Napco Security Technologies, Inc. (NSSC) Q2 2014 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the NAPCO Security Technologies Inc. 2014 second quarter financial results conference call. [Operator Instructions] I will now like to turn the conference over to Peter Seltzberg of Hayden IR. Please go ahead, sir.

Thank you. Good morning. Thank you all for joining us for today's conference call to discuss NAPCO's financial results for the second quarter ended December 31, 2013. By now, all of you should have had the opportunity to review the press release discussing the results. If you have not, please call our office, Hayden IR, at 646-419-4300, we'll immediately send it to you by either fax or e-mail. On the call today is Richard Soloway, President and Chairman of NAPCO Security Technologies; and Kevin Buchel, Senior VP of Operations and Finance. Before we begin, let me take a moment to read the forward-looking statement. This conference call may contain forward-looking statements that involve numerous risks and uncertainties. Actual results, performance or achievements may differ materially from those anticipated in such forward-looking statements as a result of certain factors, including those set forth in the company's filings with the SEC. With that out of the way, let me turn the call over now to Richard Soloway, Chairman and President of NAPCO. Dick, congratulations on another solid quarter. Please go ahead, sir.

Thank you, Peter. Good morning, everyone. Thank you for joining NAPCO's quarterly conference call to discuss the financial results for the three months and six months ending December 31, 2013. I am proud to report that the second quarter of fiscal 2014 was the strongest second quarter in five years in terms of revenue, adjusted EBITDA and net income. In addition, our six months year-over-year results were equally solid. These results also show sequential improvement from the fiscal 2014 first quarter in revenue, gross profit, operating income and net income. Our efforts to transition from a traditional security manufacturer to a company offering some of the most advanced technologies in the industries are helping us grow our revenue and market share. In addition, we have added recurring revenue to our revenue stream and this too is contributing to our growth. Our subscription based service product lines deliver recurring streams and continue to show significant and accelerating growth. These include our iBridge Connected Home, our iSee Video remote video products, and StarLink wireless communication product lines. Activations and market penetration continued to increase as consumer interest in broadband, internet space, remote control, home automation expands. Recurring revenue for the second quarter increased 115% and for the six months increased to 113%, and grew sequentially by 30%. Our top line results in both periods contributed favorably to the bottom line, demonstrating the strong business model we always speak about. Bottom line results were also favorably impacted by the continuing decrease in interest expense which resulted from lower interest rate and lower debt levels. These metrics are being driven by two catalysts in the market place which have only recently emerged and are still in the early adoption stage. One is the emergence of the connected home, the second is the urgent and escalating need for sophisticated school security systems to protect students and teachers, young and old, at educational facilities across our nation. Unfortunately, this is the result of the all too frequently occurring gun violence in schools, universities, colleges, and additionally public venues like government buildings and retail shopping malls. NAPCO has the products to make it safer and our Continental and Networx products are among the top choices for integrators to deploy and schools such as Notre Dame High School, Pepperdine University, the LA Unified School District, NYU, Columbia, Memphis City Schools and other schools and universities nationwide. Our focus over the last two years are diversifying our product line and developing sophisticated products that are scalable and interoperable to deliver a one-stop shopping experience for our dealers, has us well positioned to address these two compelling market drivers. The trend towards technology to facilitate a connected home is clear and NAPCO's comprehensive iBridge solution enables users to remotely manage thermostats, locks, lighting, video cameras, security systems and small appliances via most smartphones. Built on proprietary patented technology, iBridge is the most flexible, product rich home automation security systems suite of broadband-based connected home solutions on the market today. iBridge works with Wi-Fi, Z-Wave as well as wired and wireless tablets. The architecture of our iBridge system allows any components to communicate in real time with any other part of the system, making permutations of value to the consumer endless. Additionally, text, email and video notifications are sent to users notifying them of any important status conditions or events via free NAPCO proprietary apps when using a Smartphone, tablet or any available internet-connected PC. Most of these capabilities have been built in-house representing state-of-the-art proprietary technology that is unmatched by any of our competitors. Our iBridge system is the most is the most feature rich option in the connected home category when it comes to video. Our platform uses modern 4G connectivity delivering unrivalled ability to transmit, real time, high resolution and frame rate video consumers, anytime, anywhere to any internet enabled device. By contrast, most of NAPCO's competitors rely on limited bandwidth cellular networks and as a result are limited to distributing low quality, still snapshots rather than true video. The power of smartphones coupled with the power of networked devices will enable even more continence in the future. NAPCO's establishing leadership positions in this space and helping to drive the advancement in the technology. Our goal is to make our iBridge system compatible with many brands so it becomes universal Smartphone controller of choice in the home automation, remote control market place. As part of this initiative, we are establishing partnerships with adjacent in-the-home smart technology companies to accomplish this goal. The second catalyst, campus security, has become an urgent issue for every school, college, trade school and university. Educational facilities need to provide for secure classrooms, dorms, wings of schools, the entire school, or to offer pushbutton user-codes for every door instead of keys which often get lost and require locksmith intervention. What is needed to address the threats of escalating schools' and campus violence is this technology. NAPCO is the only company with an access controlled division making access control for buildings, a locking products division making both mechanical and electronic locking products, and an intrusion and fire systems division making both commercial and residential security systems. During Q2 we continued the execution of project LocDown, a cross-divisional initiative which uniquely positions Marks USA LocDown intruder locks, Alarm Lock's Networx wireless locks and Continental Access Control's card access systems in providing a totally integrated access control and locking solution, to address active shooter threats in the educational community. Additionally, our system has the ability to be added to other incumbent technologies and hardware that may already be in place at various campuses. Because our LocDown product is self contained and wireless, it installs quickly with no wiring required or damaged to walls. There is no re-plastering, re-painting necessary and no noise, so these products can be installed while the school is in session. We are seeing a strong acceleration in sales to the education vertical market. In addition, as we have mentioned in other calls, the company is taking a leadership role in the industry and has issued a white paper called School Access Control Vulnerability Index or SAVI, with an audit and certification process as a solution for escalating violence in schools and on campuses. Much like the creation of the transportation security administration to coordinate and identify air travel security concerns and address those threats with consistent, effective, evenly applied security solutions and procedures, our vision is to build a specialized national security association with members from educational organizations and security companies. We would establish an infrastructure whereby proven security solutions, knowledge and education will be made consistently available to all education institutions in need of them. We would also create a standardized approach for providing proven security systems and solutions to education facilities to control and limit access of potential mass shooting assailants. Our new sophisticated technology does require additional training and we have expanded our free training for residential and commercial classes' onsite and online to support our dealer integrated network as they sell and deliver our systems. We are already making progress in educating the dealer network and as the consumer demand for these connected solutions increases, our dealers are increasingly turning to NAPCO for solutions. Our sophisticated subscription based lines generate a recurring monthly revenue which also provides a powerful motivator for dealers and integrators to be trained in the technology and participate in the recurring monthly revenue as well. I would like to turn the call over Kevin to give a brief overview of the financial details. Kevin?

Thank you, Dick, and good morning everybody. Revenues for the three months ended December 31, 2013 increased 7% to $18.4 million compared to $17.2 million in the same period a year ago. For the six months, sales increased 10% to $35.6 million from $32.4 million in the same period a year ago. The increase in sales for the three and six months was primarily due to increased sales of the company's door locking products and access controlled products, as well as increased recurring revenue. Gross profit for the three months ended December 31, 2013 increase approximately 9% to $5.1 million or 27.7% of sales compared to $4.6 million or 27% of sales for the same period a year ago. Gross profits for the six months increased approximately 15% to $10.1 million or 28.4% of sales compared to $8.8 million or 27.1% of sales in the same period a year ago. The increase in gross profit for the three and six months was primarily due to the increased sales, a positive shift in product mix to higher margin product, and a reduction in research and development spending to bring our new products to the market faster. This also demonstrates the impact of increased recurring revenue as well as our overall efficiency as our sales volume increases. Selling, general and administrative expenses for the quarter increased $260,000 or 6% to $4.5 million or 24.8% of sales, compared to $4.3 million or 24.9% of sales for the same period last year. Selling, general and administrative expenses for the six months increased by $502,000 or approximately 6% to $9.3 million or 26.2% of sales compared to $8.8 million or 27.2% of sales a year ago. The increase in selling, general and administrative expenses for the three and six months was due primarily to additional sales personal which the decrease in SG&A as a percentage of sales was due to the increased sales level. Operating income for the quarter increased by $180,000 or 51% to $534,000 as compared to $354,000 for the same period a year ago. Operating income for the six months increased $841,000 to $796,000 from an operating loss of $45,000 in the same period a year ago. Interest expense for the quarter decreased by $31,000 or 22% to $110,000 as compared to $141,000 for the same period a year ago. Interest expense for the six months decreased by $87,000 or approximately 27% to $231,000 as compared to $318,000 for the same period a year ago. The decrease in interest expense for the three and six months of fiscal 2014 resulted from lower interest rates charged the company's bank as well as lower outstanding debt in the current period. Net income increased by $233,000 or 173% to $368,000 or $0.02 per diluted share as compared to $135,000 or $0.01 per diluted share for the same period last year. Net income for the six months increased by $790,000 to $491,000 or $0.03 per share, compared to a net loss of $299,000 or a $0.02 loss per diluted share for the same period last year. Adjusted EBITDA for the quarter as per the schedule included in today's press release, increased $194,000 or 23% to slightly over $1 million as compared to $843,000 last year. Adjusted EBITDA for the six months increased $836,000 or 90% to $1.8 million as compared to $929,000 for the same period a year ago. At December 31, 2013 the company had $3.4 million in cash and cash equivalents compared to $3.2 million at June 30, 2013. NAPCO had working capital of $30.8 million as compared to a working capital of $33.2 million at June 30, 2013. The current ratio was 4.8:1 as compared to 4.9:1 at June 30, 2013. Cash generated by operating activities for the six months increased $1.1 million or 37% to $4.1 million as compared to $3 million for the same six months period last year. In debt, net of cash has now been reduced by $26.2 million from $35.9 million to $9.7 million since we acquired Marks in August of '08. $3.5 million of this reduction occurred during the first half of this fiscal year. That concludes my formal remarks and I would now like to return the call back to Dick.

Thanks, Kevin. We continue our solid execution in the second fiscal quarter of 2014 and are confident this positions us well to achieve increased revenue and profitability as we go into the second half of our fiscal year, as historically our quarters get stronger as the fiscal year progresses. We have established a balanced portfolio to deliver sustainable growth and profitability with a diversified, sophisticated product platform encompassing end-to-end solutions that fit every budget level. Our expanding suite of products and services position us to meet the changing and heightened demand for security products both by consumers who increasingly recognize the benefit of monitoring and controlling their home systems from almost anywhere via their smart devices, which generates multiple, recurring monthly revenue for these services and through our long standing presence in the high gross margin commercial security products addressing rapidly growing sectors such as education. Again, the primary objective for 2014 and beyond is to continue to work aggressively to gain market penetration and increase market share throughout each of our divisions. We have committed to provide our customer base with most advanced and integrated technology to stay on the forefront of the security marketplace. As a last comment, I would like to reflect on two recent events. One was demonstrated by Google's $3.2 billion acquisition of Nest Labs, some of the largest companies in the world are participating in the connected home movement and NAPCO is part of this emerging and accelerating trend. The second event that many media reports from the recent consumer electronics show, CES in Las Vegas in January, discuss the trend known as the internet of things, IOT. This is the hot buzzword in the technology industry. According to a recent article in InformationWeek, Gartner, the leading technology information firm, defines the internet of things as a network of physical objects accessed through the internet that contains embedded technology to sense or interact with their internal states or external environment. More and more you are seeing machines and objects we interact with on a daily basis, connected to the internet. Make them either more useful, more user friendly or more profitable by sharing data with the developer of the product. From soda dispensers that alert the bottler when they are low on product to an alarm system you can arm and disarm with your iPhone, the internet of things is here to stay. Gartner believes organizations should seriously investigate and initiate pilot projects now to position themselves to exploit the coming opportunities. With our diversified, sophisticated product platform, NAPCO has already positioned itself in the IOT market and we expect to continue to exploit every possible opportunity going forward. We believe we are on the cutting edge of this trend with a platform that allows customers to do much more than any other provider, ranging from adjusting your home's temperature to turning lights on or off, to arming and disarming alarms and locking doors. Imagine being and work, when a delivery arrives you can disarm your alarm, open the garage to accept the delivery, watch the delivery take place then close the garage door and rearm your system. All from a Smartphone anywhere you are. With our platform this is possible today and you can imagine what will be possible in the future. Nest Labs secured a premium valuation from Google, as Google used this acquisition to enter the connected home space. We are excited to a leader in this space and you will hear us speaking more about the internet of things and the connected home on future calls. Again, we are in the very very beginning of the ball game here and we expect to get our share of this business as the market matures and the technology proliferates. Our goal for the rest of the calendar 2014 is to encourage more of our dealers to become experts in our connected home offerings and candidly, we have just begun to penetrate our dealer network with these advanced solutions. While there are some early adopters who are intrigued by and are quickly embracing these solutions, we do expect it to take time for this to become mainstream as, again, it does take some additional learning time and investment from dealers to commit to providing what we know their customers, particularly younger customers, will be demanding. As an industry leader we will be actively pushing adoption and educating the market. So far it's working and we see the numbers starting to grow. We are seeing a steady acceleration in activations and I believe this will become a powerful catalyst for our financial results in the future. This concludes our formal remarks. Kevin and I would like to open the call for questions. Operator, please proceed.

(Operator Instructions) And I am showing we have no questions at this time.

Okay. Thank you everyone for participating in today's conference call. As always, should you have any further questions, please feel free to call Hayden IR, Kevin or myself. We thank you for your interest and support and we look forward to speaking to all of you again in a few months to discuss NAPCO's fiscal third quarter 2014 results. Good bye and have a great day.

Ladies and gentlemen, this does conclude our conference for today. We thank you for your participation and you may now disconnect.