Gentherm Inc (THRM) 2016 Q4 法說會逐字稿

Greetings and welcome to the Gentherm 2016 fourth quarter and full year results conference call.

(Operator Instructions)

As a reminder this conference is being recorded. It is now my pleasure to introduce our host, Josh Clarkson, Investor Relations for Gentherm.

Thank you, operator, and good morning, everyone, and thank you for joining us today. Gentherm's earnings results were released earlier this morning, and a copy of the release is available at Gentherm.com. Additionally a webcast replay of today's call will be available later today on the investor page of the investor relations section of Gentherm's website.

During this call representatives of the Company may make forward looking statements within the meaning of the federal securities laws. Statements reflect current views with respect to future events and financial performance, and actual results may materially differ. Please see the Company's SEC filings including the latest 10K and subsequent reports for discussions of various risk factors and uncertainties underlying such forward looking statements. During the call the Company may discuss non-GAAP financial measures as defined by the SEC -- by SEC regulation G.

Reconciliations of these non-GAAP financial measures to the comparable GAAP financial measures are included in the Company's earnings release. On the call we have Dan Coker, President and Chief Executive Officer, and Barry Steele, Chief Financial Officer. Management will provide a review of the results after which there will be a Q&A period. I would now like to turn the call over to Dan.

Yes good morning, and thank you very much and good morning to everyone and thank you for joining us for our year end and fourth quarter 2016 review. We are going to stick with our format and I'm going to give a very brief introduction. Barry will give you all of the details of the activities of our fourth quarter and our summary for 2016, and we will open the floor and address questions.

In general, though, the Company performed very well during 2016. We achieved about a $918 million revenue of run rate which was a very strong year.

We generated about 32% gross profit which for us is right on target for us, and our year end earnings per share was about $2.10 (technical difficulty) aspirations of being a growth company. 2016 was a hard year in some of our areas particularly our global power thermoelectric unit. That had very, very difficult year, and it was driven by a very hard year in the oil and gas industry. But in general the Company is very pleased with the performance, and we are excited about what's happening in 2017, 2018, 2019 and beyond.

With all of that said, we're going to turn the phone over to Mr. Barry Steele, our CFO for his normal copious detailed analysis.

Thank you, Dan. Thanks everybody for joining us today. Our net earnings of $26 million which made this the strongest quarter of 2016 included a couple of unusual effects in addition to the purchase accounting impacts related to our strategic acquisitions. These include an unrealized foreign currency gain of $6.3 million and a one-time expense related to a management reorganization of $2 million.

The currency benefit was mainly the result of the stronger US dollar in the quarter. We hold a significant amount of our cash in US dollars at our foreign subsidiaries. We also have a significant intercompany current account between our US subsidiaries and our foreign subsidiaries. These balances which have grown during the year are market adjusted each period resulting in the unrealized gain in the current quarter of the period and both gains and losses in other periods.

The management organization expense is mainly comprised of severance expense and other costs for several eliminated management positions. This adjustment in our management team will help orient our team to our team to our strategy but also lower annual operating expenses by about $3 million making room for our cost structure -- in our cost structure for new investments earmarked to support our product expansion and other growth oriented initiatives. Adjusting for all these effects our more normal diluted earnings per share would have been about $0.68 for the quarter compared to a similarly adjusted diluted per-share amount of $0.61 for the 2015 fourth quarter.

Our revenue for the quarter grew to $236.5 million which is an increase of $24.3 million or about 11% compared with the prior-year fourth quarter. This included a 5% growth or a $6.9 million increase in revenue for our automotive segment and a very strong $19.6 million in new revenue from the company we acquired earlier this year, Cincinnati Sub Zero or CSZ whose fourth quarter revenue also represented a $4.7 million sequential increase from the amount in the third quarter which was $14.9 million.

These gains were slightly offset by lower revenue for global power technologies or GPT, our remote power generation subsidiary that sells into the energy sector. GPT's revenue was off by 15%; however, this amount -- this only amounted to a $709,000 decrease due to a relatively easy prior-year comparison of only $4.8 million. The softness for GPT which we have seen for all of 2016 was mainly caused by large project deferrals which now make for similar easy prior-year comparison as we look forward to 2017.

We continue to forecast 2017 revenue growth of 5% to 10% despite a slowing automotive market, renewed headwinds from currency translation and changes in our climate seat technology on a few vehicle models favoring lower priced heat vent solutions. The main drivers for growth will include organic growth for CSZ in addition to the benefit from a full-year effect, that is one additional quarter of operations, continue penetration for our automotive products, some recovery for GPT and the first very small amount of shipments of the new battery thermal management product at the end of the year.

That brings me to our operating spending which totalled $52.1 million for the quarter. If you back out the $2 million management reorganization expense that I previously mentioned, this was about the same as the second and third quarters of this year but significantly higher than the prior year amount. Adjusting for that reorganization expense, the increase in operating expenses totalled $11.1 million or 28% which partly came from the new operating expenses of CSZ totalling $6.8 million most of this on the SG&A line.

As in the last two quarters the rest of the increase comes in the form of investments or higher development costs for many new product initiatives some of which we have announced like the battery thermal management and electronics products and some of which we have not yet announced for strategic improvement in our business systems -- or for strategic improvements to our business systems. About $12 million of the total operating spending is attributable to these new product initiatives and upgrades to our operating systems.

Just to be clear, that is not the increase in the prior year but the current rate of spending for these initiatives which will begin to hit the top line in 2008 and beyond -- 2018 and beyond. The new business systems by the way include both a human resource and information system which will help us grow and develop the talent of our team members and a new product lifecycle management system which will increase our product design and development capacity. Both systems will also drive improvements to the efficiency and productivity of these crucial functions.

The spending for these two infrastructure products was about $1.4 million during the quarter. About half of this cost is for implementation and will increase during 2017 and 2018 after which as the installations are completed the cost will then decrease. All of these investments will continue to be financed through our current operating resources. During the full year of 2016 we generated $108 million of operating cash flow although we also spent $66 million in capital expenditures.

The capital expenditures have primarily been driven by capacity expansion for new manufacturing facilities and production equipment for some of the new products. During the fourth quarter our cash flow allowed us to switch from a net debt position of about $9 million to a net positive cash position of over $5 million now having total cash of $177 million versus outstanding debt of $172 million.

We also had $195 million in available borrowing capacity under our revolving credit facility bringing our total available liquidity along with the cash to $372 million. This amount increase partly due to an increase in our revolving credit line that was secured during the quarter. That's all I have Dan. I'll turn it back over to you.

Thank you very much for that very good and detailed report. Christie, we will open the floor for questions if you are ready.

Samik Chatterjee, JPMorgan.

Firstly, I did want to catch up with you on the 2017 guidance. You highlighted a couple of headwinds on the 2017 guidance related prior, which is FX and software production. What are you seeing in terms of offset?

Are you seeing stronger growth elsewhere, maybe like in CSZ, which is driving that reiteration of the guide? If you could you quantify how much of an effect on 2017 is the production cost that you have seen recently from your customers.

The biggest impact we've seen so far in 2017 was a carryover from 2016 when the customers here in North America, particularly Ford and GM, adjusted their production schedules to balance their inventory. They took shutdowns, and that was a bit of a impact on our 2016 fourth quarter and will continue to have some carryover impact in the first quarter of 2017. The odds are very long that will actually not impact our overall business in 2017.

Our non-automotive groups look like they are going to have a very strong year. The CSZ group has a couple of very strong initiatives, probably led by one of our product lines, the Hemotherm blood warming device. We are seeing extremely strong demand in the marketplace for this device. We also see strong demand for all of our products as we continue to move CSZ into a growth mode, expanding their capabilities by adding our own direct sales force and expanding production capabilities internally.

We also see our GPT unit, the global energy group, is going to have a much better year than 2016. We are beginning to see our order backlog get stronger; and we are beginning to see activity in the natural gas fields, which is our primary marketplace. I'm not really sure if I addressed all of your questions. Do you have any follow-up for that? I will give you a free chip on that.

Just a quick follow-up. So you now have $175 million of cash on the balance sheet. You also have a share repurchase authorization out there. How are you thinking in terms of using the cash on the balance sheet between acquisitions and share repurchases?

We are keenly interested in adding any capabilities we can through acquisition. As you know, we are constantly looking for opportunities to add to our product portfolio and expand our market breadth around the world. That is the number one thing we generate and retain cash for.

We have announced that we have a stock repurchase program in place. That is targeted at being able to make sure that when we see our stock price in the marketplace drop below some clear targets for value, we will take action to be able to buyback those stocks, those shares of stock, in the marketplace, which we consider to be of strong value. Our prime use for the cash that we have and that we generate is to fund growth through acquisition of new product opportunities and market expansions.

Gary Prestopino, Barrington.

Morning, everyone.

Couple of questions here just in terms of the magnitude of R&D expense and SG&A expenses in 2017. As a percentage of revenue, should they stay fairly stable as we model out 2017, as they were as a percentage of sales in 2016?

Gary, it's a good question. I think that you will see we are not expecting any major new projects or launches of new additional expenses. I think you will probably see us plateau. You'll see normal expansions for general increases in terms of inflation and some special projects. I think you can model pretty much the run rate that we are at right now.

Okay. In the press release, you talk about new products and future growth drivers. We know about the battery thermal management, battery management systems, electronic solutions. What other things could you maybe talk about that you are working on automotive interior thermal management and medical thermal management devices? You mentioned the blood warming product, but could you maybe give us a little look see into some of the other things that you may be working on?

On the medical products area, we are focusing on trying to keep patients comfortable and helping in the rehabilitation of patients. There is a large group of things that we are looking at and working on today. The medical product industry takes some work to get products introduced and streamed into.

Were taking all the steps necessary today, and have for this past year, of ownership of CSZ group -- been preparing for growth. We have added production capacity. We have added engineering design capacity. We have added office space. We are adding to the facilities and to the team to get ready to launch the initiatives that we want to see for growth for them.

You've also seen some announcements that we are adding our own direct sales force. Those team members are being brought in and trained right now. We expect to see them bring in lots of new opportunities for that business.

There is no particular single project we're working on at this time. But there are a lot of projects that we are working and looking at reviewing for growth from CSZ. All of the other products that we're working on, of course, are in development. The ones that we have announced, we announce them when we get a customer commitment. When we get a customer order, we announce that order has been achieved.

The other products, such as the interior heating and cooling zonal projects that you had mentioned, we have been working on for several years. We are beginning to see very good traction in the marketplace and lots of interest. We don't have any customer commitments at the moment. We will continue to work on those until we do.

Matt Koranda, Roth Capital.

Gross margins are really strong this quarter, guys. Just wanted to see if you could call out if there was any benefit from peso and hryvnia devaluation versus the dollar during the quarter. Maybe we could just discuss sort of, is the new run rate that we would expect for 2017? Any puts and takes there?

I'm going to let Barry answer the details. But in general, I would say that our gross margins are right on our targets. These are exactly where we like to be, somewhere in that low to mid 30% range. Our model is designed to operate in this range, and we are very pleased with the successes of that.

There are some impacts to a strong dollar. Barry will give you the details on that. We're very happy where the gross margins are, and we think those are (technical difficulty).

(technical difficulty) so we don't see a lot of tailwind coming from it. Although generally for the year, compared to the prior year, we see lower cost for the peso and the hryvnia slightly. We wouldn't call out the fourth quarter as being meaningful in terms of the change in currency, except for the top line. We had about $2.5 million in lost top-line revenue in the fourth quarter just from the decrease in the euro that we saw-- in the Chinese currency during the fourth quarter. So we probably would actually be to the guidance on the top line if it wasn't for currency to that small adjustment. But for profitability, it's about the same as we have seen for the entire year.

That's helpful. Just one more maybe on the CCS growth outlook for the year. I know that the release says that you see challenges in the coming year but growth in the years ahead. Just wanted to see if you could put any more color around that in terms of what's causing some of the challenges this year in particular and then why the confidence further out.

We don't really have any other things to add to this. The comment is, as we have said in the past year, we expect some continued headwind for growth in the CCS area. With continued strength in the heat vent systems as they continue to grow and take over a larger portion of the mid-range and entry-level vehicles. You are going to see continued headwind on the CCS business segment, and that will be augmented by other products in other areas. We will expect to see the growth in that area continue and pick up in 2018, 2019 and 2020.

We are very excited about some of the new innovations that are coming in our CCS products. We are beginning to introduce these now to our customers, and we'll see some very good growth from that again in the future.

(Operator Instructions)

Steve Dyer, Craig-Hallum.

Following up on Matt's question on CCS. I know in the past year, is that more of a function of new businesses coming more from heat vent than heat cooled, or you actually seen some programs switch from heat cool to heat vent? If so, would you expect most of that to be behind you; or does that sort of continue for a while?

Steve, the phenomena where we see some customers making some switches to their portfolio, actually introducing heat vent where they didn't have it before in some of their products, is really a forward-looking phenomenon. We've seeing a little bit in the past year, but it will affect us more as we get through 2017. Keep in mind that when we look at switches, it's not always a lower price. There's sometimes additional content we are able to capture.

Generally it's a lower price; but we view it as a positive effect more because our customer's looking at having two solutions to go to the market with. That covers more potential products that they have in the marketplace.

That's helpful. Then you talked about a little bit of contribution from BTM at the end of the year. Are you able to quantify that or how it ramps into 2018, whether it be by number of programs, et cetera?

It is going to be pretty small in the fourth quarter. The exciting thing for us is that we'll actually be shipping real product-for-sale production by the end of the year. It doesn't really start to become meaningful until 2018.

If you recall, we announced that our annual run rate will be around $35 million or $40 million when it gets to full ramp up on both projects that we have, both contracts. That takes about 18 months, and that 18-month period starts at the end of this year.

It's a little too early to tell right now and give a forecast of numbers and growth rates at this point.

Last question for me. It sounds like early this year, there's been some inventory rebalancing, et cetera. Maybe the year has started a little bit softer than past years have. Would you expect revenue growth year over year to ramp as the year goes on, second half to be better than first half?

Yes, the early indications are that the first quarter has been a little bit light, driven by the North American business being some inventory adjustments. Particularly Ford and GM have backed off a little bit, and it's primarily just to adjust inventory. They ran hard in the fourth quarter, and now they had a little bit of extra stock. We don't see any indications that there is a dramatic reduction in demand.

The North American marketplace is running at an all-time high rate. Frankly, customers are still buying like crazy. So we don't see any indications in the rest of the markets worldwide that would cause us to be concerned about 2017's automotive rates.

Europe is still running at a good rate, but they're not running at records. The Chinese market is stabilized. They are not doing fantastic, but they are doing good. We see a generally good (technical difficulty).

Then I know you don't get into the quarterly guidance so much, but just directionally how should we think about the March quarter versus December?

I think it's sequentially higher. Keep in mind that we had an easy comp and that we didn't own CSZ in the first quarter.

That was going to be my point. The first quarter, we are going to be picking of a quarter from CSZ, which we didn't have last year. So you will see substantial growth for us for that. In the automotive business, I think you will see about the same as you saw in the fourth quarter.

Our last question comes from the line of Matt Koranda, Roth Capital.

Hey, guys, I just wanted to follow-up. I have to ask this question since no one else did. How do you guys feel about your footprint and the ability to serve customers in North America if there's some sort of border tax or border adjustment in place?

Help us understand how your planning for the various scenarios that are out there. Would any of the scenarios involve shifting capacity into the US in certain cases?

We are as confused as the Trump administration appears to be about what their policies are. Our physical plant and facilities in North America are driven by a Mexican presence. That's where we have set up our business. That's the way we run. We don't really have capacities and facilities to be able to make dramatic shifts in our production.

Our North American manufacturing base is primarily based upon presence in Canada for our global power systems and a large presence here in the US for our medical products division. Obviously if the rules change, we will evaluate those rules and change our strategies or adjust our strategies as necessary. From what we've seen so far, there's a lot of rhetoric about a 20% tariff on products produced in Mexico.

We have a very good and strong operation in Mexico. They would be described in traditional terms as a machiladora. So lots of product materials are gathered from around the world, brought into the Mexican facilities. They are assembled, and the value added there is primarily labor and testing. Then those products are distributed to our customers in Mexico, US and in Canada.

We would have to evaluate what the impact these tariffs or duties might have on our operations. Obviously, these are costs that would be passed on to our customers. So it's not exactly an easy thing to do. But it is certainly not easy for us to plan for some unknown threat of an economic war between these countries.

In general, we are going to take a wait-and-see attitude and try to see what really comes out of the government. The administration is making a lot of (inaudible) noise. The full government has to vote and pass new laws, and we will review those laws and make our plans based on that.

The only thing I would add to that, Matt, is that our manufacturing strategy has been to serve our customers locally. When we look at our facilities in China, in Asia generally -- we also have a plant in Vietnam and in Eastern Europe -- those plants do not bring products back to the North American locations from those plants. They serve those local regions.

Gary Prestopino, Barrington.

Dan, just on GPT, you said it was starting to show signs of a pickup. Do you feel that there is going to be project revenue coming down the pipe for 2017? Do you just feel that it is just more of a normalized reset of the capital spending in the energy industry, and we are not went to have thought variation in the top line growth that we saw in 2015 versus 2016?

I certainly wouldn't describe the oil and gas markets as anything close to normal at this point. There's still a great depression going on in oil and gas. It's much more pronounced in oil than it is in gas. It has been described that oil is global and gas is local. Gas demand is still very strong, and it is strong by region around the world.

We have adjusted our strategies to focus on markets where gas distribution and research is high. South America, Southeast Asia and a little bit into the Mid-East -- the activity there is very high. Canada and the US, the activity has flattened out a bit although the demand for natural gas is very strong. That is one of our stronger market segments in this global power unit.

We do see the 2017 backlog increasing. 2016 was a 100-year event in oil and gas, and we were impacted by that. We continue to be under pressure from the softness in the oil and gas businesses.

We see 2017 as a stronger year. Will it achieve what we saw in 2015? I don't know. It's a very good possibility. You have to remember that business is not at all like all of the rest of our businesses. It is basically a contract business.

We get contracts, we build the equipment, deliver the equipment. We can only do that when the customers are building pipelines or servicing pipelines. It's a very good business.

2016 was a very bad year. 2015 was a very good year. We are expecting 2017 to be somewhere probably in between.

That's helpful. Then lastly on the sales force for Cincinnati Sub-Zero, how many individuals will you need to cover the market that you are serving?

Hopefully billions and billions. We are starting with our own direct team. We will add people as the demand requires. But the United States is a very large and diverse marketplace in the medical industry.

We are probably going to be adding somewhere around 15 to 30 people in total. We are well into that process now. We are very excited about the caliber of people that we are attracting and the types of opportunities that this new team is going to bring us.

Steve Dyer, Craig-Hallum.

I lied; I have one more.

Barry, I know tax rate has been a little bit of a moving target. How should we think about modeling that in 2017?

In our models, we use the low 20%s as we look into the 2017 period, say somewhere between 22% and 23%.

This does conclude today's conference call. Please disconnect your lines at this time and have a wonderful day.