Stoneridge, Inc.

Ladies and gentlemen, thank you for standing by and welcome to the Stone Ridge Four Quarter 2020 conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question and answer session and instructions will follow at that time. If you should require any further assistance during the conference, please press star zero on your touchtone telephone. I would now like to turn the conference over to your host, Mr. Matt Horvath. Executive Director of Investor Relations and Corporate Strategy. Thank you. Please go ahead.

Great. Thank you, Stacey. Good morning, everyone, and thank you for joining us to discuss our fourth quarter and full year 2020 results. The release and accompanying presentation was filed with the SEC yesterday evening and is posted on our website at www.stonridge.com in the Investor section under Webcast and Presentations. Joining me on today's call are John DeGainer, our President and Chief Executive Officer, and Bob Kukowiec, our Chief Financial Officer. Before we begin, I need to inform you that certain statements today may be forward-looking statements. Forward-looking statements include statements that are not historical in nature and include information concerning our future results or plans. Although we believe that such statements are based upon reasonable assumptions, you should understand that these statements are subject to risks and uncertainties and actual results may differ materially. Additional information about such factors and uncertainties that could cause actual results to differ may be found in our 10-K, which has been filed with the Securities and Exchange Commission under the heading Forward-Looking Statements. During today's call, we will also be referring to certain non-GAAP financial measures. Please see the appendix for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures. After John and Bob have finished their formal remarks, we will then open up the call to questions. I would ask you that you please keep your questions to a single follow-up. With that, I will turn the call over to John.

Thanks, Matt, and good morning, everyone. I'd like to start by reflecting on the global health crisis we encountered over the last year. We have and will continue to put the health and safety of our employees and their families at the forefront of every decision we make. I recognize that the situation continues to be challenging for many, and I want to thank our employees for their continued dedication to Stone Ridge during this period. I'm really proud of our accomplishments this past year and our ability to adapt and respond to this crisis, both from a business perspective but also as a team and a member of the global business community. Before we discuss our earnings materials, as you may have seen, yesterday we announced that Frank Sklarsky has joined StoneRidge's Board of Directors. Frank's impressive background includes being the CEO of several large multinational companies including ConAgra, Eastman Kodak, Tyco, and most recently PPG. Frank was also a member of Harman's International Board of Directors. Additionally, Frank has a significant amount of transportation experience as part of Chrysler for over 20 years. I'd like to take a minute to welcome Frank to the board, and I look forward to working with him as we continue to transform StoneRidge. Let me begin on page three. In 2020, we effectively navigated through the challenges brought on by the global pandemic. We adapted our business to current market conditions and managed our cost structure efficiently throughout the year. We focused our efforts on continuous improvement throughout our manufacturing facilities, resulting in strong margin performance as global volumes recovered. Our 2020 adjusted sales of $648 million resulted in an adjusted gross margin of 24.4%, translating to an adjusted operating margin of $2.1 million, or 0.3% of sales. Adjusted EPS for the year was negative 3 cents. While managing through the crisis, We continue to transform our portfolio and footprint, positioning the company for long-term profitable growth. During the second quarter, we announced our intention to exit the sensor product line by the first half of 2021 in order to focus our engineering resources on the highest growth opportunities. We remain on track to complete that exit. We've secured a lease with a premium tenant for our recated Canton, Massachusetts facility and have engaged a third-party advisor to assist us in reviewing strategic alternatives for the building, which could include a divestiture in the first half of the year. Most importantly, despite the external challenges, we continue to invest in the resources necessary not only to support the significant number of program launches in 2021, but also to continue to develop the technologies and product platforms that will drive future growth. we continue to expand our Mirai platform, preparing for OEM launches later in 2021, expanding our retrofit programs despite the challenges caused by COVID, and continuing to invest in complementary technologies, as we will discuss in additional detail later in the call. Looking into 2021, we expect continued strength in our end markets to help drive strong top-line performance. This morning, we are providing midpoint revenue guidance of approximately $780 million, This represents growth over market of approximately 5% in 2021, driven by significant program launches, including a large driver information systems program and our first two OEM near-eye programs. This morning, we are guiding to a midpoint gross margin of 26.25%, or approximately 185 basis points better than 2020. We expect some additional expenses related to global supply chain disruptions, particularly in the first half of the year, which have been considered in our guidance. As a result, we are guiding operating margin to a midpoint of 3.9%, resulting in an EPS midpoint of 68 cents and an EBITDA margin midpoint of 8.4%, or 260 basis points better than 2020. Excluding the impacts of currency, the global supply chain disruption, and the discontinued sit-censor business, our 2021 guidance implies contribution margin on incremental revenue of 32% relative to 2020. Bob will provide additional detail on our revenue and adjusted EPS guidance, and I will discuss some of the drivers of our improved margin later in the call. Finally, this morning we are updating our long-term financial targets based on our strong backlog of awarded business, current market conditions, and our continued focus on operational improvement. We expect a five-year compound annual growth rate of at least 10%. resulting in over $925 million of revenue in 2023 and at least $1.1 billion of revenue in 2025. Based on our booked business, we also expect that approximately 85% of our targeted revenue in 2025 will be drivetrain agnostic. This highlights the continued importance of our portfolio rotation and focused investment in the engineering resources that have and will continue to align our growth strategy with industry megatrends. Based on continued strong contribution on incremental revenue, as well as continued operational improvement and fixed cost leverage, we expect an EBITDA margin of at least 15% by 2025. I'll discuss the drivers of our long-term financial targets in more detail later in the call. Page four summarizes our key financial metrics quarterly for 2020 and for the full year compared to 2019. Looking at the quarterly comparison, the global pandemic significantly impacted our second quarter results due to prolonged shutdowns and significant reductions in production across our global end markets. During the second half of the year, we experienced strong top-line growth as a result of the broad recovery. By continuing to focus on reducing material costs and the efficient ramp-up of production facilities, we were able to capture third- and fourth-quarter adjusted gross margins that were even better than the first quarter of the year. which created good momentum as we moved into 2021. The structural cost actions taken in the first half of the year positioned the company to improve adjusted operating margin in the second half of the year, resulting in strong incremental margins as global production returned to a more normalized state. Turning to page five, as a result of the global pandemic, we took several actions to temporarily reduce costs in an effort to drive 2020 financial performance and preserve cash. Additionally, we took actions to reduce our structural costs based on our current outlook and to align our resources with the greatest opportunities for growth. We continued to fully support the investments required to ensure the successful launch of several large programs scheduled for 2021 and developed the technologies and platforms that will drive future growth. These actions resulted in an efficient and an effective ramp down in the second quarter followed by contribution margins in the third and the fourth quarters at or above the high end of our targeted range. Due to this strong operating performance and our continued focus on working capital management and cash preservation, we're able to effectively manage our operating cash flow, resulting in a continued strong balance sheet. Looking into 2021, we expect continued strong production based on our current forecast and expect that the base business will continue to deliver strong financial performance. That said, we are starting to see the impacts of global supply chain disruptions as some of our customers have announced reduced production schedules. I'll discuss the potential impacts from this global issue in additional detail later on the call. In 2021, we will focus on continuing to transform our global engineering footprint to increase our capabilities and engineering capacity without adding additional incremental costs over the long term. This will be critical as we focus on reducing pre-programmed launch costs and increasing the capabilities and capacity to develop systems and technologies that will fuel our growth. Moving to slide six. Based on the most recent IHS and LMC forecasts, our primary end markets are expected to increase significantly in 2021 as the global industry rebounds from the decline in 2020 production. As we have previously noted, our end market exposure on the passenger car side continues to be more heavily weighted toward SUVs, CUVs, and light trucks versus traditional passenger cars. Traditional passenger car platforms only comprise approximately 8% of our total revenue, while light truck, SUV, and CUV platforms comprise 41% of our total revenue and over 80% of our total passenger car vehicle exposure. This is up significantly from prior years. Overall, we expect our weighted average OEM end markets to increase by approximately 15.3%. Turning to slide 7, as I mentioned previously, several of our customers have recently announced reduced production schedules in response to global supply chain disruptions, primarily related to electronic component shortages and other raw materials. We expect that once the supply chain disruptions subside, the OEMs will be able to make up production in these platforms based on current market demand. We are not seeing the same type of reduced production schedules in our commercial vehicle end markets, and due to OEM production capacity and expected demand, we do not expect a significant impact on commercial vehicle revenue in 2021 as a result of these disruptions. That said, while we do not expect a significant revenue impact, we do expect that increased material costs and increased expediting and premium freight costs will create a gross margin headwind, particularly in the first half of the year, that we do not expect to be able to make up as production normalizes in the second half. We expect that these incremental costs will impact our margin by $2.5 million, focused in the first half of the year. We continue to monitor the global supply chain and impact on our OEM customers to ensure that we respond efficiently and effectively to any disruptions. we remain committed to delivering on our commitments to our OEM partners despite the logistics challenges we expect in the first half of the year. Turning to page eight, despite the expected impact of global supply chain disruptions, we expect continued gross margin and operating margin improvement in 2021. We expect continued manufacturing efficiencies, particularly related to fixed cost leverage, efficient direct labor utilization, and reduction in quality-related costs. As a result, we are expecting gross margin to improve by 135 to 235 basis points in 2021. That said, there are several external factors unfavorably impacting our 2021 expectations. Based on current forecasted exchange rates for the year, we expect foreign currency headwinds from material cost purchases and certain operating expenses. That unfavorable impact of foreign currency on operating income is expected to be approximately $2.3 million. We expect that the actions we took in 2020 to right-size our cost structure will continue to benefit us as revenue increases significantly in 2021. As it relates to our design and development expenses, with a number of large programs launching in 2021, we are expecting some incremental engineering expenses to support these launches. Similarly, to capitalize on our strong market position in several key product areas, including Mirai and adjacent technologies, we will continue to invest and advanced development resources to support future technologies and platforms. As I will discuss later in the call, we remain focused not only on increasing our engineering capabilities and capacity, but also on improving our global footprint and overall cost structure to more cost-efficiently support these initiatives. Turning to page nine, we expect that our continued investment in engineering resources will accelerate the results that we are seeing already with Mirai. This morning, we are announcing that two additional fleets have indicated their intention to roll Mirai out across their fleet, bringing the total number of fleets that have initiated plans to fully adopt Mirai to three. We expect that these fleets will install Mirai systems on new vehicles as part of their regular fleet refreshment program. The decision to expand Mirai across their fleets was due in large part to data compiled by our fleet partners proving the safety benefits of the system. Although the analysis is still in the early stages, one of our fleet partners reduced expected incidents by more than 30% over a 3 million mile test versus a comparable pool of vehicles without Mirai. Validation of the significant positive safety impact for our systems and our partners' fleets is a critical step in the accelerated penetration we expect for our systems going forward. We are in active fleet evaluations with 24 fleets that represent approximately 85,000 trucks on the road and expect to announce expansion in both the number of fleets and the depth of adoption in current fleets over the coming months. In addition to the success we are having with our fleet partners, we are preparing for our first OEM program launches later this year, where we continue to get positive feedback from our customers. Our OEM partners are beginning to understand the increases in customer demand that we are seeing with the fleets due in large part to the safety data we just outlined in addition to the demand in Europe primarily driven by the notable fuel savings on Mirai equipped vehicles. As a result, we are in discussions with one of our OEM customers to expand the expected volumes for Mirai in European applications. We believe that the work we are doing with the fleets is driving increased end customer demand, creating an expectation of stronger than expected pull-through from the OEMs. As a reminder, our backlog only includes approximately $76 million in peak annual revenue for awarded OEM programs. Increased penetration could result in several hundred million dollars of additional revenue annually. As we continue to work with our fleet partners, we believe that adding additional capabilities to the system will help the system apply to even more customers and a broader range of commercial vehicle applications. We have the lead position in this commercialization of camera mirror systems, and we must continue to invest in this technology platform to take advantage of that position to recognize the potentially significant long-term benefits of the system for Stone Ridge shareholders. Page 10 provides an overview of our key areas of focus for advanced development and engineering resources going forward. As I have discussed on many calls in the past, our most precious resource is our engineering capability and capacity. While we continue to increase our capabilities as we go forward, we expect that the actions we will take in 2021 will allow us to expand our capacity without materially increasing our cost structure over the long term. We will accelerate the transformation of our engineering organization to focus on a more capable global footprint and add resources in lower-cost countries to complement our existing resources. we expect that our engineering footprint will be more evenly split between high, medium, and low-cost countries versus our current split. We've already begun this transformation and have increased our capabilities in our existing footprint. We've also partnered with existing engineering organizations in lower-cost countries to bridge the gap while we structurally change our footprint. These changes will result in some short-term incremental costs. However, we expect that once complete, our capabilities will be better aligned with our growth objectives and strategic direction, and our footprint will result in a more efficient and improved cost structure. As a result of this rotation, we will accelerate the development of advanced technologies and systems focused in several key areas in both our control devices segment and our global electronics business. As we've discussed in the past, our control devices segment has several actuation applications that position us well to take advantage of the continued electrification of the drivetrain. In 2021, we expect that approximately 30% of our actuation revenue will be on hybrid or fully electric platforms. We continue to focus on product development and systems capabilities to expand in those areas. Our transmission and axle-based actuation systems will provide the technical competencies to execute this expansion. Additionally, as an adjacency to our core competencies, we have explored other electrified actuation applications where our capabilities may provide a competitive advantage, including electric park brake applications. We believe that investments in these areas will drive strong growth opportunities. While we focus on continued portfolio rotation and control devices, we are focused on taking advantage of our already strong market positions throughout our electronics portfolio. This includes increasing mirror eye penetration in both the OEM and retrofit applications and expanding our connectivity capabilities to more closely integrate these systems. Our continued investment in these advanced technologies will not only drive increased mirror eye penetration, but an increase in overall content per vehicle across our product portfolio. We remain focused on our capabilities to connect our devices to the driver, the fleet, and the world around them. For a company of our size, it is critical that we maintain our competitive advantage with investments in the current and future technologies, systems, and platforms that will keep us ahead of the largest competitors in our space. StoneRidge is well positioned in each of our core product platforms, and our global transformation of the engineering organization will maintain and accelerate that advantage. Turning to page 11. This morning, we are updating our long-term revenue target to reflect current market conditions and updated expectations for the next several years. Based on our strong backlog of awarded business, our expectations of continued success in the market, and our ability to build on the investments that we have made in advanced technologies. From a midpoint of $780 million this year, we expect at least $925 million of revenue in 2023 and over $1.1 billion in revenue in 2025, which implies a compound annual growth rate of over 10% through 2025. This compares to a market growth of approximately 2.1% over that same period, which implies five times market growth and almost 8% growth over market relative to our weighted average end markets. Our long-term revenue targets include OEM near-eye programs at customer quoted take rates of 10% to 15% and a relatively modest amount of annual retrofit systems by 2025. We believe that our continued investment in advanced technologies will improve mirror eye take rates and retrofit penetration, which could drive revenue up to $1.5 billion in 2025 based on full penetration of the system for the OEMs that have currently awarded us programs. While we do not expect 100% penetration across every platform and every OEM by 2025, that favorable feedback from both our OEM partners and our fleet partners suggest that it is not unreasonable to expect take rates to exceed customer quoted rates. As I discussed previously, we are already seeing increases in adoption rates with certain of our fleet partners and expect that trend to continue as more fleets reach their testing hurdles. Similarly, we believe that continued changes in the regulatory and safety environment can contribute to take rates that exceed those currently considered in our backlog. This opportunity highlights why it is so critical that we take advantage of our market-leading position with Mirai and invest in the resources necessary to recognize these opportunities and drive long-term value for our shareholders. Turning to page 12. This morning, we are also updating our long-term EBITDA target to reflect our long-term revenue target and our expectation of continuous improvement and significant margin expansion through 2025. As we have discussed in the past, we remain focused on reducing material costs and expect these continuous improvement activities to offset typical annual price downs. Similarly, as we outlined on this call, we will continue to require investment in engineering resources to launch our significant backlog of awarded programs and develop the technologies and systems that will drive future growth. We will work to offset these investments as we rotate a geographic footprint to complement our existing resources with resources in lower-cost countries. We expect that this continued investment in our transformation of the global engineering organization will result in a compound annual growth rate related to incremental engineering expenses of less than 5% from 2021 to 2025 without limiting our ability to maintain our competitive advantage in several key technologies. As it relates to our contribution margin, we expect to continue to leverage our existing SG&A structure and fixed overhead to significantly improve EBITDA margins by 2025. By continuing to thin our fixed costs and focusing on reducing manufacturing complexity and improving manufacturing efficiency, we expect to derive strong contribution on incremental revenue. As a result of these drivers of long-term margin expansion, we expect EBITDA margin in 2025 to be at least 15% relative to the midpoint of our 2021 guidance of approximately 8.4%. Turning to Phase 13, I'm pleased with the company's performance. Our leadership team was able to efficiently and effectively adapt to a challenging environment in 2020, resulting in strong financial performance. In addition, we managed cash during the year to maintain a strong balance sheet. Looking forward to 2021, new program launches are expected to drive market outperformance, resulting in midpoint revenue guidance of $780 million. We will continue to invest in the technical resources that will support our significant backlog of awarded programs and develop the technologies and systems that will drive future growth while improving our cost structure and global footprint. We remain committed to executing on our strategic priorities and continuously improving the business to drive strong financial performance and stable long-term profitable growth. We remain focused on our Mirali retrofit and free wire opportunities as well as our first two OEM program launches, and look forward to sharing more good news across our commercial paths to market in coming months. With that, I'll turn it over to Bob to discuss our financial results in more detail. Thank you, John.