Kimball Electronics, Inc.

Good morning, ladies and gentlemen. My name is Amy James, and I will be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball Electronics fourth quarter fiscal 2020 financial results conference call. All lines have been placed on listen-only mode to prevent any background noise. After the Kimball speakers open remarks, there will be a question-and-answer period, where Kimball will respond to questions from analysts, and Liz can ask questions during the question and answer segment by simply pressing star and then number one on your telephone keypad and questions will be taken in order that they are received. Today's call, August 19, 2020, will be recorded and may contain forward-looking statements as defined under the Private Securities Litigation Reform Act of 1995. Risk factors that may influence the outcome of forward-looking statements can be seen in Kimball's animals, on Form 10-K for the year ended June 30, 2019, and in today's release. The panel for today's call is Don Sharon, Chairman of the Board and Chief Executive Officer, and Mike Sergis-Sketter, Vice President and Chief Financial Officer of Kimball Electronics. I would now like to turn today's call over to Don Sharon. Mr. Sharon, you may begin.

Thank you, Demetrius. Welcome everyone to our fourth quarter conference call. Our earnings release was issued yesterday afternoon on the results of our fourth quarter and fiscal year ended June 30, 2020. We have posted a financial summary presentation to accompany this conference call, which can be found on our investor relations website within the events and presentations tab. Or if you are listening via the webcast, you can follow along by advancing the slides or download them from the downloads tab on the webcast portal. I will begin by making a few remarks on the quarter and then I'll turn it over to Mike for the financial overview. After that, we will answer any questions that you may have. We are pleased with the operating results we delivered in the fourth quarter of fiscal year 2020, despite the global interruptions and challenges caused by the COVID-19 pandemic. The health and safety of our employees remains our number one priority, and we continue to make every effort to keep our facilities safe, utilizing protective shields, face masks, body temperature scanning, social distancing and proper hygiene. Of our 6,400 employees around the world, approximately 1% have tested positive for the virus, and in each positive case, our responses Our responses followed our procedures for communication to our employees, contact tracing, self-quarantining, testing, and sanitization of the affected work areas. Because of the disciplined response and extraordinary effort of our people around the world, we were able to perform our mission as an essential business and, amongst many things, completed the first phase of our ramp-up to support the significant increase in demand from our medical customers for their respiratory care and patient monitoring products. In the fourth quarter of fiscal year 2020, sales from our medical vertical were up 23% compared to the fourth quarter of fiscal year 2019 and up 42% sequentially. We are currently on track with the second phase of our ramp-up to meet the continued demand for respiratory care and patient monitoring products. and expect this momentum in our medical vertical to continue through the first half of fiscal year 2021. I feel honored and privileged that our company can play such an important role to help in the recovery of those infected by the virus. In our automotive vertical, fourth quarter fiscal year 2020 sales were down 43% year over year and down 41% sequentially. The decline in sales in our automotive vertical was disappointing, but not a surprise, given the extensive automotive plant shutdowns in North America and Europe during the months of April and May. Fortunately, we were able to redirect machine capacity and manufacturing associates from certain automotive production lines to medical production lines where we are experiencing COVID-19-related increases. This helped us on multiple fronts, including employee morale as well as capacity utilization. While the automotive industry restart has been slower than expected, we were encouraged to see our June ending run rates start to approach pre-COVID-19 levels. In addition, we continue the ramp up of several new automotive programs, including a large program for an existing customer, who supports a vehicle OEM that specializes in fully electric vehicles. We anticipate our overall run rates for our automotive vertical will return to a new normal and when added to the ramp up of these new programs will return us to pre-COVID-19 levels by the middle of fiscal year 2021. While we recognize a goodwill impairment charge in the quarter related to our GES reporting unit, We continue to make nice progress on our integration and diversification plan, and GES realized their strongest net sales and operating performance during the quarter since our acquisition of GES in October 2018. On an adjusted basis, excluding the goodwill impairment and a one-time non-operating charge related to the net working capital adjustment on the purchase of GES after the measurement period, GES was accretive to our EPS for the fourth quarter. The impairment charge is an adjustment that does not affect the company's cash position, cash flow from operations, or debt covenants. It is important to note that while we continue to gain traction with the new business pipeline for GES, we do have a degree of seasonality in that business, with fiscal fourth quarter being their strongest. We also remain excited about the role GES is playing in our industry 4.0 strategy as we work to roll out EMTAP, which is a GES-developed AI-driven manufacturing management software solution in all our global facilities in calendar year 2020. We are working diligently to respond to the volatility in demand and the change in mix of our overall business and continue our relentless pursuit to achieve our operating margin and return on invested capital goals. We are doubling down on execution across all of our units as we continue to drive Lean Six Sigma projects and global supply initiatives to improve yield and throughput to drive improvement in our margins. Margin expansion and capital efficiency will continue to be priorities of focus for us. Our cash conversion days for the quarter ended June 30, 2020 were 81 days, up from 77 days in the quarter ended June 30, 2019, and flat when compared to the third quarter of fiscal year 2020. While the volatility in demand has made it difficult for us to achieve our inventory objectives and thus our cash conversion days objectives, we remain committed to our inventory reduction goals and actions. We invested $11 million in capital expenditures in the fourth quarter of fiscal year 2020. The majority of these capital investments were for capacity expansion and to support the launch and ramp-up of new programs. There were no shares purchased in the fourth quarter of fiscal year 2020 as a result of the COVID-19 environment. Our plan has been temporarily suspended until further determination by our board. For fiscal year 2020, a total of $8.8 million was returned to our shareholders by purchasing 623,000 shares of our common stock, which brings our total to $76.7 million and 5.1 million shares purchased since October 2015 under our board-authorized share repurchase program. And lastly, As I stated earlier, I am so proud of our people around the world and our collective response to the COVID-19 pandemic. Our strong company culture and core values have and will continue to help us get through this together. Our number one priority continues to be keeping our employees healthy and safe. We will continue to deliver on our promises to our customers. And with our strong cash flow and balance sheets, The company is in a solid position and we are committed to build success in the future. Now I will turn it over to Mike to discuss our fourth quarter results in more detail. We will then open the call to your questions.

Mike? Thanks, Don. During my comments, I will be referring to the slide deck Don mentioned, which can be found on our investor relations website within the events and presentations tab. or if you're listening via the webcast, you can follow along by advancing the slides on the webcast portal. As shown on slide three, our fourth quarter net sales were $286.2 million, which was a 10% decrease compared to net sales of $318.6 million in the prior year fourth quarter. The decline in net sales compared to the prior year was largely the result of the impact from COVID-19 in the automotive vertical. As Don mentioned, the domestic automakers shut down for a period of time during the quarter. However, partially offsetting the automotive decline were increases in our medical and industrial verticals. Also contributing to the decrease in net sales for the quarter were unfavorable foreign exchange rates, which reduced our net sales 1% compared to the fourth quarter a year ago. Slide 4 represents our net sales mix by vertical market. Our automotive vertical was down 43% compared to the same quarter a year ago as our fourth quarter results reflect the severe impacts of COVID-19 on current quarter demand in the automotive industry. Our medical vertical was up 23% in the current quarter compared to the prior year fourth quarter to a new quarterly record of $123.7 million, reflecting a significant increase in demand for medical assemblies and specifically those related to respiratory care and patient monitoring products as a direct result of the COVID-19 pandemic and global shortage of respirator equipment. Our industrial vertical was up 9% from a year ago as GES experienced strong revenue growth with the increase in delivery of test and measurement equipment. GES has increased more than offset declines due to lower demand in climate control products and program exits. Lastly, our public safety vertical sales were $12 million, which were down 26% from the prior year fourth quarter as a result of the continued phase-out of certain programs and lower overall demand. Our gross margin in the fourth quarter, reflected on slide 5, was 7.3%, unchanged from the fourth quarter of last fiscal year. Favorable margin increases Related to respiratory care and patient monitoring products in our medical vertical, along with increased margins for GES, were offset by declines across our customer base, most notably in the automotive vertical on lower volumes. Additional direct costs incurred as a result of the COVID-19 pandemic and higher depreciation expense were largely offset by governmental COVID-19-related benefits in certain countries and lower profit-sharing bonus expense. Selling and administrative expenses, slide 6 in the deck, were $11.4 million in the fourth quarter, which were down $1.7 million in absolute dollars and down 20 basis points compared to the prior year fourth quarter. The decrease in selling and administrative absolute dollars was driven by reduced incentive compensation costs, warranty, travel expenses due to the COVID-19 restrictions, and other administrative expenses. This was partially offset by a $1.1 million increase in the fair value of the Supplemental Employee Retirement Plan, or SERP liability, which accounted for a 30 basis point increase compared to the prior year fourth quarter. The revaluation of the SERP liability is exactly offset by gains or losses recorded on the SERP investments during the quarter, which is recorded in other income and expense net and as a result has no impact on net income. Operating income for the fourth quarter came in at $1.6 million or 0.6% of sales as shown on slide 7 in the deck. Adjusted operating income was $9.5 million or 3.3% of net sales. This compares to operating income of $10.3 million and adjusted operating income of $10.1 million. both 3.2% of net sales in the same period a year ago. The 2019 fourth quarter operating income was adjusted for a $200,000 income recognized related to proceeds received from class action lawsuits of which we were members. Fiscal 2020 fourth quarter operating income was adjusted to exclude $7.9 million impairment charge on our GES reporting unit. as a result of identifying an indicator of impairment related to future anticipated revenues. Our GES forecast was updated to reflect the adjusted anticipated revenues, aligning with the current economic environment and to update the impairment analysis. The updated analysis indicated that the fair value of discounted cash flows was lower than our carrying value, resulting in the impairment charge. While the contract nature of the GES business limits our future forecast visibility, Our team is making good progress on new opportunities to achieve our growth and diversification goals. We continue to be excited about the capabilities and technologies acquired with GES as we leverage those capabilities both within the company and across our target market verticals. This impairment charge is an adjustment that does not affect the company's cash position, cash flow from operations, or debt covenants, and is excluded for the nine gap measures. Other income expense net was an expense of $2.7 million in the fourth quarter, which compared to expense of $1.6 million in the fourth quarter of fiscal year 2019. Other expense net in the current year fourth quarter included $3.8 million pre-tax charge related to the final net working capital adjustment on the GES acquisition after the end of the measurement period. The net working capital adjustment, along with $900,000 of interest expense, were partially offset by $1.3 million in gains on the SERP investments and $600,000 in net foreign currency gains. The effective tax rate for the current year fourth quarter was approximately a negative 18%. The impairment charge had a negative 35% impact to the effective tax rate. The effective tax rate was also impacted by a favorable mix of earnings in our various tax jurisdictions, as well as state and federal R&D tax credits and adjustments. In the prior year fourth quarter, the effective tax rate was approximately 14% and was favorably impacted by state tax credits and adjustments and federal R&D tax credit adjustments. Slide 8 reflects our adjusted net income trend. Our GAAP net loss in the fourth quarter of fiscal year 2020 came in at $1.3 million, and we had adjusted net income of $8.5 million after adjusting for the after-tax impacts of the GES Goodwill impairment charge and the net working capital adjustment. This compares the GAAP net income of $7.5 million and adjusted net income of $7.4 million in the fourth quarter of fiscal 2019. The prior year non-GAAP adjusted net income excluded adjustments related to lawsuit settlement proceeds. Loss per share in the current year fourth quarter was 5 cents with adjusted diluted earnings per share of 34 cents. These compare to both diluted EPS and adjusted diluted EPS of 29 cents reported for the same quarter last year. Cash and cash equivalents at June 30, 2020 were $65 million. Operating cash flow trends are shown on slide 11. Our cash flow provided by operating activities during the fourth fiscal quarter was $21.5 million compared to $12.2 million in the prior year quarter. This increase was driven primarily by net income plus nine cash items, a decline in receivables, and an increase in accounts payable. Partially offsetting these was an increase in inventories, largely to support the increase in medical order volumes. Our cash conversion days, or CCD, was up four days for the three-month end of June 30, 2020, when compared to the same period in the prior year, and flat sequentially to the third quarter of fiscal year. and the Board of Directors of the Board of Directors of the Board of Directors Borrowings on our credit facilities at June 30, 2020 were $118 million, which is down $8 million from June 30, 2019. Our short-term liquidity available represented as cash and cash equivalents plus the unused amount of our credit facilities totaled $142.5 million at June 30, 2020. which includes a $30 million secondary short-term credit facility agreement entered into on May 19, 2020 for working capital and general corporate purposes to provide additional domestic liquidity to support the increased demand in medical assemblies attributed to the COVID-19 pandemic. In conclusion, our financial condition continues to be strong and we believe we're in a solid position to continue to be able to support the increased demand in the medical market related to the COVID-19 pandemic and to do our part in helping to solve the shortage of critical medical devices necessary to help save lives. As Don mentioned, we're very proud of the work our teams are doing to support the efforts to combat this disease on a global scale. With that, I would like to open up today's calls to questions from analysts. Demetrius, do we have any analysts with questions in the queue?