Tel-Instrument Electronics Corp. (NYSEMKT:TIK)
Q4 2016 Results Earnings Conference Call
June 29, 2016, 9 AM ET
John Nesbett - Investor Relations, Institutional Marketing Services
Jeff O’Hara - President and CEO
Joseph Macaluso - Principle Accounting Officer
Michael Schirmer - Chief Operating Officer
Greetings, and welcome to the Tel-Instrument Electronics Corporation’s Fourth Quarter 2016 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded.
I would now like to turn the conference over to your host, Mr. John Nesbett of IMS. Thank you. You may begin.
Good morning and welcome to our conference call to discuss Tel-Instrument’s financial results for 2016 fourth quarter ending March 31, 2016. On the call, we have Jeff O’Hara, TIK’s Chief Executive Officer, who will review the results of the company’s business operations; and Joe Macaluso, who will review the company’s financial results. Michael Schirmer, TIK’s Chief Operating Officer, will also be on the call and available to answer questions. Following their prepared remarks, we will take questions from our call participants.
Let me take a moment to review the Safe Harbor statement. This call may include statements that are not historical in nature and maybe characterized as forward-looking statements, including those related to statements concerning the company’s outlook, pricing trends and forces within the industry, the completion dates of capital projects, expected sales growth, cost reduction strategies and their results, long-term goals of the company and other statements of expectations, beliefs, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts.
All predictions as to future results contain a measure of uncertainty and accordingly actual results could differ materially. Among the factors which could cause a difference are changes in the general economy, changes in demand of the company’s products or the cost and availability of raw materials, the actions of its competitors, the success of our customers, the uncertainty of government contracts, technological change, changes in employee relations, government regulations, litigation, including its inherent uncertainty, difficulties in plant operations and materials, transportation, environmental matters and other unforeseen circumstances.
A number of these factors are discussed in the company’s previous filings with the SEC. The company disclaims any intention or obligation to update any forward-looking statements as a result of developments occurring after the date of this call.
With that, I will now turn the call over to Jeff O’Hara. Go ahead, Jeff.
Good morning and thank you all for joining us. We issued our fiscal year 2016 press release earlier this morning and I hope you all have had a chance to review it. I am pleased to report that the full year results continued our trend of solid revenues and profitability.
Compared to the fiscal year 2015, revenues increased 36% to $24.8 million and operating income increased to $2.6 million, roughly a $2.3 million improvement versus year-ago results. Non-GAAP adjusted EBITDA was $2.8 million versus $541,000 in the year ago period. GAAP net income was just over $1 million or $0.31 per share compared to a small loss in the year ago period. As you may be aware, we are no longer allowed to provide a non-GAAP EPS number to new SEC promulgation.
As a reminder, we currently have three major government programs and produce another 15 products that are sold at lower volume levels. The three major government programs are the CRAFT product, a portable pre-flight multi-purpose testing solution for the U.S. Navy and Coast Guard; the TS-4530A, a portable pre-flight identification friend and foe testing solution for the U.S. Army and Air Force; and the ITATS TACAN bench test set, which is a maintenance shaft testing product for the U.S. Navy. TACAN is a navigation device used by the military and the ITATS unit allows for fault isolation of the TACAN transponders down to the circuit board level.
I’d like to provide a more detailed update of our three large government programs as well as our new test sets recently released and under development.
First, let me discuss CRAFT. The fourth quarter saw continued full rate production for the CRAFT program. The CRAFT product replaces seven obsolete Navy test sets that collectively cost around $300,000, making the CRAFT test set an excellent value to the government. We’re selling the CRAFT test sets for right around $36,000 compared to the $300,000 for the replacement for the old units.
As of March 31, 2016, the company had open orders for 90 CRAFT test sets with a book backlog of around $3 million. This does not include the $1.36 million 36-piece CRAFT order from the U.S. Special Forces or other Navy orders received in the first quarter of fiscal year 2017.
All CRAFT orders are now at or above the $35,980 GSA government procurement price. The U.S. Navy is close to exhaustion its current follow-on IDIQ contracting. Any further Navy CRAFT orders will likely be placed with a government GSA procurement system. As an excellent value to the government, the CRAFT program has significant potential for sales into the balance of the U.S. Military, NATO and other friendly countries.
The product has been rid into the F-35 Joint Strike Fighter program and we have received orders to date of $4.4 million. We expect ongoing CRAFT orders as Lockheed Martin moves from limited-rate initial production into full rate production, with total F-35 deliveries projected at around 2,500 aircraft. We do not know the ratio of test sets to aircraft as this will be determined based on how and where these aircrafts are deployed.
It is also important to note that Lockheed Martin recently completed the acquisition of Sikorsky, which manufactures large helicopters for the U.S. Military. We have been informed that Sikorsky is writing the CRAFT 708 test set into its maintenance procedures and this could be another source of ongoing recurring revenue for this product.
Subsequent to year end, we have received orders for 46 CRAFT 708 test sets, including the U.S. Special Forces order and the U.S. Navy orders for the presidential helicopter program. We were particularly excited to receive the U.S. Special Forces order as this will expose the CRAFT product to the U.S. Army users which could drive additional demand. We’re also meeting with each of our major CRAFT customers to determine what additional next gen functionality could be added to the CRAFT unit, which could result in additional sales.
With respect to international orders, the drop-dead date for decertifying Mode 4 IFF worldwide is January 1, 2020. Many of the NATO countries are struggling to meet this deadline, so we anticipate the bulk of the overseas orders to take place in the 2017 to 2020 timeframe.
Tel has currently sold small quantities of Mode 5 test equipment to 18 different foreign countries. So we are in a good position to capture a significant share of the large overseas market with one of our four Mode 5 test sets. Since our last call, we are seeing increased activity in certain European and Far East markets.
The FAA has also mandated that ADS-B, the next generation GPS navigation system be installed in all U.S. aircraft by the same date. We are in the process of adding full ADS-B test capability to the CRAFT test set which could also drive additional sales volume over the next several years.
Moving on to our TS-4530 product, as of March 31, 2016, we had a backlog of 538 TS-4530A sets, the full unit and 74 upgrade kits with a contract value of $6.5 million. We have been informed by the U.S. Army and Air Force that they will need up to an additional 200 TS-4530A sets over the next few years. These follow on orders are priced well above the Army contractual price and will help us reach our 50% gross margin objective over the next 18 months.
We are starting to see these follow on domestic orders come in over the last few months. We are also adding an additional TACAN test capability and navigation tool used by the Military to the TS-4530A and we are working to upsell the software enhancement to both existing and new customers.
As previously mentioned, we have seen increasing interest in certain European and Far East countries for the TS-4530 where we are stiff competition with a competitive test set manufactured by [Cobham/Aeroflex]. Each of these major overseas markets represent multi-million dollar long term opportunity and we are working hard to capture the lion’s share of this business.
We have recently published a TIC Mode 5 product presentation in the first page of our website, www.telinstrument.com, and we encourage our shareholders to review this presentation to better understand the competitive strengths of our various Mode 5 products. In summary, we believe that TS-4530 product will have significant potential for both add on sales domestically and should do well in the large international market, with volume purchases expected to be starting next year.
The third program is ITATS. We continued full rate production of ITATS product and have a remaining book backlog at March 31, 2016 of 14 units at a value of just under $800,000. This is a fully automated TACAN bench tester which diagnoses faults down to the individual circuit boards in the TACAN transponders.
We continue to market this unit to other domestic and international customers. The single biggest potential customer is the U.S. Air Force, which is now considering ITATS as a replacement for its obsolete TACAN bench test sets, which are no longer being supported by the original manufacture. The Air Force probably has as much requirements as the U.S. Navy, so this potentially could be a big deal for the company.
Now turning to new products, new products are the lifeblood of our business and I’m pleased to provide an update of several new products that have recently been released or are in the development stage.
The [TR-30], we recently released a TR-36 NAV/COMM test set which has good initial reviews from our customers. This is our first new commercial product in a number of years. We are optimistic that this product will effectively compete with the IFR 4000 product, which currently dominates the large NAV/COMM testing market.
We announced a new Mode 5 product called the T-47/M5 at the International AIM Show in May. This will include an upgrade kit that will make available to our large over 2,000 unit installed base of Mode 4 IFF test sets both domestically and internationally. It should be a very cost effective solution for existing customers and is intended to encourage sole source upgrades for the TIC Mode 4 test sets currently in the field.
We expect the product qualification testing to be completed later this year, with initial deliveries expected in the fourth quarter of the 2017 fiscal year. This will be a very cost competitive product which we expect to capture a large percentage of our overseas Mode 5 business.
Next, turning to the hand-held communication and avionics test set, the development program that we are most excited about is our next generation commercial military hand-held test set family. This will be much smaller than any test set previously produced by TIK or its competitors and will provide greater capabilities over a wide frequency range at a lower cost of production.
It is expected that the first avionics related product from this new family of modular test sets will be released in the fourth quarter of the current fiscal year. We believe that this new family of test sets will substantially broaden our existing avionic product line and allow for expansion into the much larger radio test set market segment.
The radio test set market will be a challenge as we face increased competition from other large competitors and we will be selling into a new market with a diverse customer base. Nonetheless, we believe that we have an excellent design that will do very well in a very competitive marketplace.
Now, turning to the Aeroflex litigation. With respect to the Aeroflex litigation, the major news is that we have submitted a comprehensive summary judgment motion in Kansas on May 23, 2016. The motion was based on Aeroflex’s lack of jurisdictional standing to bring the case. The motion asserts that Aeroflex does not own the intellectual property at issue as it is a bare licensee of Northrop Grumman which owns the original 424(NYSE:V)2 design which was used by Aeroflex to develop the TS-4530 under a license arrangement.
For standing to sue a licensee must have an exclusive license with all rights to the product including the ability to sue to protect its interest. Since Northrop Grumman declined to join this suit as a plaintiff, it is our position that Aeroflex lacks standing to sue in its own. Also, the motion raises a fact that in December 2011 Aeroflex allowed the Northrop license to expire, so that Aeroflex’s claims are either moot or lack standing to sue for damages allegedly occurring after the license ended. The motion is scheduled to be heard in late August 2016.
While TIK believes that we have made a very strong case for dismissal, these types of motions generally face an uphill battle. Regardless of the outcome of this motion, management does not believe their claims have any merit. The trial is currently scheduled for February 2017.
I will now turn the call over to Joe Macaluso to review the financials. Joe?
Thanks, Jeff, and good morning everyone. As mentioned in the beginning of the call, we recorded revenues of approximately $24.8 million in fiscal year 2016 as compared to $18.2 million in fiscal year 2015, a 36% increase. Revenues for the fourth quarter ended March 31, 2016 were down slightly to $6.2 million as compared to $6.4 million in the same quarter last year.
Gross profit for the year increased $2.5 million or 46.8% to almost $8 million as compared to $5.44 million a year ago, primarily attributed to the higher volume and higher prices for the new CRAFT orders. Gross profit for the fourth quarter was $1.89 million as compared to $1.91 million in the fourth quarter last year, despite the lower volumes as a result of the higher selling prices on the new orders for the CRAFT program.
SG&A increased approximately $219,000 or 6.9% to $3.37 million for the year ended March 31, 2016 as compared to $3.15 million the previous year. This increase is primarily attributed to higher accrued bonus compensation, salaries and related expenses and consulting fees, partially offset by a comparable settlement of an accrued liability and slightly lower litigation expenses and professional fees. TIK spent almost $450,000 on Aeroflex litigations last year and this continues to have a negative impact on our profitability.
SG&A for the quarter ended March 31, 2016 increased approximately $65,000 or 8.4%, primarily as a result of the higher accrued bonus compensation, salaries related expenses and slightly lower litigation expenses and professional fees.
R&D costs increased slightly for the year by $77,000 or 3.9% to $2.04 million as compared to $1.96 million in the year ago period. This R&D is now primarily being spent on new products as opposed to product support that has been the case in the past few years.
For the quarter ended March 31, 2016 R&D cost increased $75,000 or 15.6% to $561,000 as compared to approximately $485,000 in the same quarter last year, reflecting the emphasis on our new product development. It is expected that engineering expenditures will increase to approximately 13% of sales going forward as we work to bring these new products to market.
Operating profit for the year was $2.6 million as compared to only $330,000 a year ago. Operating profit for the quarter was $481,000 as compared to $636,000 in the same quarter last year.
Income before taxes was $1.86 million for the year as compared to a loss of $360,000 last year. Income before taxes was unfavorably impacted by a $617,000 increase in our warrant liability as compared to an increase of only $165,000 last year.
As noted in our press release and in our annual report on Form 10-K, BCA exercised its option on the warrants which had a value of approximately $935,000 at March 31, 2016. This leaves $50,000 warrants outstanding which are held by a major TIK shareholder. These warrants are priced at a higher market value or a formula based upon a multiple of five times trailing EBITDA. The final BCA warrant value would be determined by TIK’s results through the end of April and the amount will change from the year end accrual.
Net income for the year was approximately $1 million or $0.31 per share and compared to a net loss of $280,000 last year or $0.09 per basic and diluted share. For the fourth quarter ended March 31, 2016, net income was $299,000 or $0.09 per basic and diluted share compared to $373,000 or $0.11 per basic and diluted share in the fourth quarter last year.
Adjusted EBITDA was $2.8 million for the year as compared to $541,000 last year. Adjusted EBITDA for the quarter was $532,000 as compared to approximately $682,000 in the fourth quarter of last year.
To our balance sheet, working capital increased $1.4 million to $4 million at March 31, 2016. This happened while we continued to work down our trade payables and paying down our long term debt. Operations generated $1.46 million in cash flow for the year as compared to only about $400,000 in the previous fiscal year.
I’ll now turn the call back to Jeff.
Thanks, Joe. This quarter we continued to make excellent progress and achieved sixth consecutive quarter of solid operating results. We have done a nice job of keeping cost in line, despite sharply higher revenues and are generating positive operating cash flow that has allowed us to build up our working capital and cash balances to more comfortable levels. While we do not normally make forward-looking projections as to revenues or profitability, we can say that we expect to be solidly profitable in the current fiscal year absent any unforeseen developments.
With our backlog at March 31, 2016 of around $11.6 million now down to more typical levels for the company, we are working even more diligently on business development. This includes maximizing sales from our existing customers, offering software product upgrades in certain key products and actively working potential large military opportunities with our major domestic and overseas customers.
We’re also working hard to capture the lion’s share of the untapped Mode 5 domestic and export market. We are focused on the Mode 5 export market in particular as we need to capture this business to maintain our profitability as the two Navy programs wind down. We have recently visited several key international customers and will continue to do so in fiscal year 2017. As previously indicated, we are seeing increased activity in these markets in the first quarter of fiscal year 2017 and expect this trend to continue.
We remain committed to investing meaningfully in product development with the [indiscernible] Aeroflex as the market leader in commercial avionics testing as we have already accomplished in our core IFF testing market. The TR-36 navigation and communication test set which we discussed last quarter represents the first step in this process.
The new family of lightweight commercial military test sets under development should significantly broaden our product line outside our traditional avionics test set market and help the company achieve its long term objective of returning to its traditional 50% gross margin performance levels and provide the basis for sustainable organic growth.
Thank you for your continued support and we look forward to updating you next quarter. Operator, now, I’ll open the call for questions.
[Operator Instructions] The first question is from [Katie Parrish] with Northwest Management.
For the ITATS product, what would you say is the potential for follow on sales to the Air Force?
Right now, we’re the only automated TACAN tester in the market. The current product being used by the Air Force is a Rockwell Collins unit that was manufactured, I think, in 1970s. The Air Force can’t get components to repair it. So the Air Force is evaluating the unit. If they’re happy with it, it could be as many as zero to probably as many as the Navy contract had. So it’s still too early to say, but that would be an exciting development if we were able to penetrate the Air Force with that product.
Okay, great. Thank you.
The other point I may add is the pricing and that the Navy pricing is around $56,000, the commercial pricing is around $80,000. So that’s a much better margin product to other customers.
[Operator Instructions] I’m showing no further questions at this time. So I will turn it back for any closing remarks.
We appreciate everyone’s interest. We’re working very hard to earn your confidence and we’re very optimistic with how the business is going and we look forward to the next call. Our quarter ends tomorrow, so we’re quite busy and back to work.
This concludes today’s conference. Thank you for your participation. You may disconnect your lines at this time.
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