Kemet's (KEM) CEO Per Loof on Q3 2017 Results - Earnings Call Transcript

| About: KEMET Corp. (KEM)
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Kemet Corporation (NYSE:KEM) Q3 2017 Earnings Conference Call February 2, 2017 9:00 AM ET

Executives

Richard Vatinelle - Vice President and Treasurer

Per Loof - Chief Executive Officer

Bill Lowe - Executive Vice President and Chief Financial Officer

Analysts

Josh Nichols - B. Riley

Matt Sheerin - Stifel

Marco Rodriguez - Stonegate Capital

Operator

Good morning. My name is Melissa and I will be your conference operator today. At this time, I would like to welcome everyone to the Kemet Reports Third Quarter 2017 Results Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the call over to Mr. Richard Vatinelle, Vice President and Treasurer.

Richard Vatinelle

Thank you, Melissa and good morning everyone. This is Richard Vatinelle. Welcome to Kemet’s conference call to discuss the financial results for the third quarter of fiscal year 2017 ending December 31. Joining me today on the call is Per Loof, Chief Executive Officer and Bill Lowe, Executive Vice President and Chief Financial Officer. As a reminder to you, a presentation is available on our website that should help you follow along in the financial portion of the discussion.

Before we begin, we would like to advise you that all statements addressing 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 performance and they involve a number of risks, uncertainties and assumptions. Please refer to our 10-Ks or 10-Qs and our registration filing statements for additional information on the risks and uncertainties.

At this time, I will turn the call over to Per.

Per Loof

Thank you, Richard and good morning everyone. Our third quarter was another successful quarter with financial results exceeding our forecast. Revenue was at $188 million and adjusted EBITDA virtually the same as last quarter down by a mere $100,000 from last quarter at $26.8 million. Our cash balance again exceeded our forecast. Compared to the prior quarter, GAAP gross margin improved another 40 basis points to 25.2% from 24.8%. Non-GAAP gross margin was at 25.3% at our timeless model target.

Comparing this quarter with one year ago at December 31, 2015, revenue improved $10.8 million year-over-year, 6.1%. And adjusted EBITDA is up $3.3 million or 14.1%. The revenue of $188 million was actually above the top end of our forecasted range of $186 million. Our fiscal ‘17 Q3 is the fourth quarter of sequential revenue growth and the highest revenue since fiscal ‘16 Q1. Global initiatives in the sales development process that targeted specific segments and product technology supported this growth. These initiatives coupled with a defined strategy and a target market that was shared across sales, business groups and technical marketing boosted the overall quarter performance. Markets remained stable and while it does not appear to be a catalyst for explosive growth on the immediate horizon, we are optimistic for positive growth as we look forward to calendar 2017.

I will come back to you on markets and our business groups in a few minutes, but first let me turn over the call to Bill to review the financials.

Bill Lowe

Thank you, Per and good morning everyone. I will begin my review on Slide 4 if you are following along on our website presentation. As Per said, net sales for the quarter were $188 million, which was up 6.1% from the prior year of $177.2 million. Our non-GAAP gross margin percentage increased 310 basis points to 25.3% compared to 22.2% in the prior quarter and our non-GAAP net income was $12.3 million and our non-GAAP adjusted net income was $5.8 million compared to $2.2 million in the prior year. Our adjusted EBITDA for the quarter was $26.8 million as Per said, which is an increase of 41.1% from the $23.5 million in the prior year.

Our non-GAAP net income was $0.13 per basic share and $0.11 per diluted share. As I have previously stated, the EBITDA was $26.8 million for quarter essentially flat to the prior quarter. Non-GAAP SG&A expenses of $23.6 million were slightly up compared to the $22.5 million in the prior quarter ended September 2016 and our expectation for this next quarter is in a similar range of $23.5 million to $24 million.

Moving to Slide 5, capital expenditures during the quarter were $4.7 million compared to $4.2 million in the prior quarter. And for this coming quarter, we expect to spend in the range of $5 million to $7 million for capital expenditures and for the full year then for 2017, we will again be in the range of $22 million to $24 million.

Regarding our forecasted cash balance which can found on Slide 6, we finished the quarter at $87.4 million, which is approximately $17.4 million more than our forecast mainly due to seeing quicker improvements in our working capital than anticipated and also timing of accounts receivable collections, all good things to happen. Our expectations for the ending cash balance at March 31 is now approximately $100 million to $105 million and the adjusted EBITDA margin trend has increased from 14.3% from 9.4%, 7 quarters ago. Additionally, LTM adjusted EBITDA margins have increased steadily from 11.6% to 13.6% since December 2015 as noted on Slide 8.

Regarding the performance of NEC TOKIN, revenue in the third quarter was 136.2 oku yen or approximately $127.8 million. Our share of their financial results for the quarter was an equity loss of $100,000 and their cash balance remains healthy at $122.3 million. Their EBITDA for the quarter in U.S. dollars, excluding legal fees was $18.4 million.

Now, I will turn the call back over to Per for comments in the markets and our business units. Per?

Per Loof

Thank you, Bill. Let’s have a look at our performance by segment. On a percentage of revenue basis, the computer segment showed an increase at 16%. The telecommunications, consumer, industrial, automotive and defense segments remained stable at 28%, 24%, 21% and 5% respectively. The medical segment at 6% was slightly down compared to last quarter.

Turning to our business groups, in the solid capacitor group revenue versus the prior quarter was down $1.1 million or 0.8% at $141.6 million. Seasonal weakness in all channels driven primarily by the end of year holiday effects drove the quarter-over-quarter decline in revenue. Gross margin for Q3 was approximately 30.4% comparable to prior quarter results on slightly lower revenue. This result was driven by continued progress in our cost and mix enhancement initiatives. Order rates were robust in Q3. So, we enter Q4 with a solid backlog and we are to-date ahead of where we were same time last quarter. We expect to see an improvement in revenue in Q4, but we will see pressure on margin as seasonal mix swings impact average selling price.

Our film and electrolytic business revenue was $46.5 million as compared to $44.7 million last quarter, an increase of $1.8 million or up 4% quarter-over-quarter. Revenue from Asia and America accounted for most of the revenue increase. Orders continue to improve as evidenced by our book-to-bill of 1.116 at the end of the quarter. Gross margin for this business increased to 9.1% in revenue versus 5.6% for the previous quarter. This increase was driven by higher revenue and improving manufacturing cost. The group is focused on continuing to increase revenue by working with OEMs and distributors on projects and segments which are growing.

Now to the regions. Europe closed with $55.8 million, down by 7.1% as expected due to seasonality, but up 6.3% compared to the same quarter a year ago. Automotive has been slightly down while industrial business didn’t show any seasonality. While we continue to see a strong R&D activity in EMEA for automotive business, we also observe an increasing trend of business transferred to China for mass production. POS closed at $32.5 million, down 7.6% from previous quarter due to a weak December and Christmas break. Inventory in the channel is slightly down.

It was a very good quarter for Asia. Revenue was up 9.7% to $77.3 million from the prior quarter. POS also increased by 6.8% to $42.5 million. We continue to see improvement in this region. Automotive and consumer markets are staying strong in Asia and we have many good projects in the pipeline. We forecast Q4 to be another good quarter for Asia despite the Chinese New Year impact. The Asia team is working diligently on the sales campaigns and key opportunities to ensure continued growth.

Q3 revenue in the Americas finished down 3% over last quarter ending at $55 million. POS was up, however, from last quarter almost 2% to $35.6 million, in what turned out to be a slightly better than expected POS quarter even with a holiday season. The Americas focus continues to be driving the revenue number to design the revenue of focus in specific segments and product types. Distribution inventory within the Americas had been profiled to help support that growth. Distribution revenue was up 1.2% versus the previous quarter and improved 22.1% versus the same period a year ago, with POS up 0.4% compared to last quarter and up 9.5% versus the year before. Inventory in the distribution channel decreased by 2% and remains relatively stable. We maintain our focused efforts with our channel partner to drive growth in POS demand, while maintaining balance in the inventory levels and revenue patterns.

Looking forward to March 31, we are forecasting our sales to be in the range of $189 million to $193 million for Q4, slightly higher than the December quarter. However, gross margin may decline slightly and it should be in the narrow band between 24.4% and 24.8%. The first quarter – calendar quarter is the time our new contracts with the OEMs begin and average selling price that generally impact it as a result. It does take a few quarters before we have executed the costs and efficiency actions required to compensate for the ASP decline. SG&A should remain more or less flat compared to the December quarter and this should result once again in another solid quarter and the completion of great solid financial performance for the fiscal year.

Before I conclude, let me make a brief statement about NEC TOKIN. We remain in discussions with our partner NEC regarding bringing this transaction to a conclusion. We do wish to remind you as Bill and I have done so in several of our last presentations that these current discussions may result in a transaction and structure that is different than what is currently on record. We are still working towards Q1 fiscal ‘18 closing, while we cannot provide assurances of that timeframe. We also do not have any news nor do we have an update on the timing regarding receipt of the fine amounts on the outstanding jurisdictions related to the antitrust issues namely South Korea and the EU. But we are monitoring the situation closely.

So in summary, we continued to perform above our internal targets at the operating level. We continue to generate positive cash flows and also above our initial predictions and above our forecast. And our operating income trend continues to be positive. As I have mentioned fourth quarter has started strong and we anticipate to report a solid fourth quarter on fiscal year. As always thanks to our hard work and people that continued to make the extra effort to improve our performance and enhance our customers’ experience.

And this concludes our prepared remarks. We will be happy to respond to any of your questions.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from the line of Josh Nichols with B. Riley.

Josh Nichols

Yes, hi. Thanks for taking my question. How is it going? So yes, quarter was strong despite the seasonality impact looks like operations are going well, but I did want to ask a question about NEC TOKIN did just to clarify first, did you mention that you are still working towards a March closing or did you say Q1 closing?

Per Loof

We said a Q1 closing.

Josh Nichols

Okay. And then would you consider going ahead with the transaction regardless of the pending Korea and Europe antitrust rulings or would you wait and hold off until those came in?

Bill Lowe

Josh I think that we have – the statement we made on the formal remarks is where we are going to contain our remarks today on that as it is a holistic discussion with NEC and so I think we just – we need to leave it at where we are with what we have said.

Josh Nichols

And then F&E, the F&E segment has done quite well, margins were up significantly during the quarter, do you expect revenue and margins will be able to continue on the current trajectory now that the multi-year restriction is largely complete?

Per Loof

We expect the Q4 to be stronger than Q3, yes on both top and bottom line.

Josh Nichols

Okay, thank you.

Per Loof

Alright. Thanks Josh.

Bill Lowe

Thank you, Josh.

Operator

And your next question comes from the line Matt Sheerin with Stifel.

Per Loof

Hello Matt.

Matt Sheerin

Hi, good morning guys. Just a few questions, the – what was – did you say what the book to bill for the solid capacitor business was?

Per Loof

No, I don’t think we did, but its $114 million.

Matt Sheerin

Okay. $114 million, but basically it sounds like the F&E business is going to be up a little bit, it sounds like this business is going to be flattish, is that just sort of the timing or that was the end of the quarter you have sort of pre-Chinese New Year, was that why it was higher?

Per Loof

I think the business we think we are going to see some growth. We said the range $189 million to $193 million and I think we are going to see a little bit of growth in both businesses. But we are not talking about the enormous growth that we are talking about a few million, but we will see some growth in both the solid capacitors and our F&E segment.

Matt Sheerin

Okay. And your commentary about distribution, I missed some of those numbers, what was that as a percentage of sales and the growth rate sequentially and year-on-year?

Per Loof

Well, the growth sequentially was 9.2%, growth on the POA – on the POS numbers. The POA number was about 22% from a year ago. So we can see that our – the interesting thing about our distribution channel business is that we have worked diligently with our partners to smooth out the business, meaning that we have which of course is good for everybody. It’s good for our manufacturing efforts and also good for our distribution partners. And we have been able to maintain and continue our strong distribution business while having a smooth month-to-month kind of business which of course is very, very helpful. Where we could in the past see swings of several tens of millions of dollars between month one and month three, for instance in a quarter. Those swings are now down into the single digits, so from a $1 million perspective. So that has really helped our performance quite a lot. And we continued to be very optimistic about our distribution channel and we are of course a very distribution friendly company. And we have 182,000 customers in the distribution channel, so clearly that is very key – a key component of our strategy to continue to ensure that we give them the tools and the products to be able to successfully serve that market.

Matt Sheerin

So what was the worst percentage in for total for distribution as a percentage?

Per Loof

The worst percentage in terms of…

Matt Sheerin

The percentage of your overall revenue?

Per Loof

Well, I will say that was probably a year ago and I don’t have that quite right and maybe we can do this...

Bill Lowe

Distribution this quarter was 46%.

Per Loof

This quarter was 46%, a year ago was a lot less I think.

Matt Sheerin

Yes, okay, got it. Yes. I think we have that number, yes, but okay. But I just wanted – so it sounds like distribution channel is getting better and then maybe – and obviously there was inventory correction going a year ago. Okay. And the – just couple of side questions, one, you probably where there was a fire at a tantalum facility in Brazil, a week or two weeks ago and I know you have got your own tantalum supply chain, but does that impact your business at all in terms of overall tantalum prices, is that a positive or negative for you and your customers?

Bill Lowe

I must have missed that news. I didn’t know that actually. So it will impact on our supply chain whatever happened in Brazil.

Matt Sheerin

Okay. And then Bill, regarding the financing or restructuring or refinancing of your debt which I know was a priority for the next couple of quarters, where do you stand there?

Bill Lowe

Well, as we have said in past we are in active discussions with all of our banking contacts. And we are working towards that timing. So there is nothing to change in that aspect. So we are aware that the bond is due in May ‘18. We are working with our lenders today to talk about best course of action and the timing of that action, so we are just stay tuned or that.

Matt Sheerin

Okay. And then just looking at your overall operating margin, which obviously has improved nicely and not much revenue growth due to your various restructuring efforts which are largely completed at this point, so going forward where is the leverage, is it just basically volumes now that you need in mix in order to continue to improve your growth in terms of operating profit and EPS?

Per Loof

We continued to gain from the actions we have taken and all of that is not in the result yet and not just because of sitting in the inventory, but there are actions that we have taken that will continue to improve our margin particularly in the F&E business. And there are actions that we will take as we always do to improve efficiency, improve our yields and improve our material efficiencies as well. So there is more that we can do and more that we will do, in particular in the F&E channel. That will help to improve our margins above where we are. But we also are consciously optimistic that 2017 will be a pretty decent year. And we should see some moderate growth in the markets and we will benefit from that as well of course.

Matt Sheerin

Okay, great. Thanks a lot.

Per Loof

Okay. Thanks Matt.

Operator

[Operator Instructions] Your next question comes from the line of Marco Rodriguez with Stonegate Capital.

Marco Rodriguez

Good morning guys. Thank you for taking my questions. Just kind of follow-up on that last question there on the margins and leverage there, Per you talked about some particular movements here on the F&E that are still not kind of reflected in current results. Can you kind of give us a sense, I mean, are we talking a basis point, are we talking just some very small numbers where you can get some leverage just assuming that you have kind of got flat revenue growth, if you will?

Per Loof

Well, as I said, I think we are going see a little bit of revenue growth in the F&E business this coming quarter and also some of the actions that we have taken now sitting in inventory will actually come out this quarter. So I think you can expect an improved EBITDA from the F&E group this quarter as well. If you look back, we have improved about $1 million a quarter, pretty much quarter-over-quarter. And I think that might be where we are going to see next quarter as well.

Marco Rodriguez

So, are you seeing that the sequential improvement on the F&E on the margin side more of a volume growth that you have going there or the restructuring actions?

Per Loof

There is some in the volume, little bit of volume growth, but also some of the activities – actions we have taken has not fully made its way to the bottom line yet. So, we are going to see that as well.

Marco Rodriguez

Got it. And then kind of coming back to some of your prepared remarks, you talked earlier about some initiatives you did on the sales channel and the sales development process. Can you give a little more color there? Were there some specific initiatives that were going on or different manner in which the sales team are approaching sales?

Per Loof

I think we are – there are two things we are talking about internally. One is our campaigns which are five distinct actions, a couple related to segments and automotive being one of them, of course, and also others being specific product capabilities, meaning KO, our polymer activities, our automotive brick capabilities, the high reliability capability in ceramics as for instance. So we have seen a focus between sales and the businesses to make sure that we can actually get to the customers in that. And we have seen great success in some of these actions. And particularly in automotive, we make the design – we get designed in now and you are going to see production in a couple of years from now, but then of course it’s going to stay producing for a long time. So, these actions and this focus we have seen in our sales – in our businesses actually is helping us to get on the long cycles here, help us start the long cycles in a positive manner and get us particularly in automotive, but also in industrial into projects that we will reap the benefits of those for many years. So yes, there is a renewed focus. And I am happy to the see that.

Marco Rodriguez

Got it. And is there any restructuring of compensation or incentive structure for the sales team?

Per Loof

We continue to view our compensation programs, but not really. We continue to pay our sales folks on the projects that are most beneficial to the company. And I think that has also been helpful, but not any big changes in our compensation structure now.

Marco Rodriguez

Got it. And last quick question, just on NEC TOKIN, just kind of where you guys are sitting at right now, maybe if you can just say – where are you sitting in terms of your level of confidence? Are you kind of the same? Are you little bit higher in terms of your level of confidence, little lower, any kind of color there?

Per Loof

We have said what we can say on this.

Marco Rodriguez

Okay. Well, I thought I try. Thanks a lot guys. Appreciate it.

Bill Lowe

Thanks, Marco.

Per Loof

Thank you.

Operator

And there is no further audio questions at this time.

Per Loof

Alright, okay. If there are no further questions, thank you for listening in today and hope you all have a great rest of the day. Thank you very much.

Bill Lowe

Thank you.

Operator

Thank you for joining today’s conference call. You may now disconnect your lines.

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