Safeguard Scientifics, Inc.
Q4 2008 Earnings Call Transcript

Published: 12 Mar 2009

[Operator:]

Welcome to the Safeguard Scientifics 2008 fourth quarter results conference call. At this time all participants are in listen only mode. A brief question and answer session will follow the formal presentation. (Operator Instructions) It is now my pleasure to introduce your host Mr. John Shave, VP of Investor Relations and Corporate Communication for Safeguard Scientifics.

[John E. Shave:]

Thank you for joining Safeguard Scientifics today for our fourth quarter and year end 2008 conference call. Joining me on today’s call are Peter Boni, Safeguard’s President and Chief Executive Officer and Steve Zarrilli, Senior Vice President and Chief Financial Officer. During today’s call Peter will review highlights from the fourth quarter 2008 and then Steve will discuss the financial results and strategy for Safeguard and our partner companies. We will then open up the phone for your questions. Before we begin today I must remind you that today’s presentation includes forward-looking statements. As you know, reliance on forward-looking statements involves certain risks and uncertainties including but not limited to the uncertainty of future performance of our partner companies and the risk of acquisitions of dispositions of interests in partner companies, capital spending by customers and the effect of economic conditions generally as well as the deployment of the technology and life sciences market in which Safeguard focuses. During the course of today’s call words such as expect, anticipate, believe and intend will be used in our discussion of goals or events in the future. The company cannot be certain that final outcomes will be as described today. Safeguard’s filings with the SEC including our Form 10K describe in detail the risks and uncertainties associated with managing our business. You are encouraged to read these filings. The company does not assume any obligations to update any forward-looking statements made today. Now, here’s Safeguard’s CEO Peter Boni.

[Peter J. Boni:]

Thank you all for joining us on Safeguard’s fourth quarter and year end 2008 conference call. Today we’ll provide you with a progress report on Safeguard and our 18 partner companies as well as their performance expectations for 2009. As you all are aware 2008 was unlike any other year that we’ve experienced in our lifetime. The unprecedented events of last year left us and really is still leaving us with an unstable financial services industry and a weak wobbly economy. However, Safeguard and most of our partner companies continue to execute solidly during the fourth quarter and for the full year. Our partner company in aggregate are growing revenues and with strategic guidance from us improving their corporate infrastructure, enhancing their competitive positioning and building value in their businesses. Consolidated revenue, that is Clarient’s revenue for three months and the year ending December 31, 2008 increased 78% to $21.9 million and 71% to $73.7 million for the year excluding discontinued operations. Our life sciences partners grew a bit ahead of our expectation. Our technology partners grew but the pace and magnitude of their growth was affected by the economic climate. At the parent company level we ended 2008 in a stronger position than we began the year. We realized approximately $75 million through the bundled sale of five legacy partner companies reducing debt related guarantees by $31.5 million in the process. Now, cash from that transaction helped to strengthen our balance sheet and fund the repurchases of $43 million in face value of our convertible senior debentures and $1.3 of our common stock. We also deployed $16 million in to four new partner companies. So, entering 2009 we remain in a position to deploy capital in selected growth stage businesses in our targeted niches within life sciences and technology sectors. Safeguard is disciplined and we’re poised in 2009 to seize opportunities at a time when lingering uncertainty and volatility are creating some very compelling valuations. For those of you who are new to the Safeguard story let me take a moment to review our business model, our game plan

[Stephen T. Zarrilli:]

Our earnings news release and financial statements were distributed earlier. I’d be happy to elaborate on those details during the question period. With respect to 2008 we were able to achieve a number of key initiatives including a 19% reduction in corporate operating expenses in comparison to 2007, the development of corporate expense plan for 2009 which should yield further reductions, the purchase of $43 million of convertible debt at an aggregate discount of approximately 22% and the creation of a new larger and more flexible corporate credit facility to augment cash resources for short term working capital needs. Balance sheet strength and the prudent use of cash remain critical focuses for the company especially in light of the current economic environment. Our priorities from a financial perspective for 2009 include the continued pursuit of cost efficiencies where possible with respect to operating expenses, the opportunistic early retirement of convertible debt at a discount, a conservative approach to cash deployments foe existing and potential future partner companies with a priority emphasis to support existing partner companies, and the evaluation of potential sources of alternative pools of capital to augment existing funds and to leverage the current infrastructure of the company. We ended 2008 with $87.9 million in cash, cash equivalents and marketable securities excluding restricted securities of $2 million and cash held in escrow of $6.9 million. Our cash balance decreased $19.2 million since the end of the third quarter primarily due to debt repurchases of $3.5 million, cash operating expenses for the quarter of $3 million, the deployment of a combined $10 million in new partner companies Garnet, BioTherapeutics and Tengion, the deployment of $1.2 million to support the growth of existing partner companies and a $2.6 million advance to Clarient under the current mezzanine facility. Deployments in new and existing partner companies totaled $31.1 million in 2008. As mentioned, our game plan for 2009 is to continue to remain fiscally conservative given the macroeconomic climate. Our first priority and our use of cash will be to support our current partner companies in their value building activities. We have assumed that no exits will occur during 2009 although a few opportunities may exist for us. During this climate we will change as external conditions warrant and think outside the box when necessary. Corporate expense control and reduction remains a point of emphasis. Operating expenses for the fourth quarter including stock-based compensation and depreciation expense were down 7% to $4.8 million compared with $5.2 million for the same period in 2007. For the year, operating expenses were $18.4 million versus $22.8 million in 2008 representing a 19% reduction. Principal elements related to this decrease of $4.4 million were reduced compensation expenses of $1.7 million, reduced professional fees of $2.1 million, a reduction in stock-option expense of $1.8 million offset by an increase of severance expense of $1.4 million related to our continuing obligation to our former chairman and CEO. We anticipate continued reductions in corporate operating expenses in 2009. We will also continue to opportunistically repurchase our convertible debt securities at a discount with the goal of retiring the issue by March of 2011. At December 31, 2008 approximately $86 million of the converts at face value were outstanding. There were no stock repurchases during the fourth quarter. Our focus is currently on debt reduction rather than potential repurchase of additional shares of common stock. In early February 2009 we announced that Safeguard entered in to a $50 million two year credit facility with Silicon Valley Bank. This new borrowing arrangement replaces a one year $30 million credit facility with Comerica Bank. Though we have no anticipated or pending additional short term borrowing needs at this time, we are excited about this new relationship with Silicon Valley Bank. Working together we have been able to establish a borrowing facility which permits a certain amount of borrowing flexibility and capacity based on the value of both cash on hand and other assets values related to our equity ownership in our partner companies. We also believe that Silicon Valley Bank can be valuable partner from a lending perspective to a number of our partner companies as their capital needs arise. This borrowing base differs significantly from our previous facility which based borrowing capacity solely on our cash on hand. Our deal pipeline is full however, this doesn’t automatically translate in to planned transactions. Given the current condition of the economy and the lack of clarity with respect to the future, we plan on being very disciplined in considering new partner company investment opportunities. We recognize that this current environment will present some unique investment opportunities. We intend to actively evaluate all such opportunities presented but only consider those opportunities with exceptional future return capabilities. Our first priority, as mentioned before, will be to ensure our current partner companies have sufficient resources to meet their operating needs. With respect to our only majority owned partner company Clarient, we continue to provide appropriate financial support in the form of a debt guarantee and a specific borrowing facility for their working capital needs. However, we are also continually evaluating a multitude of potential opportunities to reduce Clarient’s future dependence on Safeguard for such working capital requirements. As for revenue guidance in 2009 we expect aggregate revenue of Safeguard’s partner companies to be in the range of $200 to $220 million for the year. Aggregate revenue for 2008 was $173 million. Among our life sciences partner companies we expect 2009 life science aggregate revenue to be between $145 million and $155 million. We anticipate 2009 technology partner revenue aggregate revenue to be between $55 to $65 million. GENBAND is not included in our revenue guidance and our new partners Garnet, BioTherapuetics and Tengion are pre revenue companies and will not impact our aggregate revenue expectations. As you may recall, there is a one quarter lag in reporting our interest and the results of minority held companies. Though we recognize the challenges presented by the current economic we believe certain key opportunities exist for Safeguard as we continue through 2009 including augmenting our existing pool of capital with ancillary funds raised, the continued leveraging of the company’s back office infrastructure for the benefit of our partner companies and potentially other external fund oriented partners. Now, let me return the call back to Peter.

[Peter J. Boni:]

Before we go to Q&A I would like to correct a statement. I previously mentioned that SR One was the venture capital line of Merck, it’s actually the venture capital arm of GlaxoSmithKline so I owe an apology to my syndication partner. Overall, last year was a positive one for the performances of our partner companies but not a positive one for the performance of our stock. The external environment has been a hostile and unpredictable for many other favored sectors despite the companies participating in them and we’re one of them. Overall, our partner companies have adhered to our guidance protecting their cash, reducing their burn, employing very aggressive marketing tactics in their respective areas. Some are pursuing M&A opportunities of their own through which they can opportunistically acquire and expand their customer set, channels of distribution or product offering. We remain optimistic that we’re on a pathway to realize value in our holdings as we build value now for valuable exits at the appropriate time. On that note we’ll be happy to take any questions.

[Operator:]

(Operator Instructions) Your first question comes from Robert Labick – CJS Securities.

[Robert Labick:]

A couple of questions, first I just wanted to ask you obviously you’ve mentioned you’ve done some work on lowering your total costs and overhead costs, could you discuss your current cash burn rate from the corporate expenses? And also the range of expected funding requirements for the holdings that you have right now?

[Stephen T. Zarrilli:]

Bob, for 2009 our expectations are cash requirements for Safeguard will be less than $15 million for operating expenses. With respect to future deployments of existing partner companies we anticipate that number will range somewhere between $15 and $20 million for 2009.

[Robert Labick:]

The retirement of your debt as well obviously it’s trading at a discount right now and I know you’ve been active at buying it at a discount, is that also in the plans for ’09? Can you elaborate on that please?

[Stephen T. Zarrilli:]

We will opportunistically take advantage of situations where we think that there’s an opportunity to purchase our debt at a discount. Regardless, we are putting money aside if you will, to ensure that we have adequate resources to meet that obligation by no later than March 2011.

[Robert Labick:]

Moving to Clarient, can you discuss obviously the beginning of the month March, you expanded your financing plans with them, can you just elaborate upon that credit facility and potentially the longer term financing plans for Clarient?

[Stephen T. Zarrilli:]

Well for Clarient we keep opportunistically looking for ways in which they can reduce their dependency as it relates to Safeguard and we think there are some credible alternatives to be considered in the next couple of quarters. With respect to the credit facility that Safeguard has, we expect that that will not need to be used in any meaningful way in the foreseeable future but wanted to make sure that we had that capacity in the event that we had a near term exit that may allow us to take advantage of an opportunity in the market and wanted to tap that line for that purpose.

[Robert Labick:]

Then moving on to the partner companies, it sounds like from the release and Peter’s comments Avid is beginning Phase III trials as well as NuPathe. For the laymen among us could you discuss the time frames and expectations that should be looked for as it relates to Phase III trials and milestones we might see and the timing of when we might see them?

[Peter J. Boni:]

Well, both companies have begun Phase III trials. As we all know Phase III is the last of the FDA approval process prior to going to marketplace. I’d say NuPathe, we’re looking at the end of the year for the completion of these trials and Avid’s completion is likely to go through 2010.

[Robert Labick:]

I mean obviously, I know this environment is not a typical environment but how do you look at the exits of your investments as it relates to the timing of Phase III or to the market? How does this work in the portfolio of Safeguard timing?

[Peter J. Boni:]

Companies at this stage have a couple of choices when they have successfully gone through Phase III. Often times they are scooped up by major members of the life sciences community and their decision metrics is do I want to get scooped up for whatever XYZ value is or do we go commercial with our product offering.

[Operator:]

Your next question comes from William Sutherland – Boenning & Scattergood.

[William Sutherland:]

Steve, at the end there you king of quickly summarized your plans to utilize capital and provide some additional investment opportunities. Could you maybe kind of touch on those three with a bit more color as to what we could expect in ’09?

[Stephen T. Zarrilli:]

Well, within ’09 again we’re going to remain fiscally conservative. What we mean by that is we recognize that the exit environment is such that it may take a bit longer to exit a particular investment or partner company investment later than it had originally been anticipated. So, with that as the backdrop, we are going to be very deliberate in the pace of the use of our cash. We want to emphasize the continued support of our existing partner companies. One of the things that we did do though as I mentioned and probably did run through too quickly, one of the driving elements to wanting to put a new facility in place with Silicon Valley Bank wasn’t to create a short term borrowing facility that would fund long term investments a) was not put in place to augment cash for operating expenses but was really put in place for two reasons

[William Sutherland:]

I know that you’ve talked about some opportunities to bring in I’m not sure exactly what they call them, indirect – to lever the overhead over other investments?

[Stephen T. Zarrilli:]

Yes, we are looking for ways to be opportunistic and to leverage our infrastructure if you will. We enjoy a very solid, very capable back office set of skill sets in the areas of legal, finance, IR, marketing, PR, IT, human resources that we use today to support our partner companies. We think there might be some ways to leverage that in some other unique fashions in the marketplace A). B), we’re looking to see if we can augment our existing pools of capital with other ancillary funds that may be able to be viewed as a co-investment or co-participation fund or a side-by-side fund if you will.

[William Sutherland:]

But that’s still in very early planning?

[Stephen T. Zarrilli:]

Planning and early identification stages so nothing to report at this moment.

[William Sutherland:]

Also Steve on the Rubicor impairment, I’m just curious about the assumptions that went in to circling $4 million for that.

[Stephen T. Zarrilli:]

The net asset value if you will that remains on our book, the investment, the net carrying value basically approximates our share of the underlying technology and product value that was determined based upon a combination of external sources and evaluations that we had performed at the end of the year. We believe it is on the low end of a range of values that were suggested as it related to the technology.

[William Sutherland:]

I guess this is probably hard to pin down but do you have a sense of Rubicor’s timeline this year as far as getting back on track?

[Stephen T. Zarrilli:]

It’s a priority at the highest level for Safeguard to not only find the right level of additional capital so that we can continue to build Rubicor but to find the right collection of executive resources in order to continue to build the company as well. So, it’s at the top of our priority list. I can’t speak to exactly when all of the pieces fall in place but I can tell you that we’re dealing with opportunities and matters related to it on a daily basis.

[Operator:]

Your next question comes from Sam Rebotsky – SER Asset Management.

[Sam Rebotsky:]

When you look at your convertible debt, as of September 30th it was a stated value of $91 million with a market value of about $63 million and with the $86 million at the end of the year what was the market value then and what’s the current market value? I assume you haven’t bought anything currently and what’s the current market value of that debt?

[Stephen T. Zarrilli:]

The current market value ranges somewhere between $60 and $62 million. The difference between the $91 and the $86 million that you pointed out was the purchase of an additional $5 million that we were able to achieve at a discount of 31%. Those converts today I think are trading on average between $0.68 and $0.72 to the dollar when they trade.

[Sam Rebotsky:]

So at this point in time I guess if an opportunity develops then you would sort of reduce the debt further, that’s your plan?

[Stephen T. Zarrilli:]

I am occasionally tuned in to some stress that exists in the market and the two transactions that we accomplished in 2008 represented a moment in time when we felt that we could take advantage of some weakness on the part of the holders. We have some external parties that are working for us and are actively looking for situations where a holder for whatever reason unfortunately may need to exit their position earlier than anticipated and if they need to have an exit, we’re to have a conversation as it relates to the price that they may consider for that exit.

[Sam Rebotsky:]

As far as the price of your stock and the ability to do a reverse split, the New York Stock Exchange, do they have a deadline for anything like that? What are your thoughts on a reverse split now that you have authorization to do that?

[Stephen T. Zarrilli:]

It’s our preference to not have to do a reverse split if at all possible unless we have something that’s so substantially terrific to use as a catalyst for that split. Having said that and as you know we have shareholder approval to do a reverse split of up to 8 to 1. The NYSE continues to be very accommodating not only for Safeguard but for other public companies that are traded on the exchange and they continue to push out the date of compliance if you will to get back over $1. So currently it is our understanding that date is out to September 1st and we continue to have active dialog with the exchange as it relates to a strategy to regain compliance on that particular matter. Hopefully as we continue to execute during 2009 and the market continues to firm and we continue to demonstrate that we are able to add value and create value for our shareholders that we may get closer or even above that threshold on our own. But, that’s the current game plan today.

[Sam Rebotsky:]

Now, you basically stated that with the difficult climate you don’t expect to do a transaction to exit anything based on the market conditions and various other things. Presumably with the desire to do something with the convertible even though you have the $50 million available from Silicon you’re going to hug your cash much more closely. Is it far to say that the number of transactions during 2009 will be smaller than 2008?

[Peter J. Boni:]

Sam, I think that our fiscal planning is such that we’re not anticipating an exit. We may work towards one or more but our fiscal planning is not anticipating that hence, we’re conservative in our financial outlooks and we’ll be conservative in our deployment of capital in those situations. We may be deploying in new situations but there’s a pretty high bar we’ll look at in order to deploy and I can’t quite predict to you how many deals or anything like that.

[Stephen T. Zarrilli:]

The other important point is we are not crafting a plan that would suggest that we use our short term borrowing arrangement with Silicon Valley Bank to meet our obligation under the converts. As we pointed out earlier we are being very deliberate to ensure that we are gathering cash over the next two years either by the retention of what we currently have or through proper exits and I emphasize the word proper because we’re not trying to accelerate those exits for any particular reason to minimize value obtainment but we are very cognoscente and are working very diligently to make sure that there is no risk of not having sufficient resources to meet those obligations when they become due. But, we don’t intend to use our short term borrowing arrangement to refinance a long term obligation.

[Sam Rebotsky:]

It’s a very difficult environment as everybody knows and hopefully one of your companies will be successful and sort of help you along. Clarient has been very positive and on their conference call they spoke of I think an expectation of about $93 million of revenue for the next year so that’s a rather significant portion of your $145 to $150 that you’re projecting. Is there anything else – what is the next closest venture that will produce the greatest revenue for you?

[Peter J. Boni:]

You can’t really predict where the exit is going to come from or how much Sam. I think our next largest company is actually GENBAND but we have only 2.3% stake. GENBAND is $150 million plus in size. In the life sciences arena the next largest one is ABH, Advanced Biohealing.

[Operator:]

There are no further questions at this time. I would like to turn the floor back over to management for closing comments.

[Peter J. Boni:]

Thanks very much for your continued support. We’ll continue to work diligently to build value at Safeguard and report to you our progress going forward. Thanks a lot.

[Operator:]

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation. Copyright policy