ATS Automation Tooling Systems Inc. (OTCPK:ATSAF) Q3 2016 Earnings Call February 8, 2017 10:00 AM ET

Executives

Stewart McCuaig - VP, General Counsel

Anthony Caputo - CEO

Maria Perrella - CFO

Analysts

Cherilyn Radbourne - TD Securities

Mark Neville - Scotiabank

David Tyerman - Cormark Securities

Justin Keywood - GMP Securities

Yilma Abebe - JP Morgan

Robert Caldwell - Richardson GMP

Operator

Good morning, ladies and gentlemen. Welcome to the ATS Automation Third Quarter Conference Call. I would like to remind you that this call is being recorded on February 08, 2017 at 10 AM Eastern Time. Following the presentation, we will conduct a question-and-answer session. Instructions will be provided at that time for you to queue up for questions. [Operator Instructions]

I'd now like to turn the call over to Stewart McCuaig, Vice President, General Counsel of ATS.

Stewart McCuaig

Thanks, operator, and good morning, everyone. Your main hosts today are Anthony Caputo, Chief Executive Officer of ATS; and Maria Perrella, Chief Financial Officer.

Before we begin, I'm required to provide the following statement respecting forward-looking information, which is made on behalf of ATS and all of its representatives on this call. The oral statements made on this call will contain forward-looking information. The actual results could differ materially from a conclusion, forecast or projection in the forward-looking information.

Certain material factors or assumptions were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information. Additional information about the factors that could cause actual results to differ materially from the conclusion, forecast or projection in the forward-looking information, and the material factors or assumptions that were applied in drawing a conclusion or making a forecast or projection as reflected in the forward-looking information, are contained in HS' filings with Canadian provincial securities regulators.

Now, it's my pleasure to turn the call over to Anthony.

Anthony Caputo

Good morning, ladies and gentlemen. I assume you've seen our press release. Maria will review financial highlights in a few minutes. In the third quarter, operating performance was strong notwithstanding with our revenues. Order bookings grew and we continue to advance our value creation plan. Today, Ill update you on our performance, after sales service, M&A, conditions in the market and then Ill make some summary comments.

Starting with Q3 results, bookings were 284 million, up 25% over Q3 last year. Year-to-date, we booked 812 million which is almost 20% higher than last year. Of note, in Q3 the average size of our three largest quarters was approximately $30 million, as we continue to engage with customers on a more strategic basis, which from time-to-time results in an enterprise order.

Our backlog is strong in terms of quantity and quality, and increasingly related to potential future orders, included in our third quarter bookings was an approximately $40 million initial order related to a multi-year enterprise agreement for the supply of automated systems and related services from Bruce Power's Life Extension Program. We executed a master supply agreement, which provides a framework for potential additional mortgage.

Q3 revenues of $237 million were driven by project timing, the cancel contract and some other adjustments. Adjusted earnings margin was 9%, as higher gross margins did not fully offset lower volumes. In December, we announced the cancellation of the aforementioned large enterprise order due to rapid changes in the customers market, which caused them to revaluate their product roadmap. We are currently engaged with this customer to determine what equipments can be repurposed for the next generation product.

Based on our discussions, we believe ATS will also provide additional equipment beyond that which maybe repurposed for the new requirements. From an operations perspective, we continue to see the benefit of operational changes, implemented to address the root causes of related programs and our gross margin improved accordingly. We remain focused on improving program management, enhancing the utilization of our global footprint and improving our cost structure.

Moving to after sales service, as I noted previously, customer receptivity has been positive and our after sales service organization has continued to advance our plans. We have a well-defined offering and channels to take our offering to new and existing customers. We will continue to focus on growing this aspect of our business.

On M&A, our efforts remain active as we seek to acquire capability that we deem to be strategic and at the appropriate price. We've seen a number of actionable targets and are also focused on generating more. We have a strong balance sheet with significant borrowing capacity, and we've demonstrated over the past year the ability to generate cash flows to quickly deliver.

Turning to our markets, our funnel is significant. We are focused on growing the funnel, which includes a number of synergy opportunities with PA, and increasingly submitting larger proposals, including some for enterprise-type programs. Customer receptivity has been positive, and the frequency of submitting enterprise proposals is increasing. In terms of our verticals, in transportation, our funnel has grown and we continue to see robust proposal activity and significant opportunities in new technologies like batteries and e-motors as well as traditional ones such as transmission and power train.

In life sciences, activity is very strong. We continue to see numerous opportunities in both pharma and medical devices for existing customers and new customers, which have led the several large orders. In energy, we also have significant opportunities. We have established a strong position in nuclear, and we are pursuing some significant opportunities in this market. In consumer products and electronics activities has continued to improve particularly in consumable, durables and industrials; however, this area remains soft relative to other markets.

In terms of outlook, our competitive position is strong. However, as I've said before, the global economy remains uncertain, and some customers are exercising additional caution when it comes to their capital investments. In summary, our third quarter performance was strong notwithstanding more revenues. Our enterprise program strategy is well routed, yielding clear results and the prospects are significant. After sale services has continue to gain traction and our strong balance sheet supports our growth strategy.

As you read in this morning second press release, ATS has appointed a new CEO, who will come on Board early March. I will be stepping down as ATS, CEO on February 15th and resigning from the Board. Maria will be taking over during the interim period. In due course, the Company will create an opportunity for Andrew to be introduced to you. On a personal note, I thank you for your continued interest in the Company and the respect you have afforded me and the management team. ATS is a great company with a differentiated platform, a strong balance sheet and a global customer base served by very talented people. ATS has achieved a lot and is well positioned to accomplish much more. It's been a privilege to serve as its CEO.

At this point, I'd like to turn the call over to Maria.

Maria Perrella

Thank you, Anthony. Our operations continue to perform well in the third quarter despite the timing of revenue generation and the impact of the cancelled order. We're pleased with the level of quarterly order bookings at $284 million and closing backlog of 632 million. Although, we had cash usage of 14 million in the quarter on a year-to-date basis, we've generated $47 million in cash from operations. Our non-cash working capital as a percentage of revenue increased to 15.1%; however, we expect this to decrease in the next quarter.

This morning, I will discuss operating results for the quarter and our balance sheet. I'll start with our operating results. Q3 bookings of $284 million were similar to last Q2 bookings of $289 million and exceeded prior year Q3 bookings of 228 million. On a year-to-date basis fiscal '17 bookings are 812 million or 19% higher than 680 million last year. Backlog was adjusted for the cancelled programs however at 632 million is still 16% higher than a year ago, providing a strong foundation going forward.

Q3 revenues were at $237 million or 38 million lower than Q3 last year. This primarily reflected both the timing of program activities as a larger percentage of our programs are in early stages, where lower revenues are typically realized and the cancelation of the enterprise program. Also included in the quarter were adjustments and revised estimates related to certain programs, which have been completed or are in process. Our gross margin in Q3 was 25.8%, up slightly from 25.5% in Q3 last year, despite lower volumes.

Gross margins have been improving quarter over quarter from 24.4% in Q1 to 25% in Q2 and now 25.8% due to program execution and the types of programs we're perusing. On a year-to-date basis despite lower revenues of 745 million, as compared to 793 million last year, gross margins improved slightly to 25.1% versus 24.9% last year. Better program control and restructuring activities undertaken over the last year have offset the revenue impact.

Moving to SG&A, Q3 included restructuring charges of $2.3 million related to closing a U.S. facility. This was part of our ongoing initiative to improve our cost structure and consolidate capabilities, without negatively impacting capability or capacity. On an adjusted basis excluding amortization of acquisition-related intangibles and restructuring charges, Q3 SG&A was $36.9 million compared to the $36 million in each of Q2 and Q1. We expect to be in the $35 million to $37 million range going forward.

Q3 adjusted earnings from operations of $22.5 million were 9.5% of revenue or slight improvement over Q2's 22 million and 9.2% due to improved gross margins, which offset lower volume. Last year Q3 adjusted earnings were $10 million higher at 32 million and 11.7% of revenue as a result of higher revenues, which generated the incremental earnings dollars. In Q2, we said that if the enterprise program was to be terminated, we did not expect any material negative impact from the cancellation beyond Q3. This remains our view.

As reported in order backlog continuity, the cancelled program has been removed from our backlog, bringing closing Q3 backlog to $632 million, up 16% over last year. Based on the composition of our backlog at the end of Q3 and our estimates of in quarter orders, which are booked and converted to revenue in the same quarter, Q4 fiscal '17 revenues are estimated to be in the higher end of the 35% to 40% range of backlog. Our estimated Q4 revenues are being impacted by the timing and size of programs one in Q2 and Q3, as we expect programs will still be in early stages where revenues are primarily driven by labor as compared to the assembly stage where revenues ramp up as they include labor and third party materials.

Moving to the balance sheet, Ill review cash generation and non-cash working capital as a percentage of revenue. In Q3, we used cash from operations of $14.1 million due to the timing of milestone billing and payments. This is down from Q3 last year, when we generated cash from operations of 31.6 million. On a year-to-date basis, we generated cash from operations of 47 million compared to $2 million in the first three quarters last year.

At the end of the third quarter, our total net debt position was a $128 million compared to prior years net debt of 208 million. This represents a reduction of debt of $80 million. We continue to have strong liquidity with cash on hand of approximately $204 million and a 750 million credit facility of which approximately 650 million is available. Our capital structure also includes a seven-year fixed interest U.S. $250 million bond. Our Q3 non-cash working capital as a percentage of revenue is 15.1%, as compared to last year Q3 of 15.4%. We target to be below 15%; however, expect the percentage will fluctuate depending on opportunities, the timing of milestone billings and payments. Fluctuation can be close in our last few quarters where Q1 non-cash working capital as a percentage of revenue was 10.2% then in Q2 it was 11.5% and now 15.1% due to timing.

Turning to net earnings, in Q3 we generated earnings per share of $0.07 compared to $0.09 last quarter Q2 and $0.16 in Q3 last year. The decrease is primarily due to lower volumes. On an adjusted earnings per share basis, we generated $0.12 compared to $0.13 last quarter and $0.21 in fiscal 2016, Q3. The $0.09 year-over-year decrease is primarily due to lower volumes and increased stock compensation expense. Our effective tax rate was 26% in Q3 and 24% year-to-date. Going forward, our effective tax rate is expected to continue to be in the range of 25% of pre-tax earnings.

In summary, our business remains strong, our backlog is healthy at 632 million and well provide for a strong revenue base in the upcoming quarters. Our funnel remains well diversified with the good mix of programs and enterprise solutions. We will continue to focus on our frontend including pursuing enterprise programs and growth in after sales services and delivery initiatives including our cost structure and program management in order to improve organic growth and margins going forward. We have a strong balance sheet and we remain committed to our growth and value creation plans.

Now, we'd like to open the call to your questions. Operator, could you please provide instructions to our listeners. Thank you.

Question-and-Answer Session

Operator

Ladies and gentlemen, we will now conduct a question-and-answer session. To allow us many voices to be heard as possible please limit yourself to two questions per turn. [Operator Instructions] Your first question comes from the line of Ms. Cherilyn Radbourne with TD Securities. Please go ahead.

Cherilyn Radbourne

Thanks very much and good morning. Anthony, I wanted to extend my best wishes if you transition here.

Anthony Caputo

Thank you.

Cherilyn Radbourne

I wanted to ask about the $40 million order with Bruce Power that was highlighted in the quarter. So, I was just wondering, if you could give us more color on the potential size and timing of the future orders?

Anthony Caputo

The order itself is part of whats called the major component replacement program, which is much bigger than the order we received. And the future depends on the really two things; number one, the program in its entirety and the rate at which it moves; number two, our performance; and number three, how we fit with other participants and players on the program. It's envisioned that we will continue to participate and thats why we negotiated and put in place some master supply agreement in order to allow for future potential. Its a very big program in all and ATS is now a major player in that nuclear space.

Cherilyn Radbourne

Great. And if I look at Q2 -- sorry, Q3 relative to Q2 there was a pretty big sequential increase in your life sciences backlog. But it doesnt sound like there was an enterprise order booked in that segment. Maybe you can just elaborate a little bit more on the work that you secured in life sciences recently?

Anthony Caputo

Ill talk about this three that I talked about in the script. One order has to do with a critical respiratory product, which is multi-dose dry powder inhaler, and it's for three lines with a bridge to a fourth line, AND you would recognize the name of the customer. The second one, you would also recognize the name of the customer has to do with infusion, and this is a repeat customer for which we built two lines before. And this is a closed IV the system with tube in connection. It's a fairly high growth product and the customers demand is such that he needs to hurry up to pick more to market and future systems are possible.

Another one which is kind of interesting has to do with PA, which is a customer that is establishing a facility and upgrading capability in the U.S., and it's the retrofit of biotech site. This is going to manufacture two drugs, one for Crohn's and colitis, and the second one for cancer. And like I said, it's the first U.S. site for this particular company, and we PA are designing and upgrading and implementing testing, automation process controls and commissioning and qualification.

Cherilyn Radbourne

That's a nice color. Thank you. And then last one from me for Maria. I just wanted to pick up on your comments regarding the gross margin performance in the quarter. Can you tell us how much you would attribute to better execution versus mix of work that was being revenued in the quarter?

Maria Perrella

I'd say it's all due to better execution. I'd say two about or last quarter for sure we have death with most of read programs. And therefore, we're not seeing the impact of those. And as far as work in our backlog goes, we have a good mix of better margin work, and we started to see that in Q2; and then in Q3, we had more benefit of that plus a slightly better performance.

Operator

Your next question comes from Mark Neville from Scotiabank. Your line is open.

Mark Neville

Just first question for Anthony. Curious as to you're involved into the selection of the new CEO and I guess to that extent sort of why you may feel that Andrew might be the right person to lead the Company going forward?

Anthony Caputo

I had peripheral involvement in the process and I think like I said in the script, we, the Company will create an opportunity for Andrew to be more formally introduced, and then at that occasion, I think the best person to talk about process and outcome, and it was an extensive process and it was an global process would be David, who is of course our Chairman. And then the best person to talk about Andrew and his fit and his background and on his steps going forward is Andrew, so I wouldnt want to steal the show from those two.

Mark Neville

Fair enough. Thank you. I guess just a follow-up on the Bruce. I'm just curious the master supply agreements, the term of that, again I think this investment to the Bruce Power program runs through 2064. So I'm just curious to how longer there supply agreement, I think most investment come for 2020 is well. So, just curious is to the length for the term of your agreement?

Anthony Caputo

I got to check, so I dont get it wrong. It's not 20 years and it's not one, but it's intended to parallel the life of the program, but before we hang up, I'm going to give you the right number.

Mark Neville

Sure thanks. I just want to follow up on the gross margin as well. So, I guess Maria from what's I am hearing correctly, mix was a necessary onetime benefit in the quarter, it's just better execution. So, just on the go forward basis or maybe some variability, but there is not necessary reason to take a big step down as a sort of that way you care for your comments?

Maria Perrella

Yes, thats a good way to interpret.

Anthony Caputo

And I think just -- as I could differentiate between mix and nature of programs.

Mark Neville

All right.

Anthony Caputo

So, I think a lot has to do with the nature; as programs get bigger, and we control more elements. If we get in trouble in one aspect of the program, we have another aspect of the program that we can use within the program itself to get healthy. So, its a function of mix but it's also a function of nature.

Mark Neville

Okay, that makes sense, I think I get that. And may be just one last one, on the 70 million backlog that was cancelled, I believe you said in your press release in December there, the vendor or the customer would be -- may be procuring new equipments early '17 or mid '17. And I'm just curious if there is any update on that if they start to procure equipment or again anything you can say that out?

Anthony Caputo

Sorry, do you want?

A - Maria Perrella

No.

Anthony Caputo

We've submitted a number of proposals on the repurposing, and we've submitted a number of proposals on equipment in addition to the repurposing. So, I think the timeline is that we gave before is still right.

Operator

Your next question comes from David Tyerman from Cormark Securities. Your line is open.

David Tyerman

So just may be going to the filler again. Do you have any kind of magnitude that we could be thinking about? Is this replacing the something possible or something you can resize the original 100 or is this going to be much smaller opportunity?

Maria Perrella

At this time we believe that, it won't be or the opportunity won't be similar to the original opportunity. Probably more in line with the cancelled backlog and that has to do with the repurposing of a lot of the material that we used in the original 100 million U.S. order.

Continued here:

ATS Automation Tooling Systems' (ATSAF) CEO Anthony Caputo on Q3 2016 Results - Earnings Call Transcript - Seeking Alpha