Novanta Inc. (NOVT) Q3 2016 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen. Welcome to the Novanta Third Quarter of 2016 Earnings Call. My name is Ronnie and I will be your conference operator today. 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. I would now like to turn the conference over to Robert Buckley, Chief Financial Officer. Please go ahead.

Thank you very much. Good afternoon and welcome to Novanta’s third quarter 2016 earnings conference call. I’m Robert Buckley, Chief Financial Officer of Novanta. With me on today’s call is Chief Executive Officer, Matthijs Glastra. If you’ve not received a copy of our earnings press release issued today, you may obtain it from the Investor Relations section of our website at www.novanta.com. Please note this call is being webcast live and will be archived on our website. Before we begin, we need to remind everyone of the Safe Harbor for forward-looking statements that we’ve 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 to 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. Now, I’m pleased to introduce Chief Executive Officer of Novanta, Matthijs Glastra.

Thank you, Robert. Good afternoon, everybody and welcome to our call. We're pleased with our third quarter results, as our team continued to execute well, despite the macroeconomic environment. Our business delivered 6% reported revenue growth and organic revenue growth accelerated to 4.4%, with strong operating cash flows and double digit growth in operating income. Our revenue was $97.8 million and our adjusted EBITDA, $17.8 million, both at the upper end of our guidance. In the third quarter, we recorded 11% year-over-year growth in adjusted EBITDA and 21% year-over-year growth in adjusted earnings per share. We believe that the strength of our team, our robust business model and diversified end markets and our increasing exposure to the medical market is serving us well in this modest growth environment. Our customer demand continued to be solid in the third quarter. Our JADAK data collection business and our Celera Motion business were strongest with double digit revenue growth in the quarter. Bookings performance was also solid with growth of 9% versus last year. This was our second quarter this year with bookings over $100 million. Our book-to-bill performance in the quarter was 1.03 and year-to-date, 1.07. Our backlog positions us well to execute on a sequentially higher revenue quarter in Q4 with broad based momentum across the company. You will hear more details on the quarter and the outlook from Robert, but the strong Q3 results positioned the company very well to execute on our full year guidance. Let me talk a little bit about what we're seeing in our core markets. The medical market was robust. Life sciences, clinical equipment, diabetes care and minimally invasive surgery segments are all doing well. Within the life sciences market, DNA sequencing is an attractive segment that is going to grow double-digit for the foreseeable future. We have an expanding position in that market. In our advanced industrial markets, we saw increased bookings and our growth there has been helped by new products and commercial execution. Strong applications for us in the third quarter were metrology, 3D printing and warehouse automation. Execution on leading growth indicators continued to be strong, driven by increased R&D and marketing and sales investments. Year-to-date, our design wins increased by 40% year-over-year and new product revenue increased by over 80% year-over-year. In addition, the team is executing well on productivity and we are on track to achieve our targeted productivity savings for the year, which is expected to be up over 40% versus last year. I would like to point out that we delivered at the upper end of our third quarter guidance, despite absorbing temporary manufacturing inefficiencies, as a result of an ERP implementation in our photonics business. The operation is back on track with gross margins returning to normal in that segment in the fourth quarter. Now, let me turn to our operating segments. Our precision motions segment delivered a stellar 14% year-over-year revenue growth and year-to-date book-to-bill of 1.08. The Apple Motion acquisition was one of the key drivers here, delivering double digit year-over-year revenue growth. We're very pleased with the Apple Motion team and the prospects of that product line. As we explained before, Celera Motion enjoys favorable macro turns for precise and dynamic motion control in automation, robotics, satellite communication and medical markets. The new Celera Motion products we reported on last quarter started shipping in the third quarter, which will help us to get into new market segments and offer increased content in our existing markets. Initial customer response has been very promising and with designing cycles of 12 months or more, we expect to see meaningful momentum in 2017. Turning to our photonics segment, which we renamed from laser products this quarter. We feel the new name captures a broader scope and better defines our current businesses and their opportunities going forward. Revenue growth was 5% year-over-year with year-to-date book-to-bill of 1.03. Though the overall industrial environment is not yet fully robust, we are executing well through new products and global expansion. In our Synrad business line, we saw year-over-year double digit bookings and revenue growth in medium power pull CO2 lasers, driven by new product introductions. Our Cambridge Technology beam delivery business was temporarily affected by the ERP implementation, but still recorded high single digit year-over-year revenue growth in revenue, primarily driven by our Lincoln Laser acquisition. Strategic growth execution in the photonics segment continues to be strong. Year-to-date design wins in that segment were up more than 35% year-over-year and new product revenue more than doubled year-over-year, a strong indication that our investments in innovation and commercial teams are starting to yield results. Applications that were strong were converting, 3D printing, mobile phone processing and micro machining. Turning to our vision segment now, which helps to reduce medical errors, improve workflow and patient outcomes in applications such as minimally invasive surgery, patient monitoring, life sciences and clinical lab equipment. Overall sentiment in the medical equipment and device market continued to improve. In the quarter, the vision segment returned back to revenue growth of 2% driven by JADAK. The JADAK data collection business delivered a strong double digit year-over-year revenue growth. In the third quarter, the overall book-to-bill in our vision segment was 1.12. Our Reach acquisition is performing ahead of our expectations in both revenue and profit contributions. The integration is going well and we are optimistic about the customer synergy opportunities with the rest of the Novanta businesses. Although we're still seeing a net decline year-over-year in the NDS endoscopic business line, we did achieve sequential revenue growth in this business, driven by new products launched earlier this year. We expect this business to launch 10 new products in 2016. These products excite us and are a result of significant R&D efforts over the last 18 months. In wrapping up my section, we're pleased with our organic revenue growth and profitability performance. We see the full year shaping up as we expected and are confident about our full year outlook, which we expect will deliver mid-single digit revenue growth for the full year. We're executing on design wins on our new product pipeline. Our 2015 and 2016 acquisitions are performing well. Our M&A pipeline continues to look strong and we expect to be able to sign multiple deals the coming months. So with that, I will turn the call over to Robert to provide more details on financial performance. Robert?

Thank you, Matthijs. Good afternoon, everyone. We deliver 97.8 million in revenue in the third quarter of 2016, an increase of 6%. The impact of foreign currency on revenue in the quarter was approximately 0.6 points, while acquisitions and divestitures contributed 2.2 points. Organic growth was a positive 4.4% year-over-year. Third quarter GAAP gross profit was 41.2 million or 42.1% of sales. This compared to 39.9 million or 43.3% margin in the third quarter of 2015. On a non-GAAP basis, the second quarter adjusted gross profit was 42.3 million or 43.3% of sales, compared to 41.1 million or 44.5% in the third quarter of 2015. The decline in gross margins year-over-year was driven by a drop in gross margins in our photonics segment in the quarter. This was driven predominantly by temporary manufacturing inefficiencies as a consequence of a three week production shortage from challenges within ERP implementation. We've now fully resolved this and expect our gross margins to recover in the fourth quarter. R&D expenses were 8 million or 8.1% of sales versus 7.7 million or 8.3% of sales in the prior year. SG&A expenses were 21 million or 21.4% of sales. This compares to 20 million or 21.7% of sales in the third quarter of 2015. The increase in SG&A dollars was driven primarily by 1.3 million of CEO transition related costs. GAAP operating income was 11 million in the third quarter of 2016 compared to 9 million in the third quarter of 2015 whereas non-GAAP operating income was 14.7 million or 15% of sales compared to 13.4 million or 14.6% of sales in the prior year. As Matthijs mentioned adjusted EBITDA was up nearly 11% year over year at 17.8 million or 18.2% of sales in the quarter versus 16 million in the prior year. Interest expense in the quarter was 1.1 million for the third quarter of 2016 versus 1.2 million in the prior year, the w8ed average interest rate on our senior credit facility is 3.5%. Other income was approximately $700,000 for the third quarter of 2016 versus $900,000 in the prior year. As a reminder other income represents a minority interest in Laser Quantum. On the tax front, our GAAP tax rate was 31.1% whereas on a non-GAAP basis, our tax rate was closer to 30%. For the full-year, we expect our non-GAAP tax rate to be around 32% in line with the prior guidance. Our GAAP diluted earnings per share from continuing operations was $0.21 in the quarter compared to $0.19 in the third quarter of 2015. Our adjusted earnings per share were $0.29 in the quarter, up from $0.24 in the prior year. The increase in adjusted earnings per share from the second quarter was driven by both stronger earnings and a slightly lower tax rate. We ended the quarter with 34.9 million w8ed average diluted shares outstanding after repurchasing approximately $300,000 worth in shares through our 10b5-1 share repurchase program. Turning to the balance sheet, our highlight for us so far in 2016 has been our strong operating cash flow, which was 10.9 million in the third quarter and 34.7 million in the first nine months of 2016. This compares to 25.5 million of operating cash flow in the first nine months of 2015. Capital expenditures were 1.7 million in the quarter which continues to be dominated by investments in our ERP environment. As mentioned previously, we implemented [indiscernible] [00:13:43] in our photonic segment in the quarter and at this stage one and two thirds of our revenue is now on a single ERP system. Our next implementation is currently planned to go live in January of 2017. We completed the third quarter of 2016 with total debt of 79.6 million and 64.7 million of cash and cash equivalents. Our net debt as we defined in our earnings press release, as of the end of the third quarter was 18.4 million. Over the course of a year, we acquired 109, 470 shares of Novanta under our 10b5 plan at an average price of just under $15. And our 10b5-1 share repurchase program was halted due to the higher stock price at this time. However, we still have more than $6 million remaining under authorization that we hope to take advantage of. We've also closed on the sale of our facility in Chatsworth, California for a net cash consideration of $3.4 million and for which we recognized a gain on sale of $1.6 million. This gain was recorded in restructuring, acquisition and divestiture related costs. For the full-year of 2016, we expect GAAP revenue between 384 million and 386 million in comparison to 374 million in GAAP revenue in 2015. As a reminder, the first quarter of 2015 included 5.7 million of revenue from the JK Laser business which we divested in early April of last year. Excluding this business, which did not qualified for discontinued operations treatment, revenue in 2015 was 368 million. Based on this full-year guidance, you can expect the fourth quarter to show 9% to 12% organic revenue growth in the quarter which we also define on our earnings press release. As I mentioned earlier, I expect gross margins to improve in the fourth quarter roughly 150 basis points sequentially now that the photonic’s ERP implementation is behind us. We expect full-year 2016 adjusted EPS to be in the range of $1 to $1.03 presuming no significant gain or losses from foreign currency. This EPS range compares to $0.93 in adjusted EPS in 2015. For the full year, we expect our non-GAAP tax rate to be around 32%, in line with the prior guidance, we also expect to end the year with 34.9 million weighted average diluted shares outstanding. Finally, adjusted EBITDA is expected to be in the range of 66 million to 68 million for 2016. And absent any acquisitions, our net debt will decline another $10 million. We are well on track to delivering our previously issued guidance for the full year, we are proud of our accomplishments year-to-date and expect to close the year strong, while we are currently not in a position to provide any forward looking financial forecasts related to 2017, you should expect us to provide this information in January. This concludes my prepared remarks. We’ll now open the call out for questions.

[Operator Instructions] Your first question comes from the line of Lee Jagoda.

If I look at your revenue and look at the new products as a percentage of that, if you could just give us your definition of how do you define a new product and then what percent of the revenue comes from those products today and maybe your expectation for that metric over time based on the backlog of product wins even though they haven't reached full production?

Yeah Lee, this is Matthijs. We're not splitting out or specifying a percentage of sales in NPI at this stage. The way we define it is, revenue from new products introduced in the last three years and we started this effort a good two years ago. So, the impact is still relatively modest but we're seeing as we reported good momentum and we think it’s irrelevant to report on that.

And then looking at the balance sheet, it obviously continues to strengthen and it would appear there's ample flexibility outside of acquisitions to return cash to shareholders and I know you mentioned that 10b5-1 was halted just due to the share price but are you comfortable at this point deploying cash in other ways while you wait for acquisitions to occur?

Normally I would answer yes, I think what we mentioned in the transcript a little bit was that we expect to be signing one or two deals within the next few months. And so as a consequence of that I think we see the use of that cash in the near term and so we’ll have to revisit that. If those don’t materialize, then I think we can get a little bit - we can change our strategy around that. But we feel pretty good about where things are at this stage.

[Operator Instructions] And there are no more questions at this time.

All right, so to summarize, I would say we're pleased with our solid organic growth profitability and operating cash flow performance in the third quarter. The diversity and strength of our businesses have served as well in this modest growth environment. We feel that our strategic direction with an increasing exposure for medical markets positions as well. The rebranding of our company to Novanta has been very well received by customers, employees and investors as it marks a new era for the company focused on growth. As discussed before, we're now entering the growth phase in our transformation journey focused on multiple growth drivers. We have leading positions in secular growth markets; we are expanding our served markets through innovation in M&A, with focus on expanding our medical presence. 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 is strong and we're able to - and we expect to be able to sign multiple deals in the coming months, so stay tuned for more 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 fourth quarter earnings call. Thank you very much and this call is now adjourned.

Thank you for participating in today's conference call, you may now disconnect your lines.