Richardson Electronics, Ltd. (RELL) CEO Discusses F4Q13 Results - Earnings Call Transcript

Jul.25.13 | About: Richardson Electronics, (RELL)

Richardson Electronics, Ltd. (NASDAQ:RELL)

F4Q13 Earnings Conference Call

July 25, 2013 10:00 am ET

Executives

Edward J. Richardson – Chairman and Chief Executive Officer

Kathleen S. Dvorak – Executive Vice President, Chief Financial Officer and Chief Strategy Officer

Wendy Diddell – Executive Vice President, Corporate Development and General Manager, Canvys

Analysts

Mark Zinski – 21St Century Equity Research

Operator

Good day, ladies and gentlemen and welcome to Richardson Electronics Fiscal Year 2013 Fourth Quarter Earnings Conference Call. At this time, all participants are in listen-only mode. We will facilitate a question-and-answer session towards the end of this conference. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

I would now like to turn the call over to your host for today, Mr. Ed Richardson, Chairman and Chief Executive Officer. Please proceed.

Edward J. Richardson

Good morning and welcome to our fourth quarter 2013 conference call. Joining me today are Kathy Dvorak, Chief Financial Officer and Wendy Diddell, Executive Vice President of Corporate Development and General Manager of Canvys. As a reminder, this call is being recorded and will be available for audio playback on our website.

During the call, we may make forward-looking statements, and based on certain risk factors our actual results could differ materially. Please refer to our press release and SEC filings for an explanation of our risk factors.

Going into fiscal 2013, we had high hopes for a strong revenue growth in existing businesses. Unfortunately, we did not see the global economic recovery we had expected to in fiscal 2013 which resulted in lower-than-anticipated demand for replacement tubes. The added uncertainty surrounding healthcare reform have a negative impact on our display business as well.

Net sales for fiscal 2013 were below prior year across all geographic regions with business in Europe and Asia declining the most. In spite of this, we were able to keep gross margin relatively flat. There were some highlights in both business units which we will discuss with you later. While we took cost out of the organization throughout the year, we did so strategically and conservatively and we offset some reductions with investments in key areas.

Expenses in fiscal 2013 included strategic investments in our management team. We added resources in Powerlink, the microwave service company we acquired in September 2011 to strengthen our technical service capabilities. We are now much better positioned to support our growing base of laser equipment customers, which will increased our power grid tube sales.

We've also made inroads in servicing other RF equipment such MRI generators which are used in medical applications. It's critical to our future that we have right resources who are highly motivated to grow the business as economic conditions improve and we invest in new initiatives. During the year, we spent a considerable amount of time in acquisition activities. We acquired a small tube distribution company in September which has blended in nicely with our existing business.

This acquisition is also gave us an opportunity to strengthen our relationship and increase our sales is one of our key suppliers. We also spent time with more companies in the diagnostic imaging replacement parts market. We met with many independent service organizations OEMs and multi-vendor service companies and pursued two significant acquisition opportunities.

Today, medical equipment users are often forced to pay for expensive long-term service agreement or pay very high prices for replacement parts directly from the original equipment manufacturer. This provides an opportunity for a company like Richardson Electronics to sell high quality, affordable replacement parts to help control medical costs.

Hospitals are desperate to reduce cost as insurance companies cut reimbursement rates while demand for services is on the rise. Both EDG and Canvys currently sell products to medical OEMs. As well as direct to service companies and hospitals. So this is a market we already know well.

Now let me turn the call over to Kathy to present the details of our financial performance.

Kathleen S. Dvorak

Thank you, Ed, and good morning, everyone. Fiscal 2013 was an extremely challenging year for Richardson Electronics. Our performance fell significantly short of our expectations and certainly reflected the lackluster global recovery. Sales for the year were $141 million, down 10.6%. Gross margin was down slightly from the prior year at 29.5%. Operating expenses were $41.5 million for fiscal 2013 compared to $40.6 million in fiscal 2012.

However, operating expenses in fiscal 2013 included $1.2 million of employee related termination expense. Operating income for fiscal 2013 was disappointing at break even and therefore we continue to work to reduce our cost base and are actively reviewing opportunities to take cost out of the organization as appropriate without jeopardizing our long-term growth objectives.

Interest income for the year was $1.3 million and foreign exchange was a $760,000 loss. The loss on foreign exchange primarily relates to the first three quarters of the year where we held more U.S. dollar in foreign subsidiaries. Early in the fourth quarter, we reduced our exposure to US dollar sales to what was absolutely required to operate.

We also have intercompany balances in different currencies that affect our FX gain/loss through revaluation. Income from continuing operations before tax was $642,000. Our tax provision from continuing operations for the year was $160,000 or 25% effective tax rate.

Looking forward, we anticipate that our cash tax requirements will do minimal, while our effective tax rate will be closer to a more normalized 38%. Our tax calculations are complex and are impacted by our geographic distribution of taxable income, as well as our forecasted cash available to distribute that to the U.S. from each of our foreign jurisdictions.

Income from continuing operations for fiscal 2013 was $482,000 or $0.03 per share. Cash and investments at year end were $146 million. We have been actively repurchasing shares and used about $3.5 million in cash during the fourth quarter. Our share count is now 14.6 million shares outstanding or roughly $10 of cash per share.

On a positive note, we generated $8.6 million of cash from operations. This includes $5.8 million of cash generated from working capital to $5.8 million source of cash reflects a decrease in our inventory of $2.5 million, a decrease of receivables of $1.8 million and then increase in accounts payable of $1.5 million. Just to clarify, this is cash flow net of any effects from foreign currency exchange and acquired businesses.

Turning to fiscal 2014, our outlook is for sales to be in the range of $155 million to $160 million with first quarter sales in the range of $35 million to $37 million. This does not include any upside opportunity related to potential acquisitions that can help us accelerate our top line growth and leverage our cost structure.

Our goal stated simply is to identify opportunities to grow sales, cut costs and create value. That being said, the current market dynamics are creating ongoing uncertainty for our business. Planning and inventory management are more difficult given the volatility we are experiencing in business forecasts provided by our customers, reflecting their varying degrees of confidence.

We are taking actions to reduce our costs through head count reduction, while working on productivity improvements that will be derive from a new Microsoft’s ERP system. Technology will play a key role in enabling us to work more efficiently and at lower cost in the years ahead. We will keep you apprised of our progress and look forward to talking with you in October.

Now, let me turn the call over to Wendy, who will discuss the operating performance of Canvys.

Wendy Diddell

Thank you, Kathy and good morning everyone. FY 2013 was a tough year for Canvys. The continued economic crisis in Europe and uncertainty over healthcare regulation in the United States created a challenging environment for medical equipment sales. Healthcare capital spending albeit came to a standstill during the year restricted sales of new equipment as well as refreshes and upgrades for picture archive and communication systems or what we call PACS.

Canvys sales for the fourth quarter were $8.7 million, a 24.6% margin versus $11.9 million a 23.3% margin in the fourth quarter of FY 2012. For the full year, sales were $38.5 million a 26.3% versus $45.2 million a 26.9% last year. Sales in the North America OEM segment were only slightly below prior year. Sales in Europe and in the Healthcare segment showed more decline in light of the challenges.

Given concerns of our market conditions, Canvys reduced head count throughout the year. We’ve started the fiscal year at 92 full time employees and now have 83. The head count reduction was primarily in Europe, but we also reduced the staff in our North American segments by three, where possible, primarily in production in our North American OEM segment, we used temporary staff to manage fluctuating demand.

On a positive note, in the last few months, both the North America and European OEM segments have won several programs with new customers in both the industrial and medical market. These are companies that have not bought from Canvys in the past. This is the direct result of the commitment the team has made to focus on new business development over the past 18 to 24 months.

Our existing customer base remains stable, although volume maybe down. We continue to win new programs as these customers update or introduce new systems. Competition is fierce. We must work with our partners continuously to secure cost reductions while meeting our customers other requirements for enhanced features, certifications, end of life technology management and just in time deliveries.

We are selling to some of the most prominent manufacturing companies in the world and to succeed we need to continue to offer world-class service. The fact that we’ve added customers to our base and held margins relatively flat is a testament to the team’s ability to provide and prove its value.

Our Healthcare segment, which includes the sale of PACs displays directly to hospitals, continues to be more challenging as hospitals keep a tight rein on capital spending. At the end of our last fiscal year, we thought that healthcare reform would have a positive impact on our business.

We along with many equipment manufacturers felt certain that hospitals had pent-up demand and need for new equipment. Unfortunately, we didn’t see this in FY 2013 as reductions in reimbursement rates, tight bank credits and other questions surrounding healthcare reform were raised.

However, backlog is building and we have several large projects pending, which we should win and ship later in the year. We're also seeing a good amount of interest in Latin America. Last year, we’re using EDG team to support the sale of PACs displays. It will take some time to develop traction in this market, but we are optimistic our efforts will generate incremental sales.

Let me be clear, we don’t see the healthcare market is declining. It is more a matter of waiting out the dry spell. At some point, the hospitals have no choice but to upgrade or refresh their PACs displays. We continue to offer the best products and services at very competitive prices. We can help the hospitals get more with the money they have allocated.

We like what we are seeing now in terms of new account acquisitions, but we know the business will continue to be challenging in FY 2014. Our objective is to keep the team focused on selling and selling profitably. We will continue to manage expenses in line with sales and control our inventory in the same manner. Ed will now provide an update on EDG.

Edward J. Richardson

Thanks Wendy. EDG’s fourth quarter sales continue to be impacted by challenging economic conditions. Sales in the quarter were $26.4 million, a 30.6% margin. Having said this the fourth quarter was actually the best quarter of the year for EDG although it bounced slightly from fiscal year 2012 fourth quarter sales of $27 million, a 30.9% margin.

EDG finished FY 2013 at a $102.6 million in sales at 30.6% margin versus the prior year at $112.6 million at 30.8% margin. We did not feel the decline of an indication this power grid tubes have been replaced by solid state devices. We continually hear that our customers have reduced working hours which reduces the need for replacement tubes or they cannibalize parts from equipment that's not in service.

We know from past history that this only works for so long and as the market recovers, we will see an increased demand.

There were some highlights during the year, in the smaller acquisition we made in September of 2012 in the Powerlink acquisition have been good investments for us offsetting some revenue declines and improving overall margin.

We've added engineering resources to Powerlink helping us provide more service to customers which do not have the ability to replace tubes in their own equipment. This is particularly true in Europe and Asia. We also added the capability to repair driver stages which gives our customers a cost-effective alternative to buying the part from the original equipment manufacturer.

Sales in industrial consumable parts such as lenses, nozzles, bellows and mirrors increased dramatically. Revenue grew nearly four times over the prior year and exceeded our product margin expectations.

While a tube may last two or three years in constant use, consumables need to be replaced regularly, sometimes even monthly. The frequency of contact required to sell consumables puts us in front of our customers on a more frequent basis and make us a more valuable supplier and ultimately help us sell more tubes. Our customers continue to inform us if their backlog is improving and they’re optimistic the economy will show growth through the remainder of calendar year 2013.

The demand for laser tubes remain strong and is a major focus of our sales activity. In the new fiscal year, we'll be investing in the vacuum capacitor market. The global market for vacuum capacitors is roughly $80 million; the total market for all types of power capacitors is in excess of $200 million annually. We believe there is a need for an alternate supplier and we recently hired a new business unit manager to help define and fill the market requirements.

Our plan is to quickly bring products to market that are high quality, cost competitive and engineered to our customers needs.

We’ll continue to focus in our core businesses and make strategic acquisition to bring new products and resources in Richardson Electronics. We will regularly evaluate our resources and look for efficiency gains across all business units and support functions.

We've reduced head count in Canvys and EDG to ensure our costs are in line with budgeted revenue. We will also continue to compensate the sales team on new business developments. A key element of our growth strategy is to actively pursue replacement parts for the diagnostic engine market.

We’re focused on glassware, flat panel detectors, and other high-value products. We're confident that we can be a very cost competitive alternative source for diagnostic imaging parts. We will accomplish this objective through a combination of acquisitions and organic growth.

We’ll continue to spend a significant amount of time on acquisitions that take advantage of our existing global infrastructure. We’re looking for looking for sizable companies which are immediately accretive to earnings and which will provide a solid platform in the replacement parts business. We recently added a diagnostic imaging engineer to explore the opportunity to replace flat panel detectors in certain applications.

The flat panel detector replacement can cause the end user up to a $120,000. Our objective is to develop a situation that can be purchased at a much lower price. We’re also working on strategic relationships to offer third-party CT replacement tubes and repair MRI generators. Similar to flat panel detectors, if a CT tube fails, the cost to replace the tube with the OEM parts can exceed $200,000.

We are not happy with the company’s current performance, rest assured you have our commitment to find new ways to grow Richardson Electronics and provide an acceptable return to our shareholders without undue risk.

At this point, Kathy, Wendy and I will be happy to answer your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Mark Zinski with 21St Century Equity. Please proceed.

Mark Zinski – 21St Century Equity Research

Yes. Good morning, everyone.

Edward J. Richardson

Hi Mark.

Mark Zinski – 21st Century Equity Research

Hi. Ed, just wanted to dive into EDG a little bit. Firstly, can you comment on the – like the scope of the CO2 laser business in terms of year-over-year performance?

Edward J. Richardson

Yes. We’re seeing growth at about 25% rate as far as users are concerned and we’re really pleased with that as far as the tubes go and the consumable parts as you or I mentioned earlier, as you may have seen, is up about four times over last year. So that’s really been quite encouraging to watch how the consumable parts business is growing and that will also produce more tube business going forward.

Mark Zinski – 21st Century Equity Research

Generally the recovery in the global auto industry market, are you seeing pretty long-term opportunities there? And is it – I think you mentioned you're putting some more resources into the CO2 lasers. So is that a long-term strategy to kind of develop it a little more?

Edward J. Richardson

Absolutely, we’ve seen the sales of new equipment in CO2 laser applications really to be very strong, particularly China and in Asia. And once that equipment is in the field, it's in service; there is still equipment out there that’s in the service for almost 20 years. So its provides a replacement market for a long time to come.

Mark Zinski – 21st Century Equity Research

Okay. And then in terms of your technical service centers as they relate to the Powerlink acquisition, are you rolling out any more centers or kind of where are you in that process?

Edward J. Richardson

Well, what we've done is we changed their direction a little bit. Powerlink's historic business has been in the repair of the amplifiers of satellite communications and the microwave area. We have some excellent engineering talent there. And because of our focus in the laser business we've really had them change directions a little bit and started to repairing driver stages for laser equipment and also working on some RF amplifiers that go into medical applications.

What we have done is we've developed either a network of technicians that are either a network of technicians that are our employees or relationships with independent service companies where we can offer to install tubes, laser tubes for customers who can't repair their own equipment, almost on a global basis. In the United States, about 50% of the users, 50% to 60% can repair their own equipment and it's not so much of an issue, When you look at Asia for example, 90%, 95% of the customers do not replace tubes in their own equipment. So we have to offer service and installation capability to sell tubes.

Mark Zinski – 21st Century Equity Research

Okay. So from a CapEx perspective though you're not really investing significantly in new -- like new technical service centers per se.

Edward J. Richardson

No we haven’t done that at all, no nothing.

Mark Zinski – 21st Century Equity Research

Okay. In terms of Canvys, I'm wondering how the uncertainty regarding healthcare regulations is obviously impacting Canvys' performance, but how is that impacting your acquisition strategy. Are you more inclined to see how it's going to shake out before you do an acquisition or are you still very much focused on acquisitions in that space?

Edward J. Richardson

We're really not focused on acquisitions in the display space at this times and what we really want to do is to get Canvys on a very solid footing and make sure it's a profitable growth business for the future and once we get in that position, then we may look at acquisitions. The acquisitions that we're really looking at now are in the medical space. We really want to build a platform for diagnostic imaging replacement parts that we can take through our global infrastructure. So almost all of our time in acquisitions is being spent in that space right now.

Mark Zinski – 21st Century Equity Research

Okay. Just in terms of Canvys again, I was wondering if maybe Wendy could chime in about this new QC Vue product and its market potential in terms of being able to read images on mobile devices. Have you seen any sales tractions with that product yet and what's kind of your view point on the long-term market potential there?

Kathleen S. Dvorak

Good question. Have we seen any sales that result QC Vue. I can't say that we have per se. There is a tremendous amount of interest in it; obviously the whole world is going towards these mobile applications. So the more we fall in line with the market trend the more valuable hospitals, the radiologists. CS is a technology provider. So what I think it will do, it'd be a phenomenal marketing tool for us and open that maybe not have been opened otherwise.

Mark Zinski – 21st Century Equity Research

Okay. So in theory then it means radiologists could be reading images from anywhere on these devices.

Kathleen S. Dvorak

That’s correct.

Mark Zinski – 21st Century Equity Research

Okay. And then last question and this is for Kathy, in terms of gross margin, are you seeing any pricing pressure in terms of some of the global weakness out there? Are any folks kind of asking for pricing concessions or do you think that the gross margin has a pretty solid bottom and it should be pretty stable?

Kathleen S. Dvorak

I'm going to let Ed jump into that one.

Edward J. Richardson

We're really not – we are not seeing a lot of pressure on margins, our margins are either flat or up depending upon the product line. It has more to do with the economy and whether the equipments in the past in service and the other issue which I mentioned is when equipment is not in service, a lot of these industrial accounts learned back in 2008 that they're better off that cannibalize tubes from equipment that's not in service rather than buying new replacement parts. So we've seen a lot of that and again they'll only last for a short period of time, and once those parts are gone they have to buy replacement part. But now our margins are, especially in EDG are being maintained very well and are not under pressure.

Mark Zinski – 21st Century Equity Research

Okay, great. That's it from me. Thank you.

Operator

(Operator Instruction). We have no additional questions at this time. I would now like to turn the presentation back over to Mr. Ed Richardson for closing remarks.

Edward J. Richardson

Thanks Lisa. Well, thank you again for joining us. We recognize, we do not success without our employees and our partners and we thank them for another year of support and commitment during a very challenging set of conditions. We look forward to discussing our fiscal 2014 first quarter results with you in October and we wish you all the best in the coming months.

Operator

Ladies and gentlemen that concludes today's presentation. You may now disconnect. Have a great day.

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