IEC Electronics Corp.
Q3 2018 Earnings Call Transcript

Published: 11 Aug 2018

[Operator:]

Greetings and welcome to IEC Electronics Third Quarter 2018 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. I would now like to turn the conference over to your host, Ms. Audra Gavelis, Director of Investor Relations. Thank you Ms. Gavellis, you may begin.

[Audra Gavelis:]

Thank you for calling in. On the call this morning, we have Jeff Schlarbaum, President and CEO. Before we get started, I would like to take a moment to read the Safe Harbor statement. This conference call contains certain statements that are or may be deemed to be forward-looking statements. These forward-looking statements, such as when the Company describes what it believes, expects or anticipates, will occur and other similar statements include, but are not limited to statements regarding future sales, backlog and operating results, future prospects, strategic initiatives, turnaround efforts, the capabilities and capacities of business operations, any financial or other guidance, and all statements that are not based on historical facts, but rather reflect the Company’s current expectations concerning future results and events. The ultimate accuracy of these forward-looking statements is dependent upon a number of risks and uncertainties that may cause the Company’s actual results or performance to be different than as expressed or implied by these statements. Specific risks and uncertainties include, but are not limited to, those set forth in the Company’s earnings release issued immediately before this call and in the Company’s most recent Annual Report on Form 10-K, our Quarterly Reports on Form 10-Q and our other reports filed with the Securities and Exchange Commission. The Company undertakes no obligation to publicly update or correct any of the forward-looking statements made during this call, whether as a result of new information, future events or otherwise, except as required by law. I will now turn the call over to Jeff Schlarbaum. Please go ahead, Jeff.

[Jeff Schlarbaum:]

Thank you, Audra, and good morning everyone. Our fiscal 2018 third quarter continued to show many positive signs of growth in our overall business. Our revenue growth was up 12.4% on a year-over-year basis, which underscores our continued new order booking momentum, which has also led to increases in our overall backlog. Our backlog is up over 70% since the beginning of the year. On a sequential basis, our revenue was down 6.2%, which is lower than we expected it to be, which is directly tied to the global component shortages affecting the electronic industry. More specifically, we expected to convert to revenue a greater amount of our backlog, or from customer demand during the fiscal third quarter, which we anticipated would have yielded an additional $4 million in shipments to our customers. As some of you may recall as we saw a very similar dynamic in the first half of this year from fiscal Q1 into fiscal Q2, in which we acquired materials staff accordingly to meet our customer order demands. During the fiscal third quarter, however, we were unfortunately experiencing several unanticipated suppliers of recommits and late deliveries, which impacted our ability to produce a greater portion of demand for our customers. That being said, we expect to fill these orders during our fiscal fourth quarter, while we continue to work with our customers and suppliers to mitigate the situation as much as possible. The component shortage phenomena affecting our entire industry and there is not yet a near-term projection of when it will end. For example, there was an article published in the June 29, 2018 Wall Street Journal that noted the global shortage of MLCCs or multilayer ceramic capacitors is impacting OEMs as well as the EMS industry and is leading to slowdowns and shortages in production of everything from video games to smart phones, to automobiles, so clearly IEC is not alone in dealing with this challenge. We anticipate that while we continue to manage the component shortage situation, there may be portions of our backlog we may not be able to convert during the period our customers may want. That being said, we are rigorously working with our customers to develop strategies to minimize the impact which includes recommending suitable alternative manufacture component options for their products on a number of cases delivering long-term purchase order coverage to suppliers to improve our ability to both expedite deliveries and ensure receipt continuity. Bear in mind however, our customers control the approved supplier list and we must ensure the strictest compliance. One advantage we anticipate is, as we continue to increase the volume and diversity of our backlog, it should provide us with a wider range of options to work with our supply-chain partners to overcome the supply constraints. As we continue to thoughtfully work our way through this constrained environment, we recognized both the margin and working capital impact for business this past quarter. Given our growing customer demand, it's important we continue to put in place the resources and staff to deliver for our customers, which also include the acquisition material to fulfill our growing backlog. As a result, the magnitude of component shortages has had a real impact of both margins and inventory levels, which in turn is placing pressure on working capital as the timing shipments of collections has varied. Aside from raw material constraints, I'm pleased to say that we saw meaningful backlog growth with the book-to-bill ratio greater than 1.8 to 1 during the fiscal third quarter. These bookings include existing programs with increased volumes, particularly from our aerospace defense sector, new program wins from existing customers in other sectors as well as several new conversions that continue to ramp-up. With our long-standing customers reacted an extension of their business, our improved customer service and execution over the past few years has deepened our confidence in IEC, resulting in a greater share of their outsourced work being directed to us, whether it’s new program conversions or brand-new assemblies. While we are subject to the fluctuations in our customers end markets which of course can present challenges at times, our overall ability to be flexible and responsive as well as our track record of reliable and proven long-term manufacturing partner has enabled us to maintain and grow these long-standing customer relationships. In addition, we continue to leverage our vertical service offering such as lab services, interconnect solutions and precision metalworking by expanding our relationships with existing customers. Many of our customers have strategic initiatives to collapse their supply chain in an effort to gain efficiencies and as a result, we've experienced several customers awarding new outsourced demand to one of our vertical service units because of our compelling service offerings and high customer satisfaction levels. Finally, the work we've done over the past 18 months to improve our sales funnel is providing higher levels of new customer activity than IEC has seen in many years. We are beginning to see new long-term relationship that we anticipate will have a meaningful impact in the years to come. Our goal is to bring our customers to the unique value IEC can bring to the supply-chain and establish long-term strategic partnerships. So, as we look at how fiscal 2018 is progressing, it’s once again reassuring to know our backlog is growing by more than 70% since the beginning of the fiscal year. Now, I’d like to go in more detail regarding the third quarter financial performance. Before that, I would like to give an update to the June 2018 communication that our former CFO had transitioned to a new opportunity. Since then we have brought in a contract Vice President of finance to serve as an interim finance and accounting resource as we proceed with the full-time replacement CFO search. Now moving on to the details of the quarter, revenue for the third quarter of fiscal 2018 was 29.8 million, an increase of 12.4% as compared to the third quarter of fiscal 2017. And as we have discussed approximately 4 million of revenue, we expect has shifted the fourth quarter 2018 related to program delivery that were delayed because of the global component supply shortage. Looking at our market sectors, in the third quarter of fiscal 2018, we saw a revenue distribution of aerospace and defense 60%, medical 22% and industrial 18%. The aerospace and defense sector saw an increase of 3.6 million, primarily driven by new programs. In fact, due to new programs one long-standing customer accounted for 5.4 million and we expect to see continued demand for this customer for the remainder of fiscal 2018, which was partially offset by modest decreases in volume across a wider array of other customers. Sales in the medical sector decreased by 1.2 million compared to the same period of the prior fiscal year related to the volume declines from multiple customers offset however by increased demand from one customer whose demand had previously been on hold for more than a year as well as increase demand from multiple other customers. Industrial sector sales increased 0.9 million, primarily due to increased demand from several customers whose end markets have grown, offset by modest decreases in demand from other customers, 0.2 million of the increase related to a new product. Gross profit for the third quarter of fiscal 2018 was 3.4 million or 11.3% of sales compared to 3.7 or 14% of sales in the third quarter fiscal 2017. Gross profit in the third quarter of fiscal 2018 was impacted by the unexpected shift of program deliveries to the third quarter as we had overhead in place to cover these unfulfilled orders. We expect that with the execution of these orders, gross profit level should normalize. Selling and administrative expense increased 229,000 and represented 9.5% of sales in the third quarter of fiscal 2018 compared to 9.8% of sales in the same quarter of the prior fiscal year. The increase in expense was primarily due to the consulting and related expenses for our upcoming ERP implementation. The Company recorded net income of 202,000 in the third fiscal quarter of 2018 or $0.02 per share compared to net income of 806,000 or $0.08 per share in the fiscal quarter -- in fiscal 2017. Now looking at the results for the first nine months of 2018, revenue increased 20% to 82.7 million compared to 68.8 in the prior fiscal period. Growth was primarily driven by an increase in sales and aerospace and defense sector of 16.9 million, and increases in the industrial sector o 0.2 million, partially offset by decreases of 3.2 million in the medical sector. Gross profit increased 1.9 million from 11.3% of sales in the first nine months of fiscal 2017 to 11.7% of sales for the first nine months of fiscal 2018. Selling and administrative expenses increased to 8.5 million and decrease as a percentage of sales to 10.3% in the first nine months of fiscal 2018 compared to 7.7 million or 11.2% of sales in the prior fiscal period. The increase in selling and administrative expenses is primarily due to expenses related to our PRP implementation and other expenses of 500,000. Net income for the first nine months of fiscal 2018 was 1.3 million or $0.12 per share as compared to a net loss of 674,000 or loss of $0.07 per share in the same period a year ago; nine months net income includes a net tax benefit of approximately 1 million recorded in the first quarter of fiscal 2018 resulting from the release of the valuation allowance on our AMC credits as a result of December 2017 U.S. Tax Cut and Jobs Act. Now looking at our balance sheet inventory at June 29, 2018 was 26.1 million compared to 21 million at the end of the second quarter of fiscal 2018 and 15.6 million at the September of 30th, 2017 time frame. As we discussed in our prior calls our inventory levels are directly associated with our ability to convert our backlog; in the third quarter we had increased inventory as our component shortages impacted our ability to execute our order demand, resulting in significant program delivery shifting to the third quarter -- to the fourth quarter. In closing, we continue to be energized by the progress we made to-date and we remain optimistic about our path to growth as we continue to focus on three key elements which includes a clear focus on our target markets and the right customers maintain a robust sales pipeline and driving sales conversions and of course, continued operational excellence. We have a solid relationship with our -- we have solid relationships with our existing customers and we continue to be strengthened by our operational excellence and our expertise for these high complexity programs and by the flexibility to meet the changing needs. These capabilities let us to new awards from long-standing customers and are also enabling us to win business from new customers. Additionally, IEC is growing recognition as a leading provider vertically integrated manufacturing solutions for lifesaving and mission-critical products has introduced us to new audiences we are pleased to onboard these new strategic customers at a growing rate; our fully rebuild new business pipeline is providing new opportunities, and we are successfully converting these opportunities to new program awards while continuing to add new prospects to diversify our funnel of future opportunities. And finally, our operational excellence is a competitive advantage and a very important component of our continued growth. We are laser focused on delivering consistent execution for highly complex programs and providing customized solutions as technologies continue to evolve. On that topic as we see continued growth for our business, we also need our system to scale with it. And we’re second to upgrade our corporate ERP system before the end of the fiscal year at our New York facility. This upgrade will help streamline our internal processes and reporting across many aspects of our business. This is an exciting time for our company and we’re intent on continuing to build our growth momentum as we move through the conclusion of fiscal 2018. We’re energized by robust sales pipeline of backlog growth and confident that we can continue to strengthen our leadership position. And with that, I will now hand call back over to the operator for questions.

[Operator:]

Thank you. At this time, we will be conducting a question-and-answer session. [Operator Instructions] Our first question comes from the line of Nehal Chokshi of Maxim Group.

[Nehal Chokshi:]

Really great bookings and I want to get to that in a minute, but before you would see that I just want to make sure for the component shortage that you experienced, the de-commits and late deliveries. These are two separate issues, correct. You had de-commits and then you also had late deliveries, is that correct?

[Jeff Schlarbaum:]

Yes. So, Nehal, you're correct. The supply chain constraints are occurring, so to just clarify in a couple of areas. So in some instances we have supply deliveries that have scheduled delivery, dates and in number of cases with the supply constraints, suppliers are coming back and saying, I know I promise you this product on this date but I am unable to deliver it. So that was a number of the de-commits. In other cases they were -- yes, we're still going to deliver your product, but not on the day you needed it. So they come in delayed and it has to reposition the work in progress, down to the floor which causes just the bunch of inefficiencies. And then the third piece of it which I didn't really speak too much is obviously customers that are asking for demand to be produced and were going to the supply chain. And in the cases where we made and have been given a quote for lead time, at the time we quoted the product when we actually go to buy it. The lead time has been pushed out even further. So just as for the complication and providing the specific production commit to the floor that we can translate into in this product for our customers.

[Nehal Chokshi:]

And just to be clear when you say as it de-commit, it's not that you has a point of news to the supplier, it's just simply the delivery time is longer than initially anticipated?

[Jeff Schlarbaum:]

Yes, it's really the it's an unusual phenomenon and it's happening these days where the supplier is coming back and saying, "I know I told you that you get the product on this date, but now I can't and I don’t have a new date for it. I'm just going to have to get back to you." So, we're not going to change, obviously, midstream to an ultimate manufacturer, but it just means that we have to wait in line longer and sometimes there is uncertainty when we're going to get the actual raw materials delivery.

[Nehal Chokshi:]

So based on the book-to-bill ratios that you've given, looks like you had 54 million in bookings in the June quarter that compares to $35 million for the March quarter and that's up massive 64% 2Q, which is great. But I'd like to try to tease out to make sure that is 141 real increase, so I guess first question here is that. Is there a change in duration with respect to those orders that's including that 54% Q-over-Q increase?

[Jeff Schlarbaum:]

We haven't seen a significant change, Nehal, in terms of the order horizon. We're starting to see some, some longer term orders. But that wasn't really the -- I'd say it's an apples-to-apples comparison in the prior period.

[Nehal Chokshi:]

And you gave some colors as far as new versus old programs. It was really very qualitative just saying that it's coming from both, but was one or the other more responsible for that 54% Q-over-Q increase?

[Jeff Schlarbaum:]

I can't give you a super clear number the reason is, so some of our bookings are coming from existing customers and their extension of existing programs. In other cases its existing customers but as the new programs that we're winning, and then in another cases its new customers and new programs, so it's commingled in there, I wouldn't say it's disproportionate in one direction or the other, other than to say it's disproportionate to growth with existing customer business and lesser to the new customers although a lesser piece of it.

[Nehal Chokshi:]

And is there a single large order or single increased customer concentration that's part of that increase?

[Jeff Schlarbaum:]

No, it’s pretty well distributed across a wide variety of customers.

[Nehal Chokshi:]

And I know you’ve been talking about sales funnel has increased. Can you possibly quantify how much that has increased maybe on a year-over-year basis?

[Jeff Schlarbaum:]

Yes, so, if you look at, again, when we talk about sales funnel everybody measures it and defines it differently. I'm really focused on what we call high probability opportunities so those and our sales funnel that have much higher probability is converting. Some others quantify their pipeline as early-stage opportunities which obviously we track, but when I think about our growth in the high probability opportunities, it is better than 50% increase year-over-year.

[Nehal Chokshi:]

And then -- so for these high probability sales funnel, have you seen a stuck up in that conversion rate? And is that possibly part of the reason for the big Q2 increase that you’re seeing in the bookings?

[Jeff Schlarbaum:]

I think a little bit we’re seeing an increase in conversion rate, again it’s difficult to say because again when the customer -- when the bookings are coming from existing customers on brand-new programs we’re taking share from our competitors. And so I think because of our performance and our high customer sat levels we’re taking a higher percentage of business away from our competitors from existing customers on new programs. I don’t think as it relates to the new customer acquisition, that our conversion rate has increased is probably similar to what it has been in the past. We just have more in our funnel that has probability of converting.

[Nehal Chokshi:]

And then the last question here is that, what are the data points that you can share to ensure that the Q-over-Q increase in orders that you’re seeing is not a result of customers double ordering in response of the component shortages?

[Jeff Schlarbaum:]

I mean we’re not seeing any double ordering impact because really the supply chain has being managed pretty tight and in many cases and in almost all cases, the distributors are coming back and manufacturers are coming back and saying we’ll supply you a 120% of your prior year’s demand, but they’re really putting a lot of controls in place. So we as a company cannot put double bookings on the raw materials. So, we’re not seeing any signs of our customers actually double booking with us, Nehal. And in fact when we look at the book-to-bill ratio, our book-to-bill ratio has gone up quarter after quarter for the last four straight quarters. So it's not a recent phenomenon.

[Operator:]

Our next question comes from the line of Ben Klieve of Noble Financial. Please proceed with your question.

[Ben Klieve:]

I’ve a few questions regarding end markets here for you. Jeff, you highlighted some bookings of new programs outside of the A&D segments. So, I'm curious if the recent bookings that you've been able to deliver, if you can comment on the revenue break -- excuse me on the breakdown of those new bookings by segment and then compare that to the revenue breakdown kind of the 60 to 2020 that you're seeing right now. Is it more or are your recent bookings more heavily skewed toward medical? Or is it in line with the revenues that are coming in at today?

[Jeff Schlarbaum:]

It's a good question. I don’t have a precise number for you, but what I can tell you is when I think about the bookings we had this past quarter just related to Q3 alone. It was probably not quite the same distribution of the revenue percentage. It was a was a greater percentage of medical and industrial bookings in there, but still a strong percentage from the AMD, but a greater percentage as it relates to the revenue distribution that you saw a greater percentage came from industrial and medical.

[Ben Klieve:]

So, I guess given that dynamic especially on the medical side. Do you have visibility that the medical business is really going to reach the inflection point here in coming quarters? Last quarter, you thought that the business would pick up sequentially, but it looks pretty flat. Do you think you are reasonably the work closer here to jump up on the medical side?

[Jeff Schlarbaum:]

Yes, so when I look at our medical business from an absolute dollar perspective, if I look out at the next 12 months. I see a significant increase in absolute dollars in our medical business, a nontrivial amount of increase. However, how much will move the needle on a percentage of our business, it will move the needle to somewhat as a percentage, but also we're seeing the pretty strong signs of growth in the defense side. So, absolute dollar wise, we're seeing strong increases in medical, as a percent of business, it will sway back in line a little bit but still at least to be predominant to A and B.

[Ben Klieve:]

And one other question tied to segment. Is there -- it's the supply chain issue, does it impact business across the board? Or does the impact -- is the impact skewed more towards any of the story any of the three segments?

[Jeff Schlarbaum:]

It really is cutting right across the individual sectors in our business. We don’t see isolated to one or the other. It really is impacting because when you look at like these MLCCs, these multiyear surrounded capacitors, they're used in all the market segments. So, it's cutting right across the board.

[Ben Klieve:]

One last question from me that you talked about your AMD customer who accounted for 5.5 million of growth here on a year-over-year basis, where does that -- where does that customer stand here in the track for the full run rate? And how much more could -- how much more growth could that customer account for? I know you said demand is still strong, but I mean are they towards the full run rate or there still going to ways to go?

[Jeff Schlarbaum:]

No, I think that's probably 60% to 70% of the run rate. So, there is still upside demand we see coming for in future periods.

[Operator:]

Our next question comes from the line of Alex Gates of Clayton Partners. Please proceed with your question.

[Alex Gates:]

Jeff, I had a quick question for you on just kind of your long-term outlook for gross margins. I think you'd always kind of talk about those being in the mid-teens, but I just wonder with on the components shortages and everything going on what the supply chain. Do you still have visibility to those type of industry leading margins? Or was that a bit more of a question mark going forward for you guys?

[Jeff Schlarbaum:]

I think that's a good question. When you look at our Q2 margins, those are kind of in the mid teens that you're referring to. Had we converted the same amount of sales as we had sat for, we would have probably saw very similar margins as we saw in Q2. So as we look at in the future, I don't see that dynamic changing. And I still think that that we’re going to settle in as we produce new order demand that our customers are asking us to and align with our overhead. We just had some unfavorable overhead absorption this past quarter.

[Alex Gates:]

So, then presumably if those orders do in fact ship in the current quarter, you would expect the margin to come back to sort of levels that you would have expected in the previous quarter?

[Jeff Schlarbaum:]

Yes, when I think in my comments, we’re expecting the normalized so without being giving you a precise number that normalization is kind of I was referring to, and so I think that’s a good interpretation on your part.

[Alex Gates:]

And then just obviously you guys are showing really strong bookings growth and backlog is probably the highest that's ever been in a long time. So just wondering, how you think about your ability to execute on that backlog going forward obviously given all the supply shortages? Again, is it still 12 months? Or has that been pushed out a little bit?

[Jeff Schlarbaum:]

It’s not dampened our customer confidence in us obviously because the booking momentum has continued to increase quarter-over-quarter, so -- and which is driving our higher backlog levels. The tricky part of it is the supply constrained environment we’re in, it's really difficult to look at the composition of the parts that are required for each of the unique assemblies and to know which ones are going to be greater constrained sources versus others. I think on balance it shouldn't push out significantly, but I think there is some push, pressure pushing to the right until the supply constraints are denormalized.

[Operator:]

Our next question comes from the line of Shawn Boyd of Next Mark Capital. Please proceed with your question.

[Shawn Boyd:]

Just to be clear, it looks like The Street was expecting 33 million, 34 million in the September quarter. If I heard you correctly, the 4 million that did not ship in the June quarter should ship in September. So should we consider that incremental? Or due to the shortages, it’s really just kind of replacing other businesses pushing out?

[Jeff Schlarbaum:]

I would answer that and say, I believe it could be incremental with the caveat of some of the order demand in Q4. I can only imagine it will be impacted by some unanticipated supply delays and constraints. So to the extent that it will be -- we’ll capture all of it incrementally, I don't know that but we’ll capture certainly of course incrementally.

[Shawn Boyd:]

And if you don’t mind, I think I missed a little bit of color that you might have given earlier in terms of what should your ability -- the present company's ability to design around or change what they're ordering just to grapple with these shortages or to work with the customer and maybe tweet the program a little bit. Is that something we can kind of sink our teeth into? Or is that just sort of a minor positive, minor benefit?

[Jeff Schlarbaum:]

It is absolutely one of the levers we're pulling, is working with our customer on main factor alternatives that we could acquire in place of parts that have severe supply constraints. And the issue with that is, our customers are operating this highly regulated market. So we go to go through design and valuation testing and internal approvals. So the cycle time can take a bit, but I can tell you virtually all of our customers we're working with them on design alternatives on each of the programs because obviously they want to celebrate deliveries so that much more open to those alternative options today than, say, they were in the past.

[Shawn Boyd:]

And last thing for me. The pickup in orders some certainly very strong numbers here in the last quarter. Do you anticipate that level of order is that sustainable? Do you continue to see 50 million plus orders each quarter?

[Jeff Schlarbaum:]

I see continued strong bookings to the degree that it will be precisely in that range. I wouldn't -- I don't have current guidance as of today, but what I can tell you is I don't think it's anomaly in that what we saw in the prior quarter, I didn’t come out and say what our book-to-bill was in Q2. But we had strong Q2 book-to-bill and we had strong book to bill in Q1. And so I expect this to have strong book to bills, going forward, whether it's for precise rate that we saw in Q3. I can't say for sure, but it shouldn't drop-off and in a significant manner because our customer commitments that were in engaged in discussing regularly has some decent longer term visibility. So I think you will continue to be very strong.

[Shawn Boyd:]

And just a longer term question on as we kind of think about going into 2019 and even beyond. Are we looking for a new level of growth here? And I guess I'm trying to speak maybe more to just qualitatively. Are you seeing anything out there that starts to slow this down? Are you seeing any signs of peckish activity or sort of friendly ordering, maybe not double ordering, but people pulling things in and saying, I got to get that and now and perhaps the quarter two that we're not seeing that or do you feel it really broad underpinning here in this demand?

[Jeff Schlarbaum:]

I would say it's really the latter I mean I don’t -- we're not seeing frenzied order activity because many of the programs, as we worked our through this transformation and we had to reestablish the go-to-market practices that would lead to ongoing organic growth. We planned into lot of these seeds, a year, year and half ago. So, we're experiencing now the benefit of these programs starting to reach some level of production scale. And in the past they more in incubation period, so this isn’t something that dropped out at the sky and we've been working on these programs for many quarters now and they are just staring to hit it a point of scale, which I think will drive a consistent level of growth in the future.

[Operator:]

There are no further questions over the audio portion of the conference. I would now like to turn the conference back over to management for closing remarks.

[Jeff Schlarbaum:]

Well, that concludes our call. So I just want to thank you to everyone for calling in and I look forward to speaking with everyone again next quarter.