Key Tronic Corp (KTCC) 2011 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen. Thank you for standing by. Welcome to the Key Tronic first quarter fiscal 2011 conference call. During today's presentation, all parties will be placed in a listen-only mode. Following the presentation, the conference will be opened for questions. (Operator Instructions)

This conference is being recorded today, Tuesday, October 26th of 2011.

I would now like to turn the conference over to Mr. Craig Gates, CEO. Please go ahead, sir.

Good afternoon, everyone. I am Craig Gates, President, and Chief Executive Officer of Key Tronic. I'd like to thank everyone for joining us today for our investor conference call.

Joining me here in our Spokane Valley headquarters is Ron Klawitter, our Chief Financial Officer.

Today we released our results for the first quarter of fiscal 2011. We are very pleased with our strong year-over-year growth in revenue and earnings, driven by the production ramp up for new programs from both new and longstanding customers. We achieved the highest quarterly revenue in Key Tronic's history and continue to significantly increase our profitability over the same quarter of the prior year despite continued industry wide shortages in the global supply chain.

We also continue to diversify our revenue base by winning new programs. We anticipate strong growth in the second half of fiscal 2011 and expect record revenue for the year. With our unique combination of world-class engineering, global logistics, and cost effective production, we're increasingly well positioned to continue to capture market share and capitalize on emerging opportunities.

Now I would like to turn the call over to Ron to review our financial performance. Then I will come back to discuss our progress and our strategy going forward.

Ron?

Okay. Thanks, Craig.

As always, I would like to remind you that during the course of this call we might make projections or other forward-looking statements regarding future events or the company's future financial performance. Please remember that such statements are only predictions. Actual events or results may differ materially.

For more information you may review the risk factors outlined in the documents the company has filed with the SEC, specifically our latest 10-K, quarterly 10-Qs, and 8-Ks.

Please note that on this call we will discuss historical financial and other statistical information regarding our business and operations. Some of this information is included in today's press release, and a recorded version of this call will be available on our website.

Today we released the results for the quarter ended October 2, 2010.

For the first quarter of fiscal 2011, we reported record quarterly revenue of $63.3 million. This is up 53% from the $41.3 million in the same period of fiscal 2010. During the first quarter of fiscal 2011, our business continued to be constrained by industry-wide shortages in the global supply chain, which did reduce our revenue by about $3.5 million. In the coming periods we expect these supply chain issues to continue to impact our business until the world's electronic parts supply ramps up to meet demand.

Despite the impact of the supply chain constraints, our flexible operating model allowed us to exceed our revenue forecast and take the necessary steps to adjust our variable operating expenses and overhead to changes in production demand. We continue to maintain strong operating efficiencies.

For the first quarter of fiscal 2011, our gross margin was 9%. This is up from 6% in the same period of fiscal 2010. In coming periods, we expect our gross margin to remain around 9%.

We continue to focus on controlling our operating expenses while making the investments necessary to support long-term competitiveness. For the first quarter of fiscal 2011, our operating expenses were $3.3 million or 5% of total revenue. This is down from the previous quarter and comparable as a percentage of revenue to the same quarter of last year. We expect our total operating expenses to remain at about this same level in coming quarters.

Our stronger-than-expected revenue growth and strong gross margins, combined with our continued success in controlling costs and improving efficiencies, resulted in an operating margin in the first quarter of fiscal 2011 of around 4%. This is up from 1% in the same period of fiscal 2010.

Our revenue growth and strong margins had a positive impact on the bottom line. Net income for the first quarter of fiscal 2011 was $1.7 million or $0.17 per share. This is up from $0.3 million or $0.03 a share for the same period of fiscal 2010.

Turning to the balance sheet, inventory is up $6 million or 15% from the previous quarter. The inventory increase reflects our preparation for anticipated growth in production levels for a number of our new programs.

Trade receivables were $34.6 million at the end of the first quarter. This is up slightly from the previous quarter, reflecting the growth in our business. But given the challenging credit environment, we are pleased to see that our average days sales outstanding is at 51 days, which is comparable to recent quarters. We have drawn about $11 million on our credit line to fund working capital growth.

Our capital expenditures for the first quarter were $1.6 million and we expect CapEx to be around $5 million for the full fiscal year.

Looking forward, we expect to see continued growth in the revenue generated by our many new programs. We also are continuing to control costs while making the necessary investments to support long-term competitiveness and continuing to maintain our strong balance sheet.

Taking all these factors into consideration, we expect revenue in the range of $61 million to $64 million in the second quarter of fiscal 2011. While the exact timing of the new program ramp rates is hard to predict, it is clear to us that fiscal 2011 will be a record-breaking performance. For the full fiscal year, we expect revenue in the range of $270 million to $280 million. This would represent a 35% growth in revenue year-over-year. We expect earnings to be in the range of $0.17 to $0.20 a share for the second quarter and $0.75 to $0.85 for the full year.

Note that our forecast may be impacted by continuing supply chain issues, changes in customer forecasts, and changes in the general economic conditions that could result in variances in our results. Over the longer term, we believe that we are well positioned to continue profitably expanding our business.

That's it for me, Craig.

Okay. Thanks, Ron. We've gotten off to a great start in fiscal 2011. Our record revenue is $63.6 million in the first quarter, was up 53% from the same period of fiscal 2010. Our rapid growth was largely powered by new programs with both new and longstanding customers. We've been growing faster than many of our industry periods and steadily capturing market share.

While we expect the second quarter to be similar to the first quarter, we're preparing for strong growth in the second half of the year. During the first quarter, we've continued to successfully build a more diversified customer portfolio, spanning a wide range of industries. We want new programs involving electric motor controller components and innovative display devices. We expect these programs to begin contributing to revenue in fiscal 2011 and each offers a potential annual revenue contribution of $5 million to over $20 million over the longer-term.

Our revenue diversification strategy served us extremely well during the recession and now we're seeing the benefits of a broad customer portfolio as we enter a period of strong growth. Program wins with existing customers, along with new customer wins due in part to customer references all illustrate the positive effect of a well-served and broad customer base.

Despite the challenges of industry wide component shortages in the global supply chain and new program production ramps, we've maintained our strong operating efficiencies and dramatically increased our profitability. Our strong operating performance outpaced many in our industry, reflecting our conservative management philosophy that focuses on controlling costs and continuously augmenting production processes. Our sustained investment in enhancing our production capabilities also continues to set us apart.

In recent periods, we expanded our facilities in Mexico, China, and the US. By offering world-class manufacturing from three geographic locations, we can optimize the supply chain for our customers' unique businesses. Our expertise in operating multiple offshore facilities and our centralized inventory IP production and engineering management provides significant competitive advantages to our customers.

One lesson of the global recession is increasingly clear. Those EMS companies that continue to invest in their business, execute their long-term strategy, and remain profitable during the down turn, were rewarded with increased confidence from existing customers and increased interest from potential new customers.

Moving into fiscal 2011, we have strong business momentum and recent studies forecast double-digit growth for the EMS market in coming years. With our unique combination of world-class engineering, global logistics, and cost effective production, we're increasingly well positioned to continue to capture market share and capitalize on emerging opportunities.

Going forward, we expect to continue to broaden and diversify our customer base even as we continue to focus on controlling our costs and maintaining our operational efficiency and excellence. We remain confident in our ability to grow our revenue and profits over the long-term.

This concludes the formal portion of our presentation. Ron and I will now be pleased to answer your questions. Operator?

Thank you. We will now begin the question and answer session. (Operator Instructions) Our first question is from Mr. Bill Dezellem from Tieton Capital Management. Please go ahead, sir.

Thank you. We have a group of questions. First of all, revenues were above your guidance and yet the earnings per share were at the lower end of your guidance. And I guess I'm looking for your insights there as to what were the dynamics in between the top and bottom line that might have been a little different than what you originally anticipated. And probably a part B to that question that's all wrapped into on is that your gross margin was 9.4% versus last quarter at 10.7%. And what changed to pull that down?

Well, as we talked about, Bill, we're looking at some pretty serious growth. So we are spending money on hiring people, training people, outfitting facilities that we've bought and working through the various inefficiencies that happened at the start of any program. So while the revenue is a bit higher than we projected and the profit is a bit lower, it's certainly well within the range of what you can expect when you're starting to put a whole bunch of new programs into the factory.

Bill, we also had a pretty significant mix change in our revenue in Q1 versus Q4 and that had an impact on our gross margins as well.

And so the additional people that are more in the training phase and some of the inefficiencies associated with new equipment and that general ramp process, one could make the argument that that's a bit of a one time or not necessarily an ongoing cost that you'll be experiencing.

Well, if we continue to grow we're going to continue to experience the cost of growth. So as we keep putting new programs into the factory, we're going to run a little bit less efficiently than we have when we were at steady state.

And that would explain why you're looking at the gross margin being more around the 9% then the 10%. It's just the inefficiencies that you would anticipate to be ongoing associated with growing as rapidly as you are.

Yes.

Okay, that's helpful. Thank you. And then R&D, I'm not asking about this particular quarter, but just in general for the last few quarters now it's been growing a little bit each quarter. And then when we look back over time, it's actually gone up a fair amount. Would you share your insights as to what the dynamics are behind that, please?

Yes, so part of what we're doing as we grow is we have to continue to step and repeat the success factors that have gotten us the growth. And one of those is the people that manage their new business. So these people are, you can't hire a quarter of a person at a time and we're hiring a full person for a program. So the program managers are a chunk of the people that we've hired that are adding to costs. And they go into R&D. And then the other one is, other class of people is what we call product engineers. These are the people that are tasked with taking all of the drawings, all of the bills of materials, all the documentation that goes along with a new product and getting it into our system correctly and in a timely fashion.

So that's been a bit of a limiter to us in the past and so we've had to go out and hire some of those folks too.

And so, basically what you are describing is that the R&D line is essentially another indicator of your growth and maybe to some degree a leading indicator of your growth.

Yes.

Thank you. And then you mentioned the part shortages and specifically called it out here in the quarter or in the press release. But we have heard some of the semiconductor companies making reference to lead times starting to shrink a little bit and the tightness loosening a little. Have you folks experienced any of that at this point and I'd be interested in your insights there.

Well, if you look at it on weeks of lead-time, when it got really bad, which was probably about six months ago, a lot of the semiconductor folks wouldn't even quote you a lead-time. They just said it was on allocation. Today, a lot of those same problem parts are in the 25 to 30 week lead-time. They are quoting us a lead-time so it is better, but before the problems began these lead times were down in the 15 to 16 range. So I agree with what they're telling you. It's better than it was before, but it's still not anywhere near what it should be and was.

So we're still being impacted and the irony is that we're still being impacted to the $3 million, $4 million range. But even though the situation is better, we have more business to be impacted on. So it's staying about the same number.

That's helpful. And then also relative to parts and inventory, materials are a substantial part of your cost of good sold. We're curious, what opportunities if any do you believe that you have to improve your processes around your materials procurement and to what degree that can help your customers, and to what degree that can help the income statement and we as shareholders.

Well, we're on a journey in our materials function. If you look back at what we did when we started our switch of the Company into contract manufacturing, our materials group at that time was used to buying a few components. All that we needed to buy was what went into a keyboard. And as we switched into contract manufacturing, we had to grow our procurement group so that we could buy parts that are now a typical printer has 300, 400 different parts on one single bill of materials. So we've had to add people that are experts in materials, and cables, and plastics, and semiconductors, and heat sinks, and gears, and pulleys, and stepper motors, and everything else you can think of.

So we have done a pretty decent job over the last year and a half, probably more than that, probably two and a half years of getting the right folks on board so we've got the expertise. But today, we're still working on the processes that can make us more efficient than we are today on responding to quote opportunities quicker and on finding some more and different sources for components that may offer a cost reduction.

So I look for a continued improvement in how fast we can respond to quotes and I look for continued improvement in how cast we can respond to pull-ins and push outs from our customers. And it would be nice if we could expect some cost reductions on the materials side, but we're pretty efficient as it stands today on our pricing of materials.

Great. Thank you. I'm actually going to step out and I do have additional questions. SO I'll come back in the queue, but let other folks have a chance to ask.

Thank you. (Operator Instructions) And our next question is from Bill Dezellem from Tieton Capital Management. Please go ahead, sir.

Well, I guess I will -- I'll continue on then. So relative to the new business ramp that you're talking about in the second half of the year, I mean clearly there's been a bit of a new business ramp here already since in this quarter revenues are up 53%. And so qualitatively I guess what I'm trying to get my arums around is where do you view the company being at relative to the broad new business ramp? Are we just at the beginning of that process relative to the business that you have won over the last year and a half or so? Or are we a ways into it? What insights can you share there? And as an offset, do you have any business that is individual programs that are falling off that will need to be replaced or any business that's tapering down? Or are we basically looking at this run rate and building off of it?

Well, we predicted that we were going to be higher than we are today. So we're clearly predicting that this is going to continue to build. We don't see any surprises. This is the first time that we've ever predicted out for a fiscal year. We're confident enough in our backlog and in our relationship with our customers and in their view of their future that we've taken a step of predicting out for the fiscal year. And as far as the qualitative nature of the ramp, it's been ongoing for the last couple of quarters as we've been working on getting these programs into the factory. And it looks like it's going to keep going for the foreseeable future.

And so if we -- and by the way, thank you for the annual guidance and I'm going to, hopefully you don't view this as using it against you, but if we look at what you did in the first quarter in terms of revenues and what you've guided for the second quarter, then to hit the midpoint of your full year revenue guidance of $275 million being the midpoint, that would imply that in the Q3 and the Q4 that you would need to be doing somewhere in the neighborhood of $75 million per quarter to hit that number. Am I thinking about this correct? And if that's generally correct, does it end up being that the third quarter or that the fourth quarter you would anticipate to be higher than the Q3? So it truly would be a ramping process.

I think Bill, your numbers are correct. Based upon what we put out for the first quarter and second quarter, that's about $125 million of revenue and with the $275 million midpoint for the year, it obviously means that the second half of the year has got to be much higher than the first half of the year. And our programs are continuing to ramp. It's hard to say how much more, if any, Q4 will be than Q3 but we are saying that the second half is going to be much stronger than the first half. It all depends on how the programs ramp up, and when they do come in, and how fast.

So we haven't -- can't really give you the actual numbers for Q3 and Q4, but for the second half we feel comfortable being able to give you that information.

We're not being coy about it either, Bill. It's a situation where in many cases you know our business is to move a product from somebody else's factory to ours. And so that requires that we equip our factory to build the product. We train -- we hire and train people to build the product. Then we actually build the product. Then we have to go through a qualification process that in many cases isn't all that clearly laid out before we get into the qualification process. And so predicting with any degree of certainty exactly what month we're going to get approval to flip the switch and go wide open in our factory is really almost impossible.

That's helpful. And I'd like to actually move to your earnings per share guidance. If we kind of do the same thing, take what you did in the first quarter, midpoint of your guidance for the second quarter and then look at that relative to the $0.80 for the full year, which is the midpoint of your guidance, that implies roughly $0.22 per quarter in the Q3 and the Q4. And relative to $75 million of revenue, $0.22 per quarter seems a bit on the low side. Am I missing something here or is there a degree of conservatism that you are, maybe appropriately, but building in just given several uncertainties?

Well, like we said earlier, as we're in new product ramps our gross margin is going to be impacted by inefficiencies. We always bet on ourselves to do better than what the previous factory was doing in building the products. So we're not sure how much of that bet is always going to come to fruition. So that's caused us to be cautious. And finally, as we said earlier, this is the first time we've done more than one quarter prediction.

So there's a lot of factors in there that lean towards being careful about getting way too overenthusiastic about earnings as we're making our projections.

And then relative to the two new pieces of business that you won here in this quarter, and I presume that it is those two and there are not others that you have that you've left out of the press release. First of all, is that a correct assessment?

You said you're presuming it is those two? What are you talking about?

Yes, I'm sorry. So in the September quarter you won those two pieces of business, motor control and the display business. There weren't any other pieces of business that you did not address that you won, was there?

No.

Okay. So in the opening remarks, I think that you mentioned that you anticipated either one or both of these wins to contribute to revenue in this fiscal year, so by June of '11. Is that correct and can you help us understand the magnitude of that or maybe what's behind that thought process?

Well, those wins are baked into our forecast from fiscal year. So that's the basic thought process is that the wins of those programs and the ramp rate that we've assumed for them is baked into the forecast for the year. So we say that they will begin contributing but that doesn't necessarily mean they'll be running wide open.

Right. Okay. And given that we're talking about these, would you discuss how you won each of these two pieces of business? And they're somewhat different than what we are accustomed to hearing you talk about, motor controls and it sounds like some sort of a unique display.

I'm not sure I'm going to do that because the way we win business is we think kind of our secret sauce.

One is with an existing customer that we won a significant new program for and the other one is a new customer.

All right, that is helpful. And would it be a fair presumption that typically in a new business, one with an existing customer would ramp more quickly than business with a new customer? Or is that maybe not necessarily, one can't draw any conclusions one way or another?

You can't really draw any conclusions. It depends more on the situation that you're facing and moving the product than it does on whether or not it's a new customer or an existing customer.

All right. And as much as I'd like to know more about how you win, I guess we don't want you to disclose the secret sauce. So let me move to some rumors that I have heard that you had actually several quality people that have joined the Company, and in some cases actually rejoined the Company. Is that accurate from your perspective? And if so, what's causing the movement of talent to your organization?

Well, we have hired quite a few people in the last couple quarters as we talked about. A number of them are people that had left the company before and we were sad to see them go and we're happy to see them back. Obviously, if you can get folks back that were doing well when they were here, your cost of recruiting and training is quite a bit less than a new hire. So all that's to the good and when you talk to them about why they're back, I think the underlying cause is that Key Tronic is seen as succeeding and doing well, and that's kind of the opposite of the general economic conditions in town and in the country. So it's a good thing to have them back.

Great. Well, congratulations with whatever you and Ron are doing right there to make that happen. And one additional question, the 10-K lists Kaz this year as your largest customer. Would you please highlight what it is that you are doing for Kaz and what opportunities that you see for additional business, if any, with them?

Well, they're a pretty big customer today for us, but we still don't have anywhere near all of their business. We're making -- everything we make for them is consumer products and they have a number of contract manufacturers in China that continue to represent an opportunity for us to pull into Key Tronic the types of products or various consumer products you can see on the shelves. In drugstores, Kaz makes humidifiers, vaporizers, and things like that.

And to what degree is Kaz limiting the amount of business that they will place with you so that they don't become too large a piece of who Key Tronic is? And if that's the case, as you grow does that, I wouldn't want to say automatically, but lead to a strong opportunity to win additional business with them?

Kaz isn't one of the companies that has a limiter placed upon their size within a contract manufacturer. So what determines how much business we get with Kaz is our own performance and our ability to be cost competitive with the current manufacturers of the products that are in question.

Thank you again.

Mr. Bates, there are no further questions. Please go ahead, sir.

Okay. Thank you all again for participating in today's conference call. Ron and I look forward to speaking with you again next quarter. Thanks and have a good day.

Ladies and gentlemen, this concludes the Key Tronic's first quarter fiscal 2011 conference call. If you'd like to listen to a replay of today's conference, please dial 800-406-7365, access code 4370245. ACT would like to thank you for your participation. You may now disconnect.