Giga-tronics' (GIGA) CEO John Regazzi on Q3 2016 Results - Earnings Call Transcript

Giga-tronics Incorporated (NASDAQ:GIGA)

Q3 2016 Earnings Conference Call

February 4, 2016, 4:30 PM ET

Executives

John Regazzi - President and Chief Executive Officer

Steve Lance - Vice President and Chief Financial Officer

Analysts

Operator

Welcome to the Giga-tronics’ Third Quarter Earnings Conference Call. My name is Vanessa and I’ll be your operator for today’s call. At this time, all participants are in a listen-only mode. And later, we will conduct a question-and-answer session. Please note that this conference is being recorded.

And I will now turn the call over to Mr. Steve Lance, Company’s CFO. Sir, you may begin.

Steve Lance

Thank you, Vanessa. First, I would like to read our Safe Harbor Statement. This conference call contains Forward-Looking Statements concerning operating performance, future orders, long-term growth, quality control certification and shipments. Actual results may differ significantly due to risks and uncertainties such as delays with manufacturing and orders of new products, receipt or timing of future orders, cancellations or deferrals of existing orders, the ability to regain As90100C quality certification, the Company’s potential need for additional financing, ability to be traded on NASDAQ, the volatility in the market price of our common stock and general market conditions.

For further discussions, see Giga-tronics’ most recent Annual Report on Form 10-K for the fiscal year ended March 28, 2015, Part I under the heading Risk Factors, and Part II, under the heading Management’s Discussion and Analysis of Financial Conditions and Results of Operations.

I will now turn the call over to John Regazzi, our Chief Executive Officer. John.

John Regazzi

Thank you, Steve. Good afternoon and thank you for joining our quarterly earnings conference call. I’ll first recap the numbers and then review the direction of the Company before opening the call to questions.

Net sales for the third quarter of fiscal 2016 were $4.5 million, which is identical to the $4.5 million reported for the same quarter a year ago. Net sales for the nine-month period ended this past December were $11.9 million which represent a decrease of 16% compared to $14.1 million reported for the same nine-month period a year ago. The decrease is primarily due to the large NRE contract received in the prior year related to the Company’s development of a radar filter for the F16 aircraft.

Net loss for the third quarter of fiscal 2016 was $602,000 or $0.09 per fully diluted common share as compared to a net income of $67,000 or $0.01 per fully diluted common share for the same quarter a year ago. The net loss in the third quarter of 2016 as compared to the third quarter of fiscal 2015 was primarily due to decreased revenues from the F16 radar filter development which had a lower cost of sales compared to product sales.

Additional sales and marketing expenses associated with the newly advanced signal generator and $97,000 unfavorable non-cash adjustment associated with our warrant debt agreement as compared to $107,000 favorable adjustment in the third quarter of fiscal 2015. Net loss for the nine-month period ended December was $2.5 million or $0.40 per fully diluted share as compared to a net loss of $283,000 or $0.05 per fully diluted share for the same nine-month period of last fiscal year.

The higher net loss for the first nine months of fiscal 2016as compared to the first nine-months of last fiscal year are primarily due to the decreased revenues associated with the radar filter development and the additional expenses in sales and marketing associated with the advanced signal generator. We’ve also included the non-GAAP numbers in the earnings release, which excludes non-cash expenses associated with our warrant debt agreement and stock based compensation, so you can see the true operating results.

I would like to now switch to a discussion of the Company’s future direction. This will help put into context the recent press releases announcing new events here at Giga-tronics. The Company is moving toward a focus on two business segments; the first is radar filter business that we conduct through our Microsource subsidiary.

The prior generation of fighter jets that includes the F15, the F16, and F18, are all getting upgraded radars similar to the new ones designed for the F22 and F35, as a means of extending their useful life. The U.S. government is sponsoring this work domestically and internationally. The new radars when installed as part of an upgrade can cause interference with an aircrafts other existing electronic systems because it's so much more powerful than the one it replaces. The Microsource radar filter solves this interference problem.

Depending upon the configuration of the aircraft, it can take between one and four filters per plane to fix the interference problem. The filters sell for about $35,000 each. We currently have more than 10 million of backlog for these filters and we expect this to grow substantially as the U.S. and foreign governments around the world place orders for upgrades.

With more than 3,000 F16 jets still operational worldwide, the opportunity could exceed 100 million over the next three to five years, including the planned F15 upgrades. Microsource is a soul source supplier for these filters and works closely with the two major U.S. prime contractors responsible for upgrading the jets. The margins on these filters are approximately 50%.

The second area of focus relates to the major investment we've made over the last four years in the Company’s new advanced signal generator. This new product has moved Giga-tronics into the threat simulation market. Threat simulation is the art of generating realistic signals, mimicking a potential advisories radar in order to evaluate the effectiveness of our countermeasures. The Giga-tronics advanced signal generator is being well received at the prime contractors, the service branches and at research institutes around the country.

In our third quarter of this fiscal year, we announced receiving $1.4 million order from a major prime contractor and we just received a $433,000 follow-on order in January from the same prime contractor for additional advanced generators. We shipped $1.3 million of advanced generators in the third quarter, a record amount as our production team refine the process for building and testing these complex instruments. These new generators carry average selling prices more than 10 times higher than our traditional signal generators and substantially higher margins as production matures.

We also announced in the third quarter a strategic software licensing agreement with Lockheed Martin to develop and license threat simulation software as a commercial product. This is a tremendous opportunity for Giga-tronics to leverage the threat generation expertise of Lockheed Martin into an off-the-shelf commercial product.

For years, customers have requested an alternative to custom large scale long lead time systems which is largely all that’s been available up until now. The combination of our advanced signal generator and Lockheed’s threat simulation software will satisfy this underserved community by creating an easy to use compact solution with short availability. It will greatly expand the addressable market for our new generator. The Company expects to begin shipping the advanced signal generator with the new software package within six months.

Giga-tronics will continue investment in this new platform and is currently developing a companion receiver to the advanced generator that will begin shipping in the quarters ahead. A high performance receiver is another needed component in the complex process of evaluating an modern EW equipment. As well as for opening the platform to address markets adjacent to threat simulation, such as radar target generation and surveillance.

The initial focus on these two segments will drive the Company’s margins higher and will provide top line growth as we build market share within the $100 million annual threat simulation market. The sale of our legacy businesses to Spanawave Corporation announced in the third quarter will eliminate the lower margin products currently in our portfolio and will help us focus our resources on our primary segments.

Payments totaling $1.5 million, which will add to working capital will be made by Spanawave to Giga-tronics over a planned transition period with half of the payments expected by this summer. The Company will continue to look for opportunities to trim other product lines in order to concentrate on higher margin and high growth businesses.

Finally, the Company recently announced the close of a successful $3.5 million capital raise. The financing attracted new individuals to the stock many of whom are knowledgeable and successful technology investors. This infusion of cash provides the working capital we need to meet order demand for the radar filters and advanced generators, assures our continued listing on the NASDAQ exchange and allows us to add resources to more quickly capitalize on the threat simulation opportunity.

With that I would like to open the call for questions.

Question-and-Answer Session

Operator

We will now take questions [Operator Instructions] And we do have a question in queue from [Frank Paresa with Ameriprise] (Ph). Please go ahead sir.

Unidentified Analyst

Hi guys. One question I had was you talk about inventory being sold to Spanawave, so is that in addition to the $1.5 million or some payments for inventory?

Steve Lance

That’s correct Frank, this is Steve Lance. Yes there is some associated inventory, inventory balances change daily, but somewhere in the range of $0.5 million of inventory will move over to Spanawave.

Unidentified Analyst

Okay and then they are not going to make any - I get the impression it was a little hard to tell, but they are making some payments now, but half the payments will be at the very end, is $750,000 at the very end and…

Steve Lance

Yes that’s correct. We’re transitioning everything over in five or six phases and the more valuable products are moving at the tail end of the agreement. So, as we transition each phase of products, there is payments involved. And at the end it totals $1.5 million. Also during the transition period over the next six-months or so inventory will be moving as each one of the products move.

Unidentified Analyst

Okay and then after this sale how much of your legacy products or the revenue you generate is left, I mean what percent of this revenue is going to be gone?

Steve Lance

Yes it’s a good question. The legacy product revenue has really declined over the last fiscal year. Right now, I estimate about 10% of revenue from like the prior year goes away, just because of the decrease in the current level of sales. These products years ago maybe five years back represented half but it's down to like 10%.

Unidentified Analyst

Okay and then I get the impression from what you are saying that you are playing on selling other product lines as well, or you hope to anyway at a decent price.

Steve Lance

That would be correct.

Unidentified Analyst

Okay. Then John the last shipments, the order you referred to the $1.4 million did $1.3 million of that is shipped last quarter is that what the press release said, or….

John Regazzi

No, Frank this is John. Frank we had more backlog than that so the $1.3 million included some of the $1.4 million plus some other backlog that we carried over from the second quarter.

Unidentified Analyst

Okay. So it included some of the $1.4 - I'm sorry.

Steve Lance

Over half of the $1.4 million shipped during Q3.

Unidentified Analyst

Okay. So over half of the - whatever its, over half of the big order you referred to is shipped.

John Regazzi

Right and then the balance was other backlog that carried over from the prior quarter.

Steve Lance

That we are still shipping on.

Unidentified Analyst

Okay and the $443,000 follow-on order they placed that after they received, they were satisfied with what they received and then they placed this order.

Steve Lance

We received the order after early part of January so it was after the Q3 shipments.

Unidentified Analyst

Okay, because it's taken a long time to get everything shaken down with your product line, and so John have you ironed out all the bugs with these last shipments?

John Regazzi

I would say largely so on the generator Frank, if we have the parts and the manufacturing builds it correctly. they work, and they can ship them. So it's not a situation where there is tuning or there is engineering intervention the recipe is solid.

Unidentified Analyst

Okay, so we would expect to see a lot more orders I mean if your assessment is correct, you mean so you think you can make it without a bunch of babying the system and then manufactured and ship it and it meets the specs that the customers want?

John Regazzi

Correct.

Unidentified Analyst

Okay, and so what is the backlog for the ASG now?

Steve Lance

We typically don’t give out backlog numbers on the call.

Unidentified Analyst

Okay, but is it still as before, there is customers are not happy with their alternatives and there is - as there is much interest as there was before or have any of other competing products arrived on the scene?

John Regazzi

Well, they are very interested in the product that’s for sure. And as we get caught up and start to have hardware available for demonstration, the interest is growing. There is a lot of these people in the community, they like the concept, they like what we’ve shown that the product can do but it's always a matter of getting one in their hands and letting them prove to themselves that it's working. And so the interest in the product is certainly growing strong.

To say there is no other competitors that’s not true, the incumbents in the space are trying to address this area of the market by building downsized versions of their very large custom systems. But they don’t scale well and I believe that the product that we’ve designed which was aimed squarely at this segment of the market is a superior solution and I believe the interest and feedback we are getting from customers is proving that baring that up.

Unidentified Analyst

Okay, alright and then and I guess when you said the receiver that's the down converter, you are talking about building a receiver in the coming quarters?

John Regazzi

Right. I was referring to the down converter.

Unidentified Analyst

Okay. And how well - I guess you don’t know when it will be done but to anticipate your

John Regazzi

Frank it's derived from the up converter and so a lot of the shaking we did on the up converter applies to the down converter. But it's a design cycle behind so I'm not able to tell you that it's a solid as the up converter right now and we really only have delivered some prototypes for evaluation, we haven’t delivered final units yet. But we do expect to do that in the coming quarters as I said.

Unidentified Analyst

Okay. And you talk about a $100 million market. I guess potential for this product is you got all the business in it or is that what you are referring to or…

John Regazzi

Well that's a total market total available, I think that Giga-tronics' believes it can build a reasonable share of that over the next few years.

Unidentified Analyst

Okay. And a lot of that markets they are down converter or is it mostly the up converter and the software or.

John Regazzi

From what we see today is mostly the up converter in the software, but it's the availability of a down converter that makes customers choose our platform over someone else’s.

Unidentified Analyst

Okay because the down converter.

John Regazzi

I don’t track I don’t know the exact numbers, but for every 10 up converters maybe we sell one down converter. These systems require receiver to listen to what is being created, it takes many up converters to create the full signal, but you can listen to with one down converter. That's not an exact representation, but it's roughly how we see the markets playing out.

Now I also mentioned there is adjacent markets that will open up with the presence of the down converter and I'm not prepared to talk in detail about that but that will have its own dynamic and will probably driver for demand for down converters than this particular market.

Unidentified Analyst

Okay got it. Okay well thanks guys. Appreciate it.

John Regazzi

Thank you Frank.

Steve Lance

Yes, thank you Frank.

Operator

Thank you. We do have another question in queue from [Billy Takeda with WRG Capital Partners] (Ph).

Unidentified Analyst

Hi, gentlemen. Thank you very much for taking the time for this presentation. I was looking at financial statements and it looks like that you guys have a current operating loss carry forward. What are those and when do you anticipate that they will expire?

Steve Lance

Yes. We do have operating losses and we anticipate that they will expire over the next eight, ten years or so. They are just operating NOLs carried forward from losses the company incurred lot of it during the development of the new again signal generator.

Unidentified Analyst

Okay, thank you. Just as a follow-on question with regards to the real time threat stimulation product that you have put out on the market. What is the overall competitive landscape in that arena and what makes your product differentiated from other commercially available products in the market?

John Regazzi

Okay. This is John. There is a number of things, let's talk about the advanced signal generator. First of all, it's a modular product, the threat stimulation market requires multiple signal generators and our nearest commercial competitor, I would call key sites and they have a box and it's got a front panel and knobs and buttons on it and when you want to address a multi emitter situation, you have to pile a stack of these on top of one another. We are about half the size and weight of that solution, because we can fit four signal generators within about a 12-inch space.

On top of that the key site offering does not include a software program is capable as the one that we were working on with Lockheed Martin, so I believe that our solution is just a superior by itself. But as I said, this emerging market space is becoming visible to the incumbents that were delivering product in the past and they are all scrambling to produce a downsize solution.

But when you have a large multi rack system that takes a lot of calibration before it's ready for use. It's not easy to downsize that into a small desktop solution. A best analogy I think give you is back in the early days of the desktop computer, you can't take a mainframe and put is on somebody's desk. And that’s why I think what we are doing with our advanced signal generator, we are putting cash capability in the hands of the average engineer who can’t get their hands on a larger thread stimulator, because it's tight up doing other work.

Unidentified Analyst

Okay. Thank you very much.

John Regazzi

Okay.

Operator

Thank you. We have no further questions in queue.

John Regazzi

Okay Vanessa, thank you, and I thank everybody for their participation and interest in Giga-tronics. Good afternoon.

Operator

Thank you ladies and gentlemen, this concludes today's conference. We thank you for participating. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!