Velan Inc

TSX:VLN

Earnings Call Transcript 2019-Q3

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the Velan Inc. Q3 financial results conference call. [Operator Instructions] As a reminder, this conference is being recorded, Friday, January 11, 2019. I would now like to turn the conference over to Mr. Yves Leduc, President and CEO. Please go ahead, sir.

[Yves Jacques Leduc, President, CEO & Director]

Thank you very much. Welcome to our third quarter fiscal year 2019 conference call. I'm joined today by John Ball, our CFO. As usual, I will start with a brief summary of our results, followed by a more detailed discussion of our outlook. We'll then open the line to your questions.Once again, we noted improvements on several fronts this quarter. Our sales and bookings were significantly higher than last year, and our backlog has also improved since the beginning of the fiscal year. The backlog increase was achieved despite being negatively impacted by the weakening of the euro spot rate against the U.S. dollar since the beginning of the year. We recently reorganized into strategic business units to better serve our customers. I'll come back to that in the outlook section.We're also undertaking several transformative initiatives to return to profitability, including the very important decision to consolidate the company's valve manufacturing facilities in Québec from 3 plants into 2. I will, of course, address that in the outlook section. I'll be saying a few words about this when I address our outlook, as I said. But first, let's look at our results. Net earnings this quarter, we were almost able to show breakeven results as we recognized a quarterly net loss of $200,000 or $0.2 million or $0.01 per share compared to the $0.3 million net earnings or $0.02 per share that we announced last year. This slight decrease for the quarter is primarily due to a lower profitability of our French and Italian operations.We have, in fact, noted a decrease in our gross profit percentage despite the overall higher volume of shipments that occurred in the quarter compared to last year. This goes to show that the pressure on our margins affecting our results remains one of our biggest challenges.As I just mentioned, gross profit percentage decreased by 200 basis points from 26.5% to 24.5% for the quarter. The decrease in gross profit percentage is mainly attributable to the lower sales volume of our Italian and French operations in relation to their current production overheads.In addition, our French operations also shipped a product mix with a greater proportion of lower-margin product sales during the current quarter. This decrease was partially offset by improved margins by 660 basis points in our North American operations attributable to a significantly higher sales volume, which is very good news as the performance of our North American operations has been the main driver of our underperformance last year.EBITDA amounted to $3.4 million or $0.16 per share compared to the same $3.4 million or $0.16 per share last quarter. The EBITDA figure for the quarter was positively impacted by higher sales volume and stable administration costs but was negatively impacted by a lower gross profit percentage.Sales order bookings and backlog now. Sales increased by $4.6 million or 5.2% for the quarter. Sales were positively impacted by an increase in shipments of large project orders and an improved MRO business for our North American operations. This increase was partially offset by decreased shipments in our French and Italian operations, which shipped large project orders in the prior fiscal year, as I said before. The decrease in sales for both subsidiaries is primarily attributable to the timing of the shipments of these large project orders.Bookings increased by $17.5 million or 21% for the quarter. This increase is due primarily to new orders booked by our Italian operations, which continued to record significant project orders relating to the upstream oil and gas industry during the quarter.Again, this quarter, the increase in bookings and the improved sales performance was achieved, thanks to the recovery observed in the oil and gas markets, benefiting mainly MRO and upstream valve bookings and also in part by the realignment in the prior year of the global sales force along vertical lines rather than geographic lines. Meanwhile, in markets other than oil and gas, like power, the pricing pressure on margins remains extremely challenging.The company's book-to-bill ratio for the current quarter was a positive 1.09. As a result of bookings outpacing sales in the period, the company ended the period with a backlog of $471.5 million, an increase of $7 million or 1.5% since the beginning of the current fiscal year. The positive book-to-bill ratio was in part negatively impacted by the weakening of the euro spot rate against the U.S. dollar at quarter end, dropping from $1.17 to $1.14.From our financial positions point of view, while our financial performance for this fiscal year remains difficult, we continue to have a strong balance sheet. Net cash remains relatively flat for the quarter by settling at $50 million, a decrease of $1.3 million or 2.5%.Most of the net cash decrease happened in the first quarter of this fiscal year. The net cash per share was $2.31 or CAD 3.07. Our equity at the end of the quarter settled at $308.2 million or USD 14.25 per share. In Canadian dollars, our equity per share was $18.96 at November 30, 2018, compared to our TSX share price at the close of business on that day of CAD 9, indicating that our share price continues to be undervalued.At the last quarter's conference call, I said -- and I'm talking about the outlook now. I'm moving to the outlook section. So I said in October, "Our margins remain under significant pressure, namely in our project business that heavily relies on the power market that is far from recovering and where we face many competitors ready to cut pricing to earn business in a sharply contracted market. We can blame the industry environment for our decreasing margins. But the fact is, if we don't make adjustments the return to acceptable performance levels will not be fast enough. Important changes are required."I also then reported on the progress made in deploying our strategic plan Velocity 2020 launched last fiscal year, which rests on a few key building blocks and on some of the positive achievements. There are many encouraging things that we see, both on the market front and on the operational front.Since I've reported on them in October, I want to focus, if you don't mind this time around, on 2 major announcements that we have made in the last 2 months. The first was internal and consisted in the reorganization of Velan North America industry into 3 strategic business units.The first business unit was the consequence of consolidating our MRO business with the aftermarket business. This was now being led by Rob Velan, who was previously VP Customer Service and VP Distribution before that, having worked at Velan for over 15 years. This business unit will be focused on leveraging Velan's global installed base of valves through channel management and a unique end user driven service proposition. I think Rob is perfectly prepared for this role due to his previous responsibility that involve customer service and distribution.The second business unit is project manufacturing and overseas operations, led by Wolfgang Maar, who was previously EVP Global Sales and Overseas Operations. The difference now is that he's general manager of a business unit whose market scope is a little narrower but whose business scope is much broader. He's been with Velan now for over 15 years, with combined experience of over 35 years in the industry, leading the global sales team and overseeing operations in some of our internal facilities. This business unit will focus on project orders for gate, globe and check and triple-offset valve product lines while seeking to increase efficiency in service and our project manufacturing processes, including nuclear.The third business unit is severe service. This one is now led by EVP, GM, General Manager Duc Tran, who was previously VP Engineering. I recruited him back in 2017, and Duc has extended experience in the valve industry. He was responsible for Velan corporate R&D, and we'll keep corporate R&D under his responsibility. He joined Velan in 2017, as I said, after pursuing an impressive career in the valve industry for 30 years. His business unit's mission will be to leverage Velan's broad metal-seated ball valve and Navy technology portfolio while also tailoring and delivering custom designs for severe service applications.The new general managers now carry responsibilities for growth, margins and customer satisfaction and are given cross-functional resources and teams to succeed. This is a very important move because the increased focus will undoubtedly help the company identify growth opportunities, capture them much more swiftly and effectively and better serve our customers.Now moving to our second big announcement, which has been the focus of our second press release yesterday -- is laid out in the press release and as you will see, connects directly to the first announcement. So as part of the company's optimization and specialization efforts in North America, Velan will consolidate its valve manufacturing facilities in Quebec from 3 plants into 2. The completion of the consolidation is scheduled for the end of 2020 or the beginning of 2021 -- I mean, calendar year 2020 or calendar year -- sorry, fiscal year 2020 or the beginning of fiscal year 2021, following -- allowing for a reasonable time for proper transition.The current production will be integrated into the company's other valve facilities in Quebec and India, which will be focused on the production of specific valve lines to improve delivery and supply chain efficiency. The company will work with the union to minimize the impact on its employees and help those who will be impacted by this closure.Also an important part of the announcement is the objective to more fully leverage our manufacturing capabilities in India, building on the recent completion of the industrialization of our Indian operations for our flagship pressure seal valve line. I mentioned that in October. I mentioned that we intended to leverage India in the future, serving Southeast Asia and Middle East customers, and you can now see how our efforts to date in India serve us well with today's announcement.At the end of this transition period, we will have a reduced and much more focused North American footprint dedicated to specialized higher-end valves and intimately connected to our strategic business units in that the GMs will be able to work closely with plants more directly pertinent to their market development efforts. And we'll be able to leverage our Asian supply chain and manufacturing footprints for the less complex product lines.Finally, a few words on the goal to reduce our overall cost structure by $20 million over 3 years. And I said last year, we were already making good progress, as I reported in the last 2 quarters. Today's announcement is a big step in our strategy to make Velan much more focused and cost competitive.Meanwhile, our backlog has increased this year, and it seems that a few key winning conditions are appearing on the market front, mainly on the MRO side of the equation, our establishment of a distribution network for our Italian valves in Western Canada. And also, we've received an order last fall from our American customer mandated to build ships for the American Navy, and we expect an increase in Navy orders in the course of the next 2 years.To conclude, we're still not satisfied with our results, but we're ready to make tough decisions, as you can see, to put the company back on the path of profitable growth. The whole company as well as the board and its majority shareholders are mobilized by a sense of urgency to improve our results, and I look forward to keeping you posted on the progress we make.On this note, I will hand it back to our moderator, and John and I are ready to answer questions.

[Operator]

[Operator Instructions] And we do have a question from the line of Richard Dufour with Velan (sic) [ La Presse ].

[Richard Dufour]

Mr. Leduc?

[Yves Jacques Leduc, President, CEO & Director]

Yes? [Foreign Language]

[Richard Dufour]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language] If you don't mind though, I'll -- [Foreign Language] and then I'll translate in English, M. Dufour. We're -- we have a very elaborate communication plan cascading right now in the company, and employees as well as unions have been informed yesterday evening after the release of the press release and it's also going on in the plants today, that the consolidation consisted -- specializing 3 rather than 4 plants, and we will be closing, within the next 2 years, plant 2/7 and leveraging plant 1/5. These are the 2 Montreal plants. So the Montreal plant that's going to be closed in 18 months to 24 months is plant 2/7. That's being explained at length to our employees right now. [Foreign Language] So that's the first -- answer to the first question, which was, which plant closes. The other question, the impact on employees. What I've asked the union to help us with yesterday was to work very, very tightly together in finding all possible solutions to reduce the impact on layoff and on employees. It's -- there's no figure right now, but it's not going to be more than the employees -- number of employees we have in plant 2/7. But I expect that working with the union -- and we're going to be able to, through retirements, through attrition and through other possibilities, to avoid the disruption of moving the operations from plant 2/7 to the other plants. And I'm very confident that if you take into account our growth prospects also that we're going to be able to keep the impact to a minimal level. [Foreign Language]

[Richard Dufour]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

Okay. [Foreign Language] So the plant 2/7 is on McArthur Street, just 2 street corners away from head office. And plant 1/5, the other Montreal plant is adjacent to head office, and it's a very large plant with a perfect layout, and that's why we chose to keep that one open.

[Richard Dufour]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language]

[Operator]

Your next question comes from the line of [ François Lécuyer ] with [ Perspective ].

[Unknown Analyst]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language] I'll stop to translate what I just said right now and then address your last question. So the first question was, why are we focusing on Montreal when we have issues in Italy and France? And I specified that we don't have operational issues in France and Italy. What I alluded to is that there was -- there were greater shipments in the third quarter of fiscal '18 than in fiscal '17. And that difference in shipments that were large orders in the previous year explained why we had -- that affected our third quarter margins and profitability. So we had to do with a difference in shipment levels for those 2 operations, not with operational issues. The reason why we're focusing on Montreal is that we are [ cost ] -- noncompetitors in those markets. I've alluded in many of our previous quarters to margin generally, and that's largely because our cost structure, the way we're set up right now, we have overcapacity in North America, very difficult for us to make acceptable margins unless we make the big decision of streamlining our operations. And I specified that I did not mention to the union yesterday a number of employees. I repeat that our objective with the union is to reduce to -- the lowest possible number the impact of layoffs following our decision. And I'm confident we're going to be able to do that with the union. [Foreign Language]

[Unknown Analyst]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language]

[Unknown Analyst]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language] So what I -- the question was, will there be transfers of machines to India? As I indicated to the union yesterday, there are product lines that we just simply cannot make money with by producing them in North America. These are low-class, very low-margin valves. So if we didn't leverage our low cost base, we wouldn't be able to continue with those product lines. Our first objective, by consolidating North America, is actually to reduce our machining capacity because we have overcapacity. So there will be a net reduction of machines, and some of them will be transferred from one plant to another in North America, and others will indeed be transferred to India.

[Unknown Analyst]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language]

[Unknown Analyst]

[Foreign Language]

[Yves Jacques Leduc, President, CEO & Director]

[Foreign Language] So the question was, did the company benefit from subsidies from the government? I said no, no demand was made in that regard. I'm -- -- we're obviously open to getting support. And one area that will be to make sure that our capabilities, our talent, our know-how are maintained here in the -- at the head office. That requires a heavy focus on building those capabilities. The main -- the most important part of my message is that we're going through this reorganization of our North American footprint, not only because we need to reduce costs in the short term, but we want this company to rebound and get back on the profitable track as soon as possible. So if there's help around to support our efforts to rebuild or to rebound and to bounce back, then I'm open to it. But for now, no demand has been made on the government to help us. [Foreign Language]

[Unknown Analyst]

[Foreign Language]

[Operator]

[Operator Instructions] And there are no further questions at this time.

[Yves Jacques Leduc, President, CEO & Director]

I thank all of you for your attention. I wish you a very good weekend. Thank you.

[Operator]

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.