Evertz Technologies Ltd

TSX:ET

Earnings Call Transcript 2021-Q2

[Operator]

Good day, and welcome to the Evertz Q2 2021 Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Brian Campbell, Executive Vice President, Business Development. Please go ahead, sir.

[Brian Scott Campbell, Executive Vice]

Thank you, Brandon. Good afternoon, everyone, and welcome to Evertz Technologies conference call for fiscal 2021 second quarter ended October 31, 2020, with Doug Moore, Evertz' Chief Financial Officer; and myself, Brian Campbell.Please note that our financial press release and MD&A will be available on SEDAR and the company's investor website. Doug and I will comment on the financial results and then open the call to your questions.Before delving into our recent business results and outlook, I'd like to briefly address the extraordinary COVID pandemic. The pandemic has created headwinds and challenges, delaying customer deliveries, installations and impacting customer operations around the globe. That said, our customers are fundamentally healthy, and Evertz has a unique and powerful technology position.Evertz is a technical innovator and a fundamentally strong business committed to supporting our customers and protecting our people. We're proud of the role we play as an essential service provider and critical supplier, enabling vital telecommunications, broadcast and new media services worldwide. We are appreciative of the continuing strong partnerships with our customers and for the extraordinary efforts being made by our employees in these challenging times.Turning now to Evertz' results. I will begin by providing a few highlights, and then Doug will provide additional detail. First off, sales for the second quarter totaled $100.5 million, an increase of 78% compared to $56.3 million in the first quarter of this year. The strong sequential rebound from our first quarter of fiscal 2021 was experienced across all geographic regions and was driven predominantly by the adoption of Evertz' new technologies and products.Our base is well diversified, with the top 10 customers accounting for approximately 55% of sales during the quarter and with no single customer over 25%. In fact, we had 70 customer orders of over $200,000 in the quarter.Gross margin in the quarter was $59.7 million or 59.4%, which is within our target range. Investments in research and development during the quarter totaled $19.7 million. Net earnings for the second quarter were $21.2 million, while fully diluted earnings per share were $0.28.Evertz' working capital was $231.2 million with cash of $110 million as of October 31. Operational highlights for the second quarter include the addition of Ease Live, OTT interactive graphics software-as-a-service technology platform and their talented engineering team. At the end of November, Evertz' purchase order backlog was in excess of $106 million, and shipments during the month were $23 million. We attribute the strong financial performance and robust combined shipments and purchase order backlog to the ongoing technical transition in our 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 BRAVO live production suite. Today, Evertz' Board of Directors declared a regular quarterly dividend of $0.18 per share payable on or about December 23.I'll now hand over to Doug Moore, Evertz' Chief Financial Officer, to cover our results in greater detail.

[Douglas Moore, CFO & Secretary]

Thank you, Brian. Good afternoon, everyone. Sales were $100.5 million in the second quarter fiscal 2021 compared to $119.8 million in the second quarter of fiscal 2020. That represents a decrease of $19.3 million quarter-over-quarter. Sales were $156.8 million for the 6 months ended October 31, 2020, compared to the $223.2 million in the same period last year, represents a decrease of approximately 30%. Decrease in revenues has been driven by travel restrictions and projects on hold as a result of the pandemic.As it relates to revenue specific regions, the U.S./Canada region had sales for the quarter of $66.9 million compared to $88.6 million last year, representing a decrease of $21.7 million or 24% quarter-over-quarter. Sales in the U.S./Canadian region were $102.8 million for the 6 months period ended October 31 compared to $160.8 million in the same period last year, decrease of $58 million or 36%.The International region had sales for the quarter of $33.6 million compared to $31.2 million last year, an increase of $2.4 million quarter-over-quarter. The International segment represented 33% of total sales this quarter as compared to 26% in the same period last year. Sales in the International region were $54 million for the 6 months ended October 31 compared to $62.4 million in the same period last year, representing a decrease of $8.4 million.Gross margins for the second quarter, which inclusive of $2.2 million in wage subsidies, was approximately 59.4% and within the company's historical range, while gross margin for the 6 months ended October 31 was approximately 58.6%.Turning to selling and administrative expenses. S&A was $12.8 million in the second quarter, a decrease of $5.2 million from the same period last year. Selling and administrative expenses as a percentage of revenue was approximately 12.7% as compared to 15% for the same period last year. Decrease in expenses was driven by a $3.2 million reduction in travel and promotion costs associated with reduced selling activities and travel restrictions. Selling and administrative expenses were $24.7 million for the 6 months ended October 31, 2020, a decrease of $9.6 million from the same period last year. For the first 2 quarters, selling and administrative expenses as a percentage of revenue was approximately 15.8% as compared to 15.4% for the same period last year.Research and development expenses, which net of $3.2 million in wage subsidies, was $19.7 million for the second quarter, represented a $3.2 million decrease from the second quarter last year. For the 6 months ended October 31, research and development expenses were $36.2 million, which represent a decrease of $9.4 million over the same period last year.Foreign exchange for the second quarter was a loss of $1.3 million compared to a loss of $1.1 million in the same period last year. Foreign exchange for the 6-month period ended October 31 was a loss of $4.4 million compared to a loss of $2.9 million in the same period last year. The 6-month loss was predominantly a result of the decrease in the value of the U.S. dollar since April 30, 2020.Turning to a discussion of liquidity of the company. Cash as at October 31, 2020, was $110 million as compared to $75 million at April 30, 2020. Working capital was $231.2 million at October 31, 2020, compared to $223.7 million at the end of April 2020.Looking now specifically at cash flows in the quarter. Company generated cash in operations of $20.8 million, which is net of $5.3 million change in noncash working capital and current taxes. If the effects of the change in noncash working capital and current taxes are excluded from the calculation, the company generated $26.1 million in cash from operations during the quarter. During the current quarter, the company used cash of $2.9 million for investing activities, which was principally driven by the acquisition of capital assets of $2.1 million and $0.8 million in the investment in Ease Live AS. The company used cash in financing activities of $10.4 million, which was principally driven by dividends paid of $6.9 million, $1.1 million in principal payments on capitalized leases and $1.7 million in the purchase of capital stock.Finally, I will review our share capital position as of October 31, 2020. Shares outstanding were approximately 76.3 million, and options outstanding were approximately 5.5 million. Weighted average shares outstanding were 76.4 million, and weighted average fully diluted shares were also 76.4 million end of October 31. This brings to a conclusion the review of our financial results and position for the second quarter.Finally, I would like to remind you that some of the statements presented today are forward looking, subject to a number of risks and uncertainties, and we refer you to the risk factors described in the annual information form and the official reports filed with the Canadian Securities Commission. Brian, back to you.

[Brian Scott Campbell, Executive Vice]

Thank you, Doug. Brandon, we're now ready to open the call to questions.

[Operator]

[Operator Instructions] The first question will come from Thanos Moschopoulos with BMO Capital Markets.

[Thanos Moschopoulos, VP & Analyst]

I realize you don't provide guidance. But what would be your thoughts, I guess, qualitatively in terms of how we should think about the near-term revenue trajectory? Is it a situation where things are improving as far as customer spending behavior and your ability to implement? Or were there maybe some onetime factors that benefited Q2, which might make Q3 comparatively a little bit more challenging?

[Brian Scott Campbell, Executive Vice]

So I'll break it down into points. I guess the -- we did see good strong revenue increases in all geographies during Q2, and we also had numerous projects pushed ahead in the quarter. So we had very strong delivery results as well, too. So there are -- definitely, we're continuing to experience challenges on getting on site with customers and COVID shutdowns and lockdowns in various geographies. We are working through it fairly well, as you can tell by the strong financial results.Q3, again, to -- I can't forecast what the global environment is going to look like in terms of our access to be able to get into multiple geographies. That said, we continue to do our utmost to provide remote delivery, commissioning of the services and the solutions that our customers need for their business models to continue to grow and prosper. So we're looking at very good solid shipments in backlog. You can see that the shipments are a little lower than the prior entry into Q2, but our backlog is solid.

[Thanos Moschopoulos, VP & Analyst]

So Brian, I mean, the main variable we should think about maybe is just how this new wave of lockdowns may or may not affect implementation. Is that maybe more likely to have an impact on the upcoming quarter relative to -- rather than demand picture?

[Brian Scott Campbell, Executive Vice]

That's not something I can forecast. We'll do our utmost to deliver throughout the quarter. So what you have is a good solid shipments and backlog number that's right in line with our 2-year averages, even excluding -- prior to COVID. So we're sitting well positioned entering into Q3, but we're still subject to the global environment for getting access to customer sites. And again, we're doing our utmost to be able to deliver our products and solutions remotely, but there's definitely a component of on-site commissioning and other activities that's required for our business.

[Thanos Moschopoulos, VP & Analyst]

Okay. Can you speak to how the pandemic might be altering customer spending priorities? One of the things we've heard is that some customers are looking to accelerate their plans for cloud adoption. So just curious as to whether you're seeing that dynamic as well. And if that's the case, how might we think about sort of the impact over the coming quarters in terms of how that could influence revenue and margins if your cloud mix does shift considerably versus your hardware mix?

[Brian Scott Campbell, Executive Vice]

Doug, I'll let you address the margin shift.

[Douglas Moore, CFO & Secretary]

Yes. So I guess you do kind of divert from the spending environment, but some of the cloud-based solutions are a bit on the higher-margin side. I mean there is hardware components nonetheless, but a shift in such a nature would lead inherently to a slight uptick in margins.

[Brian Scott Campbell, Executive Vice]

And on the demand side, as we've noted, much of our sales are driven by our new technologies, so our SDVN solutions, our DreamCatcher and BRAVO replay and live production and our cloud-based solutions. So we are already experiencing a strong component of the delivery of the type of products that our customers are increasingly adopting. So any changes in our customer spending behavior that you may see in reports align very well with our product suite that we've invested very heavily over the last years and have been deploying in numerous locations.

[Thanos Moschopoulos, VP & Analyst]

Okay. And certainly, you have some good case studies, such as the good work you've done with discovery and one among others. I guess, ultimately, would you agree with the notion, though, that the pandemic specifically is accelerating cloud option? Does that make sense to you from what you're seeing?

[Brian Scott Campbell, Executive Vice]

Yes, it is, and it's also accelerating IP infrastructure adoption well, too.

[Thanos Moschopoulos, VP & Analyst]

Okay. And then finally for me, from an OpEx perspective, I guess the variable there might be whether and to what extent the stimulus repeats next quarter. But aside for that, should we expect OpEx to remain fairly consistent heading into Q3?

[Brian Scott Campbell, Executive Vice]

Yes. So I think, first of all, you're correct in there's the variable there that you mentioned in the sense of the wage subsidies. Beyond that, there was also -- in the OpEx, you'll see a onetime item associated with ITCs that we had a successful audit appeal associated with our claims that resulted in a bit of an uptick in about $2 million, $2.5 million as kind of a onetime item that was helped out the overall OpEx, and you'll see that in -- through the ITC component.

[Operator]

[Operator Instructions] The next question will come from Boyang Li with RBC Capital Markets.

[Boyang Li, Associate]

Congrats on a solid quarter. Just kind of curious on the shipment number for November. It is down compared to last quarter. I was wondering if you could kind of talk through why that is and maybe how it compared to what your expectations were for the month of November?

[Brian Scott Campbell, Executive Vice]

So shipments are in line with the variability that we'll have on any months in a given period, so it's a reasonably solid shipment level. And that, together with our backlog, as I said, were right on the 2-year average for total of shipments and backlog.

[Boyang Li, Associate]

Okay, great. And then maybe switching gears here. Can you maybe speak to your mix of revenue or orders by customer type, like either traditional broadcasters, production companies, OTT vendors? As a result of the pandemic, have you seen a shift in customer demand across these different customers?

[Brian Scott Campbell, Executive Vice]

Our customer base has been fairly consistent. So we have the largest global broadcast media companies, new media companies as customers. The complexion of them changes in any given quarter, but we consistently have in our top 10 some of the largest broadcast and new media companies in the world. So we haven't seen any significant shifts. That's just normal changes in spending patterns.

[Operator]

[Operator Instructions] The next question will come from Robert Young with Canaccord.

[Robert Young, Director]

I'm going to try the same question a third time if you'll forgive me. Just on that shipment number for November at $23 million, that's down a lot year-over-year as you noted. And so I'm just trying to square up the progression of the quarter. If it started at $36 million in August and then to get to the quarter, you'd have to do $30 million average, both of the other 2 months, and then you drop to $23 million, which doesn't -- as far as I remember, just it doesn't match normal seasonality. And then in this year, you would have seen a resumption of sports, and you would have seen U.S. election activity. And so I guess the worry is that you would have seen some onetime items from those things that might have drawn -- driven a higher-than-normal level of revenue in the last quarter. And so as we look forward into Q3, should we be thinking of that as a quarter that's down quarter-over-quarter? Or can we kind of think of $100 million type of quarterly pace as back to pre-COVID levels, back to normal?

[Brian Scott Campbell, Executive Vice]

So Rob, again, to the shipments and backlog level, are very good, solid, robust numbers on our average. One of the things with a big election period like that, as you've noted, what happens as well, too, when you've got critical news, customers' networks enter into a lockdown phase where they're not deploying or altering their networks to ensure that there's no outages. So you have to bear in mind that is a consequence of a new cycle as well, too.

[Robert Young, Director]

Right. Okay. And so that -- any benefit from that wouldn't have fallen in Q2. It would have fallen in Q1 perhaps because your customers would have locked down. Is that what you're saying?

[Brian Scott Campbell, Executive Vice]

Well, during the election period, leading up to it. And of course, as the new cycles progress through, there are periods of lockdown, yes.

[Robert Young, Director]

Okay. Okay. Okay. And then second -- sorry, keep going. Sorry, Brian, and didn't mean to cut you off.

[Brian Scott Campbell, Executive Vice]

So that does have an impact on the ability to deliver for those [indiscernible] customers.

[Robert Young, Director]

That makes sense. Okay. I'm not sure if I caught it in the monologue right or not, but I think you said that the top customer is 25%. I don't think I've seen a number that high as long as I remember. And so any color you can provide around that? That would be $25 million from 1 customer in the quarter or something around that number. And so is there any color you can provide there? Was it pent-up demand on a delayed project that freed up or something like that? Or did I just hear that number wrong?

[Brian Scott Campbell, Executive Vice]

No, you heard the number correctly. And that does happen from time to time where a customer's business plan and projects drop into 1 quarter, more so, oftentimes, it's spread out over several quarters. Timing-wise, that is a significant percentage of the quarter. It does tend to even out over the year, over multiple quarters. But again, we're thrilled to have significant customers, have the confidence on -- to deploy that level of infrastructure solutions with us in a challenging time like this in a quarter, so that bodes well for us.

[Robert Young, Director]

And can we expect that one customer to continue spending at that level? If we were to take that customer out, obviously, it would be a $75 million quarter instead of $100 million quarter, which jives a little closer with the $23 million first month shipment. And so could that be a reason for the lower shipment number?

[Brian Scott Campbell, Executive Vice]

We have very good Tier 1 customers who require delivery over multiple quarters, so I do not expect, anticipate to see levels persist at the 25% rate, but this is, again, to a significant customer of ours, a long-term customer.

[Robert Young, Director]

Okay. Great. That's really good color. And then maybe one last question just on the other questions on the trend towards cloud. And maybe you touch a little bit on remote production. I know you've hit on this BRAVO product a few times. Maybe you talk about centralized production and remote production and how Evertz has seen any benefit there. Are you seeing a big -- is that a driver in the market today? And -- yes.

[Brian Scott Campbell, Executive Vice]

Absolutely. The move to remote production is certainly a driver. Our DreamCatcher IP-based replay and the BRAVO live production suite, so together, those are very innovative, groundbreaking products. And you're going to see more of them in the future. Some of the press releases, whether it's the previously CBS DABL or Discovery and their ability to be able to more easily spin up channels and do production, innovative productions, and that is a wave of the future. And most definitely, our DreamCatcher and BRAVO live production suite fits squarely in there.

[Robert Young, Director]

Okay. Maybe last question for me, just on -- I mean you're probably saving a lot of money right now not going to trade shows, which normally would be a normal course of your business. And so I see you're doing a lot of virtual trade shows and marketing and events. And so maybe if you could just talk about how that is changing the way you're thinking about your sales and marketing expense going forward. Will you be leaning more on that, less on trade shows? Are you seeing a good competitive advantage relative to others given that these big trade shows are shut down? And then I'll pass the line.

[Brian Scott Campbell, Executive Vice]

So it's a very good question. So we -- our sales team has done an outstanding job of maintaining communications with our customer base. With these interactive programs, we're able to help introduce new products, show the use cases and to continue to drive purchase orders and delivery of those innovative solutions to our customers. So it's absolutely been very beneficial to us.But candidly, we all love to meet our customers face to face to show the products, and that's just not possible in today's environment. As the environment changes, we anticipate resuming face-to-face communications, but the lessons that we've learned during these challenging times won't be lost. So numerous folks appreciate the ability to be able to see our products and communicate in a virtual environment as well to supplement our sales and marketing experiences.

[Operator]

The next question will come from Steven Li with Raymond James.

[Steven Li, Director & Equity Research Analyst]

Brian and Doug, my question is on the gross margin during the pandemic. So the first 2 quarters this fiscal year is even stronger than last year despite the lower revenues. How do you explain that?

[Douglas Moore, CFO & Secretary]

I think to properly explain it, you have to include the notation that there is certain costs that have been subsidized. So whether it's the wage subsidies or I guess the highlight there would be -- that would be the biggest component where cost of sales includes during the year a little over $5 million in wage subsidies that have been taken as a straight reduction to cost of sales. So I think to properly analyze it, you would add that back in a sense. In the first quarter, in fact, actually was -- with the decreased selling activity and efficiencies, I guess, with the shutdowns, the margin, without that, was actually quite weak. It's definitely -- in Q2, things have rebounded very strongly. But to analyze it properly, you need to look at both components.

[Steven Li, Director & Equity Research Analyst]

Got it. And so that $5 million in the first half, is it a similar amount in the second half for subsidies? Or is it going to be a much lower number?

[Douglas Moore, CFO & Secretary]

No, no, no, it'll be much lower. So we -- there is a variety of different global programs, but the -- yes, the expectation is if it's really even from Q1 to Q2, it's been cut and half really, and then it's going to be further maybe 1/3 next time. It's really -- the actual amount is difficult to forecast as it's dependent on actual sales and other such calculations. But no, it'll be dropping significantly.

[Operator]

[Operator Instructions] I'm showing no further questions at this time. I'd like to turn the call back over to Brian Campbell for closing remarks.

[Brian Scott Campbell, Executive Vice]

Thank you, Brandon. I'd like to thank the participants for their questions and add that we are very pleased with the company's performance during the second quarter of fiscal 2021, which saw quarterly sales rebound to $100.5 million, solid gross margins of 59.4% in the quarter, delivering pretax earnings of $28.1 million, all while investing nearly $20 million in R&D to build future growth. We're entering the second half of fiscal 2021 with significant momentum fueled by a combined purchase order backlog plus November shipments totaling in excess of $136 million; by the growing adoption and successful large-scale deployments of Evertz' IP-based Software Defined Video Networking and virtualized cloud solutions by some of the largest broadcast, new media service provider enterprise companies in the industry; by the financial strength and flexibility of a pristine debt-free balance sheet with over $110 million of cash; and by the growing adoption and successful large-scale deployments of Evertz' IP-based Software Defined Video Networking, cloud solutions, DreamCatcher, IP-based instant replay and BRAVO live production suite. With Evertz' significant investments in software-defined IP, IT, virtualized cloud technologies, the over 500 industry leading IP SDVN deployments and the capabilities of our staff, Evertz is poised to build upon our leadership position in the broadcast and media technology sector. Thank you, everyone, and good night.

[Operator]

Thank you, ladies and gentlemen. This concludes today's event. You may now disconnect your lines, and enjoy the rest of your day.