National Instruments Corp

F:NI1

Earnings Call Transcript 2018-Q2

[Operator]

Good day, ladies and gentlemen, and welcome to the National Instruments Third Quarter 2018 Earnings Conference Call. Today's call is being recorded. You may refer to your press packet for the replay dial-in number and passcode. With us today are David Hugley, General Counsel and Secretary; Alex Davern, President and CEO; Karen Rapp, CFO; and Eric Starkloff, Senior Vice President, Global Sales and Marketing.

For opening remarks, I'd like to turn the call over to Mr. David Hugley, General Counsel and Secretary. Please go ahead, sir.

[David G. Hugley, National Instruments Corp.]

Good afternoon. During the course of this conference call, we should make forward-looking statements, including statements regarding future growth and profitability, and our guidance for revenue and earnings per share for the third quarter. We wish to caution you that such statements are just predictions and that actual events or results may differ materially. We refer you to the documents the Company files regularly with the Securities and Exchange Commission, including the Company's Annual Report on Form 10-K filed February 22, 2018, and our quarterly report on Form 10-Q filed May 1, 2018. These documents contain and identify important factors that could cause our actual results to differ materially from those contained in our forward-looking statements.

With that, I will now turn it over to the Chief Executive Officer of National Instruments Corporation, Alex Davern.

[Alexander M. Davern, National Instruments Corp.]

Thank you, David. Good afternoon, everyone and thank you for joining our second quarter conference call. Our key messages for Q2 are 11% year-over-year order growth, record revenue for second quarter and record non-GAAP net income for a second quarter, up 49% year-over-year. As I look back over the last 18 months of our leadership transition, I'm proud of what our team has accomplished. From the beginning, we were focused on delivering record profitability and returning to growth. We have delivered on that commitment with non-GAAP net income for the first half of 47% year-over-year and up 74% over the first half of 2016. These achievements help support the sustained long-term success of NI and have positively impacted our employees as well as our shareholders. At our recent Investor Conference, I introduced our core strategic vision, which creates alignment across sales, marketing, R&D and operations; to ensure focus on the top priorities, which we believe have the most opportunity for growth.

I believe that from focus comes growth. So, the commitment to focus was a critical element of our transition. We wanted to accelerate our growth by focusing on targeted industries, where our platform offers highly differentiated value to the customer. We also embraced a transition in the value that we deliver to our customers. For many years, the majority of our business was driven by smaller orders under $20,000. As our order profile changed, we reached a tipping point that showed us the value of shifting the primary orientation of our sales channel to focus at the account level. The core strategic vision enables us to focus on structurally improving our profitability by focusing our resources on what we believe to be the best growth opportunities for the company going forward.

2018 has already been an exciting year in technology, and the flexibility of NI's platform approach allows for adaptability as these major advancements in technology create disruption of traditional design processes. From 5G to autonomous driving, our customers' use our platform to create leverage across projects and test teams, to tailor investments and to help them bring these new technologies to market profitably and on time.

In 5G, the first standards are nearing completion and the industry is actively working on commercial 5G designs. With commercial 5G new radio deployments on the horizon, engineers are actively developing sub 6 gigahertz 5G RF components and devices. As David Reed, Executive Vice President of Technology and Operations at NXP shared at NI week, their adoption of our semiconductor test system for a massive MIMO application is delivering higher test throughput and a lower cost for their business.

In automotive, our customers benefit from the flexibility of our platform, to help them decrease time to market and the increase product quality for applications like ADAS, Electrification, V2X and autonomous driving. At NI week, Mazda showed how they use the NI platform to build flexible hardware and live simulation systems for infotainment tests. By building on our platform, the team was able to scale their systems as their infotainment needs evolved.

Using the NI platform, Mazda reduced their test time by 90%, saving millions of dollars per year. As a management team, we are focused on gaining market share and delivering a structural improvement in our operating profitability. These two goals drive our decision-making, and I want to congratulate the team for their excellent execution in the first half of 2018.

I will now turn it over to Eric.

[Eric Howard Starkloff, National Instruments Corp.]

Thank you, Alex, and good afternoon. I will start with highlights and reflections from NI Week 2018. Then I'll provide commentary on our performance in the quarter, followed by an update on our sales channel evolution. In May, thousands of our customers came to Austin to learn about new technology and new approaches to solve their engineering challenges and to network with peers and experts. Over the course of the week, we launched over 30 new products and presented hundreds of hours of technical content across multiple industry tracks. We also hosted events in conjunction with NI Week, like our test leadership forum, where top leaders of testing organizations shared best practices built around our platform. Year-after-year, NI Week demonstrates the power and commitment of our users, partners and customers that make up the NI ecosystem.

I will now provide some color on performance in the quarter, starting with geographic regions. In Q2, we saw strong year-over-year order growth across all three regions. Our strongest growth was in EMEA, fueled by a robust European economy, favorable currency exchange rates, and excellent execution by our teams. Our Americas region continued to strengthen and achieve double-digit year-over-year order growth in Q2. APAC growth also strengthened in Q2, as our business from the mobile devices supply chain improved sequentially in the region after weakness in Q1.

Turning to industry performance in Q2. In semiconductor, we saw strong year-over-year order growth after mixed results in Q1. At NI Week, leading semiconductor companies like Intel, Cirrus Logic, and ON Semiconductor spoke about the testing challenges they face from increasingly integrated, lower power and higher performance semiconductor designs. In these and other leading semiconductor companies, our platform continues to see strong adoption in characterization labs and is quickly growing in production tests. More and more semiconductor customers are seeking a common test approach from lab to fab, to lower their cost and decrease time to market.

We also saw very strong year-over-year order growth in automotive in Q2. Our automotive customers are experiencing a major evolution of their technology from the influx of new powertrains, networking and connectivity, software control, and autonomous driving. This shift in vehicle technology, coupled with faster product release cycle is putting additional pressure on development, validation, and production test teams. At NI Week, companies including Mazda and Cummins, discussed the challenges in the transportation industry and how NI's platform is helping them differentiate themselves in a fast-moving market.

For our aerospace and defense business, we ended the first half with positive year-over-year order growth. Orders in Q2 were impacted by some expected headwinds due to acquisition schedules for several major defense programs that won't repeat in 2018. In Q2, our orders from academic customers also grew year-over-year. At NI Week, we launched a significant new academic teaching product, with an ecosystem of partners including Texas Instruments, Quanser Controls and Amona. This new product enables these partners to target specific areas of engineering curricula by providing an instrumentation platform to develop hands on experiments for teaching application specific concepts.

In addition to these focused industry areas, our broad portfolio of customers and many other industries had solid year-over-year order growth in Q2. We believe the strength in this broad set of customers demonstrates the impact of our continued product innovation, the increasing adoption of our platform and a generally favorable economic environment.

Now turning to product performance. Building on the growth momentum from the release of LabVIEW NXG in 2017, application software was our best performing product area in Q2, achieving double-digit year-over-year order growth for both Q2 and for the first half. This strong growth is also a key driver for the adoption of our platform and the loyalty of our customers for the long-term.

With many new software products and features released at NI Week, we are seeing the increase in new capabilities create new opportunities for our sales and marketing teams to reengage existing customers and to engage new customers. We also saw strong year-over-year growth in revenue in Q2 from data acquisition products, demonstrating the broad adoption of our platform. These products provide measurement capability to systems across almost every industry. Modular instrument products, impacted by the slowdown in the mobile devices supply chain in Q1 returned to strong year-over-year order growth in Q2.

Finally, I will share some commentary on our sales channel evolution. At our investor conference this year, we shared with you how we are continuing to create focus throughout our organization, building on the strength of our platform to drive growth in key application areas. Our sales channel evolution includes orienting our coverage model around peer customer accounts and scaling our direct relationship to our very large set of customers through inside sales. We believe the staged rollout of this evolution over the last two years has helped our highly valuable technical sales teams build deeper relationships with key accounts and add more business value.

As our account relationships strengthen, we also gain more insight into the business objectives of our customers, and we are seeing visibility of our pipeline grow from typically 90 days to multiple quarters, and in some cases multiple years. This helps us understand where we can expect growth and helps us refine our own roadmaps to improve our offering and align our investments with the long-term needs of our customers. Through deeper understanding of our customers' business and technical challenges, we provide these innovators with the confidence to use our platform, to invent, demonstrate, and test the technology that will significantly impact not only their business, but improve society as a whole.

Now, I'll turn the call over to Karen for the financial update.

[Karen Rapp, National Instruments Corp.]

Thank you, Eric. Hello, everyone. As Alex highlighted, our orders in Q2 were up 11% year-over-year. Deferred revenue and backlog increased in the quarter and we delivered record revenue for a second quarter at $341 million, up 7% year-over-year. For the first half of 2018, revenue was $653 million, up 6% year-over-year. Non-GAAP gross margin in Q2 was 78.3%, up 170 basis points year-over-year, driven primarily by the strength of our broad-based software and data acquisition products as well as favorable currency exposure. We also had record operating income for the second quarter. Our non-GAAP operating margin was 16.2%, increasing 480 basis points from a year ago. GAAP operating margin was 10.8%, up 180 basis points from a year ago. Record Q2 revenue and deliberate expense discipline drove a 49% year-over-year improvement in non-GAAP net income. Q2 non-GAAP net income was $45 million or $0.34 per share.

Moving to the balance sheet and capital management; we ended the quarter with cash and short-term investments of $428 million at June 30, 2018. During the quarter, we paid $30 million in dividends and the NI Board of Directors have approved a dividend of $0.23 per share for Q3.

Now looking at Q2 orders, the value of our total orders was up 11% year-over-year in U.S. dollars. Orders with a value below $20,000 grew 6% year-over-year in the second quarter. As an indicator of the strength of our system success, we saw all orders over $20,000 up 16% year-over-year, the highest growth in eight quarters.

Now I would like to take a look at Q3 2018, which will include forward-looking statements. We're optimistic about delivering significant operating leverage in 2018. In Q3 we want to deliver on our growth and profit goals, while also improving operational efficiency. We currently expect revenue in Q3 2018 to be in the range of $325 million to $355 million. We expect GAAP fully diluted earnings per share will be in the range of $0.20 to $0.34 for Q3 with non-GAAP fully diluted earnings per share expected to be in the range of $0.32 to $0.46.

For these forward-looking statements, I must caution you that our actual revenues, expenses and earnings could be negatively affected by numerous factors such as any weakness in global economies, foreign exchange fluctuations, expense overruns, manufacturing inefficiencies, adverse effect of price changes and effective tax rate changes.

In summary, I'm pleased with our continued focus on growth and profitability. Leadership's implementation of the new core strategic vision has been very effective internally at driving alignment across all organization to the top priorities, which we believe will be the most opportunities for growth. In addition, we remain committed to delivering to our goal of 18% average non-GAAP operating margin through the economic cycle. Our clear focus and operational discipline have helped deliver a 74% increase in non-GAAP net income for the first half of 2018, compared to the first half of 2016.

The management team will be participating in the Jefferies Industrial Conference in New York on August 7 and the Deutsche Bank Technology Conference in Las Vegas on September 12. We look forward to seeing you there.

I will now turn it back over to Alex.

[Alexander M. Davern, National Instruments Corp.]

Thank you, Karen. I'm pleased with our record revenue and our record profitability for the first half. We made tremendous progress towards our profitability goal over the last 18 months. Looking forward, we plan to continue aligning our investments and our business behind a new core strategic vision with a goal of driving improved revenue growth and we intend to maintain the discipline needed to hit our long-term operating model.

To close, I want to express my personal appreciation for our employees. Your focus and dedication to delivering value for our customers is key to delivering the business results necessary to drive the performance of our company and the growth of your careers.

We will now take questions.

[Operator]

Thank you.

Our first question is from Vijay Bhagavath of Deutsche Bank. Your line is open.

[Vijay Bhagavath, Deutsche Bank Securities, Inc.]

Yes. Thanks. Hey, good afternoon. Yes, while you don't guide 90 days, I would like to get at least a qualitative view of how we should look at the rest of the year and ideally into next year because your primary end markets. And are there any interesting new product sets that we could expect through year end and next year that could you know kind of expand time or get you into new avenues of growth? Thanks.

[Alexander M. Davern, National Instruments Corp.]

Vijay, thank you so much for your question. Yes, certainly we're really pleased to see a record first half. Obviously, we're guiding to record revenue and record profitability again for Q3. So very well-positioned I think to deliver on our commitments in terms of revenue growth and profitability for 2018. Overall, the economic backdrop and I think also the technology evolution backdrop remain quite strong. So, we remain optimistic as we look to the rest of 2018 and certainly changing in the end markets on the advent of major new technology shifts, both in communications and automotive aerospace defense, I think open up the opportunities for the overall test and measurement industry to have pretty good economic and technology conditions in 2019.

We're always driving innovation, and obviously at NI Week brought a lot of innovative new products to market. So, continually working to expand our Sam (17:22) and most importantly to be able to reach those customers who most value our differentiated platform. Perhaps, Eric would like to comment a little bit on some of the different market areas, where we see particular strength and how that might evolve into next year.

[Eric Howard Starkloff, National Instruments Corp.]

Absolutely. And good afternoon, Vijay. Yes, we're certainly encouraged by first of all the accelerating order growth overall, 11% order growth, double digit in the quarter, higher than the order growth in Q1 and higher than the order growth in the trailing 12 months. For the end markets, as you asked, I'd point you to the material that we shared at the Investor Conference where we presented the growth thesis in the focused industries. Those remain the focused areas as I highlighted in some of the prepared remarks. We continue to see significant opportunities in those areas, and see those areas as growth drivers and Alex highlighted them across semi, transportation and aero defense.

I'll just comment also that underpinning that, the strength of the platform and the innovation we brought to market which impacts all of those areas, one of the most encouraging areas is the growth in our software, that indicates broad adoption of our software. That's also been an accelerating growth as we've shared over the past few quarters. Between that and our broad-based data acquisition which serves all of these market spaces, we see that as really creating opportunity in those spaces.

[Alexander M. Davern, National Instruments Corp.]

The last comment I'll probably make Vijay as well too, we've demonstrated tremendous operating leverage over the course of last 18 months with relatively limited revenue growth in 2017 and accelerating order growth in year 2018. We remain very committed to the operating model that we laid out at our investor conference and committed to our goal of delivering 18% non-GAAP operating margin through the economic cycle.

Thank you for your question.

[Vijay Bhagavath, Deutsche Bank Securities, Inc.]

Always. Thank you.

[Operator]

Thank you. And I'm showing no further questions at this time. I'd like to turn the call back over to Alex Davern for any further remarks.

[Alexander M. Davern, National Instruments Corp.]

Thank you very much for your time and attention today. I want to again congratulate the NI employees for a tremendous first half of 2018, we look forward to continuing to build on that and to deliver a record year for our shareholders and for our employees. Thank you.

[Operator]

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 great day.