National Instruments Corp

F:NI1

Earnings Call Transcript 2018-Q4

[Operator]

Good day, ladies and gentlemen, and welcome to the National Instruments Fourth Quarter 2018 Earnings Conference Call.

At this time, all phone 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, today's conference may be recorded.

With us today are Marissa Vidaurri, Head of Investor Relations; Alex Davern, Chief Executive Officer; Eric Starkloff, President and Chief Operating Officer; and Karen Rapp, Chief Financial Officer.

I'd now like to turn the call over to Marissa Vidaurri, Head of Investor Relations for opening remarks.

[Marissa Vidaurri, IR]

Good afternoon. Thank you for joining our Q4 2018 earnings call. During the course of this conference call we shall make forward-looking statements, including statements regarding future growth and profitability, our focus, our customers continuing to innovate, our cash deployment, and our guidance for revenue and EPS for Q1. 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 quarterly report on Form 10-Q filed on October 31, 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 Chief Executive Officer of National Instruments, Alex Davern.

[Alex Davern, CEO]

Thank you, Marissa. Good afternoon, everyone, and thank you for joining our fourth quarter conference call. Our key messages today are record quarterly and annual revenue, record quarterly and annual profit and we delivered on our long term profitability goal in 2018. Before reflecting on the year, I'd like to give an overview of Q4. I'm proud of the team's execution in the fourth quarter despite the recent headwinds impacting the technology sector.

Revenue came in at the low end of guidance due to challenges in the quarter related primarily due to our APAC business, particularly in Greater China. While it's tough to draw absolute conclusions, it is feel to us that recent trade tensions coupled with a weakening PMI and disruptions in the mobile devices market have had an unsettling effect on the market in Asia in Q4.

Despite the challenges in APAC in Q4, I'm proud to report all-time records for revenue and net income both for the quarter and for the full year. We've been very disciplined in our execution over the last two years and Q4 was the highest quarterly non-GAAP net margin in the company's history, a 20% of revenue.

In 2018, revenue was $1.36 billion, non-GAAP net income was $208 million, up 42% year-over-year and up 86% over the last two years. We also generated $275 million in cash flow from operations in 2018 ending the year with $531 million in net cash. We tend to be more aggressive to deploy cash through strategic accelerators within our focus industries to expand the technology capabilities of our platform and reach new customers.

In reflecting in two years as CEO of National Instruments, I'm very pleased with our execution of the team. When I took on the role of CEO in January 2017, we said two key goals, to deliver record revenue and to hit our operating profit target by 2019. I'm happy to say, we achieved both our goals, delivering record revenue in 2017 and again in 2018.

On the profitability side, we hit our long term target of 18% non-GAAP operating margin in 2018, one year ahead of schedule. As a result, our non-GAAP net income has increased by almost 90% since 2016. Many portions of our business reported all-time records this year and while Eric will review our regional and industry results, I'd like to take a few minutes to address the success we saw with our software platform in 2018.

Our customers continue to respond positively to our software investments in LabVIEW NXG. 2018 was a great year for software revenue, we saw double digit growth year-over-year. In addition, we saw continued growth of our software enterprise agreement program demonstrating its widespread adoption in our industry. More than any other metric, this gives me strong confidence in our long term growth potential. We believe that software adoption drives loyalty and gives us access to more of our customers test and measurement opportunities.

As a result, we believe, we are well-positioned to continue investing in our platform both organically and inorganically to address future customer needs and to accelerate our vision to be the leader in software defined automated tests and automated measurement systems.

With record revenue, record profit, record cash flow from operations and a record cash balance, I believe, we're in a very strong position as we start 2019. We believe our focus on key industries enables us to be more aggressive in driving revenue growth in order to expand the technology capabilities of our platform and to reach new customers. We're focused on taking share and positioning NI for long term growth.

To talk more about - more about our performance within these industries and geographically like to turn it over to Eric Starkloff, President and Chief Operating Officer.

[Eric Starkloff, President & COO]

Thank you, Alex and good afternoon. Our core strategic vision continues to provide focus for our business. And I'm excited to see how the company continues to work together to achieve that vision. We believe our vision provides clarity in the industries and applications where our platform adds the most value to our customers. And despite its recent economic headwinds, our customers continue to innovate and they use our platform to help them get to market faster and stay ahead of their competition.

We finish 2018 with total year-over-year order growth of 8%. We're pleased with the strong annual performance and the execution of our global teams. In Q4 total orders were up 2% year-over-year excluding the weakness we saw in Greater China, orders were up 5% year-over-year. Greater China was the primary contributor to order weakness in the APAC region where orders were down 7% year-over-year in Q4 and up 3% year-over-year for the full year.

Orders in our EMEA region were flat year over year in Q4 reflecting a headwind in foreign exchange and a weaker European economy. For the full year, orders in EMEA were up 8%. Our Americas region achieved 12% year-over-year order growth in Q4 and 11% order growth for the year.

This is a strong result and builds on multiple years of improving growth in this region. This success is attributed to our intentional investment in our sales evolution, the deep relationships we are building with our customer accounts and a favorable economic environment.

Now turning to industry performance. In semiconductor, we continue to see strong growth with double digit growth year-over-year for orders in Q4 and for the year. We had significant wins in areas we have put deliberate focus on including the validation and production test of early sub 6 gigahertz 5G semiconductors.

Our platform continues to see strong adoption in these applications by providing systems that can be used by our customers across characterization, validation and production test helping them save time and cost. We also saw order growth in our transportation business in Q4 with continued strength in automotive. For the year, we saw solid growth in transportation orders up double digit year-over-year.

While the overall production rate of automobiles weakened in Q4, our customers in automotive continue to invest in key technologies to stay ahead of their competition as the industry is experiencing disruptive change. They are using our platform to address fast growing technology such as electric and hybrid power trains, increased sulfur content and autonomous vehicles.

Despite the weakness in Greater China, our aerospace, defense and government business grew double digits in Q4 and at a high single digit rate for the year. Our platform continues to add significant value in this industry as seen in our strength in this business in EMEA and the Americas. This industry in particular highly values our software centric modular approach as it enables them to meet their needs for highly customized and long lifecycle systems.

In addition to these industries, our broad portfolio of customers in all other industries achieved order growth for the full year and declined in Q4 due to weakness in Greater China. While this business tends to be more closely tied to the overall macroeconomic environment, we have identified and focused on areas within this business to drive growth.

We believe that continued stability in this broad set of customers demonstrates the impact of our continued product innovation and the increasing adoption of our platform. Despite economic headwinds our industry may face, we know that the innovation in our customer accounts must continue and our platform is a critical component of their success. We believe, we are particularly well positioned due to the focus on our vision, our well-executed sales evolution and our product innovation continuing to deliver more system level value to our customers.

Now I'd like to turn the call over to Karen, our Chief Financial Officer for the financial update.

[Karen Rapp, CFO]

Thank you, Eric. I'm proud of our performance in Q4 despite the unexpected weakness in Greater China at the end of the quarter, we were able to close out the year strong with record revenue, record profit, and record cash from operations, which we believe is a testament to the value we offer our customers and the dedication we have to operational efficiency. We met our 18% operating target ahead of schedule reporting 18%, non-GAAP operating margin in 2018.

For Q4, revenue was $360 million at the low end of our guidance due primarily to weakness in Greater China in November and December. In Q4, revenue grew 3% year-over-year. Non-GAAP cash gross margin in Q4 with 78% up 30 basis points year-over-year.

Our Q4 non-GAAP operating margin was 23% increasing 250 basis points from a year ago. The company reported Q4 GAAP net income of $57 million or $0.42 per share. Non-GAAP net income was $71 million or $0.53 per share, which represents a 28% year-over-year increase. For the full year 2018, GAAP revenue was a record $1.4 billion, up 5.4% over 2017.

Our 2018 non-GAAP gross margin was 78%. For the full year, non-GAAP net income was $208 million, up 42% year over year. With non-GAAP operating expenses up only 60 basis points year-over-year at $815 million. The reconciliation of our GAAP and non-GAAP results is included in our earnings news release.

Now an update on our capital allocation strategy. During the quarter, we paid $31 million in dividends and the NI Board of Directors approved an increase of 9% in the dividend taking us to $0.25 per share for Q1. Also this quarter, the Board of Directors approved an increase to our share repurchase plan to 4 million shares. Our effective non-GAAP corporate tax rate for 2018 was 16%. And looking forward based on our understanding of the new tax laws, we estimated 2019 tax rate in the range of 17% to 18% subject to the risk of adjustments.

Now looking at orders in more detail. For Q4 the value of our total orders was up 2% year over year in US dollars. Orders with a value below $20,000 were down 2% year-over-year in the fourth quarter. As an indicator of continued strength in our system sales, we saw all orders over $20,000 up 6% year-over-year. For the year, total orders were up 8% year-over-year.

Although we have started January with 7% year-over-year order growth to-date, we remain cautious due to economic uncertainty and the end of quarter impact we saw in Q4, 2018. We currently expect total revenue in Q1 2019 to be in the range of $305 million to $335 million, up 3% at the midpoint. We expect GAAP fully diluted earnings per share will be in the range of $0.12 to $0.26 for Q1 with non-GAAP fully diluted earnings per share expected to be in the range of $0.23 to $0.37.

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 economy, fluctuations in revenue from our large customers, foreign exchange fluctuations, expense overruns, manufacturing and efficiencies, adverse effect of price changes and effective tax rates.

In summary, I'm proud of the progress we have made in improving our operating performance this year. We delivered on our profitability goal ahead of schedule and reported record revenue in Q4 and for the year. We will continue to focus on the key industries where we believe our platform is best suited to serve our customers and continue investment in R&D as our customers continue to innovate. We enter 2019 in a position of strength with opportunity to expand top line growth initiatives.

With that, I'll now turn it over to Alex for some closing comments.

[Alex Davern, CEO]

Thank you, Karen. In closing, like other companies in our industry, we're starting 2019 on a cautious note. However, we remain confident in our long term growth prospects. We've made tremendous progress over the last two years delivering innovative new products to drive value for our customers, improving results for our shareholders, securing new growth opportunities for our partners and creating outstanding career opportunities for our employees.

I'd like to thank our employees for their hard work and operational excellence as we continue our journey to be the leader in software defined automated test and automated measurement systems. We continue growth in semiconductor transport and aerospace defense in Q4. It's clear our focus on target industries has enabled us to continue to deliver growth despite for broad challenges in the industrial economy.

With record revenues, record profit, record cash flow from operations and a record cash balance, we're in a strong position as we start 2019. We're focused on taking share and positioning NI for long term growth.

We will now open up for your questions.

[Operator]

[Operator Instructions] Our first question comes from line of Vijay Bhagavath with Deutsche Bank. Your line is now open.

[Unidentified Analyst]

Hi, this is Bryan [ph] in, on for Vijay. I just had two questions from my end. First, can you talk about the PMI trends and how we should think about that kind of impacting your end market demand this year?

And then second, what products in particular are kind of exposed to the China weakness that you mentioned earlier? Thanks.

[Alex Davern, CEO]

Yes, so Bryan, thanks for your question. Just in relation to the PMI, obviously we've seen deceleration in the PMIs kind of across the globe over the course of the last quarter or so. And that tends to have a reasonably strong correlation over time with our portfolio business as Eric mentioned early on all other industries.

What I'm particularly pleased about as we look at 2018 overall is that where we really focused our effort we've driven growth both for the full year and in Q4 and so really happy to see us deliver 8% overall order growth for the year and significant improvement in our overall profitability.

As Karen said entering Q1 we are being cautious, we had a reasonably good start to the quarter in January. We are anticipating some knock on impact from the earnings season and anticipating some potential slowdown as we get to the end of quarter here in Q1. So, we're trying to build that into our guidance. I'll let Eric answer the question in relative to the product side.

[Eric Starkloff, President & COO]

Yeah. Hi, Brian. So on the product side as the weakness that we saw in Greater China was really broad, wasn't tied to a particular product or product line, as I mentioned from my prepared remarks that kind of crossed many of the industries we serve with the exception in some of the multinational semiconductor companies that stayed relatively strong in the quarter.

And you know a way to think about the performance I guess in Greater China is not just versus the previous year but versus our expectations, we came into the quarter expecting strong double digit growth in Greater China and saw effectively double digit decline

[Alex Davern, CEO]

Thank you, Bryan.

[Operator]

Our next question comes from line of Scott Devitt with Stifel. Your line is now open.

[Scott Devitt, Stifel]

Hey, guys. So again about the China business, as far as timelines go, how should we think about this? Is it going to be more of a short term thing or is this going to be over in the next couple of years?

[Alex Davern, CEO]

It is a very good question. You know suddenly or certainly that the deceleration that we saw as Eric mentioned was quite significant and relatively sudden as we got into November and December. Overall you know looking at this business for 25 years I've been at the company, you know that's an unusual event.

Generally these things don't reverse immediately. So, I would say we're probably looking at this at least for a couple of quarters. I think it's unlikely that this will be a lingering effect beyond that point in time it's difficult to be exact at this stage, but when I've seen this in my past history it tends to be 2 or 3 quarters.

I mean in the end our customers because we sell products that enable innovation. They enable our customers to bring new products to market. They're critical for their ability to be able to continue to innovate. When I've seen this in the past we generally see the business tend to come back reasonably strongly after a period of pause.

[Operator]

[Operator Instructions] Our next question comes from the line of Richard Eastman with Baird. Your line is now open.

[Richard Eastman, Robert W. Baird]

Yes I'm going just pile on here a little bit. Given the commentary in the press release about revenue would have met expectations without the China slowdown. If I assume that meeting expectations was a midpoint of the guide. So was China down about 15 million in dollars? And could you just give us a sense of how much that might be percentage wise?

[Alex Davern, CEO]

Yes, so Rick, as Eric said earlier on we saw you know we'd expected continued double digit growth in China. And we actually saw effectively a double digit decline. China is roughly half our overall APAC business so it's quite significant in terms of its impact and as we said in the prepared remarks outside of Greater China and the rest of the world in aggregate we met our expectations for Q4.

I wanted to call out also through our China team a really good execution by the team in a difficult environment. We're hearing that from everybody right now but really pleased with the execution of our team in China to deliver I believe a continued gaining market share. Well that will remain to be seen when we see all the numbers out there. And really being a key part of our growth over the last number of years helping us deliver our profitability.

[Richard Eastman, Robert W. Baird]

Was the business in China was it any what focused or concentrated on the handset test every business because we had that hiccup in the first quarter. So presumably that business doesn't come back like it had been prior to last year's first quarter. But as you know Eric mentioned it was across the board but the handset test business I mean what does that look like therefore - that just kind of stay flat and down.

[Alex Davern, CEO]

I'll comment, Rick. Yeah, as I mentioned it was across the board is included as we mentioned some weakness in that supply chain but also in other parts of China business across all the different industries effectively that we serve. So, it wasn't just isolated to the mobile devices supply chain.

So, you're seeing it Rick in areas you know you're seeing some slowdown in investment in transport there. Aerospace, defense, academic, broad industries you know and were that all seems broad bellwether actually. So if semi continued to be strong as we're seeing a lot of disruption overall but in general a lot of the spaces that we serve in China seem to see a simultaneous impact.

[Richard Eastman, Robert W. Baird]

Is that showing up in the orders under 20,000 primarily? Or is it in greater than $20,000 order bucket?

[Alex Davern, CEO]

In terms of overall impact you know as Eric said in his prepared remarks, I mean the impact on our growth was the difference between plus 5% without Greater China and plus 2% with it. Obviously, when you count our actual growth expectation the impact is more significant than that but certainly felt more on orders over 20 K which is kind of where you'd expect to see you know a decision being made to slow down or show up.

[Richard Eastman, Robert W. Baird]

Okay. And then if I might, could you just give the FTE number? And a question around what that might look like in 19? And then also Alex if sales growth for the full year would be let's just say 5% or low single digit. Will now he have the ability to deliver you know a 30% incremental EBIT? Or how should we think about the leverage model here given how we're starting with first quarter sales guide that you know somewhere between minus two and plus 7?

[Karen Rapp, CFO]

Sure. Rick, hi this is Karen. Let me take that question. From a headcount perspective, we ended the year just shy of 7300 people, 7,263 from an operating - from an operating model, we are sticking to the model that we presented back in May at Investor Day. If we model out a 5% revenue growth level we would expect to still continue to see 18% and 19% operating income. And we'll have an update for that in May this year. I hope you can make it to Investor Day again as we get that in Austin.

[Alex Davern, CEO]

So you've been following this for a long time almost as long as maybe in my 25 years here. We've had three previous recessions that I've been in leadership for and we are much better prepared frankly should we see a slowdown of significance this time around.

We're our operating model target in 2019 which is important. You know - 75 million in cash flow from operations for the year record cash balance, we've increased our variable comp component. So you know we set a target to be between 15 and 20 an operating margin and net 80% through the cycle.

We're very serious about that and I've been preparing for the last two years to do exactly that. So I definitely feel like we're much better prepared than we have been in the previous three slowdowns and I look at this should there be you know some period of slowdown here also is an opportunity and an opportunity for us to gain share.

We tend to gain share more when our customers are more focused and more cost conscious. And it may also be an opportunity from a deployment of cash through a strategic accelerators that we believe will enhance our ability to drive long term revenue and market share gains over time.

[Operator]

And I'm showing no further questions in queue at this time. I'd like to turn the call back to Mr. Davern for closing remarks.

[Alex Davern, CEO]

Thank you very much. Appreciate your time today and we look forward to talking to you in April. Also take the time to check out our Investor Conference Planning for NI week and make sure to get your registration in. Thank you.

[Operator]

Ladies and gentlemen thank you for your participation in today's conference. This concludes the program and you may now disconnect. Everyone, have a great day.