Q4 2020 Digi International Inc Earnings Call
Ladies and gentlemen, thank you for standing by and welcome to the Q4 2020 Digi International Inc. earnings Conference call. At this time, all participants are in a listen only mode. After the speaker presentation. There will be a question and answer session to ask a question. During the session you will need to press star one on your telephone please.
Buys that today's conference maybe recorded she was required to further assistance. Please press star Zero I would now like to hand, the conference over to your host CFO Jamie lie.
Thank you Keith.
Good afternoon, everyone and thank you for joining us today to discuss the fiscal 2024th quarter results of Digi International.
Joining me on today's call is Ron Konezny, our president and CEO.
Ron will provide his thoughts on our business and I will follow with the highlights of our financial performance.
Following our prepared.
Next we will take your questions.
We issued our earnings release shortly after the market close today, you may obtain a copy through the financial releases section of our Investor Relations website at Digi Dot com.
Some of the statements that we make during this call are considered forward looking and are subject to significant risks and uncertainties.
These statements reflect our expectations about future operating and financial performance and speak only as of today's date we.
We undertake no obligation to update publicly or revise these forward looking statements.
While we believe the expectations reflected in our forward looking statements are reasonable we give no assurance such exit.
Patients will be met or that any of our forward looking statements will prove to be correct.
For additional information please refer to the forward looking statement section in our earnings release today and the risk factor sections of our 2019 form 10-K, and subsequent reports on file with the FCC.
Finally, certain of the financial information disclosed on this call includes non-GAAP measures.
The information required to be disclosed about these measures, including reconciliations to the most comparable GAAP measures are included in the earnings release.
The earnings release is also an exhibit to a form 8-K that.
Access through the SEC filings section of our Investor Relations website.
Now I will turn the call over to Ron.
Thank you, Jamie and welcome to Digi International's, 2024th fiscal quarter and end of fiscal year earnings call. We.
We are pleased with both the finish to a record fiscal year and the excitement on our.
Can be for potential.
Our team achieved several new annual records revenues profitability cash generation subscribers in annualized recurring revenue.
Were able to accomplish all of these goals under the unprecedented heavy cloud of the pandemic.
Ladies value proposition of remote automate.
I made it zero touch and intelligently connected offerings has strengthened setting the stage for new records in the future.
Consistent with our commentary from last quarter's earnings call, our fourth fiscal quarter performance demonstrated growth from the previous quarter.
And double digit growth year over year.
We maintain our new model of over 50% gross.
Fusions overhead.
While were 15% adjusted EBITDA margins paid down $50 million in debt leveraging strong cash collections.
And exceeded 70000 subscribers in smart sense, our solutions business segment.
Inspired by the success of both smart sense and opened gear did you implemented the new organizational structure.
Mark to bring focus to our key product lines Kevin.
Kevin Riley and Gary marks continue to lead those respective organizations.
And we have implemented new leaders and cellular routers with Mike Uland Oh.
OEM solutions, our embedded product line with Steve Erickson infrastructure management, with Bryant, Kirkland doll and technology services with Tracy Roberts.
These changes were implemented at the beginning of the fiscal year and we've already seen the benefits of the structure each leader and their team are keyed in on their marketplace customers competitors and have the incentives aligned to their performance.
Now a few comments on each of our business segments.
Once again our account.
Console server product line, which includes opened gear.
Drove an over 10% increase in I O two products and services revenues from last year.
Similarly, this growth was moderated by a modest decline in our other products and services offerings as the pandemic continued to impact some of our customers during the quarter.
We continue to make investments in innovation.
Service and go to market.
We achieved over $60 million in new product revenue in fiscal year, 2020, which is up over 50% from fiscal 2019.
We launched a greatly improved as your remote manager.
Our XP tools received the 2020 electronics industry Engineering development.
Design tool of the year Award we.
We launched our first Crs software offerings.
And we are prototyping, our fiveg why fivesix cellular router offerings for introduction in fiscal 2021.
Our new lineup of net ops console servers, which combined the capability of a smart auto Bahn console server.
So with the flexibility of Netapps automation is gaining traction and opening up new market segments.
We are implementing new customer and partner portals.
To support their success each ease deal registration.
And simplify both purchases and renewals.
We are expanding our go to market teams in all of our product lines with addition.
Hiring in marketing and sales.
I have two products and services operates in the physical world. The team is delivering strong results at a time that makes it difficult to connect with new customers and introduce new products.
Our customers often have limited access to labs, and other tools and environments due to their companies restrictions.
Through virtual tools, we are reinventing our.
Our marketing and sales skills, while positioning ourselves for in person and travel and meetings.
We are seeing the pay off with increased product evaluation higher take rates and our remote management software and building pipelines and win rates.
Smart sense I O T solutions added over 1200 subscribers in the quarter, driven by health care and retail.
Retail verticals.
Retention remains high but we did lose about 450 subscribers through the pandemic induced business failures.
We ended the fiscal year with over 70000 subscribers powering nearly $18 million in annualized recurring revenue.
Newly signed agreements with Schweins to regional grocery chains expansion of existing pharmacy business.
Yes, and expansion of a large restaurant customer give us visibility to over 75000 subscribers.
And $20 million annualized recurring revenue when implemented over the next few quarters.
Smart sense for the destination consolidation of the cloud and mobile interface.
Now.
Now services over 6000 sites.
And we have officially retired one of four legacy sites Freshtemp.
We're on a path for all sites to be smart sense 4.0 by the end of 2021.
With strong bookings and a strong pipeline established we are targeting adding three to 4000 sites per quarter throughout fiscal 21.
The smart temps team achieved success by focusing on key markets relentless innovation collaboration and a steadfast commitment to our customer success.
The market remains in the early innings of its maturity and we're establishing a leadership position that could lead to years of growth.
At the corporate level, we continue to progress debut the efficiency and effectiveness.
Software services and subscription will define our customer value and success now have over 30 million in annualized recurring revenue across the entire company.
Our diversified supply chain continues to perform well and showing increased resilience.
Weve integrated cloud based tools to replace on premise capital and labor intensive tools.
We remain on the offense regarding acquisitions deal market activity increased significantly from earlier in the year.
We continue to pursue opportunities in both our biotech products and services and Aiotv solutions business segments.
Absent significant acquisitions, we will continue to bolster our balance sheet and net debt position.
I continue to be humble been impressed by.
Did you team and their adaptability stamina and commitment to our customers and our success in what is now an eight month battle with the current virus.
We do not expect the easing of conditions in the near term, but I feel confident our team.
Our supply chain, our tools and our offerings.
While I look forward to more in person collaboration are.
Team is can and will persevere this pandemic.
I will now turn the call over to Jayme for more detail on our financial performance.
Thanks, Ron Good afternoon, everyone. Hopefully you are all safe and healthy today ill start with some of the key financial highlights that contributed to the results of our fiscal fourth quarter and our record fiscal year.
By the a strong fourth quarter performance continued the trend of growth and margin expansion driven by vision and execution. Despite the ongoing macroeconomic uncertainty fueled largely by the continuing pandemic.
Quarterly revenue once again surpassed the $70 million mark, finishing at $73.2 million for the fourth fiscal quarter.
For.
That strong revenue performance combined with gross margins in excess of 50% and our continued diligence and focus on operating expenses led to an adjusted EBITDA of $12.1 million or 16.5% of our revenues.
The adjusted EBITDA percent is an all time high Mark for our company.
As is the $12.1 million EBITDA Mark.
Last quarterly call, while we did not provide specific guidance. We noted that we believed we had the potential to perform slightly ahead of our fiscal third quarter results and our fourth fiscal quarter performance supports that position.
On a per diluted share basis.
Our non-GAAP EPS for the quarter was 32 cents, which was an all time high for Digi with our GAAP EPS of 15 cents.
Those results for the quarter have surpassed consensus among analysts estimates for revenue adjusted EBITDA non-GAAP EPS and EPS.
Looking back at the.
Our fiscal year, our annual revenue finishes at $279.3 million, and adjusted EBITDA of $40.2 million or 14.4% of revenue.
Revenue grew year over year by 10%, while adjusted EBITDA grew by 52%.
The revenue and adjusted EBITDA numbers are all time highs for Digi.
Fully completes a year that is seen digi step change our model, establishing new normals and demonstrating resilience in the face of a dynamic macro economy.
The annual performance correlates to a non-GAAP EPS of 98 cents per diluted share and a GAAP EPS of 28 cents per diluted share.
On a non-GAAP basis, but.
Performance is up 48% and generates a two year combined annual growth rate of about 30%.
The non-GAAP EPS performance is another all time high for Digi.
As we highlighted last quarter, we continue to believe a key indicator in the value that digi brings to our customers lies in our operational cash flow.
We generated $15.3 million in operating cash flow for the fourth fiscal quarter and $34.5 million for the fiscal year.
Ending the fiscal year with $54.1 million in cash.
Last quarter, we indicated we expected our cash flow to more closely resemble our fiscal Q2 performance of 9.4.
Ian as opposed to the 31.8 million that we generated in fiscal Q3. So this is a fabulous results here in Q4.
We maintain our expectation that we will continue to generate positive operating cash in the foreseeable future.
This operating cash flow performance allowed us to make another substantial payment in our credit.
Milling facility paying down $15 million during the quarter.
Our ending bank facility position now stands at $63.1 million with $59 million in long term debt or a net debt position of $9 million.
These figures do not consider the treatment of leases, which based on the new accounting standards will add 60.
$18.2 million of what is now classified as debt on the books.
That means that during our fiscal year, we have paid down just under $50 million right around one dollar and 60 cents per diluted share of debt that we secured for our acquisition of open gear and.
And we have normalized our cash balances into the mid 50 million dollar level.
We are.
In compliance with our banks facility's covenants and expect to remain in compliance.
Other balance sheet items of note, our ending a our position is $59.3 million up sequentially $5.4 million from our last fiscal quarter end with no material changes to our reserves.
Inventory increased to 50.
$51.6 million up from $46.6 million at the end of our prior fiscal quarter.
While we had some inventory increases that are timing related we continue to work through a classification change of skews between a b and C.
We have been adding inventory to meet delivery levels for the skews, while BS and CS are taking a little longer to work.
Work themselves out of inventory.
We do not see any impact to our ethanol reserve there is a risk as a result of this change.
Current inventory in the channel is 28.3 million, which is in line with levels over the past several quarters, we monitor those levels closely and regularly.
To date global travel restrictions or more.
Border closures have not materially restrained our ability to obtain inventory manufacturer or deliver products or services to our customers.
We do not expect there to be any material changes to the assets in our balance sheet.
Let's get into the segment level for the fiscal quarter and full year Aiotv products and services revenue increased.
316.4% year over year in the fourth fiscal quarter of 2000 $20 million to $64.6 million and gross margins increased 379 basis points to 51.6% pro.
Product mix across the portfolio, including the products acquired through the acquisition of open gear margin rate increase.
For the fiscal year, 2020, I OTI products and services revenue grew 15.9% from prior year to $249.5 million, primarily associated with our opening your acquisition completed in December of 2019.
Gross margins increased 510 basis points to 51 point.
<unk> percent.
I O T solutions revenue delivered a strong second sequential growth up 24.6% from last quarter to 8.6 million.
Year over year in the fourth fiscal quarter for 2020, I OTI solutions decreased 9.5%.
This was primarily due to delays in customer rollouts.
Expansions and upgrades as a result of COVID-19.
Gross margins increased to 585 basis points to 48.5, demonstrating the value of our high margin recurring revenue business model and as Ron indicated our average annual recurring revenue numbers hit all time highs for our solutions business.
For the fiscal year 2020, I OTI solutions revenues of 29.8 million decreased 23.6% from the prior fiscal year consistent with the fourth quarter. This is attributable to delays in customer rollouts expansions and upgrades as a result of COVID-19.
Gross margin increased 100.
60 basis points to 49.2%.
As a result of greater mix of recurring revenue compared to the prior year.
Now as it relates to forward looking guidance.
The dynamic macroeconomic circumstances have been ongoing and some of our customers continue to experience disruptions from the impact of covered 90.
18.
Despite continued changing conditions, we feel confident in the digi value proposition and that our team is committed to delivering growth improved profitability and growing non-GAAP EPS.
With that as the backdrop is hard for us to provide anything more specific for the fiscal year 2020.
One.
That concludes our prepared remarks, we are now available to take your questions Letif. Please provide instructions to our callers.
As a reminder to ask a question you will need to press star one on your Touchtone telephone again Thats Star one on your Touchstone telephone to ask a question to withdraw your question press.
The pound key please stand by while we compiled acuity roster.
Our first question comes from the line of Mike Walkley of Canaccord Genuity your.
Your question please.
Great. Thank you and congratulations on another strong quarter. So it's I guess high level question.
Yes for for Jamie Enron.
You know with the free cash flow in over 50% gross margin and paying down debt again.
As you look at your balance sheet getting kind of close to a net debt neutral or no longer a debt position it what type of.
Debt levels would you be willing to.
To take on for another opportunity like an open gear.
Since you highlighted Ron that you are you still looking to make acquisitions to grow the business.
Yeah, Mike listen for Us I hope, you're doing well and to that question.
We remain on the offense acquisition was sent some of it does depend on the target as.
We've talked about in the past on product and services acquisitions, they tend to be profit minimal and we can value them as a multiple of EBITDA.
And so we'd be willing to go it got profile up to nine times EBITDA on leverage.
On the solution side, so a little bit different story many of those solutions acquisitions are at.
Profitability or if they are they.
We don't necessarily expect them to be significant profit on the near term and so that might alter the level of debt that we would see him, but I'd say as a rule of thumb, we want to comfortably go up before.
Okay Thats helpful. And then just on just on the solutions business any update on.
Competitive environment are there certain areas you feel like there's competitors have something that you don't have and then if you could also just update us on just but the strong gross margin in the solutions. This quarter on a year over year basis can can you remind us what the recurring revenue mix is on a run rate for the quarter.
Yes, we finished the.
The quarter at about 18 million annualized recurring revenue or.
So if you kind of back that into the divide that by four that gives you about the recurring revenue portion for the previous quarter and that Mark has been at nearly 80% gross margins in that piece, we've been really encouraged by a couple segments really returning if you noticed in my comment.
Comments, we talked about healthcare talked about grocery and we even had a nice foodservice or restaurant. When we're really pleased to see the enterprise comeback groceries. It really nice opportunity for us we've we've been Peter in health care, and we continue to see interest there, especially with the talk of.
Temperature sensitive vaccine.
He being potentially Matt distributed but.
Oh, it's nice to see those grocery those grocery accounts come back they had been really adapting to a new normal with flex glass and mass and special hours for vulnerable folks and and as a calibrated there. They are now looking at investments to make sure. They are optimizing what if any.
Cases, as kind of hazard pay labor. So it's nice to see that grocer activity come back in regards to comps we haven't seen any big changes. We although we think this is early innings. So maybe were the biggest kit in the room up we haven't seen any significant competitive changes out there.
Great. Thanks, and last question for me and I'll pass it on just.
Jamie I know it thanks for the guidance for next year I know, it's tough, but as you look to kind of the December quarter.
In the channel inventory remaining stable do you think there'll be some tightening maybe of channel inventory at year end sufficiency little cautious on kind of year end sales with losing the holiday season any thoughts just on maybe seasonality for the year.
I know it's tough in this environment. Thank you.
Yes, Thanks, Mike and good to hear from you or I think historically, there's been seasonality in the business as it relates to Q1 I think as you look you know it's one of the challenges with this dynamic.
Sure.
Ill kind of all about the table historically, there's been seasonal peak, we are kind of watching that that channel inventory level. There is a portion of that inventory that is already crude inventory accounts. So it's it's already assigned for customers.
So some of that will naturally flow out and not being.
But it is something to watch we're at a normalized level right now anything less than that would be a little bit of a lower level that would would be in the range. So we are keeping an eye on that for for FQ one.
Great well, thanks for taking my questions and get back to you guys hope everybody's us staying safe and healthy.
Yeah, you too Mike its Mike Thanks.
Thank you. Our next question comes from the line of Anthony Stoss of Craig Hallum. Your line is open.
Thank you great execution, guys shifting gears, a little bit Rod just on ericsson's acquisition of Cradlepoint for $1.1 billion with your business being you'll likely the second biggest behind.
And then how do you think this will affect your business have you.
Is there a chance that you guys would get an offer to good to reviews, how vital would that business be and also maybe you'd be a good.
Refresher to take us through kind of your growth rates in that so their business if you've seen an impact of Fiveg and then the last or a follow up would be.
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Maybe more detail related to the code vaccine distribution I know Youve put our press release, a few weeks ago I'm. Just curious if anything has changed in that regard. Thanks.
Thanks, Tony Yes, create a point what a great opportunity they were able to secure.
Sales at Ericsson, congratulations to that team they've done a nice job and.
And we had a lot too.
So to learn from what they've done and we've incorporated a lot of of winning customer playbook into our site.
So the router business and so we think it's a great time to go on the offense, we've got our first fiveg profit.
Prototype being will be released this year five.
In the industrial Internet of things World has a little bit more modest adoption.
You'll you'll probably see a little bit more on indoor applications, where people are looking for those higher speeds and and also customers want an assurance that their products won't be.
At the end of life after a half future proofing issue. So it's important to carriers it is important to us.
And yes, we do think that's a valuable business, it's been really at the heart of.
Our Iot products and services business, and we'll open gear Rhiag about a year ago owned and operated that when there is lot of technologies that are shared between.
Thank you and then our site a router group as well so that makes for a great pairing.
And all banks will be able to leverage that Fiveg technology. In addition to this either out of business.
On the on the vaccine side, we we've had a lot of discussion and interest it's been great to speak with our existing customers. We've got a lot of pharmacy clients and they are very important to us and they are navigating their roll a lot of our pharmacy clients.
Also looking to get into health services to get those pharmacists about behind the desk and offering health care services and flu shots of vaccine shots are a great entry point, so they're all about getting the supply chain and potential teen and and whether that's adding additional sensors and and recurrent.
I trained to an existing customer as well as its been a nice opportunity for aging folks that we've been talking to but maybe weren't ready to pull the trigger and this gives them that extra and want to move forward.
Got it thanks, and then if I could follow up just on overall gross margins, but also on opened gears gross mark.
Agents they have been great maybe refresh us on on where open gear itself ended for us for the quarter on the gross margin front.
And also where you see overall gross margins for did you go and maybe say a year from now.
Yeah were fluid segment recorded to not get too specific but we put some targets out.
Out there to help investors understand when we purchased open here what to expect and then it really met those expectations and that has really been the single biggest reasons why why you saw gross margins exceed 50% to a lesser extent the contribution from solutions. It's nice nice margin increase we do expect that.
Model of 50% plus gross margin, 15% plus adjusted EBITDA margins to really hold open gear honestly as a big part of that.
Got it great job guys. Thank you.
Thanks, Tony.
Thank you again to ask a question. Please press star one on your Touchtone telephone again Thats Star one on your.
Tone telephone to ask a question on.
Our next question comes from the line of Greg Burns of Sidoti and company. Your line is open.
Afternoon.
What was the organic growth rate on your Ah the products and solutions for the quarter and then maybe if you could give us a little bit of detail.
Or product segment perspective on on any areas of particular strength or weakness within that segment. Thank you.
Yeah, Greg Hope you doing well thanks for the question as we mentioned in our comments really open here was a big contributor for profit and service to seeing growth.
Well it was partially offset by a decline we did see some strengths in our cellular router business saw some strength strengthened our embedded business as well.
So they were partially offset by some declines internetworking infrastructure management group.
But overall, we're really proud of how that group team together and produced a nice positive net reserve built.
And we do expect those trends to hold that the core daejeon product and services group will continue to have success you the pen.
And be complemented by by the open your business as well.
Okay great.
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And then you mentioned.
Your your I guess across the business I think the number was a third.
30 million or so in total recurring revenue whats the attach rate for like digital manager and some of the services you're trying to provide.
On the.
The products and services side, and you know how big is that business and where do you think that could go over the next couple of years.
Yeah, we've been seeing really strong double digit growth in our recurring revenue business within product and service, albeit it's on a lower base. So it's less impressive on an absolute dollar basis.
Actually both open gear and digi or in that 30% to 40% Tech, which is up significantly from from historical norms work. We're obviously.
Not happy we want to get towards 100% take rate because we believe so strongly in the value proposition and the benefit. It provides our customers earlier there was a question on cradlepoint. They do not sell a single equipment without software to give you. An example, and so that tells you that we've got a lot of opportunity to improve that to great for us because we've been.
On a business for decades, we are more gradual and how we introduced that versus maybe hard switch.
But thats the direction were going is we really need to keep climbing that that that take rate, it's a little bit harder to go back to existing customers, who maybe are already implemented a different solution, but certainly with new business.
It's really.
The customer opting out versus us having them opt in.
Okay.
And then just switching gears to the solutions side of the business I missed some of the numbers you mentioned about your outlook for for next year I think maybe.
Maybe 75.
Housing.
Customers can.
Maybe run through those again like what what the outlook is next year the growth of they are in and customers.
Yeah. If you go back a quarter is really solution. This was hardest hit by the pandemic a lot of their addressable market was dealing with flattening the curve or businesses that down and it's been really nice to see the.
Group improved sequentially throughout fiscal Q2 in this last quarter at a nice jump up from just three.
We finished the year just over 70000 subscribers, we've got a real clear line of sight up to 75000 subscribers just with what Weve signed to date and so we're now those can implement over.
Next few quarters and.
And we'll have new bookings that come on as well and so we really expect to return to that three to 4000 sites a quarter on average.
As these enterprise deals have been unlocked and it's been driven by healthcare by grocery we had our first really large success in restaurants since the pandemic.
Okay and then.
Just.
So I understand the expectations here, so if you're going to be adding three to four and growing to 75, but you're at 70 does that imply like churn you expect insurance to remain high within the.
The existing no harvest to be to be clear, Greg I'm, just talking about we finished it.
70000, just with agreements, we already have signed but not yet implemented we have a we have a path to 75000, just with what Weve signed to date. So that is with these new agreements for example, we announced Schwanz in a press release that will bring over 3000 sites. The agreements I mentioned in my transcript a couple of regional grocery chains.
Our pharmacy chain in a restaurant that really gives us visibility to 75000, just with those signed customers. That's not an annual forecast that's just what we booked to date.
Okay, Great all right. Thanks for the clarity appreciate it.
Yes, no problem great. Thank you.
Thank you our next question.
Thing comes from the line of Dick Ryan of Colliers. Your line is open.
Thank you.
Hey, Ron back on the vaccine question when when would you guys start playing and how broad could you participate in all not necessarily at the manufacturing and of the vaccine but.
As for distribution and transportation and all the other touch points, how broad of a participation could you guys maybe capture.
Yes, Dick it's a really good question and it's it's a little volatile at the moment Theres a couple of different candidates and those candidates have different storage.
Its requirements also.
Hello freezer requirements like you see with the Pfizer is different from say a modern out that could handle in a standard freezer.
Situation then of course, there is the pace of production and and there is the distribution and where that goes over time.
If we see for those that need.
Ultra low temperature initially dry ice being used in portable packaging because it needs to be delivered to those that are most in need and and not necessarily stored and man in centralized area.
But a lot of the conventional wisdom has it being stored and derivatives more broadly into hospitals clinics and as I mentioned earlier pharmacies.
Okay.
Lot to uncover still but our ability to participate is within the supply chain as well as that retail distribution side. So the benefits for us there's certainly additional business opportunities with existing customers as an as well there's been a lot of interest from folks that either we've been talking to the past or their new relationships.
And it highlights the need for monitoring.
Okay.
And on Swans has that started rolling out the was there any sales in the quarter at least.
You know upfront for sensors is maybe not service obviously in September, but how does that rollout.
Yes, Schwanz was was the rollout really started last quarter and we will complete this quarter, we don't recognize those sites as subscribers until they're up and running and so we saw some onetime of equipment revenue associated with that opportunity last quarter, we'll see a little bit more this quarter and then you'll start to recognize those subscribers in the current quarter.
Quarter.
In the December quarter, Okay.
Hey, guys. This is if you want.
Yes, okay. Thanks Dick.
Thank you at this time I'd like to turn the call back over to President and CEO, Ron Konezny for closing remarks, Sir.
Thanks, Steve.
We really have.
Appreciate everyone that joined the call today and thank you to our team our partners and our investors next week Digi is participating in seventh annual Craig Hallum Alpha Select virtual conference on November 17, 2020 piece contact Craig Hallum, if you'd like to schedule a one on one meetings in the meantime, stay health healthy and safe and I look.
Our next earnings call.
Ladies and gentlemen, this concludes today's conference call. Thank you for your participation you may now disconnect.
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