Solesence Inc (SLSN) 2017 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Nanophase first-quarter 2017 financial conference call. (Operator Instructions). As a reminder, this conference is being recorded.

The words expect, anticipates, plans, forecasts and similar expressions are intended to identify forward-looking statements. Statements contained in the 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 beliefs, and a number of important factors could cause actual results to differ -- for future periods -- to differ materially from those expressed in the 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 activities 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 like to introduce your host for today's conference, Mr. Jess Jankowski. Sir, you may begin.

Thanks for the introduction, Amanda, and good morning, everyone. I appreciate all of you here live, and the larger group of you who prefer to listen after-the-fact online. You are with us as we discuss our first-quarter 2017 results and a few business updates. I'm Jess Jankowski; and our CFO, Frank Cesario, has joined me again today.

Coming off a record year in 2016, we came out of the blocks in 2017 with a record quarter. We saw our base business expand and we continued to make inroads into our two strategic areas of focus: personal care and solar control.

To start, I'd like to invite Frank to give you an overview of our first-quarter results. Then I'll tie things up with a little more about where we are at, and where we expect to be by the end of this year.

Frank?

Thanks, Jess. Good morning. This is Frank Cesario. Before I begin today's overview of the financial results for the first quarter of 2017, please remember that all financial results are stated in approximate terms.

Revenue for the first quarter of 2017 was $3.5 million versus $2.2 million in 2016. Net profit for the quarter was $47,000 or $0.00 per share for the first quarter of 2017 versus net loss of $0.6 million or $0.02 per share for 2016. We ended the first quarter 2017 with a $1.5 million cash position, and nothing drawn on our working capital credit line.

Jess?

Thank you, Frank. As I mentioned in the press release, we had a few things swing our way in Q1, timing-wise. These basically piled onto what would've already been good results. That said, I believe our business has grown stronger and will continue to grow through 2017.

Our base business enjoyed some growth, particularly in our personal care ingredients business and through what we believe is the expansion of a new product launch by one of our coatings customers. Both of these businesses are a core part of our cash flow and have been expanding. As I've mentioned (technical difficulty)

Ladies and gentlemen, please stand by. Your conference call will begin again momentarily.

And sir, you may proceed.

Now we know how you feel sometimes. I understand we dropped off in the beginning. I will say that, as I said, we are focusing on personal care and solar control.

To start, I'd like to invite Frank again to give you an overview of our first-quarter results and then I'll follow after that.

Sorry if it's repetitive, everyone, but we want to make sure everyone hears it. So for the first quarter 2017, our financial results in approximate terms. Revenue in 2017 was $3.5 million versus $2.2 million in 2016. Net profit for the quarter was $47,000 or $0.00 per share for the first quarter of 2017 versus net loss of $0.6 million or $0.02 per share during 2016. We ended the first quarter of 2017 with a $1.5 million cash position, and nothing drawn on our working capital credit line.

Jess?

Thank you, Frank. As I mentioned in the press release, we had a few things swing our way in Q1, timing-wise. These basically piled onto what would have already been good results. That said, I believe our business has grown stronger and will continue to grow through 2017.

Our base business enjoyed some growth, particularly in our personal care ingredients business and through what we believe is the expansion of a new product launch by one of our coatings customers. Both of these businesses are a core part of our cash flow and have been expanding. As I've mentioned, coatings, outside of the kind that are applied to human skin, is not where our business development efforts are focused.

That said, we continue to bring performance advantages to some industrial and architectural coatings applications. The reason that we've defocused our business in product development in these and other areas -- all of which we consider outside of personal care and solar control -- is that these two key areas have advantages associated with them that clearly make them the best choices for continued investment.

Due to our alignment with market demand, we can see that the benefits that we can now bring to market are significant. We expect to see much better than incremental growth in both of these areas. We also expect this rapid growth to yield strong margins as well. These variables are what drove our development in this direction in the first place. We are in a good spot.

It's worth noting that we see both of these key areas as giving Nanophase and its Solesence subsidiary the opportunity to move much closer to the end-use customer; and, consequently, to a place further up the value chain than we have traditionally been.

There are other factors that make these two key areas more attractive to us, as well. Since I just gave an expansive overview of these areas last month in the year-end call, I've decided to wait until the Q2 call to spend a little more time describing the advantages that these areas offer in greater depth.

I try to balance these discussions so that newer investors can develop a better understanding of how we plan to win, while those of you who are regular call attendees don't get bogged down.

As our results continue to indicate, we are persisting in effectively balancing the management of cash and expenses against the need for ongoing investment and the development of our suite of fully formulated skin care products.

To follow on in personal care, we're close to having externally validated our C3 technology, the driver of many of the consumer benefits our white label personal care products will enable. Our next investments will be more focused on developing clinical data using our actual finished products, not just the discrete ingredients.

The best way to think about this is that we are moving from validating our ingredient technology to developing clinical data to support our consumer claims within our specific white label finished products. While these products are enabled by our technology, the sales cycle will move more swiftly when we can present specific product testing to our customers, essentially helping them sell the benefits of our products to the consumer.

We're building a consumer claim set here. This is new for us, and is in contrast to our ingredients businesses where technical results tend to drive customer adoption.

During the last half of this year, our goal is to have some white labeled products scaling up for full 2018 launches. The volume for 2017 may be small, but depending upon specific customers and products, the 2018 revenue should be in the six-figure-plus range. It's still too early to pinpoint volumes.

Regarding our solar control business which we're marketing under the NanoShield trademark, there are fewer moving parts, so there's less to talk about today. We continue to make inroads, and continue to work on commercializing additional materials from those we began with last year.

I expect to have more to share later in the year, as it remains to be seen whether we see significant revenue from this area in 2017. We do expect this area to be a significant revenue driver over the next several years, but are currently awaiting further internal development and further customer feedback.

In terms of our revenue expectations for the business more broadly, at a high level, we expected 2016 revenue to exceed 2015's, and it did. And we expect 2017 revenue to exceed 2016's. The extent of our 2017 year-over-year growth will become clearer as we get well into Q3 and Q4.

Given our experience and developed knowledge in various personal care markets, along with the historical success and broad acceptance of our ingredients in some of these markets, we can see our personal care business continuing to grow, but more rapidly as we ramp the commercialization of our white labeled products businesses later this year.

Currently, personal care is roughly a $7 million annual business for Nanophase, based mainly upon our new product and business development focus, which is within our Solesence subsidiary, we see personal care having the potential to double over the next 3 to 4 years.

In terms of our financial results, our added investment in building our skincare product line was the only thing that stood between us and positive adjusted EBITDA for all of 2016. As it was, we hit it for 11 of the 12 months last year. We use adjusted EBITDA as a near proxy for positive operating cash flow.

We've also just enjoyed another quarter of GAAP profitability in Q1 of this year. This follows GAAP profitability in Q2 of 2016. These quarters mark the first and second profitable quarters in the long history of Nanophase. Our annual results have been steadily improving, and I expect this to continue through 2017.

As you may have heard me mention in the past, revenue growth, cash generation, and new business growth remain our top priorities.

Although the largest group of our investors either listen to the webcast or review the transcript after the live call, I'd like to invite those participating in today's call to ask any questions you may have, or to share your comments.

Amanda, would you please begin the Q&A session?

(Operator Instructions). Rand Kay, RKA.

Good results. A couple questions. This quarter of 3.5 -- was the BASF revenues proportional to the 2.2 of the previous year? Or were they -- I guess what I'm saying was, did BASF do about the same amount of business, and the real increase came from other avenues?

The answer -- this is Frank -- is it came from everywhere. So, dollar per dollar, most of our areas were up and -- [the] largest customer, for those who aren't steeped in the Nanophase story -- that customer was up as well, and you'll see that in our 10-Q filing. But all of them were up.

Okay. Can you also talk a little bit about -- I'm a bit confused. On the NanoShield product, are you funding the development of product yourself? Or are you looking for a strategic partner?

We are funding the product development ourself, and it's really a -- I'm glad you said product. I said materials; it's more of a product. We have several. We started in the business with one. We've developed a few more. And we are in the process of continuing that internally to optimize the product, as well as awaiting customer feedback.

We have had -- as you may know, we've had a few products in the -- or a few customers in the market last year. We expect to have more this year. Relative to volume is the question. It's a question of timing. It's a question of our internal development. And, as always, it's a question of speed of adoption and feedback from those customers. But we are supporting all of that development internally.

Well, I'm a bit confused. Because my understanding was on previous calls that you were going to concentrate your development in the skincare business, and look for a strategic partner in the solar control area. Has that now changed?

Well, maybe I mischaracterized that, or your understanding is incomplete. Essentially we are -- the bulk of our resources are going into development in the personal care or skincare products which are enabling ingredients, typically dealing with UVA/UVB protection, free radical formation protection, lots of other great things.

In terms of seeking a partner, how I would cast that is, we are not seeking a partner as much as there are fewer customers that are larger in that area. There is less -- as I said in earlier -- there are fewer moving parts. There is less work for us to do. It's more focused. And it's more technology-focused, which narrows the amount of work required. I wouldn't say it's a major investment, but we are continuing that development.

Jess, I would just highlight that we've talked about looking for partners for those areas that we're not emphasizing our own development. So that was never solar -- that was never on the NanoShield line as it's configured. That was on other traditional product lines.

We may be parsing terms here, in the sense that if we were to get a large solar control customer, of course we will always discuss whether there can be some sort of exclusivity or some sort of a relationship in that regard. But our goal is to retain as much of the IP as possible and of course as much of the margin as possible, given our relative strength to those customers we are dealing with.

In a three- to five-year time frame, gentlemen, which market looks like a better opportunity for us: the NanoShield or the Solesence product?

I think the Solesence products are a broader opportunity, probably a larger opportunity. The exciting thing about the NanoShield products is they are also potentially a good-sized opportunity, and it's a more concentrated market with a concentrated group of customers.

So I've mentioned in the past, and I, at some point in the future, I should walk through this again. But if we look at the white label business, we will ultimately have customers that range from having a few products in the mid- to maybe upper-five-figure range to the six-figure range. And then expanding a product line, and we will have bigger and smaller ones -- that allows us a lot more opportunity to go after those things. We have more levers to pull on the NanoShield market.

We bring some technical advantages due to the way we manufacture our material, and the knowledge we've developed over the years in that space that we think are going to be enabling, and we will be able to approach larger customers.

The thing with that is it's less of a -- we don't have the depth of experience we have in personal care. We know where personal care is going to go. And it's a matter of which specific strategy we want to follow leading us to where that goes. With NanoShield, we have a strategy. We are going forward with it, but certainly (technical difficulty) market adoption and where the products can go.

It's nice -- it's actually heartening to hear that you not only feel you have a product in the solar shield business, but you have a competitive advantage to execute and manufacture the product. So, getting locked out of that, or moved out of that, or displaced sounds like it's going to be a tough option for a competitor, which is nice to hear.

Last question is -- I know that in the past, you guys have counted the polishing business and had actually set up -- committed some resources to setting up a lab to pursue that business and have expected revenues, which apparently thus far have not materialized.

Does that mean that you are throttling back on the polishing business? Are you still putting as much effort into the development of that polishing business? Or it is costing you more than you expected to see returns in the polishing business? I think just some general color on that area would be helpful.

Sure. A couple of things. To your earlier comment, I never believe we have such a massive advantage in any market that we shut people out. But I do believe we have strong advantages with the NanoShield product and Solesence.

When we get to polishing, we were looking at incremental growth. We were looking at a large investment to get there, to continue to get there. So over a period of time, we have good products. There's some growth there for us; but the requirement, the investment requirement ended up being too high. I overestimated the growth we'd be able to enjoy there.

We are still seeing good margins, good growth. That would be an area where we may very well work with somebody in some sort of a partnership or some sort of a trade relationship to have them do more of the development.

We are not currently putting any resources, other than technical support, toward that market. Just because not -- again, not because we can't grow the business that way; but because we see the others as greater opportunities. And we have to live in a world of prioritization of our relatively small treasury right now.

But on a stand-alone basis, that product is not burning capital. It's making -- it's either breakeven or making money.

It's making money. We have a series of products there at differing levels, back to our original product that we started out, our very small cerium product. We started out with what was then Rodel, then became Rohm and Haas, now is Dow; other small products as well as the larger nano products; and some products in the optics polishing business, which really was the area we expected to see greater expansion than we now believe is possible in terms of rapidity of growth.

So that's really -- ultimately, if I had to peg what made me and made us decide we were going to focus elsewhere, it was a combination of particularly coming across and realizing how many advantages we had with Solesence, how strong this technology is relative to past technologies. On the one hand, on the other side saying hey, I could keep funding this other business. And if we were a mature business and throwing off cash, maybe we would, because looking for some way to grow -- finding growth difficult. I don't think we're going to find growth difficult with either Solesence or NanoShield. I think Solesence has more avenues. I think the likelihood of success is very high, and we know more about that market. So I'm very comfortable with the decisions we've made there.

Well, I like breakeven, guys. Short of making money, I really like breakeven. So I feel like we are on the right path. And I like your mindset of fiscally driving opportunities organically. So I'm pleased with the direction you are going. That's it for me. Thank you.

(Operator Instructions). James Liberman, Wells Fargo Advisors.

Well, this was really -- from my perspective, it was a blowout quarter, especially not being a June quarter; being the quality of the business, the amount of the business. And I'm assuming that it actually generated a fair amount of cash but you are putting a lot -- doing some significant investments in product development at this time now. Is that a fair assumption?

That is a fair assumption. Last year, our financial results would have been much better, had we not been -- and this year will be the same, putting -- investing more money in product development for the Solesence line that -- the counterpoint to that is were we not doing that, come our growth prospects wouldn't look nearly as good. So I'm trying to -- we are all trying to balance how much can we invest while not having to worry about capital in the near-term? And when things start rolling, everything will get a lot easier.

We talked about adjusted EBITDA earlier. And in the press release, anyone can see it's about $200,000 for the quarter, and that's a proxy for cash flow from operations. So, it is a generating quarter and that's certainly a good thing.

That's great. Now, regarding Solesence, if I go online, am I able to now identify products that I could order for myself and my family? Or is that still an evolving process? Have I missed something?

Well, there's two pieces. It is evolving, but you really -- Solesence is a technology. There is a -- we have a website for our subsidiary. And what we're doing is -- Solesence is the brand of our technology that will be included in products you can buy for your wife or your family through other manufacturers -- marketers.

So the goal is, we will design the product. We've got our basic products. We'll go to a marketing company. We will say, this is a product, this is our testing. This is it compared to what is in the marketplace. They will say, okay, either we love it; or we love it, but could you change the tent or add a fragrance or whatever it would be?

Then, that company will market that product. But the goal is we have the Solesence logo on the side of the product. And basically, if you go on to the Solesence website, it's really designed for formulators and people that are marketing products versus consumers. We don't sell directly to consumers because the goal, at this point, is to create white label products that enable companies with a much faster marketing reach to grow their business through differentiation.

That being said, we also, by moving further up the value chain to white label products, we retain more margin per unit for Nanophase than essentially -- and, Jim, I know you've been around a long time. What the goal has always been is we make something special here, and we bring something to the table a lot of people don't have. We have a lot of knowledge, internal and that we've brought in, and that we learned. I always would prefer to sell fewer quantities of products at greater margins than volume. And essentially that's where white label kind of moves us toward.

We expect that relative to NanoShield in our existing market, particularly if you look at something like the coatings business for architectural coatings, or the ingredients business for substrates, we are selling hundreds of tons of material, margins are nice. I think what we bring is important enough and special enough that we can sell tens of tons of material and make a lot of money and create a lot of volume. And that's really the direction we are headed.

So if I go online, am I now, or shortly in the future, be able to go online and see a variety of products that your product that you are involved in that we could then choose between? Or am I going to have to like somehow go to the store -- just figure this out some other way on my own?

Right now, you can go online and you could see the types of products we are offering for formulators to examine and develop. You can see some test results. You'll be able to see more, at some point. We keep beefing up that offering on the website. And then eventually, when these products ramp and launch, we expect to be able to point on our website saying, hey, Liberman Pharmaceuticals just launched a $1 billion brand enabled by Solesence. And then you'll be able to see it.

Okay. So this is really still very early stage, is what you are saying.

Well, it is fairly early.

In terms of adoption.

Certainly in terms of adoption. In terms of -- we've been working on it for a number of years. We've gotten a lot of data. What I love about this, Jim, in some ways -- in addition to us having deep market experience, the products we are selling that we've been selling, particularly through our largest customer, have been considered the class of the market and the degree in space.

We know a lot of other things about the market. And as we go -- as we get further into it, we are developing -- we are getting validated externally. These aren't Nanophase R&D people's tests that are telling us that we are outperforming the competition. We are going to external labs. We're doing in vitro, in vivo testing to say yes, we can deliver these things in a mineral sunscreen, which is a popular want in the marketplace.

The typical issue with mineral sunscreens, as some of you are aware, is that there tends to be a little bit more of a white cast on the skin, or in the case of some, even a blue cast on the skin. And that relates directly to the formulation, to the sizes of the particles, to the way they are dispersed. And a lot of that is right in our sweet spot, so the testing for the technology development largely is done. We have a little bit more.

But the product side is we need to be able to bring a suite of results that are based on actual clinical tests on live human being skin that tell that prospective customer, hey, they've done the homework, and I can sell this. I can go to the market. I can deliver on things that they want. And if you ask your dermatologist or anybody in that industry, everybody would prefer minerals-based sunscreen. It's a question of getting them in formulations that look good, feel good, smell good, and have efficacy. And that's the direction we are headed.

And can you see -- is it a little too early -- but you said it was a good first half, and generally your June quarter has been your strongest quarter. Do you think this quarter took a lot from your June quarter? Or do you think you'll still see some reasonable strength? Can you give any guidance about June? And then beyond that, do you see yourself transforming into a company that has more legs throughout the whole year, so less cyclical?

Well, that's a deep question that takes me into the mire, in terms of trying to -- visibility. I anticipate that (multiple speakers)

Down the road type of thing.

I anticipate Q2 will be strong. Probably not -- I don't know if it will be as strong as Q1. Generally, I think we are going to remain a cyclical business to a degree, because the bulk of our business is in North America. And there is a cyclicality to a lot of this -- cyclicality driven by the markets, and when they put new materials and launch new materials into the skincare space.

We used to talk a lot about beachwear; that's not where our business is. That's really not where the BASF business is either. It's in daily wear sun care. So you would think it would be a year-round issue, but it's not. Roughly, sometime between the beginning to middle of the third quarter, and early in the fourth quarter, people decide what they are going to do for next year. And so we are always going to have that degree of cyclicality. It will certainly get blunted a little bit as we get more volume.

The NanoShield business will probably also be cyclical, to a degree, because it's trying to limit the effects of the sun. And we are effectively becoming an environmental protection company, if you look at it that way. But I think that will be better.

For the second half, I think the focus -- the key focus is on new business growth, particularly toward the end of the year. I'm not as concerned about the volumes as I am concerned about the ramp. I want to see new customers and new products coming online that are going to lead to a much bigger 2018 volume.

I don't know where that's going to be yet. As I said, difficult to tell just based on the fact that it's a little bit opaque when it comes to what's going on outside on the customer side. But I do see progress and I do see us -- I definitely see us moving forward.

Can I ask one more question? But you probably can't answer but -- have I missed -- or have you given any greater detail on the solar control technology and what it is and how it presents itself in the marketplace?

We haven't given a lot greater detail. Essentially, it's easiest to think of trying to keep what's outside, outside, relative to the initial volume is in the automobile world on glass; typically a coating on glass could ultimately be impregnated in an inner layer in glass.

Early adopters have been all the -- a lot of the automotive aftermarket businesses, and that can provide very satisfying volume to us, all by itself. There will be a -- we believe there will be an architectural glass market. Ultimately, there is somewhat of one now, but it's growing.

A lot of these things will potentially get bigger and stronger as solutions come into the market that are more economical and easier for people to apply that are also robust. And I think we have some of that growing in our portfolio.

Well, it's very exciting to see the progress you've made, and the way in which you've been able to manage the company to get here. Thank you very much.

Thank you. And at this time, I'm showing no further questions.

I'd like to turn the call back over to Mr. Jess Jankowski for closing remarks.

Thank you, Amanda. I'd also like to thank all of you who have taken the time to listen live and on the Web for your interest in Nanophase. I expect 2017 to be a year of stronger growth accompanied by stronger results. Frank and I are looking forward to our next opportunity to discuss our business with you. And let's all make it a great day.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may now disconnect. Everybody have a great day.