CSP Inc. (CSPI) Q2 2014 Earnings Report, Transcript and Summary

Good day, and welcome everyone to CSP's Second Quarter 2014 Earnings Conference Call. Today's call is being recorded. The financial results news release is posted on the website at www.cspi.com, for those of you who did not receive it by e-mail. [Operator Instructions] With us today are CSP's President and Chief Executive Officer, Mr. Victor Dellovo; and Chief Financial Officer, Mr. Gary Levine. At this time, for opening remarks and introductions, I'd like to turn the call over to Mr. Levine. Please go ahead, sir.

Good morning, everyone, and thank you for joining us. With me on the call today is Victor Dellovo, CSPI's Chief Executive Officer. Before we begin, I'd like to remind that during today's call, we will take advantage of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to statements that may be deemed to be forward-looking under the act. The company cautions that numerous factors could cause actual results to differ materially from forward-looking statements made by the company. Such risks include general economic conditions, market factors, competitive factors, pricing pressures and others described in the company's filings with the SEC. Please refer to the section on forward-looking statements included in the company's filings with the Securities and Exchange Commission. During today's call, I'll discuss our second quarter financials, and then Victor will provide an update on our business segments and on our strategic progress. Then we will open up to your questions. Beginning with this quarter, we renamed our reporting segments to more accurately and clearly reflect the operating business in those segments. Our Systems segment is now called the High Performance Products & Solutions segment. This segment includes our MultiComputer business, as well as our new Myricom acquisition. The new name now better describes this segment, products and solutions composition, and the direction we're going in following the integration of Myricom. Our Service and Systems Integration segment, which includes our Modcomp business, is now called Information Technology Solutions. Let's take a look at the financials for the quarter, starting with the income statement. Revenues were $20.9 million compared to $25.8 million a year ago. The decrease was due to lower sales at the IT segment, specifically in the United States. Foreign exchange had a positive year-over-year effect of about $400,000. Our total cost of sales for Q2 was $15.8 million, down from $20.1 million in the prior year. Gross profit for the quarter was $5.1 million compared with $5.8 million due to the lower revenues. Gross margins for the second quarter increased to 24% from 22% in the prior year, as a result of higher levels of MultiComputer royalty revenues in Q2 of 2014. Second quarter engineering and development expense was $0.8 million compared to $0.4 million a year ago, primarily as a result of the Myricom acquisition. As a percentage of sales, Q2 engineering and development expense was 3.8% compared to 1.5% last year. With the Myricom acquisition, our target ranges for engineering and development expense is now between 3.7% and 3.9%. SG&A expenses were $4 million, or 18.9% of sales, compared to $4.2 million, or 16.1% of sales, in the year-ago quarter. The lower SG&A cost was primarily due to lower commission expense in the U.S. Division of the IT solutions segment due to lower revenues and margins. Our target ranges for SG&A is now 16.6% compared to 17.3%. We had a tax expense of $118,000 compared to $457,000 a year ago. The effective tax rate for the quarter was 41.4% compared to 38.2% in the prior year. We expect our overall tax rate going forward to be approximately 39%. We reported income of $167,000, or $0.05 per diluted share, compared to $724,000 and $0.21 per diluted share a year ago. Cash and short-term investments decreased by $5.8 million due to $8.9 million increase in accounts receivable in fiscal year end. The increase in receivables was largely the result of significant orders received from a major customer with 90-day payment terms. In addition, we paid $800,000 in dividends since the year end. We expect that our cash and short-term investment balances at the end of the third quarter will be in the $15 million to $16 million range, with normal collection of accounts receivable and payment of the accounts payable. We will continue to focus on our growth initiatives, while improving our bottom line performance by increasing our level of high-margin products, and maintain a focus on the cost containment across the organization. I'll now turn the call over to Victor for a review of the segment.

Thanks, Gary. Let's jump right into the segment review, starting with High Performance Products and Solutions segment, which, as Gary mentioned, includes our MultiComputer and Myricom business. Revenue in the segment was up $600,000, to $3.2 million in the quarter. This was primarily driven by full quarter of revenue contributions from our Myricom acquisition, offset by lower MultiComputer sales. We recorded $800,000 in royalty revenue related to the E-2D aircraft from Lockheed Martin versus no E-2D royalty revenue in the prior-year quarter. The royalties in quarter 2 FY 2014 represents 1 plane, and we have now received royalty revenues related to 2 planes thus far in FY 2014. We continue to expect to receive total royalty revenue related to 5 planes in fiscal 2014, with significant future opportunities as production continues through fiscal year 2018. Turning to Myricom. We have completed the integration of that business ahead of schedule, and we are pleased with the sales from the business in the quarter. We are excited by the opportunities created by Myricom, including the ability to expand our MultiComputer customer base into commercial growth markets. We are currently working on developing next-generation Myricom products that are aligned with our customers' requirements. Let's turn now to our IT solutions segment, which includes our Modcomp subsidiary. Segment revenue in the quarter were down 24% year-over-year to $20 million. The reduction in sales between the years was due part to lower shipments to some of our large hosting customers. We expect to see a return to normal buying patterns going into the next several quarters. Additionally, we are pleased with our continued growth in Germany, as we recently won 2 security related projects with a large telecommunications customer. However, we will continue our efforts to reduce costs in Germany, as well throughout the organization. During the quarter, we signed our largest managed service contract to date. With managed services, we are essentially taking over the monitoring and maintenance of a client's network. This key -- this new contract is a 3-year multimillion-dollar agreement to provide end-to-end 24/7 on-site Managed Security Services to an international information technology service company. The competition for this contract was very tough. But we were awarded the business due to our extensive experience in delivering managed service solutions. As we've discussed before, the managed service means that Modcomp is a growing recurring revenue stream at higher margins than our legacy business. We continue to be encouraged by our progress in the managed service area and expect this effort to have a positive and significant effect on our margins over the long term. In the second quarter, we hired additional managed service engineers to support our future growth in this area. In addition to our strategy to increase the level of managed services business, we are also pleased with the initial progress that we are making in cross-selling our business in the IT segment. We've already had a good amount of success in the U.K., which has received multiple leads from Germany and the U.S. Largely because of our cross-selling initiatives, revenue in the U.K. was up again in the quarter, although it does represent a small component of our revenue. In summary, we've created exciting growth opportunities across the organization. Now we are working hard to execute on our strategy, and realize those opportunities. As we've discussed before, our growth trajectory will not be completely linear. We expect there will be quarters like this one, where our business model and the investment we're making in the future will result in uneven year-over-year growth. We remain very confident in our growth strategy, and continue to expect to report a profitable year in fiscal 2014. And with that, Gary and I will take your questions.

[Operator Instructions] If there are no questions at this time, I'd like to turn the floor back over to management.

Thank you for joining us today, and for your support of CSP. We look forward to speaking with you all again on our third quarter call.

Thank you. That concludes our conference call. Thank you for joining us today.

Thank you.