Northern Technologies International Corporation (NTIC) Q3 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen and welcome to the Northern Technologies International Corporation Third Quarter 2018 Earnings Conference Call and Webcast. [Operator Instructions] As a reminder, this conference call maybe recorded. As part of the discussion today, the representatives from NTIC will be making certain forward-looking statements regarding NTIC’s future financial and operating results as well as their business plans, objectives and expectations. Please be advised that these forward-looking statements are covered under the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 and that NTIC desires to avail itself of the protections of the Safe Harbor for these statements. Please also be advised that actual results could differ materially from those stated or implied by the forward-looking statements due to certain risks and uncertainties, including those described in NTIC’s most recent annual report on Form 10-K, subsequent quarterly reports on Form 10-Q, and recent press releases. Please read these reports and other future filings that NTIC will make with the SEC. NTIC disclaims any duty to update or revise its forward-looking statements. I would now like to introduce to your host for today’s conference, President and CEO, Mr. Patrick Lynch. Sir, you may begin.

Thank you. Good morning. I am Patrick Lynch, NTIC’s CEO and I am here with Matt Wolsfeld, NTIC’s CFO. Please note that our fiscal 2018 third quarter financial results were issued in the press release earlier this morning and this information is also available at ntic.com. During this call, we will review various key aspects of our fiscal 2018 third quarter financial results, give a brief business update, comment on our net sales and earnings guidance for the 2018 fiscal year, and then conclude with the question-and-answer session. NTIC continued to achieve strong financial results during the third quarter with net sales increasing over 26% along with net income attributable to NTIC growing by over 58%. In fact, with only three quarters of fiscal 2018 completed, total sales so far are only slightly below our total for all of last fiscal year. At the same time, diluted earnings per share are already significantly higher than the total we achieved last year. I am pleased to report our core ZERUST industrial solutions continue to gain market share as many of our joint venture partners around the world experienced record third quarter sales. Our emerging Natur-Tec business segment completed its fifth consecutive profitable quarter and NTIC China closed the quarter with significant year-over-year sales growth and its fourth consecutive quarter – fourth consecutive profitable quarter. We are encouraged by these successes and expect fiscal 2018 to be a record year for the company. So, with these highlight, let’s examine the drivers for the third quarter. Global demand remains strong for our core ZERUST industrial products and our Natur-Tec products continued to perform well. For the third quarter ended May 31, 2018, total consolidated net sales increased 26.4% to a quarterly record of $12.9 million as compared to the 3 months ended May 31, 2017. Growth was realized across all business segments, specifically ZERUST industrial net sales increased 24.8%, net sales from NTIC to its ZERUST joint ventures increased 2%, oil and gas sales increased 65.6% and the Natur-Tec sales increased 37%. Total sales by our joint ventures, which we do not consolidate in our financial statements, grew to $31.5 million for the fiscal 2018 third quarter compared to nearly $25.9 million for the same period last fiscal year. This 21.4% increase in the JV net sales was the result of improved global demand, increased market share and a stronger euro. We continue to proactively work with our JV partners and I am pleased with the progress we have made towards this improved performance. The growth in ZERUST industrial sales during the fiscal 2018 third quarter was due to higher sales of new and existing products to our core customer base as well as increased demand across a range of market sectors. Favorable trends within these market segments have continued thus far into the fiscal 2018 fourth quarter and we are optimistic these sectors will remain stable throughout the remainder of fiscal 2018 and into our fiscal 2019. Net sales by our wholly owned NTIC China subsidiary increased 69.4% to $2.9 million during the third quarter of fiscal 2018 compared to $1.7 million for the same period last fiscal year. Sequentially, NTIC China sales were slightly down primarily due to the expiration of a customer project. However, trends in China remains strong and we expect NTIC China sales to reaccelerate in the fourth quarter as we expect to continue to convert customers from our former JV as well as aggressively obtain new customers across market sectors. We remain confident that we can continue our sales opportunities as we expand our reach across China. As expected, oil and gas net sales improved over the past 3 months and for the third quarter of fiscal 2018 were up 65.6% compared to the same period last fiscal year. We continue to believe our oil and gas products provide compelling solutions within this large and growing industry. Sales trends within this category are expected to continue to improve in the coming quarters as a result of our growing number of projects advancing towards expected contracts. Specifically, fourth quarter oil and gas sales are expected to benefit from a new large order for pipeline corrosion control products. While this is largely a project-based order, we believe it validates the use of NTIC’s VCI technology to protect pipeline assets and represents another application within the significant oil and gas market for our products and services. Now, turning to our Natur-Tec Bioplastics business. For the fiscal 2018 third quarter, Natur-Tec sales were $2.5 million, an increase of 37% over the same period last fiscal year. Natur-Tec continues to achieve significant double-digit growth rates as a result of strong demand in North America through our expanding domestic distribution network as well as higher sales of finished products by NTIC’s majority-owned subsidiary in India. Looking at the fourth quarter and beyond, fiscal 2018 is shaping up to be a record year for the company and we believe it is just the beginning. Positive business momentum is a direct result of our increasing market share in our core ZERUST industrial business expanding our reach in the Chinese market, enhancing our offering of oil and gas products, and favorable market dynamics within our Natur-Tec business. As a result, we remain on track to achieve our fiscal 2019 goals of over $60 million in net sales and over $2 per diluted share in net income attributable to NTIC that we outlined more than 2 years ago. With this overview, let me now turn the call over to Matt Wolsfeld to summarize our financial results for the fiscal 2018 third quarter.

Thanks, Patrick. NTIC’s net sales increased 26.4% in fiscal 2018 third quarter as a result of higher sales across all of NTIC’s segments. ZERUST industrial corrosion inhibiting product sales grew 24.8% or by nearly $1.8 million, which includes the contribution of NTIC China. Fiscal 2018 third quarter sales also benefited from a 65.6% increase in oil and gas sales and a 37% increase in Natur-Tec sales. Higher sales and profitability across many of our joint ventures drove strong double-digit growth in joint venture operating income. Income from joint venture operations increased 20% for the fiscal 2018 third quarter compared to the corresponding period last year. Our total operating expenses increased 16.2% to $5.6 million during the fiscal 2018 third quarter, but decreased as a percentage of net sales to 43.6% compared to 47.4% the same period last fiscal year. The increase in operating expenses was primarily a result of higher selling, G&A and research and development expenses. However, higher sales allowed us to leverage the increase in operating expenses, which drove a 380 basis point reduction in operating expenses as a percent of net sales. Net income attributable to NTIC for the third quarter of fiscal 2018 increased 58.4% to $2.1 million or $0.46 per diluted share from $1.4 million or $0.30 per diluted share for the same period last fiscal year. As of May 31, 2018, working capital was $22.8 million, including $4.6 million in cash and cash equivalents and $3.3 million in available-for-sale securities compared to $21.2 million, including $6.4 million in cash and cash equivalents and $3.8 million in available-for-sale securities as of August 31, 2017. NTIC’s business model does not require significant additional capital and we expect our financial model will continue to produce strong operating cash flows. On May 31, 2018, the company had $22.4 million of investment in joint venture, of which approximately 56% or $12.5 million was in cash with the remaining balance invested mostly in working capital. During the fiscal 2018 second quarter, NTIC’s Board of Directors declared a quarterly cash dividend of $0.10 per common share that was payable on May 23, 2018 to shareholders of record on May 9, 2018. Turning now to NTIC’s annual guidance for the fiscal year ending August 31, 2018, we are increasing our expected annual net sales for the current fiscal year from between $48 million and $49 million to between $49.5 million and $50.5 million. We are also increasing our expectations for our annual net income attributable to NTIC. We are now expecting net income to be in the range of $6.7 million to $7 million or $1.43 to $1.48 per diluted share, which includes the $0.15 per share one-time charge associated with U.S. tax reform. This compares the previous earnings guidance of $6.5 million to $6.8 million or $1.40 to $1.45 per diluted share. These estimates are subject to significant risks and uncertainties, including those described in our forward-looking statements disclaimer in our earnings release. So as you can see, we are encouraged by our continued strong results. We have built the compelling platform to drive sustainable and profitable growth and we are excited by the direction that we are headed. With this, Patrick and I are happy to take your questions.

[Operator Instructions] And our first question comes from Tim Clarkson with Van Clemens & Company. Your line is now open.

Hey, guys. Outstanding quarter. I was a very surprised at how good the last quarter was and this one is even better. So that’s really good. Just two background questions. On this pipeline deal, you guys have always told me that you don’t have any applications in pipeline, so what’s this new application, is it inside the pipeline or is it has to do with the components of the pipeline or how does it work?

It’s inside the pipeline. And right now, we are not really discussing further details.

Obviously, it could be very big though, right?

Well, when you are thinking pipelines, we like to think big.

Yes. Okay, another area that potentially could [beat the egg] [ph] on this – this whole big area with compostable products, what’s the potential of being able to , for example, to make a compostable straw?

Excellent question. One of the applications of one or more of our resin compound formulations is specifically for that application. We are already supplying various straw manufacturers in Southeast Asia with that formulation for supply and we expect that demand to grow given the current trend that everybody is asking for. We believe that our formulation makes a better straw than competitive alternatives and so we are confident that, that business should grow nicely.

Yes. I would like to see news release on that. Otherwise, everything is good. I will let it go to other people. Thanks.

Thanks.

Thank you. [Operator Instructions] Our next question comes from Scott Billeadeau with Walrus Partners. Your line is now open.

Hi, guys. I was going to inquire a little bit about the pipeline as well, but as you mentioned, you are not talking too much about that. I guess the second thing is just on the JV net income, I think you mentioned $31 million of gross sales. Matt, I am not sure if that’s the right number and just give me a sense is that the highest that it’s ever been in terms of JV total sales, maybe give a little update on that?

Yes, that is the case that it’s the highest level of JV sales and then also combining all subsidiaries the highest level of total company-wide sales if they were to all be consolidated.

Yes. And then do you have a sense for based on those sales and kind of what’s flowing through to you, are those businesses all running at kind of optimum margin levels or maybe if you can give us – since we only really get the net income [on that growth] [ph], it’s been hard to tell what’s going on at each business level, but can you give us maybe a little overview of where they are? Do they need to make some investments, just kind of a little picture of those businesses if you could?

Sure. From a JV standpoint, the JVs operate with a very similar structure to what we operate with in North America and margins that we see here are consistent with the margins that the lot of the JVs are getting around the world, I would say that our North American operations are probably right in the middle from an average margin standpoint. As we have kind of previously commented, the margins from our Natur-Tec product line are slightly lower than what we have from the traditional ZERUST business and the margins that we see from the oil and gas business tend to be higher than what we have received from the traditional ZERUST business. So it gives us a little bit of gross margin percent volatility from quarter-to-quarter basis depending on the different make-ups of the sales in cost of goods. But in general, we haven’t seen any significant deterioration in the margin and certainly in North America and also with the various joint ventures we do a lot of work to make sure that we are purchasing the product at a favorable price, so that we are able to maintain the profitability of the product.

Great, thanks. Just one last question, in terms of – on the oil and gas business, the classic – the way you have been doing the tank [indiscernible], do you have much visibility or as you look forward, I know there is a seasonality to it somewhat based on the winter and so forth. So, this would be peak times I guess or maybe you will start to grow through seasonality, maybe give a little bit – do you have some decent visibility on that as projects you kind of get the projects, but the customers – it’s kind of up to the customer to execute?

I think there is certainly some seasonality, especially in North America or specifically when you get up into Canada. We have had projects that have been up in the Alberta area and obviously they are not doing as much work outside when it’s 20 below zero. However, we do have a lot of business that is in India and down in Texas, Oklahoma these different areas where we are not going to see the seasonality. I mean, I can say that right now we are starting with such a low base of sales in our oil and gas – in the oil and gas department that I don’t think the seasonality that we see from the weather has as much of an impact as just adding new customers on a quarter-by-quarter basis. It’s part of the reason why we are happy that what we expect to have in sales in fourth quarter in oil and gas to significantly surpass what we had in third quarter, first quarter, second quarter or third quarter, fourth quarter sales are expected to be dramatically higher. Again, that’s from adding customers and it doesn’t really have an impact from the seasonality. So, our main focus is obviously just to continue to bring along new customers and then to have a higher level of base business for oil and gas and with the projects that we have in the pipeline, we certainly think that we are going to do that.

Great. Thanks, guys. Great quarter. Appreciate it.

Yes.

Thank you. And I am not showing any further questions at this time. I would now like to turn the call back over to Patrick Lynch for any further remarks. And I do apologize we have a question from Jerry Well, a Private Investor. Your line is now open.

Sorry about that guys. So, congratulations, all your hard work and diligence paying off good to see. Just two quick questions. One is what are you seeing or anticipating if anything from all of the trade war talk and tariffs and so forth? Do you see any – and it’s new line also you might not have formulated opinions, but I wanted to get your opinion you are closer to it than I am? And the second question relates to if there has been any more dialog about going back to look at that stock split to create little more liquidity in the stock?

Okay, thanks Jerry. Let me try and answer part of your question and then maybe Matt will take the other half. Regarding the current prospect of the trade war and tariffs on a business by business basis, as far as the ZERUST business goes, we don’t anticipate too much of an impact at least at this stage. There are not a lot of exports of metal parts from the United States to China from our customers. And the other way around, there are not that many exports from China to the United States either. Most of our – but I guess the vast majority of our Chinese customers at this point are using our products for either domestic use or export to other regions rather than the United States. So that’s the ZERUST business. Regarding Natur-Tec, if the next round of tariffs that’s set for August goes into effect that will impact some of our products purchases from China being imported into United States, it would impact our cost of goods sold by I guess about 10% in that respect. We don’t think that will necessarily hurt our top line sales, but it certainly would impact the profitability of the business for a period of time. And for right now we don’t anticipate any effect on the oil and gas business. And as for the stock split, Matt will be happy to?

Yes, Jerry. As far as the stock split goes, for the most part, any plans to do any kind of a stock split are going to be tabled until the annual – at least the annual shareholders meeting that’s going to take place next January and then we will reevaluate it at that time, but it’s certainly something that is being looked at by our Board of Directors, but nothing is going to happen until after the January meeting.

Alright. Thanks, guys. Congratulations again.

Yes.

Thank you. And our next question comes from Charlie Pine with Van Clemens & Company. Your line is now open.

Hi, congratulations, fellas, for the really great quarter. I would like to just ask some of this stuff has been actually addressed, but I would like to circle back to your discussion on the compostable straw that you apparently do have a prototype for or a formulation for, when is this – when could this be potentially a commercially viable product for Natur-Tec?

Okay. First of all, it is a commercially viable product. In that, we are already supplying our resin formulations to straw manufacturers. Natur-Tec itself will not be selling these straws. We are only supplying the raw materials to have those straws made and we are supplying several large straw manufacturers in Southeast Asia and we are in discussions with other straw manufacturers to also adopt this in the near future.

Okay, thank you for clarifying that. How does your – along the lines of – to ask something further along the lines of your formulation, how does it stack up against what else is in the market on a competitive basis as far as other compostable straws that we are beginning to see out when you are out and about consuming beverages?

Well, I can’t speak to entire market, it is my understanding that our resin formulation allows straws to be manufactured more easily and that they also have greater mechanical strength, so they will be easier to use by the consumer and easy to manufacture by the producers.

Okay. And lastly then – and how you think you did that it stacks up on a cost basis compared to other makers of compostable straws?

I am guessing that we are competitive.

Okay. And the last thing would be just to maybe ask just another different angle on the oil and gas business was the business that you are getting so far in the quarter in this just completed quarter, was that primarily business for storage tank bottoms?

Yes.

Alright. And the higher orders that you are talking about having business coming to you in Q4 is a lot of that going to be attributable to this new pipeline solution or is it going to be…

There will be a significant impact due to the pipeline, but we will also continue to be getting orders for storage tank bottoms.

Okay, alright. Well, thanks very much, Pat and Matt, thanks and appreciate the hard work and it was a great quarter and it looks like it’s going to – you are going to finish off of a really fantastic year?

Great. Thank you.

Thank you. And our next question comes from Greg Weaver with Invicta Capital. Your line is now open.

Good morning, gentlemen. Nice job. And just I know you don’t want to give most details on the pipeline, congrats on landing that. But is this in your opinion the same customer has the follow-on potentially in the following quarter or two or this is kind of a one-shot deal for now?

Well, first of all, it’s a return customer that has bought storage tank solutions from us in the past. And as the need for pipelines continues to expand, we expect this will be a repeat order, not necessarily on a regular basis, but somewhat periodically as new pipelines are put in place.

Okay.

The majority of the revenue from this project is depending on – it’s been shipped out, that the products being shipped out in three stages, majority of the product should be shipped in fourth quarter with potential for the last third to go in, in first quarter. The issue has been with a lot of the oil and gas customers it tends to be little bit volatile from the standpoint of their larger one-time orders. So, you can have a one quarter where it’s very low and then the next quarter where you are going to have significant revenues from it. There certainly are follow-up opportunities as Patrick mentioned with this specific customer and this specific pipeline opportunity.

Okay, that’s helpful. Thanks, Matt. And any sense of the magnitude here you have done $1.4 million year-to-date in oil and gas, any sizing relative to that for this order?

We did. I mean, in looking at oil and gas we did about, I want to say about $550,000 in first quarter, about $580,000 in second quarter and again about $550,000 in third quarter. Our expectations are that fourth quarter should be double what we saw in third quarter. And then as also beyond just this one pipeline project, there is other projects that are starting to look like they are finally coming to fruition. So we certainly hope that we are starting to see the oil and gas business take off a little bit. But as we have seen in the past and obviously you have seen Greg from knowing the company for a long time, it’s been a long time coming and we don’t want to get ahead of ourselves of saying that we are finally seeing the success of oil and gas, but it’s possible.

Alright, okay. Yes, that sounds good. And just on that gross margin front there obviously adding this incremental business, I have been trying to figure out the math, but that should help you a little bit sequentially on margins?

Yes, it would.

Okay, thank you. Good luck on landing more oil and gas business. Thank you.

Great.

Thank you. And our next question comes from Kevin Clark with Heartland Advisors. Your line is now open.

Yes, good morning gentlemen. Congratulations on a nice quarter. Back to Natur-Tec and the straw thing, I mean I imagine this is going to spread to plate ware, plastic silverware and that you obviously have – your products going to be used in. Do you also use it in soda bottles I am thinking about Diet Pepsi bottles and that type of stuff? And secondly, the 37% growth rate last quarter, a $10 million run-rate for Natur-Tec, has there ever been any discussion or would you ever consider spinning Natur-Tec out as a separately traded company?

So first of all, the soda bottle application is a completely different requirement in terms of performance and so. So we are not addressing that at this point. So the straws is one thing, soda bottles is a completely different application so and we are not currently working on that. And regarding the spinning off the company as a separate entity, we will have to look at that in the future as the opportunities present themselves.

Okay, alright. Thank you.

Thank you. And I am not showing any further questions at this time. I would now like to turn the call back over to Patrick Lynch for any closing remarks.

I would like to thank everyone for participating today and for your interest in NTIC. Have a nice day.

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude today’s program and you may all disconnect. Everyone have a wonderful day.