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Good morning, and welcome to the Luna Innovations Incorporated Q1 FY 2023 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded.
I would now like to turn the conference over to Mr. Allison Woody, Senior Director of Administration. Please go ahead.
Thank you. Good morning and thank you for joining us today. This morning before market opened we issued our Q1 2023 earnings press release. As always, you can find the release and supplemental presentation posted to the Investor Relations section of our website. If you do not have a copy of the release or the supplemental materials, please check our website at lunainc.com. We will also post a replay of this call to our website. Some of our comments and discussions today are based on non-GAAP measures. These adjusted numbers exclude the effect of certain noncash expenses and other items. The adjusted results are a supplement to the GAAP financial statements. Luna believes the presentation and exclusion of these items is useful to focus on what we deem to be a more reliable indicator of ongoing operating performance.
Before we proceed with our presentation today, let us remind you that statements made on this conference call as well as in our public filings, releases, and websites, which are not historical facts, may be forward-looking statements that involve risks and uncertainties and are subject to changes at any time, including, but not limited to, statements about our expectations regarding future operating results for the ongoing prospects of the company. Actual results may differ materially as a result of a variety of factors. More complete information regarding forward-looking statements, risks, and uncertainties is available in the company's SEC filings, which can be found on the SEC website and our website. We disclaim any obligation to update any such factors or to announce publicly the results of any revisions to any of the forward-looking statements to reflect future events or developments, except as required by law.
After our prepared remarks, Scott Graeff, our President and Chief Executive Officer; Gene Nestro, our Chief Financial Officer; and Brian Soller, our Chief Technology Officer, will be available to take your questions.
And at this time, I'd like to turn the call over to Scott.
Good morning, everyone, and thank you for joining us today. Luna is off to a strong start in 2023, and I'm eager to share our first-quarter results. I'm going to keep my comments brief, and we'll look forward to sharing more about our plans and prospects at our Investor Day in just a few weeks.
I'm pleased to report that revenues are coming in at the high end of our expectations for the quarter. Having completed the execution of the five year plan we had originally laid out in 2017, we entered this year in a strong position to concentrate on our core capabilities of providing unique solutions utilizing fiber optics. And as a result of our recent acquisitions, we entered 2023 with an expanded European footprint and a significant international presence. We now have approximately a third of our employees outside of the U.S. and notably, over half of our 2022 revenue was also generated by our operations outside the U.S. The combination of these factors strengthens our position as the global leader in fiber optic sensing. Coupled with the removal of a governor on our growth via the divestiture of Luna Labs, we're moving forward with a pure focus on fiber optics and are investing to drive robust growth and profitability.
Now let's turn to some of the specifics of Q1 2023, including financial performance and a few business highlights. After that, I'll turn the call over to Gene. For the first quarter of 2023, we recorded total revenues of $25 million, an increase of 11% compared to the prior year period. On a constant currency basis, the year-over-year increase was 13%. As I've emphasized repeatedly, we typically see single-digit revenue growth in the first quarter of our fiscal year, so I'm especially pleased to see us in the double-digit growth range this quarter. Our gross margin was 60%. Adjusted EBITDA was approximately $900,000 for the first quarter of 2023 compared to $1.7 million last year. Our first quarter of 2022 included both the acquisition of LIOS and the divestiture of Luna Labs, which skewed the results to the bottom line. Our adjusted earnings per share was zero for the three months ended March 31, 2023.
Before we dive into business specifics, I want to stress that revenue is trending in the right direction and will lead us toward the growth we expect. To provide a bit of context before we gather in a few weeks for a long-term view, I want to share a few highlights about our fiber optic sensing vertical, which includes the Odyssey, Hyperion, DAS, DTS, and Terahertz. The vertical realized 8% year-over-year growth driven by the Lios acquisition and strong sales of Odyssey and Terahertz products. Terahertz's revenue was strong with double-digit growth of 27%, driven by the automotive EV market, applications in industrial adhesives manufacturing, the completion of consolidating operations to our Atlanta location, and a new, more rugged, and reliable design.
Energy and Industrial markets were strong in Q1 as we began to service the multiple wins we realized in Q4 for power cable monitoring. In our Comms test vertical, we drove 15% year-over-year growth with revenue for both lasers and modules growing double digits. Lasers and modules grew 20%, driven by strong sales of our RIO lasers into LiDAR and sensing applications. Of note, we continue to deliver Phoenix lasers to Intuitive Surgical against the $14 million blanket purchase order we received and announced in September 2022. You may remember from our last call that we won a $3.4 million multiyear purchase order from our partner, Northrop Grumman. Deliveries of those units are on track, and Northrop has indicated they're pleased with our delivery and support.
Turning focus to our One Luna initiative. We recently hosted our global sales meeting in the U.K. That included both our Lios and OptaSense teams for the first time. I believe this is a critical part of our strategic execution. As I've emphasized last quarter, this united team and expanded sales force will propel us forward in the pursuit of the large multiunit orders and the expanded customer accounts that will mark significant growth for Luna. As we continue to invest in and optimize our operations across the global Luna footprint, this is the kind of delivery that I wholeheartedly believe will set us up for strategic gains as we look forward for exponential growth.
All in all, sharing these Q1 2023 highlights, I can say that we're entering 2023 in a strong position. We're extremely pleased to have achieved our five year plan, and we're excited to share with you our strategic focus for the next five years as we gather for Investor Day in a few weeks. Here, you will not only hear from me, Brian and Gene, but our extended leadership team, including Salvan Farooqui, our Head of Sales; Jackie Kline, our Head of Operations; and Eva Hartmann, our Head of Human Resources. If you haven't done so yet, we invite you to register at investorday2023.lunainc.com.
As we said just a few weeks ago, we have set the stage for meaningful expansion into new markets where we can deliver on our capabilities and continue to focus on capturing share. We remain confident in our strategic direction and are excited about the opportunities ahead. As you may have already -- you may have read recently in a series of news releases we issued, we recognized several important wins. For example, we secured a contract to provide temperature, depth, and acoustic monitoring for an innovative power generation project that will deliver clean energy to a major metropolitan area in the Northeastern United States, announced a large new contract with Dominion Energy to provide monitoring services for the largest offshore wind project in the United States and won a contract for industrial battery storage monitoring for a leading European manufacturer of electric vehicles. Together, these events are evidence that our technology is being adopted rapidly across industries and geographies.
Given all of this, I just want to reiterate that based on a solid start to 2023, we are again reaffirming the 2023 outlook that we provided on the Q4 call. As a reminder, that guidance for 2023 is total revenue of $125 million to $130 million and adjusted EBITDA of $14 million to $18 million. And we are once again providing quarterly top-line guidance. For Q2, we anticipate revenues in the range of $29 million to $31 million.
Before I hand the call to Gene, I want to share just a few additional thoughts. You may remember that I shared on our year-end call that Brian and I had just attended OFC, a premier trade show event hosted in San Diego for telecom and data center optics. It was noteworthy that attendance of the conference was at or exceeded pre-COVID levels. I believe that attendance and interest at industry events are indicative of the expanding opportunities available to us. At every turn, we are confirming that secular trends are leading to higher demand for our solutions and driving greater usage. As we participate in these events, we are connecting with customers, generating new leads, and influencing our growth potential.
On the whole, I want to again express that I'm pleased with what we accomplished this quarter. We continue to make investments that are critical to our future growth possibilities. Growth cannot come without investment, and we are committed to capitalizing and in fact, did capitalize on opportunities that will allow this company to leverage its core capabilities to grab market share. As we continue to do the hard work of optimizing operations and minimizing costs related to our recent acquisitions, we also are keeping an eye toward the opportunities that will allow us to continue to expand our global geographic footprint and reinforce our leading position in fiber optics.
With that overview, let me turn the call over to Gene for his commentary on the quarter's financials. Gene?
Thank you, Scott. As you've just heard, we entered the year in a strong position and delivered another solid quarter. Much of what we expect for 2023 is the result of the work we did in 2022 to optimize our assets, streamline operations and establish a scalable foundation. Our moves to become a pure-play fiber optics company and the investments we've made to improve infrastructure, processes, and systems have put us in a strong position to be able to continue to drive both organic and acquisitive growth.
We will continue to invest in order to drive the operational footprint and excellence we know are necessary to scale and to capitalize on the opportunities in front of us. We balance these investments with our work on driving cost synergies. Together, these initiatives continue to set us up for significant growth and market achievement.
With that as context, I'll turn our attention to our first-quarter results. As we dive into the financials, I think it's especially important to call attention to our Q1 revenue in what is typically a soft quarter for us, it's notable that we ended at $25 million in revenue, at the top of the first quarter revenue guidance range we provided on our last call. This performance, coupled with the business highlights Scott just shared is further testament to our ability to capitalize on growth opportunities over the next several quarters. The $25 million represents an increase of 11% compared to the prior year period.
On a constant currency basis, the year-over-year increase was 13%. We use constant currency as a metric since a large portion of our revenue is now in currencies other than the U.S. dollar. The increase in revenues was driven by a full quarter of Lios in 2023 versus the partial quarter last Q1 and strong sales from our Terahertz, Odyssey and laser products, as Scott mentioned.
Q1 gross profit increased 5% to $15 million compared to $14.3 million for the same quarter last year. That represents a gross margin of 60% this quarter versus 64% in Q1 last year. The decrease in gross margin percentage is due largely to product mix, as project revenue was a higher percentage of our total revenue in Q1 2023 versus Q1 2022. Migration costs in moving our Ann Arbor facility to Atlanta and the timing of revenue and expense recognition for Lios in last year's first quarter stub period.
Operating expenses were $17.1 million compared to $16.6 million in Q1 2022. The primary driver of the increase was the inclusion of a full quarter of Lios, which was only in our Q1 2022 numbers for the several weeks' stub period, offset by reduced integration expenses. Operating loss was $2.1 million or 9% of total revenues for the three months ended March 31, 2023, compared to an operating loss of $2.4 million or 11% of total revenues for the prior year period. We had a net loss of $1.8 million compared to net income of $9.6 million for the prior year. You'll remember that last year's first quarter included the gain on the sale of Luna Labs.
Adjusted EBITDA for the quarter ended was approximately $900,000, down from $1.7 million last year. We ended the quarter with $3.6 million of cash and cash equivalents compared to $6 million at year-end 2022. Our working capital was $57.3 million at the end of the quarter compared to $54.2 million at year-end 2022. We continue to carry more inventory due to COVID-related supply issues, new product introductions and the expected increase in sales in 2023.
Our total debt outstanding is $25.2 million as of March 31, 2023, which is approximately $2 million higher than year-end, primarily due to Q1 being our lowest revenue quarter, a final tax payment related to the gain on sale of Luna Labs, and the increased inventory, as I previously mentioned.
Overall, we had a solid performance in Q1 and are looking forward to carrying that momentum into Q2 and through the year. We're looking forward to seeing everyone at Investor Day, where we will be sharing greater detail about our three to five year strategic vision.
With that, I turn the call back over to Scott.
Thank you, Gene. Before we move to Q&A, I think it's important for me to reiterate a few points. The first is that, I'm pleased with our start to this year and happy to be on strong footing headed into the remainder of the year. Aside from that, I'm realistic about the work we have to do to fully leverage the opportunities we have before us. We optimize our operations and continue to innovate. We need to strategically examine leadership positions and hire the right people. As we do this, we will continue to drive our One Luna philosophy and ensure we have the right organizational structure, which means, we will build on the strength of our team by continuing to place the right people in the right roles, which will naturally produce essential outcomes. The Luna team and I look forward to sharing more details about this build-out in a few weeks. But for now, Brian, Gene, and I would be happy to take questions about today's presentation.
So Ryan, please open the call for Q&A.
Thank you. We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Alex Henderson with Needham & Company. Please go ahead.
Hi. Thank you so much. A couple of quick questions. One, the facility moved to Atlanta. I'm remembering that is now complete. How do you think about the timing of the optimization of that plant move? And to what extent as we move into the second quarter, is it fully in the margin numbers?
Yes. I mean I think that we were running some dual lines over the last three to six months. So now that it has officially moved and we're -- we exited that facility at the end of March. That line is fully operational, and we are near the four per week that we said we would. I believe at the end of this quarter, we'll be at making four of these per week.
So just to be clear, there is no start-up costs associated with it that fall out or other costs for ramping that production in the current quarter that may be a drag on the numbers and then fall out? I mean, just usually, there's some start-up costs. Is there anything that we should be calculating into the numbers relevant...
Yes, there is some start-up costs that we will incur this quarter. We incurred some of that in Q1 in the move since we were running those dual lines and in the process of moving it earlier in the quarter. So we experienced some, but you will have some additional cost this quarter.
Yes. Primarily, the move costs are already reflected in Q1 numbers. We have that down in part of our recurring costs. You'll see that it was about 100 basis points. There will be some here in Q2 as well, not really related to the move, but more as we get the teams up and training and things like that. So there will be some in Q2.
So that's in COGS?
Yes.
Okay. And then the second question, the Dominion and Clean Energy win, can you give us any scaling on the opportunities on those two? And then when -- what the structure of the ramp of that business might look like?
Yes. That was the first, and we talked about it before. That was the first that we brought both the temperature and the acoustic systems together. So we were able to provide them two systems, one that was -- that measures the temperature that we got when we acquired Lios as well as the OptaSense on the acoustics. And Brian, do you want to talk about the opportunity?
Both of those contracts or just one of those contracts?
For both of those contracts, Alex. The scale -- those are both in the low seven figures, so a few million for the hardware and software initial installation, which will happen later this year and into early next year. And then they each have a trailing support tail of -- on the order of 15% to 20% of that initial revenue for service and support for about three to five years.
Okay. So that should be completed by, say, the first quarter?
Correct. Yes.
Okay. Great. [indiscernible] things here. Thanks so much. I’ll look forward to your analyst event.
Thanks, Alex.
Thank you. Our next question comes from Paul Essi with William Woodruff & Company.
Yes. Thanks for taking my call. Great quarter, guys. I wanted to talk first about your consolidation or integration of the various sensing businesses, consolidating the sales force order entry, ERP. Can you give us an update on where you're at and when do you think that will all be completed?
Yes. We look at having -- right now, we have everything in North America is on one ERP system, and we are moving to have everything in Europe on another ERP system. It would be -- we do not have in the plans right now in the foreseeable future to have all on one ERP system. But having on two that we will have everything running on two ERP systems will be in the next 12 months. Is that right, Gene?
Roughly, yes.
Okay. And then the EV battery and adhesives, can you talk a little bit about where you are, what the opportunities are, and who you're competing with in those areas, if anybody?
Yes, sure. So the opportunity in both of those areas is for our Terahertz measurement equipment. And we're still in relatively early innings in terms of getting that -- penetrating those markets. So that's the good news. We've seen quite a bit of growth over the last 18 months. That's our fastest-growing product line right now, though relatively small relative to the other product lines in the mix in our sensing business. And the opportunity, we think is to continue to grow that. We've moved the production facility, as we've already mentioned to Atlanta. So that is complete now. We've taken our capacity from sort of four units a month to 16 units a month. And right now, we're just looking to expand internationally. We're still really only servicing North America. So I think early innings for -- in terms of growth for that product line, and we're looking forward to good things in the future.
Yes. Paul, this is one of the opportunities, one of the big opportunities that we have in this market, especially working with the leader in the EV battery manufacturing space and being spec-ed in on their manufacturing line. But as we've talked before, it's actually very difficult as they're always kind of pushing the limits on the technology and the specifications and -- but we feel confident that we will get there. And this expands across many, many EV battery manufacturers, not just the largest one that we're working with.
That's correct. And in terms of competition, Paul, typically, for this type of technology, we're competing against an incumbent sensing modality or method that is not Terahertz related, so it would be something that uses -- so the system measures thickness through opaque materials. So you can do that with capacitive sensors or you can do that with x-rays or ionizing radiation, which people do not like to use and they're trying to get out of their plants. So there's not a major competitor out there that's approaching this problem using Terahertz waves as we are.
Okay. And then along those lines, how big is the TAM you feel in that EV area? And then how do you -- if you have a better product, is it -- how much more expensive, if at all, is it than the older technology? Or is it just the cost of ripping it out -- the old out and putting the new in? Give us a flavor for that.
Yes. I mean, the TAM is going to be huge. It's going to be on the order of $10 billion or something like that relative to the entire size of the market. The [SAM] (ph), we believe, is several hundred million and growing. Cost wise, it's -- we're definitely going to be on the higher side in terms of price. But what the technology brings is so valuable relative to in-line production. And relative to the size of the tooling that we go into, it's small. So it's a traditional gauging, they cost $20,000 or $30,000, we're going to be 3 times that. But relative to the size of the tool and the production output, it's small and it's a really good investment as we've been able to show -- as our customers are investing in it.
Yes. I would -- Paul, I think you need to look at it as well as being a partner in that manufacturing line. While we're measuring thickness and density in real-time, that's a critical measurement that no one else can measure that allows them to tweak that to get the longer range on the battery. So it's not -- we're not just kind of an aftermarket test to make sure I'm doing it correctly. It's a real-time movement on the manufacturing line that allows them to measure and make adjustments in production. So we're kind of a cog in the wheel rather than just something that's testing to make sure that there's enough air in the wheel at the end of the day before the car rolls off the assembly line.
Okay. Got it. Thank you very much.
Thanks, Paul.
Thank you. [Operator Instructions] Our next question comes from Dave Kang with B. Riley. Please go ahead.
Thank you. Nice quester. First on [indiscernible]. Can you talk about the visibility since there have been some rumblings of excess inventories?
Yes. We certainly see -- we follow -- we obviously follow the market closely, Brian, I know that you were just having a conversation with the guys out in the field. So do you want to...
Yes, sure. The Q1 is very strong in [indiscernible] and we continue to see the strengths we saw starting in 2020 or 2021. We have not seen some of the issues, I think that you're referring to that other folks have seen relative to the excess inventories. I think it's because, if you look at what we're tied into, I just don't think it correlates very well with that particular issue. So a lot of strength in aerospace and defense, frankly, for communications networks in those areas, strength in silicon photonics, R&D and quantum computing have been really the three main drivers. So we haven't seen that slowdown. And in fact, we saw the opposite Q1 was a strong quarter, which is evident in the numbers.
Got it. And then just quickly on Terahertz. Is it profitable? And if not, when do you think it will be?
Yes. We don't really run Terahertz as a separate division. Terahertz is a product within our sensing segment. So it's hard to say, but I know where the margins are in Terahertz and it's definitely profitable. So we don't break it out. We don't run it. There's no Terahertz team that we say we assign overhead to and say, how do we run it profitability-wise. But we know at where they're going here another year where they will probably double their prior year's revenue, it continues to be a profitable business. It's just inside, it's a product inside of, say, our Atlanta facility, if you will. So it's not measured that way.
Got it. And then my last question is on RIO lasers. If you can just talk about the number of customers? And is it mainly LiDARs or what other applications involved for lasers?
Yes. So in the mix there for Q1, we had a couple of large LiDAR manufacturers. One, in particular, is commercializing those for wind farms. So LiDAR for wind farms is one of the bigger ones, and we also have a couple of automotives in there as well. The other customer segment that has been strong has been for sensing instrumentation. So we -- the real laser is a vertical integration play for us, and we use that laser in our sensing [equipment] (ph). And we also sell that to other noncompetitive sensing instrumentation companies. So that's the mix there for the real laser.
And what do you think for LiDAR, I mean, auto LiDARs, when do you think that, that will become more meaningful? I assume it's still pretty small at this point.
Yes, that's a good question. We -- our lasers used for FMCW, so you'd have to look at when do we think that's going to be more meaningful in the broader market in general. That's still several years away, we think. But even without that going fully mainstream, we see a lot of room to grow the laser line and the applications we're in now, and we think probably the first big step in automotive could potentially be trucking the longer-range LiDAR, which is what our lasers good for. But again, that broad deployment in the market is hard to estimate exactly when that's going to happen, but at least a couple of years.
Got it. Thank you.
Thank, Dave.
Our next question comes from Jim Manning from Singular Research. Please go ahead.
Yes. Good morning. Thank you for taking my call. I was just hoping if you could give me a little bit of more color with regards to the growth in the European market. Perhaps if you could just share a little bit what sectors are you getting traction on, whether it be auto or aerospace or infrastructure? And I'll follow-up with another question after that. Thank you.
Yes. We're seeing a lot of growth in the European market, Jim, in infrastructure. The Europeans are somewhat ahead of the U.S. in requiring the strain tests on bridges, tunnels, dams. They're mandating it from a government perspective. So we're seeing a lot of expansion on infrastructure. We talked about -- we announced the EV battery manufacturing, where we used our Terahertz system as well.
So seeing I think -- it's why when I looked at the numbers, giving a little bit more color on that growth and the bandwidth of what we have outside of the U.S. with about a third of our employees and about half of our revenue is coming from outside North America. We do see that as the growth potential. Sensing is very big outside. We start to see aerospace. Like I said, we saw EV, infrastructure has a big play. Brian, you can certainly add to...
Yes. No, I think you nailed it. It's primarily in the infrastructure segment is where we're seeing the most growth. And from a regulatory perspective, that market is a little bit ahead of the rest of the world. There are more requirements in place for things like fire detection and tunnels, advanced sensing systems for smart infrastructure for roads and for bridges, et cetera. And then I would just add to that, that the Energy segment and our combination of DAS and DTS for power cable monitoring is also really been a big part of the growth there we've seen in the last few quarters, and we expect that to continue.
Yes. Jim, for example, just last week, we had a senior person or group in from probably one of the largest infrastructure monitoring companies out there that provide equipment in that space here in our Blacksburg office. Q1, again, someone from Europe coming here. So bringing a team here to Blacksburg to talk about the opportunities to partner. That's why we're able to stand out there. I'll talk a little bit more about it in New York about where we're going in three to five years about having a larger percentage, we believe 20% or more percent of our revenue will start the year with spec-ed in blanket-like orders. And I've talked a lot about kind of some of those the Intuitive Surgical’s, the Lockheed Martin, the Northrop Grumman's the EV battery manufacturer. So we'll continue to talk about that. But we see a lot of that activity coming out of Europe and folks bringing teams to Blacksburg to work with us to get -- to take our technology and say, "Can you specifically do this for our application." And that's pretty big for us.
Great. Thank you for that color. And just one follow-up question. You just touched upon the Lockheed Martin. Can you just comment a little bit about the current relationship with Lockheed Martin and what the pipeline is like and perhaps any other aerospace contracts that might be in the pipeline?
Yes. Well, they are certainly one of our largest and best partners. Lockheed Martin, Northrop Grumman on working on the aircraft, the F-35, the F-22, the C-130, these other aircraft that they're putting fiber on to and then using our equipment to test that fiber optics is huge. So we continue to do that. We -- they continue to place large orders every year, and we continue to work with them. We have folks that are dedicated to just handling Lockheed Martin and Northrop Grumman. That's kind of the space that they play in to make sure that, that customer gets what they need as they evolve and look for additional orders, right? Brian runs that team that really focuses on more of these blue sheet-type customers that are placing larger orders.
Yes, the announcement we made in Q4, and we've been delivering against we're just about done with for Northrop Grumman. The sustainment has shifted. So Lockheed Martin has the main contract for production. Sustainment equipment has shifted to Northrop Grumman. But those projects and program teams work really closely together. So for Luna, they are kind of almost like one team. The announcement we made in Q4 is actually for a multiyear deliveries. And the first tranche is what we've completed now. And we're expecting more this year and in the years to come. I think that was about a five year deal. But that aircraft is going to be in flight for 30, 40 years. So we expect to be a part of it while it's in operation.
Great. Thank you for that.
Yes. Thanks, Jim.
Thank you. [Operator Instructions] As there are no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to Mr. Scott Graeff, CEO, for any closing remarks.
Thank you, everyone, for joining us today. To our investors, please feel free to reach out to Gene, Brian, Allison or me with any questions about the upcoming Investor Day on May 24 in New York City. We're looking forward to seeing as many of you as possible, so we can give greater detail about our forward-looking strategic plan and shedding light on the details of our future. If you haven't already registered to attend, please visit our website for more information. And as always, we appreciate your time, and we hope to share more of it together in New York shortly.
With that, Ryan, we can conclude today's call. Thank you, everyone, for joining us today.
Thank you. The conference of Luna Innovations Incorporated has now concluded. Thank you for attending today's presentation. You may now disconnect.