Lantronix, Inc. (LTRX) Q2 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Q2 Fiscal Year 2012 Lantronix Inc. Earnings Conference Call. My name is Josenia [ph] and I will be your coordinator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I will now turn the presentation over to the host of today's conference, E. E. Wang. Please proceed.

Thank you, Josenia [ph] . Good afternoon, everyone, and thank you for joining Lantronix Fiscal 2012 Second Quarter Conference Call. Joining us on the call today are Kurt Busch, Lantronix's Chief Executive Officer; and Jeremy Whitaker, Lantronix's Chief Financial Officer. A live and archived webcast of today's call will be available on the company's website at www.lantronix.com. In addition, a phone replay will be available through February 16 by dialing (888) 286-8010 in the U.S. or for international callers, (617) 801-6888 and entering passcode 17177530. As a reminder, during the course of this conference call, management may make forward-looking statements in their prepared remarks and in response to your questions and statements regarding product strategy, marketing plans and future financial metrics, including revenue, profitability, operating expenses, cash flow and working capital. These forward-looking statements are based on Lantronix's current expectations and are subject to a number of risks and uncertainties. Actual results could differ materially as a result of several risk factors. For a more detailed discussion of these risk factors and other risks and uncertainties, read the company's recent SEC filings, including its annual report on Form 10-K filed for the fiscal year ended June 30, 2011 and its quarterly reports on Form 10-Q filed for the fiscal quarters ended September 30, 2011, and December 31, 2011, which are available through the Investor Relations portion of our website at www.lantronix.com. Readers and listeners are cautioned not to place undue reliance on any forward-looking statements, speak only as of the date hereof and the company undertakes no obligation to update these forward-looking statements to reflect subsequent events or circumstances. If the company were to update or correct one or more of these statements investors or others should not conclude that the company will make additional updates or corrections I would now like to introduce Jeremy Whitaker, Chief Financial Officer of Lantronix. Jeremy?

Thank you. In addition to GAAP results, we report adjusted net income which is referred to as non-GAAP net income or loss and non-GAAP net income or loss per share. We also report adjusted operating expenses referred to as non-GAAP operating expenses. Please refer to our second fiscal quarter 2012 news release posted in the Investor Relations section of our website where we have provided the definitions and reconciliations for the non-GAAP financial measures that we use. We believe that the presentation of non-GAAP financial measures when presented in conjunction, the corresponding GAAP measures provides important supplemental information relating to the company's financial condition and results of operations. Non-GAAP financial measures disclosed by Lantronix should not be considered as substitute for or superior to financial measures calculated according to GAAP. Management believes that non-GAAP operating expenses, non-GAAP net income or loss and non-GAAP net income or loss per share are important measures of the company's business. Management uses the aforementioned non-GAAP measures to monitor and evaluate ongoing operating results and trends and to gain an understanding of our comparative operating performance. In addition, certain of our stockholders have expressed an interest in seeing financial performance measures exclusive of the impact of matters such as decisions relating to the restructuring, which while important, are not central to the core operations of our business. Non-GAAP financial measures used by Lantronix may be calculated differently from, and therefore may not be comparable to similar non-GAAP information provided by other companies. All financial results and reconciliations should be evaluated carefully. Now turning to our financial results for the 3 and 6 months ended December 31, 2011. Net revenue for the 3 months ended December 31, 2011, was $10.5 million, a decrease of 18% compared to $12.7 million for the 3 months ended December 31, 2010. And sequentially, a decrease of 7% compared to $11.2 million for the 3 months ended September 30, 2011. The decrease in net revenue was primarily due to lower unit sales of embedded device enablement products in our Europe, Middle East and Africa regions, which we believe was significantly impacted by economic conditions in Europe. In addition, net revenue for the 3 months ended December 31, 2010, included approximately $639,000 of revenue that was recognized as the result of modifying contracts with certain distributors in Europe and Asia. No similar revenue was recognized during the 3 months ended December 31, 2011. For the 6 months ended December 31, 2011, net revenues were $21.6 million compared to $24.9 million for the 6 months ended December 31, 2010. Gross profit as a percentage of net revenue for the 3 months ended December 31, 2011, was 48.2% compared to 49.4% for the 3 months ended December 31, 2010, and reflected a slight sequential improvement from 47.4% for the 3 months ended September 30, 2011. Gross profit as a percentage of net revenue for the 6 months ended December 31, 2011, was 47.8% compared to 50.2% for the 6 months ended December 31, 2010. Gross profit for the 3 and 6 months ended December 31, 2011, included a $480,000 charge for excess and obsolete inventory due to a reduction in sales forecast for certain device management products. GAAP operating expenses were $6.4 million for the 3 months ended December 31, 2011, a decrease of $0.4 million compared to $6.8 million for the 3 months ended December 31, 2010, and down sequentially from $6.7 million for the 3 months ended September 30, 2011. GAAP operating expenses for the 6 months ended December 31, 2011, was $13.1 million compared to $13.7 million for the 6 months ended December 31, 2010. Selling, general and administrative expenses were $4.4 million for the 3 months ended December 31, 2011, a decrease of $0.7 million compared to $5.1 million for the 3 months ended December 31, 2010, and down sequentially from $5.0 million for the 3 months ended September 30, 2011. For the 6 months ended December 31, 2011, selling general and administrative expenses were $9.4 million compared to $10.1 million for the 6 months ended December 31, 2010. Research and development expenses were $1.6 million for the 3 months ended December 31, 2011, compared to $1.7 million for the 3 months ended December 31, 2010. For the 6 months ended December 31, 2011, research and development expenses were $3.3 million compared to $3.5 million for the 6 months ended December 31, 2010. Restructuring charges from employee severance and related costs was $269,000 for the 3 and 6 months ended December 31, 2011. As discussed on our previous call, in November of 2011, the company initiated a restructuring plan consisting of a reduction in headcount and other cost-saving measures. The restructuring plan was designed to reduce operating expenses and bring them more in line with revenue levels in order to improve future results of operations and to reduce our non-GAAP break even point to below $11 million. This restructuring plan is expected to reduce annualized cash expenses at approximately $2 million. Restructuring activities contemplated by the plan was substantially completed during the 3 months ended December 31, 2011. Non-GAAP operating expenses were $5.8 million for the 3 months ended December 31, 2011, compared to $5.8 million for the 3 months ended December 31, 2010, and $6.1 million for the 3 months ended September 30, 2011. For the 6 months ended December 31, 2011, non-GAAP operating expenses were $11.9 million compared to $11.7 million for the 6 months ended December 31, 2010. GAAP net loss was $1.4 million for the 3 months ended December 31, 2011, or $0.13 per share compared to GAAP net loss of $579,000 or $0.06 per share for the 3 months ended December 31, 2010 and sequentially, the GAAP net loss of $1.4 million, or $0.14 per share for the 3 months ended September 30, 2011. GAAP net loss for the 6 months ended December 31, 2011, was $2.8 million or $0.27 per share compared to a GAAP net loss of $1.3 million or $0.12 per share for the 6 months ended December 31, 2010. Non-GAAP net loss for the 3 months ended December 31, 2011, was $629,000 or $0.06 per share compared to non-GAAP net income of $603,000 or $0.06 per share for the 3 months ended December 31, 2010. And sequentially, the non-GAAP net loss of $697,000 or $0.07 per share for the 3 months ended September 30, 2011. Non-GAAP net loss for the 6 months ended December 31, 2011, was $1.3 million or $0.13 per share compared to non-GAAP net income of $1.0 million or $0.09 per share for the 6 months ended December 31, 2010. Now turning to the balance sheet. Cash and cash equivalents as of December 31, 2011, were $3.3 million compared to $5.8 million as of June 30, 2011, and $4 million as of September 30, 2011. Net inventory was $8.5 million as of December 31, 2011, compared to $9.2 million as of June 30, 2011. Accounts payable were $4.8 million as of December 31, 2011, compared to $8.4 million as of June 30, 2011. Working capital was $2.4 million as of December 31, 2011, compared to $5.2 million as of June 30, 2011. Our working capital was impacted by the net losses recognized during the 3 and 6 months ended December 31, 2011. We believe that the restructuring plan and the cost containment measures initiated by management in November of 2011 will reduce our future operating expenses, improve future operating results and help stabilize working capital. I would now like to turn the call over to Kurt Busch, Lantronix's President and CEO. Kurt?

Thank you, Jeremy. Jeremy has just spent the last few minutes giving you the financial details of what occurred during the 3 and 6 months ended December 31, 2011. Since joining the company a little more than 5 months ago, the new management team has embarked on an aggressive plan to create long-term value for our shareholders. As discussed on previous calls, 4 key elements of our plans are to: hire and integrate the right leadership and resources to execute on our strategy; increase margins, decrease inventory and ensure strong financial discipline is in place; develop a new product strategy that is intended to provide innovative new products that will increase market share, as well as expand the markets lead address; take action to create a strong market-driven product development machine. While our financial results for the first half of fiscal 2012 were disappointing, I would like to emphasize that we have made and continue to make progress in all of our goals. In the past 150 days, a little more than 5 months time, the company has achieved the following: we rebuilt, recruited and retained the management team more than 150 years of experience in the M2M and communication technology sectors; we filled all open senior staff positions before the end of the December quarter. As of January, we have a new opening in the role of Vice President of Operations and I expect to fill that position soon. All of these leaders have hit the ground running. The energy and commitment and enthusiasm they have brought to Lantronix has translated itself across the entire organization and increased discipline and a renewed focus on execution in all functional areas that I believe will ultimately lead to enhanced value for our shareholders. We've implemented actions to bring greater financial discipline. As Jeremy discussed earlier, the actions we took shortly after joining the company have started to show some signs of improvement. In the December quarter, with an improvement in our gross margin percentage, reduction in inventory levels, moving forward, a lower operating expense structure. Moving onto product development, we have put in place a product strategy that we believe will both expand the markets we address and allow for share capture in our current markets. In the last 150 days, we launched 2 new products, the EDS-MD, a next-generation medical aggregator and the Lantronix xPrintServer Network Edition. The launch of these products represents a direct follow through on the commitment I made to our shareholders on our last conference call that we would launch into production on average at least 1 new product per quarter. The EDS-MD was launched into production in December 2011 as the newest edition of the award-winning EDS family of products. The EDS-MD is specifically designed for the stringent requirements of the medical market, provides mission critical device aggregation and allows for central and remote management of multiple medical devices. Thus far, we are pleased with the response to the EDS-MD and we expect it to extend our reach into the medical and health care marketplaces. On the last call, I said we would revive and refresh several mature but still promising product lines to take advantage of today's technology trends. One of these trends is the adoption of tablets in the workplace. With that in mind, we revived our PrintServer product line with the introduction of a new product family, the Lantronix xPrintServer. The xPrintServer enables seamless printing from Apple iOS devices such as the iPad or iPhone to a network printer. The xPrintServer was conceived in my second week at Lantronix and launched into production in approximately 4 months. Installing the xPrintServer is easy. Open the box, plug it in and print. The device will automatically reach out and configure both wired and wireless network printers, and make them available to iOS devices on the network, such as an iPhone, iPad our iPod, with no apps to load or any end-user configuration. Designed with the growing segment of business iPad users in mind, the patent pending xPrintServer addresses what we believe is a significant gap in the current marketplace and provides a cost-effective solution for businesses to leverage their vast installed base of enterprise network printers seamlessly in conjunction with iOS devices such as an iPad or an iPhone without the need to purchase an AirPrint compatible printer for every desktop. The industry response we have received since announcing this product in mid-December has been overwhelmingly positive and has included: At the Consumer Electronics Show, CRN named the xPrintServer Network Edition one of the top 25 must-see products at the show. At Macworld, the product received both Editors Choice, for Mac Observer and a Macworld Best of Show. Hands-on reviews performed by InfoWorld, Network World, TUAW or The Unofficial Apple Weblog, and Tab Times have been equally positive. With comments like 5 out of 5 from Tab Times and Network World, and then TUAW said: you are going to love this product, it's drop-dead simple, and InfoWorld's review stated: It just works. I would like to thank all the editors that have reviewed our products. We very much appreciate their kind words and the time they have spent. While the accolades we have received are very affirming, the accomplishment I'm most proud of is the substantial effort that was put forth by our engineering, marketing and operations teams, in bringing the new product to market in approximately 180 days. The focus, teamwork and dedication they put into launching this product is indicative of the new environment and product development culture we are aspiring to bring to all of Lantronix's efforts going forward. As we continue to move forward in our commitment to launching on average, one new product per quarter, our focus will be directed towards using the strongest elements of our increasing IP portfolio to build solutions that make sense for our customers and make sense for Lantronix. Over the remaining calendar year, Lantronix plans to launch new product families that enable cellular and sensor device connectivity, as well as several new products that expand our existing product lines. We are excited about the potential of these innovative solutions and look forward to sharing more details in the coming quarters. Over the last 5 months, we have made significant progress in every one of the key elements of our turnaround strategy. At the same time, Jeremy and I, and the entire team recognize that we have more to achieve in these areas, and we continue to move aggressively forward with commitment and energy in executing our plan. While we're not satisfied with our financial performance to date, we believe we are on the right track towards stabilizing the company and position it for future growth and ultimately delivering enhanced value to our shareholders, employees, customers and partners. Before turning the call over for questions, I'd like to take the opportunity to thank my Lantronix colleagues, our shareholders, our partners and our customers for your ongoing support. Operator, we'd like to open the call for questions.

[Operator Instructions] Your first question comes from the line of Paul Johnson from Nicusa Capital.

Kurt, if I could, I'd love to run through a couple of different questions. Starting with the management team, obviously, you've only been there 5 months give or take and I know there were some open wrecks when you got there and some upgrade. Can you just give us this -- just kind of order or magnitude how many people you've changed, brought in and we should really view as part of the new management team?

Yes. So as the executive, or at least, my direct staff, I brought in a new CFO, Jeremy Whitaker, a new head of Product Management, Mak Manesh, who has a long history of M2M Communications, a new Vice President of worldwide sales who again, has a long history of worldwide -- of M2M Communications, Rob Robinson. I brought a new head of HR, a new head of corporate counsel -- or a new corporate counsel, as well as a new head of North American Sales who is a returning Lantronix employee that was previously our number 1 salesperson. So we're quite happy that he has come back to Lantronix. And I think the that pretty much rolls out the full executive staff. The only position I have not replaced is the head of engineering and I'm quite happy that the engineering team has maintained stability. We actually have had very little turnover in that department.

When you say that the management team is very excited, it's pretty easy to say since they're all new, they've all elected to come to help you turn this around in a fairly short order.

Yes, that's correct.

Shifting over to products for a moment. I know in your presentation in New York and in some of your the other presentations. In the conference call, you've talked about the second half of calendar '12, the most important to new efforts are cellular, which sounds like it would be a -- bringing cellular to the current product line, extending it over time but bringing the cellular communication to the current set of products to complement what you have in wireless and wired line, is that the best way to think about the cellular effort?

Yes, that's our real good way of describing it so the main Lantronix IP and it's -- pretty much our special sauce is on the serial communication and that communication over the network. So here, we are enhancing the network interface to be cellular as opposed to wired or wireless.

Is it easy to think that you're expanding the market by 50% because you're adding a new interface or is cellular much bigger than what you address now? How important...

We feel that it's approximately the same size to slightly bigger and we also feel that it is a growing segment.

And since the secret sauce is behind the interface, I assume the idea that once you offer cellular, you offer your whole -- a series of products over time that you've demonstrated are very powerful in the wireless and in the wireline. You're now adding just a new interface so presumably they should be fairly easy to get design wins over time?

Yes, that's definitely our hope.

All right. now sensors I understand, is completely different though. Because sensor is going after a market that you've never really addressed and although in a sense, it's just a different interface, you're really talking about bringing a whole new capability to a market that's probably been underserved over the years.

Yes, that is our feeling. We do feel that from a technology standpoint, the serial communication IP that we've developed at Lantronix is very applicable to sensors and it is effectively, just a new network interface or a different new machine interface, if you will, where serial was the old machine interface and sensor is now the new machine interface. But the market that we're addressing is a totally new market and it's a market of people that want to make decisions over the network based on some physical stimuli whether heat, light, sound, pressure or motion. So we're quite excited about the opportunity to enter the sensor space.

Just as I -- it really prompted because you guys started talking about it and I started to do a little bit of work in that area and the observation I'm making is that, that market appears to be much larger than what you've addressed historically.

We definitely would hope so. I mean, this is a new step for us and we look forward to introducing products into that market.

Second observation is that it appears to be somewhat underserved by advanced communication technology.

We would agree with you.

Third is that the competitors that you have gotten to know very well on your core, historical markets, no one appear to be anywhere near this market. So if there's a competitor, it's brand new people. And sense is if you can really pull this off, you'll be the -- you'll have first mover advantage in some of these markets.

Yes, we certainly hope so.

You have a large market underserved and I assume it's attractive because you feel can get there soon with technology that nobody else is offering.

That's correct.

And should we anticipate at least an initial effort before the end of the calendar year?

Yes, before the end of calendar 2012, we'll be offering both cellular and sensor products to the market place.

Terrific. And then without -- we can't not talk about products without talking about the flagship products, xPrint. Can you talk -- can you -- flesh out -- it's been out in the market I know, only for a few days now. Can you just talk a little bit about commercial receptivity. You've always said spectacular editorial receptively. What are you hearing in the market? Do people know about it? Are you starting to see traction? Are people starting to sell these?

Yes, we're actually seeing a lot of interest on the enterprise side. Though I can't comment on any kind of volumes but we have heard from people that are in this particular space say they get that particular question, how do I print from my iPad in an enterprise environment. And we understand or are talking to people that serve this market that say they get that question daily. So we are again, quite excited about the response that we have received for the xPrintServer.

As I understand that this thing, literally, you plug it in and your iPad recognizes it all within seconds or certainly, no more than a minute and then you can start printing shortly thereafter. I assume that has great appeal in the enterprise world?

Yes, it is a very, very simple, very simple solution.

If I understand it, this is something that was conceived of after you got there and executed since you've been there?

Yes. That's exactly right. We had the idea at my second week here at Lantronix.

And then finally on this, product. Everything I read about it, that's issued -- they keep saying that this is a member of a family of products, should we anticipate that there'd be more xPrintServers? Brothers, sisters, aunts, uncles?

Yes, most certainly, Paul. The xPrintServer again, did a very simple but we believe, needed function in allowing a iOS device such as an iPad or an iPhone to talk directly to a network printer. We have -- since announcing the products, we have a lot of feedback for additional types of products with additional kinds of features that I look forward to announcing in the next quarters or so.

Your new management -- you're 5 months old and your management team is obviously less by definition. The good news about your product portfolio is they're sort of the land of the living dead, it's sometimes impossible to kill these products. You don't -- the revenues you had in December quarter are a function of decisions you made long before you arrived, there on your watch, I understand. And you guys are doing your best to watch the operating expenses which you have a lot of control over and refreshing the product line and making sure that sales is executing well and all of that. So you're going after the opportunity and servicing your customers. So they like buying from you and all those sorts of things. But we as we look over the March quarter, June quarter, September quarter, what metrics should we be tracking from the outside? Because I know you can only have so much influence on revenues over a short period of time. Obviously the operating expenses, you've set some goals by reducing operating expenses. But what are the metrics that we should track quarterly where we get the sense that in fact, you guys are really executing against your plan? You got the 1 new product a quarter, we've got that, but some -- throw out some more things that we should be tracking.

I would definitely say the -- probably the most important metric for future growth of Lantronix is the 1 new product per quarter. And I think that new product introductions are really what is going to accelerate the growth of Lantronix. There is a number of other goals that we have stated such as reducing our inventory and increasing our margins. I also think they're our key metrics to show that the operations of the company is being done in an efficient manner.

The blocking and tackling of -- on the margin. We shouldn't expect gross margin to pop several percentage points a quarter but we should see steady improvement there, we should see working capital improvement. You obviously have set the bar for lower operating expenses. So all those metrics are fair game for us to watch?

Absolutely.

And then the new products. I assume that -- not to get ahead of yourself and I know you were out on a limb when you made the prediction or I think it was a promise that you would introduce a new product every quarter. But is that -- as your R&D operation continues to execute, I assume your goal is more than 1 a quarter as we get out? I'm not going to tie you to a timeframe but if that's really going to be the goal of growing at 1 a quarter is going to be fine for the next couple of quarters. But I assume you're going to start to raise that bar internally.

I mean, I think that's typically how you manage any organization, Paul. But the 1 new product a quarter is something that we can achieve with current operating expense and we have plans as we grow revenue to reinvest in R&D and we expect to be able to accelerate the product introductions that we do.

And now I'd like to turn the call over to Kurt Busch for closing remarks.

Thank you, operator. I'd like to thank you all for participating on today's call. We look forward to updating you on our progress, achievements and actions when we report on our fiscal third quarter results in May.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.