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Daktronics Inc  (NASDAQ:DAKT)
Q3 2019 Earnings Conference Call
Feb. 20, 2019, 11:00 a.m. ET

Contents:

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the Daktronics Fiscal Year 2019 Third Quarter Earnings Results Conference Call. As a reminder, this conference is being recorded today, Wednesday, February 20th, 2019, and is available on the Company's website at www.daktronics.com. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions)

I would now like to turn the conference over to Ms. Sheila Anderson, Chief Financial Officer for Daktronics, for some introductory remarks. Please go ahead, Sheila.

Sheila M. Anderson -- Chief Financial Officer

Thank you, Mark. Good morning, everyone. Thank you for participating in our third quarter earnings conference call. I would like to review our disclosure cautioning investors and participants, that in addition to statements of historical facts, we will be discussing forward-looking statements reflecting our expectations and plans about future financial performance and future business opportunities.

All forward-looking statements involve risks and uncertainties, which may be out of our control and may cause actual results to differ materially. Such risks include changes in economic conditions; changes in the competitive and market landscape, including impacts of global trade discussions and policies; resolution of litigation contingencies, management of growth, timing and magnitude of future contracts, fluctuations of margins, the introduction of new products and technologies and other important factors as noted and detailed in our 10-K and 10-Q SEC filings.

With that, let me highlight some of the financials. Orders for the third quarter of fiscal 2019 were $135 million, as compared to last year's third quarter of $126 million. Commercial orders increased in spectacular, out-of-home and on-premise niches. Live Events and orders increased related to project bookings for professional sports and colleges and universities. High School Park and Recreation increase were related to continued overall market demand, and an increase in projects for larger video systems, which includes higher sales prices. Transportation and International orders decreased compared to the same period one year-ago, primarily due to the variability and the timing and large project-based business.

For the year, orders are up by 5.9%. Commercial Transportation and High School Park and Recreation business units, all are up, offset by declines in International and Live Events. As a reminder, we derive a significant portion of our orders and sales from large dollar size projects across our business units. These large projects can cause variability in quarterly and annual comparisons. Large video and systems projects globally include installations for college and professional sports facilities, entertainment venues, transportation market applications, and per account-based business and out-of-home niche. Our business also fluctuates seasonally, based on the sports markets and construction cycles, and is dependent on the various schedules based on our customers' need.

Sales for the third quarter of fiscal 2019 were $115 million, as compared to $130 million last year. Net sales increased in Commercial, High School Park and Recreation and Transportation business units and decreased in Live Events and International business units, quarter-over-quarter. These fluctuations primarily follow the order changes to the first three quarters of each of these segments. We had expected sales to be slightly lower in the quarter as compared to last year's Q3 due to seasonality and the estimated timing of conversion of orders revenue. However, some project shipments and related sales recognition moved into the fourth quarter, causing the later quarter for sales.

On a year-to-date basis, sales were up in all business units except Live Events. During fiscal 2018, we completed a number of arenas, professional sports and college and university venues in the Live Events business unit with no similar sized projects this year during the same timeframe. Other financial comparables included gross profit as a percentage of net sales at 21.6% for the third quarter, as compared to 21.9% for a year earlier in the same quarter.

Warranty as a percent of sales decreased to 1.6%, as compared to 2.9% quarter-over-quarter. This improvement was offset by higher commodity costs due to the global trade environment, $1.8 million of expense for a lost project and a litigation claim. And lower sales levels of our capacity costs also impacted gross profit for the quarter. On a year-to-date basis, gross profit declined to 24% as compared to 24.5% due to the same reasons. Operating expenses for the third quarter of 2019 was $32.4 million compared to $32 million for the third quarter, an increase of 1.5%. On a year-to-date basis, operating expenses have increased by 2.4%, primarily due to increases in selling expenses. Selling expenses have increased due to an increased mix of international sales sold through a third-party representatives, which earned commission.

Selling expenses have increased -- excuse me, operating loss as a percentage of sales was 6.5% for the third quarter of fiscal 2019, as compared to an operating loss as a percentage of sale of 2.6% for the third quarter of fiscal 2018. For the quarter, our tax benefit is primarily attributable to a one-time release of $2.8 million, and an unrecognized tax benefits related to a lapse of statute for an uncertain tax position, and $0.5 million of a foreign tax jurisdiction valuation allowance release. Last year during the third quarter, the U.S. Tax Cuts and Job Act went into effect and included a federal rate decrease from 35% to 21%, that caused the revaluation of our deferred tax assets to create an additional $3.7 million of tax expenses last year.

As we have previously discussed, our effective tax rate can fluctuate depending on changes in tax legislation and the actual geographic mix of taxable income. Our cash and marketable securities position were $70.9 million at the end of the quarter. We generated $32.2 million of cash from operations and used $16.3 million for investments in capital for new production, system capabilities, information system, infrastructure and for an acquisition to advance our technology offerings.

We expect our capital expenditures to be less than $20 million for the fiscal year 2019. Our product backlog is $168 million, which we expect to convert to sales over the coming two to three quarters. We expect sales for the fourth quarter of fiscal 2019, to be similar to slightly lower compared to last year's fourth quarter. Of course, sales could change pending project bookings and customer schedule changes.

I'll now turn the call over to Reece Kurtenbach, our Chairman, President, and CEO for a few comments.

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

Thank you, Sheila. Good morning, everyone. Our third quarter was not profitable for the reasons described, yet our net income remained positive and similar to last year on a year-to-date basis. We also remain positive on our overall outlook on the business, and have made continued progress on releasing new offerings to our already competitive and diverse line of solutions, positioning us to better meet our customers' needs, both today and in the future.

In addition, we predict continued ongoing growth in the uses and applications of these solutions, globally. Both factors support our goal of long-term profitable growth. Specific highlights of our outlook by business units include, we expect sustained demand and growth for larger sized orders due to the adoption of video in sporting applications in the High School Park and Recreation market. In our International business unit, we believe the market's increased adoption of digital systems as well as our focus on increasing market share in our segments of Sport, Out-of-Home, Spectacular and Transportation areas will continue our growth outside the U.S. and Canada.

Transportation business in the U.S. and Canada has growth opportunities due to continued investment in the U.S. Transportation systems, the stability in federal funding and increasing advertising and self promotional application needs in mass transit facilities. In our Commercial business unit, we see opportunities for growth, mainly driven by digital opportunities in the Spectacular segment, both new and replacement systems for our account-based businesses, expansion of solutions for indoor applications, and continued replacement and new investment activity in the Out-of-Home segment.

We expect Live Event sales in the short term to be down, this business is lumpy, primarily consisting of larger contracts and can be highly competitive. Over the long term, however, we predict a similar sized business as previous years, driven by replacement cycles and new product uses. In all of our markets, we have a natural replacement cycle and strive to serve our customers with their needs today, as well as in the future. Our range of solutions and global capabilities makes us the industry's most experienced digital display provider. To support our customers over the longer term, we continually focus on developing and bringing innovative solutions and services, the different applications in each segment.

For example, we have released and continue to release newer generations of our LED video product lines to serve the growing demand in areas using these solutions. We also have differentiated this product offering, allowing customers to have more choices to meet their particular situations. We continually invest in new technologies to enhance our services and control systems offerings, and we'll continue to improve our abilities here. While we are optimistic about our long-term growth in the digital display industry, Daktronics competes in the world stage, and we are impacted by the uncertainties in today's trade, and business environments. Also in the sourcing of components to produce our products and in shipping these finished goods globally.

As we know, today's global trade environment is very dynamic, we continue to monitor the situation and evaluate ways to minimize these impacts through vendor negotiations, alternative sources, and potential price adjustments. Our teams are focused on the continued development of industry-leading solutions in global sales channels to support our goal of long-term profitable growth.

With that, I would ask the operator to please open the line for any questions.

Questions and Answers:

Operator

Of course. (Operator Instructions) And our first question comes from the line of Greg Pendy of Sidoti. Your line is now open.

Gregory Pendy -- Sidoti & Company, LLC -- Analyst

Hey guys, thanks for taking my questions. Just the first one, can you give us a little bit of color, just on the component environment, is it really just kind of -- are the trade issues creating sort of a shortage of components out there and how should we think about the time frame for when that eases?

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

Yeah, Greg, certainly the current trade environment has impacted certain duties and taxes on those components as well as many companies including Daktronics are looking how to minimize these impacts and it may involve pulling ahead orders before the next tariffs or duties might come into effect. And March 1st right now is that next real milestone and over the next few weeks as we try to understand what will happen there, that will be important to look at. When will this settle down? That's a great question, Greg. You know, a lot of that is out of all of our control, we can just continue to monitor and make the best decisions we can based on our view of what today is and what the future will be. Is that helpful?

Gregory Pendy -- Sidoti & Company, LLC -- Analyst

Okay, that was helpful. Yeah, yeah, that's helpful. And then I guess just switching gears to the other side of your gross margins, you did a really good job. It looks like on the warranty expenses coming down now within sort of your targeted range, do you just -- can you give us a little bit of color, I think a lot of this kind of dates back to something in 2016. But, when will the replacement cycles for a lot of the customers that you really took the initiative to address on the warranty issues, when do those kind of come due?

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

So, that the warranty issue that we discussed back in 2016, we think we've worked through the majority of that and that isn't as we move into our next fiscal year, isn't going to have near the impact as it has in the last few fiscal years. In general, the products that we've shipped into for say the out-of-home market, a lot of that was in the mid-odds (ph) and so those replacement cycles should be coming due on many of those products in the next few years.

Gregory Pendy -- Sidoti & Company, LLC -- Analyst

Okay, that's helpful. Thanks a lot.

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

Thank you, Greg.

Operator

And I'm not showing any further questions. I would now like to turn the call back to Reece Kurtenbach for closing remarks.

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

Thank you, and thanks everyone for participating in today's call. We wish you a happy spring and maybe a warmer weather when we meet again in June. Thank you, everyone.

Operator

Ladies and gentlemen, thank you again for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a wonderful day.

Duration: 15 minutes

Call participants:

Sheila M. Anderson -- Chief Financial Officer

Reece A. Kurtenbach -- Chairman, President and Chief Executive Officer

Gregory Pendy -- Sidoti & Company, LLC -- Analyst

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