Nortech Systems Incorporated (NSYS) Q1 2016 Earnings Report, Transcript and Summary

Greetings and welcome to the Nortech's First Quarter 2016 Conference Call. And at this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Paula Graff, CFO. Please go ahead Ma'am.

Thank you, and good morning. And welcome to Nortech Systems' first quarter 2016 conference call. I'm Paula Graff, Vice President and CFO, and with me is, Rich Wasielewski, Nortech's President and CEO. Following my introduction, Rich will offer comments on our fourth quarter results and current development in both our markets and industry. Then he'll open up the call for your questions. Before we begin, please be advised that the statements made during this call maybe forward-looking and are subject to risk factors and uncertainties. Please see the complete Safe Harbor statements in our press release and SEC filings. I will now turn the call over to Rich Wasielewski. Rich?

Thank you, Paula and good morning everyone. Yesterday we reported net sales of $29 million for the first quarter of 2016. With backlog ending at $20.2 million up 11% over the prior year and off 2% from the beginning of the quarter. Our medical customer's sales in the quarter rose 21% over the prior year to $11.7 million. Our recently acquired design engineering service revenue had another strong quarter billing $1.6 million. Accounting for over 50% of the increase. While other new customers and programs accounted for 25% of the increase and repeat customers also saw double digit growth. Our medical backlog increased from the prior year 45% and prior quarter 11% with the device-engineering backlog about $900,000 ours. Without the device this backlog increase over prior year would still be 25%. With the strong backlog and pipeline activities this trend should continue through 2016. We are now supporting a record number of design transfer projects moving into production in to the second half of the year. Our sales of Defense customers was $3.8 million in the quarter, an increase of $700,000 or 23% year-over-year. As a result of new customers and programs. Our 90 day backlog ended the quarter of 6% from the start of the quarter but it was at a $ 1.5 million compared to the prior year. Some of our large OEM defense customers have recently announced positive quarterly results aided by the stability in the defense industry. And this trend is showing up in our business as well. For us, stability is good given the past 7 years. Given the increased competition, reduced order quantities, reduced length of contracts have impacted this market and our customers. Our industrial customers were off 8% year-over-year again with mixed results with sub market sectors within the industrial market. Our 90 day industrial backlog at the end of the quarter was $6 million off 15% from the beginning of the quarter. The semi-conductor equipment business was 18% sequentially and 9% year-over-year. Our transportation customers was off 21% sequentially and 34% year ago. A large transportation customer recently announced their quarterly revenue was down 25% citing a very tough domestic market for locomotives. The continued depress of oil & gas industry in the lackluster U.S. growth of 1% also impacted our industrial customers. After signs of recovery in the market in 2015, these first quarter results have our attention. Our engagement, cross sale and high level assembly integrated strategy are in place and in our pipeline activity. We just need to close the deals and get help from the overall economy. Our quarterly margin improved 90 basis points of 11.7% of sales aided by volume, leveraging and our medical customer mix. The SG&A spending was flat with 2015 levels with the exception of expense related to the acquisition. Operating income was $221,000 for the first quarter, that's a positive sling forward from $23,000 last year's operating loss. We reported a profit of $0.02 per share, a 9% improvement for the loss and 2015 for the first quarter. On our liquidity, we generated positive operating cash flow of $1.3 million compared to using cash of $240,000 in the first quarter of last year. The $1.5 million in improvement comes from non-cash added, amortization, appreciation, timing of working capital and improvement of accounts receivable in our collection. Free cash flow was positive 500% in the quarter and for the trailing 12 months, free cash flow was $3.4 million for the last 12 months. We ended the quarter with $5.4 million available in our credit an improvement of $3.2 million at the end of the first quarter last year. Now I would like to yesterday's annual meeting for a few comments. We had the annual meeting here at our corporate headquarters in Maple Grove for the first time and it went well. The theme of the meeting was transition. We should how our EMF industry had evolved and how contract manufacturers like North Tech have transitioned and evolved from the ever changing landscape over the last 25 to 30 years. The evolution the EMF industry has its roots back in the early 80s where the OEMs began outsourcing their labor in consigning material. Then the move to turnkey the contract manufacturers taking on more the responsibility of materials and sourcing activities. In the late 90s and early 2000s the OEMs moved offshore before they discovered value of the CMs being the now subject matter experts in electronics and engineering. Since they have started moving back on shores in the past several years. And that has leveled the playing field. Today and into the future early engagement technology and innovation makes all the difference and is a game changer. The bottom line to success in our industry is to not be branded a commodity for either of our services or products but to get branded as a value solution provider. The relationships, the partnerships, the pricing probability are higher when customers see the real value. Our response has been to leverage what Nortech to cross sell services, leverage our technical expertise, improve our collaboration and efficiencies. We have made the ground work for engaging early for customer services to improve customer penetration with design solution and testing, quick turns and fueling. In our 2015 investments included acquiring a design engineering shop, increasing our global footprints, adding PC boards in Mexico and opening an Asia facility. These global additions will aid both our growth and cost strategy. It will improve our sourcing and material buys and will allow us to take advantage of market expansion of global customers as they move to a more regional business model. Lastly, our revenue mix the focus has shifted amongst our three key markets since 2008. We have more emphasis on the fastest growing medical markets which offers higher profitability and growth potential. In closing overall the first quarter delivered planned results and a foundation we can build on for the remainder of 2016. We expect some volatility by quarters and we need to absorb the startup costs for Asia in the first half of this year. Our order pipeline activity give us optimistic outlook for the remainder of 2016. Now we will turn the call over for questions. Operator, please open the line.

[Operator Instructions] And we will take our first question from Sheldon Grosky [ph]. Please go ahead.

Good morning everyone. What sort of growth rate do you think you might be able to get for revenue for the rest of the year?

Well the industry is talking about 3% to 6% depending on which markets, the markets which we serve are a little stronger, especially medical. I think they all anticipated better first quarter GDP, I think that's messing with our industrial customers so I would be online with last year, if I had to predict right now.

Say again?

I would say it would be right around last year's 3% if I had to predict something right now.

Thank you

We will take our next question from Mitch Omi. Please go ahead.

I am a relative new comer to your company. This is my second conference call and I am looking, so the device acquisition was maybe 9 months to a year ago?

Yes, third quarter

And I want to use that as a template to have you address sort of the contribution and the margin and the financing because as I look at this this was a $5 million acquisition of which several of that was financed with nodes which we have got ongoing costs of about $80,000 in debt for this and adding the increase in revenue coming out of that and looking at your historic margin, talk to me about the margins in that business because they are not broken out. And how that, does it pencil?

Yes, if you look at 10-Q there is a section that talks about what the proforma would have been. It shows what their performance in 2015 would have been worth about $0.02. I think we might be a little bit stronger with them except we are carrying about $46,000 per quarter so $0.02 would get you about $54,000 plus another $46,000 so it will get you in the $100,000 range roughly. Then you add on the accretiveness for production of what it leads to. Whether or not we will be getting the increases that we should in backlog, and all of medical the medical device business and the production business so you have to put a factor on that and we are tracking through that so that's more in the pipeline because the design comes first. We didn't expect to see that in the first 112 to 18 months so we will keep an eye on that and mention that in the call as we round that up, so good question Mitch. Right now it's accretive about $0.02 to $0.03 per share.

Going back I didn't see other acquisitions like this, I am seeing this as a one off opportunity at this time. Would you sort of agree with that or are there other acquisitions you see out there. I know you can't really tell me.

Going forward or past?

Going forward if part of your acquisition plan is to have sort of the repertoire you have in manufacturing and getting better at that.

We are always opportunistic with our acquisitions the strategically nice we acquired a company called Triberics in 2010 which is our FDA medical device production facility, that got us into this Medical FDA business as opposed to it before medical systems cables and so we knew that transaction from 2010 we were trying to build the design engineering in house. We looked at, we got into due diligence on the device this time so I think we will be more opportunistic now. It will be easier if we took five years to get a design engineering shop and get to this level we would be opportunistic if we see one and yes we still out there always looking more from an opportunistic standpoint and we would lead up from an engineering challenge. It is very difficult in this day to develop that within. We still do it but it's more evolution and this growth rates that we are seeing we need to be something differently, we just haven't evolved.

What is it you exactly have in Asia and what are you doing there?

Asia operation is right now a cable assembly house and its strategic need is to work with our global U.S. based companies. They are moving on, its regional manufacturing for regional sales and growth. That's kind of where our strategy is at today. Not a lot of shipments from Asia back to the United States. It should be incremental as we report it because it's for the region. So it's made in Asia for Asia consumption. Differently than they did with offshoring in the past where they came with their cost and labor. We are looking at it more on a value side and they like the value added on the engineering side that they don't get that type of technical expertise and we give them that support.

Was it driven by just one customer that you knew would give your business to go there or did you just?

A little bit of both. There's half a dozen customers that have been approaching and that's what made this attractive. I believe the evolution now is on shoring for item here and then when they take it there they feel more comfortable with a U.S. global customer is more customer with a U.S. based supplier. That's the market trend we are seeing.

Okay. My last question. Just given the magnitude of your operations and the size of the company, the ownership among shareholders, you are listed on the NASDAQ and as a result a lot of companies are finding 9 or 10 years later that the benefits that accrue from being listed at the NASDAQ have largely gone away for U.S. especially. Are you okay to have a book value? You have no institutional ownership, you have no analytical following and most companies think they can save $150,000 on the low end and as high as $350,000 to $400,000 with the accounting costs associated with being compliant. Have you considered that?

We haven't considered it over the counter. As far as that goes we like the transparency that NASDAQ gives us. We are dealing with probably 25 to 40 fortune 100 and 500 companies that see that transparency and see what NASDAQ gives us and I think those are the main reasons. The costs are now, I say if we start from scratch we would probably be more in your range. It's kind of routine now. It's also now whether with our leveraging with the banks they would require what most of banks does for us. We feel it gives us discipline for our audits whether it's for NASDAQ or SEC but the banks would require that same information. So you're correct there with the cost, I would say the cost is more opportunistic in it takes my time and my staff's time to deal with everything but it makes us a better company as well. So, I don't think it's something in the near future. It's always discussed because that's our job to see what's best and most cost effective.

Thank you very much

You bet Mitch. Have a great day.

[Operator Instructions]

If there are no further questions we will conclude this call. Thank you for your interest in North Tech and we look forward to updating you in the future. Have a great day.