Lantronix, Inc.

Good afternoon, and welcome to the Lantronics Third Quarter Fiscal 2024 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw your question, please press star, then 2. Please note, this event is being recorded. I would now like to turn the conference over to Jeremy Whitaker, Chief Financial Officer. Please go ahead.

Good afternoon, everyone, and thank you for joining our quarterly earnings call. Joining me on the call today is our President and Chief Executive Officer, Silio Asare. A live and archived webcast of today's call will be available on the company's website. In addition, you can find the call-in details for the phone replay in today's earnings release. During this call, management may make forward-looking statements which involve risks and uncertainties that could cause our results to differ materially from management's current expectations. We encourage you to review the cautionary statements and risk factors contained in the earnings release, which was furnished to the SEC today and is available on our website. and in the company's SEC filings, such as its 10-K and 10-Qs. Lantronics undertakes no obligation to revise or update publicly any forward-looking statements to reflect future events or circumstances. Please refer to the news release and the financial information in the investor relations section of our website for additional details that will supplement management's commentary. Furthermore, during the call, the company will discuss non-GAAP and financial measures. Today's earnings release, which is posted in the investor relations section of our website, describes the differences between our non-GAAP and GAAP reporting and presents reconciliations for the non-GAAP financial measures that we use. With that, I'll now turn the call over to Salil.

Thanks, Jeremy, and thank you, everyone, for joining us on the call today. I'm pleased to report record revenue of $41.2 million for the third quarter of fiscal year 2024, a year-over-year increase of 25% compared to the same period of 2023, and a sequential increase of 11% compared to the December quarter. Non-GAAP EPS in fiscal year Q3 grew 88% compared to the same period last year, demonstrating leverage in our operating model as revenue improves. Jeremy will provide you with more details and analysis on the third quarter financial results shortly. As I have recently completed five months with Lantronics, and having spent a lot of time with our key customers, strategic partners, and most importantly, the Lantronics team, I'm very optimistic about the future given our strong products and solutions, our growing customer engagement, and our improving EBITDA and solid balance sheet. We see both compute and connect technologies converging at the edge of the network, and that's exactly where we play with our core capabilities and solutions. We have a deep understanding of edge compute requirements and provide our customers with complete solutions including hardware, software, design services, and our perception IoT platform for device management and application integration. Our focus going forward will be on three key vertical segments, including smart cities, automotive infotainment, and enterprise. We estimate the server-available market the company is addressing in the three different verticals is 8.5 billion, and we expect compound annual growth rate over the next few years to be approximately 12%. Let me give you an example in each of these verticals. In smart cities, we have the opportunity to drive revenue growth over a couple of key areas, namely smart grid and critical infrastructure. We estimate the serviceable addressable market of the Smart Cities vertical to be approximately 3.9 billion and the compound annual rate over the next few years to be approximately 12%. In the Smart Grid sector, we see continued momentum with our lead Smart Grid customer where we received our first follow-on order for the first half of fiscal year 25 as this customer is transitioning from design and initial production to a run-rate business. Our relationship continues to deepen with our lead customer, and we are engaged at all levels of the organization. We expect that as they expand their market beyond the current rollout and into broader applications and geographies with the QED device and its variants, we will continue to partner with them to address these needs. I expect this to be a long-term, mutually beneficial engagement. Now, moving to critical infrastructure. A great example of this sector is a recent design win with a Tier 1 telecom customer who's using our Fox telematics device coupled with our Perception SaaS solution for monitoring and managing cell site power generators. We are replicating this design win with multiple generator makers who have similar needs. Looking further out, the same solution can be extended to applications at construction sites, hospitals, and other such locations. In automotive infotainment, the trend is clearly towards pillar-to-pillar large interactive displays, with the digital cockpit becoming a highly valued part of the vehicle. We estimate the current SAM in the automotive infotainment to be approximately 900 million, and the annual growth rate to be about 21%. Our IP resides in the automotive infotainment compute system. We developed for TOG, the Turkish-based automotive OEM, and we are seeing strong interest from Tier 2 and Tier 3 automotive OEMs, as well as manufacturers of commercial trucks motorcycles, and heavy machinery. Let me also add an update on TOG. They recently unveiled their second vehicle, the T10F sedan, and our embedded compute solution is designed into the vehicle's digital cockpit. Additionally, they have told us they plan to start shipping vehicles in Germany in the calendar year 2025. We continue to collaborate and innovate with them as they expand their business. In the enterprise vertical, we are focused on out-of-band video conferencing and security and surveillance. We estimate the served available market of our enterprise vertical opportunity to be approximately $3.7 billion, growing at about 9% annually over the next few years. Let me add some color on one of our products addressing the growing need for out-of-band management. Out-of-band solutions provide alternative paths to access servers, networks, and routers when the primary access is unavailable. Providing uptime and resilient networks is important for many sectors, including banks, government, healthcare, and the retail sector. We provide not only hardware, but also management software, ongoing support, and warranty services. In summary, we are focused on three growing, attractive vertical markets with a combined served available market of $8.5 billion and growing. Our business teams are actively targeting new customer design wins across the three verticals and all our major geographic areas. I remain excited about the growth opportunity ahead for Landtronics, especially given our broad portfolio, IP, and great customer base. In summary, we have a great company and we are building on strength. Moving forward, we will become an even stronger company given the technology and talent we have in place, driving profitable growth and shareholder value. With that, I will now turn the call over to Jeremy our Chief Financial Officer, for his comments of fiscal year Q3 and guidance for the next quarter. Jeremy?

Thank you, Salil. Now I will provide the financial results and some business highlights for our third quarter of fiscal year 2024 before commenting on our financial outlook for the fourth quarter of fiscal 2024. For FQ3 2024, we reported revenue of $41.2 million an all-time record for Lantronics. Revenue was up 11% and 25% from the sequential and year-ago periods, respectively. IoT system solutions revenue increased by 16% and 91% from the sequential and year-ago periods, respectively. The increase was primarily driven by the continued ramp of production shipments for our lead smart grid customer. In addition, the year-over-year increase was impacted by strong sales from our out-of-band management products. For the remainder of the fiscal year, we expect continued growth from our IoT system solutions. Sequentially, embedded IoT solutions revenue was up 6% with continued contribution from our lead automotive customer. As expected, we experienced a year-on-year decline in embedded IoT solutions as the year-ago period included a large enterprise video customer design that ended in FQ4 2023. In FQ3 2024, software and services revenues were down from the year-ago period, primarily a function of the completion of two large design services projects that transitioned into production during the first half of fiscal 2024. Gap gross margin was 40.1% for FQ3 2024, compared to 40.6 percent in the prior quarter and 44.4 percent in the year-ago quarter. Non-GAAP gross margin was 41 percent for FQ3-2024, compared to 41.6 percent in the prior quarter and 45.1 percent in the year-ago quarter. The decline in gross margin percent was primarily a function of a change in product mix driven by the product ramp with our smart, great customer. In FQ4 2024, we expect gross margins in a similar range. GAAP SG&A expenses for FQ3 2024 were $9.9 million, compared with $9.7 million in the year-ago quarter and $10.2 million in the prior quarter. GAAP R&D expenses for FQ3 2024 were $5.2 million, compared with $5.1 million in the year-ago quarter and $4.7 million in the prior quarter. In the upcoming quarter, we expect a sequential increase in OpEx related to variable compensation as revenue and earnings are expected to improve in FQ4 2024. Gap net loss was $423,000, or one cent per share, during FQ3 2024, compared to gap net loss of $3.1 million or $0.08 per share in the year-ago quarter. Non-GAAP net income doubled from the year-ago quarter, demonstrating leverage in our operating model and cost control. Non-GAAP net income was $4.2 million, or $0.11 per share, in FQ3-2024, compared to non-GAAP net income of $2.1 million, or $0.06 per share, in the year-ago quarter. Now turning to the balance sheet. We ended FQ3 2024 with cash and cash equivalents of 24.6 million, an increase of 2.5 million from the prior quarter. Working capital was 54.3 million, an increase of 2.4 million from the prior quarter. Net inventories were 40.6 million at the end of FQ3 2024, a decrease of 2.2 million from the prior quarter. Now turning to our outlook. For the fourth quarter of fiscal 2024, we expect revenue to be in the range of $46.5 to $51.5 million in non-GAAP EPS in a range of $0.12 to $0.18 per share. In summary, we are maintaining the annual guidance for fiscal 2024 that we provided during our February 2024 earnings call. At the midpoint of our FQ4-2024 outlook, we expect to deliver revenue and non-GAAP earnings for fiscal 2024 with 22% organic revenue growth and a 74% increase in non-GAAP BPS as compared to our fiscal year 2023 results. With that, we complete our prepared remarks for today, so I will now turn it over to the operator to conduct our Q&A session.

We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. The first question is from Jason Schmidt with Lake Street. Please go ahead. Hey, guys. Thanks for taking my questions.

I just want to start with the grid expertise. Curious if you could help us size this follow-on opportunity or how we should be thinking about this additional order. And relatedly, should we assume you're still sole sourced here?

Hey, Jason, Salil, thank you very much for the question. So let me take it on. As discussed in our prepared remarks, we have a steep product run with our smart grid customer during fiscal Q3 and fiscal Q4 with around $20 million of product expected to ship in the fourth quarter of the fiscal year. We expect them to remain a very important customer and the opportunity for further growth. While we don't expect $20 million a quarter to be the immediate run rate, we expect it will take some time for them to deploy the units We are currently shipping, and they demonstrate their success. We expect the business will continue to grow over time. That said, I'm very pleased that we received our first follow-on order, even though they're just at the beginning of the deployment, and the initial order is around $11 million to be delivered in the first half, as they've also gone to a run-rate sort of business. It shows the customer's commitment to the program, and as they put in more supply for a successful rollout. To conclude, we expect the overall opportunity is much larger, is what they've told us, than what we shipped in fiscal 24, and we really look forward to enabling the continued success in their rollout. Okay. Jason, what was the second half of your question?

Just that we should assume you're still sole sourced.

Yeah, to my knowledge, we are sole sourced.

Perfect. And then just as a follow-up, curious if you could update us on what you're seeing from sort of a customer inventory or channel inventory standpoint.

Yeah, so great question, right? So if I think about our business, Jason, it's in two areas. We've got a broad-based channel business, and based on the quarter that we just completed and our current forecast, it appears that our broad-based channel business is normalizing. and is poised for growth over the next several quarters. In addition, we've looked at the inventory, and it's come down from the prior quarter and is running at this historical average, so that's on the channel side. On the embedded compute, we've said in the past that there were some delays in our embedded compute. One specific couple designs that were done in fiscal 23, they were supposed to ramp in 24, but they're now gonna ramp in 25. And Jason has a great opportunity of visiting the CEO of one of the large companies that we're working with. And they're on track to start ramping in fiscal 25. So as they're successful, we'll be successful with that.

Okay. That's really helpful. Thanks a lot, guys. Thanks.

The next question is from Mike Walkley with Canaccord Genuity. Please go ahead.

Great. Thanks for the question, Jason. I guess, Salil, just on the three targeted segments that make a lot of sense given your product portfolio, as you went through the portfolio, are there some areas maybe that you're pruning that could impact fiscal 25 growth on a run rate basis?

Yeah, so we did a review with the products and our whole products, our technology. I'm really happy to report I really like where we are sitting at today. We've got a pretty broad but also deep product portfolio for the three verticals that I spoke of. As I'm looking in the future, we are going to be putting a lot more focus on products that are really going to provide us some outsized growth, embedded compute being one of them, out-of-band being one of them, some of the other ones I won't go into, but really we'll get some outsized growth out of there. Also, the products that we are focusing on pull in our perception IoT software for device management, and application integration. So in summary, as I think about the company, three verticals, transitioning, not just selling point products, but a solution that consists of our hardware, our cloud-based software, and in some areas, even our design services. So putting it all together, really bringing a holistic solution to our customers.

Okay, thanks. And just a follow-up question here. Thanks for some of the color in the Q&A on grid expertise as they go through a digestion period. Maybe, I know you're only given a quarter of the time guidance, but as you share the SAMs for the three different targeted areas, how should we think maybe about like a baseline run rate for modeling fiscal 25 given grid expertise is likely to have a decline from the strong initial shipments?

Yeah, as we mentioned in our last call, You know, we are transitioning, like most companies, to providing a quarterly as opposed to an annual guidance. And I'm really looking forward to providing you an outlook, you know, in our fiscal Q1 in the August call for our fiscal Q125. But having said that, let me be very clear. The long-term growth prospects are tremendous here. We've got a big SAM. We're growing at 12%, $8.5 billion SAM. And with our product portfolio and growing customer base, I expect over the longer term, we can grow at or really faster than the market. Great.

That's helpful. I'll pass the line.

Thank you, sir.

The next question is from Scott Sorrell with Roth MKM. Please go ahead.

Hey, good afternoon. Thanks for taking the questions. Nice job on the March quarter, and nice to see the continued growth into June. So, Leo, maybe to follow up on the Gridsford Keys outlook, it looks like they're starting to rapidly expand or create some other opportunities both within the pan-European opportunity as well as in the U.S. markets. I'm wondering if you could help us kind of size and understand the opportunity set there and the timeline that might be associated with it. Then I had a couple of follow-ups.

Yeah, so let's start with what they have told us specific to their largest customer, which is Enel. We've been told that the opportunity size there is in the hundreds of thousands of units. So we're just getting started, Scott, to that extent. They are putting in a big team in the United States to get started. They were at Distributech, and they're now going to be in the show in San Diego, where it's mainly public power companies going to be there. So it's early days for them to get started in the U.S., but we are engaged with them on many areas, and that's another area that we are really looking forward to. The NL opportunity, we understand. As they look at the US in the future, we'll be working with them as they deploy. But it's early days for the United States for them right now.

Great. And maybe to couple that into Mike's question, Looking at the design pipeline, it seems like there's a lot of opportunity going on within that right now. I think the blended CAGR was about 12% beyond with the three different verticals that you talked about and growing faster than that. I'm wondering if you could tell us how that design pipeline is looking up. And then, again, we should be thinking about 12% plus growth as a long-term growth rate, excluding any sort of I'll call it normalization in the near-term grids for T's. shipment rate?

Yeah, so, you know, the opportunity pipeline is really healthy. You know, we've reviewed it. We've reviewed it relatively often, so I'm happy to report it's very healthy. We'll continue to target large customer deals with our compute and connect, so that will give us visibility as we look at the business longer term. We are focused on the 3-3 verticals, Scott, that I talked about, and, you know, It's $8.5 billion, Sam, growing 12%. So as I said, we expect to be growing at or better than that in the longer term.

Great. And one last one, if I could. You certainly have expertise in terms of edge compute and connect. That together equals a lot of discussion around AI. So I'm kind of wondering... how that's filtering into the conversation with customers, and how you're specifically positioned for those types of opportunities. Is it driving a larger opportunity, both in terms of hardware, software, and cloud? I mean, how is that shaping up, and when do we start to see, I'll call it, a more defined impact from that? Thanks.

That's a great question, and thank you for bringing that up, Scott. So Lantronics is really integrating edge compute devices with our perception IoT software. to simplify and streamline the edge AI applications. As I think about it, that build, deploy, and accelerate. It's going to start with our compute song, which allows for rapid development. And as you know, we've got the NPU on that. And it gives you robust tools that streamline optimization. So this results in a powerful, scalable solution that accelerates the transition from prototype to production, significantly boosting efficiency and product reliability. We gave an early look at this at the embedded show in Nuremberg. As a matter of fact, our partner actually called it out, and we showed it working. It's early days, but we feel really good about it, and that was one of the areas we are focusing on as I look into the future.

Great. Thanks so much.

Thank you.

Again, if you have a question, please press star, then 1. The next question is from Christian Schwab with Craig Hallam. Please go ahead. Hey, guys.

This is Tyler. I'm for Christian. Thanks for letting us ask a couple questions. I guess first maybe, you know, the three key areas you highlighted, and, you know, I think we can kind of do some math to understand what the smart city one, you know, kind of looks like, but, you know, could you maybe frame a little bit, how much revenue you're doing. I understand you outlined the size of the markets, but how much revenue in those three areas are you currently doing?

So right now, and we report our revenue right now, so I want to not change our reporting on the call today. We report it as embedded solutions, IoT, and software and systems. So that's how we report it today, and that's how Jeremy and I are going to talk about it specifically. Going into the specific verticals, I don't want to break out the revenue right now because some of the products that we report, like our embedded compute, go into a couple of different verticals. They go into the automotive vertical, they go into the smart cities vertical, and even in the enterprise side. So it kind of goes into different verticals. I don't have it specifically for those three verticals. We specifically gave it out for what we have that we're talking about there. But, you know, the way I look at it right now, our enterprise is probably our largest. Our smart cities is our second largest, and automotive is the third one, just to kind of put it in perspective for you.

That's completely fair, and I appreciate the rank-to-order color. I guess, you know, maybe to be a little bit pointed, but I understand not trying to give guidance for next year, but, you know, with GRIP or TEE is going to be, you know, sounds like down next year with some digestion on this first order, which I think makes sense. You know, can you still grow your top line, you know, your total top line next year? And if so, comparatively, I guess, where is that offset?

Yeah, so, again, just going back to what we said, right, we've gone to a quarterly guidance. So I'm really looking forward to spending a lot of time with you guys as I get into the August call with you to give you a much better view into fiscal Q125. Having said that, let's be clear. We had a big ramp with them, excited about that, but they gave us a follow-on order, and they're deploying systems as we do forward. So as this goes to run rate, and our follow-on order is only for the first half of the fiscal year, so we're working with them for the future.

Yeah, fair enough. All right, that's all for us. Thanks, guys.

This concludes the question and answer session, and the conference has also now concluded. Thank you for attending today's presentation. You may now disconnect.