Kimball Electronics, Inc.

Good morning, ladies and gentlemen. My name is Sarah, and I will be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball Electronics first quarter fiscal 2021 financial results conference call. All lines have been placed in listen-only mode to prevent any background noise. After the Kimball speakers' opening remarks, there will be a question-and-answer period where Kimball will respond to questions from analysts. Analysts can ask questions during the question and answer segment by simply pressing star and the number 1 on your telephone keypad, and questions will be taken in the order that they are received. Today's call, November 4, 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 annual report on Form 10 case for the year ended June 30, 2020 and in today's release. The panel for today's call is Don Sharon, Chairman of the Board and Chief Executive Officer, and Mike Sergeskater, Vice President and Chief Financial Officer of Kimball Electronics. I would like to turn today's call over to Don Sharon. Mr. Sharon, you may begin.

Thank you, Sarah. and welcome everyone to our first quarter conference call. Our earnings release was issued yesterday afternoon and the results of our first quarter ended September 30, 2020. We have posted a financial summary presentation to accompany this conference call. It 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 turn it over to Mike for the financial overview. After that, we will answer any questions that you may have. We are very pleased with the operating results we delivered in the first quarter of fiscal year 2021. We set new quarterly records for sales, operating income, net income, and diluted earnings per share while generating strong cash flow from operations for the second consecutive quarter. Beyond our excellent financial results, we never lost sight of the fact that the health and safety of our employees remains our number one priority, and we continue to make every effort to keep our facilities safe. The number of our employees testing positive for COVID-19 has been kept at a low level, and disruptions have been kept to a minimum. Because of the disciplined response and extraordinary effort of our people around the world, we were able to continue to perform our mission as an essential business, and support the significant increases from our medical customers for their respiratory care and patient monitoring products. In the first quarter of fiscal year 2021, sales in our medical vertical increased 25% compared to the first quarter of fiscal year 2020, and we're up 3% sequentially, setting a new quarterly sales record for our medical vertical. We expect the sales in our medical vertical to normalize, and begin to approximate pre-COVID-19 run rates during the second quarter of fiscal year 2021. Sales in our automotive vertical continue to gain momentum during the first quarter of fiscal year 2021, increasing 61% from the previous quarter and down just 5% from the first quarter of fiscal year 2020. We expect the sales in our automotive vertical will return to pre-COVID-19 levels in the second quarter and steadily increase throughout the fiscal year 2021. October 1, 2020 marked a two-year anniversary of our GES acquisition. GES was slightly accrued to our EPS for the first quarter of fiscal year 2021, which was a significant improvement when compared to the first quarter of fiscal year 2020. 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 the fiscal second quarter being their weakest. However, our backlog of orders for machines to be shipped in the third and fourth quarters of fiscal year 2021 has been growing nicely. Our cash conversion days for the quarter ended September 30, 2020 were 76 days, up from 73 days in the quarter ended September 30, 2019. but we're down five days when compared to the fourth 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 $8.5 million in capital expenditures in the first quarter of fiscal year 2021. 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 first quarter of fiscal year 2021. 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 share owners by purchasing 623,000 shares of our common stock, which brought 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'm 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 will continue to be keeping our employees healthy and safe and will continue to deliver on our promises to our customers. With our strong cash flow and balance sheet, the company is in a solid position and we are committed to build success in the future. Now I'll turn it over to Mike to discuss our first 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 first quarter net sales were $331.7 million. which was a 6% increase and as Don mentioned a new quarterly record compared to net sales of $313.4 million in the prior year first quarter. The increase in net sales compared to the prior year was driven by increases in the medical vertical and to a lesser degree the industrial vertical partially offset by a decrease in the automotive vertical. Foreign exchange rates favorably impacted our net sales 1% compared to the first quarter a year ago. Slide 4 represents our net sales mix by vertical market. Our automotive vertical was down 5% compared to the same quarter a year ago. However, the automotive vertical was up 61% sequentially as the automakers began to return to pre-COVID-19 run rates during the quarter. Our medical vertical was up 25% in the current quarter compared to the prior year first quarter to a new quarterly record of $127.1 million. Reflecting the continued increase in demand for medical assemblies, specifically those related to respiratory care and patient monitoring products. Our industrial vertical was up 8% from a year ago, primarily due to improved sales of automation test and inspection equipment and higher in-market demand for climate control products, which were partially offset by decreased demand for smart metering products. Lastly, our public safety vertical sales were $13.3 million, which were down 23% from the prior year first quarter, primarily due to the continued phase-out of certain programs. Our gross margin in the first quarter, reflected on slide 5, was 9.2%, a 210 basis point increase from the first quarter of last fiscal year. Gross margin improvement compared to the first quarter of last fiscal year was driven by a number of factors, including higher volumes and favorable product mix, GES gaining traction with significant improvement and positive contribution, lower material costs as component shortage premiums have subsided, and more efficient use of our manufacturing capacity and footprint. Adjusted selling and administrative expenses, slide 6 in the deck, were $12.6 million in the first quarter, up $1.5 million in absolute dollars and up 30 basis points compared to the prior year first quarter. The increase in selling and administrative absolute dollars was primarily driven by higher profit sharing bonus expense resulting from our overall strong financial performance in the quarter. Adjusted selling and administrative expenses excludes changes in the fair value of our SERP liability which is directly offset in other income expense from changes in the fair value of the SERP investments. Adjusted operating income in the first quarter came in at $18 million or 5.4% of sales and as shown on slide 7 in the deck, an improvement from $11.1 million or 3.5% of net sales in the same period a year ago driven by the increase in gross profit previously mentioned. Adjusted operating income excludes changes in the fair value of our SERP liability, and in the first quarter of fiscal year 2021 excludes $300,000 of income recognized related to proceeds received from a class action lawsuit of which we were a member. Other income and expense net was income of $2.1 million in the first quarter, which compares to expense of $2.4 million in the first quarter of fiscal year 2020. Other income net in the current year first quarter includes $2.4 million in net foreign currency gains, $500,000 in gains on the SERP investments, partially offset by $800,000 of interest expense. Other expense net in the prior year first quarter includes $1.2 million in interest expense, and $1.1 million in net foreign currency losses. The effective tax rate for the current year first quarter was approximately 16%. The current period effective tax rate was favorably impacted by an $800,000 discrete benefit from the reduction of our state tax valuation allowance related to R&D tax credit carry-forwards. Mix of earnings within our various tax jurisdictions also favorably impacted the effective tax rate in the quarter. In the prior year first quarter, the effective tax rate was approximately 24% and was unfavorably impacted by a $300,000 discrete excess tax expense related to performance shares granted during the quarter. Slide 8 reflects our adjusted net income trend. Our GAAP net income in the first quarter of fiscal year 2021 came in at $16.8 million, with adjusted net income of $16.6 million after adjusting for the after-tax impacts of the lawsuit settlement proceeds. This compares to GAAP and adjusted net income of $6.6 million in the first quarter of fiscal year 2020. Diluted earnings per share in the current year first quarter was 66 cents, with adjusted diluted earnings per share of $0.65. These compare to both diluted EPS and adjusted diluted EPS of $0.26 reported in the same quarter last year. Cash and cash equivalents at September 30, 2020 were $73.4 million. Operating cash flow trends are shown on slide 11. Our cash flow, provided by operating activities during the fiscal first quarter, was a strong $20.7 million, driven primarily by net income plus non-cash depreciation and amortization. In the prior year first quarter, operating activities provided $39.6 million of cash, largely driven from increased utilization of third-party accounts receivable factoring arrangements. Our cash conversion days, or CCD, was up three days for the three-month end of September 30, 2020, when compared to the same period in the prior year. However, it was down five days from the fourth quarter of fiscal year 2020. Compared to the fourth quarter of fiscal 2020, a decrease in PDSOH, or production day sales on hand, our inventory metric, was partially offset by a decrease in accounts payable days. Slide 12 reflects our capital and depreciation trends. Capital investments in the fourth quarter totaled $8.5 million, largely related to manufacturing equipment to increase capacity and to support new production awards. Borrowings on our credit facilities at September 30, 2020, were $111 million, which was down $7 million from June 30, 2020. Our short-term liquidity available represented as cash and cash equivalents plus the unused amount of our credit facilities totaled $159 million at September 30, 2020. In conclusion, our financial condition continues to be strong and we're in an excellent position to take advantage of growth opportunities and improve operating margins and return on invested capital while being able to confront the continued uncertainties caused by the COVID-19 pandemic. With that, I would like to open up today's calls to questions from the analysts. Sarah, do we have any analysts with questions in the queue?