Kimball Electronics, Inc.

Good morning, ladies and gentlemen. My name is Michelle, and I will be your conference call facilitator today. At this time, I would like to welcome everyone to the Kimball Electronics Second Quarter Fiscal 2021 Financial Results Conference Call. All lines have been placed on 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 one on your telephone keypad. And questions will be taken in the order that are received. Today's call, February 4th, 2021, will be recorded and may contain forward-looking statements as defined under the Private Security Litigation Reform Act of 1995. Risk factors may influence the outcome of forward-looking statements, can be seen in Kimball's annual report on Form 10-K for the year ended June 30, 2020, and in today's release. The panel for today's call is Don Sheridan, Chairman of the Board and Chief Executive Officer, and Mike Sergis-Gitter, Vice President and Chief Financial Officer of Kimball Electronics. I would now like to turn today's call over to Don Sheridan. Mr. Sheridan, you may begin.

Thank you, Michelle. And welcome everyone to our second quarter conference call. Our earnings release was issued yesterday afternoon and the results of our second quarter ended December 31, 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 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 for the second quarter of fiscal year 2021. We again exceeded our goal of 4.5% operating income, and we continue to deliver excellent cash flow from operations. Our strong results were primarily driven by improved operating execution, favorable product mix, and a weaker dollar. Looking ahead, we expect that our performance should approximate our long-stated goal of 4.5% operating income. The persistence of the pandemic continues to draw our attention. It's difficult to predict what we will face in the future. However, we are confident that our business will remain strong, and we are optimistic about our new business opportunities funnel. We remain committed to our goal of 8% organic growth and believe the goal is well within our reach for fiscal year 2021. Our team remains resilient, and I'm so proud of our collective response to the adversity while generating strong cash flow from operations for the third 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, and we continue to deliver on our promises to our customers. In the second quarter of fiscal year 2021, sales in our medical vertical increased 2% compared to the second quarter of fiscal year 2020, but we're down 31% sequentially. As the COVID-19 related increases in the previous quarters were completed, and our sales and our medical vertical normalized and began to approximate pre-COVID-19 run rates during the second quarter of fiscal year 2021 as expected. Sales in our automotive vertical continued to gain momentum during the quarter of fiscal year 2021, increasing 13% from the second quarter of fiscal year 2020. We expect the sales in our automotive vertical will remain at these levels or even steadily increase throughout the remainder of fiscal year 2021. We are, however, keeping a close eye on the industry-wide semiconductor shortages and the potential impact on global automotive production. October 1, 2020 marked the two-year anniversary of our GES acquisition. The GES results for the second quarter of fiscal year 2021 were again a significant improvement when compared to the second quarter of fiscal year 2020. It is important to note that we do have a degree of seasonality in the GES business, with the fiscal second quarter being their weakest and the fiscal fourth quarter being their strongest. Our backlog of orders for machines to be shipped in the fourth quarter of fiscal year 2021 has grown nicely, and GES is well positioned to deliver those machines as scheduled. Our cash conversion days, or CCD, for the quarter ended December 31, 2020 were 75 days, down from 76 days, and both the quarter ended December 31, 2019, and the first quarter of fiscal year 2021. In the second quarter, a significant decrease in our production days supply on hand, or PDSOH, or inventory measure, was largely offset by an increase in our days sales on hand. While the volatility in demand and product mix continues making it difficult to achieve our cash conversion days objectives, we are encouraged by our inventory reductions this quarter and remain committed to our goals and actions. We will continue to focus on optimizing our working capital and achieving our CCD goal of 65 days. We invested $6.1 million in capital expenditures in the second quarter of fiscal year 2021, These capital investments were largely to support the launch and ramp up of new programs and to replace older machinery and equipment. We continue to study our capacity needs to support growth plans. The board approved plan to expand our Thailand operation has been officially kicked off and other footprint expansions are currently under review. There were 190,000 shares repurchased in the second quarter of fiscal year 2021. for a total of $3 million. Since October of 2015, under our board authorized share repurchase program, a total of $79.7 million was returned to our shareholders by purchasing 5.3 million shares of our common stock. 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. We 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 second quarter results in more detail. We will then open the call to your questions.

Mike? Thanks, Don. During my comments, I'll 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 second quarter net sales were $320.6 million, which was a 4% increase compared to net sales of $307.1 million in the prior year second quarter. The increase in net sales compared to the prior year was largely driven by increased volumes in the automotive vertical. Foreign exchange rates favorably impacted our net sales 3% compared to the second quarter a year ago. Slide 4 represents our net sales mixed by vertical market. Our automotive vertical was up 13% compared to the same quarter a year ago. and up 28% sequentially, driven largely by the ramp-up of certain programs, including programs for fully electric vehicles, continued recovery from the COVID-19 shutdowns, lower volumes in the prior year due to the UAW strike, and favorable foreign exchange rate impacts. Our medical vertical was up 2% in the current quarter compared to the prior year second quarter. As expected, sales in the medical vertical normalized in the second quarter as the COVID-19-related increases experienced in the most recent two quarters were completed, and our medical vertical began to approximate pre-COVID-19 run rates. Our industrial vertical was up 2% 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 $10.5 million, which were down 28% from the prior year second quarter, primarily due to the continued phase-out of certain programs. Our gross margin in the second quarter, reflected on slide 5, was 9.3%, a 260 basis point increase from the second quarter of last fiscal year. Gross margin improvement compared to the prior year second quarter was driven by a number of factors, including improved operating execution, favorable product mix within our automotive vertical driven by a shift to more mature and larger programs, favorable foreign currency impacts driven by the weaker dollar, and continued year-over-year GES operating improvements. which were partially offset by higher profit sharing bonus expense. Adjusted selling and administrative expenses, non-GAAP, which excluded the changes in the fair value of our SERP liability, were $12.7 million in the second quarter, up $1.4 million in absolute dollars, and up 30 basis points compared to the prior year's second quarter. The increase in adjusted 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 and expense from changes in the fair value of the SERP investments. Adjusted operating income non-GAAP for the second quarter came in at $17 million or 5.3% of net sales, and as shown on slide 7 in the deck, an improvement from $9.2 million or 3% 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. Other income expense was income of $2.4 million in the second quarter, which compares to income of $0.1 million in the second quarter of fiscal year 2020. Other income net in the current year second quarter includes $2.5 million in net foreign currency gains, $800,000 in gains on the SERP investments, partially offset by $600,000 of interest expense. Other income net in the prior year second quarter includes $1.1 million in interest expense, $800,000 in net foreign currency gains, and $500,000 in gains on the SERP investments. The effective tax rate for the current year second quarter was approximately 19%. The current period effective tax rate was favorably impacted by the mix of taxable earnings within our various tax jurisdictions, including the favorable impact of foreign exchange rate movements. In the prior year's second quarter, the effective tax rate was approximately 25%. Slide 8 reflects our adjusted net income trend. Our net income in the second quarter of fiscal year 2021 came in at $15.1 million, with adjusted net income, non-GAAP, of $15.2 million. after adjusting for the after-tax impacts of settlement charges after the measurement period on the GES acquisition. This compares to net income of $6.6 million in the second quarter of fiscal year 2020. There were no non-GAAP adjustments in the second quarter of fiscal year 2020. Diluted earnings per share in the current second quarter was 60 cents. This compares to diluted earnings per share of 26 cents reported in the same quarter last year. Non-GAAP adjusted items did not have an impact on diluted earnings per share in the current or prior year quarters. Cash and cash equivalents at December 31, 2020, were $93.6 million. Operating cash flow trends are shown on slide 11. Our cash flow provided by operating activities during the fiscal year second quarter was $51.6 million, a quarterly record, driven primarily by net income plus non-cash depreciation and amortization and inventory reductions. In the prior year second quarter, operating activities used $300,000. Our cash conversion days, our CCD, was down one day from the three months ended December 31, 2020. when compared to both the same period in the prior year and the first quarter of fiscal year 2021. In the second quarter, a significant decrease in our production day supply on hand, or PDSOH, our inventory measure, was largely offset by an increase in our day's sales on hand. Slide 12 reflects our capital and depreciation trends. Capital investments in the second quarter totaled $6.1 million, largely related to manufacturing equipment to support new production awards and the replacement of older machinery and equipment. The Board approved expansion of our Thailand operation has been officially kicked off, as Don mentioned, which will double the capacity of the Thailand facility and is expected to take approximately 12 months to complete at a cost of $8 million. Borrowings on our credit facilities at December 31, 2020 were $86 million. which is down $32 million from June 30th of 2020. Our borrowings classified as long-term have declined by $30.5 million from June 30th of 2020. Our short-term liquidity available represented as cash and cash equivalents plus the unused amount of our credit facilities totaled $205 million at December 31st, 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. Michelle, do we have any analysts with questions in the queue?