Virgin Galactic Holdings, Inc Q1 FY2021 Earnings Call

Good afternoon. My name is Rob, and I will be your conference operator today. At this time, I would like to welcome everyone to Virgin Galactic’s First Quarter 2021 Earnings Conference Call. Hosting today’s conference will be Seth Zaslow, Vice President of Investor Relations. As a reminder, today’s call is being recorded. I would now like to turn the conference over to Mr. Zaslow. Please go ahead.

Thank you, and good afternoon, everyone. Welcome to Virgin Galactic’s First Quarter 2021 Earnings Conference Call. On the call with me today are Michael Colglazier, Chief Executive Officer; Mike Moses, President of Space Missions and Safety; Swami Iyer, President of Aerospace Systems; and Doug Ahrens, Chief Financial Officer. Following our prepared remarks we will open the call for questions. Our press release was issued about 45 minutes ago and is available on our Investor Relations website, as is the slide presentation that will accompany today’s remarks. Let me refer you to Slide 2 of the presentation, which contains our Safe Harbor disclaimer. During today’s call, we may make certain forward-looking statements. These statements are based on current expectations and assumptions and, as a result, are subject to risks and uncertainties. Many factors could cause actual events to differ materially from the forward-looking statements made on this call. For more information about these risks and uncertainties, please refer to the Risk Factors section of Virgin Galactic’s second amendment to its Annual Report on Form 10-K filed with the Securities and Exchange Commission and other documents filed by Virgin Galactic from time to time. Readers are cautioned not to put undue reliance on forward-looking statements and the company specifically disclaims any obligation to update the forward-looking statements that may be discussed during this call. Please also note that we will refer to certain non-GAAP financial information on today’s call. You can find reconciliations of the non-GAAP financial measures to the most comparable GAAP measures in our earnings press release. With that, I’d now like to turn the call over to Michael.

Thanks, Seth, and good afternoon, everyone. I hope you are all doing well. As part of my plan to execute on our strategy to grow and scale the business, I brought in some exceptional talent in key areas. Doug Ahrens is our new CFO, and Swami Iyer is our new head of aerospace systems. Doug has extensive experience as a public company CFO, with companies in complex technology and manufacturing environments. Doug's leadership, relational skills, expertise in capital markets and M&A will be incredibly valuable as we expand and monetize the business. Swami joined Virgin Galactic in March to lead the team responsible for building and designing our current and future fleet of vehicles. Swami brings great depth and expertise in business expansion, while also having the deep process and production orientation necessary to lead our aerospace teams as we build out commercial operations. We're incredibly pleased to have them both onboard.

Thanks, Michael. Moving to slide 6. Before I discuss the steps we've taken over the past two months, it would be helpful to provide background on the testing program and modifications we have made to the spaceship over the past year. Our testing program is designed to be a process of continuous improvement. We have test objectives that we target with every flight, and each one of them is an opportunity to gather data, improve performance and move our spaceflight program forward.

Thanks, Mike. Our spaceship Unity is currently in pre-flight procedures following the successful resolution to the EMI challenge. Unity requires our mothership to carry it on the first stage of our spaceflight. With this late-breaking maintenance evaluation, we will report back to the market next week with an update on schedule implications for our next flight.

Thanks, Michael. Turning to slide 8. I am excited about the opportunity to join Virgin Galactic with the expansion of the fleet. I have been on board for about 45 days. During that time I've visited all the facilities and spent significant time walking the production floor and engaging with members of the team at every level. I've been impressed with the talent and technical expertise in the organization. One of the things that drew me to the company was that the requisite development and skill efforts the company is entering into are natural fits with my experience as a test pilot and leading aerospace manufacturing companies. For me personally, Virgin Galactic provides a unique opportunity to truly exercise all of my operational experience and tools to support the business and the team. Additionally, the safety flight test manufacturing and engineering cultures I've observed at this company aggregate the best practices from across the leading companies in the global aerospace ecosystem. This is due, in no small part, to the DNA of our aircraft-based spaceflight solution, which draws from a deep and broad base of 120 years of aircraft development. This, in my mind, provides significant safety, engineering and manufacturing advantages and allows us to scale up into a robust, repeatable and reliable spaceflight program. The elegance of our design, the experience of our team and the evolution of our technology provides the right conditions at the right time to scale human spaceflight.

Thanks, Swami. All right, turning to slide 9. As we progress towards commercialization, we plan to create a comprehensive multi-day consumer journey built upon our 90 minutes spaceflight experience. Our goal is to ensure that the memory of the spaceflight lasts a lifetime. We believe our experience and approach will be distinct in the marketplace. We're also developing our customer brand architecture and marketing strategy. We intend to leverage the unique strengths of the Virgin brand to create a bespoke experience. We'll have more to share on this area of our business as we move forward. I'd now like to turn the call over to Doug for a financial update.

Thanks, Michael. Good afternoon, everyone. I'm pleased to be here with all of you today for my first Virgin Galactic earnings call. It's now been two months since I joined the company. Having had some time to observe and listen, I'm even more excited about the opportunity and the team of talented individuals within the organization. I am also looking forward to working with all of you in the investment community. Turning to slide 10. Before I review the financial results for the quarter, I wanted to begin with a few comments on our broader financial strategy. As we look to prepare and subsequently scale our fleet for commercial service, we're also positioning the organization for the launch of our consumer brand and experience. We're using these operational objectives to inform our financial planning. We're pleased that our total number of future private astronauts remains steady at approximately 600 as of the end of Q1. As we've disclosed, we plan to reopen sales for the private astronaut market around the time of the flight with Richard Branson. By reopening sales, we intend to satisfy a portion of the consumer demand with our expanding fleet size. We currently expect to have a sales funnel open for a limited period of time and plan to add a finite number of incremental members to our private astronaut community. With this approach, we'll look to build an appropriate backlog relative to the pace of our overall fleet expansion. Our goal is to address some of the consumer demand for our service while maintaining an appealing price point for the experience and an appropriate time horizon for flight for our private astronauts. We have not yet released updated pricing for our private astronaut market. However, we have established current pricing for microgravity research and private astronaut training markets. As we've previously discussed, we have a flight planned in partnership with the Italian Air Force that will demonstrate our capabilities for these markets. We expect this flight to generate $2 million of revenue, or the equivalent of $500,000 per seat. On a per seat equivalent, we're now entering into agreements at $600,000 per seat. We think these are excellent results for our introduction to the market. We're quite excited about this market and the pricing dynamics we're seeing for this portion of our business. Let's review our results for the first quarter on slide 11. Since there were no flights in the quarter, we didn't generate any revenue. As we previously disclosed in response to recent guidance issued by the SEC, we revised our accounting treatment for warrants issued in connection with the company going public in 2019. In the first quarter of this year, the new treatment resulted in a $49 million non-cash expense related to the change in fair value of warrants, compared to a non-cash expense of $317 million in the prior year period. Net loss for the first quarter was $130 million, compared to a loss of $377 million in the first quarter of 2020. The decrease in net loss was attributable to the change in the fair value of warrants. Notably, less than 10% of the originally issued warrants currently remain outstanding. Adjusted EBITDA was negative $56 million, compared to negative $53 million in the prior year period. Total operating expenses were $81 million, compared to $61 million in the prior year period. The increase in GAAP expenses was attributable to an increase in non-cash stock-based compensation expenses adjusted to exclude stock-based compensation expenses were $59 million, compared to $56 million in the prior year period. Turning to capital allocation on slide 12. In the first quarter, free cash flow was a use of $50 million, compared to a use of $60 million in the first quarter of 2020. The decrease was primarily due to lower capital expenditures and favorable working capital dynamics. CapEx was $1 million in the quarter compared to $4 million in the prior year period. Looking ahead, we anticipate second quarter free cash flow of approximately negative $60 million. Importantly, our balance sheet remains strong. We remain well capitalized with cash and cash equivalents of $617 million as of the end of the first quarter. As we've discussed, our business plan calls for the expansion of our fleet, as well as the build-out of our consumer experience. We plan to use a combination of cash on hand, as well as future inflows of capital to fund our strategic objectives. Historically, we've looked to take advantage of favorable market conditions to raise capital for the business. Going forward, we'll continue to evaluate opportunities to access the capital markets to grow and scale our business. I'd like to now hand the call back to Michael.

Thanks, Doug. All right, turning to slide 13. Before moving to Q&A, I want to take a moment to thank our entire team who have been working diligently on our strategic objectives. Just to restate, our focus remains on the following three areas: readiness, fleet expansion, and the development of the customer experience. Operator, I think we are now ready to begin the Q&A portion of the call.

Thank you. Your first question comes from a line of Robert Spingarn from Credit Suisse. Your line is open.

Hi, good afternoon, Michael. I have a question about the market and the two players. Both Galactic and Blue Origin are now approaching commercial service and they may send up a passenger as soon as July if they stay on target. It sounds like you'll update us on your schedule next week. How important are your relative schedules, especially from a future order capture perspective?

Sure. As I have shared before, we're really excited to have multiple players essentially paving new territory for human spaceflight and being able to take private citizens into space. This is something that I think most of us in the world would not have guessed, even a few years ago, that this is going to happen in our lifetimes. Yet, here it is upon us. So I think it's really important that Blue has great success, and that we have great success because it will normalize the idea of human spaceflight in the market. The more people that are able to go up and gain this perspective back on the planet, the more their voices will return to inspire others and add more pressure into the overall market. So we're very excited for them. To address your question for timing, I think we have a company that's been built over years and decades, as Blue has. So while there will be great media attention around both moments when we go up into space, I don't think it matters to our business overall.

Okay, and then just a quick question for Doug. On the cash burn that you talked about, how does it progress beyond Q2? So how do we see 60 million evolving beyond Q2 from a quarterly burn perspective? And is there a minimum cash balance at which point you'd want to return to the capital markets?

Thanks for the question. We haven't given specific guidance on long-term cash burn. However, there are multiple dynamics to consider. The first is cash inflows; as we reopen ticket sales, we will see those cash inflows coming in. Plus, as we approach commercial service, we will collect the remainder of that revenue for those flights. On the other side, as we expand our manufacturing capacity, we'll see an increase in CapEx as we scale the business and build out our fleet. With those two factors working together, we haven't set a minimum cash amount, but we certainly want to have all the flexibility to grow and scale the business as needed.

Okay, thanks, Doug. Thanks, Michael.

Thanks, Rob.

Your next question comes from the line of Myles Walton from UBS. Your line is open.

I was wondering if I could ask Mike Moses to elaborate a bit more on the maintenance issue discovered on Eve last week. Is that an issue that was pre-existing on the checklist to do during the downtime in the fall, and was it one of the larger items to do or one of the smaller items? For Michael, in light of this being a single point in the critical path to flight, how does it make you think about potentially pulling forward CapEx on the second one?

Thanks, Myles. The item we found on Eve—let me provide some context on how those protocols and that maintenance program is established, which is actually very common in aerospace systems. We have a series of inspections and preventative maintenance tasks designed to track and maintain the vehicles, looking at their health over both short and long terms. As previously mentioned, we had a flight plan for this fall with Eve and our other vehicles. Those inspections allow us to determine whether the modifications scheduled for that are on track and valid or if we need to address anything unexpectedly. After the last flight we did last week for pilot training, we flagged an issue that was on our calendar to address later in the fall. That now requires some further assessment to check whether we need to accelerate addressing that item sooner.

Right. Myles, regarding the potential pull forward CapEx on a second ship, I would say we are very excited to grow the fleet. As we've mentioned, we have started programs for spaceship three, and we had our first unveiling of our first unit of spaceship three, VSS Imagine, back in March. We've also initiated the program for what we're calling Delta Class spaceships, which would be more of a production model going forward. At the same time, we have begun the program for developing a new mothership because as we scale up the volumes we need, we'll definitely need more motherships. So this maintenance topic that we're currently evaluating will impact the timing of our second mothership program, which is in the early design stage, a phase with relatively low financial expenditures. I don't think it changes our plan going forward, but it re-emphasizes that we have programs initiated for both new motherships and spaceships.

Okay, and Mike, just to clarify, you don’t know if you’ll have to do that issue; you’re still evaluating whether that will need to be addressed, is that correct?

Yes, that's correct, Myles. We found a deal after the inspections we were doing following our last flight. We still need to analyze it and expect to provide an update next week.

Thanks so much.

Thanks, Myles.

Your next question comes from the line of Adam Jonas from Morgan Stanley. Your line is open.

Hey, everybody, just one simple clarification on the deposits. Can you remind us how large the deposit is as a percentage of the seats on the spaceflight? I didn't know if there was prior disclosure on that, or one we could think about within a range for when you reopen the funnel.

I don't believe we provided prior disclosure on the size of the deposits. We know our last price point was about $250,000 per seat, and we have shared that we expect that price to rise when we reopen sales. That has been previously disclosed. However, we haven't talked about the scale of the deposits yet.

Okay, that's fine, Michael. Just a second question for me: You mentioned that after the third flight with the two pilots and Richard Branson, you'd then move towards commercial service. Can you help us understand the timeline from that third flight to the first commercial flight, and what that gap could be?

Sure. Let's go back to our last quarterly update, which indicated our next flight would be in May, followed by two more flights, including one with an internal crew and one with Sir Richard Branson. We planned to have those during the summer, with a fourth test flight planned, which we expect to be revenue-generating with the Italian Air Force, likely in late summer or early fall. After that, we would estimate around four months of modifications and upgrades on each of our active ships before moving into commercial service. This process will prioritize reliability and predictability as we shift those ships into operations. So, while you'll see some changes in operational expenses at that point, they won't be dramatic.

Appreciate the color, Michael. Thanks.

Thanks, Adam.

Your next question comes from the line of Ron Epstein from Bank of America. Your line is open.

Yes, sorry about that. I was on mute.

Hi Ron.

Back in February, you gave us an indicator that there were a little under 1000 potential candidates. Do you have any incremental measures on demand? Any insights regarding incremental demand would be helpful since it's been steady at 600 astronauts for a while.

Certainly. While the 600 figure has been steady, we believe there's great excitement surrounding it. We haven't shared more specifics about future demand, but as Doug mentioned today, we are eager to build a book of demand that runs ahead of our spaceship fleet capacity. There is significant demand pressure against that overhang, and as we begin commercial service and expand our fleet, we expect excitement around the human spaceflight concept to draw in more future customers, particularly with what Blue Origin is doing. We're optimistic about demand for both microgravity research and training for professional astronauts.

Got it. Moving on to pricing: Do you have a sense of your pricing compared to competitors? If I'm considering a trip with you versus Blue, how do the prices compare?

To my knowledge, Blue Origin has not released any pricing details. They are conducting an auction for a seat on their first flight, and while that may fetch a high price, I’m not sure where they will finally settle. Our goal is to ensure that when we launch our commercial business, the value we deliver will be outstanding, and the main topic won't be pricing, but rather how to get a seat.

Also, with the EMI issue that has popped up and the maintenance inspections, how are you thinking about fleet reliability as you ramp up?

Great question. It's essential to distinguish between a flight test program and commercial operations. In a flight test program, we gather data from flights to refine predictions and ensure readiness for subsequent tests. We assess the condition after every flight. What we're addressing now with Eve and Unity falls under our maintenance schedule. Transitioning to commercial operations requires more reliability and predictability. That's why we aim to incorporate those upgrades and modifications during the downtime of our aircraft. Our spaceship three class, including VSS Imagine, is purpose-built to improve predictability and optimize return times.

Thank you.

Your next question comes from the line of Doug Harned from Bernstein. Your line is open.

Thank you, good evening. When you look at these four flights—the three upcoming and then the test flight with the Italian Air Force—what are you looking for to ensure you're ready to move forward? I recall that flights prior had some issues.

Sure. Let's talk about the next flight. As Mike noted, we're implementing new controllers that offer greater precision in handling flight control surfaces. We've had great results in previous glide flights, but we need to test those under powered flight conditions. This next flight serves as a critical technical test that we are looking forward to. All our powered flights undergo a full performance evaluation, encompassing overall performance across the ship.

Got it. Given that Eve is 13 years old, along with the spaceship three launching now, what are your expectations regarding the longevity of these assets?

Eve's first flight was in 2008; its usage is relatively low compared to commercial airliners. We'll conduct modifications and upgrades to ensure predictable cadence as we move into commercial service. So far, it hasn't experienced heavy use, and we expect it to perform reliably moving forward.

That's correct. It took its first flight back in 2008, and while it completed 293 flights, those aren’t extensive hours in an airliner profile. It’s important to monitor fatigue and wear, which we constantly assess through rigorous scheduled inspections. While the lifetime prediction model is engineering-based, we're ensuring robust maintenance checks during flight test programs and for the spaceships as well.

Awesome, thank you.

Thanks, Doug.

Your next question comes from Noah Poponak from Goldman Sachs. Your line is open.

Hello, good evening, everybody.

Hey, how are you?

I'm doing well, how are you?

Good.

Can you specify what the maintenance issue is? What specifically needs to be addressed?

Specifically, we're addressing fatigue or stress items. We want to track how the vehicle ages over time and how we can address it. It's common for all aircraft systems. We regularly evaluate and plan preventative maintenance schedules to keep everything on track. We're currently reviewing the maintenance schedule based on recent observations to see if adjustments are necessary.

So in simple terms, you want to ensure that it’s not fatigued or stressed enough that repairs should be made before the next flight, correct?

Exactly. Fatigue and wear and tear occur naturally, so we're using predictive models to determine when repairs are due. This extra time we're taking now is vital for safe dispatch and flight.

What's the reasonable timeframe for addressing similar fatigue or stress issues?

For that analysis, it typically takes about a week to gather data and analyze it. We're using visual assessments and non-destructive inspection techniques, similar to medical imaging, on critical areas. That process ensures we make informed decisions based on sound data.

What about performing the actual maintenance?

It's still early to decide on specifics here. We have plans for what we want to do in the fall, but we're currently assessing if that needs to happen earlier.

Your next question comes from the line of Oliver Chen from Cowen. Your line is open.

Thank you. Good afternoon. Regarding FAA approvals, how do those intersect with the flight test program? Also, regarding your brand architecture, what are your thoughts on what might be important from an architecture point of view, and how you'll differentiate yourself from a consumer perspective?

I'll address the FAA question first. We have two remaining conditions on our commercial license with the FAA. We will be looking to complete this next flight, which must reach space to collect all necessary data. We’ll turn that data to the FAA, and we're confident in the outcome. As for brand architecture, we plan to convey a unique customer experience that is transformational. The fleeting moments spent in weightlessness are incredibly valuable to us, and we aim to create memories that will last a lifetime.

Thank you for that clarity. As you reevaluate the launch timing, what are some of the factors you can control versus those that are out of your control?

The factors we control are based on the data and observations we gather. Our quality assurance team is top-notch, and they evaluate the ship up against our expectations. If everything matches up, we move forward. Should we find discrepancies; we will take appropriate actions to ensure safety. Safety is always the top priority, and our maintenance schedules help us remain diligent.

Michael, you articulated our process well. The key is that we are driven by factual data that guides our decisions. We maintain high standards but also remain flexible, depending on the information we receive during inspections.

Thank you. We are now at the end of our Q&A session. I will now turn the call back over to Mr. Michael Colglazier for closing comments.

Thank you all for joining today's call. I appreciate the questions and the support from those who participated. We're excited to provide updates on our flight status next week. Thank you very much, and I look forward to connecting soon.

This concludes today's conference call. Thank you for participating. You may now disconnect.