Anaren's CEO Discusses F4Q 2011 Results - Earnings Call Transcript

Aug. 3.11 | About: Anaren, Inc. (ANEN)

Anaren, Inc. (NASDAQ:ANEN)

F4Q 2011 Earnings Conference Call

August 3, 2011 17:00 ET

Executives

Larry Sala – President and Chief Executive Officer

George Blanton – Chief Financial Officer

Analysts

Mike Walkley – Canaccord

Rich Valera – Needham & Company

Chris McDonald – Kennedy Capital

Operator

Good day ladies and gentlemen, and welcome to the Anaren Q4 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions)

As a reminder this conference call is being recorded. I would now like to turn the conference over to Larry Sala. You may begin.

Larry Sala – President and Chief Executive Officer

Thank you. Good afternoon and thank you for participating in the Anaren fiscal 2011 fourth quarter conference call. I am joined again today by George Blanton, our CFO; and Joe Porcello, our VP of Accounting. I will provide brief overview of the results to the fourth quarter after which George will review the financial highlights; we will then take your questions.

Certain statements made during this conference call will be forward-looking statements. These statements involve risks and uncertainties that could cause actual results to differ materially from those discussed. You are encouraged to read and review our SEC filings and exhibits to those reports to learn more about the various risks and uncertainties facing our business and their potential impact on our net sales, earnings and our stock price.

Net sales for the fourth quarter were record $47.2 million, up 4% from the fourth quarter of last year. Continuing robust demand for wireless standard components drove the overall increase in net sales. Non-GAAP operating income for the quarter was $6.4 million or 13.7% of net sales, down 4% from the fourth quarter of last year.

Margins were negatively impacted by $1 million charge for severance and excess inventory charges at our Anaren’s ceramics operation to better focus this operation on higher margin revenue stream. This initiative reduced annual operating cost by approximately $2.5 million.

Wireless Group net sales for the quarter were $19.7 million, up 36% from the fourth quarter of last year. The continuing increasing demand for standard infrastructure and consumer component drove the increase in net sales from the fourth quarter of last year and our customers are forecasting continued strong demand in to calendar 2012.

The strong demand is the result of the overall demand for increased wireless capacity and the continuing shift in demand to 4G basestation applications, where our new products have significantly increased our dollar content per basestation. We believe that our dollar content in many 4G basestation applications is two to three times our content in prior generations basestation equipment. In addition product yields improved to more historical level during the quarter resulting in significantly improved profitability for the group.

New product and technology development efforts remain focused on expanding our wireless product portfolio. During the quarter, the Group continued to expand the Xinger III the high power resistor and consumer component product lines. In addition, development of the Anaren Integrated Radio or AIR product lines of low power wireless transceiver modules continues and we anticipate Wireless Group R&D spending to continue at current levels.

The number of AIR products design wins continues to increase and we remain optimistic as to the future revenue potential from the AIR product line. Customers that exceeded 10% of Wireless Group net sales for the quarter were E.G Components, Huawei, Nokia and Richardson.

For the Space & Defense Group, net sales for the quarter were $27.4 million down 10.7% from the fourth quarter of last year. And unfavorable sales mix, new production start ups and the severance costs and inventory write down due to reorganization at Anaren's ceramics negatively impacted the Group’s profitably for the quarter. We anticipate improved margins for the group in the first quarter of fiscal 2012 due to a more favorable sales mix and improved profitability at Anaren's ceramics.

Product and technology development issues for the Group remain focused on expanding our RAD-hard hybrid electronic module product lines for space applications, advancing our RF manifold and hybrid electronic module technologies for radar applications and the development of integrated microwave assembly technology.

New orders for the quarter were $30 million and included contracts for components and assemblies for ground based radar, shipborne jamming and various satellite applications. Space and defense order backlog at June 30, 2011 was $90.6 million. Customers that generated greater than 10% of Space & Defense Group net sales for the quarter were Lockheed Martin, Northrop Grumman, and Raytheon. George?

George Blanton – Chief Financial Officer

The highlights of the fourth quarter income statement and balance sheet at June 30, 2011, are presented on a non-GAAP basis. These non-GAAP measures are each adjusted from GAAP results to exclude certain non-cash items including equity-based compensation and intangible amortization. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with accounting principles generally accepted in the United States. Please refer to our Q4 earnings release for a reconciliation of GAAP and non-GAAP measures.

Non-GAAP gross margin was $18.1 million, or 38.4% in the current quarter, compared to $16.71 million or 37% for the fourth quarter of last year. Gross profit as a percent of sales increased by 140 basis points compared to the fourth quarter of last year due to a more favorable sales mix including increased shipments for wireless products, which offset lower margins in the Space & Defense Group. We expect company non-GAAP gross margins to be between 37% and 41% for the first quarter of fiscal 2011.

Investment in research and development was 10.1% of net sales in the fourth quarter compared to 9.5% of net sales in the fourth quarter of last year. R&D spending increased in support of the Wireless Group, AIR product development and increased spending in the Space & Defense Group for satellite programs.

The new Space & Defense Group programs are anticipated to generate $10 million in funded engineering revenue over the next 15 months. Other R&D efforts are supporting wireless standard component product development as well as a number of projects in the Space & Defense Group and are expected to decline slightly as our engineers are increasingly applied to funded customer development work.

Non-GAAP operating income was 13.7% of net sales for the fourth quarter of fiscal 2011 down 220 basis points from 14.9% in the fourth quarter of fiscal 2010. The decrease was the result of the reorganization in Anaren's ceramics higher R&D expenditures and less favorable Space & Defense Group product mix.

Included in the fourth quarter results were a termination fee of $600,000 and an expense reimbursement of $200,000 received due to the terminated AML transaction, and a charge of $1 million for severance expense and excess inventory costs related to the reorganization and reduction in workforce at the company's Salem, New Hampshire facility. $600,000 for the AML termination fee was recorded as other income and $200,000 was recognized as D&A.

The net impact to operating income was a negative $800,000 for the quarter. Interest expense for the fourth quarter of fiscal 2011 was $105,000 compared to $139,000 for the fourth quarter of last year. We expect interest expense for the first quarter to be approximately 100,000.

Non-GAAP net income was 10.6% of net sales or $0.34 per diluted share for the fourth quarter of fiscal 2011, compared to 10.3% of net sales or $0.32 per diluted share for the fourth quarter of last year. The effective income tax for the fourth quarter of fiscal 2011 was 28%. This compares to a tax rate of 28.8% for the fourth quarter of last year. The projected effective tax rate for fiscal 2012 absent one-time events is expected to be 32%.

Balance sheet highlights include cash provided by operations was $8 million in the fourth quarter, capital expenditures were $2 million in the quarter. Cash, cash equivalents and investments were approximately $81 million as of June 30, 2011, up $3 million at March 31, 2011. The company repurchased 208,000 shares of its common stock in the fourth quarter. There were approximately 1.25 million shares remaining under the current board repurchase authorization as of June 30, 2011.

Accounts receivable were $31 million at June 30, 2011, up $2 million from March. Days sales outstanding was 58 days, up one day from last quarter. Inventories were $34 million as of June 30, 2011, down $2 million compared to last quarter. The decrease was a result of obsolete inventory written off at Anaren's ceramics and improved throughput in our Wireless Group. Inventory turnover continues to be strong in our Wireless Group, while our Space & Defense Group inventory turnover was relatively constant.

Larry Sala – President and Chief Executive Officer

Thanks George. For the first quarter of fiscal 2012, we expect comparable sales for the Wireless Group and decline in sales for the Space & Defense Group from our just completed fourth quarter. As a result, we expect net sales to be in the range of $40 million to $46 million. We expect GAAP net earnings per diluted share to be in the range of $0.22 to $0.27 using an anticipated tax rate of approximately 32% and inclusive of approximately $0.05 per share related to expected equity-based compensation expense and amortization of intangibles. Non-GAAP net earnings per diluted share are expected to be in the range of $0.27 to $0.32 for the first quarter.

We will now take questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question is from Mike Walkley of Canaccord. Your line is open.

Mike Walkley – Canaccord

Great, thank you. Larry, just wanted to dig into the guidance a little more assuming a better mix of wireless helps the overall gross margins in your guidance. But to get to the midpoint of your guidance, if wireless is flattish that assumes maybe space and defense down 15% sequentially. This is how we should be thinking about it and if so maybe you could walk us through why that – why the space and defense would fall that much sequentially? Thank you.

Larry Sala

Yeah, I mean, it is in the quarter, it’s not our expectation that, that’s longer term prospects for our Space & Defense Group for the year. It’s just the way that we expect the year to play out in our Space & Defense Group. It just happens that the second quarter and the fourth quarter from our current forecast are strong quarters and our first and third quarters are little lighter. It’s largely the result of the fact that we don’t have steady-state IUD work kind of filling in everyday, every week, every quarter. And so our Space & Defense Group is going to have a little lumpier shipments than they have historically this quarter. We’re certainly are seeing some headwinds in the Space & Defense Group, but we’ve got very strong backlog coming into the year. And it’s just the business will be we think a little lumpier than it’s been.

Mike Walkley – Canaccord

Okay great. Your backlog is about the similar amount as we came into last year’s. Is it flat year-over-year revenue, how we should think about that business?

Larry Sala

Now, we are definitely expecting to see our space and defense business to be down a little bit. The impact sequentially from the quarter is also a fact that we had a very strong quarter in the fourth quarter and exceeded our expectations a bit and that’s left us a little bit empty coming into the first quarter. But from an overall year standpoint, the transition at Anaren Ceramics that we make was exiting some of the LTCC development work that we have been participating in for the last couple of years. And that’s been about a $4 million a year revenue stream at Anaren Ceramics. So, that we don’t expect to see repeat this year. And that coupled with the IED business going away is driving our expectation to see some decline in our Space & Defense Group.

Our expectation is not on the order of 15%, but it’s something on the order of 5% to maybe 10% decline that we might see this year. About half of it due to just headwinds and slow orders and half of it due to our decision to exit this development network in LTCC, where it’s been a reasonable revenue stream, but it’s been a real margin drag for our Space & Defense Group.

Mike Walkley – Canaccord

Okay, thank you Larry, that’s very helpful in modeling. And switching to the wireless business, very strong results there, could you just update us on the 4G yield issues, if there is more gross margin upside from here or is this kind of a good way to think about the gross margin run rate that you just put up this quarter?

Larry Sala

Yeah, I mean, for our – I mean our Wireless Group, we really expect that gross margins should be in this relative range. There are certainly some opportunities for improvement, but we always expect that we’ll have issues as we go forward as well. So, we think the yield problems in general were behind the group for the vast majority of the quarter and gross margin should track in this relative range at these kind of revenue rates.

Mike Walkley – Canaccord

Great. And is Nokia a new 10% customer this quarter, I don’t remember from last quarter, and given kind of an improving LTE mix globally, are you seeing just new opportunities with different customers for your products?

Larry Sala

Yeah. This is the first time since we saw the significant decline in our custom business that Nokia’s cost backup is a 10% wireless customer. So, it’s just again the increasing dollar content of standard components we have has started to now play out at Nokia as well and driving Nokia to be a bigger percentage of our overall sales.

Mike Walkley – Canaccord

Great. And then just on the AIR product, can you give us any update, I know, it’s a good long-term opportunity and a big year-over-year R&D investment. Can you just maybe on any kind of activity metrics you might be able to share in just your overall long-term view of this opportunity?

Larry Sala

Yeah. I guess, in general, we kind of track customers that were actively engaged with customers, where we feel we’ve got design-ins and we are driving towards productions and then larger opportunities on that would be significant events in the group. But we are currently working with something on the order of about 250 different customers for our AIR products. We’d say 30, 40 of those are active design-ins, where we’ve got people who have laid out their product to accept our components and on some stage of moving towards finalization and production.

I’d say significant this year is we were selected for a couple of larger opportunities bigger that we would have said or typical for this AIR product line. We have said this is a product line targeting customers under 50,000 units, which would be customers that could generate a couple of hundred thousand dollars of revenue for us. But we are selected for a large lighting opportunity that we expect to be a million dollar plus opportunity for us over the next two years and we are also selected by TI to use our devices in their development kits that they send out to customers who are interested in adding wireless to their product portfolio. So, historically, TI would have designed the wireless component themselves and offer that as a reference design, but they have selected our module to use as the standard in their development kits. And so that will get our product in the hands of thousands and tens of thousands of customers and greatly increase our exposure as we go forward. So, those are two bigger wins for us that we were excited about during the quarter.

Mike Walkley – Canaccord

Great. Congratulations on those wins. And George, just a question for you on just on R&D, given you built – you have some of these satellite projects ramp over time, is the R&D levels we are seeing now, should they start to gradually come down over time as these projects ramp or given the AIR opportunities going so well that you might continue to invest in that area?

George Blanton

We think that we probably hit the peak right now in terms of our R&D effort. We think we’ll continue at similar levels on the AIR product. We think on the space and defense side we’ll start to see more of our engineering resources applied to funded work. So, I think we’ll see a slight decline over time, but going forward and throughout the year, I would think.

Mike Walkley – Canaccord

Okay, great. Well, good luck for all of your initiatives and I will pass the call on to the next person. Thank you.

Operator

(Operator Instructions) Our next question is from Rich Valera of Needham & Company. Your line is open.

Rich Valera – Needham & Company

Thanks. Good afternoon. Larry, you mentioned, it sounds like the forecast from your wireless customers remain robust, it sounds like into calendar ‘12. So, from a modeling perspective, is there any reason we shouldn’t assume that we stay close to this 20ish million per quarter level or is there any kind of seasonality or anything else that we should be thinking about there?

Larry Sala

It’s just the way we have it modeled. And that’s our best guess from everything we see. We always caution with – it can be volatile, and on short notice, but we’ve gotten first – our first look at some of our customers forecast for the 2012 calendar year as we are just now starting the process of negotiating pricing for calendar 2012. And so we’ve got as much visibility as we probably ever have and given that we ourselves modeling our wireless business to run at relatively these kind of levels for the rest of the fiscal year.

Rich Valera – Needham & Company

How about the potential incremental contribution from AIR, I guess, particularly in the back half of this fiscal year, could that be – could that move the needle some?

Larry Sala

Yeah, we’d say that, that’s not likely to have a real material impact at this kind of $20 million run-rate from everything we can see right now. We think if there is any upside opportunity it’s continuing to capture high market share and our customers actually achieving increase in forecast in the second half of the year. But everything we see in the forecast and the expectation we have price reduction we have to offer to continue to participate in this business for next year. Our best guess is relatively comparable revenue with the Wireless Group.

Rich Valera – Needham & Company

Okay. And just thinking about here AIR a little bit longer term maybe as we move in to fiscal '13 I mean when do you see this becoming something in the $5 million to $10 million type of range. Is that '13 or maybe beyond that.

Larry Sala

No, I think we are pretty confident as we progress through '13 that will start to be material revenue drive for our Wireless Group. Our expectations are that as we said for some time we will start to see meaningful orders late this calendar year and we will start to see this business ramp up in the second half of the year and as we get in to '13 it start to be a meaningful business of that order magnitude. It definitely there is a little bit longer development cycle that our typical wireless products because there is a fairly significant software development aspect to get these radios integrated in to a system. We are seeing that play out. We are seeing customers get through that and we are thinking this is maybe 14 to 18 month development cycle type of product as opposed to 9 to 12 month that’s more typical of our just standard component products.

Rich Valera – Needham & Company

Great and one more if I could on the Space & Defense Group, you mentioned in prior comment if you look at might be down I think 5% to 10% in fiscal '12. I know it’s a long way out, but how should we think about fiscal ‘13. I mean I assume given I think you will exit fiscal ‘12 that we should think about it higher, but any color there it on how we should we can have the business?

Larry Sala

We had and continue to see a broad array of opportunities and increasing dollar content. Number of different radar, satellite types of contracts and our integrated microwave assembly group is starting to get more traction on the receiver side. But we haven’t seen a lot of new opportunities in the last couple of years, but it just really hard to give color. We still see our customers slow to get us under contract though it seems our customers seem uncertain as to how much funding is really available for their programs. And it’s just hard for us to predict that bar in the future, especially with the uncertainty how much of the defense budget was going to take in terms of a cut here. So, we have added business development staff. We have added regional business development managers to our Space & Defense organization in the last six months and very capable and experienced people and we are aggressively try to capture as much opportunity as we can.

Rich Valera – Needham & Company

I know in the past you talked about that businesses is kind of having, you thought a longer term growth rate I think kind of approaching double digit. Is it the reason budgetary issues and just the sort of pressures on procurement that have got you rethinking that or as portfolio we think it might return to more predictable growth?

Larry Sala

I still think we believe that’s the fundamental growth prospects of this business. We have two headwinds coming in to this year that are challenging. We have got the IED business, which was somewhat of a onetime event for us and ran on the order of $13 million to $15 million a year, which ended in the third quarter of last year and then exiting this development work in the LTCC space. Those two pieces of the business together are above 10% of our wireless business last year maybe even a little more than 10%, business last year. So, trying to overcome those two hurdles as well as just the general challenging environment, slow environment on the Space & Defense side, I think it’s really more of the short-term impact here in the Space & Defense business. But we feel confident that this business still, we are such a small player, we see a lot of opportunity to increase our content that even in a slower spending environment this could still be high single digit type of organic growth business.

Rich Valera – Needham & Company

Great, that’s helpful. Thanks guys.

Operator

Thank you. Our next question is from Chris McDonald of Kennedy Capital. Your line is open.

Chris McDonald – Kennedy Capital

Hey guys. Thanks for taking my question. How would you characterize the mix of wireless business that you are selling now 3G versus 4G and maybe any color you could give around your customer’s plans and they transition towards more 4G content for the period that will be meaningfully larger from a revenue opportunity standpoint?

George Blanton

Sure, I mean, it’s a very tough number for us to quantify, because we don’t – our products aren’t defined as 3G products or 4G products. We to the best of our ability try to assess design wins and where products going. And our best guess today would probably be something on the order maybe 15% to 20% of our wireless sales are into 4G applications by. We caution that that’s the guess, because we do sell the same component into 2G, 3G, 4G applications and don’t have that much visibility to the absolute end use.

Chris McDonald – Kennedy Capital

Any idea or – and our industry projection when you think about the next year or two wireless infrastructure build-out and upgrade, how that mix just in the overall build that your customer shifts between 3G and 4G, I mean, we go from 15% this year to 30% next year. Just trying to get a sense for how meaningful that higher content could be when I think about the next couple of years of infrastructure build-out?

George Blanton

Yeah, looking at the early forecast that we have and again it’s not tied to 3G, 4G, we give forecast based on part numbers that we provide. Our guess would be it’s growth of that order of magnitude that we go from 15% to 20%, 25% to 30% kind of growth year-to-year. But also at the same time, we are always annually giving up pricing. So, some of that growth that’s driven by increasing dollar content is offset by reduced pricing as we go into next year.

Chris McDonald - Kennedy Capital

And then I think I thought George commented on the gross margins in the LTCC development business that the company is stepping away from, I just wanted to try to get a sense for the impact on the EBIT line of stepping away from that business?

Larry Sala

I think that business, in the fourth quarter we had this $1 million adjustment. That wasn’t a particularly strong gross margin performing product for us. I think when that goes away, it – I don’t know it’s hard for us to quantify exactly, but I would say we would be able to improve the gross margin by 0.5% of gross margin. It was definitely one of the lowest gross margin product lines in our business.

Chris McDonald - Kennedy Capital

Okay, excellent.

George Blanton

50 basis points if I clarify that, yeah.

Chris McDonald – Kennedy Capital

50 basis points at the space and defense level is what you were saying George, right?

George Blanton

Correct.

Chris McDonald – Kennedy Capital

Okay. Excellent, thanks a lot.

Operator

Thank you. (Operator Instructions) There are no further questions at this time.

Larry Sala – President and Chief Executive Officer

Great. We greatly appreciate your participation and we look forward to speaking with you again next quarter.

Operator

Ladies and gentlemen, this concludes today’s conference. You may now disconnect. Good day.

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