Elbit Systems' (ESLT) CEO, Bezhalel Machlis on Q4 2015 Results - Earnings Call Transcript

| About: Elbit Systems (ESLT)

Elbit Systems Ltd. (NASDAQ:ESLT)

Q4 2015 Earnings Conference Call

March 22, 2016 10:00 am ET

Executives

Bezhalel Machlis - President, Chief Executive Officer

Joseph Gaspar - Executive Vice President, Chief Financial Officer

Kenny Green - GK Investor Relations

Analysts

Gilad Alper - Excellence

Yoav Burgan - Poalim Sahar

Tasha Keeney - ARK Invest

Operator

Ladies and gentlemen, thank you for standing by. Welcome to Elbit Systems Fourth Quarter and Full Year 2015 Results conference call. All participants are at present in listen-only mode. Following management’s formal presentation, instructions will be given for the question and answer session. As a reminder, this conference is being recorded.

You should have all received by now the company’s press release. If you have not received it, please contact Elbit’s investor relations team at GK Investor Relations or view it in the News section of the company’s website, www.elbitsystems.com.

I would now like to hand over the call to Mr. Kenny Green of GK Investor Relations. Kenny, please go ahead.

Kenny Green

Thank you and good day to everybody. On behalf of all the investors, I would like to thank Elbit Systems management for hosting this call. Joining us on the call today are Mr. Bezhalel ‘Butzi’ Machlis, Elbit’s President and CEO, and Mr. Joseph Gaspar, Elbit Systems’ Chief Financial Officer. Joseph will begin by providing a discussion of the financial results of the fourth quarter and the full year of 2015, followed by Butzi who will talk about some of the significant events during the 2015 and beyond. We will then turn over the call to the question and answer session.

Before we begin, I’d like to point out that the Safe Harbor statement in the company’s press release issued earlier today also refers to the contents of this conference call.

With that, I would like now to turn over the call to Joseph. Joseph, please go ahead.

Joseph Gaspar

Thank you, Kenny. Hello everyone and thank you for joining us today. As we do every quarter, we will provide you with both our regular GAAP financial data as well as certain supplemental non-GAAP information. You can find all of the detailed GAAP financial data as well as the non-GAAP information and a reconciliation in today’s press release.

Overall, we are very pleased with our performance in 2015 as well as in the final quarter, in particular with the growth in revenues, margin improvements, and the strong cash flow as well as the continuous growth in backlog. I will now highlight and discuss some of the key figures and trends.

Our fourth quarter 2015 revenues were $886.6 million, an increase of 4.3% compared with the $850.3 million reported in the fourth quarter of 2014. I note that our fourth quarter revenues, like last year, were the strongest of the year. In 2015 as a whole, our revenues were $3.11 billion versus $2.96 billion last year, representing growth of 5%.

In terms of revenue breakdown across our areas of operation in the quarter, airborne systems was 38%, C4ISR was 36%, land systems was 14%, electro-optics 9%, and the rest was 3%. Compared with the fourth quarter of last year, the overall revenue mix from the areas of operation was similar.

In terms of geographic breakdown for the quarter, Israel was 20% of revenues, North America 25%, Europe 21% and Asia-Pacific was 22%, Latin America was 11%, and the rest of the world 1%. Compared with the fourth quarter last year, we primarily saw an increased contribution from Europe and Israel and a lower contribution from Latin America.

Looking at 2015 as a whole, we saw a major increase in armored vehicle systems where revenues more than doubled compared with last year. This was primarily due to an increased level of sales of fire control systems to the Asia-Pacific region. I should add that the land system sales also included significant electro-optic subsystems.

Geographically in 2015, Europe and Asia-Pacific were the main contributors to our growth while North America and Asia-Pacific were the major revenue contributors of approximately 53% of total revenues.

For the fourth quarter, the non-GAAP gross margin was 29.6% versus 27.6% in the fourth quarter of 2014. Our GAAP gross margin was 28.6% versus 27% last year. For the full year of 2015, non-GAAP gross margin was 29.8% versus 28.6% last year. Our GAAP gross margin was 28.9% versus 27.9% last year. The improvement in the gross margin was due to a number of factors. These include continued efforts to improve profitability by looking to extract synergies among our various units while maintaining efficient operation and control over costs. In addition, we experienced a more favorable exchange rate compared with last year.

The fourth quarter non-GAAP operating income increased 22% to $91.5 million or 10.3% of revenues compared with $74.8 million or 8.8% of revenues last year. GAAP operating income increased by 21% to $78 million or 8.8% of revenues versus $64.2 million or 7.6% of revenues last year. For 2015 as a whole, non-GAAP operating income grew 12% to $316.7 million or 10.2% of revenues compared with $284 million or 9.6% of revenues last year. GAAP operating income grew 9% to $268.6 million or 8.6% of revenues versus $246.9 million or 8.3% of revenues last year.

In terms of our expenses for the quarter, total operating expenses were 19.8% of revenues compared with 19.4% of revenues in the fourth quarter last year. The breakdown was net R&D expenses at 7.8% of revenues versus 8.4% last year, marketing and selling expenses at 7.5% of revenues versus 7% last year, and G&A expenses at 4.4% of revenues versus 4.1% last year. For the full year, operating expenses were 20.2% of revenues compared with 19.5% last year. The breakdown was net R&D expenses at 7.8% of revenues versus 7.7% last year, marketing and selling at 7.7% of revenues versus 7.3% last year, and G&A expenses at 4.7% of revenues, at essentially the same level as last year.

Financial expenses for the fourth quarter of 2015 were $2.3 million compared with financial expenses of $11.2 million in the fourth quarter of last year. In 2015, our financial expenses were $20.2 million compared with $47.5 million last year. I note that in both the third and fourth quarter of last year, our financial expenses were unusually high due to our currency hedging activities.

For the fourth quarter, non-GAAP net income grew 41% to $74.2 million or a net margin of 8.4% versus $52.8 million or a net margin of 6.2% last year. Non-GAAP diluted earnings per share were $1.74 compared with $1.24 last year. On a GAAP basis, fourth quarter net income grew 43% to $63 million and a net margin of 7.1% versus $44 million and net margin of 5.2% last year. GAAP net income diluted per share was $1.47 compared with $1.03 last year.

For 2015, non-GAAP net income grew 20% to $242.4 million or a net margin of 7.8% versus $201.2 million or a net margin of 6.8% last year. Non-GAAP diluted earnings per share were $5.67 compared with $4.71 last year. On a GAAP basis, 2015 net income grew 18% to $202.5 million or a net margin of 6.5% versus $171 million and a net margin of 5.8% last year. GAAP net income diluted per share was $4.74 as compared to $4.01 last year.

Our backlog of orders at quarter end was $6.56 billion, close to $300 million higher than the backlog at the end of the fourth quarter of 2014. Approximately 68% of the current backlog is scheduled to be performed during 2016 and 2017. This figure is at a similar proportion of the backlog schedule to be performed in the upcoming two years compared with that of the same time last year.

Operating cash flow for the quarter was $179 million compared to $178 million in the same quarter last year. In 2015 as a whole, we had very strong positive cash flow of $435 million versus $178 million in 2014. The strong cash flow was the result of increased collections as well as advanced payments for contracts received.

The board of directors declared a dividend of $0.40 per share for the fourth quarter of 2015. In 2015 as a whole, we declared $1.49 in dividends to our shareholders.

That ends my summary, and I shall now turn the call over to Mr. Machlis. Butzi, please go ahead.

Bezhalel Machlis

Thank you, Joseph. Our 2015 results demonstrate a strong and growing business. Our top line grew by 5% driven by our ongoing growth and backlog, which have continued to expand over the past two years. At the end of 2015, our backlog is 5% ahead of the backlog at the end of 2014 despite the high levels of deliveries and revenues throughout the year. Looking ahead, this sets us up well for the potential continued future growth into 2016 and beyond. We are also proud of the improved profitability of 2015 compared with last year, a growth of approximately 20% of the bottom line.

Just to highlight some events in 2015, in April we established a new division called ISTAR, focused on providing our customers with a comprehensive range of advanced intelligence solutions. This division combines our electro-optics and UAS operations. We have already begun to realize some of the sales synergies and cost savings of having electro-optics and UAS under one roof.

We also established a new subsidiary called Cyberbit, consolidating and spearheading our activities in the cyber area. In the middle of the year, we acquired the cyber and intelligence division of NICE Systems, which we successfully integrated into Cyberbit. We are also currently working to consolidate our various companies in the United Kingdom under one country manager which we believe will lead to strong synergies and better position us in this important market. These types of efforts are a part of the underlying reason for the ongoing trends of improving performance at Elbit Systems.

I would like to focus on two regions, Europe and Asia-Pacific in which we are very active, that have helped drive our growth in 2015. First, Europe. This region represented 60% of our revenues in 2015 and in the fourth quarter crossed the 20% mark. Following the decline that affected Europe’s defense budget for over a decade and more sharply since 2008, it finally started to grow in 2015. This is likely in part due to the various geopolitical events. We see strong interest in our technologies and solutions and potential for growth in both the near and longer term.

I would like to highlight some of the recent European orders we received. Last month, through our joint venture with KBR in the U.K., we received a major contract of approximately £500 million, about $713 million, from the Ministry of Defense for the U.K. Military Flight Training System program over an 18-year period. May I note that this is not included in our backlog of orders due to the fact Elbit owns only 50% in the joint venture with KBR. The U.K. MFTS program is designed to deliver air crew training for the 21st century. Training centers have become strong business opportunities for us, and this is another major flight school training project, the first being for the Israeli Air Force. We are very proud to have been chosen to take part in such an important U.K. MOD project. It attests to our position as a leading provider of training systems and infrastructure.

In November, we received a four-year $200 million contract from the Swiss Federal Department of Defense for the supply of our UAS Hermes 900 heavy fuel engine, and an advanced ground segment for command control and communication. This Hermes 900 heavy fuel engine is an advanced adverse weather reconnaissance UAS offering improved operational capabilities. Our win of this significant contract attests to our innovative and technological leadership in the area of unmanned air systems.

Earlier in 2015, our recently formed ISTAR division won a $78 million contract in Europe for a UAS-based intelligence solution, and our recently formed Cyberbit division received an order from a European police force for Cyberbit’s SIGINT system. This system integrates our advanced Target 360 interception platform with cutting edge cyber domain collection capabilities. We also received a $150 million contract from the Dutch Ministry of Defense to supply advanced systems as part of the Smart Vest program, a cooperation between the Benelux countries for soldier mobilization programs.

Asia-Pacific made up over a quarter of our revenues in 2015 compared with 18% in the prior year. In particular, this region has played a large part in the growth of sales of our land systems, which include significant electro-optic components. In this region, defense budgets have been growing over the past few years. This was a trend we foresaw early and tapped into, and we are now enjoying its rewards. The growth in defense budgets in the region has been driven in part by geopolitics but also by a need to modernize military capabilities.

At the end of last year, we were awarded a $50 million contract over three years from an Asia-Pacific country to supply a comprehensive urban solution for use in the intelligence, surveillance, target acquisition and reconnaissance missions. The full scale solution will further develop the customer’s existing intelligence and surveillance capabilities. In addition, the solution will provide the ability to perform advanced functions such as mission planning, battlefield management, terrain analysis, and simulation modeling both before and during intelligence gathering operations. In general, we see growing demand for these sorts of solutions, especially in the Asia-Pacific region, and we hope that this project will lead to more orders from new and existing customers.

We were also awarded a $26.5 million two-year contract to supply commercial multi-spectral infrared countermeasure systems to be implemented on board the wide body jet aircraft of a country in the Asia-Pacific region. C-MUSIC is an advanced countermeasure system that uses advanced fiber laser direct infrared countermeasure technology to protect mid to large size airliners against heat-seeking shoulder fire surface-to-air missiles. This contract is evidence of the high quality and reliability of our DIRCM systems.

We have also announced the win of a $27 million contract in the region for command and control systems in ATMOS long range artillery systems.

In summary, our businesses continue to perform well. We are pleased with the development, particularly our ongoing growth in revenue driven by the long-term growth in backlog, as well as improvement in profitability and strong cash generation. I believe we are well positioned in the right technological areas and geographical markets of the defense industry that are due for growth in the coming years.

With that, I will be happy to take your questions.

Question-and-Answer Session

Operator

[Operator instructions]

The first question is from Gilad Alper of Excellence. Please go ahead.

Gilad Alper

Hi, thanks for taking my question. I actually have a couple, firstly on Asia. It’s been growing very nicely for you over the last year or couple of years. In 2015, if I’m not mistaken, it grew by 50%, so obviously I’m guessing that’s not going to continue at this pace, but if you can tell us what you think about the future growth of Asia, is it going to be maybe low double digits, maybe just as strong single digits. The second question is on the IMI acquisition. I know that’s--you know, it’s not clear if it’s even going to happen, but assuming it does, can you just say a few words about what IMI actually brings to Elbit, what do they do, what are the main synergies between IMI and Elbit? Thank you.

Bezhalel Machlis

With regard to the first question about Asia-Pacific, we see growing budgets in this region, and it’s very relevant to us. Our technologies are very relevant to the requirement in this area. I can also--and you know that we are very active in Australia, in India, as well as in other countries. I can tell you that during this year, we had new customers in this region and just a few months ago, we publicized a deal, a contract in the Philippines, but that’s not the only new customer we have in this region. We see a lot of potential for us for the different business lines in Elbit. So I foresee continued growth for Elbit in this very important market.

With regard to the IMI acquisition, there are synergies between Elbit and IMI, mainly in various land systems. In general, I believe that it’s a good acquisition for Elbit. Not only that, we have proved in the past that we know how to acquire companies, how to combine them with Elbit, and how to create value for the acquired companies and for their employees as well for the defense of Israel and for the economy of Israel. So I’m sure that such a deal will make good to IMI employees, to Israel, as well as to the Israel economy. But as you know, 80% of our revenues is for export. Of course, we have our limit as well, and such a deal needs to support our objectives as well and our shareholders’ objectives. There is a dialog between the Minister of Finance and Elbit, and I hope that together the process will converge. It’s difficult for me to predict how long will it take.

Once again with regard to synergies, there are some synergies mainly in the area of land systems, upgrading both manned battled tanks, fire support solutions, [indiscernible] and such type of activities.

Gilad Alper

Okay, just to clarify, there is obviously some issues with personnel, with the cost of the work force at IMI. If you acquire the company, IMI, do all of those issues with the union, with workers and such, do they all need to be resolved before you make the acquisition or do you also have to continue negotiating with the trade unions, with the national trade union [indiscernible] after you make the acquisition, or do you need to get everything already packed and ready from the state?

Bezhalel Machlis

From what we know, there is full support from the union to this acquisition, and as we have proved already, we know how to deal with unions and I’m sure that this acquisition, as I already mentioned, will be good for the employees as well.

Gilad Alper

Okay, thanks.

Operator

The next question is from Yoav Burgan of Poalim Sahar. Please go ahead.

Yoav Burgan

Hi, I have just two short questions on the Q4 P&L. One, first one is on the financial expenses, which this quarter seemed to be low, even very low not only in comparison to last year but also in comparison to the previous quarters of 2015. What was the main reason or main reasons for this, Joseph?

Joseph Gaspar

Hi Yoav. First of all, we had very strong cash flow, as you all realize, so that helped a lot. Second in our hedging activities, we had income in this quarter and that is offset--it did offset some of the costs. These are the reasons for the specific low numbers in this quarter.

Yoav Burgan

Okay, good. The next question is on the equity in the net earnings of affiliated companies. I see there were $3.3 million in Q4. This seems to be a pretty high number. I don’t remember seeing such a high number, I think since 2013. Could you elaborate on this please a bit?

Joseph Gaspar

Yes. Some of our partnerships that their results are reflected in this line, they have seasonality, and specifically in this year they had a strong fourth quarter, and that was more related to specific programs that were delivered and profit was realized on that. So this is a little bit on the high side.

Yoav Burgan

Okay, so this is not necessarily going forward as well, right?

Joseph Gaspar

I think going forward, you should look at the overall year performance and take it from there.

Yoav Burgan

Okay, good. Thank you very much.

Operator

The next question is from Tasha Keeney of ARK Invest. Please go ahead.

Tasha Keeney

Hi, yes. I was wondering what opportunities do you see in the commercial drone space, aside from military?

Bezhalel Machlis

We have already some commercial activities in our portfolio, such as commercial avionics. That’s a growing activity in the company, and on top of that, we deal also with medical solutions mainly in the U.S. We also deal with energy. We have unique technologies mainly in the area of super capacitors, and there are more commercial activities in Elbit which are derivatives of defense applications technology, which we have some of them are organic growth engines of the company and some of them probably will be divested at a later stage.

Tasha Keeney

Okay. As you see regulations opening up for more commercial opportunities in the drone space, say with delivery drones or surveillance and oil and gas, do you see that market growing for you?

Bezhalel Machlis

We certainly see some opportunities for us in the area of commercial UAS’. Actually, our Hermes 450 is flying these days in the U.S. in the commercial air space for commercial applications. We explore this market and we have certainly a lot to offer there.

Tasha Keeney

Okay, thank you.

Operator

If there are any additional questions, please press star, one. If you wish to cancel your request, please press star, two. Please stand by while we poll for more questions.

There are no further questions at this time.

Before I ask Mr. Machlis to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available two hours after the conference ends. In the U.S., please call 1-888-326-9310; in Israel, please call 03-925-5900, and internationally please call 972-3-925-5900. A replay of the call will also be available at the company’s website, www.elbitsystems.com.

Mr. Machlis, would you like to make your concluding statement?

Bezhalel Machlis

Thank you. I would like to thank all our employees for their continued hard work. To everyone on the call, thank you for joining us today and for your continued support and interest in our company. Have a good day, and good bye.

Operator

Thank you. This concludes the Elbit Systems Limited Fourth Quarter 2015 Results conference call. Thank you for your participation. You may go ahead and disconnect.

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