Methode Electronics Inc (MEI) 2011 Q3 法說會逐字稿

Greetings, welcome to the Methode Electronics fiscal 2011third quarter earning's presentation. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. (Operator Instructions)As a reminder this conference is being recorded.

This conference call does contain certain forward-looking statements which reflects management's expectations regarding future events and operating performances 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 this 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.

Factors that could cause actual results to differ materially from our expectations are detailed in the third filings with the Securities and Exchange Commission such as our annual and quarterly reports. Such factors may include without limitations the following, dependence on a small number of large customers including two large automotive customers, dependence on the automotive appliance computer and communications industries, seasonal and cyclical nature of some of our businesses, dependence on the availability, price and risk of substitution or counterfeit of components in raw materials, rising crude oil prices may result in higher costs for resin and other petroleum-based materials, ability to compete effectively, customary risks related to conducting global operations, ability to keep pace with rapid technological changes, ability to avoid design or manufacturing defects, currency fluctuations, ability to protect our intellectual property, ability to successfully benefit from acquisitions, unfavorable tax laws, the future trading price of our stock, and the risk of owning real property.

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

Thank you Christine and good morning everyone. Thank you for joining us today for our fiscal 2011 third quarter financial results conference call. I'm 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.

In the third quarter of fiscal 2011, Methode achieved solid sales improvement, with sales up 13.7% compared to the same period last year and 10.4% for the 9-month period. In our automotive segment, we experienced higher sales in our transmission lead frame and steering angle sensor products as well as from the My Four Touch Center Council program.

Our power products segment also had strong sales. Interconnect sales were down primarily as a result of Whirlpool significantly reducing their requirements for touch sensor products during the quarter as a result of lower appliance sales.

Adjusting the 9 month results for the loss of sales to Delphi and planned lower sales of Legacy Automotive products which together total $24.3 million, consolidated sales in 9 months of fiscal 2011 increased 21%. As we announced this morning, Methode settled the Blue Angel matter for $2.1 million. This resulted in a $1.7 million reversal of the $3.8 million expense we recorded in the second quarter resulting in a benefit to net income in the third quarter but a negative impact in earnings in the 9 month period.

Additionally, we had several expenses and benefits in the third quarter and 9 month period that make an apples to apples comparison a little difficult. Doug will expand upon these in his discussion.

Consolidated gross margin were 19.2% compared to 17.2% a year ago. This was attributable mainly to higher sales as well as margin improvement in our automotive segment partially offset by manufacturing inefficiencies related to multiple product launches which I will talk about more in a moment.

In the first 9 months, consolidated gross margins were 20.7% in both this year's and last year's periods. Even though our sales increased year-over-year, gross margins remained constant due to the loss of sales to Delphi, which was a higher margin business line for us, as well as other charges and costs that Doug will discuss shortly.

While we believe the particular vendor supply and delivery issues we experienced in the second and third quarters have been resolved, we may, however, continue to experience manufacturing inefficiencies in the next few quarters due to multiple product launches as well as component shortages which also hamper our production efficiencies.

Some additional detail on the segment results. In this third quarter, automotive segment sales improved over 20% year-over-year. As I mentioned this was due to higher sales in our transmission lead frame and steering angle sensor products in Asia. And the My Four Touch Center Council program here in North America.

Sequentially, we saw 4% drop in overall automotive sales from the second quarter due to seasonality as December is typically our slowest month of the year as well as the aforementioned drop in European sales.

Sales were up close to 3% in the automotive segment in the 9 month comparison but were negatively impacted by the loss of sales to Delphi and the planned lower sales of Legacy Automotive products. If we take out these two items, automotive segment sales increased almost 23% in the first 9 months of fiscal 2011 compared to 2010. The planned transfer of the manufacturing of the T76 lead frame product from the US to China, skewed our North American automotive segment sales for the 9 month period.

Excluding loss of sales to Delphi, the planned lower sales of Legacy Automotive products and the transfer of the T76 business, North American automotive segment sales were up about 37% in the first 9 months primarily as a result of the continued launch of the My Four Touch Center Council program. Automotive segment gross margins improved substantially in this third quarter over 2010 more than doubling from 8% to over 17% despite the vendor issue and manufacturing inefficiencies. These additional costs are the consequence of a record number of new product launches. As in the past, we have instituted our corrective actions and anticipate as we progress through the launches into full production these issues will be behind us.

In the 9 month period automotive segment gross margins improved modestly despite the loss of the higher margin Delphi business and the aforementioned costs. Interconnect sales decreased almost 4% in this third quarter compared to last year, attributable mainly to planned exit of Legacy connective products in Asia and the lower appliance sales in North America which effected our touch sensor business. These lower sales were partially offset by increased sales of safety remote control products compared to third quarter of fiscal 2010.

Sequentially third quarter interconnect sales were down almost 11%, again mainly due to the reduced appliance sales which we expect to continue into Methode's fourth quarter. Despite slower business interconnect's margins in the third quarter and in the first 9 months are at the high end of our target for this business segment due primarily to a good sales mix.

Power product sales were up significantly in the third quarter and the first 9 months, as certain awards we received in fiscal 2009 have moved to the design and testing stages and have commenced production. In the third quarter, sales were up over 35% as a result of higher flexible cabling, heat sink and bus bar demand. Sales for the 9 months were up over 21% as a result of higher bus bar demand and through the introduction of power products into Europe.

Sequentially third quarter power product sales were up over 8% over the second quarter and were particularly strong in our North American segment. While gross margins decreased year-over-year this was mainly due to a product development cost of approximately $700,000 for a new award that I will discuss in a moment. In the 9 month comparison gross margins decreased due to customer program -- due to a customer program cancellation and associated expenses, which we are seeking to recover, as well as the new product development costs I just mentioned.

On to new business wins and ongoing solutions development for our customers, in the first quarter of this fiscal year we announced that our MDI group was awarded the contract to provide a top tier automotive OEM with a custom sensor using magneto-electric technology for the measurement of clutch plate position in a new fuel efficient duel clutch six speed transmission. Initially the award represented approximately R1.5 million in revenue in fiscal 2014, ramping to $10 million in fiscal 2016.

We are very pleased to announce today that we have received additional volume from the OEM's trainee's joint venture for approximately $0.5 million in revenue in fiscal 2014 but ramping to $10 million in fiscal 2016. This program now totals approximately $2 million in revenue in fiscal 2014 ramping to $20 million in fiscal 2016. We will begin producing these sensors for multiple platforms in the second half of fiscal 2014 and are currently in the design and development stage working closely with the domestic OEM.

In our power products segment we were awarded a program to provide an on-board integrated powering unit which contains 10 kilowatt charger, an auxiliary power supply and the associated vehicle interface controller for a pure electric commercial truck being launched by a domestic OEM. Based on Eetrex's power electronics technology and know how and Methode's automotive engineering and design for manufacturing expertise, the Eetrex Methode team work together from concept to production readiness. The $700,000 expense mentioned earlier was to fund development of this product.

The production award represents approximately $2 million in revenue in fiscal 2012 ramping to $10 million in fiscal 2014. The technologies being developed by Eetrex and marketed and manufacturing by Methode are synergistic and complimentary to our power solutions portfolio. A number of our current customers have expressed interest in these power electronics systems and represent an additional revenue pipeline for Methode as the push for alternative energy solutions expands.

Speaking of Eetrex, I am also pleased to announce today that Methode has reached agreements to make an additional investment in Eetrex of approximately $1 million increasing our ownership to 51%. We also have the opportunity to take our investment to 90% at our option.

Finally, regarding the Hyundai Center Stack program we discussed last quarter which represented approximately $ 2 million in revenue in fiscal 2012, this award was for a mid-year short-lived program. Because of the time to design, develop and launch the Center Stack, Hyundai elected to carry over the current design instead of using our of using our Center Stack. Hyundai as indicated that they will potentially use our technology on a more prominent full-year launch in the future.

In summary, in this third quarter Methode continued to demonstrate its capability of developing new technologies and more importantly to use those technologies to bring products and solutions to our customers. Moving forward, we are pleased with our strategic progress and the growth opportunities that we see ahead. Now, I will turn the call over to Doug who will provide further details regarding our financial results. Doug?

Thank you, Don. Good morning, everyone. Before I cover some of the more significant expense and benefit items that affected the quarter and 9 month period, let me walk you through the non-GAAP adjustments that we included in our earnings release. For the third quarter we've reported net income of $5.9 million or $0.16 per share. This compares to a net loss of $0.5 million or $0.12 per share in last year's third quarter.

In the current quarter we reversed $1.7 million of the Blue Angel expense that we recorded in this year's second quarter. By excluding this benefit third quarter net income would be reduced to $4.1 million or $0.11 per share. In last year's third quarter results, if we excluded the negative impact of $600,000 of restructuring charges last year's third quarter net loss would have been reduced to $3.8 million or $0.11 loss per share. Therefore, on an adjusted non-GAAP basis net income was $4.1 million this quarter, compared to a loss of $3.8 million in the last year's quarter, or $0.11 earnings per share this quarter versus an $0.11 per share loss last year.

For the 9 month period we reported net income of $9.4 million or $0.25 per share, this compares to a net loss of $2.4 million or $0.07 per share in last year's 9 month period. Excluding the $2.1 million expense for the Blue Angel matter, and a negotiated program termination charge of $1.3 million that was recorded in the second quarter, the current 9 month period net income would have been $12.8 million or $0.34 per share.

If last year's results excluded the negative effect of $7.3 million of restructuring charges, and the offsetting favorable effect of reversing a $1.7 million one-time pricing accrual, last year's 9 month period would have been net income of $3.4 million or $0.09 per share. Therefore, on a non-GAAP basis the net income for the 9 month period was $12.8 million compared to $3.4 million last year, or $0.34 per share this year compared to $0.09 per share last year.

Looking at our cost of products sold, in the current quarter as a percentage of sales, cost of products sold was 81.6% compared to 84.1% last year. This comparison would have been better except for a few unusual items. In the current quarter we had a vendor supply issue on a new product launch that was about $1.3 million. We also had some manufacturing efficiencies at our Malta operation caused by multiple product launches that Don discussed earlier. While it's difficult to quantify the cost of these inefficiencies, we know that it did negatively affect our cost of goods sold in the quarter.

In the 9 month period cost of products sold as a percentage of sales was 80.2% compared to 80.6% last year. As with the 3-month period the comparison would have been better except for the vendor supply issues which were $2 million for the 9 month period. Also the negotiated program cancellation charge of $1.3 million, and a customer translation charge of $400,000 and additionally the manufacturing inefficiencies caused by the multiple product launches in the third quarter.

In selling and administrative, in the current quarter, as a percentage of sales, it was 15.3% compared to 19.2% last year. If the $1.7 million Blue Angel expense reversal were excluded, then selling and administrative would have been 17%, which is still below our 19.2% in last year's third quarter. It should be noted that this year's selling and administrative expense included $1.2 million higher stock award amortization, which was offset by lower Delphi legal expense of $1.2 million.

In the 9 month period, selling and administrative as a percent of sales, 17.4%, compared to 17.8% last year. Here if the Blue Angel net expense of the $2.1 million were excluded, selling and administrative as a percentage of sales would have been 16.7%, which is still below last year's 17.8%. This 9 month period selling and administrative expense included $1.2 million higher stock award amortization offset -- partially offset by lower Delphi legal expense of $800,000 for the 9 month period.

As I mentioned before, part of the increase in selling and administrative was stock award amortization. Going forward we expect the -- this amortization to be higher. In October of 2010 the shareholders approved a 5 year performance award for management. Last year's stock award amortization was low because the performance awards granted over the past 3 years became worthless because of the restructuring and recurring charges taken over the last several years. So going forward we expect stock award amortization between $800,000 and $900,000 per quarter.

If you look at operating cash stream, the first 9 months we generated $19.6 million of cash from operating activities. While this was $3.7 million higher than last year, it does include a $13.1 million federal tax refund for a net operating loss carryback that was received in the third quarter. This offset net increase in working capital that primarily resulted from the increased sales activities, additionally in order to protect the supply chain, we are also carrying higher inventory for certain components that have been in short supply in the market.

Just lastly I want to comment on the credit facility. On February 25, we renewed our bank credit facility. The new facility, like the old, is for $75 million. It does have a 5 year term, and the borrowing and commitment spreads are tiered based on our debt to EBITDA ratio. And at our current debt EBITDA ratio this will result in lower spreads than the expiring facility. Don, that conclude my remarks.

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

Thank you. We will now be conducting a question-and-answer session. (Operator Instructions)One moment please while we poll for questions. Thank you. Our first question is from Jeremy Hellman with Divine Capital Markets. Proceed with your question.

Hi. Good morning, everybody.

Good morning, Jeremy.

Couple of things here. You laid out a lot of detail so not a lot leaves a lot to the imagination. But on the new power award, the integrated power unit that you were talking about, that was a nice synergy with Eetrex and Methode. You mentioned $700,000 of expense to date on that. Where do you see that total expense shaking out, firstly? And then if kind of looking at your ability to go and take this to other OEM's, how replicable is it from a cost basis to go sell that elsewhere, or do you have to go through kind of the full development spectrum to do that, I guess is the best way to frame the question.

That's a good question. Let me first answer the $700,000. We'll incur some additional costs but I don't think they will be that notable. That expense is really to develop the product line, such that we could take that charger to other OEM's and present it to them. To our knowledge it's one of the few 10 kilowatt chargers available, so we certainly have been speaking with others, and this first award was -- the first one is always the hardest one to get. So this helps -- helped greatly, and we have been talking with other OEM's. So it is very applicable to other opportunities.

Okay. Great. And then, secondly, for me , just some model details here. Just because you had some things that worked for and against you. In terms of the auto segment gross margin, I think the vendor supply issue sounds like it was about 130 basis points, or so, in the quarter, of a headwind. You mentioned that the inefficiencies in Malta, you can't really quantify. But kind of going forward is where my focus is, is that 18.5% to 19% still a reasonable basis to think about?

Yes. Yes, I would say that that's reasonable, and we've said in the past we're going to have choppy quarters, we're going to have some things that don't go our way. I think we're very good at launching products, but as I said in my prepared remarks, we have a record number of launches and we're going to have -- we're going to have some issues from time to time. The one issue that we had, the larger one, I hope we don't have another issue like that. But we're going to have some choppiness as we launch these programs and move through production. But the percentage is probably -- that's a good number.

Okay. And then last one for me and highly hop out. Just looking at the SG&A line, you had the $1.7 million, that was the one-time reversal. Stock comp you covered. And then the legal now drops out, if I'm correct. Is that right?

Yes, it's -- the legal was down in both the 9 month and--

Okay. So that ought to get you to somewhere around $16 million, or so, as a quarterly run rate level? Does that sound right to you?

You're talking about for SG&A?

Yes.

Yes, that's not -- yes, that's probably, conservative number to use $16 million, $16.5 million, yes, is conservative. We just have to bake in the long-term incentive program that we -- we just -- I talked about, so that would be comparing the last -- the last year to this year going forward that LTI amortization will be a little bit higher.

Okay. Great. All right. I'll jump out now. Thanks.

Thank you.

(Operator Instructions)Our next question comes from David Leiker with Robert W. Baird. Please proceed with your question.

Hi. Good morning. This is Joe Vruwink on the line for David.

Good morning.

Hey, Don, can you just go over the clutch sensor award one more time? I was a little slow in catching all the detail on the add-on portion of that contract.

Okay. The award is for a 6-speed dual clutch transmission that the domestic OEM is having the transmission is being built domestically and also in China, via their joint venture. We're not at liberty to say who the OEM is, but it is a prominent domestic OEM. And we anticipated that they would, first, begin with the US transmission, and then ultimately we would also be sourced in China. I can go through the numbers again for you. It starts off relatively slow at $2 million per year, and then by fiscal '16 it gets to $20 million. I just went back to that page. It's $2 million in '14, ramping to $20 million by '16.

And what was the original value with the?

Original was $1.5 million. So we didn't really add that much in '14, but it doubled by '16. So it was originally $1.5 million going to $10 million and now it's $2 million going to $20 million.

Okay. Great. On these vendor supply costs , (inaudible) costs, I guess it looks like you had about $600,000 last quarter and $1.3 million this quarter, and now you're saying it's not going to be an issue going forward. Was the uptick in costs this quarter a result of actions Methode was taking to mitigate future costs? What's a good way to think about this?

Uptick in costs in--

In, well, uptick in the vendor supply costs, I believe, last quarter, $600,000.

Oh, okay.

Now you're talking $1.3 million.

No, it just hit its peak. There was premium freight in there. There was overtime. So that all culminated in the third quarter.

In the prior quarter I don't think it was a full quarter.

No, I agree. I agree.

Oh, okay.

Doesn't start till later.

Yes.

Okay. I got it. With automotive, Jeremy kind of touched on it, but even if you consider takeout the positive reversal of the Blue Angel expense, and then offset that with the vendor supply costs, so just consider those netting out, you still at a 10% margin at the pretax line, which is pretty strong considering you're still going through obvious manufacturing efficiencies. And I'm just wondering with the new business that you've launched in automotive over the past year as we get this four volume coming on, the transmission, lead frame business, is sort of this 10% level kind of structurally what we can expect going forward with the obvious give and takes with things that may happen in the supply chain and as you launched these programs, sort of costs related to those?

I would agree with that except we're going to incur costs for launching the GM program, so I think you have to model that in a bit. That's the largest launch I think Methode's probably ever done. So we're going to have some costs to put that into production. So I think I would temper with that on our -- on the gross margin line, though, I think we -- I think we'll stick with what we said in the past, is the high teens.

Okay. And then did you pay down the amount you had outstanding on your prior revolver, that $18 million I believe you had out last quarter?

Yes, that was paid off at the end of the quarter.

Great. That's all I have. Thanks.

Thank you.

Your next question is a follow question with Jeremy Hellman with Divine Capital Markets. Please proceed with your question.

Just to follow up on your comment with the GM launch costs, to make sure I'm thinking about these correctly, where, I guess, when and how much do you see that becoming significant through the P&L? Is that going to kind of crescendo up into the 2013 period? Am I thinking about that right?

I would use -- no, we're saying about $100,000 a month -- I would use about $300,000 a quarter. It is not insignificant, but it's not -- it's noteworthy. It may increase slightly.

Okay.

We ramped down our engineering quite a bit during the downturn.

But it is fairly levelized quarter to quarter?

Yes, it is headcount count.

Okay.

As we get closer to launch. You'll see some inventory increases and the normal stuff that -- that occurs as you go through the launch. But we're a we're away from turning on that faucet.

Right. Okay. The other one for me is more kind of longer-term strategy-oriented, just around the power segment, kind of looking at this, the topic we're talking about before with the power unit. Can you give us any kind of perspective on what you see, if you want to call it addressable market or addressable opportunities, you know, certainly $2 million in fiscal '12 going to $10 million in fiscal '14. I wonder if that is just scratching the surface of what could be nine-figure revenue opportunity, or what? Just some sense of that would be helpful.

Let me make two comments. You've heard me say that the power segment I get fairly excited about that because we're in a unique position in that we have been in high current, you know, power apparatus for probably over 20 years. And we're also in the automotive business and you're seeing what's happening in the marketplace is the high current systems are being used on, you know, hybrid and pure electric vehicles, and we're in somewhat of unique position as we have our automotive manufacturing pedi agree. So there is a lot of companies that can provide on-board chargers and power management system, but not that many that have Methode's credentials and power. So that's in manufacturing and automotive. So that puts us in I think in a nice position.

Now trying to peg the market, you can look at any market study on electric vehicles and so on. I mean, you see, a hockey stick type ramp. So it's hard to peg that. I'm not real happy with the price of gas, but -- and oil -- but it does tend to push more -- more companies towards the alternative fueled vehicles. So, Jeremy, it is really hard to say. I mean, the -- I read one report where, if we just took a percentage of -- small percentage of that market, we would have a huge business. The quick answer is I think it's probably too soon to tell. We do know that the programs are in the -- in the, you know, $5 million to $10 million, $15 million range. So if you pick off 3, 4, 5 of those, that makes for a nice business. And the technology is what we developed and we spent the money on, is applicable to other customers. So we're excited about it. It's just hard to peg a number.

Right. Well if you -- maybe one way of looking at it from my end, do you -- is this a situation where they come to you completely and I guess the question is, how proactive are you or cub and kind of like showing them, and what they can do from a product and solution perspective?

And that is why we wanted a -- an alliance with Eetrex. It is Eetrex that has the engineering capability or the reputation, albeit small -- but they're known in the marketplace. But linking up with a company like Methode, allow a customer to say okay I can get this technology, and I can get it manufactured by a pro to I guess to toot our own horn a bit but that's a nice combination. So Eetrex does have people that come to them but we're also being very proactive. Now, now that we have a charger in (inaudible) it is really the prototype or PV stage, we are going out and talking to other accounts. So it's a combination of both.

Okay. Great. Thanks.

Thank you.

Mr. Duda, there are no further questions at this time. I would now like to turn the floor back to you for closing comments.

Thank you, Christine. We wish everyone a very good day and thank you for calling in. Good day.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.