NAPCO Security Technologies - Q4 2023

Transcript

Operator (participant)

Welcome to the NAPCO Security Technologies Fiscal Q4 and Fiscal 2023 Earnings Call. Our host for today's call is Patrick McKillop, Vice President of Investor Relations. At this time, all participants will be in a listen-only mode. Later, we will conduct a question-and-answer session. I would now like to turn the call over to your host. Mr. McKillop, you may begin, sir.

Patrick McKillop (VP of Investor Relations)

Thank you. Good morning. My name is Patrick McKillop, Vice President of Investor Relations for NAPCO Security. Thank you all for joining us for today's conference call to discuss our financial results for our fiscal fourth quarter and fiscal year 2023. By now, all of you should have had the opportunity to review the press release discussing the results. If you have not, a copy of the release is available in the Investor Relations section of our website, www.napcosecurity.com. On the call today is Richard Soloway, President and CEO of NAPCO Security Technologies, and Kevin Buchel, Executive Vice President and CFO. Before we begin, let me take a moment to read the forward-looking statement. This presentation contains forward-looking statements that are based on current expectations, estimates, forecasts, and projections of future performance, based on management's judgment, beliefs, current trends, and anticipated product performance.

These forward-looking statements include, without limitation, statements relating to growth drivers of the company's business, such as school security products and recurring revenue services, potential market opportunities, the benefits of our recurring revenue products to customers and dealers, our ability to control expenses and costs, and expected annual run rate for SaaS recurring monthly revenue. Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those contained in the forward-looking statements. These factors include, but are not limited to, such risk factors described in our SEC filings, including our annual report on Form 10-K. Other unknown or unpredictable factors or underlying assumptions subsequently proving to be incorrect, could cause actual results to differ materially from those in the forward-looking statements.

Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, level of activity, performance, or achievements. You should not place undue reliance on these forward-looking statements. All information provided in today's press release and this conference call is as of today's date, unless otherwise stated, and we undertake no duty to update such information except as required under applicable law. I will turn the call over to Dick in a moment, but before I do, I just want to mention that we will be attending the Lake Street Capital Conference on September seventeenth in New York and are planning for some non-deal roadshows in the near future. Dick, the floor is yours.

Richard Soloway (President and CEO)

Thank you, Patrick. Good morning, everyone, and welcome to our conference call. Thank you for joining us today to discuss our results. We are very pleased to report our fiscal fourth quarter record sales of $44.7 million, which was the 11th consecutive quarter of sales growth. Our fiscal year 2023 sales of $170 million were also a record. Recurring revenue continued to grow at a strong rate, and the annual run rate is now approximately $67 million, based on July 2023 recurring revenues. Our balance sheet remains strong, with our cash balances at approximately $67 million, and we have no debt. Also, we are pleased to report the company announced its quarterly dividend of $0.08 per share to be paid on September 22, 2023, to shareholders of record on September 1, 2023.

This represents an increase of 28% from the previous quarterly dividend. We continue to focus on capitalizing on opportunities in our key end markets, which are mostly commercial, such as office and apartment buildings, retail stores and restaurants, schools, hospitals, airports, and government buildings. Our product lines, such as wireless, fire, and intrusion alarms, school security solutions, enterprise access control, and architectural locking products, are delivering growth to our sales, and we are working every day to continue this growth pattern. The key metrics that the management team here at NAPCO focuses on are growth, profits, and returns on equity and controlling costs. These metrics are important for us as well as our shareholders. We look forward to continuing our growth streak in fiscal 2024 and beyond. Before I go into further detail, I will now turn the call over to our CFO, Kevin Buchel.

He will provide an overview of our fiscal fourth quarter and fiscal 2023 results, and then I'll be back with more on our strategies and outlook. Kevin?

Kevin Buchel (EVP and CFO)

Thank you, Dick, and good morning, everybody. Net sales for the three months ended June 30, 2023, increased by 3% to a quarterly record $44.7 million, as compared to $43.2 million for the same period a year ago. Net sales for the 12 months ended June 30, 2023, increased by 18% to $170 million, as compared to $143.6 million for the same period a year ago. Recurring revenue for the quarter increased 27% to $8.1 million, as compared to $12.7 million for the same period last year. Recurring revenue for the 12 months ended June 30, 2023, increased 30% to $59.9 million, compared to $46 million for the same period a year ago.

Our recurring service revenues now have a prospective annual run rate of approximately $67 million, based on July 2023 recurring service revenues, which compares to the $63 million run rate based on April 2023 recurring service revenues, which we reported back in May. Equipment sales for the quarter decreased 6% to $28.6 million, as compared to $30.5 million for the same period last year. This decrease was primarily due to a decrease in radio sales, as partially offset by increases in both our Alarm Lock and Marks door locking products. The slowdown in radio sales in Q4 was primarily the result of excess inventory in the distribution channel, as several distributors loaded up with radios when the impending 3G Verizon sunset was approaching, and they wanted to ensure that they had updated 5G radios in their inventory.

We believe this is a temporary situation, and we expect radio sales to continue to be a key contributor to our hardware sales and lead to the continued growth of our highly profitable recurring revenue. Equipment sales for the year ended June 30, 2023, increased 13% to $110 million, as compared to $97.6 million in the prior year. This increase in equipment sales was primarily due to increased sales of Alarm Lock and Marks door locking products, as well as Continental Access control products, as partially offset by the aforementioned slowdown in radio sales.

Gross profit for the three months ended June 30, 2023, increased 20% to $23 million with a gross margin of 52%, as compared to $19.2 million, with a gross margin of 44% for the same period a year ago. Gross profit for the 12 months ended June 30, 2023, increased by 24% to $73.2 million with a gross margin of 43%, as compared to $59.2 million with a gross margin of 41% for the same period a year ago. Gross profit for equipment sales for the three months ended June 30, 2023, increased 7% to $8.7 million with a gross margin of 30%, as compared to $8.1 million with a gross margin of 27% for the same period a year ago.

Gross profit for equipment sales for the 12 months ended June 30, 2023, increased 4% to $19.9 million with a gross margin of 18%, as compared to $19.1 million with a gross margin of 20% for the same period a year ago. Gross profit for recurring revenues for the three months ended June 30, 2023, increased 29% to $14.3 million with a gross margin of 89%, as compared to $11.1 million with a gross margin of 87% for the same period a year ago.

Gross profit for recurring revenues for the 12 months ended June 30, 2023, increased 33% to $53.4 million with a gross margin of 89%, as compared to $40 million with a gross margin of 87% for the same period a year ago. The increase in gross profit dollars for equipment sales for both the three and the 12 months ended June 30, 2023, as well as the gross margin for equipment sales for the three months ended June 30, 2023, is primarily the result of higher locking sales, which also increased overhead absorption, as partially offset by lower radio sales, as well as higher prices of certain component parts.

The company purchased these higher priced components at a significant premium during the supply chain interruptions during the latter part of fiscal 2022, in order to continue to supply the company's radios that lead to the increased recurring revenue. The price of these components began decreasing during fiscal 2023, but was the primary reason for the 200 basis point reduction in equipment margins for fiscal 2023 as compared to the prior year. The increase in gross profit dollars for recurring service revenues for both the three and the 12 months ended June 30, 2023, was due to the sales of the company's line of StarLink radios, which represents approximately 20% of total hardware sales.

The continued increase in the gross margin for recurring revenue for both the three and the 12 months was primarily due to increased service revenues relating to the company's fire radios, which have higher monthly selling prices than the company's intrusion radios. Research and development costs for the quarter increased 14% to $2.4 million, or 5% of sales, as compared to $2.1 million or 5% of sales for the same period a year ago. Research and development costs for the twelve months increased 16% to $9.3 million, or 5% of sales, as compared to $8 million or 6% of sales for the same period a year ago. The increase in dollars was due primarily to salary increases and some additional staff.

Selling, general and administrative expenses for the quarter remained relatively constant at $8.9 million, or 20% of net sales, as compared to $8.9 million or 21% of net sales for the same period last year. Selling, general and administrative expenses for the 12 months increased 2% to $33.6 million or 20% of net sales, as compared to $32.9 million or 23% of sales for the same period last year. Operating income for the quarter increased 44% to $11.8 million, as compared to $8.2 million for the same period last year, and operating income for the 12 months ended June 30, 2023, increased 66% to $30.3 million, as compared to $18.2 million for the same period last year.

The company's provision for income taxes for the three months ended June 30, 2023, increased by $1.1 million to $1.6 million, with an effective tax rate of 13%, as compared to $476,000, with an effective tax rate of 6% for the same period a year ago, and the company's provision for income taxes for the 12 months ended June 30, 2023, increased by $1.9 million to $4.1 million, with an effective tax rate of 13%, as compared to $2.2 million, with an effective tax rate of 10% for the same period a year ago. The increase in the provision for income taxes for both the three and the 12 months was primarily due to higher taxable income.

The increase in the effective tax rate from 10%-13% was primarily due to $3.9 million in non-taxable income from a one-time extinguishment of debt incurred in fiscal 2022 income. Net income for the quarter was a quarterly record, $10.6 million, or $0.28 per diluted share, as compared to $7.5 million or $0.20 per diluted share for the same period last year, a 40% increase, and it represents 24% of sales. Net income for the 12 months was $27.1 million, or $0.73 per diluted share, as compared to $19.6 million or $0.53 per diluted share for the same period last year. That's a 38% increase, and it represents 16% of net sales.

Adjusted EBITDA for the quarter was a quarterly record, $13 million or $0.35 per diluted share, as compared to $9.3 million or $0.25 per diluted share for the same period last year. That's a 41% increase, and it equates to an adjusted EBITDA margin of 29%. Adjusted EBITDA for the 12 months was $34.3 million, or $0.93 per diluted share, as compared to $22.6 million or $0.61 per diluted share for the same period last year. That's a 52% increase and equates to an adjusted EBITDA margin of 20%. Net income and earnings per share for last year's 12-month period reflect other income of $3.9 million, which resulted from the aforementioned extinguishment of debt during the quarter ended September 30, 2021.

Without such benefit, net income and earnings per share for the 12 months ended June 30, 2022, would have been $15.7 million and $0.43, respectively. Moving on to the balance sheet. At June 30, 2023, the company had $66.7 million in cash and cash equivalents, other investments, and marketable securities, and that compares to $46.8 million at June 30, 2022. Working capital, defined as current assets less current liabilities, was $111.7 million at June 30, 2023, and that compared with working capital of $93.1 million at June 30, 2022. Current ratio, defined as current assets divided by current liabilities, was 6.7 to 1 at June 30, 2023, and it was 4.5 to 1 at June 30, 2022.

Cash provided by operating activities for the 12 months ended June 30, 2023, was $24.7 million and that compared to $8.3 million for the same period last year, and that's a 198% increase. CapEx for the quarter was $1.2 million versus $293,000 in the year ago period, and for the 12 months ended June 30, 2023, was $2.96 million, compared to $1.5 million in the prior year period. And we have no debt. Finally, due to the previously announced need to restate the first, second, and third fiscal quarters of fiscal 2023, the company will delay filing its Form 10-K for up to 15 calendar days.

We will file the amended 10-Qs as soon as the restatement process is completed, with our current expectation being sometime this week. That concludes my formal remarks, and I would now like to return the call back to Dick.

Richard Soloway (President and CEO)

Kevin, thank you. Our fiscal year 2023 showed continued growth with record sales and profits, and we look forward to breaking our previous record of 23 consecutive quarters of growth, which we had prior to the COVID pandemic. We are not satisfied with the equipment margins of 18% during our fiscal 2023. However, we are pleased to have generated $27 million in net income, which is 16% of net sales. Also, $34 million in adjusted EBITDA, equaling 20% EBITDA. Margins is another positive we take away from the fiscal year results. As we enter into fiscal 2024, we believe that most of the additional material and trade costs due to the supply chain crisis are behind us. This should bode well for improved equipment margins. The commercial fire alarm business is a mandatory, non-discretionary item.

Commercial buildings must have and maintain a fire alarm system in order to receive a certificate of occupancy. Given the high profitability and essential nature of this business, we focus on this as a key area of our resources. Recurring revenue generated growth, increasing 27% for the quarter and 30% for the fiscal year. The annual run rate for recurring revenue is now approximately $67 million as of July 2023. We estimate that there are millions of commercial buildings of all types, such as offices, hospitals, schools, coffee shops, fast food restaurants, and others, that still require upgrades from old-fashioned copper phone lines. Our StarLink radios have the widest coverage for both AT&T and Verizon service and rich feature sets, which our dealers love.

We continue to focus on our previously mentioned goals of $150 million run rate in recurring revenue and $150 million of equipment revenue by the end of fiscal 2026. While the exact timeframe for hitting these goals is uncertain, achievement of those goals, as well as our gross margin goals of 80% for recurring revenue, and it was 89% for fiscal 2023, and 50% for equipment revenues, could generate EBITDA margins in excess of 45%. School administration are focused on the need for security solutions as more school shootings continue to happen. We are pleased to learn that recently, the University of Arizona installed over 700 of our Trilogy electronic locks on their campus.

Our fully integrated solutions for the school security sector generate healthy margins for our business, and now more than ever, we are laser focused on further penetration of the school security market, which is comprised of approximately 130,000 K-12 schools and 5,000 colleges and universities across the country. Offering seamless security solutions, which allow for our dealers and us to generate recurring revenue streams, is central to our strategy. The recently launched AirAccess products will enable us to generate recurring revenue from all divisions of the company. AirAccess will generate recurring revenue from locking and access control, which has never been done before. AirAccess is the industry's first cellular-based access control system, which we believe is a large market opportunity.

The product continues to make strides in the market, and we expect more momentum in the future as our sales teams are actively educating the locking and access control dealers about this new exciting opportunity for them with AirAccess. At the recent ISC West Trade Show back in March, we unveiled a new product with a built-in recurring revenue radio. It is called Prima.

Which we and our thousands of dealers are very excited about. Prima is a revolutionary super long panel with a full color seven-inch LCD touchscreen for security, fire, video, and automation, featuring intuitive use and setup, smart with self-healing Wi-Fi and video and doorbells that prevent dealer service calls and all-new powerful backend. Prima also was named among Security Sales and Integration Magazine as the Most Valuable Product in 2023. We expect to have this available to dealers in early fiscal 2024. Our R&D team remains hard at work, developing even more products for the future, which will help grow our recurring revenue business. We've experienced tremendous success over the last several years growing our recurring revenue, and believe the growth we have witnessed will continue at a healthy rate.

Lastly, I mentioned earlier, we are excited to announce the increase in our quarterly dividend by 28% to $0.08 per share to shareholders of record on September 1, 2023. We believe that it is important to balance our capital allocations priorities, including investing in growth opportunities, maintaining a strong balance sheet, and returning capital to our shareholders. We will begin our question and answer portion of this call in a moment. Our fiscal year 2023 generated strong sales and profitability. We have a pristine balance sheet and no debt. We believe we can continue this growth in fiscal 2024 and beyond. I would like to thank everyone for their support and for joining us in the exciting future we have. Our formal remarks are now concluded. We'd now like to open the call for a Q&A session. Operator, please proceed.

Operator (participant)

If you would like to ask a question, please press star one on your telephone keypad now. You will be placed into the queue in the order received. Please be prepared to ask your question when prompted. Once again, if you have a question, please press star one on your phone now. Our first question comes from Jim Ricchiuti from Needham and Company. Your line is open.

Jim Ricchiuti (Senior Analyst)

Hi. Thank you. Good morning. So I wanted to talk a little bit about the puts and takes in the radio business. I mean, it sounds like you continue to see strong demand for fire radios and where the overhang is in the channel is on the intrusion StarLink radios. So two questions. Number one is, can you talk a little bit about how you see the channel inventories being worked down for the intrusion StarLink radios? What kind of sell-through are you hearing from your channel partners? And then I have a follow-up question as it relates to the fire radio business. Thank you.

Kevin Buchel (EVP and CFO)

Okay, Jim. So we get statistics from our key distributors that we watch very closely. And what we see with a couple of these distributors, not all of them, is a glut of inventory on the smaller radio. And it seems to have come about because they loaded up on radios during the height of the preparedness for the 3G sunset. 3G sunset for Verizon was January second or third of 2023. Nobody wanted to really get caught short, and not everybody could deliver radios. We could. We talked about this on prior calls. We were able to deliver when others couldn't, and that ability to deliver has helped us. We've picked up more business from large accounts, which we've talked about. But these distributors, they didn't want to get caught short.

Richard Soloway (President and CEO)

They bought up a lot, and they bought it for the, because of the 3G sunset, because of lack of delivery from others. And now they have too much, because now the things have settled down. The 3G sunset is finished. They have to work that inventory down. We'll help them. This happens periodically, all the time. The demand for radios as a whole is very good. That's why you saw it grew by 27% for the quarter versus a year ago. That's why the run rate went from $63-$67 million, and we can't judge the strength of recurring revenue based on a couple of distributors having too much of one type of radio. So we'll work with them to move it. We believe it'll move, and we still feel very good and confident about our Recurring Revenue and its growth for the future.

Jim Ricchiuti (Senior Analyst)

On the fire.

Richard Soloway (President and CEO)

Let me.

Jim Ricchiuti (Senior Analyst)

Please.

Richard Soloway (President and CEO)

Let me add one more, let me add one more thing. So the radios that Kevin is talking about are the low-cost, residential, small, small business pizzeria-type radios, and that business is moving along, but we had to supply them to the, distributors because they asked for them, and we, we produced a lot of them. They're a little backed up. But what we—And that is a radio that's added to an existing alarm system, to replace the copper. So we expect that to continue. The sell-through has been, is, is good on that, but the glut will, be, eroded down and get more normalized. At the ISC show out west, a few months ago, we showed the entire alarm system with a built-in StarLink radio, and with technology beyond everything in the marketplace. It was a tremendous hit.

So that radio, that black radio, is now being built into a complete control panel for automation, residential, small business, and that will be out in the next 60 days. So what's going to be contributing to the recurring monthly revenue is not only the sell-through of the black radios, which upgrade the existing alarm systems from copper, but it's also this brand-new, unique alarm panel radio, which will be for new work. And these are the type of things we do in our engineering department. We've added additional products, which are going to add a lot of recurring revenue to the company going forward, and it's a very exciting future we have with this, and I want everybody to understand that. The black radios are for retrofit, and that'll continue because you've got millions of jobs that still need to be upgraded.

And the new Prima radio is a complete alarm system for new jobs, and you know that people need more security than ever before. We need security for homes, we need security for businesses, and that's what Prima will do with a built-in recurring radio, where we get recurring revenue as well as a dealer. So that's how the picture looks.

Jim Ricchiuti (Senior Analyst)

Got it. Thank you, Dick. Just with respect to Prima, let me just ask the question: What, what kind of expectations do you have for this product? And maybe, Kevin, you, how would you characterize the margin profile of this product? And then lastly, just on the fire business, fire radio business, do you anticipate. You've had several strong quarters. Does this begin to plateau for you?

Richard Soloway (President and CEO)

Fire radio.

Kevin Buchel (EVP and CFO)

Let me answer the question. You're going to answer, Dick?

Richard Soloway (President and CEO)

Do the Fire Radios, please, and then I'll talk about the Prima and what its potential is.

Kevin Buchel (EVP and CFO)

Fire radios, talked about this, is mandated. It has to be. You have to have a working fire radio in a building. They got to get away from copper. This is what we keep talking about, that there's a lot of buildings, and buildings are not just high-rises. When you think of a building, think of buildings coming in all sizes and shapes. They all have to get away from copper. Copper is not being supported. So we believe, A, it's mandated, B, they have to get away from it, and C, there's millions more, more to come, more changes to come. So as a result of that, yeah, fire radios, we believe, is going to continue to, to be strong for years to come. It's our number one radio, has the best margins. It's more than 50% of our total radios.

You see, you see the what, what our margins are in recurring revenue, the 89%. It was 89% for the whole year. That's because fire radios, because we get more money for a fire radio than the other types. So we, we believe this strength is here, and it's not going anywhere. And don't read into anything because of the glut of inventory on the black radios. Fire has moved very nicely, continues to move. Now, when we Dick will talk about Prima. But when we sell Prima, the recurring revenue on that is not like it is for fire radios. It's less, but it's incremental recurring revenue. When we did our 150, 150 goals of recurring and hardware sales, we weren't counting on Prima. We didn't even know about Prima. Prima is new.

Incremental recurring revenue, it'll help us get to our goals that much sooner. We do get less per month than we would for a fire radio. So my goal for recurring revenue when I first did the goals, was 80%. We're at 89%. We got plenty of room between the goal and the actual. So we'll watch it. We'll see how it goes with the recurring from Prima.

Richard Soloway (President and CEO)

Right. So Prima is for new work. The black radio is for retrofitting the copper. I figure we got five-eight more years of retrofitting copper with black radios because there's millions and millions of jobs that have to be done, and the dealers are doing them as necessary.

A lot of dealers don't go out and speak to their customers about upgrading away from copper. They wait until there's an event. Maybe the phone company turns off the copper, or there's issues with the cracking old copper lines, and then they go in. Some dealers go in and start promoting right away, but we have a great radio in the black radio, and it's moving out nicely. But the dealers are putting in lots of new jobs, and our new Prima is for new work. And what's gonna happen is there are millions of jobs that have to be done with new radios, new radio panels. And there are some on the market now, but they're antiquated compared to what Prima is gonna be.

Everybody at the show, the dealers came over to the booth, and they saw the way the, the door cameras work, the way the Wi-Fi is automatically self-healed, because Wi-Fi systems signals get lost on the premise that this self-heals and fixes that. Nothing on the market does anything like that. It is a great boon to the dealers because they're not gonna have to roll trucks to repair, reset up the Wi-Fi system, to do things with the camera as far as the camera going off circuit. Prima does it all, and it's a beautiful looking product, and we expect great results. So we're gonna have, as far as I can see into the future, lots of business with Prima, as well as the retrofitting of the black radios and fire. So all these things are combining together, and it bodes for a very strong future.

Jim Ricchiuti (Senior Analyst)

Got it. Thanks very much.

Operator (participant)

Thank you. And our next question comes from Matt Pfau from William Blair. Your line is open.

Matt Pfau (Equity Research Analyst)

Hey, great. Thanks for taking my questions. Wanted to first start on the restatement, and was just hoping you could, you know, better explain to us, you know, what happened here from an accounting perspective. It seems a little bit counterintuitive that both inventory and would be overstated while COGS were understated. So what happened that drove that? And then on the cash component, you know, how did that sort of tie out when the accounting was wrong on the other side of the financial statements? Thanks.

Kevin Buchel (EVP and CFO)

So, Matt, the inventory for the quarters that succeeded the June 30, 2022 physical inventory audited statements, the quarters that followed it, which was the September quarter, the December quarter, and the March quarter of fiscal 2023, the inventory was valued using values from the June 30, 2022 audited numbers. What that means is, take as an example, if a component was valued at $50 at June 30, 2022, that same $50 was used to value the inventory for the first quarter, and let's say the second quarter, and let's say the third quarter. The cost of that component was coming down, no longer $50, $5, using this one example. You value the inventory at $50, you're overstating your inventory when you, when you put a valuation on your, on your balance sheet.

If you're overstating your inventory on your balance sheet, that means the other side of the equation is you're understating your cost of goods sold. It has nothing to do with cash. This is all book entries. Cash is unaffected, cash flow unaffected, cash from ops, none of that is affected. This is strictly, you overstated your inventory, it means you understated your cost of goods sold. If you understated your cost of goods sold, that means you overstated your net income. And that, and that's what it is now. We're gonna fix this, and we've begun the process of fixing it. You can't use, you know, the prior year's physical inventory valuation going forward. Normal conditions, you could use it, but in fluctuating pricing times, and who knows what the times are gonna be going forward, times seem to be better now.

The fluctuations seem to be gone, but we're gonna have a system where we measure every fluctuation during the quarters, and we utilize that new price, if there is a new price, to value the inventory in each quarter. We'll do it at the beginning, at the first day after the quarter ends. So on October 1st, let's say, for this upcoming end of the quarter, we'll measure every fluctuation that exists, up or down, and we'll make sure that the inventory valuation for the quarter utilizes the correct price. And that's the best way I could explain it, Matt. It's, it's nothing to do with cash-For those that, you know, took accounting in school, it's you, you got to credit your inventory, lower your inventory, you got to debit your cost of goods sold, and that reduces profits. That's, that's what it was.

Matt Pfau (Equity Research Analyst)

Got it. And then with the stock down significantly from the highs, are you considering, you know, repurchasing any stock, or is the management team considering any personal purchases themselves?

Kevin Buchel (EVP and CFO)

That's all on the table. And it's possible we will do that. You know, first things first, let's get the Qs, the restated Qs filed. We expect to do that this week. Let's get the K filed. We expect to do that next week. Then we could look at, you know, buybacks and personal buying, all this. It's all on the table. Let's get our house in order with our filings, and we go from there.

Matt Pfau (Equity Research Analyst)

Got it. Last one for me, just on the, the radio component of the equipment hardware, I think you called out that was, you know, 20% of equipment sales. Not sure if that was for the quarter or the full year, but how would that compare to the, the year ago period from a percentage of, of sales perspective?

Kevin Buchel (EVP and CFO)

Yeah, that was for the quarter, and it would have been greater in the prior year's periods, because in the prior year's periods, the radios were stronger and the locking wasn't as strong as it just was. So, you know, I don't have the exact stat in front of me, but I can give you that maybe at a later point, but I'm sure it was a higher percentage. I wouldn't even say much higher. It was a higher percentage.

Matt Pfau (Equity Research Analyst)

Okay, great. Thank you. Appreciate it.

Kevin Buchel (EVP and CFO)

Thanks, Matt.

Operator (participant)

Our next question comes from Jaeson Schmidt from Lake Street Capital. Your line is open.

Jaeson Schmidt (Director of Research and Senior Research Analyst)

Hey, guys. Thanks for taking my questions. Just looking at the inventory digestion situation, just curious how long you think that will last. I mean, obviously, it will impact the September quarter, but do you think this bleeds into the December quarter?

Kevin Buchel (EVP and CFO)

Well, I just wanna make sure everybody understands. It's one radio, one type of radio, and it's with a couple of distributors, not everything, and it's not with every distributor. We're gonna work hard to move it through these distributors. This, you know, like I've said earlier, this has happened in the past, where distributors load up on a product and they need help moving it through. That's what we're here for. We can help them. My guess, it's just a guess, it'll take a couple of quarters to move it through. We'll work really hard to do this, but that's how it looks for right now.

Jaeson Schmidt (Director of Research and Senior Research Analyst)

Okay, that's helpful. And then just as a follow-up, looking at OpEx, it sounds like there could be some incremental costs associated with better accounting controls, etc. How should we think about OpEx trending for fiscal 2024?

Kevin Buchel (EVP and CFO)

Yeah, there's gonna be a few things we're gonna have to spend some money on. Won't hesitate spending the money. We have the money. But software upgrades, personnel, those are the two, two main things that I can point to that would make our, our OpEx more than it was in fiscal 2023. You know, if I'm putting a number on it, I would say let's assume $1 million more in SG&A in 2024 versus 2023 for this type of thing.

Jaeson Schmidt (Director of Research and Senior Research Analyst)

Okay, sounds good. That's it for me. Thanks, guys.

Kevin Buchel (EVP and CFO)

Thanks, Jaeson.

Operator (participant)

And our next question comes from Chad Bennett of Craig-Hallum. Your line is open. Mr. Bennett, your line is open. Moving on, we have Raj Sharma from B. Riley. Your line is open.

Raj Sharma (Managing Director and Equity Research Analyst)

Yeah, thank you for taking my questions. I just wanted to understand the alarm sales, if you look at the composition in Q4, they show a pretty substantial decline of about 33% year-over-year. How much of that impact do you think was from the Verizon sunset? And you, I think you commented that the dealers, or, you know, they started buying up. There was a lot of activity. Was that activity about two, three quarters prior to the sunset date of January second?

Kevin Buchel (EVP and CFO)

Yes.

Richard Soloway (President and CEO)

And then.

Kevin Buchel (EVP and CFO)

Yeah, well, I'll answer this part first, then you could follow up. It was.

Richard Soloway (President and CEO)

Yeah, sure.

Kevin Buchel (EVP and CFO)

It was before. They didn't want to be caught short, so they would, they weren't gonna start buying it, you know, January or even December. By then, they wanted to have it in stock. So this, this led up to the, the sunset, but, like, the June quarter, June of 2022, was at its height, and even the September quarter of, of fiscal 2023, to some degree. After that, it was over. The guys were, they had to be in position to have equipment because the sunset was upon them. So we saw a lot of activity, and again, it wasn't just because of the sunset. It was also because of delivery. We were one of the few manufacturers who could deliver radios during these crazy times.

As I've said before, it was, the crazy times was almost like a blessing in disguise because it allowed us to pick up some really big dealers, which we've talked about before. These big dealers, they couldn't get delivery. They got to look at our product. They got to see what our radios were all about. The fire radios is the one I'm talking about, and they made the fire radios their radio of choice. That probably wouldn't have happened if delivery was going on from the competitors, but they couldn't deliver, we could. You had guys who couldn't get product. They were nervous. You had the 3G sunset. You had this radio mania going on, which was at its height in June of 2022, continued in September of 2022, which is Q1 of fiscal 2023.

And then as the year progressed, it normalized, I'll call it. Didn't die, normalized. Demand became more normal, and it's still good demand. So just because we had this heightened situation, you shouldn't feel like the bottom's dropping out. Business is still strong. The recurring stats are still good. But we did have this situation.

Richard Soloway (President and CEO)

What's interesting, Raj, let me just.

Kevin Buchel (EVP and CFO)

Yeah.

Richard Soloway (President and CEO)

It was a great thing for us to ship these radios when our competitors couldn't do it, because once those radios go in, we picked up brand new market share quickly because from the competitors, and that recurring revenue stream continues on forever. So it was a blessing. Some of the distributors said, "We want to capture the volume of NAPCO radios," and they bought a lot of radios to have in their stock, so they would never run out, because they didn't know when radios would be available from others. So they moved everybody into NAPCO radios, and they bought unusual amounts.

That skewed it a little bit, but the radio business is strong, and it's going to get stronger, and with our Prima product and the fact that more copper has to be converted to radio, the future is very, very bright. Got it. So, so I guess there'll be tough comps. You expect tough comps to persist in the first half. Is that fair, on the equipment side?

Kevin Buchel (EVP and CFO)

I think the radio comp is tough for Q1. I don't think it's tough after that. Q1, I think, was the last of the hard comps for radios. By the same token, locking comp, not tough at all for Q1.

Richard Soloway (President and CEO)

Right.

Kevin Buchel (EVP and CFO)

So kind of like offsetting each other.

Richard Soloway (President and CEO)

Right. Do you attribute any of this decline in alarm and intrusion to a commercial residential slowdown, or was it entirely because of the Verizon sunset? I think it was. I think that some of the distributors reacted to capture the market by having tons of inventory on hand, and satisfy the sunset. The dealers are satisfied the sunset. But, as Kevin mentioned, this will work its way through, and we'll keep adding new products, which are recurring revenue, complete control panels, other radios for other applications. So, that's how we see the business.

Raj Sharma (Managing Director and Equity Research Analyst)

Got it. Thank you. That's it for me, and I'll take it offline. Thank you.

Kevin Buchel (EVP and CFO)

Thanks, Raj.

Operator (participant)

Thank you. And we have a question from Nick Mattiacci of Craig-Hallum. Your line is open.

Nick Mattiacci (Research Analyst)

Hi, this is Nick on for Chad Bennett. Thanks for taking our questions. So the, the door locking revenue is up 25% year-over-year, but not quite as sequentially strong as last year. Can you just talk about how that, that locking segment performed relative to your expectations and how we should think about growth in that segment for the September quarter?

Kevin Buchel (EVP and CFO)

It performed really well. It was actually even better than I thought. It's this segment has done really well for three, four quarters in a row. It actually, you know, there's two locking pieces to it. We have Alarm Lock, and we have Marks. Alarm Lock did just as well as it did in Q3, and Marks did even better in Q4 than it did in Q3. They both did well. I wouldn't read anything into whether sequentially it was a little up or a little down. It was way more in each of the quarters, in Q3 and Q4, than it was in the preceding years period. As I said earlier, the Q1 comp is fairly. I'll call it fairly easy.

So, you know, I have very good expectations for the locking in this upcoming quarter as well. The locking business benefits from the school security segment, airport upgrades, hospitals, lots of things, but those are the three that stand out. The school security part is difficult to measure. I always get asked, "Well, how much is it? Tell me how much it is." They buy through distribution, so we don't know. One of the things we mentioned in the release today was the school job that the University of Arizona did. They had a professor that was killed about nine months ago. They recently put in 700 of our Trilogy electronic locks. I didn't really know about it. They bought it through a distributor.

The only reason I heard about it was because there was a big news article, and it was a big thing on TV out there. So a lot of times we don't go through distribution. If sometimes we know, sometimes we don't. But I know when locking is strong, that's a big part of it, and with all the craziness going on, I believe, you know, that's here to stay. That's not going anywhere. So our expectations is for locking to stay strong for various reasons.

Nick Mattiacci (Research Analyst)

Got it.

Richard Soloway (President and CEO)

One thing I'd like to mention.

Nick Mattiacci (Research Analyst)

Oh, go ahead.

Richard Soloway (President and CEO)

One thing I'd like to mention is, Kevin talked about the Trilogy locks. The Trilogy locks are the standard of the entire locking industry. That's the lock everybody's using, all the, the key larger jobs are using. It's a commercial lock. It's being put in everywhere, and the more troubles there are around the US, with schools, with people entering office buildings and taking out things, because of the fact that, there's a lot of people that are not working. They're putting in Trilogy locks and all of our locks, but especially the Trilogy locks everywhere. So, it bodes well that Trilogy locks should be, will be selling continuously. And we've now expanded the Trilogy lock line, where they now work with radio control. They work as standalone on individual doors, and, it's a very, very unique line of products.

So that's why, the distributors are carrying it, and we don't always hear about every sale. We just see the amount of volume going to the distributors, and it's greater, much greater this year than it was last.

Nick Mattiacci (Research Analyst)

Thanks for that. And then I think in the release, you talked about an expectation for much improved gross margins this year. I guess the service gross margins are a little less volatile than equipment gross margins, but should we think about that 30% equipment gross margin in Q4 sort of being the baseline, or how else should we think about equipment gross margins this year, and especially related to the seasonality throughout the year?

Kevin Buchel (EVP and CFO)

Historically, the equipment gross margins used to be in the 30s, and then as the volume picked up, which usually was in our fourth quarter, the June quarter, then the equipment margins would go up into the high 30s, sometimes low 40s. That all went out the window during the supply chain crisis and our need to have to buy component parts at very expensive prices just to keep things moving. So buying a $50 micro, that's normally $5 from a broker, just to keep the radios moving, knowing that we would get recurring revenue at the end of it. That's why we did it, and it paid because we got radio, improved radio sales, big new dealers, big customers, et cetera. But now those expenses are behind us. And not only the cost of the parts, but the airfare, the freight.

You know, one of the, one of the big things with the supply chain crisis was freight, super expensive. Whether you're flying or putting it on a boat, the pricing was crazy. A lot of it's come back to earth, and so we wound up having, by our standards, poor margins, poor, poor hardware margins for the year. So here we are. We did $110 million of hardware sales in fiscal 2023, with an 18% gross margin, which is well below what it should be and what we say what it will be. So going forward, you saw in the fourth quarter, margins was 30% for hardware. That's more normalized. Now, whether we're gonna be 30% right out of the gate in Q1, you know, I'd be more conservative about that.

I believe we will build ourself up as the quarters go by, to being in the thirties. That'll become the more normalized level of margin, as it used to be. Then probably go beyond that as the volume kicks up even higher. The volume kicking up leads to the overhead absorption and margin expansion from manufacturing in the Dominican Republic. That's one of the benefits you get. Standard will be in the thirties. Might take a quarter or two to get there.

Nick Mattiacci (Research Analyst)

Got it. That's all for us. Thanks for taking the questions.

Kevin Buchel (EVP and CFO)

You're welcome.

Operator (participant)

Our final question comes from Jim Ricchiuti from Needham & Company. Your line is open.

Jim Ricchiuti (Senior Analyst)

Yeah, Kevin, just with respect to the last comment, I get the, you know, the fact that the increased volume will be will benefit you from in terms of a greater absorption in the Dominican Republic, but I'm wondering the other way around is with this bit of an air pocket that you're seeing in the lower end intrusion radios, StarLink radios, what about the potential headwind from utilization being not as strong in the Dominican Republic in the next quarter or two?

Kevin Buchel (EVP and CFO)

Well, that could, that could have an effect, but on the other side, the mix will be better. So in Q1, as an example of last year, of fiscal 2023, the mix was much more heavily leaned towards the radios than the locking. Radios, which we love, you know, that's a lower gross margin item. Best case, we don't care so much about the margins. We do care a lot about the recurring revenue which follows. But for locking and for access control, for the other pieces of the business, those are much higher margin items. And so we might lose some overhead absorption if the radios are much lower, which I don't think they will. I think only on one type it might be, but we'll pick up absorption from locking. We saw it in the fourth quarter.

There was overhead absorption pickup in the fourth quarter of this fiscal year that we just finished, and that had the lower radios, and it had the improved locking, and both the mix helped and the DR overhead absorption helped. So eventually, we're gonna get to the point where it's all going and it's all working, where the radios are up, the locking is up, it's all up, then we get the best of both worlds.

Jim Ricchiuti (Senior Analyst)

Thank you.

Kevin Buchel (EVP and CFO)

Okay, Jim.

Operator (participant)

Seeing no further questions, I'll turn the call back over to our host.

Richard Soloway (President and CEO)

This is Richard Soloway. I want to thank everyone for participating in today's conference call. As always, should you have any further questions, please feel free to call Patrick, Kevin, or myself for further information. We thank you for your interest and support, and we look forward to speaking to you all again in a few months to discuss NAPCO's fiscal Q1 2024 results. Have a great day, everybody. Bye-bye.

Operator (participant)

Meeting has now concluded. Thank you for joining, and have a pleasant day.

The host has ended this call. Goodbye.