EnerSys

Ladies and gentlemen, thank you for standing by, and welcome to the Q2 2021 Inter-System Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. To ask the question during this session, you will need to press star then 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star then 0. I would now like to hand the conference over to your speaker for today. This is Dave Schaefer, President and CEO. Sir, you may begin.

Thanks, Tawanda. Good morning, and thank you for joining us for our second quarter 2021 earnings call. On the call with me this morning is Mike Schmidlein, our Chief Financial Officer. Last evening, we posted slides on our website that we will be referencing during the call this morning. If you didn't get a chance to see this information, you can go to the webcast tab in the investor section of our website at www.enersys.com. I'm going to ask Mike to cover information regarding forward-looking statements.

Thanks, Dave. Good morning, everyone. As a reminder, we will be presenting certain forward-looking statements on this call that are based on management's current expectations and views regarding future events and operating performance. and are subject to uncertainties and changes in circumstances. Our actual results may differ materially from forward-looking statements for a number of reasons. Our forward-looking statements are applicable only as of the date of this presentation for a list of factors which could affect our future results, including our earnings estimates. Seeing forward-looking statements included in Item 2, Management's Discussion and Analysis of Financial Condition and Results of Operation, set forth in our quarterly report on Form 10-Q for the fiscal quarter ended October 4, 2020, which was filed with the U.S. Securities and Exchange Commission. In addition, we will also be presenting certain non-GAAP financial measures. For an explanation of the differences between the comparable GAAP financial information and the non-GAAP information, please see our company's Form 8-K, which includes our press release dated November 11, 2020, which is located on our website at www.intersys.com. Now let me turn it back to you, Dave.

Thanks, Mike. I will spend the first few minutes of this morning's call providing an overview of our solid second quarter results and the state of our business overall. Then I will take a step back and provide an update on how we're tracking against the strategic initiatives we laid out at our 2019 Investor Day a little more than a year ago. As we entered our second quarter, the COVID-19 pandemic continued to disrupt economic activity unevenly in markets around the world. However, we began to see a rebound from the virus's impact on our business throughout the period and actually exited the quarter with orders very close to pre-pandemic levels. U.S. and Chinese motive power markets have recovered much faster than Western Europe, while energy systems and specialty were less impacted by COVID. We continued to build on the cost reductions we instituted early in the first quarter, while always staying ready to flex operations back up in response to demand recovery. As you may recall, our model allows us to quickly adjust our capex and opex without impacting our revenue growth objectives or our quality of service. Many of the OPEX initiatives we have put in place will enable us to maintain an improved level of operational efficiency with our new global line of business alignment, even as the demand ramps up. All of our major facilities remain open, and we continue to prioritize the safety of our employees as COVID cases rise around the world. Despite the ongoing headwinds caused by COVID-19, the diversified nature of our business was evident during the quarter as we reported solid second quarter fiscal 2021 adjusted earnings of $1 per diluted share. Our specialty segment was particularly strong, especially in the transportation portion of our business. Energy systems turned in a solid quarter with the beginnings of 5G uptick becoming apparent. And while our motive power business still lagged Q2 prior year overall, our maintenance-free TPPO Nexus Pure products have continued to outperform. It appears that the COVID market disruption is accelerating our customers' interest in our new dual-chemistry Nexus products. This conversion to maintenance-free, combined with the lingering impact of COVID in Europe, and our overall productivity improvements drove our decision to close our legacy flooded motive power factory in Hagen, Germany. Mike will provide more details in his prepared remarks. Due to improving business conditions and our streamlined cost structure, we generated exceptionally strong cash flow during the quarter, enabling an incremental $86 million in net debt reduction to achieve debt leverage of just under 2.1 times. We did this while still investing in the business. Please turn to slide three. I'd now like to provide a little more color on some of our key markets. Our largest segment, energy systems, performed well during the quarter despite the impact of the pandemic. In the Americas, we saw growing momentum throughout the second quarter with improved order rates for broadband and continued robust demand for battery systems, particularly on the telecom front. Combined, EMEA and APAC delivered double-digit year-over-year revenue growth. Global telecom carriers remain committed to investing in their networks to increase capacity and reliability. In the Americas, the completion of the T-Mobile merger has led to large purchases for our cabinets, batteries, and electronics as a complete system for their 5G ramp-up. In addition, To the direct benefits of the merger, the mandated DISH spinoff presents a significant opportunity for Enersys in the quarters ahead as its fourth quarter nationwide provider looks to build their own 5G network. The broadband business continues to be a story of short-term pain that will inevitably lead to exciting long-term growth for Enersys. The COVID-induced work and school-from-home policies have stressed all broadband networks and resulted in the MSOs focusing near-term network capex on capacity augmentation over longer-term network hardening programs. There is no denying that the reallocation of budgets has negatively impacted our business over this period. However, there is a clear light at the end of the tunnel as two of our largest broadband customers have recently begun allocating increased CapEx to network powering, and we have seen improved order rates and power project approvals driving an upcoming recovery for our broadband segment. Factoring in this positive trend, along with the industry's clear need for long-term network power infrastructure to support increased 5G power consumption, we expect the broadband business to transition from a headwind to a tailwind in the near future. Please turn to slide four. As noted earlier, our new maintenance-free Nexus products are being well-received in the market. I am pleased to say we have started the launch of our Nexus Ion Lithium Motive Power Batteries and are in the early stages of testing and validation globally with key forklift OEMs. We have also initiated pre-launch end-user site demonstrations globally with very positive results in several large accounts. Our sales team is focusing the Nexus Ion products on the portions of the market with the most demanding duty cycles. For example, we trialed Nexus Ion at a carpet mill that runs their fork trucks nearly 24-7, where there is very little time to recharge the batteries. The increased capacity and excellent charge acceptance of Nexus Ion allowed the customer to keep running while charging only during breaks. The new third-generation TPPL motor power pack is also progressing on schedule with respect to the high-speed line commissioning. And as we've discussed previously, this new product family will be using large-format carbon-enhanced TPPL batteries coupled with a matched battery management system. The carbon additive, when controlled correctly, will provide the user with a significant increase in energy throughput, resulting in longer life. Further, the addition of a battery management system integrated with the vehicles and the chargers will allow the same experience as our lithium family of products. Please turn to slide 5. The third segment of our business, specialty, had another outstanding quarter, particularly in light of the ongoing impact of COVID-19. Our results in this segment are being driven by our success in transportation, where our backlog remains strong and over-the-road new truck demand is improving. The automotive aftermarket business was very strong in the quarter following several recent contract wins, along with continued success in retail channels with distributors such as NAPA. We have continued to increase Anarsys' market share in the transportation sector by leveraging our technology platform with TPPL. Our defense business improved sequentially in the second quarter as our thermal products continue to win more awards. Our ongoing expansion of these thermal products used in munitions also continues to progress. The majority of these programs have capitalized on our industry-leading cobalt disulfide battery technology that provides lighter weight and extended operating times for applications in air and missile defense, air-to-ground weapons, and hypersonics. Our satellite business continues to shine as well. Please turn to slide six. Now that I've given you a brief overview of our second quarter results and the prevailing trends in each of our business segments, I wanted to take a look back at the strategic initiatives we outlined in our October 2019 Investor Day, which very much remain our core areas of focus today, and we are seeing excellent progress in each of these. As a reminder, they include the following global initiatives. One, growing the portfolio of products in our energy systems business, particularly in telecom, with fully integrated DC power systems and small cell site powering solutions, which will accelerate our revenue growth from 5G. Two, accelerating higher margin maintenance-free motive power sales with Nexus Ion and Pure. Three, increasing transportation market share in our specialty business. And four, reducing waste through continued rollout of our Enersys operating system. Our acquisition of the Alpha Technologies Group two years ago created the only fully integrated AC and DC power supply and energy storage provider for broadband telecom and energy storage systems. It positioned EnerSys to provide a single-source solution for fiber connectivity, enclosures, small cell power, power conversion, power distribution, and energy storage backup with a nationwide engineer, furnish, and install organization to turnkey and maintain the project. The opportunity we initially saw in Alpha is coming to fruition as large customers expand their spending patterns from just batteries to EnerSys' complete systems offering. We expect this trend to continue in the quarters ahead. AT&T opportunities are improving for us as they deploy 5G infrastructure for macro and RAN sites, while our strategic collaboration with Corning to speed 5G deployment through a next-generation touch-safe line powering system for small cells is advancing. This collaboration will leverage Corning's industry-leading fiber, cable, and connectivity expertise and enters this technology leadership in the remote powering solutions and has been endorsed by one of our largest telecom customers. We are excited by this opportunity and all the actions we are seeing on the 5G front. To help you better understand the impact it is already having on our business, it is worth noting that we have already seen $50 million of 5G-related revenue lift during this year, which we believe is only the tip of the iceberg for this long-term growth driver. Unfortunately, the 5G benefit was masked by the reallocated CapEx spending from our larger broadband customers during the quarter, as discussed earlier. We remain more excited and bullish than ever about the longer-term impact 5G will have on our business, especially with the new technologies we are deploying to assist our customers in this megatrend. As a result, we are projecting steady 6%-plus CAGR of energy system sales over the next five years. Our next strategic initiative, maintenance-free motive power, is well on track to our five-year plan. In the quarter, for example, while America's flooded lead-acid battery sales were down 25% year-on-year, America's motive power TPPL Nexus sales were up 25% in the same period. As this trend continues and demand resumes, maintenance-free will comprise a larger portion of our motive power revenue, and the higher gross profit margins will have an even more dramatic impact on our profitability. We are now estimating that our maintenance-free Nexus offerings will grow to be the majority of our battery business by fiscal year 25. We are pleased to say that the Next Generation initiatives, growing transportation market share in the specialty segment, has been a resounding success over the past 12 months. The transportation business in the Americas continues to improve as we sign up new customers for Odyssey TPPL products in the premium automotive and trucking spaces. While still impacted by shutdowns from COVID, we grew our transportation business by 64% this quarter with the integration of Northstar and are currently limited only by TPPL capacity that will increase dramatically when the high-speed line is fully operational. We are well positioned to capitalize on a strong backlog and ongoing demand as our long-term transportation sales outlook matches our planned capacity over the next five years. Finally, our last strategic initiative, Enersys Operating System, or EOS, focuses on improving manufacturing costs and capacity realignment, such as the restructuring announced last night for Mia's Motive Power business, which should reduce $20 million a year in costs. At this point, the integration of Northstar is nearly complete. Odyssey-branded automotive products are now being produced in Northstar factories, and our new high-speed line is proceeding through its commissioning in the newest plant with commercial revenue expected before the end of this calendar year. Northstar Factories report to a TPPL global leadership team to more effectively share best business practices with our three other TPPL factories. Managing TPPL under one global team has been critical to our ability to integrate Northstar and increase production capacity in such a short period of time. Despite completing the integration, however, we have been hampered financially by underabsorption at our factories due to COVID, as well as the inefficiencies inherent in all startups. These inefficiencies include the time necessary to hire new people and train them on new products and systems. This was more challenging in a period when many government incentives paid them to stay unemployed. These short-term manufacturing inefficiencies have masked other areas of operational improvement, which will contribute to shareholder value in years to come. Please turn to slide seven. While we are clearly on the right track and beginning to see the benefits of each of these initiatives, we estimate COVID-19 has delayed our progress against our Investor Day model by three to four quarters. With that in mind, during his portion of the call, Mike will provide an update on the plan we laid out during Investor Day. I'd like to conclude by saying that despite the challenges we've continued to confront with the pandemic, I am very proud of how our team has operated in this new environment. Looking ahead, we are extremely excited by the accelerated 5G build-out and the significant opportunity for our industry-leading TPPL product, provided customers continue to seek a maintenance-free solution to their critical power needs. With that, I'll now ask Mike to provide further information on our second quarter results and go-forward guidance.

Thanks, Dave. For those of you following along on our webcast, we have provided the information on slide 8 for your reference. However, I am starting with slide nine. Our second quarter net sales decreased 7% over the prior year to $708 million due to an 11% decrease from volume, a 1% decrease in pricing, net of a 1% increase from currency, and a 4% increase from acquisitions. On a line of business basis, our second quarter net sales in motive power were down 21% to $264 million, and energy system net sales were down 1% at $341 million, while specialty increased 24% in the second quarter to $104 million. Motive power suffered a 21% decline in volume due to the pandemic and a 1% decline in price net of a 1% increase in FX. Energy Systems had a 4% increase from the North Star acquisition and a 1% improvement from currency, offset by decreases of 1% and 5% in pricing and volume, respectively. Specialty had 17% from the North Star acquisition, less 9% in volume improvements, and 1% increase from FX, net of a 3% decline in price and mix. On a geographical basis, net sales for the Americas were down 8% year-over-year to $481 million, with an 11% volume drop and a 1% price decline net of a 4% increase from acquisitions, offset by a 1% decrease from currency. EMEA was down 6% to $172 million on 13% volume and 2% price declines, with 5% improvements in currency and 4% from acquisitions, while Asia was up 3% to $56 million due primarily to currency. Please now refer to slide 10. On a sequential basis, second quarter net sales were up slightly compared to the first quarter, driven by translation improvements. On a line of business basis, specialty increased 17% with Northstar starting to contribute its capacity for transportation sales, while motive power was flat and energy systems was down 4% on soft broadband revenue. On a geographic basis, Americas were down 2%, EMEA was up 8%, while Asia was up 1%. Now a few comments about our adjusted consolidated operating earnings performance. As you know, we utilize certain non-GAAP measures in analyzing our company's operating performance, specifically excluding highlighted items. Accordingly, my following comments concerning operating earnings and my later comments concerning diluted earnings per share exclude all highlighted items. Please refer to our company's Form 8K, which includes our press release dated November 11, 2020, for details concerning those highlighted items. Please now turn to Slide 11. On a year-over-year basis, adjusted consolidated operating earnings in the second quarter decreased approximately $9 million to $66 million, with the operating margin down 50 basis points. Lower commodity costs and operating expenses were not enough to offset the volume declines and higher manufacturing costs. However, on a sequential basis, our second quarter operating earnings improved 70 basis points to 9.35%. Operating expenses when excluding highlighted items were at 15.7% of sales for the second quarter, compared to 16.1% in the prior year, as we reduced our spending by $11 million year-over-year and nearly $3 million sequentially. Excluded from operating expenses recorded on a GAAP basis in Q2 are pre-tax charges of $11 million primarily related to $6 million in Alpha and North Star amortization, and $3 million in restructuring charges. Excluding those charges, our motive power business segment achieved an operating earnings percentage of 9.2%, which was 120 basis points lower than the 10.4% in the second quarter of last year due to the 21% lower volume mentioned earlier in driving an $11 million drop in operating earnings. On a sequential basis, Motive Power's second quarter OE also dropped 120 basis points from the 10.4% margin posted in the first quarter due primarily to the reduction of $2.3 million in recovery on business interruption proceeds from the $3.8 million in Q1 down to $1.5 million. The recovery on our business interruption claim from the Richmond fire has nearly concluded, as has most of the reconstruction of the facility. We received $5 million in April, which was reflected in last fiscal year's fourth quarter results. We received another $4 million in May, which was recorded in the first quarter of fiscal 21, and we received over $1 million in July, which are reflected in Q2's results. We expect to collect another $2 million on the matter, bringing the total recovered to nearly $13 million. Overall, the claim, including property loss and cleanup, along with the business recovery, totaled approximately $45 million. Energy systems operating earnings percentage of 8.8% was up from last year's 8.6% and up from last quarter's 8.0%. OE dollars decreased to half a million from the prior year, primarily from lower operating expenses. and increased $2 million from the prior quarter on lower commodity costs and operating expenses. Specialty operating earnings percentage of 11.4% was down from last year's 12.3%, but up from last quarter's 6.5%. OE dollars decreased nearly $2 million from the prior year on higher volume. Excuse me, they increased nearly $2 million from the prior year on higher volume and increased $6 million from the prior quarter on higher volume and lower manufacturing variances. Please move to slide 12. As previously reflected on slide 11, our second quarter adjusted consolidated operating earnings of $66 million was a decrease of $9 million, or 12%, from the prior year. Our adjusted consolidated net earnings of $43 million was nearly $10 million lower than the prior year. The decline in adjusted net earnings reflects the decline in operating earnings, as well as a $4 million foreign currency loss, primarily on unfavorable exchange rates for intercompany balances. Our adjusted effective income tax rate of 17% for the second quarter was lower than the prior year's rate of 18% and lower than the prior quarter's rate of 21%. Discrete tax items caused most of these variations. Fiscal 2019's full-year tax rate was 17%, while our fiscal 2020 tax rate was just below 18%, which is consistent with our expectations for fiscal 2021. EPS decreased 19% to $1 on lower net earnings. We expect our third fiscal quarter of 2021 to remain near the 43.1 million of weighted average shares outstanding in the second quarter. As a reminder, we still have nearly $50 million of share buybacks authorized, but have no immediate plans to execute any repurchases or with perhaps the exception of the modest annual repurchase made to offset employee stock dilution. Our recently announced dividend remains unchanged. We have included our year-to-date results on slides 13 and 14 for your information, but I do not intend to cover these in detail. Please now turn to slide 15. Our balance sheet remains strong and well positioned for us to navigate the current economic environment. We now have nearly $414 million of cash on hand and our credit agreement leverage ratio is now 2.1 times, which allows over $600 million in additional borrowing capacity. We expect our leverage to remain below 2.5 times in fiscal 2021. We generated over $87 million in free cash flow in the second fiscal quarter of 2021. Our first half free cash flow generation was very strong at $177 million. Our receivable collections also remained very good, with our DSO matching its historical low. Capital expenditures of $40 million were at our expectation for the first half of the fiscal year. Our CapEx expectation for fiscal 21 of approximately $65 to $70 million has expanded slightly as the economic outlook has improved. Our major investment programs, those being lithium battery development, continued expansion of our TPPL capacity, including the North Star integration, the installation of our high-speed line, and the transition of Northstar products for the European market to our French factory are all progressing as planned. Our high-speed line is being commissioned this month and should soon commence operations. Even with these investments, we've retained the agility to flex our manufacturing footprint as needed. Our decision announced last night to close our Hagen, Germany facility after nearly 25 years of group ownership reflects our assessment that, one, the transition of maintenance-free solutions for forklifts, two, the collective oversupply of flooded batteries for forklifts in EMEA, along with, three, the continued slump in demand from the pandemic and other market conditions. It was a decision we struggled with given the strength of the workforce and our lengthy ownership of that facility. It will cost in excess of $80 million, with 75% being cash charges for severance, decommissioning, cleaning, and closing open contracts with vendors. But it should pay back in under four years, and we can handle all expected demand from our other existing factories. We anticipate our gross profit rate to remain near 25% in Q3 of fiscal 21, as the lower utilization rates and some of our factories over the July to September months will not hit our P&L until this third fiscal period, which we are now in. We expect expanding margins thereafter. As we had previously mentioned, we recently took the time to refresh our outlook from that provided on our investor day last fall. As Dave mentioned, we still feel the core of our expectations remain intact. Beyond the 9- to 12-month deadline, delay due to the pandemic in reaching our previously provided target for an additional $300 million in incremental adjusted net earnings, we believe the most profound updates are that, number one, the conversion to maintenance-free solutions for motor power is progressing faster than initially expected, thus precipitating the closure of our motor power factory in Hagen, Germany. Number two, our increased confidence in our solutions for the 5G build-out. Number three, stronger than expected demand in the automotive aftermarket. Number four, our planned TPPL capacity expansions will still satisfy our projected needs. And five, our performance in this recession has been as we predicted on Investor Day if a recession were to occur. As Dave described, We believe motor power markets are recovering while our energy systems and specialty markets continue to have bright prospects. With some of the uncertainty from our elections and the pandemic behind us, we currently feel we have enough visibility to provide a guidance range of $1.17 to $1.21 in our third fiscal quarter. Now let me turn it back to you, Dave.

Thanks, Mike. To Wanda, we can now open the line for questions.

Thank you. Ladies and gentlemen, as a reminder to ask a question, you will need to press star then one on your telephone. To withdraw your question, press the pound key. Again, that's star one to ask the question. Please stand by while we compile the Q&A roster. Our first question comes from the line of Noel Kay with Oppenheimer. Your line is open.

Good morning. Thanks for taking the questions. I guess I'll start with, you know, David and Mike, last quarter you provided a very helpful kind of commentary on orders cadence and how that trended during the quarter. I think you did some disaggregation amongst the segments and regions. I wonder, you mentioned obviously the headline here seems to be that, you know, orders are close to pre-pandemic levels. Do you think you maybe disaggregate that a little bit and provide us some color if you want, either by segment or geographic trends of how that has trended over the course of this past fiscal quarter and maybe here even into October.

Sure. Noah, it's good to hear from you. I would say over the last 12 weeks, orders have stabilized. And so it's not just a one-week phenomenon. And as you know, most of the GAAP and the orders previous to that was in the motive power segment. So that's where most of the improvement has occurred. It's broad-based. As I said in my prepared remarks, China and the U.S. seem to be coming back faster in motive than Western Europe, even though we do see recovery there as well. It's just not as fast, and it's a moving landscape with the transition to – Maintenance-free, we've also done some really good things in our Polish factory. So there's just a lot of moving pieces that precipitated the Hagen decision. But overall, the order flow environment has been solid. Actually, as I noted in my prepared remarks, energy systems, rest of world, had a very good quarter. So it's broad-based. Mike, is there anything I missed there?

No. I think the order intake has been very consistent with prior year levels, and it's been there for three, maybe four months now. Right. Okay.

Okay, that's helpful. I want to ask you, I think you provided some color on the decision to close the German facility I want to ask you about, you know, that decision in the larger context of the technology shifts. You mentioned that you've been maybe seeing a faster-than-expected acceleration in demand for the maintenance-free batteries away from flooded lead acid demand. You know, would you say, first of all, that there seems to be more demand specifically for lithium in this environment, and that's supporting some of your launches? And then also, how do you think about potential vertical integration risk for any of the OEMs, you know, whether it's in the Americas or in India on the lithium ion side, if they do decide to go further in that direction?

Right. No, most of the demand is TPPL, actually. And I've told you for many quarters now, we're trying to create a common experience for the customer, whether they're using our TPPL technology or lithium. So whatever's inside the box, they shouldn't care about because the way it's charged, the way it's managed is the same. And it's proving out the way we wanted it to. And And most of the orders, if not all of them, in the recent quarters have been for the TPPL. We think that as we push deeper into some of these real heavy-duty customers, the folks that run their trucks 24-7, 365, that's going to be an opportunity for us to pick up more sales in the lithium side. But we're actually doing extremely well with thin plate pure lead. And that's, you know, it's a high-quality problem. But right now we're still in that situation where we're limited in how much we can do as we bring on this additional capacity. So, yeah, I would say it's mostly a TPPL story today. And we're hoping that the new lithium products are going to take the maintenance even further. And again, the Hagen decision wasn't just about the technology shift, Noah. If you remember, there was the sunlight fire and the sunlight recovery. It's always been a low-growth market. We've expanded production productivity and capacity in Poland. So it was a complex and difficult decision. an emotional decision, but it was more than just the conversion to maintenance-free.

And I would say that while the pandemic may have influenced the timing of that decision, I don't think it changed the decision. Correct. The first two items changed. that being the conversion to maintenance-free and the collective supply from the entire industry of flooded products versus its demand. We're simply in an oversupply situation, I believe.

Okay. That's very helpful. Thank you. Let me sneak one more in here. Dave, I think you mentioned that there has been – a nice uptick here really in some of these 5G-related revenue streams coming in here, and it's been masked a little bit by broadband. Just considering all the different pieces and customers that you have, you know, how soon do you think we actually get back to, you know, significant year-over-year growth in energy systems? Is that a 3Q event, a 4Q event? When do you really feel like we're going to start to see some true, you know, kind of top-line inflection here? in the business?

Well, in the telecom sector, we're already seeing the growth, and we expect it to accelerate further, probably springtime, you know, maybe starting our new fiscal year, we expect probably another uptick in telecom. So the gap right now has been the broadband, the cable TV, Comcast Charter folks, and you can see with their spectrum auction, And some of the projects we're hearing, they've got some very aggressive plans laid out to bring faster speeds and more services to their customer bases. You know, we kind of think it's the big five in the U.S. between Verizon, AT&T, Timo, Charter, and Comcast. Those are really the big five broadband. And each of those customers, we have very... good projects in the headlights. And it's broad-based, and not everybody, and what can be a little confusing, I guess, is each of those big five have their own strategy on how they're going to use the 5G frequencies and technologies, where their initial focus is, what the longer-term focus is. The good news for Enersys shareholders is we have a broad suite of products, and we have reached and services and relationships and brand awareness across all five of those major accounts. And then I think the real longer-term opportunity still exists globally for us to take these successes that we're starting to enjoy today in the U.S. into the broader international market. So we couldn't be happier with – the alpha acquisition, the plan, I think the timing has been disrupted from when we did the original acquisition, but by and large, it's going to plan, and we couldn't be more excited about the 5G opportunities.

Okay, thanks so much for taking the questions.

Thank you.

Thank you. Our next question comes from the line of Greg Lewis with BTIG. Your line is open.

Yeah, hi. Thank you, and good morning, everybody.

Hi, Greg.

So I just wanted to talk a little bit about, you know, the specialty, the kind of the defense area. You know, just kind of as we think about it and the potential for, you know, new administration, like, what is that? Like, you could give us some sort of context. Does that kind of change that business in terms of Pacer Ramp, or is it more around, you know, product lifecycle updates or changes. So I'm just kind of curious as we can, because clearly it was a good quarter. You guys called it out. You know, as you kind of look out over whatever time period you want, like how should we be thinking about that, you know, kind of as we move forward into, you know, a potential change in, you know, government?

Okay. You know, it's a growing important sector for us, and I think our success of late, is mostly that the change of trajectory and focus for us is a result of an acquisition we did a few years ago when we acquired the cobalt disulfide technology with Ensor Deal thermal batteries. And so that's where we've seen the biggest stair steps. But based on the feedback we're receiving, and actually I have to say that part of our defense business the first half of our fiscal year was disappointing. So it's a mixed story there, but other parts are really going very strong. So by and large, we haven't heard from anybody on our sales team any sort of change in what they expect. And some of the things we're working on are long-term programs anyway. So we aren't anticipating anything. any major impacts for our shareholders from the change administration. Mike, do you see it any differently?

Yeah, no, you need to keep in mind, Greg, that the U.S. fleet, whether it's helicopters, tactical vehicles, submarines, jet aircraft, you know, that's a pretty fixed fleet, and the U.S. is going to do their maintenance on them, you know, and they have those weapons systems last for 20, 30-plus years, so that's a very steady stream. You know, we can count on selling, you know, $40 to $50 million in tactical vehicle batteries every year. So that part doesn't change. Where we've seen growth, the thermal products, you know, the investment in precision-guided munitions, you know, missile systems, defense systems, you know, a shield, if you will, that's where we've seen growth. We've seen really great results out of our satellite business. So, you know, the core business, which is the bulk of the revenue, is really steady, and although it can be, you know, move a little bit depending on timing of when they make their orders, and sometimes they have budget restrictions. You know, early in the pandemic, they weren't really good about ordering at that point. But that always comes back, and it generally always level sets. So we're seeing growth on that answer-based side and in our satellite business.

Okay, great. And then just one more for me. And you kind of touched on it around, you know, the forklift business. And clearly, TPPL is still where there's a lot of demand. But, you know, you have the ION product and, I guess, testing. And so I think it's very topical just because you hear a lot about how hydrogen is going to change this market. Clearly, your customers aren't there yet. But as you think about the ION market, and the rollout of that. You know, I guess a couple questions around that, and I think, you know, in the prepared remarks. But, like, as we think about, you know, CapEx rollout, you know, like, what do you see the path for the rollout of that? And really, customer acceptance in any kind of way that moves the needle, it doesn't necessarily sound like it's a 12-month type, Window, it sounds like it's more going to be a little bit farther out. Any kind of color you could give around that I think would be pretty helpful.

Yeah, I think what's most important to our customers and what's changing the dynamic is how heavy the equipment is utilized. So in traditional kind of manufacturing and distribution centers, they didn't push the equipment historically as hard as they do today. and they're trying to go to fewer and fewer manning human beings in these facilities. So there's less human interaction, and they want to push the equipment to operate more hours of the day. And so the key issue for them is maintenance-free. It's uptime of the equipment. So the hydrogen options are certainly out there as one alternative. We think that... Our new maintenance-free batteries, especially when coupled with wireless charging opportunities, is another answer because, again, it's that lack of human beings and it's really just keeping that truck in service. And fuel cells, you know, we worked with fuel cells years ago. We had made an acquisition or a venture into that area. and it has its own sets of issues. So we chose the battery to stick with the battery route in this market, and we feel very, very good about our capability, which we think is unique in the market, we know is unique in the market, is that we have an engineering group here that not only does all of the battery design work, all of the charger design work, all of the CAN bus and integration design work. So we really have a total comprehensive systems capability that none of our competitors do. And we think that given any challenge, we can find a solution. And maintenance-free is an integral part of that. And certainly the hydrogen guys are going to find their places in the market. Historically, we've We've seen those pencil in the extremely large sites with many trucks, but we think that we're on the right track with our new maintenance-free products.

Okay, perfect. Thank you very much.

Thank you.

Thank you. Our next question comes from the line of Bryant Drave with Wimbler. Your line is open.

Hi, Bryant. Good morning. Hey, Dave. Hey, Mike. Can I ask you to think for a second just about next year, like the fiscal 22? And, you know, you have these kind of budding opportunities here, several of them, right? Transportation and the auto in particular. I'm interested in your thoughts. And then lithium and then also 5G. And if you think about, you know, the incremental revenue opportunities from each of those three, for next year, you know, what could that be like? Are you expecting to sell $10 million in lithium products or $50? And if you could just, you know, try to quantify even with some broad ranges for those three categories for incremental revenue over the next year.

I'll take the lithium piece and then Mike can maybe take it because, you know, we just came through all this. We just redid the model with all the sales guys. So he has... He has everything. I wouldn't put high expectations, Brian, for lithium on the EPS line in the near future. We've got to get the kinks out and the costs down. We have the roadmaps, but when you start up, the volume is low. We're not getting all of the... We're still in soft tools on some of these things. We still have a lot of work to do on the lithium piece, so... it's not nearly going to have the impact that TPPL has at the earnings line. And on the revenue line, you know, it's going to be in the tens of millions of dollars we expect in fiscal year 22. But I can tell you the sales guys are super excited about it, and they're pushing us every day because they want to have – that they want to have a maintenance-free solution for every nook and cranny of the marketplace. And today we need that lithium to go after the real heavy-duty users, as I referenced earlier. So that's the focus. But I wouldn't put too much in the model right now on the bottom line as we sort through the startup and ramp-up issues. And then, Mike, on the transportation piece, Do you want to?

Dave, can I just ask, before you move on from that, longer term, I believe you said in the past that you think lithium margins should be in line or even above the corporate average margins. Is that still the case, and is that like after year one, or what's the time?

Yes. Yeah, I would say that's about the right time. So the guys, and the only reason I don't want to commit to it sooner is is once you make all these design changes, you've got to go through the UL approvals and everything again. So I don't want to get too far out over my skis on that. So I think for F-22, let's just be cautious. But going forward, it will absolutely, absolutely be an accretive margin business. Thanks.

Okay. Mike? Okay. Yeah, so Brian, with regard to 5G opportunities, I think Dave in his remarks said it was worth noting that we'd already see $50 million of 5G-related revenue lift during this year, and that was supposed to be not a year-to-date reference, but a full-year reference, just for clarification. But, you know, as we said, we believe that that real growth in 5G for us, and everybody's All the vendors in this exercise have different timing for when they may have a part to play in it. But we think that this is probably going to happen in the late spring, early summer of next year as the outdoor plant, which is mostly what we're working on. Winter is not a good big time for doing that kind of work. So we really see next spring, early spring, we're going to see a lot of order activity, we hope. And then by late spring, early summer, I think we will be busy on the 5G front. And we really do feel good on whether you're a telecom player or a broadband player that we have solutions that will work for you to build out a small cell network.

And, Brian, the other thing you've got to remember that's unique about 5G, the speeds are so fast that the power required to move those ones and zeros at that speed is very high. So the power consumption of this equipment is for however you want to view it per bit of data transmitted. The power requirements are very high. But everybody's doing it differently, whether it's CVRS spectrum or the millimeter wave. Is it a fixed broadband initiative? Is it to... to move from an MVNO model to doing their own wireless networks. Each one of these folks is committed to their own strategy, but in each of these cases, the power requirements will increase, regardless of whatever their particular strategy is. Every one of these higher speed networks, higher capacity networks, is going to require more power.

Which is obviously good for alpha, you're saying, just to tie a bow on that.

Right, that's good for us.

Okay. And then auto, what's the incremental revenue opportunity in 22 versus 21?

So, you know, I think that the demand is there for, you know, we're only limited probably by our ability to execute on that one. So the high-speed line comes up, and assuming that that is – initially directed at automotive type of resources. We've got to make sure that the front and back end of that factory in Springfield, Missouri is ready to run three shifts. When it is, that should be able to produce an additional $150 million of revenue on a full-year basis. So that benefit won't show up in FY22. It'll be because that ramp-up will, starting probably in December, it's going to make that that increase over the next 12-plus months. But we think that that's a great idea. That's probably a good exit rate.

So just to be clear, is it now becoming clearer to you that the high-speed line capacity is going to be dedicated to auto because of the traction and demand that you're seeing? You can't get them on the shelves fast enough at places like AutoZone?

I think that that's where the most pressure for us, the biggest backlog pressure for us right now is in that sector. But I legitimately feel like each one of the business units is going to be screaming for more capacity, whether it's 5G network backup power with our SBS products, whether it's TPPL Gen 3. There's There's several programs that are supported. Cable television, AlphaCell, we can make on that line. So, yeah, there's plenty of opportunities for them to fill it. I think the reason Mike's being cautious, and I'm glad he is, is we just don't want to put our ops guys in a box because it's going to take time to get to that, to ramp to those levels. We're in production now. It's just muted. And we're just ramping up slow. But officially the line is in production. We're making products. And it's just going to continue to get better and bigger. But I think that 150 is a good exit rate for the year.

Yeah, and we have to balance all five of our factories, right? So it's not just what the high-speed line could do. but it's also what the other plants can produce and how busy they are with other activities. So if we have a location that has excess capacity, then we're going to move probably that product demand to that factory, and then that might impact what the high-speed line might run on. So it's balancing the entire TPPL capacity, which is what we're going to do, which will influence the high-speed line.

And lastly, is that revenue coming off that line, regardless of end market, still going to be at roughly the same gross margin, whether it's auto or whether it's some other end market?

I mean, the pricing is the same. It doesn't matter. I mean, from a customer, form, fit, and function doesn't change, but our cost per unit goes down with that line.

Yeah, just as a reminder to everyone, when we first made this investment, it was not an incremental capacity play. It was a cost reduction initiative. So if the product is made off that high-speed line, that one is going to enjoy – lower cost than if it was made on some of our other lines that may have the same capabilities in terms of what product they can make. They can't make it at that price.

So the TPPL that used to be 35-ish percent gross margin is higher than that coming off of the high-speed line. Is that correct?

That should be a true statement, yes.

Okay. All right. Thanks very much.

Thank you. As a reminder, ladies and gentlemen, that's star one to ask the question. Our next question comes from the line of Greg Wasowski with Weber Research. Your line is open.

Hey, good morning, guys. Thanks for taking my question.

Sure, Greg.

So regarding the Nexus Ion, you previously indicated that after introducing it to the material handling market that residential storage would be next. Is that still the case? And then could you update us on kind of the timing of that and what markets are in line to follow that?

Yeah, actually, Telecom and Resi are both on the queue and in development now. We've already started that work. And I don't think – I think the latter part of F22 would be a best-case scenario. So I don't think we've got a lot of non-motive lithium loaded into the F22 model. Mike, correct me if I don't think so. Those MPIs, like we always said, they were going to come later. So let's just say that those should be late F22, early F23 timing.

Okay, great. And then just from a modeling perspective on the Germany factory, what kind of top-line contribution or quarter-over-quarter change should we kind of expect for that factory closing?

Well, the top line shouldn't change whatsoever because we're simply going to transfer that demand to our other European factories capable of making those products. Ultimately, and these – You know, obviously the first step we have, having made the announcement on a press release either last night or this morning, the AK went out this morning because yesterday was Veterans Day. You know, there will be a negotiation with the Works Council, which will include the timing of that final closure, et cetera. So, you know, we don't have all of the answers for that, but I would say, you know, over time, you would expect that that savings of approximately $20 million a year will be, again, probably an exit rate, certainly as we leave. Maybe not this year, but we should be achieving that at some point in the first half of next year, I would expect.

Okay, great. Thanks a lot, guys.

While I've got maybe in between any questions, I just wanted to point out, I think in my Final remarks concerning guidance. I wanted to just clarify. I think I used the wrong amount for the high end of our guidance. I meant to say $1.23 so that everybody recognizes that the midpoint is $1.20 for us. Yeah, I think you said $1.21.

Yeah.

Thank you. I'm not showing any further questions in the queue. I will now turn the call back over to Mr. Schaefer for closing remarks.

Thank you, Tawanda. And I want to thank everyone else for taking the time to attend our call today. We look forward to providing further updates on our progress on our third quarter 2021 call in February. Have a good day, everybody.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect. Everyone have a wonderful day.