KEMET Corp. F1Q11 (Qtr End 06/30/11) Earnings Call Transcript

Jul.28.10 | About: Kemet Corporation (KEM)

KEMET Corp. (NYSE:KEM)

F1Q11 (Qtr End 06/30/11) Earnings Call Transcript

July 28, 2010 09:00 am ET

Executives

Dean Dimke - Director, Corporate and Marketing Communications

Per Loof - CEO & Director

Bill Lowe - EVP & CFO

Analysts

Ana Goshko - Bank of America

Omar Samalot - Independent Analysts

Tony Venturino - Federated Investors

Operator

Good morning, my name is Darla and I’ll be your conference operator today. At this time I would like to welcome everyone to KEMET announces first quarter earnings call. All lines have been placed on mute to prevent any background noise. After the speakers remark, they will be a question-and-answer session. (Operator Instructions). I would now like to turn the call over to Dean Dimke. Please go ahead, sir.

Dean Dimke

Thank you Darla. This is Dean Dimke, Director of Corporate and Investor Communications. Good morning and welcome to KEMET’s conference call to discuss our first quarter financial results ending June 30th for fiscal year 2011.

On the call with me today is Per Loof, our Chief Executive Officer and Bill Lowe our Executive Vice President and CFO. As a reminder to you, a presentation is available on our website, that should help you follow along with the financial portion of our presentation this morning. Please go to kemet.com and click on the Investor Relations tab in the top right portion of our front page. Once there, please click on the first quarter conference call link. That will bring up a few slides that we will call to your attention when we are covering those topics.

Before we began, we would like to advise you that all statements that address expectations or projections about the future are forward-looking statements. Some of these statements include words such as expects, anticipates, plans, intends, projects and indicates. Although they reflect our current expectations, these statements are not guarantees of future performances, but involve a number of risks, uncertainties and assumptions. Please refer to our 10-K and 10-Qs for additional information on risks and uncertainties. And now I will turn the call over to Per.

Per Loof

Thank you, Dean and good morning everyone. Our first quarter ended June 30 was an extremely strong quarter, giving us a tremendous start to the new fiscal year. We saw revenue return to pre-recession levels and gross margins increase significantly. Net sales were up 14.5% over the prior quarter ended March 31 2010 and 62.3% over the same quarter last fiscal year.

We are pleased to say that our consolidated gross margins was 25% reaching an historical level. This compares to 20.2% for the prior quarter, adjusted EBITDA was $45.2 million compared to approximately $25 million in the last quarter.

This successful numbers are the result of our continuing effort to improve operating efficiencies, maintain cost controls, re-establish a strong balance sheet and our ability to meet the strong demand from our customers. Right upfront in today’s call, I’d like to thank all of our employees, our customers, our investors.

Your support over the last couple of years have allowed us not only to weather the worldwide recession, but to come out much stronger. There are still possible headwinds to fight while we wait for the overall economic recovery to be more widespread, but we are positioned very well indeed in terms of financial strength, product demand and technology.

We were pleased to have our stock listed on the New York Stock Amex Exchange this quarter and have also been pleased with the reception from the investment community. This has opened up our stock to much greater coverage and has made it easier for institutions as well as private investors to learn more about our company and invest in our future.

In April, we launched our new bond offering and it was finalized and funded on May the 5th. We now have in place, the new 10.5% senior notes and the principal amount $230 million, which will mature on May 1, 2018.

The structure of this new indebtedness is such there are interim principal payments. The entire $230 million balance is due at maturity. During the term of this loan, we will be making semi-annual interest payments beginning in November 2010. The proceeds from these bonds have been used to prepay all of the debt previously owned to Platinum Equity, about $57.8 million, UniCredit Corporate Banking, $104.7 million and Vishay Intertechnology, $15 million. In addition, in conjunction with the tender offer which was announced at the time we launched our new bond offering, we used the portion of the proceeds to purchase approximately half our remaining convertible senior notes.

We accepted $40.5 million in principal amount of these outstanding notes at a small discount to par. The new senior notes represent a major milestone in KEMET’s financial evolution. We continue to meet or actually exceed our timing from moving equipment related to the reorganization of our F&E business. We spent an additional $1.7 million in relocation and integration costs this quarter. Our expectation for the next quarter would be to see an acceleration of actions to lower overhead in this business as part of our plan. Increased volumes helped the F&E business unit to contribute positive EBITDA and operating income results this quarter.

We’re extremely pleased with the progress we are seeing and I will speak more into the dynamics of this business later in the call. During the quarter, we continue to see strong demand in each of our segments and geographies. While I will speak to how we see the next six months developing, at the end of our remarks, I will say that we are in general agreement with what you might hearing on other calls.

Indications are that demand will continue at a good pace through the end of the calendar year. However I think we all continue to believe that there could be a slight softening before we see a return to continued growth as we wait for the overall economy to strengthen and unemployment rates to decline. With that, I will turn over to Bill Lowe to review in detail our first quarter financials. Bill?

Bill Lowe

Thanks Per and good morning everyone. I will begin my review on slide 3 if you are following along on the website slides. Income statement highlights. Net sales for the quarter were $243.8 million compared to $ 213 million for the fourth quarter of fiscal 2010 which is up 14.5%. Gross margin at 25% was up from 20.2% in the prior quarter.

Gross margin was up in all three business groups, with a significant improvement in the F&E group for the quarter. Increased volume and some pricing dynamics were the top drivers for the improvement. While there are some benefits from restructuring actions taken a few months ago, the majority of the benefits and the work to relocate equipment is still ahead of us, which is good news since it will continue to bring improvement to our financial results.

SG&A was $24.2 million, down $700,000 over the prior quarter. The total amount of SG&A for the quarter is slightly higher than my statement on the last call that we would expect it to be around $23 million each quarter. The increase is essentially driven by the higher revenue generating more incentives and sales commissions.

I don’t think we’re too unhappy about that impact. On a GAAP basis, which includes restructuring charges, debt amortization and the non-cash loss of $38.2 million from early extinguishment of debt, generated from our refinancing of debt this quarter which I did advise you on our last call, it would be an impact this quarter.

Our net loss was $20.1 million or $0.25 per share.

However turning to slide five, we posted a non GAAP adjusted net income of $22.3 million or $0.28 per basic share or $0.15 per diluted share for the quarter compared to an adjusted net income of $8.8 million or $0.11 per basic share or $0.06 per diluted share for the prior fiscal quarter ended March 31 2010. We’re extremely pleased with these results which have culminated after many hard months of work by the entire team at KEMET.

Turning down to slide six. EBITDA for the quarter was $45.2 million. Now I have used this slide to make several points in the past calls and I am going to do it again today. Our revenue this quarter exceeded our revenue in the quarter ended September 2008, essentially pre-recession. EBITDA that quarter was $12.5 million, so only a slight more revenue of $9 million, EBITDA was up $32.7 million.

Our operating margin that quarter was 11.9% on the $235 million of revenue. As I said earlier operating margin this quarter was 25%. We remain focused on cost containment inventory management and yield efficiencies to sustain margins at or near our timeless model of 25%. A reconciliation of our EBITDA to net income can be found on slides 8 and slide 9.

Turning to the balance sheet highlights on slide number 7. Our unrestricted cash decreased to $66 million, down $13.2 million from $79.2 million. Cash generated from operations on the cashflow statements for the quarter was $3.9 million. However CapEx, yearend commissions and incentives as well as cash costs associated with refinancing which were $10.1 million impacted our cash balance.

We do expect to continue to build our cash balance going forward even as we’ve decided to increase our CapEx spend to approximately $30 million for the year. To allay any concerns that we are not generating enough cash, I can tell you that our cash balance as of this last Friday was $81 million, up from our June balance by $15 million in only 23 days.

Working capital was up from the last quarter to $240 million versus $213.5 million primarily as a result of a higher balance of accounts receivables from higher sales and lower accounts payable balances. Inventories remained generally flat which means we continue to increase our inventory turns and efficiencies. Our DSO receivables declined once again to 54 days and we believe it will continue to hover in the 54 to 60 day range going forward. Now I’ll turn the call back over to Per.

Per Loof

Thank you, Bill. Starting with our Film and Electrolytics business, we saw continued increase and demand across all regions in the first quarter driven primarily by AC and DC film as well as machinery business. Revenue increased in the first quarter by approximately $10 million or 15% over the last quarter to approximately $76 million.

The new order rate continued to increase in the first quarter as the book-to-bill ratio improved to 1.65. We continue to fully load our low cost, mainly Asian manufacturing locations and utilized temporary headcount reductions in high-cost regions in Europe to leverage costs in line with the demand for those locations.

Margins improved in Q1, driven by fixed cost solutions with increased volume as well as our continued focus on mix optimization and overall cost reduction. So when customers requested delivery under their contracts ahead of our original expectations, which did drive revenues higher compared to the prior quarter, contributing approximately $4 million of the revenue increase.

Inventory turns improved to 6.5 with continued focus to maximize working capital. As I said earlier, the relocation of equipment continues and other overhead reductions remain on schedule. You should expect an additional accrual during the current quarter which ends in September of about $3 million to $4 million for these actions.

Most of these benefits from our actions are still to come, but we on schedule to achieve the returns, we have provided you in previous calls.

In our Ceramic business, the first quarter revenue improved by 5.8% over the previous quarter to about $54.3 million. Gross margin remained more or less constant in Q1 as a result of fixed cost solution with incremental revenue and continued focus on product mix optimization and manufacturing cost initiatives.

Operating income improved to $11 million or 20% of revenue, inventory turns increased from 5 to 5.6 as a result of continued effort to maximize working capital. Book-to-bill ratio for Q1 improved from 1.2 to 1.24 as bookings remained strong across all regions and segments.

Turning to our Tantalum business group, we saw another quarter with revenue improvement. First quarter ended at $113.6 million, this increase is due to a combination of product mix and volume between polymer and MnO2 products.

All three regions and sectors remained strong bolstered by the automotive, industrial wireless and computer segments. Inventories in our distributor channels globally show that trends are remaining the same which does represent continued market strategy.

The book-to-bill ratio remained unchanged throughout the quarter ending at 1.5.

Now let’s look at sales on a regional basis starting with Asia-Pacific. Sales revenue for the first quarter of fiscal year 2011 in Asia was $100.6 million, an increase of 26% compared to $80.1 million for the fourth quarter of fiscal year 2010. The book-to-bill ratio closed at 1.8 for the first quarter.

KEMET’s market share in Asia continues to grow and continued strong in the first quarter and market demand is strong, especially MnO2 and polymer Tantalum products well as well as film and electrolytic capacitors. Orders continue to be strong as a result of positive local market sentiment and demand which is lead by the recovery of export markets and of course the demand from 3G, telecom, notebook and green energy segments. However, China's local mobile phone and automotive market segments having been slowing down slightly since May, probably due to a slight change in Chinese government policy.

However we expect these segments to ramp up again in the coming quarter. Orders from the EMS segments continued to improve with strong market demand for all our products and across all segments. Inventory levels of our distributors are still low with the current market sentiment.

We foresee that market momentum will maintain in Q3 of calendar 2010. As the global market continues its rebound, this will continue to lead to extended lead times. And revenue we also believe will continue to grow in Asia. Our European business levels remain buoyant in Q1 fiscal 2010, fiscal 2011, across all business groups and market segments.

Revenue in the quarter grew by almost 6% compared to the previous quarters and would have been even better, except for the euro’s performance versus the US dollar. Demand from the market continues to be strong. So far we have no evidence of any significant inventory builds of customers or our distributors where inventory levels and terms are monitored and have no concerns, at this time.

During Q2, we do not expect any significant changes in the market. Although the traditional vacation periods, will as every year have some effect on the European market place. The Americas market recovery continue to accelerate in Q1 driven by strong end demand from the telecom, industrial and automotive segments. Lead times for MnO2 products, polymer products and high CV ceramic products continue to be extended as demand is currently greater than supply.

Revenue in Q1 increased 11% versus Q4 and bookings was strong throughout the quarter, as we ended Q1 with a book-to-bill ratio of 1.53. Backlog continued to grow during the quarter and inventory levels remained low throughout the supply chain. We enter the second quarter with a healthy backlog and a current book-to-bill ratio of 1.55. We expect demand to remain strong, lead times for many products to remain extended and average selling prices to increase.

In conclusion, we cannot be more pleased with the trend we’re seeing in our financial results. And I would like to recognized the effort that the KEMET team across the globe has made to drive these results. As you know, we generally do not provide forecasts, but my final remarks will relate to the next couple of quarters.

We’ve explained to you in the past that we have some, but not significant seasonality in our business quarter-to-quarter, that’s true. However we do have a large presence in Europe and the summer holidays do have an impact on our revenues. We along with our customers will close some plants for a week or two during this period.

I estimate that we could see a decline of approximately 3% to 4 % and margins maybe impacted as result of this, particularly in our F&E business unit. However looking beyond August, our backlog remain strong and we have no reason to believe today that sales will not return to levels we’ve seen this quarter. And this concludes our prepared comments and we will be happy to respond to any of your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from line of Ana Goshko with Bank of America.

Ana Goshko - Bank of America

First of all, just Per, on your last comment about the potential for a 3% to 4% decline in the next quarter, really based on seasonality in Europe, is that 3% to 4% decline for your total consolidated revenue, is that what you are referring to?

Per Loof

Yes, that’s what I am referring to, the total revenue.

Ana Goshko - Bank of America

And if you could just remind us, and I know this is a difficult question because I have asked in the past because you have a lot of regions and a lot of product segments, but generally how do you see seasonality typically for the next two calendar quarters, calendar third and fourth quarter of the year?

Per Loof

Typically, the Q2 of the September quarter have a slight decline of revenue due to the seasonality and it’s primarily driven by and our European business hover between 35% and 40% on quarters. It is producing in significant levels. Most customers as well us by the way, will close plants for a couple of weeks. So that production is taken out of the system, for that period.

So, the seasonality, so that’s really driving the seasonality. We do not see that happening in Asia and we really don’t see a lot of that in the US, maybe a little bit in the US, but that not really much and then, in September actually we will see demand and activity increase significantly and that will continue through the Q3.

So Q3 and Q1 typically are, even though seasonality is not all that significant, are the ones which will typically have higher revenues in a normal situation, and assuming that we are in somewhat of a normal situation, now that’s what we would typically would say.

Ana Goshko - Bank of America

And then on the gross margins, I think you mentioned that ceramic was about the same sequentially. It has been running very high. I think you have said higher than normal, really. I don't think you mentioned the gross margin in the Tantalum segment and also wanted to ask what the capacity utilization is in that segment right now.

Per Loof

The Tantalum gross margin is 27.6% this past quarter and the capacity utilization in our segments are a little different, in Tantalum it’s very high. I mean we don’t really have a lot of additional capacity. We’re looking at opening up capability, that we didn’t really we would ever use again to be able to supply in accordance with the demand.

Our ceramic business, of course which we over the last couple of years have redirected to be much more of a specialty focus and we’ve some additional capacity that we can put on play there, but not a whole not. And in film we are also extended, so we have a capacity situation today, which really is pushing lead times further out.

And we have not seen lead times come in significantly at this time. So we are working with our customers to ensure that the agreed award levels can be met and we have a pretty elaborate system to ensure that these award levels can be met from our customers. We have a way of actually ensuring that capacity is aligned with the awards that we have been getting from customers to ensure that we can supply the agreed levels

Ana Goshko - Bank of America

And then final question, when will you start production for some of the initial transferred lines in Mexico in the F&E segment?

Per Loof

The initial lines are in Mexico as we speak and we expect to start our production to customers in this quarter.

Omar Samalot - Independent Analysts

First, Bill, if you could give me a break down of the cash and noncash interest expense this quarter.

Bill Lowe

The cash piece is about 5.5. I think 7.4 is in there and 5.5 is cash and then the balance is essentially debt discount and [recession].

Omar Samalot - Independent Analysts

I guess going forward the noncash portion will probably will maintain at that level or less?

Bill Lowe

No, it will be less because we still in this first quarter, we had a portion of the quarter where we still had the old debt on our books. So going forward, I think the amortization that will be included in there is about $800,000 and $1 million going forward and the interest expense will be similar to what we had this quarter.

So it will down, this quarter is probably about $1.8 million, $1.9 million of noncash amortization, so it’s going to be down about $1 million where we are today.

Omar Samalot - Independent Analysts

And the cash restructuring charge for the quarter and maybe you can give us a little idea of how you expect to come in the next quarter?

Bill Lowe

We will probably take a charge anywhere between $3 million to $4 million, this current quarter for additional actions that we’re taking and according to our plan, this quarter we had about $1.7 million of restructuring charges, about $1.5 million of that was cash. Most of that was relocation of equipment. In fact probably 98% of that was relocation of equipment this quarter.

Omar Samalot - Independent Analysts

I notice the days payable is getting a little shorter than usual. Could you maybe provide a little color about that?

Bill Lowe

Everything is in tight supply everywhere, but we are extended with our customers. We are working hard as Per said to make sure we are keeping everyone pleased and getting their shipments when they are supposed to. It works the same on the other side. We put strain on our suppliers as well. We are doing whatever we can to make sure that we are taking care of our suppliers and keeping our supply chain running smoothly.

Per Loof

We seeing it on the customer end of it, but of course we are seeing it on our suppliers that terms maybe moving in slightly and there is a tight situation across the Board and that probably affected it.

Bill Lowe

A little bit and some of it is timing. We don't particularly do anything particularly different one month to the other. So some times, we get a little timing impact as well, I am not concerned about it.

Per Loof

And I think also the summer may have affected some of these activities because we have a lot of suppliers in Europe and they will shutdown prior to it and as well. So some of that, we may accelerated a little bit just to make sure we had enough.

Bill Lowe

But it will move up and down. It will be on a range between the 37 to 40 day kind of thing we have been running. I don't have an issue with where it has been going at this point, Omar.

Omar Samalot - Independent Analysts

This was a wonderful quarter, probably your highest revenue quarter, if not the highest, one of the highest in a long time. So my question is where do we go from here? How is the inventory cycle looking to you guys? You guys are in an industry where you see recovery first hand, and you did mention that inventories continue to be tight. Can you talk a little bit more about that?

Per Loof

In a highest revenue quarter or best quarter, I think this is the highest revenue quarter since the quarter two in 2000, which was a strange year in many respect. So yes, we have seen demand grow. We have seen additional conversations with customers across the board and we’re talking about OEM customers all over the globe as well as EMS folks and distributors, that they want to make sure that they have assured supply.

And they are telling us because we’re asking them, are you putting some of this stuff on the shelves because if you’re, we’re not going to give it to you. We’ll give it to somebody who is going to use it. And they are basically saying no, we do not have inventory sitting around. If you sell it to us, it will go on the board right away.

So we listen to the pundits, we listen to folks around the world. I was in Japan last week and we listen to our Japanese colleagues and friends and what they are seeing. And I think the general mood out there at this point is that, yes there might be a slight decrease now in this quarter and for us maybe due to European plants actually going on vacation.

But they continue to see demand being strong for the next couple of quarters. How long this will continue, it’s hard to tell and I think we all worry about the fact that unemployment is still running high in the US and then also of course in Europe and jobless recoveries are always a bit sort of precarious. So I like to sort of pace my comment with that a little bit.

Omar Samalot - Independent Analysts

Do you think that we are still in an inventory replenishment mode, or do you think that we are still seeing real demand?

Per Loof

It doesn’t seem that way.

Bill Lowe

We think inventories are kind of where, they are right at a pretty good level. I don’t think they’re replenishing them yet. What is going in is not staying in inventory pretty long. And I would add one more thing, a comment that Per said. Per in his formal remarks talked about that we are doing some things and when he talked about the Tantalum business to increase our capacity, maybe that was an answer to Ana’s question.

And so we are going to continue to do that to increase our ability to produce more production in the Tantalum business unit going forward. So I think that somewhat gives you our sentiment of what we see after the August holidays.

Omar Samalot - Independent Analysts

And I also noticed that you are keeping your inventory pretty tight. You really don’t see a lot of increase.

Per Loof

Think about this way, Omar. A year ago, we had revenues of $150 million, if you remember that. That’s what it was, the June quarter in 2009 was $150 million in total revenues and our inventories were a 150 million. We ended this quarter with $243.7 million of revenue and $152 million of inventory. So we are up $2million, an increase of almost 64%. We are keeping our inventories lean, that’s for sure. And it’s more efficient for us and we are continuing to keep pace with that.

Omar Samalot - Independent Analysts

Last question, can you talk a little more about the progress on your F&E reorganization, maybe where you are? Obviously you have had higher volumes on that, so I'm wondering if that has held back a little bit your progress since you do have to deliver to your customers.

Per Loof

Well, we are delivering to our customers and we have to deliver to our customers of course, but we have taken a conscious decision to keep our relocation of activities and manpower well as machinery at pace with the original plan even though we have higher demands right now.

So the plan, as we have presented here on previous calls are still at the same pace. We are actually doing a little better than we had anticipated, but we are not slowing down that relocation.

Operator

(Operator Instructions). Your next question comes from the line of Tony Venturino with Federated Investors.

Tony Venturino - Federated Investors

Per, you talked about I think you said $4 million in accelerated revenue in the quarter from customers pulling orders ahead. Is that correct? Did I hear that right?

Per Loof

Yes, that’s correct

Tony Venturino - Federated Investors

Is that a normal occurrence or is that simply a function of the constraint supply, they are just trying to get their hands on whatever they can get?

Per Loof

No, it’s not a normal occurrence, but I think there might have been and this is in our F&E business, which is you know somewhat European based and I think they were wanting to make sure they have supply coming in over the holidays. But typically we wouldn’t see that. So that’s why I wanted to highlight that we saw an increase in the quarter that we didn’t expect and we don’t see that happening in this quarter because of the flat (inaudible).

Tony Venturino - Federated Investors

And then, I guess addressing the constraint issue here, the GM, the gross margin was obviously very high because of high demand and a limited capacity. Do you see that moving much from here from these levels? Can you sustain these levels given the high demand that you are predicting for the next couple quarters?

Per Loof

I think we saw higher demands in our SME unit and of course because of the high fixed cost part of their business that helps our margins in that region and as that demand falls of for us, as the sales off this quarter, we’re going to see that the decline some. So I think that you may see a percentage point or a little less than that in this quarter, but then again we still have all of our restructuring in F&E business to do.

And I don’t see that margin fall off in either Tantalum or ceramics, it is really focused on the F&E unit and the fact this, so much of its business is in Europe. So may be a percentage point or two.

Tony Venturino - Federated Investors

Is that total company or for just F&E?

Per Loof

Total company, but driven by the F&E business.

Bill Lowe

It’s driven by F&E.

Tony Venturino - Federated Investors

And then, so you talked about moving CapEx to $30 million, and was it Tantalum or ceramic that you are increasing your capacity?

Per Loof

We are particularly looking at increasing capacity in Tantalum and basically taking on equipment that we have, that we didn’t think we’d using actually. And so we are actually dusting off the equipment and putting it back online, that what we do. And really to focus on specific customer request.

Bill Lowe

The additional CapEx and particularly to that particular comment, it is just other things that we would like to accelerate into this fiscal year. Since we believe we have the ability to do that now rather than wait till next fiscal year.

Per Loof

For instance, as you know we have a graph with the federal government to put a plan in place here in Simpsonville or put in manufacturing activity here in the Carolinas, and we think we can accelerate that activity, somewhat this year. We also believe that we can accelerate some of our moves somewhat and that will require an additional CapEx to go into some of our aging facilities.

So basically it has to do with pulling in activities and our [strat] plan really was meant to happen in the following fiscal year, but we will actually pull it in and do it this fiscal.

Bill Lowe

So, you can see that we are pulling $10 million of CapEx that we had in fiscal 2012 into fiscal 2011.

Operator

(Operator Instructions)

Per Loof

If there are no other questions, we appreciate you being on this call this morning and looking forward to talking to you again in a couple of months, three months to be more specific and we wish you a great rest of the day, the week and the summer. So thank you all very much.

Bill Lowe

Thanks for your support.

Operator

Thank you ladies and gentlemen. This does conclude today’s conference call. You may now disconnect.

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