AeroVironment, Inc.

Good afternoon, ladies and gentlemen, and welcome to AeroVironment's second quarter fiscal year 2021 earnings call. This is Stephen Gitlin, Chief Marketing Officer and Vice President of Investor Relations for AeroVironment. At this time, all participants are in a listen-only mode. We will conduct a question and answer session after management's remarks. As a reminder, this conference is being recorded for replay purposes. Before we begin, please note that on this call, certain information presented contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include without limitation any statement that may predict, forecast, indicate, or imply future results, performance, or achievements, and may contain words such as believe, anticipate, expect, estimate, intend, project, plan, or words or phrases with similar meaning. Forward-looking statements are based on current expectations, forecasts, and assumptions, that involve risks and uncertainties, including, but not limited to, economic, competitive, governmental, and technological factors outside of our control that may cause our business strategy or actual results to differ materially from the forward-looking statements. For further information on these risks, we encourage you to review the risk factors discussed in Air Environment's periodic reports on Form 10-K and Form 10-Q filed with the SEC and the Form 8-K filed today with the SEC, along with the associated earnings release and the safe harbor statement contained therein. This afternoon, we also filed a slide presentation with our earnings release and posted the presentation on our website at avinc.com in the events and presentation section. The content of this conference call contains time-sensitive information that is accurate only as of today, December 8th, 2020. The company undertakes no obligation to make any revision to any forward-looking statements contained in our remarks today or to update them to reflect the events or circumstances occurring after this conference call. Joining me today from our environment, our President and Chief Executive Officer, Mr. Waheed Nawabi, and Senior Vice President and Chief Financial Officer, Mr. Kevin McDonald. We will now begin with remarks from Waheed Nawabi. Waheed?

Thank you, Steve. Welcome to our second quarter fiscal year 2021 earnings conference call. Before we discuss our business achievements in the second quarter, I would like to address our acquisition of the German robotics company Telerob, which we announced a few moments ago and is summarized on slide number three of our earnings presentation. Telerob is a leader in advanced ground robotic systems with a strong global customer base and a best-in-class portfolio of unmanned ground vehicles, or UGVs, serving defense, first response, homeland security, and other markets. This is an outstanding, growing business in its own right that is poised for further success in the United States and globally, and we're excited for them to join our team to support our customers and expand our global footprint. At Air Environment, our goal is to drive superior shareholder value by developing and maintaining leadership positions in intelligent, multi-domain robotic systems for defense, civil, and commercial customers. Our broad portfolio includes unmanned aircraft and tactical missile systems that are aerial robots with increasing levels of intelligence and autonomy that derive from our ongoing investments. Telerob's outstanding team, best-in-class product portfolio, long track record of success, and extensive customer base represent an ideal complementary set of capabilities that deliver the ground element of our multi-domain portfolio. Telerob was founded more than 25 years ago, and its management team has extensive robotics experience that dates back to the 1970s. The Telerob team has built an impressive list of customers around the world by applying their innovative robotics technologies to multiple growing applications and end markets. With Telerob as part of AeroVironment, we will offer a broader set of solutions and capabilities to our customers. Once the transaction closes, we plan to integrate our technology roadmaps to develop aerial and ground system solutions that deliver more capability and more complex operating environments to customers in defense and other applications. With this powerful multi-domain solution offering, we will introduce Air Environment to Telerob's existing customer base, which spans 45 nations and introduced Telerob's unique portfolio to AeroVironment customers in the U.S. and 50 nations. To this point, in November, we submitted a joint proposal with Telerob to the U.S. Air Force for a large new multi-year explosive ordnance disposal robotics program where AeroVironment will be the prime contractor. The Air Force has not disclosed the potential value of this program, but it is significant. We will also pursue additional significant domestic UGV opportunities with the United States Navy, Marine Corps, Air National Guard, and various police forces. Specific international opportunities include UGVs for airport security in the Middle Eastern Allied Nation, and multiple UAS programs with the German Federal Ministry of Defense, which a local presence would support. As you can see, the opportunities between our two teams are numerous and have the potential to produce significant value for AeroVironment shareholders in the near and long term. Upon German government clearance of the transaction, which we expect by spring 2021, Telerob will operate as a wholly owned subsidiary of AeroVironment. We plan to retain the entire Telerob team, We expect this acquisition to be GAAP EPS accretive in two years and non-GAAP EPS accretive in fiscal year 2022, excluding intangible amortization and integration costs. Under the terms of the agreement, we are investing approximately $45.4 million in cash plus a three-year milestone-based earn-out of up to $7.3 million. We will also pay off $9.4 million in debt from Telerob at closing. Our acquisition of Telerob supports our objectives of deploying our strong balance sheet to grow our business, expanding the value proposition of our offerings, and creating long-term shareholder value. I look forward to sharing more with you as we proceed toward closing. Now I will summarize our second quarter results. On today's call, I will emphasize three key messages included on slide number four of our earnings presentation. First, our team continues to deliver strong results during the unprecedented and challenging COVID-19 pandemic, keeping us on track to achieve our fiscal year 2021 objectives. Second, we achieved significant milestones during the quarter in our key growth initiatives within tactical UAS, tactical missile systems, and HAPs. And third, we are successfully executing our long-term growth strategy supported by our strong balance sheet while delivering significant value to our shareholders. Now let's review our financial performance in the quarter, which is outlined on slide number five of our earnings presentation. We delivered second quarter revenue of $92.7 million, an increase of 11% year-over-year, and consistent with our expectations. Earnings for diluted share of $0.09 declined from $0.31 in the prior year, primarily due to an accounting impairment related to our portion of a write-down in HAPS Mobile's Inks Equity Investment and Loon LLC. Kevin will provide more information on this item in his prepared comments. Non-GAAP earnings for diluted chair for the second quarter was 48 cents, an increase of 14 cents or 41% year over year. Now I will review our business achievements in the second quarter. First, our small unmanned aircraft systems product line represented 63% of total revenue in the second quarter. and we remain the leader in the global market for small UAS. We continue to partner with industry leaders to deliver more valuable solutions to our customers. In October, we announced a contract with Viasat to develop an on-demand type 1 encrypted communications network delivered by small UAS for the U.S. Army. This is another example of our applied innovation creating greater value for our customers and shareholders. Next, our tactical missile systems product line represented about 20% of second quarter revenue. We continue to execute against the large Army LMAMS contract with our Switchblade 300 during the quarter. In recent years, DoD procurement budgets have provided strong funding for Army LMAMS procurement. This funding has driven programmatic adoption of Switchblade 300 via the U.S. Army. In its fiscal year 2021 procurement request, the U.S. Department of Defense budget proposed about $85 million of funding to support the Army LMAMS program. Senate and House of Representatives appropriations committees recently proposed reducing or eliminating LMAMS funding in government fiscal year 2021. partly because significant funding remains from prior budgets for LMAMS procurement. We expect the entire $85 million to be removed by the time the budget is enacted into law, but will not know for certain until then. It is important to note that a new multi-year competitive LMAMS program is planned to begin after fiscal year 2021. We believe we are well positioned to compete for and secure that award. In October, we unveiled our Switchblade family of loitering missile systems, including our new Switchblade 600, which is the larger variant we have previously discussed. Switchblade 600 weighs 50 pounds, carries a much larger warhead than Switchblade 300, is capable of more than 40 minutes of endurance, and delivers precision effects against armored vehicles and other hardened targets over greater distance, all while maintaining its portability and patented wave-off and recommit capabilities. As part of the Switchblade 600 system, we also introduced a new tablet touch control that improves the user experience and makes training even faster and easier. With Switchblade 600, we are targeting a tactical missile market segment valued at more than $1 billion annually, based on current U.S. DOD procurement of Hellfire, Javelin, and Troll missiles. Developed in part with customer funding, we believe that Switchblade 600 is well-positioned for the U.S. Marine Corps Organic Precision Fires Mounted, or OPFM, program. Supporting our competition for OPFM, we received a $5 million award late last fiscal year and another $1 million award in the second quarter. Importantly, these funds are separate and in addition to customer funding we have received for Switchblade 600 development. We are now one of four suppliers who will compete as soon as this February for a down select award. That award would fund continued development that could lead to low-rate production and then volume procurement over a multi-year period. Moving now to HAPS, which represented 12% of second quarter revenue, we achieved a significant project milestone in September when the SunGlider Solar HAPS UAS soared in the stratosphere for hours during a 20-hour mission at Spaceport America in New Mexico. During this successful test flight, we also demonstrated broadband connectivity via an LTE payload carried on board the SunGlider. In fact, we conducted video calls from New Mexico that connected us to Tokyo, Silicon Valley, and Washington, D.C. using a standard Android smartphone. The quality of the video call was as good, if not better, than most video meetings I have participated in from my office. This milestone offers a glimpse into the exciting possibilities HAPS represents for connecting the billions of people around the world who lack basic broadband access. We remain confident that this partnership would deliver strong returns for our shareholders. We expect the HAPS program to transition to a testing and certification phase toward the end of our current fiscal year 2021. We expect this testing and certification phase to continue for multiple years until we transition to production and commercial business launch. Now I will turn to the impact of the COVID-19 pandemic on our business. We continue to experience some delays in customer contracting decisions as our domestic and international customers operate in unprecedented remote work situations. We're also experiencing some delays in limited areas of our supply chain resulting from the impact of the pandemic. However, our team's accomplishments in the important milestones they achieved during the quarter are particularly noteworthy given the challenges of the COVID-19 pandemic. The majority of our team members continue to work remotely, and I am incredibly proud of the way they have continued to support each other and our customers. All of us at Air Environment are united in our commitment to delivering strong operating and financial results while maintaining a safe work environment. This was a solid quarter of achievements. We're very excited about our acquisition of Telerob, and the progress toward our multi-domain intelligent robotic portfolio it will drive. And as you can see, we're not standing still. We continue to invest in the future-defining technologies that will derive higher levels of autonomy and capability for our customers and greater returns for our shareholders. Now I will turn the call over to Kevin MacDonald for a summary of second quarter financials. Kevin?

Thank you, Waheed. Today I will be reviewing the highlights of our second quarter and year-to-date financial performance. I'll be referring to both our press release and earnings presentation available on our website. Similar to last quarter, I will only be addressing the key financial metrics in my remarks and leaving some of the details to the press release and earnings presentation. Revenue for the second quarter of fiscal 2021 was $92.7 million, an increase of 11% from the second quarter of fiscal 2020 revenue of $83.3 million. The breakdown of revenue by product area is contained on slide six of the quarterly earnings presentation. During the quarter, we showed strong performance in our TMS product line, which was up 139% from the same period last year. This was partially offset by lower half mobile service revenue and lower small UIS product revenue. Revenue for the first half of fiscal 2021 was $180.1 million. an increase of 6% from the first half of fiscal 2020 revenue of $170.2 million. Again, the increase in revenue was largely due to an increase in TMS revenue, partially offset by reduced small UAS product revenue. Turning to gross margin, slide seven of the quarterly earnings presentation shows our product service mix and overall gross margin trends over the past five quarters. Gross margin for the second quarter was $40.9 million, or 44% of revenue compared to $35.2 million or 42% of revenue for the second quarter last fiscal year. Gross margin for the first half of fiscal 2021 was $76.3 million or 42% of revenue compared to $76.4 million or 45% of revenue for the first half of fiscal 2020. As we indicated last quarter, we do expect second half margins to be lower than the first half margins due to a less favorable product mix. Now I will turn to operating expense. SG&A expense for the second quarter was $15 million or 16% of revenue compared to SG&A expense of $16.3 million or 20% of revenue for the second quarter of FY20. SG&A expense for the first half of fiscal 2021 was $27 million or 15% of revenue compared to $29.9 million, or 18% of revenue for the first half of fiscal 2020. The lower spend in current quarter and year-to-date SQ&A is in large part related to the reduction in travel and trade show expenses resulting from COVID-related restrictions. R&D expense for the second quarter was $12 million, or 13% of revenue, compared to R&D expense of $10.9 million, or 13% of revenue for the second quarter FY20. R&D expense for the first half of fiscal 2021 was $23.1 million or 13% of revenue compared to $19.6 million or 11% of revenue for the first half of fiscal 2020. We continue to make significant R&D investments. These investments include enhancements to current products, new variants within our product lines, and product additions. We believe these investments will enable our continued leadership in the small UAS space and drive growth in both small UAS and TMS product lines in the near future and longer term. Before I talk about the bottom line, I'd like to discuss the impact of the HAPS Mobile JV on our income statement. As a reminder, we own approximately 7% of the HAPS Mobile joint venture. In the second quarter of fiscal 2021, we recorded a loss of $9.5 million related to our investment in the HAPS Mobile JV. This includes an $8.4 million impairment loss, which represents our proportionate share of the HAPS mobile write-down of its investment in Alphabet Loons subsidiary. In the first half, we recognized a total of $10.8 million loss on our income statement related to our HAPS mobile investment, compared to a loss of $2.2 million for the first half of fiscal 20. Finally, I should note that our accumulated losses in the JV have resulted in the carrying amount of our investment on the balance sheet to be zero as at the end of the second quarter, and therefore we will not recognize any further losses related to our investment to date in the HAPS Mobile JV in future periods. Looking at the bottom line, net income attributable to Arrow Environment for the second quarter of fiscal 2021 was $2.1 million, or $0.09 for diluted share compared to $7.5 million, or 31 cents per diluted share for the second quarter of fiscal 2020. The $5.4 million reduction in net income was largely a result of our proportionate portion of the HAPS mobile impairment of its investment in Loon of $8.4 million, higher tax revision of $1.4 million, increased R&D investments of $1.1 million, and reduced interest income of $1.2 million. These reductions were partially offset by higher gross margins of $5.7 million and lower SG&A spending of $1.3 million. For the first half of fiscal 2021, net income attributable to Arrow Environment was $12.2 million, or 50 cents per diluted share, compared to $24.6 million, or $1.2 per diluted share, for the first half of fiscal 2020. The $12.4 million reduction in net income is, again, primarily due to the $8.4 million loss from our portion of the HAPS mobile impairment of its investment in Loon, together with higher R&D spending of $3.5 million and lower interest income of $2.3 million, partially offset by lower SG&A spending of $2.9 million. In terms of adjusted EPS, slide 12 shows the reconciliation of GAAP and adjusted or non-GAAP diluted earnings per share. Non-GAAP diluted earnings per share for the second quarter of fiscal 2021 was $0.48 per diluted share and excludes $0.35 for diluted share for our portion of the HAPS mobile impairment of its investment in Loon, and $0.02 for diluted share of intangible amortization expense associated with our Pulse aerospace acquisition, and an additional $0.02 for diluted share for acquisition-related expenses. Non-GAAP diluted earnings per share for the second quarter of fiscal 2020 was $0.34 for diluted share, and excludes $0.03 per diluted share of deal integration costs and intangible amortization expenses associated associated with our Pulse Aerospace acquisition. For the first half of fiscal 2021, non-GAAP diluted earnings per share was $0.91 for diluted share and excludes the $0.35 related to our portion of the HAFSA mobile impairment of its investment in Loon, as well as $0.06 for diluted share of acquisition-related and amortization expenses. Non-GAAP diluted earnings per share for the first half of fiscal 2020 was was $1.08 per diluted share and excludes $0.06 per diluted share related to deal integration costs and intangible amortization expense associated with our acquisition of Pulse Aerospace. Turning to the balance sheet, we continue to maintain a strong cash position. Cash, cash equivalents, and investments at the end of the second quarter of fiscal 2021 totaled $368.2 million, an increase of $50.5 million from the end of fiscal 2020. Total cash flow from operating activities during the first half of the year was $58.6 million, of which $25.3 million was a result of working capital improvements and the remainder from operating activities. The working capital improvement came primarily from lower accounts receivables and unbillables, partially offset by lower accounts payable accrued liabilities and higher inventories. In terms of capital expenditures, we spent $6.1 million during the first half of fiscal 2021. Next, I'd like to highlight some of our backlog metrics. Our funded backlog at the end of Q2 was $130.6 million, a decrease of $16.1 million from the second quarter of fiscal 2020, and a decrease of $77.5 million from the fourth quarter of fiscal 2020 backlog of $208.1 million. The backlog decline is in part due to delays in orders as a result of the COVID impacts. In terms of fiscal 2021 visibility, which is highlighted on slide eight of the earnings presentation. As of today, we have year-to-date revenue in fiscal 2021 of $180 million. Second quarter ending backlog that we anticipate to execute in fiscal 2021 of $120 million. Q3 quarter date bookings that we anticipate to execute in fiscal 2021 of $4 million. Unfunded backlog from internally funded contracts that we anticipate to recognize revenue during the balance of the year. of $26 million. This adds up to $330 million, or 83% of our fiscal 2021 midpoint revenue guidance range. Now I'd like to turn it back to Waheed.