Benchmark Electronics, Inc.

and welcome to the Benchmark Electronics Incorporated first quarter 2019 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. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star, then two. Please note, this event is being recorded. I would now like to turn the conference over to Lisa Weeks, Vice President of Strategy and Investor Relations. Please go ahead.

Thank you, Operator, and thanks, everyone, for joining us today for Benchmark's first quarter 2019 earnings call. With me this afternoon, I have Jeff Banks, CEO and President, and Ruth Makaraji, CFO. Jeff will provide an overview of our first quarter results and introductory comments, and Ruth will provide a detailed review of our first quarter results and second quarter outlook. We will conclude our call today with a Q&A session. After the market closed, we issued an earnings release highlighting our financial performance for the first quarter 2019, and we have prepared a presentation that we will reference on this call. The press release and presentation are available online under the investor relations section of our website at www.bench.com. This call is being webcast live and a replay will be available online following the call. Please take a moment to review the forward-looking statements advice on slide two in the presentation. During our call, we will discuss forward-looking information. As a reminder, Any of today's remarks that are not statements of historical fact are forward-looking statements, which involve risks and uncertainties described in our press releases and SEC filings. Actual results may differ materially from these statements, and Benchmark undertakes no obligation to update any forward-looking statements. The company has provided a reconciliation of our GAAP to non-GAAP measures in the earnings release as well as in the appendix of the presentation. If you will please turn to slide four in the presentation, I will now turn the call over to our CEO, Jeff Bank.

Thanks, Lisa, and welcome to everyone joining us for this afternoon's call. I'm excited to be here, and it's been a great first month working with the extended benchmark team. I've had the privilege of leading a number of great technology companies before joining Benchmark, and with my product and engineering background, I bring a set of experiences that can help the company navigate through the business transformation underway, as we deliver richer offerings to increase the value that we provide to our customers. Before I share my initial observations and areas of focus, I will provide a brief overview of our first quarter 2019 results. Please turn to slide five. In the quarter ending March 31, 2019, we delivered revenue of $603 million and non-GAAP EPS of 33 cents. both at or above the midpoint of our guidance range. Revenue is driven by year-over-year increases in the higher-value A&D and medical markets, assisted by increased traditional demand in telco and legacy computing. Even with semi-cap headwinds, revenue is comparable to the first quarter of 2018. Our non-GAAP gross margins improved 40 basis points sequentially to 8.8 percent on bigger contribution from the higher-value markets despite continued softening in SEMICAP, which is part of our test and instrumentation market sector, and was down 36% from the first quarter of 2018. Our cash conversion cycle was 72 days in the first quarter, which was within the target range of 73 to 68 days. Cash from operations was approximately $16 million in the quarter, and we continue to expect full-year operating cash flow in the range of $40 to $50 million. We continue to execute on our capital allocation strategy, which Rup will cover in more detail. Now, let me share some initial observations about the company. Please turn to slide six. Since joining the company last month, I've been spending time with customers and our team to gain a better understanding of customers' needs, our priorities, and the state of our business. I've experienced firsthand our unique and differentiated capabilities and I have a deep appreciation for the complexity of technical problems we are solving, working side by side with our customers. As we think about the company strategy going forward, our focus on higher value markets remains unchanged. Five years ago, the benchmark revenue mix between traditional EMS markets and higher value markets was roughly 50-50. After the legacy computing contract exit, that we announced will be completed later this year, our mix by sector will be 75% higher value and 25% traditional markets, which is at our target ratio. Another key element of our strategy is providing rich technical solutions. We have more opportunity in front of us to provide higher value engineering services across our diverse customer base, and in some cases, provide a complete product solution. This means taking an idea from concept to production where customers may rely on us to be their development team. As you might expect, we have seen a positive correlation between where we provide engineering services and where we enjoy EMS wins. So we are motivated to provide more value add and help customers speed their time to market. We have also been investing in technology building blocks based on customer feedback to capture new opportunities, which align with capabilities in our secure technology group, our lock RF design and component centers, and IoT connectivity solutions. As we bring these new capabilities to market, we have to continue to raise customer awareness. For example, I've been a benchmark customer, yet I wasn't fully aware of the depth of capabilities we bring to the table. And I want to make sure we effectively communicate this to our customers. Even in my short tenure here, I'm impressed by the team and some of the amazing projects we're collaborating on with customers. These cut across industries in some of the most demanding product applications, bringing to light for me our tagline, when it matters, go with Benchmark. Whether you're developing medical products that require FDA approval or using our surveillance systems for border protection, or developing components that ultimately will end up in an aircraft or maybe even in space. You have to have confidence that your design and manufacturing partner can handle the criticality of the application. We thrive in these environments. From some of my first customer meetings, I have heard that they need our help and we can do more. We will make sure in all engagements that customers understand the full breadth of our capabilities and we will work together to build collaborative plans for co-development or support our customers' outsourcing needs in the future. I also believe the near-term capital allocation plans the company has put in place are appropriate. We will invest in CapEx to grow the business and continue to fund tuck-in investments to expand our technical capabilities. We will opportunistically repurchase shares and maintain our quarterly dividends. While our strategy and the fundamentals of our business remain strong, we are facing some headwinds from the semi-cap market, where near-term visibility to recovery is not as transparent as we would like. I have executive-level meetings scheduled in the coming weeks to get a better perspective on the recovery timeline. In the meantime, we are dealing with these near-term challenges head-on. We have lined capacity to current demand and are evaluating further cost actions given the delayed recovery of this segment. For the long term, we remain positive on SEMICAP and we continue to win new programs. We have differentiated capabilities to serve the customers in this market. Beyond SEMICAP, we are pursuing global operational efficiency savings across the network to expand our gross margins. we have kicked off a number of projects to further improve productivity and transformation margins, which we will look to accelerate in the coming months. We are evaluating our technology investments across Benchmark to prioritize those that provide the greatest benefit to our customers, balanced with those that offer the greatest potential for return. To review our near-term focus areas, please turn to slide seven. In the near term, I will be reviewing our go-to-market approach with an eye towards execution and achieving results. I understand that this organization is relatively new and has only been built out in the past couple of years. The company has certainly made significant progress to enable revenue growth through new customer and program acquisition, but I feel we can do even more to deliver revenue. A top priority is to improve our customer engagement across our sectors and service offerings. I have been a former and prospective customer of Benchmark, so I bring a customer's perspective to the company and can add my insights and suggestions to this process. In all areas, we need to anticipate customers' technology needs and ensure our service offerings and solutions are tailored to provide maximum value aligned with these same customer priorities. Next, we will ensure we have the right organizational alignment to support tighter engagement with existing customers and sufficient coverage for new prospects and opportunities. I will be adding a sales leader to my staff to bring explicit focus to our go-to-market efforts. The go-to-market organization is critical to continuing to win new bookings, which drives revenue. While we have had success in increased bookings in the past 12 months, we must also have a parallel focus on revenue conversion, which I intend to review further. Some of the delay in conversion is given the complexity of the leading edge nature of our design ones. In some instances, program qualification timing and production ramps are slower than we had anticipated. That being said, There are ways we can greater influence revenue conversion that are within our control. While we continue to review marginal and dilutive contracts, we must also focus on program attrition. I believe there is more opportunity to help customers extend the product lifecycle of existing programs and also take a greater role in the design of new products. Part of our optimizing our go-to-market process will center on these efforts. Coupled with the go-to-market, we will evaluate our business execution and seek opportunities for further efficiencies. We are assessing the overall customer experience to ensure our customer needs remain at the forefront of the entire organization and their experience is more uniform across our global network. We have a global team driving operational excellence. Their focus is on accelerating process and tool standardization that ensures that we are executing for optimal results. We will be laser-focused on design and manufacturing transformation efficiencies. This includes driving greater utilization across our network. Lastly, we also want to ensure our RF and high-speed design center in Tempe becomes fully operational this quarter. Now, I will turn the call over to Rup to discuss our financial results for the quarter. Thank you, Jeff, and good afternoon, everyone.

Before I discuss a recap of our first quarter, on behalf of the entire management team and company, we want to welcome Jeff to the Benchmark family. Please turn to slide nine. Bookings for the quarter were $161 million. We believe that the bookings were solid, considering that award decisions for two new programs were delayed into Q2 2019. The booking target for the full year of 2019 is in the range of $800 to $900 million. Industrials were 17% of bookings with new wins for sensor modules for autonomous vehicles and electronics for vibration control systems. Q1 wins were strong again in medical with 35% of total bookings. We were awarded a program from a new customer for advanced diagnostic systems for infectious diseases where we will provide both design and engineering services. Another notable medical win is a new drug delivery system for an existing customer. T&I, we continue to win new programs in the semi-cap space for new designs related to advanced technologies. We continue to expand A&D wins with new programs with existing customers. Wins for Q1 include aircraft display, electronics, and ground vehicle modules. Computing and telco were a combined 26% for the quarter. We rewarded our program with a new customer for next-generation telco devices. and a new program with an existing customer for high-end security computing. We had 54 total wins for the quarter, 34 manufacturing, and 20 engineering. Moving to slide 10 for a discussion of our first quarter 2019 financial summary. Revenues of $603 million were above the midpoint of our guidance of $570 to $610 million. Our GAAP EPS for the quarter was $0.34, Our GAAP results also included $1.6 million of restructuring and other costs due in part to expenses associated with various site restructuring activities and our recent proxy activity, $2.7 million of recoveries from a recent customer insolvency. Of the recovery amount, $1.7 million was recovery of bad debt expenses, and $1 million was recovery from the write-down of inventory. and 1.8 million of funds received from a legal settlement. Our Q1 non-GAAP operating margin was 2.9 percent, a 30 basis point quarter-over-quarter decline due to lower revenue and slightly higher stock comp expenses. Non-GAAP EPS of 33 cents was at the midpoint of our guidance range of 29 cents to 37 cents. For the quarter, our ROIC was 8.3 percent, down 90 basis points sequentially and 290 basis points year-over-year. Please turn to slide 11 for our revenue by market sector for the three months ended March 31. Industrial revenues for the first quarter decreased sequentially and in line with our expectations due to seasonality. Revenues were down 8 percent year-over-year from demand changes. A&D revenues for the first quarter were up 8% year over year, driven by military and security communication devices and commercial aerospace products. Medical revenues increased 7% year over year from increased demand for renal and imaging products and were flat sequentially versus our expectations for low single-digit growth from late quarter demand changes. Test and instrumentation revenues declined 5% in the first quarter and were down 36% year over year, from decline throughout the broader semi-cap sector. Overall, the higher value markets represented 65% of our first quarter revenue and were down 3% sequentially and 8% year-over-year. Turning now to our traditional markets, computing was up 20% year-over-year due to growth in certain storage customers, but down sequentially 27% quarter-over-quarter as expected from seasonality. Telecommunications was up 7% year-over-year from new program rounds with satellite and broadcast products and up 4% sequentially and better than forecasted from in-quarter demand increases. Our traditional markets, which represent 35% of our first quarter revenues, were up 14% from last year and down 17% sequentially. Excluding the legacy computing contract, our higher value markets represented 71% at the end of Q1 2019, and traditional markets represented 29 percent. Our top 10 customers represented 41 percent of sales for the quarter. Please turn to slide 13 for discussion of non-GAAP key business trends. Gross margin for the first quarter was 8.8 percent, a 40 basis point sequential improvement, and a year-over-year decline of 70 basis points. Year-over-year gross margin decline is attributable to the 36 percent reduction in test and instrumentation revenue which has gross margins above our corporate average. Without the legacy computing contract, our gross margin would have been 9.4% versus the reported 8.8%. Our non-GAAP SG&A was $35.5 million, which was up 4% sequentially, primarily driven by higher stock comp expenses and the seasonality of payroll-related expenses. We do expect our SG&A to continue to range between $34 million and $36 million throughout fiscal year 2019. Non-GAAP operating margin was 2.9 percent, down 30 basis points sequentially. We had $1.6 million in restructuring out of cost for Q1, primarily related to expenses associated with various site restructuring and our recent proxy activity. We expect to incur additional restructuring in transition charges of approximately $3 million to $4 million in Q2 2019, as we continue to reduce excess capacity and improve our cost structure. As a result of the above actions, we expect annualized savings of approximately $3 million. We expect half of those annualized savings to be realized in 2019. Please turn to slide 14, where I will provide a few updates on cash flow and working capital highlights. We generated $16 million in cash from operations for the quarter. Free cash flow was $6 million for the first quarter after capital expenditures of approximately $10 million. Our cash balance was $395 million at March 31, with $230 million available in the U.S. Our accounts receivable balance was $405 million, a decrease of $63 million from December 31. Payables were down $50 million quarter over quarter. Contract assets were $157 million at March 31, an increase of $17 million from December 31. Inventory in March 31 was $316 million, an increase of $6 million from December 31. Please turn to slide 15 to review our cash conversion cycle performance. Our cash conversion cycle was 72 days for Q1, consistent with our expectations, and within our range of 68 days to 73 days. Turning to slide 16 for capital allocation update. Total share repurchases during Q1 were 61 million. We will continue to evaluate further repurchases in Q2 through our open market repurchase program. As of the end of March 2019, we had approximately 140 million available under the current share repurchase program. In March 2018, we announced a recurring 15 cent per share quarterly cash dividend. $6.2 million in dividends were paid in January 2019. Turning to slide 17 for a review of our second quarter 2019 guidance. And to remind everyone, our guidance includes the legacy computing contract. We expect revenue to range from $555 million to $585 million as a result of growth in A&D and medical sectors offset by continued SEMICAP softness. Our non-GAAP diluted earnings per share is expected to be in the range of 28 cents to 36 cents. For sequential modeling information for the second quarter, please turn to slide 18. Overall, we expect industrial revenues to be flat due to a delayed program ramp at one customer. A&D is expected to be up high single digits in Q2 based on continued program ramps from Q1. We expect medical revenues to be up mid-single digits driven from growth in existing customers. In test and instrumentation, we expect a further decline of mid-double digits from further softening in SEMICAP. Turning now to the traditional markets, we expect computing revenues to be down low double digits. We expect telco to be down greater than 20% due to softer demand from one customer and ramp delays because of design stability with another customer. Implied in our guidance is a 2.5 percent to 3.1 percent operating margin range for modeling purposes. The guidance provided does exclude the impact of amortization of intangible assets and estimated restructuring and other costs. Interest expense is expected to be 1.9 million, and the effective tax rate is expected to be 20 percent. The estimated weighted average shares for Q2 2019 are approximately 39 million. Finally, on slide 19, to update you on the legacy computing contract that we are not renewing at the end of 2019, we have begun the transition planning and we expect revenues to be unaffected in Q2. We expect second half 2019 revenues to be approximately $20 million. Excluding the legacy computing contract, we remain focused on our waypoints exiting 2019. We expect that our higher-value market mix and SG&A both to be within our target range. Even with the revenue decline, we still expect to achieve gross margins in the mid-9 percent exiting 2019, excluding our legacy computing contract, as a result of our growth in medical and A&D sectors and previously discussed restructuring activities in Q2. I'll now turn the call back to Jeff for closing comments.

Thanks, Ruth. I'd first like to take a moment to acknowledge and thank Paul Tufano for his contributions to our strategic framework. We will hone our vision, tune the strategy, and focus our efforts going forward to build an even stronger benchmark. After my first month here, I'm even more excited about the potential for this company. Our next stage of growth will be driven by integration of the company's engineering, technology, and manufacturing platforms. We have great people, amazing capabilities, and increasing opportunities in front of us, and our job now is to execute. We are focusing on increasing margins and earnings, even with the near-term headwinds from SEMICAP. Growth in higher-margin medical and A&D sectors, coupled with our immediate cost actions on spending, will enable us to make progress on this objective. Together with the team, I am confident that we can continue to set the standards for excellence and drive innovation in the industry for our customers, partners, employees, and to the benefit of our shareholders. We look forward to updating you on progress in the coming months. With that, I will turn the call back over to the operator to conduct the Q&A session.

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. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. Our first question comes from Anja Soderstrom with Fidoti. Please go ahead.

Yes, hi. Can you hear me?

Hi, Anja.

Good afternoon.

Hi, good afternoon. And hi, Jeff, and welcome to the Benchmark family. Looking forward to working with you.

Yeah, me too.

First, I just wanted to get some more context to the SemiCap. You pushed it back by half a year. What are you seeing that's that you didn't see before since you thought it was going to sort of turn around mid-year?

Oh, yeah, this is Rick. Maybe I'll start with that. You know, honestly, we obviously expected it to start recovering in the second quarter and then ramping previously throughout the second half. I think at this time, and obviously with our guidance that we provided for the second quarter, we continue to see some further softening on a sequential basis. And as such, I think it's why we are seeking greater visibility from our customers. And with that, we've got a series of meetings set up to better understand from our customers what that longer-term visibility is throughout 2019. With all that said, two additional aspects. One, we are winning additional awards from those customers for those advanced technology areas. The other part is because of the further softening or decline on a sequential basis, we've taken some action and are taking action to ensure that our capacity is right-sized to the near-term demand we have.

Maybe I'll just add to that. I've had a chance to engage with our team in this space, and I'm super excited about the differentiated capabilities we have. I remain pretty bullish on SemiCap in general and our ability to serve the customers in the market. As Ruth said, and I was in my comments, you know, we don't have the visibility we'd like to be able to, you know, call this, you know, going forward. And that's something we're going to, you know, I'm certainly going to spend more time on with the team in the coming days here to hear more directly from customers. And I've had the opportunity to talk to a a number of our customers, so and not all in this space, and it's an area where there's a lot of people talking about it, but we're looking for some concrete feedback, and we'll be happy to share that as we get better visibility.

Okay, so it looks like you are pretty confident about it's going to come back sort of in 2020 then. It's just a matter of when, not if it's coming back.

Oh, I mean, I think the design wins certainly bode well for the future and how customers are relying on us. And I even like some of the joint collaboration we've been doing on some really sophisticated technology in this space. So from my engineering background, it's pretty impressive some of the joint effort that we're doing. And I think there's some things that we do that others would have trouble replicating. So I feel generally very good about the potential here, but as you've seen from our second quarter guidance, we're feeling a bit of the pain of that. As Ruth said, we're getting in front of it, but we are certainly keeping our capability in place because we do expect this to come back.

Yeah, and Anya, maybe this is Ruth. I'll just add additionally. I think you said it well. It's a matter of when it will come back. We do expect it to come back. And I think even our customers in the marketplace have indicated that it's expected to come back And I think we want to be able to answer that specificity in terms of timing. And I think as we get some of the conversations that we have in front of us completed, we'll be able to provide that.

Okay, thank you. And then in terms of the sort of component shortage issues you have had before, how has that played out for you this quarter and how should we look at that going forward?

Yeah, you know, I mean, the supply chain, you know, we have had, it's been a constrained market in various commodity areas, especially the passes, that it continues to be a tight market. But I would say that in our Q2 or in our Q1 execution, we didn't see any effects from those component shortages or constraints. We worked through those. That's part of what we need to do effectively. And I think we did do that. And as we look into Q2, I think our guidance, you know, contemplates any such considerations. But honestly, we don't see any effects from constraints, if you will, at this point in time.

Okay, thank you. That was helpful. I'm getting back in the line now.

Thanks, Sonia. As a reminder, if you would like to ask a question, please press star, then 1. At this time, there are no further questions in the question queue. I would like to turn the conference back over to Lisa Weeks for any closing remarks.

Thank you, Operator, and thank you to everyone joining our call today. We'll be available after the call to answer any further questions, and we look forward to speaking with you all again in 90 days. Have a good rest of your day.

The conference has now concluded. Thank you for attending today's presentation, and you may now disconnect.