PCTEL's (PCTI) CEO Martin Singer on Q2 2014 Results - Earnings Call Transcript

| About: PCTEL, Inc. (PCTI)

PCTEL (NASDAQ:PCTI)

Q2 2014 Earnings Call

July 29, 2014 5:15 pm ET

Executives

John W. Schoen - Chief Financial Officer, Principal Accounting Officer, Senior Vice President and Secretary

Martin H. Singer - Chairman and Chief Executive Officer

Analysts

Matthew S. Robison - Wunderlich Securities Inc., Research Division

Michael Crawford - B. Riley Caris, Research Division

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the PCTEL Second Quarter 2014 conference call. [Operator Instructions] As a reminder, this conference call is being recorded for replay purposes. I will now turn the call over to John Schoen, Chief Financial Officer.

John W. Schoen

Thank you for joining us today for the PCTEL financial results conference call for the second quarter 2014. On today's call will be Marty Singer, Chairman and CEO; and I am John Schoen, Chief Financial Officer. Before we begin, I would like to read our Safe Harbor statement.

Today's call will contain forward-looking statements within the meaning of the federal securities laws. Comments concerning our future financial performance, new products and features, product development, acquisition efforts and expectations regarding the future growth of our wireless business are 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 intellectual property. 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 like to turn the conference call over to Marty Singer.

Martin H. Singer

Thank you, John, and good afternoon to all of you. Let me recap some of the non-GAAP highlights from the quarter. We achieved revenue of $26.2 million, an 11% increase from the preceding quarter. Gross profit margin was 41.9%. Operating margin from continuing operations was 9%. Net income was $2 million or $0.11 per diluted share. Cash and investments were $54 million, and we continue to have no debt.

Now I'll turn the call back over to John, who will discuss our financial performance in some detail. Later, I will comment in some of our business development, engineering and marketing efforts over the past quarter, as well as some of our current activities. John?

John W. Schoen

Thank you, Marty. Our investors will note that the company presents non-GAAP financial information in its earnings releases. The company believes that presentation of gross profit, operating profit and net income, excluding expenses for restructuring, gain or loss on sale of assets or legal settlements, stock-based compensation, amortization and impairment of intangible assets and goodwill and noncash related 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 pctel.com under Investor Relations. My discussion of results will be based on our non-GAAP financial results.

So let's start with revenue. Revenues were $26.2 million, down 2% from $26.7 million in the same quarter last year. I will speak to the changes by reporting segment. RF Solutions revenue was $8.6 million, an increase of 13% from $7.6 million in the same quarter last year. The growth was primarily attributed to the engineering services revenue from the continued rapid growth of in-building wireless network expansion. Scanning receiver revenue also grew but at a slower pace than Network Engineering Services. Connected Solutions revenues were $17.7 million in the quarter, a decrease of 8% from $19.2 million in the same period last year. While lower year-over-year, this represents a $1.7 million sequential growth recovery from a difficult first quarter.

Now let's turn to gross profit. Gross profit margin as a percent of sales was 42% in the quarter, representing a period-over-period improvement of 1% of sales. The increase for the quarter is attributed to the increased contribution of our relatively higher-margin RF Solutions segment revenue as a percent of total revenue and gross margin improvement in our site solutions product line.

RF Solutions gross profit as a percent of sales was 61% in the quarter, representing a period-over-period decline of 4% of sales. The decrease is attributed to the increased contribution of our Network Engineering Services revenue with its lower gross profit margin relative to scanners.

Connected Solutions gross profit as a percent of sales was 33% in the quarter, representing period-over-period improvement of 3% of sales. While the segment experienced margin pressure from fixed cost spread over lower revenue, it was more than offset by improvements made through our elimination of unprofitable site solution business, consolidating the site solutions factory into our Bloomingdale facility and other supply-chain improvements.

Now let's turn to non-GAAP operating expenses from continuing operations. Operating expenses were $8.5 million in the quarter, unchanged from the same period last year. Within that, R&D was up $400,000, primarily attributed to the IBflex scanner and SeeWave interference detection programs within RFS that were offset by $400,000 in lower SG&A costs.

Non-GAAP operating margin as a percent of sales was 9% in the quarter, unchanged from the same period last year. Gross margin and operating cost were the same as last year on roughly the same revenue. Non-GAAP other income was $7,000 in the current quarter. As the amounts are largely interest on our investments, the number will continue to be small in the current interest rate environment.

Non-GAAP income tax rate in the quarter and the year was 18%, unchanged from last year. Non-GAAP earnings per share from continuing operations were $0.11, unchanged from the same period last year.

Now let us turn to the balance sheet. Cash and investments ended the second quarter at approximately $54 million or about $2.3 million lower than the previous quarter. During the quarter, the company repurchased approximately 216,000 of its common shares for $1.65 million and paid a dividend of $750,000 and generated $100,000 of cash and investments from all other sources. Depreciation in the quarter was $697,000.

Now I'd like to discuss revenue guidance for the third quarter and full year 2014. For the quarter, we are guiding to a revenue range of $28.5 million to $29.5 million and revising annual guidance to a range of $110 million to $114 million. The annual revenue shortfall in 3 of our lower-margin Connected Solutions products areas leads us to this annual guidance adjustment. These 3 areas are: dropship, which we continue to evaluate; mobile towers; and real-estate driven delays in small cell implementation. Gross profit margin is expected to be approximately 41%. Operating costs are expected to be lower than the quarter just ended at $8.1 million. The non-GAAP effective income tax rate is expected to remain unchanged going forward at 18%. The fully diluted share count in the next quarter is expected to be about 18.3 million shares.

That concludes the financial review. I'd like to turn the call over to Marty for summary comments.

Martin H. Singer

Thank you, John. My comments this afternoon will be brief. The positive earnings and revenue speak for themselves, and we were pleased to see a strong rebound in our core antenna business, the continued growth of our engineering services business and steady growth in our site solutions and scanning receiver businesses. As John pointed out, the non-GAAP earnings of $0.11 reflects, in part, that we're able to maintain profit levels while continuing to pare back unattractive dropship business.

With respect to sales and marketing, PCTEL had an outstanding second quarter with respect to customer capture for our performance-critical telecom solutions. We were approved as a 4G scanning receiver vendor by China Telecom. We executed against a long-standing mobile tower opportunity for FEMA. We had several wins in China with our antenna product lines, secured Nokia as a small cell antenna customer, and we expanded our Aruba and Extreme business for performance-critical Wi-Fi antennas. Samsung announced that they will deploy our performance-critical GPS antennas for Sprint networks. And we secured new projects with Cisco that will generate revenues beginning this quarter.

We shipped our first small cell site solutions in the second quarter and anticipate additional sales throughout the remainder of the year, as well as of the completion of our AWS expansion site solutions into 2 critical markets for a major U.S. cellular carrier. We also shipped our first significant IBflex order and now provide LTE scanning receivers to the top 4 U.S. wireless operators. The IBflex scanning receiver is the only in-building scanner that can also be configured to run in full power mode for outdoor data collection, with higher sampling rates. PCTEL dominates the U.S. market for performance-critical scanning receivers used in the optimization and benchmarking of U.S. cellular networks.

As more LTE networks roll out, interference becomes an issue that reduces network capacity and throughput. PCTEL announced the SeeWave product at Mobile World Congress in Barcelona and is now shipping units in some quantity. One key advantage of PCTEL's approach is that the SeeWave handtel [ph] antenna and controller can be purchased as an upgrade for existing PCTEL scanning receivers, which significantly reduces the cost of procuring an interference tool.

We also introduced a 4-port, in-building SeeHawk, CW transmitter to our RF product line. Tesco, a long-time distributor of PCTEL's core antenna products, will also sell these in-building systems and hopefully, become a significant U.S. distributor for our RF Solutions products. Tesco now distributes the SeeHawk CW test transmitters and complete in-building measurement kits and interference detection systems. Our SeeHawk continuous wave transmitter includes everything an engineer needs to generate, collect and analyze wireless system, including a CW transmitter, a scanning receiver and SeeHawk software.

We are now at a $10 million annual run rate for our in-building engineering design and commissioning services, and we completed 250 projects in the second quarter. Engineering services acquired 5 new customers last quarter and was awarded a large commissioning project in Las Vegas. We completed projects at 5 NFL venues, 4 NASCAR speedways and 20 college campuses or stadiums in the second quarter. Tower companies, carriers and real estate owners view our engineering services as performance critical. Our analysis and work products permit clients to improve the coverage and capacity for tenants, users, visitors and emergency services. We have tripled our engineering staff in the past 2 years to keep pace with the explosion in demand for high-quality in-building wireless service.

We successfully launched 4 new antenna products during the second quarter, including new small cell and DAS, PIM-rated antennas; dual-LTE multi-band mobile antennas; low-profile, wide-band railroad antennas; and a MIMO Yagi antenna. Our new performance-critical antennas respond to the increased demand for high quality and very specific performance requirements associated with the explosion in small cell in-building and transit communication needs.

We were extremely active at industry shows and conferences. We exhibited, presented or attended 18 events and met with investors and analysts at 2 investment conferences. During the third quarter, I will be attending the railway engineering exhibit and conference in Berlin on September 24. Transit and rail have become more important vertical markets for our performance-critical antenna products and our site solutions.

Finally, we continue to explore opportunities to expand our business through acquisition, as well as organic investment. As we make progress with our M&A efforts, we will keep our shareholders informed. We have set aside 30 minutes for your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Matt Robinson from Wunderlich Securities.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

Sounds like the bookings were pretty decent. What was the biggest disappointment on the -- for you in terms of the revenue miss? And what was the nature of this record order that you got?

Martin H. Singer

There were really only 2 areas where we had some disappointment. We received the single-biggest order in the history of the company, $2.7 million, on 1 day for some of our small cell solutions, and we were not able to ship very much of that. We're about to receive another large order in that area. And as we indicated in our short review here, all of this is a function of real estate acquisition by the carriers. There's no doubt that we have the business. The question is real estate acquisition and commissioning of those cell sites and some other logistics planning that's associated with equipment that we don't provide. The second area was both a disappointment and encouraging in that we shipped part of a large FEMA order, but this order, we expected to ship in the first quarter. We still have not shipped the entire order. And I think we have 5 towers that are fully accessorized that are going to go throughout the rest of the year. The point is that in those 2 areas alone, we probably had about $2 million of revenue that was unshippable between small cell and mobile towers. And that really explains more than 100%. Fortunately, we had some other business that came through in scanning receivers, engineering services, some other site solutions. But there are really 2 disappointments there, but as you say, bookings are pretty reasonable.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

What was -- now your mid-range in your new guidance implies you can do about $33 million in the fourth quarter. What's the -- what gives you that kind of visibility?

Martin H. Singer

Well, really, having POs in hand on small cells, having this mobile tower order, seeing pretty strong core antenna activity. We were up about -- we don't like giving to the details of this, but we were up over $2 million in core antennas quarter-over-quarter. We expect to be up at least another $500,000, maybe as much as $800,000 in the third quarter. We think we're going to have a very strong quarter for core in the fourth quarter for this reason. And we're really doing nicely with Aruba and Extreme. And Cisco, which has been our mainstay in industrial-strength Wi-Fi business has sort of come back with some more interesting projects, and we expect those to come online in the fourth quarter. We're also seeing some leveraging of our transit experience from the New York subways. We see some other transit business occurring, and a fleet is starting to take hold. As we discussed, I think, a couple of quarters ago, we placed a major emphasis on establishing ourselves, really, as the #1 provider in fleet. And we're working with some anchor customers now that we think will result in business in the fourth quarter. We were very, very pleased with the results in our scanning receiver business. Being approved as a scanning receiver vendor by China Telecom took us, I think, 3 years and maybe 4 different lab test and field test evaluations. There were only 2 vendors selected. And we've already started shipping, and we think that we have a reasonable chance with one of the other operators in the fourth quarter. So those are the positive trends. I don't want to minimize, though, that now that we're in the hunt for major site solution business with carriers, we also bear some of the risk where that can be erratic. Logistics variables, they're a little bit out of our control. I think the other good news is we're able to deliver the earnings expectations on somewhat lower revenue, and that really speaks to 2 things: one, more rapid growth of RFS in relationship to Connected Solutions, but in Connected Solutions, you're really seeing very strong gross margin in the core antenna business and a successful paring back of unattractive margin business in the dropship area. And that's an area that Jeff Miller has been focused on.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

What's the -- what happened to the wayside, the railway business that we talked about 3 months ago? And [indiscernible] ...

Martin H. Singer

We're continuing to deliver that. We're continuing to deliver that through ARMs, directly to some of the railroads directly. But that continues to be strong for us. I think in the second quarter, we did $300,000; and in the third quarter, we expect growth over that. Specifically, BNSF has turned out to be a strong customer for us.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

John, where does the $400k in OpEx come out of?

John W. Schoen

The -- it came out of SG&A and R&D.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

For the third quarter?

John W. Schoen

Yes, for the third quarter, about $150,000 of it's going to come out of R&D, and the rest is coming out of SG&A.

Martin H. Singer

But specifically, in answer to your question there, Matt, when we -- we had 3 new products at 1 time: the IBflex; SeeWave -- the SeeWave interference detection system; and then the SeeHawk CW transmitter. And that caused a real spike in R&D in RFS, and now that has come back to earth. It was slightly lower in the second quarter, but you'll see it lower still in the third quarter.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

John, can you give us the specifics on CapEx and cash flow from operations?

John W. Schoen

Yes. In the quarter, cash flow from operations was breakeven. CapEx -- oh, I apologize, was -- that's for the half, was $790,000 cash flow from ops in the quarter and $762,000 CapEx. And just as a comment here, we had -- in this recovery, sequential recovery, it was very heavy June, so I'm expecting a big cash flow quarter in the $3 million to $4 million range for next quarter because, obviously, with such a big June, none of the receivables were collectible.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

Yes. Saw the DSO go up, and you had kind of a...

John W. Schoen

Yes, that's right. [indiscernible] that was the problem.

Matthew S. Robison - Wunderlich Securities Inc., Research Division

exacerbates [indiscernible] revenue, yes.

John W. Schoen

Yes.

Operator

[Operator Instructions] Your next question comes from the line of Mike Crawford from B. Riley.

Michael Crawford - B. Riley Caris, Research Division

So Marty, you talked about evaluating your dropship business. Is that just to scale it back normally or to possibly exit that business?

Martin H. Singer

No, no, no, we wouldn't exit it. But as you know, when we took over that business and then discovered problems,what is it, 1.5 year ago? There were some elements of that business, like finding kits that had vacuum cleaners in them, just ridiculous stuff that we've pared back. At one time, we thought of that business as a $7 million business just in dropship; and it turns out, we're much better targeting something around $4 million with sustainable gross margins. And there's probably about $400,000 less in that business than we initially projected because we just looked at some of these opportunities and said it's just not worth it. It makes no sense. But there is a solid $4 million in there a year, $1 million a quarter, which goes along very nicely with other things we do in kitting, other things we do with major customers that have a reasonable gross margin. So I think we're pretty much done with the paring at this point, but we're not -- we're only going to grow that if we can grow it at gross margins that belong in our business.

Michael Crawford - B. Riley Caris, Research Division

And I know you went through this a little bit, but on one hand, you're talking about, with the network engineering, this explosion in small cell communication needs. But then, you're seeing these delays in implementation. That's -- you've tripled your staff, but it's just you're at the mercy of your customer, where you have people just sitting around doing nothing now or what?

Martin H. Singer

Let's divide those into 2 separate things. Not at all. And I'm sorry if I confused you on that. On the in-building Network Engineering Services, there is both an explosion -- on the increase in staff and absolutely no delay. We've gone from doing $400,000 a quarter to doing $2.5 million to $2.8 million a quarter. And we will have increased this business from something in the $1.8 million range a year to something that looks like $10 million to $10.5 million a year in 3 years. And every single one of our engineers in engineering services is fully loaded and overloaded, and we will continue to expand that. Make no mistake about it. We did 250 projects just in the second quarter, and as we increase our capacity, we can take on more and that engineering services is also turning out to be a search engine for our scanning receiver opportunities, in-building antenna opportunities and so on. The delay that we spoke about has absolutely nothing to do with our staffing. In our entire site solutions area, if we talk about mobile towers, delivering site solutions, dropship and so on, we're talking being at around 18 people, down from 49, when we took over those assets. We are not increasing that staff. There's nobody sitting around. The issue is that we have POs in hand. And we actually do have a little bit of inventory sitting around because we're ready to deliver these kits, but the delays are delays, such as a carrier may have an issue with just getting site approval from a local community even with the small cell or they have to have some commissioning done, some preparatory work. But by the end of the year, this will sort out, and I think, the encouraging news is that we have major league POs in hand to deliver against this opportunity.

Michael Crawford - B. Riley Caris, Research Division

And you did give some nice guidance for this year, for investors looking beyond 2014. I think, fair to assume that margins will continue to decline as you mix towards more engineering services?

Martin H. Singer

No, I think we've said that we're going to keep margins in the 41% overall range. It is product mix, but I think, as we pare back dropship and what -- we have a word is we grow core antennas. We continue to grow our scanning receiver and specialty tool. I think even with mix changes, we're likely to stay at 41%. I think that's what's in the investor package, Mike. Isn't it? Mike?

Michael Crawford - B. Riley Caris, Research Division

In the investor package?

Martin H. Singer

I think in the investor presentation that I'd given at your conference and in other environments.

Michael Crawford - B. Riley Caris, Research Division

Oh, oh, oh, in prior presentations, right.

Martin H. Singer

We project 41%, 42% over the long period, and that anticipates that Jeff will continue to improve the gross margin in core antennas, that we'll get a reasonable gross margin out of site solutions and that RFS will actually grow a little faster than Connected Solutions business.

Michael Crawford - B. Riley Caris, Research Division

And then last question is on the buyback. It had been quite some time since we'd seen any activity there. Your stock certainly was dislocated as you went out of the Russell. Is this -- was that just a one-off deal? Or do you feel that this $54 million of excess cash on the balance sheet is something that can be deployed not only into pursuing the M&A, that opportunities that you continue to evaluate support the small dividend but also to include the buyback?

Martin H. Singer

Yes. When you say $54 million of excess cash, I mean, it's really -- if I were to look at it, I would say $34 million, $35 million because we need money to finance the growth of the business just in terms of financing accounts receivable and so on as we grow. So if I look at that money, I think, Mike -- and we've discussed this before -- we've always taken the position that we think all 3 of those things that you've just mentioned are valuable things for the shareholders: one, buyback in moderation; two, dividends in moderation; and M&A in moderation. And at this time, we plan on continuing that. And every quarter, when the board meets, they evaluate where we ought to be allocating resources. And depending on conditions, such as we had last quarter, we will always consider buyback to be one of the ways in which we invest our cash.

Michael Crawford - B. Riley Caris, Research Division

Well, correct me if I'm wrong, but I believe 2004 might have been the last time you had negative free cash flow for a year, which, if I'm correct, would be -- it lends credence to the argument that the business could be run with some leverage instead of with reversed leverage, no?

Martin H. Singer

Yes, I think that's true.

Operator

And I have no further questions at this time. I turn the call back over to Marty Singer for closing comments.

Martin H. Singer

I want to thank you all for joining us and look forward to seeing you at various conferences and to our update after the third quarter. Thank you.

Operator

And this concludes today's conference call. You may now disconnect.

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