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Edited Transcript of DYSL earnings conference call or presentation 14-Aug-18 9:00pm GMT

Q3 2018 Dynasil Corporation of America Earnings Call

WATERTOWN Oct 12, 2018 (Thomson StreetEvents) -- Edited Transcript of Dynasil Corporation of America earnings conference call or presentation Tuesday, August 14, 2018 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Patricia M. Kehe

Dynasil Corporation of America - Corporate Secretary

* Peter Sulick

Dynasil Corporation of America - Chairman, President & CEO

* Robert Joseph Bowdring

Dynasil Corporation of America - Principal Accounting Officer & CFO

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Conference Call Participants

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* Joe Furst

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Presentation

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Operator [1]

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Good day, and welcome to the Dynasil Corporation of America's Third Quarter Fiscal 2018 Conference Call. Today's call is being recorded. (Operator Instructions) I would now -- I would like to turn the call over to Patty Kehe of Dynasil. Ms. Kehe, you may begin.

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Patricia M. Kehe, Dynasil Corporation of America - Corporate Secretary [2]

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Thank you, Cole, and good afternoon, everyone. With me today are Peter Sulick, Dynasil's Chairman, CEO and President; and Rob Bowdring, Dynasil's Chief Financial Officer.

Before we begin, please note that various remarks management makes on today's conference call that are not historical facts, including, but not limited to, statements about our expectations, beliefs, plans, designs, objectives, prospects, financial condition, assumptions and future events or performance are forward-looking statements under the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve risks and uncertainties. Actual results may differ materially from those indicated by such forward-looking statements as a result of various important factors, including those discussed in Dynasil's annual report on Form 10-K for the fiscal year ended September 30, 2017, filed with the Securities and Exchange Commission. Dynasil's filings can be accessed on the Investor Relations section of the company's website, www.dynasil.com.

In addition, any forward-looking statements represent the company's views as of today, August 14, 2018. These statements should not be relied upon as representing the company's views as of any subsequent date. While Dynasil may elect to update forward-looking statements at some point in the future, the company specifically disclaims any obligation to do so.

Now let me turn the call over to Peter Sulick.

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [3]

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Thanks, Patty. Good afternoon, everyone. Thank you for joining us today to highlight our financial results and other activities for the third quarter of our 2018 fiscal year.

Earlier today, we released the 10-Q and press release with summary results for the 3 and 9 months ended June 30, 2018. The press release includes a table showing our results for each of our segments: Optics, Research and Biomedical -- for the third quarters for both this year and last. You may want to refer to these documents for specific information during the call.

Rob will discuss our results in a few minutes so I'd like to begin by announcing our earnings for the quarter attributable to common shareholders was $400,000 or $0.02 per share. This was driven by revenue increases across the board. We're pleased to advise you that for the quarter, our Optics segment revenue was up 27% and our Research segment, 10%, for an overall increase of 19% as compared to last year. Year-to-date, our Optics segment is up 17% and Research down by 7% for a net increase of 7%. Our Optics segment, particularly our Fused Silica division, is experiencing solid year-over-year revenue growth, with a general increase in U.S. business activity, particularly in the semiconductor areas driving this growth. In addition, revenues from our coatings, filters and gratings product lines are all up over last year.

Additionally, gross profit for the 3 months was 40% of revenue as compared to 38% of revenue for the 3 months ended June 30, 2017. Our Optics segment gross margin increased to 37% of revenues in the quarter ended June 30, 2018, as compared to 34% of revenues for the same period in 2017.

For the year-to-date, overall gross profit was 11.7% or 39% of sales compared to $10.7 million or 38% of sales for the 9 months ended June 30, 2017. Gross profit for the Optics segment increased approximately $0.9 million to $6 million for the 9 months ended June 30, 2018, compared to gross profit for the same period in fiscal 2017.

Gross profit improvement was a direct result of our committed focus on retail product line profitability and improved operational efficiencies, in effect, paying attention to small operational details. Gary Bishop and his teams as well as Jim Hilger -- Jim Telfer at Hilger have engaged in this effort for several years, and it is reflected in this positive result. We have invested in both personnel and systems to assist in this effort, which occasionally results in price increases or discontinuance of certain products that did not profitability screenings.

Well, you might say what's the big deal with a 3% margin improvement? My response, the 3% improvement on $40 million of revenue translates to $1.2 million in free cash flow we can use to further invest in growth, exactly what we are doing with our infrared initiative. This is already -- there is already a substantial IR market which will grow over the next several years, and we invest -- we are investing in both the hardware and people to penetrate the market.

With respect to our research company, RMD, we anticipate a number of products coming to market for RMD over the next few years. While we do not anticipate any one of these being a blockbuster, the cumulative effect should be noticeably positive for RMD's commercial revenues in the coming 2 to 3 years. This is exciting for us as it is a confirmation that our Contract Research business can supply product development opportunities for our operating divisions as well as for RMD. RMD's products are generally components of radiation detection devices, hence, are subject to our large OEM customers winning competitive bids or large government or industry appropriations. That said, we believe these products are well positioned to be highly competitive in this process.

A few comments on Xcede. Prior to recent announcements on July 20, 2018, Xcede received a notice of termination from Cook Biotech Inc., or CBI, its collaboration partner for Xcede's hemostatic patch. CBI has asserted its termination rights under the services agreement dated November 16, 2016, and the development agreement dated January 6, 2016, between Xcede and CBI, claiming that the results of a recent animal study showed that it’s not commercially reasonable in CBI's assessment to continue to the next development phase of the patch. Upon a valid termination, CBI has no obligation to conduct further developmental activities with respect to the patch, including any further in-kind funding under the loan agreement dated November 16, 2016, between CBI and Xcede.

In addition, CBI has asserted that the study results trigger an immediate payment of $500,000 promissory note owed by Xcede to CBI under the loan agreement, which otherwise has a stated maturity of December 31, 2025. Xcede promissory note is collateralized by a security interest which Xcede has in all of -- which CBI has in all of Xcede's intellectual property. While Xcede vigorously contests this assertion, at this time, it is unclear how this matter will be resolved between Xcede and CBI.

Xcede has halted clinical trial preparations at this time and has curtailed its operations to a minimal level while the Board of Directors of Xcede evaluates alternatives, including the viability of modifying the patch to address the shortcomings cited by CBI and/or the possible sale or license of CBI (sic) [Xcede] IP assets, subject to amending the security interests described above. There can be no assurances with respect to any such alternatives.

Dynasil is the sole holder of Xcede Series B preferred stock, which ranks senior to other classes of outstanding Xcede equity, a junior to all Xcede indebtedness. Dynasil also owns shares of Xcede Series A preferred stock and common stock. On an as-converted basis, Dynasil indirectly owns about 63% of the shares outstanding. Dynasil has no contractual obligation with respect to Xcede's indebtedness. The Xcede promissory note is a contractual obligation solely of Xcede and is secured by Xcede's intellectual property.

I will address the Xcede situation further during the question-and-answer session rather than in these prepared remarks. We are all disappointed in the very rapid turnaround in the fortunes of the patch. However, Xcede, which represented a wonderful potential reward for the company, is not our core business. We have followed and continued to execute a strategy of growing our commercial businesses and realizing commercial opportunity within our significant research portfolio. This strategy is bearing fruit and I anticipate will continue to do so over the coming years. Our operating teams are laser-focused on revenue generation, product line profitability, quality products delivered on time, improved operating margins and focusing on exploitable market opportunities. Our new marketing team is developing programs to further support line operations.

Now let me turn the call over to Rob Bowdring, our CFO.

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Robert Joseph Bowdring, Dynasil Corporation of America - Principal Accounting Officer & CFO [4]

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Thank you, Peter. Good afternoon, all. As Peter touched on most of the key items for the quarter, I will summarize a few additional points. As Peter noted, Dynasil's revenue for the quarter ended June 30, 2018, was $10.5 million compared to revenue of $8.8 million for the third quarter of fiscal 2017, a 19% increase. The Optics segment increased by $1.3 million or 27% for the 3 months ended June 30, 2018, compared with last year's third quarter. All of our Optics division improved over last year, particularly our New Jersey-based Fused Silica team as they responded to increased demand from customers in the semiconductor microlithology market and our Hilger team in the U.K. who saw a resurgence in orders from one of our key customers.

As Peter outlined, the Contract Research segment's revenue increased by $400,000 or 10% for the quarter as compared to the same 3 months of 2017 as a result of an increase in CLYC orders from another key commercial customer. Overall, gross profit for the 3 months ended June 30 increased $800,000 to $4.2 million or 40% of revenue compared to $3.4 million or 38% of revenue for last year's third quarter. This was driven by an increase in the Optics segment's gross profit to 37% or $2.3 million, up from 1.7% or 34% of revenue in 2017's third quarter. This is reflective of the steps taken to improve gross margins that Peter discussed earlier.

All of the above resulted in a very substantial turnaround in income from operations which, for the quarter ended on June 30, was $600,000 compared to a loss from operations of $300,000 for the same period in 2017, a $900,000 improvement in this key metric.

Now a word about taxes. During the last quarter that just ended June 2018, the company completed its state PATH 2015 research and engineering tax credit analysis, which identified $800,000 of additional tax credits, largely against future state tax expenses. Due to the company's state filing status requiring Dynasil to continue to consolidate the Xcede losses for state tax purposes, this credit had a full tax valuation reserve applied to it and, accordingly, it is not reflected in the statement of operations for the quarter.

The total 2015 PATH R&E tax credits identified by the company are approximately $2.1 million, of which the federal component of $1.3 million is reflected in the statement of operations for the 9 months ended June 30, 2018. The $800,000 of additional state PATH R&E tax credits is available as an offset to future state tax expense and cash payments.

Net income attributable to common stockholders was approximately $400,000 or $0.02 per share and $900,000 or approximately $0.05 per share for the quarter and for the 9 months ended to date, respectively. Year-to-date results are reflective of both an $800,000 expense for the impact of the 2017 Federal Tax Act and a $1.3 million research-related tax credit discussed earlier. I would be happy to discuss these in more detail during the question-and-answer session if asked.

With that, Peter and I will be happy to take your questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions)

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [2]

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So can I jump in for a sec? The last couple of quarters, we haven't had a significant number of questions. In fact, the last quarter we didn't have any at all. So I was going to try something slightly different this time, which is ask myself a few questions and answer them, and then we could move into questions from the other people on the call. So I'm going to try that out, and I'm not going to do it sort of independent the questions that I would like to ask. But I did get a list of questions from one of our investors who wanted me to respond to these in writing. And I -- rather than that, I figure I'd probably sort of proceed to ask myself a few of these things, and then we can move into the other questions.

So the very first question that this fellow wanted me to address had to do with the Xcede human clinical trials and why there were pushed out for 6 months. This was prior to our recent announcements on Xcede. But it does tie in to some of the activities that have happened here recently. So what I'd like to do is give everyone a chronology of what happened with respect to Xcede and how recent these developments really are.

So back in February, towards the end of February, during the third week in February, we were conducting in the Netherlands a training session for the Netherlands doctors about 1 week prior to the beginning of the clinical trials using the patch at that time. So basically, we were fully ready to begin the clinical trials shortly after this training session. And what happened was the doctors there had a different procedure for conducting liver resections and the application of hemostats to the surgical area of the liver. They tend to put a great deal of saline on the wound site, and the effect of saline on the patch is that it causes the patch to swell and to curl. And that is not the same procedure that's used in the United States for these kinds of operations. As that developed during the course of this training session, the doctors there essentially said that this is not a product that we're comfortable using in closing a patient following the surgery. And the pictures were pretty dramatic, not something that we've seen in the past. And so we had to, very late in the game, make some decisions on whether we were going to try to reconfigure the patch as best we could. So everyone left that, there was quite a team of people over there, both from our side and from the CBI side. We came back and had a meeting in April and decided that we were going to try to reconfigure the patch using all the exact same material that is in it, so that we didn't have to refile for the clinical trial. And the decision was made to essentially powderize the SIS material and incorporate that into a patch slurry which would then be dried and create a new patch. So a completely different configuration of the patch than what had been attempted previously. That was done. There was an initial trial that was attempted with that reconfigured patch. It seemed promising during the initial trial. And then on July 2, prior to another potential training session in Netherlands on July 9, a follow-up animal study was conducted. And there was a very similar circumstance to the experience that resulted in the Netherlands. And at that point in time, we felt that it was not appropriate to continue to go forward, and we canceled the training session on July 9.

CBI, at that point, went back to kind of their -- to sort of circle the wagons and decide what they wanted to do. We, Xcede had a board meeting on July 10 and decided to begin to curtail operations at that point. And on July 20, we received the CBI termination letter and notified the public via an 8-K on July 26. So -- and we also sent out a letter to Arch Media team investors, about the same time that we sent out the 8-K. That is the sequence and the chronology of events that have taken place very recently with respect to the patch. And Linda Zuckerman and I had a meeting on Friday, the 17th, at CBI in Indiana to review the status and see if there’s some way we can either get this thing restarted or come to some conclusions on how we're going to go forward. That is the exact status on the patch, and I'm happy to take any other questions with respect to it.

Another question that was asked were -- had to do with RMD, RMD's markets and RMD's advanced scintillation technologies and what these kinds of technologies are being targeted for in the commercial marketplace. And so I can spend just a minute reviewing some of RMD's current products, some of the new technologies that are being worked on and then some future technologies that are currently in the pipeline in development.

As of right now, RMD has 5 commercial products that they essentially offer. One is CLYC which, for those of you who have been following us are aware, is a dual-mode scintillation detector that's used in radiation detection; strontium iodide, another similar product; we have a product called HiRIS detector, which is used for large-scale portalized detection at border crossing points and other areas. And then we have various versions of cesium iodide detectors that are made at RMD along with smaller things such as SSPMs and very specialized products that RMD makes, specifically for the research marketplace. RMD also has 2 licensing deals, one for cesium bromide, another for what's called CLLB. Cesium bromide is licensed to [Hellma] and CLLB is licensed to Saint-Gobain. So those are products that RMD made a specific decision that they were not going to launch and so ended up licensing.

There's a number of interesting future technologies that are beginning to come to fruition. One is another CLLBC detector that we're quite excited about. It has similar properties to CLYC. Second is an actual instrument that is a large -- well, larger than a pager-sized detector and very powerful in its operation called [Hermes]. It's an instrument that RMD would actually manufacture and sell if we make a decision to actually get into the instrument business as opposed to the component business. But that particular instrument is ready to go, and we are exploring the marketplace for that product today. Future technologies that we are working on are ceramic detectors; high-resolution cesium iodide detectors; plastic scintillators that include metal loading, organic and inorganic composites; thallium-related scintillators and similar kinds of a variety of different scintillators that contain different kinds of materials, all of which go into a variety of different products, but largely they’re used in either radiation detection, imaging products such as baggage scanning products and medical imaging products, which are currently looking for some low-cost solutions to some of the current materials that are used there and those kinds of things.

So with respect to RMD and some of the types of products they are currently working on and future products that will be coming out over the course of the next 2 to 5 years, that's a very brief summary of a number of the things that RMD is involved with. At any one point in time, RMD has many as [4] new projects that they are working on that range from a whole host of various and interesting things, one of which was yet another question that came up and had to do with UV-emitting nanoparticles, which is something that we discussed at our annual meeting. And we have some interesting pictures of what this particular project is like. These nanoparticles are being used to target what are called hypoxic tumors. Quite an interesting technology and falls kind of directly into the wheelhouse of RMD. That project completed at the end of June, the results were received. It was a project that we worked on in conjunction with Mass General Hospital. All of the results are quite positive. They are being compiled now. And we anticipate that we will go back into the National Institutes of Health in January once the results of that project are compiled and potentially ask for a follow-up project mainly from NIH to continue the development of that project. It is a very long-term cancer-related project. It's intended to kill cancer cells that are called these hypoxic tumors, very large and deep tumors. And if this technology works, it could be quite interesting and revolutionary.

And another question which this fellow asked had to do with Dynasil's other commercialization opportunities that are on the horizon. I reviewed some of those here. Two of the other things that we're working on are our thrust into the infrared business. That is going well. We've had a delay, a rather substantive delay actually, in the delivery of one of our coating chambers that's important for this business, called a DLC, diamond-like carbon coating chamber. It was delayed by 5 months. But it's now in-house, it is in operation. The final qualifications for that were released last week, I believe. So we're a little bit behind on that. It was due to no fault of ours. There's a fairly significant demand across the economy these days for things like pumps and various other things. And so the pumps necessary for this particular piece of hardware were significantly delayed and backordered, and it just took a while to get them in and get the machine up and running. So we're very excited about the IR business. The other business that we're looking at very closely is the optical assembly business where we are in the process of completing a clean space at Optometrics for purposes of getting into that business, and we believe that we can get some decent revenue out of that.

So that's the end of the questions that I was asked to address by one of you. And so now why don't we turn it over to some of the participants. So...

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Operator [3]

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Yes. We have our first question from Joe Furst from Furst Associates.

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Joe Furst, [4]

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I just wanted to clarify, if we just do nothing with the Xcede, then there will be no longer any losses going through (inaudible) the income statement for Dynasil for that, and that will definitely be a help to Dynasil.

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [5]

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Well, that's correct, Joe. Yes.

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Joe Furst, [6]

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Good. Just to make sure everyone was clear on that fact. And thanks for your idea of kind of answering some of your own questions, I think it really helped everybody out.

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [7]

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You're welcome.

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Operator [8]

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(Operator Instructions) And we have a question from [Michael Bird], private investor.

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Unidentified Participant, [9]

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I was just wondering, if there's going to be some legal expenses related to Xcede, does Xcede pay that? Or will Dynasil pick up the attorney's fees for that?

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [10]

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That's a good question. So we've maintained a certain level of cash still in Xcede. And we believe that, that level of cash is adequate to cover future expenses that Xcede may incur on the legal side. And it's entirely possible that some of those might carry over, in which case, we'll have to chat about whether Dynasil picks them up or not or what we decide to do with Xcede. Dynasil has no obligation to pick up those kind of expenses at the moment. It would just be whether we felt we had some sort of ethical requirement to do it, given that we basically incubated this product and then pushed it out to Xcede. So even if those were -- if we were to consider to do that, it would not be a material number.

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Operator [11]

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And seeing no further questions, I would like to turn the conference back over to Mr. Sulick for any closing remarks.

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Peter Sulick, Dynasil Corporation of America - Chairman, President & CEO [12]

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Well, I guess my idea to ask myself questions worked, maybe we'll try that again. I just want to let you all know that we will be entering into -- we are in the final quarter of our fiscal year. Our next results and next discussion on results will take place sometime in December, I believe, so we'll have a bit of a dark period here as we wrap up the fiscal year. I thank you all for participating in our third quarter fiscal year analyst call. Good night.

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Operator [13]

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The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.