Methode Electronics Inc (MEI) 2010 Q1 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the Methode Electronics Incorporated fiscal 2010 first-quarter earnings conference call. At this time, all participants are in a listen-only mode, and a brief question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded.

This conference call does contain certain forward-looking statements, which reflect management's expectations regarding future events and operating performance and speak only as of the date hereof. These forward-looking statements are subject to the Safe Harbor protection provided under the securities laws. Methode undertakes no duty to update any forward-looking statements to conform the statement to actual results or changes in Methode's expectations on a quarterly basis or otherwise.

The forward-looking statements in this conference call involve a number of risks and uncertainties. The factors that could cause actual results to differ materially from our expectations are detailed in Methode's filings with the Securities and Exchange Commission, such as our annual and quarterly reports.

Such factors may include, without limitations, the following. One, dependence on a small number of large consumers within the automotive industry; two, rising oil prices could affect our Automotive consumer future results; three, the seasonal and cyclical nature of some of our businesses; four, dependence on the automotive industry; five, dependence on the appliance, computer and communications industry; six, intense pricing pressures in the automotive industry; seven, increasing raw material prices; and eight, customary risks related to conducting global operations.

It is now my pleasure to introduce your host, Mr. Donald Duda, President and Chief Executive Officer of Methode Electronics, Inc. Mr. Duda, you may begin.

Thank you, Everett, and good morning, everyone. Thank you for joining us today for our fiscal 2010 first-quarter financial results conference call. I am joined today by Doug Koman, Chief Financial Officer, and Ron Tsoumas, Methode's controller. Both Doug and I have comments today, and afterwards, we will be pleased to take your questions.

Despite a 33% decline in net sales in the first quarter of fiscal 2010 compared to the same period last year, Methode produced higher gross margins as a percent of sales, as well as improved profitability in each of its primary operating segments.

Additionally, gross margins, operating income and net income improved sequentially in this first quarter of fiscal 2010 compared to the third and fourth quarters of fiscal 2009.

Furthermore, crisp execution by our global manufacturing teams, coupled with careful management of our expenses, enabled us to reach breakeven for the quarter and produce positive operating and free cash flow.

The 33% decline in sales in the first quarter was due in part to our decision to exit our legacy North American Automotive business. Specifically, first-quarter revenues excluded sales from Chrysler, while last year's first quarter included revenue from this automaker. Additionally, as a result of our agreement with Ford Motor Company to transfer all production at Methode's Reynosa, Mexico facility to another supplier, sales to Ford were reduced in the first quarter. The transfer of Ford product was essentially completed last month.

Despite the significantly lower sales volume, consolidated gross margins improved slightly to 22.6% of sales in the first quarter from 22.2% in the same period last year. The reasons were manufacturing efficiencies, a reduction in fixed costs and a favorable product mix. I also believe these results reinforce and validate our strategy to focus on higher margin business.

These results were also driven by the significant restructurings we undertook. Although the current global economic downturn has reduced our operating profits and earnings compared to the year-ago period, our quick reaction to the economic crisis and subsequent restructuring measures generated operating cash flow of $7.7 million and $3 million of net cash in our first quarter, while we also lowered fixed costs and product inventories. We expect to have our restructuring initiatives completed by the end of this fiscal year, if not sooner.

Although there is some indication that some of our markets may be bottoming, it is yet unclear whether this first quarter will be Methode's bottom in terms of sales. One area of optimism we see is in our European business, where there are positive signs that sales and profits are improving. Additionally, we are seeing increased quoting opportunities in our Power Products group over the prior six months.

However, I want to caution that broad-based improvement will still take some time to occur. That said, the actions we have taken to reduce costs will help mitigate the impact of lower sales, while allowing us to continue to make critical investments for growth as markets improve.

In the first quarter, we continued to solidify our user interface, sensor and power market positions and increase our prominence in new programs in a way that we expect will drive our results for many years. By working diligently to position Methode to capture new opportunities, we continue to diversify our business and expand our end markets. I would like to discuss some of our new business opportunities garnered in the first quarter.

In our Interconnect segment, we talked last quarter about our continuing efforts in the Asia-Pacific region, with TouchSensor Technologies, focusing on vending machines. During the first quarter, we were afforded the opportunity to develop the user interface for a major vending machine manufacturer in Europe. These opportunities represent significant diversification of the TouchSensor Field-Effect technology, originally launched in the appliance market, and is a great example of our ability to expand our technology into new geographic regions and to new customers.

In the US, we continue to strengthen our position as the interface of choice for the appliance markets, as we were awarded new business for the user interface panel on a water-dispensing system and freestanding range that will both employ TouchSensor technology.

Last quarter, I also talked about a TouchSensor high-resolution touch screen as part of the user interface panel for a premium line of appliances. I am pleased to report that we commenced production during the quarter. The integrated panel on these appliances enables a smooth styling appearance, while providing TouchSensor's TouchCells, along with an innovative touchscreen display, which is behind four-millimeter-thick glass. This makes for a very robust touchscreen, but elegant display. We are not aware of anyone else in the market supplying this type of product.

In our Power Products segment, we will begin producing bus bars for Bombardier Locomotives for the Chinese market. This is our first order from Bombardier's China division, and represents the results of our global Power Products team working together, specifically, Methode Europe and Methode Asia. We congratulate the teams for this win.

We are also developing a bus bar along with a high current interconnect and power cable prototype for our new alternative energy power-generating system. This step into the alternative energy market will help better position us in this end market, and is another example of our Power Products groups working together to provide multiple solutions to our customers as they go through their product development process.

In the Automotive market, we developed products that employ several of Methode's technologies as their backbone, including Field-Effect, Biometric and, as discussed in our last call, magnetoelastic sensing.

For Jaguar and McLaren, we are developing user interfaces for their new platforms. Both companies wanted a revolutionary new look and functionality for these interfaces, and Methode was selected early in the concept and development phases to act in the collaborative role in the development of these new interfaces.

These are all great examples of the evolution of Methode from a company that in the past just responded to RFQs to one that proactively provide solutions and technology to our customers.

I want to repeat what I said in July. We have innovative and patented technology and a global footprint, which makes us, we believe, very well-positioned to take advantage of the economic upswing that will certainly come and the accelerated growth that we will experience in developing markets. I am very optimistic for the future of Methode.

And finally, we are committed to maintaining our strong financial position, even as we continue to invest in developing new technologies and introducing new products. We believe our $57 million in cash and no debt reflect a fiscal discipline that is meaningful to our investors, especially in today's uncertain environment.

With that, I would like to turn the call over to Doug for his financial review.

Thank you, Don. Good morning, everyone. As usual, let me start by reviewing the sales, gross margins and income tax -- or income before taxes for our reporting segments. The Automotive segment had first-quarter net sales of $51.2 million, down nearly 40% compared to $84.7 million last year. The decrease is due to the softening of the global economic environment, especially the effect on North American automotive industry. A large portion of the drop in sales is due to North American OEMs extending plant shutdowns into our first fiscal quarter.

Additionally, we had no sales to Chrysler this quarter compared to last year, when we were still winding down that business. We had substantially completed the transfer of Chrysler product by the end of the second quarter of last fiscal year. Ford business was also being wound down in the current quarter compared to last year's quarter.

Currency translation decreased foreign sales by $1.7 million in the quarter. In the first quarter, gross margins for the Automotive segment were $11.5 million compared to $17.7 million last year. Gross margins were positively impacted by restructuring initiatives taken in previous periods, which helped to offset the lower sales volumes.

As a percentage of sales, gross margins were 22.5% in the first quarter of fiscal 2009 compared to -- our first quarter of 2010 compared to 20.9% last year. Pretax income in the Automotive segment was $2.8 million in the quarter compared to $10.5 million last year.

Moving to the Interconnect segment, we had net sales of $24.7 million in the first quarter, which is down nearly 31% from $35.6 million last year. Net sales in the current quarter include sales from Hetronic, which was acquired on September 30 of 2008. Excluding Hetronic sales, the remaining businesses in this segment were down about 43% in the first quarter.

The decline reflects the general economic slowdown in the markets served by this segment, and also our decision to exit certainly legacy Interconnect businesses.

Currency translation decreased foreign sales by about $300,000 in the first quarter. First-quarter gross margins for the Interconnect segment were $6.2 million, or about 25.1% of sales, compared to $9.1 million, or 25.6% of sales last year. The decrease in gross margins as a percentage of sales is primarily due to manufacturing inefficiencies due to the lower sales volumes this year, partially offset by gross margins from Hetronic.

Pretax income in the Interconnect segment was $200,000 in the current quarter compared to about $0.5 million last year. This is due to higher cost of products sold as a result of lower sales volumes, offset by lower restructuring charges and lower selling and administrative expense.

In the Power Products segment, sales were down almost 7% in the quarter, with $11.2 million this year compared to $12 million last year. As with the other segments, this was due to the general economic slowdown resulting in lower demand for our bus bar and heat sink products. Gross margins in the Power Products segment were $2.3 million in the current quarter, the same as last year's quarter.

Gross margins as a percentage of sales increased to 21% in the current quarter compared to 19.2% last year. This increase is due to restructuring initiatives, the consolidation efforts at our US Power Products businesses during the fourth quarter and also in the first quarter of 2010.

Pretax income in the Power Products segment was $600,000 in the quarter compared to about $800,000 last year. This was due to lower sales volumes, higher restructuring expenses and higher professional fees, partially offset by lower cost of products sold due to the restructuring initiatives and consolidation efforts.

The Other segment had first-quarter sales of $2.7 million, which is up from $2.2 million last year. Sales at both our magnetic sensing business and testing laboratories were up year-over-year. Gross margins were $200,000 in both the current quarter and also last year. That is because the increase in net sales was offset by higher cost of products sold.

Pretax income in the Other segment was a loss of $600,000 in both the current quarter and last year. As with gross margins, the increase in net sales was offset by higher cost of products sold.

Some highlights on the consolidated income statement. Selling and administrative expense in the first quarter was $15.9 million, down from $16.4 million last year. The decrease is due to lower intangible asset amortization and lower stock award amortization expense. That's partially offset by selling and administrative expenses from Hetronic.

However, as a percentage of net sales, selling and administrative expense increased to 17.7% compared to 12.2% in last year's quarter. The increase in selling and administrative as a percent of sales reflects the significant drop in sales in the last half of fiscal 2009.

Interest income expense was an expense of $100,000 in the current quarter compared to income of $500,000 in last year's quarter. The reduction is primarily due to lower nominal interest rates this year versus last year, lower average cash balances this year compared to last year because of the Hetronic acquisition, and also we had fees related to the amendment of our bank facility during the first quarter of fiscal 2010.

Other expense net was $400,000 in the first quarter compared to $200,000 last year. The decrease is primarily due to weakening of the US dollar compared to the euro and the Czech Corona.

For the first quarter of fiscal 2010, the effective tax rate was 109.6% compared to 21.6% last year. The income tax expense in the first quarter was $300,000 compared to $1.9 million last year. The reason for the higher effective tax rate is normally we would record a tax benefit relating to net losses before income taxes. However, due to the uncertainty of the future utilization of the tax benefit, a valuation allowance was recorded, offsetting the tax benefit. This is because while the IRS allows a 20-year loss carryforward, the accounting rules proscribe that you look forward only a few years. And therefore, that is the reason for the higher effective tax rate.

Looking at the balance sheet, as Don mentioned, we built up cash in the first quarter, which is at $57.1 million compared to $54 million at the end of last year. Accounts Receivable balance is $54.8 million, which is down from $60.4 million at the end of last year. Receivables are down primarily due to the lower sales in the first quarter.

Inventory is $42.2 million, which is up from $40.4 million at the end of last year. The increase is primarily due to higher customer-funded tooling inventory for an insert molded transition transmission lead frame assembly being launched in Shanghai. This increase was offset by a decrease in product inventory due to lower sales in the quarter and also aggressive inventory management.

Other current assets are $27.2 million. This is up from $26.4 million at the end of last year. This is primarily due to prepaid insurance. Property, plant and equipment is $69.7 million. This is virtually unchanged from $69.9 million at the end of last year. There is no change in goodwill. The change in intangible assets to $20 million, down from $20.5 million, is due to amortization expense.

Other assets at $22.5 million are up from $21.9 million, primarily due to adjustments between current and noncurrent deferred tax items. Accounts Payable at $25.1 million is up slightly from $24.5 million at the end of the year.

Other current liabilities at $26.1 million are down $2.8 million compared to $29 million at the end of last fiscal year. This is due to payout and/or adjustments to various reserves, such as product assurance, accrued vacation, workers' comp, medical, legal, environmental and [VAT].

Other noncurrent liabilities at $16.3 million are down slightly from $16.9 million at the end of the year, primarily due to deferred compensation payments.

Briefly on the cash flow statement, the increase in cash and cash equivalents was $3 million in the first quarter. Cash provided by operating activities was $7.7 million. This is $3.7 million less than was provided in the first quarter fiscal 2009, primarily due to the decrease in business levels. Cash used in investing activities was $3.4 million. That is the same as last year.

Finally, cash used in financing activities is $2.6 million. This is $900,000 higher than last year. This is reflecting a higher dividend payout at $0.07 per share compared to $0.05 per share last year. This was slightly offset by no stock options being exercised this quarter compared to last year.

Don, that concludes my comments.

Thank you, Doug. Everett, we are ready to take questions.

(Operator Instructions) David Leiker, Robert W. Baird.

Good morning. I had to jump off and on a little bit, so I apologize if you touched on some of these. But on the Delphi situation, how much of your Delphi revenue is related? Is all of it related to this seat sensor?

Yes, our [AST] division is completely dependent on the seat sensor, yes.

Okay, but I mean your Delphi revenue is 100% AST, right?

Correct.

Okay. And is there any other color you could provide on this in terms of what your thoughts are of what happened here? It sounds like it was a little bit of a surprise to you.

No, it wasn't a surprise. I mean, as you might imagine, we are going to be very guarded in what we say. We are involved in litigation with Delphi.

Yes, I understand.

It is very difficult to say much more than that.

Okay. On two other topics there. If we look at your margin performance here in the quarter, which is great, you look sequentially -- prior quarter, not year-over-year, but sequentially on roughly the same revenue base, (inaudible) a $20 million improvement in gross profit.

Can you give us some broad buckets of what falls into that and how much of that is really true underlying improvement in performance, or if there is anything in particular we should be aware of as we look at that sequential profitability?

Primarily, I think we are starting to see the benefit of a lot of the restructuring initiatives that we've been working on, and that is going to be the primary driver to the improvement in margins.

So -- but you had a $20 million improvement in cost savings from restructuring in a three-month period. Is that the way I should read that?

No, it is not sequentially, but I think I would have to go back and look at what we had in the fourth quarter that might have been -- don't -- taking margins down a little bit. Because if I look sequentially on gross margins, we did dip in the third and fourth quarter a little bit, and now we are coming back to a level that we have seen previously.

I'm looking at -- on the same revenue number, you had a $4 million loss at the gross profit line in Q4 and you've got a $15 million profit on the same revenue number. And I'm trying to get our arms around what the driver of that nearly $20 million improvement was, with no change in revenue. Was there something changed in mix? Is there -- just want to try and get our arms around that.

It's a number of things. It certainly is the effect of some very dramatic restructurings, the manufacturing efficiencies, a reduction in our fixed costs. To some degree, favorable product mix from quarter to quarter. And our focus on higher margin businesses.

I don't know what else we would say there. It validates our -- or reinforces our restructuring efforts. And then, you know, we've got the things like less depreciation --.

Less -- yeah, less gross margins.

So if we looked at -- and I don't want to get into forecasting here, but if we looked at your second quarter and said you have $90 million in revenue, would we expect you to generate $15 million in gross profit? Is there something with that thought process that we should adjust?

You're saying if we generated --

Comparable revenue in your second quarter or first -- yes, second quarter. Would you generate a comparable gross profit of $15 million?

You're looking at last year's second quarter? I'm sorry --.

No, no. The quarter that we are in the middle of right now, this October quarter. (Inaudible) $90 million here in the July quarter, right? We said you had $90 million in the October quarter. Would you generate a gross profit of $15 million like you did in the first quarter? Or are there some things we should be aware of here in Q2 that might be different in Q1?

In this regulatory environment, I am reluctant to --.

I'm giving you the $90 million number. I'm just trying to get a sense of what the pluses or minuses might be on margins in this current quarter versus the one that just finished. You don't have to quantify it. I just wanted to know what variables we should look at.

I would say that it is always dependent upon mix. But the only variable that I think we could point to is the effect of Delphi. We also said that Delphi is one of our more profitable divisions, but we are also seeing some upside in Europe. So how that washes out into a second quarter at the theoretical $90 million, we'll have to wait and see. But I mean, I think that is about as much color as we can give on that.

Okay. And then last thing here, if we look on the revenue line as we go forward, just what the underlying trends are here over the next several quarters. Obviously, the end market is a little bit of a wild card. Leave that outside of it. But in terms of volumes that are running off and new things are starting up, if you could just give us some characterization of how that flow might look like over the next couple of quarters.

I don't think we have much product running off. We are essentially done with legacy Auto.

Yes, we'll have less Ford going forward, where we had some this quarter. But --. I was going to say, otherwise, I don't know that we -- Don said we don't have anything running off, but I don't think we have anything significantly launching that we would expect to impact the revenues.

No, that is accurate, too.

Okay. Thank you.

David, but just before you jump off, in the prior quarters that we were talking about sequentially, the gross margins, we did have some inventory write-offs that would have negatively impacted those gross margins.

Okay. Thank you.

Fritz Von Carp, Sage Asset Management.

I had kind of a -- maybe like a little bit of a big picture question, and you'll just have to help me, just because I am a little bit new to your Company. I'm not asking you for any great secrets; I'm just probably asking for things that other people already know.

How would I think about the earnings power of your Company, sort of the upcoming cycle versus the last cycle? And again, I'm not looking for any great guidance or anything, but just anything -- I mean, you know, where are the large differences, the obvious differences better -- for the better or for the worse in your Company over that -- if we are comparing on that time frame?

Okay. As we mentioned, Methode has in times past been probably almost as high as 80% dependent upon the automotive business. We have significantly reduced our exposure to that market, but also changed within that market what products that we are offering -- more user interfaces, moving away from traditional switches, as appropriate. So first thing is as we move forward, Methode has diversified itself.

And then we've also entered, with some of our acquisitions, we've gone into really much larger markets, where there is presumably better margins, in interface electronics or human-machine interface, with the acquisition of TouchSensor and the acquisition of Hetronic. So we've entered, I think, a phase where our Interconnect segment will ultimately grow and provide us higher margins.

And also in Power, the Power group years ago was a very small group focusing on bus bars. We've added product lines, both organic and through acquisitions, that we have a pretty good offering for the -- what I will call the high-current market in power. So -- and those tend to be at better margins than Methode historically has garnered.

So we position the Company from a product segment standpoint. I am always pointing out that we are not exiting auto. We've made adjustments in auto to shut off some unprofitable business. But we will have our Auto group. We have our Interconnect or interface group, and then our Power Products group. And also our Sensor area, which is magnetomagnetic sensing. That's an investment that Methode has been making for a number of years.

So again, Methode has positioned itself from a product standpoint. But also, I think as important, we -- not too many years ago, we -- most of our revenues came from the US. Now we are actually looking at the point where that's probably going to get -- will probably go the other way at some point.

Geographically we've expanded, and we've consolidated our manufacturing facilities so that we have a global footprint. But we have really three major manufacturing centers, down from probably seven or eight a few years ago.

So Methode has in the last couple of years repositioned itself. So its future earnings -- and again, it is hard to predict -- we need a little help from the economy, the world economy here -- but I think Methode's well-positioned from those two standpoints, from a product standpoint and a geographic standpoint, and I should also mention the manufacturing.

Yes, okay. That's perfect. That's very helpful. Thank you.

And could I ask a follow-up, if you don't mind? So Auto you said was 80% in the past. And what is it now of your mix -- it has gone to what? Ball park?

In Q1, it was around 57% or 58%.

Got you. And what are the couple of other big markets now that you have -- that are now the bigger piece that have taken this space up from the Auto?

Well, certainly interface electronics, or what we refer to as HMI. We had a study done about a year ago. That is about a $20 billion market, about an $8 billion subset where we operate. So that's --.

Those HMIs, are they basically industrial?

No, they can -- if you look at our TouchSensor business, they primarily got started in the appliance business.

Okay. I'm looking for the end market -- appliances, that's real helpful.

Appliance. There is certainly an industrial aspect of TouchSensor. The Hetronic acquisition is in construction and transportation. One of their growing markets is in locomotives. In what other end markets?

Material handling, mining, that type of equipment.

Mining material, okay, great.

But what we look for is technologies or companies where they may be in a particular major market. TouchSensor was in appliances, but their technology -- and that is because they were at one point owned by Schott Glass, who wanted to put TouchSensor controls on their ceramic cooktops.

Interesting.

So they focused on appliance. So TouchSensor grew up in that, but it also be used for level sensing; it can be used in industrial; it can be used in -- some of our new business wins in auto are using the TouchSensor technology. So we tend to look for companies or a technology that will go across markets.

And just in the -- last follow-up, I promise -- just in the Auto, what is your mix -- let's call them the American companies, the government effort plus Ford, and then the transplants and the foreigners. How does that mix break down, roughly?

I don't know that we've got the exact numbers, but it is heavily weighted in Europe, currently compared, to what it was in the past.

Well, your current auto exposure is predominately European now.

What I should point out though is that we do ship product from our Malta facility back to Ford in the US. So there is a Ford element to that.

But to give you a little more background, I think in '04, our revenues to Chrysler were about $140 million -- and don't hold me to that number -- but around that range. And it hit zero last quarter.

We have very limited business with GM. And we have -- purposely, we had to make some adjustments with Ford because we were having some issues in our Reynosa facility in legacy product. But we have -- we will continue to work with Ford on a global basis. So I don't know what the mix will end up there, but --.

No, that's helpful. That is real helpful. Thank you very much.

(Operator Instructions) We have no further questions at this time. I'd like to turn the floor back to management for closing comments.

Well, thank you, Everett. We'll thank everyone for calling in and wish everyone a pleasant day. Thank you.

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