PCTEL, Inc. Q2 2008 Earnings Call Transcript

Jul.25.08 | About: PCTEL, Inc. (PCTI)

PCTEL, Inc. (NASDAQ:PCTI)

Q2 2008 Earnings Call

July 24, 2008 5:15 pm ET

Executives

Jack Seller - Director of Marketing

Martin H. Singer, Ph.D. - Chairman and Chief Executive Officer

John Schoen - Chief Financial Officer

Analysts

Michael Coady – B. Riley & Company, Inc.

Eric Kainer - Thinkpanmure LLC

Operator

Welcome to the PCTEL Inc. second quarter 2008 earnings conference call. (Operator Instructions) At this time, I would like to turn the call over to Jack Seller, the Director of Marketing who will read the Safe Harbor Statement.

Jack Seller

Thank you for joining us today, July 24, 2008 for the PCTEL financial results conference call for the second quarter of 2008. On this call will be Marty Singer, Chairman and CEO and John Schoen, Chief Financial Officer.

Today’s call will contain forward-looking statements within the federal securities laws, comments concerning our future financial performance and expectations regarding the future growth of our wireless RS and licensing business, and our forward-looking statements within the meaning of the safe harbor. Actual results may differ materially from those projected as a result of risks and uncertainties including the ability to successfully grow our wireless products business, implement new technologies and obtain protection for the related IP.

Additional discussion of these and other factors affecting the company’s business and prospects is contained in our periodic SEC filings. These statements are made only as of today and we disclaim any obligation to update information to reflect subsequent events.

I would now like to turn the conference call over to Marty Singer for opening remarks.

Marty Singer

On behalf of PCTEL, welcome to our financial results conference call for the second quarter. Before I turn the call over to John for a detailed review of the quarter, let me briefly recap the results for the quarter on a non-GAAP basis.

Revenue in the quarter was $20.3 million, gross margin was 48%, operating income for continuing operations was $2.9 million, and net income from continuing operations was $3 million. I’d also like to summarize some of the highlights from our second quarter.

I’m pleased to note that we completed our previously announced buyback of 3 million shares and during the quarter purchased 1.88 million shares at an average price of $9.04. We also paid out a $10 million one-time cash dividend which represented a significant return to our shareholders. After all these events, we have roughly $85 million in cash and investments on our balance sheet.

With that as background, I’d now like to turn the call over to John Schoen who will provide you with the financial details of the quarter.

John Schoen

Our investors will note that the company presents non-GAAP financial information in its earnings releases. The company believes that the presentation of operating profit and net income excluding restructuring charges and non-cash based expenses including stock and stock option-based compensation, amortization, and impairment of intangible assets and goodwill related to the company’s acquisitions and non-cash based income tax expense provide meaningful supplemental information to both management and investors.

The non-GAAP financial analysis reflects the company’s core results and facilitates comparisons across reporting periods. For more information on our non-GAAP financial results and reconciliation to GAAP measures, please refer to our earnings release that has been filed under Form 8-K with the SEC. The release can also be found on our website at www.pctel.com under Investor Relations. My discussion of results will be based on GAAP financial results.

As a reminder, the company closed sale of its Mobility Solutions Software Group or MSG to Smith Micro on January 4, 2008.The company’s financial statements have been revised to reflect MSG as a discontinued operation. My discussion of financial results will address continuing operations.

Let’s turn to revenue. Second quarter 2008 revenue from continuing operations was $20.3 million compared to $16.5 million with the second quarter of 2007, an increase of 23%. Revenue for scanning receivers in the quarter was up significantly, both sequentially and year-over-year on the strength of several large orders through our OEM customer channel.

Antenna revenue growth from the same period last year was modest primarily related to the acquisition of Bluewave in the first quarter this year.

With regards to growth profit margin, gross margin from continuing operations for the second quarter was 48% versus 45% in the same period last year. The growth margin improvement reflects the favorable product mix of scanning receiver revenue previously mentioned.

For operating expenses, the second quarter non-GAAP R&D and SG&A from continuing operations was $7.2 million, down $400,000 from the same quarter last year. R&D expense was lower by $100,000. Last year’s expense included expenses related to our antenna operation in Ireland which we discontinued at the end of Q2 last year.

Sales and marketing were up $100,000 on higher revenue. G&A expense was $400,000 lower resulting from our decision to divest our software business and concentrate solely on RA.

As you may recall, one of the company’s initiatives is to increase profitability to double digits. Management of our operating expenses is one of the components of this goal which we expect to achieve through greater operating efficiencies within the business.

The connection royalty was lower than last year by $50,000 as the contractual quarterly cap is lower in 2008.

Now let’s turn to non-GAAP operating income. Non-GAAP operating income from continuing operations in the quarter was $2.9 million or 14% of revenue compared to $127,000 or 1% of revenue in the same period last year. The results showed in improved profit performance and lower operating costs.

With regards to other income, other income was $650,000 in the second quarter compared to $850,000 a year ago and $800,000 in the first quarter 2008. The year-over-year decline is attributed to lower interest rate more than offsetting the rise in cash and investments. The sequential decrease is due to cash used in the second quarter to fund the special cash dividend, the stock buyback, and the first and second installment of our estimated tax payments due to the gain of the sale of MSG.

In regards to our tax rate, the non-GAAP income tax rate is 16% and we expect it to remain at that level in 2008. Non-GAAP net income from continuing operations for the second quarter 2008 was $3 million or $0.15 per diluted share compared to non-GAAP net income of $800,000 or $0.04 per diluted share in the second quarter of 2007. To summarize the differences previously discussed, net income from continuing operations was higher from higher revenue, improved gross profit, and lower operating expenses which were partially offset by lower interest.

Now let’s turn to the balance sheet. Cash and investments entered the quarter at $85 million of which $70 million is classified as short-term and $15 million is classified as long-term. This is a sequential decrease of $33 million from the first quarter of this year. The largest contributing factors to the change were $17 million used for the stock buyback, $10 million paid out for the special dividend, and $10 million paid on the first and second installments of the estimated tax payments due for the gain on sales of MSG offset by $4 million of the net cash generated from all other sources. There are two more estimated tax payments of $5 million each in September and December related to the gain on sales of MSG.

For the roughly $85 million in cash and investments currently on hand, the company has approximately $2 million in operating bank accounts, $58 million in AAA money market funds which are in turn invested 100% in short-term U.S. Treasury securities, U.S. federal government agency securities, or bank repo agreements collateralized by the same, $20 million in the Columbia Strategic Cash Portfolio fund and enhanced cash money market fund, and $5 million in PEC-exempt municipal notes.

As we discussed in previous calls, the Columbia Fund is an enhanced cash money market fund that was impacted by the recent turmoil in the credit markets. Columbia is in the process of liquidating the fund. The liquidation program returned $5 million of our investment in the second quarter of 2008. To date, Columbia has liquidated approximately 53% of our original share position. However, we cannot predict the ultimate outcome of the liquidation.

Of the $20 million balance remaining in the Columbia Fund, $10 million is classified as short-term and $10 million is classified as long-term at the weighted average life of the underlying securities beyond 12 months.

Now, I would like to discuss guidance for the third quarter and the year for continuing operations.

We anticipate the quarter will see year-over-year revenue growth in both scanning and antenna products. Sequentially from the second quarter, we anticipate significant growth in antenna revenue from WiMAX and a sequential decline in scanning revenue. The sequential decline in scanning receiver orders will return us to very strong levels but we do not anticipate the large urgent orders that we received in the second quarter. Modem-like revenue is expected to remain immaterial.

As a result, total Q3 revenue is expected to be approximately $20.3 million which is sequentially even with the second quarter and an increase of 15% from the third quarter of 2007. We have tightened our annual revenue guidance range from $79 million to $81 million. It was previously $78 million to $82 million.

Now let’s turn to gross profit percent. We expect strong revenue contribution from some of our lower margin antenna products in the quarter. The change in the product mix will result in a sequential decline in gross profit percent. We project 43%-45% gross profit for the third quarter.

Guidance for the third quarter non-GAAP R&D and SG&A from continuing operations is expected to be in a range of $7.2 million to $7.4 million. We continue to look at the other side of the equation in driving higher earnings.

The connection royalty is expected to be $200,000 and other income is expected to be $400,000 for the quarter. As mentioned before, the annual guidance for the non-GAAP affected income tax rate remains unchanged at 16%.

That concludes the financial review. I would like to turn the call over to Marty for his second comments.

Marty Singer

We performed well in the second quarter with significant contributions in the scanner receiver product line and consistent performance from our antenna product. The results also underscore our efforts to better manage Abucks across the board, Abucks as a percent of revenue continued to decline.

This is particularly true in G&A which John has been able to decline and reduce costs associated with IT, legal, HR, finance, and strategy development. These cost reductions are a continuing benefit from our decision to focus the business on our products.

Although we do not offer revenue guidance by product line, we experience an exceptional sequential improvement in scanning receiver sales. I just want to add that some of this increase reflects a significant order from one of our major OEMs that needed to be shipped in its entirety in the second quarter.

Our scanning receiver sales will return to strong but more sustainable levels in the third quarter. As John as already pointed out, the strong scanning receiver sales in the second quarter contributed heavily to our unusually strong bottom-line performance. As a financial decider, we had a few significant product events in our investment that weren’t mentioned.

Many of you have read about the deployment of TBS/CBMA in China. We are pleased to report that our TBS/CBMA scanning receiver along with our WiMAX scanning receiver are now commercially available for deployment in China. In fact, we already received our first WiMAX scanning receiver order for the China market. Both applications are based on our industry-leading SeeGull EX platform which drives testing applications across cellular technologies. Our WiMAX scanning receiver is commercially available in other markets as well.

The EX platform was also deployed in OTS applications in both the U.S. and Russia during the second quarter and we had one significant clarified order in South America.

We continue to ship item technology-based scanning receivers outside of the United States. We shipped an InSite Item solution, for example, to Mexico during the quarter.

We had had an extremely exciting quarter with our products group as well. As we have been communicating over the past several quarters, GPS has emerged as an important market and product area for PCTEL. This past quarter, we released an industry-leading multi-band timing antenna and the point of this tri-band GPS timing antenna is that it can drive network timing from any one of the three primary satellite signals used in different regions. The ability of our new antenna to derive timing from GPS Grommace and Galileo will enable greater flexibility for political security or economic reasons. The critical advantage of our new design is that our major OEM customers can order a single product, one SKU to meet all of their timing needs.

It was a strong quarter for WiMAX antennas as well. We won a significant order from Axtel, a Mexico-based software company providing high-speed data services for our WiMAX CPE antennas. We also delivered high-volume production orders to both Lzanne and Motorola. We believe that this business will continue to grow. We continue to ship meaningful quantities of Canopy as well, a precursor to the WiMAX standard.

During the quarter, we completed the integration of the recently acquired Bluewave antenna product line into our Bloomingdale operation and we are pleased with initial sales results for those products. We secured a new OEM customer for the Bluewave product line that should expand our existing sales levels in North America. We also experienced growth in some of our traditional antenna business associated with OEM manufacturers’ support for CableVision.

Finally, we experienced our strongest antenna quarter in EMEA in the last 2.5 years driven largely by our investment in WiMAX applications.

With all of this positive product news and our increased revenue in earnings, we do not want to minimize some of the challenges that we face. Inflation is taking a toll on freight and commodity costs. Our cost in business is increasing and we need to re-double our efforts to combat gross margin pressure particularly in the antenna products group with the rising costs of raw materials which directly impacts our costs of goods sold.

There is also work to be done on the top line of APG. Our business model requires that we continually identify and sustain new opportunities. Further, consolidation in our industry continues. Large customers often seek out large suppliers and some of our competitors have consolidated in anticipation of this pressure.

Finally, we are watchful of spending from municipal, state and federal budgets that drive the purchases of our LAN mobile radio antennas. To date, we have not witnessed significant downward pressure but we must monitor all these factors.

You will note that we have carefully managed our own expense budget growth in anticipation of emerging pressure.

John has already commented on the successful buyback of PCTEL stock. At this point, we have no further authorization to buy back additional stock. We believe that carefully orchestrated small accretive acquisitions will increase shareholder value. When we announced the divestiture of MSG, our stock was trading at $7.61. Many investors opposed this strategic move, not recognizing the potential advantages of achieving a singular focus on RF. Today, the stock price has benefitted from the decision and we paid out a one-time special dividend to our shareholders. We believe that we can build upon this momentum.

It is our goal to double revenue from 2007 to 2011 and we’ll remain a double-digit operating profit company. On a continuing operations basis, we now get three successive quarters that are consistent with that model and we are working on a fourth.

Our strategy to achieve this goal comprises four elements. We will continue to exploit the global growth in wireless broadband. We will establish leadership positions in each of the markets we pursue. We’ll continue to enhance our position in product areas such as GPS, WiMAX and mobile LMI antennas. Finally, we can continue to target select acquisitions that expand our footprint and organic growth opportunities.

That concludes my prepared comments. We will now open the call to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Michael Coady - B. Riley.

Michael Coady – B. Riley & Company, Inc.

Can you quantify the amount of scanner orders that you would call not one-time in nature, but they were pulled into the quarter from the third quarter?

Marty Singer

There was one large $1 million order that could have easily moved into the third quarter but we felt it was more important to meet the customer’s ship date than try to orchestrate consistency on scanning receivers’ revenue.

Michael Coady – B. Reilly & Company, Inc.

If antenna growth was nominal in the quarter with the exception of Bluewave, why the acceleration going into Q3 in the back half of the year?

Marty Singer

There are a few things. One, we had spent approximately 18 months developing design wins in WiMAX. That’s a long process where you work with the OEM vendor and you get your antenna designed into their radom, into their base station, into their CP and so on. We will start to see some significant sales in both the third and the fourth quarter. We also anticipate that some GPS orders will materialize in the third and fourth quarter particularly for some of our government applications. We’re pretty confident of those.

WiMAX and GPS are good product lines for us and we’ll continue to see growth in Bluewave although Bluewave was strong, it will be stronger still in the third and fourth quarter. There’s an interesting thing happening, the Bluewave product line is basically a Miyagi product line that’s used in various industrial and enterprise applications as well as ham mobile radio. If you combine our existing Miyagi product line and the new product line, that’s starting to look like 10%-11% of our sales in the antenna group and we think that there’s pretty good growth there.

Operator

Your next question comes from Eric Kainer - Thinkpanmure LLC.

Eric Kainer - Thinkpanmure LLC

You have a sequential uptick here in R&D of $400,000. I assume that a bunch of that increment is probably attributable to the scanner business as well as maybe some to the new antenna acquisition. How should we think about that? How quick are your cycles between R&D completing a project and showing that up in revenues then on?

Marty Singer

I would say that there were three elements that contributed to the uptick in our R&D. One, as you mentioned, our RFS group. That probably was the majority of the increase in the second quarter. As we’ve said before, we really don’t mind that increase investment in RFS because it helps protect our gross margin and helps us get ahead of the curve in terms of new product introductions and so on.

There are two other areas of growth that are worth mentioning. One, as you mentioned, Bluewave. We had some incremental growth. We took on a contractor to support us from Bluewave, There’s been some additional work done here. We’ve also made a lot of progress in building our China design team. We now have four people in China working in very close geographically with our ODMs, our contract manufacturers and we’re looking to move some of our design engineering over there physically for some of the products that we are trying to get out and low cost remainders.

In terms of thinking about turnaround and what you’ll see quickly. The fastest payoff I think is going to be in the incremental effort we put into Bluewave. I think you’ll see us making some changes where we can incorporate broader spectrum coverage. I think you’ll see rationalization of our product line with the Bluewave product line. I think we’ll have some immediate benefit from the China design team.

Eric Kainer - Thinkpanmure LLC

Another thing that I’d like to understand maybe a little bit better is for your international sales, I assume most of those are denominated in dollars. First, is that true and if it is, what’s the impact on customer orders or customer interest given that they seem to be getting a discount here with the weaker dollar.

Marty Singer

It is true and I think it’s been helpful on the scanning receiver side. We don’t have enough antenna sales in Europe for that to have had a major impact but as you know, we sell quite a few of our scanning receivers through three European OEMs for whom the denomination in dollars would be a significant discount.

Eric Kainer - Thinkpanmure LLC

Last, I guess next-to-last question for me is about the LAN mobile radio sales. Do you presently sell any LMR gear overseas outside the U.S. or is that all domestic and what kind of opportunities might there be overseas and how would you access those markets?

Marty Singer

We sell a small amount of LAN mobile radios overseas. A lot of it had to do with our acquisition of Sigma. That was a LAN mobile radio product line associated with that and we did set up a distributor. We do have some opportunities. For example, when you think about LAN mobile radio, you might want to think about our Tianjin factory that turns out antennas to meet the needs of a very important OEM to us which is Motorola in that market.

Going to your last question, how do you access the market, there are two major ways for us to access the market with antennas. We very rarely, I think very rarely is not the right word, we never sell directly to a LAN mobile radio carrier. We sell to distributors, value-added resellers and through OEMs. So you may remember some time ago, we announced a relationship with Richardson Electronics, a global distributor. Richardson and other distributors that we sign up around the world would be one way that we would go to market with LAN mobile radio antennas.

Our favorite way, our sales channel of choice would be to have relationships with key OEMs in that market and to sell our antennas through them as part of the system that they sell. The advantage of that is that you don’t really need a sales person in the region that your product ends up in. You really need a salesperson associated or co-located with the OEM.

Eric Kainer - Thinkpanmure LLC

Given how important the LRM business is to the top line, yet how comparatively small it is for the opportunity that you got internationally, when can we expect that to be a little bit more significant part of the mix? Is that really kind of part of the ’09 plan or how should we think about that?

Marty Singer

I’m not sure exactly how to answer that. You already are seeing LAN mobile radio antennas sold out of China into Motorola as I mentioned earlier. I guess one answer to your question, Eric, is this. It’s going to be very difficult for us to make sales to a distributor in some markets. For example, like India where the pricing is extremely competitive, unless we had a footprint in India through an acquisition or a joint venture. So one answer to your question would be our success in some markets is going to depend on our ability to build alliances and develop businesses through non-organic activities. I think that you’ll see results from some of our business development efforts in LAN mobile radio later this year and in ’09 primarily through the OEMs.

Eric Kainer - Thinkpanmure LLC

What was the diluted share count at the end of the quarter?

John Schoen

What you’ll do is the diluted share count obviously has a weighted average component in it for this quarter because we were buying the shares. I would use 18,500 for Q3 and Q4 going forward.

Operator

We have no further questions in the queue.

Marty Singer

Thank you. I want to thank all of you for joining us today on the call and on the webcast. In the coming quarter, we will be presenting at the B. Riley Cash Rich Technology conferences in San Francisco on August 12. I would like to thank Michael Coady for that opportunity. Also at the Jeffries Technology Conference in New York on September 10. We hope to see many of you at those investor events and to be speaking with other interested investors in the coming quarter ahead of our quiet period. Thank you and good evening.

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