Napco Security Technologies, Inc. (NASDAQ:NSSC) Q3 2024 Earnings Call Transcript May 6, 2024

Napco Security Technologies, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning, ladies and gentlemen, and welcome to the Napco Security Technologies Fiscal Q3 2024 Earnings Conference Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. [Operator Instructions] This call is being recorded on May 6, 2024. I would now like to turn the conference over to Francis Okoniewski, VP, Investor Relations. Please go ahead.

Francis Okoniewski : Thank you, Jonah. And good morning, everyone. My name is Francis Okoniewski. I'm Vice President of Investor Relations for Napco Security Technologies. Thank you all for joining today's conference call to discuss financial results for our fiscal third quarter 2024. By now all of you should have had the opportunity to review our earnings press release, discussing our quarterly results. If not, a copy of the release is available in the investor relations section of our website, www.napcosecurity.com. On the call today are Dick Soloway, our Chairman and CEO of Napco Security Technologies, and Kevin Buchel, President, Chief Operating Officer, and Chief Financial Officer. Before we begin, let me take a moment to read the forward-looking statement as this presentation contains forward-looking statements that are based on current expectations, estimates, forecasts, and projections of future performance based on management's judgment, beliefs, current trends, and anticipated product performance.

These forward-looking statements include, without limitation, statements relating to growth drivers of the company's business, such as school security products, recurring revenue services, potential market opportunities, the benefits of our recurring revenue products to customers and dealers, our ability to control expenses and costs, and expected annual run rate for our recurring monthly revenue. Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those contained in the forward-looking statements. These factors include, but are not limited to, such risk factors described in our SEC filings, including our annual report on Form 10-K. Other unknown or unpredictable factors or underlying assumptions subsequently proving to be incorrect could cause actual results to differ materially from those in the forward-looking statements.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, level of activity, performance, or achievements. You should not place undue reliance on these forward-looking statements. All information provided in today's press release and this conference call are as of today's date unless otherwise stated. And we undertake no duty to update such information except as required under applicable law. I'll turn the call over to Dick in a moment, but before I do, I want to mention we're actively planning our Investor Relations calendar for more non-deal roadshow, or NDR, and conference attendance in the near future. Investor outreach is very important to Napco, and I'd like to thank all those folks that assist us in these types of events.

Later this month, we will be attending Needham's 19th Annual Tech, Media, and Consumer conference in New York City. The Bank of America Industrial Conference, also in New York City. The 24th Annual B. Riley Institutional Investor Conference in Beverly Hills, California. The Craig-Hallum 21st Annual Institutional Investment Conference in Minneapolis, and TD Cowen's 52nd Annual Technology, Media, and Telecom Conference in New York City. We've also been invited to the Robert W. Baird Consumer Tech and Services Conference this June in New York City, as well as the Wells Fargo Industrial Conference in Chicago. We're also thrilled to have D.A. Davidson added to our prestigious list of brokerage firms providing research coverage on our company. With that out of the way, let me turn the call over to Dick Soloway, Chairman and CEO of Napco Security Technologies.

Dick, the floor is yours.

Richard L. Soloway: Thank you, Fran. Good morning, everyone, and welcome to our conference call. We appreciate your participation today as we review our fiscal Q3 2024 performance. We are thrilled to announce record sales of $49.3 million for this quarter, marking our 14th consecutive quarter of achieving record sales. Our recurring revenue subscription service continues to exhibit robust growth, with an annual prospective run rate reaching $81 million based on April 2024 recurring revenues. The balance sheet remains strong with cash balances reaching $87.5 million, a 31% increase over the level recorded on June 30, 2023. We have no debt. Our strategic focus continues to capitalize on key industry trends, including wireless fire and intrusion alarms, driving recurring revenue services, school security solutions, enterprise access control systems, and architectural locking products.

At Napco, our management team remains committed to prioritizing growth, profitability, and returns on equity while effectively managing costs. These metrics are critical to us and our shareholders, reflecting our dedication to executing our business strategy and aligning our interests with those of our shareholders. Now I'd like to hand the call over to our newly appointed President, Chief Operating Officer and Chief Financial Officer Kevin Buchel, who will provide an overview of our fiscal third quarter results. Following Kevin's remarks, I will return to delve deeper into our strategies and market outlook. Kevin?

Kevin S. Buchel : Thank you, Dick, and good morning, everybody. Net sales for the three months ended March 31, 2024, increased 13% to a quarterly record $49.2 million, and that compares to $43.5 million for the same period a year ago. And net sales for the nine months ended March 31, 2024, increased 10% to a nine month record $138.5 million, as compared to $125.3 million for the same period a year ago. Recurring monthly service revenue continued its strong growth, increasing 29% in Q3 to $19.5 million as compared to $15.1 million for the same period last year. And recurring monthly service revenue for the nine months ended March 31, 2024, increased 26% to $55.4 million as compared to $43.8 million last year. And our recurring service revenues now have a prospective annual run rate of approximately $81 million based on April 2024 recurring revenues.

And that compares to $76.5 million, which is based on January 2024 recurring service revenues, which we’ve reported back in February. Equipment sales for the quarter increased 5% to $29.7 million, as compared to $28 million last year. Equipment sales for the nine months increased 2% to $83.1 million, as compared to $81.5 million for the same period last year. These increases were primarily due to revenue increases in Alarm Lock brand door locking products and Marks brand door locking products, as partially offset by a decrease in intrusion and access to long products. Of note is StarLink radio sales sequentially increased overall sales in Q2 by 2% and were 66% higher than such sales in Q1. Gross profit for the three months ended March 31, 2024, increased 24% to $26.5 million, with a gross margin of 54%.

And that compares to $21.3 million, with a gross margin of 49% for the same period last year. Gross profit for the nine months increased by 47% to $73.9 million with a gross margin of 53% as compared to $50.2 million with a gross margin of 40% a year ago. Gross profit for recurring service revenue for the quarter increased 31% to $17.9 million with a gross margin of 92% that compares to $13.7 million with a gross margin of 90% last year. Gross profit for recurring service revenues for the nine months increased 28% to $50.1 million with a gross margin of 91%. And that compares to $39 million with a gross margin of 89% last year. Gross profit for equipment revenues in Q3 increased by 12% to $8.6 million with a gross margin of 29% as compared to $7.6 million with a gross margin of 27% last year.

Gross profit for equipment revenues for the nine months increased by 113% to $23.8 million with a gross margin of 29%. And that compares to $11.2 million with a gross margin of 14% for the same period last year. The increase in both gross profit dollars and gross margin for recurring revenue for the three months and the nine months ended March 31, 2024, was primarily the result of the previously mentioned increase in recurring revenues, as well as a greater proportion of those revenues being generated by our StarLink Fire radios, which generate higher monthly service charges than the other StarLink radios. The increase in both gross profit dollars and gross margin for equipment revenues for both the three months and the nine months ended March 31, 2024, primarily resulted from the aforementioned increase in equipment revenues, as well as a favorable shift in product mix to locking products, which typically have higher gross margins than intrusion products.

And another factor in the increased gross profit and gross margin for equipment revenue is there were lower costs of certain components this year as compared to last year when we were still feeling the effects of the global supply chain crisis. Research and development costs for the quarter increased 19% to $2.8 million or 6% of sales as compared to $2.3 million or 5% of sales for the same period a year ago. Research and development costs for the nine months ended March 31, 2024, increased 11% to $7.7 million or 6% of sales as compared to $7 million or 6% of sales for the same period a year ago. The increase for the three months and the nine months primarily resulted from compensation increases and additional staff. Selling general and administrative expenses for the quarter increased 10% to $9.2 million or 19% of net sales as compared to $8.4 million or 19% of net sales for the same period last year.

Selling general and administrative expenses for the 9 months ended March 31, 2024, increased 6% to $26.3 million or 19% of net sales, as compared to $24.7 million, or 20% of sales for the same period last year. The increases in SG&A for the three months was primarily due to increases in legal expenses, as well as additional expenses relating to the enhancing of our internal control systems, and that was offset by decreases in advertising expenses. The increase for the nine months was primarily due to legal and accounting fees, as well as costs associated with enhancing our internal control systems. The decrease in SG&A as a percentage of net sales for the nine months was due to the increase in net sales being proportionately larger than the increase in SG&A expenses.

Operating income for the quarter increased 38% to $14.5 million as compared to $10.5 million for the same period last year. Operating income for the nine months ended March 31, 2024 increased 115% to $39.9 million as compared to $18.5 million for the same period last year. Interest and other income for the three months increased 46% to $637,000 as compared to $437,000 last year. And for the nine months, interest and other income increased by [247%] (ph) to $1.8 million compared to $521,000 last year. The increases for both the three months and the nine months ended March 31, 2024, was due to increased interest income from certificates of deposits. The provision for income taxes for the three months increased by $507,000 to $1.9 million with an effective tax rate of 13%, and that compares to $1.4 million with an effective tax rate of 13% last year.

And for the nine months, the provision for income tax has increased by $2.9 million to $5.4 million with an effective tax rate of 13%, and that compares to $2.5 million with an effective tax rate of 13% last year. The increase in the provision for both the three months and the nine months ended March 31, 2024 was due to increases in taxable income. Net income for the quarter increased 38% to a quarterly record $13.2 million, or $0.36 per diluted share, and that compares to $9.5 million, or $0.26 per diluted share for the same period last year, and that represents 27% of net sales. Net income for the nine months ended March 31, 2024 increased 119% to a nine-month record of $36.3 million, or $0.98 per diluted share and that compares to $16.6 million or $0.45 per diluted share for the same period last year and represents 26% of net sales.

Adjusted EBITDA for the quarter increased 37% to a quarterly record $15.6 million, or $0.42 per diluted share, and that compares to $11.3 million, or $0.31 per diluted share for the same period a year ago, and equates to an adjusted EBITDA margin of 32%. Adjusted EBITDA for the nine-month ended March 31, 2024, increased 105% to a nine-month record $43.5 million, or $1.18 per diluted share. And that compares to $21.3 million, or $0.57 per diluted share for the same period last year, and it equates to an adjusted EBITDA margin of 31%. Now moving on to the balance sheet. As of March 31, 2024, the company had $87.5 million in cash and cash equivalents, other investments, and marketable securities, and that compared to $66.7 million as of June 30, 2023, and that's a 31% increase.

The company had no debt as of March 31, 2024. Cash provided by operating activities for the nine months ended March 31, 2024, was $31 million. That compared to $12.4 million for the same period last year. And working capital as defined as current assets less current liabilities was $138.3 million on March 31, 2024, and that compared with working capital of $111.7 million at June 30, 2023. Current ratio, defined as current assets divided by current liabilities, was 7.9 to 1 at March 31, 2024, and 6.7 to 1 at June 30, 2023. And CapEx for the quarter was $361,000, and that compared to $1.7 million for the prior year period. That concludes my formal remarks, and I would now like to return the call back to Dick.

Richard L. Soloway : Kevin, thank you. Our fiscal year 2024 is going exceptionally well, with fiscal Q1, Q2, and now Q3 achieving record-breaking results fueled by recurring revenues enabled by our hardware innovations. It's also worth noting all our growth is organically driven. Recurring revenue continued its strong growth, increasing by 29% to Q3 and representing 40% of total company revenues and our net income of $13.2 million and adjusted EBITDA of $15.6 million. [We're] (ph) all quarterly record breakers. Equipment revenue improved, growing 5% over last year for the quarter, with gross margins on such sales increasing to 29% from 27% last year. Radio sales in Q3 improved over Q2, increasing by approximately 2% and 66% over the Q1 level.

While such sales were still below the radio sales for Q3 last year, when the 3G Verizon Sunset was upon us, the increase over the last two quarters is a good sign. We expect radio sales to continue to be a key contributor to our hardware sales and continue to lead to the strong growth of our highly profitable recurring revenues. Gross margin for recurring revenues continue to get better, now at 92%. So 40% of our revenue generated a gross margin of 92%. That's an amazing stat and we are very proud of it. We are also very pleased with the increase in the recurring revenue annual run rate, which increased to $81 million based on April 2024 recurring revenues, compared to an annual run rate of $76.5 million based on January 2024 recurring revenues.

Our Alarm Lock and Marks locking hardware lines continue to see growth in schools and classroom security, healthcare and retail loss prevention, as well as multi-family dwellings, commercial and residential applications, growing approximately 16% compared to last year and approximately 10% compared to Q2. Locking sales once again represented over 60% of hardware sales in Q3. We continue to remain focused on further penetrating each of these markets. Net income of $13.2 million, besides being a Q3 record breaker, represents 27% of net sales. Adjusted EBITDA of $15.6 million, also a Q3 record, represents an adjusted EBITDA margin of 32%. We believe we are well on our way to achieving our adjusted EBITDA margin target of approximately 45% on or about the end of fiscal 2026, as our targeted equipment sales reached $150 million and our recurring revenue service level reaches $150 million.

Our balance sheet continues to get stronger with cash and cash equivalents, other investments, and marketable securities increasing 31% to $87.5 million as compared to $66.7 million at June 30, 2023. We have no debt, and the net cash provided by operating activities for the nine months ending March 31, 2024 was also strong, amounting to $31 million. There are millions of commercial buildings of all types, such as offices, hospitals, schools, coffee shops, restaurants, as well as residences that still require upgrades from legacy copper phone lines. Our StarLink line of radios have the widest coverage range of both AT&T and Verizon with rich feature sets, which our dealers really love. As we have previously stated, the constraints of the supply chain have abated, and we believe in the coming months and quarters that combined with new distribution sources we have developed will begin to invigorate our equipment sales and association margins to even higher levels than any time before.

As we have stated previously, the higher -- the hardware sales, the more overhead absorption occurs in our Dominican Republic factory, and this expands our gross margins. And as indicated in this morning's earnings release, the company will be issuing a quarterly dividend of $0.10 per share to be paid on June 24, 2024, to shareholders of record on June 3, 2024. We are proud of this program as the Napco team has created such tremendous shareholder value over the years that this is another way for us to distribute profitable growth to our investors. Now some comments about the recent ISC West trade show we attended last month in Las Vegas, which attracted over 30,000 security professionals. These are dealers and installers and integrators to buy security products.

Napco made a significant impact with our prominently positioned new booth designed and shown at the show entrance. The event was attended by key distributors, dealers, integrators, and competitors alike. Napco's management, sales leadership, and tech team left the conference with a positive outlook on our competitive position in the domestic security space. Our favorable impression was reinforced by Napco's innovative culture, ongoing new product development, strong brand identity, and the industry's steady growth trajectory. Customer interest levels peaked and Napco received a record number of sales leads, driven in part by the successful launch of several highly distinctive products, including Napco's popular Marks USA Panic Exit Hardware line, expanded to include lockdown models, the brand new NFC solution, i.e., our [locks] (ph) built-in access control readers for use with secure mobile credentials stored in the wallet, utility of users, smartphones, and one that got the most attention, the StarLink Fire Max 2, the next generation of our RMR, recurring monthly revenue, producing 5G commercial fire series alarm communicators.

This solution addresses the transition away from vanishing POTS lines for millions of commercial fire alarm panels. The Fire Max 2 with its dual SIM technology, leveraging Verizon or AT&T signal strengths, allows dealers to streamline their inventory. The Max 2 boasts a true end-to-end UL864 listed solution featuring a UL864 listed triple protected network operating center headquartered in the US, for optimal response times. Also, Napco's Prima all-in-one system, launched late last year, continues to gain traction and excitement, extending beyond the traditional Napco dealer base. Prima now features more emergency condition detection and all weather cameras at a competitively priced price point enhancing both equipment capabilities and RMR potential.

In the last nine months of fiscal 2024, we have generated strong sales and profitability. We believe we can continue this growth well into the future as we work toward our fiscal 2026 goals and beyond. I'd like to thank everyone for their support and for joining us in this exciting future we have. Our formal remarks are now concluded, and we'd like to open the call for the Q&A session. Operator, please proceed.

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