Unique Fabricating, Inc.
Q1 2018 Earnings Call Transcript

Published: 12 May 2018

[Operator:]

Greetings, and welcome to Unique Fabricating First Quarter 2018 Earnings Call. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Rob Fink of Hayden IR. Please go ahead.

[Rob Fink:]

Thank you, operator. I'd like to welcome everyone to Unique Fabricating's First Quarter 2018 Earnings Call. Hosting the call today are John Weinhardt, President and Chief Executive Officer; and Tom Tekiele, Chief Financial Officer. Before I turn the call over to management, I would like to remind everyone that matters discussed on this conference call include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995 that are subject to risks and uncertainties. Forward-looking statements relate to future events or to future financial performance and involve known and unknown risks, uncertainties and other factors that may cause the company's actual results, levels of activities, performance or achievements, including statements related to the company's 2018 outlook, to be materially different from any future results, levels of activities, performance or achievements expressed or implied by this morning's press release. Such forward-looking statements include statements regarding, among other things, expectation about revenue, EBITDA and earnings per share. All such forward-looking statements are based on management's present expectation are subject to certain risk factors, uncertainty that may cause these actual results, outcomes of an event, timing and performance to differ materially from those expressed by such statements. These risks and uncertainties include, but are not limited to, those discussed in the company's annual report on Form 10-K for the period ended December 31, 2017, that was filed with the SEC pursuant to Rule 424(b), and in particular, the section entitled Risk Factors. All statements including on this call and including in this morning's press release are made as of today, and Unique Fabricating does not intend to update this information, unless required by law. Reference to the company's website does not constitute incorporation of any of this information. In addition, certain non-GAAP financial measures will be discussed during this call. These non-GAAP measures are used by management to make strategic decisions, forecast future results and evaluate the company's current performance. Management believes the presentation of these non-GAAP financial measures are useful to investors in understanding and assessing the company's ongoing core operations and prospects for the future. Unless it is otherwise stated, it should be assumed that any financials discussed in this call will be on a non-GAAP basis. Full reconciliations of the non-GAAP to GAAP measures are included in the press release that was issued earlier today. With all that said, I'd now like to turn the call over to John Weinhardt. John, the call is yours.

[John Weinhardt:]

Thanks, Rob. Good morning, and welcome to Unique Fabricating's First Quarter 2018 Earnings Call. Thank you all for joining us. We executed well during the first quarter, delivering results that were in line with our expectations and on course for growth and increasing profitability in 2018 despite reduced vehicle production mid-quarter. Manufacturer inventory was reduced by four days between February and March, a significant drop as vehicle OEMs continued to align their business and inventories with consumer-buying preferences for light trucks, SUVs and crossovers. Since March, vehicle production has returned to more normalized levels, and independent industry forecasts for full-year total production and the mix of vehicles remains largely unchanged for the remainder of the year. The fundamentals of our business remain solid, and we are executing our 2018 business plan to achieve the growth and profitability targets we laid out during our fourth quarter earnings call a few weeks ago. Through the investments we are making to develop prototype and test new products for new programs and optimize our production capabilities through plant consolidations and operational improvements, we continue to believe we will deliver top line growth in excess of the market and increasing profitability over 2017. Accordingly, today, we are reiterating our 2018 financial guidance that we provided in March. In the first quarter of 2018, net sales declined a modest 1%, while we maintain the gross margin in excess of 23% and generated positive cash flow from operations. The continued demand for the lightweighting of vehicles and the technological advancements that are being pursued by auto manufacturers provide exciting opportunities for new programs and new applications of our product. We are actively engaged with a number of customers on several projects that will create a foundation of bookings to drive revenue in the second half of 2018 and beyond. We are constantly focused on finding new applications for molded products, utilizing thermoforming, fusion molding and RIM molded polyurethane, which frequently leads to the development of new or novel products not yet in common use but which are complementary to our existing products. With a higher engineering content, we believe these products can provide increased sales and potential margin growth. As an example, our TwinShape foam duct line is currently in production at three vehicle OEMs, has been selected by an additional OEM for a future vehicle and is being evaluated in development programs for four other OEMs. While our customers are primarily in the automotive industry today, we also have prototyping and testing projects underway with a number of large appliance and water heater manufacturers in the industrial portion of our business. We remain encouraged about new business opportunities that we are actively engaged in with both existing and new customers in both the automotive and industrial portions of our business. Operationally, we made the decision during the first quarter to close two manufacturing facilities to further streamline our operations, improve efficiency and better position our production assets geographically to support growth. Each of these plants came under management from two different acquisitions, and both were relatively small compared to our other facilities. The transition of production and relocation of assets was completed at the Port Huron, Michigan facility in March, and we expect the closure of the Fort Smith, Arkansas facility to be completed in June. Tom will have more to say about the financial impact of these actions, including the estimated annualized cost savings in excess of $800,000, in a few moments. On the acquisition front, we are continually evaluating potential targets that would add complementary capabilities to our portfolio of offerings and/or expand our target markets with the ultimate goal of accelerating long-term growth and sustainable profitability. Fortunately, we have no glaring gaps in our capabilities or geographic reach at this time, which is providing us the luxury of being highly selective and disciplined in our approach to M&A. Our existing book of business which we are continuing to build is sufficient to support our growth and profitability plans for 2018. Turning to our 2018 plan for just a moment, today, we are reiterating our financial guidance for revenue between $181 million and $185 million. This represents growth of approximately 5% at the midpoint of the range and adjusted diluted earnings per share between $0.82 and $0.86 and adjusted EBITDA between $20 million and $21 million, each of which reflects year-over-year improvements in profitability. This outlook is based on industry production -- projection of 17.2 million total light vehicles for this year and the mix of production by light vehicle platform from independent industry research published in April. I would now like to turn the call over to Tom Tekiele, our CFO, to review the quarterly results. Tom?

[Tom Tekiele:]

Thank you, John. Net sales for the first quarter of 2018 were $47.3 million compared to $47.9 million for the corresponding period in 2017, a decrease of 1.2%. The decrease was primarily driven by a decline in North American auto production of 2.1% quarter-over-quarter, which was partially offset by increased market penetration. Breaking down our sales for the first quarter of 2018. Automotive was 85.4% of the total, industrial was 10.6% and other was 4%. Gross profit for the first quarter of 2018 was $11.1 million or 23.4% of total revenue compared to $11.1 million or 23.2% of total revenue for the corresponding period last year. Selling, general and administrative expenses were $8 million for the first quarter of 2018 or 16.8% of net sales compared $7.6 million or 15.9% of net sales last year. The increase in SG&A on a dollar basis was primarily due to costs associated with the implementation of our new ERP system as well as foreign exchange. Operating income for the first quarter of 2018 was $2.7 million or 5.7% of net sales compared to $3.5 million or 7.4% of net sales for the corresponding period last year. Interest expense was $736,000 for the first quarter of 2018 compared to $616,000 in the first quarter of last year. The Year-over-year increase was a result of higher overall outstanding debt balances and higher interest rates on the floating portion of our debt. Income tax expense for the first quarter of 2018 was $387,000, which represents an effective tax rate of 20.4%, compared to $867,000 and an effective tax rate of 29.8% in the year-ago period. The decrease in income tax expense and the effective tax rate was primarily due to U.S. tax reform. Net income for the first quarter of 2018 was $1.5 million or $0.15 per basic and diluted share compared to $2 million or $0.21 per basic and diluted share in the first quarter of 2017. The decrease in net income was mainly due to slightly lower net sales; approximately $442,000 of restructuring expenses related to the closing of manufacturing facilities, which I'll discuss in more detail in just a moment; and slightly higher interest expense, which was partially offset by a lower effective tax rate. The diluted weighted average shares outstanding remained steady at approximately $9.9 million in the first quarters of both this year and last year. Adjusted EBITDA for the first quarter of 2018 was $4.9 million compared to $5.4 million in the first quarter of 2017. Adjusted diluted earnings per share was $0.21 for the first quarter of 2018 compared to $0.23 in the year-ago period. Turning to the balance sheet. As of April 1, 2018, the company had cash and cash equivalents of $1.2 million compared to $1.4 million as of December 31, 2017. As of April 1, 2018, the company had total debt of $55.4 million, which includes term bank debt of $29.8 million and revolving line of credit borrowings of $25.1 million, net of debt issuance costs, and subordinated debt of approximately $500,000. This is in comparison to the end of 2017 when the company had total debt of $53.6 million, consisting of term bank debt of $30.6 million and revolving line of credit borrowings of $22.5 million, net of debt issuance costs, and subordinated debt of approximately $500,000. The company had $4.6 million in available unused bank lines of credit with our primary lender, further subject to borrowing base restrictions and outstanding letters of credit under our $30 million credit facility as of April 1, 2018. During the first quarter, we made the decision to streamline our manufacturing footprint by closing 2 production facilities. The first is an 18,000 square foot leased facility in Port Huron, Michigan, that was part of the Intasco acquisition. The lease on the facility is scheduled to expire in April of this year. And with the available capacity at other facilities, we determined the most cost-effective action is to transfer production to other plants located in Michigan; Kentucky; and Ontario, Canada. The second facility we are closing is in Fort Smith, Arkansas, a 70,000 square foot owned facility that was acquired as part of the Prescotech acquisition in 2013. We expect to close this facility in June of this year and transfer scheduled production to our manufacturing facilities in Indiana and Mexico. In conjunction with these closings, we estimated and discussed during our fourth quarter earnings call, a pretax restructuring charge of between $650,000 and $1.1 million for expenses related to severance and transition assistance for the employees that are impacted by this decision and for the relocation of equipment and other facility-closing costs. After tax, this equates to approximately $0.05 to $0.08 in diluted GAAP earnings in 2018. During the first quarter of 2018, we recorded a portion of the restructuring expenses, approximately $442,000 on a pretax basis. We expect the remaining restructuring charges to be recognized during the second and third quarters as we wind down and finalize the closing of the Fort Smith plant. Following the closure of the Fort Smith facility, we expect to market the facility for sale. The current net book value of the facility is approximately $700,000. The consolidation of facilities further streamlines our operations and better aligns our assets and resources geographically with our expectations for production. As a result of these two plant closings, we anticipate annualized pretax cost savings in excess of $800,000 and realization of those savings to begin in the third quarter of 2018. These savings are assumed in our full year 2018 guidance, which, as John mentioned, we are reiterating today. Finally on May 10, 2018, the company's Board of Directors approved payment of a quarterly cash dividend of $0.15 per share to be paid on June 7, 2018, to shareholders of record as of the close of business on May 31, 2018. I'll now turn the call back over to John.

[John Weinhardt:]

Thanks, Tom. In summary, we are executing according to our business plan for 2018. Our commitment to new product development and the application of existing technologies and capabilities to new programs reinforces our optimism about the strategic direction of our business and the opportunities to continue to grow profitably while paying down debt and returning capital to shareholders in the form of regular cash dividends. With that, we will open the call for questions. Operator?

[Operator:]

Our first question comes from Matt Koranda with Roth Capital.

[Brad Noss:]

This is Brad Noss on for Matt. Just wanted to, first, just sort of talk about the -- for your 2018 revenue. Can you just talk about timing of different program launches you have during 2018 and how you expect that to impact your revenue cadence for the remainder of the year?

[Tom Tekiele:]

I think our revenue cadence will be in line with what we talked about earlier this year, Brad. I don't think anything has changed at this point.

[John Weinhardt:]

Basically we've got a number of new programs that will launch, the largest of which will launch quite late in the year however. So it will build gradually.

[Tom Tekiele:]

But remember -- I'm sorry, Brad. But remember that Q3 and Q4 are typically lighter in sales for us just given the number of shipping days within each of those quarters, so nothing different than in the past.

[Brad Noss:]

And then just given your sort of implied EBITDA margin improvement of almost 100 bps or so year-over-year, you were able to expand gross margin looks like 20 bps in Q1. But can you just talk about, for the year, how much of the EBITDA margin improvement is coming from continued gross margin expansion versus SG&A leverage and cost reductions in operating expenses?

[Tom Tekiele:]

Well, I think it's mostly going to be through gross margin expansion, Brad. We got the ERP implementation that's going on that's having us incur some extra SG&A costs over what we've done in the past, so I would say that the gross margin expansion is where we're going to achieve that.

[Brad Noss:]

And for SG&A, I think even after attesting out some of those onetime impacts, it looks like it was a bit elevated. I think you had mentioned FX causing some headwinds there, but can you talk about what that -- or quantify that impact and talk about any other sort of items that may have affected that?

[Tom Tekiele:]

Yes. FX costs us about $150,000 from last year. Last year, we were favorable in Q1 by about $90,000. This year, we were unfavorable by about $60,000. So that was about $150,000 impact during the quarter from last year.

[Brad Noss:]

Okay. And so if we sort of assume kind of adjust out that FX impact, then would that be a fair run rate to think about for the remainder of the year for SG&A because [indiscernible] quarterly or something?

[Tom Tekiele:]

Yes. I believe so.

[Brad Noss:]

Okay. Perfect. And then I guess looking at working capital, there was a little bit of a drag during Q1. But how should we think about, I guess, the cash needs that need to be invested in working capital for the rest of the year? Or should it be more of a source of cash? And what does the cadence of that inflow or outflow look like?

[Tom Tekiele:]

Yes. I think the source of -- it will end up being a source of cash throughout the year. I think it's going to be more weighted towards Q3 and Q4 like it has historically. I think Q2 will be more of a wash similar to Q1, but Q3 and Q4 will be definitely positive, working capital pick-up.

[Operator:]

Our next question comes from Christopher Van Horn with B. Riley FBR. Please go ahead.

[Christopher Van Horn:]

I just wanted to know if you could highlight the CapEx expectations, either from a percent of sales or from an absolute standpoint as you had throughout the year with some of these launches happening.

[Tom Tekiele:]

FX are going to be between 2% and 3% of revenue. That's typically what we would spend. I think this year, we're talking about a CapEx spend total of about $5 million to $5.2 million.

[Christopher Van Horn:]

Okay, great.

[Tom Tekiele:]

I'm sorry. There are some CapEx this year that we're having to purchase early for some programs that are going to launch very late in '18 and early in '19, so a little elevated this year over where we would be historically but still within that 2% to 3% of revenue range.

[Christopher Van Horn:]

Okay. And then is that kind of the long-term goal, that 2% to 3%?

[Tom Tekiele:]

Yes.

[Christopher Van Horn:]

Okay, okay. Got it. And when you mentioned higher-valued products, I imagine that's both from a price perspective and from a margin perspective. Could you highlight, I'm sure TwinShape is one of them. But are there any other products? Or is it just kind of increased complexity and increased engineering that's driving this higher-valued product line.

[John Weinhardt:]

Well, there are a number of other products in addition to the TwinShape. We have a variety of molded polyurethane components that we've developed and we're selling. We've got another variety of molded fusion, molding products that we've developed, so it isn't just TwinShape. But you're right. In every case, it involves more upfront engineering, more precise tooling, a lot of prototype development, et cetera. So it has higher engineering content. There are fewer players in the market for these products. So as a consequence, the margins are slightly better and the dollar value in total is definitely better.

[Christopher Van Horn:]

And then could you comment on your kind of mix to the SUV and trucks side recently? And maybe just a little bit, looking at your backlog and your pipeline, do you see that mix shift getting more exposed to SUV and truck as you head through '19 and '20?

[John Weinhardt:]

Yes. I mean, we have product across the range of the vehicles being offered, but the range of vehicles being offered is increasingly being skewed toward light trucks, SUV and small crossovers. And we're seeing that same thing reflected in our mix of sales to our customers. They're building more of those vehicles because that's what the public wants to buy, and we're well represented on all those vehicles.

[Christopher Van Horn:]

And is it the right way to think about it because you do a lot of like kind of noise reduction and sealing and things like that? With SUVs and trucks, I imagine you have more engine noise. They're bigger. They're bulkier or maybe they're less aerodynamic, if you will, so there's some wind resistance that you have to deal with as well. Does that add to the complexity of what you offer for SUV and truck?

[John Weinhardt:]

On certain vehicles, yes. Wind noise tends to be more of an issue on a number of trucks than it does on some passenger cars. But again it's rather complex trying to lower the overall sound in a vehicle because you're dealing with tire noise, wind noise, road noise, engine noise, et cetera. So it -- a lot of different factors come into play. That's why we offer sound-absorbing products, sound-blocking products, wind-blocking products, et cetera because the precise solution for any one vehicle is always somewhat unique, no pun intended.

[Tom Tekiele:]

I would say, though, that because the vehicles themselves are larger, typically our parts that fill those spaces are going to be larger as well. So there's more revenue and therefore more gross margin dollars as a result.

[Christopher Van Horn:]

Seems like you have a secular theme there. So I have to ask on the Ford passenger car side as well as -- I know it's still early, but sort of the news around the F1-50. Have you looked at kind of your exposure to those programs and what it might mean?

[John Weinhardt:]

Well, I'll respond first to the passenger car issue. We've known for sometime that Ford was planning -- when the current generation of Focus ends, their intention has been to shift production to China. And likewise when the current generation of Fusion ends, their plan was to shift production to China. So on a global basis, they're still going to manufacture those vehicles. They will not, however, be manufacturing them in North America. But that's already built into our product plans and our future volumes. The F-150 is a little different. They have a key supplier of a particular component who had a fire in their factory and is temporarily unable to supply, and that's caused Ford to shut down production of the F1-50. And we don't -- I mean, we expect that if it isn't a really, really prolonged situation, the volume should be made up through overtime and weekends during the rest of the year because the demand for the vehicle is strong. But the final analysis is going to be how long is that supplier -- well, how long is Ford unable to procure that component regardless of where they procure it from, right.

[Tom Tekiele:]

It is a significant platform for us. But like John says, it is a very high-volume and high-demand vehicle. Our expectation would be that if there is a somewhat prolonged shutdown, that production will get made up at some point during the year.

[Operator:]

Our next question comes from John Nobile with Taglich Brothers. Please go ahead.

[John Nobile:]

If I could just get back to the SG&A line here. I know you mentioned approximately 150k impact due to the change in FX, and I think it was about $200,000 in costs related to your ERP implementation. So I just want to get a feel for going forward because I know you've had several quarters of that. What we should expect on ERP cost showing up in SG&A maybe for the next few quarters?

[Tom Tekiele:]

I think it's similar number, John, is going to be for the next few quarters, maybe even a little bit into early next year before we launch that new system.

[John Nobile:]

Okay. And lastly, last year, you mentioned about $10 million in new annual business that was booked. And I just want to make sure that that's still expected to be at a full run rate in 2019. And not just that, but if I can get the -- some insight into how that's going to impact your margins. I think it's going to impact them in a favorable way, this business, but I don't know if you can even quantify on that.

[John Weinhardt:]

Yes. It is still going to -- it launches primarily in Q1 of next year. Some of it launches in Q4 of this year. But the full year impact will be about $10 million in '19, so nothing has changed there. It -- there should be some modest improvement in margins. I'm not sure how many basis points because its $10 million out of nearly $200 million. But definitely, the impact will be favorable.

[Tom Tekiele:]

Yes. We're not having to add facilities or anything like that, so it will definitely cover some of our fixed cost footprint.

[John Nobile:]

Okay. So don't get totally excited but definitely a modest improvement in the gross margins because of the percentage of -- well, let's say, 5% of total this year.

[John Weinhardt:]

Correct.

[Tom Tekiele:]

Yes.

[John Nobile:]

And my understanding is that electric vehicles, they actually use more sound dampening products than motor vehicles. I was wondering if you knew -- if you could actually quantify what percentage of your sales went into electric vehicles currently and where you see this percentage maybe in a few years? I mean, is it true that they do use more sound-dampening products than the typical motor vehicle?

[John Weinhardt:]

Yes, they do because in a combustion engine vehicle, the engine provides what amounts to white noise that masks other road noise, tire noise, et cetera, and it's absent in a battery electric vehicle, so they actually do use even more of our product. As far as the percent of our revenues, I don't know off the top of my head, but it's not a great deal. If you look at the percentage of battery electric vehicles in North America as a percent of total vehicle sales, it's still quite low. It's like 1%. And even over the next 5 years, that's not expected to grow hugely because there are other advances being made with hybrids. There are other advances being made with combustion engines, so it will increase in penetration somewhat or I should say it's expected to increase in penetration somewhat. But even five years from now, we're still talking something probably on the order of 2% or 3% of the vehicles sold.

[John Nobile:]

Okay. Well, if anything, it's not going to hurt you with a little bit increase per vehicle maybe in the [Indiscernible] products. Just one last question because we've had restructuring expenses of $442,000 in this quarter, and you had made mention prepared comments that Q2 and Q3 were going to show remaining restructuring expenses in those quarters. I don't know if you can give us any insight into what to expect in the second and third quarter.

[Tom Tekiele:]

Yes. So our initial outlook on the restructuring charges was that we would spend between $650,000 and a little over $1 million in restructuring. We're still on track to spend that. I'm going to say somewhere in the $800,000 to $900,000 range is probably where I peg it at today. It could be a little higher, could be a little lower, but that's going to generate annual savings of about $800,000 once we close those facilities for good. So we -- second half of the year, we will start seeing some of that $800,000 annual savings as a result of the plant closings.

[John Weinhardt:]

There'll be slightly more restructuring costs in Q2 than Q3. But look, whatever residual, it will get cleaned up in Q3.

[John Nobile:]

Okay. So most of it was already expensed in the first quarter, obviously. If you're looking at 800k to 900k, about half of that already showed up. So it will start to trickle down in the coming quarters then.

[Tom Tekiele:]

Correct, because you need to book the severance costs and whatnot right off the bat.

[Operator:]

There are no further questions. This concludes today's teleconference. Thank you for your participation. You may disconnect your lines at this time.