Electro Optic Systems Holdings Limited (EOS) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Electro Optic Systems 2024 Full Year Results. [Operator Instructions] I would now like to hand the conference over to Clive Cuthell, CFO and COO. Please go ahead.

Good morning, and thank you. I'm going to hand over to Andreas, our CEO, in a moment. Today, we are using the investor presentation that was launched on the Australian Securities Exchange this morning. We will turn a few -- through the pages in the deck, and we will take questions at the end. We will start at -- probably at about Page 7, where there's highlights of the year. And with that, I'll hand over to Andreas.

Good morning, ladies and gentlemen. My name is Andreas Schwer, CEO of Electro Optic Systems. You might recall that we joined the company in August 2022, and we are mentioning that the restructuring program, that is still the program of the company, will take us about 3 years. The year 2024 was the second consecutive year in this process, and it was focused on strategy refinement and portfolio optimization. So in the course of the last year, we have divested our noncore naval satcom business, EM Solutions, and have earned about EUR 158 million of proceeds on 31st of January 2025. We've decided to focus the company now on 2 key pillars, 2 markets which are extremely promising, and 2 markets that we are very well positioned in. One is the counter-drone market where we are active with 2 key factors. One is the kinetic or kill canon-based air defense and one is the High Energy Laser Weapons business. The second strategic pillar is Space Control, which we developed out of our long-lasting and existing space awareness and space intelligence business. With the exception of the proceeds from the EM Solutions divestment, the company was in a position to repay the remainder of the borrowings in January 2025. So after having repaid all the remaining debt, the company is now debt-free, and we have a cash balance of EUR 128 million, plus another EUR 48 million of cash security deposits at the end of January 2025. The markets overall are looking extremely promising. Everybody could read the press and the news. What is happening in Europe is bolstering our future expectations even more. We all expect that Europe will increase its -- expand investments from currently about 2% of GDP to more than 4% or 5% GDP. So we expect that the budgets of the key Western European NATO countries will more or less double over the next 3 years, which is better than what we have expected [Technical Difficulty] further push. And again, this is independent of whether the Ukrainian war will come to an end or not. If it comes to an end, it would mean that most likely Europe has to stick on more than 100,000 soldiers with new equipment which is not available today into Eastern Europe to secure the borderlines. All that is giving us a great perspective for the next coming years in our remote weaponization business and now also in the counter -- in the High Energy Laser Weapon business, where we are close to contract signature in the next few months. I would like to hand it over to Clive for the financial review on Page 8. Clive, please, you can proceed.

Thanks, Andreas. So 2024 gave rise to the highest revenue that EOS has ever achieved, which was EUR 259 million, or up 17% on last year. As many of you will know, the result includes 12 months' activity of the business EM Solutions, which we completed the sale of in January 2025, last month. So there's a full 12 months of the business that has been sold in the calendar 2024 result. And obviously, as we've said, the sale of that business has resulted in a significant cash inflow, repayment of debt and positions us for future growth. The results for the continuing business are shown on the bottom left of Page 8 in the presentation. And happily, the gross margin increased from 45% to 48% as we continue pricing discipline. We'll go through the financials in a little bit of detail later on and touch on a few different aspects there. So with that, I will hand back to Andreas, who is going to continue on Page 9.

So as I was mentioning before, defense expenditures are growing as a percentage of GDP and in absolute numbers. We expect a strong push for our products even more as we have entered -- and some of you might remember we've entered into a framework agreement with our key supplier, Northrop Grumman, for the cannon delivery, which allows us now to deliver quicker than probably most of our competitors in a quite urgent delivery mode to most of our clients across the globe. That is giving us now a leading edge, and we hope to realize some of those opportunities in the course of the next few months. If you go to Page #10, you see how the warfare in Ukraine has intensified on the drone side. Whereas the missile attacks go back or go down, the drone attacks are increasing month-over-month. That is pushing the need for our products, and I'll come back in a few seconds -- minutes again on the Ukraine opportunity. But this is a scenario, again, which is characterizing the war for not only in Ukraine but also future conflicts that are obviously going that way and asking for our type of counter-UAS products. Page #12, product development, we have invested last year a significant amount of effort and money into the development of software by the inclusion of AI features into our product to allow us to have a further discriminator in the battlefield. AI will help us to better be able to detect and classify objects, drones, and even have an improved tracking capability, whereas one layer above the C2, the command and control, will allow us to operate in mesh networks to communicate in between the weapon stations and to allow those weapon stations in the future to have a kind of protective umbrella around them to protect the vehicles and the soldiers from attacks from the sky. Page #13, our most recent product development, the R500 has been unveiled last week at the world's largest defense exhibition in Abu Dhabi. The R500 is the first and only next-generation weapon station on the market. It includes all those kinds of features I was just mentioning, and it includes a significantly increased firepower and much larger ammunition capacity and missile and rocket carrier capability. The R500 has been developed by requirements coming from a couple of our clients. The product development will come to an end towards end of 2025. We expect the first prototype shootings and demonstrations by the end of the year towards clients. And we are, with one of our existing customers, in a quite advanced discussion on a very significant contract for this R500. So the R500, again, will be the first of its kind, next-generation weapon station. And once that's on the market, we will give real-life upgrades over the next few years also on our other weapon stations, allowing us to be in the leading position in terms of innovation on the long run. Page #14 and 15, I don't want to spend too much of time. You can see here that we have been very active in marketing our products in all the major defense and trade shows around the world. We've participated to a very large number of customer live-firing demonstrations. The most recent one was happening in January, so last month, where we also have been the only company amongst a very notable international competition. We have been the only company shooting down 100% of the drones. The next best-in-class was another company with 25% of shot-down drones. So also here, we marked the benchmark. And it's giving us further confidence that the future positioning of the company in the counter-drone market is looking really very, very, very promising. Let's go to Page #16. The year -- the actual calendar year 2025, we will focus all of our efforts in building up our order book. We have a significant order pipeline ahead of us. On Page #16, you can see the kind of order size, opportunity size, of those contracts which are very close to us. We call it advanced. You can see it's across all of our product lines, R400, R800 and High Energy Laser Weapon business, which comes into play now. And if you look further down the pipeline, where we are also, in other cases, negotiating, it's a wide range of products with a wide range of customers globally distributed with a very significant number. So we are very optimistic in terms of order book development. Last year, the order book development was disappointing. It was not disappointing because of any potential loss of a contract. That did not happen. All of the contracts which we were expecting to sign have been postponed by the client into 2025. So all of that opportunity should be realized this year. And that's the reason why we are optimistic. We didn't lose a single contract. So Page #17, market development in Ukraine, you might recall that we have quite a significant number of systems operating successfully in Ukraine. So currently, we sent over 190 systems. And you can see, on all the social media channels, how our systems are operating, how successfully they are shooting down drones and loitering ammunition. And there are different configurations donated by various customers and clients. And you all might remember that we have signed conditional contracts in 2023 with a total value of AUD 180 million. Those were dependent on successful customer demonstrations. Those demonstrations have been done. The customers formally released our product to the local market, and we are waiting now just for the release of budgets to allow the clients to sign those contracts. Those budgets could be Ukrainian local budgets from the kind of ordinary household, but could be also donations in cash from Western European countries. All that, obviously, expect to happen over the next months to come, depending on the political evolution there. Let's move on to Page #18, contract backlog, and I hand over to Clive to give you some further details on those figures.

Thanks, Andreas. So as Andreas said, the contract backlog of $136 million at December 2024 is a bit lower than we had hoped for and some things that we were hoping to sign in '24 are now expected in 2025. Some of the big movements that have impacted the backlog are, clearly, the EM Solutions contracted order book, which was $171 million at December was sold in January 2025 and the funds realized were used in a few -- will be used in a few different ways. And that resulted in us having no borrowings at the end of January. The Middle East contract, we've had a big contract in the Middle East for a few years. That has now been largely completed with deliveries in 2024. We are -- we have a very strong relationship with that customer, and we are codesigning a new R500 product with them, as Andreas mentioned earlier. The main focus with that customer is collecting the final 10% retention payment, which is USD 32 million. And as we've indicated previously, we would like to receive that during the middle of this calendar year. And of course, the opportunity for follow-on orders remains. Also in Ukraine, which Andreas has touched on a little bit previously, we do have 2 conditional contracts for Ukraine that are not included in the secured backlog on the left. These did move forward during 2024 with demonstrations being completed and the main question there is Ukrainian budget availability for purchasing directly from us. So in Ukraine, the government is choosing day by day between buying ammunition, buying different kind of equipment and spending on other priorities. What we would say is that the geopolitical situation does not give us significant cause for concern, as Andreas mentioned earlier. If hostilities continue, we expect demand to continue. And if hostilities cease, we expect the necessary security guarantees that will be provided by others will create demand for equipment. Finally, there's a range of many other opportunities that we are working on and some of these are detailed -- are summarized on Page 16. And Page 34 through 37 in the appendix includes -- we've included quite a bit of detail on some of the notable opportunities in each of the categories in our pipeline. So finally, I would say that we are still very much focused. As you might expect, the order book is the biggest focus in the company, and we are working hard and we would expect to grow the order book as we go through the forward period. That has led to some investment in spending, both in sales force and in marketing with trade shows and demonstrations and other forms of engaging with customers. Finally, of the 136 order book, a bit over $100 million is expected to roll into revenue in calendar 2025, and I'll come back to that in a second. If I keep going through the financial updates, on to Page 20, so this is the detailed results for continuing operations that I mentioned earlier. So these results on the left exclude the 12-month results for EM Solutions, which was sold at the end of January 2025. And as you can see, revenue up -- gross margin up by 3%, 48%. Also note finance costs of $25 million in calendar 2024. We expect that to come down an awful lot during calendar '25, given that all of our borrowings were repaid at the end of January. Finally, I'll just touch on the bottom right. We've been focused over the last few years on diversifying the revenue base. And you can see the split of revenue on the right-hand side of the chart at the bottom of Page 20. That the revenue from continuing operations has continued to diversify pleasingly. The U.S. revenue, which is the North American revenue, which is shown in black, is now approaching 10% of the group. That's following a number of management changes that were made during the year in our U.S. business. I go over to Page 21 shows the statutory tie-out of EBITDA. We did get the benefit of a $11.6 million foreign exchange gain during the year. And as normal, we have not included the benefit of that gain in the underlying EBITDA metrics that we quote. If I turn over to the divisional results shown on Page 22, in the usual form, we've shown the Defense, space and the EM Solutions, discontinued business results. Defence revenues are putting some investment in sales and marketing, which has impacted EBITDA. Space, pleasingly, grew quite strongly from just under $7 million to just under $11 million of revenue. That includes the benefit of revenue from government customer funding to develop product and capability, and that's consistent with our approach to capital discipline. Maybe finally, I would add that, in defense, we're seeing some benefit flow through from our activities in North America. And that's contributing to the increase in revenue there. Over on Page 23, that shows the cash flow in the required statutory format, which is the cash flow for '24 for both the continuing and the discontinued operations. The cash flow in 2023 was especially strong as we had a large benefit from a reduction in working capital that [indiscernible] rise to the very strong operating cash flow that we got in 2023. We also had a benefit of cash receipts in advance due in '23 and spending in '24, which is exactly how we want to structure our projects. So the operating cash flow was $30 million negative in calendar '24. The investing cash flows, which were actually positive, included $15 million of cash receipts for the release of cash security deposits after we reached some operational milestones and delivered some products to the domestic customer in Australia and that released some guarantees and bonds. So obviously, we spent money in operating cash flow and got some guarantees back, which benefitted the investment line as I said. In the financing line, which is $9 million positive, that includes the $35 million from the equity raise in the first half of 2024. It also has going the other way, a debt repayment of $21 million that took place in April 2024. After the end of the year, in January 2025, we repaid just over $60 million to our funding providers to repay all borrowings [indiscernible] EM Solutions. So the numbers here at the end of '24, do not include the benefit of the sale transaction that happened after the end of the year around January '25, as we've announced previously. At the end of January, upon the sale of EM Solutions and the repayment of our borrowings, we had $120 million in unrestricted cash. And in addition to that, after the end of the year, we also had just under $50 million in cash and security deposits that we would expect to come back to the business over the next 1, 2, 3 years. So finally, the financials over on Page 24, the debt and cash position is shown. As mentioned, the company has enjoyed support from a long-standing equity investor Soul Patts over a number of years and the debt owing to Soul Patts was repaid in full at the end of January 2025. And as I said previously, we had significant cash balance both free cash and secured cash in bonds. The outlook for the calendar '25, there's a slide further on, but I'll briefly cover it now. The outlook for 2025 is our revenue for '24 was $176 million. I'd note that the analyst consensus estimate for revenue is coming in at around about $160 million for calendar 2025. The company is obviously comfortable with that. Otherwise, we put announcements out to the contrary. We've also said that we expect to win some orders over the course of the year to help us get to that level of analyst consensus and there will be a bias of the result towards the second half. That is the result which is expected to be stronger in the second half than it is in the first half. That's all I was going to cover on the outlook. And with that, I will hand it back to Andreas, who is, I think now on Page 26.

Thank you, Clive. Page 26, our growth strategy is based on 2 pillars, obviously, our remote weapon station counter U.S. pillar with cannon based air defense is growing over the next 3 years thanks to a very stable growing market, as we discussed before. This is happening with or without peace in Ukraine because of the sheer demand in new systems and the increase of soldiers and equipment in the battlefield. And based on that one, we will have a very solid growth. On top of that, with the commercialization of our High Energy Laser Weapon business, we expect a quantum leap in terms of revenue creation capability. The first contract to be signed in the first half of this year with a Western European NATO client, this contract was supposed to be signed already last year. It lapsed into 2025 because of our position as a sole-source provider there. The Ministry of Finance of our client has requested to do a financial audit on our offer, which is coming to an end beginning of March of this year. So we're optimistic to be able to sign this contract over the next few months. A second opportunity is coming. That one has been delayed slightly because of a change in specification to a higher power level. That contract we hope to sign in the course of the second half of this year, and we are working with 3 other countries on other laser contracts. So this is something which is giving us lots of hope to play in another league of revenue as one laser system sells at a significantly higher price than a couple of weapon stations. On top of that, in space control, on the medium and long term, we play a very, very essential role as we are the one and only player outside who is being able to offer the full set of space control counter-satellite measure stone capabilities like [ dazzling ] sensors, like disabling sensors from ground in space is something which is quite unique outside the United States of America. So Page 27 summarizes all that. High Energy Laser Weapon and Space Control, our key strategic market evolutions in the future where there's very limited competition and where our products are well placed because [indiscernible] concentrate on the non-U.S. market with those type of products. Please turn page to Page #28. What do we want to do with the proceeds out of the divestment of EM Solutions? As Clive was mentioning, we paid down the remaining debt. The company is debt free now. And with the remaining funds, we want to invest now in our key growth areas in the counter-drone business. And here, specifically in companies organically in the area of artificial intelligence and advanced software development, we want to further improve our classification, detection and tracking capability where AI will play a very essential role. That's an area where we have some opportunities ahead of us. Active discussions are ongoing, and we hope to have some good deals for announcement in the course of this year. The second area of investment is the High Energy Laser Weapon business where we want, amongst other things, to invest into demonstrated units to be able to showcase our 100-kilowatt class laser weapons to further clients around the world. So those are the key areas of investment where we want to base our money. Again, we will focus on our product portfolio and our strategy. We will now start to open up new businesses left and right in order to get the horsepower on the street and to execute what we are promising here. Page #29, in summary, the outlook is very promising. We will focus this year absolutely on order book buildup. We have done all the prework which has to be done. And the good news is that we didn't lose a single major opportunity last year. All those major campaigns and opportunities have been shifted, on client request, into 2025, and we are on all those opportunities very well placed. And if you want to have further details on what opportunities are we talking about, you will see, in the annex to this presentation on Page #34 to Page #37, all the various details, the various opportunities which we are chasing. And again, we are quite optimistic to make some of them happening soon in order to build up the order book and to execute as promised or even better. That's the end of our presentation. The floor is now to you, ladies and gentlemen, to raise questions.

[Operator Instructions] Today's first question comes from Owen Humphries at Canaccord.

Two questions from me. One is just around, this is a year of investment in your business and pipeline development. You've been very clear about that, just on your OpEx and CapEx running at, call it, $90 million per annum on a kind of steady-state basis. Can you just talk about how much of that is allocated to non-revenue-generating initiatives or growth investments? How much are you guys investing this year in building that pipeline?

Thanks, Owen. So yes, so our OpEx is running at a touch over $90 million. That includes staff. A big portion of that is people, but it also includes marketing and some other spending. A chunk of that is obviously spent on delivering products, but we are spending significantly more at the moment than we spent in previous years on the market development, sales and marketing activities. The total spend within that is a little over $10 million, I would say, on direct on-market spend. That includes people, marketing budget, travel and trade spend. So it's a little bit over $10 million. And it was a little bit under $10 million in 2024.

Okay, so flat year-on-year really.

And it was a lot lower than that in previous years. So we're putting significant investment into that.

And then just can you talk through -- and I guess the CapEx is all growth, isn't it, really?

Yes, that's what it will be, the CapEx. So the CapEx, we -- our focus on CapEx is to make sure that product development as far as we can do it is funded by customers and governments. So pleasingly, during the year, we had some success with that when the Australian government funded $14 million that we announced during the year for new equipment and new capability, which is helping us in some of our product development and some of our strategic initiatives in space. So we do find that we can invest a little bit more than just the CapEx that we -- our own money that we put in the product development. But that's right, the CapEx that we do spend is also growth.

I understand this is -- there's lots of moving parts this year in building the pipeline. But is the expectation and the mantra within the company to be free cash flow positive in '26 and '27?

Yes. In a nutshell, we are -- we've been driving this business for cash flow for a couple of years now. It does remain a little bit lumpy. As you know, it was exceptionally strong in '23. It wasn't -- the operating cash flow was negative $30 million in '24, and that's partly due to the lumpiness. But as we grow the order book and diversify the sales base, we would expect to be cash flow positive going forward, so -- and '26 and '27 absolutely.

And I guess that assumes a revenue greater than $180 million going forward from '26 onwards.

Yes, that's right. The breakeven point is a little bit over $180 million. And in order to [indiscernible] that cash result, we look for revenue to be higher than that as a result of the investments that we're making in the pipeline.

And therefore, the cash flow point for the business is around $110 million, $120 million.

We would look for a fairly strong cash flow. But yes, the gross margin on a couple of hundred million of sales would be approaching just under $100 million and then we expect to be EBITDA positive at that level.

[Operator Instructions] Our next question today comes from Dave Storms at Stonegate.

Just a couple on some of your new offerings. I want to start with the High Energy Laser Weapons. I was hoping you could maybe help us quantify the price-per-shot efficiencies with the High Energy Laser Weapons versus some of the more traditional kinetic options. And I was also hoping to ask if that technology is subject to something similar to Moore's Law.

So I didn't understand the second part of the question. Could you please repeat the second question?

Yes. Just with that technology, if it's subject to something similar to Moore's Law where every X amount of time, it becomes Y more efficient as opposed to manufacturing ammunition or something like that.

So the cost per shot of a laser weapon is around about $1 to $10 depending on the power level and the level of engagement. The duration of engagement, the typically duration is about 1 to 3 seconds. Let's assume 100 kilowatt over three seconds, you can calculate the kind of power you need and the cost of energy is quite known. So that's the kind of cost per shot, and this $1 to $10 has to be compared with the other types of factors, which is, in the best case, a cannon-based air defense system where the cost per shot is around about $100, $150. The next one up this string is then the rocket-based air defense with a rocket system, a rocket costing between $15,000 and $20,000. And then about that one, the guided missile is between $300,000 and $1 million. So the laser weapon is extremely effective. Obviously, it comes with a higher purchasing price, but the operating cost is very low. And that's why we believe in this technology.

Just in terms of the application of Moore's Law to laser power levels, I think the market for laser weapons continues to develop. Obviously, it started at lower power levels and is increasing. There are higher powered laser technologies that are on the market. So we've been in the space of designing products at the 50 to 100 kilowatt level. And the market and product development globally continues, and there are some products being developed and used, particularly in North America, at higher power levels of 300 and 500 kilowatts. It's not -- I think what we'd say is that it's not all about the absolute power level. Different power levels provide different levels of portability, different levels of cost, and these have different applications on the battlefield. So for example, 50 kilowatts and 100 kilowatts are used on Class 1 and 2 drones depending on the accuracy level. So the only comment I'd make there really is that it's not all about growth in the absolute power level. There's a range of different factors to consider there. I don't know if we've answered your question or not, but that's the comment we'd make.

That's incredibly helpful. I'm just trying to quantify some of that. And then my second question is based on the software. As you're bringing more AI-enhanced products to market, are you seeing any challenges in the sales process comparing and contrasting those AI-enhanced products versus maybe a user-operated product?

So the AI algorithms are part of our integrated software package in the -- embedded in the sensor units to help us identifying and classifying objects over long -- very long ranges. Obviously, this is done in a kind of way where demand is still in the loop. That means the system is suggesting whether it is a swarm of drones or whether it's a swarm of birds and is able to track that even if the contrast between the drones and the background, let's assume it's cloudy sky, is very poor. Demand is in the loop, but there are also now new attempts triggered by some of our clients, very prominent NATO clients, asking us to develop systems which can act in a quite autonomous way, driven by the fact that, in the battlefield, the soldiers, the personnel within the tank, is very busy with their kind of ground-to-ground task and cannot, at the same time, check the space. And the aerospace allows them to see whether there's one or even more hostile targets. That is something which the system needs to do by itself. And as in more and more cases, the kind of threat by loitering ammunitions or kamikaze type of drones is not leaving any kind of decision time for the soldiers. Some of our clients have asked us now to investigate completely autonomous systems where man is no more in the loop. That is a development activity which we expect to finish over the next 18 to 24 months. But yes, we believe that this will come because of the demand of the battlefield.

That's great. And if I could just sneak one more in. On your gross margins, great to see them continuing to grow year-over-year. Is 48% a fair run rate? Or could there be further margin expansion following the divestiture?

The way we look at gross margin is that we would expect to achieve gross margins of 40% to 50% on most sales for very large multiyear sales for hundreds of units. Clearly, we will get -- we will look to secure that work and we will be -- sometimes we will accept a margin that's at the low end of that range. Other times, once we've secured a base load, we would look for higher margins on smaller orders. The other thing that can often feed into pricing and margins is the urgency with which the product is required. And we've done a lot of work on pricing control and discipline in the group to make sure that we're charging the right prices in the right scenario. And we do think that, over time, particularly with some of our premium counter-drone products, that there is room for positive margin development, although that may take a little bit of time and it might be a little bit lumpy. Does that help, David?

That's very helpful.

And our next question today comes from [ Anthony Box ] of Anthony Box [indiscernible] PTY Ltd.

I'm just wondering about the loan repayment. Did we forgo some interest and why?

Thanks, Anthony. So the loan repayment that we made included a significant penalty for early repayment. So the amount of, I guess, principal that was due was $52 million, just over $52 million, and we repaid about $61 million, including a $9 million approximate penalty for early repayment. The reason we paid that is because we were obliged. We had no choice but to pay that. Make-whole penalties like this are a fairly market standard term for borrowing that was put in place in October 2022. In fact, so having made an early repayment, we had no choice but to pay the penalty. We also had no choice but to make the repayment as the sale of the EM Solutions business meant that we were obligated to make that early repayment. So it was a result of the financing package that was put in place in October 2022.

Thank you. There are no further questions at this time, so I'll now hand back to Dr. Schwer for closing remarks.

Ladies and gentlemen, thank you very much for your interest in EOS. EOS has performed in 2024 on a record level in terms of revenue. We are confident to make the growth continue over the next coming years. We are aware of the need in terms of order book improvement. We are focusing all of our efforts on that one. We have now a completely renovated state-of-the-art and the most innovative product range on the weapon station side. And we are the market leader in benchmark products in the counter-UAS, in the cannon-based air defense. And we are at the stepstone of the commercialization of the High Energy Laser Weapons as one of the very, very few bidders and companies being able to deliver those systems [indiscernible] outside the U.S. That's giving us lots of confidence. We count on your loyalty. We hope that we stay together. And we again want to thank you for your interest in EOS and for your time spending with us here during this call. Thanks again, everybody. Bye-bye.

Thank you. That does conclude our conference for today. Thank you for participating. You may now disconnect.