LightPath Technologies, Inc. (LPTH) Q3 2016 Earnings Report, Transcript and Summary

Good afternoon and welcome to the LightPath Technologies Fiscal 2016 Third Quarter Financial Results Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Dorothy Cipolla, Chief Financial Officer. Please go ahead.

Thank you and good afternoon. Welcome to LightPath Technologies' fiscal 2016 third quarter financial results conference call. The call today will be hosted by Mr. Jim Gaynor, President and CEO. Following management's discussion, there will be a formal Q&A session open to participants on the call. Before we get started, I would like to remind you that during the course of this conference call, we will be making a number of forward-looking statements that are based on our current expectations and involve various risks and uncertainties that are discussed in our periodic SEC filings. Although we believe that the assumptions underlying these statements are reasonable, any of them can prove to be inaccurate and there can be no assurance that the results will be realized. With that out of the way, it's now my pleasure to introduce Mr. Jim Gaynor, President and CEO of LightPath.

Thank you, Dorothy and welcome to everyone who has joined us on the call today. We appreciate your interest in LightPath. As usual, I will open with an overview of operational results, highlights and recent developments and then we'll turn the call over to Dorothy for a more in-depth review of our financials. After some closing remarks, we'll open the call to your questions. For the three months ended March 31, 2016 we turned in another quarter of solid performance that was in line or ahead of our stated operational and internal metrics for the full year. LightPath has continued to execute on its business plan, putting up another excellent quarter. Specifically, revenues increased $29% in the period from the year, against our target of 12% to 16%. Importantly, strategic revenue growth of 93% for the quarter exceeded our target by two times. The Company EBITDA margin and adjusted return on assets of 14% were ahead of our annual target of 13 plus percent and 12-15% respectively as we continue to invest in our growth initiatives and certain higher expenses in the third quarter which were one time in nature. The Company’s top line was driven by strong growth across all our product groups, with particular strength in medical and telecom applications. As discussed in last quarter’s call, we’ve seen interest in our products for use in medical instrumentation, a relatively new market for us, an instance which has been turning into orders and revenue. Revenues from sales of infrared products and infrared non-recurring engineering products NRE increased by more than 69% in the third quarter of fiscal 2016 compared to the third quarter of fiscal 2015. While infrared continues to develop and grow, it was at a smaller pace than we’ve planned for the quarter, but we continue to believe this to be an integral component of our future. This is because it avails us to an estimated addressable service market of over $500 million annual for plastic lenses, which are small but essential component of most optical systems. This more than doubled the market for our traditional aspheric lenses of $300 million. With the infrared segment, we are initially targeting five key markets including automotive, surveillance, low end tomography, sensors and IR imaging in devices like smartphones. For all of these commercial applications, our proprietary moulding processes are an enabling technology. Some of the specific applications for our infrared products include safety equipment, particularly related to fire fighting safety fire fighting cameras that are used by individual fireman. Overall, we view the sensor market as presenting some of the most important growth opportunities. End usage also includes commercial applications for gauging and controlling temperature as part of the drive towards home and office automation, which is also associated with the Internet of Things or IoT. Then there are automation safety as well as driver convenience. Automotive applications are like emerging faster than IoT but we believe IoT could represent a larger end market as we move through the early stages of development for these applications. The adaption of many of the applications I have discussed today will be driven by lower cost availability and we are doing our part to bring down the cost. Our moulding process has a competitive advantage for us winning the business and creating demand through lower cost, higher volume availability of components. We have a relatively lower cost process and higher manufacturing production capabilities in the current typical manufacturing options. We understand that over several years the cost differentiating advantage may subside so we have been actively broadening our business by product line and both during our brand globally. Furthermore, we’ve been adding to our capabilities on the infrared side of the business. We recently finished improvement that enable high volume moulding capacity for lenses used as part of an infrared assembly. We continue to be on target to have in house capabilities for anti-reflected coastings by June of this year. And by June of 2016 for the visible optical lenses and infrared lens business line like that will be a fully integrated company providing innovative optical design on a competitive low cost high volume manufacturing platform. Now let’s take a look at our profitability measures. Gross margins continue to be strong at 54%, an increase of 400 basis points year-over-year aided by the excellent performance in manufacturing efficiencies of our Zhenjiang factory. Most of our new applications such as medical sector products we are seeing higher price points. When coupled with our efforts to drive margins higher, we are seeing a lot of leveraging from our model coming into play. This leverage is grounded on our low overhead cost and a new lower cost manufacturing facility in China which is roughly 35% cheaper than our former facility in that country. The new facility is running at around 55% of its capacity right now. So we have ample room for continued top line growth, as well as contribution margin expansion. It is relatively easy to incrementally expand our capacity as needed. Operating income was impacted by higher selling, general and administrative or SG&A costs in this quarter due to some higher than normal expenses relating to proxy solicitations and other corporate growth and global marketing initiatives. Together these events added approximately $226,000 to SG&A expenses in the quarter. EBITDA was $1.13 million for the third quarter of fiscal 2016 compared to $210,000 in the third quarter of the previous fiscal year. Adjusted EBITDA which excludes the change in the fair value of our warrant liability which Dorothy will address later in the call was $469,000 for the third quarter of fiscal 2016 compared to $316,000 for the third quarter of fiscal 2015. So far the more relevant metric of our adjusted EBITDA we delivered 48% improvement year-over-year and that includes the elevated cost which we view as non-recurring. With the exception of the first quarter of this year, our order intake has been strong with our 12 month backlog growing 8% from June 30, 2016, while at the same time we’ve been increasing our shipments. Bookings of $5.2 million in the third quarter of fiscal 2016 compared to the $3.8 million in the same period of 2015 and $5.1 million in the quarter ended December 31, 2015. We expect that booking growth trend will continue in the fourth quarter and telecom and medical markets continue to show strength. Our global diversification strategies have positioned the Company to take advantage of opportunities in these markets as well as others with applications such as digital imaging, laser tools, telecommunications, digital projectors, industrial equipments, reference sites, medical instruments and green lasers. Examples of these new growth applications include two dimensional scanning, fiber laser delivery systems, disposable medical instruments and infrared sensor applications. The Company’s revenue and bookings growth are even more encouraging when you do this in context of a weakening economy in China and a stronger dollar against foreign currencies from last year. Despite the softness in China our sales continue to grow, and the dollar has lost some of its strength in recent months. We are pleased to have delivered such a solid performance in both revenue growth and profitability measures while investing for future growth. Moreover, on a cash basis we are demonstrating the effectiveness of growth strategies and operating efficiencies. We are considering further strategic initiatives for reinvesting in our business including opportunistic acquisitions to further strengthen our position in the market and better capitalize on the progress that has been made in creating a leading global optics and infrared solutions company to meet what we believe our supported long-term secular trend. As a Company we are indeed focused on planning for the long-term and building value for our shareholders. To these ends we’ve successfully completed our annual meeting of shareholders which has been adjourned from the initially planned date. The adjournment period allow for the solicitation of proxies from shareholders with respect to the proposal to increase the Board size from seven members to 12 directors; as we wanted to have the ability to strengthen our Board and to maintain the higher standards of corporate governance. In addition, we also had a proposal to modify the percentage of shareholder vote needed from 85% to a majority of shares represented which was the needed change the Board size. We thank our shareholders for voting in favor of the passage of these proposals. In doing so, we have better ensured that we have the proper framework to support smart growth which is in the best interest of our shareholders. With the passage of our proposals earlier this week we announced the appointment of Craig Dunham to our Board of Directors effective April 20, 2016. A seasoned photonics execute with significant optical business experience, Mr. Dunham brings our Board to eight directors, seven of who are independent as defined by NASDAQ listing rules. We believe this bolsters an already strong board, and that we will benefit from his experience in optics and M&A transactions among other areas of contribution. In summary, we had another great quarter with strong revenue growth and margin expansion that keeps on course for a record year. This marks our sixth consecutive quarter of strong fundamental performance since we implemented a series of new growth initiatives in 2015. With our financial results progress the organizational and infrastructure enhancement and now the corporate governance upgrades in place we are well positioned to deliver continued performance improvements given our diversified product portfolio, low cost and highly technical manufacturing capabilities and strengthened balance sheet. On a final note before I turn the call over to Dorothy for her remarks, with our track record of improved performance and a very encouraging outlook we're excited to share our story with prospective investors. I will be presenting on June 2nd at the Benchmark company one-on-one investor conference in Milwaukee and then following the conference I will be meeting with investors during a road show in the Midwest. I will now turn the call over to our CFO Dorothy Cipolla to provide additional detail on our third quarter results.

Thank you Jim. First I'd like to mention that much of the information we're discussing during this call is also included in the press release issued earlier today and on Form 10-Q which we also filed today. I encourage you to visit our website at lightpath.com and specifically the section entitled investor relations. I'll now review financial performance and operational details for our fiscal 2016 third quarter which ended on March 31st. Revenue for the third quarter was 4.1 million an increase of 29% compared to last year. This rate of growth is higher than the rate of growth of 26% from the second quarter of fiscal 2015 against that prior year period. The fiscal 2016 third quarter growth is attributable to an 11% increase in sales of our specialty products and a 577% in sales of non-recurring engineering products of which 381% was for infrared NRE projects. Precision molded optics revenues increased by 28% and infrared product revenues increased by 27% in the quarter as compared to last year. This marks the fourth consecutive quarter where we have experienced year over year increases in sales of both our infrared and precision molded optics lines. In addition to these product groups this is the fourth consecutive quarter in which our NREs increased by over 200%. It is important to note that for our NRE book this is essentially revenues generating engineering and technical R&D which would otherwise have been spent. So when you look at our R&D and product development expenses of about 1 to 2 million per year it really would further add to our intellectual acumen. Moving to our geographic revenue mix, 41% was from the US, 31% was from Asia and 24% was from Europe and 4% was from Rest of World on a geographic mix revenues from 55% to 59% international sales from the third quarter last year. Gross margin as a percentage of revenue in the third quarter was 54% this compares to 50% last year. The improvement in gross margin as a percentage of sales on a quarter over quarter basis was driven by increased revenues with a favorable product mix which resulted in some higher sales prices -- the leverage -- the leveraging of our sales volume against our manufacturing overhead cost. The validation of the full benefit of our Zhenjiang facility, facilities lower cost structure and better yield for infrared products. As previously disclosed with a lower cost base in Zhenjiang as compared with Shanghai we have approached a range for gross margin at high 40 percents to mid 50 percents which we believe is a normalized base. Partially due to the significantly higher revenues in the third quarter total cost and expenses increased by approximately 617,000 compared to last year. The increase was primarily due to 151,000 accrual for fiscal 2016 manager bonuses given the strong performances during the first, second and third quarters of this year. A $100,000 payment for early termination of the sales agreement, a $67,000 increase for fees related to the company's annual stockholder meeting and related stock [indiscernible], a $56,000 increase in legal expenses related to the annual meeting and other growth initiatives, a $50,000 increase in cost for marketing and trade show participation and $114,000 increase in other expenses. The increase in revenue and improved gross margins were partially offset by an increase in total cost and expenses. Despite the higher expenses to provide for continued growth and some other costs which are one-time in nature, total operating income for the third quarter was $213,000 compared to $207,000 last year. In the third quarter we recognized non-cash income of approximately 662,000 related to the change in the fair value of the warrant liabilities which were issued in connection with the view in 2012 private placements. The warrant liability has an inverted correlation to the change in price of our common share. During the quarter LightPath common stock decreased by 29% as compared to the last year. This resulted in a significant non-cash income tied to the change in the fair value of the warrant liability. In the prior year, we recognized non-cash expense of approximately $106,000 related to the change in these warrants. Net income for the third quarter was approximately $776,000 and this includes the $662,000 non-cash income for the change in the fair value of the warrants, or earnings per share of $0.05 basis and $0.04 diluted common share. This compares to net income of $90,000 which includes the $106,000 non-cash expense with a change in the warrant liability or earnings per share of $0.01 per basic and diluted share last year. We had foreign exchange gains in the third quarter due to the recent changes in the value of the Chinese yuan in the amount of approximately $34,000 which had no impact on basic and diluted earnings per share. This compares to a foreign exchange loss of $8,000 last year. Adjusted net income which is adjusted for the effect of the non-cash change in the fair value of the warrant liabilities and other non-cash items was approximately $114,000 in the third quarter as compared to $195,000 last year. Moving on our adjusted EBITDA for the third quarter and this eliminates the change in the fair value of the warrant liability was $469,000 as compared to an adjusted EBITDA of $315,000 last year. Weighted average basic shares outstanding increased to $15.5 million in the third quarter compared to $15 million last year, and this is primarily due to the shares issued under our employee stock purchase plan and shares issued for the exercise of stock options and warrants. I’ll now briefly review financials and operational details for the first nine months of fiscal 2016. Revenues for the first nine-months was $12.5 million, an increase 37% from $9.1 million last year. This growth is attributable to increases in all of our product groups. The gross margin as a percentage of revenue for the first nine months of 55% this compares to 42% last year. The improvement in gross margin is primarily attributable to favorable product mix resulting in higher sales prices, leverage of the sales volume against our manufacturing overhead cost and the realization of the full benefit of the lower cost structure of the dividend a quarter. Due to significantly higher revenues in the first nine months, total cost and expenses increased by approximately $793,000 compared to last year. This increase was primarily due to $491,000 in accruals for fiscal 2016 management bonuses given the strong performance during the first, second, and third quarter of this year, $100,000 payment for early termination of the sales agreement, $63,000 increase for fees related to our annual meetings and proxy solicitations, and $50,000 increase in stock compensation expense and $105,000 increase in other expenses. Total operating income for the first nine months of ’16 was approximately $1.5 million compared to an operating loss of approximately $707,000 for the same period last year. In the first nine months, we’ve recognized non-cash expense of approximately $25,000 related to the change in the fair value of the warrant liability in connection with the June 2012 private placement. In the prior year, we recognized non-cash income of approximately $375,000 for the change in these warrants. Net income for the first nine months was approximately $1.1 million and this includes the $25,000 non-cash expense for the change in the fair value of the warrant liability or earnings per share of $0.07 per basic and $0.06 per diluted common share. This compares to a net loss of $348,000 which includes the $375,000 non-cash income for the change in the value of the warrant liabilities, or earnings per share of negative $0.02 per basic and common share. We were also impacted by foreign exchange losses in the first nine months for fiscal 2016 due to the fee valuing of the Chinese warrants in the amount of approximately $221,000 which had a negative $0.01 per share impact on basic and diluted earnings per share. This compares to a foreign exchange loss of $2,000 in the same period last year. Adjusted net income which is adjusted for the effect of the change in the warrant liabilities was approximately $994,000 in the first nine months as compared to a loss of $723,000 for the same period last year. This is an improvement of $1.7 million. Moving on our adjusted EBITDA for the first nine months, which eliminates the change in the fair value of the warrant liability was $1.9 million as compared to a negative adjusted EBITDA of $303,000 last year. Weighted average basic shares outstanding increased to $15.3 million for the first nine months compared to $14.5 million in the prior period primarily due to the issuance of shares related to employee stock purchase plan and the private placement in January of 2015 we’ve put on investment and shares issued for the exercise of stock options and warrants. Cash and cash equivalents totaled approximately $2.9 million as of March 31st, an increase of 74% from the $1.6 million balance as of June 30, 2015. Cash flow provided by operations was approximately $1.2 million for the first nine months. During the first nine months we extended approximately $756,000 of capital equipment while growing our cash balance by $1.3 million. As of March 31st, the Company’s 12 month backlog was $7 million compared to $5.1 million as of December 31, 2015. With this review of our financial highlights concluded I'll turn the call back to the operator so we may begin the question and answer session.

Thank you we will now begin the question-and-answer session. [Operator Instructions] the first question is from John Noble of Taglich Brothers, please go ahead.

Hi, good afternoon Jim and Dorothy. Once again good numbers, congratulations on that. I wanted to get some insight into SG&A expenses. The press release said that -- it was increased by about $226,000 due to the normal expenses relating to proxy felicitations another corporate growth and global marketing initiative. So can we assume that SG&A expenses are going to be returning I guess to the $1.5 million to $1.6 million range in Q4?

I think that's a good assumption yes John, we had about a couple of hundred thousand dollars of things that I don't think will reoccur. We did that proxy felicitation with the annual meeting and that was a piece of it that was kind of a special event and then we also had a contract with a rep firm that wasn't performing and so we decided to terminate it early and pay some fees so that we could get out of that contract and we think that will -- those fees really don’t amount to anything we wouldn’t have paid them over time but we won't be wasting the time dealing with them.

Alright, and last call you mentioned interest in your products from medical instrumentation. Could you talk a little about your prospects for this market say over the next 12 to 18 months?

Well, you know medical instruments, we've always dabbled in that market segment, it has last quarter our order intake it was the strongest segment in terms of orders coming in across a number of different projects but one in particular where we're getting involved with some companies that are involved in some disposable instruments, and we're making some relatively unique optics that go into those devices and I think that's going to be -- that has a lot of potential going forward and I think that's going to be a very good opportunity and application for us going forward, so that's where most of that is coming from.

And when you say stronger sort of segment last quarter you're talking about the quarter that just ended, the third quarter.

This Q3, yes.

Okay I just wanted to make sure, it’s Q3 of this year. And you have a nice boost in the specialty product sales. It's basically related to a license agreement, but I was hoping you could talk a little bit about that segment and the prospects for that segment outside of the license agreement what do you expect?

Well I think you're going to see continued strength in what we call specialty products which basically are optics that we do some value added work to. I mean that's how we define that product segment internally, so it will be -- it'll be lumpy I think but I think as a percent of our business it’s going to be much larger than it historically has been and will continue to be. We have a number of ongoing projects in there and you know Dorothy outlined some of the strengths that we've seen in our e-type non-recurring engineering which is all development work associated with specific applications for customers and some of those will fall into that specialty product group so I think it’s going to continue at the kind of rates that we have seen in the recent quarters which are you know between that 800,000 and 1.2 million type range depending on how you know the production quantities hit and those projects move through the pipeline.

Now continuing with -- I'm sorry I didn't catch 800K to was it 1.2 million you believe.

Yes, roughly in terms of where we expect the revenue level to be on a quarterly basis.

Okay, that's positive and I have just one last question and I'll --for other people to get on here. In particular are there any new applications for your lenses that you are currently focusing on.

Well I guess we're -- I mean again we're doing a lot of engineering development work, I think these disposable type products for medical instruments could fall into that category that's a relatively new application for us. I think you know the infrared as we get into some of these sensing type optics that go into sensors I think that's going to be a new area for us as well as some of the other set devices that that's going into. So I think those are some of the areas that we see some growth in. And we're also investigating some market segments that we think have potential for the future one of those being automotive safety, so there's some automotive applications I mean this could be things that are out there like night vision systems, but we see that but other sensing type applications associated with autonomous automobiles and those kinds of things that are coming down the pipe, so we see that as an area. Again medical instruments is an area of growth and then sensing technology overall I think our three market segments that we’re going to be doing some research in and exploring how we could participate in products that are in those markets and applications. And that’s where we’re strategically driving base business growth.

And if you can clarify medical instruments, disposable from medical instruments. So we’re talking about endoscopes for the other instruments we’re talking about here.

We’re talking about -- it could be in endoscopes or other types of instruments as well.

Our next question is from [Jericho Veskosky], a Private Investor. Please go ahead.

So I want to ask you, do you still seeing strengthening Chinese telecom? And if so do you think that would actually get even stronger in this current quarter, which is after the Chinese New York holiday?

I think surprisingly enough, the answer to your question is yes. We’re well aware of the slowdown in the Chinese economy overall. We have been doing quite a bit of work with several major telecom companies in that segment as they expand their work in their networks. So I think we’re seeing continued strength in there which is counter to the trend. But it's broad based across a number of companies and I just recently saw some reports where companies like Lumentum or Clair, Finisar, are having very strong performance and predicting continued strong performance and even in the Chinese market. So, I guess overall those guys continue, those are customers of ours, we provide products into their products. So I think we’re going to see continued strength for the foreseeable future.

And just to confirm you’re seeing continued strength in this current quarter as well, that’s correct. Right?

Yes…

Okay, moving on to infrared. Is your interest by infrared sales do mostly firefight and in face sensor cameras, or are you moving into the other types of HVAC cameras that you talked about before?

I think the current production is still centered around the safety equipment in firefighting cameras, but the newer projects are more in the sensor type applications in markets that we see going forward. So, those haven’t hit the revenue line yet, but as we said we’re doing quite a bit of development work in those things. So we expect to see that in the future.

So you’re getting orders for NREs is it purchasing or are you getting actual bookings for lenses?

Yes, we’re getting quite a bit of NRE work as well as the lens the production lens that’s what we’re seeing is growth in the safety equipment, the NREs are more sensor related and those types of devices.

Now, your gross margin decreased a little bit and your guidance seems to be such that you’re at where the actual range of the guidance now, or should we expect gross margin to normalize a little bit down from here?

I think as we said we were off maybe 1 or 2 points from Q2 to Q3. But that’s really mostly related just to the particular mix that shifted -- not shifted, but shift in the individual quarters. But I do agree that and we think that we’re normalized in the high 40s to the low to mid 50s where we expected to gross margin level out and continue.

And you said something in your remarks that was not about -- you said that your price advantage might decrease a little bit in the future. Could you let me know what you can do to combat that and usually companies that are likely that are leading the storage edge usually find further ways to lead in technology, so they keep their prior prices advantages. And I wanted to ask you specifically if new field in optics, in lenses there is room to increase technological need, or is it the case that once you made spherical lenses that’s the size you can go?

I think I guess that’s not an easy question to answer, but I think we’re able to do both. I mean we have some higher volumes high products lines that are very price competitive in the marketplace. And we participate very nicely in that segment of the business because of our low cost structure, and we continue to work on that. And that’s why we’ve taken our precision molded optics and really divided it into two product groups, one we call LVPMO which is low volume precision molded optics and that’s the higher price lower volume higher mix type product line and then we have a high volume PMO which is other than the lower price, very price competitive but much higher volumes that we’ve participated. And so we have those two distinct product segments that we work on. One is more -- it has a certain commodity driven element to it, even though the products are very technical in nature and we’ve been competing on price and we run good margin with that. On the other end of the spectrum and low volume stuff we commend very good prices and very good margins because the products are very customer specific, custom design type things that we participated. So, we see both ends of it. Now the comment is just basically over time particularly what we’re seeing now in infrared area is the market is trying to figure out where it can price things versus the commercial development in applications. And so you see price pressure in a marketplace that’s not fully developed yet. We approach that market. We’ve been developing our product using a molded technology, molded lens technology, which is geared towards the volume production and repetition. So that tends to be more price-driven. And over time as competition improves and efficiencies improve, prices tend to come back. And then what’s happening in that market as the price of the components come down, not just the optics but the sensors and the size of the sensors and cooled versus non-cooled type technology, the applications increase and the volume increase. And so, we’re very excited about that market. We think some imaging devices for example will follow a cost and pricing point very similar to what GPS systems did which were very expensive when they first came out, they got down in that $1,000 price point so it became traveling and automotive applications and today they’re free on your smartphone basically. So, we see thermal imaging devices following a similar costing and pricing type curve. Numbers may not be the same but the trend will be the same. So that’s what we see going on and that’s kind of what we’re referring to.

That’s good, and you have the capacity to take advantage of this rise in demand?

Our cost of capital and our molding process is designed for volume manufacturing. We have low cost operating platforms in China that can produce those kinds of products. And so I think we’re very well positioned to do that and we have capacity of that one.

And last, anything you can tell us about April, probably your orders coming along? Are you still growing, this still has high book to bill ratio since on?

No, I think as we stated, we expect the trends that we have seen in the previous couple of quarters, we don’t see anything that’s changing that in our view at this point.

[Operator Instructions] I am showing no additional questions. This will conclude our question-and-answer session. I’d like to turn the conference back over to Jim Gaynor for any closing remarks.

All right. Thank you. In conclusion, we appreciate the support of our shareholders and the dedication of our global team at LightPath. We remain focused on our efforts to drive diversified revenue and growth and continue to drive benefits from the leverage in our business as we improve our profitability and generation of cash flow. With the progress that has been made and our plans for continued execution, we look forward to delivering long-term profitable growth which may deliver meaningful returns for the benefit of our shareholders. Thanks again and we look forward to speaking with you next quarter.

The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.