Methode Electronics Inc (MEI) 2013 Q4 法說會逐字稿

Welcome to the Methode Electronics fiscal 2013 fourth quarter and full year earnings conference call. At this time all participants are in a listen-only mode. 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 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 duties to update any forward-looking statements to conform the statements actual results or changes in Methode's expectation 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 which is our Annual and Quarterly Report.

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; customer risks related to conducting global operations; the ability to successfully launch a significant number of programs; ability to avoid design or manufacturing defects; ability to compete effectively; dependence on the availability and price of raw materials; dependence on our supply chain; further downturns in the automotive industry or the bankruptcy of certain automotive customers; ability to keep pace with rapid technological changes; ability to protect our intellectual property; ability to withstand price pressure; 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 interruption; income tax rate fluctuations; and the cost and implementation of SEC disclosure and reporting requirements regarding complex materials.

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

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

Methode's fourth-quarter sales grew over 17% to $148 million and for the year grew nearly 12% to $520 million in both periods, and through volumes driven mainly by increased sales of lead frame assembly products and torque-sensing products for e-bikes, motorcycles and ATVs as well as new product launches in our European automotive business and higher appliance sales along with the launch of new programs in our Power Products segment. These sales improvements were partially offset by softness in our European industrial business which is a higher margin business for us.

Methode's fourth-quarter net income was $10.2 million or $0.27 per share compared to $5.8 million or $0.15 per share in the same period last year and was impacted by several items which I will summarize from the press release.

During the fourth quarter, we recorded a goodwill impairment charge of $4.3 million in our Power Products segment related to its assets. Doug will talk about this more in a few minutes.

Additionally, during the quarter we incurred compensation expense related to the tandem cash report component of our long-term incentive program of $2.1 million. The cash incentives awards which are based on the Company's performance of fiscal 2015 will become payable if performance under the restricted stock awards are issued in conjunction with the plan exceeds target performance. This $2.1 million adjustment reflects the Company's estimates of fiscal 2015 performance.

We also adjusted valuation allowance related to our Malta investment tax credits for a benefit of $7.6 million. Excluding the impact of the goodwill impairment charge the compensation expense in the Malta valuation allowance, methods first — fourth-quarter net income was $8.9 million or $0.24 per share. Fourth-quarter earnings improvement was also impacted by higher sales, along with lower third-party inspection, premium freight and overtime expenses in the Automotive segment, higher than anticipated income from our torque sensing business, MST, as well as lower selling and administrative and legal expenses.

Fourth-quarter earnings were primarily negatively impacted by higher costs related to the design, development, engineering and launch of the General Motors Center Console program and severance and building demolition costs in the Automotive segment at Methode's Carthage, Illinois facility.

Fiscal 2013 net income was $40.7 million or $1.07 per share compared to $8.4 million or $0.22 per share in the same period last year and was impacted by the items I mentioned a moment ago as well as the Delphi settlement. Excluding the legal settlements, the goodwill impairment charge, the compensation expense and the Malta valuation allowance, Methode's fiscal 2013 net income was $19.5 million or $0.52 per share, which is in line with the full-year fiscal 2013 guidance.

Full-year earnings improvement was also impacted by the items I just discussed, as well as commodity pricing adjustments in the Automotive segment and the reversal of a bankruptcy accrual. Fiscal 2013 earnings were primarily negatively impacted by the items I mentioned for the fourth quarter.

Also cost related to the design, development and launch of the General Motors Center Counsel program lowered fourth-quarter net income by approximately $1.9 million or $0.05 per share and lowered net income for the year by $7.1 million or $0.19 per share.

Launch costs for the year came in higher than anticipated due to higher than expected testing costs and product design changes requested by the customer. As we mentioned last quarter, the majority of these costs will be recovered over the five-year life of the program by pricing adjustments that were negotiated with the customer.

I am very pleased to announce we began production of the General Motors Center Console for its K2 truck platform at the end of April. To date we have shipped nearly 50,000 units and the program is on track to meet our revenue projections for this fiscal year. We expect to begin production of the SUV portion of the program in January.

Consolidated gross margins improved 0.5 percentage points in the fourth quarter, but fell nominally by 30 basis points for the year. For the fourth quarter, margin improvement was driven by higher margins in the Automotive, Power and other segments partially offset by higher launch costs and building demolition and severance costs at our Carthage, Illinois facility as well as lower margins in Interconnect due to sales mix.

For the year, margins were negatively impacted by increased design, development and engineering costs for the General Motors Center Console program as well as increased sales of Ford Center Console program which has a higher prime cost due to the higher purchase content. Additionally the delayed launch of the laundry program in the Interconnect segment as well as manufacturing inefficiencies in our Power segment impacted the full-year gross margins.

The development and launch costs for the General Motors Center Console program lowered Automotive gross margins by 2.3% in both the fourth quarter and full year.

As we announced in our release this morning, we anticipate fiscal 2014 sales in the range of $630 million-$660 million and earnings per share in the range of $0.91 to $1.11. We anticipate a quarterly sequential improvement in sales, gross margins, operating margins and earnings throughout fiscal 2014 with the fourth quarter currently expected to be the stronger quarter in terms of each of these metrics.

The low end of the guidance reflects our concern regarding further deterioration in the European economy, thereby affecting our higher margin businesses. At the high end of the range we would anticipate stabilization in Europe and higher domestic automotive revenues. We may also see some potential upside from our Power Products segment, but this business has limited visibility to its revenue stream.

Turning to a review of our individual segments, Automotive segment net sales increased 12% in the fourth quarter due to new product launches in Europe and higher sales of all products in Asia. For the year, sales grew 14% due to higher sales of the Ford Center Console programs and our transmission lead frame product as well as new product launches in Europe. While our European automotive sales did increase, I should point out that due to economic conditions in Europe they did not grow to the level originally anticipated.

Automotive segment gross margins improved on fourth quarter but fell slightly for the year. In both periods, Automotive gross margins were negatively impacted by the higher prime cost for the Ford Center Console program as well as cost related to the launch of the General Motors program, partially offset by lower costs related to third-party inspection, premium freight and overtime expenses and a favorable commodity price adjustment.

Regarding the Wall Street Journal article indicating that Ford was adding back traditional knobs to its center consoles, to our knowledge the current programs will run their program life. In addition the summer upgrade Ford is announcing for their My Ford Touch also has no effect on our product. I should also point out that our two most recent Center Consoles awards with General Motors and the French OEM utilized traditional knobs and switches.

Moving to Interconnect sales increased 26% in the fourth quarter and nearly 10% for the year, attributable mainly to improved appliance and data solutions sales partially offset by lower sales of our radio remote controls as well as the planned exit of a product line at our Asian operation.

Appliance sales improved due to the successful launch of all four phases of the laundry program. We anticipate this program to be at its full run rate in the second half of this fiscal year.

Radio remote control sales decreased in Europe due to the ongoing weakness in the European economy. We anticipate that this will continue in this fiscal year. Interconnect's gross margin declined in both periods due mainly to lower Hetronic sales which carry a higher gross margin. While the Interconnect earnings should continue to improve throughout fiscal 2014 as laundry program reaches full launch, this segment's margins will likely continue to be impacted by lower sales at Hetronic.

However, we do anticipate the segment's gross margin will meet its gross margin target for the fiscal year albeit at the low range — the low end of the range, again, due to lower sales at Hetronic.

The Power Products segment had a good fourth quarter with sales improving over 23% leading to a 1% improvement for the year -- the launch of a significant program for our datacom customer and the US, along with busbars for the Nissan Leaf battery pack and a high current bypass which both in Europe drove the fourth-quarter improvement. However, for the year, these improvements were offset by significantly reduced military spending, the delay of new programs and, in general, much lower volumes than we originally anticipated.

While we have limited visibility, we do anticipate the fourth-quarter run rate will continue at least through the first quarter of fiscal 2014.

Power Products' gross margins increased in the fourth quarter to almost 23% and then the full year to 17%, mainly due to a favorable product mix partially offset by new product development costs. Without the new product development cost, gross margins would have been 27% in the fourth quarter and 22% for the year.

Now let me summarize some of the new business awards and opportunities that occurred in the fourth quarter. In our Asian Automotive segment, the T76 lead frame program has been extended through fiscal 2018 and we have been awarded an additional $75 million in total program revenue for fiscal 2016 through 2018. Very importantly, Methode will maintain its sole-source status on this program.

In this segment, we were also awarded an overhead dome light assembly using our innovative TouchSensor technology for an Asian OEM; with approximately $3 million in annual revenue at full production, this program has a four-year program life and we are in discussions to carry over this assembly to other platforms with the same OEM. Also in Asia we were awarded additional steering angle business for approximately $2.5 million per year.

Now besides booking over $50 million in additional average annual revenue commencing in Methode's fiscal 2016 as well as successfully launching multiple program's during fiscal 2013, we also continued to focus on developing new technology and processes. In our Automotive segment, our capacitive touchscreens have been auto hardened to meet stringent in vehicle standards. We anticipate the screens will begin to be integrated in center consoles on some vehicles commencing in fiscal 2015. Additionally, our highly patented Magneto-Elastic technology continues to be prototyped and tested by multiple OEMs for transmission torque measurement.

In our Interconnect segment, TouchSensor introduced its LevelGuard sewage-rated pump switch based on Methode's patented field effect technology. This switch is completely solid-state, offering superior reliability, eliminating the move — the need for moving parts as in conventional switches. The sump pump version introduced last year is quickly becoming the switch of choice.

Also on Interconnect, we developed a wireless load pin to target the global industrial market which combines our proven Magneto-Elastic sensor technology with Hetronic's proprietary radiofrequency technology. This newly developed battery-operated wireless load pin can since torque, speed and angle and load, and is capable of sending real-time measurements directly to the CPU of the machine or to the remote operator interface. The wireless load pin will be marketed by Hetronic to our industrial customers for applications on such equipment as cranes, wenches, concrete pumps and agricultural machines.

We also introduced a process based on our Nano Ink technology, which brings a functional electric circuit using conventional inkjet printing equipment, thereby potentially reducing the need for conventional circuit boards. We believe with additional development that this process will be deployed in the production of user interface devices such as those we currently supply to the appliance industry. And each of these innovations is key to our long-term strategy of providing our customers technology that enhances their products and competitive position, and ultimately results in improved margins for Methode.

And finally, I am very proud that in fiscal 2013 Methode was named one of America's 100 Most Trustworthy Companies by Forbes for the second year in a row. This achievement recognizes the companies that persistently display the most accounting transparency, have the lowest incident of high risk events and have appropriate Board supervision.

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

Thank you, Don. Good morning, everyone.

Let me add just a few additional comments on the Eetrex goodwill impairment, the compensation expense related to the tandem cash awards and the Malta valuation allowance.

Regarding the Eetrex impairment, in the fourth quarter we tested the goodwill for [four] reporting units in our Interconnects and Power Products segments. All but Eetrex, which is in the Power Products segment past the step one test. We subjected Eetrex to a step two test and determined that its goodwill was impaired, based on management's updated projections of Eetrex's discounted cash flows. We still believe this is a viable business, but because of the push-out in cash flows, the accounting rules require us to write off the goodwill. The charge was $4.3 million.

Moving to the tandem cash awards. In the fourth quarter we recorded a $2.1 million expense for amounts expected to be paid under our 2010 long-term incentive plan for tandem cash awards. This expense represents the prorated catch-up expense from October 2010, which is the grant date, to the end of fiscal 2013 and is valued at the fiscal year-end closing share price of $14.05.

Performance under the tandem cash award is determined by fiscal 2015 enterprise value which is fiscal 2015 EBITDA times 7.5 plus or minus net cash. The amount accrued is based on management's updated projections of future earnings and the net cash balances, and assumes that the Company will achieve the maximum level of performance under these awards. This would result in an enterprise value as defined in the plan equal to or greater than $726.5 million at the end of fiscal 2015.

On the tax benefit in the quarter, Maltese tax laws provide for investment tax credit on certain qualified capital spending. We are required to set up a valuation allowance for the accumulated investment tax credits in excess of amounts that we do not expect to utilize within a reasonable time period.

In the fourth quarter, we reduced the valuation allowance by $7.6 million based on management's updated projections of the future taxable income eligible for the Malta credit.

A few additional comments on Capex and depreciation and amortization. In fiscal 2013, we spent $38.6 million for capital expenditures. This was higher than the range given at the end of the third quarter due to certain assets being placed in service more quickly than expected.

Looking forward to fiscal 2014, we expect capital spending to be between $25 million and $30 million. This includes the additional capital to launch the SUV portion of the K2 program.

Depreciation and amortization expense in fiscal 2013 was $18.8 million. In fiscal 2014, we expect full-year depreciation and amortization to be between $23 million and $25 million.

An important note for — relating to our guidance. We anticipated that diluted total shares outstanding will increase by over 1 million shares in our 2014 period, due to the inclusion of stock option shares that previously were underwater and therefore excluded from the calculation of diluted shares outstanding.

For 2014, as we mention in the release, we expect the effective tax rate to be in the midteens. This does not include any adjustments to valuation allowances which could affect our guidance.

Working capital. Due to the significant increase in sales in fiscal 2014, we do expect to have an increased investment in working capital as inventory, receivables, and payables increase commensurate with sales. We also expect to continue to draw on our credit line through 2014 to fund domestic cash needs.

Don, those are my remarks.

Doug, thank you very much. Christian, we are ready to take their questions.

(Operator Instructions). Steve Dyer, Craig-Hallum.

Congratulations, guys, on a good quarter.

Thank you very much, Steve.

Just a couple of different things here. What drove the upside in the quarter, relative to your guidance in Q3 which was part of the way through Q4 then you ended up, obviously, quite a bit better with that? Was that kind of the laundry business kicking in sooner than possible or sooner than expected or was that a bunch of different things or any more color there?

Well, it — our lead frame products in Asia came in higher than we anticipated. Our MFT products, that's torque sensing product, a little harder to predict that that's going on e-bikes and ATVs and that's — we probably have less visibility up to that.

Product launches in Europe, while they were, the volumes were down they weren't down as far as we had anticipated. Appliance came in slightly better and, then, Power Products. Again, harder to forecast, but the Datacom customer took more product than we had anticipated and we were, of course, able to ship that to them and that impacted the Power Products. So it's really a little bit of — really across the board, the only downside was Hetronic and then that, we understand, is just from the industrial market in Europe. But we really did see nice upside from most of the areas in Methode.

Okay and I guess as long as we touched on Europe, what is your general sense of things over there? Have we found the bottom? Are we — was just generally your thoughts there?

I guess that is why you see the range that we gave. It is very difficult to get a handle on what is going on in Europe. The Automotive part — I mean, I read one report last week that said things were stabilizing and then I read another one that the volumes and the new registrations were going to be down.

So it's really hard to peg that, and that is why I made the comment in our prepared remarks that, on the low end of our range, we could see further impact in Europe. And then the — it's almost like the US, consumer confidence, and in Europe that's I think having a big effect on the car-buying public. So, I apologize I can't give you a better answer than that, but —.

No, that's helpful. So the low end of your range would incorporate some further deterioration in Europe. Is that fair?

That's correct. That's fair.

Okay. Just to clear something up on that lead frame award that you announced. Is that $75 million, is that annually or is that over the life of the program?

That would be over three years and going from memory I want to say $16 million. It adds about $25 million and maybe high change. About the same for — excuse me. I said $16 million, it should have $25 million in change — $17 million and $18 million. About the same. A little lower than $18 million, I think.

And is that incremental?

Actually I am being corrected. It is $28 million in each of those two years and a little less in the final year.

Okay. And is that incremental to the $40 million in lead frame awards that you have right now? Is -- that's all new?

Yes, that would take that as incremental and that supports our ramp in 2016 and beyond.

Okay. Is that with one of the existing customers or a new customer? Anything you could share about the customer?

It is with an existing customer. It — the customer put it out for a competitive bid and, at one point, looking to have a second vendor and we were successful in winning that award. It is the T76 lead frame for the GM six-speed transmission.

Got you. Okay, two more quick questions. [And GM] revenues in this quarter, fiscal fourth-quarter? From the Center Console program.

Up, up, up. Just a little under $3 million, I believe. Not significant.

And then when might we see the first win for the torque sensors in light vehicles? Is that a fiscal 2014 of it, fiscal 2015 event?

I would say it is a 2015 event. We are still in the prototyping stages. And it is serious prototyping. The customers are paying for the prototypes. It's not — and they have active programs, but we are — I think we have another nine to 12 months to go before we get a handle on that. And that will — early on, it might affect 2017. I think that is probably — 2017 or 2018 fiscal year would be affected by that.

Okay. Great. I will hop back in the queue. Thanks, guys.

Jimmy Baker, B.Riley & Co.

Good morning, everyone. Really nice quarter, congratulations.

Just a couple follow-ups here on some of the new business traction. I am really interested to hear you give maybe a little bit more color when you talk about opportunities for your capacitive touch screen and additional automotive programs. I think you said in fiscal year 2015. Can you help us quantify that opportunity and then maybe also set expectations for the margin profile of that product versus let's say your lead frame or more integrated center stack solutions?

Okay. It is difficult to give more color on the deployment of the capacitive screen, because we really can't say anything until our customer has announced their intentions, much like when we announced the GM initial award. We couldn't even say it was for pickup trucks. So I don't know that I can give you any more color on what platforms that will be deploying on. I apologize, but I do have to respect our customer's wishes there.

As far as margin on the touchscreens, that is going to vary by program; but I can tell you that in our margin goals for Automotive for 2015, we have incorporated some of the capacitive screen being sold to our customers. So that will support our margin improvement there.

And then, depending on where the next wins come from from the screen, it will exhibit probably slightly higher automotive margins than what we have in our target ranges. And again it depends on customers. It depends on if it is going to be solely — if we were just selling the capacitive screen on its own or is that being wrapped around a center console? I don't know if there's any more color you would add to that. I don't think we can say anything more than that, so.

In respect to your customer's confidentiality, can you maybe point to what geography that award would be in?

I think we have said the capacitor screens are going to be deployed in the United States first so that — I'm pretty certain we can say that.

Again, I apologize that I can't give you more color on that, that we do have NDAs with our customers that I absolutely need to respect.

No, sure, understood. And then, just a question on the guide. I think that your recent conference appearances you've been targeting 7% to 9% operating margins here in fiscal year 2014. And by my math your guidance implaies maybe just a slightly lower rate than that, closer to 7% — or excuse me, closer to 6% to 8%. Is the delta there just that your formal guidance is a bit more conservative than what you're targeting or has there been some impairment as to your profitability expectations here in 2014?

No. I would say perhaps the latter, but what you are going to see as I said in our remarks that operating margins have steadily improved sequentially each quarter. And that as we reach the fourth quarter we will reach the higher end of that range.

So if anything it is just the ramp that's affecting that. But as I said, you are going to see assuming the volumes are where we think that will be, you are going to see a steady ramp quarter over quarter throughout this year. So, no, there is nothing that would change us — would actually, would give us any concern other than the first volumes materializing.

Great and then last question for me. Just interested to hear more general color about any traction you are seeing an integrated center stack bidding now that you have the K2X win under your belt and are out shipping that product. And I guess separately or on the other end, if there has been any damage from, let's say, the more mixed that the My Ford Touch system has had more recently.

Let me answer the last question first. Now, as I said, the programs we have now are all conventional. The only program that we had using touch was the Ford program. And you are right it is mixed press. Ford is selling a lot of vehicles and on any given website or article you get mixed views on that. And we have said that that's — we were counting on going forward that that was going to replace conventional knobs and dials in the vehicle. We never planned on that.

So it's not — if anything it — our notoriety, if that is the correct word, with Ford has kind of put us on the roadmap as a premier center console supplier, whether that be with touch or conventional buttons. And the K2 is, I think, proof of that strategy working.

As far as more traction in your programs, we are obviously pursuing the programs that are available with automakers and I'm not —. Jimmy, I am not doing a good job of answering your questions here, but I really can't talk about the programs until we've booked them.

And again that is usually in these quarterly calls. But rest assured, we are mixing it up with the appropriate automakers that have the programs and the volumes that match our capabilities.

Okay, appreciate the color. Thanks a lot for the time, Don.

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

Hi, good morning. This is Joe on the line for David.

Don, just a quick question on the last earnings call, you talked about having $20 million worth of center console product loaded into the production system. Your commentary this call about the 50,000 units, I don't think that gets you quite to the $20 million mark. So I'm just wondering two months in looking into that July month, do you think you'll be closer to the $20 million revenue mark as we close out the quarter?

Well, I mean the 50,000 was simply this is what has been produced. And I think I did say in a remark that we are on track for our [$139 million]. So we are (technical difficulty). I guess all I can say, Joe, is we are on track. There's nothing that would, in our production system or our releases, that would give us any pause that we're going to have those steady ramp periods throughout the summer months.

Okay. I guess 50,000 units probably brackets the $5 million-$10 million revenue mark, I'm guessing. And so I was trying to reconcile that against the $20 million comment from last quarter.

Right now, we are shipping to one of three plants. And then I can't say when the other two plants come on line here, but Joe, I just issued guidance. I'm not sure how much more color to give you there.

Let me tell you this. We have sufficient releases loaded into our production system that would support the guidance we just gave.

Okay. Switching gears on the capacitive touchscreen business, I've always thought that when you look at that product, the piece of glass is kind of a higher cost element which presumably you're going to be sourcing in. So the fact that the overall product is going to be realizing a higher margin, is that a function of the touchpoints you underlaid with the glass or just a function of the overall pricing of the total product when you incorporate the touchscreen?

Our margins, the way we have designed the capacitive screen which is somewhat novel from the conventional way of doing that, does give us an advantage. And right now, we are buying the screen so we get the growth and the vertical integration which supports the improved margins. It's a combination of both. The way we make it in that we are not procuring the product any further — from the outside. Other than the display itself.

Okay. And then switching to the Power Products business. Just wondering the really strong growth in the quarter, particularly in Europe, is that pretty much all the Nissan lease product launching?

No. The lease was a portion of it, but we saw very strong shipments to our Datacom customer here in the United States. And we were very pleased to see that. That's been a program that we have been working on for quite some time. And its impact to our margin shows that our strategy of supplying s subsystem versus discrete components is starting to get traction and power as well.

That's really the first major program we've launched where we're — we have a Busbar, the PowerRail, our high card interconnects, our cabling all wrapped up into one, several variations of the product, but one side of the product. So that the Nissan Leaf was of course a nice win and instrumental in the quarter, but I would point more to the Datacom business than anything else.

Okay and then the last one for me. Just with goodwill write-off and how you think about Eetrex, I understand the calculation and how pushing out the cash flows can result in the impairment. But just wondering, given the changing expectations for electrified vehicles we have seen over the last couple of years, is your optimism or bullishness with Eetrex in that product category as strong as it was maybe 12 to 18 months ago?

Well, what we did, it really, maybe over a year ago is to refocus them on stationary storage for data centers where we know there is a demand and a need for lithium ion in the Edery backup systems. And we focused them away from EVs. You know, originally, they were providing onboard chargers for the [e-vans] and that's what was providing the cash flow projections. We were at one point, we were anticipating 300 to 400 units would be shipped. And I think in the end it was 60 to maybe 70 units. So quite some time ago we switched their engineering effort over to stationary storage. Where we've got a very clear path to market directly to the data centers where in the EVs you are going with the OEs here. You are at best a Tier 1.

So it's really we made that switch some time ago, but then when we project the cash flows out we have to do the analysis and that's what caused the write off.

Okay, great. I will leave it there. Thanks very much.

Thank you. There are no further questions at this time. I would like to turn the floor back over to you for any closing comments you may have.

Well, Christian, thank you very much and we will end the call and wish everyone a pleasant day. Thank you.