Zebra Technologies Corporation

Good day and welcome to the Q1 2020 Zebra Technologies Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I would now like to turn the conference over to Mike Steele, Vice President, Investor Relations. Please go ahead.

Before we begin, I need to inform you that certain statements made on this call are forward-looking and subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. These statements are based on current expectations and assumptions and are subject to risks and uncertainties. Actual results could differ materially due to factors discussed in our filings with the Securities and Exchange Commission. During this call, we will make reference to non-GAAP financial measures as we describe our business performance. You can find reconciliations of our GAAP to non-GAAP results in today's earnings press release and at the end of this slide presentation. This presentation will include prepared remarks from Anders Gustafsson, our Chief Executive Officer, and Olivier Leonetti, our Chief Financial Officer. Anders will begin with our first quarter results, then Olivier will provide additional detail on the financials and discuss our outlook. Anders will conclude with opportunities to advance our enterprise asset intelligence vision and trends we are seeing in our end markets. Following the prepared remarks, Joe Heal, our Senior Vice President of Global Sales, will join us as we take your questions. Also, throughout this presentation, unless otherwise indicated, our references to sales growth are year-over-year on a constant currency basis and exclude results from the recently acquired Cortexica, TempTime, and Profitec businesses for the 12 months following each acquisition. This presentation is being simulcast on our website at investors.zebra.com, and will be archived there for at least one year. Now I'll turn the call over to Anders.

Thank you, Mike. Good morning, everyone, and thank you for joining us. First, I would like to say that our top priority at this time is the health and well-being of our employees, customers, and partners. We are grateful to all of the frontline workers especially those sacrificing their personal safety so that all of us can continue to live and work safely through this challenging time. Those on our customers' front lines are heroes, serving in hospitals, grocery stores, delivery vehicles, warehouses, and other parts of the essential supply chains that help keep our lives as normal as possible. Many Cebra employees are also on the front line, supporting the build and repair of products and solutions that are essential to our customers doing their jobs safely and efficiently. To all those heroes, we say thank you. The financial results we published this morning reflect a challenging first quarter environment. We realized a net sales decline of 1%, adjusted EBITDA margin of 19.1%, which contracted by 200 basis points. and non-GAAP diluted earnings per share of $2.67, a 9% decrease from the prior year. We had a strong start to the year, and January and February generally played out to our expectations. However, late in the quarter, as COVID-19 evolved into a global pandemic, we experienced significant supply chain disruption, including product manufacturing delays, restrictions on transportation of goods, and a temporary closure in late March of a key distribution center supplying the Americas. We took extraordinary steps to produce and supply our mission-critical products to customers around the world. Our team was agile, pivoting our resources quickly to closely monitor the situation and take bold action. For example, We chartered planes to expedite product delivery from China to North America and Europe to meet customer commitments. Despite best efforts, we were unable to completely fulfill our order book in the quarter, resulting in a high backlog as we entered Q2. Production in China is now returning to normal, and we have stabilized our global supply chain through mitigating actions. In addition to the supply chain challenges, we saw softer demand through the channel globally, and China's sales were very weak with COVID-19 exasperating trends that had already been soft due to trade tensions. However, in any environment, enterprises worldwide utilize our solutions to address the evolving needs of their customers. In this changing environment, our solutions have become even more necessary for our customers. I would like to highlight a few notable Q1 wins supporting critical use cases in omnichannel, e-commerce, and healthcare. One of the world's largest mass merchants purchased 40,000 of our ZQ6 series mobile printers to address a number of front of store use cases, including online store pickup, pharmacy fulfillment, and shelf tagging. Additionally, we deployed several thousand TC5 series mobile computers to a large e-commerce player in Asia. This follows our competitive takeaway win last year of their printing and scanning business. With COVID-19, this e-tailers demand is growing exponentially. They have been hiring staff and we are working with them on additional solutions. In healthcare, we supported the NHS Nightingale Foundation temporary hospital in the UK. We provided and installed solutions supporting the identification and flow of COVID-19 patients. Nurses at NHS have also been using our TC5 series healthcare mobile computers to arrange virtual visits between patients and their loved ones. As expected, transitory effects of tariffs and expedited shipping expenses weighed heavily on Q1 gross margin and EPS. We have taken decisive actions to mitigate this impact, which drove operating expense leverage despite lower sales volume. We continue to remain agile and take appropriate action as results are pressured due to this challenging macro environment. With that, I will now turn the call over to Olivier to review our Q1 financial results and discuss our outlook.

Thank you, Anders. Let us walk through the P&L on slide six. Net sales declined 1.3% in the first quarter, less than 1% on an organic basis before the impacts of currencies and acquisitions. The COVID-19 pandemic caused supply and demand impacts to our consolidated sales growth of approximately seven percentage points. Despite our sales decline, we believe that we generally are performed in the market globally. Our enterprise visibility and mobility segment sales was most impacted by the COVID-19 disruption and sales decreased 2.9%. The largest supply chain impact was the temporary closure in North American distribution center that Anders referenced. which delayed shipments of mobile computers into the channel. Asset intelligence and tracking segment sales increased 3.2% with relative strength in printing and Zebra retail solutions. We saw solid growth in managed and professional services across both segments of the business, primarily driven by solid attach rates on increased product sales over the last 12 months. Our locations solutions business was lower due to a pause in project spending. Turning to our regions, in North America, sales were flat. A decline in mobile computing due to COVID-19 supply chain challenges was upset by growth in all other major categories. EMEA sales increased 7% with relative strength in mobile computing, printing, and services. We saw particular strength in Central Europe. Sales in our Asia-Pacific region declined 21%, driven by COVID-19 impacts on top of continued softness in China due to trade tensions. China was down 35%, driving most of the regional sales decline. Latin America sales declined 11%, led by lower mobile computing sales, largely impacted by supply chain disruption. Adjusted gross margin contracted 200 basis points to 45.2%, driven primarily by lease for tariffs and expedited freight, as well as unfavorable large order mix. Adjusted operating expenses declined $5 million from the prior year period and improved 10 basis points as a percentage of sales. This improvement was primarily due to prudent cost management and lower incentive compensation, partially offset by the inclusion of expenses from recently acquired businesses. First quarter adjusted EBITDA margin was 19.1%, a 200 basis point decrease from the prior period, driven entirely by lower gross margin. We drove non-GAAP earnings per deleted share of $2.67, a 9% year-over-year decrease, inclusive of $0.17, negative impact from the transitory effects of tariffs and expedited freight expense. Turning now to the balance sheet and cash flow highlights on slide 7, We generated $95 million of free cash flow in Q1. This was higher than the prior period, primarily due to lower use of working capital. We repurchased $200 million of shares in Q1, leaving $753 million of remaining capacity under the authorization. From a debt leverage perspective, we ended the quarter at a modest 1.5 times net debt to adjusted EBITDA ratio. Turning to slide eight, we are well equipped to navigate the unprecedented global environment that we are facing. As I just mentioned, our balance sheet is in excellent shape with low debt levels and $740 million of capacity under our revolver. We deliver mission critical solutions, increasingly diverse in markets. Our capital light business model has a highly viable cost structure due to our outsourcing of product manufacturing and driving the vast majority of our sales volume to third party distribution. We also have a strong free cash flow profile with a flexible cost structure and capital expenditures typically less than 1.5% of sales. We also have a track record of preserving profitability and cash flow in challenging times. We use a playbook to take appropriate actions in various scenarios, preserving capacity for investments in the business that improve our competitive position. Let us turn to our outlook. Given the low visibility due to COVID-19, withdrawing our outlook for full-year net sales, adjusted EBITDA margin, and free cash flow. We now expect these three metrics to be lower than last year, which we will address through cost actions to enhance our profitability and cash flow. Q2 and Q3 are expected to be particularly challenging quarters based on macroeconomic forecasts, independent market research, and feedback from our partners and customers. In this fluid environment, we have done extensive scenario planning and identified many operational and financial levers that we can pull. It is imperative that we stick to our principles of acting swiftly to preserve profitability while doing no harm to the business through reinforcement of our culture. These enable us to prioritize strategic investments so that we emerge stronger than the competition as the market rebounds. As Anders mentioned, we entered the second quarter with a strong backlog driven by temporary supply chain disruptions from the pandemic. As the virus has spread, and market weakness is affecting all of our major geographies across the globe. The impact is more pronounced in our run rate business through the channel as third-party distributors are recalibrating inventory levels. Given these pressures and elevated uncertainty, we expect net sales to decline in Q2 between 11% and 17%. This outlook assumes an approximately 50 basis point positive impact from recent acquisitions and an approximately 1 percentage point negative impact from foreign currency changes. We believe Q2 adjusted EBITDA margin will be between 18 and 19%, which assumes lower operating expenses and a lower gross margin reflecting a $5 million impact from these four tariffs and approximately $9 million of cost to mitigate supply chain disruption from COVID-19. Collectively, these transitory items are expected to impact margin by approximately 150 basis points and EPS by 22 cents. Non-GAAP deleted EPS is expected to be in the range of $2.10 to $2.50. Please reference other 2020 modeling assumptions on slide 9. On slide 10, we provide an update on the anticipated impacts to Zebra from section 301 tariffs on products imported to the U.S. We are generally on track to diversify our global sourcing footprint by mid-2020, despite some modest delays due to COVID-19, particularly in our Malaysian facility. In Vietnam, we have been ramping our expectations. This initiative is expected to mitigate our geographic concentration risk. It also has the immediate benefit of substantially mitigating list for tariffs that became effective last September, impacting our mobile computers and printers. We continue to work with our contract manufacturing partners to replicate production lines in order to move most of our U.S. volumes to broader Asia. These actions are currently expected to result in approximately $20 million of one-time pre-tax charges in the first half of 2020, plus approximately $10 million of capital expenditures. In the first quarter, tariffs negatively impacted gross profit by $7 million. We expect this impact to decline to $5 million in Q2 as we launch alternate sources of supply outside of China. With that, I will turn the call back to Anders to discuss our enterprise asset intelligent vision and end market trends.

Thank you, Olivier. Slide 12 highlights how we are enhancing the value proposition for our customers. Our solutions are even more critical today than ever as we give the frontline an edge by empowering them with technology to do their job most effectively. Industry-leading companies trust Zebra to equip their workers and facilities with the solutions that bring their mission-critical operations to the next level. We are uniquely positioned to address this challenge because we have a deep understanding of workflows and unmatched access to frontline operational data from a vast installed base. We can address big global problems such as ensuring food safety across the supply chain, or a broad range of more localized issues like increasing bed turns in a hospital, modernizing distribution centers to satisfy e-commerce demands, or ensuring that retail associates and store inventory are optimized to maintain product availability. We have been bringing our enterprise asset intelligence vision to life for our customers. We are doing this by enabling them to identify their assets through barcode, RFID, and computer vision, locate their assets with our vertical specific solutions, and understand their condition such as temperature, trailer capacity, and device security so that their frontline workers can take the best next action in real time. Methods for sensing, analyzing, and acting on operational data from the frontline of business have undergone massive transformation in past years as the on-demand economy has taken hold. Inefficient manual processes have evolved into workflows that are augmented and enriched by purpose-built technologies, including hardware, software, and intelligent edge solutions that bring it all together. Businesses are now demanding information about what is happening at the edge of their operations so that they can run their entire operation smoother, safer, and smarter. They generate large volumes of data and are uncertain how to take all those disparate points of information and effectively put it to work in near real time. We have been investing in software, solutions, and services that help our customers leverage real-time data to better orchestrate their workflows and gain a performance advantage. Investments in advancing our capabilities in this area remain a top priority. On slide 13, we highlight the primary vertical markets that we serve. Exciting longer-term growth opportunities remain, and new ones are evolving. as customers in these markets are pressured to improve their technological capabilities in an increasingly on-demand economy. That said, we are seeing mixed trends in this challenging environment, depending on the subsector. Many of our customers are deemed essential businesses, while various others may be temporarily closed for business. In healthcare, the pandemic dramatically increases the need for additional acute care capacity which is the primary area that we serve. Our suite of purpose-built healthcare solutions are enabling pop-up hospitals, drive-through testing facilities, and labs to scale quickly and provide safe and efficient care. Other parts of healthcare have seen a slowdown as government mandates in many locations have paused non-critical care in elective procedures until further notice. Approximately two-thirds of our business in retail is to mass merchants, grocers, and e-tailers who are serving essential customer needs. Many retailers rely on our technology to execute their omnichannel fulfillment effectively. E-commerce and buy-online, pick-up-in-store transactions have increased as more consumers navigate purchasing from their homes. However, social distancing and stay-at-home orders are further impacting department stores and certain apparel retailers who are heavily reliant on in-store purchases. In the transportation and logistics space, increased online purchasing from households is driving significant incremental parcel volume and delivery, which drives increased demand for our solutions. Conversely, government-mandated restrictions are severely pressuring passenger airlines rental car providers, and certain segments of the distribution industry. The manufacturing sector has been challenged with global trade tensions and is facing additional challenges today as stay-at-home orders have deemed many discrete manufacturers such as auto, aviation, and specialty goods non-essential. That said, some of these customers have been creative with their idle operations by producing medical equipment like ventilators utilizing our solutions. Many segments within process manufacturing, such as food and pharmaceutical companies, remain essential and are less impacted. In closing, we are confident that our business fundamentals and strategy are sound and that this crisis will not last. By focusing on serving our customers' needs and continued investment in innovation, We expect to extend our market leadership position as the market rebounds. Now I'll hand the call back over to Mike.

Thanks, Anders. We'll now open the call to Q&A. We ask that you limit yourself to one question and one follow-up so that we can get to as many of you as possible.

Thank you. We will now begin the question and answer session. To ask a question, you may press star then 1 on your telephone keypad. To answer your question, please press star then 2. If you're using a speakerphone, we ask that you please pick up your handset before pressing the keys. At this time, we will pause momentarily to assemble our roster. And today's first question comes from Andrew Buscaglia with Bernberg. Please go ahead.

Hey, guys. Thanks for taking my question. I wanted to touch on your Q2 sales guide. You had a good backlog into the quarter, and it seemed as though your North America sales seemed to be okay this quarter. So I'm wondering, is this just a function of your backlog? And beyond that, is there a concern you just haven't quite seen the effect of this hit other regions outside of Asia?

Andrew, good morning. We have today a lower visibility of the business due to the impact of COVID-19. And we are basically pegged as a business to the economy. And a lot of what we see in Q2 is a question mark on the length of the stay at home and also the impact of the various stimulus packages, either current or to come. And if you study the company over the recent past, we have an history of rebounding quickly when the economy restarts. Now, when it comes to Q2 specifically, what we see today is obviously the impact only due to COVID. We believe we are in a strong competitive position. We believe that, for example, in Q1, we have gained shares. We had a strong backlog entering the quarter. And we see today, from a top-line standpoint, mainly an impact being more pronounced on run rate, which is part of the business going through distribution. And we have seen our distributors' partners adjusting the level of inventory. So this is what we see today going on. But we believe we have a strong value proposition, which works well in good and bad times, and we're going to be ready to manage this this downturn, Andrew.

Okay. And then your guidance for EBITDA margin, um, you know, I think it was a bit ahead of where some people were expecting, you know, is directionally, is this a function of your gross margins, you know, being up sequentially is, you know, what's really, what's behind that margin guidance. So if you look at,

Of course. So if you look at EBITDA at the midpoint, the EBITDA margin would decline year on year by about 270 basis points. So 270 basis points. 1.5%, so 150 basis points, is due to one-off items, either associated with tariffs, or associated with the management of the pandemic, mainly impacting our freight expense. And then the balance is a point of margin being lost due to run rate mix. So if you look at today, if we disaggregate the revenue between bid and run rate, run rate margin is much higher than bids, and we have seen the run rate revenue declining. the margin profile for run rate and bids have been increasing sequentially now for a few quarters. So what you see at play in profitability is a margin impact and largely, a large proportion of the margin impact being due to tariff and C-19. From an OPEX standpoint, we believe we're going to be able to retain the OPEX as a proportion of revenue constant relative to last year.

Got it. Thank you.

And our next question today comes from Paul Koster at J.P. Morgan. Please go ahead.

Yeah, thanks for taking my question. I got two. The first one is, can you give us your latest thoughts on the USPS project? And I might as well throw the second question in now, and that is, It sounds like you expect the channel to destock. Is that a 2Q phenomenon in the guidance, or do you think it will take more than one quarter for them to do that? And can you quantify that in any way?

Yes. Good morning, Paul. I'll take both of these ones. First on USPS, USPS contract continues as per our expectations. As we've talked about before, this is a multi-year contract. We certainly are very proud of it, the biggest in our history. I think it highlights the strength of our value proposition and the strength of our relationships. Our teams, our respective teams, so the SEBA team and the USPS team, they continue to work very closely together. Both sides are very engaged, so there's no no expectations or signs from our side that this will be pushed out in any way. As we said in our last quarter call, we do expect to begin ramping up in Q2, or ramping deliveries in Q2, and we do assume or expect that the majority of all the orders will be deployed by the end of 2021, as the back end is kind of gated by when the US carriers stopped 3G service and at that point USPS will need to have moved off to new devices. We have received new orders beyond the The current order, so it's a new use cases, but within the same framework for an additional 30,000 units. So the business with USPS for us continues to be good, and we certainly look forward to starting to deploy in earnest. And then the other one on destocking the channel. At the moment, I'd say on a global basis, our distribution partners who are the ones who hold inventory are holding a normal days on hand inventory. We don't see it being high or low particularly. It's gonna be within the band that we consider to be normal. What we tend to see early in the downturn is that when sales out goes down, from a disti perspective, they adjust their days on hand, which means they don't have to buy as much in the short term. And then that tends to be more of a one quarter type of activity. So here we are assuming that there will be a reduction in the run rate for our disties and partners, which will cause some level of lesser inventory or to maintain the same level of days on hand inventory. Thank you.

And our next question comes from Keith Housam with North Coast Research. Please go ahead.

Good morning, guys. Anders, you're one of the few guys that's been around since the Great Recession back in 2008, 2009. Can you give us some of your thoughts in terms of how, I guess, your customers are responding now, and is there that same level of fear now that you had back then? I think we understand how your business has changed, but what was your interpretation of how the customers are reacting?

I think, obviously, there's a very different for this crisis versus the 2009 crisis. So I'd say our customers today are probably not as, well, to back up and say, it very much now depends on which kind of vertical or sub-segment of the business you're in. I think in 2009, every customer had concerns about liquidity and so forth. Here we have a bit more of a have and have nots. So if you're a mass merchant, a grocer, e-tailer, or in healthcare, some of the delivery businesses, you're doing very well. They are super, super busy. And if you're more of a brick-and-mortar retailer selling apparel, you might be having shut down all your stores. I think from a customer behavior perspective, I'd say when the orders around... work from home started to be enacted. It probably took two, three weeks for our customers to scramble and get themselves organized to adapt to the new working environments. They were very focused on just making sure their operations continued to run. But in the last month, I'd say they started to come back and start engaging with us on both current and more future-oriented projects. And we try to make sure we make good use of video conferencing to continue to engage and have the sessions with our customers. And I don't perceive that our customers overall are maybe as concerned with how long or how they're going to come out of this recession. Maybe it feels like they have a bit more confidence.

Got it. Thank you. And then I think I heard some of this in your script, but can you clarify again what percentage of your business do you think is done to essential customers?

We didn't talk about it from the entire business, but if you look at retail specifically, which is our largest vertical, two-thirds of our business there goes to mass merchants, grocers, and e-tailers, and those are all deemed essential customers. We've seen some interesting trends there that as people are adjusting to buying from home, not necessarily visiting the store as much, so buy online, pick up in store has become much more popular. Grocery volumes have gone up materially, but buy online, pick up in store has gone up exponentially. And I think that's a consumer behavior that is unlikely to revert back to what it was. I think consumers have now learned a new way of shopping that they like. Then if you look to healthcare, there we have, I would say the majority of our business is tied to essential activities, acute care specifically. And we've been part of pop-up hospitals, drive-through test facilities, and just scaling existing healthcare facilities to be able to take care of the the number of COVID-19 patients that come in. But obviously there's parts of healthcare that has been deemed non-essential, but that's a smaller part of our business that do elective care and so forth. Within transportation logistics, I don't have a good percentage number, but a good part of that business is obviously also part of the essential economy. making sure that the essential supply chains work, all the way from pharmaceuticals to food to e-commerce. I'd say here for us, the last mile delivery, so many more deliveries to households today, and the last mile delivery drivers tend to have our type of devices, and so that's been helpful. But on the other hand, we see other transportation logistics businesses like aviation operating rental car companies and so forth that are under a lot of pressure. And lastly, manufacturing. I'd say a lot of the discrete manufacturers, aviation and automakers, are not essential. They make up less than 5% of our total revenues, while most, I would say, process manufacturing companies like food and pharma are deemed essential for us.

An additional point, Keith, as well, which we think is important, we think that the current situation will actually accelerate the secular trends we are serving. E-commerce, tracking, digitization of workflow, we believe that those trends are going to be even more important going forward.

Yeah, I think that to that point, we see that our solutions have become more necessary for our customers as we really do empower the frontline of workers across all the end markets. So these are the people who cannot perform their duties from home. They have to be in a hospital, a grocery store, a delivery truck. And so I think the crisis is helping to accelerate trends around digitization automation across, across our industries.

And our next question today comes from Jim Rashidi with me to my company. Go ahead.

Hi, thank you. Good morning. A question on, uh, and there's maybe, I just wanted to go back to your, your comment about the haves and have nots and, and, and that's slide 13 where you talk about, you know, some of the essential, um, parts of the business in terms of vertical channels. Is it fair to say that the essential components, whether it's retail, e-commerce, healthcare, that you're anticipating that as a net benefit in the first half of the year? Or put another way, would you expect that potentially, if we've seen increased investments in those areas, That falls off in the second half, in addition to the recessionary pressures that you're seeing in the traditional markets. I'm just trying to get a sense as to, I can't give guidance for the full year, but I'm just trying to get some feel for how that essential business might change from Q2 to Q3. I think you alluded to Q3, Olivier, being a particularly challenging quarter.

Yeah, so, you know, We're going to stop short of trying to give real color or guidance on the full year here, but I'd say for us, our expectations is that this is not a long-term change in how we operate and the world operates, but more of a several-quarter activity. So we certainly expect it to impact Q2 and Q3. And then, you know, depending on how quickly the world rebounds, you know, we will follow. I'd say for us, you know, one of the benefits we have is that we have a very, you know, robust business, a very diversified business across product lines, vertical markets, and geographies. And our value propositions tend to work in good times and bad times, right? In good times, our customers are expanding. They're investing in the business, and they use our equipment to help them do that. In tougher times, they tend to trade OPEX for CAPEX, so they try to use us to get more efficiencies. Right now, at the eye of the hurricane here, we are seeing, obviously, many of the essential businesses being very busy, busier than they had been before. I think how they are behaving today is that they are generally very focused on just making sure they can scale up their operations and scale up the use of technology, but not necessarily having the bandwidth to think very creatively about how to leverage new solutions. I think that will come when the world settles down a little bit more. Customers that are not operating today, say people who have had to shut down their operations, We are talking to them still to make sure that we stay engaged and figure out how can we help them drive more of the digitization and automation of their businesses as they come back. So we feel that we want to engage with all the customers that we have, but obviously the ones that are essential are much more active in both running their businesses and in looking to figure out how to scale them.

Let me add something, if I can. This is Joe Hill speaking. The concept, Tim, that you mentioned about the haves and the have-nots that Anders described earlier also applies to a certain extent within the essential customers. So, for example, in healthcare customers, you have, of course, COVID-related activity, which is at the moment receiving a lot of attention and funding and, therefore, also activity from us. But you also have elective procedures, which are being put off, And corresponding investments that hospitals are making are being postponed. Within retailers, you see a lot of things around buy online, pick up in store. But, for example, automation activities like we showcased with our robot solution that we introduced earlier, those are being paused. Now, the good news is that we're not yet seeing a drop off in confidence among those customers. The customers are still engaging with us remotely. on those longer-term solutions. And so we expect that that have-not part will continue even in those essential sectors in the future.

And our next question today comes from Mehta Marshall with Morgan Stanley. Please go ahead.

Hi, this is Eric on for Mehta. Thanks for taking our question. Maybe just staying on the question of kind of conversations with customers, It sounds like for the most part you've seen maybe a pushing off of projects, but can you help us, I guess, contextualize how much could there be in potential just scaling down of maybe the size of some orders, or have you seen any potential cancellations from maybe customers most impacted?

So today we've only seen a limited number of push-outs. We have not seen any cancellations or any scaling down of orders, as you put it. I think the customers that have pushed out tends to be the ones that are not operating today at all.

Got it. That's helpful. And then maybe just changing gears a bit on share repurchases, understanding you kind of capitalize on a lower share price in the quarter. How should we think about the pace moving forward? Would you continue to be opportunistic or should we kind of expect maybe more focus on cash flow preservation? Just looking at the uptake there.

So we feel strong about the cash flow generation of the company. As we said, as I said, we believe we can protect the majority of the free cash flow of the company even during this downturn. Now the priority for cash allocation is going to be to invest in the business either organically or inorganically. We bought $200 million worth of shares, so it's about 2% of our shares outstanding. So at this stage, we are going to be mainly investing in the business and buyback would not be a priority. Now, it's not going to be totally off the table, but not a priority.

And our next question today comes from Richard Eastman and Robert W. Baird. Please go ahead.

Yes, good morning. Thank you. Could you perhaps, Olivier, could you perhaps just expand a little bit on, you know, the supply chain issues that you had in the quarter and maybe just speak to this Malaysian facility, which I'm assuming was a subcontractor facility, had some closure and some downtime. Is it up? And do you, could you just kind of give us a sense of how much revenue that may have impacted the first quarter?

I think I'll start with this, and then Olivier can help fill out some details. So if you go back to our Q4 call, we highlighted that COVID-19 would have an impact on our supply chain, but it was on the supply side of things. Since then, the China has largely returned to normal. It took a little longer than expected, I'd say, and it was dependent partly on where our contract manufacturing partners were located. So they had to return workers through two-week quarantine periods and so forth. But by the end of the quarter, our Chinese contract manufacturing partners were all working at over 90% capacity. So I think it came back a little slower, but it came back. We also then in the quarter tried to ramp up both our Vietnam and Malaysia facilities. And timing was a little more challenged as we were supposed to do that the Monday after the Lunar New Year. And obviously, you know, no Chinese people were allowed to travel there to help set it up and teach people. But we were I think, quite agile and creative. So we set up video facilities so that we had people in China sitting and watching via video what people in Vietnam and Malaysia were doing to teach them as well as we could. And the Vietnam facility has come up very nicely. It manufactured the same number of printers that we had expected, while the Malaysia facility started off a little slow, but then it got shut down based on the martial law that Malaysia implemented. But we're using the same techniques to get that facility up and running. The impact on Q1, I think, was very modest from that perspective. We diverted and tried to get as much out of China as we could. It had some more impact on tariffs as we now had to manufacture everything in China, or the vast majority of products in China instead.

And going forward, we expect that the supply chain issues are going to be largely behind us. And what you see reflected in our guide for Q2 is mainly some demand pressures.

Actually, I think a call out to our supply team is in order. They've done an excellent job of being agile and working in a very dynamic situation to make sure that all these issues have minimal impact on Q1 and Q2.

And then just as a follow-up question, are there any receivables or credit issues that you are watching within, you know, the bars don't hold a lot of inventory, but are there any credit issues that you're, you know, watching carefully?

So we're spending a lot of time on working capital, obviously, DSO most particularly. So far, the answer is no. And the way, again, we feel strong about our balance sheet, we feel strong about our free cash flow, and we feel strong about our working capital. And we want to use in selected cases the strength of our balance sheet to increase the competitive position of the company. So from a credit standpoint, so far, no particular issues, and we want to help our partners to navigate through this difficult time using our balance sheets.

And one more thing, maybe just to add some color on this. One thing that I think benefits us here is that our partners, their business is to resell our products. So if they are cut off from supply of our products, if they can't get access to our products, their business goes away. So there is a strong incentive from our partners to pay us to make sure that they can stay current and continue to do business.

Our next question today comes from Brian Job at William Blair. Please go ahead.

Hi, good morning. Thanks for taking my questions. I was wondering, first, if there's any way that you could help us by trying to quantify the backlog that you're entering the second quarter with and And maybe compare that to a typical quarter. Do you typically enter a quarter with, say, two or three weeks of backlog and now you have double that? Can you talk in some terms like that to give us a sense?

So the size of the backlog entering the quarter was not out of the ordinary. And this size was slightly higher than due to some of the dispatch center issues we mentioned. So we had to shut down for about a day. At the end of the quarter, one of our dispatch center, and that was about $20 million. So that would be part or so of the opening backlog. But nothing out of the ordinary.

You can think of it as the business continued to do well through the first quarter, so order flow was normal. And the one additional thing was that the $20 million that we couldn't ship out of the North America or the Americas distribution center, that flipped into Q2.

Okay. That seems smaller than I would have thought. I mean, like 2% of revenue, so that's enough for you to call that out. There's no other source of additional backlog entering 2Q?

Nothing of significance or out of the ordinary.

Okay. And then I was just curious, why did that facility, if you can talk about this, why did that distribution center have to shut down? Was that a state-driven decision or was there an illness there? And do you think that this is a potentially a risk going forward with other distribution centers and facilities? Thanks.

So this was an outsourced facility, and there was a case of COVID-19, so they shut down for 36 hours and came back and ran a little slower. But even before that, we had started to take some pretty dramatic, drastic actions in making sure that we had Team A, B, C, and so forth that we had put out more spacing between people, taking a lot of actions to make sure that if anybody were to get infected, it would impact only a small team and not the entire facility. So if something like that were to happen again, I would expect it to have much less impact than it had in the first quarter.

Another one which is of size also, the quarter was very back-end loaded for obvious reasons, right? The supply chain started slowly at the start and ended up strong. So we had to ship a lot in the last few days of the quarter, and a day of shipment was worth much more than ever before. But we're confident that today, largely, the risk from a distribution center standpoint is going to be mitigated going forward. We have very good plans to mitigate those risks now.

And our final question today comes from Jeff Kessler with Imperial Capital. Please go ahead.

Thank you. You mentioned briefly the three acquisitions that you've made that were not part of the original discussion. Could you just update us on whether or not investment in them is going forward? And if so, what role have they played or could they play later on in the year and into 2021.

So I assume you're talking about TempTime, PropiTech, and Cortexis, the three acquisitions we did last year. So I'd say all three are performing well. TempTime was the first one we made in the beginning of 2019. They designed and manufactured visual time temperature monitoring solutions, A lot of them goes on vials of the vaccines in the developing world. Obviously, you know, great, very topical today, although we don't have a vaccine yet for COVID-19.

That's kind of why I'm asking the question. Yeah.

Okay. So we're obviously in contact with WHO and others to make sure that when that happens that we – We can offer our solutions to ensure that the transportation of that vaccine can be temperature-controlled and quality-controlled. Profitec was the second acquisition we did in June of last year. They do the prescriptive analytics, taking lots of different data inputs from a variety of sources, primarily in retail, and using machine learning AI to detect anomalies. And I'd say that's even more critical today as retailers are trying to figure out what they have on the stores, what errors they have, and how to quickly be able to rectify that and being less dependent on having a physical presence in the store to be able to do this. And lastly, Cortexica, which was the computer vision company we acquired at the end of last year, This is a smaller business, mostly focused. Our intent with that is to really leverage the competency of that team, less so the product or the revenue stream. So they have been very active in engaging with building out our computer vision capabilities around our MR robot particularly, but also other solutions. And they've been a great addition to our team. They have great skill sets.

Thanks. My follow-up will be quick. It has to do with your partner program. You mentioned that some of your partners are essentially, if you don't provide them product, they have nothing to sell. The question is about have you made any tweaks in that program during this period of time as you've seen ebbs and flows in your supply chain and going into through the channel that increases for some folks and decreasing for others. And what have you been doing with your partner program, too, if you want to call, to make it more efficient for both them and you?

Yes, I think this is an excellent question for Joe Heal.

Yes. So in our partner program, we have a lot of requests from partners that we help them both technically with training, but also financially and with the program terms in particular. Like many of the programs, we have elements in the program that are, you can think of it like a frequent flyer program where you have to reach certain levels. And we have already announced that we are adjusting those program terms. We're essentially extending it for an additional year. We're also adjusting some of the thresholds that partners need to reach in order to earn their rebates. These are the typical things that you would do in response to a changing business environment when the partners can't earn their targets. And I think so far it's been quite well received because it means that the partners will be able to operate their businesses at the different levels and still achieve their targets.

Anyway, this concludes the question and answer session. I'd like to turn the conference back over to Mr. Gustafson for any final remarks.

Thank you. I would like to thank our employees, customers, and partners who are working the front line. We remain committed to supporting you through this challenging time. Be safe, everyone.

Thank you. This concludes today's conference call. You may now disconnect your lines and have a wonderful day.