Methode Electronics Inc (MEI) 2013 Q1 法說會逐字稿

Welcome to the Methode Electronics fiscal 2013 first-quarter earnings conference call. 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 operator 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 the statements 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 -- dependence on a small number of large customers, including two large automotive customers; dependence on the automotive, appliance, computer and communications industries; further downturns in the automotive industry with a bankruptcy of certain automotive customers; ability to compete effectively; customary risks related to conducting global operations; dependence on the availability and price of raw materials; dependence on our supply chain; ability to keep pace with rapid technological changes; ability to improve gross margins due to a variety of factors; ability to avoid design or manufacturing defects; ability to protect our intellectual property; ability to withstand price pressure; the usage of a significant amount of our cash and resources to launch new North American automotive programs; location of a significant amount of cash outside of the US; currency fluctuations; ability to successfully benefit from acquisitions and divestitures; ability to withstand business interruptions; income tax rate fluctuations; ability to implement and profit from newly acquired technology; and the future trading price of our stock.

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

Thank you, Rob, and good morning, everyone. Thank you for joining us today for our fiscal 2013 first-quarter financial results conference call. I'm joined today by Doug Koman, Chief Financial Officer, and Ron Tsoumas, Controller. Both Doug and I have comments, and afterwards we will be pleased to take your questions.

Methode's first-quarter sales improved 7% to nearly $119 million, driven mainly from increased sales of the Ford center console program, lead frame assembly products, torque sensing products for ebikes and motorcycles, and sales for the recently acquired AMD.

These sales improvements were partially offset by softness in our Interconnect and Power Products segment.

In our release today, we have reiterated full-year fiscal 2013 sales guidance of $495 million to $525 million. As we discussed last quarter, the launch of a user interface panel for a large laundry program, along with the launch of multiple automotive programs in Europe in the second and third quarters, is expected to improve second- and third-quarter sales and earnings sequentially.

Additionally, the launch of the General Motors center console program in the fourth quarter is anticipated to make that quarter Methode's strongest in sales and earnings for fiscal 2013.

However, that being said, we remain cautious about the macroeconomic environment in Europe and are managing our risks there carefully, particularly concerning the second half of our fiscal year.

Approximately 45% of our manufacturing sales in Europe are for products exported to North America. At this point, that portion of the business is projected to remain stable. Our concern is mainly for those products manufactured and distributed within Europe.

Currently customer orders through the end of this calendar year are in line with our expectations, but as I said, we remain cautious.

First-quarter earnings per share of $0.10 improved from $0.04 cents last year. Higher overall sales volume, higher Other segment income, lower performance-based compensation and severance expense and a commodity price adjustment drove earnings.

First-quarter earnings were negatively impacted this year by higher income tax expense, higher selling and administrative expense due to the acquisition of AMD and higher design, development and engineering costs.

As we have discussed over the last several quarters, design, development and launch costs in both our Automotive and Power Products segments continue to impact net income and gross margins. Additionally, vendor production and delivery issues and increased sales of products with a higher prime cost further affected our North American automotive income.

In total, the development and launch costs and vendor charges lowered first-quarter net income by approximately $2.5 million or $0.07 per share and lowered our gross margin by 3.1 percentage points.

Our vertical integration of Advanced Molding and Decorating, or AMD, continues to progress as anticipated. At the end of the first quarter, AMD is successfully producing decorative components for the majority of the Ford center console products we supply. As a result, we anticipate vendor production and delivery costs should be eliminated in this second quarter.

Additionally, our Ford center console program originally carried a higher prime cost due to high purchase content, which reduces the program's overall gross margins. With the vertical integration substantially complete, we should see gross margins in the Automotive segment begin to improve, reaching our target of low to mid-20s in fiscal 2014.

We also incurred costs related to the design, development and launch of the General Motors center console program for the next generation truck platform, the program that has total anticipated revenue in excess of $0.5 billion over its contract life.

In fiscal 2013, we anticipate approximately $4.5 million in total launch costs for the program with the majority of those costs occurring in this first half.

These costs will be ultimately absorbed as the product launches and revenue is realized, which, again, is anticipated to begin in the fourth quarter of this fiscal year.

In August, the Company and the various sell-side parties agreed to settle all sell-side-related litigation matters. In addition to resolving all claims between the parties, the Company will assign certain patents to Delphi and enter into a noncompete with respect to the related technology. In exchange, the Company will receive a payment of $20 million, half of which will be paid in October 2012 and half which will be paid in January 2013. The Company expects to record the entire gain in the second quarter of this fiscal 2013.

Because we reached a settlement in the second quarter, SG&A should decrease in the second half of this fiscal year due to the absence of the remaining legal fees.

As the agreement is subject to confidentiality provisions, this is the extent of the information we can provide at this time, and we will not be providing any further commentary.

Based on an anticipated decrease in SG&A and the fact that the first quarter profitability came in higher, we also announced this morning that we have increased fiscal 2013 earnings per share guidance to between $0.66 and $0.81. Please note that this range does not include the settlement now just discussed.

Turning to a review of our individual segments, in the first quarter, Automotive segment net sales increased over 13% due to higher sales of the Ford center console programs and our transmission lead frame product. Additionally, the acquisition of AMD contributed almost 48% of the North American automotive sales increase in the quarter. AMD continues to breakeven at the gross margin level.

Automotive segment gross margins decreased in the first quarter, impacted by the higher prime costs for the Ford center console, costs related to launch of the General Motors program and AMD sales at breakeven, partially offset by a commodity price adjustment for precious metals of $0.9 million.

Again, our target gross margins for automotive are low to mid 20s, which we anticipate reaching once the General Motors center counsel program is fully launched in the first quarter of fiscal 2014.

Interconnect sales decreased approximately 2% in the first quarter, attributable mainly to lower sales of radio remote controls in Europe due primarily to the lack of sales to a financially distressed radio remote control distributor, as well as the planned exit of a business line in our Asian operation.

To remedy the situation in Europe, we've signed a memorandum of understanding to purchase the business assets of the distributor. We anticipate the transaction will be completed during the second quarter.

However, appliance sales in North America improved in the first quarter, due mainly to a modest shipment of products -- of production units for the laundry platform we're launching.

As we mentioned in our release this morning, we are anticipating shipping lower volumes of this product in the second quarter than what we had originally anticipated as directed by the OEM. At this point, we foresee volumes and equipment significantly in the third quarter as inventory of the model we are replacing is depleted.

We now anticipate this program to represent $12 million to $17 million in sales in fiscal 2013 with $30 million to $40 million in annual revenue at full run rate in fiscal 2014.

Interconnect's gross margins grew slightly in the first quarter, due mainly to higher sales for data solution products, offset by development costs for the laundry platform.

Our Power Products segment saw 5.5% lower sales in the first quarter, due mainly to a lower demand for cabling and heat sink products. At this point, we anticipate continued softness for at least the next two quarters in this segment.

Power Products' gross margin increased in the first quarter, mainly as a result of product mix and favorable commodity pricing for raw materials.

Without the new product development costs, gross margins would've been 22.3% and 20.3% in the first quarter of fiscal 2013 and 2012, respectively.

Our target gross margin for the segment is in the high 20s, which we anticipate achieving in fiscal 2014 as more products launch.

Now, let me summarize some of the product development and new business awards and opportunities that occurred in the first quarter.

In the Automotive segment, our torque sensor group is working closely with an Asian OEM on a prototype car sensor for a new fuel-efficient transmission. We were also awarded a trailer brake switch for the same models of General Motors trucks, for which we are producing the center consoles.

Annual revenue was approximately $4 million, beginning in the fourth quarter of this fiscal year. Program life is five years.

Additionally, the Automotive group was awarded new lead frame business with the Detroit OEM for almost $7 million in annual revenue beginning of the fourth quarter of fiscal 2015 with a projected run of five years.

In Europe, we were awarded additional hidden switch business with Ford, Volvo and Jaguar and an electric car brake switch for Renault with combined average annual revenue of $4 million.

In Interconnect, TouchSensor has developed new LevelGuard fluid sensors, which allow level sensing in industrial and residential waste applications. Those will be introduced to the market in the second half of this fiscal year.

So to quickly summarize, the first quarter has us on our way to achieving our earnings guidance target for the year, which is an approximate threefold increase in EPS over last year. Additionally, our launch teams continue to do an excellent job of managing our projects under development and moving those towards successful launches.

Today's quarterly results are just part of the story, reflecting one 90-day window. I would ask that you take a look at what we are accomplishing for the long-term with our technologies, custom-engineered products and solutions and global operations. We are building a Company of sustainable quality and earnings for many years to come.

Now I will turn the call over to Doug who will provide further details regarding the financial results. Doug?

Thank you, Don. Good morning, everyone. Let me just add a few additional comments to those Don has already made.

On the last call, I commented that the full-year fiscal 2013 effective tax rate would be in the low to mid-teens. Sitting here today we expect the full-year effective tax rate to be closer to the low end of that range. In fact, our first-quarter effective tax rate was 10%.

In the first quarter, we spent $11.4 million for capital expenditures. For the full year, we still expect to spend between $25 million and $28 million for CapEx projects. Depreciation and amortization expense in the first quarter was $4.3 million. For the full year, we expect that number to be between $18 million and $20 million as we place more assets in service throughout the year.

As Don mentioned, consolidated net sales were up 7% or about $7.9 million year over year. However, sales were about $2.4 million lower year over year due to currency fluctuations, primarily due to the weakening of the euro to the dollar.

Operating cash was relatively flat year over year with $6.2 million this year versus $6.5 million last year. We had higher net income this quarter versus last year, but we saw an offset in working capital increase due to the increase in business levels.

Lastly, let me just comment that we borrowed an additional $8.5 million in the quarter, bringing bank debt up to $56.5 million at the end of the first quarter. But you'll recall that in the fourth quarter of fiscal 2012, we identified $38 million of undistributed foreign earnings for repatriation as a dividend. We expect to bring this cash back to the US in the second or third quarter of fiscal 2013. This will help pay for capital expenditures needed for the launch of the center console program and will reduce the amount of additional borrowings under our credit facility.

Don, that concludes my remarks.

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

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

Doug, I missed the number right at the end in terms of how much cash you are repatriating.

Yes, we've identified $38 million. So that's cash that's already on the balance sheet, but it's in Asia, and we're bringing it back to North America into the US.

And then because of the NOL position, that does not -- that is not taxed, is that correct?

Correct. We recognize the tax event on that decision to repatriate back in the fourth quarter, but because of the NOLs, we had an offset in the valuation allowance. So there will was no P&L impact in the fourth quarter.

Great, okay. And then Don, a handful of questions here. The lead frame moving from Asia and North America, Mexico, I guess, in particular, what is the thought process behind that? Your customer wants it for this year or --

Yes, two manufacturing locations, one in Asia for shipments to the assembly plant, which I think is in the Philippines, and then they also started an assembly plant in Mexico. So two sources supply on two continents.

And then you provided a comment about the orders that you're seeing here for the near-term markets consistent with your expectation. I guess, is there any way you can give us some context here in August versus what you saw in June and July, if there's any sequential reduction in that order rate, particularly out of Europe?

No reduction. As I said, we're -- at least through the calendar year, the releases we've received and, as you know, the near-term releases tend to be pretty firm, and then they get a little softer as you get out in the later months. But we are on track to what we anticipated. We're just being cautious about what the second half of our fiscal year may hold, particularly in Europe. But we've not seen any softening.

So as the plants in Europe start to come back up here in the next week or so, is their coming at a pace consistent with what they went down for the summer?

I wouldn't say it that way. I would say what they have released to us is maintaining. I don't know whether the pace has changed or not. I mean usually there is some catch-up here if they have been shut down.

I'm just trying to get a gauge whether as we come out of their summer whether they have taken production lower than what they went in at.

Yes and I don't know that. We just know that our releases have remained consistent.

Okay. And, again, as we look at the -- (multiple speakers)

But that could change six to eight weeks from now.

Right. Yes, no, I understand. I mean we are in this vacuum with Europe, and everyone's trying to get their arms around what we're going to be seeing there in September.

In terms of the guidance, it looks like all of the increase came from absence of legal and first quarter being better than expected. Is that fair, or are there some other puts and takes there that we are not seeing on the surface?

No, I think that's accurate.

Okay. It is one of these things where you start giving us information and we want more, right? (laughter) So you talk about Q2 and Q3 sequentially better than Q1 and Q4 being the best, is there any way you can give us what that ramp looks like? It's a little bit better and then a big fourth quarter or more evenly spread or any qualitative color you can give?

Doug is shaking his head here.

We said that sequentially they will improve. You've got laundry launching, although at a lower volume initially, because we are using up inventory, than we anticipated in the second quarter. So the third quarter will be stronger because of that. And then you've got additional launches in the third quarter in Europe. And then the caveat I would put there is that we are watching Europe carefully to see how those launches materialize. We know we're going to be shipping more product than we are today, but are we going to launch at the prescribed rate? And we won't know that until we get into those quarters.

And in the fourth quarter, we've got the continued launch of laundry, the addition of the launches in Europe that are carried over from Q3, and then in Q4 the last month of the quarter is when we start to ship General Motors.

So that fourth quarter then, as you start to launch that -- because you'll have some capitalized expenses that will hit the P&L at that point you start shipping, right, or are those already hitting the income statement?

Not yet. They'll hit when production ceases.

And then those initial volumes, I mean is that actual job one production or still pre-production?

That will be job one. You'll be launching for salable product. You start shipping in preproduction a little earlier than that.

Right. And then did you -- Don, you had made a comment that you hit full production on that early in the fiscal 2014?

Right. Right. In the first quarter, we will have three months of full volume.

(multiple speakers) Isn't there a second light on that contract?

There is. Then SUV launch is I am going from memory, Dave, but I want to say six months after that. We can verify that.

I -- even when you said full launch, I was thinking the entire contract. But you're viewing it -- (multiple speakers)

Actually it's not six months, it's three months.

And you're viewing it as two contracts, whereas I was looking at it as one. Okay. I'll circle back with a handful of things, but thank you.

Thank you.

(Operator Instructions) Jeremy Hellman, Divine Capital.

Hi. Good morning, guys.

Good morning, Jeremy.

So just a couple of things on your plans with respect to the balance sheet. So you've got, you know, two tranches of $10 million coming in from the Delphi and then the $38 million you're going to repatriate. Do you -- beyond the CapEx needs that you mentioned, do you anticipate paying down debt with the balance?

Yes, as we look at the full year, it's going to be -- we still have significant CapEx. We still are going to be spending for some design and development. So the -- obviously bringing the cash back from offshore and then also the settlement cash will help us, you know, reduce the amount of borrowings we otherwise would've needed.

But, you know, as far as liquidity was, we are very comfortable with the credit line that's in place and adequate to meet our demands.

Okay. And then otherwise looking at torque sensing, it was a nice quarter on that line. And in the discussion about new business and the like, where you mentioned some work over there in Asia, do you think that that's getting to the point when you want to either retitle that other line or move torque sensing into one of the other buckets? Just wondering about your plans on that.

To the degree it's in Automotive, as we launch the linear position which launches in 2015 -- our fiscal 2015 -- that would be pure automotive, and that would flow in probably the automotive segment. It is being managed by the automotive launch teams now.

Right now it is not automotive, so we wouldn't put it in there. But yes, I think where we -- I guess we will cross that bridge when we get there, but more likely it would've been --

Yes, they'll be a discussion we have with the accountants, Jeremy. But it's not maybe dissimilar to if you think of the TouchSensor technology, which is in Interconnect. But to the extent we use in Automotive, those revenues and earnings are booked in Automotive.

Okay. That makes sense. And then one last one for me. Just refreshing in terms of the legal expense that's going to be coming out now, what was the amount spent on legal both in Q1 and Q4 for last year, just so I can adjust accordingly?

In Q1 we spent $600,000, and was that about the same amount we spent in Q4?

Yes.

About the same amount in both of those quarters.

Okay. Great. Thanks.

Greg Macosko, Lord Abbett.

Yes, thank you. Just you mentioned the design and development costs for North American automotive, are we at a -- given your additional announcements for new products, etc., on an overall basis, is that design function at a stable level at this point, or do you expect it to ramp further with programs and things?

No, I think we've reached our, I would say, peak. We may see just a little more as we launch General Motors, but we wouldn't have to add as we go forward. In fact, those engineers would be -- once General Motors launched past 90 days, 180 days past launch, then those engineers will be reassigned to new programs, and their costs really then will be absorbed by the General Motors revenues.

And the laundry panel that you announced, has that been long in process, and give us some color on that? Is that kind of a new direction or some existing direction you've sold for other customers since you are rolling it through the overall customer base?

Is the first time that TouchSensor has been used in the laundry application. So there's -- it is a new area. It still in appliance, of course, but it is the first time that a major appliance OEM has rolled that out on a laundry platform. And it will be the largest launch that TouchSensor, I believe, has ever done.

Now the Ford center console with touch was larger, but in terms of laundry, this is the largest, and it is the first time it's being used. And it is the entire panel.

And do you expect or do you have interest from other customers? You feel that's an opportunity further beyond this single customer?

Yes, what has happened in the past with TouchSensor, it was originally deployed on cooktops when SCHOTT Glass owned TouchSensor, and they really funded the development -- further development of technology from the startup. They wanted it for cooktops, and once it got there with one customer, then it carried over to several others. That went to -- from there it went to dishwashers, wall ovens. So we're planning that it will -- assuming that it has good margin acceptance in this platform -- and we think it will -- that we'll see other customers, as well as this customer roll it out in other platforms.

And just looking generally at the Interconnect and the Power Products area, you had some impacts given sales were down in both, and yet the margins, the gross margins were improved, relative to mix and some other factors. Are we at a stable level there, or I mean is the mix factor kind of baked in now going forward, or would you expect fluctuations on that score? You know --

I would expect some fluctuations. Auto is relatively predictable, and you can look at releases. And, as you win awards, you can look at forecasted volumes in any number of ways.

In Power Products, it's more difficult. You may book a program or you'll get print position on a program that is anticipated to be, say, $2 million. But you'll have visibility maybe two months out or whatever was in your lead time.

So it's difficult to predict, and the margins and the margins in telecom are less than the margins on military aero. So if you have larger orders in the mil/aero business, you're going to see considerably better gross margins.

So it is a little -- I don't like to use the word choppy, but that is probably a good word for it.

Right now in terms of, are we at a stable position, we don't feel we need to add any additional resources. We need to launch the products we have with what we've seen in this quarter, and I think we're anticipating in the coming quarters is the volumes are -- product is launching, but not quite at the volumes that are originally projected. And some of that, I think, is largely due to the economic environment.

So we're kind of -- that business will improve as we launch more product, and we have focused on the higher margin products and have shied away from some of the lower margins over the last several years.

In terms of the launch of the General Motors center console, I mean is it fair to say that your experience with Ford would relate pretty strongly there and help in understanding the costs and controlling that launch?

Absolutely. The Ford -- I can't really discuss the configuration of the General Motors console, but launching two Ford programs with multiple colors on the bezel, plus launching touch for the first time in Automotive, Methode definitely cut its teeth on that.

And we had had center console experience in Europe with Aston Martin, but the Ford was the first time we'd launched a large domestic OEM.

And then finally, with regard to the exit of the product line in Interconnect, is that something you expected, and there will be additional ones going forward? Give us some color on that.

Sure. It was -- if you remember the PCMCIA cards that were used in computers for years, Methode probably over the years provided 60%, 70% of those in the marketplace, and we wound down dual systems quite some time ago, but we kept the product in Asia as there's still demand, and now we're seeing the end of life on that.

In fact, it went longer than we anticipated. So we thought we would be done with it really six to eight months ago, and it continued a bit longer. So I know it's planned, and that will be the end of PC cards.

Anymore coming in Interconnect or Power Products or anything?

No, no, no. We always do some product pruning, but nothing that would be remarkable.

Okay. Thank you very much.

David Leiker, Robert W. Baird.

Just a couple of items to follow-up here. I think you've given launch cost guidance in the past like $5 million to $6 million for the year. Does that sound right?

Yes, for General Motors?

Right.

About $4.5 million probably is what --

Yes, $4.5 million.

$4.5 million. And that $1.4 million was -- in the quarter, was all General Motors?

Yes.

And do you have a sense as you go through the SUV launch, is that a comparable number, or is it lower?

Yes, it's going to be on --

(multiple speakers) It's included in that $4.5 million. (multiple speakers) That's your -- to answer your question.

So you wouldn't expect the -- so that $4 million to $5 million, I should not view as 2013 estimate? Or once you launch the pickups, the incremental launch costs to go to the SUV aren't that high?

I think that's probably a fair assumption.

Okay. That's a better way to look at it.

And, again, I misspoke before. It is a three-month lag, not a six-month lag. So by the time we get to the pickup truck launch, SUV is just about done.

Okay. And then from a longer-term perspective on the capital structure here, you've got a lot of investments. You've made a handful of acquisitions over time. Methode is a company historically that has always been debt free with significant cash balances. From a longer-term perspective, where do you see that capital structure returning to two or three years out?

Barring any acquisition that would use cash, we will start to build our cash again as these programs are launched and we receive payments for them.

So could we return to $100 million cash position? Yes, absolutely, and historically when we've gotten to that level, we usually have some acquisition in the mix. I don't think our plans have changed. I mean I have said that for the right acquisition, we might take on some long-term debt. But I don't think anything at this stage would cause us to change our capital plans or our strategy.

And there's nothing that you see there on the horizon in the context that an equity offering would make sense is there?

No, no.

Okay. Great. Thank you much.

Thank you. There are no further questions at this time. I would now like to turn the floor back to management for closing comments.

Rob, thank you. With that, we will thank everyone for listening today and wish everyone a safe holiday weekend. Good day.

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