Navarre F4Q08 (Qtr End 3/31/08) Earnings Call Transcript

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 |  About: Navarre Corporation (NAVR)
by: SA Transcripts

Navarre Corporation (NASDAQ:NAVR)

F4Q08 Earnings Call

June 12, 2008 11:00 am ET

Executives

Ryan Urness - General Counsel

Cary L. Deacon - President, Chief Executive Officer, Director

J. Reid Porter - Chief Financial Officer, Executive Vice President

Brian M.T. Burke - Chief Operating Officer

Analysts

Robert Evans - Craig-Hallum Capital

Ernest W. Andberg - Feltl and Company

Operator

Good day, ladies and gentlemen, and welcome to the fourth quarter and fiscal year 2008 Navarre Corporation earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today’s call, Mr. Ryan Urness, General Counsel. Please proceed.

Ryan Urness

Thank you, Lacey and good morning, everyone. Welcome to Navarre's fiscal year 2008 earnings call for the period ending March 31, 2008. Before we begin, I would like to remind everyone that a replay of the webcast can be found on our website at www.navarre.com in the investor section. Shortly after the call, we’ll post a replay of this conference call on the website.

The following constitutes a Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. Except for historical information contained herein, these remarks contain forward-looking statements that involve risks and uncertainties which could cause our actual results to differ materially from those described in the forward-looking statements. These risks include but are not limited to general business conditions and the risks detailed in our public filings. The company does not undertake any obligation to update forward-looking statements.

As to any non-GAAP financial measures discussed, we refer listeners to the discussion and financial tables, including a reconciliation between GAAP and non-GAAP financial measures included in our press release dated June 11, 2008.

With that, I would now like to introduce Cary L. Deacon, Chief Executive Officer of Navarre Corporation.

Cary L. Deacon

Thank you, Ryan. Good morning, ladies and gentlemen. Also joining me this morning is Reid Porter, Executive Vice President and Chief Financial Officer, and Brian Burke, our Chief Operating Officer.

During the call, we’ll be providing a review of our fiscal 2008 fourth quarter and fiscal year 2008 financial results. We will start off with Reid providing a detailed overview of our financial results. Following his review, I will discuss our overall performance and as well discuss our guidance for fiscal year 2009. After our prepared remarks, we’ll open up the call for any analyst questions. Reid, over to you.

J. Reid Porter

Thank you, Cary. I’ll start by providing a financial overview of the fourth quarter, followed by a review of the full fiscal year 2008.

Fourth quarter net sales were $160 million, an increase of a little more than 1% from last year’s fourth quarter sales of $158 million. Distribution segment net sales for the fourth quarter increased by 4% to $148.5 million. The increase was driven by sales of software and videogames, which remained relatively strong in the soft retail environment. The productivity and utility categories in software continue to play a significant role in our overall sales mix.

Publishing segment net sales decreased in the quarter by approximately [5%] to $29.4 million. FUNimation sales were significantly above last year on the strength of its new releases, while BCI and Encore registered year to year declines.

Gross profit for the quarter of $23.9 million was essentially flat versus last year. The gross profit margin percentage was also unchanged from last year’s fourth quarter. Gross profit margin percentage improvement in FUNimation was offset by a decline in distribution.

Operating expenses were $20.9 million, a decrease of $1.8 million and 8% when compared to the prior year quarter. The company’s G&A expenses were reduced $1 million due to tight headcount and expense controls.

Income from operation was $3 million, a three-fold increase from prior year. The improvement largely came from the operating expense reduction.

Interest expense was $1.3 million, a decline of $3 million for the quarter. This resulted from lower interest rates and reduced borrowing under the company’s credit facilities. Additionally, the fourth quarter of the prior year included a $2.4 million write-off of deferred debt costs.

Net income from continuing operations for the fourth quarter was $919,000, or $0.03 per diluted share during the quarter, as compared to a net loss from continuing operations during the fourth quarter of the prior year.

Net income including disc-ops during the quarter was $686,000, or $0.02 per diluted share, an increase of $2.9 million over the prior year. We believe the discontinued operations loss net of the gain on sale of roughly $200,000 in the quarter completes the impact of the sale of the music business and we are not forecasting any further gains or losses from this business.

EBITDA for the quarter was $5.7 million, an 39% increase over last year.

Turning to our full fiscal year 2008 financial results, net sales for the year were $658.5 million, an increase of $13.7 million or 2% over fiscal year 2007. Distribution sales increased 4% and publishing sales decreased by 7%, with a strong sales gain at FUNimation being offset by a significant decline in net sales at BCI.

Gross profit for the fiscal 2008 was down roughly $6 million year to year due to a lower gross margin percentage. The publishing segment’s gross margin percentage held steady versus last year; however, a lower mix of publishing sales and a distribution segment increase in gross margin percentage lowered the overall company rate.

Total operating expenses in the fiscal year were $83.7 million, an 8% decrease over the prior year. Operating expenses decreased primarily due to tight headcount and spending controls throughout the company and the elimination of the prior year’s bad debt expense.

Operating income for the year ended up being a record of $17.8 million, an increase of 9% over the prior year’s operating income of 16.4. Net income from continuing operations was $7.1 million, or $0.20 per diluted share, roughly double last year’s results. Net income included disc-ops for the year was $9.7 million, or $0.27 per diluted share, an increase of $5.6 million over the prior year.

EBITDA for fiscal 2008 also a record for the company, was $28.9 million versus $27.9 million in 2007.

Turning to the balance sheet, debt net of cash was reduced to $36.6 million at March 31st, as compared to $53 million the prior year March 31st. This is a decrease of $16 million in net debt on a year-over-year basis.

The debt reduction was achieved by generating $18 million in cash from operations and from the sale of the music business, and came in spite of a large investment in our systems upgrade and continued investments in new publishing licenses.

I would now like to turn the discussion back to Cary. Cary.

Cary L. Deacon

Thanks, Reid. While the company experienced some difficulties with our ERP systems implementation during the year and also difficulties in BCI, our DVD division, I think it’s important to look at our successes. Of particular note, as Reid had mentioned, EBITDA from continuing operations for the year was a record $28.9 million; operating income form continuing ops for the year was also a record at $17.8 million; cash flow from operations for the year was approximately $18.4 million.

The company has successfully implemented its company-wide order-to-cash ERP system late last summer. Our transportation and warehouse modules will be completed late this summer and this implementation will totally decouple us from our old legacy system.

We have streamlined the organization and shed expenses that were related to the divestiture of our music business during the year. The company is encouraged by its continued profit performance and it’s solid management of its balance sheet during the fiscal year. FUNimation experienced double-digit revenue growth and its operating income increased 148% for the fiscal year. We anticipate ongoing growth in this upcoming fiscal year as well. FUNimation’s market share grew very well in the last quarter of the year and we are seeing much stronger content offerings coming available in this current quarter.

The distribution business sales increased by 4% for the year and we continue our strategy of reducing our credit exposure and exiting unprofitable business. As well, we grew at a slightly better pace than the industry.

Encore continues its solid profit performance. The management team at Encore has been tasked with finding and expanding our content offerings and we are optimistic that their efforts will bear fruit later in this operating year.

BCI experienced a very difficult sales and profit year. Our efforts at rebuilding this business have taken longer than we anticipated. However, we are seeing early signs of significantly improved performance in this current quarter.

With that, I would like to discuss out outlook for the coming fiscal year 2009. We had previously issued conservative guidance for 2009 based on the current state of the economy, political uncertainty, and ever-rising fuel costs. However, that being said, the company is approaching all opportunities for long-term growth while continuing with strong expense and balance sheet management.

For the year, the company anticipates consolidated net sales to be between $640 million and $670 million; EBITDA of between $28 million and $31 million; net income comparable to net income without disc-ops for the fiscal year of between $7 million and $9 million, and cash flow from operations to be positive for fiscal year 2009 as well.

I would like to thank all the constituents for your time and support today. With that, I would like to now open up for analyst questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question will come from the line of Bob Evans with Craig-Hallum Capital.

Robert Evans - Craig-Hallum Capital

Good morning, everyone. Can you comment further on the SAP in terms of how much spend you are expecting this year versus last year and what we should think about kind of maintenance CapEx on a go-forward basis?

J. Reid Porter

Sure, Bob, I’ll handle that question. Right now we are spending on the expense side a burn rate of about $500,000 a month on ERP implementation, including the costs of running parallel systems at this time. That’s going to run about five months this year and cost us about $2.5 million in the first two quarters. After that, that cost will go away and in addition above that, we will start to meet the benefits of the system enhancements and the improvements to productivity.

On the capital side, we will spend about $12 million overall on ERP, of which about $2 million is this year. After that, we have what we would call maintenance capital in the $2 million to $3 million range on an annual basis versus our CapEx of last year of $8 million to $9 million and this year of roughly $4 million.

Robert Evans - Craig-Hallum Capital

Okay.

J. Reid Porter

Does that answer your question, or --

Robert Evans - Craig-Hallum Capital

Yeah, no, that’s great. And what type of benefits -- once this is fully implemented, I mean, I don’t know if there’s a way to quantify it in terms of what types of benefits might you see, either from a cost standpoint or give us a little color as to how it helps?

J. Reid Porter

Frankly, they are hard to quantify other than the system will give us better information more quickly and we expect efficiencies both in the G&A costs as well as in the warehouse costs.

Cary L. Deacon

I think it would be reasonable to expect, Bob, on the pure distribution side that we would expect somewhere between 8% and 9% reduction in operating costs on a same unit basis year over year, once we are fully implemented with the transportation and warehouse modules. And we are starting to see some benefits already in that area.

Robert Evans - Craig-Hallum Capital

Okay, so we might see that in the gross margin side as well?

Cary L. Deacon

Well, no, you’d see that in the expense side, Bob.

Robert Evans - Craig-Hallum Capital

Okay. And could you comment further, Cary, in terms of FUNimation’s been growing, you expect it to grow again this year. What kind of gives you that confidence? You know, I don’t know if you could maybe give us a sense of kind of either if it’s particular titles. And then I know there’s been consolidation opportunities in the past -- are those still out there as potential opportunities in the future?

Cary L. Deacon

Well, the consolidation opportunities are still very present. I can’t comment much more than that on those specific opportunities, Bob, but however, since December with the lack of two of our competitors in the marketplace, our catalog -- our fourth quarter, we gained a massive amount of market share. Our catalog take-up at the retail level has increased tremendously. They are looking for product on the shelf, so aside from whether we execute or don’t execute on the content acquisition, which I -- you know, we have some confidence on, we’re seeing a great benefit and I see no reason why that benefit is not going to -- we’re seeing it already in this quarter and it should carry through the rest of the year at FUNimation. So we think FUNimation is going to have a very solid year.

Robert Evans - Craig-Hallum Capital

Are you also seeing it from a pricing of new content standpoint? Is pricing more reasonable now?

Cary L. Deacon

Yes, pricing has -- you know, pricing about a year-and-a-half ago had gone into the stratosphere and it has slowly declined and we are seeing some of the best pricing on content probably in the last two years.

Robert Evans - Craig-Hallum Capital

Okay. And as it relates to Encore, are there still -- are there opportunities out there that you continue to look for, similar to the Sony opportunities and [other] opportunities that you’ve done in the past?

Cary L. Deacon

Yes, we’re -- you know, as I said earlier, that group really -- that group is operating well. It’s managed expenses well, its margin well. It needs new content and we see two or three opportunities that we think we can bring a couple over the finish line early on in this fiscal year and they’d have some benefit going into our third and fourth quarter. And we’re still buoyant about the future of Encore.

Robert Evans - Craig-Hallum Capital

Okay. All right, thank you very much.

Operator

And our next question will come from the line of Ernest Andberg with Feltl and Company.

Ernest W. Andberg - Feltl and Company

Good morning. How do you see the two pieces of your business contributing to the $640 million to $670 million? Are you assuming softness in distribution and describing FUNimation as proceeding well, so we should think in building numbers to get our revenue estimate along those lines?

Cary L. Deacon

Well, we would see in distribution a single-digit sales increase and probably parallel to what we saw this year, which was about 4%, 4.5% sales increase. We don’t see anything other than the economy getting way worse than it is currently, so I’m always going to throw that caveat out there. So we would see distribution growing roughly the same year over year, and on the publishing side, we’d see a little bit of improved growth due to the strength of FUNimation for the year.

Ernest W. Andberg - Feltl and Company

Does that then suggest with better gross margins on the publishing side, you could see a lift in gross margins?

Cary L. Deacon

That’s correct.

Ernest W. Andberg - Feltl and Company

Okay.

Cary L. Deacon

But you know, some of it will come just out at a blend shift. Because of the difficulty in the past year, our margin blend went down a little bit but I think this year we’ll see an improvement in it.

Ernest W. Andberg - Feltl and Company

Thank you.

Operator

(Operator Instructions) Our next question is a follow-up question from the line of Bob Evans with Craig-Hallum Capital.

Robert Evans - Craig-Hallum Capital

A follow-up to Ernie’s question; as it relates to looking out not to just this fiscal year but next fiscal year, and obviously we don’t know what the economy will bring, but do you see -- assuming the economy is kind of similar to today, what do you -- I mean, do you see your growth accelerating some? And I would assume that from a margin standpoint with a full-year of no SAP costs and maybe some efficiencies from the system that we should probably see more operating leverage, if you will, from your business -- just trying to look forward a little bit, how do you look?

Cary L. Deacon

Well, I think two things; one, Reid kind of laid out what ongoing CapEx requires, so I think we are going to see continued strong improvements in our cash flow year over year going into the subsequent years after this one, post the ERP completion. I would see continued growth -- you know, we are committed both to FUNimation and Encore’s growth and they bring a heck of a lot more margin to us. On the distribution side, you know, I think we’ve looked at kind of a 5% to 7% annual growth rate for the next few years, Bob. I don’t -- you know, there’s really no out-layers in there that sees anything dramatically higher, nor do we see anything out there that is dramatically lower from a distribution standpoint.

So when you look at it, our blend should improve, our margin should improve, and the publishing contribution to EBITDA and op-income should improve year-over-year going into 2010 and 2011.

Robert Evans - Craig-Hallum Capital

Okay and for the time being as you are generating your free cash flow, I assume you are going to use that to pay down debt?

Cary L. Deacon

That’s just what we do with it.

Robert Evans - Craig-Hallum Capital

Okay. All right. Thank you.

Operator

And this concludes our question-and-answer session. Thank you for your participation in today’s conference. Your presentation has ended. You may now disconnect. Good day, everyone.

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