LightPath Technologies, Inc. (LPTH) Q2 2019 Earnings Report, Transcript and Summary

Good day and welcome to the LightPath Technologies Fiscal 2019 Second Quarter Financial Results Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Mr. Donald Retreage, Chief Financial Officer. Please go ahead.

Good afternoon. Before we get started, I would like to remind you that during the course of this conference call the company will be making a number of forward-looking statements that are based on current expectations and involve bearers, risk, and uncertainties that are discussed in the periodic SEC filings. Although the company believes 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. In addition, reference may be made to certain non-generally accepted accounting principles or non-GAAP measures for which you should refer to the appropriate disclaimers and reconciliations in the company's SEC filings and press releases. Following management's discussions, there will be a formal Q&A session open to participants on the call. I would now like to turn the conference over to Jim Gaynor, LifePath's President and Chief Executive Officer. Jim, please go ahead.

Thank you and good afternoon. Welcome to LightPath Technology's Fiscal 2019 second quarter financial results conference call. Our financial results press release was issued after the market closed today and posted to our corporate website. Following my remarks, our CFO Donald Retreage, will further review our financial results and provide more perspective on some key areas. We will then conduct a Q&A session and now on to my remarks. The fiscal second quarter continues the ascent we began to experience in the first quarter. We're very pleased with the progress made year-to-date for putting LightPath on a path for sustainable improvements in long term revenue performance, profitability and cash flow. Among our key performance indicators in the second quarter, bookings in the second quarter of fiscal 2019 increased to $14 million setting a new quarterly record for the company. Also setting a record for the second quarter in a row was our 12-month backlog which stood at approximately $18.1 at December 31, 2018. Revenue and gross profit growth in the second quarter were relatively subdued as compared to our order flow due to the timing of certain contract fulfillment and our ongoing transition out of New York which is adding some cost and production inefficiencies. It is important to consider these factors when reviewing our performance, progress, and growth prospects. The operational and financial performance areas we are most focused on are our presence in the markets in which we operate, revenue growth, and margins, profit and cash flow. We attribute our progress in the second quarter and the first half of the year to our focus on end markets and customers. You may recall on last quarter's earnings update when we announced that as of the start of fiscal 2019 we had organized our business with the goals of improving our time to market maximizing sales opportunities and reducing redundant costs. With our bookings you are seeing the beginning of the fruits of our labor. Our business was consolidated from five product groups into three; infrared or IR optical products, precision molded or PMO products, which now includes both the low volume and high-volume precision molded optics, and specialty products which now includes nonrecurring engineering or NRE projects. For sales and marketing purposes or major markets include catalog and distributors which really is isn’t a market but it is a key sector for us, commercial, defense, industrial, medical and telecommunications and networking. This focus has driven our investments in product development and manufacturing. Our mission is to offer our customers the best value possible and to be their first choice for high-value infrared and visible optics. In doing so we believe we were able to increase our share of the growing markets in which we operate. This involves commitment to customer satisfaction which includes our alignment with their needs, our ability to build the right products in high-volume for today and in the future and our ability to deliver products and service to our customers globally. The recent streamlining of major markets and product groups has provided us with enhanced visibility into demand. We are responding accordingly with investments in our manufacturing capacity and product development. Capital expenditures including equipment purchased through capital lease arrangements were significant at $1.6 million in the first half of the year. Although down from the $2.2 million in the first half of last fiscal year. Investments are being made to add capacity for infrared products in conjunction with the transition out of our New York facility into our other facilities. This transition is expected to be completed by June 30, 2019 at which time we expect to begin to realize a significant reduction of our operating costs. Year-to-date we have spent nearly $1 million on new product development an increase of nearly 25% from the same period in the prior year. New product development costs were approximately $519,000 in the second quarter of fiscal 2019, an increase of 26% from the second quarter of last year, primarily due to additional engineering employees to support development work. We anticipate that these expenses will remain at current levels for the remainder of fiscal 2019. I would now like to talk about some of our progress in key areas that impacted our second quarter results, particularly in revenue growth. In the industrial sector, we announced our largest annual contract ever which came as a renewal from our largest customer overall. We have now renewed this contract for the second year in a row and had a greater dollar value than the prior renewal. In fact, we have also added on additional contracts for other products from the customer as we have proven to be an important partner with leading optical technologies. In the telecom sector our revenue growth in the second quarter was led by 5G product sales. In the second quarter of fiscal 2019 the revenue for telecom sales were up 79% over the same quarter of last year and 52% from the first quarter of this year. Telecom bookings of $1.2 million in the second quarter were up 53% from last year's second quarter. Prior to fiscal 2019 telecom revenues for LightPath had been weak for about five quarters. During that time we noted that our NRE projects involved the design of many new products for 5G. At that time, production quantities were not yet a reality. In the second quarter we started seeing some production orders which means our sample products are now part of the larger equipment and assemblies and that these finished products are being deployed in quantity into the field for actual network upgrade. Network upgrades typically involve multiyear periods of capital investment as our customers roll out the upgrades in stages. We believe we are now entering into the first meaningful phrase and that rollout of these build outs could last for several years. For 5G our customers and their end-users are some of the world's leading network operators, public and private cloud technology companies and data center developers. We provide a critical passive component used as part of the optical data network assemblies. Our products are built into equipment used at the data center for the last mile into metro buildings build outs and edge computing and for long-haul transport. The build out for 5G requires incrementally more processing power which can only be achieved with data transfer to optical networks. 5G will enable the next generation transmission capabilities for voice and Internet of Things which includes downloading movies in seconds, AR and VR immersive experiences and connectivity at all levels for mission-critical functions including mobile data and healthcare and autonomous computing applications. Of course with the higher bookings comes higher revenues and with our margin enhancing initiatives in place we anticipate improved cash flows. With this part of the discussion, I'll pass the call to our CFO, Don Retreage to provide commentary with his prepared remarks.

Thank you, Jim. First I would like to mention that much of the information we are discussion during this call is also included in the press release issued earlier today and in our quarterly report on Form 10-Q filed with the SEC. I encourage you to visit our website at lightpath.com, specifically the section titled investor relations. Now on to my remarks pertaining to the second quarter and first half of fiscal 2019. Revenue for the second quarter of fiscal 2019 was $8.5 million, 2% higher than the prior year period and flat with the first quarter. For the first half year revenues were $17.1 million, an increase of approximately $1.2 million or 7% as compared to the same period of the prior fiscal year. Our geographic revenue mix we had 38% from North America, 24% from Asia and 30% from Europe, 8% from the rest of the world. Our vertical market sales review for the second quarter sales to catalogs and distributors were 17% of revenue, defense was 17%, industrial was 29% and commercial was 16% of revenue with medical 6% and telecom 15% of revenue. The second quarter 2019 bookings of 14% were up 17% as compared to $12 million in the second quarter 2018 and 60% compared to the first quarter of 2019. Similar to last year the significant increase in bookings for the second quarter from the preceding quarter is largely due to annual contract renewal that Jim talked about. However, even excluding these contract renewals from their respective periods, bookings would have been up 16% quarter-over-quarter. Including all bookings, first half 2019 bookings increased 20% over the prior period. Given the emerging growth and nature of our business in a highly fragmented market, we place greater value on longer term trends. To this end, on a trailing 12-month basis, bookings increased an impressive 30% from the prior period. Our 12-month backlog was a record $18.1 million at the ending of the second quarter up 30% from $14 million at the ending of the prior quarter and up 41% from $12.8 million at the ending of the last fiscal year. From a year earlier backlog increased 47% or $12.3 million. In addition, reflecting our strategy to enter into long term supplier agreements over short term contracts we have [indiscernible] backlog that goes out from months 13 to 36 which together with our 12-month backlog provide us with enhanced visibility to manage the business and invest according to future manufacturing capacity needs. As we mentioned last quarter, our efforts continued to improve our profitability. At the center of our operating streamline is our intent to elevate our gross margin to substantially higher levels. The area in which we are driving improvements in gross margin as well as overall profitability includes cost of materials, labor, manufacturing processes, capital investments and factory utilization. It is important for investors to understand where we believe our gross margins should be. Before our transformation across into infrared business our gross margin had gone from 36% in fiscal 2012 to 54% in fiscal 2016. This was achieved through the implementation of strategies that are substantially similar to the five areas I just mentioned. We have been working on these strategies for IR business for the last six months. Today our PMO gross margins are still at those heightened levels depending on our product mix. With the PMO business during the fiscal 2018 and in the beginning of fiscal 2019 being impacted by lower volumes from the higher margin telecommunications sector our gross margins for our PMO revenues in these periods were a bit low. IR margins were expected to be lower than PMO, but a substantial increase in the price of primary material used to make them brought these margins even lower. Thus, our first course of action was to address the raw material for our IR products. Near the end of fiscal 2018 we announced comprehensive production capabilities and global availability for a new line of infrared lenses made of chalcogenide compounds versus a traditional germanium based lens. We developed this new compound and grew it internally to produce Black Diamond glass which has been trademarked and marked as BD6. BD6 offers a lower cost alternative to germanium which we expect will benefit the cost structure of some of our current infrared products and allow us to expand our product offerings in response to the markets increased requirement for low cost infrared optics application. Our consolidated corporate gross profit margin profile is also expected to benefit from the resurgence of telecom, PMO revenues and associated 5G purchases. Telecom lenses typically are more complex and therefore lead the higher prices and margins. In addition, we anticipate savings from the transition of out of our New York facilities into our other facilities. The ongoing relocation of our New York operations which was acquired with ISP or other facilities in Orlando, Florida and Riga, Latvia is another tee set in margin improvement. At the present time, we are incurring redundant costs for overhead and personnel. Have invested in upgrades to the equipment and have seen a temporary decline in efficiency even in the obvious productivity level challenges that arise when processes are being relocated. We expect duplicated personnel to be removed by the ending of June 2019 along with complete exit from the New York facility and then we will see a more normalized lower cost basis in that we have moved the operations to Orlando and Riga. Moving on to additional capital investments and balance sheet matters, cash and equivalent totaled approximately $4.6 million at December 31, 2018 down from $5.5 million at September 30 and $6.5 million at the start of the fiscal year. From the beginning of our fiscal year, the use of cash primarily reflects equipment purchases for expanded production capacity and vertical integration at our three global facilities. The integration component will help us streamline our manufacturing processes, thus avoiding delays on expense associated with the involvement of multiple sites as we have been doing to-date for our IR products. Capital expenditures, we spend approximately $510,000 in the second quarter and 1.2 in the first half of fiscal 2019 with an additional 412 in equipment purchase for capital lease arrangement. In addition, in the first half of fiscal 2019 we reduced total debt by $474,000 or 6% from the beginning of the fiscal year. And our accounts receivable increased nearly $850,000 or 16% as our accounts payable remained flat just over $2 million. With a higher level of bookings on anticipated revenues we modestly increase the amount of inventory being carried. Inventories increased to $6.7 million at the end of second quarter up 5% from the beginning of the first year which compares favorably since our backlog from these periods increased by 41%. In summary, we believe we have grown our markets presence and demand creation, taken significant steps to improve our margin profile, and effectively managed our balance sheet. This is a strong way to enter into the second half of fiscal 2019. With this review of our financial highlights concluded I will turn back to the operator, so we can begin with our question and answer sessions. Thank you.

[Operator Instructions] The first question comes from Matt Koranda of ROTH Capital. Please go ahead.

Hey, Good afternoon. This is Mike on for Matt. Hey, so first question, I was just wondering, can you talk a little bit about the margin improvement? I know some is probably due to a higher mix of PMO, but how much of the improvement was in PMO versus infrared?

Well, I think it was a combination of both things, but we did have a favorable mix with the increase in the telecom shipments during the quarter on the PMO side. But we also got some slight improvements in the infrared mix of product that we were shipping. So I think it's kind of a combination of both things.

Okay, great and then regarding the lower revenue sort of due to the timing of the large infrared contract, will that difference be recognized in the second half of fiscal '19?

I think we will see a slow improvement in the overall levels of revenue as we move into the back half of the year. I think we're not tremendously off our plan as you guys had forecasted, but that was your forecast, not ours.

Fair enough. Okay great thanks.

But I think Mike, the thing the key on here is even though the revenue was flat over the first quarter it was a substantial improvement in the fundamentals in the margin and EBITDA numbers.

Okay, great. Thanks that's helpful. And then just last one here, if tariffs were to go up to that 25% level in March, how does that impact your margins in the back half of the year, do you think?

Well, I think if they go to that level we will definitely see some impact. That means tariffs would be moving from about on lenses about 15% to 25%, so that's a 10% increase in those taxes. So it's something that we hope doesn't happen. If it does look like it's going to happen we'll try and take some mitigation steps, where we live it some of the things that we're shipping through the U.S., so If we have to do that, but we could see some impact, yes.

Okay, great. Thanks guys. I'll step back.

The next question comes from Marc Wiesenberger of B. Riley FBR. Please go ahead.

Thank you. Last quarter I think you noted some elevated prices in the PMO segment, were you able to see that continuation to this quarter and if you could talk about the kind of prices you’re achieving in the market?

Do we have the average price increase or price for the quarter compared to last quarter? Just one second Marc.

Okay.

So yes, they did, the average selling price did go up on the PMO is about $3 or $4 I think on the average yes. So we did see some higher prices which I guess as I can attribute mostly to mix. There isn't anything other going on that we just had a very favorable mix in that quarter. I think you can continue to see that particularly as we expect with the telecom lenses as we said they're more complex, so they have a little higher ASP in that category than some of the overall industrial stuff. So I think that's what's driving that.

Got it. Thank you. I think within NRE as well as PMO, it looked like industrial seems to be weakening in both segments, is there anything that's kind of larger going on that you can read into going forward and with the lower Industrial NRE should we expect potentially lower levels going forward because that kind of foreshadows future demand?

Well, I think on the industrial side a lot of that comes from demand in Asia and in particular China that market has stayed weak. I think the good news is for us given the customer base that we have that tends to be the higher end guys a lot of them associated. So we're not dealing as much with the smaller companies over there, so we were able to push through it. We have seen some improvement from some of those guys, but that overall sector is weak has been weak. I don't think it's deteriorating any further, but it is weak and it remains that way.

Understood. You have talked about higher wages, is that across the entire workforce or is that just primarily with the more skilled labor?

Oh I think those higher wages came into play because we added some technical resources in the engineering people. So not so much that wages went up a tremendous amount other than we added some technical people to support the higher level of product development that we're involved with right now.

Sure, and just kind of last question, did you see any interesting trends or things that might have surprised you with regards to kind of new orders or applications for some of the lenses? I know they're in the news lately, there's been a lot of talk about Volvo working with one of your neighbors Luminar about - for some lighter stuff and there's been unmanned vehicles getting a lot of - like the drones getting a lot of press, anything specific you've seen there in terms of new trends?

Well, I think, you know I guess the new thing is a lot of the work that we did in 2018 on new designs particularly in the telecom sector are moving into production. We look - it looks to us like that will continue and maybe even accelerate. There's a number of lenses that we're being told that we did do some designs. We had like 11 or so designs in particular that I'm thinking about, there were three of them went into production in this past quarter. There's another eight or nine that are going into production going forward. So I expect to see that trend continue to be very strong in that sector. The other part of it is, we're having very good success on the infrared side of the business particularly with these rifle scopes and rangefinder type applications and so we're selling - we've sold some designs and now we've been ramping up that production, so those are starting to flow through the revenue stream as well. So we continue to see the bookings, the strong bookings and it tends to be in those areas. We've also seen some increase in the medical sector. Those are some of those lenses, the optics for those things have increased as well. So all of those things I think are driving our business and we believe the second half will be stronger as a result of that.

Great, thank you very much.

The next question comes from Greg Gibas of Northland Securities. Please go ahead.

Hi guys I'm [indiscernible]. Thanks for taking my questions. Just a few from me and I apologize if I missed this from earlier as I jumped on a little bit late, but could you provide some additional color on the revenue and order growth within telecom? And then second, could you give an update on trends as you are seeing in China?

Well, I think the telecom growth has been driven by I think the well known factors. I mean, the deployment beginning deployment of 5G Networks upgrades, we're still seeing some data center although it's not as strong as it was. But I think, we did a very large number of new lens designs throughout 2018 associated for telecom products and in particular 5G applications and those are starting to move into production across the board. Some of our major customers include Lumentum, Oclaro, NeoPhotonics, I guess we'll continue to call it Lumentum and Oclaro although they have joined together. NeoPhotonics those type of guys as well as Huawei, all of those guys business is very strong and continues to step up as a result of that. So we see good strength there, I think that's going to continue. On the infrared side, as I just said, these rifle scopes rangefinder type applications, we've gone through, there are some popular focal lengths out there and we've been methodically providing those as a substitution for other material type products like germanium lenses and that is gaining acceptance in the marketplace and so we're selling those lens assemblies very nicely now. And now that we have three or four of them in production and several more coming behind that I expect that trend to continue as well, so I think that's what's going to drive the near term growth.

Great, thank you.

[Operator Instructions] The next question comes from Gene Inger of IngerLetter.com. Please go ahead.

Hi guys. I think you've got your arms around this pretty well this quarter. I think I'd in fact call it vision as to when that bell curve that I spoke of before goes into favorable territory, which causes me to ask, when we can talk about satisfactory net margins rather than just gross margins? Then I have a technical question I'd like to ask.

I mean, I think we'll talk about that now Gene. I mean, we publish operating income along with gross margin, so they improve quarter-to-quarter quite substantially I think. So and we expect that trend to continue.

Right, I did mean positive earnings basically. You talked about LIDAR which I would normally inquire about so I won't, but I will ask a bit about telecom. I heard you reference the word Edge, first time I've heard you use the word. I'm familiar with Edge. Edge usually refers in the cellular business to either front haul or backhaul and I'm sure you or Donald know what I'm referring to, and my question is whether or not you're involved in that beyond the limiters [ph] and so on that you have provided for data centers because there are companies like Ceragon [ph] and Huawei as well as Nokia and Ericsson that they do, some can even do not just fiber, but microwave backhaul and I'm wondering whether there's a form of wireless optical backhaul, does that exist?

You've taken the technology beyond my scope Gene. I'm not sure I can give you a decent answer to that question. The majority of the lenses that the products that we're dealing with right now still are mainly associated with the IPLA [ph] the doses or the packages that go into those - that equipment. So I think, we have, there's been some minor inquiries for some collimating type products as well, but that really hasn't, there isn’t anything that would move the needle at least to date.

Well, in your Needham presentation you talked about new optical designs and actually sort of referred to backhaul and from cellular access point not just towers, which is a whole field and that's why I wondered if, there's some new integration going on that's related to 5G and Voice?

Yes, I mean I - right off the top of my head I don't know what all the designs are, but if there's something that we can get into there we certainly will. I mean, we do have capability of making collimating in fiber type products, so I don't see that to be a problem.

Okay, well, I think it's just a question of patience. I think you've got a handle on the presumably non-recurring expenses associated with the relocation, so as long as top line marchs forward it sounds like bottom line will grow?

Yes, I believe we've got ourselves pretty well positioned looking forward and the bookings growth should be an indication of the strength and in the diversity we try to give some indication of that across the different market segments, so we're very pleased.

I appreciate it.

Thanks Gene.

We have time for closing remarks from management. Mr. Gaynor, I will pass the call back to you.

Thank you. In conclusion, we appreciate the support of our shareholders and the dedication of our expanding global team at LightPath and with our strength and presence around the world we remain focused on our efforts to drive top line, bottom line and cash flow growth, while making improvements in our overall financial condition as well as providing more value to our growing base of customers. We're very excited about our growth prospects and will be sharing them at the upcoming ROTH Investor Conference in March. Thanks again for participating on today's conference call and we look forward to speaking with you next quarter.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.