NVE Corporation (NVEC) Q1 2017 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the NVE Conference Call and First Quarter Results. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to introduce your host for today’s conference Mr. Dan Baker, President and CEO. Mr. Baker, you may begin.

Good afternoon, and welcome to our conference call for the quarter ended June 30, 2016 which was the first quarter of fiscal 2017. As always, I am joined by Curt Reynders, our Chief Financial Officer. This call is being webcast live and being recorded. A replay will be available through our website, nve.com. After my opening comments, Curt will present a financial review of the quarter and year, I'll cover business and governance items and we'll open the call to questions. We issued our press release and filed our Quarterly Report on Form 10-Q in the past hour following the close of market. Links to documents are available through the SEC's website, our website nve.com and on twitter.com/nvecorporation. Comments we may make that relate to future plans, events, financial results or performance are forward-looking statements that are subject to certain risks and uncertainties, including, among others, such factors as uncertainties related to future revenue, risks related to our reliance on several large customers for a significant percentage of revenue, uncertainties related to future dividends, as well as the risk factors listed from time-to-time in our filings with the SEC, including our Annual Report on Form 10-K for the fiscal year ended March 31, 2016. The company undertakes no obligation to update forward-looking statements we may make. We're pleased to report sequential increases and product sales total revenue and net income and a $1 a share dividend. Now I’ll ask Curt to cover details of our financial results.

Thanks, Dan. As Dan said, for the first quarter of fiscal 2017 compared to immediately prior quarter, product sales increased 12% sequentially, total revenue increased 10% and net income increased 20%. These were our second consecutive quarterly – sequential quarterly increases in product sales, total revenue and net income. Turning to the year-over-year comparisons, total revenue decreased 19% to $6.71 million from the prior year quarter. The decrease was due to a 24% decrease in product sales partially offset by a 46% increase in contract research and development revenue. The decrease in product sales from the prior year quarter was due to decrease purchase volume by existing customers. The increase in R&D revenue was due to new contracts and contract activities. Gross margin was 79% of revenue compared to 76% last year due to increased gross profit margins on both product sales and contract research and development. Total expenses decreased 1% for the first quarter of fiscal 2017 compared to the prior year quarter due to a 20% decrease in selling, general and administrative expense partially offset by an 11% increase in R&D expense. The decrease in SG&A was primarily due to decreased sales commissions with the decreased product sales. The large increase in R&D expense in the quarter was due to new projects including developing Internet-of-Things end node sensors that are key to our growth strategy. Interest income decreased 10% for the first quarter due to a decrease in the average interest rates on our marketable securities. Income before taxes which is operating income plus interest income was $4.61 million for the quarter and pretax margin was 69%. After taxes, net income for the first quarter was $3.13 million or $0.65 per diluted share compared to $3.8 million or $0.78 last year. Net margin for the quarter was 47%. Our financial metrics continue to be best in class. According to data published in the past quarter, NVE has the highest return on revenue of the Star Tribune 100 list of the largest Minnesota based public companies. A strong bond market help generate a $226,000 unrealized gain for marketable securities driving our reported comprehensive income which is net income plus unrealized gains to$3.36 million for the quarter. We did not have significant fixed asset purchases in the quarter and we currently expect fixed asset purchases for the fiscal year to be less than the $287,000 we spent last year. Free cash flow which is net cash provided by operating activities plus fixed asset purchases was $4.19 million in the quarter. Free cash flow is typically higher compared to net income in the first quarter than in other quarters because we have no estimated income tax payments due. We have two tax payments due this quarter. We’re pleased to announce that our board declared another quarterly dividend of $1 per share or approximately $4.84 million payable on or about August 31 to shareholders of record as of August 1. Now I’ll turn it over to Dan for his perspective on our business. Dan?

Thanks, Curt. I’ll cover new products, patents, tradeshows, contracts and governance. Our near-term growth strategy centers on products for the Internet-of-Things. We recent introduced a new ultra low power Tunneling Magneto Resistance or TMR angle sensor, typical applications include connecting motors to the Internet-of-Things for smart energy management. We demonstrated earlier parts by powering them from a cherry tomato. The new parts are even lower power, and we recently posted a demo of the new part powered by a blueberry or even a zontik current. Our engineers suggested the demo pointing out that you can’t get much current from a current. The new sensor can run years on a single button cell or on scan harvested power. The demonstration is on our YouTube channel at youtube.com/nvecorporation. The ingenuity of our scientists and engineers is one of NVE’s greatest assets and we continue to develop new TMR and other Spintronic innovations. In the past quarter, we were granted a patent titled Low Hysteresis High Sensitivity Magnetic Field Sensor. The invention relates to tunneling magneto resistance which is an especially power efficient Spintronic effect as validated by the new product that I just talked about. We typically issue information bulletins when patents are granted, you can subscribe to these email alerts from our investor events webpage or you can follow us on twitter.com/nvecorporation. We participated in three important tradeshows in the past quarter in cooperation with our distributors; Power Conversion and Intelligent Motion Europe and SENSOR+TEST Measurements, they're both in Germany; and the Embedded Systems Expo in Japan. Reports from the shows were positive and our live demonstrations were especially popular. You can see the demonstrations on our YouTube tradeshows playlist. In the past quarter we extended our supplier partnering agreement with St. Jude Medical through January 1, 2021 as we discussed in our last call. The agreement is with a subsidiary that is one of the world’s leading suppliers of implantable pacemakers and implantable cardioverter defibrillators. We filed the agreement with the SEC and it’s available on the SEC’s website or via our website. As we’ve said before, contract R&D supports our long-term growth strategy with bold new ideas such as biosensors. In the past quarter, we were recommended to receive a Phase II biosensor grant from the U.S. Department of Agriculture for a high throughput salmonella detector. The contract would be approximately $600,000 over two years. The recommendations is not a guarantee and award but – and we’ve not been officially notified by the agencies Award Management Division of an award but we are pleased with the positive reviews and are optimistic we’ll receive the award. The project will focus on detecting salmonella in industry relevant large samples. The goal is to dramatically improve food safety and the objective of this phase is develop commercial systems. This grant is a follow-on to a successful Phase I project that demonstrated the feasibility of detecting salmonella faster, at lower cost and with comparable accuracy to existing methods. The term of the Phase I project was from June 2015 to June 2016. The grants are awarded by the USDA’s National Institute of Food and Agriculture NIFA. NIFA investments seek to make “transformative discoveries that solves the sidle challenges.” Our proposal was recommended following review by a panel of external experts. Criteria included the degree to which the Phase I objectives were met and potential commercial applications. Our team presented our previous results at a conference earlier in the year and the summary is posted on our R&D papers and presentations webpage. Also in the past quarter, we were selected for a contract from the U.S. Army in cooperation with Oregon State University for a Monolithic Spin-Torque Microwave Diode Spectrograph. Spin torque is a type of Spintronics that changes the spin of electrons directly within electrical current rather than an induced magnetic field. The award is expected to be approximately $150,000 and awards are to be made pending completion of successful negotiations and availability of government fiscal 2016 funds. The army has said it intends to make awards no later than late October. In addition to defense applications, the spin torque technology could lead to an order of magnitude increase in coupler speed, perhaps to as much as a gigabar or a billion bits of information per second. This could support emerging Internet-of-Things applications such as remote video monitoring. Spin torque also has the potential to dramatically improve the efficiency of Spintronic memory often called, MRAM. Finally, I’ll cover some governance items. We are pleased to note that institutional shareholder services has reviewed our recent 10-K and proxy statement and has assigned NVE their best governance score 1, indicating we’re in the top 10% of public companies. Our annual meeting has been scheduled for August 4 here in Eden, Prairie. The materials are proxy statement, letter to shareholders and annual report on Form 10-K have been filed with the SEC and are available from the investors section of our website. There are three items on the annual meeting formal agenda to elect directors, advisory approval of the compensation of our named executive officers and third, to ratify the selection of our independent registered public accounting firm. For good corporate practice, our entire board of directors stands for election every year and we’re fortunate to have an exceptionally experienced and accomplished board. The second annual meeting agenda item is approval of officer compensation, some of our compensation dos and don’ts from our proxy, we don’t overpay, we don’t unduly delude our shareholders, we don’t have executive perks or golden parachutes. As far as the dos, our named executive officers do have skin in the game and we do align any old compensation with performance. The third item of business at the annual meeting will be to ratify the selection of our independent registered public accounting firm for the fiscal year. Grant Thornton our past three year’s financials and we recommend our shareholders ratify their selection. Our annual meetings are generally well attended and we look forward to seeing many of you there. Our meetings follow themes and this year we’ll focus on the Olympics and the Internet-of-Things complete with live product demonstrations of Spintronics strength and endurance. Now I’d like to open the call for questions. Daniel?

Thank you. [Operator Instructions] And our first question comes from Charles Haff from Craig Hallum. Your line is open.

Hi, thanks for taking my questions. Can you hear me okay?

Yeah. Hi, Charles.

Hi there. So, first question on gross margin, I didn’t quite understand your answer on that, sorry I was jumping between another call as well but can you just describe to that the gross margin results in a little more detail for us?

Yeah. Compared to last year our gross margin was 79% versus 76% and that was due to better gross margins on our product sales related to the mix of product sales as well as better gross margins on our contract research and development contracts.

Okay. Yeah, because typically I think I’ve heard you say that when you had more contract R&D that put some pressure on gross margin, correct me if I’m wrong there, and obviously you had much higher contract R&D this quarter versus a year ago. So I guess that mix in the product sales side really benefited gross margin and if that’s correct, can you kind of spike out any details there?

I think it’s really a combination when you compare to the prior year – our margins on the contract research and development can fluctuate significantly depending on the amount of work that goes into the various R&D projects. And the product sales typically some of the medical products are higher margin than industrial products, so depending on what the mix is there that would affect the margins.

Okay. So should we imply then maybe the semi-conductor or the tech part of your business may didn’t grow as fast as the medical part of your business this quarter?

I don’t know if that’s necessarily the case or not compared to last year. Compared to last year the medical business was down a little bit.

Okay, fair enough. And then Dan, great news about the pathogen detection in the Phase II grant and moving to the commercial applications now. Can you kind of describe to us what you’re thinking about is going to be the game plan here, what’s it going to involve, is it still involve the University of Minnesota or do you guys do things on your own at this point with Phase II, maybe just kind of describe to us what the game plan is if you have anything sketched out so far?

Well we do, and in fact we made a very detailed – our team made a very detailed proposal to the USDA and to NIFA. And as I mentioned in the prepared remarks, it was independently reviewed by panel of external experts and they go over these plans with the fine tooth column. So, we have detailed plans and schedules. The overall goal is to ramp up the feasibility that we showed in the Phase I to industry relevant samples, large samples, large flow rates that can be applicable to wholesale food production. And in particular we’re looking at the possibility of packaged produce which is particularly vulnerable to salmonella because package produce is often used on cooked and it can’t be sterilized or pasteurized as other foods candy. So it’s vulnerable to infection and it can be exposed to salmonella when it’s being harvested and in number of places. So our goals are to increase the capacity of our system to handle very large flow rates and to scale up the system and to move to a commercially viable system. So that’s the goal of the Phase II, we’ll continue to work with the University of Minnesota and the University of Florida which were our partners on the Phase I in order to fill in some of the technology where they have expertise and those would be Nanobeads, the Aptamers which are the artificial antibodies if you will that are used the biological part of detecting the salmonella. And then for the actual detection and testing of the system we don’t handle salmonella here, you visited us and you’ll be pleased to know that we aren’t set up with the bio safety and bio hazard, so that’ll be tested at the University of Minnesota in Minneapolis.

Okay. And then do you have NVE staff that will work on driving this project forward or are you kind of be holding to the timelines of the universities that you’re working with you?

We have staff and the project manager, the principle investigator is Maria Torija whose is a very talented physicist and has managed major projects before. She is extremely capable. We are dependent to a certain extent on our university partners but they’ve been very good partners. And we have frequent project meetings as you would expect on an important project and we’re all pulling for the same goal which is to fulfill that mission of transformative discoveries that solve societal challenges.

Okay. And I don’t want to be too pie in the sky here but it seems to me like this could be billions of dollars of total addressable market. If you can come up with the solution that is commercially viable, is that kind of the scale that you see this project being if it is successful or is it something less than that because there are some limiting factors or maybe it’s just going to be confined the produce or other factors?

It’s a very large addressable market. Now we’re – as I mentioned, we’re going to be targeting sub markets initially and commercialization with likely rollout with successful, we’d be rolling it out with particular food producers and then expanding but it does have some great potential. There are risks involved of course, but we feel that it’s well worth of risks and it’s an opportunity to truly revolutionize the market. The other end market that we talked about for the technology is for medical diagnostics. We’re initially focusing on food safety because it involves one particular species or can involve one particular species, in this case salmonella. And because the regulatory hurdles are not quite as high as they are for some medical diagnostic markets, but we still see that as a potential market also.

Okay. Well sorry to keep pasturing you with these questions but we haven’t seen a market opportunity this apparent of this size for a while from your company, so maybe I could just ask a couple of more here. So the two year timeline that you’re outlining, without – I realize you don’t want to get into your detailed project plans and things like that but what are some of the major milestones that you have kind of outlined, are you going to be sharing updates with investors or are you guys going to be radio silent for two years and then we’ll just find out at the very end, kind of what are the major milestones if you’re willing to share them? And how will those milestones be communicated with updates for investors?

Right. Well we would hope that we could give some updates, maybe not every quarter or every conference call but we would hope that we’d be able to provide updates. Our staff also presents papers at conferences, we post those on our website, there are some on there now and we – there may be more of those. And there are intermediate milestones that relate to developing the Nanobead, Aptamer compliment with some of the microfluidics and the interface of the high flow fluidics to the microfluidics. And I guess a lot of that gets to be inside baseball. But our goal at the end of this is to have a prototype that can be tested in a commercial environment and to provide a clear pathway towards commercialization. So that’s an important goal and our team is committed to success and they’ve been successful so far with the USDA Phase I and within NSF Phase I that was prior to that.

Okay. So you mentioned the publications, so we could see interim publications of the Phase II data or poster presentations at industry conferences before the completion of the Phase II in a couple of years, is that what you’re telling us?

We could, yes, that’s hard to predict that but we do publish things. And if they’re in the – if there is a paper or something that’s in the public domain we’ll post it to our website, we do recognize that a lot of our investors aren’t going to make it some of these conferences. So for example we have a paper that we publish – an abstract of a paper that we published on our preliminary results it’s on our website that was published from a conference in January. And there are updates or additional conferences, we’ll post those and that’s something that our team does.

Okay. Well, in all fairness a feasibility study is a little bit different than a study of this size and this takes on a lot greater importance at least to me. Has Dr. Torija communicated what her communication strategy is, is she into – does she do a lot of frequent publishing or is she kind of set out any expectations for publishing to you?

We don’t have any specific publishing milestones, our primary goal is to provide reports and so forth to – and updates to NSA to the USDA which is after all our customer. And as far as presentation, we do attend and she attends industry conferences and writes papers in some of our academic collaborators at the University of Florida and the University of Minnesota also presents and coauthor – they coauthor that paper in January with her. So I’d hate to pin her down to a specific publication strategy or – because these are pure reviewed, it depends on conference schedules, it depends on whether they fit in conference’s agendas and whether they’re considered important at a particular conference by the folks who review them. So those are things that are beyond our control. But we do feel that it’s important to demonstrate the capabilities of this technology in industry forums that are well respected and that lend credibility that help our – ultimately help our commercialization strategy. So that is part of our plan.

Okay. And just one quick last one here, so on the conference part, I know there is a protocol on the healthcare side, the conference is usually like you to present before it gets released to – in publication to the rest of the world. Is it kind of the same for your types of conferences as well here where you need to present at the meeting first or not as much?

Sometimes. On the conference that we presented in January we were able to post the link to at least a brief abstract actually when it was – I think in advance of when it was presented and then we have posted – I don’t remember exactly when we posted it, it was shortly after the conference that we posted summary of the findings which was couple of pages with picture and diagrams. If we’re permitted, we do that, I mean we seem like get this out but we have to follow the – as you know, we have to follow the rules of the conferences.

Sure. Well I appreciate you taking on my questions about this Dan. I obviously view this as a very large potential value creator for NVEC shareholders and would really, I think a lot of them would appreciate as many updates as you’re willing to provide as long as they’re important updates, because I could see this resulting in a lot of value creation for shareholders. So, thanks for taking all my questions.

Fair enough, thanks Charles.

Thank you. [Operator Instructions] And our next question comes from Thomas Cochran from Lake Road Partners. Your line is open.

Hello Dan?

Hi Tom.

I’ve got a question on the timing here, I’m very pleased you’ve gotten as far as you have with the USDA and you now I gather have started on Phase II, and the goal here I think from what you’ve said is to have a prototype tested in a commercial environment. Okay, that’s fine. When is the test going to take place do you think?

Well, it’s a two year program and that would be toward the end.

Okay, this is a two year $600,000 funding that you spoke off.

Right.

So what they are doing is funding this goal over a period of two years. Have I got that right Dan?

Yes. The objective of this phase, the Phase II is to develop commercial systems.

Yeah, well I’m looking at that part but it maybe take two years?

Yes.

Why will it take that long?

There is a fair amount of work to be done on scaling the system up, on developing high fluid flow interfaces, developing interfaces that are suitable for commercial systems. We’re going to be working to do this as quickly as humanly possible and our team is extremely committed, very talented and very fast. So, they will be working on things as fast as possible and we finished the Phase I ahead of schedule, there is no guarantee of course, but we finished that ahead of the June 2016 last month.

All right, thanks Dan.

Thanks, Tom.

Thank you. [Operator Instructions] I’m showing no further questions in queue. I would now like to hand the call back over to Dan Baker for closing remarks.

Well, thank you. We were pleased to report sequential increases and product sales total revenue and net income and $1 per share dividend. We look forward to seeing some of you at our annual meeting in a couple of weeks and as speaking with you again in October for discussion of second quarter results. Thank you again for participating in the call.

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