Benchmark Electronics, Inc.

Good day, and welcome to the Benchmark Electronics Third Quarter 2023 Earnings Conference Call. All participants will be in a 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 a touch-tone phone. 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 Paul Manske with Benchmark Electronics. Please go ahead.

Thank you, Betsy, and thanks everyone for joining us today for Benchmark's third quarter fiscal year 2023 earnings call. Joining me this afternoon are Jeff Bank, CEO and President, and Rupal Akaraju, CFO. After the market closed today, we issued an earnings release pertaining to our financial performance for the third quarter of 2023. and have prepared a presentation that we will reference on this call. Both are available online under the investor relations section of our website at bench.com. This call is being webcast live and a replay will be available online following the call. The company has provided a reconciliation of our gap to non-gap measures in the earnings release as well as in the appendix to the presentation. Please take a moment to review the forward-looking statements disclosure on slide two in the presentation. During our call, we will discuss forward-looking information. As a reminder, any of today's remarks, which are not statements of historical fact, are forward-looking statements, which involve risks and uncertainties as described in our press releases and SEC filings. Actual results may differ materially from these statements. Benchmark undertakes no obligation to update any forward-looking statements. For today's call, Jeff will begin by providing a summary of our third quarter results. Ruth will then discuss our detailed financial results and our fourth quarter guidance. Jeff will then return to provide more insight into demand trends by sector, business wins, and in closing remarks. If you'll please turn to slide three, I'll turn the call over to our CEO, Jeff Vang.

Thank you, Paul. Good afternoon, and thanks to everyone for joining our call today. The third quarter was another period of solid execution for the company. Despite the dynamic market environment, we met or exceeded expectations in the quarter. This is a direct reflection of our purposeful focus on complex and often highly regulated markets and team-wide emphasis on operational execution. Let me highlight a few key accomplishments in the quarter. Total revenue was 720 million, although down year over year, recall that in Q3 2022, we had 74 million in zero margin supply chain premiums. In Q3 2023, supply chain premiums were less than 16 million, down 58 million versus a year ago. Excluding SEP, we grew revenue by high single digits or more in four of our six sectors. The exceptions being semi-cap and advanced computing, which were down as expected. Whether including or excluding SEP, we expanded gross margin both sequentially and year over year, primarily through operational improvements we put in place over the last few quarters. This enabled us to grow non-GAAP operating income an impressive 22% year over year. I want to congratulate the entire team for delivering such a strong set of results, which was key to allowing us to report 57 cents in both GAAP and non-GAAP earnings. This was above the high end of our GAAP guidance range and 10% above the non-GAAP consensus. Finally, over the last few quarters, we've highlighted steps we've taken to return the positive free cash flow. I'm pleased to report that we delivered this for the second quarter in a row, aided largely by reductions in inventory. We've generated over $34 million in free cash flow over the last two quarters. Considering that and our continuing focus, we feel confident we're on a trajectory to achieve greater than $70 million in analyzed free cash flow, which is in line with the targets we provided. Now, let me pass it over to Ruth to share more detail on the September quarter and our guidance for Q4.

Thank you, Jeff, and good afternoon. Please turn to slide five for our revenue by market sector. Total benchmark revenue was $720 million, excluding the effect of SEP. Revenue was up 1% year-over-year in the period. Reconciliation of this and our sector-level performance can be found in the appendix section of the presentation materials. Turning to slide six, medical revenue for the third quarter was up 8% versus the prior year. Growth was fueled by strength in existing programs, coupled with improved supply availability, allowing us to more fully meet demand. Semi-cap revenue decreased 10% year over year, in line with our expectations. This compares favorably to industry estimates, which have the wafer fab equipment market declining 20% or more in 2023. A&D revenue was up 20% year-over-year due to continued strength in commercial aerospace, defense programs that continue ramping, and improved supply availability, enabling us to address more of our previously unmet demand. Industrials revenue for the third quarter increased 9% year-over-year, driven by strength with existing customers and new customer programs ramping in energy efficiency. Advanced computing decreased 30 percent year-over-year due to the completion of multiple high-performance computing programs in the first half, as expected. In the next-generation communications sector, revenue was up 20 percent year-over-year. Our year-over-year performance was driven by growth in broadband infrastructure programs. Please turn to slide seven. Our gap earnings per share for the quarter was 57 cents. For Q3, our non-GAAP gross margin was 9.6 percent, a 50 basis point sequential increase, and 100 basis point improvement year over year due to our mix of revenue and improved operational utilization. Excluding SEP, in Q3, our gross margin was 9.8 percent, which was in line with guidance. Our SG&A was 35.5 million, down sequentially due to the cost actions taken in the first half of the year, coupled with lower variable compensation. Non-GAAP operating margin was 4.7 percent, up 70 basis points sequentially, and 110 basis points year-over-year as a result of improved gross margin. Excluding SCP, operating margin was 4.8 percent. In Q3 2023, our non-GAAP effective tax rate was 19.4 percent, consistent with our expectations. For Q3, non-GAAP EPS of 57 cents was two cents higher than the midpoint of our guidance. Non-GAAP ROIC in the third quarter was 9.4 percent. Please turn to slide eight to discuss the effects of SEP on a trended basis. In Q3, SEP declined to 16 million versus 17 million in Q2, 2023, and 74 million in Q3, 2022, and continues to decline consistent with expectations. Excluding this, our revenue in the third quarter was $704 million, a sequential decrease of $12 million, or 2%, and a year-over-year increase of $6 million, or 1%. Please turn to slide 9 to review our cash conversion cycle performance. Our cash conversion cycle days were 105 in the third quarter, compared to 103 days in Q2. Our inventory decreased sequentially by $31 million. However, the linearity of customer shipments and inventory receipts adversely affected our accounts receivable and accounts payable days. Please turn to slide 10 for an update on liquidity and capital allocation. In Q3, we generated $38 million of cash from operations and $18 million of free cash flow. Our CapEx spend is supporting continued growth in our Mexico facilities and enhanced capabilities in our precision technologies business unit. We expect our CapEx spending in Q4 2023 to be between 10 and 15 million. This would equate to a full year of 2023 capbacks in the range of $70 to $75 million. Our cash balance on September 30th was $261 million, a sequential increase of $16 million. As of September 30th, we had $129 million outstanding on our term loan, $305 million outstanding borrowing against our revolver, and $241 million available to borrow under our revolver. In Q3, we paid our recurring quarterly cash dividend of $5.9 million. Please turn to slide 11 for a review of our fourth quarter 2023 guidance. We expect revenue, excluding SEP, to range from $675 million to $725 million. SG&A expense will range between $35 and $38 million. Excluding SEP, our non-GAAP operating margin range is forecasted to be 4.8% to 5%. As a reminder, this includes approximately 55 basis points of stock-based compensation. Our non-GAAP guidance excludes the impact of $1.2 million in amortization of intangible assets and $800,000 to $1.2 million of estimated restructuring and other costs. Our non-GAAP diluted earnings per share is expected to be in the range of $0.54 to $0.60. Other expenses net are expected to be approximately $9 million due to primarily interest expenses. We expect that for Q4, our non-GAAP effective tax rate will be between 19% and 21%, with a weighted average share count of $35.9 million. And with that, I'll turn the call back over to Jeff.

Thanks, Rick. Please turn to slide 13. Again, all commentary related to demand trends by sector are excluding supply chain premiums. In medical, this past quarter we did a good job meeting demand as the supply chain continues to improve. Partially offsetting this, however, is demand softening from some customers as they rebalance going into year end. Considering all of this, we're expecting medical sector revenue to likely decline sequentially in Q4, while still growing nicely on a full year basis. We continue to build on our future success in medical during this past quarter, securing new wins that we expect to ramp in 2024 into 2025. For example, we expanded an existing relationship with a key customer, in the heart valve market with several new manufacturing wins at both the sub-assembly and system level. Elsewhere, we had another existing customer award us the opportunity to provide sub-assemblies that will be integrated into their anesthesia and respiratory devices. Within SEMICAP, we believe our SEMICAP sector likely bottomed earlier in the year. However, based on public commentary from many of our customers, we expect SemiCap revenue to remain roughly consistent with current levels through at least the first half of 2024. Our expectation is to continue to outperform the broader WFE market growth rates, driven by our unique customer exposure and new program wins. For example, in Q3, we were awarded an opportunity to manufacture assemblies and fully integrated modules for an epitaxy tool used in the transistor device fabrication process. We also won both the engineering and manufacturing business at another customer that is in support of high-end lithography platform. While the current downturn in the market appears poised to last longer than recent cycles, the long-term growth drivers are undeniable. As the market ultimately recovers, we fully expect to participate in more than our share of semi-capital equipment growth, given our significant investment during this down cycle. Within A&D, commercial aerospace has been improving for us for the last few quarters. We are now more optimistic about future growth within defense, which is both a reflection of both strong demand and improving supply chain. At the same time, we continue to secure new wins in the past quarter, This includes engineering services for test development in the commercial aerospace market. Yet another engineering services win was with the defense program where we're helping on the development of an RF module. Meanwhile, in manufacturing, we run a nice piece of business where we'll be providing a sensor module into a commercial aerospace application. Again, we're pleased with the momentum we're seeing in A&D. In fact, we expect year-over-year growth to accelerate in Q4. With the strong second half expected, we anticipate A&D sector revenue has the opportunity to grow double digits on a full-year basis. Turning to complex industrials, we continue to extend our footprint in key growth markets, including automation, test, and measurement, and energy efficiency solutions. Examples of this include both manufacturing and engineering wins for several next-generation energy efficiency solutions, for residential HVAC applications. Another manufacturing win I'd like to highlight is in the transportation space, where we'll be providing