Data I/O Corporation (DAIO) Q4 2017 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by. Welcome to the Data I/O Fourth Quarter Financial Results Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. [Operator Instructions] And as a reminder, this conference is being recorded. I’d now like to turn the conference over to Jordan Darrow. Please go ahead.

Thank you. And welcome to the Data I/O Corporation fourth quarter and year end 2017 financial results conference call. With me today are Anthony Ambrose, President and CEO of Data I/O Corporation; and Joel Hatlen, Vice President and Chief Financial Officer and Chief Operating Officer of Data I/O. Before we begin, I’d like to remind you that statements made in this conference call concerning future revenues, results from operations, financial position, markets, economic conditions, estimated impact of Tax Reform, product releases, new industry partnerships, and any other statements that may be construed as a prediction of future performance or events, are forward-looking statements, which involve known and unknown risks, uncertainties and other factors, which may cause actual results to differ materially from those expressed or implied by such statements. These factors include uncertainties as to the levels of orders, ability to record revenues based upon the timing of product deliveries and installations, market acceptance of new products, changes in economic conditions and market demand, pricing and other activities by competitors and other risks including those described from time-to-time in the company’s filings on Forms 10-K and 10-Q with the Securities and Exchange Commission, other press releases and other communications. The accuracy and completeness of forward-looking statements should not be unduly relied upon. Data I/O is under no duty to update any of these forward-looking statements. I would now like to turn the call over to Anthony Ambrose, President and CEO of Data I/O.

Thank you very much, Jordan. Good afternoon, everyone. I’d like to start by commenting on 2017’s fourth quarter and full-year results and our outlook on the overall market. Then I will turn it over our CFO, Joel Hatlen for more detail on the numbers, including some more detailed specifics on the recent tax law changes and their impact to Data I/O. 2017 fourth quarter highlights include, $7.6 million in bookings, which represent an 11 year high for us in the fourth quarter. Revenues were $8.1 million, another multiyear high for us in the fourth quarter. We had continued strength in our automotive and programming center segments and also realize our first revenue from the SentriX Security Provisioning platform. Once again our operations delivered very strong performance, supporting backlog and new orders, as well as collecting on receivables. We ended the year with $18.5 million in cash. We also received our ISO-9001-2015 Certification for both our Redmond and China manufacturing locations. Net income for the quarter was $1.5 million, including the one-time benefit from Tax Reform and again I will let Joel talk more specifically about the tax benefits later on. When we look at the full year for 2017 it was one of those years where everything aligned very well for us. We had strong market conditions, the right products and outstanding execution across the company. These results that we have enjoyed in 2017 are the result of our multiyear plan and the hard work of all of our Data I/O employees and partners. For the full-year revenues of $34 million were the highest level in 17 years and this represents our fifth consecutive year of revenue growth. We also had $34 million in bookings, which also represented the highest level in 17 years. Net income for the year tripled to $5.4 million and this represents about $0.65 per diluted share, including affects from the recently passed tax legislation. Automotive bookings for the year were up 46% and now represent over half of our orders at 54%. Programming centers grew 20% in 2017 following a very strong 2016, 24% of our orders went to the programming center market. We also continued our growth in our new products. We have shipped over 180 PSV family automated programming systems through 2017 and our operating model continue to perform exceptionally well. Our gross margins for the year were 58.5%, growing substantially over the last four years. Switching now to our long-term outlook, when we sat here two years ago and discussed results, we reviewed our long-term market forecast, which at the time showed us looking at a doubling of our available market for Data I/O in five years or about 15% per year compounded from 2016 through 2020. We discussed how this was driven by automotive electronics, the Internet of Things and factory automation. I think it’s time to update our look at that and take a look at our progress on that long-range outlook. From 2015 to 2017 our revenue increased by about 55%. Our bookings in automotive more than doubled during this time and our bookings in programming centers also more than doubled during this time period. We grew substantially faster than our industry in the past two years, and as I mentioned earlier, automotive now represents over half of our revenue and programming centers represent about 1.25 of our revenue. Our long-term thesis about automotive growth is unchanged. As we’ve said before we are in the midst of a new and exciting electronic content, including automotive infotainment and instrument cluster applications, advanced driver assist systems that come and support both autonomous driving and connected car strategies from all of the leading automotive OEMs. We planned continued investments in the automotive space in all areas of our business, programming technology, handling technology, systems integration, factory automation software, global service and support, marketing and sales. Industry forecast from leading automotive OEMs show about a 10% to 15% compounded annual growth rate for semiconductor content and cars, and a larger increase of about a 30% compounded annual growth rate and the total market for flash memory and cars, growing to about 1 terabit or more of flash memory in the next seven year to eight years. Leading industry flash memory suppliers are also planning to migrate from the current standard called eMMC to UFS interfaces in cars. We recently announced our UFS solution for automotive and have already earned our first customer. We’ve also mapped out a multiyear strategy to maintain industry leadership in automotive and keep our customers competitive as their flash demand sharply increases. The IoT market continues to grow, but it’s lagging today in security solutions. The opportunity for Data I/O is to simplify the security provisioning process and make solutions available to customers of all sizes. To simplify security provisioning we have developed a SentriX Security platform. We are investing to lead the industry here in the potential market of nearly 4 billion units in the next five years according to ABI Research. We’ve been very successful partnering with the leading silicon suppliers of authentication ICs and secure microcontrollers. As you probably noticed, we have made several recent announcements in this area and expect more in the next week as part of the embedded world event in Germany. We are also working with leading tools and security software suppliers in this ecosystem to simplify and streamline the security process for IoT devices. Given the traditionally long lead times for new designs, 2018 will continue to be primarily a market development year for SentriX. We are very pleased with the progress made to-date, which includes our first deployment and initial revenue generation from the SentriX System. We are continuing to see automation replacing manual programming in most global markets. This is driven by labor costs, reduced component size and increasing quality demands worldwide. We are investing in software and systems integration capabilities to accelerate the move to automation and support major global initiatives such as Industry 4.0 and China Smart Factory. For our 2018 growth outlook, we see signs that our largest programming center customers are still absorbing capacity purchase last year and we will not be adding new capacity at the same rate as the past two years. The test industry, which may also provide some useful comparisons, is forecasting a moderation of growth as well in 2018. Furthermore, we saw a return to more seasonal patterns at the end of Q4 and the start of 2018, and our order patterns can be lumpy from time to time. We start the year with about $4 million in backlog and we anticipate the systems and backlog will become revenue in 2018. We also expect gross margins this year will remain in the mid-to-high 50% range, depending on revenue mix, factory utilization and sales channels. We expect an increase in our overall spending, primarily in R&D and marketing to support our automotive and Managed and Secure Programming initiatives. At the same time, we remain vigilant in looking at ways to reduce our ongoing operating costs. We have kicked off internal programs to reduce material COGS by another 500K over the next two years with some of the benefit plan for 2018. We start the year with over $18 million in cash and no debt. As was discussed on my blog at www.dataI/O.com, 2018 will be the year of security and the year that UFS starts to transition in automotive electronics. We plan to extend our lead in both. I would like to now turn over the call to Joel Hatlen to discuss our -- in more detail the numbers. Joel?

Thank you, Anthony. Good day to everyone. Revenues for the fourth quarter of 2017 increased to $8.1 million as compared with $6.4 million for the period last year. As Anthony noted, the 26% year-over-year increase was primarily a result of automotive electronics demand from both OEM and programming centers, primarily related to our PSV family of programming systems. Revenues from adapters increased 212,000 or 14% from the year earlier period. Total revenue was comprised of capital equipment 70%, adapters 22% and software 8% in the fourth quarter. On a geographic basis, international revenue represented approximately 92% of total revenue for the fourth quarter 2017, as compared with 88% in the fourth quarter of 2016. Revenue growth was the strongest in the Americas, which increased 59% from the prior year, in Europe, revenue grew by 24% year-over-year, while Asia experienced a 12% increase. Order bookings were $7.6 million in the fourth quarter, which is an 11-year high for the company and an increase of 4% from the same period of the prior year. The variation in revenue percentages versus order percentages relate to changes in backlog, deferred revenues and currency translation. Data I/O had $1.8 million in deferred revenue at the end of the fourth quarter of 2017, compared to $1.6 million at the end of the third quarter and compared to $1.9 million at the end of the prior year. Backlog at the end of the fourth quarter of 2017 was $4 million, compared to $4.6 million at the end of the third quarter of 2017 and $3.2 million at prior year end. For the fourth quarter 2017, gross margin as a percentage of sales was 58.5%, compared to 56.3% in the fourth quarter of 2016. The increase was primarily due to sales volume, which resulted in better fixed factory cost utilization, along with a favorable product mix, favorable channel mix and reduced unfavorable factory variances. Throughout the year our manufacturing teams in both Redmond and China continue to demonstrate operational excellence in execution in a virtually investment free delivery of increases in capacity during the year. Operating expenses were $3.6 million in the fourth quarter of 2017, compared to $3 million in the same period of 2016. The increase was due to additional engineering and R&D spending of approximately $356,000 associated primarily with our new Security Provisioning or SentriX platform and other automotive-related technology innovations. R&D increased 25% for the fourth quarter year-over-year, although as a percentage of sales the expense category was marginally lower. Sales and marketing expenses increased $204,000 or 27% for the fourth quarter year-over-year, which reflects higher sales levels, as well as our heightened efforts in promoting our new Security Provisioning solution. Included in sales and marketing are variable incentives, sales and commission compensation, along with additional tradeshow and other marketing activities. General and administration expenses in the fourth quarter of 2017 were $851,000, essentially flat with $850,000 in the prior year period. As a percentage of revenues, operating expense categories were lower this year as compared to the prior year period. As compared to the third of 2017 total operating expenses in the fourth quarter of 2017 declined due in part to revenue level and a return to more normal channel mix resulting in less commissions and incentive compensation. In accordance with U.S. Generally Accepted Accounting Principles, GAAP net income in the fourth quarter of 2017 was $1.5 million or $0.18 per diluted share, compared with net income of $755,004 or $0.09 per diluted share in the fourth quarter of 2016. Included in the fourth quarter of 2017 net income is a net benefit of $531,000 from the recent Tax Reform. Included in non-operating income for the fourth quarter of 2016 was a gain of $140,000 for sales of non-core Internet domain assets. Excluding the Q4 Tax Reform benefit and the Q4 ‘16 non-operating income gain, non-GAAP net income was $1 million in the fourth quarter of 2017, an improvement of $390,000 or 63% from the non-GAAP net income of $615,000 in the fourth quarter of 2016. EBITDA or earnings before interest, taxes, depreciation and amortization, another non-GAAP measure was approximately $1.2 million in the fourth quarter 2017, compared to EBITDA of $962,000 in the fourth quarter of 2016. Equity compensation expense, a non-cash item in the fourth quarter of 2017 and ‘16, respectively, was $174,000 and $111,000. Adjusted EBITDA excluding equity compensation was approximately $1.4 million in the fourth quarter of 2017, compared to $1.1 million in the fourth quarter of 2016. Please see our press release or SEC filings for discussion and reconciliation of these non-GAAP financial measures. Now let’s move on to a discussion of our annual financial performance. For the year ended December 31, 2017, net sales were $34.1 million, increasing 10.7 million or 45% compared with $23.4 million in 2016. International sales were approximately 92% of total revenue in 2017, compared with 87.5% of total revenue for 2016. For the entire year of 2017, bookings were $34.3 million, compared to $26.9 million in 2016. These increases are due to the same factors discussed previously for both the fourth quarter and in Anthony’s discussion. Gross margin of $20.1 million or 58.9% as a percentage of sales for all of 2017 increased from $12.9 million or 55% in the prior year. Operating income for 2017 was $5 million, an increase of approximately $3.6 million or 254% from $1.4 million for all of 2016. The balance of our income statement and non-GAAP performance measures on a comparative annual basis are included in our press release. In summary, our expense categories while up in dollars as a percentage of sales were each down in 2017, compared with 2016 and our operating and net profit on a dollar basis tripled. Now I would like to talk about the Tax Reform impact for Data I/O. As you know on December 22, 2017, the U.S. Government signed in two law, The Tax Cut and Jobs Act, which among other things reduced the federal statutory corporate tax rate from 35% to 21% effective January 1, 2018. The impact from Tax Reform may differ from our estimates due to among other things changes in interpretations and assumptions or further guidance that maybe issued. Our initial assessment is complete and we recorded a $531,000 net benefit in our fourth quarter of 2017 results. This was made up of $67,000 of additional taxes relating to the deemed repatriation of previously deferred foreign subsidiary post 1986 earnings and profits, and recognizing a tax benefit of $598,000 relating to refundable alternative minimum tax credits in carry forward. We have approximately $13 million of U.S. net offering losses in carry forward at December 31, 2017, as well as other credit carry-forwards in the United States that are available to continue to offset our future U.S. net income and we will continue to analyze and manage taxes to take advantage of these tax attributes, particularly amid the recent Tax Reforms. On other balance sheet performance matters, receivables of $3.8 million at the end of 2017 were reduced from $5.2 million at the end of the third quarter, as well as from $4.7 million at the end of 2016. Days sales outstanding were very good at 45 days, down from 61 days at the end of the third quarter. The company’s cash position as a result at December 31, 2017 was $18.5 million, up $7 million from the end of the prior year as compared with the $15.2 million at September 30 of 2017. $12.4 million of our cash was in United States and the balance in foreign subsidiaries. No actual cash movement took place as part of the Tax Reform deemed dividend. Working capital was $19.5 million at the end of 2017, an improvement from $18.4 million at the end of the third quarter and $14.6 million at the end of last year. As a reminder, in the first quarter each year Data I/O typically pays a good portion of its annual public company operating costs, as well as satisfying a cash payment for annual year end accrued incentive compensation, 401(k) matching contributions. The company remains debt free and had 8,276,813 shares outstanding at December 31, 2017. With that, I’ll turn the call back to Anthony.

Thank you, Joel. Before we open up for questions, I just like to remind everyone that we will be at two tradeshows next week. If you are in the San Diego area, please come see us at the IPC APEX EXPO and if you’re in Nuremberg, Germany area, please come see us at Embedded World. We will also be attending the ROTH Investor Conference March 12th in Orange County, California and you can talk to Jordan if you want more details on that. So with that, I would like to turn it over now for questions-and-answers. Go ahead, Operator?

Thank you. [Operator Instructions] Our first question is from Jaeson, excuse me, Jaeson Schmidt with Lake Street Capital Markets. Please go ahead.

Hi, guys. Thanks for taking my questions. The first one for me, really just wondering if you could comment on your visibility for the year and if you’ve seen any improvement in that visibility over the past three months or so?

Hi, Jaeson. Yeah. The visibility for the year, we typically don’t have great visibility for any period 12 months in advance. It’s just the nature of our business. We tend to be closing a significant amount of book and ship within one quarter. We -- so I will leave that as the common for 2018. I just bring your attention back to what I said earlier about, we like the long-term trends in automotive and security for IoT and we think some of our programming centers might be digesting some capacity that they brought in 2017.

Okay. That’s helpful. And then just following up on those comments, it does sound like you’re incrementally more bullish on the bigger picture trends in the industry. Just curious if you think the general tailwinds are stronger in the industry or some of the increased bullishness is really due to you guy’s ability to gain share?

Well, I think, two years ago we said we like the automotive industry. We even kicked off the program internally called Automotive First to align our processes top to bottom to being very successful in automotive. And growing 126% or so in the couple years, I think, shows we had our eye on the right market there. Everything that I read and see and talk to our customers about indicates that the fundamental long-term trends in automotive were still present. They need more flash memory across the car. Mercedes-Benz highlighted this in an investor and technology event last summer, where they talked about getting to 1 terabit per car by 2025. I have seen numbers even double that number. You back that out. You get about a 30% compound annual growth rate in the flash demand in a car. We have talked about the Internet of Things, security markets talking about authentication ICs growing, as well as a new category of products called secure microcontrollers. There has been some new research published there by a company called ABI out of the U.K. and that’s where we get our 4 billion units TAM in about five years. You’ve also seen some of the announcements and relationships we have made. Recently including this week we will also have additional announcements to make around Embedded World, so stay tune to the channel. So we have hitched our wagon to those two markets long-term. And so that’s where we are bullish. In our business there’s never anything that goes up in a straight line, but we think we’re in the right markets long-term and we are investing accordingly.

Okay. And then the last one for me and I’ll jump back in the queue. I know you mentioned you expect to increase some spending this year given the initiatives in the pipeline. Just curious should we be thinking about building off the depressed Q4 level of OpEx or the higher Q3 level?

Joel go ahead on that one.

I basically look mostly at the Q4 level. That’s pretty much the best factor to use from extrapolation standpoint.

Okay. That’s helpful. Thanks a lot guys.

Thanks, Jaeson.

Thank you. We go now to James Anderson at R.F. Lafferty. Please go ahead.

Good afternoon, guys. Congratulations on the strong end to a strong year, really outstanding results. I had a question about the cash position of the company. You guys seem to be pretty heavily cash flow positive at this point and are accumulating quite a hefty amount of cash at $18.5 million. Do you guys have any plans to put this to use in terms of creating values for the shareholder or initiatives, you guys might have in the near to mid-term.

So, I guess, I wanted to say, to start off by saying that, I am really pleased at our cash level. But we believe that we actually collect receivables and liquidated inventory much better than we traditionally have been able to do. So I’m expecting we have to had deploy some more cash as working capital. The other piece is, we do have fairly hefty amounts of accrued expenses that we’re reading to year end incentives and accrued pension and things like that. So I’m expecting a couple million dollars to go out in the first quarter relating to that in particular. So but beyond that we wouldn’t really comment with regard to our planned uses of cashes until we actually have something to say.

Okay. Great. And then, on the NOLs, with the $13 million…

Yeah.

… of American NOLs. Can you guys give any color on how you plan to use it? Obviously, you guys are still digesting the new tax code and implications of that. But the rate at which you are planning to apply it, will that be similar to 2017 or significantly different?

I am not sure if I exactly know how to answer this question, but the answer from my standpoint is that we continue to expect that we will use NOLs to offset our income and we will continue to have similar taxes being generated in our foreign subsidiaries, so we will have a continued blended tax rate as a result. We now no longer have the alternative minimum tax which is driven part of our U.S. taxes in the past, so that’s going to be something good. We have not figured out to much how the guilty or other international tax things from Tax Reform really are going to impact our 2018 results yet. So that’s a wait to come and we’ll talk about that more at the first quarter results.

Okay. And the development of the UFS flash capabilities, you mentioned that you see some interest from your customers, obviously, you guys do business with the top automotive manufacturers. Can you give a little more color on what that’s been like on their interest level?

Sure, James. So when you look at it -- to step back so the -- without getting the too much technology the memory market for technologies used in lot of the infotainment navigation systems things like that in cars that tend to be the consumers of flash capacity. They use the technology interface, which is called eMMC. It’s just the abbreviation for the current technology standard. The new technology standard is called UFS. And so you’re beginning to see new designs look at UFS and this is not something that happens overnight, nobody snaps their fingers and suddenly everybody migrates. But UFS has some benefits, especially in terms of overall performance and I’ll call it snappiness of the interface. And so we would expect more automotive customers we investigating that. We also are in constant discussion with memory companies about what they think their marketing mix is going to be, and obviously, they have a pretty good idea what they’re going to sell. So, over time, I think, you’ll see the migration to UFS. It’s very important for us to be out in the market now, because as customers go in their early designs and take months to take a design from production, sorry, early production to pilot production to full production, we can be there with them the step of the way or every step of the way with their design process. So we like the technology. We are very happy to have product. We are very happy to have earned our first customer in UFS and we will be there with the market for both eMMC and UFS solutions in automotive.

New products and rollouts, you mentioned that you are still sort of in the market development phase for the SentriX IOTC -- IoT secure provisioning. As the IoT marketplace develops that the need for security will become apparent fairly quickly and that, as a result, the SentriX demand will be fueled by that. Can you give us little bit more of an idea of how we should expect SentriX to affect revenue in 2018 or is that something we should be looking at for 2019?

Well, that’s a good point. The -- so if you look at SentriX, what we are doing is, we are giving customers the opportunity to provision security credentials into their products one unit at the time. What that effectively means is that they can take a technology that’s very useful today in things like smartcards or cellular phones, and now they can deploy that key and certificate technology into IoT devices. The way that works is, each semiconductor company lets you put those keys and certificates in a slightly different ways. So what we have been doing at first is to work with the leading suppliers in these markets for authentication ICs and secure microcontrollers to make sure that we support their products and it’s substantially more complex to do that support than it is for a data-only programming support. Given that and given that there are some new products coming out and I’d encourage all of you to look and see what comes out of embedded world next week in the silicon industry, we are well-positioned with those firms in the silicon space, but they have to go get design wins and begin shipping products to their customers and the embedded cycles are just anywhere between six months and 18 months. So that’s why my comments earlier reflected that we still think 2018 from a modeling standpoint is still predominantly a market development year for SentriX and you should treat it that way in your models.

Okay. All right guys. Thanks.

Thank you, James.

Thank you. [Operator Instructions] Our next question is from Robert Anderson with Penbrook. Please go ahead.

Good afternoon, gentlemen and congratulations on a good year. Joel, can you hear me?

Yes. I can.

Yeah. I just had a question on how we should look at earnings per share in the quarter. Obviously, you had that $500,000 benefit, so from a security analyst point of view you really earn $0.12 in the fourth quarter backing that out and I just want to make sure I understand the comparison. The prior year was $0.09, but that had an extra ended of $140,000, so was $0.12 versus $0.08 a reasonable comparison on an operating basis?

If you’re looking at quarters, those are correct. If you’re looking at the year, then 2017 actually had $366,000 of those same Internet at risk sales that represented $140,000 in 2016, so just a little bit more of a difference there, but you have the right idea.

And so then what would be the adjusted earnings per share for the year backing out these one timers?

Let me calculate that for you and I’ll get right back to you.

Okay. Thank you.

Yeah.

[Operator Instructions] There appear to be no more questions.

Okay. Well, Operator, I’d like to thank you for and thank you everyone for being on the call for joining us here for our 2017 earnings call. I’d like to close the call at this time and thank you all for attending.

That does conclude our conference for today. Thank you for your participation and for using AT&T teleconference. You may now disconnect.