AgJunction Inc. (OTCPK:AJXGF) Q4 2015 Earnings Conference Call March 29, 2016 11:00 AM ET
Cory Pala - IR
David Vaughn - President and CEO
Mike Manning - Interim SVP and CFO
Spencer Churchill - Paradigm Capital
Ryan Levenson - Privet Fund
Good morning. My name is Lindsay and I will be your conference operator today. At this time, I would like to welcome everyone to the AgJunction Inc. Fourth Quarter Results Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. Mr. Cory Pala, Investor Relations, you may begin your conference.
Thank you, Lindsay, and good morning. Thank you everyone for joining us on our 2015 fourth quarter and year-end conference call and Webcast. This call is being broadcast live over the Web at agjunction.com, where it will also be archived for later review.
AgJunction's 2015 fourth quarter and year-end financial results were issued after close of markets yesterday and incorporate the operations of both AgJunction and Novariant, following a merger of the two companies during the fourth quarter. The financial statements reflect the entire 12 months of 2015 for AgJunction and include a portion of the fourth quarter, specifically the last 77 days of the year, for Novariant as the merger was closed during the fourth quarter on October 15, 2015.
To discuss the results with me on the call is Dave Vaughn, CEO of AgJunction, and Mike Manning, the Company's Chief Financial Officer. As I hand over the call for opening remarks from Mr. Vaughn, I'll remind listeners that some statements made on today's call may be forward-looking and subject to risks, uncertainties and assumptions concerning future conditions. These are all outlined in the Company's regulatory filings, which can be found on SEDAR.com. Forward-looking statements may prove to be inaccurate or differ materially from actual future events or results.
I'll now hand over the call to CEO, Dave Vaughn.
Thank you, Cory, and good morning everyone. Before I address 2015 and comment on 2016, I wanted to cover a few other topics first. A critical success factor for any company is its people. For AgJunction to succeed going forward, my highest priority is to assure that we have an experienced executive team in place.
In that regard, I am pleased to introduce several new additions to the Company, and let me start with the person on my right, Mike Manning, who took over as Interim CFO after Wes left and led AgJunction through one of the most challenging mergers out there we've seen.
Mike not only came up to speed quickly, but led the team from Toronto to Calgary to Fremont, through the courts of Los Angeles and through the final merger in Hiawatha. This was a path not many have ever traveled and both companies have recognized his great contribution and his effort.
Upon the conclusion of this merger, he then led the new AgJunction auditing firm, RSM, through the audit of both companies and final closure of 2015, a difficult year under any definition. I am pleased to announce that Mike has agreed to drop the word 'interim' from his title and join our Company as Senior Vice President and Chief Financial Officer as of 1st of April. We look forward to his contribution to the exciting times ahead.
One of the areas that we highlighted as a true benefit of merging AgJunction with Novariant was the extensive intellectual property portfolio that these two companies have accumulated over the many years of being in the positioning and control solutions agriculture business. We anticipated the huge effort it was going to take to bring these assets together and both companies started early planning how best to do this.
Novariant had been working for some time with a talented group in Seattle that I've known for years. The Managing Director of this group asked if he could join us as our inside leadership and drive the IP policies for AgJunction. I am so pleased to welcome Bob Barjesteh to the AgJunction team.
Bob not only is an expert in both creation and protection of intellectual property, but he has also been legal counsel and responsible for the mergers and acquisitions of 3M Corporation for five years. Bob has been with us about two months and I can't say enough about his contribution to the integration process.
Another benefit of bringing our two organizations together was the depth of engineering talent that both companies have developed over the years. With resources in Australia and three separate locations in the U.S., our work was cut out for us to bring these resources and the product roadmaps together. Critical to the accomplishment of this task was marketing leadership.
Members of our senior team have known Kevin Monk for years, and our need and timing couldn't have been better. Kevin has been behind the revolution that has been taking place in our industry and has driven many of the changes inside of companies like John Deere and CNH where he held senior positions in marketing and machine automation direction over 14 years.
Kevin has years of international experience, with particular interest in expanding markets of China, Russia and Africa. In the month or so that he has been here with us, he has met with our key customers, led discussions with our marketing and engineering teams and presented a first-pass roadmap for the combined company going forward. There is much to do still, but I couldn't have a better start.
The addition of these leaders to our existing executive resources now fills out the team necessary to face the challenges ahead and drive future success. I'm excited about having them onboard. I've had the fortune of working with most of them in the past and I know what their capabilities are and they are ready to face the opportunities ahead of us.
The next topic I would like to mention has to do with communications with our shareholders. Following the closing of the merger, I got to spend some time at the helm getting to know the newly combined organization and subsequently initiating some important actions. I also began engaging in discussions with AgJunction shareholders and I want to thank those of you who I have got the chance to talk directly to.
I wanted to share with you some of the comments I received by talking to some of our shareholders and what I'm doing about your thoughts. First, I received the message that the Company could have displayed better transparency at times. I understand this comment. And before I address what I'm doing about this, I want our shareholders to understand and appreciate the value to this Company and to you as shareholders of what I'd call a surprise attack.
Especially during down market, gains at one company usually come at the expense of another company. When business is up and to the right, we all just go about growing. But when things are slowing down or shrinking, survival often comes at the expense of the competitors' market share. Giving our competition a heads-up on anything that they might use against us is not just a bad idea, but can be an expensive one.
Having said that, we must find a balance with our shareholders, and so I've made the commitment to provide some additional information in our fourth quarter press release on the effects of the merger and the close of the fourth quarter. This is far more information than would normally be provided and going forward we will not be providing separate operating results for AgJunction and Novariant, but I thought you would appreciate this additional information for the fourth quarter.
Second, I received comments about the management compensation being tied closer to the return on shareholder value. Beginning this year, 2016, I have instituted pay-for-performance across the entire Company from top to bottom. Every person has a small portion of their compensation tied to their individual goals and objectives and a larger portion of their compensation tied directly to Company performance, specifically to growth in EBITDA.
Third, I received comments regarding Board compensation and tying it more to shareholder value. Beginning 2016, the compensation of the independent Board directors has been adjusted to reflect our minimum expected involvement at a fixed rate and the requirement that a majority portion of their compensation must be taken in equity.
Fourth, I heard that the length of service for Board members was an issue. Effective as of the Board meeting last week, we have instituted term limits for members of the Board of Directors retroactively. This will result in us beginning a search process in 2016 to be presented to the shareholders for the 2017 slate.
I want to again thank the shareholders that I talked to and I would like all of the shareholders to note that I am here for you and I'm listening. I look forward to reaching out to as many of you as I can. I also want you to know that I appreciate you staying with and supporting this Company through some very difficult times that have seen highs and lows but has also generally ended in [poor] [ph] return on shareholder value.
Now regarding 2015, 2015 turned out to be one of the toughest years for the ag industry in several decades. The industry was hit with a perfect storm that saw a strong U.S. dollar, strange weather patterns, a third year in a row of record yields, which combined to drive crop prices down resulting in less income in the pockets of our farming customers. Then add oil prices to this and it caused growers of crops that are used for ethanol to rethink this conversion, which added to an oversupply of many crops.
In spite of these events, we were able to find opportunities that generally allowed us to perform slightly better than the average decline of the industry. The industry declined about one-third on the average. And we accomplished this by remaining focused on our existing aftermarket Outback product lines and our value added reseller customers, while we continued to win additional OEM customers who will continue into our future performance.
The current industry consensus seems to be calling for 2016 to be flat to slightly down. We are generally subscribing to this expectation as we see farmers delaying the decision to trade up to new equipment and continuing to upgrade the equipment they already have. This also suggest that the countries where adoption has been higher in the past will likely continue to be lower markets and countries that are behind in technology adoption will likely continue to receive assistance from their governments to catch up with the other countries.
We are positioning the Company for this and we believe that our product strategy will help us accomplish this by allowing our customers in different countries to add their local touch to the final solution so that they can qualify for these government assistance.
The have-it-your-way strategy, which was originally designed for the OEM who already has parts of the solution embedded in their equipment, is actually well-suited for the emerging markets who require local content in order to sell in their markets. I can speak further to this in the Q&A segment of our call, but before we open the floor to questions, I will hand the call over to Mike who will provide some commentary around the fourth quarter and 2015 numbers. Mike?
Thank you, Dave. As Cory mentioned, the merger with Novariant closed on October 15 of 2015, so accordingly the December 31, 2015 numbers include 2.5 months of Novariant operations as well as AgJunction's results for the 12 month period.
Through Q4, the integration and consolidation of accounting and reporting processes was a primary focus for myself and the finance team. This was a big job but we were finally able to complete the purchase acquisition accounting and effectively consolidate the Novariant financials and post-merger results into the 2015 AgJunction financials. We are looking forward to the completion of the new ERP system later this year which will further streamline the financial reporting systems.
I'll now provide a brief review of AgJunction's 2015 results. Industry sluggishness persisted throughout the year resulting in a net loss for the consolidated company. The results are representative of the continuing global ag industry down-cycle. These factors plus some additional ones I will highlight led to year-over-year declines for Q4.
First off, I want to mention that in order to give some transparency into the Q4 figures, we have presented certain information that we would not normally do going forward. This includes the split in Note 8 of the financials of the Novariant results and the detailed information provided in our press release yesterday. Compared to Q4 of 2014, sales of $11.6 million were up 17%. However, if we exclude the Novariant figures in Q4 2015, then AgJunction-only sales of $8.4 million were down by 15%.
There were a number of nonrecurring costs related to the acquisition and subsequent restructuring that impacted Q4. These included about $1.1 million or 9.5% of sales of gross margin reduction, primarily driven by $0.6 million of additional higher cost of goods sold from inventory that was written up from lower cost or market to fair value under normal IFRS purchase accounting rules, $300,000 of additional inventory obsolescence related to overlapping product lines after the merger, and another $100,000 of restructuring accrual that was booked in Q4. Note that there is an additional $300,000 of write up of lower cost or market to fair value inter-inventory at the end of the year and this is expected to be shipped in products shipped in Q1, impacting our Q1 results.
Besides the cost of goods sold impact of $1.1 million, the acquisition restructuring impacted operating expenses by $1.5 million, with $800,000 of acquisition related compensation, $300,000 of restructuring accrual and $300,000 of legal cost related to the acquisition. The total nonrecurring expenses related to the acquisition and restructuring were $2.6 million in Q4 of 2015.
Besides these nonrecurring costs related to the acquisition, cost of goods sold margins were also impacted by an additional $1.3 million or about 10% of sales, broken down as follows; $500,000 of obsolescence reserve, some of the factors here included lower volume leading to lower turnover and slower moving inventory; $300,000 of warranty costs; and $500,000 of lower margin related to the lower volume.
It is important to point out that excluding these items and the nonrecurring costs mentioned above related to the acquisition, gross profit margin would have been around 43%, which is more in line with our historical figures.
Another topic impacting the Q4 was the impairment of the capitalized engineering cost that was on the books. Capitalization of development cost is required under IFRS rules if certain conditions are met under IAS Standard 38.57. AgJunction has capitalized certain engineering costs related to development as required by IFRS rules since 2011. These expenditures were capitalized with the intention that they would be amortized over the sales lifecycle of the products being developed. The programs were long-term in nature with the work finally being completed in 2015.
In Q4 of 2015, a detailed analysis was done on the projects and it was determined that the net present value of future cash flows would be minimal, if any. Therefore an impairment charge was recorded under IFRS rules against the amount that has been capitalized. After this charge, no more capitalized development cost is on the balance sheet. Going forward, there are some ongoing R&D projects but they do not require capitalization of their development costs under IFRS rules and we do not expect to take projects requiring capitalization of these costs in the future.
Total comprehensive loss for the quarter was $9.9 million, compared to a loss of $16.5 million for the fourth quarter of 2014. Excluding the $2.6 million of nonrecurring expenses related to acquisition and restructuring and $4.7 million intangible impairment charge, the comprehensive loss for the fourth quarter of 2015 would have been only $2.6 million versus the $9.9 million reported.
For the full year 2015, a full-year comparison becomes less meaningful as 2014 had a full year of the Cloud Services business in it and no Novariant figures, while 2015 had first quarter with Cloud Services business and fourth quarter Novariant. However, I'll give some figures that show the differences from year to year.
For the year ended 2015, sales of $39 million were down 13% from the same period last year. Of that, sales of AgJunction-only, excluding Novariant, were down 20% full year 2014 to 2015, going from $44.8 million to $35.8 million, while Novariant on its own dropped from $31.2 million to $19 million or about 39%.
Gross margins of $14.8 million or 38% in 2015 compared to $20.3 million or 45% last year. The items I have detailed earlier for Q4 are what caused the decline in gross margin for the full-year figures. For all intents and purposes, both companies have and are maintaining their gross margins in the low to mid 40s despite the extraordinary items affecting the Q4 gross margin results.
Operating expenses of $20.6 million were 2% below the $21 million posted last year. R&D of $6.7 million was down $400,000 from last year. Sales and marketing cost of $5.4 million were down $800,000 or 13% due to reduced spending on the external advertising. G&A spending of $8.4 million included $1.2 million of legal costs related to the Novariant deal, was higher than the $7.7 million spent in 2014 which included $1.8 million in legal expenses.
The operating loss of $5.7 million compares to an operating loss of $0.7 million for the prior year. The 2015 figures include a gain of $1.6 million from the sale of Agronomy Services business and the intangible impairment of $4.7 million, giving a total comprehensive loss of $9.1 million in 2015 compared to a comprehensive loss of $16.7 million last year.
For the year ended December 31, 2015, the Company reported a loss per share of $0.11, both basic and diluted, compared to a loss of $0.23 in 2014. Q4 2015 earnings per share was $0.09 loss per share, both basic and diluted, compared to a loss of $0.23 per share in 2014.
On December 31, 2015, the Company held $13 million of cash, which included a net increase of $1.6 million from the merger with Novariant. This compares to cash held of $11.2 million at the end of 2014. Working capital increased from $22 million to $26 million by the end of 2015. And shares outstanding at December 31, 2015 were approximately 123 million.
With the transaction completed, the combined company as of December 31, 2015 had 158 employees worldwide, with 117 coming from AgJunction and 41 from Novariant.
I will now hand it back over to Dave for some additional comments.
Thanks Mike. I appreciate. This is pretty complicated sounding financial picture. With so many extraordinary charges and accounting impact, it's difficult to really get clarity on a consolidated business model. So I'll make an attempt to simplify what all this means and what our Company really looks like. Please remember that the Novariant numbers are unaudited.
Combined revenue for 2014 of our companies was approximately $75 million, with AgJunction being $45 million and Novariant being $31 million. At the operating income line, AgJunction had approximately $1 million loss and Novariant had approximately $4 million positive. Combined revenue for 2015 was right around $55 million. That works out to a little more than $35 million contributed by AgJunction and almost $20 million from Novariant. Operating income for AgJunction for 2015 was approximately a $5 million loss and for Novariant was approximately a $3 million loss.
So despite what the messy fourth quarter financials look like, what we have today is a company with an annual combined revenue in the mid-50s, gross margins in the low 40s, and operational with recent reductions in the workforce about a breakeven at EBITDA level depending on where the top line actually ends this year.
As for 2016, we definitely do not expect to repeat a 2015. The long-term view of our space is bullish, farms require precision technology and more countries are adopting. We are in a down-cycle that will not and cannot last forever. Whether it bottoms and turns around this year or next is unknown. The current consensus is for a soft 2016, so we are managing for that. In the interim, we support our current customers and are winning new ones.
In some ways, this low in the cycle is an opportunity to work with VARs and OEM partners to implement new integrated programs. These take about one to two years from launch to product availability and we are using this time wisely to be in a strong position when the cycle turns back.
We have the balance sheet to manage through this downturn and are managing operations accordingly. Post-merger activities have been focused on integration and building the platform for forward success in a tough market. So while there is little to like about 2015 for our industry, that does not deter us from the clear opportunity that lays in front of us at cycle turns.
So at this time, let's open the call to questions.
[Operator Instructions] Your first question comes from the line of Spencer Churchill with Paradigm Capital. Your line is now open.
Just had a few questions on the actual results for Q4, so in terms of the split, when you talked about the various reasons, you said Americas was up 14% that was mostly the pertinent reason for the acquisition of Novariant. So I'm just wondering, would it be safe to characterize that the organic growth you saw in the other – like growth in the other regions you saw was pretty much organic from AgJunction?
Organic from AgJunction…
Or another way of saying it, just that there was no significant benefit from Novariant in the other regions outside of Americas?
So in the numbers that were reported for 2015, there is only 77 days of our members in there. If I give you a high look at what actually happened in 2015…
I was talking about Q4 actually.
Okay, Q4 compared to prior Q4?
Okay. The AgJunction Americas declined in Q4. So the Novariant coming on brought it back up above the level that it was Q4 of 2014. I don't know if that answers your question specifically.
No, I was just – so the question was, outside of North America, you didn't mention that Novariant was an impact for Q4, and that's why I was just wondering, because obviously APAC was up just over 50% and you saw growth in Europe and Middle East, so I was just wondering was that organic growth on the non-Novariant side of the business?
No. Outside of the Americas, the market for the old AgJunction products, the AgJunction-only, was pretty flat, very close to prior year Q4. So the increase you are seeing there is primarily the addition of Novariant into the Company.
Sorry, Spencer, I didn't get that difference either. It was all addition on the Novariant side.
Okay, great, perfect. And then just on the margins, obviously you went through a whole bunch of different charges but having got to the same sort of mid-40s excluding everything number, and I guess the question is, so is this a good run rate on a normalized basis for you guys going forward, or are Novariant margins that we saw being recorded from the business acquisition reports and whatnot, are they lower as a public company under IFRS, or as I said before, is this mid-40 kind of a good range?
I think we can say that historically the two companies have been in that low to mid 40s range. And Novariant adjusted to the IFRS reporting, that's about where it's at as well. So that's our actual historical run rate. And for 2015, again if we didn't have those specific charges, it would have been right in that range.
Okay, perfect. And then just one final thing, in terms of the inventory obsolescence and whatnot, are you comfortable that you took the hit in Q4, and that outside of that $300,000 that you talked about that will flow through Q1, that was pretty much cleaned here going forward?
Yes, we did a thorough review of the inventory on both sets of books and we feel that we have captured what we should for any obsolescence on both companies.
Okay, great. And then just maybe, you did mention in the press release, and I'm sorry if I missed it in your comments, but you did have some new partners that were signed in the fourth quarter, and I'm just wondering maybe if you could just give a little color in terms of was it on the OEM side, was it on the VAR side, how should we think about those new partners?
It was on the VAR side and that was Europe.
Okay, great. And then you sort of touched on this a little in your commentaries, but we did get some pretty I guess surprising would be maybe one way of characterizing comments at Trimble on their Q4 call saying that their organic growth in Q4 is actually positive on the ag side and they are looking for a flat 2016. And I guess that sort of jives with your flat to slightly down comments, but they made a point of saying that their aftermarket business is actually doing well. Guys aren't buying brand-new shiny tractors, but they are upgrading on the technology side using aftermarket stuff and they have got a new product roadmap in their business for 2016 that's going to allow them to be relatively flat, whereas a lot of the OEMs are going to be down 10% to 15%. Would you say that that's something that you are seeing as well?
Yes. I think that the example I was using around here yesterday was that it's like in the housing market, when the people are buying new homes and that markets get tough and the interest rates go up and they stop buying new homes, they start updating their old homes. So you got to imagine, these guys with three, four, five-year-old tractors, they don't want to put on $10,000, $15,000 worth of electronics if they're going to buy a new one next year. That's the position they took in 2013 and 2014 and they are still sitting on those tractors in 2015.
And this technology is actually required to compete in the tough market. Especially as grain prices stay low, you really got to be efficient. And so, many of the people are just saying, okay, we'll get on with it and put this stuff on our tractors, and so we're seeing that too. We see high interest in our ability to get on multiple platforms. We've got an extensive line of install kits for all these tractors. So that's one of the positives of the aftermarket.
Okay, great. Thanks, guys.
[Operator Instructions] Your next question comes from the line of Ryan Levenson with Privet Fund. Your line is now open.
Spencer actually got all my questions. Thank you. I appreciate it.
There are no further questions at this time.
Okay, thank you everyone for joining us on today's call and we look forward to speaking to you following the first quarter results in mid-May which will include full results from both merged companies for the full quarter. Thank you.
This concludes today's conference call. You may now disconnect.
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