TransAct Technologies Incorporated (TACT) Q2 2014 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the TransAct Technologies Second Quarter Results Conference Call. [Operator Instructions] As a reminder, today's conference is being recorded. I would like to introduce your host for today's conference, Mr. Jim Leahy. Mr. Leahy, please begin.

Thank you, Michelle. Good afternoon, and welcome to TransAct Technologies 2014 Second Quarter Conference Call. Joining us today from the company are Chairman and CEO, Bart Shuldman; and President and CFO, Steve DeMartino. Today's call will include a discussion of the company's key operating strategies and progress against these initiatives and details on the second quarter financial results. We will then open the call to participants for questions. As a reminder, this conference call contains statements about future events and expectations, which are forward-looking in nature. Statements on this call may be deemed as forward looking, and actual results may differ materially. For a full list of risks inherent to the business and the company, please refer to the company's SEC filings, including its reports on Form 10-K and 10-Q. TransAct undertakes no obligations to revise or update any forward-looking statements to reflect events or circumstances that occur after the call. Today's call and webcast will include non-GAAP financial measures within the meaning of SEC Regulation G. When required, a reconciliation of all non-GAAP financial measures to the most directly comparable financial measure, calculated and presented in accordance with GAAP, can be found in today's press release, as well as on the company's website. At this time, I would like to turn the call over to Bart Shuldman. Bart?

Thank you, and welcome to everyone joining us on our Second Quarter 2014 Conference Call and Webcast. This afternoon, we reported revenue of $13.8 million, adjusted EBITDA of $900,000 and diluted and adjusted diluted EPS of $0.02. Steve will review the financial results in detail in a few moments, but let me start the call by noting that should not surprised most of you that the casino and gaming industry remains very challenging, as evidenced by industries' gross gaming revenue trends in the first half of the year. This in turn has impacted casino operators’ capital budgets, which led to a year-over-year and quarterly sequential decline in our second quarter 2014 casino and gaming revenue. There is no doubt the domestic casino market is quite weak right now. That said, electronic gaming printer sales over the balance of the year will remain lumpy, even as we believe that appreciation for our Epic line of printers, in particular, our Epic 950 slot machine printer, continues to grow and that we are positioned to grow our market share. While industry headwinds have also impacted the pace of new Epicentral agreements, including most casino system companies implementing major software upgrades that casino operators had to install this year and help to soak up their systems budgets, our unique system is clearly delivering an attractive return on our customers' investment in technology that is helping them to drive repeat visitation, offpeak play, rated card play, new loyalty membership enrollment, among other metrics. In some cases, such as the recent installs of Epicentral in multiple casinos in Latin America, the value of Epicentral is so strong that it helped us displace our largest competitor slot machine printer product because each Epicentral installation requires that it be connected to gaming devices that have our Epic 950 printer. As a result, Epicentral benefits TransAct in 2 ways. It offers us a new high-margin business opportunity and positions us to grow our Epic 950 printer sales, particularly, in situations where we displace a competitors' product. That's a brief overview of our casino and gaming business, and it sets up an excellent transition for me to review the strategic initiatives we implemented several years ago, to diversify our revenue and the progress we have made with these initiatives. At that time, we looked at the landscape in the domestic casino market and became concerned that a slowdown was inevitable. So we set on a path for growth, looked at new opportunities and committed to a plan that would result in the development of new products that opened up our business to new industries for which we could identify large, untapped market opportunities that could be addressed by leveraging our expertise in printer and software development. We proceeded with this plan as we were confident it was best path forward to create value for our company and our shareholders. Given the state of the domestic casino market, it appears our diversification strategy was spot on. So our results have 2 parts to them. When looking at the progress we have made this year, clearly, our casino business has been impacted by the quickly slowing slot machine market. But on the other side, where we have diversified, it is a different picture. Food safety in our sequential business grew by over 300%. Oil and gas printers rose by 12%. But more importantly, the consumables for our oil and gas printers grew by over 50%. Even our point-of-sale and banking business increased sequentially. If the casino market had not shrunk, our results would have been much different. But it does tell us our diversification strategy is going to contribute to our business, despite the slowdown in the domestic casino market. I have say, I'm encouraged by the results of our new businesses and the focus of our team has put into them. Our execution on this plan has allowed us to expand our gross margins by introducing new products with higher margins relative to our legacy offerings. Between the Ithaca food safety terminal line launches and the combination of our Printrex oil and gas color printers and their related consumables over the last few years, we have introduced successful new products that bring new value to customers and new industries for TransAct. And as we sit here today, I'm pleased to be able to say that our vision and diversification initiatives have helped to offset the weakness in the casino and gaming business. For the Ithaca 9700 line of food safety terminals, sales tripled on a quarterly sequential basis. Though revenue was down year-over-year, reflecting the tough comp to the large initial stocking order by one of our distributors we recorded in last year's second quarter. Here, we have successfully created a multimillion-dollar business in a little over 2 years, and the pace of our customer interactions suggest this will remain a long-term, high-growth business for TransAct. In terms of where we are with the rollout of the Ithaca 9700, we have previously reviewed the large number of trials with over 70 restaurant companies representing an opportunity of over 100,000 terminals. And our list of restaurants and other venues continue to grow, as well as the number of potential terminals we could sell. It will take time, and yes, it will, but our list of potential customers continues to grow. Our -- the potential terminals now exceed over 120,000, and the feedback has been very positive from the market. Part of our expanding list of customers, we continue to grow a worldwide relationship with McDonald's with the Ithaca 9700 and remain excited about the future growth with McDonald's in all regions of the world. And we have made great progress with several other multinational quick-serve operators. With regard to the Ithaca 9800 terminal, which is fully capable of interacting with existing back-office systems, particularly, in non-quick-service restaurant operations, we are working through the systems integration process with restaurant back-of-the-house software providers and expect to generate initial revenue from the Ithaca 9800 in 2015. The feedback from the industry around the Ithaca 9800 has been good and remains very enthusiastic about the potential for this terminal. Turning to our Printrex oil and gas color printers, this story is of a 2-fold ramp. First, the conversion cycle from the black-and-white printers at oil rigs, both off and onshore to the Printrex 920 color printer is continuing, and we have made significant progress with large, medium and small operators around the world. We believe most will standardize around the new color solution. Sales of the 920 up year-over-year, and we expect to achieve further momentum in the second half of the year. At the same time, we have sold many more of the larger in-office Printrex 980 printers than we had first anticipated. We also believe the market for the Printrex 980 office printer to be much bigger than we had first projected. And I will remind you that when we purchased Printrex, they had no sales or experience in the office market. And the very good news is most of the units we have placed into the market are generating the recurring high margin consumables revenue, as we had originally projected. And that's the other leg of our Printrex growth story. Consumable revenues related to our Printrex color printers increased 50% on a quarterly sequential basis, and the annual run rate for these consumables is now close to $1 million a year and continues to grow. This is a very high-return business for TransAct, which simply did not exist when we purchased Printrex. We're very encouraged about the growth opportunity for both our Printrex 920 and 980 color printers, particularly as large operators are reporting that the industry is beginning to emerge from a 2-year downturn, which would help open up some capital for the deployment of more of our color printing solutions. Let me briefly now turn to our Responder brand that addresses a very significant opportunity in the machine-to-machine or M2M market. We introduced the Responder MP2 mobile printing solution in March, and the initial reaction has been highly positive. The Responder MP2 was deployed for installation in a wide variety of fleet vehicles, including fire trucks, police cars, emergency medical vehicles, insurance fleets and delivery vehicles among others. And it addresses a very attractive market opportunity, which, according to various estimates, can reach nearly $86 billion by 2017, when you include hardware components, technologies and related applications. In launching our Responder MP2, we first partnered with Printek, a leading indicator in the police car market, to accelerate our time to market, given that the M2M market is quite fragmented across different fleet types and geographies. Our goal, of course, is to partner with more integrators once the printer is in full production by the end of the year. That's a good overview of our revenue diversification opportunities and progress. While the pace of the ramp in our newer businesses reflects each industry's current characteristics and the uniqueness of our products that are pioneering new ways for customers and operators to run their business, it is occurring. And we believe later this year and into 2015, we will see it accelerate. Diversifying our revenue streams has been a prudent course of action, given the state of the domestic casino market for TransAct, and we continue to move forward with this focus. We have already introduced 2 new products in 2014, the Ithaca 9800 and the Responder MP2. And we will introduce a third new product later this year. Our entire organization is laser focused on executing our long-term product development strategy, allowing TransAct to enter large, growing markets with distinct high-value products, such as our latest Ithaca 9800 food safety terminal. As we continue to move through this product and market transition, we have also established an infrastructure capable of supporting our growth in revenue, as we now have dedicated sales and technical support teams for each of our brand lines and have attracted top talent in the respective industries to lead our sales efforts. We're pleased with the consistent progress we are making in growing new business lines and believe that we are on track to achieve consistent growth and higher-margin revenue. Before I turn the call over to Steve, I want the review 2 recent developments, very recent developments. First is an update on the Avery Dennison lawsuit. I'm pleased to report that Avery Dennison has dropped the portion of their lawsuit seeking to stop us from manufacturing and selling our food safety terminal. They have removed the injunction part of the lawsuit. This is all I am allowed to speak about, as their new filing has been done under seal. Second, our competitor, FutureLogic, is in the process of being sold to JCM, the bill acceptor company in the casino industry. As some of you might know, I have been friends with the CEO of JCM for over 20 years, and I would like to congratulate him on the potential acquisition and wish him the best. But as I look at this acquisition, I continue to believe that our market position for Epic printers and our Epicentral bonusing solution will not be impacted by this development. With their pending acquisition of FutureLogic, JCM sales force will be attempting to sell their fourth printer in just the last few years. In addition, I think it's clear from the value of the transaction, that we have made tremendous strides in growing our market share in comparison to FutureLogic. And we know they have had to redesign and also introduce new printers to try and get the product in a better position to compete against us. And of course, they have not sold any software systems that we know. In fact, as I previously spoke about, one of their largest Latin American customers changed out every FutureLogic printer just to be able to use our Epicentral system. I will end by saying, I'm not sure how a bill acceptor company can improve a printer company, given they are 2 totally different technologies. However, we are keenly aware of what has happened, and our shareholders should know we will react accordingly. We have many casinos that have turned their businesses over to TransAct due to our superior product and support. And our many slot manufacturers continue to tell us about how easy it is to deal with us. We will remain focused on our core, and our shareholders should also know, we are diligent about how we use the cash we generate and our balance sheet. With that, I'll turn the call over to Steve for a deeper review of the 2014 second quarter results, after which I'll make some summary remarks before we open up the call for questions and answers. Steve?

Thanks, Bart. Good afternoon to everyone. 2014 second quarter net sales were $13.8 million, up slightly on a quarterly sequential basis and down from $15.8 million in the year-ago quarter. By sales unit, casino and gaming revenue was $6.1 million compared to $7 million in the year-ago quarter, as revenue from a large international Epicentral installation at a multi-property casino was more than offset by broad weakness in both the domestic and international casino and gaming markets. Lottery sales of 800,000 improved 70% year-over-year, reflecting GTECH's normal minimum contractual buy in the [Audio Gap] 2014, compared to less than the minimum buy in the prior year quarter. Food safety, point-of-sale and banking revenue was $2.7 million, down $700,000 year-over-year, as one of our distributers placed an initial $1.3 million stocking order for Ithaca 9700 food safety terminal in the prior year quarter that didn't repeat this year. This decline was partially offset by an increase of 600,000 sales of POS printers to McDonald's as they continue their roll out of growing receipt printers for a new checkout application. Total revenue of our Printrex-branded printers was approximately $1 million, relatively consistent with the prior year quarter, as well as the first quarter of this year. These results include a 12% quarterly sequential improvement in sales of our Printrex oil and gas printers, which include sales of our new color printers. Finally, TSG sales were down 11% year-over-year to $3.1 million in the quarter. However, Printrex color printer consumable sales were up 73% over the prior year period and up 51% sequentially. And as Bart noted, the annual run rate for our Printrex color consumables business is now approaching $1 million and growing, as the installed base of Printrex 920s and 980s continues to expand. However, the increase in revenues from Printrex color consumables was more than offset by lower service revenue, as well as lower sales of HP inkjet cartridges, reflecting a declining installed base, as we continue to deemphasize this low-margin consumable product. Despite 13% lower total revenue, our gross margin still increased 100 basis points to 41.9%, reflecting in part a favorable sales mix of higher-margin Epicentral and Printrex color printer consumables. Operating expenses of $5.4 million, grew approximately $800,000 year-over-year. Excluding lawsuit legal fees and adjustment to the accrual for contingent consideration related to the Printrex acquisition in both periods, operating expenses were $5.4 million compared to $4.8 million in the 2013 second quarter, up 13%. Engineering design and product development expenses were up $200,000 to $1.2 million, reflecting additional engineering staff and higher prototype expenses we incurred related to 3 new products, including the recently launched Ithaca 9800 food safety terminal and Responder MP2 mobile printer for use in fleet and emergency services vehicles. We anticipate launching the third product later this year. Selling and marketing expenses were also up about $400,000 to $2.3 million, due to the hiring of additional sales and marketing staff to support our expanded product lines, as well as some incremental expense associated with our distribution agreement for casino and gaming products with Suzo-Happ, which took effect in late 2013. G&A expenses were up $300,000 to $2 million in the second quarter of 2014, but up less than $100,000, or 4%, when excluding adjustments to the accrual for contingent consideration in both periods. GAAP-diluted EPS for the 2014 second quarter was $0.02 compared to $0.14 in the year-ago period. Adding back the legal and other expenses associated with the Avery Dennison lawsuit and the Printrex contingent consideration accrual adjustments, adjusted diluted EPS was $0.02 for the 2014 second quarter compared to $0.13 in the year-ago quarter. And adjusted EBITDA was $900,000 compared to $2.2 million a year ago. Turning to the balance sheet, we ended the quarter with $5.1 million in cash, up from $3.2 million at the end of the first quarter, and we continue to have no debt. During the quarter, we increased our quarterly dividend by 14% to $0.08 per share, returning approximately $700,000 of capital to shareholders. So through the first 6 months of 2014, we returned approximately $1.3 million to shareholders through our quarterly dividend. And earlier this week, we declared an $0.08 per share dividend for the third quarter that will be payable on September 15 to shareholders of record as of the close of trading in August 20. I think it's notable that we continue to consistently return capital to shareholders, most recently through our quarterly dividends, even while investing to significantly expand our product lines and market opportunities. In fact, over the last 2.5 years, we returned over $15 million to shareholders through approximately $4 million in dividend payments and $11 million of share repurchases at a time when we were simultaneously accelerating investments in our long-term growth. Overall, the second quarter was slow as expected, particularly, for our casino and gaming business. We do anticipate improvement in sales and EPS in the second half of the year, as some of our newer higher-margin business begins to ramp. The benefit from these new businesses will also be reflected in our gross margin, which we expect to be in the low 40% range for the balance of the year. We also remain optimistic about our sales pipeline for our 2 food safety terminals, even though the sales cycle is taking somewhat longer than expected, as well as for expanding sales of our color Printrex oil and gas printers and related consumables. Finally, we expect lottery sales to be higher in the second half of the year compared to the first half, based on orders we currently have in hand, as well as the forecast we've received from GTECH. And at this point, I'd like to give the call back to Bart for some closing remarks.

Thanks, Steve. Great job. Great job, again. Before opening up the call to your questions, I want to emphasize the strategic shift we undertook. By focusing on new sources of higher-margin businesses through the development and commercialization of innovative new solution for underserved industries that have large addressable markets, TransAct is somewhat offsetting the ongoing weakness in the casino and gaming industry, even in the early stages of our product introduction cycle. As such, I believe despite the near-term unfavorable comparisons in our financial results, TransAct today is more solidly positioned to achieve our growth objectives. Our new businesses, the Ithaca food safety terminals, the Printrex color printers for the oil and gas industries, the Epicentral software system, and soon our entry into the M2M market with the Responder MP2, all help diversify our revenue and offer margin-expansion opportunities. Each of our brands now has a dedicated sales staff positioning us to exploit these high-growth opportunities. While the ramp in our newer businesses have been slower than anticipated, we are making consistent progress in establishing new businesses. Our newest products are generating very high levels of interest in their respective industries, and we remain confident that each of these new business lines will continue to ramp. And as we've spoken about, our consumable business looks wonderful. Overall, with the right infrastructure in place and the financial flexibility to execute on our plan, we remain optimistic about the long-term growth potential for TransAct and our ability to increase revenue and profitability and create shareholder value. With that, let's open up the call to your questions. Operator?

[Operator Instructions] Our first question comes from the line of Todd Eilers with Eilers Research.

Bart, I was wondering if you can maybe talk a little bit more about, I guess, trends post quarter and kind of how you see the casino and gaming market in the second half, just kind of what are you seeing out there in the market?

Yes, Todd, it's not a pretty picture. You got kind of 2 stories going on. I think you know that Las Vegas, itself, has had some good results. We've seen some of the results come out of MGM and Win and really pleased, I was just there a couple of weeks ago: Las Vegas was crowded, the restaurants were crowded, the gaming facilities were crowded. It was great to see. It's really the local's market, Todd, that is -- it's not doing well. And a lot of competition, a lot of expansion, maybe too much expansion. Atlantic City about to close 3 casinos. So what we see is a tough picture for the next couple of quarters. Based on the feedback that we're getting from the slot manufacturers, the feedback or the input we're getting from our casino friends that are specifying our printers, they don't expect much improvement over the next couple of quarters.

Okay, great. That's helpful. Also, I was wondering if you can maybe comment on -- with respect to the international piece of the business in the casino and gaming market. It looks like the Rees VLTs are moving forward. Given your relationship with GTECH and SPIELO there, would think that you guys would get a good share of that market. What's kind of the timing of printer shipments to the VLTs for that market? Should we expect anything in the second half there?

Yes, so the big question, Todd, is going to be whether they're going to use printers or not. There has been a lot of discussion. If you look at the Italy situation, Italy went from street games to network VLTs with printers, allowing it to be a total open system. If a tourist came in, they could play. Greece is debating whether they want to do that or not. And if they don't, there will be no printers in the machines. Now we don't know the answer to that, but there is debate going on as to whether they think it's better to go with no printers. They would go with a card-based system, and as we all know, card-based systems eliminate the tourist and the player that just comes in for the day and leaves. So we don't know. I think the big opportunity in the international markets will clearly be the expansion in Macau. We've got 7 new casinos or expansions over the next 2, 2.5 years. I think you know them, MGM, and Wynn, SJM, Galaxy, Venetian. So there's a fair amount of expansion that's going to go on in Macau. And we plan on winning a lot of that. So we should see some of that come through. But the Greece situation, Todd, is up in the air. We just don't know. We've heard both sides. We've heard both sides of the argument. We clearly are on the side of putting printers and not a card-based system. As we know, card-based systems here in the U.S. have failed miserably. In fact, we placed a card-based system in a casino in the northeast just recently with a bunch of our printers because it didn't work. It stopped the impulse player from coming in. But Greece is going to make their decision, and we'll wait to see what they decide.

[Operator Instructions]

Should I say that there's going to be no more questions?

I am showing no more further questions at this time, and I would like to turn the call back to Mr. Shuldman for any further remarks.

Thank, everyone, for joining us on the call this afternoon. We'd like to thank our shareholders for their support and, of course, I want to thank all of my team members here at TransAct. They've done a great job getting us into these new markets. We'd also like to take a moment to invite all of our shareholders to meet with us if you plan to attend the G2E trade show next month in Las Vegas, the world's largest gaming casino trade show. For those that can't make it, we look forward to reporting back to you on further progress in our business when we report the third quarter results in early November. Thanks for joining us today.

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.