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Methode Electronics Inc. (NYSE:MEI)

F4Q10 (Qtr End 05/01/2010) Earnings Call

July 1, 2010 11:00 AM ET

Executives

Don Duda – President and CEO

Doug Koman – Chief Financial Officer

Analysts

David Leiker – Robert W. Baird

Jeremy Hellman – Divine Capital Markets

Operator

Greetings. And welcome to the Methode Electronics Fiscal 2010 Fourth Quarter Earnings Presentation. 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.

This conference call does contain certain forward-looking statements, which reflect management’s expectations regarding future events and operating performance and speak only as of the date hereof. These forward-looking statements are subject to the Safe Harbor protection provided under the securities laws. Methode undertakes no duty to update any forward-looking statements to conform the statement to actual results or changes in Methode’s expectation on a quarterly basis or otherwise.

The forward-looking statements in this conference call involve a number of risks and uncertainties. The factors that could cause actual results to differ materially from our expectations are detailed in Methode’s filings with the Securities and Exchange Commission, such as our annual and quarterly report.

Such factors may include, without limitations, the following, dependence on a small number of large customers; dependence on the automotive, appliance, computer and communications industries and the consumer and industrial equipment markets; seasonal and cyclical nature of some of our businesses, including further downturns in the automotive industry; ability to compete effectively in our technology-based business and the markets in which we operate; customary risks related to conducting international operations; ability to keep pace with rapid technological changes; ability to avoid design or manufacturing defects; ability to protect our intellectual property or if we infringe or are alleged to infringe, on another person’s intellectual property; dependence on the availability and price of raw materials; affect of acquisition or divestiture of various business operations on our business, financial condition and operating results; significant fluctuation between the U.S. dollar and other currencies; unfavorable tax legislation; the future trading price of our common stock could be subject to wide price fluctuations; and risks of owning real property.

It is now my pleasure to introduce your host, Don Duda, President and Chief Executive Officer for Methode Electronics. Mr. Duda, you may begin.

Don Duda

Thank you, Claudia, and good morning, everyone. Thank you for joining us today for our fiscal 2010 fourth quarter and full year financial results conference call. I am joined today by Doug Koman, Chief Financial Officer, and Ron Tsoumas, Methode’s Controller. Both Doug and I have comments today and afterwards we will be pleased to take your questions.

Methode had many accomplishments in fiscal 2010. During the year, we returned to profitability, completing two major restructurings, which we believe have successfully repositioned our business for future growth and profitability. Also, we refocused all our business segments on solutions selling, completely redesigned Methode’s website and finished the year with a solid balance sheet.

Additionally, we concluded fiscal 2010 with strong financial results, while overcoming a number of obstacles. Fourth quarter net sales increased $6.7 million or 7.5% over the fourth quarter of fiscal 2009, in spite of the planned exit of legacy products and no sales to Delphi in the current quarter, compared to $7.9 million in sales to Delphi last year.

In addition to the quarter-over-quarter improvement, we also realized a sequential improvement in fourth quarter sales in each of our key segments. For the year, net sales decreased 12.3%, mainly due to the exit of legacy products and the loss of the Delphi business.

For the fourth quarter, excluding restructuring and impairment charges, Methode’s net income improved $21.1 million to $16.4 million or $0.45 per share, as compared to a net loss of $4.7 million or $0.10 per share in fiscal 2009.

Improved sales and lower overall manufacturing costs due to the company’s restructuring contributed a higher net income in the fourth quarter. This was accomplished even though we had higher selling and administrative expense due to the legal costs associated with the Delphi supply agreement and patent dispute of approximately $1.5 million.

Additionally, there were other items included in our fiscal 2010 numbers that benefited our fourth quarter results, which Doug will discuss in his financial summary. Fourth quarter and full year gross margins also improved year-over-year, in each of our key segments due to our significant restructuring efforts and new product initiatives.

Consolidated gross margins were 23.5% in the current fourth quarter compared to 8.1% in the prior year’s quarter and 21.4% in fiscal 2010 compared to 17% in fiscal 2009. For the year, excluding restructuring, impairment charges and one-time pricing contingencies, Methode’s net income improved to 17.8 million or $0.48 per share compared to net income of $6.3 million or $0.17 per share in fiscal 2009.

While I feel confident about our long-term ability to capitalize on our strategy and believe that the fourth quarter reflects the rebuilding of Methode’s revenue stream, we would like to caution everyone that despite the revenue gains we made in the fourth quarter, the first quarter of fiscal 2011 will likely look different than the fourth quarter for three main reasons.

First, our fiscal fourth quarter’s typically a strong quarter. Secondly, traditionally, our North American automotive customers reduce operations for a period of time in July for model changeovers, making July our slowest automotive production month of the year and the July results are included in our first quarter fiscal 2011 financials.

And lastly, the global economic recovery remains tenuous, especially in light of the current debt crisis in Europe, its effect on the Euro and possible impact on global economic growth. In fact, in Europe, new automotive registrations have declined sequentially for two consecutive months following the end of scrappage programs, which were incentives government paid to owners to trade in old cars to purchase new models.

Specifically regarding MyFord Touch, as previously announced, this business represents $12 million to $18 million in sales in fiscal 2011, ramping to approximately $40 million in fiscal 2013. Although Ford has said publicly that MyFord driver connect technology may be included on approximately 80% of Ford’s North American models by 2015, as of now, we have no more booked business than I just stated.

For our Interconnect and Power product segment, as economic conditions stabilize and provided no significant deterioration in general economic condition occurs, we expect modest sales growth during fiscal 2011 as compared to 2010.

Turning now to new business awarded, the increase in quote activity, which we reported last quarter, continued in the fourth quarter, with a number of new business awards. In our power product segments, we were awarded a power distribution subsystem for an international leader in the production of power wind products, a custom power distribution assembly for a major motor drive provider. In this instance, engineers from our customer toured our mobile showroom and learned of our power flex product line, which led to the development of a custom design flexible bus bar for this customer.

We also booked additional Power products for current customers, which exemplifies our strategy to remain strong in our core businesses and our multinational customer base. These opportunities and other wins in our power product segment in the fourth quarter totaled over $5 million in annual sales. All together, the segment was awarded over $12 million in new business during fiscal 2010, which will launch in fiscal 2012 and beyond.

This perhaps is a good point to remind everyone that it typically takes our business segments and customers between 18 and 24 months from the date of an award to launch new products and to realize sales.

Moving on, in our Interconnect segment, we booked additional business from Whirlpool for TouchSensor user interface controls on washer and dryer platform. This opportunity and other wins in our Interconnect segment in the fourth quarter totaled over $1.5 million in annual sales.

In total, the segment was awarded over $10 million in new business during fiscal 2010. In our automotive segment, Methode was awarded additional lead frame business for Automotive transmissions, along with a number of other new programs worldwide. These opportunities and other wins in our Automotive segment in the fourth quarter totaled over $15 million in annual sales. In total, this segment was awarded over $45 million in new business during fiscal 2010.

In summary, the strength of our balance sheet and our strong cash position will continue to support the execution of our business strategy. I believe that our portfolio of intellectual property, our operational excellence and diversifying revenue base have given us a solid foundation that will not only help Methode emerge from its recession as a stronger company, but I also believe better suited to meet the unique demands of our multinational customer base.

And with that, I would like to turn the call over to Doug for his financial comments.

Doug Koman

Thanks, Don. Good morning, everyone. As Don mentioned earlier, in our fourth quarter, we benefited from changes in various reserve estimates of about $3 million, just wanted to comment on that a little bit. These reserves include items such as bad debt, slow moving out and obsolete inventory, environmental reserves, product assurance, medical and workers’ compensation.

These reserves are reviewed and adjusted each quarter up and down and that’s based on changes in business levels, facts and circumstances and updated experience. We thought that it was important to point out that there was the benefit in this fourth quarter, because we didn’t want there to be any confusion with the fact that we are also talking about completing our restructuring in the fourth quarter, this benefit from these changes and the estimates have nothing to do with the results of completing the restructuring.

Of the $3 million, as we stated in the press release, we think that the majority of that is related to cost of goods sold. And then additionally, when we look at it, we believe that the $3 million is primarily related to our Interconnect and Automotive segments, probably on equal basis.

Let me now recap our reporting segments. In the Automotive segment, fourth quarter sales of $47.7 million is up 1.3% compared to $47.1 million last year. As we mentioned in the release, the stronger sales in Europe and Asia made up for the loss of the Delphi business and the exit of certain legacy products.

For the fiscal year, Automotive segment sales were $199.3 million and it’s down 18.2% compared to $243.6 million last year. The decrease is due to lower sales to Delphi, the planned lower sales of legacy product and the continued softening of the global economic environment.

Currency translation increased foreign sales by about $700,000 in the fourth quarter and about $1 million for the full year. In the fourth quarter, gross margins for the automotive segment were $9 million compared to $4.7 million last year. This improvement on relatively flat sales is primarily due to the efforts of our restructuring and consolidation efforts, with some benefit from the reserve adjustments.

For the fiscal year, gross margins for the automotive segment were $36.5 million compared to $40.1 million last year. As a percent of sales, however, gross margins increased to 18.3% compared to 16.5% last year. This improvement was due to the restructuring and consolidation efforts, but was offset by some manufacturing inefficiencies that we incurred during the extended OEM plant shutdowns in our first quarter of the fiscal year.

Pre-tax income for the Automotive segment in the quarter, it was $4.7 million compared to a loss of $37.8 million in last year’s quarter. Excluding the restructuring and the impairment charges, we would have had pre-tax income of $4.9 million in the current quarter compared to $1.6 million in the fourth quarter of last year.

For the full year, pre-tax income was $11.2 million in the auto segment income compared to a loss of $24 million last year. Excluding the restructuring and impairment charges and the one-time pricing contingency adjustment, Automotive would have had pre-tax income of $6.8 million this fiscal year compared to pre-tax income of $25.8 million last year.

Looking at the Interconnect segment, fourth quarter sales were $35.6 million, that’s up nearly 18% from $30.2 million last year. This increase is primarily due to the improved sales at TouchSensor and Hetronic business units.

For the fiscal year, the Interconnect segment had sales of $124.1 million compared to $131 million last year. It was a 5% decrease in net sales. The decline reflects the exit of certain legacy products and the general economic slowdown in the markets served by this segment.

While sales in 2010 were favorably impacted by 12 months of operations from Hetronic, compared to only seven months in fiscal 2009. The remaining business in this segment were down about 15% for the full year. Currency translation increased foreign sales by about $100,000 in the fourth quarter, but was about a push for the full year.

Gross margins in the fourth quarter for the Interconnect segment were $12.6 million, or about 35% of sales compared to 6.5 million or 22% of sales last year. This improvement is primarily due to restructuring and consolidation efforts previously undertaken with some benefit, again, for the reserve adjustments.

For the full year, gross margins for the interconnect segment were $35.6 million or 29% of sales compared to 31.5 million last year or 24% of sales. As with the quarter, the increase in gross margin as a percentage of sales primarily relates to the restructuring efforts.

In the quarter, pre-tax income in the Interconnect segment was $5.1 million compared to a loss of $32.1 million last year. Excluding restructuring and impairment charges, pre-tax would have been $5.2 million in the current quarter compared to a loss of about $400,000 in last year’s quarter.

For the full year, pre-tax income was $10.3 million compared to a loss of $60.7 million last year. Again, excluding the restructuring and impairment charges, pre-tax would have been $11.9 million this year compared to $1.7 million last year.

Moving to Power products, sales here were up about 3% in the quarter, with about $10.3 million this year compared to $10 million last year. For the fiscal year, sales were down about 5%, with $40.4 million this year compared to 42.7 million last year. The drop for the year was primarily due to less demand for flexible cabling and heat sink products.

Gross margins in the power products segment were $3.4 million in the fourth quarter compared to about breakeven last year. Last year’s fourth quarter was impacted by inefficiencies realized during the consolidation of facilities in Shanghai, including higher shipping and distribution costs. We also had inventory write-downs last year and unfavorable product mix.

For the fiscal year, gross margins were $10.5 million or 26% of sales compared to $5.5 million or 13% of sales last year. For the full year, the increase was primarily due to the restructuring and consolidation efforts. Pre-tax income in the power products segment was $1.1 million in the current quarter compared to a loss of $1.6 million last year. If you exclude the restructuring and impairment charges, pre-tax would have been $1.2 million this year compared to a loss of $1.1 million last year.

For the full year, pre-tax income was 3.4 [ph] compared to 5.7 last year, again, excluding the restructuring and impairment, we would have had $4 million this year compared to $200,000 last year.

Moving to the consolidated income statement, we look at selling and administrative expense. In the fourth quarter, selling and administrative was $15.3 million and that’s up from $14.6 million last year. As a percentage of sales, selling and administrative decreased to 16% compared to 16.4% last year. And that’s -- that was impacted by legal fees in the quarter of about $1.5 million related to the Delphi litigation. This was offset by lower intangible asset depreciation this quarter compared to last year’s quarter.

For the full year, selling and administrative was $64.7 million compared to $64.1 million. As a percentage of sales, it was 17.3% this year compared to 15% last year. Again, selling and administrative was higher due to the legal fees of about $5.8 million related to the Delphi litigation. We had a swing of $1.4 million on stock-based compensation. This was offset by the reduced intangible asset amortization and the benefit of the restructuring and consolidation initiatives.

Interest income net was flat in the fourth quarter compared to income of maybe $200,000 last year. For the fiscal year, interest net was an expense of $100,000 compared to income of $1.4 million last year. The reduction is primarily due to lower average cash balances this year compared to last year, because of the Hetronic acquisition. Also, we saw lower nominal interest rates this year versus last year.

Other income net, we had income of $0.5 million in the fourth quarter compared to an expense of $700,000 last year. For the full year, other net was income of a $0.5 million compared to an expense of, again, $0.5 million last year. It’s a swing of $1 million.

This increase for both the quarter and the full year is primarily related to gain from insurance policies related to an employee deferred compensation plan and gains on short-term investments this year versus losses on those investments in 2009. This was offset by losses due to the impact of the stronger U.S. dollar on the activities of our foreign operations.

The income tax provision for fiscal year 2010, we actually booked a benefit of $6 million compared to an expense of $1.7 million last year. The $6 million includes tax expense on foreign profits of about $0.5 million, booked income tax return expense adjustments of $2.9 million and other adjustments of 1.7. These were offset by a benefit of $3.2 million due to settlement of certain FIN 48 uncertain tax positions from prior years and since we had losses before income taxes at our business, U.S.-based businesses, we were able to record a tax carry-back benefit of $7.9 million in 2010.

Looking at the balance sheet, cash is up $9.8 million to $63.8 million compared to $54 million at last year’s year end. Compared to last quarter, cash is up $6.6 million in the quarter. Accounts receivable balance is $68.6 million. This is up from $60.4 million at the end of last year.

This is primarily due to the higher sales in the fourth quarter of fiscal 2010 compared to the fourth quarter of fiscal 2009, especially due to the launch of the transmission lead frame product in Shanghai. Inventory at $29.8 million is down from $37.2 million last year. The decrease is primarily due to much improved inventory management in 2010 and that last year’s inventory balance included additional inventory produced in advance of transferring certain production lines to our Monterrey, Mexico facility.

Other current assets are $22.4 million, down from $26.4 million last year. This primarily reflects changes in deferred tax items. Property, plant and equipment is $61.9 million. This is down from $69.9 million at the end of last year. The decrease primarily reflects our exit of certain legacy businesses, the termination of the Delphi production and lower capital spending.

This was offset by the effect of the strengthened U.S. dollar that the strengthened U.S. dollar had on our foreign denominated assets. Goodwill is up $300,000. This is due to a deferred purchase price payment on the Cableco acquisition. Intangible assets are down $1.7 million. This is primarily due to amortization. Other assets are at $33.4 million, that’s up from $25 million last year. This is primarily due to pre-production costs related to the Ford center stack program and the Continental Transmission lead frame program.

Accounts payable at 29.7 million was up from $24.5 million last year. As with the receivables, this is primarily due to the higher sales in the fourth quarter of this year compared to the fourth quarter of last year.

We saw no change in other current liabilities. Other non-current liabilities are $12.1 million, that’s down from $16.9 million last year. This is primarily due to adjustments of deferred tax items and also deferred compensation payments related to the TouchSensor acquisition.

On the cash flow statement, the increase in cash and cash equivalents was $9.8 million for the year. Cash provided by operating activities was $27.4 million. This is about $15.8 million less than was provided in fiscal 2009. This is due to the decrease in business levels, unfavorable changes in working capital, including the cash payments related to the restructuring initiatives and the negative effect of currency exchange rates during the year.

Cash used in investing activities was $7.8 million, compared to $76.1 million last year. Last year’s use of cash included the Hetronic acquisition and higher capital spending. This year’s activity benefited from proceeds of about $2.4 million received on life insurance policies related to the deferred compensation plan.

Cash used in financing activities is $10.3 million this year, compared to $15.1 million last year. This primarily represents the dividend payment and also last year’s spending included $5.3 million for the repurchase of approximately 670,000 shares of common stock.

Don, that concludes my remarks.

Don Duda

Thank you, Doug. Claudia, we are ready to take questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) Our first question is coming from David Leiker with Robert W. Baird. Please state your question.

David Leiker – Robert W. Baird

Hi. Good morning, all.

Doug Koman

Good morning, David.

David Leiker – Robert W. Baird

Doug, it’s nice to be on the other side of the curve here, isn’t it?

Doug Koman

Yeah. It is.

David Leiker – Robert W. Baird

Can you quantify for us or directionally give us some ballpark idea of the revenue impact of Delphi being gone and the runoff the balance of the legacy business here?

Doug Koman

Yeah. Just a moment, yeah.

Don Duda

Yeah. We, I think we’ve got those…

Doug Koman

Yeah. Delphi accounted for about $14 million in fiscal 2010 and legacy auto of almost about the same 13.8.

David Leiker – Robert W. Baird

Okay. Do you happen to have a Q4 number there?

Don Duda

On the…

Doug Koman

In my prepared remarks we had 7.4.

Don Duda

Yeah.

David Leiker – Robert W. Baird

Oh! I missed that.

Don Duda

Yeah. I think we mentioned it was I think 7.4, 7.9.

Doug Koman

7.9.

Don Duda

Yeah.

David Leiker – Robert W. Baird

Okay. And then the legacy was that 8 in Q4?

Don Duda

I don’t think we quantified it last year because it’s just difficult to really measure that against last year but there was definitely, there was no Ford business, there was no Chrysler business.

Doug Koman

Yeah. That’s right.

David Leiker – Robert W. Baird

Right.

Doug Koman

6 to 8 probably using a -- that’s probably a ballpark number.

David Leiker – Robert W. Baird

Okay. And on the runoff, the legacy business that’s behind, I think in your release, it’s behind you now, right?

Doug Koman

Yeah, yeah.

David Leiker – Robert W. Baird

And we still have just a few more months here we have to deal with the Delphi on a comparison basis?

Don Duda

Right. That’s up in September.

Doug Koman

Yeah.

David Leiker – Robert W. Baird

Right. Okay. And then just kind of update in terms of the legal and if you have any sense on timing, where that stands, spending on that going forward here, if there’s anything to say there?

Doug Koman

Other than it’s hard to predict what the legal costs are going to be.

David Leiker – Robert W. Baird

Yeah.

Doug Koman

I guess for comparison purposes or budgeting purposes, we -- I believe we’ve said about the same.

David Leiker – Robert W. Baird

Right.

Don Duda

But that could be considerably less or more depending on how things go here.

David Leiker – Robert W. Baird

Okay. Are there any things that even -- is there any source of timing in terms of the core process, any change in the next three months or something?

Don Duda

No. There’s no trial date set that I know of. We’re still going through motions and probably have trial dates known probably in the fall, not trials in the fall, but the dates by fall and September.

David Leiker – Robert W. Baird

Okay. On the new business (inaudible) thanks for presenting and I think it’s a great help for us. It doesn’t look like the MyFord Touch numbers are in there or…

Don Duda

No. That -- they are, but I should say half of them are, because the first half of MyFord Touch was booked in 2009. I believe that’s the case. So when I say 45 million, you would say about…

Doug Koman

It was booked during the year.

Don Duda

Yeah. I have that here actually. MyFord Touch during the year was about $23 million.

David Leiker – Robert W. Baird

And you’re putting that in automotive?

Don Duda

Yeah. Yeah.

David Leiker – Robert W. Baird

And from a -- have you moved that from Interconnect into Automotive, TouchSensor?

Don Duda

No, no. The TouchSensor number I gave you was not automotive.

David Leiker – Robert W. Baird

So from a modeling perspective and how that shows up in your segment reporting, is that going to show up in Interconnect with TouchSensor or are you going to split that?

Don Duda

No. It’s an auto program. It will go -- it’s using the TouchSensor technology, but it’s an auto program.

David Leiker – Robert W. Baird

Okay. Thanks. That makes that clearer for me.

Don Duda

Yeah.

David Leiker – Robert W. Baird

If I do my math and put that all together, what do you think that the timing of that, I know it’s over several years? But if we took, pull a number out of the air, let’s say $50 million in 2011, is that more than half of that’s skewed to the back-end of the year, I mean, just -- not the 50, but I mean, just in aggregate, is that how we should look at that?

Doug Koman

We’ve said in for 2011 that it’s a 12 to $18 million number.

David Leiker – Robert W. Baird

Yeah. I’m talking about all of the new business award number in aggregate?

Doug Koman

Well, the…

David Leiker – Robert W. Baird

I just want to have a sense of how that might fall percent-wise over the course, I know you don’t want to talk about dollars, but percent-wise over, it’s not a fourth, a fourth, a fourth in each of the quarters, I would imagine?

Doug Koman

No. But the 45 million of new automotive business that I talked about has no impact on 2011, it can’t. I mean, it’s just been awarded it. So you go out 12 to 18 months, oh no, you’ve got to go longer than that or not, you’ve got to go 18 to 24 months out on that. What’s launching now is the first Ford award of, I don’t have the programs in front of me, but that’s what contributing to 12 to 18 months. Well, we’ve announced probably a couple quarters ago, we’ll launch in 2013.

David Leiker – Robert W. Baird

Yeah. I guess, I mispoke it, if we take all of your new business that you have launching in 2011, how would you say that falls percentage-wise between the quarters? I’m not talking specifically about MyFord Touch or Interconnect. But when you look at what’s your new business programs are for you fiscal 2011? Is it back-end loaded for the year or evenly spread?

Don Duda

You do have to talk about MyFord Touch on that, because I didn’t say...

David Leiker – Robert W. Baird

I understand.

Don Duda

… back-end loaded. The others I would say are fairly normal launches and you would look at the normal auto cycle where, our fourth quarter is usually a very strong quarter in auto. Our first quarter generally is one of the softest. That’s one of the reasons we cautioned in our prepared remarks that you really can’t run rate the fourth quarter because you’ve got the July changeover…

David Leiker – Robert W. Baird

Right.

Don Duda

… in there and then the fall, again, because auto -- normally we have good auto sales, the second quarter is strong, the third quarter tends to be a little weaker because of the holidays and then, again, you’re back to the fourth quarter. So the launches will follow that with the exception of Ford, which is probably more back-end loaded.

David Leiker – Robert W. Baird

Okay. And then I have one last one here, as we look at your TouchSensor applications in appliance and automotive, is there -- are there any changes going on there in terms of relative competitiveness of your offering versus capacitance or other functions and ways to do that, just from a technology landscape, if there are any shifts in that landscape?

Don Duda

I don’t -- I won’t say that there’s been shifts. TouchSensor tends to be more economical in the lower count switch points. So if you’re a dozen points or less, touch sensor is more economical. As you get above that capacitance probably becomes on par. Technically, TouchSensor or field effect is faster. So you get a much quicker response.

The volume and fan slider, you could call it artificial slider on MyFord Touch would be difficult to do in capacitance, it wouldn’t track as cleanly. And this really depends on the performance an individual designer wants. Certainly the TouchSensor product is the most deployed appliance for well over five years.

David Leiker – Robert W. Baird

And is there any indication from Ford with what they are doing with MyFord Touch and MyLincoln Touch in terms of where they are in their thought process of how they’re going to implement that the interface in the center console in these other programs and what technologies they may or may not use?

Don Duda

Really not that I can say. Perhaps the best way of answering that is, MyFord connect technology is a -- lack of a better descriptor, a network in the vehicle that allows a driver to plug in various devices. The interface to the vehicle can be with touch screen, it can be touch screen with discrete conventional switches, membrane -- not membrane but conventional (inaudible) switches or micro switches, or it can with be a TouchSensor. It really is up to the designer what they want to use and how they want to offer the various options across their vehicle line. So they have choices.

David Leiker – Robert W. Baird

And do you have any indication that you can share, other likelihood of them using multiple approaches which one might be more dominant or anything along those lines?

Don Duda

I don’t -- no, I would be speculating -- I would imagine, they, like any car company, they want to have multiple sources, so it wouldn’t surprise me if they employed capacitance in some vehicles. It also wouldn’t surprise me if they used conventional switches. And the vehicles haven’t been in the showrooms as of yet. They’ve been at shows and gotten a lot of good press, but I think a lot depends on how they are received by the consumer.

David Leiker – Robert W. Baird

Okay.

Don Duda

The best thing that can happen is the consumer just loves the slider controls and their responsiveness of the touch points because it’s good for of Methode.

David Leiker – Robert W. Baird

Okay. I have some others ones, but I’ll get back in the queue. Thanks.

Don Duda

All right. Thank you.

Operator

Our next question is coming from the line of Jeremy Hellman with Divine Capital Markets. Please state your question.

Jeremy Hellman – Divine Capital Markets

Hi. Good morning, everybody.

Don Duda

Good morning, Jeremy.

Jeremy Hellman – Divine Capital Markets

Okay. So just following up on David’s questions around auto, I just want to make sure I’m following some things correctly now. I think I’ve got that turned around. For fiscal ‘10 automotive revenues were $203 million. Then if I back out the Delphi and legacy runoff businesses, it’s around $28 in aggregate. Just as I formulate my fiscal ‘11 versus fiscal ‘10 look on things, your base is then, call it $175 million for 2010, I’m correct at that point, correct? Am I, understanding that properly?

Doug Koman

We’re following your math.

Don Duda

Yeah.

Jeremy Hellman – Divine Capital Markets

Okay. And then in the K, you talk about expecting fiscal ‘11 sales to be down versus ‘10, obviously that is off the 203 level on a like-for-like basis, we’re still expecting growth, am I correct, off the 175 base?

Doug Koman

No. I…

Don Duda

Is that…

Doug Koman

We’re expecting that year-over-year our automotive sales are down.

Jeremy Hellman – Divine Capital Markets

Right.

Doug Koman

And in part because of legacy and Delphi but the – it’s an excellent question you asked because last year, around the world included government incentives.

Jeremy Hellman – Divine Capital Markets

Right.

Doug Koman

You got scrappage programs in Europe that we’re seeing a decline in automotive sales in Europe. It was most notably in Germany, but it was elsewhere because those scrappage programs had come to an end and you had Cash for Clunkers here in the U.S.

So I don’t know how you factor that in but it’s certainly a factor and there was just an article in automotive news that says light vehicle sales may stall and I don’t -- at least the preliminary talk on the news today was that the second half of in auto may not be as good as predicted, I don’t have the numbers yet, though.

Jeremy Hellman – Divine Capital Markets

Right. You know, the way I look at it, on a bigger picture level is you’ve got the issues you just cited on the downside and on the upside, you’ve got the new business coming in, MyFord Touch is going to be, something for the positive side of revenues this year.

But, at the end of the day, what I was trying to get to if I sub out the Delphi and legacy stuff and back up to the $175 million number whether the 2011 figure is going to be north or south of that ultimately, if you want it -- if you felt like being simple or pinned down. Any inclination to answer that?

Don Duda

I guess all things being equal you might see some modest growth, but…

Jeremy Hellman – Divine Capital Markets

Certainly there’s a lot that happens between now and this time next year.

Doug Koman

Right. I mean, our comments in the K and the release in our prepared remarks, is don’t run rate the fourth quarter.

Jeremy Hellman – Divine Capital Markets

Yeah. Right. Obviously. Okay. So switching up a little bit before we beat that dead horse too much, looking to gross margins then, if I take out the reserve adjustments, which were I think add about 3% to gross margin, that backs up to about 20.5 or so percent. Do you anticipate being able to hold that margin level, you cited restructuring efforts, new products or is that going to be at risk of getting dragged down if sales soften and one would think that might be the case?

Doug Koman

Well, I think we’ve said all things being equal, 20% is a good number. Obviously if sales go down too far, your planned efficiencies and overhead coverage will weigh down and that has an effect on everything and everyone. But all things being equal, that’s a good number.

Jeremy Hellman – Divine Capital Markets

Okay. One probably more simple question then, tax rate for fiscal ‘11, what’s a comfortable number to use, I mean, I go back to the 2006, ‘07 and ‘08 period, and when you’re reporting that tax provision, in the positive column that range from in the 40s down, last couple of years it’s been a tax benefit, what’s reasonable for 2011?

Doug Koman

Yeah, Jeremy, that’s kind of an interesting question, because over the last two years, you’ve seen, we had losses last year, but we had tax expense and this year we’ve got income and now we’ve got, we started tax benefit.

Yeah, I think looking at next year, we’re probably as provision, probably a single-digit tax rate and that’s going to be primarily because of the amount of foreign operations that we have will continue to pay taxes there. To the extent that we generate any U.S. income, we’re going to be able to carry those losses forward and we’ve set up valuation reserves on that income for book purposes. So I would think that for the near-term, the tax rate should be again single digits.

Jeremy Hellman – Divine Capital Markets

Okay. And then one last one for me, just more general getting away from the model for once. You know, if we back up and think about what is often written in the papers in terms of access to credit, big companies that have international operations or typically seeing a lot better access to credit than smaller businesses seems to be a common thread. Given that, as you think about M&A, are you seeing potential targets out there that are becoming a little more price receptive, I guess, I should say because of their access to credit, if they are small, isn’t what they would hope it to be?

Doug Koman

I would say we’re anticipating we’re going to see some of that. We haven’t looked at any, at least recently, any target, but particularly in Europe, we’re anticipating we’re going to see some of those type smaller companies that really have – they’ve a good business. They just can’t fund it. I mean, that may very well be in the auto sector, but it could be in other areas as well.

So we expected to see it about a year ago and I think maybe just a year off in our thinking. As businesses ramp and have used up all of your -- as you ramp down, you generate cash, you use up that cash to sustain your business, now you ramp back up, if you can’t get lending, then you start to look at maybe being acquired by a company that has the cash to sell. No target inside right now, but we do anticipate we’re going to see some of that.

Jeremy Hellman – Divine Capital Markets

Okay. Very good. Thanks.

Operator

(Operator Instructions) We do have a follow-up question coming from David Leiker with R.W. Baird. Please state your question.

David Leiker – R.W. Baird

Just a couple of numbers questions and one bigger picture item. Doug, where do you expect depreciation capital spending to be in 2011?

Doug Koman

Yeah. I think we’re probably a little bit north of $15 million on depreciation, amortization is going to be 2.3, $2.4 million, and then capital spending, again, it probably depends on some of the opportunities that we see. But, we’re probably somewhere between, 10 to 15. It’s kind of a broad range but I think it just depends on what opportunities are in front of us.

Don Duda

Yeah. And we’re not having to pay for as much tooling because of the change in our product focus. So, well, 10 to 15 is probably a good number. Certainly not going to approach what we’ve done in other years.

David Leiker – R.W. Baird

Okay. Great. And then, yeah, I think in terms of the wording in the release, your restructuring action and the cost involved that, those are behind you now, correct?

Don Duda

Right. Yeah. We’ve got there’s probably $0.5 million on the balance sheet and so as that gets paid out, that does (inaudible) in the P&L, that’s just going to be in balance sheet. Otherwise, we’re done with the restructuring. So anything, any tweaking that we do as far as that, it’s not going to be part of those previously announced restructurings.

David Leiker – R.W. Baird

How much savings are there that’s not in the P&L as we see it today or are we at a full run rate on the savings?

Doug Koman

Well, it’s always hard to answer. You restructure the businesses for a lower revenue number, a midpoint maybe below midpoint of what you expect in the next three to five years of revenue. And done right, and I think we’re seeing some of the results of that, as you book business above that, that break-even line, if you will, you see a better throw to your bottom line than your standard margin.

So I mean, we’ll see that hopefully in our businesses, as revenues ramp and we saw a little bit of that in 2010, a little bit power, a little bit in multi. So if we’ve seen the benefit, it’s hard to quantify what it will be going forward, but it -- assuming the labor mix is correct, you’re not purchasing 80% content, it’s something around 50% or 40%, you should see a good throw to the bottom line.

David Leiker – R.W. Baird

Are there any costs that came out here in the downturn, temporary that we should look to come back in or is that not a factor at this point?

Doug Koman

No. I don’t think it’s a factor. The only comment I would make is component costs could be a factor. We’re seeing those component shortages. I think every company is seeing that. So could that drive raw material up higher? It would happen for everybody but that’s a possibility.

David Leiker – R.W. Baird

Okay. And then the last item here, you look at your -- you use the phrase in your release about your technology toolbox and you look at the different businesses that you have there. Is there any kind of update you can give us in terms of where you are with some of those technologies and whether any are closer to generating ramp up in revenue like we’re seeing out of TouchSensor now?

Doug Koman

That’s a good question. We’ve had very positive test results, test track results on the MDI sensor performing in the vehicle, being compared to standard shift topology. Definitely shows an improvement. We’ve ridden in the vehicle as has customers, executives and so on. So that’s very positive. I guess, I would also say that a transmission program is a long launch from the point you get an award we have but…

David Leiker – R.W. Baird

Right.

Doug Koman

We’re not there yet, but I think that’s very positive. The MDI folks are just at a transmission symposium and again, technology, to actually give a paper, it was along with the customer, was also well received. So I think we’re moving in that business from design and development to looking for programs to book at some point here. So the technology has been refined. I find that very positive, again no -- nothing to -- no effect on this year or even next year, but moving in the right direction. We announced during the quarter investment in etrex [ph] and some license arrangements there.

David Leiker – R.W. Baird

Right.

Doug Koman

Being good, excuse me, it was a good combination of our auto pedigree and their engineering abilities and technologies that’s been I think well received by auto makers and others that need inverter technology, nothing in the pocket out there yet in our fourth quarter.

So I would say things are moving along. TouchSensor is coming out with a line of, I call it semi-standard products that can be utilized by various product designers. That’s trying to get them not just in the appliance business. I think they did a great job helping our auto guys get TouchSensor on to a vehicle, but I like to see them diversify into other markets and they’ve got some standard products coming out to do that.

Hetronic has come out with a PLC, which if you think about their remotes, there has to be a controller some point in the system. The big OEMs do that themselves, but Hetronic has developed the PLC portion of it and the software that goes along with it and that’s starting to get some traction.

They are thrust into the locomotive remote control markets albeit a slow ramp. They’re getting good reception there. So across the board, the toolbox is doing what it’s intended to do. Gets us into customers, helps differentiate them and it does book business.

David Leiker – R.W. Baird

Okay, Doug. You know, couple years ago you talked about some of these businesses. I don’t remember the number. I was thinking it was, like $100 million or so in revenue for them. Is that still a target for some of these businesses out three, four, five years?

Doug Koman

Yeah. So that’s a fair -- when I look at, these are very smaller businesses, they should be able to get to 50 and some of the TouchSensor and Hetronic are getting to longer, yeah.

David Leiker – R.W. Baird

Well, TouchSensor is pretty much at a 100…

Doug Koman

If you add MyFord Touch in there, yeah, absolutely.

David Leiker – R.W. Baird

Yeah. Okay. Great. Thank you.

Doug Koman

All right. Thank you.

Operator

There are no further questions at this time. I’d now like to turn the floor back over to Don Duda for closing comments.

Don Duda

Thank you, Claudia. I think with that, we’ll thank everyone for listening and wish everyone a safe and enjoyable holiday weekend.

Operator

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. And we thank you for your participation.

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Source: Methode Electronics Inc. F4Q10 (Qtr End 05/01/2010) Earnings Call Transcript
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