Giga-tronics Incorporated

Thank you. Good afternoon and thank you all for joining our fiscal '22 first quarter earnings call.

I'm John Regazzi, the company's CEO, and I'm joined today by [ Maya Chai ] , our Acting Controller; and Dr. Lutz Henckels, our Executive VP, CFO and Chief Operating Officer.

Before we begin, I need to remind everyone that this conference call may include forward-looking statements, including statements about future results of operations and margins, future orders, growth and shipments. Actual results may differ significantly due to risks and uncertainties, such as delays with manufacturing and orders for our products and services, receipt or timing of future orders, cancellations or deferrals of existing orders, the company's capital needs, the trading of our common stock and the volatility in the market price of our common stock, results of pending or threatened litigation and general market conditions.

For further discussion, see our most recent annual report on Form 10-K for the fiscal year ended March 27, 2021, Part 1 under the heading Risk Factors and Part 2 under the heading Management's Discussion and Analysis.

With those reminders in place, I will now turn the call over to Dr. Lutz Henckels.

Lutz?

Thank you, John. Welcome to our first quarter fiscal 2022 conference call.

Before going into the detailed numbers, I will explain what happened in Q1 fiscal 2022.

Clearly, we had another very disappointing quarter. So why do we still believe that we can deliver a profitable and growing fiscal year 2022?

Two key points, the Microsource business, our recurring revenue RADAR filter business fell short this quarter due to the timing of orders. We have no concern here.

You really need to look at this business on a 12-month basis, and it has delivered steady profitable revenue every year for many years. No concern.

That gets us to the key point. Basically, nearly 0 revenue in the RADAR/EW Test business in the first quarter of fiscal 2022.

So why do we still believe that this business is our growth engine that it will deliver growth in fiscal 2022? There are 3 reasons.

The first reason, the pandemic is mostly behind us now. We have been able to visit the military bases, interact in secret military labs with key personnel since April 2021.

I cannot overstate the challenges that the pandemic presented to our business. We really need to be on site given the size of our orders, the complexity of our Threat Emulation Solutions and the challenges associated with government procurement processes.

However, this roadblock is largely removed now. So one block removed.

The second reason why we believe that our Threat Emulation System business is our growth engine. I explained that in the last conference call on June 26, 2021, about 6 weeks ago.

We are now in the third phase of our strategy to penetrate the RADAR/EW Test business. We started out 5 years ago with subsystem sales, then we moved to complete solution sales to laboratories 3 years ago.

And finally, we found our sweet spot in the open-air range applications during last fiscal year.

On the open-air range facilities, we are sending up a threat signal to a plane flying overhead to determine whether the plane sees the radar threat signal whether the pilot responds correctly to the threat signal, including firing a live missile at our Threat Emulation System. But you need to do a lot more than just sending up a threat signal to the plane flying overhead.

The threat signal needs to mimic the operation of a threat system with all of its moats and sequences. Let me explain.

Our Threat Emulation System, first sense up a search signal searching for an incoming threat, meaning the incoming plane that is flying overhead. Once it sees the incoming plane, it has to acquire it, meaning it has to lock on to it.

Then, our Threat Emulation System needs to track the incoming plane. And then finally, it needs to target it.

It needs to target the incoming plane with a threat signal, meaning we want to shoot a rocket at that guy.

In addition, our system is a multi-channel system. So they are not just sending up a threat signal, they are also creating a battlefield environment.

Our system does all of these things. This is not a simple solution at all.

It's a very sophisticated solution.

From more point, the requirements go beyond what I described because new threats are emerging all the time, and the reprogrammability and versatility of our Threat Emulation System is more important than ever. We are highly reprogrammable, which is another key differentiator.

And finally, the range system also needs to be cost effective and versatile, which our system is. It is truly a big opportunity for us as our solution is architected like a radar but built like a test system.

During fiscal 2021, we started to see success for this application into the aircrew training and air-to-ground missile testing. Our early success leads us to believe that we can grow our market share much faster in this segment than in comparative laboratory setting.

So then you might say, "well, if that's all true, then why didn't you see bookings for this segment last quarter?" That brings me to the third reason.

It relates to the government procurement process.

The U.S. Air Force changed what it's called its contract vehicle.

A contract vehicle is a streamlined method the government uses to buy goods and services, and that change in the procurement process caused a delay in an order that we expected. With this introduction, I will now go into the detailed results.

First, let us look at sales. Net revenue for the first quarter of fiscal 2022 ended June 26, 2021, was $2.05 million.

We showed 2 components for the revenue for Q1 of fiscal 2022. The first component is goods of $51,000, which is for our RADAR/EW Test business.

This $51,000 compares to $1.1 million for the same Q1 period in the prior fiscal year 2021. Basically, a change in the contract vehicle, as I explained, delayed us from booking new orders.

The previous contract method used a third-party bidding process, which takes time, and that cost the government agency 15% to 20% of extra cost. The new contract vehicle allows the military to place the order [indiscernible], eliminating this extra cost and greatly reduces the procurement cycle.

The second component is for Services of $2.0 million, which is for our Microsource product line, mainly for the RADAR filters which are used in the F-15, the F-16 and the F-18 fighter jets. This $2 million compares with $2.44 million for the same Q1 period in the prior fiscal year 2021.

As I mentioned earlier, the Microsource business typically receives large orders, which can cause swings in quarterly revenue as it occurred in Q1 FY '22 due to receiving the order in August as opposed to Q1 fiscal 2022. And as we announced today, a large order was received in August, so there is no worry here.

That gets me to the gross margins. The gross margins for the first quarter of fiscal 2022 were 39%.

Gross margins for the first quarter of fiscal 2021 was 43%. The gross margins in the first quarter of fiscal 2022 were negatively impacted by both lower revenue volume and product mix.

The RADAR/EW Test business has better gross margins than the Microsource business. So as that business grows, gross margins improve.

When then you only do $51,000, then that business and the gross margins are not that good.

Let's go to operating expenses. They increased by $94,000 in Q1 FY 2022 when compared to Q1 FY '21.

R&D expenses decreased by 33% because some engineering costs were charged to cost of revenue. We received a $726,000 engineering contract from a prime contractor, and engineering hours for these contracts get charged to cost of goods sold.

So it's basically reallocating a generic expenses into cost of goods sold.

Going to SG&A expenses. They increased by 13% due to 3 items.

There was an increase of $79,000 in stock-based compensation, which is noncash; we had higher auditing costs for FY '21, fiscal year ending; and we had an increase in the head count in sales. As I mentioned at our last conference call, we believe with our initial success in range applications and with the pandemic issues behind us, we have a unique opportunity with our TMS product, and therefore, we added to our sales staff to take advantage of it.

Going to interest expense, net and others. Interest expense declined by 90% from $33,000 to $3,000.

And this is basically due to the fact that we paid off the term loan of PFG, which we paid off at the end of March. And so therefore, the interest expenses are lower.

However, there are 2 other expenses under net and others totaling $154,000, which is associated with funds raised during the quarter, which I will address when I get to the balance sheet in a moment.

We get to net loss. Net loss for the first quarter of fiscal 2022 was $860,000.

This compares to a net income for the first quarter of fiscal 2021 of $72,000 for the reasons that I just explained.

We also show adjusted EBITDA, which we define as income, excluding income tax, interest expense, other income and expense, share-based compensation and depreciation and amortization. Adjusted EBITDA was $493,000 loss versus a gain of $252,000 in the prior year.

Share-based compensation of $155,000 and D&A of $52,000 are 2 components of adjustment. The cost of raising additional funds added another $157,000, which also, by the way, hit the bottom line.

This takes me to the balance The. sheet unusual item in the balance sheet is the current liability of $1.657 million.

First of all, let me make it clear that this liability has been moved to equity as of July 28, 2021, by amending the prefunded warrant agreement. Basically, there was a put option in place in case our fundamental transaction on which the company has no control.

We amended the warrant agreement to remove this production. And therefore, we're moving -- we removed the liability and move it into equity.

So this considers is already done.

But second, you may ask why a prefunded warrant instead of a plain vanilla common stock investment? The answer is simple.

The investor already had a [ 9.x% ] ownership in Giga-tronics and did not want to cross the 10% threshold. At the same time, the investor wanted to increase his investment by $1.5 million or about 14.5% for a total of nearly 25%.

To do so, an instrument was chosen that is called a prefunded warrant. Basically, we invest a prefunded warrant that he can exercise for $0.01 per warrant only.

However, he can only do so as long as it does not cross the 10% ownership percentage. By the way, I should point out that the warrants do not have any voting right.

So the investor has increased its ownership from just below 10% to about 25%, and he is now our largest investor. He is obviously a sophisticated and experienced investor who has taken the time to do considerable due diligence and believe we have the technology and solution that holds considerable value, and we are thrilled to have him as an investor.

But because the investment was initially treated as a liability as opposed to an equity, the transaction cost, including the fees we paid to the investment banker hit our bottom line.

The other item on the balance sheet is worth noting is the increase in inventory of $829,000. This increase is primarily driven by an increase in Microsource inventory.

We anticipated in order for focus in the first quarter of fiscal 2022, which was delayed to the second quarter. With the order now in hand, the Microsource inventory will be lower in the second quarter of fiscal 2022.

One final point on the balance sheet. The loan balances at the end of the first quarter of fiscal 2022 at $295,000, down from $683,000 on March 27, 2021, basically, from 3 months ago.

So let me sum up -- sum it up. In summary, we need to stay focused on the big picture.

Our business is lumpy, but as we view the business on a full year basis, we are tracking for a good year. As we grow the business, the economics are attractive, our RADAR/EW Test business as a growth, our margins will improve, and we are poised to be a profitable business over time.

We will continue to invest in R&D while driving down other costs as a percentage of sales.

So in conclusion, we expect to see substantial growth in the RADAR/EW Test business starting the summer and accelerating in the second half of this fiscal year.

And with that, I conclude what I wanted to say, and we are opening it up for questions.

Okay. In closing, with the pandemic now behind us, we believe that we are on track to deliver a good fiscal 2022.

Our Microsource filter business is our rock. We can count on it.

And our RADAR/EW business has demonstrated market interest in our new products from new customers, especially from the new application of pilot training and field testing. We are confident in our ability to achieve long-term double-digit annual growth and drive higher margins.

Thank you.

Thank you.

Thank you.