Evertz Technologies Ltd

TSX:ET

Earnings Call Transcript 2019-Q2

[Operator]

Good day, ladies and gentlemen, and welcome to the Evertz Second Quarter 2019 Conference Call. As a reminder, today's conference is being recorded. It is Wednesday, December 5, 2018.At this time, I would like to turn the conference over to Mr. Brian Campbell, Executive Vice President of Business Development. Please go ahead, Mr. Campbell.

[Brian Scott Campbell, Executive Vice]

Thank you, Michelle. Good afternoon, everyone, and welcome to Evertz Technologies conference call for our fiscal 2019 second quarter ended October 31, 2018, with Anthony Gridley, Evertz' Chief Financial Officer; and myself, Brian Campbell.Please note that our financial press release and MD&A will be available on SEDAR, and on Evertz investor website. Anthony and I will comment on the financials results and then open the call to questions. I would like to start with a few highlights, and then Anthony will provide additional detail.First off, I'm pleased to report sales for the second quarter totaled $112.3 million, up 11% from the prior year. This increase was driven predominantly by the adoption of Evertz new technologies and products and by the strength in U.S./Canada region, which had sales for the quarter of $75.5 million, an increase of 18% from the prior year. Our base is well diversified with the top 10 customers accounting for approximately 57% of sales during the quarter, with no single customer over 18%.In fact, we had 121 orders -- customer orders of over $200,000 in the quarter. Gross margin in the quarter was $64.2 million or 57.1%, which is within our target range. Investment in research and development during the quarter totaled $21.1 million. Net earnings for the second quarter were $20.6 million, while fully diluted earnings per share were $0.27. Evertz working capital was $274.5 million with cash and marketable securities of $78.9 million, as at October 31, 2018.Operational highlights for the second quarter include Evertz strong presence at the international broadcast conference, where Evertz announced the major milestone of over 400 IP deployments globally since 2014, including the recent deployment of the industry's largest scale SMPTE 2110 facility, all leveraging Evertz pioneering software-defined video networking technology.In addition, Evertz completed the transition of a massive scale European channel lineup of over 300 channels to the public cloud, utilizing Evertz advanced playout and media asset management solution, running within Amazon Web Services.And subsequent to the quarter, we're pleased to announce Evertz acquisition of Quintech Electronics & Communications, a company based in Pennsylvania with world-class RF solutions and products deployed in over 120 countries.At the end of November, Evertz purchased back order -- or purchase order backlog was in excess of $103 million and shipments during the month were $38 million. We attribute this strong financial performance and record high combined shipments and purchase order backlog to the ongoing technical transition in the industry, channel and video services proliferation, increasing global demand for high-quality video anywhere, anytime. And specifically to the growing adoption of Evertz IP-based software-defined video networking solutions, Evertz IT and virtualized cloud solutions, our immersive 4K Ultra-HD solutions and our state-of-the-art DreamCatcher IP replay and production suite.Today, Evertz' Board of Directors declared a regular quarterly dividend of $0.18 per share payable on December 14.I will now hand over to Anthony Gridley, Evertz' Chief Financial Officer to cover results in greater detail.

[Anthony Ronald Gridley, CFO & Corporate Secretary]

Thank you, Brian, and good afternoon, everyone. Sales were $112.3 million in the second quarter of fiscal 2019 compared to $101.3 million in the second quarter of fiscal 2018. This represents an increase of $11 million or 11% quarter-over-quarter. Sales were $215.4 million for the 6 months ended October 31, 2018, compared to $210.3 million in the same period last year. This represents an increase of approximately 2%.U.S./Canada region had sales for the quarter of $77.5 million compared to $66 million last year. This represents an increase of $11.5 million or 18% quarter-over-quarter. Sales in the U.S./Canada region were $152.7 million for the 6 months ended October 31, 2018, compared to $131.3 million in the same period last year. This represents an increase of $21.4 million or 16%.The International region had sales for the quarter of $34.8 million compared to $35.3 million last year. International segment represents 31% of total sales this year as compared to 35% in the same period last year. Sales in the International region were $62.6 million for the 6 months ended October 31, 2018, compared to $78.9 million in the same period last year. This represents a decrease of $16.3 million or 21%. Gross margin for the second quarter was approximately 57.1% and within the company's historical range. Gross margin for the 6 months ended October 31 was approximately 57.1% as well. Selling and admin expenses were $16.4 million for the second quarter, an increase of $0.4 million from the same period last year. Selling and admin expenses as a percentage of revenue were approximately 14.6% as compared to 15.8% for the same period last year. Selling and admin expenses were $32.3 million for the 6 months ended October 31, 2018, an increase of $0.4 million from the same period last year. For the first 2 quarters, selling and admin expenses as a percentage of revenue were approximately 15% compared to 15.1% for the same period last year.R&D expenses were $21.1 million for the second quarter, which represents a $0.9 million increase from the second quarter last year. For the year, R&D expenses were $42.4 million, which represents an increase of $2.9 million over the same period last year. Increases in R&D spending were predominantly due to planned growth of R&D personnel, necessary to address new opportunities to apply our technologies. Foreign exchange for the second quarter was a gain of $0.8 million when compared to a gain of $2.9 million in the same period last year. The gain was predominantly a result of increase in the value of U.S. dollar since July 31. Foreign exchange for the 6 months ended October 31, 2018, was a gain of $1.9 million when compared to a loss of $5.4 million in the same period last year. The gain was predominantly a result of an increase in the value of U.S. dollar since April 30, 2018.Turning to a discussion of the liquidity of the company. Cash and marketable securities, as of October 31, 2018, were $78.9 million as compared to $94.2 million at April 30, 2018. Working capital was $274.5 million at October 31 compared to $264.5 million at the end of April 2018.Looking now specifically at the quarter ended October 31, 2018. The company used cash in operations of $7.6 million, which is net of the $30.3 million change in noncash working capital and current taxes. The effect of the change in noncash working capital and current taxes are excluded, the company generated $22.7 million cash from operations for the quarter. Company acquired capital assets of $3.1 million and $2.9 million of marketable securities. The company used cash from financing activities of $14 million, which was predominantly driven by payment of dividends of $14.1 million, partially offset by issuance of capital stock pursuant to the company's stock option plan of $0.3 million.I'm going to review our share capital position at October 31, 2018. Shares outstanding were approximately 76.5 million, options outstanding were approximately 2.5 million. Weighted average shares outstanding were 76.5 million and weighted average fully diluted shares were also 76.5 million for the quarter ended October 31, 2018. Brings to conclusion the review of our financial results and position for the second quarter.And I'd like to remind you that some of the statements presented today are forward looking, subject to number of risks and uncertainties, and refer you to the risk factors described in the annual information form, official reports filed with the Canadian Securities Commission.Brian, back to you.

[Brian Scott Campbell, Executive Vice]

Thank you, Anthony. Michelle, we're now ready to open the call to questions.

[Operator]

[Operator Instructions] I see we already have a few questions in the queue, so let's go ahead.I have Thanos here from BMO Capital Markets.

[Thanos Moschopoulos, VP & Analyst]

Brian, clearly the IP transition has been a significant driver of growth in recent quarters. As we look across the large global broadcasters, what inning of the transition did you say we're in currently?

[Brian Scott Campbell, Executive Vice]

So Thanos, over the last -- since 2014, Evertz has continued to advance and push ahead IP-based solutions for customers. And what I can say is that in North America, we're definitely further along in terms of the folks who have announced that move to IP-based solutions. Some of the more prominent ones, obviously, we had the Turner CNN press releases in the summer and subsequently, you've had -- seen Discovery with their press releases and announcements moving into the cloud, which also includes IP-based software-defined networking solutions there. So within North America, we're further progressed. Internationally, we've had very good traction, and you would've seen at IBC as well too that we've had significant customers, including Channel One in Russia moving to a Evertz software-defined networking and IP-based platform in support of their immersive 4K experience that they wanted to have for the FIFA World Cup. In addition, at IBC, we also announced the 300-plus channel lineup migration to Amazon Web Services, the cloud, and again that entails significant software-defined networking IP-based solutions to help enable that transition. So we're still early days, but definitely, we have momentum for the IP-based and virtualized cloud solutions.

[Operator]

We now have Robert Young from Canaccord Genuity.

[Robert Young, Director]

I think you said that the largest customer was something like 18%. I think it was 17% last year -- or sorry last quarter. Is it the same? Can you tell us if it's the same customer? Is there any concentration risk that we should be aware of?

[Brian Scott Campbell, Executive Vice]

So Rob, they are independent statements, the 17% and the 18%. What I can say is that over the course of a year, traditionally, it has averaged out. We do have very good strong deployments with industry-leading partners going on currently. So that does show up in quarterly concentration. It may not necessarily play out over the course of a full year being at that level. That said, we had numerous other customers, and we had the 112 orders over $200,000. So that does have a fairly significant dispersion. I don't anticipate at this point that we will have that same concentration level at year-end. But that's -- we're doing whatever we can to help our customers roll out their solutions and if it ends up being concentration over the year, that's not necessarily a bad thing for us.

[Anthony Ronald Gridley, CFO & Corporate Secretary]

Yes, and Robert, so at year-end, anything over 10%, we'll obviously disclose on our financials as we're required to.

[Robert Young, Director]

Okay, okay. In the press release, I haven't seen in the financial statements yet, but you had a $2.9 million investment in marketable security in addition to -- I assume in addition to the $10.9 million last quarter. You disclosed the investment to that competitor, and I was wondering if you could talk about that. Any color that you can provide around what's going on there?

[Brian Scott Campbell, Executive Vice]

So Rob, I'll just address the fact that yes, Evertz has purchased shares of EVS as noted in the transparency notification that was published on October 24. So that is a fact. I can't add much color other than to confirm that Evertz had been in contact with EVS executive prior to the transparency notification and subsequently.

[Robert Young, Director]

Okay, okay. And then maybe just the last question for me will be around the November, I mean, it seems as though the spending environment is very strong just looking at your results and the shipment number. Can you give us a sense of the spending environment? Is it improving, is it stable? Any color on the environment will be very helpful.

[Brian Scott Campbell, Executive Vice]

Thanks, Rob. The -- in terms of the environment that Evertz has seen, we have had very good traction, especially for our IP-based solutions, our virtualized solutions. That said, we also have good strong demand for the baseband solutions, some of the 4K UHD deployments are baseband solutions. So we are seeing good solid traction in multiple areas, and that is, as you mentioned, reflected in the record high November shipments and order backlog.

[Robert Young, Director]

Okay. Is there any change positive or negative? It has been strong for a couple of quarters and you've noted in the past that your business has some lumpiness. Should we expect normal sort of Q3 quarter-over-quarter seasonal decline? Or would you expect that the backlog and shipments are enough to continue growth?

[Brian Scott Campbell, Executive Vice]

We are starting out with a good solid November shipments, $38 million. We absolutely do encounter quarterly lumpiness, as you said, and we are heading into a period where there are holidays. However, we do have a very significant or a very good, strong backlog. So I'll let you do the forecasting on that, but I'll just reiterate that we have strong shipments in November and a record high combined backlog and shipments number.

[Anthony Ronald Gridley, CFO & Corporate Secretary]

I would add to that too that in the past, we've been cyclical not necessarily seasonal. So we do have cycles where revenues go up or down, but I wouldn't say we definitely have a seasonal Q3 shortage of revenue or any real seasonal trend over the last 5 or 10 years.

[Robert Young, Director]

Okay. Last 2 years have dipped down quarter-over-quarter as what I...

[Anthony Ronald Gridley, CFO & Corporate Secretary]

I think if you look at a larger base of numbers, even we've had some strong Q3s as well. So...

[Robert Young, Director]

Okay, yes, fair enough. Maybe I'll ask one last question just on the Quintech. Is there any guidance you can give on -- give us on how to model the contribution of that business to the overall? Is that accretive to gross margins? Or is it -- how much revenue should we be modeling on an annual basis? Any help would be good and then I'll pass the line.

[Brian Scott Campbell, Executive Vice]

So Rob, we do have the purchase price. I will add to it that they basically add a CAD 10 million revenue run rate. And at that level, it won't significantly impact margins one way or another. Again, we're very pleased with the acquisition. Excellent group of people and industry knowledge that are being added to the Evertz team and family.

[Operator]

And we have a follow-up question from Thanos from BMO Capital Markets.

[Thanos Moschopoulos, VP & Analyst]

Brian, if we just look at the geographies, clearly, the International business has been lagging North America, I presume part of that might be region or macro related. I mean -- because in part it might be where we are in the IP transition in each geography. But as we look going forward and as we look at the pipeline, at what point do you think that the International growth rate might start to pick up, more closely aligned with what we're seeing in North America?

[Brian Scott Campbell, Executive Vice]

Yes, with the International market, we've been doing well in regions, again, too. What I would say is that right now, the [ quarter ] that we've just experienced internationally, we're basically flat year-over-year just modestly down, but up 25% sequentially. So we are seeing an uptick on, of course, the IP deployments that have been in the press, and that we've spoken of, help to contribute to that. So we are seeing a pretty good solid international environment. However, globally, there is still considerable uncertainty in the global economy, however, we've been doing reasonably well.

[Thanos Moschopoulos, VP & Analyst]

Okay, great. And then, Brian, could you give us an update in terms of what you're seeing on cloud. I mean, you highlighted some of your big cloud deployments. With respect to what you're seeing in the pipeline relative to last call. Is the case that these are sort of maybe small number, concentrated around very large projects of forward-thinking clients? Or is cloud starting to become more mainstream from what you're seeing?

[Brian Scott Campbell, Executive Vice]

Thanos, I apologize, but I didn't hear the first part of your question. I believe you asked me whether cloud was becoming more mainstream, you acknowledged the fact that with large customers. Is there anything you wanted to add to that?

[Thanos Moschopoulos, VP & Analyst]

Oh, sorry. Yes, I was just acknowledging the fact you've had some big wins, obviously, but my question is, is it becoming -- is cloud becoming mainstream, or is it more focused around -- sorry, a smaller number of very large deployments with more forward-thinking customers? Or is it starting to become more broad-based in your pipeline?

[Brian Scott Campbell, Executive Vice]

Evertz deployments to date have been focused around larger customers and, as you can tell with the 300-channel lineup in Europe, that's at massive scale. The Discovery migration, earlier this year, over 150 channels or whole U.S. operation, that was again to large scale. So with -- Evertz' activity on the public cloud deployments has been mostly at large scale, there are others, and again 2 of those are often with bigger customers. And we do absolutely envision it becoming more mainstream.

[Operator]

I see we have a last question from Steven Li from Raymond James.

[Steven Li, Senior Vice President]

Your receivables jumped quite a bit. Anything unusual there? Or you expect to collect a lot of that in Q3?

[Anthony Ronald Gridley, CFO & Corporate Secretary]

Yes, Steven. Yes, we had a lot of revenue in the last 4 months in particular, which is pushing the receivables up a lot. We also have a fair bit of receivables concentrated in 2 or 3 of the large projects that we expect to be collecting in the upcoming months. But that has pushed the revenue up, but there's nothing exceptionally extraordinary, over 90 days or anything like that, it's just a little bit longer collection on some of the bigger projects in this year, volume of revenue we have seen in the last 100 days or so.

[Steven Li, Senior Vice President]

Okay, that's great, Anthony. And your deferred continues to grow nicely. Is some of that deferred in your backlog, or should I think of it as in addition to your backlog? When I'm thinking of revenue visibility.

[Anthony Ronald Gridley, CFO & Corporate Secretary]

Yes, I mean, some of it could be in the backlog and some of it could maybe deferred as sort of a hodgepodge of a bunch of things, so -- but yes, some of it could be in the backlog.

[Steven Li, Senior Vice President]

But not all of it?

[Anthony Ronald Gridley, CFO & Corporate Secretary]

Not all of it, no.

[Operator]

And it appears there are no further questions at this time. Brian, I'd like to turn the conference back to you for any additional or closing remarks. You may go ahead.

[Brian Scott Campbell, Executive Vice]

Thank you, Michelle. I'd like to thank the participants for their questions. And to add that we're pleased with the company's performance during the second quarter of fiscal 2019, which saw record-high quarterly sales of $112 million. Strength in the important U.S./Canada region, where sales rose 18% from the prior year. Solid gross margins of 50% in the quarter, which together with Evertz' disciplined expense management, yielded a 17% increase in net earnings to $0.27 per share. We're entering into the second half of fiscal 2019 with significant momentum, fueled by a record high combined purchase order backlog plus November shipments, totaling in excess of $141 million, up 32% year-over-year and 16% sequentially. Also by the growing adoption and successful large-scale deployments of Evertz IP-based software-defined networking and virtualized cloud solutions by some of the largest broadcast, new media, service provider and enterprise companies in the industry, and by the continuing success of DreamCatcher, our state-of-the-art IP-based replay production suite. With Evertz' significant investments in software-defined IP, IT, virtualized cloud technologies, over 400 industry-leading IP SDN deployments and the capabilities of our staff, Evertz is poised to build upon our leadership position. Thank you, everyone, and good night.

[Operator]

This concludes today's conference. Thank you for your participation. You may now disconnect.