Daktronics Inc (NASDAQ: DAKT) Q4 2020 Earnings Call Transcript

Daktronics Inc (DAKT) Q4 2020 earnings call dated Jun. 10, 2020

Corporate Participants:

Sheila M. Anderson — Chief Financial Officer and Treasurer

Reece A. Kurtenbach — President and Chief Executive Officer

Analyst:

Greg Pendy — Sidoti — Analyst

Presentation:

Operator

Good day, ladies and gentlemen, and welcome to the Daktronics Fiscal Year 2020 Fourth Quarter Earnings Results Conference Call. As a reminder, this conference is being recorded today, Wednesday, June 10, 2020, and is available on the Company’s website at www.daktronics.com. [Operator Instructions]

I would now like to turn the conference over to Ms. Sheila Anderson, Chief Financial Officer for Daktronics, for some introductory remarks. Please go ahead, Sheila.

Sheila M. Anderson — Chief Financial Officer and Treasurer

Thank you, operator. Good morning, everyone. Thank you for participating in our fiscal year and fourth quarter earnings conference call.

I would like to review our disclosure cautioning investors and participants that in addition to statements of historical facts, we will be discussing forward-looking statements reflecting our expectations and plans about our future financial performance and future business opportunities. All forward-looking statements involve risks and uncertainties which may be out of our control and may cause actual results to differ materially. Such risks include changes in economic conditions, changes in the competitive and market landscape, including impacts of global trade discussions and policies, the impacts of governmental laws, regulations and orders, including those resulting from pandemics, disruptions to our business caused by geopolitical events, military actions, work stoppages, natural disasters or international health emergencies such as the COVID-19 pandemic, management of growth, timing and magnitude of future contracts, fluctuations of margins, the introductions of new products and technologies, and other important factors as noted and detailed in our 10-K and 10-Q SEC filings.

With that, let me highlight some of the financials, starting with the fourth quarter results and the related comparison to fiscal 2019’s fourth quarter. Orders decreased by 9.4%, mostly related to the Commercial and International business units as advertising spend contracted due to the COVID-19 outbreak, impacting spending by our out-of-home companies and customers. Sales decreased by 1.3% resulting from fluctuations in the timing of order bookings and related conversions to sales. About halfway through the fourth quarter, we saw some customer delays in their shipments, and we’re not able to go to some project sites because of the COVID-19 stay-at-home orders around the world.

Gross profit as a percentage of net sales was 22.7% as compared to 19.1% last year’s fourth quarter. Gross profit was positively impacted by lower warranty expense. Warranty expense as a percent of sales was 1.6% as compared to 2.2% in fiscal Q4 of ’19. We had some one-time charges that didn’t recur in fiscal ’20 as well. During the quarter, cost of goods sold expenses were impacted by our choice to furlough employees because of lower demand. For example, our service support areas were impacted by reduced demand in serving our customers due to stay-at-home restrictions around the world. In our manufacturing division, our Minnesota and Ireland facilities closed for two weeks during the peak quarantine time. Other factories worked — reduced work weeks to balance capacity with customer demand and schedule changes.

Operating expenses for the fourth quarter of fiscal 2020 were $32.1 million compared to $34.7 million. Decreases in the operating expenses were primarily due to lower levels of travel resulting from the COVID-19 responses, canceled sales conventions and decreased on-site sales demonstrations and payroll-related expenses were also lower from reduced work weeks in some areas. For income taxes, the fiscal ’20 fourth quarter positive effective rate is primarily due to permanent tax credits for research and development over a small amount of book loss. Fiscal 2019 fourth quarter effective rate was significantly different year-over-year, primarily due to a one-time event last year. As a reminder, fiscal 2020 was a 53-week year and fiscal 2019 was a 52-week year. The extra week of fiscal 2020 fell within our first quarter last year. Sales, order, and all areas of operating expenses were impacted with that additional weekend comparison.

For the full fiscal year, orders were up 2% as compared to last year and was our second highest order volume in our history, which was primarily related to our new releases of product offerings and the strong demand through most of the fiscal year. The change in orders reflects the broad range of offerings and highlights our ability to serve the diverse range of needs in our end markets. It also highlights our ability to win orders in varying types and sizes. Live Events orders led the increase, primarily due to the timing of the demand for upgraded or new solutions or arenas and for professional sports stadiums. In professional sports, we were awarded orders for either upgrades or replacements, like the Texas Rangers and the Cincinnati Reds as examples. Transportation orders grew as demand for intelligent transportation systems increased as state transportation departments and private-public partnerships continued to invest in technology to better inform travelers, manage transport systems and collect revenues. They were awarded a — we were awarded a $16.5 million order from a repeat customer in this intelligent transportations systems area. This order will be delivered over the next few years. The High School Park and Recreation orders increase was related to variability in order timing. We continued to see an overall strong market demand and an increase in projects for larger video systems. Often these customers can generate revenue from advertising or provide additional curriculum for students by designing classes for broadcast or content creation using our displays and control systems.

Commercial orders decreased primarily due to a decrease in large orders in our spectacular niche and a slow market in the out-of-home niche at the end of the year due to the COVID-19-related impacts on our customers’ cash inflows. International business unit orders were down primarily due to the timing of order delays and delays of orders, again, due to COVID-19 pandemic for both sports and out-of-home type customers, for similar reasons in the domestic business units. We work across a number of different customer types and geographies outside the US and Canada, including transportation, governmental, sports and commercial and international business unit. On a year-to-date basis, sales are up in all business units, except International for the same reasons as noted in the order changes.

On a year-to-date basis, gross profit as a percentage of sales was 22.8%, similar to last year’s 22.9%. Total warranty as a percent of sales decreased to 1.9% for fiscal 2020 as compared to 2.3% in fiscal 2019. On a year-to-date basis, operating expenses has increased by 2.8% primarily due to increases in selling and product development expenses. Selling expenses have increased due to personnel-related costs and increased marketing efforts. Product design and development expenses increased primarily due to increased personnel costs and professional services invested in growing our portfolio of solutions for our customers. On a year-to-date basis, operating loss for fiscal year 2020 was just below breakeven. Therefore, annual operating loss as a percentage of sales was at 0% as compared to operating loss as a percentage of sales of 0.8% in fiscal 2019.

The effective income tax rate for fiscal 2020 was impacted from the permanent tax credits reduced by a valuation allowance in proportion to that small pre-tax book loss at almost zero, which resulted in an abnormal-looking rate. The effective rate for fiscal 2019 was 80.6%. During fiscal 2019, we had a discrete one-time impact of $3.3 million impacting that rate. Our effective tax rate can fluctuate depending on the changes in tax legislation and the actual geographic mix of taxable income and credit.

Our cash and marketable securities position was at $41.6 million at the end of the fiscal year. We generated $10.8 million in cash from operations. We borrowed $15 million on our notes to solidify our liquidity during the uncertainty caused by COVID. We used $29.8 million for investments in capital and new production system capabilities, information systems and equity investments, in addition to a $10 million investment in microLED technology — or including that $10 million investment. We also invested $37.8 million in product development last year.

As we look into fiscal 2021, the COVID 2019 impacts the economy and changes in our near-term buying habits of our customers as uncertainty and business contraction. However, we have an active plan to reduce our expenses and conservatively manage cash to react to the potential near-term downturn in orders and sales revenues. We have taken proactive steps to reduce costs, including the reduced usage of outside contractors, temporary reduction of benefits, reduction of pay for executives and Board of Directors, limited our travel, offered a voluntary COVID exit and retirement offering and conducted a reduction in force in May of 2020. We have also reduced allocations for capital expenditures for fiscal 2021. As noted in the April press release related to COVID, our Board suspended dividends and share repurchase programs for the foreseeable future to conserve cash during this unprecedented time. We are continuing to monitor this dynamic situation and react accordingly.

I will now turn the call over to Reece Kurtenbach, our Chairman, President and CEO, for more comments.

Reece A. Kurtenbach — President and Chief Executive Officer

Thank you, Sheila. Good morning, everyone.

As we entered into fiscal 2020, we focused on order growth, market development, deployment of newly designed solutions, development of advanced manufacturing techniques and managing capacity and spend. We achieved these goals. Our investments in technology yielded additional control system features and broadened our display lineup, contributing to increased orders. As Sheila said, we were able to achieve the second highest level of order value in our Company’s history. As highlighted in our release, we’re winning projects and delivering on our commitments to customers, which is also a testament of our continued leadership in the marketplace. Customers choose Daktronics for new and leading technologies, our broad range of solutions, the reliability of our products and our commitment to serve them over the lifetime of their system.

Like many other companies, the uncertainty of the impacts of the COVID-19 global pandemic has impacted our business. COVID-19 has created disruption since its initial outbreak, first impacting our China operations. Our goals throughout have been to keep our people and stakeholders safe while operating our business. To this end, beginning in February, we created COVID-19 response teams to manage our global and localized response activities. Using the guidance from the US Centers for Disease Control and Prevention, the World Health Organization and other applicable regulatory agencies, we enhanced or implemented robust health, safety and cleaning protocols across our organization. Employees are working from home where possible and we have limited or eliminated travel for the time being.

As this virus has spread across the globe, it has generated appropriate responses by governments and regulatory agencies to keep people safe, but these responses have also disrupted our customers’ businesses in various ways as well as impacting how work is done. Because of this, our manufacturing and service teams have adjusted capacity, often including furloughing employees. For example, our China, Ireland and Minnesota production facilities all temporarily suspended production for a few weeks this spring. We have, however, continuously shipped product during this crisis as timing of these closures was staggered and some facilities have not interrupted operations at all. Currently, all production facilities are operational.

Our sales teams have continued to engage our customers, mostly virtually, across our diverse markets and geographies, with some customers continuing to place orders, while others are choosing to delay purchases. Our supply chain team has remained alert to potential short supply situations and shipping disruptions, and if necessary, we are utilizing alternative sources and shipping methods. To date, we have not seen a large disruption due to deliveries of components or other materials.

The COVID-19 situation has created an unprecedented and challenging time. We continue to believe the underlying fundamentals of digital displays will drive long-term growth in our businesses, but the near-term outlook is some contraction in different areas and greater volatility overall. Moving into fiscal 2021, we have taken actions to position ourselves for a strong recovery when the crisis is over, continuing some investments in market and product development but with a greater focus on reacting to the new realities of this uncertain environment. The length and depth of the global economic recovery will shape how our customers will invest in digital solutions in the future.

We continue to win business in all areas, and we’ll monitor and adjust our capacity to these needs, balancing our cost structure and timing of deliveries to our customers. To highlight our outlook by area, our Live Events business, which is lumpy, primarily consists of larger contracts and can be highly competitive. Our customers in this area have been impacted by lack of revenue due to event cancellations. However, planning is in process to bring back both professional and college sports activities. Some projects are being planned, but we also know constrained budgets and potential for fall sports will impact this business unit.

In addition to sports, we continue to focus on college campus sales outside of the sports areas for other networked digital solutions. We are still seeing demand in our High School Park and Recreation market due to the continued adoption of video and sporting applications. However, there are questions as to the sustainability as we anticipate some constraint in school budgets and uncertainty when events will begin. We have launched a streaming application to help schools broadcast and monetize school events in this time of COVID and beyond.

In our Commercial business unit, we expect order volumes to be impacted by both new and replacement systems for account-based businesses, expansion of solutions for indoor applications for retail, and growth in military applications, a new market niche for us, continued replacement and new investment activity in the out-of-home segment. However, we expect this activity will be lower until late calendar year 2020. The spectacular segment will be difficult to predict as it includes multimillion-dollar projects that are discretionary choices by customers, which can cause ups and downs in timing and trends. In International, with our establishment of localized sales and service channels outside the US and Canada, our focus is on increasing market share and growing new business areas.

Our current outlook, based on known opportunities, we expect some contraction in the beginning part of this fiscal year, with continued improvement over time. The Transportation business in the US and Canada remained strong due to continued investment in the US transportation systems and the stability in federal funding. However, the impacts to tax funds and other revenues because of responses to COVID-19 crisis caused uncertainty on the magnitude and timing of these projects. For example, we had been seeing an increasing demand in advertising and on-premise promotional applications for mass transit facilities like airports, but because of drastic reduction of travelers, there will be some pullback in these investments.

In all our markets, we have a natural replacement cycle and strive to serve our customers with their needs today as well as in the future. We continue to enhance our indoor narrow pixel pitch offerings and see a receptive market for these products across our business units. We continue to foster and build out indirect sales channels for existing and new markets. Our range of solutions and global capabilities make us the industry’s most experienced digital display provider. And to support our customers over the long term, we are focused on developing and releasing innovative solutions and services tailored to different applications in each segment.

We enter fiscal 2021 with a strong product backlog of $212 million. We are focused on reacting to the current economic environment and prioritizing key initiatives that will make us stronger, better able to compete as this crisis dissipates. The market’s increasing adoption and use of digital solutions, along with our new technology releases, cause us to remain positive on the long-term growth in the industry and the overall future of our business.

With that, I would ask the operator to please open the line for questions.

Questions and Answers:

Operator

[Operator Instructions] Our first question comes from the line of Greg Pendy from Sidoti. Your question please?

Greg Pendy — Sidoti — Analyst

Hey, guys. Thanks for taking my question. First of all, congratulations on getting the warranty expenses down for the year. I know there’s a lot out of your control, but you guys definitely, on what you can control, delivered on that. And I just wanted to get a sense, I guess, on a go-forward basis, I know there was an uptick and some failures a few years back, but where are we in that? And are we in sort of your — are you comfortable that we can start thinking that the warranty expenses will be in sort of that 1.5% to 2% range on a go-forward basis?

Reece A. Kurtenbach — President and Chief Executive Officer

We are — we believe we’re through that other issue, and we have not seen a significant issue like that raise its head. And so yes, I believe that’s a fair estimate.

Greg Pendy — Sidoti — Analyst

Great. That’s helpful. And then second question. Thanks for the color on the supply chain. Can you just maybe talk to us a little bit about what you’re seeing on the costs of both components in maybe things like aluminum and stuff and how we should be thinking about the costs outside of just the disruptions and the availability of product?

Reece A. Kurtenbach — President and Chief Executive Officer

Yeah. That’s a great question. The volatility in so many of these markets isn’t a continued increased price pressure and isn’t a bargaining position where things are lowering in costs, but it can fluctuate greatly based on — in brief periods of time. We do — on many of our commodities, we do negotiate longer-term contracts, which gives our stability there, and we have very deep vendor relations. So, I believe we have a stability in our supply chain, but predicting some of that volatility in pricing is pretty difficult, Greg.

Greg Pendy — Sidoti — Analyst

Okay. Great. And then just one final one. Just in light of paring back on the dividend and share repurchases but then going for the investment on the microLED side, can you kind of elaborate maybe on why that’s significant from an investment standpoint, perhaps maybe from a strategic standpoint, as we kind of look out to the future?

Reece A. Kurtenbach — President and Chief Executive Officer

Yeah, I believe, as we’ve said in our continued communication, that this narrow pixel pitch, which is roughly seen as products at a 2.5-millimeter pitch and less so at a distance from one pixel to another. As we get to 1 millimeter and below, we believe microLED is a good technology for that and this investment sets us up for that ongoing into the future and we believe that it’s critical for our ongoing viability.

Greg Pendy — Sidoti — Analyst

Great. Well, congratulations on the quarter. I appreciate the follow-up on the questions. Thanks.

Reece A. Kurtenbach — President and Chief Executive Officer

I appreciate it. Thanks, Greg.

Operator

Thank you. This does conclude the question-and-answer session of today’s program. I’d like to hand the program back to Reece Kurtenbach for any further remarks.

Reece A. Kurtenbach — President and Chief Executive Officer

Thank you. We appreciate everybody’s attendance in today’s call. We know this is a challenging time, and we’re committed to the long-term viability of Daktronics and working through this in a way that makes us stronger as we come out. So, we hope you have a great summer, and we’ll talk to you again in the fall. Thank you.

Operator

[Operator Closing Remarks]