IEC Electronics Corp.
Q2 2016 Earnings Call Transcript

Published: 13 May 2016

[Operator:]

Welcome to the IEC Electronics Second Quarter 2016 Financial Results. [Operator Instructions]. I would now like to turn the conference over to Jen Belodeau. Thank you, Ms. Belodeau, you may begin.

[Jen Belodeau:]

Thank you for calling in everybody. On the call this morning, we have Jeff Schlarbaum, President and Chief Executive Officer, as well as Michael Williams, Chief Financial Officer. Before we get started, I'd like to take a moment to read the Safe Harbor statement. On this call we may make certain forward-looking statements regarding future events and projects of financial performance based on current expectations. Such statements are subject to risk and uncertainties and speak only as of the date on which they are made. Actual results could differ materially. Important factors that could cause actual results to differ materially from these forward-looking statements are set forth in the earnings release issued immediately before this call and the company's annual report on Form 10-K and other reports on file with the Securities and Exchange Commission. We undertake no obligation to update or correct any of the forward-looking statements, whether as a result of new information, future events, or other otherwise, except as required by law. Now with that out of the way, I now turn the call over to Jeff Schlarbaum. Please go ahead, Jeff.

[Jeff Schlarbaum:]

Thank you, Jen. Good morning everyone. We’re pleased to have built on our strong start to fiscal 2016 with continued momentum in the second quarter as demonstrated by solid year-over-year revenue growth, gross margin improvement and enhanced profitability. When we established our strategy last year to turn the business around we identified several areas for improvement and we have steadily made progress against these goals. As we have made fundamental changes to the way IEC operates we’re delivering more consistent and predictable results perhaps most notably this quarter in addition to our top line and bottom line performance, we have made significant progress with our asset management efforts and as a result we reduced inventory by 2.3 million and reduced net debt by 4.4 million which is a significant accomplishment. Our entire team here is focused on driving continued operational improvements as we move forward and you can see the ongoing success of those efforts in our second quarter results. Let me share some highlights from the quarter, revenue grew 5% to 33.1 million driven by increased strength in our medical business. On a market sector basis our revenue breakdown for the quarter was as follows. Aerospace and Defense was 34%, Medical was 50%, Industrial 14%, communications and other was 2%, We’re encouraged by the opportunities we’re seeing as we continue to regain the confidence of our customers and the marketplace. Gross margins was 17.3% reflecting our third consecutive quarter of solid gross margin performance. One of the notable factors contributing to our operating margin strength during the first half of 2016 has been related to the strength in our medical sector business. During the second quarter we again increased production to build a finished goods of roughly $900,000 as a request for the few customers and to support our 100% on-time delivery objectives and as a result production outpaced sales and this once again had a favorable impact on gross margins. We steadily delivered strong performance of the past three quarters and while we anticipate margins will remain solid as stated on previous calls reasonable to expect that we will generate gross margins at or above the gross margins we generated acted in our fiscal fourth quarter 2015 as we move into the back half of fiscal 2016. Net income of 1.5 million or $0.14 per share demonstrates a significant improvement and profitability compared to the second quarter of 2016. Our balance sheet remained strong with $21 million in working capital and as I mentioned earlier we reduced our inventory by 2.3 million and net debt came down 4.4 million during the quarter. We’re executing well on the strategic initiatives we put in place to drive revenue and enhance margins, sustain profitability and operational excellence. Organic revenue growth remained the key focus as we continued the strength in our relationships with existing customers to expand the programs we participate in. Additionally with the consistency we have gained during the past few quarters we’re in a better position to begin layering our growth with a focus on winning new customers and projects within our core capability. We have a proven expertise worked with complex, highly regulated markets providing specialized engineering and manufacturing solutions. As we move forward our goal is to add customers who -- because of our manufacturing expertise and collaborative skills we will be with this for a long time. We have made several fundamental changes in our operational execution and we started to see the benefits during the second quarter with meaningful improvements in asset management as demonstrated by both inventory reductions and lower debt. Debt reduction and improved inventory management remain a focus and we will expect to see continued improvements in these areas next quarter. We’re energized by the continued progress and successful results we achieved in the second quarter of fiscal 2016. I will now turn the call over to Mike Williams to review the company's financial performance. Mike?

[Mike Williams:]

Thanks, Jeff. As mentioned second quarter revenue was 33.1 million a 5% increase as compared to the second quarter of last year, this growth of 1.5 million was driven by our medical customers. In total our medical customers grew 6.8 million year-over-year which is offset by a decrease of 4.3 million in the industrial sector and a 1.1 million in the Aerospace and Defense sector. Our medical sector growth was driven by higher demand from our customer that was ramping up last year after being on FDA hold. We expect less year-over-year variances going forward as this customer has been fully ramped up for the last 12 months. This accounted for half of the growth as we had several other medical customers with increased demand that drove the other half. The decline with our industrial customers was primarily related to one particular customer who is experiencing softer end market demand as well as an unfavorable sourcing blend to IEC that we spoke about back in Q4. We saw demand fluctuation both up and down from several Aerospace and Defense customers due to typical customer program variations but the net decline this quarter was related to a specific program that was not active this quarter compared to the second quarter of last year. Second quarter gross profit increased 2.8 million to 17.3% of sales from 9.4% of sales in the second quarter of the prior fiscal year. Several factors contributed to the margin increase including higher production volume, lower overhead cost, improved labor efficiencies, and changes in customer mix. It is important to note that during the second quarter of 2015 gross profit was impacted by 700,000 of stock compensation cost and overhead due to the 2015 change in control. Selling and administrative expenses excluding restatement related expenses decreased 2.6 million and represented 11.2% of sales in the second quarter of fiscal 2016 compared to 20% of sales in same quarter of prior fiscal year. The decrease in selling and administrative expenses was primarily due to higher cost in the second quarter of 2015 related to the proxy contest and resulting change in control. Q2 fiscal 2016 selling and administrative cost include roughly 300,000 and additional severance for the separation settlement of IEC's former CEO. This is fully accrued and the first installment was paid in Q2. Net income for the quarter increased to 1.5 million or $0.14 per share compared to a loss of 5.5 million or a loss of $0.55 per share in the same prior year period which included a loss of $0.47 from continued operations and a loss of $0.08 from discontinued operations. Now looking at the results for the first six months of 2016, revenue increased 9.3% to 66.1 million driven by increased demand from our medical customers as discussed earlier. Gross profit margin was 17.5% up from 10.6% in the prior year based on the reasons previously mentioned. Selling and administrative expenses excluding restatement related expenses decreased to 7.6 million or 11.7% of sales compared to 9.6 million or 15.8% of sales in the first six months of 2015. Prior year included 3.3 million of cost related to the proxy context and change in control while this year included roughly $500,000 of severance and related cost and additional professional fees associated with the bank refinancing and other matters in fiscal Q1 of 2016. Net income for the first half of 2016 was $3 million or $0.29 per share as compared to a net loss of 6.3 million or a loss of $0.63 per share in the same prior year period. Now turning to the balance sheet, working capital at the end of the quarter was 21 million compared to 21.9 million at September 30, 2015. Inventory as Jeff mentioned declined by $2.3 million this quarter driven by lower raw materials due to improved efforts in managing our supply chain. Accounts receivable decreased 1.8 million for the quarter primarily due to improved collection efforts. These efforts enable the company to pay down approximately 4.4 million in net debt. Our operating performance coupled with our asset management drove our debt to EBITDA ratio from 4.1 last quarter to 2.8 this quarter as calculated as per our credit agreement with M&T Bank. With that I will now turn the call back over to Jeff.

[Jeff Schlarbaum:]

Thanks, Mike. Let me provide an update on where we stand today in relation to our financial priorities. Our financial priorities as we have moved through the turnaround have been first driving margin improvement. Second, driving improved asset management and working capital and third establishing the foundation for long term organic growth. We have made great progress on the margin front over the past four quarters and the team here has driven this business to generate margins nearing some of the best in the industry. For the first half of 2016 we have experienced a favorable mix of business as well as benefited from production outpace and sales to establish a linear flow and produce necessary finished goods to service our customers and going forward we expect to generate gross margins at or higher than the gross margins we generated at fiscal 2015. Second, this quarter began to show the fruits of our efforts on the asset management side. As we established for a linear and predictable production and profitability we have positioned the company to achieve improved working capital and cash flow. Debt came down considerably during the quarter and reducing debt will remain a priority going forward. Considering Q2 marks the one year anniversary since the change in control. I'm happy to report we have reduced the company's overall debt by $10 million from roughly 35.7 million in Q2 of 2015 down to 25.7 million exited in Q2 of 2016. We’re establishing a firm foundation upon which to drive long term organic growth. We have a very strong customer base and we’re delivering on our commitment to drive improved performance and project success. We’re continuing to expand our relationships with existing customers and sharpening our focus on leveraging our capabilities to pursue and win the most promising new opportunities within our core competencies. We’re pleased with our progress this quarter and we believe we’re building a solid foundation to drive shareholder value. We’re also continuing our efforts to increase IEC's profile in the investment community. As an example later this month on May 26th, we will be presenting at the B. Riley Annual Investor Conference in California. In closing as some of you may know IEC is celebrating it's 50 year anniversary in operation and we’re making an effort to commemorate not just our history but also continuing evolution and our path for the future. Our company has come a long way since it's start as an OEM in 1966 and I'm excited for the future. Thank you for your interest and continued support. Those conclude my prepared remarks. We will now turn the call over to questions.

[Operator:]

[Operator Instructions]. Our next question comes from the line of Mark Jordan with Noble Financial. Please go ahead with your question.

[Mark Jordan:]

A good question relative to SG&A, did you say that there was an additional $300,000 from severance in SG&A in the second quarter and therefore is your normalized run-rate then without any special items down around the 3.4 million level?

[Mike Williams:]

Yes it was 300,000 and our normalized would be kind of in that 3.4 million - 3.5 million range yes.

[Mark Jordan:]

Okay, and again on interest, that was higher I was looking for. Was there some onetime expenses relative to working with your banks and what will be the normal quarterly run-rate here now?

[Mike Williams:]

We had roughly a 150,000 related to the interest rate swap which again would be unusual or it moves as the rates move but excluding that yes, we would be in the 350, 400 range.

[Mark Jordan:]

You talked about over the last two quarters building excess inventory over the -- for medical customer. Is that buffer in this finished goods inventory going to be a permanent feature in inventory or do you see the opportunity bringing that down overtime?

[Jeff Schlarbaum:]

On the material side of things related to inventory, our view of the businesses that we have historically in the last few years carried far too much raw material and so our focus is on reducing the raw material and then as a second priority reducing our manufacturing cycle times and allowing us or enabling us to reduce our work in progress so that we see opportunities to reduce that as well. On the finished goods side I think it's just not for medical customers, it's really for our key customers that have steady demand where we put finished goods in place so that we can meet their unforecasted demand and customer demands where there are lead time constraints to fulfill their end market deliveries to the extent that we can eliminate them and have product ready to ship at a moment's notice will put us a position to gain a larger share of our customers bus by improving their customer satisfaction and allowing them to react to the end markets. So that’s not anything that I see going away and we will modestly build on it future but my intent is to more than offset that with reductions in raw material and work in progress.

[Mark Jordan:]

Okay. Final question for me is that you know you alluded to the fact of expecting 15% plus more normalized gross margins in the second half of the year as you no longer will have that surplus build versus shipments in the medical side. Question is what will it take for you to get back on a normalized basis to sustain 17% plus gross margin. Is it just higher sustained revenue that gives you better utilization and if so on a quarterly basis would that be needing to get to the $34 million to $36 million quarterly run rate to get the business back to a 7% plus gross margin?

[Jeff Schlarbaum:]

In the statement around the margin is that we anticipate in the back half of the year relative to exciting fiscal '15 is really around the fact that the business is still in a state of a turnaround and we've made a tremendous amount of progress and as I’ve said before I don't have the greatest clarity in terms of going forward of how this business shapes up but I do believe that we're in a solid sales and margin performance position and mix is a dynamic that will fluctuate a bit. But as I look out into future into '17 it's really coupling higher top line revenue and you're right it's probably more in that $34 million to $35 range and continued improvement in our West Coast operations which have been at lower margins historically and we continue to improve our margins there and then investing in capital to continue to drive operational efficiencies. As you know our customers continue to look for opportunities for us to help support them more on new programs but they also look to us to help them control cost and make sure that they're not absorbing inflated cost or cost increases in the future. So there's constant pressure both up and down on margin improvement methods as well as opportunities for our customers to have us help them with their pricing and make them competitive in their own markets. Will all those factors coming together IEC is in that $34 million - $35 million range putting us in a nice position to improve beyond the margins that we saw in '15 and closer to the margins that we've been seeing in last couple of quarters.

[Operator:]

[Operator Instructions]. Our next question today is from the line of Herve Francois with B. Riley. Please go ahead with your questions.

[Herve Francois:]

Can you talk about a couple items, first of all when you take a look at the working capital improvement that you have had and how you see that improvement going forward we're going to be the main drivers of that, is it just going to be on the inventory continuing to work down the raw material or is it going to be on your payables and/or receivable side really to continue to get that working capital and cash flow improvement?

[Jeff Schlarbaum:]

We see first and foremost that in the last couple of quarters we've delivered solid earnings performance and it's the first time the company's been in a position to deliver earnings in quite some time. So in addition to continuation of strong earnings performance which will help us apply it to the debt reduction we also see that inventory is another avenue that we will be able to address and will help our working capital position because the raw material is still a point where it's higher than it should be, it's come down but we know we can make continued progress. If you think back in Q1 and might have said in Q4 but I know in Q1 we looked at our overall debt and our overall debt at that time was just under 31 million when we exit fiscal 2015 and I said at that time we were out looking somewhere in the neighborhood of $7 million in debt reduction. So today if I look at the last two quarters we've gone from $ $31 million in debt down to $25.5 million more or less. So we believe we would be in the 24 range so we think we're going to take another million and a half out and I think there could be even opportunities to improve upon that based on the success we have in our inventory reduction and managing our payables and our receivables.

[Herve Francois:]

When you take at some of the inventory though that you have to perhaps set aside for some of these customers being in the medical and industrial something like that, I mean how do you manage and balance that because on one hand you do want to go ahead and work down to raw material inventories, on the other hand some of these customers may ask you to hold on to them in anticipation of ramp, some of these customers that probably a lot of them just really not that kind of high volume low mix customer because that doesn't fit your portfolio obviously. So how do you kind of balance that? Do you perhaps ask for better terms with your suppliers or better payment terms with your customers if they're asking you to hold on to raw material a little bit longer?

[Herve Francois:]

So if you look at the inventory and how it's changed in the first six months of this year compared to last year our raw material and [indiscernible] came down almost $4 million and we added a little over $2 million in finished goods. So the rate at which we're adding to finished goods is far less than the rate at which we're bringing down the raw material and [indiscernible] and so it's through a reconfiguration of our supply chain program. What led to inflated inventory levels in the past which was a sub-optimal supply chain program we have since remodeled it and to support the continued inventory reductions. Having inventory staged for us and the raw material state that is supplier owned versus IEC owned has been a big portion of it working our terms with our suppliers so we can achieve payment terms better than those terms that we're giving our customers so there's a number of initiatives that are underway that we've started and they're showing signs of progress. But we have more work to do and I think that will also allow us to continue to work down the raw material and more than offset any additions that we make in finished goods. So those are really sort of my view of how the inventory will unfold over time but certainly we were coming at it from a point that we've historically in the company's last 18 months carry just far too much raw material and we know looking back at 2011 - 2012 how we ran the business we can run the business a lot leaner and so we believe those projections should be attainable and we'll see more progress and we will report back to you next quarter.

[Herve Francois:]

Just lastly from me, on a housing keep item kind of have quickly gone through your end market breakdowns for the quarter, can you give that to me one more time please?

[Jeff Schlarbaum:]

Are you talking about the market sector breakdown?

[Herve Francois:]

Right, exactly.

[Jeff Schlarbaum:]

So I have it here in my notes. We have the industrial sector at 14%, we had the Aerospace and Defense sector at 34%. We had the communications and other sector at 2% and so then the balance 50% was our medical sector.

[Operator:]

Our next question is from the line of Mark Jordan with Noble Financial. Please go ahead with your question.

[Mark Jordan:]

Just a quick follow-up, obviously you know paying down the debt. It's very positive trend and if you look at the balance sheet you really did delevered it on the asset side receivables and inventories came down at 8.5 million and on the liability side you know payables and customer deposits were down 7.5. I guess my question is that you know the $6.5 million decline in the payables one way to generate cash is to stick it to your suppliers. My question is that with the significant decline in your payables is that a sign that you’ve just moved payables to where they should be to have a very positive relationship with your suppliers or is that I guess the view was that a source of cash for you or is this really the place that you should be to have the relationship you want to have with your suppliers?

[Mike Williams:]

There is a couple things that are going on with AP. One is as finish 2015 our production linearity and procurement wasn’t as efficient as we would have liked and so in the first six months of '16 w have a much more efficient production linear flow tied to supply chain. So part of the decrease in AP is timing and a reduction of inventory so we needed less inventory, less raw materials as Jeff talked about. Therefore it didn't flow through AP and then there's a portion that was related to we had significant legal fees in our September year-end related to the SEC investigation that we hadn't paid yet we're waiting for reimbursement from our insurance carrier. So is the timing between the insurance reimbursement and paying our legal fees, but I would say we’re in a much better place with our suppliers. I would expect the AP to go up a little bit but we are in a better position with them and how that relationship we want to have with them going forward.

[Operator:]

[Operator Instructions]. Thank you. There are no additional questions at this time. I will turn the floor to management for any further remarks.

[Jeff Schlarbaum:]

Well thank you once again everyone for calling in. We look forward to speaking with you all again next quarter.

[Operator:]

Thank you. This will conclude today's teleconference. Thank you for your participation and you may now disconnect your lines at this time.