Baylin Technologies Inc

TSX:BYL

Earnings Call Transcript 2021-Q3

[Operator]

Good morning, ladies and gentlemen, and welcome to the Baylin Technologies Inc. Third Quarter 2021 Earnings Conference Call. [Operator Instructions] I would now like to remind everyone that this call is being recorded on November 11, 2021. I'll now turn the call over to Mr. Daniel Kim, Executive Vice President, Corporate Development of Baylin Technologies. Please go ahead.

[Daniel Kim]

Hello, and welcome, everyone. Thank you for joining us this morning for the third quarter 2021 earnings conference call for Baylin Technologies. Joining us this morning is Leighton Carroll, our CEO and Cliff Gary, our VP Finance and Acting CFO. We will all be available for questions at the end of the presentation.Before we begin, let me make clear that our comments today may include forward-looking statements and information and answers to questions that could imply future expectations about the prospects and financial performance of the business for the remainder of 2021 and into 2022 and could include the use of non-GAAP measures. These statements are subject to risks, uncertainties and assumptions. Accordingly, actual performance could differ materially from statements made or information provided today, so you should not place undue reliance on them. We also do not intend to update forward-looking statements or information, except as required by law. I ask that you read our legal disclaimers and explanation of the use of non-GAAP measures, and we refer you to the risks and assumptions outlined in our public disclosures in particular, the sections entitled Forward-looking Statements and Risk Factors in our annual information form for the year ended December 31, 2020, and our filings, which are available on SEDAR.Q3 2021 results were released yesterday after market close. The press release, financial statements as well as the MD&A are available on SEDAR and on our website at baylintech.com. I would now like to turn the call over to Leighton.

[Leighton W. Carroll, President & CEO]

Thank you, Daniel. First of all, I'd like to take a moment to recognize that today is Remembrance Day. Baylin is a proud Canadian company, and I would like to take a moment to thank the veterans who have served this great country. The third quarter saw several important developments. First, we closed the first tranche of our private placement. Secondly, we made significant strides in several areas of our business. During the quarter, we raised $10 million from the sale of 11.765 million common shares at $0.85 per share. This is a demonstration of our major shareholders' commitment to our business, specifically a company whose investment decisions are made by Jeff Royer, the Chairman of our Board of Directors, purchased 98.7% of the shares in the private placement. As agreed with our principal lenders, the net proceeds are available to be used in the business without restriction and will be available to fund both operation and capital as required as well as for debt service.The second tranche of the private placement was completed on October 21 and raised an additional $5 million. The second tranche of 5.46 million shares was primarily purchased by the same company whose investment decisions are made by Mr. Royer. The remaining 422,800 shares were purchased by other insiders, including myself. The third quarter showed the signs of the potential of our business. While risk remains and will be an ongoing challenge for us, we made significant headway in a number of areas. We will provide additional detail later in the presentation, but I would like to highlight the following: First, revenue was $30.2 million, an increase of $8.6 million or 39.7% over Q2 with an increase seen across all business units; secondly, net cash from operations increased by almost $1 million since the end of the second quarter; third, we had 2 months of positive adjusted EBITDA, specifically in August and September; finally, our backlog is at record highs for our business, and has grown in the time that I have been here.Cliff Gary, our VP of Finance, will now comment on our third quarter results.

[Cliff Gary]

Thank you, Leighton. As Leighton mentioned, revenue was $30.2 million in the third quarter of 2021, an increase of $8.8 million or 39.7% over the previous quarter, with increased revenue across all business lines despite experiencing supply side disruptions. However, in comparison to the third quarter of 2020, it was a decline of $6.4 million or 17.4%, due mainly to lower sales in Asia Pacific, which had been inflated in Q3 2020 due to the recovery of pent-up demand in smartphone sales from the reopening of commercial cellular stores across North America and Europe. Secondly, lower sales in Satcom in part due to supply challenges, which were accompanied by continued growth in order backlog.Gross margin was 20.8% in the third quarter compared to 28.4% in the corresponding quarter in 2020, being negatively impacted by the continued sale of the consumer product by Asia Pacific. It should be noted that the loss in this business was reduced significantly from a loss of $2 million in the second quarter of 2021 to a loss of $0.3 million in the third quarter. Operating expenses in the second quarter were $10.2 million compared to $11.1 million in the second quarter of 2020. The reduction reflects lower salaries and benefits due to headcount reductions and lower development costs as part of our cost reduction measures, as well as lower onetime EBITDA adjustment costs. The company's operating loss in the third quarter was $3.9 million compared to a loss of $0.8 million in the third quarter of 2020. This was due mainly to lower revenue and gross margin, which were higher in the prior year period due to the recovery in cellphone sales, previously discussed, and partially offset by lower operating expenses.Net cash at 30 September 2021 increased by $5.9 million from December 31, 2020, primarily due to a drawdown of the Vietnam loan, proceeds from the exercise of common share warrants issued in December 2020, proceeds from the private placement on September 1, and a decrease in noncash working capital. Net cash generated from operating activities was $0.9 million in the third quarter due to improved operating performance and cash management. This compares to a net cash used in operating activities of $2.8 million in the second quarter of 2021. Our cash conversion cycle improved to 38 days from 60 days at the end of the prior quarter. Capital expenditures were $0.2 million in the third quarter with aggregate expenditures to September 30 of $0.7 million. The company continues to monitor its capital spending closely in an effort to conserve cash. Finally, I'd like to update you on the situation with our consumer product program in Asia Pacific. We previously reported a loss on this product of $4 million year-to-date at the end of the second quarter of 2021. Although we continue production of this product, it is at declining volumes as the program is wound down and expected to end in the first half of 2022, and second supplier has been contracted by the customer. In the third quarter, we incurred a relatively small loss of $0.3 million, primarily related to quality issues in inventory. We substantially improved the economics of this product in mid-August from which time we ceased to lose money on the product and do not expect any future further losses. I'll now turn the call back to Leighton.

[Leighton W. Carroll, President & CEO]

Thank you, Cliff. We saw several promising developments during the third quarter, notably achieving positive adjusted EBITDA in August and September, the first 2 months of the year, generating $1 million in net cash from operations. And finally, we grew our order backlog to the highest levels in our history. In Q3 alone, we increased our order backlog by nearly 18%. Before I get into business specific results, I would like to thank the employees of Baylin for their hard work, the level of buying and engagement I've experienced with our people is heartening. Part of this journey is implementing a data-driven, transparent culture internally. This will allow us to identify and resolve issues more quickly, work collectively to solve problems and improve margins while we simultaneously improve our go-to-market strategy.Additionally, the new focus on the commercial aspects of our business, meaning driving revenue growth through further customer and market penetration has already started to deliver early signs of movement. We cannot cost cut our way to success. We need to leverage the quality of our people and our products and our engineering to address and solve customer needs. That is a journey, but I am pleased with our first chapter. Nevertheless, the business continues to be challenged by the COVID-19 pandemic, which continues to affect all of our business lines in various ways. Supply chain challenges continue and effect both our suppliers and our customers. We expect this will continue for the balance of 2021 and well into 2022.Now I'd like to speak about the individual businesses and the work we have going on within each. The commercial side of our Satcom business continues to work through the effects of supply chain issues through the pandemic. Although there are signs of recovery, we expect capital spending by our commercial customers will remain constrained for the remainder of 2021, until a more sustained recovery becomes evident. Similarly, the recently completed C-band spectrum auction in the United States will eventually provide opportunities that with the satellite operators once they've received their incentive payments based on clearing their C-band spectrum. For that reason, the major benefits to the Satcom business line from the build-out of related infrastructure tied to the C-band is not expected to begin to be realized until at the earliest well into 2022. The military and other government-related satellite sales, which represent the balance of the Satcom business are expected to remain firm through the rest of the year. Although we experienced a delay in the initial launch of our Ultra High-Power Summit II solid state power amplifier product line, the launch of the Summit II demonstrated a unique competitive differentiation for our business. The first delivery of Summit II solid-state power amplifier line took place in June and were completed in July of this year. We have further opportunity for additional orders and further delivery potential in 2022 with this product set. Overall, we expect revenue in the Satcom business to be stronger in the second half of 2021 as customers begin to invest as the world comes out of the COVID-19 pandemic, while we continue to actively manage our supply chain risk. In Asia, we made substantial improvements across a number of fronts, including obviously, the aforementioned economics of the consumer product, which has severely impacted the business in the first half of the year. We have stopped further losses effectively in August and do not see any further negative impacts to our business. Moreover, we, as -- and importantly, we have maintained a very positive relationship with that specific customer, allowing our Asia business not just to move from the product gracefully, but to actually win and achieve new business that is line of sight well into 2022.Our MMU factory continues to experience delays and with the commissioning and overall approval of the facility due to COVID -- in part due to COVID. Over the course of the lengthy delays, our customer sales of this product have softened significantly. This has led to a lower forecast with -- by that customer through midyear 2022 as well as a full redesign of the product by which the customer reduced complexity and their cost structure moving to lower-priced products in less complex products. At this time, we do not foresee the facility to be production-ready at any time in the next 6 months. In light of market conditions and the changes to the product design, we are actively assessing the long-term strategic options for this facility and expect to have decisions made by early 2022.The Wireless Infrastructure business continues to be adversely affected by delays in building wireless and other parts of the ecosystem in large part due to COVID. We have also seen increases in freight costs and raw materials due to supply chain constraints. Despite these headwinds, the infrastructure team delivered solid, albeit on-plan performance in the quarter. Additionally, the long anticipated final improvement from Verizon for our small cell antennas has been achieved. While we expect a lengthy sales cycle, we now have the ability to sell Verizon improved technologies to their market network teams. Additionally, we've been making progress across a number of other carriers in North America as we improve our business development capabilities. The embedded antenna business line continues to be very stable performance despite chip set shortages, which really impact our customers and thereby impact us collaterally. We continue to show a significant increase in both revenue and backlog simultaneously within the third quarter. This is expected to continue through the rest of the year based on the availability of chip sets.In closing, I did want to reiterate, obviously, the challenges in global supply chain are very real. We will continue to proactively monitor and manage our supply chain just as we have in this past quarter. I would also like to thank the people of this company and our business. Honestly, I am thrilled with the level of buying and engagement, the sense of urgencies shown by the employees of this company and their buy-in on the philosophies that we are trying to instill throughout our company. Together, we are working to drive a cultural change with a focus on data-driven decision-making tied to proper customer-focused problem solving that will positively impact our operations and our trajectory in the long term. That is not a sprint. It's a journey. And we have a lot more to work on. That concludes our formal remarks. Operator, please open up the call for questions.

[Operator]

[Operator Instructions] Your first question does come from Daniel Rosenberg from Paradigm.

[Daniel Rosenberg, Analyst]

My first question was around the financials. I saw in your release that there were the covenants. You renegotiated some covenants favorably that extends to Q3 and Q4. Just wondering if you could provide an update or any color around how you see the covenant situation as we look towards 2022? What kind of options are you looking at?

[Leighton W. Carroll, President & CEO]

Sure. Daniel, good question. So when we were -- when I was coming into the business, and we were putting -- working with our lenders coming out of Q2, we renegotiated a covenant structure that would be based on effectively going forward to look at the company and with a view of commitments made by our investors. We are very comfortable with covenant compliance in Q3 and Q4. Our term note becomes due in early 2022. We are having productive conversations with our primary lenders. We are also having discussions with additional third parties. The thing that I've firstly been heartened by -- is that -- we have met with a number of folks, particularly here in Toronto, and we have had because of the story of the company, in part because of our early results part because of the potential of this business, we have seen a lot of interest from the lending community that is work that is ongoing. And so I can't -- I don't want to speculate about how that will turn out, but it's being actively managed, and I am confident we are going in a good direction.

[Daniel Rosenberg, Analyst]

Okay. Good to hear. Next, just turning to the backlog. So you mentioned it being at record levels, but at the same time, you're managing supply chain issues and the COVID-related issues. I was just wondering if you could kind of characterize the backlog increase whether it's coming from -- or maybe I should say, how the backlog should ramp into revenue, whether it's coming from just delayed demand, increased demand or just supply chain issues that are leading to orders not being able to be placed within earlier time periods?

[Leighton W. Carroll, President & CEO]

Yes. No, good question. So the way I think of our business, 4 kind of major product areas or business lines. Asia Pacific, as an example, is a very fast turn business. So the backlog in that business, what you prefer is, someone like me is a very steady number, because it is indicative of your relationship with your primary customers. In that case, our APAC backlog has been very stable and robust, which is good, particularly given the cycle that we just have finished and lived through, and it speaks to where we're going in our business that we have stability, which is important.Infrastructure similarly is a relatively fast turn backlog business. The sales cycles can be long. But for the customer segments where we have really good relationships, what you see is a pretty consistent set of number in that space. And even then, that has grown a little bit as we've gotten into Q4. I'd like to see it grow more, but we are making good progress there. The 2 places where we have seen the backlog growth itself are interesting in that both of them are the one -- interesting in a couple of ways, right? So one, they are interesting in that -- our Satcom business and our embedded business, both have seen growth, both have dependencies on supply chain, both have customers who have significant supply chain dependencies. However, both are experienced increased demand, right?So we have seen -- if you see growing revenue in those businesses and embedded certainly is a poster [ job ] for this, embedded we are getting growing revenue in that business line. And effectively, the backlog is simultaneously growing. Yes, there are chipset shortages, but I'd actually like to just give credit to our VP of Manufacturing and our team in China who are managing our supplier base. They have been very proactive, and we've had pull-ins and push out of product because of issues in the broader ecosystem and yet we're continuing to deliver revenue and grow revenue while growing -- while the North American side is engineering product and growing our backlog. To me, that says we're managing in a challenging situation. We continue to deliver revenue, but the demand is also increased for that line of business.Similarly, Satcom, we are seeing a growth month-over-month in backlog, a focus for us will be how do we improve that throughput and what can we do as we manage our supply chain to improve that throughput of that backlog. So the conversion cycle of that backlog is an area of focus for the business going forward. It is absolutely supply chain constrained and our customers know that as well. And they are equally as impacted. So it's a good situation. I'd like our supply chains to get to more normal levels. But if your backlog is that strong and you are delivering consistent revenue, that would infer that you're having increased demand, which is what we're seeing.

[Cliff Gary]

Daniel, I would add to that. If you look at some of our competitors who have reported recently what Leighton just suggested really echoes what we're seeing as well. We're seeing significant increase in demand across the board. Their backlog has also likewise gone up strong double digits. So this is really an industry phenomenon going right now within the infrastructure space, where there's a lot of investment going in, particularly in North America.

[Daniel Rosenberg, Analyst]

Okay. And then just turning to the cost profile. So you guys made some progress in controlling costs and just -- and it was nice to see cash flow from operations turn positive. And so just trying to understand what the cadence is in the near term. I understand there's a lot of moving parts here. But are we going to see lumpiness in that cash flow from operations line? Or do you expect to be able to maintain kind of your cost profile in the face of this growth that you just spoke about?

[Cliff Gary]

So Daniel, it's Cliff. So we do expect some outflow in cash that in the fourth quarter largely related to working capital. But in terms of the actual operations, should be fairly consistent with what we saw in the third quarter.

[Leighton W. Carroll, President & CEO]

Yes. If I can build on that, there has been -- it has been and continues to be a very significant cost focused in the company. One of the components of that is not just cost cutting, but there's -- with the attention to detail, I mentioned it being data-driven, you identify issues and those issues in many cases, will lead to better cost containment and/or margin opportunity. And that's what also further helps drive cash and use of cash in the business. So we are actively managing it, but I'd like to say we're actively managing not just by cutting and containing, but by analyzing and making smart decisions as we see the business unfold in front of us to maximize the value.

[Operator]

[Operator Instructions] There are no further questions at this time. Mr. Kim, you may proceed.

[Leighton W. Carroll, President & CEO]

So this isn't Mr. Kim, this is Mr. Carroll. But first of all, I'd like to just thank everyone for attending the call. I'd like to thank the Baylin team for a Chapter 1, which was a good start. We have a lot more to work on. I'm excited to be here. I'm excited to see what we can do. As I shared on the prior call, I came here because I knew this company previously and it always has a reputation for good engineering and good product and good people. We have a lot of work to do, but we have a good future in front of us, and I'm excited to continue this journey. Thank you, everyone, for being here.

[Operator]

Ladies and gentlemen, this concludes your conference call for today. We thank you very much for participating and ask that you please disconnect your lines.