Novanta Inc. (NOVT) Q2 2016 Earnings Report, Transcript and Summary

Good afternoon. My name is Nicole and I will be your conference operator today. At this time, I would like to welcome everyone to the Novanta’s Second Quarter 2016, Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. Robert Buckley, Chief Financial Officer, you may begin your conference.

Thank you, Nicole. Good afternoon and welcome to Novanta’s second quarter 2016 earnings conference call. I am Robert Buckley, Chief Financial Officer of Novanta; with me today on today’s call is Chief Executive Officer, John Roush; and Chief Operating Officer, Matthijs Glastra. If you’ve not received a copy of our two press releases issued today, you may obtain them from the Investor Relations section of our website at www.novanta.com. Please note this call is being webcast live. It will be archived on our website. Before we begin, we need to remind everyone of the Safe Harbor for forward-looking statements that we have outlined in our earnings press release issued earlier this afternoon and also those in our SEC filings. We may make some comments today both in our prepared remarks and in responses to questions that may include forward-looking statements. These involve inherent assumptions with known and unknown risks and other factors that could cause our future results to differ materially from our current expectations. Any forward-looking statements made today represent our views only as of today. We disclaim any obligation to update forward-looking statements in the future even if our estimates change. So, you should not rely on any of today’s forward-looking statements as representing our views as of any date after today. During this call, we will be referring to certain non-GAAP financial measures. A reconciliation of such non-GAAP financial measures to the most directly comparable GAAP measures is available as an attachment in our earnings press release. To the extent that we use non-GAAP financial measures during this call that are not reconciled to GAAP measures in the earnings press release, we will provide reconciliations promptly on the Investor Relations section of our website. I am now pleased to introduce CEO of Novanta, John Roush.

Thank you, Robert. Good afternoon, everybody and welcome to our call. Well we have a lot to talk about today, so let’s go ahead and get started with that. First let me say, I’m very pleased to report, we had strong results in Q2 and exceeded our expectations across the Board. Customer demand was very solid and it picked up steadily as we went through the quarter, that’s very encouraging. Q2 sales came in at 97.7 million, which included 900,000 from our Reach acquisition. But even if you exclude Reach, we were $1.8 million in sales above our own forecast. GAAP EPS came in at $0.14, adjusted EPS exceeded our expectations at $0.27. Adjusted EBITDA came in at $17.3 million so again strong profit conversion that exceeded our own internal forecast. The book to bill in Q2 was 1.0, which when you combine that with a very strong orders we had in Q1, that results in a half year, cumulative book to bill ratio of 1.09. The good news is that our momentum is pretty broad base across the whole Company. JADAK and Apple Motion were the strongest in the quarter with double digit organic growth in both cases but the demand picture is quite positive across the whole Company. You will hear more specific details on the quarter, and the outlook from both Matthijs and Robert. But the strong Q2 results, the Company is very well position for the balance in the year and that’s really great news. So now I want to turn to the other major topic for today, I assume by now all of you seen the second press release for we announced the CEO succession. Matthijs who many of you have meet, will be assuming the CEO, effective September 1. The two of us worked very closely together over the last four year. I speak for the leadership team, the Board of Directors, when I say, he has an exceptional level of talent and experience, he is very well known to our customers, investors, key stakeholders, he is fully prepared for this role. I’m very excited about the future prospects of Novanta and I know the Company will excel under Matthijs’ leadership. So as I reflect on my six year here CEO, over time we’ve achieved all of the major objectives I had from my tenure as CEO. Thus it makes sense to hand over the reins at this point. In very significant ways it’s a completely different and better Company than when I joined. Our portfolio has been significantly stream lined and upgraded. We acquired six business and the divested six other, we consolidated a number of manufacturing sites, business and product lines. Over a third of the revenue I inherited has been change out. Twenty two desperate P&L and fragmented underperforming organization has been reshaped in the three focus segments with clear growth strategies and leading market positions and attractive applications. As you know we drive over 40% of our revenue from medical applications, which has improved the consistence of our results and provides substantial long term opportunities for growth. We’ve dramatically upgraded the talent base across the Company, twenty four of the twenty five top positions in the Company and 48 of the top 50, were recruited during my tenure. Most of those people from multibillion dollar academy companies. Today we have a culture of performance account ability and continues improvement. Novanta is a clear vision for how to grow and scale and to do it profitably. And the balance sheet is in very good shape with minimum net debt and ample access to low cost growth capital. In many ways the recent rebranding that we did to the Company as Novanta was driven by the recognition that this is entirely new Company and a much better company than the GSI of six year ago. With the strong team in place and a clear vision for successful, I’m highly confidently in the Company’s future success. Over the coming weeks, I’ll be working closely with Matthijs and the leadership team and the Board to assure smooth and seamless transition. I will be advising the Company and the Board on selected matters through the rest of the year. I do want to personally thank all of our investors for your interest in the Novanta transformational over the last few years. It’s certainly be a pleasure to know all of you. So with that I would now like to turn the call over to the incoming CEO of Novanta Matthijs Glastra. Matthijs?

Thanks John, I’m honored and excited lead Novanta into its next phase of growth and expansion. This is truly a great company with an exceptional team and with a bright future ahead. We have a solid direction and we like the business we were in. We’re having leading positions in growing medical and advance industrial markets. Our new product pipeline is developing very nicely and last but not least, our balance sheet and strong cash generation provides us with ample opportunity to aggressively perceive in organic growth. So were as previous acquisitions and organic growth, more or less replaced divested revenue, future organic and inorganic growth will be truly incremental. So it’s fair to say that the company is entering the next phase of its transformation journey, one of growth and expansion. Now before I dive in, I would like to recognize the remarkable transformation of Novanta under John’s leadership. We’re stronger, more disciplined focused Company with close to a half of our business in medical end markets. It has been a true pleasure to work with you John. Now let’s focus in the second quarter results. Robert will cover the financial results in more detail but let me focus on a few highlights here. Overall we’re very pleased with the results, we delivered a solid, sequential revenue step up of 8% for the first quarter and continue to build good backlog coverage for the second half. And despite softness in some of the industrial markets we serve, our businesses are delivering very well. We delivered 1% reported and flat organic growth and we’re on track for mid-single digit organic growth for the year. In the quarter design wins increased by over 50% year over year and new product revenue doubled. Offsetting some of the industrial manufacturing softness. Though new product revenue and out flow turns this still relatively modest, it shows that R&D and marketing and sales divestment are starting to bear fruit. We executed well on networking capital and productivity and we’re on track to achieve $8 million in productivity savings for the year. We also have two special events of note last quarter, we acquired Reach a supplier of embedded touch screen and human interface solutions for medical application. Reach is operating in an attracting and growing market as touch screen penetration in medical markets is steadily increasing. This is very nice bolt on acquisition with good cross opportunities with our other medical business. We’re very pleased that the integration is progressing well. We also concluded on the rebranding of our Company to Novanta, the reception from customers, employees and investors has been very positive as it marks a new era for the Company, focused on growth and reinforcing the brand positioning as the trusted technology partner with more emphasis on medical markets. We began trading under the new ticker NOVT mid-May. Now let me turn to our operating segments. I’ll start with precision motion. Our precision motion segment delivered 1% year over year revenue growth. 10% sequential growth and year to date book to build of 1.11. Celera Motion was the key driver here, delivering 5% year -over-year revenue growth and record booking performance growing 32% year-over-year. And as we explained before Celera Motion enjoys favorable macro transfer precise and dynamic motion control in automation, robotics, satellite communication and medical markets. We feel good about our product mix to take advantage of the growth opportunities in these start up markets and we’re very excited about the performance and integration of our Apple Motion acquisition which delivered 14% year over year revenue growth. Having both the motor and the encoder makes us a more compelling technology partner to our customers. Now in the last call, we reported on two new products that will expand Celera Motion surf markets by $200 million. I’m pleased to report we’re on track in bringing this products to market. We’ve started shipping Optira which expands our leadership and procession optical encoders in an incredibly small, lightweight and easy use to use form factor and this is particularly imported in medical robotics and medical device markets. The other new products Veratus, which enables expansion into advance industrial environment will be shipping into third quarter. We see continue great customer interest and our expecting solid design momentum later in the year. Now turning to our laser product segment, were we returned back to growth. Adjusted revenue growth was 9% year over year and 14% sequentially versus the first quarter, year to date book to bill was 1.05 though the overall industrial environment is not yet robust we’re gaining shares through new products and global expansion. They achieve record bookings in our [indiscernible] business which saw a 9% year-over-year revenue increase in this medium power coal CO2 Laser business driven by new products. This partly offset weakness in the overall industrial environment. Our Cambridge technology beam delivery business delivered a very solid 16% sequentially revenue step up driven by laser marking, cavorting, OCT applications and ramping the new Lightning II Plus skin and hair product we reported on last quarter. Strategic growth in execution in the Laser segment continues to be very strong, as reported earlier we are expanding our serve markets with new products. In the second quarter we launched and ramp and new laser product for organic foil [ph] coating in mobile phones. [Indiscernible] has a very nice new product line up with multiple additional product launches plan for the second half. Overall design wins in our laser group were up more than 50% year-over-year and new product revenue doubled year-over-year, it is a strong indication that our investments in innovation and commercial teams are starting to yield results. Turning to our Vision Technology segment, which focuses on Camera, RFID and visualization based technologies to capture, detect, analyze and visualize images in medical applications. In today's world of providing higher quality of care at lower overall cost our technologies help to reduce medical errors improve workflow and patient outcomes in applications such as minimally invasive surgery, patient monitoring, life sciences and clinical lab equipment. Our overall sentiment in the medical equipment and device market is steadily improving. In the quarter, we were pleased to see the JADAK business delivering strong 11% year-over-year revenue growth with solid continued result in performance. Year-to-date overall book-to-bill in our vision technologies group was 1.11. We are pleased with our Skyetek acquisition, a leading provider of RFID solutions to medical OEM customers, which we have integrated into our JADAK business. In the quarter 40% of our JADAK design wins were RFID based. And we see strong potential integrated RFID through our existing sales channel and product portfolio. As we explained before RFID enjoys favorable trends throughout the hospital environment as it helps to enhance workflow, patient safety and asset productivity. On the site consolidation front, our teams successfully concluded the transfer of the printers and photo research product lines into to our vision engineering and production component center in Syracuse, New York. These business lines were moved without significant interruption to the overall business. I'm furthermore pleased that our endoscopy visualization business has released five new products this quarter two of which I would like to highlight in this call. This product excite us and are a result of significant R&D investments in the last 18 months. First zero wire wireless technology is now available as an embedded receiver in our radiance ultra-displays further enhancing the critical workflow, safety and hygiene by eliminating video cables in the operator room, while providing uncompressed full HD video resolution in a medical complying matter. Second radiance ultra-true caller enabling the surgeon to see a broader more natural color range of anatomy that would resemble open surgical procedures. This is an exciting product which rivals 4K [indiscernible] performance with existing HD endoscopy camera platforms. We're still seeing a net decline year-over-year in the surgical business as the decline in legacy product is not yet compensated with growth and new products. Though with positive momentum from new products in the second half, we’re expecting this business is return to growth by the end of this year. And ramping up my section, we’re pleased by the 8% sequential revenue step up and we see the full year shaping up as we expected. We’re confident about our second half outlook and which we expect will help us deliver mid-single digit growth for the full year. We’re executing on design wins and our new product pipeline with initial revenue starting to contribute in the second half. Our 2015 acquisitions are performing well, our M&A pipeline is looking very strong and we expect to be able to close multiple deals this year. So with that, I will turn the call over to Robert to provide more details on the financial performance. Robert?

Thank you, Matthijs. We delivered 97.7 million in revenue in the second quarter of 2016, an increase of 1%. The impact of foreign currency on revenue in the quarter was neutral. Also note that the closer of radiology product line resulted in a $2.1 million decline in our revenue year over year. We did not restate our revenue for this product line closure. However organic growth which excludes the acquisitions and divestitures was flat year over year. Second quarter GAAP gross profit was $41.5 million or 44.5% of sales, up from 40.8% in the first quarter of 2016. On a non-GAAP basis, second quarter adjusted gross profit was $42.5 million or 43.5% of sales, compared to 39.5 million or 43.7% for the first quarter of 2016. Our gross margin performance in the second quarter was still impacted year over year by product line manufacturing transfers, recent acquisitions and to a lesser extent some unfavorable mix. The business is delivering as we expected, and we continue to remain confident and improving our adjusted gross margins roughly 100 basis points year-over-year for the full year of 2016. R&D expenses were $8 million or 8.2% of sales versus $7.8 million or 8% of sales in the prior year. R&D dropped as a percent of sales in the quarter compared to the first quarter we expect this to normalize back around 9% for the second half. SG&A expenses were $20.2 million or 20.7% of sales. This compared with $20.9 million or 21.7% of sales in the second quarter of 2015. GAAP operating income were 7.6 million in the second quarter of 2016 compared to 10.3 million of the second quarter of 2015, were as non-GAAP operating income was 14.3 million or 14.7% of sales compared to 13.8 million or 14.3% of sales in the prior year. As John mentioned the adjusted EBITDA was up 6% year-over-year at 17.3 million or 17.7% of sales in the quarter versus 16.3 million in the prior year. Interest expense in the quarter was 1.2 million whereas other income was approximately $300,000. As a reminder other income represents the minority interest then Laser Quantum. The Laser Quantum is ramping up production of a new products with a significant customer in the DNA sequencing market. As a consequence we expect the business to be relatively flat income wise for the second quarter through the reminder of the year. On the tax front, our GAAP tax rate was 33.9% were as on a non-GAAP tax basis our tax rate was closer to 33% and should remain on that level for the year. Our GAAP diluted earnings per share from continuing operations was $0.14 in the quarter compared to $0.56 in Q2 of 2015. The second quarter of 2015 did include a 19.6 million pre-tax gain from the sale of JK Lasers. Our adjusted earnings per share was $0.27 in the quarter or up 35% from $0.20 in the prior year. We ended the quarter with 34.9 million weighted average diluted shares outstanding after repurchasing $1.3 million worth of shares in the quarter through our 10-B5 share repurchase program. A highlight for us in the quarter was operating cash flow which is 15.5 million for the second quarter and 23.8 million for the first six months of 2016. This improvement was largely driven by a 10 day sequential improvement in our working capital days thanks to the increased focus on this area. Capital expenditures were 2.9 million in the quarter which continues to be dominated by investments in our ERP environment. At this point we have successfully implemented Oracle and our NDS, Synrad and Germany based operations and we are well on track to bring two more major sites under Oracle in the third quarter. This would bring more than two thirds of our revenue on to Oracle before yearend 2016. We completed the second quarter of 2016 with total debt of 86.5 million our net debt as of the end of the second quarter was 29.5 million despite spending 9.4 million for the acquisition of Reach Technologies. Finally, we entered into an agreement to sell our Chatsworth, California manufacturing facility in the quarter for approximately $3.4 million, which we expect to close in the third quarter. I'll also highlight that our 2016 restructuring program was substantially completed in the quarter in addition we increase the fair value of the revenue earn outs related to our acquisition of our promotion and Lincoln Laser by an aggregate of 1.4 million as these businesses are performing stronger than we originally estimated. And finally as you noticed on the May 19th we entered into a second amended and restated credit agreement that provides us with an aggregated credit facility of $300 million which will mature in 2021. The new credit facility also includes the option of an uncommitted accordion of $125 million. This provides the company with enough financial flexibility to execute on our acquisition goals we discussed in our five year strategic vision. For the third quarter of 2016 we expect GAAP revenue between 97 million and 98 million. In comparison to 92 million in GAAP revenue in the third quarter of 2015. This is despite having the overcome a loss of 2.6 million in revenue from the closure of our radiology product line in the third quarter. Regardless we expect the overall business to deliver mid-single digit organic growth in the quarter. We expect adjusted EPS to be in the range of $0.26 to $0.29 presuming no significant gains or losses from foreign exchange and flat sequentially income in our Laser Quantum minority interest. This EPS range compares to $0.24 in the third quarter of 2015. Finally, adjusted EBITDA is expected to be in the range of $17 million to $18 million. As we look for the full year 2016, we are well on track to delivering our previous issued guidance for the full year. This concludes our prepared remarks. We will now open the call up for questions.

[Operator Instructions]. Your first question comes from line of Lee Jagoda from CJS Securities. Your line is open.

So first and for the John, just want to say that it’s really been a pleasure over the years and just want you wish you the best.

Thanks very much, we will act in the same way.

So I’ll get to a couple of question. The first one on the industrial side of the business, you still are seeing some softness there, can you talk about the areas specifically you’re seeing that softness and what metrics you’re watching to for signs of recovery or even stabilization?

Hi Lee this is Matthijs how are you?

Good.

In our Laser group, we see some areas of softness in certain industrial segments, we don’t see it in all segments, but there are just certain segments that are more spotty then others. But what is more encouraging frankly is the sequential step up that we reported in the Laser group for example, in our business quite frankly. So Q1 of this year and Q4 of last year were particularly soft and we do see an encouraging step up this quarter and we’re seeing a further step up throughout the year, so that’s how you should look at it and that’s and -- that’s basically it.

Okay and then, just taking a step back more globally verses the year ago or eighteen months ago, how has your visibility or your confidence in putting up future organic revenue growth, how does it differ with regard to the number of new product you have and the number of new products that are actually going to go into production over the next year or year and half.

I mean our new product pipeline is improved substantially versus last year and you can kind of -- although it’s from a small base, you can kind of see that traction in the doubling of revenue from new products. And we need to remind you off course that a lot of the activity don’t see, because we’re getting designed in into equipment that done has, and other one to two to sometimes three years to bring to market. So the other important metric is really the design win ratios and also there we’re seeing a very solid year over year win rates and just an absolute dollar and absolute numbers, we see design winds increasing nicely. So those are the indicators we’re looking at and I would say we’re better shape than we were last year and yes.

Lee, one of the things like to say is, we live by our successes of the past and we live by our failures of the past and I still quite, John’s departure kind of represents that the Company is well positioned to live by its successes of the past. We’ve had a number of significant wins with new OEM customers, we’ve been very good at getting our new products out there and so it’s giving us greater confidence in the organic growth trajectory of the company. You saw that when John put out that five years strategic vision in the conference last year or earlier this year in January, where he said, we really see a path way to this company doubling in revenue. We would not have done that, if we do not feel confident about our organic growth so it’s really going to continue to improve not only this year, but into the future years.

And I know you've never given the number in the past but I have to at least try again. Can you quantify the amount of revenue from new products in the quarter?

Yes, really we don’t talk about it, is that historically it's just been embarrassing because it's kind of low. And so it's gotten to the point where it's starting to become a number that we can talk to but it’s not for the quarter. So I would say that we’re on a good path, you start hearing us talk about the incremental growth of new products and the percent of revenue that it represents as we enter the second half of this year. But it is something that we are pretty excited about because it somewhat shows the fruits of our labor and our R&D investments starting to pay off.

So, it's fair to say yes it's doubled but so far off of a pretty low base.

Yes, that correct.

Lee, its John just to add to this the discussion a little bit too. If you really go back to couple of years what do you see to JADAK is given you a bunch of growth now organically. Our promotion is giving you growth and you see a swapped out in some cases businesses like the scientific laser stuff, the semiconductor systems business that we’re on a negative slope. So, even though you have not that much more absolute revenue as you sit here, its profile is much better.

Okay, great. And I can either hop back in queue or keep going it's up to you.

You might as well ask your other questions.

If I'm looking at cash flow from operations it was pretty strong about 15 million. Is there anything seasonal or atypical about the number and then just can you talk a little bit about working capital needs for the balance of the year?

Yes there is nothing unusual with that what other than we were doing really poorly in the past and working capital management and we're really starting to make some strides there and we feel good about the progress to make to date [ph]. That is in order to keep that from falling back there is an awful lot of effort going into way to control that at this point in time and so we're not at the point where we feel we're out of the woods yet in terms of managing -- better managing our working capital which is specifically our inventory requirements, but we have dramatically improved it from where we stood just last year. So, I would say for the most, if you look at it from a Days perspective we’ll kind of hold that through the remainder of this year and then we’ll look for further improvements upon that as we get into 2017. We originally thought we would have operating cash flow somewhere around $40 million plus, we're on track to doing just have to delivering on what we just delivered.

Okay, and then looking at your CapEx I know there still be some ongoing ERP expense but do you have any guidance for CapEx for the full year?

Yes, we were initially kind of expecting something close to $6 million to $7 million in CapEx. We are pulling some activities ahead as a consequence of the progress that we've made there, so that could actually end up going a little bit higher this year it could be something closer to $7 million to $8 million. But we’ll only do that to the degree that we feel that we can successfully implement those ERP environments without having some sort of disruption. So we're controlling that very-very tightly, at this point I would say somewhere around the $7 million to $8 million range just to play it safe.

And then last one for me just in the radiology business that caused the $2.5 or $2.2 million year-over-year decline are you classifying that as a divestiture or is that just the organic decline that offset some of your organic growth?

So I did not adjust revenue for you are right, so that it didn’t decline it's just that that was the revenue in the prior year after we shut it down in the first quarter, right so. It’s from that prospective, we no longer have that product line and we no longer have that on a go forward basis.

So your non-GAAP organic revenue declines were impacted by that 2.2 million?

That’s right, at this point our GAAP revenue and non-GAAP revenue are the same. So those are impacted by that. I did not restate revenue because I know that kind of painful, for everybody to rework their model. The organic growth though to fair, the organic growth of 0% in the quarter backs out the radiology divestiture. The closure and so that organic growth would be net of any sort of acquisitions or divestitures and foreign exchange.

Okay perfect. Thank you.

[Operator Instructions] There are no further questions at this time.

Okay, thanks operator. So to summaries, I would say that our Q2 performance gives us confidence sort of reminder of 2016. We’re very pleased with the across the Board momentum in our Company and as the incoming CEO, I couldn’t have asked for a stronger foundation and I look forward to interacting with all of going forward. This is a great Company with an exceptional team and with the bright future ahead. We feel that our strategic direction with close to half of our revenue coming from medical markets, positions us well. We’re now entering the growth phrase in our transformational journey focused on multiple growth drivers. We have leading positions in secular growth markets. We’re expanding our served markets through innovation in M&A. We’re achieving deeper market penetration globally through a stronger and larger sales force. All of this while maintaining our commitment to disciplined execution and our continuous improvement business system. Our acquisition pipeline looks promising and we expect to be able to close multiple deals this year to further our growth strategies. So stay tuned for further developments on that front. We appreciate your interest in the Company and your participation in today’s call. I look forward to joining all of you in several months on our third quarter earnings call. Thank you very much, this call is not adjourned.

This concludes today’s conference. You may now disconnect.