Q2 2019 Earnings Call
Do you have any effect on your conference for today.
Darren MZ around.
Good morning, everyone and welcome to Faro Technologies Conference call second quarter 2018 earnings release for opening remarks, and introductions I will now turn the call over to Chief Financial Officer, Bob decide out. Please go ahead.
Thank you and good morning, everyone yesterday after the market close we released our financial results for the second quarter of 2019.
The related press release and Form 10-Q for the second quarter is available on Faros website at Www Dot Faro Dot com.
In order to help you better understand the company and its results management may make some forward looking statements. During the course of this call. These statements can be identified by words, such as expect will believe anticipate plan potential continue goal objective intend may and similar words. It is possible that the company's actual results may differ materially from those projected in these forward looking statements.
Important factors that may cause actual results to differ materially are set forth in yesterday's press release and in the company's Form 10-K for the year ended December 30, 120 team and Form 10-Q for the quarters ended March 31, 2019 and June 32019.
During today's conference call, we will discuss certain financial measures that are not presented in accordance with U.S. generally accepted accounting principles or non-GAAP financial measures in our press release, you will find additional disclosures regarding these non-GAAP measures, including reconciliations of these measures to comparable GAAP measures.
Management believes that these non-GAAP financial measures provide investors with relevant period to period comparisons of our core operations. These financial measures are not recognize terms under GAAP and should not be considered in isolation or as a substitute for a measure of financial performance prepared in accordance with GAAP.
I will now turn the call over to Michael for his comments and afterwards I will return with a summary of our financial results. After our prepared remarks, we will open the call for your questions up to the start of market trading.
Thank you Bob.
Good morning, and welcome to our second quarter Conference call.
I'd like to take this opportunity to share with you how thrilled I am to be joining the Faro team.
Faroes, a wonderful combination of technology, leading edge products and an entrepreneurial spirit, which is dedicated to innovation.
Ferros core competencies and robust product portfolio or the answer to many of the Threed measurement technology challenges facing our customers today.
After joining ferro on June 17th spent the last month conducting one on one discussions with our employees across three sites in two comments I plan to complete over 125 discussions after visiting our Asia Pacific team within the next two weeks.
I believe it is important to understand where the company and its employees have been.
And where they are now in order to better collaborate and targeting a path forward for the company.
After listening with an internal focus I believe it's critical to hear directly from our current and prospective customers suppliers and partners in order to gain an external perspective.
My initial impressions from these from these discussions is that we have significant opportunities available to improve and to grow fair going forward.
I'll be collaborating with our leadership team and the board of directors to develop a comprehensive multi year strategic plan with a clear objective of delivering long term shareholder value.
Over the last three years the leadership team has increased our technology competitiveness.
Expanded our product portfolio and increase gross margin.
And the next chapter of Ferros evolution, we will build on the past successes reevaluate selected aspects of the current business model.
And execute a new strategic plan to deliver sustained increase profitability and shareholder value.
Now lets turn our focus to the most recent quarter.
Our sales were $93.5 million for the second quarter of 2019, which included the unfavorable impact of $5.8 million from the GSK sales adjustment described in our earnings release.
Our non-GAAP sales of $99.3 million was up 1% year over year, which included a nearly 3% headwind from changes in foreign exchange rates.
Our service business reported another quarter of mid teen sales growth driven by growth of our installed base and our focus aftermarket sales initiatives.
With our service revenue growth and repair delivery improvements we've reported the service gross margins above 50% for the first time.
Our threed manufacturing segments experienced a second consecutive quarter of year over year decline driven primarily by a soft Asia Pacific region, reflecting China, and Japan customers delaying spend in future quarters.
Industrial manufacturing economic indicators, such as Pmires purchasing managers index automotive production and GDP across Asia suggests challenging business conditions for our threed manufacturing customers slowing their purchases of discretionary capital goods, such as fair arm and laser tracker.
Our our construction them segment sales increased at a low single digit percentage year over year in the second quarter, we really we realized robust sales growth in our EMEA region with volume gains in central and Southern Europe .
While in the first quarter, our Asia Pacific region delivered strong year over year sales growth, our second quarter sales in Asia Pacific showed a marked slowdown.
Overall, our non-GAAP second quarter sales performance was impacted primarily by changes in foreign exchange rates and more challenging economic factors as just discussed.
Asia Pacific represented about 25% total sales in the quarter with sales regions with the regional sales down 2% year over year.
Our adjusted our industrial manufacturing customers globally or more tentative to commit discretionary capital given the general market uncertainty related to trade wars and slowing demand in selected sectors and countries.
On July 15th we submitted a comprehensive report to the General services administration and its office and its office of Inspector General as a follow up to our preliminary internal review on February 14th regarding potential noncompliance with certain provisions of our government contracts.
Our current 8-K dated July 15, 2019 provides additional disclosure on this matter and associated future business risks.
As you know we've announced Bob.
Departure.
And before I turn the call over to Bob I would like to thank them publicly for his contributions to fair over the past five years.
Thank you Michael.
Total sales were $93.5 million for second quarter, 2019, as compared with $98.2 million for second quarter 2018, which included the unfavorable impacts of 5.8 million from the JSA sales adjustment and $2.5 million from changes in foreign exchange rates.
Our non-GAAP total sales were $99.3 million for second quarter, 2019 up 1.1% as compared with $98.2 million for second quarter 2018.
We grew our service revenue year over year by 13.2% in second quarter 2019, driven by the growth of our installed base and our focused aftermarket sales initiatives.
Our product sales for second quarter, 2019 decrease year over year, primarily due to the GSA sales adjustment the impact of changes in foreign exchange rates and a decrease in unit sales within our Threed manufacturing segment, especially in our Asia Pacific region.
New order bookings were $106.1 million for second quarter, 2019 down, 0.4% as compared with $106.5 million for second quarter 2018.
Enter Threed manufacturing segment sales for second quarter, 2019 were 59.0 million as compared with $64.0 million for the same prior year period.
non-GAAP sales for Threed manufacturing segment for second quarter, 2019 were $62.3 million down, 2.7% as compared with second quarter last year.
This decrease in non-GAAP sales was mostly driven by lower unit sales, partially offset by continued growth in service revenue.
In our construction been segment sales for second quarter, 2019, or $24.2 million as compared with $23.6 million for second quarter 2018.
non-GAAP sales for our construction business segment for second quarter, 2019, or $24.6 million up 4.5% as compared with second quarter last year.
This increase in non-GAAP sales was mostly due to an increase in service revenue.
And higher average selling prices of our products.
In our emerging vertical segment sales were $10.3 million for second quarter 2019, as compared with $10.7 million for the same prior year period.
non-GAAP sales for our emerging vertical segment for second quarter 2019 were 12.4 million.
Up 15.9% as compared with second quarter last year.
This increase in non-GAAP sales, mainly reflected higher unit sales across all the emerging businesses in the segment.
Gross margin was 56.0% for second quarter 2019, as compared with 58.7% for the same prior year period.
Reflecting a strong increase in service margin, which was more than offset by the impact of the TSA sales adjustment.
non-GAAP gross margin was 58.5% for second quarter 2019.
Selling and marketing expenses were $29.1 million for second quarter 2019, a decrease of 3.2% compared with $30.1 million for second quarter 2018.
This decrease was driven mostly by lower marketing expenses and a decrease in selling commission expense, partially offset by an increase in compensation expense related to higher sales head count.
Selling and marketing expenses were 31.2% of sales for second quarter 2019, as compared with 30.6% of sales for the same prior year period.
General and administrative expenses for second quarter, 2019, or 14.4 million as compared with $11.3 million for second quarter 2018.
This increase was mostly due to an aggregate incremental costs of 2.2 million related to our chief Executive officer session any advisory fees incurred for the TSA matter.
General and administrative expenses were 15.4% of sales for second quarter 2019, as compared with 11.5% of sales for the same prior year period.
Research and development expenses were $9.1 million for second quarter 2019, a decrease of 8.9% as compared with $10.0 million for second quarter 2018.
This decrease was mainly driven by lower materials and consulting costs as well as favorable changes in foreign currencies.
Research and development expenses were 9.7% of sales for second quarter 2019, compared with 10.2% of sales for the same prior year period.
Our operating loss was $4.9 million for second quarter 2019, as compared with operating income of $1.9 million for second quarter last year.
Our non-GAAP operating income was $3.1 million for second quarter 2019, representing a non-GAAP operating margin of 3.1%.
Our net loss was 6.4 million or 37 cents per share for second quarter 2019, compared to net income of $1.2 million or seven cents per share for second quarter 2018.
Our non-GAAP net income was $2.5 million or 14 cents per share for second quarter 2019.
We continue to maintain a strong capital structure with high liquidity and no debt.
In second quarter 2019, we generated $11.9 million in cash flow from operations with cash and short term investments totaling $145.4 million.
A more complete presentation and discussion of our second quarter 2019 results is available in our Form 10-Q for the quarter ended June 32019.
I greatly appreciate the hard work dedication and collaboration among my finance team over the past three years as your CFO .
I'm proud of your accomplishments.
Thank you for your attendance on todays second quarter teleconference. We will now open the call for questions up to the start of market trading.
And at this time, if you ask a question. Please press the star and one on your Touchtone phone your misery south from Q at any time by pressing the pound key again that is the star and one on your Touchtone phone. If you would like to ask a question.
[noise] and we'll go ahead and take our first question from Hendi from GE Research. Please go ahead. Your line is open.
First of all welcome on Board and Congratulation, Michael and all the best for your next step there Bob.
Thank you very much Andy we appreciate all your support during my three years here as a CFO . Thanks. Thank you.
Our first question is for Michael So Michael how should we think about the style of your leadership and what kind of major changes that you would like to implement at.
At Faro.
Well actually we're still we're still working on what we what we want to do going forward I think.
As I mentioned in the script we're.
We're conducting a number of conversations internally and externally and when it when we get done when I get done with that the objective than will be to sit down with my management team.
And work on a strategic plan a business model et cetera.
The.
Until best complete I'm reticent to really talk about any changes or any plans, we really haven't completed them yet.
Got it and then about three months ago management share.
Some anticipation that disruption in three D. Amanda manufacturing may continue through the third quarter of 2019 and in light of trade, Florida do mention macroeconomic uncertainties and we can assist in Asia should we anticipate the disruption to stay longer beyond.
Q3 2019.
Hendi that one of the things we saw in the course of the second quarter was slowing across Asia.
If you look at it from a China perspective, which we disclosed in our 10-Q, we saw a decline of 2% year over year versus 28% in the first quarter. We continue to see that trend going forward just based on GDP based on PMI and other indicators in the market as a feedback from our customers and discretionary capital goods spend we continue we would expect to continue to see headwinds in Threed manufacturing.
For the next two quarters at least.
And again, if the star and one on your Touchtone phone, if you would like to ask a question.
And even if you have press the star and why do we ask that you press the star one again.
Again to answer the question queue that if the star and one on your Touchtone phone.
[noise].
And we'll go ahead and take our next question from Jim from need him Company. Please go ahead. Your line is open.
Thank you good morning.
Bob a couple of questions for you I'm wondering if you can oh by the way. Thank you for all the disclosure in the earnings report very helpful. What were the product gross margins are looking like if we add back the the GE as say a sales adjustment.
So if you look at the we had 5.8 million and and these sales adjustment for the G. I say and that was the only metric that would have affected gross profit. So if you look at how that's broken down Jim on a non-GAAP basis first I'll start with our GAAP product margin from a GAAP basis was 57.3% non-GAAP was 60.2.
Terrific. Thank you I was also surprised to see that.
This years say issue.
Hit the emerging vertical.
As much as it did what were the what their products or.
Potential applications that were impacted there.
So one of the businesses that we've talked about over the past several years is really seen emerging business for us is our public safety forensics business and that really is selling to law enforcement and much of the sales that you would see to the law enforcement in the U.S. portion of that business.
Is through the G.S.A. So one of the segments that is more impacted than others is the emerging verticals because of the public safety forensics.
Again that is the star and one on your Touchtone phone to ask a question well take our next question from Greg from Craig Hallum Capital. Please go ahead. Your line is open.
Yeah. Thanks, Michael welcome aboard and Bob enjoyed working with you over the years, So best of luck going forward.
Okay. Thank you very much I appreciate all the support.
So I guess just following up on the G. I say it should we assume that that those sort of potential reductions are done or is there a potential for more here in the in the second half of the year.
So in terms of the G.S.A., we submitted our comprehensive of Freeport with assistance from our outside legal counsel and forensics experts and.
The 8-K, we released on July 15th at this point in time, we've accrued the total liability of 11.6 million.
As our best estimate based in alignment with that report now we will go through a process with the assistance of our advisors. The government will review that and really at this point is up to the government going through that process with our advisors. So at this time.
11.6 is our best.
Understanding of a liability.
The 8-K does describe though more details and it does describe other rest of the company that may occur.
Got it fair enough and then just following up on an earlier question on this one's for Michael I know I'm not looking for any specific details around sort of what the strategic plan might look like look like but just a general curious what are you. Most excited about when you look at the potential opportunities for Faro over the coming years.
Well I think it's actually increasing shareholder value I think 60% gross margins you know high 50% gross margins is enviable in any business and I think barrels demonstrated that so for me. The baseline is that we've got to a company with deep technology. We've got a really interesting and I think defendable market position. The real objective then is how do we actually get a higher return for our shareholders through through that without actually throwing the baby out with about water. So I'm very excited that the baseline that we got as a business is is is doing very well and now the objective is how do we how do we shore up the bottom line.
[noise].
That answer your question.
Go ahead.
Sure.
And we'll take our next question from Andrew from Berenberg. Please go ahead. Your line is open.
[noise] welcome Michael and good luck to you Bob.
Thank you and thanks for the Flash report last night I appreciate it thanks Sandra [laughter].
Thanks, So I guess, a [laughter] I know, we're trying to a get in your head Michael on the future strategy, but you know.
I guess, what I would say I think people want to know is a first like timing do you think you'll be able to share what else something in terms of where you see how what are you thinking in the next earnings call or by that timeframe.
And then maybe secondly, I know that Faro has a yeah relative to its peers has a decent software platforms that you know some people feel hasn't been monetize well enough.
How do you see software and maybe can you discuss also any new markets you might they find interesting given your background.
Okay, well, let me kind of jump around on your on your questions I think I'm very excited by software I think.
I think ferro has oh, a large portfolio of software that has developed or acquired over the last.
Decade, and I'm very excited about.
About that and anxious to understand how how we as a company can better monetize that I don't have the answer yet, but I am excited by the prospect as it relates to timing of the plan I'm reticent to.
Commit but I will obviously on each earnings call update you on where we're at but but Faro is is a is a courts company and it is in a very complex technology market. So what I think we need to be a I think we need to be very thoughtful versus quick and my board is a is very supportive and are very interested in kind of understanding what the next three years looks like so the scope of the plan will be three years out.
And my leadership team and I have already begun so I'm excited.
Great and I guess, yeah. When we look at the you know maybe Bobby cancers missed a second half I know you mentioned three d. factory the weakness around that.
What are you seeing in the construction Bim side I know that you know X. Just say you were probably mid single digits in the quarter.
Is there something had I mean, besides Asia in terms of your organic growth do you think that's still double digit growth story at this point or do you think the macro is weighing on that segment as well.
So if I look to the quarter or first of all let's set the table. We were 20 non-GAAP basis, we were up about 4.5% what Michael commented on is we did see a slowing versus Q4 in Q1 in Asia in that business, which.
Kind of mitigated the growth that we saw in the prior quarter as I would look forward, though Europe for US has been traditionally a strong region and it continued to be sold in Q2, So I wouldn't expect to see it going forward and the remaining half of the year.
The piece that certainly I can't forecast is the continuing trade wars that may have interrupted our business in Asia, but fundamentally we have a leading product in the market. We have leading software delivery. We've been actively growing the sales team to address those markets and adopt the technology. So I'm confident as we go forward if the capital environment is favorable for us in the second half of the year on the bin space will continue to see that my concern is more on the Threed manufacturing side as Michael indicated the industrial manufacturing customer stuff.
And we'll go ahead and take a follow up from Handys and GE Research. Please go ahead. Your line is open.
Good morning again.
Sparrow still maintaining its target of mid teen operating margin goal by Q4 2019.
So as we look at it hendi the kind of current business conditions in some of the things that Michael highlighted and I highlighted now in Q in a as we look forward in more of the midterm, we will see continued headwinds.
And that three D. manufacturing business based on just how we see our end customers embracing the discretionary capital spend at this point.
We would not see that as.
A high likelihood for a fourth quarter double digit operating margin at this time.
Got it and then bump excluding DS eight matters I would you be able to share product and service revenue.
Yes product and service revenue or in terms of the 5.85 million was related to product 800000 was related to service. So if you look at it first of all from a of a GAAP basis.
The GAAP service product number was 67.
Nine nine too.
The non-GAAP or adjusting out the 5 million it for the G. Assai was 73 O 39.
And then the service 25 for 99, GAAP non-GAAP 26 to 57.
So if you look at the earnings release, what I encourage all of you to do go to the reconciliation tables also will provide you a very good understanding is that GAAP to non-GAAP .
For you by total sales gross profit gross margin operating income net income Es and also sales by vertical.
And we'll take our next question from Ben You from Battle Road Research. Please go ahead. Your line is open.
Yes, good morning, Michael and Bob do want to say welcome aboard to Michael as well.
Yeah, Thanks to Bob over many years for insights into the business and wish you the best going forward.
No. Thank you very much and also prepared to continue Red Sox updates [laughter] Oh I hope there are favorable I don't know how favorable they're gonna be but we'll find out this weekend anyway.
Michael just.
Wanted to get your thoughts just in terms of looking at the three D manufacturing area.
Currently in something of a state of something of a state of Malays is there a scenario that you see over say the next 12 or 18 months, where you know things could begin to turn around or put differently are there any specific.
[noise] verticals within manufacturing that look more promising.
Kind of near term than some of the others.
You know, but I I really don't have enough insight I.
I think one scenario is that you know the aerospace and automotive business to recover which I think.
Typically strong position to.
And if that was to occur certainly we would benefit from that we are looking at a number of sub verticals within the three d. manufacturing space.
Right now we kind of treat these treaties a sub verticals as kind of a.
Disparate parts and I think we have an opportunity perhaps focus more on some of these sub verticals and were part of the strategic plan will focus on identifying in priority what those are and what specifically do about it but I think it's early days for me.
Obviously, there's been a significant.
Proliferation of new products over the last 12 or 18 months.
And.
I'm, just curious without sort of commenting specifically on the product areas. She is.
Signet is a is an important part of the product <unk> excuse me an important part of the strategic plan to take a look at these.
Excuse me take a closer look at these products and sort of see which ones make.
Sense, moving forward versus perhaps de emphasizing others.
Absolutely I think.
You know what a 50000 foot level I I look at Faro is really a an engineering driven hardware company and has been very very successful in that regard and I think part of the opportunity is to really kind of reposition.
The company around more of a solution space and I think some of those products may fit in that some of them may not but part of the process, we'll be looking at the entire pork product portfolio and road map all in conjunction of all in all in the context of which markets we want.
To drive and then make some decisions about.
Thanks, David before I got cut off Bob I want to I want to thank you for a for all the help youve provided to investors in the sell side in understanding the business and I want to wish you the best.
Michael question for you and and again you know you are in the top little over a month. So none of this none of these questions are fair, but but I'm just wondering if you can share.
Any observations that you have.
Regarding ferros business, maybe relative to your prior experience in the semi cap and the component capital equipment markets any kind of similarities or differences in the way you're looking at the business.
I think that Jim thing, it's a great question I think one of the things that has surprised me is I.
Faro is definitely in the capital equipment business, and so that's probably where the similarities and.
I think you know this this company very with 15000 customers or 14000 customers whatever the published numbers is a lot different than than other businesses that I've been involved in and the capital business. So in some cases and in some instances, it's more like a <unk>.
To consumer type of company and so we've got to really try to understand what the go to market strategy is and and eat keeping with the capital side of this business, which as you know these are not cheap devices. They they do require a capital cygnet tore within the customer base.
So the cycles are still I think that the purchase cycles are similar to what I'm used to but the way, we actually reach customers and the way we find opportunities is much different than I'm used to.
And that's part of what I I think the team and I need to really rationalize is what is the go to market strategy.
It it looks more like a consumer electronics company than a capital equipment company and we've got some some deep dig into do in that regard, but so I think that's the big difference from a product definition product design.
The complexity the service requirements the inventory requirements. The manufacturing requirements are very very similar then to what I'm used to it's really the go to market strategy that seems.
New for me and I and I've got some work to do.
How would you characterize the competitive environment versus your prior experience.
Yeah, I think it's.
We've got some really big companies that we're competing with and.
I like that I think the <unk> and it's similar to what I'm used to I think.
The objective is really to continue to out innovate, it's all about understanding what our customers.
Cost of ownership model is and continue to to out innovate and out position, which ferro I think has done an admirable job in its history. So I I don't want to I don't want to lose that and in fact, if anything I want to accelerate that I think.
But we need to do it I think in a very focused manner and we need to do it in the context of markets that we believe are going to give us a long term sustainable revenue growth and from that via business model, we need to be able to drive the bottom line in a more consistent and arguably more competitive way, but from a from a from a revenue perspective in a gross margin perspective. The company has done I think an admirable job.
Well it looks like we're out of questions I really appreciate everyone's interest in Faro anxious.
He's been the steady rock through the process and really appreciate that and I look forward to talking to you in Q3 and appreciate your interest. Thank you. Thank you.
This does conclude todays program. Thank you for your participation you may now disconnect.