Innovative Solutions and Support Q4 2023 Earnings Call Transcript

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December 21, 2023

Key Takeaways

  • Q4 revenue rose 79% year-over-year and net income increased 63%, marking the fifth consecutive year of profitable growth driven by organic sales and the full-quarter contribution from acquired Honeywell products.
  • Strong cash flow enabled reduction of debt from $20 million to under $12 million and conversion of a $20 million term loan into a revolving credit facility with PNC, lowering interest expense and enhancing financial flexibility.
  • The Honeywell acquisition stabilized gross margins at 62% and expanded in-house capabilities (e.g., radios and IRUs), positioning the company to drive 40% annualized top-line growth once integration is complete.
  • Management warned that Q1 and Q2 fiscal 2024 results are expected to be weaker than Q4 due to pull-forward shipments and typical disruptions from the Honeywell product integration.
  • Continued investment in R&D, including a development contract for the second-generation UMS with Pilatus, underscores the long-term strategy to advance cockpit automation toward single-pilot and autonomous flight.
AI Generated. May Contain Errors.
Earnings Conference Call
Innovative Solutions and Support Q4 2023
00:00 / 00:00

There are 8 speakers on the call.

Operator

Welcome to the Innovative Solutions and Support 4th Quarter and Year End Fiscal 2023 Financial Results Conference Call. All participants will be in a listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Shahram Askarpur, CEO.

Operator

Please go ahead.

Speaker 1

Good morning. This is Shahram Askarport, Chief Executive Officer of Innovative Solutions and Support. Welcome to our conference call to discuss our performance for the Q4 and full year fiscal 2023, Current business conditions and outlook for the coming year. Joining me is Raul Renand, our CFO. Before we begin, I'd like Raul to provide cautionary statements about Forward looking information.

Speaker 2

Thank you, Sharon, and good morning, everyone. I would remind our listeners that certain statements made And matters discussed in the conference call today, including those about new products and operational and financial results for future periods, contain forward looking information. The forward looking statements are subject to assumptions, risks and uncertainties that could cause actual results to differ Also remind our listeners that plans and expectations we express speak only as of today's date and listeners You should not place undue reliance on any forward looking statements. Now, I'll turn the call back to Sharon.

Speaker 1

Thank you, Ralph. I will begin today with remarks on our performance in the fiscal Q4 and full year 2023, followed by comments on our long term growth plan and strategy, including the recent Honeywell products purchased and license. I will then turn the call back to Raul, who will take us through the financials. For the quarter, Revenues were up 79% with net income increasing 63% from a year ago. Our fiscal year 2023 results were driven by continued organic growth in our production contract and aftermarket sales, as well as the full quarter of Honeywell product sales, which we acquired at the end of June.

Speaker 1

As anticipated, the Honeywell products supported our strong margins, which were up sequentially from the 3rd quarter and similar to a year ago. We have also continued to generate strong cash flow, which contributed to reduce the borrowings used for our June acquisitions. This strong 4th quarter led to our 5th consecutive year of revenue growth, strong cash flow and another increase in the full year earnings. Our cash has also enabled further pay down of our borrowings in the current quarter Despite the heavy one time significant expenses incurred for auditing fees, legal expenses And cost of hiring and training new technical personnel in relation to the acquired products. We are fortunate to have a great relationship with our bank, PNC, and they have been very supportive of our growth strategy.

Speaker 1

This week, we converted our $20,000,000 term loan to a revolving line of credit that has enabled us to reduce our total debt from $20,000,000 to less than 12,000,000 It is noteworthy that we achieved the strong 4th quarter growth results despite the additional burdens under which we operated over the past year by amending our bylaws, negotiating the bank agreement, as well as facilitating and subsequently integrating a substantive acquisition. Despite these non recurring events, our team delivered financial performance that maintained our track record of steady profitable growth. Our goal now is to leverage this momentum to sustain this growth over both The near and longer term organically and through additional acquisitions. To that end, We have several plans in motion. Organically, we have plans to continue further product innovation and to sustain our high level of investment in research and development, especially in the area of cockpit automation that will ultimately lead to single pilot operations in large transport aircraft.

Speaker 1

Our value proposition is to focus on products that continue to reduce pilot workload and improve safety. For instance, we plan to add capabilities to existing technologies such as our flat panel displays to include automated emergency checklists and pilot alerting systems. We expect These technologies to serve as stepping stones that will help prepare the market for single pilot flights in Air Transport Aircraft. We were recently awarded a development contract for the 2nd generation of UMS or Pilatus. We expect that 2nd generation technology will expand In the process, we anticipate this will create new platforms that can be adopted for other aircraft and eventually constitute another step along the path to autonomous flight.

Speaker 1

In order to maintain our leadership in cargo retrofit business, we are in the process of adding new features Our products that we expect would allow increase in content and selling price, protecting this business' overall revenue in the face of any potential slowdowns in the cargo conversion market. Our Orafall OEM business Has continued to do well with Textron, and we have continued to pursue additional platforms in the military And regional airline markets. Across the board, we are increasing our business development activities by working to grow our sales and marketing group, both domestically and internationally. The acquired Honeywell products have put us in front of a new set of buyers, which we believe our sales team Secondly, we plan to leverage acquired technologies to enhance and expand our product offerings. As an example, with the Honeywell product lines, we now have our own radios and adjacent technology capabilities we previously had to buy on the open market to integrate into our products.

Speaker 1

Acquisitions such as this are complementary to our existing product portfolio and will likely accelerate our ability to As a direct result of this acquisition, we believe that we are on pace to achieve annualized 40% top line growth once the Honeywell integration has been fully integrated completed. Those integrations are making Steady progress. As planned, this quarter and next, we are moving inventory, installing the purchased equipment in Our facility and training our employees, having anticipated some of the Disruptions arising from the integration over the 1st and second quarters of FY 20 24 and by customer requests, we accelerated some of the deliveries into the September 2023 quarter. Consequently, we expect results in the current quarter and the next to be weaker And the results of the Q4 2023. As the second part of our growth strategy, we continue to evaluate Other acquisitions, opportunities and plan to execute additional complementary acquisitions as these opportunities arise.

Speaker 1

Thank you for your time and interest. We look forward to updating you in the upcoming quarters. Now I will turn the call over to Worrell for a closer look at the numbers.

Speaker 2

Thank you, Sharon, and thank you all for joining today. I will review our financial results for the Q4 and full year of fiscal 2023. Revenue in the 4th quarter was up 79% primarily due to the contribution from the sales of products purchased and licensed from Honeywell. As Shahram noted, revenues in 4th quarter included the pull forward of Honeywell products, some of which would have otherwise been delivered in the 1st and second quarters of 2024. Work was accelerated in the September quarter to meet our delivery commitments before production was As anticipated to be slowed by the movements of inventory and equipment, as well as other disruptions that are typical when undertaking an integration of this size and complexity.

Speaker 2

As a result, we expect results in the current quarter and the next to be weaker than the results of the Q4 2023. 4th quarter gross margin was 62%, a sequential improvement from the 3rd quarter and unchanged from the same quarter a year ago. Margins reflect both the better absorption of our fixed overhead as a result of revenue growth as well as the impact of the margins of the Honeywell products. In the Q4 of fiscal 2023, research and development expense increased in absolute terms, consistent with our commitment to innovation, but decreased relative to sales. As Sharon previously mentioned, we anticipate that research and development will continue to increase as the company works The Q4 fiscal 20 23 increase in selling, general and administrative expenses reflect one time costs associated with the Honeywell transaction, including higher legal, accounting, professional fees and amortization expense.

Speaker 2

In addition, selling, general and administrative expense in the 4th Quarter fiscal 2022 was reduced by $1,200,000 due to a gain on the sale of the company's PC-twelve aircraft. Interest income was up in the quarter due to an increase in interest rates on our interest bearing cash deposits. Interest expense in the quarter reflects costs Associated with the borrowings used to consummate the Honeywell transaction. We expect interest expense to trend down not only as interest rates are anticipated to fall, but also due to our continued pay down of these borrowings under the terms of the revolver facility. Tax expense in the Q4 of fiscal 2023 was $700,000 compared to $760,000 in the Q4 of 2022.

Speaker 2

4th quarter net income was $2,600,000 or $0.15 per share, up from $1,700,000 or $0.09 per Share in the Q4 of fiscal 2022. Backlog at September 30, 2023 was $13,500,000 and new orders in the 4th Quarter of fiscal year 2023 were approximately $12,700,000 As always, quarterly orders And vary due to a number of factors that are not meant to provide an indicator of future revenues. Virtually all the Honeywell revenues are from inter quarter book Ship orders that are not included in the backlog. Cash at September 30, 2023 was $3,100,000 of about $500,000 from June 30. Over the 3 months ended September 30, $30,000,000 revolving line of credit as it was combined with the company's $10,000,000 revolving line of credit.

Speaker 2

Under the terms of the agreement, Our cash balance will be swept daily against the outstanding revolver balance, thereby reducing interest expense. This revolving line of Credit is expected to allow the company greater flexibility when the next acquisition opportunity presents itself. As previously noted, cash flow has continued to improve into the fiscal 2024 quarter, including the collection significant amount of receivables and the sale of the company's King Air Aircraft for $2,300,000 so that our current net debt has been reduced to less than $12,000,000 For the year, the company generated $2,100,000 of cash flow from operations. With that, operator, we're ready for questions.

Operator

We will now begin the question and answer session. At this time, we will pause momentarily to assemble our roster. The first question today comes from Theodore O'Neill from Litchfield Hill Research. Please go ahead.

Speaker 3

Thank you very much. A couple of questions. And you may have covered this first question in your presentation when you announced the acquisition of the Honeywell As I was looking through the unaudited pro form a combined statement of operation for the acquisition, there wasn't anything in here for R and D. And I was wondering What impact the acquisition is going to have on R and D expense going forward? And then more broadly, its impact, the Honeywell integration impact on margins and

Speaker 1

So I guess your first question, it's going to be very At least initially for the 1st year, it's going to be a little impact on the R and D. Going forward, as we're going to modify some of These equipment that the let me put this, we're going to modify some of the designs To make it more suitable to work closely with our equipment, it will require some R and D And those are not significant amount of dollars. They'll be part of our IR and D programs that we run.

Speaker 2

The G and A? Yes. So G and A will be up a little bit. We're still incurring audit fees, Legal fees relative to this, it's not what it was in the Q4, but it will still be somewhat a little bit elevated, yes.

Speaker 3

Okay. Now, Edrel, can I read anything into this increase in accounts receivable from year over year?

Speaker 2

Yes. So the cash receivable is up. It all depends on when you ship things out, right? So we had a lot of later shipments. We had a big quarter and the shipments went out later and some vendors or Customers are 45 days.

Speaker 2

So that's we've been collecting it all. So that's really, as I said, helped in this quarter, but it's It's a little atypical for us, but it's a matter of timing.

Speaker 3

Okay. Yes, makes sense. And then the customer concentration for the year, Is that going to change much with the acquisition?

Speaker 1

Concentration of Of the customers?

Speaker 3

Yes, yes, like your top 5 customers.

Speaker 1

Yes, to some extent it will. I think there's going to be a couple of major customers being the channel partners that are going to That we're going to get a little bit from. So it will change. Okay.

Speaker 3

All right. Thanks very much.

Speaker 1

Thank you. Thank you.

Operator

The next question comes from John Moran with Ramadi and Co. Please go ahead.

Speaker 4

Hi, thank you. The first question is just around the net debt number that you're reporting in the quarter. And I'm guessing, is that a sustainable Level relative to the new size of the business absent any acquisitions or is that going to Up and down?

Speaker 2

It depends. Yes, it will go hopefully down as we're profitable and generate more cash, It's going to continue to come down. So I just gave you a snapshot of where we are relatively now. But as we generate more cash, it's going to become lower and lower until we if we borrow again. But it they sweep our account, Our cash and it's just net, net, net all the time.

Speaker 2

So we expect it to keep decreasing.

Speaker 1

Sorry, John.

Speaker 4

I'm sorry. So am I oversimplifying it to read into it that you've generated $8,000,000 in cash since The closing of the deal?

Speaker 1

We did not generate Yes.

Speaker 2

It's mostly well, Mostly this now, this quarter now, right? We collected receivables, we sold a plane. So it's really you're taking it from 9:30 into the now, yes.

Speaker 1

And meanwhile, we're spending money like drunk and failure on lawyers and That's one of our peers of Honeywell's books. Yes. Honeywell's big company. No free lunch.

Speaker 4

The other question I had was around the backlog and the orders That you're reporting in the quarter for the legacy business, that does seem up fairly dramatically From where you were a year, just what that's been, I know it's gone up and down, but is that is there something driving that in In particular or?

Speaker 1

I mean, our kind of the previous organic product Thanks. Year 2, you have a different this year, I mean, because we got a big new contract from Pilatus, Which actually kind of guarantees us for another 15, 20 years on that platform. And some

Speaker 2

of the OEMs Advance give us POs in advance.

Speaker 1

And they gave us POs. So it's this is what it was this quarter.

Speaker 4

I'm sorry. So with that number, I don't have it right. So they were $12,000,000 $13,000,000 I can't remember what's backlog and new orders or something like that. I mean that was running at 789. That's mostly related to Pilatus?

Speaker 2

A lot of it is. A lot of it is. Not all of it, of course, but

Speaker 4

Okay.

Speaker 2

You got Textron, I mean it's a combination, but the volume is flat.

Operator

The next question comes from Andrew Rem with Odinson Partners. Please go ahead.

Speaker 5

Good morning, gentlemen. Just on the kind of can you guys break out or provide a little bit more detail on the revenue? How much was kind of legacy versus the Honeywell contribution?

Speaker 1

It's kind of hard to do that on this call right now. I think our it comes up there will be notice in there As to exact contribution of the Honeywell. So

Speaker 5

You guys can break that out in the 10 ks.

Speaker 1

That's where it's going to go.

Speaker 2

Yes. I think the 10 ks we have to Ending this year and then going forward, I believe it will all be 1.

Speaker 1

Believe it or not, the audits are still working. Okay. I never imagined it will be that hard. Everything is hard.

Speaker 2

Okay. Okay.

Speaker 5

Perfect. On R and D, can you guys maybe just give updated or guidance. Last year, I think you guys said you wanted to kind of push R and D to kind of 13%, 14%. But given the Honeywell, it doesn't sound like it will necessarily consume a lot of R and D resources. But Can you maybe just reframe how you're thinking about R and D?

Speaker 1

Yes. So I guess 13% of $20,000,000 is Still less than 10% of $40,000,000 So as a percentage of revenue, our R and The percentage is going to go down. In terms of dollar value, we're increasing the size of our engineering department and Using some of the revenues that come from these hybrid products to further Our internal growth strategy.

Speaker 2

Yes. So it will grow it will go higher in absolute terms, but as a percentage of sales growth, that's going to be faster than the increase So you'll see that relationship go down.

Speaker 5

Okay. And then also in the queue, will you guys break out Some of these what sounds like kind of either short term or one time related items both in Yes.

Speaker 1

But I

Speaker 5

guess in the Q4 specifically?

Speaker 2

Yes. Well, it's kind of what I said here, but yes, a little bit more detail. In the MD and A, The comparison, it will be addressed in there, yes.

Speaker 1

I think the Q4, was it just over $1,000,000 of one time expenses In this Q4, if you look at it,

Speaker 2

that's the difference. If you add the $1,200,000 back and look at it, That's really the ballpark.

Speaker 1

$5,000,000 And I can imagine the quarter that we are in is not going to be any better either.

Speaker 2

It won't be as high.

Speaker 1

It will be more than an army of people sitting here.

Speaker 5

Okay. And then can you guys give an update in terms of on the integration kind of What have you completed and what is left to do?

Speaker 1

Sure. So one of the product lines is Completely here, we've got our people trained and we're actually performing on it. And that's on the radio side. On the IRU side, we're going to do that in the transfer of all the equipment and the training and all of that, It's going to occur after the holidays. And the reason for that is that, that product line is mainly for the air transport market.

Speaker 1

And the airlines were very nervous in us doing that In November December time period, because they felt that it may impact their busy period. So we work our team works On a daily basis with the Honeywell integration team. And we evaluate each one of these requests from the customers On a daily basis to make sure there's no disruptions in the operation. Obviously, there's slowdown that we That's right. I can't during this quarter because on the radio side when you think about it, they had to pack all of these test equipment, Inventory them, make sure they were right, ship them here, unpack them here.

Speaker 1

There had to be some of the we had to have their team come here, make sure everything works right I'm doing another final stage of training to our people. During that period, nothing happens.

Speaker 2

Which is why the pull forward

Speaker 1

in Q4. So the same thing is going to happen next quarter in the January to March quarter with the IRU stuff, Again, there has to be act and set up over the years. That's the process. That's the process.

Speaker 5

Okay. All right. Well, great quarter, gentlemen. Thanks a lot.

Speaker 1

Thank you. Thank you.

Operator

The next question comes from Doug Ruth with Lannett Financial Services. Please go ahead.

Speaker 6

Good morning. Congratulations on the Strong quarter. I have three questions. What is the company's relationship now with the Hendrick family?

Speaker 1

So they have there is independent Trusts that are managed by different people within the Headrick family That each owns some number of shares. And so and the state also Own some shares, but none of them are, I guess, significant enough to have Reporting,

Speaker 2

they're below the threshold.

Speaker 1

They're below the threshold and they're all managed by different people. So That's the way it is.

Speaker 6

There's no representation on the Board of Directors and they're not

Speaker 1

And then there's not too

Speaker 6

much of a relationship with any family member at this point then?

Speaker 1

No. Since Jeff passed, nobody from the Or be represented on the

Speaker 6

board. All right. And then the second question is the relationship with the large shareholder, Christopher Harborne, is he involved? Is he Asking for a Board seat or is there any interaction with the company and his entity?

Speaker 4

Hello?

Speaker 1

No. No. It hasn't. I said, Henry, We have a business relationship with 1 of these companies, whether supplier to it, but if we ever have any conversation, It's always regards to that business.

Speaker 6

Okay. And then the final question, Are the Board members and the management team, are you folks eligible to buy stock at this point in time? Or are you in a blackout period? Maybe you could offer some advice there.

Speaker 2

The blackout period, so 15 days before the end of the quarter, It is a blackout period, and then you can blackout period is lifted the 3rd business day at the earnings

Operator

The next question comes from Roger Goldman, who is a Private Investor. Please go ahead.

Speaker 7

Hi, guys. First of all, congratulations, really well done. This seems like it's going exactly according to The way you told us it would go. And in that connection, any surprises so far with the integration, either good news or bad news?

Speaker 1

So, from my end, it's navigating a Large company and the level of competition is a challenge. I knew it was going to be a challenge, But it's internal communications within Honeywell. You're talking to A group of people that you signed an agreement with and we all understand what it is. But then at the end of the day, you're getting information from some guy Down there somewhere and they have their own opinion.

Speaker 4

Yes. Yes.

Speaker 2

A lot of levels,

Speaker 1

right, a lot of layers. Yes, it takes a little bit harder. But I think we've learned a lot of lessons here This time we're on out of this that in better ways of making this happen smoothly. Having said that, we're told My folks at Honeywell that this has been by far the smoothest transition that they've done in any of these

Speaker 2

All relative, I guess. Yes. Yes.

Speaker 7

Well, A lot of people and companies have made a lot of money doing just what you're doing, which is unencumbering a division From all the corporate, I don't want to say nonsense, but all the corporate structure inherent in being a small division of a big company. And Sometimes there are financial surprises, sometimes good, sometimes bad, that don't rise to the level of, Well, we've got to redo the contract or we've got to walk away. But nonetheless, they're kind of shocking. And what I'm hearing you say is, It's more difficult managerially, but financially it's right on target.

Speaker 1

It is right. We have not had any negative surprises on the front end. Okay.

Speaker 7

That's a good way to say it. I hear you. Secondly, just I think the bank I was going to ask you a question about the bank financing. It sounds like you're generating a ton of cash and you're using it to pay down a ton of debt. The bank would be cooperative if you made another Acquisition and net debt went up again substantially?

Speaker 1

Yes. Actually, the conversation with them, They would be very happy to provide us based on the EBITDA of the next business that we will buy.

Speaker 7

Yes, right.

Speaker 1

Because even if Sam loan for that EBITDA that then later on we can convert it to the line.

Speaker 2

Yes, they've been very supportive. So

Speaker 1

So they're very supportive.

Speaker 7

Right. And you're going to save probably $500,000 to $1,000,000 in interest this year. So Good job on that. And do you have do you feel that you have the management to make another acquisition in the next year?

Speaker 1

Yes, we do.

Speaker 7

Okay. I was hoping for a really simple answer like that. Thanks. And last Question is, I know Mike left, anything there we should know or?

Speaker 1

Nothing related To the company, it was a personal decision.

Speaker 7

Okay. All right, good. And thanks for stepping back in, Ryan. This is a Critical time for the company, critical, critical time. Anyway, I just want to end by saying, as you guys know, I've been First, my dad and now my sister and I have been long time shareholders and this is what we've been hoping for, for years years.

Speaker 7

So Just well done, well done. You guys are on your way to something really building a fabulous company here.

Speaker 1

Thank

Operator

This concludes our question and answer session and concludes the conference call. Thank you for attending today's presentation. You may now disconnect.

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