Key Tronic Corporation

Welcome to the Q2 Fiscal 2021 Keytronic Corporation Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Brett Larson. Please go ahead.

Thank you. Good afternoon, everyone. I am Brett Larson, Chief Financial Officer of Keytronic. I would like to thank everyone for joining us today for our investor conference call. Joining me here in our Spokane Valley headquarters is Craig Gates. our President and Chief Executive Officer. As always, I would like to remind you that during the course of this call, we might make projections or other forward-looking statements regarding future events or the company's future financial performance. Please remember that such statements are only predictions. Actual events or results may differ materially. For more information, you may review the risk factors outlined in the documents of the the company has filed with the SEC, specifically our latest 10-K, quarterly 10-Qs, and 8-Ks. Please note, on this call, we will discuss historical financial and other statistical information regarding our business and operations. Some of this information is included in today's press release, and a recorded version of this call will be available on our website. Today we released our results for the quarter ended December 26, 2020. For the second quarter of the fiscal year 2021, we reported total revenue of $128.3 million, up 10% from the $116.7 million in the same period of fiscal year 2020. For the first six months of fiscal year 2021, total revenue is $251.5 million, up 13% from $222 million in the same period of fiscal year 2020. The revenue increase during the second quarter of fiscal year 2021 was due to the successful ramp of several new customer programs and increased demand from existing customers. At the same time, our revenue continued to be constrained by temporary government-imposed shutdowns and labor shortages at our facilities in Juarez due to the COVID-19 pandemic and associated public health measures. During the second quarter of fiscal year 2021, we again incurred additional cause by COVID-19. The COVID-19 crisis totaling approximately $1.8 million, or roughly 13 cents per share. Despite the pandemic's adverse impact on revenues and expenses, Our margins improved in the second quarter of fiscal year 2021 due to increased revenue. Our gross margin was 8.3%, and operating margin was 2.1%, up from gross margin of only 7% and an operating margin of 1.3% in the same period of fiscal 2020. For the second quarter of fiscal year 2021, men income was $1.6 million, or 14 cents per share, up from $800,000, or 8 cents per share, for the same period of fiscal year 2020. For the first six months of fiscal year 2021, net income was $3.3 million, or 30 cents per share, up from $2.4 million, or 22 cents per share, for the same period of fiscal year 2020. Turning to the balance sheet, we continue to maintain a strong financial position. As a result of the pandemic, related production delays in the second quarter of fiscal year 2021, and the continued ramp and transfers of new programs, our inventory turns remain flat with the prior quarter. In future quarters, we expect to see our net inventory turns increase to be more in line with the expected revenue. At the end of the second quarter, trade receivables were up $8.5 million from the prior quarter, reflecting the increased revenue levels and the timing of shipments later in the quarter. Our DSOs increased to about 69 days, which reflects both timing of shipments during the quarter and some typical delay in payments from customers at the calendar year end. Overall, we have a healthy balance sheet with total working capital of $174 million in a current ratio of 2.9 to 1. Nevertheless, we feel it is prudent to preserve cash and expand liquidity where possible. In this light, we added additional credit facility from our bank in Mexico to bring our total credit facility up to $105 million to manage pandemic risk and give us more flexibility to ramp up production in the coming months. Total capital expenditures for the first six months of fiscal 2021 were approximately $7 million, and we have increased our expected capex to be roughly about $12 million for the full fiscal year. While we are keeping a careful eye on expenditures during fiscal year 2021, we plan to continue to invest in our production equipment, F&T equipment and plastic molding capabilities, as well as in efficiency improvements in our facilities as we prepare for growth and add capacity. For the third quarter of fiscal year 2021, we currently expect to report revenue of approximately $130 million to $140 million and earnings of approximately $0.20 to $0.25 per diluted share. That said, there's a lot of uncertainty surrounding these current estimates. We're working closely with our customers, key suppliers, and employees to minimize the effects of delays attributable to the continued global pandemic, increased global freight and logistic demand, and the signs of certain commodity constraints that have increased lead times and limited availability of key components. While our facilities in the US, Mexico, China, and Vietnam are currently operating and rigorously following current health guidelines, uncertainty as to the possibility of future temporary closures, customer fluctuation in demands and costs, and future supply chain disruptions during the rapidly changing COVID-19 environment could significantly impact operations in the coming periods. Due to the heightened risks associated with the pandemic, We may also issue updated guidance during the coming quarter. In summary, while the COVID-19 crisis continues to cause disruptions during the second quarter and remains a risk in future periods, we are encouraged by our continued growth as we move into the third quarter of fiscal 2021 and by our prospects for future growth. The overall financial health of the company is strong. And we believe that we are increasingly well-positioned to win new EMS programs and continue to profitably expand our business over the longer term. That's it for me. Craig?

Okay. Thanks, Brett. Despite the headwinds presented by the pandemic, we're very pleased with our strong, positive momentum in the second quarter. As we've discussed in detail on previous calls, the pressures on our customer base to lessen their supply China concentration remain very powerful. To date, these tailwinds have driven a significant increase in our business, and that increase has been along multiple vectors. Firstly, current customers with programs in Asia outsourced to other providers have awarded some of that business to us, and we are in the midst of ramping it. Secondly, current customers with new programs that were in the process of being awarded have eliminated Asia from their selection process and selected Keytronic based on our North American footprint. We are in the midst of ramping those programs also. Thirdly, new customers with both existing and new programs have also selected Keytronic based upon our footprint and experience. We would not have won several of these new programs without the opportunity to first ramp the programs in our USA plants and subsequently transfer them to our lower cost plants in Mexico. Another factor in many of our recent wins has been the realization by many companies in our target market that they have lost design control of their products in the process of outsourcing them. Keytronic's strength in engineering has proven to be a powerful asset as these companies work to regain design control, and several new project wins are due in part to our design services. Then another factor in many of our recent wins has been an unusually high level of vertical integration. As a customer seeks to recreate an existing supply chain, the risk and effort is multiplied by the number of new suppliers that must be identified, qualified, bid, selected, ramped, and managed. We believe Keytronic is unique. among our Tier 2 competitors in that we offer a one-stop shop for molding, metals, printed circuit boards, assembly, test, and distribution. Additionally, many of our new customers' products require a manufacturing process that is unique to their product. Keytronic has a long history of developing and optimizing such processes as we onboard a new customer, and this development is aided by our vertical integration. and certainly surrounds the continuing impact of the pandemic and the new U.S. administration stance towards China. Nevertheless, we believe that the lessons learned through the China-U.S. tariffs and the pandemic will continue to drive our current and prospective customers' actions. We believe they will continue to weigh carefully the degree to which they concentrate their supply chain on any one region and cede their design control to their outsourced partners. They more fully recognize the significant impacts an elongated supply chain can have on both cost and availability, the risks of IP appropriation, and the attractiveness of doing business with an outsource partner who can minimize their risk on all of these factors. We structured Keytronic to be the obvious answer as the market began to understand and calculate the costs and risks of over-concentrated outsourcing. We were experiencing increased positive effects of our structure before the advent of tariffs and pandemic. When both of these unprecedented situations came along, they served to accelerate the positive results of our strategy. Even if both of these challenges gradually disappear, we expect that our market will still have been fundamentally and permanently tilted in our favor. We are at an unprecedented point in Keytronic history. We see demand of over $150 million per quarter for the foreseeable forecast window. Our results for the last two quarters have been dampened by COVID effects on our workforce, part availability, and industry-wide shipping and logistics issues. These constraints will continue to be the case, but the growing demand from new and existing customers is a far better problem to have than not enough customer demand. At the same time, we remain focused on protecting the health of all of our employees by adhering to current health guidelines as well as increasing retention of available employees. As Brett noted, we are incurring increased expenses related to the pandemic in order to attract and retain employees who need to meet our growing demand, as well as preventative measures and equipment for employees at all of our facilities in U.S., Mexico, China, and Vietnam. While our supply chain remains vulnerable to temporary disruptions caused by a flare-up of the virus and associated lockdowns and regulations, we've so far been mainly able to work around temporary disruptions or closures. We've also managed transportation complexities and disruptions to our supply chain via alternative sourcing, air freight, product redesigns, and alternate component qualifications. We're closely monitoring inventories and will continue to use safety stock as much as possible to ensure minimum interruptions to our customers. Nevertheless, while we've been able to find solutions for most of the COVID-related challenges to date, clearly none of us are out of the woods with respect to the global pandemic. In closing, I want to once again thank our great employees for their dedication during these challenging times. and for adhering to our strict guidelines for social distancing, masks, and other recommended precautions during the pandemic. Because of their courage, hard work, and strategic foresight, we expect continued revenue and earnings growth in the third quarter, and we continue to invest in new capacity to prepare for long-term growth. Let me assure you that we will continue to make protecting the health of our employees our highest priority. I also want to wish you and your families good health and safe passage during the pandemic. This concludes the formal portion of our presentation. Brett and I will now be pleased to answer your questions.