VirTra, Inc. (NASDAQ:VTSI) Q4 2022 Earnings Call Transcript

VirTra, Inc. (NASDAQ:VTSI) Q4 2022 Earnings Call Transcript March 31, 2023

Operator: Good afternoon. Welcome to VirTra’s Fourth Quarter and Full Year 2022 Earnings Conference Call. My name is Doug, and I will be your operator for today’s call. Joining us for today’s presentation are the company’s Chairman and Co-CEO, Bob Ferris; Co-CEO, John Givens; and Chief Financial Officer, Alanna Boudreau. Following their remarks, we will open the call for questions from VirTra’s institutional analysts and investors. Before we begin the call, I would like to provide VirTra’s Safe Harbor statement that includes cautions regarding forward-looking statements made during this call. During this presentation, management may discuss financial projections, information or expectations about the company’s products and services or markets or otherwise make statements about the future, which are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made.

The company does not undertake any obligation to update them as required by law. Finally, I’d like to remind everyone that this call will be made available for replay via a link in the Investor Relations section of the company’s Web site at www.virtra.com. Now, I’d like to turn the call over to VirTra’s Chairman and Co-CEO, Mr. Bob Ferris. Sir, please proceed.

Bob Ferris: Thank you, Doug, and thank you everyone for joining us this afternoon. After the market closed today, we issued a press release that provided our audited financial results for the full year ended December 31, 2022, along with highlighted business accomplishments. We also filed our 10-K with the SEC today, which is available for a review at your discretion. As a brief overview for today’s call, I’ll begin by providing highlights for the fourth quarter and full year 2022. And I’ll summarize some of our recent business developments before passing the call over to John to discuss operations and provide an update on our military market progress. After that, Alanna will discuss our financial results in more detail. I’ll then come back on to discuss how 2023 has been going so far before moving into Q&A.

And with that, let’s get started. 2022 was a successful year for VirTra on many fronts. Our strong performance was a result of executing on our business strategy to drive profitable growth in the police and military markets for our industry leading products. We generated record bookings and grew revenue for the 17th consecutive year, increasing the top line 16% to a record 28.3 million. On top of this, we delivered another year of solid profitability, generating 3.6 million of adjusted EBITDA and 2 million of net income. In addition to the strong financial performance we delivered last year, we achieved several significant operational milestones that have positioned us for long-term success. We made judicious investments in our technology that from a competitive standpoint, further differentiated our products in the market.

We have meaningfully increased the breadth and effectiveness of our training offerings and bolstered our competitive edge in the industry. These efforts included refinements to our software and upgrades to certain accessories, like our VirTra Threat-Fire device and Drop-In Recoil Kit capabilities, which make our solutions more indispensable and effective. In November, we showcased our latest technology at the ITSEC trade show in Orlando, where we received strong feedback and interest. In fact, I even state that anyone who attended ITSEC and tried out all small arms training options at the show would walk away realizing that VirTra is the gold standard, an accomplishment that is a result of enormous investment in both time and resources. Much of the financial investment is in the rearview mirror, like our VirTra Volumetric Video or V3-enabling technology, but we will continue to prioritize cost effective enhancements to ensure exceptional value for our customers.

I’d like to highlight important investments in our content department during 2022. In Q4, we introduced our breakthrough technology V3, which has the potential to provide a step function advancement in training content for our customers. V3 combines the advantages of high definition video and 3D characters and empowers us to affordably build a comprehensive library of training content suitable for screen-based or headset-based platforms. High quality realistic content is a key differentiator for attracting and retaining customers in our market, and V3 helps us to continue building upon our advantage in this essential area. In fact, around VirTra, we often say content is king. Our investments have strengthened our position in every major aspect of training simulation, making us more competitive for 2023 and beyond.

Another highlight in 2022 was our substantial effort centered around scaling our business. The move in our Chandler, Arizona headquarters is near complete, and we’re looking forward to having the core of our operations centralized under one roof. In addition to driving efficiencies, the 83,000 square foot facility houses the most advanced development and production facilities in the industry, an attractive selling point for customers and partners alike. In the fourth quarter, we also officially opened our facility in Orlando, Florida. We hosted an open house event in October where we showcased our products and provided immersive training demonstrations to military, law enforcement, industry contractors and government officials. The reception has been great thus far and we believe the new facility will be instrumental in growing our military business.

John will give further updates in this area shortly. In recent months, we have made key additions to our leadership team and Board of Directors that will be instrumental for our growth going forward. In December, we appointed Alanna Boudreau who you will hear from shortly as our new CFO. Alanna brings with her over 20 years of experience in managerial, financial and operating functions. She has extensive experience overseeing accounting activities for public companies, and most recently led accounting activities for a publicly listed global industrial laser company. Her experience with public company reporting and her strong management skill set make her a great fit for VirTra, and she has already begun to make meaningful contributions to our financial operations.

In the fourth quarter last year, we added Gregg Johnson to our Board. Gregg is one of the top experts in the country in legal corporate compliance and senior management of high growth entrepreneurial companies of the size of VirTra and larger. As background, Gregg was the primary advisor at our board on our successful effort to list our stock on NASDAQ, and he was a member of VirTra’s advisory board. In January of this year, we appointed Jim McDonnell to the Board. Jim is a recognized public safety executive and law enforcement leader having served the public for four decades in roles such as the Sheriff of Los Angeles County and Chief of Police in Long Beach, California. He is one of the most accomplished, thoughtful and well connected leaders in the law enforcement industry.

And he brings a tremendous level of expertise in public safety, tactical training, operational growth, and command accountability to our team. And now I’d like to provide some updates in each of our markets. Our government revenue increased by 33% from the prior year, from 16.8 million to 22.4 million due to improved success in the law enforcement market as well as an increase in federal government police contracts. Internationally, we saw a 6% decrease in our revenue to 4.2 million from 4.4 million, which was a result of contract timing. We also continued to generate strong growth from our Subscription Training Equipment and Partnership or STEP for short. As a reminder, the STEP program provides recurring revenue for VirTra that also offers an easier on ramp for smaller agencies interested in our solution, but are perhaps budget constrained for an outright purchase.

In 2002, STEP revenue was 2.9 million representing 10% of total sales and growing 48% from the prior year. We continue to focus on expanding this valuable recurring revenue stream going forward. In summary, our financial and operational performance in 2022 was strong and left us well positioned to continue our profitable growth path into 2023 and beyond. We are focused on generating ever higher levels of shareholder value as our business continues to expand. I will now turn the call over to John to give an update on VirTra’s activity in the military market and overall company operations. John?

John Givens: Thank you, Bob, and good afternoon, everyone. 2022 was an important operational year for VirTra. The processes we implemented in the fourth quarter of 2022 and continue to prove daily are finally beginning to bear fruit. As Bob alluded to earlier in the call, the finalization of our move into our Chandler, Arizona headquarters and additionally our facilities in Orlando have helped in many ways, but especially as it pertains to product manufacturing, sales, order fulfillment and customer success. First with product manufacturing, our new facility allow us to implement more streamlined production processes. These capabilities have already begun to show meaningful improvements in efficiency, product quality, which allows us to fulfill orders quicker and reduce our backlog at a much higher rate.

Secondly, these new centralized hubs will greatly help strengthen our relationships with current prospective customers. As I talked about in the third quarter call, the Orlando facility is an extension of our military sales effort and serves as the East Coast hub for customer service, live demonstrations and meeting site for prospective customers. With Orlando being the acquisition epicenter of the military simulation market, we are in a strategic position to provide our expertise to the industry that is seeking cutting edge solutions. We have already begun to see benefits from the new space. The convenience factor is huge for major customers and prime contractors alike, and the live demonstration capabilities just down the street, now that’s a business developer’s dream.

The external competitive environment has really relaxed in 2022 and is affording VirTra great opportunities to become the Tier 1 preferred vendor for small arms simulation to the military market. In fact, it’s my opinion that as of today, for the military market, VirTra has more staff, more expertise, more technology, more investments to benefit the customers, and more relevant capacity than any other company in the industry. Regarding staff and our operations, we worked diligently throughout 2022 to improve our ERP system and we are in a much better position to realize operating efficiencies going forward. Our forecasting capabilities are better, allowing for our purchasing and production activities to become more optimized. This makes our operations more automated and it improves our order fulfillment time increasing customer satisfaction.

We will continue to refine these systems, but we are already seeing vast improvements across the organization. Additionally, we are beginning to build out our teams to further support our customers in a scalable fashion. We introduced a dedicated quality team to ensure that we are putting out the best product possible and we have vastly improved our customer support function, including field service representatives that are not only meant to increase customer satisfaction but increase our ability to install more systems, reducing the backlog. The additional field service representatives also raised the number of touch points with our customers to improve our product feedback loop. Moving specifically to military operations, we are seeing strong interest and have been hard at working to build the pipeline.

I want to remind everyone of the three ingredients of success in the military market I mentioned in the Q3 call. First is having a physical presence. Our new facility conveniently located Orlando site provides us with an invaluable access to the industry and its key decision makers. Second is having a strong relationship. In tandem with being able to build relationships in person with military and government officials, my extensive experience in military simulation market and time served in the U.S. Army have brought me many strong connections that will be critical to our growth in this market. We also have added military veterans to the Orlando office with relationships as strong as my own. And finally, having a strong product offering is critical to the success of this market as is true in any industry.

And as Bob and I have alluded to, we have been laser focused on enhancing our technology and processes to ensure that our solutions are the gold standard and remain world class. Our October open house event was a great success and sparked new promising leads while introducing and more importantly, a mature leading product from the law enforcement industry to our military community and existing customer contacts. Over the last few months, we have been very busy at Orlando office with tours, demos and meetings with key industry stakeholders and prospects. As I spoke about on our Q3 call, we are optimistic about the Department of Defense fiscal year ’24, which begins in October of ’23. That is a timeline we’ve continued to target for demonstrating strong and meaningful traction.

Looking ahead, our operational and technological advancements in 2022 have bolstered our competitive position and placed us on solid growth trajectory for the years ahead. The growing demand and constructive funding environments for VirTra’s innovative training solution gives us confidence in our ability to capitalize on the robust pipeline of opportunities in law enforcement, military and international markets. I look forward to keeping you all up to date on developments in our business in the future. Sorry, Bob, I’m going to kind of go off script here. I don’t want to read this anymore. So now that I’m approaching a year at the company, I’d like to reflect on my findings and our corrective actions regarding the company’s performance expectations and the focus that we brought to the table.

The company’s made some huge mistakes, including the ERP implementation. I don’t know, but that was so harmful to the company at all levels. It was quite daunting. Inexperienced staff in key leadership positions, lack of processes, lack of timely financial reporting, this all added to problems. But despite the major business setbacks, the company has managed to show some modest growth. There are two reasons for that modest success in my opinion, a superior product that’s second to none, and aligned staff dedicated to those they serve. There’s quite a camaraderie between the company and those individuals that we’re serving. Unfortunately, for me, change doesn’t happen quickly enough and as often as I wanted it to. Keep in mind, we weren’t able to really start working on significant change until our filings were completed, we removed the red flags and after the reorganization in August of 2022, and we still have a lot of work to improve sales, supply line, inventory management, and finalizing our capital improvements.

And as Bob said, we’re almost done. The last item that we need to move over is our machine shop. It’s a little bit more coordination to do that and timing so that we don’t interrupt our production and our delivery. We’ve been hard working to re-implement ERP. And we’ve replaced those key leader positions with strong proven talent. We’ve implemented processes to contain costs. And we provided real-time matrix to improve our communication and finally filed a timely 2022 Q3 and a 10-K report. This company has incredible potential. And we intend to build a market share and expand our offering, which you’ll hear about later. But for the record, we’re not happy with our performance yet. And we will continue to build that pipeline, close more deals, drive costs down and deliver products faster.

Make sure we provide superior customer experience and protect shareholder value. So thank you for your patience and your investment in VirTra. I’ll now go back on script. And Alanna, I’ll turn the call over to you to provide financial update.

Alanna Boudreau: Thank you, John. Good afternoon, everyone. It’s a pleasure to be speaking to you today and to review our audited financial results for the fourth quarter and the full year ended December 31, 2022. In my first few months at VirTra, I’ve already seen our team’s remarkable dedication to our customers and equally strong commitment to our mission. And I’m looking forward to keeping you updated on our progress for many years to come. With that, I’ll get started on the Q4 and full 2022 financial update. Our total revenue for the fourth quarter of 2022 was 8.7 million, which was up slightly from the 8.6 million of revenue we recognized in the fourth quarter of last year. For 2022, total revenue increased 16% to a record 28.3 million from 24.4 million in 2021.

The increase in revenue resulted from a 48% increase in our STEP revenue and a 54% increase in our simulator sales driven by the law enforcement market. As a result of our operational streamlining, we were able to deliver the first 16 systems of a large federal contract within 90 days of purchase order receipt. Our gross profit for the fourth quarter of 2022 increased to 5.3 million from 2.8 million in the fourth quarter of last year. Gross profit margin for the fourth quarter of 2022 was 61.4%, an improvement from 32.7% in the fourth quarter of last year. And for 2022, gross profit increased to 16.3 million from 11.4 million in 2021. Gross profit margin for 2022 was 57.4%, an increase from 46.7% for 2021. The increase in gross profit was due to a 7% decrease in our cost of goods sold combined with our 16% increase in revenue.

Our net operating expense for fourth quarter of 2022 was 3.4 million compared to 3 million in the fourth quarter last year. For 2022, net operating expense was 13.7 million compared to 10 million in 2021. The increase was primarily due to a 74% increase in our sales and marketing spend from our increased participation in industry trade shows and the associated travel as well as a 39% increase in R&D expenses, and an increase in one-time costs related to the facility move and re-launching our ERP system. Now turning to profitability measures. For the fourth quarter of 2022, we recorded operating income of 1.9 million compared to a loss of 0.2 million in fourth quarter of 2021. For 2022, our income from operations was 2.6 million, an improvement from the 1.5 million of 2021.

Net income for the fourth quarter of 2022 totaled 1.4 million or $0.13 per diluted share. This was an increase of a net income of 13,000, or less than $0.01 per diluted share in the fourth quarter of 2021. For 2022, net income totaled 2 million or $0.18 per basic and diluted share, which compares to a net income of 2.5 million or $0.25 per basic and diluted share for 2021. Our adjusted EBITDA, a non-GAAP metric for the fourth quarter of 2022, was 1.7 million compared to 0.5 million in the fourth quarter of 2021. For 2022, adjusted EBITDA totaled 3.6 million, an increase of 1.2 million in 2021. The increase in adjusted EBITDA was significantly impacted by the one-time event of the official forgiveness of the PPP loan. Turning to our bookings and backlog.

We define bookings as the total of newly signed contracts and purchase orders received in a defined period. For fourth quarter and full year 2022, we received booking totals of 6.4 million and 33 million, respectively. Furthermore, we define backlog as the accumulation of bookings from signed contracts and purchase orders that are not started or uncompleted and cannot be recognized as revenue until delivered in a future period. Backlog also includes our extended warranty agreements and STEP agreements that are deferred revenue recognized on a straight line basis over the life of each respective agreement. As of December 31, 2022, our backlog totaled 27.7 million which was up 20% from December 31, 2021. And finally to our balance sheet. As of December 31, 2022, we had unrestricted cash and cash equivalents of 13.5 million compared to 15.7 million at the end of third quarter.

From a working capital standpoint at the end of fourth quarter, we had 24.3 million in working capital, a decrease from the 25.7 million at the end of Q3. VirTra’s cash balance decreased as we continued the construction of the new building, which has increased our property, plant and equipment balance, and we saw an increase in our accounts receivable and unbilled revenue as items shipped to our customers at the end of the quarter. We expect to see the cash increase as we exit Q1. And for additional details of our financial results, please reference our 10-K which was filed earlier today. And that concludes my prepared remarks, and I’ll turn it back to Bob.

Bob Ferris: Thanks, Alanna. It is great to have you on the VirTra team. You’ve been doing a great job. In closing, 2022 was a successful year for onboarding tremendous new talent and implementing the right processes for VirTra to win and service larger volumes of business. We did so while also achieving improved profitability and continuing our streak of annual revenue growth. With new operational systems in place, we expect to build out our business pipeline in both our law enforcement markets, international markets and military markets in 2023. There are immense opportunities in front of VirTra to serve industries that need the gold standard of training solutions. And this year’s focus will be on increasing momentum in our target markets.

In fact, we are off to a strong start already in 2023. Our sales pipeline remains robust. And we are determined to do better as we see many areas where we can improve and must improve, as John indicated. And with that, I’m going to wrap up my prepared remarks and we’ll open the call up for your questions. Operator, please provide the appropriate instructions.

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Q&A Session

Operator: Thank you. Ladies and gentlemen, at this time, we will be conducting a question-and-answer session. . Our first question comes from the line of Jaeson Schmidt with Lake Street. Please proceed with your question.

Jaeson Schmidt: Hi, guys. Thanks for taking my questions. Just want to start, Bob, with sort of your last comment on the sales pipeline. Obviously, backlog remains pretty robust here. But just curious if you could comment on what you’re seeing from an order pattern perspective year-to-date, just given all the macro challenges out there?

Bob Ferris: Well, thanks for the question. We’re still seeing a robust sales pipeline. We are working a lot of deals international, military, and there are issues with timing on that. And then we have our standard domestic and federal and international law enforcement pipeline. But overall, we’re still seeing people willing to spend money on effective training solutions. And so with that, it seems like there’s a continued emphasis on how do we properly train people for lethal force. And that’s an ever increasing reality on the military side as international threats increase. And it’s an ever present pressure on state, local, federal government in America with policing. Obviously, policing reform has been in the headlines with Washington working on it. And I think that underscores the presence and ubiquitousness of trying to get the very best training into those that are entrusted with lethal force.

Jaeson Schmidt: Okay. And then are you seeing any continued impact from the supply chain, or what are you seeing in sort of the supply chain backdrop?

Bob Ferris: So far, we’ve had good inventories of parts that were the ones that we were most concerned about. Once in a while, we get surprised by an item that we didn’t know we needed to have extra stock of such as if they do a design change and don’t notify us. John Givens led an effort recently to overcome that. And it was an all hands on deck, stay till it is done type of effort that was successful, but was unplanned. So supply chain still is a danger. So far, VirTra has had a great track record of navigating it well. We plan to continue that, but it’s a constant effort, much more than we had to do three or four years ago on doing that. But as of right now, we’re in good shape.

John Givens: I’d like to add to that too is that what we’re finding is we’re setting our min and maxes in our inventory. And with the ERP reimplementation, we’re able to manage our vendor pipeline much better. The only thing that we see remnants of the supply chain issues is that when the vendor makes a mistake on a larger order, it does take a little bit longer because they don’t have stock and supply. And that’s what Bob was alluding to. We just recently had a small problem with a vendor and we had to modify to try to use what they gave us even though it was a mistake. We modified our software to be able to utilize it. So those things we will deal with one-offs, but I don’t think those are any different than it was prior to the COVID. But yes, a little bit — it’s getting a lot, lot better.

Bob Ferris: And I would add to that one. One thing that differentiates VirTra in our market is we have teams of engineers on staff, many of whom have worked at VirTra for years. And other companies we compete with, many times they hire a 1099 staffer or they hire a firm to do a project and then it goes dormant and then years later to modify it or change it, it’s a big problem. So by VirTra having teams of engineers and having enough scale in our industry to afford to do that, when things like that happen we have a much easier time in accommodating it because we have that kind of trained staff on site versus trying to track down what company did it or what 1099 employee did it for us. And so it’s just one advantage of the investments that over so many years our shareholders have made in VirTra to have that kind of robust infrastructure. So that comes in very handy.

Jaeson Schmidt: Okay, that’s helpful color. And then just the last one for me, and I’ll jump back into queue. Just curious if you guys could expand on sort of John’s comments on some of the challenges in the past. I can understand how the ERP system can cause some friction. But was this a case of a sales strategy not being well thought out or not going after the right customers, any additional color would be helpful.

Bob Ferris: Well, there’s so many ways I can go with that. No, the ERP implementation was just no one knew what they were doing. And classic mistake, if you took every business case from Harvard that talks about implementation of large systems, I think someone uses a roadmap to make all the mistakes every single one that people have made. And so unraveling that, the problem with that is so systemic because if that’s the heartbeat of the organization, it messes up all your processes, everybody was trying to manage things separately, with spreadsheets and all of that is part of the reasons why financials weren’t complete. But now that that’s all been corrected and we’re continuing to take advantage of the ERP, there were things that we’re taking advantage of that makes the business much more streamlined.

And the effort of the folks that are here now really have jumped in, and we’re seeing where we’re building reports where we’re catching things way ahead of time, and we’re not sending things out incorrectly. There’s a myriad of things. So it had nothing to do with the sales or anything. It was just an operational mishap.

Jaeson Schmidt: Okay. Thanks a lot, guys.

Bob Ferris: Thank you. I appreciate it.

Operator: Our next question comes from the line of Richard Baldry with ROTH Capital. Please proceed with your question.

Richard Baldry: Thanks. Maybe sort of building off of that last part, can you talk about the prospects you think to be able to cut the backlog down over the year ahead now that the systems are running more smoothly? And maybe another way to think about it is like what’s the — you’ve got almost a year of revenue in backlog depending on someone’s outlook. What would a normal or healthy level of backlog on quarters, months, year tend to be long term do you think?

Bob Ferris: Yes, that’s a really good question. Having a backlog that large is, in my opinion, not good. In the operation piece, we’ve changed how we’re now building systems in separate job groups. And if you look at the numbers, we grew the backlog by 20%. So my goal would be is that the backlog is less than half. And if you look at the components that make up the backlog, I don’t know that we could get down any further than that. The only way I would build the backlog to what it is higher today and it would be good is in our STEP program with reoccurring revenue. And our goal is to raise that reoccurring revenue through our STEP programs. Those contracts will go three years, and then they come up for renewal. And keeping those customers and keep dripping them so that they’ll spend additional revenue with us, that’s kind of a model.

So you’ll see it start to go down. But then the idea would be build back up. And it doesn’t have anything to do with getting the systems out the door. Our internal goal and our stretch goal is that once we get a PO, we want the systems going out the door in 30 days, but the staff themselves have challenged themselves to once we get an order, it’ll be out the door in seven days. And I continue to support that.

John Givens: I would just add that if VirTra was able to achieve 30 days, that would probably break all records in our industry. If we hit seven days, there’s not a company that’s been able to sustain that speed of delivery. So that would be a remarkable accomplishment. I believe we can be successful with either of those. But seven day turnaround on product would be an incredibly efficient, very streamlined process and an operational system which would be a bit of a miracle in our industry. But I do believe it is possible.

Richard Baldry: And the gross margins on the quarter are very strong. Again, sort of building off the same theme we’re all talking about, given the efficiencies and things that you had, can you talk about how you think those gross margins should trend? Is that the efficiencies are helping you turn things faster, match up products that are — those should be sustainable, or how do you view that long-term trend?

Bob Ferris: Am I happy with gross margins? No, I’m never happy with gross margins. I think the trend will continue to go up. And there’s a couple of ways of that. One, we haven’t raised the price as much and so a lot of the price increases on some of the products, we just had a modest price increase. But now getting to the point where we have all of our costs accounted for, both labor, our COGS are fully laid out, we’re able to stay competitive by raising those margins. So that’s always a tricky item. They’ll go up a little bit — they’ll go up some more, because we have some more efficiencies in areas that we’re cleaning up and finalizing those processes and making it much more robust.

John Givens: Some of that might be some SG&A improvement.