Solesence Inc (SLSN) 2007 Q1 法說會逐字稿

Good afternoon. My name is Taylor and I will be your conference operator today. At this time, I would like to welcome everyone to the Nanophase Technologies' first quarter 2007 conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. (OPERATOR INSTRUCTIONS)

During this conference call, the words "expect," "anticipate," "plans," "forecasts" and similar expressions are intended to identify forward-looking statements. Statements contained in this news release that are not historical facts are forward-looking statements that are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements reflect the Company's current belief, and a number of important factors could cause actual results for future periods to differ materially from those expressed in this news release.

These important factors include, without limitation, a decision of the customer to cancel a purchase order or supply agreement, demand for and acceptance of the Company's nanocrystalline materials, changes in development and distribution relationships, the impact of competitive products and technologies, possible disruption in commercial activities occasioned by terrorist activity and armed conflict, and other risks indicated in the Company's filings with the Securities and Exchange Commission. Nanophase undertakes no obligation to update or revise these forward-looking statements to reflect new events or uncertainties.

I would now like to turn the conference over to Mr. Joe Cross, President and CEO of Nanophase. Thank you. Mr. Cross, you may begin.

Thank you. Welcome to Nanophase's conference call to review the first quarter of 2007. The Company had a strong first quarter on a number of fronts including revenue and it represents a solid start foundation for 2007.

Jess Jankowski, Nanophase's CFO, and I will be hosting this session. To begin our discussion, Jess will summarize the financial highlights of the quarter. Jess?

Good afternoon. And thank you for your continuing support of Nanophase. The first quarter results highlight an exciting milestone. We achieved another quarterly revenue record with $2.9 million in Q1, a 45% improvement over Q1 of last year's revenue. Reviewing the financial performance, I intend to only address significant areas comparing Q1 of '07 with Q1 of '06. As always, all numbers for today's call will be in approximate terms for easy discussion. For more details, please see the financials accompanying today's press release.

I will also continue to discuss the few new metrics that highlight some important positive shifts in our business. The growth from our architectural coatings customer, and from the expanding relationship with BYK Chemie have been the main differentiators between this past quarter and Q1 of 2006.

As we discussed in our year-end call, Nanophase has had one major customer, BASF, which had been responsible for the great majority of our sales over the preceding five years. In 2006, sales to BASF accounted for 56% of total revenue, while growing 13% from 2005 levels to hit $5 million. We achieved both a revenue high watermark and we saw BASF's growing revenue become a smaller percentage of our total revenue. BASF's historical average has been 69% in 2001 to 2005.

Keeping with the trend, for this past quarter, revenue from BASF amounted to 55% of total revenue and our other customers and partners are moving up. Continuing this trend, our architectural coatings customer and BYK Chemie accounted for 18% and 13% of our $2.9 million in total Q1 '07 revenue respectively. Part of this revenue mix shift, that merits further discussion, is that we're starting to see meaningful growth in new markets, with new applications from several customers including BASF while BASF continues to grow in its existing markets. Still to go into more detail regarding expecting -- expected new growth for BASF, and what we expect to see from BYK Chemie, our architectural coatings customer this year.

To recap Q1 of '07, and I say this mainly for the benefit of our analysts, BASF, our architectural coatings customer and BYK Chemie accounted for 55%, 18% and 13% of our quarterly revenue respectively. As we do have new analysts this quarter, as well as new investors, its worth explaining that to us, they are certainly more than three companies that are driving 86% of our current quarter revenue, particularly with BASF and BYK Chemie, many customers of those two companies create demand for Nanophase's material. BASF has multiple customers driving their demand for our materials, each having gone through product qualification cycles ranging from quick reviews to those lasting more than a year.

BYK Chemie is selling our materials to an even larger number of downstream manufacturers and processors. I reiterate that, because many people initially assumed that Nanophase's concentration on sales, several customers represent a liability. With BASF and BYK Chemie, we have effectively increased the breadth and reach of our market attacks. Both BASF and BYK are supplying Nanophase materials to customers in the U.S., Europe and Asia. Fortunately, our strong relationships with these market partners allow us to gain direct knowledge of many of these users and their needs. This helps us to support BASF and BYK in developing new business with new downstream users as well as expanding upon existing business.

We've tailored our solutions to multiple specific applications due to Nanophase having established applications development as a core competency. Our business model is now delivering. As an aside, in other revenue, we have $32,000 of recognized deferred revenue relating to the discount amortization and interest imputation issues around the $1.6 billion BYK Chemie loan from November of 2005. This accrued revenue will be a static, quarterly amount recognized through Q2 of 2009, which cumulatively represents the recognition of the deferred revenue book to offset the $350,000 imputed note discount.

All this struggle was required because we negotiated favorable interest terms with a supportive partner. It simply proves again that no good deed goes unpunished.

Gross margins for Q1, amounted to 25% of revenue, versus 17% for Q1 of '06. In dollars, we had $375,000 more in gross margin or gross profit an additional revenue of $876,000. Looking closer, that shows we had an incremental gross margin in excess of 40% on the added volume. While we like the margin growth we've seen, some of it has been offset by increases in commodity metal prices that we've largely recovered, albeit, not at the percentage margins of the pre-increase sales and in overtime work to react to demand that has been difficult to predict.

In Q1, we've also had a direct labor and hourly manufacturing support staff to support our revenue ramp. As the product mix matures and stabilizes, we expect margins to grow. Predicting a precise trend will be difficult for the balance of the year. Again, for our analysts, we had about 280,000 and 236,000 in depreciation expense in cost of revenue for Q1 '06, and -- pardon me for Q1 '07 that was 288,000 and 236,000 for Q1 of '06 respectively.

Equity compensation, the relative impact of which I'll discuss at length later did not materially affect the cuts of revenue for either period. Moving down, R&D and SG&A expenses with some puts and takes, were relatively flat in first quarter 2006, and the first quarter 2007. The other items lying below Q1 '07 operations was mainly composed of a write down of fixed assets in the amount of $69,000.

This was a non-recurring advance that was initiated due to a manufacturing process change, which added flexibility to one of our lines. We hope to eventually reuse this equipment at some point in the future based upon future revenue mix. On a GAAP basis as reported, Nanophase lost $0.06 per share in Q1 of '07, versus $0.09 per share in Q1 of '06.

Analyzing the non-cash components of our Q1 '07 loss, and the year-over-year comparisons, we have depreciation and amortization at about $350,000 and $315,000 companywide for Q1 '07 and Q1 '06 respectively. Depreciation and amortization, a regular component of our GAAP bottom-line amounted to $0.02 per share of Q1 '07 loss.

Equity compensation, also a non-cash expense; amounted to $205,000 and a $195,000 for Q1 '07 and Q1 '06 respectively. Equity compensation expense contributed $0.01 per share to the Q1 '07 loss.

In total, depreciation, equity compensation expense, and the fixed asset write down contributed to $0.03 per share or about half of the $0.06 cents per share loss for Q1 '07, and also $0.03 per share of the Q1 '06 loss including the $111,000 patent abandonment charge in 2006.

The 2007 equity comp. expense comparisons to 2006 will have far less variability than it did last year, given that FAS 123 (R) will have been in place for both reporting years. Annualizing Q1 '07 expense, it would amount to 820,000 in the equity comp. expense for all of 2007.

Moving to the balance sheet highlights, Nanophase ended Q1 with $7.4 million in cash and investments. Q1 inventories are up to $1.4 million about 50% higher than the 12/31. This increase is all a material for which we have orders and solid forecasts.

In this case, we made the choice to negatively impact working capital in order to allow for manufacturing flexibility. This all ties back to what I said about product mix predictability and the margin discussion along with the revenue ramp.

Accounts payable, have crept up also directly in relation to the same issues. Equipment, at least whole improvements amounted to about $225,000 for the quarter, and as 2007 and our view towards 2008 and beyond unfolds, we may need to add capital equipment enforced base to support future demand. Much of this is product mixed dependent and therefore difficult to schedule.

However, we deem this a good problem to have. On the liability side, the Company now has $1.8 million in total debt, all but $105,000 just relates to BYK Chemie loan of $1.6 million plus the third revenue less related discounts.

The debt discounts and offsetting differed revenue referenced on the balance sheet relate to the required accounting treatment under APB 21 of this loan and have no cash impact.

Again, given that the terms that are favorable to Nanophase, including interest free periods and a low interest rate, we were required under GAAP to adopt this treatment. We also invite you review our upcoming 10-Question, which we expect to be filed by May 10.

Thanks for your attention, and I would like to turn things back over to our President and CEO, Joseph Cross.

Thank you Jess. First quarter of 2007 represents the 9th consecutive quarter of record annual quarter-over-quarter revenue growth, stretching back to 2005. We believe that the revenue growth trend is being driven by several factors, and increasing that global adoption rate for nanomaterials.

Earlier adoption meaning that they adoption seems to be occurring on product development groups rather than through a large R&D groups and large companies, which hasn't changed over for the past few years.

We've seen recognition that nanomaterials provide applicational value in new or improved products. And lastly Nanophase's business model relative to revenue growth through both market partners and customers is working.

Moving forward during 2007, we anticipate a busy and productive year. Nanophase's focus-areas remain revenue growth, continued gross margin expansion, key technical objectives relative to process improvement and innovation, and lastly increased new business development.

Based on market forecast and customer inputs, we anticipate revenue growth in 2007 for multiple markets, and based on initial planning, this is a trend that should continue through 2009. Volume and product growth will require Nanophase to continue evolving the Company's technology and improving operations, while potentially adding capacity for nanoparticles, coated nanoparticles, and dispersed nanoparticles. Management believes that the Company is on a sour growth trend and is highly focused on revenue growth.

Let me summarize our current view of major markets. As we have previously noted, the sunscreen and personal care markets were a market part of BASF with 24% in 2005, 13% in 2006 and is forecast to grow by double-digit percentage in 2007.

BASF reaffirm this forecast during the last quarter. So, Nanophase is comfortable with predicted growth. This growth is being driven by increases in the original product Z-Cote, as well as growing customer option of the two products in the Z-Cote MAX product line, which has started to look for Asian and European formulation chemistries.

BYK Chemie our market partner for coatings, plastics, and inks continues to rapidly expand its customer base and jointly with Nanophase to develop new applications for these markets. During the first quarter, revenue for BYK Chemie exceeded all of 2006 revenues. We continue to anticipate material revenue growth for 2007.

Entering 2007, BYK Chemie is marketing approximately 20 nanobook, nanomaterial based products to potential customers throughout the world but notably in the U.S. Asia, Europe and India. Based on the amount of products in application development we anticipate several new additional products should be released to the nodal markets during the year.

Based on BYK Chemie forecast, we believe that nanomaterials dispersions for these markets could be one of Nanophase's strongest revenue growth areas during 2007 to 2009. In doing shipment orders today, not considering forecast, we believe that 2007 revenue for these markets should increase about five times 2006 levels. As you may recall, we developed nanomaterial products in a three-stage process beginning with laboratory samples then scaling the pilot plant quantities and following it by manufacturing.

As we noted nearing its release, during the first quarter we scaled and delivered 8 new commercial volume nanomaterial dispersion products, while developing and producing 9 new nanomaterial dispersion products at the pilot plant stage. These are all primarily for the industrial coatings, and plastics markets.

We're beginning to see real customer attraction for nanomaterial based products and several of these markets with recent new customer additions in the U.S. China and Europe. Relative to semi conductor polishing for our market partner Rohm and Haas Electronic Materials, CMP Technologies, which I'll refer to as RHEM; based on our recent meeting the market penetration review, we believe that they're getting increased market interest and making definitive progress.

We continue to believe that CMP for semiconductors is a real potential growth area for nanomaterials and Nanophase's unique nanomaterial dispersions. RHEM placed an annual order with Nanophase during this quarter. While 2007 revenues will likely be flat, due to tighter inventory controls, RHEM's current forecast for 2008-2010 to fix appreciable growth, again, we believe that chemical mechanical polishing for semiconductors is a growth area for Nanophase, and we're excited about our longer-term relationship with Rohm and Haas.

Moving to significant customers let me provide a brief overview. We have received an annual order from customers for DNA biosensors, which increase 25% year-over-year. While this is not large revenue I know for the Company it's nice to see continuing growth.

Our primary customer for architectural coatings continues to roll out its product. This appears to be progressing to the plan and we still anticipate appreciable revenue growth during 2007. From a revenue standpoint that we're a second largest customer during Q1 and we anticipate that the order rate should be increasing. We continue to anticipate material revenue growth versus 2006 levels.

I'd like to spend a moment discussing the Company sales and business development initiatives. As many as of you are aware I've been to directly manage this effort since early 2004. While we have made progress in revenue growth for 9 consecutive quarters of record annual quarter-over-quarter revenue growth, it was increasingly apparent that my time was stretched too thin, we're giving them a fulltime marketing and sales professionals to drive the effort and we need to perhaps to modify our sales and marketing paradigm to affect the 40% to 50% annual growth rate that the management be mistargeted.

During this first quarter, Kevin Wenta joined Nanophase as EDP Sales and Marketing. Kevin has a solid 20-year background in sales and management leadership in the chemical industry has already taken control of the function. I believe that Kevin's diverse business and sales experience will be a key asset to drive increasing market expansion and revenue growth.

Recently, David Nelson joined Nanophase as Vice President of Sales. David has over 15 years of business development experience, most recently with Eastman Chemical where he delivered 100% growth annually and has a solid past track record of success. We believe David will play a key role in our revenue growth roles. We plan to continue strengthening our sales and marketing organization initiatives. Management is dedicated to significant annual revenue growth, going forward.

Finally, I'd like to spend a few minutes discussing gross margins, since gross margin growth is a key management goal for 2007 and 2008. I'm addressing this topic, because it does not seem to be well understood as I talk to investors and potential investors. As explained before, Nanophase has a fixed-cost manufacturing model. This means that we have a certain fixed costs, that are necessarily be ISO and CGMP certified, have strong employee health and safety practices, and have the required infrastructure to supply commercial quality and quantity products to world-class companies such as BASF and Rohm and Haas, where typically we're the sole supplier -- and our financial model, as volume grows.

Nanophase, generally only incurs additional variable manufacturing costs, and direct labor materials, while overhead and fixed costs remain relatively stable. Since our variable margins are sound, remember, we have decreased manufacturing cost over 80% in the last four years and continue to do so. Increasingly, the variable manufacturing margin falls to the gross margin line.

So -- and this is just straight mathematics, gross margins grow as volume increases. In parallel, Nanophase is actively managing pricing in our markets. We have broadly raised prices where feasible, entering 2007, which would become increasingly apparent as the year progresses. And we'll continue to monitor pricing, based on application of value as we go forward.

In summary, we anticipate continuing growth, margin growth, as volume grows and as time passes. This concludes our planned remarks, we're available for questions at this time.

(OPERATOR INSTRUCTIONS). Your first question comes from the Avinash Kant of First Albany Capital.

Good afternoon Joe and Jess.

Hi, Avinash.

Hi, Avinash.

A few questions here. Little bit about the BASF plans, I believe you had told in the past, you've talked about this one, that the number of products there at BASF have gone, have gone I think from two last year to now four, pretty much?

It has actually gone from one that was being actively marketed, to three that are now being actively marketed.

There's one that is upcoming, I think, you had said? Excuse me?

I'm sorry. Just correct me. We actually have two older products in the market, okay? One's coated, one's not. We also have the two new products to release; we have a total of four products.

Right, so you've got a total of four?

Yeah, the products that you were talking about has not been -- the one more additional new product has not been released yet to the market. And at this point in time, we have no idea when BASF may or may not do that.

But what I'm trying to understand is that the two new products that you have in the market, do they have the same potential as the other two who have been very successful in the market?

I think that's difficult to answer at this time, because it's still going through market introduction. BASF has high hopes for the Z-Cote MAX ingredient. The T-Lite MAX product line is a little bit more unknown. So it's really impossible for us to answer that, this early, definitively, Avinash.

Okay. And on the architectural coating front, you've been working with a customer who was 18% of your revenues this quarter. Now, do you have an exclusive with them, or you can work with other customers too?

We do not have a formal exclusivity with them.

In that case, are you working with other customers in the same area?

I'd rather not talk -- I'd rather not confirm or deny that frankly. We are not directly working with other customers, but I do not know what BYK Chemie's activities are specifically in that area.

Okay. And the question for Jess though, you've -- I think last year, if you look at '06 numbers versus the '05, your incremental gross margins did come out to be more than 40% and it seems like it's similar in Q1. Is that how we should think about the model?

Yes, I think they will get better. They've been to a certain extent for Q1, we had a staffing, we had a -- we've got a varied revenue mix partly due to the nature of the BYK Chemie scale. So we've got more bodies than typically we would and that's going to get absorbed through the year. We also have the market increases in some of the commodity metals and we've got a -- we've basically got some [pass-through] type charges on top our revenue.

And so you end up having a slightly smaller incremental growth. I would -- typically, I would think we would do better than that. It's still volume dependent. At this volume, we are not operating at optimal utilization of our fixed manufacturing overhead, 2.9 million, I think, as we said in the past, we can probably be doing somewhere that 4 to 5 million quarter range before we're looking at having a changed. So I would anticipate, as we go forward, that the incremental increases would be a little bit better than they were in Q1.

So the EPS breakeven would be at what level at this point, given current operations?

I think it's dependent on the mix, it's difficult to tell. We've modeled it in several ways. Somewhere in that -- probably at this point, 15 -- 14, 15, maybe even 16 million range, and the reason it would creep up would strictly be the -- and that's on EBITDA basis, would be because of the added revenue that doesn't necessarily have the kind of margins on it due to it being responding to the commodity markets.

Thank you. I'll come back with more if I have more questions. Thank you.

Thank you.

Your next question comes from Nick Tishchenko of Global Grown Capital.

Good afternoon. Thank you for [permitting] to ask those questions. I have two questions to both of you Joe and Jess. The first one is what was the cash burn during this quarter?

Cash burn for the quarter was $920,000 from operations. But, of course, there will be a -- there's a working capital effect.

Yes, I understand this, but --

Yeah.

-- my goal was to find this number. And the second number -- the second question relates to your relations with your major customers. I understand very well the story when you extend development and product offering like sunscreens with BASF, but at the same time what is your strategy in getting other businesses of your customers? For instance, we're talking about BASF and sunscreens, what about architectural coatings at BASF?

We're actually working it, Nick. We're working with BASF, and try to develop products, but they have a large coating business as you know.

Yes, I know it.

We're also looking at the same technology in a different marketplace called biocides. We actually have two efforts right now in biocides that I can't go into a lot of depth about just to keep the arrangement with the people we're working with. So we're looking to expand both of those at the current point of time.

Thank you, very much.

(OPERATOR INSTRUCTIONS). The next question comes from Andrew Braswell of Newbridge Securities.

Good afternoon, gentlemen.

Good afternoon, Andrew.

A couple of quick things. Headcount, I know you said we added 10% plus to manufacturing. Give me a breakdown of overall, and then how many of those are in manufacturing?

I don't have -- Andrew, we don't have -- I don't have those numbers in front of me, so I don't want to try to be guessing.

We've got about 70 overall.

Yeah.

Okay.

We're here in operations.

Those numbers are not secret, we just -- I just don't have them readily handy.

Got you. And on the price increases, is that I believe he said, Joe, if you're looking to raise prices on the products where you can, is that separate from the raw material pass-through charges that we're talking about?

Yeah, yes. When we price, we have a base price plus a surcharge, due to the cost of a commodity immaterial, okay? So we have broadly raised prices entering this year, and we're going through a second round of price increases in specific areas effective June the 1st.

And can you tell me how it -- with what kind of dynamics are playing into, perhaps the certain market partner relationships we have that lend themselves to the ability to raise prices, or those that are not quite as elastic?

Okay. So sort of there is several dynamics that go into that. So when we develop a product application, we have a target price. That target price is subject to change once we actually go into line production, because in any of these types of situations, frankly, you make certain assumptions that may or may not play out when you go into manufacturing. So once they go into manufacturing -- and in parallel, we've timed up our analytical capability from a manufacturing cost standpoint. Then we chew up our pricing. So we're going through that on a lot of new products we've introduced. While we have a very cooperative relationship with our market partners and I think with our large customers -- and you always have the problem of small company negotiating a large company, frankly, we are the sole source on all these materials, and they can't get it anywhere else.

So the leverage we have is we're their sole source and they can't get it from anywhere else. And frankly we have -- we feel like we have to run according to our financial models, certain margins to be a little reinvested in our customers. So we've taken a position with all of them beginning mid-last year, their prices were going to be adjusted to run satisfactory margins. And that's the approach we've taken and we've taken the actions and in the last three actions, I guess, that occurs in, effective June 1st.

Okay, thanks and congrats on another quarter of growth.

Thank you. Did you get a shepherd yet?

No, it's still -- I think the yard has got to come before the shepherd.

But you have to get your yards -- you have got to get your yards.

Yeah, no doubt, but it was good to see you in New York.

Thank you.

(OPERATOR INSTRUCTIONS). Your next question comes from [Nicholas Peeve], a private investor.

Good afternoon, Joe. Your current run rate, roughly $3 million a quarter, will get you to 12 without growth, and with the growth you're talking about, should we infer that you will be -- have a breakeven by the fourth quarter, get to that 14, 16 revenue figure?

Well, that's a difficult question for me to ask and because I'd get into trouble. Since we don't do guidance, I would expect that you will see the Company improve the run rate in a material fashion from what you saw in Q1. And that's about as far as I'd like to go with that.

Okay, thanks.

I'm averse to like, visiting prison.

There are no further questions.

Well, I should thank you again for your time today. Again, I think that the Company had a very strong first quarter. I think you'll enjoy the second quarter results also. So we'll see you next quarter. Thank you for your time.

This concludes today's first quarter 2007 conference call. You may now disconnect.