NOVT Q4-2019 Earnings Call

Operator

Good morning. My name is Eileen and I will be your conference operator today. At this time, I would like to welcome everyone to the Novanta Incorporated's 2019 Fourth Quarter and Full Year Earnings Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] Please note this event is being recorded.

I would like to turn the conference over to Ray Nash, Corporate Finance Leader for Novanta. Please go ahead.

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Ray Nash

Corporate Finance Leader

Thank you very much. Good morning and welcome to Novanta's fourth quarter and full year 2019 earnings conference call. I am Ray Nash, Corporate Finance Leader of Novanta. With me on today's call is our Chief Executive Officer, Matthijs Glastra; and our Chief Financial Officer, Robert Buckley. If you have not received a copy of our earnings press release issued today, you may obtain it from the Investor Relations section of our website at www.novanta.com. Please note this call is being webcast live and will be archived on our website shortly after the call.

Before we begin, we need to remind everyone of the Safe Harbor for forward-looking statements that we've outlined in our earnings press release issued earlier today and also those in our SEC filings. We may make some comments today both in our prepared remarks and in our responses to questions that may include forward-looking statements.

These involve inherent assumptions with known and unknown risks and other factors that could cause our future results to differ materially from our current expectations. Any forward-looking statements made today represent our views only as of this time. We disclaim any obligation to update forward-looking statements in the future, even if our estimates change. So, you should not rely on any of these forward-looking statements as representing our views, as of any time after this call.

During this call, we will be referring to certain non-GAAP financial measures. A reconciliation of such non-GAAP financial measures to the most directly comparable GAAP measures is available as an attachment to our earnings press release. To the extent that we use non-GAAP financial measures during this call that are not reconciled to GAAP measures in the earnings press release, we will provide reconciliations promptly on the Investor Relations section of our website after this call.

I'm now pleased to introduce the Chief Executive Officer of Novanta, Matthijs Glastra.

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Matthijs Glastra

Chief Executive Officer

Thank you, Ray. Good morning everybody and thanks for joining our call. Novanta performed very well in the fourth quarter of 2019 with both revenue and adjusted EPS exceeding the top end over guidance and revenue up nearly $6 million sequentially versus the third quarter. The company delivered nearly $160 million in revenue representing 2% year-over-year revenue growth on a reported basis and 2% decline on an organic basis.

For the full year of 2019, we delivered $626 million in revenue which represents reported growth of 2% year-over-year on a reported basis and organic growth of approximately 1%. Adjusted EBITDA was $31 million in the fourth quarter and 121 million for the full year. Adjusted EPS was $0.55 in the fourth quarter and $2.14 for the full year.

Our team executed very well in an industrial capital spending market which has been in recession for the past few quarters. Our book-to-bill was 1.07 in the fourth quarter and was exactly 1.0 for the full year. In the fourth quarter, we saw strong bookings across the board up sequentially by 6% versus the third quarter and up 4% year-over-year, with each of our segments showing positive book-to-bill ratios on the back of strong commercial execution and solid demand especially from some of our medical customers.

Novanta's positioning is favorable with over half of our revenue in medical markets that are structurally growing. We remain laser focused on growing faster than the market with proprietary motion, vision and photonics capabilities in a diverse set of applications driven by secular industry 4.0, precision medicine and healthcare productivity trends. We are strongly investing in innovation and commercial capabilities through business cycles to enhance our proprietary technology position, and long-term sustainable growth, potential and secular growth applications such as robotic surgery, minimally invasive surgery, DNA sequencing, advanced material processing, and precision automation and robotics.

In 2019, we saw excellent momentum and success in our efforts to introduce new innovations to our customers. On the back of the innovation investments we've made we view our innovation pipeline as the strongest it's ever been with significant opportunities in the growth applications highlighted earlier. As a result, we are raising our R&D investments in 2020 from 9% of sales to 10% of sales to bring these innovations to market in the back end of 2020 and in 2021.

For the full year of 2019, new product revenue grew 27% year-over-year. Our vitality index, which is revenue from new products launched in the last four years, was at 26% of sales versus 22% in 2018 and mid single digit percentages a few years ago. Design wins grew over 20% for the full year as our teams executed on the strong funnel of design win opportunities. We are seeing many customer platforms openings with opportunities to gain share on the back of our strong innovation pipeline. All in all, I'm very proud of the strong performance by our commercial and R&D teams in 2019, despite the market circumstances.

An important element in our capital deployment strategy is M&A. In 2019, we closed three acquisitions, Ingenia, Med X Change and ARGES, one in each of our operating segments. Each of these acquisitions significantly accelerates our strategy to sell more content to our customers in the form of intelligent subsystems, which include an increased software content. We are specifically targeting to sell these subsystems to customers who play in high growth markets such as additive manufacturing, minimally invasive surgery, robotic surgery and other high growth areas.

The engineering capability we've acquired via these acquisitions is tremendous. And we see strong sales and technology synergies by applying these capabilities through the Novanta sales channels. As we look at it right now, through these acquisitions combined with our own R&D investments, we will be able to accelerate our innovation pipeline in a very meaningful way with multiple products hitting the market towards the end of 2020 and in 2021.

For the full year of 2019, the percentage of our revenue coming from intelligent subsystems is above 25% of sales. And we expect this to steadily increase over time. From an M&A pipeline perspective, we remain very disciplined on strategic fit and returns. Our balance sheet is strong and we will move quickly if an opportunity arises that we feel accelerates our strategy and delivers attractive returns.

Let me touch on what we're seeing in our markets in the overall macroeconomic climate. Our medical markets continued to be very robust. We saw double digit growth in our medical businesses for the full year of 2019. And momentum is broad based, but we are particularly pleased with our momentum in robotic and minimally invasive surgery.

Novanta is gaining share in these markets driven by innovations and we expect that momentum to continue in these areas. I would also like to point out that we're achieving double digit growth in our medical business despite a full year double digit decline in DNA sequencing. Representing approximately 55% of our revenue, we expect our medical business to continue to serve as a growth engine in 2020 in an uncertain macroeconomic climate.

In the fourth quarter we saw a stabilizing industrial capital spending climate, but at a continued weak level. We also saw our revenue in China bounce back to growth of approximately 15% versus the fourth quarter of 2018 on the back of five key infrastructure and semiconductor markets. Obviously, the coronavirus has changed this and Novanta will not be unique in the way we will be affected.

I will let Robert explain in more detail the implications of the health epidemic to our financials, but I would like to say first and foremost, that we're very pleased that all our 200 Chinese employees are safe and that our Chinese operation in Suzhou is running at 90% production capacity. Despite this, our Chinese based customers and suppliers are still slowly coming back online and therefore the situation remains uncertain. The effects of the health epidemic are expected to impact our first quarter and perhaps first half results that are clearly temporary in nature.

In his environment, we focus heavily on our customers and what we can control. We continue to have the confidence to invest in our innovation pipeline and driver businesses to capture emerging new customer opportunities. These opportunities are significant and should solidify and even strengthen our long-term growth in 2020 and beyond and/or opportunities available to us only if we act fast and decisively.

In addition, we recently held a two day off site meeting with company leaders which focus on institutionalizing the Novanta growth system operating across our business units and deep into the cultural fabric of this company. The Novanta growth system is a common way of working through a set of common tools and processes vigorously applied to accelerate and drive sustained growth and operating performance. We feel that by rigorously applying the Novanta growth system, it will assist us enormously in achieving our goals for 2020, especially in areas of customer satisfaction, speed of market, gross margin expansion and inventory optimization.

Now, let me throw it to our operating segments. Starting with the Vision segment, this segment had phenomenal performance in 2019 with excellent execution by the team as a reminder the Vision segment predominantly serves the medical market. Large applications include minimally invasive surgery, in vitro diagnostics, and other medical devices.

For the full year of 2019, our Vision segment delivered excellent 17% year-over-year revenue growth. Growth was driven by new products and new product launches at customers. In the Vision segment, new product revenue for the full year grew over 60% versus 2018 and total new product revenue maintained at about 35% of sales. The book-to-bill in our Vision segment for the full year was at 1.03.

The Vision segment predominantly serves the medical market and as previously mentioned we saw solid market momentum as well as new product launch momentum which we expect to continue as we progress through 2020. Within the Vision segment, our MIS business again performed extremely well in the fourth quarter of 2019 as it did throughout the full year. We continue to see nice momentum in our one business unit on the back of the smoke evacuation technology we reported on earlier.

We couldn't be more pleased with the innovation strength and customer relationship depth of this business unit and I expect further gain share in endoscopy, as well as expand into adjacencies such as arthroscopy and robotic surgery. We estimate the size of these adjacent market segments to be roughly $200 million. And as a result, we are stepping up our R&D investments in the MIS business.

We're also pleased with trajectory of our NDS business unit as it gains more significant exposure to the attractive integrated OR segment, with a strong new product lineup for 2020 helped by our Med X Change acquisition in 2019. This acquisition has brought to Novanta not only an expanded product portfolio, but also a differentiated OEM software solution for our customers, which we believe to raise increased stickiness with our customers at a more attractive margin profile.

In addition, the NDS business units continue to substantially improve its profitability for the full years of 2019. In the fourth quarter, we completed the production transfer from San Jose into our MIS manufacturing component center, which will significantly improve scale and efficiency in 2020 and beyond.

Finally, our Detection & Analysis business unit continued to show solid momentum around new product launches of medical grade RFID and machine vision product offerings. For the full year 2019, we introduced five new products and saw strong double digit growth and its RFID and machine vision revenue. We're also pleased with the gross margin expansion in this business unit.

Our Precision Motion segment revenue declined 6% for the full year of 2019 where growth momentum in robotic surgery could not offset 20% declines in microelectronics, semiconductors and industrial markets. In the fourth quarter, we did see the first signs of recovery in the microelectronics and semiconductor end markets given the uptick in demand for 5G and cloud based infrastructure. The Precision Motion book-to-bill improved to 1.04 in the fourth quarter with bookings improving sequentially by 19%, also providing a positive leading indicator heading into 2020.

We like our position in precise and dynamic motion control technology serving markets with structural growth dynamics such as precision automation, robotics and robotic surgery markets. As it relates to the surgical robotic markets, we continue to see our technology to be validated, and our position grow with the largest players. The Ingenia acquisition, which added software based motion control solutions to our product portfolio has opened up new opportunities to the company both in medical and industrial robotics markets, and consequentially is on a path of growth to more than double in revenue in 2020 albeit from a small base.

Within the Precision Motion segment, for the full year of 2019, new product revenue grew 40% and our design wins grew more than 60% versus last year as we bring new innovations to market and are expanding our commercial teams.

Turning to the performance our Photonics segments, for the full year of 2019 revenue was down 8% driven by Laser Quantum in a deteriorating industrial capital spending climate. Laser Quantum revenue had a double digit decline for the full year in 2019 as expected and as previously communicated due to the dynamics in DNA sequencing, which we have widely discussed in the last few quarters. We believe the lumpiness we experienced in 2019 is temporary and not correlated with long-term multi-year market demand nor our competitive position. And while we do not expect DNA sequencing to contribute to growth in 2020, we remain excited about the long-term growth prospects and our leadership position of this business.

The full year performance of the Photonics segment was also impacted by the deteriorating macroeconomic headwinds in industrial capital spending markets that we just discussed. However, our teams have been extremely resilient and have worked to counter act many of the challenges in the market and effect gain share with our customers during this downturn.

The Photonics segment in the fourth quarter saw bookings improve sequentially by 2%, with book-to-bill of 1.06. Design wins continued their momentum and grew over 40% year-over-year in the fourth quarter. The innovation pipeline in our Photonics segment is the best it has ever been. And it has accelerated by our recent ARGES acquisition in beam delivery.

We are anticipating introducing six new product platforms in 2020 which is double the amount we introduced in 2019. And which are expected to help us gain share in adjacent high growth application segments. Target applications include laser additive manufacturing, micromachining, advanced material converting and electric vehicle battery welding, all of which are an overall additional market opportunity of about $150 million. The revenue impact of these new product launches will be more material in 2021 and beyond, but we do expect to begin to see some sales on the back end of 2020 as these new products come online.

To wrap up, we are very pleased with our positioning and performance and our medical end markets are very proud of the performance, resilience and agility of our teams in an uncertain environment. At Novanta, we believe that a healthy company culture is the ultimate competitive advantage in the face of opportunity and adversity. This means trusting each other being profitable with constructive conflict for the good of the company and holding each other accountable to deliver. Our version of a healthy performance culture is the Novanta way which institutionalizes how we work together in cohesive and trusting teams, how we behave and interacts through our five core values, and how we execute through to Novanta growth system.

We feel Novanta is very well positioned despite the near term challenges in the broader economy. Our design momentum continues to be high; bookings are recovering and new product introductions and innovation pipelines are as strong as they have ever been. Title: Novanta Inc. (NOVT) CEO Matthijs Glastra on Q4 2019 Results - Earnings Call Transcript

Symbol: NOVT

Call Start: 10:00

Call End: 10:59

Novanta Inc. (NOVT)

Q4 2019 Earnings Conference Call

February 26, 2020 10:00 AM ET

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Company Participants

Ray Nash - Corporate Finance Leader

Matthijs Glastra - Chief Executive Officer

Robert Buckley - Chief Financial Officer

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Conference Call Participants

Lee Jagoda - CJS Securities

Richard Eastman - Robert W. Baird

Brian Drab - William Blair