VirTra, Inc. (VTSI) Q3 2021 Earnings Report, Transcript and Summary

Good afternoon. Welcome to VirTra's Third Quarter 2021 Earnings Conference Call. My name is Holly and I will be the operator for today's call. Joining us for today's presentation are the company's Chairman and CEO, Bob Ferris; and Chief Accounting Officer, Marsha Foxx. Following their remarks we will open up the call for questions from VirTra's institutional analysts and investors. Before we begin the call, I would like to provide VirTra's safe harbor statement that includes cautions regarding forward-looking statements made during this call. During this presentation, management may discuss financial projections, information or expectations about the company's products and services or markets or otherwise make statements about the future, which are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. The company does not undertake any obligation to update them required by law. Finally, I would like to remind everyone that this call will be made available for replay via a link in the Investor Relations section of the company's website at www.virtra.com. Now I'd like to turn the call over to VirTra's Chairman and CEO, Mr. Bob Ferris. Sir, please proceed.

Thank you, Holly, and thank you everyone for joining us this afternoon. After the market closed today, we issued our financial results for the third quarter and nine months ended September 30, 2021. The third quarter represented a record-setting pace of new sales of VirTra's world-class training solutions. We delivered a 16% sequential increase in revenue and ended the quarter with record bookings of $11 million, culminating in another record backlog at quarter end of $21.7 million, which was up 28% over last quarter's prior record backlog figure. In parallel, we are seeing the light at the end of the COVID tunnel. As I have previously mentioned, limitations in certain markets related to COVID-19 protocols created difficulties in closing international deals. Our recent international wins are a testament to our sales pipeline and the lifting of some COVID restrictions. We certainly hope this is a sign of things to come. Anyone who has trained on our equipment and then tried out the equipment of our competitors can attest to how important head-to-head demonstrations are to our sales process. So you can imagine how excited we are to see in-person trade shows beginning to resume. In fact, in two weeks from today we will be demonstrating some of our latest products at ITSEC, a large simulation training trade show in Orlando Florida. More broadly, I continue to be impressed with the exceptional team we have put together at VirTra, which outperformed their peers in our industry. We have a growth mentality and realize that even as we've become the gold standard for simulation training for so many top agencies, there are still so many more in need of effective training that only VirTra provides. Before I go into more detail about our operational initiatives and progress within the context of our growth strategy, I'm going to turn the call over to our Chief Accounting Officer, Marsha Foxx, to walk you through our financial performance for Q3 and the first nine months of 2021. Marsha?

Thank you, Bob, and good afternoon, everyone. It's a pleasure to be speaking to you today to review our financial results for the third quarter and nine months ended September 30, 2021. Our total revenue for the third quarter of 2021 was $6.1 million. This was a 5% decrease from the $6.4 million of revenue we recognized in Q3 of last year. The decrease in revenues resulted from the product mix of sales and delivery schedules to accommodate our customers' needs. For the first nine months of 2021, total revenue increased 21% to $15.8 million from $12.5 million for the first nine months of 2020. The increase in revenues for the first nine months of 2021 was due to an increase in the number of simulators and accessories completed and delivered. Our gross profit for the third quarter of 2021 decreased 28% to $2.9 million from $4.0 million in Q3, last year. Gross profit margin for Q3 2021 was 47.2% which was lower than the 61.9% in Q3 last year. For the first nine months of 2021 gross profit increased 20% to $8.6 million from $7.1 million for the first nine months of 2020. Gross profit margin for the first nine months of 2021 was 54.3% which was lower than the 57.0% in the same period last year. The decrease in gross profit margin for the quarter and nine-month period was due to an increase in reserve for inventory as the scale of our operations, grow. Our net operating expense for the third quarter of 2021 was $2.6 million, compared to $2.7 million in Q3 last year. For the nine-month period, net operating expense was $6.9 million compared to $7.3 million for the first nine months of 2020. The decrease was primarily due to the impairment write-down in 2020 offset by the transition to a company-wide ERP system in 2021 which included software fees, consulting and time invested by company staff. Turning to our profitability measures, our income from operations for the third quarter of 2021 totaled $266,000, compared to $1.2 million in Q3 last year. For the nine-month period our income from operations was $1.7 million an improvement compared to an operating loss of $115,000 for the first nine months of 2020. Net income for the third quarter of 2021 totaled $1.3 million or $0.12 per diluted share, an improvement compared to net income of $868,000 or $0.11 per diluted share in the third quarter of 2020. For the nine-month period, net income totaled $2.5 million or $0.26 per basic and $0.25 per diluted share an improvement compared to a net loss of $123,000 or a loss of $0.02 per basic and diluted share for the first nine months of 2020. It is important to note, that both our third quarter and nine-month periods in 2021 benefited from a non-recurring $1.3 million gain on forgiveness of the company's PPP loans. Adjusted EBITDA, a non-GAAP metric for the third quarter of 2021 totaled $520,000, compared to $1.6 million in Q3 last year. For the first nine months of 2021, adjusted EBITDA totaled $2.3 million, an improvement from the $615,000 for the first nine months of 2020. Turning to our bookings and backlog. We define bookings as the total of newly signed contracts and purchase orders received in a defined period. For the nine-month period ending September 30th, 2021, we received bookings totaling $24.4 million. Furthermore, we define backlog as the accumulation of bookings from signed contracts and purchase orders that are not started or are uncompleted and cannot be recognized as revenue until delivered in a future period. Backlog also includes extended warranty agreements and step agreements that are deferred revenue recognized on a straight-line basis over the life of each respective agreement. As of September 30th, 2021, our backlog totaled $21.7 million, which was up 28% from the prior quarter and 51% from Q3 last year. And finally to our balance sheet. As of September 30th, 2021, we had unrestricted cash and cash equivalents of $21.5 million compared to $23.8 million at the end of June 2021. From a working capital standpoint, at the end of Q3, we had $25.8 million in working capital, a slight decrease from $27.7 million at the end of Q2. For additional details of our financial results, please reference our 10-Q, which was filed earlier today. That concludes my prepared remarks. I'll now turn it back to Bob.

Thanks Marsha. As you can imagine, we are encouraged with our progress in attracting buyers, which has translated into contract wins for us. One of these recent wins was a $24.5 million award from the US Department of Homeland Security for US Customs and Border Protection in a five-year IDIQ. The award covers the warranty and service of current systems accessories and the purchase of new technology, with 4K simulator systems, flip-in recoil kits, threat fire devices, accessories, and training content. The initial order was for $1.4 million and we are excited about the long-term potential of this multiyear award. In the past, we have talked about plans to expand our business internationally, which has progressed at a somewhat slower pace than we would have liked due to COVID-related challenges. However, we are starting to see some volume in these markets as we announced two large contract wins since our second quarter earnings call. The first was a $1.37 million order from a new client in the Middle East for use-of-force simulators, weapon recoil kits, and accessories. This was VirTra's first client win in this country and continues to broaden our deployments around the world. Our other large international contract win was $1.3 million order from a country in Europe for use-of-force simulators, weapon recoil kits, and other training accessories. What is important to highlight in this award is that out of the many respondents to this law enforcement agency's RFP, VirTra was the only applicant that met the high standards required to suit their needs. In fact, the agency required any company making a proposal to be able to show the product in a demonstration and we're also to face a financial fine to cover wasting the government's time. Once the fine was added, all other companies withdrew their proposals. The requirements included capabilities such as, drop-in recoil kits that could stimulate the bolt lock back, when the trainee would be out of ammunition. This is critical to avoid negative training and an area where VirTra, is unequaled. We are pleased to see the continued success in our international business translate to financials, as well, with third quarter international revenue $860,000 representing almost twice the revenue generated internationally for all of 2020 and we hope it is just the beginning. On the military side of things, we remain optimistic about the longer-term potential within the segment, as we partner with larger and more established companies that have existing relationships with the right military decision-makers. We believe this is gaining traction. Near-term visibility in the material revenue can be challenging at times, given the status of certain contracts and ultimate timing of their execution of orders and we continue to be prohibited from disclosing details regarding much of this work. VirTra approach is to put the business first and we believe actions and results speak louder than words. As you know, we say as much as we can, when we can, but there are instances in which we are prohibited from disclosing specifics. We continue to be encouraged with the results we are achieving and see a long runway of growth opportunities for VirTra. Now these growth opportunities will require larger capacity, which is why we are excited to close on the acquisition of an industrial building in Chandler Arizona, during the quarter, which will be our new headquarters in 2022. The property provides us with a larger and more centralized facility, which will give us greater operational efficiencies than our two currently leased facilities, both of which we plan to sublease once we move out. We are really excited about this new facility, which we think will be the most advanced simulation training headquarters in our industry with unique capabilities not possible in our current facilities. Now on the topic of margins. Gross margins decreased on a year-over-year basis to 47.2% from 61.9%. It is important to note, that most of that decrease was attributed to a reserve, we were required to take to our inventory as the scale of our operations grows. So third quarter gross margins may not be indicative of all future quarters. Keep in mind, we believe our historical margin profile, is based on us offering uniquely effective and innovative products to the market. We have several confidential projects underway right now that we think will not be easy to duplicate. They will receive patent protection could justify sole source awards and will position us well to solve customer problems. I look forward to sharing more information on each project when I am able. We continue to have a strong balance sheet ending the quarter with cash of $21.5 million and $25.8 million in working capital. As a public company, we believe it is both best practices in the industry and good corporate governance to have an effective shelf on file. So while we will renew our S3 in the coming days, I want to be clear that we have no immediate plans to access the capital markets. I believe the current management of VirTra has been a good steward of investor capital both buying back shares and selling shares for the long-term benefit of our company. The strengthening of our balance sheet earlier this year allowed us to scale our operations more aggressively compete on larger contracts, initiate innovative projects, acquire our Chandler Arizona building, and grow our staff. Please note that we keep shareholder interest at the very center of every action we take. And as one of the largest shareholders of VirTra, I daily strive to reward our shareholders. We have two goals that go hand-in-hand. One is to grow while being financially healthy so as to provide exceptional returns to our shareholders and the other is to deliver the world's most effective simulation training to our customers. We have much left to accomplish with both of these goals but I'm very pleased to report we made strong progress this past quarter. And with that I'm going to wrap up my prepared remarks and we'll open the call up for your questions. Operator, please provide the appropriate instructions.

Thank you. Ladies and gentlemen, the floor is now open for questions. [Operator Instructions] Your first question for today is coming from Jaeson Schmidt with Lake Street. Jaeson, your line is live.

Hey, guys. Thanks for taking my questions and congrats on the continued progress. I just want to start with the supply chain. Just curious, if you're seeing any sort of component shortages or any tightness? And more importantly, how you feel about being able to meet potential demand going forward from a supply standpoint?

Yes. Thanks, Jaeson. We do have occasional supply chain challenges mainly some cost items and once in a while some raw material. So far we've been able to work through those and so we do expect to be able to deliver product to our customers in an on-time manner even with the current supply challenges that are out there.

Okay. That's helpful. And then just looking at the international market, are you finding that most of the competitors you're seeing in that space are similar to the ones you see here in the domestic market, or are there new entrants you're going up against over there?

No we have not seen a lot of new competition on the international scene. So normally the companies that we expect will be proposing on a project are the ones that end up showing up. Again, we had a unique experience where the client actually liked our unique abilities and so they actually required a company to show the unique abilities. And we had some competitors who claimed to be able to do the same thing, we did but when they were facing financial fines they rescinded their proposal at that point, which is an interesting situation. So no, on the international side I think it's really a matter of us being able to get in front of the right people. And COVID-19-related travel restrictions lifting is I think very encouraging for us on the international front as long as that continues.

Okay. Got it. And then just the last one for me and I'll jump back in the queue. Understanding sort of that charge you took that impacted Q3 gross margin sort of based on your commentary Bob, should we expect a pretty decent snap back in gross margin here in Q4?

That's a great question. I can tell you that our goal is to maintain healthy margins. We do prefer to go with larger margins, but I can say that, some things have to do with the product mix and that changes quarter-to-quarter. And so, there are situations where our margin might grow or may shrink, and so that is something that fluctuates. I would say, if you look at us over all -- if you look at us over many, many quarters and many, many years, we've had -- as a company had strong margins. And again, I think that really has to do with, if you have innovative products that are protected and/or difficult to replicate in the market then you're able to have higher margins so long as those products are solving important problems. So, we plan to stay on that path, but there could be some fluctuation quarter-to-quarter on our margins.

Okay. That makes sense. Thanks a lot.

Thank you.

[Operator Instructions] Your next question is coming from Allen Klee with Maxim Group. Allen, your line is live.

Yes. Good afternoon. The new headquarters that you're building, could you talk a little more about, how -- what the benefits that you expect to get, potentially related to efficiencies and ability to your capacity? Thank you.

Sure. So the building that we purchased and we do have some tenant improvements to perform to the building. But, just keep in mind that is an existing building that we're taking over and we do plan for that to allow for an increase in capacity, in our production capacity, especially in the area of recoil kit capacity, but also in other areas, such as certain research and development capabilities and certain abilities that will impact our content creation. And so, there's a lot of ripple effect from what we're planning in that in the new facility, but there are certain things that were limited by being in two facilities right now and somewhat getting close to maxing out the two facilities we're at. And there's limits of our power, our space, and so, we -- the new facility allows for centralization of our staff and a lot of our operations, which we expect efficiencies to be garnered there. And then in addition, it's going to enable brand new capabilities that we have not announced because of competitive reasons. So...

Okay. And my other question is, in the military market, what would you say are the kind of the catalysts you think that could get you to start expanding there?

Yeah. So, we fortunately have been -- so over the last couple of years, we've been expanding in the military area. One that we announced with a press release was the ADMIRE agreement that included mainly software and content that was customizing what VirTra has already done for customizing it for more military use and then we also have undisclosed work being done on the military, that is starting to funnel through our backlog and our recognized revenue. That's not currently being broken out, specifically in our financials but we are getting traction there. We do expect that traction to grow over time. The catalyst to that is right now a lot of it has to do with working through primes so existing companies who have contracts and being a supplier to them and then they ultimately are supplying larger programs for different militaries. So we think that's a very important conduit for us for the military side but we also are constantly working both the US and internationally on military opportunities, because we do have an enormous investment in technologies from years over years that have compiled now to the point where a lot of our products are best-in-class for military and definitely well-known and established best-in-class in police. So, we expect that that will produce fruit in the coming quarters and years and we do think that there's not one specific catalyst, although we do have some very unique opportunities on the military side that we're looking forward to having them come to fruition.

Thank you.

Thanks, Allen.

Your next question is coming from Rich Baldry with ROTH Capital. Rich, your line is live.

Thanks. Looking at the R&D line it stepped up pretty solidly in the quarter. I'm sort of curious, what you think of as – is this a new run rate we should be forecasting at? Was there anything unusual in there that maybe makes it more likely to revert to first half levels?

So yes that – actually that relates to what I just mentioned about the ADMIRE contract, where the government is actually paying us to do R&D work that ultimately we still have rights to and so – and it builds on a lot of the work we've already done, which obviously, we have lots of rights on the work that we did at private expense and we have full rights to that. So that has a lot to do with that. But we – the interesting thing I think about VirTra here is that we do various things to be competitive that don't always show up as pure staff time and expense. So we've – we are investing in certain technologies and capabilities that we believe are next generation and – some time. And a lot of that we've already spent some of the money that – a lot of the money we would expect to spend there. But we're always looking for opportunities that would make sense to build a more competitive future for us, again to have that unique product and that sole source capability. So we do invest in that. You can imagine that, that's very sensitive until it's ready to be announced and released and so we don't disclose a lot of information on that obviously. But yes, don't -- when we're talking about doing new projects and having new technologies and capabilities, that's not always going to be just hire more developers. It can come by other means too.

Okay. When we look at your inventory build over the last couple of quarters, is that more to support the higher level of run rate revenue bookings, or is there a way to think about how much of that might be increased safety stocks because of supply chain issues? And when you move into your new headquarters, is it pretty likely that that number goes up to a new level because you'll have a greater capacity in the new facility?

Yes. Thanks for that question. So, that has a lot to do with safety stock, especially with the supply chain issues that are currently out there. We may have mentioned that we feel confident that we can still supply products to customers even with the supply chain issues that plague companies such as ours and part of that is maintaining adequate inventory or having inventory buffer added, so some of that is there too.

Okay. And then, can you talk a little bit about your sales capacity, how comfortable you are with that with the bookings rising to the level they have of late and the backlog growing? Do you think you have the right capacity heading into 2022 and beyond, or are there any plans to step that up meaningfully?

Sure. That's an area of our business we monitor very carefully. We seem to always be on the lookout for talent in that arena and so, I suspect we will be monitoring that and reevaluating that. I was very encouraged with the performance of this past quarter. That was a really strong addition of new sales. And in the midst of some difficulties where we were not able to do a lot of in-person trade shows we had a key in-person trade show that got canceled at the last minute that would have been the largest police trade show for America and at IACP and that was canceled and we were really excited and had a lot of preparations underway for that. So that was a big disappointment. Despite those setbacks and the fact that, we are working hard to get in-person demos on a constant basis with our regional sales reps we were still able to have a really record-breaking new sales orders coming in. That was very encouraging. So, we -- but there's always room to improve and that's something that we are constantly monitoring. I don't -- we don't have plans at this time to do a big swing up in expenditures for sales staff. But if it's justified, then we would do so. We've been willing to grow our sales staff in large jumps in the past when we felt it was necessary and we have the talent available and we continue to do that. Sometimes we do a salesperson. Or even if we had just one opening, we might hire two, because we found the right talent. So...

And last for me. The -- could you talk about your -- how you view the bookings breadth in terms of existing client more orders or versus new logos? Has that been the way you would have expected to come down? Is it improving on the new customer win side as sort of the COVID constraints sort of ease? And how you think about that going forward?

I'm sorry. Can you repeat that question?

I'm just curious in the strength in your bookings do you feel like that's been sort of driven largely by expansions with existing clients that you've been dealing with for a while, or are new client wins sort of coming up again now that some of the worst of the COVID restrictions that might make it hard for a new client win are kind of easing?

I think it's a combination, although I do think we continue to be a bit hamstrung on the international sales side of the house. I still think that there's limitations for us to get as much traction as we have in the past. I do hope that we're starting to see signs of that roaring back and I would -- we would love to see international snap back to levels beyond what we experienced prior to COVID-19. And that's very, very possible a bit hard to predict but possible. I do think that maybe COVID-19 has opened up some public offers a bit more to where public service is being funded more so and so maybe that helps VirTra in ways. But it could also be that because of the media attention that's been played to use-of-force decisions made by police officers, it is possible that there's just a mentality that, I don't want mediocrity in my training program. I want -- I'll pay for the best training out there. Who is that? Oh that's VirTra. Okay that's what we need. I don't need to check a box and then go home and worry about officers not being adequately trained and a wrongful death lawsuit. I'd much rather go with the certified training, the leader in training, vetted by some of the best subject matter experts in the industry with the best track record with some of the largest agencies and some of the most respected programs out there. That's who I should go with. And so maybe that's contributing to the increase in new sales with VirTra. But no, we're not seeing a direct COVID-type correlation except for the fact that we do see international sales being depressed and that seems correlated to COVID-19 we think.

Maybe one last one. Your revenues year-to-date are up about 26% which is obviously a really good performance. But backlog is now higher than your total revenue for all of 2020 at the same time. So maybe talk about what gates the recognition of that backlog and any ability to work it down which would obviously further accelerate your revenue recognition. What really is the decider on that factor in the model?

Yes. Great question. So actually that question gives me an opportunity to talk about something that many investors really like about VirTra and that is that that backlog also includes -- it also includes warranties that are multiyear warranties and those warranties provide a recurring revenue stream that is highly attractive to any company and particularly useful to VirTra. So some of that backlog, no matter what we do will not work down. Now that's a fairly small portion of it. It's not -- it's certainly not 80% of it. But that portion there's -- so there's -- in that backlog includes things that where somebody bought from us and they were so convinced that VirTra was their solution that they bought and added a three-year warranty or a 4-year warranty. And so, we can't recognize that revenue right away that sits in backlog until the three years is up. And then meanwhile we're getting new contracts that include a three-or-four-year warranty. So the backlog has a tendency to grow there. Some of that is just time locked. Other ones are more -- have to do with organizing with a client. "Okay. we're going to install this in eight weeks. Does that work for you?" and coordinating with them, when the products will be installed for them. And sometimes our products take a little longer to finalize depending on the size contract and whatnot and the specifications for the contract, so that can sometimes delay. But generally speaking, we have a good track record in getting that backlog, pushed over into recognized revenue. But it is a complicated process as far as how much of that we are able to pull into recognized revenue on a quarter-to-quarter basis. And it's a complicated process that involves the client. It involves our supply chain at times. It involves approvals and specification meets and things like that. But generally speaking, we've been fairly good at getting that recognized in a reasonable amount of time. So...

Great. Thanks and congrats on the quarter.

Thank you.

There are no more questions in queue. I would like to turn the floor back over to Bob, for any closing comments.

Thank you. We really appreciate everyone taking the time to join us today. On Wednesday of this week, we'll be participating in the ROTH virtual event. For those investors and analysts who are attending, I look forward to speaking with you soon. As you know, this past weekend we honored the service of all veterans. I ask that we make a special effort to keep in our thoughts and prayers, the missing, the fallen and those who right now volunteer to potentially be in harm's way to preserve our way of life. Thank you. Please know we are hard at work building and inventing the world's most effective simulation training products, so that the war fighter and the peace officer can serve their country, accomplish their mission and make it home safely. I firmly believe, the best days for VirTra are ahead of us. Be safe. Take care. And God bless.

Thank you for joining us for VirTra's Third Quarter 2021 Conference Call. You may now disconnect.