Unique Fabricating, Inc.
Q2 2018 Earnings Call Transcript

Published: 12 Aug 2018

[Operator:]

Greetings, and welcome to Unique Fabricating Second 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, Brett Maas. Please go ahead.

[Brett Maas:]

Thank you, operator. I’d like to welcome everyone to Unique Fabricating’s Second 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 second quarter 2018 earnings call. Thank you all for joining us. We again executed well during the quarter, to deliver results in line with our expectations and on track for achieving our full year outlook. We are reiterating our full year 2018 financial guidance today, which reflects top line growth greater than 2017 and the industry, and with increasing profitability compared to last year. Our business remains solid and our operating model flexible to adjust to recent market influences and customer-specific situations that have been largely out of our control. We remain focused on continual process improvement, aligning our production assets with demand and making prudent investments in programs that are responsive to our customers’ needs and a foundation for our future growth. Production schedules have been recalibrated following some schedule reductions made by auto manufacturers to reduce inventory levels during the first half of the year as well as some OEM plant shutdowns during the second quarter due to a fire at a factory of a key metal component supplier to Ford for the production of its F-150 light trucks as well as to General Motors, FCA, Mercedes and BMW for their trucks and SUVs. The duration of the shutdowns varied from OEM to OEM, but most plants were disrupted for one to two weeks. All production has since resumed, and our customers expect the volume lost during the second quarter will be made up during the balance of 2018. Full year industry volume forecast at this time indicate that we will still be able to achieve results within our current guidance. However, these production adjustments are causing 2018 to be more back-end loaded than was originally anticipated. We have a number of new program launches scheduled between now and the end of the year, and all are progressing according to schedule and on budget. At the same time, we remain actively engaged with a number of customers on several future projects to increase our new business bookings to drive downstream revenue growth that exceeds industry growth. The continued demand for quieter, lighter vehicles and the technological advancements that are being pursued by auto manufacturers provide exciting opportunities for new programs and new applications of our products. We are closely monitoring reactions to the threatened introduction of new tariffs, albeit the actual impact at the micro level is difficult for anyone to predict at this time. We will respond to any industry fluctuations resulting from trade policy decisions and communicate any changes in our expectations as more information becomes available and there’s more clarity around the direct impact to the industry and our customers. In the second quarter of 2018, net sales increased nearly 3% to $45.7 million, bringing the year-to-date increase to nearly 1%, while our gross margin continues the trend upwards. Operationally, we decided earlier this year to close two manufacturing facilities, one in Port Huron, Michigan and one in Fort Smith, Arkansas, to further streamline our operations, improve efficiency and better position our production assets geographically to support future growth. 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 Michigan facility in March and at the Arkansas facility in June. The closing of these facilities is expected to result in estimated annualized cost savings of more than $800,000 beginning in the second half of this year. We have signed a definitive agreement, subject to closing conditions, to sell the Arkansas facility, which has a net book value of approximately $750,000. Sale of the property is expected to close in the third quarter of 2018 and will result in a onetime gain. We plan to use the proceeds we receive from the sale to reduce debt. On the industrial front of our business, we have a number of new product opportunities being pursued for our nonautomotive businesses. Our intent is to grow sales in these businesses by expanding our product portfolio beyond our current offerings. Each of these opportunities utilizes one or more of our existing molded product processes, but all are new product applications for Unique as well as for our customers. As a result, each opportunity requires extensive prototyping and testing to determine its viability in terms of cost, performance and reliability. While it’s premature to speculate about the success of any specific project, we feel confident that there are incremental revenue opportunities to capitalize on in the next six to 12 months. Strategically, our acquisition pipeline remains active, although there are no imminent deals to disclose at this time. We have the luxury of being highly selective since we have no immediate needs for additional process capabilities or the need to enter new markets. Our existing backlog of business and new sales pipeline are sufficiently robust to support our near-term growth and profitability targets. As I mentioned earlier, we’re reiterating our expectation to be within our previously communicated range of financial guidance for revenue between $181 million and $185 million, adjusted diluted earnings per share between $0.82 and $0.86 and adjusted EBITDA between $20 million and $21 million. This represents growth of approximately 5% at the mid-point of the revenue range and year-over-year improvement in profitability measured by both adjusted EBITDA and adjusted diluted earnings per share. This outlook is based on industry production projections of 17.2 million total light vehicles for the year and the mix of production by light vehicle platform from independent industry research published in July. 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 second quarter of 2018 were $45.7 million compared to $44.5 million for the corresponding period in 2017, an increase of 2.8%. The increase was primarily driven by increased market penetration, which was partially offset by a decline in North American auto production of 2.9% quarter-over-quarter. Of the total, automotive represented 84.8% of the total, industrial was 10.6% and other was 4.6%. Gross profit for the second quarter of 2018 was $11.2 million or 24.5% of total revenue compared to $10.7 million or 24% of total revenue for the corresponding period last year. Selling, general and administrative expenses were $7.4 million for the second quarter of 2018 or 16.1% of net sales compared $7.6 million or 17.1% of net sales last year. The decrease in SG&A on a dollar basis was primarily due to lower ERP system implementation costs. Operating income for the second quarter of 2018 was $3.3 million or 7.2% of net sales compared to $3.1 million or 6.9% of net sales for the corresponding period last year. Interest expense was $861,000 for the second quarter of 2018 compared to $703,000 for the second quarter of last year. The year-over-year increase was a result of higher overall debt balances and higher interest rates on the floating portion of our debt. As John mentioned, we closed two facilities in the first half of the year. In conjunction with these closings, we estimated a pretax restructuring charge of between $650,000 and $1.1 million for expenses related to severance, transition assistance for the employees impacted by the decision and for the relocation of equipment and other facility closing costs. On an after-tax basis, this equates to approximately $0.05 to $0.08 in diluted GAAP earnings in 2018. During the second quarter of 2018, we recorded restructuring expenses of $538,000 on a pretax basis, bringing the total restructuring expenses incurred so far related to the two plant closings to approximately $980,000. The overwhelming majority of restructuring expenses related to the two plant closings have been recorded, yet we expect that there may be some additional miscellaneous restructuring charges recognized during the third quarter as we finalize the closings. Most importantly, however, we do not expect the total of the charges to exceed the $1.1 million that we initially estimated. For the Fort Smith, Arkansas facility, we have signed a definitive agreement to sell the building. We have agreed to a selling price that exceeds the current net book value of approximately $750,000 as of June 30. For the second quarter financial statements, the building qualifies as held for sale and is presented as such in the consolidated balance sheet under current asset. Sale of the property is expected to close in the third quarter of 2018 and will result in a onetime gain. We plan to use the proceeds we receive from the sale to reduce debt. 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 just mentioned, we are reiterating today. Income tax expense for the second of quarter of 2018 was $632,000, which represents an effective tax rate of 26.5%, compared to $729,000 and an effective tax rate of 30.4% 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 second quarter of 2018 was $1.8 million or $0.18 per basic and diluted share compared to $1.7 million or $0.17 per basic and diluted share in the second quarter of 2017. The increase in net income was mainly due to increased gross profit on higher sales, which was partially offset by restructuring expenses. The diluted weighted average shares outstanding remained steady at approximately $9.9 million in the second quarters of both this year and last year. Adjusted EBITDA for the second quarter of 2018 was $5.6 million compared to $5 million in the second quarter of 2017. Adjusted diluted earnings per share was $0.23 for the second quarter of 2018 compared to $0.19 in the year-ago period. Turning now to our year-to-date results. Total revenue for the first six months of 2018 increased to $93 million, up 0.7% or $671,000 from $92.4 million during the same period last year. Gross profit for the first six months of 2018 was $22.3 million or 23.9% of total revenue compared to $21.8 million or 23.6% of total revenue in the comparable period last year. Net income for the first six months of 2018 was $3.3 million or $0.33 per basic and diluted share compared to $3.7 million or $0.38 per basic and diluted share in the comparable period last year. Adjusted EBITDA for the first six months of 2017 was $10.5 million compared to $10.4 million in the same period last year. Adjusted diluted earnings per share for the first six months of 2018 or $0.43 compared to $0.42 in the same period last year. The diluted weighted average shares outstanding were approximately 9.9 million for each of the first six months of 2018 and 2017. Turning to the balance sheet. As of July 1, 2018, the company had cash and cash equivalents of $981,000 compared to $1.4 million as of December 31, 2017. As of July 1, the company had total debt of $55.4 million, which includes term bank debt of $28.8 million and revolving line of credit borrowings of $26.1 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 credits with our primary lender, further subject to borrowing base restrictions and outstanding letters of credit under our $30 million credit facility as of July 1, 2018. Finally, earlier today, the company’s Board of Directors approved payment of a quarterly cash dividend of $0.15 per share to be paid on September 7, 2018, to shareholders of record as of the close of business on August 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:]

[Operator Instructions]. Our first question comes from Chris Van Horn of B. Riley FBR. Please proceed with your question.

[Chris Van Horn:]

Good morning, guys. Thanks for taking my call and congrats on the continued strong execution.

[John Weinhardt:]

Good morning, Chris. Thank you, Chris.

[Chris Van Horn:]

I wanted to just – if we could dive in a little bit on the margin expansion that we’re seeing. I think you mentioned product mix is helping. Is there anything else maybe from an operational standpoint that you see? And then do you see this mix continuing as you roll on some of this new business, do you see it continuing to be a tailwind?

[John Weinhardt:]

It’s always difficult to predict mix. But at this point, we see no reason why the mix should shift appreciably from what we’re experiencing in the first half of the year. Operationally, we’re also obviously continuing all of our continuous improvement programs, trying to improve material usage, labor productivity and quality. And that, obviously, trickles down to the bottom line as well.

[Tom Tekiele:]

I think one other thing is, last year, we spent some money, you might recall, on outfitting some of our facilities with processes that they didn’t have currently at the time. And that’s helped as well to be – to put some business in locations that are much closer to the customers as well.

[Chris Van Horn:]

Okay, great. Got it. And then when we look at the new business, the launch cadence over the next couple of quarters and maybe into even early 2019, is there – is it kind of a steady Eddie launch cadence? Or are there kind of bigger programs launching in certain quarters?

[John Weinhardt:]

For the balance of this year, I would characterize it as steady Eddie. It’s just a lot of small to moderate programs launching on a fairly consistent basis. We do have some very large launches that will take place in the first half of 2019. Probably late in the first quarter and early in the second quarter, you’ll see more of the revenue starting in the second quarter.

[Chris Van Horn:]

Okay, got it. And then on the tariff front, could you quantify at all your exposure to China, if at all and then are there – if you see alternative sourcing opportunities? And then have the OEM even started – have you had conversations with them around what this might mean for pricing or sourcing?

[John Weinhardt:]

Well, at the micro, it’s very difficult whether it’s China or Europe or even Canada and Mexico to let – the administration is talking about tariffs for everybody, including NAFTA trading partners, but then they’re also giving off signals that they might exclude the NAFTA trading partners. So everybody’s getting a bit of a mixed message. In terms of direct component or raw material supply, we don’t have a lot of exposure to tariffs. The big exposure is that if they put tariffs on imported vehicles, we’ll probably see corresponding tariffs on exported vehicles when they’re imported to some of these other markets. And they’ll – that will have a two-punch effect. North America is a net exporter of vehicles. We sell a lot of crossovers and SUVs around the world. And so if our trading partners put up barriers, that will diminish that sale and consequently that production. And the flip on that is if we put tariffs on incoming vehicles, they’re going to cost more. The OEMs are going to pass at least a substantial portion of that cost through to the customers, and that could cause the market itself to just slow down. So it’s easy to predict that if the tariffs go into place, things will get worse. It’s very difficult to predict how worse and how fast and from where.

[Chris Van Horn:]

Okay, great. Thanks for that color. And then final for me. You commented on the pipeline. It sounds like you got some good things in the pipeline there. And I just was curious, looking forward, do you see the new awards – or the potential for new awards, is it a diversification from a customer standpoint, new programs with existing customers or kind of a combination of both?

[John Weinhardt:]

It’s a combination of both. Most of it would be new programs and new products with existing customers, but some of it would also involve either brand-new customers or relatively new customers and expanding our position with them.

[Chris Van Horn:]

Okay, got it. Thank you so much guys.

[John Weinhardt:]

You bet, Chris.

[Tom Tekiele:]

Thanks, Chris.

[Operator:]

[Operator Instructions]. Our next question comes from John Nobile of Taglich Brothers. Your line is open.

[John Nobile:]

Hello. Good morning and thanks again for taking my questions. Your previous comments about a ramp-up in new business actually into 2019, are you referring to the $10 million in new business that you had previously mentioned? And in regard to that, is that still on track to be launched in the fourth quarter? And more specifically, are we looking at full production with that $10 million of new business in 2019.

[Tom Tekiele:]

Well, the $10 million is the large – or it is part of a large launch that I referred to that’s – it starts in late – in the fourth quarter, but the real ramp-up will be in the first quarter of 2019. And you’ll start to see full volume levels or nearly full volume levels in the second quarter of 2019 and the balance of the year. And yes, everything at this point is on time, on budget and going smoothly.

[John Nobile:]

Okay. So, that should – I mean, that should go right into the top line, almost the entire $10 million, which you’re going to be ramping up still in the first quarter, so we should anticipate maybe at least a good portion of that to show up accretive to your 2019 numbers.

[Tom Tekiele:]

I think that’s fair to say, John.

[John Nobile:]

All right. And the lost volume, you had fire – well, the supplier had the fire, which affected your top line numbers due to lost volume. I was hoping you may be able to quantify that because you’re looking at replacing that in the second half of this year.

[Tom Tekiele:]

It’s approximately $2 million that was lost on the top line, yes, due to that fire at the supplier.

[John Nobile:]

Okay. That makes sense as to why because, typically, I think your second quarter is seasonally your best, and I was surprised to see that drop. But the $2 million should kind of smooth things out at least in this year.

[Tom Tekiele:]

That’s correct.

[John Nobile:]

Yes. At this point, our customers are saying they do intend to make it up with overtime and briefer shutdowns over holidays. Obviously, if they change their mind, if they elect to use it as an opportunity to adjust inventory, that would have an adverse effect. But what they’re telling us at the moment is we’ll make it up.

[Tom Tekiele:]

Okay. But basically, a shift of $2 million from Q2 into the second half of the year we can anticipate?

[John Weinhardt:]

Correct. That’s what we’re expecting at this time.

[Tom Tekiele:]

Correct.

[John Nobile:]

All right. And I just want to bring up. I don’t know if it’s even something to bring up about, the implementation cost of the ERP system. I know it’s impacted numbers to a lesser effect, I think, in the second quarter. But is this something that we’re going to see the implementation costs still going into Q3, Q4, or is it even to talk about?

[Tom Tekiele:]

Yes. You’re going to continue to see it, I think the level that you’re seeing it in Q3 – in Q2, sorry, is going to be kind of the new norm going forward. I would anticipate somewhere in that ballpark on a quarterly basis going forward until we’re fully live. Now it might tail off a little bit during 2019 as we get more and more of our facilities on the new system, and therefore, don’t have as many left to go. But I think for the foreseeable future, the number that we incurred in Q2 was going to be the number you’re going to see going forward.

[John Nobile:]

And what was that number?

[Tom Tekiele:]

About $140,000 in the Q2.

[John Nobile:]

Okay, all right. I just wanted to get that. All right. That’s all I have. Thank you very much.

[Tom Tekiele:]

Thanks, John.

[John Weinhardt:]

Thanks, John.

[Operator:]

Our next question comes from Matt Koranda of Roth Capital Partners. Your line is open.

[Matt Koranda:]

Hi, guys. Good morning.

[Tom Tekiele:]

Good morning, Matt.

[John Weinhardt:]

Good morning.

[Matt Koranda:]

So I may have missed it during the prepared remarks, but did you guys provide the split between auto revenue, HVAC and appliance and other?

[John Weinhardt:]

Yes. So, auto was 84.8%, Matt, industrial 10.6% and other 4.6%.

[Matt Koranda:]

Okay, great. Thanks for that. Just in terms of the margin – on the margin front. I mean, there were – obviously, the gross margins, I think, look strong despite the revenue headwind that you guys had to kind of bear during the quarter. Could you talk a little bit about sort of – I mean, it sounds like mix was still strong for you, but were there any sort of cost savings programs that you implemented that sort of drove some of that margin improvement? Just wanted to get a little color there. And then maybe if you could just talk about raw material inflation and if you’re seeing any in any space, that would be helpful.

[Tom Tekiele:]

Well, I think like we mentioned earlier, the molded products, obviously, have a little bit higher margins on them than our typical die cut-type products. And as we transition to a more molded product environment, that’s giving us a tailwind on our margin, Matt. Also, like I mentioned to Chris earlier, the fact that we spent some money in previous quarters to get some new equipment and things like that in some of our facilities and add the capabilities to run some of the new processes that we have in all of our facilities has helped us margin-wise as well.

[Matt Koranda:]

Great. And then on the tariff front, how much – could you provide us how much cross-border exposure you guys have? So I mean, roughly what amount of revenue are you shipping in from Canada or Mexico into the United States, ballpark?

[Tom Tekiele:]

Shipping into the United States, it’s not very much.

[John Weinhardt:]

It’s relatively low, Matt, as I think I mentioned, the direct impact on our exposure for parts or raw materials is fairly small. The big concern is the impact on the overall automotive market.

[Tom Tekiele:]

Well, if we do – in Mexico, for instance, we produce for customers that are located in Mexico. If there were a tariff on a vehicle that was built by an OEM in Mexico that’s coming back to the United States, obviously, that could have an impact on the ability of that OEM to sell that vehicle here in the States. But given the fact that we’re on pretty much every platform that’s produced in North America, you would think that, that demand would then shift to another vehicle that was produced in the U.S. And we would very likely have content on that vehicle.

[John Weinhardt:]

But the bigger issue is that all of those vehicles would start to cost more and the market would slow down.

[Matt Koranda:]

Right. Yes. It’s a volume issue more than a direct tariff exposure.

[John Weinhardt:]

Correct, correct.

[Matt Koranda:]

All right. I just wanted to make sure I was clear on that. And then in terms of the facility closures, looks like – I think you guys have called this out before, but you reiterated the $800,000 in savings – in annualized savings from the closure of those two facilities. Could you help us with sort of the split? I mean, is most of that savings on the gross margin line? Or is there some SG&A in there? How should we kind of be factoring that in?

[Tom Tekiele:]

There was both, Matt. I would say that it’s probably 65-35 margin versus SG&A.

[Matt Koranda:]

Got it. Okay, that’s helpful. And then the good news on the $750,000 in sale from that Arkansas facility or, I guess, something north of that. Any sense for what you can get from the Michigan facility? Just trying to get a sense ballpark for sort of what we could expect in the second half in terms of net debt reduction.

[Tom Tekiele:]

The Michigan facility was leased, Matt. We leased that from the former owner when we acquired Intasco. So the lease was actually up around the same time that we closed the facility, so there is going to be no sale of that plant.

[Matt Koranda:]

Okay, got it. It’s actually the proceeds from the Arkansas facility are what we’re deploying toward debt reduction?

[Tom Tekiele:]

Correct.

[Matt Koranda:]

Got it. Okay. I’ll leave it there guys. Thanks.

[Tom Tekiele:]

Okay.

[John Weinhardt:]

Thanks, Matt.

[Operator:]

Ladies and gentlemen, we have reached the end of our question-and-answer session. I would like to turn the call back to John Weinhardt for closing comments.

[John Weinhardt:]

Well, again, I thank you all for joining the call this morning. We’re content with our results in the second quarter. And as stated, as long as our customers come through and make their volume back up in the second half of the year as they’ve indicated they will, we expect this year to be consistent with everything we’ve been discussing. So we’re executing well in our operations. It’s just a question of the market. Thank you all for joining us.

[Operator:]

This concludes today’s conference. You may disconnect your lines at this time. Thank you for your participation.