Earnings Call
Frequency Electronics Inc (FEIM)
Earnings Call Transcript - FEIM Q1 2021
Operator, Operator
Greetings and welcome to the Frequency Electronics First Quarter Fiscal Year 2021 Earnings Release Conference Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. Any statements made by the company during this conference call regarding the future constitutes forward-looking statements pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements inherently involve uncertainties that could cause actual results to differ materially from the forward-looking statements. Factors that would cause or contribute to such differences are included in the company's press releases and are further detailed in the company's periodic report filings with the Securities and Exchange Commission. By making these forward-looking statements, the company undertakes no obligation to update these statements for revisions or changes after the date of this conference call. It is now my pleasure to introduce your host, Mr. Stanton Sloane, President and CEO.
Stanton Sloane, President and CEO
Thank you. Hello, everyone. Thank you for joining us today to discuss first quarter '21 results. Steve will cover financial details with you in a minute, but let me first give you my perspectives on the quarter. I'll start by stating that I'm pleased with the direction I am seeing in the business. Our team has been working hard both to pursue new business and work our way through some difficult technical challenges on previous programs. We're starting to see the results from these efforts. FEI has a long history of providing products that go into space. And as the U.S. increases its focus there, FEI is well positioned to service that market. Building electronics that have to operate reliably and effectively in that environment is very difficult. FEI has the benefit of over 50 years of experience with our systems operating in space, and that is a knowledge base that we leverage to ensure better, more reliable products. That's an invaluable FEI asset and one which fosters customer confidence in us, as is reflected by the increasing number of awards for precision time and frequency products for satellite applications. I believe we will see continuing growth in this arena as space becomes an increasingly more important domain to the U.S. Military, and that bodes very well for FEI. Not wanting to slide our terrestrial market, I'm also pleased with recent awards for precision oscillators that will go into various U.S. military airborne platforms, one of which we announced this afternoon. We, at FEI, are proud that our electronics can be found in some of the most important tactical and strategic military assets of the United States and its allies. As we complete a couple of the programs that have been nagging us, I expect that our overall financial performance will continue to improve. We, of course, continue to focus on internal operational improvements and cost reductions. One example is our continuing rollout of a new ERP system that is helping us streamline our manufacturing and program management processes. While this quarter showed a net operating loss on a non-GAAP pro forma basis, taking into account extraordinary legal and insurance expenses and the accounting associated with the problem programs I mentioned above, we would be profitable. I see that as a significant improvement. Now let me turn it over to Steve to take you through the financial details.
Steve Bernstein, CFO
Thank you, Stan, and good afternoon. For the three months ended July 31, 2020, consolidated revenue was $13 million, up 3% compared to $12.6 million for the same period of the prior fiscal year. The components of revenue are as follows: revenue from commercial and U.S. government satellite programs was $6.7 million compared to $3.9 million for the same period of the prior fiscal year and accounted for approximately 51% of consolidated revenues compared to 31% for the same period of the prior fiscal year. Revenues on satellite payload contracts are recognized primarily under the percentage of completion method and are recorded only in the FEI-New York segment. Revenues from non-space U.S. Government and DOD customers, which are recorded in both the FEI-New York and FEI-Zyfer segments, was $5.3 million compared to $6.7 million in the same period of the prior fiscal year and accounted for approximately 41% of consolidated revenue compared to 54% for the prior fiscal year. Other commercial and industrial revenues were $1 million compared to $1.9 million in the prior fiscal year. Intersegment revenues are eliminated in consolidation. For the three-month period ending July 31, 2020, the gross margin and gross margin rate both increased marginally over the same period in fiscal 2020. The increase is primarily due to product mix. There were higher engineering costs on several programs in both periods, but as these programs are completed, we expect margins to increase. For the three months ended July 31, 2020 and 2019, selling and administrative costs were approximately 25% and 20%, respectively, of consolidated revenue. The increase is due to additional insurance costs and professional fees relating to litigation for which we expect to receive a partial reimbursement through the company's insurance. R&D expense for the three months ending July 31, 2020 and 2019 decreased to $1.2 million from $2.3 million, a decrease of $1.1 million and were 9% and 18% of consolidated revenue. The decrease is due to previous R&D efforts that have ended and turned into production. However, the company plans to continue to invest in R&D. For the three months ended July 31, 2020, the company recorded an operating loss of $337,000 compared to $780,000 in the prior year. The operating loss reflects improved revenue, gross margin, and gross margin rate. Other income consists primarily of investment income derived from the company's holdings of marketable securities. The prior year investment income included a dividend received from Morion of $125,000. This yields a pretax loss of approximately $253,000 compared to a pretax loss of approximately $570,000 for the previous year. For the three months ending July 31, 2020, the company recorded a tax provision of $9,000 compared to $19,000 for the same period of fiscal 2020. Consolidated net loss for the three months ending July 31, 2020, was $262,000 or $0.03 per diluted share compared to $591,000 or $0.07 per diluted share in the previous year. Our fully funded backlog at the end of July 2020 was approximately $38 million, up approximately $2 million from the previous year-end April 30, 2020. The company's balance sheet continues to reflect the strong working capital position of approximately $39 million at July 31, 2020, and a current ratio of approximately 4.6:1. The company believes that its liquidity is adequate to meet its operating and investing needs for the next 12 months and the foreseeable future. I will turn the call back to Stan, and we look forward to your questions later.
Stanton Sloane, President and CEO
Thank you, Steve. We'll take questions now, and let me ask the operator to come back on and tell you how to do that. Operator? Hello, Hector, are you there? Did we lose the line? No.
Operator, Operator
Are you ready to take questions? I apologize about that.
Stanton Sloane, President and CEO
Yes. Yes. Go ahead, please.
Sam Rebotsky, Analyst
The annual report looks impressive, and the improvement this quarter is notable. You mentioned the outstanding bids earlier. Can you clarify what those bids are and what your current nonfunded backlog looks like?
Stanton Sloane, President and CEO
We don't report nonfunded. We only report what is funded, which is what the backlog number that Steve gave you is.
Sam Rebotsky, Analyst
And what is the bids that we have?
Stanton Sloane, President and CEO
The total number of bids outstanding? Let's see. It's probably in the 600, 625 range. I haven't checked it this week, but it's around there.
Sam Rebotsky, Analyst
Well, that's wonderful. Northrop Grumman won a $13 billion contract for a missile. I know you did 10% of your business with Northrop this past year, and I think this $13 billion could be $85 billion. Do you participate in missile contracts in addition to satellites?
Stanton Sloane, President and CEO
Yes. So my comments about the terrestrial market is the nonsatellite part. So the answer is yes. And we provide various electronics, mostly small quartz oscillators, which are used in high vibration, high G environments, but we do provide products into that market.
Brett Reiss, Analyst
The precision oscillator contract you announced today, is that from the same customer from the August 12, $5 million precision oscillator contract? Or is it a different customer?
Stanton Sloane, President and CEO
That's a different customer.
Brett Reiss, Analyst
Okay. Are we going to see other multiple precision oscillator contracts from different customers? Is that a possibility?
Stanton Sloane, President and CEO
Well, we hope so. We have a lot of things pending that are in the competitive process. But my answer is I would expect to see that, yes.
Brett Reiss, Analyst
Okay. And the factors that would lead your customer to go from unfunded to funded backlog, based on what's going on in the world, has the propensity for them to go to funded from unfunded, has it increased, stayed about the same? Can you talk to that at all?
Stanton Sloane, President and CEO
Let me clarify these terms because there often seems to be some confusion. When we receive a government contract, which is quite common, the government typically awards it without funding the full amount immediately. Instead, they provide funding in increments. This creates a limitation of liability for the government based on the funding amount. For example, you might have a valid contract worth $10, but only $2 is funded. We then record that $2 in our backlog. When Steve refers to the backlog, that's what he means. Additionally, there can be contracts that include options. For a $10 contract with a $5 option, the total value could reach $15 million, but if the options are not exercised, funding limitations apply. Therefore, you could have a $15 million contract consisting of a $10 base funded at $2 million with an additional $5 million in options. Many of our programs work this way, where contracts have certain values but limited funding. The backlog we report publicly reflects only fully funded contracts. Most of our contracts are either directly with the government or with government prime contractors, and any slowdowns are similar to what the government experiences. Regarding trends, we are currently noticing an increase in contract awards; we've recently announced around five significant contracts. The trend in contract awards is on the rise, and funding seems to be coming through consistently. At the moment, all contracts are adequately funded and we expect them to continue at least to their base values, with options likely being exercised in due time. Did that address your question?
Brett Reiss, Analyst
It does. To build on that, regarding your hypothetical $10 million base contract with $2 million funding, is the remaining $8 million entirely dependent on the customer’s control, or is there something you can actively do to speed up its funding?
Stanton Sloane, President and CEO
Ultimately, it is managed by the government, but typically there are no issues. For instance, if the government starts a contract for a satellite and is already one-third through its construction, they will fund the completion of the satellite. It would be quite rare for them not to do so. Occasionally, they may extend the funding process, allowing the budget for a particular fiscal year to be distributed over a longer period. That does happen. However, generally, once these programs are in progress, they usually receive funding.
Unidentified Analyst, Analyst
Great quarter. Your August and September contracts, none of that is in the backlog, correct?
Stanton Sloane, President and CEO
No. That's not correct.
Steve Bernstein, CFO
No.
Stanton Sloane, President and CEO
I'm sorry, what dates did you say again?
Unidentified Analyst, Analyst
August and September contracts are not included in the backlog, which only goes up until July 31.
Steve Bernstein, CFO
Right. That is correct.
Stanton Sloane, President and CEO
We're only talking first quarter here.
Steve Bernstein, CFO
Yes.
Unidentified Analyst, Analyst
Yes. So those two were $5 million in August and I think almost $3 million today.
Steve Bernstein, CFO
Right. That has nothing to do with the $37.9 million or $38 million that I reported, correct.
Unidentified Analyst, Analyst
Yes. It seems you noted that the increase in backlog began in part of the first quarter, suggesting that revenue will rise and that the backlog will continue to grow as indicated in the press release.
Stanton Sloane, President and CEO
The press release pertains to a contract that was awarded outside of the first quarter. The numbers we are presenting today are specifically for the first quarter. However, additional contract awards will contribute to the backlog, but that won't affect the first quarter figures.
Unidentified Analyst, Analyst
No. What I'm saying is you wrote in the press release that the contracts start off slowly.
Stanton Sloane, President and CEO
Yes. So yes.
Unidentified Analyst, Analyst
So I expect you believe the backlog will increase?
Stanton Sloane, President and CEO
Yes, you're missing up a couple of things, Mike. Let me explain to you.
Unidentified Analyst, Analyst
No. I think I call it myself because you could actually do the same revenue and backlog could go up or down.
Stanton Sloane, President and CEO
Yes. My point was that when you receive a large contract award, the revenue does not increase immediately. It takes some time to plan for the project before you see an increase in revenue. That was the point I was trying to convey.
Unidentified Analyst, Analyst
Exactly. If I'm not forgetting, I think you jumped up 30% in revenue from last quarter, roughly.
Stanton Sloane, President and CEO
Yes.
Steve Bernstein, CFO
Yes.
Unidentified Analyst, Analyst
That's a very large increase because I think you were generating around $10 million each quarter for the past year.
Stanton Sloane, President and CEO
Yes.
Unidentified Analyst, Analyst
Roughly. I think you did $41 million last year.
Steve Bernstein, CFO
Yes. That's about right.
Unidentified Analyst, Analyst
Are all the problem programs, are they over with?
Stanton Sloane, President and CEO
Not completely, but for one of them, we expect to deliver all the products in about 10 days. That issue will be resolved. For the other one, we are in the final testing phase. Deliveries will continue through October, but I anticipate that we will wrap things up within that timeframe.
Unidentified Analyst, Analyst
Are they going to cost us money or we're okay on that?
Stanton Sloane, President and CEO
Well, I am doing my best to avoid additional costs, but we have to get through the test.
Unidentified Analyst, Analyst
All right. And without those extra expenses, you would have made money this quarter?
Stanton Sloane, President and CEO
Yes. That was my point in the commentary in the press release.
Unidentified Analyst, Analyst
All right. What about salespeople? Did you hire more salespeople?
Stanton Sloane, President and CEO
Not in Q1, but we have added employees generally. Since May, we have probably brought on an additional 14 or 15 people, and we are currently hiring another 12 or 14. So employment is increasing.
Unidentified Analyst, Analyst
So from last quarter, you added about 28 people?
Stanton Sloane, President and CEO
No. 14 since probably around May time frame.
Unidentified Analyst, Analyst
And then another 14 you plan on?
Stanton Sloane, President and CEO
I have additional openings was what I meant to say.
Unidentified Analyst, Analyst
Is it hard to find people?
Stanton Sloane, President and CEO
We seem to be having pretty good luck staffing the key positions. I've actually encouraged that we have not had more problem. So I don't know if that's related to the COVID situation or the economy or whatever. But at the moment, we're able to find the people we need.
Operator, Operator
Your next question comes from Robert Smith with Center of Performance Investing. Please go ahead with your question.
Robert Smith, Analyst
What percentage of your funded backlog do you expect to ship in this current fiscal year?
Stanton Sloane, President and CEO
Give me one second. Give me a second. We actually have that number. Just hold on.
Steve Bernstein, CFO
Somewhere between 70% and 80% of it, we expect.
Robert Smith, Analyst
Okay. With an increasing backlog and these problem contracts out of the way, what kind of gross margin target do you have?
Stanton Sloane, President and CEO
I don't know. I think the business should run north of 35%.
Robert Smith, Analyst
And what run rate do you need to have profitability?
Stanton Sloane, President and CEO
That's a little tricky to answer. It depends on the product mix and other things. But I think at the 35% or north of 35%, the business should be profitable.
Robert Smith, Analyst
Okay. And what particularly was the litigation amount?
Stanton Sloane, President and CEO
Are you referring to Martin Block litigation?
Robert Smith, Analyst
Is that what it was? Okay. Got it. The one that you had expense for?
Stanton Sloane, President and CEO
Yes. Mostly associated with that litigation.
Operator, Operator
Ladies and gentlemen, we have reached the end of the question-and-answer session, and I would like to turn the call back to management for closing remarks.
Stanton Sloane, President and CEO
Great. Thank you, everybody. Appreciate you joining us today, and we look forward to talking to you next quarter. With that, we will sign off. Have a great day.
Operator, Operator
This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.