressures, the management team is addressing the lack of performance with expense cuts and an ongoing transition of their services to the more opportunistic markets that we serve with other subsidiaries. We feel confident that their results will improve in the near future. Although this quarter disrupts our momentum, we remain very encouraged that we will have a relatively strong fourth quarter and a solid fiscal year 2009.

Our SG&A expenses were approximately 23% of revenue, which is up 6% from the previous quarter. The higher SG&A expenses were primarily attributable to labor costs that couldn't be charged to projects due to the delays I talked about. The higher SG&A expenses were a principal contributor to diminished profitability for the third quarter. However, as labor costs get charged to the appropriate projects going forward and revenue gets recognized accordingly, SG&A expenses as a percentage of revenue is expected to drop back to our historical range of 17% to 19%.

The specialty communications systems sector represented approximately 89% of our revenue, and the wireless infrastructure sector represented the other 11%. This has become a consistent theme as we focus on higher-margin specialty communications systems business segment.

WPCS continues to maintain a healthy balance sheet with approximately $8 million in cash and $27 million in working capital. Also the Company has $30 million in net tangible asset value. Year to date through three quarters ended January 31, 2008 WPCS has achieved approximately $75 million in revenue, $3.2 million in net income and $0.40 in earnings per share.

As previously stated in a press release, based on the third-quarter results, we will need to revise our fiscal year 2008 guidance downward from $107 million in revenue and $6.9 million in net income to $106 million in revenue and $5 million in net income. This will adjust our earnings per share estimates from $0.88 to $0.62 for the year.

For the fourth quarter we're projecting approximately $31 million in revenue and $1.8 million in net income and an estimated $0.22 in earnings per share. We haven't provided guidance for fiscal year 2009, but preliminary indications show a potentially strong year.

From an economic outlook we continue to see abundant opportunities in the markets we serve. As evidenced by our contract awards, public safety and communications infrastructure investment is continuing to occur, and it's being promoted by both Republican and Democratic candidates during this presidential election year. We believe that WPCS could not be better positioned to take advantage of the design/build opportunities in communications infrastructure that continue to escalate.

This is a market we target, and we have continued to actively bid and be awarded projects with margin integrity. In our estimate, this market will be a high-growth sector for at least the next five years domestically and beyond in markets like China and Australia that are expecting significant future GDP growth rates.

As we continue to see our subsidiaries actively bidding and winning contracts in key markets such as public safety and health care, we feel that we have opportunities to stay ahead of any softness in the economy. WPCS has worked diligently over the last several years to establish itself as a premier design/build engineering firm for communications infrastructure. We have raised substantial equity capital, and have made over a dozen acquisitions. We have grown without compromising profitability or taking on much debt.

So here we are today with a strong balance sheet and significant earnings potential going forward. This now means, with our solid foundation as a company, we can truly focus on delivering increased earnings per share by using our strong balance sheet to fund growth.

Internationally, we remain very encouraged with our efforts in Australia and China as these economies remain robust. Our revenue production is still relatively small in these markets, but the organic growth potential is significant, and each acquisition gives us the opportunity to generate increased revenue going forward.

At the present time there's several acquisition candidates that we're exploring in these countries so that we can strengthen our international presence. We anticipate our international revenue will be growing significantly in the year ahead.

Our focus continues to be specialty communications systems, and each subsidiary is developing its ability to provide complete design/build engineering services in this regard. The third quarter saw the addition of two more acquisitions. WPCS has added Empire Electric of West Sacramento, California which was closed November 1; and James Design of Brisbane, Australia which was closed on December 1. We will continue to sponsor organic growth and look for accretive acquisitions, particularly in the international sector.

In summary, the management team is focused on finishing the year with a solid fourth quarter and establishing strong and achievable goals for fiscal year 2009. We remain very encouraged that our model has great value for shareholders.

So at this point I would like to open up the conference call to any questions that any of the participants may have.

(OPERATOR INSTRUCTIONS) Seth Potter.

First, on your acquisition strategy internationally, is there any one market that you're particularly focusing on? Also, how do you plan on funding the strategy going forward? I'll have a few follow-ups after that.

In regards to market, you mean country or particular vertical sectors?

I guess, both. Are you looking -- are there more opportunities in Australia? You mentioned two countries -- Australia and China.

Right. From a country point of view, the two countries are Australia and China. We do have more acquisition candidates in Australia as it's more difficult to find companies in China that meet our financial requirements -- our financial reporting requirements. But we're looking in both countries. Right now, we have probably half a dozen candidates in Australia, so we are focused on Australia.

In regards to the markets that they're serving, we're looking at the low-voltage companies like electrical contractors that have some wireless capability, and we particularly like the transportation sector in Australia for transportation infrastructure similar to the work that we do in northern California with CALTRANS. So that's our focus from a geographic and also from a vertical market perspective.

In regards to funding, our acquisitions going forward are going to be funded in cash, using our balance sheet. We want to be able to make these as accretive as possible, and we want to eliminate the need to issue more shares, either in an equity raise or shares in an acquisition. So we really want to focus on improving the EPS going forward with these future acquisition candidates.

And how much leverage would you be comfortable with? (inaudible) $12 million in availability under your line.

Well, it's all a matter of working capital and being able to service that debt. Right now we carry very little debt on the balance sheet and we do have a $12 million facility with Bank of America. In terms of what we're comfortable in servicing, with $27 million of working capital we can easily service up to $10 million of debt, but I'm not sure whether we'll incur that debt. Obviously, it has to do with what we're buying. If they are accretive, if they add to the working capital and our ability, obviously, to service the debt.

But certainly, we have a lot of debt-service capacity. But we also have a lot of cash on the balance sheet as well. So we just want to be able to utilize that balance sheet that we've built so carefully, use it as positively as possible.

Were there any 10% customers during the quarter? And in the verticals that you're focusing on -- you mentioned public safety, health-care, also I guess alternative energy -- is there any one vertical that's growing faster than the other that you're focusing on?

In answer to your first question, there were no customers that were over 10% in revenue which is good, which gives us the diversity that we've been we looking for. In regards to market, the market that's growing fastest for us is public safety. Those are state and local municipalities for police, fire and emergency services, water treatment services, transportation services. Those areas are being driven by the conversion from analog to digital and improved communications systems. That continues to be a well-funded market, so that's growing very fast.

In terms of potential, going forward, the alternative energy market appears to be another market sector that has a lot of potential for growth. Right now we're just getting started in that marketplace, but that does have a lot of potential for growth. Second to public safety would be health-care. In health-care we continue to see a lot of bids, a lot of activity for hospitals, for hospital infrastructure, wireless communications systems, et cetera.

Amit Dayal.

Just a few follow-ups on the acquisition-related side of the story. So, given what we have on cash and what we have access to from the banks, how big should we kind of think these acquisitions are going to be $4 million, $5 million revenue companies or smaller than that?

Well, in our focus right now we do have a lot of domestic candidates that are available as well, which tend to be larger. They range anywhere from $10 million to $15 million in annual revenue. But our focus has been the Australia and China market because of their GDP expected growth rates. And in that market the size of the companies range anywhere from $3 million in revenue to $10 million in revenue.

So it depends on the ones that take priority, obviously the ones that are financially strong, contributing solidly from an EBIT point of view and also what we can acquire from a valuation perspective. So in Australia they tend to be smaller. Domestically, they tend to be larger.

I think last year we made six acquisitions in calendar year 2007. I think we'll probably make something less this year in terms of numbers of acquisitions, but certainly very profitable acquisitions. I do not know exactly yet what size these acquisitions will be, but most likely in the $3 million to $10 million revenue range.

In terms of multiples, are there big differences between what you potentially might bid for a domestic company versus a company in Australia?

Yes, there is. There's a significant difference. First of all, it is a buyer's market out there because of the economic times. So the multiples have come down both domestically and internationally. But our multiples that we're working on internationally range between 1.5 to 2.5 times EBIT for the valuation, depending on the condition of their balance sheet, which is very favorable for us and very accretive.

Domestically, they're still ranging between 2.5 to 3.5 times multiples on EBIT. So it is much more attractive to acquire businesses right now in the international sector.

Any pressure from the currency side with the US dollar where is right now, are you a bit worried about that? Or is that --?

Well, it's a good question. From a currency -- from a weaker dollar perspective, if you have an acquisition candidate identified internationally, you want to get to the closing as soon as you can. Once the acquisition is closed, it's actually favorable for us because we're conducting operations in the native currency. So everything we do in Australia is in Australian dollars, and that tends to be stronger than the US dollar.

Where it gets a little bit difficult is actually getting to the acquisition closing when you make the proposal. When you agree on a valuation, you do a letter of intent. Obviously, a weakening dollar makes it difficult to get to the closing in any more favorable position. But again, after we're done with the closing, once we assimilate the acquisition, it's very favorable for WPCS.

And should we expect or should we look for anything to close in the fourth quarter of 2008?

Well, we haven't announced anything yet publicly. But we do have candidates, and in all likelihood making an acquisition by the end of our fiscal year, this fiscal year, is probable. I can't give you any exact position on it, but we do have a number of candidates and we do have a favorable situation. So it is conceivable that we'll announced something before the end of the year.

On the margin side, are you seeing better margins for your services in the Australian and the Chinese market versus the US market? How do you see that playing into your future revenue growth?

Certainly, there are much better margins internationally because these companies that we're acquiring are very profitable, and the ones that we're looking at as candidates are extremely profitable. So they are yielding very high gross margin contributions because of the work that they do, the lesser competitive environment, the level of work that's available internationally.

Here domestically we're seeing a bit more competitive pressure on the wireless infrastructure side, and the non-wireless specialty communications side. Obviously because of the economic conditions you see more competitors and more competitors bidding on a particular job is going to drive your gross margin down. So we still feel, with the bids that we have, we've maintained margin integrity, meaning bids are out between 28% and 32% gross margin contribution. We're at 27% gross margin for the year, which is a little bit down from where we want to be. But we feel that what our backlog, with our bid list, that we'll be able to maintain that margin level between 28% and 32% going forward.

Certainly, international is going to contribute to that much more positively. The more international business we can do at this point in time, the better off we'll be with our margins.

If you could repeat the guidance for fiscal 2009, please?

We haven't provided guidance for fiscal year 2009. We won't do that until we get our budgets together, probably in the May-June timeframe. But we feel that fiscal year 2009 is going to be our most successful year going forward.

[David Starkey].

This hasn't been a great year for your shareholders here. You talk about accretive acquisitions and building shareholder value. But we are down 50% or so on our money right now. Is it a good idea to continue with any acquisitions until you can get back in the graces of Wall Street and get the confidence of your shareholders back and put that fourth quarter together that's good and maybe put that first quarter together that's good and pay more attention to what you've got on the books right now?

Your balance sheet has gotten -- just looking at a snapshot of it, your cash is way down right now from where it was a year ago. Your accounts receivable are way up from where they were a year ago, lots of goodwill already on the books right now. It is doesn't look like good reading when you see that. So can you kind of focus on what you've got, make that better and go from there with acquisitions?

Well, we certainly -- certainly, focusing on what we have and assimilating our businesses and trying to emphasize the growth of each of our subsidiaries is an everyday priority. That doesn't change.

When we go forward, looking at acquisitions that we can make to strengthen our organization, we look at -- when you talk about making acquisitions using stock or making acquisitions doing an equity raise, I think that those are not very good tools to use today, certainly. We don't want to create any more shares than we have to.

So I think acquisitions the way we have made them in the past, doing an equity raise and making the acquisition, I think those -- increasing the outstanding shares. I think that method was obviously set the bar where we had to continue generating the kind of earnings necessary to keep that EPS growing. I think that, without question, the times have changed.

We had a quarter that was not where we wanted to be, no doubt about that. We were impacted by these delays and such. And going forward, we want to capitalize on this market segment, which continues to grow in specialty communications. And to be able to keep leadership position, we need to increase our engineering capability, we need to expand our geographic scope, but we need to do it prudently. We don't need to do it by making that earnings per share number more difficult to achieve every quarter.

That's why focusing on what you have might be more prudent than trying to go over the world looking for more.

Well, absolutely. I think we've made a commitment to certain markets that are growing, and what we're doing today is figuring out how to increase that earnings per share target for the next few quarters, and that's our focus right now. We can do that with our existing subsidiaries that we have, and we can do it with adding maybe just a couple more strong acquisitions that give us that engineering capacity that we need to continue a leadership role in this design/build communications infrastructure space.

So I understand what you're saying, and I think there's no doubt that we have to be focused on increasing shareholder value and increasing this earnings per share and not making -- and by the way, all the acquisitions that we've made have been assimilated well and are contributing. We're not looking to scale up to a revenue number that is not manageable. That's not our intention. Our focus is to really build shareholder value over the next twelve months.

Do you expect that accounts receivable number to come down in the fourth quarter?

Well, accounts receivable came up because we made acquisitions. So when you make acquisitions, we inherit their accounts receivable.

But there wasn't -- it seems a greater rise in receivables than you had revenues increase.

Well, we certainly feel that we're managing our DSOs well, and I think that we will have more cash flow contributions in the fourth quarter. But we do have a good working capital number, and we really aim to utilize that working capital to be able to improve cash flow soon.

[Boyd Hines].

I wanted to find out from you how much do you think the Company lost in revenue because of the delays in Q3?

Well, the projects that we added up that were delayed represented a total amount of about $11 million in revenue. They were primarily three major projects. But we wouldn't have recognized all $11 million in that quarter, so easily we would have recognized $3 million to $4 million of that -- of those three projects in the quarter. So we estimate between $3 million and $4 million.

I was looking at your pro forma statement in terms of trying to get a handle on organic growth. Obviously, because of the revenue that flipped this quarter, it's really hard to get a handle on that. What would you estimate your organic growth has been this year to date, given the slippage in revenue?

The organic growth in the third quarter was flat. The organic growth for fiscal year 2008, which ends next month, we anticipate it to be somewhere between 5% to 6% for the year.

And wireless is dragging that down obviously. If you could sort of separate the two divisions, what kind of organic growth are you seeing in specialty?

The organic growth in the specialty is really representing the higher level of growth potential. We anticipate that to be in the 10%. The wireless infrastructure -- you're correct. It is actually flat in wireless infrastructure, and we don't see any expansive organic growth in that particular sector for the next few quarters. It's just a very down market with commercial carriers right now.

In the SG&A, which was quite high for the third-quarter -- obviously, it was much higher because you lost some of that revenue that you're expecting -- were there any one-time expenses in that number, or not?

No, there's no one-time charges at all. Again, SG&A increased substantially because we had labor costs that couldn't be billed to a project. So we ended up incurring that cost on the SG&A line without any corresponding revenue.

One last question about the backlog. I think in the 10-Q it was listed as being $67 million as of January 31. On the press release dated February 29, it was listed as being $69 million.

Yes, $69 million was the number that we had that was unaudited or unreviewed, and once we finalized the numbers it was actually $67 million, not $69 million.

Is that indicative of anything or just an accounting statement?

No, it's just -- when we give a number out originally, the numbers are not officially reviewed yet. We had to come out with a statement about the re-guidance, so we had to do that on the 29 of February. We still hadn't finished the complete review of the quarter with our auditors yet at that point in time. So there's nothing -- it's still a very high number, and there's nothing that was dropped off or anything that fell off the backlog list. It stands at $67 million.

In terms of the outlook for the wireless infrastructure portion of your business, how much lower do you think that's going to drop in terms of percentage of revenue going forward?

Well, it's 11% now and I think it's going to continue to drop. I don't know exactly what number that will be. We forecast fiscal year 2000, I will have a better handle on that. But that market sector is -- it's just a very difficult sector right now to compete in. It's very competitive, and there's not a lot of work.

Our primary carrier that we we're doing work for, Sprint, announced that they were limiting their subcontracts. I don't think it's going to rebound anytime soon. We anticipate, at least for the next year, that's going to be a very flat if not negative growth value for us. We're continuing to emphasize in the specialty communications market, as that is much more abundant with opportunities.

So I'm not sure exactly how that blend will occur, but every acquisition that we're looking at is a specialty communications systems company. So, with each acquisition we make, if we make a few more, that will obviously accentuate the specialty sector and minimize our wireless infrastructure sector.

Are you looking to aggressively attack your costs in that particular segment? It seems like that has been a major drag on your bottom-line margins. Is there any way you can try to restructure the Company to try to get rid of some of those expenses?

You mean expenses in the wireless infrastructure market?

Well, I mean getting out of that industry, yes.

Well, we're eventually -- it is receding for us, and there is maintenance agreements that we have and work that we do for Sprint Nextel and T-Moblie, Clear Wire. We can't abandon that market. There's opportunity for us to make a decent margin with bids or contracts that we're awarded. We do it on a subsidiary-by-subsidiary basis, and the subsidiaries that are specifically involved with wireless infrastructure have downsized their organizations accordingly and not emphasizing that marketplace. So it's occurring through attrition. But we will continue to service the accounts that need to be serviced accordingly.

Was any of the income or the revenue that you lost in the quarter -- was that, any of that in wireless at all, or was that mostly specialty?

Wireless infrastructure?

Yes.

No. The answer is, generally speaking, no, because we had backlog for work that we had done that we had in the process with commercial carriers. Going forward, the bid list that we had had some wireless infrastructure bids on there, maybe approximately $6 million to $8 million of revenue projected. And that is probably -- we're probably considering that dead. But we have enough in bids in other areas that we don't feel it will be impacting for us from a revenue producing point of view.

I'm sorry; the $6 million to $8 million is in the bid list you said?

That's correct.

Not in the backlog?

Yes, not in the backlog, no. Our backlog is secure for wireless infrastructure. And our backlog, really, for wireless infrastructure represents about maybe $3 million to $5 million of revenue. It's not a lot of revenue that is on the backlog for wireless infrastructure. We anticipated that this market would be in a negative downturn, so we try to anticipate -- we didn't realize it would happen so quickly with Sprint Nextel, but it's happened none the less.

It tends to be a difficult industry to operate in. And given the extreme cyclicality, it's very difficult to make a business of it.

Well, with lesser subcontracts available and a lot of subcontractors available, you're going to have more competition, so the margins are going to continue to erode. I predict that the margins will probably be in the 8% to 10% range going forward. It's just going to be a very difficult market to gain a lot of market share in. That's why we feel our best bet is in the higher-margin specialty communications sector. Luckily that represents the majority of our business.

Adam Blonsky.

I'm trying to get a little bit more granularity on the -- with regard to the gross margins and really where I'm coming from on this is, to what extent are some if any of the issues that may be associated on the specialty communications side tied to newer acquisitions as opposed to some of the seasoned businesses? Is there anything having to do with, I don't know, getting groups to function either closely together or in the WPCS way or -- I'll kind of leave it open-ended beyond that. If you could just give a little bit more flavor on the within the organization -- if you want to, feel free to go through business by business. But I'm just trying to get a little more sense of what might be pushing on some of these margins.

Well, certainly it's a question -- well, from a consolidated point of view, the 27% is not where we want to be, certainly. But we're not far off from where we are in terms of a range of contribution. Each subsidiary contributes, depending on the project, anywhere from 18% to 35% gross margin contribution. It really depends on the blend and the projects that you are working on. There's ways to improve the gross margin, obviously. There's ways to improve it by going after the higher-margin vertical sectors in public safety and health care and bidding more work in that regard.

The consolidated gross margin is affected by wireless infrastructure, so that market becomes more competitive for us to bid -- the margin, the consolidated margin is also affected by non-wireless projects because of course as a Company we do not only wireless connectivity, but we also do electrical contracting and trenching and project management and construction, and at times a little bit of just electrical contracting. Some of these projects that we have are handsome projects size-wise, but they are lower margin, lower margin contribution.

So the way to improve our gross margins going forward is to focus on these vertical sectors that have yielded a very high gross margin contribution, meaning public safety, health care and now the upcoming alternative energy and not emphasize these competitive situations in the lesser gross margin contribution type segments that we deal in, which is like wireless infrastructure.

So that's what we're focused on, and we feel we can get the margins up. We have in the past had better margin contributions on a quarterly basis. But we're not that far off. We're not dealing with a company that has at 20% gross margin contribution. We're dealing with a company that's one percentage point off of its range. So we feel it's very manageable, and we know how to emphasize that growth going forward.

Also that SG&A number -- your explanation was that there were certain labor pieces that could not be essentially offloaded onto projects just because of some of the delays and so forth. Is that what you were saying?

Right. You have project managers and project engineers that are associated to a job and these project managers and project engineers your invoiced or billed for their time involved in a particular project. So that becomes a cost of sale, when you have that situation. So you have a revenue that's being generated and a cost of sale associated with that.

Now, if you're not billing for that particular project, that project manager and project engineer drops down to the SG&A line as a cost, as an expense, until you can bill them to the particular project. So what we had was a situation where revenue -- we had no revenue recognition, and you still had their cost. So their cost obviously, which has to be dropped to the SG&A line because you can't invoice it to a particular project is the reason why the SG&A increased primarily.

But traditionally, it would be a cost of sale if they were associated with the project?

Well, they are on the project, right. If they can bill their time to the project, which is what's the intent, then it would be a cost of sale, not an SG&A expense.

Is that lost time, or is that time they will eventually get charged off to projects?

No, that's lost time. If they are not on a project, that's lost time. You will make it up again in the next quarter, when they get on the project, but their project that -- I mean, it's not like they are not doing --

No, no, no. I'm not even suggesting that. I'm just trying to understand where that cost really belongs.

In that situation, you have project engineers that will continue their ongoing training, project managers that will bid new projects. But, of course, without their planned time to be bid to a specific project, you're going to incur a lot more SG&A expense, and (multiple speakers) expense.

[Will Cortez].

Wanted to ask you, how do you feel the China acquisition and the Australia acquisition will impact 2009 results?

Well, the Company -- we have just two companies right now, and their revenue contributions are relatively small. We think in China we'll generate about $3 million of revenue from the existing subsidiary that we have. And the existing subsidiary that we have in Australia will do between $2 million and $3 million of revenue. It's very profitable revenue, but it's very small at this point. If we do add a few acquisitions in Australia, which we do again have some candidates, I think obviously the revenue that can be realized out of that Pacific Rim area could be as much as $10 million to $12 million in fiscal year 2009.

Warren Jervis.

I had a question on the wireless infrastructure business. As the business is weak, are you able to redeploy the assets focused on that in other words, the people in that area, the offices and subsidiaries on the specialty wireless side?

I'm glad you brought that up. In fact, the people who are working in the wireless infrastructure segment are RF engineers, and these RF engineers have been trained and have been developed into other vertical sectors. So absolutely, those resources that can be deployed are deployed on the specialty communications side, where we can. If we do have excess resources like we had in a few subsidiaries, we have cut back. That's only because we can't redeploy those resources in other projects that we have.

But for the most part, these RF engineers that are trained in RF capability, radio frequency capability, and are capable in either cellular, Wi-Fi, WiMAX, fixed wireless, two-way radio, whatever the case may be. They are capable of working both ends of the spectrum.

There are no further questions at this time.

Okay, then I'd like to wrap up the call. I want to thank all the participants for today's call, and I encourage you to call me directly here at WPCS, at 610-903-0400, extension 101. Or you can e-mail me at Andy_Hidalgo@WPCS.com if you have any additional questions. This concludes our call, and again, thank you for all the participants.