Earnings Call Transcript - CPSH Q4 2020

Operator, Operator

Ladies and gentlemen, thank you for standing by, and welcome to CPS Technologies Corp. Year-End Investor Conference Call. At this time, all participant lines are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Chuck Griffith. Thank you. Please go ahead.

Chuck Griffith, Chairman

Thank you, operator, and good afternoon, everyone. I'm joined today by Grant Bennett, our President and CEO; and Michael McCormack, our Chief Operating Officer. Before we begin the business portion of the call, I would like to point out to all of you that statements in this conference call that are not strictly historical are forward-looking statements within the Private Securities Litigation Reform Act of 1995 and should be considered as subject to the many uncertainties that exist in CPS' operations and environment. These uncertainties include the impact of COVID-19, economic conditions, market demands and competitive factors. Such factors could cause actual results to differ materially from those in any forward-looking statements.

Grant Bennett, President and CEO

Thank you, Chuck. First, Chuck and I are delighted to be joined today by Michael McCormack, our new Chief Operating Officer. Michael began on January 4, after relocating from Florida. As mentioned in our press release when he joined us, Michael brings deep skills in business development, new product expansion and M&A, and has significant experience in the defense, aerospace, and armor markets. He also brings energy, focus, and drive. Eight weeks into working together I can authoritatively say that he's delightful to work with. We'll hear from Michael later in the call, but say hello, Michael.

Michael McCormack, Chief Operating Officer

Hello, everyone. Thank you, Chuck, and thank you, Grant.

Grant Bennett, President and CEO

Great. Today we announced revenues of $20.9 million and an operating profit of $914,000 for the year ended December 26, 2020. This compares with revenues of $21.5 million and an operating loss of $597,000 for the previous year. For the quarter, the fourth quarter of 2020, revenues were $4.2 million, with an operating loss of $291,000. This compares with the same period a year ago, where revenues were $5.4 million and an operating profit of $367,000. As I indicated in the press release, 2020 was unique in so many ways, as all of us understand professionally and personally. As the year progressed, customer demand for our existing larger volume products, primarily baseplates going into traction or transportation applications, declined. In fact, they declined sequentially each quarter during the year because of COVID-19, as countries locked down due to COVID. About 50% of our revenues come from Europe, and as countries locked down due to COVID, train ridership declined, delivery schedules for new trains were pushed into the future, and demand for power modules declined accordingly. In addition, some of our customers, as COVID evolved, expected problems in the supply chain, including international transportation, and they increased their safety stock of inventory in the first half of 2020. When demand declined, they found themselves with excess inventory. We've been producing at a rate lower than our customers have been consuming product during the second half of 2020, as those customers have been drawing down their excess inventory. That's the negative news. On the other hand, the positive news is that demand increased for other products, particularly aerospace applications, and customers largely held to development schedules for new products. As a result, new products continued to move through our pipeline. With travel all but eliminated, we redeployed resources to accelerate internal continuous improvement projects to increase margins. We implemented planned price increases. The net result of these factors, both the negative and positive, was for the year a 2.8% decline in revenues balanced by a positive swing of $1.5 million in operating profits or, on a percentage basis, a 253% increase.

Chuck Griffith, Chairman

Thank you, Grant. Revenues for the quarter totaled $4.2 million representing a 22% decrease compared to the $5.4 million in Q4 last year. As Grant mentioned, this was primarily due to the reduced shipments of our AlSiC products. For the year, revenue was $20.9 million compared to $21.5 million for 2019, a 3% decrease. Gross margin for the quarter amounted to 12% of sales compared to 18% of sales in the fourth quarter last year. We finished the year with an annual gross margin of 20% compared to a margin of 12% in 2019. The largest factor affecting this percentage was new contracts with our three largest customers, which we've discussed in the past.

Grant Bennett, President and CEO

Thank you, Chuck. As this is our first quarterly call of the new year, I thought it might be helpful to provide a higher-level look at who we are and why management is very excited about the future of CPS. Let me comment on three topics essential to understanding our business: our core competency, our product pipeline, and our primary markets.

Operator, Operator

For our first question, we have Walter Snickers. Walter, your line is open.

Unidentified Analyst, Analyst

Thank you. Hi Grant, how have you been?

Chuck Griffith, Chairman

Hi, thank you. I have two questions. First, it was great to hear about all of the design wins. I haven't been there for several years, but how much capacity does that facility actually have in broad terms, in dollars, compared to the $20 million you've been doing for a number of years if everything came in?

Grant Bennett, President and CEO

Very good question. Michael, you've been studying that very question a little bit. So why don't you comment on that?

Michael McCormack, Chief Operating Officer

Hi, Walter, nice to meet you. I believe that without significant investment in additional capital equipment, we could likely manage a volume that is two to three times our current output, utilizing a combination of shift work and maximizing our available space. From a capacity perspective based on our capital investments, we could easily support revenue levels that are double what we currently experience.

Grant Bennett, President and CEO

Let me just amplify on that slightly, which is we are operating three shifts a day. But the second shift is much smaller than the first, and the third shift is really a skeletal shift only operating those specific operations where it's not economical to turn the equipment on and off. You want it running 24 hours a day. And so, we could essentially double the employment base in the factory. And again, in real broad terms, at least double the revenue. And product mix is important. The aerospace and defense products that we've been booking tend to be higher revenue and lower volume, so that product mix is also important, but in broad strokes two to three times.

Unidentified Analyst, Analyst

Good. For my second question, the stock market has been very favorable to your shareholders, yourself, and anyone who has stayed with the company for a long time. That said, looking at your December 31st balance sheet, you have $200,000 in cash, $200,000 in liabilities, and $6 million in equity. You mentioned that if everything goes well, you might need additional capital equipment. Why not sell, hypothetically, 2 to 3 million shares and inject $40 million or $50 million into the balance sheet? This way, you could eliminate concerns about financing, whether for acquisition opportunities or plant expansions, and increase equity from $6 million to between $40 million and $50 million. It appears that not taking advantage of this opportunity for your shareholders is financially irresponsible.

Chuck Griffith, Chairman

So obviously, we're exploring opportunities, we really don't want to comment too much other than that at this point in time, but we're certainly aware of that situation you have described exists for us.

Grant Bennett, President and CEO

Let me just say, to do what you described involves some SEC filings, and it involves engagements with the appropriate banking individuals, so it isn't done overnight. But the Board and Management is absolutely aware of the additional opportunities that become available for the reasons you describe. So let me leave that there. You're correct in stating that it hasn't been done as of February 24. But I would not draw a conclusion that it is not going to be done.

Unidentified Analyst, Analyst

Okay, we want to emphasize this point because it's quite clear. As you know, I work with many micro-cap companies, and collectively, they have been very active, causing significant increases in their stock values, which has greatly altered their financial balance sheets. I have one last question. Out of the $20 million defined broadly in aerospace, what percentage of revenues does that represent, and which attractions are the largest contributors?

Grant Bennett, President and CEO

Today aerospace, I'm thinking out loud here. Frankly, the percentage has changed for the dynamics we just described, but aerospace has moved from 20% to probably 35% in the last quarter or two.

Unidentified Analyst, Analyst

And lastly, just a comment. I suspect Ralph is on the call. I just want to wish him well in retirement. Thanks a lot.

Operator, Operator

For our next question, we have Thomas Borns, your line is open.

Unidentified Analyst, Analyst

Thank you. I have a very simple and basic question, as it relates to your company's public view. When you were awarded that HyperTech armor contract and you went public with the news, there was a substantial surge as it relates to your shares. My question is, as other design wins come to fruition, would you be having the same approach as it relates to letting the public know about these design wins and contracts?

Grant Bennett, President and CEO

Sure, what I mean is that we aim to replicate the success we've had with Kinetic Protection and the HybridTech panels for other design wins. We announced in a press release back in 2017 that the customer had invested in installing the product for thorough evaluation, which led to their order. So, the answer is yes. We expect that in the coming months, you will observe one or more of the situations you mentioned.

Unidentified Analyst, Analyst

Well said, it sounds like you're holding some cards close to the chest. I appreciate that. And thank you for the time.

Operator, Operator

For our next question, we have Tim O'Connor, your line is open.

Unidentified Analyst, Analyst

Hi, good afternoon, gentlemen. My question actually was also around consideration of an equity raise considering what's happened to your stock this year. So it was pretty much addressed earlier in this Q&A. Thanks.

Grant Bennett, President and CEO

Okay. Thank you. And as you raised the topic again, let me just indicate that we see it as a tremendous opportunity, and without describing the exact timing or amount, we're moving forward on that front.

Operator, Operator

For the next question, we have Warren Silver. Your line is open.

Unidentified Analyst, Analyst

Good afternoon, everyone. Grant, I want to express my gratitude for keeping our company operational during the past 36 years. Hopefully, we can now break out of this phase. I have a question about the aerospace sector. I noticed that Cessna Aircraft introduced an electric engine last year. Additionally, United Aircraft is supporting Archer VTOL for vertical takeoff. Just the other day, I learned about a company called Joby, which has a SPAC and is backed by Reid Hoffman. You mentioned the industry's shift from silicon to silicon-carbide. Speaking from experience, when I'm on a flight or in a vertical takeoff vehicle, I prefer a baseplate made of aluminum-silicate carbide, specifically IGB10, because a copper baseplate could lead to operational issues. As others have pointed out, we have always had to rely on our own cash flow. I believe we should raise some capital to invest in the vertical takeoff industry. A prediction from the Veer Aerospace Industries Association states that the U.S. Air Mobility market will start deploying in 2025, with projected revenues reaching $115 billion in the following ten years. Do you have any thoughts on that?

Grant Bennett, President and CEO

You are exactly on the market and the market is not tomorrow, but that application is squarely in our crosshairs. The advantages we bring—every single one of them—have real value in that application: the reliability, the weight, the higher power, the higher efficiency switching made possible by silicon-carbide die, and longer battery life. We are working today. We have orders for a product that a major player that you would recognize, in that space, is doing development on the power module for aviation applications. So in short, we want to be in every single electric plane of any type. We are on a worldwide basis, we're seeking out, calling on, and in several cases, working with the Tier 1 suppliers that will be serving those applications. You've commented on this—this is actually my 36th year here and time has gone by quickly. The fascinating applications that we work on is one of the reasons that I love this company. But in many ways, we're a little too far ahead of the market. As we look at this electrification, you talked about electric planes, but look at the electric car, look at the displacement of hydraulic systems by electric systems, and industrial applications. We believe our time has come and we're very excited about it.

Unidentified Analyst, Analyst

Thank you. And I'm also very excited because of retiring after 58 years at Wells Fargo. And in February, the first week I thought it was Christmas time because I was able to sell some of the shares that I've held for many years, and paid for my granddaughter's education, hopefully, at Berkeley, up in Boston. So again, you never know when you're going to be surprised, but I just want to congratulate everyone for their dedication, and hopefully the next three to five years will be very beneficial to all the shareholders who stood with us all these years. Thank you.

Grant Bennett, President and CEO

Fantastic. Thank you, and congratulations on your retirement. By the way, Berkeley's a wonderful school. I know the President there, Roger Brown, well.

Operator, Operator

For the next question, we have Greg Weaver, your line is open.

Unidentified Analyst, Analyst

Hi, good afternoon, gentlemen. On the armor order, you got the Kinetic for $28.7 million. What does that translate to for CPSH?

Michael McCormack, Chief Operating Officer

Hi, Greg. How are you? So each order to Kinetic Protection on an order of magnitude, about half of that order comes to CPS.

Unidentified Analyst, Analyst

Okay, thanks. That's helpful. And now it's an IDIQ, right? So you indicated that you're expecting revenue beginning in Q2. Now, what should we think about there? There was some kind of draw against the IDIQ, but obviously, it's not the full amount that’s been ordered, right?

Michael McCormack, Chief Operating Officer

The contract that Kinetic Protection has is a five-year IDIQ for up to 10 chipsets. The initial order was for the first chipset.

Unidentified Analyst, Analyst

Okay, that's helpful. Thank you. And the second question was on the Q4 gross margins, do those reflect all the price increases that we talked about before in terms of your customers for the modules?

Michael McCormack, Chief Operating Officer

Yes, they do.

Unidentified Analyst, Analyst

So, what should we think about going forward here? This is all a function of top line. That's 12%, I believe I calculated for the quarter. I mean, we were on our way to 20% before.

Grant Bennett, President and CEO

Yes, you're correct. I think it is the top line that we need to focus on and are. So yes, our fixed costs, we're confident in the return of higher demand in the baseplate business, as COVID subsides and for that reason, we have kept fixed costs where they were a year ago, more or less. And part of what's going on is, yes, it's a top line fixed cost dynamic.

Unidentified Analyst, Analyst

Okay. And just lastly, tying into that with the first question. Should we think that armor is one of your better margin opportunities?

Chuck Griffith, Chairman

Yes, I think that's fair to say. I think we expect that to be the case, yes.

Unidentified Analyst, Analyst

Okay. Great. Thank you very much. Good luck.

Operator, Operator

Presenters, we don't have any further questions at this time. Please continue.

Grant Bennett, President and CEO

Okay, we thank each of you for joining the call. As you probably all know, we're located just south of Boston, I realize no one's traveling currently, but we invite any of you to visit us and see what we do if you would like. We look forward to our next quarterly call. And we certainly will have some press releases between now and then. We always appreciate hearing from you; many of you send material that's helpful to us, and we thank you for that. We thank you for your interest in the company and hope you remain safe. Get your vaccination when it becomes available. And we look forward to speaking with you in a quarter. Thanks very much.

Operator, Operator

Ladies and gentlemen, this concludes today's conference call. Thank you all for participating. You may now disconnect.