AstroNova, Inc. (NASDAQ:ALOT) Q1 2024 Earnings Conference Call June 8, 2023 9:00 AM ET

Company Participants

Scott Solomon - Sharon Merrill Associates

Gregory Woods - President, CEO & Director

David Smith - VP, CFO & Treasurer

Conference Call Participants

Samir Patel - Askeladden Capital Management

Peter Sidoti - Sidoti & Company

Thomas Spiro - Spiro Capital

George Melas - MKH Management Company

Operator

Good day and welcome to the AstroNova's First Fiscal Quarter 2024 Financial Results Conference Call. Today's conference call is being recorded.

I would now like to hand the conference over to Scott Solomon of the company's Investor Relations firm, Sharon Merrill Associates. Please go ahead, sir.

Scott Solomon

Thank you, Ellen. Good morning, everyone, and thanks for joining us. Hosting this morning's call are Greg Woods, AstroNova's President and Chief Executive Officer; and David Smith, Vice President and Chief Financial Officer. Greg will discuss the company's operating highlights. David will take you through the financials at a high level. Greg will make some concluding comments, and then management will be happy to take your questions.

By now, you should have received a copy of the earnings release that was issued this morning. If you don't have a copy, please go to the Investors page of the AstroNova website, www.astronovainc.com.

Please note that statements made on today's call that are not statements of historical fact are considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on a number of assumptions that could involve risks and uncertainties. Accordingly, actual results could differ materially, except as required by law. Any forward-looking statements speak only as of today, June 8, 2023. AstroNova undertakes no obligation to update these forward-looking statements. For further information regarding the forward-looking statements and the factors that may cause differences, please see the risk factors in AstroNova's annual report on Form 10-K and other filings the company makes with the Securities and Exchange Commission.

On today's call, management will be referring to non-GAAP financial measures. AstroNova believes that the inclusion of these financial measures helps investors gain a meaningful understanding of the changes in the company's core operating results. It also helps investors who wish to make comparisons between AstroNova and other companies on both a GAAP and a non-GAAP basis. A reconciliation of the non-GAAP financial measures to their most directly comparable GAAP measures is available in today's earnings release.

And with that, I'll turn the call over to Greg.

Gregory Woods

Thank you, Scott. Good morning, everyone, and thank you for joining us. Despite a macroeconomic climate that remains volatile, we delivered a solid first quarter performance. Our results highlighted our progress in 3 key areas: first, integrating the acquisition of Astro Machine; second, maintaining disciplined expense management; and third, capitalizing on the continuing rebound of the commercial aviation market.

Through the exceptional work of our team members around the globe, we generated double-digit revenue growth in both our Product Identification and Test & Measurement segments. Our aggressive focus on implementing and maintaining cost-disciplined measures helped drive a 91% increase in operating income. This increase translated to a 150 basis point improvement in operating margin. On the bottom line, net income grew to $800,000 or $0.11 per diluted share compared with $400,000 or $0.06 per diluted share in the same period of fiscal 2023.

Now let's look at each of the segments, beginning with Product Identification, which reported first quarter revenue of $25.1 million, nearly 16% higher than the year earlier period. The increase was driven by the addition of Astro Machine, which we acquired in August of last year. The integration of Astro Machine is proceeding on plan with a rapid level of cross-pollination in terms of engineering, manufacturing and product development between our operations in West Warwick and Elk Grove Village.

For example, our first jointly developed printer has already been completed and will be released later this month, and at least one more additional jointly developed printer should be released before the end of the year.

First quarter segment operating profit margin improved 350 basis points to 10%, reflecting the higher Product ID revenue from a more favorable mix in the 2024 period. Going forward, we expect revenue mix to also benefit from the retrofitting of printers in the field that were sidelined since last year by a supplier-related ink quality issue as those units are restored and returned to full production. We expect this issue to be fully resolved before the end of the fiscal year.

We kicked off our Product ID trade show season last month with great responses at 2 large European trade shows in Germany. interpack 2023 in Düsseldorf and a couple of weeks later, FESPA Global Print Expo in Munich. The shows featured a number of our latest products and accessories, and we were delighted by the number of high-quality leads we generated and the traction our new products are gaining with customers across an array of applications.

Also last month, we had another important milestone with the launch of our e-commerce site, giving customers the ability to research and purchase AstroNova printers and supplies directly over the Internet. It's ideal for new customers searching for a solution as well as existing customers that want to reorder or check their account order status. The site provides a convenient, user-friendly experience. Initial customer response has been very positive, and we will continue to add products and functionality to the site throughout the year.

Turning to the Test & Measurement segment. Revenue increased 11% year-over-year to $10.3 million driven by continuing improvement of the commercial aerospace market. Segment operating profit was up modestly, but margin was down 50 basis points to 20.1% of revenue.

With the projected global demand for air travel in the coming decades, the outlook for our aerospace printers, supplies and services is strong. Airbus anticipates 46,930 aircraft in service by 2041, up from 22,800 in 2020. A total of 39,490 of those are expected to be new deliveries with 60% to support growth and 40% to replace aircraft that will be retired from service. Boeing likewise projects a massive jump in airline fleets over the next 18 years.

Turning to the data acquisition portion of Test & Measurement segment. In addition to our core aerospace and defense programs, we have landed several new power generation monitoring projects due to the exceptional accuracy and performance of our data acquisition products. We look forward to growing this new segment in the coming quarters.

Finally, we were pleased to see the company-wide bookings in the first quarter were up over 18%, $38.4 million. With further strengthening of our backlog, that totaled $38.7 million at quarter end. Backlog is up more than 32% year-over-year and more than 8% sequentially from the fiscal year-end.

Now let me turn the call over to David for additional financial review.

David Smith

Thanks, Greg, and good morning, everybody. At the top line, we posted revenue 13% increased to $35.4 million and solid contributions from both segments. We always highlight the revenue -- recurring revenue nature of our overall business model.

And looking at revenue by type, hardware revenue grew by more than 25% to $11.7 million. Driven primarily by the addition of Astro Machine in the Product ID segment, segment revenue increased more than 6% to supplies revenue increased by more than 6% to $19.1 million, reflecting demand growth in both segments. The service and other category was up by more than 24% to $4.7 million.

So in total, hardware revenue accounted for 33% of the total revenue in the first quarter; supplies, 54%; and service and other, the remaining 13%. As a percentage of revenue, both hardware and service were up year-over-year, while supplies revenue was down about 4%.

Greg noted the cost control in the quarter. Operating expenses as a percentage of revenue decreased to 30.8% in the first quarter from 32.1% in the same quarter last year, which along with a 40% -- excuse me, 40 basis point increase in gross margins led to a 160 basis point increase in operating profit margin. I'll notice -- I'll note that the operating expense this quarter was lower than the prior 2 quarters. That remains a very strict focus for us.

From a geographic perspective, domestic revenue accounted for 64.5% of total revenue, up from 63.4% in the first quarter of the same quarter last year. International revenue accounted for 35.5% of total revenue compared with 36.6% a year earlier. In dollars, we saw double-digit growth in Asia and Central and South America in the quarter and a high percentage -- high single percentage growth in Europe.

Adjusted EBITDA, which we define as normal EBITDA plus the share-based compensation, increased to $3.1 million or 8.6% of revenue compared to 6.2% of revenue last year. Cash was $1.5 million higher at the end of the year. Total debt at quarter end was $29.7 million, slightly lower than year-end.

Total debt to trailing 12-month EBITDA is calculated in our bank agreement includes a full year of Astro Machine, and that checks in at 2.2x. On the historical GAAP financials, the debt to adjusted EBITDA would be 2.6x. We're comfortable with this level. We do expect leverage, though, to decline through the year absent any acquisitions.

We've got sufficient capacity to support our business, the operating needs primarily. And we will use about $1.7 million of secured financing for some new capital equipment that will upgrade our hardware and supplies manufacturing equipment to improve efficiency and keep up with demand growth.

Inventory investment increased in the quarter a little bit primarily to support our T&M segment. We're still experiencing some supply chain struggles in the T&M electronic components area and in a few instance, in the PI segment as well, where we need to purchase extra buffer stocks. However, there are clear signs that those supply chain issues in aggregate are , and we're confident that our inventory will shrink as we move through the year. We'll use the free cash to reduce debt.

With that, I'll turn the call back to Greg.

Gregory Woods

Thanks, David. In closing, we began fiscal 2024 with improved results that mark an important step towards our larger goal of driving sustained top line growth and margin enhancement. Barring any downturn in the global economy, fiscal 2024 should see continued momentum in the commercial aerospace business, which we expect to contribute favorably to the performance of our T&M segment. In Product ID, our focus is on innovation with multiple new products slated for launch this year and other technology initiatives underway across our lines of business.

Now David and I will be happy to take your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions]. Our first question comes from Samir Patel.

Samir Patel

One question on the Product ID side. So I know this is the first Q1 that you have the Astro Machine business in there, and I noticed that there was a sequential step-down in revenue from kind of the Q3, Q4 levels. Is there some seasonality to that business?

Gregory Woods

There -- we don't have a good enough read exactly on that, but there does seem to be a favorability of the second half of the year from the numbers that we've looked at. And a few of the customers that we've talked to kind of bear that out. Although they don't commit exactly to that kind of cycle, but it seems to be that type of a cycle. It tends to do kind of Q3, Q4 supplies build up is what we've seen.

Operator

[Operator Instructions]. Our next question comes from Peter Sidoti from Sidoti & Company.

Peter Sidoti

Gentleman, two quick questions. One, can you give me a capital spending budget for this year?

Gregory Woods

We can give you approximate. David, do you want to address that?

David Smith

Yes. We've got about $1.8 million sort of legitimately in the pipeline. So I'm going to estimate that we'll end up at about $2 million.

Peter Sidoti

Okay. So the excess cash flow from operations will be used to pay down debt? Is that the assumption, unless an acquisition comes along?

David Smith

Yes, that's correct.

Gregory Woods

That makes sense.

Peter Sidoti

And inventories, do you think they'll stay flat given the growth? Or do you think you'll be able to bring them down?

David Smith

We should be able to bring them down. I'm not going to commit to a number. As I said in my comments, I think the supply chain issues are abating. And we're going to concentrate on getting the inventory levels down over the balance of the year. It's a slow process, but we will get them down.

Gregory Woods

Right.

Peter Sidoti

Okay. And one simple question, Greg. What's your economic assumptions for 2023 at this point?

Gregory Woods

My economic assumptions?

Peter Sidoti

Yes. What do you think is going to happen with the economy over the next 12 months? And how do you think it will affect you? There's all different views of what's going on...

Gregory Woods

Yes. I'll have to admit, I'm not an economist. But right now, as I mentioned in my -- big driver I mentioned in the presentation there is we do see a very strong demand in the aerospace. That's probably the strongest indicator that seems to be solidly up. But as long as the economy works well and -- it doesn't seem to be affected at all so far. So we see that as a big driver.

Peter Sidoti

Okay. So you see no slowing down in any of your sectors at this point?

Gregory Woods

Well, I said in the aerospace, in our Product ID, it is a very global business and a lot of different market segments. So it's hard to predict exactly what the macro economy may or may not affect that. Obviously, the better the economy, the better we will do.

Operator

[Operator Instructions]. Our next question comes from Tom Spiro from Spiro Capital.

Thomas Spiro

Tom Spiro, Spiro Capital. On Product ID, as I recall, Astro Machine's revenues -- annual revenues run in the low to mid-20s, something like $5 million, $6 million a quarter. If I'm right about that and if it did something like that in Q1, it would look to me like what I'll call core Product ID was down. Am I right?

Gregory Woods

We don't break it out exactly. But yes, I would say the growth in Q1 was driven by the Astro Machine business, correct.

Thomas Spiro

No, it's not simply the growth. It looks like product -- core Product ID was down.

Gregory Woods

We don't break out the different segments, Tom.

Thomas Spiro

Okay. The quality issue -- I think the quality issue first emerged in fiscal '22, as I recall from one of your annual reports. And if I understood you your comments earlier, it's going to be resolved by the end of this fiscal year. That seems to take a very long time. Why?

Gregory Woods

We actually are on our third iteration of fix for that, to be honest with you. So what happened is we worked with the supplier, and their first 2 recommendations which we implemented did not prove effective in the long run. So we reverted to a third that we tested very stringently in the last 4, 5 months. And that does seem to be working very well. So now we're rolling that out across the board. Unfortunately, some of the machines we upgraded, we have to upgrade again to this latest fix. But the good news is it does look very sustainable now.

Thomas Spiro

Which product lines are affected by the quality issue?

Gregory Woods

It's most of the Trojan-label products. Some of -- only 1 or 2 of -- actually, it's very little of the QuickLabel. It's mostly in the Trojan-label line.

Thomas Spiro

And does -- if someone has one of these....

Gregory Woods

I was going to say, it works for some applications fine, but in certain applications, it didn't perform as well as it needs to be, and that's why we're redoing those machines.

Thomas Spiro

I see, I see. And if I'm one of the folks who has one of the affected machines, does the problem prevent me from using the machine at all? Or simply do I use it at a lower rate? What do I do?

Gregory Woods

You may be able -- it depends on your application. So some applications -- and there's different types of labels and different applications of our labels in a wide variety of markets. So some see no issue at all, some see an intermittent issue, where we can address that kind of just treating the symptoms but not the root cause. And then others, just -- it doesn't work for their applications because they require very specific application requirements. So it's a mix -- several hundred printers, yes.

Thomas Spiro

As I recall, we did receive some modest compensation from the vendor a couple of years ago for this problem. Are we expecting further compensation for what we've suffered or no?

Gregory Woods

We can't disclose that exactly because it has to do with the agreements that we made. But the -- it's a combination of some concessions, and then future concessions and a variety of elements. But it won't -- there's not a clear payment like we had at the outset there.

Operator

Our next question comes from Samir Patel from Askeladden Capital.

Samir Patel

David, following up on the inventories issue. I know you don't want to pin down to a specific number. But if I just look at data I pulled here, and I don't know if this is accurate, but it looks like from October of 2002 all the way through, call it, maybe late 2018, your inventory turns were kind of at 5 or above, except for a very brief period early in that decade.

Today, those inventory turns according to my data source are at 3.3. So is there something structural about your business where as the supply chain headwinds abate -- I mean, do you think getting back to maybe that 4, 4.5, 5x inventory turns is a reasonable target? Or is there something structurally different in the business today?

David Smith

I love the question. I wish I had been around long enough to have that in my bones. But I'll take your math at good faith. No, there's nothing about the business inherently that should keep us from getting back to those levels. I think the aerospace business will always turn slower than the PI business for a variety of reasons, including the fact that you have to support these printers for a very, very long time. And if you have old technology, you have to do last-time buys to make sure that you have the components to build the printers over that entire period. And I think that's sort of the long-term drag on inventory turns.

The PI business turns inventories much more quickly. We did have a slowdown across the board during this most recent struggles with the aerospace business and the pandemic and so forth. But no, I think our turn should improve in the PI business. And I think there are secular reasons why the aerospace business should improve. So no, I think our turn should improve over the next couple of years.

Samir Patel

That makes sense. I mean another way of looking at it is the last time that your revenues were at comparable levels on a trailing basis. Your inventories were, I think, $35 million according to this data as opposed to $50 million now. So I mean I know you're not wanting to put out a number, but it sounds like it could be quite meaningful over -- and I guess what time frame do you expect that to be realized? I mean, is that kind of 24 months, is that 12 months, somewhere in between?

David Smith

Yes. I mean the business is bigger and we bought Astro Machine. So the inventories are going to have a little bit of a step-up. I think it's going to take -- during this year, we expect -- I said in the comments, I think our cash flow generation and as we move through the year, the inventory levels are going to get better. I'm not committing to a specific number. And hopefully, we'll be able to improve that into future years as well. But I -- that's speculative at this point.

Gregory Woods

Samir, so I could add a little bit of color to that, if you like. And I think we've said this in the past as well is that when we had these supply chain issues going back over a year now, where we found issues, especially on our supply part of our PI business, we definitely stocked up above our normal run rates. So that will start to bleed off, actually. It's just orders for those suppliers are typically 6 to 8 months in the future. So some of that is actually going to bleed off this year and it will continue into next year.

Samir Patel

Okay. Perfect. And then one topic you haven't talked about for a little while is I know you implemented the new ERP system. You were excited about some of the visibility that gave you, I think, when you were integrating Astro Machine. Maybe just talk about some of the benefits there and how you see that helping you run the business going forward.

Gregory Woods

Yes. And one of the biggest benefits is having it integrated amongst our different operations. So here in West Warwick, we're very far through the process. It's now a matter of kind of optimizing processes. We kicked it off very rapidly at Astro Machine because it's here, domestic, it's a smaller operation. So we expect to have that one done probably by the October kind of time frame. So that's moving very quickly. And then we'll move directly to the branch locations, Canada, U.K., France and Germany.

Have different instances of NetSuite that they've had over time. So we just need to consolidate all of those, which that will be the focus after Astro Machine. So getting everyone on the same system clears up a fair amount of inefficiencies that we have to deal with mainly in the financial reporting side of the business. But the CRM systems, having those integrated, because that's also part of NetSuite, that just helps the whole sales and marketing team know globally what's going on instantaneously.

Samir Patel

Got you. And I guess I'm excited to hear about e-commerce next time but probably wait for more data. As far as...

Gregory Woods

If you want to check it out, you were -- was just going to say, just go to our AstroNova Product ID site and click on the Shop button, and you can explore it on your own.

Samir Patel

I will do that. As far as M&A, I mean, I know timing is kind of not within your control, but do you want to talk about the pipeline? Or are you seeing more opportunities on the Test & Measurement side, the Product ID side, both of them?

Gregory Woods

Yes. So it's pretty good in terms of a number of elements. We typically have a handful -- I'd say, have about 4 to 6 things that we're looking at seriously both in Test & Measurement segment and in the Product ID segment. And there's a few that look interesting. So it's -- you never know that, right? So it looks interesting. You start talking. And if we don't like what we see, we'll walk away. And you can see we're kind of conservative in the type of deals we do.

So obviously, if we find -- if we can get one of those closely to the parameters we have for Astro Machine, we'll be jumping on it. And we'll have -- you've heard about what's going on with the balance sheet. So we should be in a good position to do a nice deal later in the year if we can get the right one vetted out from our diligence efforts.

Samir Patel

Okay. And Greg, I actually did what you said. I am on the e-commerce website. I'm only seeing the ability to buy printers and presses. Am I missing sort of the supplies component of that? Or is that a part of the website?

Gregory Woods

No, you can go in there. You can buy a label -- all different labels. You actually can buy them if you were...

Samir Patel

Okay. I see it now.

Gregory Woods

Unfortunately, you bought a competitor printer. You can actually buy the label for that printer too to get better results.

Operator

Our next question comes from George Melas from MKH Management.

George Melas

A follow-up on Thomas Spiro's questions about the quality issue. It clearly affected machines that are in the field. So it impacts supply sales. Did it also impact hardware sales? Was it just hard to sell the Trojan machines given the issues that you were having?

Gregory Woods

Yes, in certain models, mainly through our channel segment. So we know which indications we can sell the machines into. So on a go-forward basis, we're able to do that incrementally. And now we have, of course, the fix in place so we can go a little more aggressively on it.

But the channel -- you can imagine, if you're a channel partner and you had a number of issues, you're reluctant to do it until you see the new solution prove out and regain those sales. So we're -- a lot of what we're doing is working with the channel partners to get them back online, explain exactly what we did to make sure that we have a solid solution here. And yes, that's working, but now they need to go back out and generate their customer sales. So there was a hardware impact for those reasons.

George Melas

Okay. And maybe help us understand, like Trojan, what percentage of revenue is direct or how much is through the channel? How important is the channel for Trojan sales?

Gregory Woods

It's an important piece of it. There's a good amount of direct sales as well. But a lot of the OEMs, some of the larger accounts, happen to be either OEM accounts or channel accounts for Trojan equipment, less so with the QuickLabel.

George Melas

Okay. Okay. Great. Maybe a question on the bookings. They seem to be really strong. Was there any particular area of strength? Or was it sort of across the board? Was it like a few large deals? Maybe give us just a little bit of color on the bookings.

Gregory Woods

Yes. There wasn't an outsized deal that was involved there. It's pretty much spread across different products in both the Test & Measurement segment and in the Product ID segment.

David Smith

Yes. The trend is -- the trend in the aerospace products is generally favorable.

George Melas

Okay. How do the aerospace guys order? I mean, is it very lumpy? Or is it sort of just a continuous kind of order patterns?

Gregory Woods

We wish it was the latter, but it's more the former, right? So it depends on -- in the Test & Measurement segment, I'll put this into one because that's how we report it. So with the kind of data acquisition -- those tend to be a lot of aerospace and defense government contracts, so that's very lumpy. And then the aerospace product lines, it depends on which -- you get a new airline who buys, whether it's -- say, it's 50 Airbus 320s or 50 Boeing 737 airplanes.

That then -- they then come to us or go to Boeing or Airbus and -- it depends on which product category you're talking about. And they put their orders in. So that could be a big order, it might be spread over 12 months or even longer. And sometimes it's a forecast. We can't even book it as an order. But that's where that lumpiness comes in there.

Sometimes we get some surge orders. But the short term, hey, we need something in 3 months that wasn't forecast, that's pretty rare. We don't see a lot of that in the aerospace. It's pretty predictable. There's typically -- we're shipping product 6 months or more in advance of when it goes into the final assembly of the airplane. But there's spare parts part of it. There's other parts of the business that can jump around as well.

George Melas

Okay. Okay. Great. That's helpful. And then just a final quick question for David. David, the G&A line, do you expect some leverage on that G&A line in the future as the business grows? I mean, as -- basically as a percentage of revenues, you see G&A as a percentage of revenue coming down?

David Smith

Yes. That's the goal. It makes sense that, that will happen. We haven't talked about specific percentages from a guidance standpoint. But certainly, it would make sense that, that would happen, and that's our goal. I think we're -- I think that's what will happen.

George Melas

Okay. And is there a particular number you can give about the ERP implementation costs in the quarter?

David Smith

Most of the implementation costs are in the rearview mirror. We are spending some capital on implementation at Astro Machine. We'll spend some more work on capital in the European convergence with the global system. But those numbers are in my overall guidance for capital spending this year. So it's -- they're not huge.

Operator

There are no more questions on the line. So I'll now hand back to Mr. Woods for any closing remarks.

Gregory Woods

Great. Thanks a lot. So thanks, everyone, for joining us here this morning. We look forward to keeping you updated on our progress in the future. Have a good day.

Operator

That concludes today's conference call. Thank you, everyone, for joining. You may now disconnect your lines. Have a lovely rest of your day.