Jeff Stanlis - Hayden, Investor Relations Nathan Mazurek - Chairman and Chief Executive Officer Tom Klink - Chief Financial Officer

Matt Koranda - ROTH Capital

Thank you. Good day and welcome to Pioneer Power Solutions' 2016 first quarter financial results conference call.

The call today will be hosted by Nathan Mazurek, Chairman and Chief Executive Officer; and Tom Klink, Chief Financial Officer. Following this discussion there will be a formal Q&A session open to participants on the call.

Before we get started, let me remind you this call is being broadcast over the internet and a recording of the call and the text of managements prepared remarks will be available on the company’s website. During this call, management will be making forward-looking statements.

These statements are based on current expectations and assumptions that are subject to risks and uncertainties that could cause actual results to differ materially. Please refer to the cautionary text regarding forward-looking statements contained in the earnings release issued last night, and a posted version of these prepared remarks, both of which apply their content of this call.

I would now like to turn the call over to Nathan Mazurek, Chairman and CEO. Nathan, please go ahead.

Thank you, Jeff. Good morning and thank you all for joining us today for our conference call.

This was a strong start to 2016 for Pioneer demonstrating that our results are progressing according to our plan. The profitability reported for the first quarter of 2016 reflects most of the benefits of the cost reduction initiative put in place last year, as well as the impact of planned exiting of lower margin business.

The results of the first quarter reinforces that we are on target to at least reach our full-year guidance for adjusted EBITDA of between $8 million and $9.5 million. We have taken decisive action to eliminate the drags on our profitability and looking forward, we expect sequential improvement in both our top and bottom line throughout 2016, as we grow our business and take advantage of economies of scale and operational efficiencies to drive profit margin higher.

For the quarter, revenue was $26.6 million and adjusted EBITDA was $2 million. Our $1.1 million in operating income for the first quarter represented a $2.3 million sequential improvement and was higher by $1.2 million, compared to the first quarter of 2015.

During the third quarter of last year, we announced decisive actions to rationalize our business and streamline operation with the stated goals of eliminating the parts of our business that were depressing our profitability. As part of this, we essentially consolidated six manufacturing facilities to three.

In addition, we have outsourced certain lower margin activities and adjusted our headcount. As a result of these efforts, we expect it to reduce our annualized fixed cost by at least $2.5 million.

We began this initiative during the fourth quarter of 2015 and completed them during the first quarter of 2016, while most of the reductions were reflected already in the fourth quarter; additional costs were eliminated in the first quarter. The benefits of these initiatives should be seen in the second quarter and beyond.

We now have a stable profitable cost structure that we believe we can effectively leverage to expand our profitability as our revenues continue to grow. Turning to our two operating units.

In our transmission and distribution solutions or T&D business, our switch gear business and our U.S. transformer business are performing well with increased revenue in the first quarter, partially offset by continued challenges for our Canadian business unit.

In the U.S., our Jefferson division had the highest quarterly EBITDA levels since we acquired it in 2010. Jefferson’s quarterly EBITDA level in the first quarter of 2016 was nearly double what was generated in all of calendar year 2010.

Our most recent acquisition Pacific Power Systems has significantly exceeded our expectations since we acquired it summer of last year. Pacific has a more dynamic business opportunities than we anticipated when we acquired it, its backlog has grown faster than we expected and the enterprise is as a whole, more profitable than we expected.

In terms of product profile and market opportunity, this acquisition has significantly enhanced our product offerings and provided access to larger long cycle project opportunities. As of April 1, we have fully integrated this business with our existing Los Angeles based switch gear facility improving the competitiveness of both businesses.

Partially offsetting this was the continued weakness in the Canadian economy in the stagnation of the oil and gas sector. Despite these challenges, our Canadian liquid fill transformer business maintained its high EBITDA percentage level during the first quarter.

Our Canadian dry-type distribution business was marginally profitable for the quarter on a lower sales volume as compared to the first and fourth quarters of 2015. This demonstrates the progress we have made in eliminating lower margin business as we concentrate on more profitable medium voltage and custom magnetics.

As I mentioned earlier, we are being more selective in 2016, exiting certain lower margin market segments. In our critical power solutions segment, our sales on recurring service business continues to be strong and we still expect earnings improvement from this portion of our business in the coming quarters.

Our decision to exit certain business opportunity should also impact the portion of tightened equipment sales as we focus on expanding the scale and profitability of Titan service business. Titan already enjoys the solid and growing base of recurring service revenue that continues to expand, we remain encouraged by the margin and EBITDA contribution we believe Titan can continue to add to our results and by improving our selectivity in the business we pursue we think we can continue to expand those profit margins.

I will now turn the call over to Tom Klink, our Chief Financial Officer to provide the details of our first quarter financial results, and review our 2016 full year guidance and underlying assumptions.

Thank you, Nathan and good morning to everyone. First quarter revenues were $26.6 million, down 8% compared to the $28.9 million in the first quarter last year.

This decrease was driven primarily by plan reduction in sales of certain lower margin products as Nathan mentioned, which were partially offset by increased sales in our T&D solutions segment, driven by our acquisition of Pacific Power in August 2015. From time-to-time our sales figures are negatively impacted by the effect of foreign currency translation when comparing our results to prior year periods, as was the case this quarter.

In the quarter, the effect of foreign currency translation on sales had a negative impact of $2 million. Gross profit for the first quarter was $5.9 million or 22.3% gross margin, compared to $5.6 million or 19.3% gross margin in the year ago quarter.

For the quarter, selling, general and administrative expenses decreased 18.4% on an absolute dollar basis to $4.7 million, compared to $5.8 million in the first quarter of 2015. As a percentage of revenue, SG&A expenses also decreased from 20.2% of revenue in the first quarter of 2015 to 17.9% of revenue in the first quarter of 2016.

Operating income for the quarter was $1.1 million, compared to an operating loss of $84,000 in the first quarter of 2015. The first quarter of 2016 also included $119,000 in restructuring integration and impairment charges compared to zero charges for the first quarter of last year.

Net income for the quarter was $569,000 compared to a net loss of $225,000 in the prior year’s quarter. Adjusted EBITDA was $2 million during the quarter or 7.6% of revenue compared to $834,000 in the first quarter of 2015.

Non-GAAP diluted EPS was $0.11 per share compared to $0.03 per share in the first quarter of last year. Turning to the balance sheet, our total debt is $20.2 million compared to $16.1 million at the end of 2015.

On April, 29, 2016, we entered into an amended and restated credit agreement to extend our credit facilities with the Bank of Montreal until July 31, 2017. This amended and restated agreement replaces the labor that was set to expire on April 30, 2016.

This agreement contains revised governance and funding amounts that finance our cash requirements for anticipated operating activities, restructuring and integration plans, capital improvement and scheduled principal repayments of long-term debt. The agreement allows the company to reclassify portions of our debt as long-term obligation.

We believe this agreement provides us with sufficient liquidity to execute our plan. We have made progress in our efforts to resolve the situation related to our payroll taxes.

On April 2016, two of our divisions entered into installment payments agreements with the internal revenue service for the payment of delinquent payroll tax liabilities. These agreements encompass approximately 84% of the amounts owned by the company for delinquent payroll taxes.

With the execution of the installment payment agreements, we reclassified $2.8 million of this liability as long-term indebtedness as of March 31, 2016. In addition, we recognized a net benefit of 139,000 recorded as other income and expense related to abatements we have received for some penalties and interest.

We have previously accrued what we expected would be the full expense for all penalties and interest and upon receiving the abatement we are able to recognize this benefit. We continue to pursue installment payment agreement for the other two divisions, Jefferson Electric and Pioneer Critical Power, as well as abatement of all penalties assessed by the Internal Revenue Service on the delinquent payroll taxes.

While we cannot be certain of the outcome and do not yet know when this matter will be resolved we are making progress. We will keep you apprised with the progress.

Today, we are reaffirming full-year revenue and earnings guidance for 2016, which includes revenue between $117 million and $127 million of which, a $100 million to $107 million is expected to be drived from the T&D solutions segment and $17 million to $20 million from the critical powers reporting segment. This reflects the consolidation of our Pioneer Critical Power Inc.

business into Pioneer CEP operations shifting more revenue into our T&D segment. Adjusted EBITDA between $8 million and $9.5 million, non-GAAP diluted EPS between $0.55 and $0.66 share, which includes the impact of a higher effective tax rate as more of our revenue shift from Canada to the United States.

The 2016 full-year guidance is based on the following key assumptions. No future acquisitions, our foreign currency exchange rate of $0.72 U.S.

per Canadian dollar and effective tax rate at/or above 28%, share count of approximately $8.7 million shares and we exclude the effect of any restricting and non-cash charges arising out of our cost optimization plans. Our 2016 guidance is driven mostly by growth among our U.S.

based businesses and based on the strength of the sales pipeline, expected production cost savings, facility consolidation, and external factors, which may or may not materialize in a way favorable to us. In Canada, we have assumed no meaningful improvement in business conditions and that performance of our liquid-filled transformer business will remain stable at its currently depressed level and that losses of our dry-type transformer business will continue to be curtail.

As we have said previously, we expect the second half of 2016 to be stronger both in terms of revenue and profitability than the first half of the year. This concludes my remarks and I now turn the call back over to Nathan.

Thank you, Tom. Operator, I’d now like to open the call for questions.

Hi, Nathan and Tom, thanks for taking my questions.

No problem, Matt.

So, I think the first question I had was – sorry, what was that?

There’s a lot of noise coming through.

Yeah, now I’m at an airport, sorry, guys. So it probably calm down in a second here, but can you hear me okay?

Yeah, perfect.

Okay, good, all right. So, the first question I had was around your outlook.

So, essentially, it looks like EBITDA margins in Q1 really strong, 7.6%, which is ahead of where you guys are guiding at the midpoint, which I believe the midpoint of your guidance is about 7.2% EBITDA margins. Q4 also even they had a partial benefit from restructuring, you already had a deadline with your 2016 full-year EBITDA margin guidance.

So, I’m just trying to understand essentially why not bring up guidance for 2016, this quarter’s, given where things are tracking, are you expecting sort of to flatten out here or I think you had mentioned you still expect to get some more benefit from some cost cutting you’ve done. So just talk a little bit about that and essentially, how you’re expect things to track in terms of EBITDA margins for the year?

We’re lucky in a lot of parts of our business, we have pretty good visibility. So the visibility into the second and third quarter is good and revenue was tracking according to oil and it’s up and therefore based on just the additional revenue, the EBITDA margins should – EBITDA is an absolute number, should go up in the second and third quarter and the margin should pick up a little bit as well.

Don’t have a lot of visibilities into fourth quarter, yes, and that’s the reason we’re not changing the guidance. We’re not making any change in the guidance right now.

Okay. All right, that’s fair.

And then you’d mentioned – I just wanted to get a little bit more color around some of the additional costs that you removed in Q1, I think you had said not everything was completely done and you’re able to remove additional costs in Q1, so could you just talk a little about those costs that you took out?

Yeah, probably the bulk – I mean, most – in an absolute term, most of the costs were already reduced in the fourth quarter. So, most of that was really the moving from Farnham to Mexico and elsewhere.

So that was in body counts and in overhead and other [indiscernible] cost that was the highest piece of it. In the first quarter, we finally completed the move from the Spring Avenue facility in Santa Fe Springs to the Springdale, our original switchgear facility.

So we really had the full three months in the other facility. So that’s probably the biggest piece, there may be with a couple of weeks to hangover in Minneapolis, but the bulk of what was finally accomplished was the combination of the switchgear facility --

Okay, got it.

-- which was not completed in the fourth quarter.

Okay, that makes sense. And then, in terms of backlog, it was a really nice increase sequentially, up 23%, maybe you could just talk about the different moving pieces in terms of the segments that drove that strength?

And then specifically as a it pretends to Pacific, I know its slightly longer lead times, so how does that kind of impact your backlog burn now and your visibility that’s – I guess additional visibility that might be added that’s in the backlog now with Pacific?

Yeah, so, I guess the tick up was based really on three pieces contributed to the bulk tick up, the switchgear business that’s based in LA and most of that comes from the Pacific – what you’re referring to and we do internally as well, the Pacific side of the business, so that’s the medium voltage more complicated part of the gear business, that’s actually picking up. It’s almost overwhelming the old side of the switch gear business.

The liquid-filled transformer business had a very strong booking quarter as well. So their outlook is very strong out of one sate through the whole year, but definitely for the second and third quarters they’re racing ahead of revenue expectations.

And on the U.S. magnetics business, we continue to secure and I guess it sometimes gets lumpy, so then these backlogs takes a bigger jump up continue to secure significant orders for custom magnetics related to power distribution units, those what we call PDUs, those specialized pieces of equipment that are there for distribution protection inside the data center.

Those will be the three biggest pieces leading to the uptick in the backlog.

Okay. That’s essentially helpful, Nate.

And then in terms of liquid-filled strength, I’m curious to get your take on sort of what might be driving that in terms of that market, does that just lacking weakness in oil and gas in the Canadian market year-over-year or is there something fundamental going on there that’s we are missing?

You know, if you are missing it, I’m missing it too. I don’t know what fundamentally – oil and gas, none of it is from oil and gas, none of it is from metals and mining, it’s just between the U.S., Canada, just general industrial type work, there is one segment, there is no one job, it’s just having a much more robust – it will have a much more robust second and third quarter than we expected.

Okay, great. And then I wondered if you could give an update on the critical power segment in terms of the pipeline that you have of new customers, I know that there were maybe some additional long-term contracts that were up a bit and just any resolution to those – do you expect a resolution to those in the near-term, maybe an update there?

Right. So the largest was resolved, targeted was renewed for the year, essentially the same as we had it before.

I’m throwing out a number that’s not current, about 1,500 locations throughout the United States. Verizon was done – for one year for the locations that we have in the various states that we deal with their self sites; those were the two big ones.

They continue to – as is the strategy to try to secure larger more multi location type customers and are being successful without detailing who, but they are having success with larger airports with that has multiple locations within the airport from a service point of view, state and other municipal type prison systems from a service point of view. And that’s the success and that’s the focus for that business right now.

Okay. Got it.

Maybe one for Tom here. In terms of – it does look like inventory days ticked off sequentially, maybe you can just speak to what’s driving that inventory, you building inventory for anything specific or is it just kind of transitory item here?

At this point, we are building inventory for the launch of the DOE product that’s required now in the United States for improved efficiency on units. These units are more expensive than the historical TP-1 units, that’s the dry-type division builds and at this point in time, we have an overlap between old units and new units.

I would anticipate that that inventory of old style units, TP-1, if you will, will burn its way off during the second quarter and we will then be selling the new style units that we are now putting in the inventory.

Okay. Got it.

So that may essentially – you will be – that was one of my questions actually, which is essentially with that changeover in standards, you guys are mostly sold through the old inventory by the end of Q2, so that inventory should drawdown that?

Correct.

Okay. Great.

A couple more here for me. Maybe just in terms of some housekeeping items, you did mention the two divisions that are in installment agreements with essentially the IRS, just wanted to figure out essentially we have a timeline for the additional units and when they may be able to add it into an agreement for installments for the remaining portion?

We anticipate those entering into installment agreements here within the next 30 days, Matt. They – we had to do some address changes with the IRS in order for the agents for the IRS to be able to finalize those agreements with us.

We have an agreement in principle with them. We just can’t memorialize it without the address change which recently was done.

Okay, got it. And then just lastly I know guys have recently reclassified some of your short term debt back to long term and you have extended your debt agreement with BMO.

I think maturity goes through July of 2017. Maybe you could just talk to us about the relationship with BMO at this point and essentially how you plan on attacking further extension beyond that July 2017 timeframe.

Yes, the relationship with BMO is in a very good place at this time. They were very supportive during the trials and tribulations over the last six months.

And the fact that we are able to extend the agreement for 16 months I think speaks highly of the partnership that has developed between the two of us. It is anticipated that we have enough working capacity with the current agreements for the rest of this year into next year and we would be looking in the first quarter of next year to do another long term extension.

Okay. Great to hear.

I will jump back in queue guys. Thanks so much.

You are welcome.

Thank you all for your time and support, and we look forward to updating you again on our next call. Have a great day and a great weekend everybody.