Methode Electronics, Inc. (NYSE: MEI) Q1 2022 earnings call dated Sep. 02, 2021
Corporate Participants:
Robert Cherry — Vice President of Investor Relations
Donald W. Duda — Director, President and Chief Executive Officer
Ronald L.G. Tsoumas — Chief Financial Officer
Analysts:
Matt Sheerin — Stifel Nicolaus — Analyst
Luke Junk — Robert W. Baird & Co. — Analyst
Presentation:
Operator
Good day, ladies and gentlemen, and welcome to the Methode Electronics’ First Quarter Fiscal 2022 Results Conference Call. [Operator Instructions]
At this time, it is my pleasure to turn the floor over to your host, Robert Cherry, Vice President of Investor Relations. Sir, the floor is yours.
Robert Cherry — Vice President of Investor Relations
Thank you, operator. Good morning, and welcome to Methode Electronics’ fiscal 2022 first quarter earnings conference call. For this call, we have prepared a presentation entitled Fiscal 2022 First Quarter Financial Results, which can be viewed on the webcast of this call or found at methode.com on the Investors page.
This conference call contains certain forward-looking statements, which reflect management’s expectations regarding future events and operating performance, and speak only as of the date hereof. These forward-looking statements are subject to the safe harbor protection provided under the securities laws. Methode undertakes no duty to update any forward-looking statement to conform the statement to actual results or changes in Methode’s expectations on a quarterly basis or otherwise. The forward-looking statements in this conference call involve a number of risks and uncertainties. The factors that could cause actual results to differ materially from our expectations are detailed in Methode’s filings with the Securities and Exchange Commission, such as our 10-K and 10-Q reports.
At this time, I’d like to turn the call over to Mr. Don Duda, President and Chief Executive Officer.
Donald W. Duda — Director, President and Chief Executive Officer
Thank you, Rob, and good morning, everyone. Thank you for joining us for our fiscal 2022 first quarter earnings conference call. I’m joined today by Ron Tsoumas, our Chief Financial Officer. Both Ron and I have opening comments and then we will take your questions.
Let’s begin with the business highlights on Slide 4. Our sales for the quarter were $288 million. Excluding favorable currency translation, our organic growth was up 45% from the prior year. However, it should be noted that our prior year first quarter was significantly impacted by the pandemic. In this year’s first quarter, our team faced customer demand fluctuations and supply chain challenges. These included the ongoing semiconductor chip shortage, pandemic-related supply chain disruptions and port congestion, all of which created both sales and margin pressure.
Once again, our team worked diligently to mitigate many of these challenges and we were able to deliver results within our guidance ranges for the quarter. However, these demand fluctuations and supply chain disruptions continued to require remedial actions, such as expedited shipping and premium component pricing. As of today, our expectation is that these conditions will last at least until the end of the calendar year. While we have reaffirmed our guidance for the full year, persistent headwinds could cause our performance to be below the midpoint of the ranges as the situation is very fluid and will remain very challenging.
The sales growth that we realized in the first quarter was due to increased demand across most of our businesses, but was especially focused on the auto and commercial vehicle markets. We also realized growth in our Dabir business. However, that business is still being hampered by the pandemic, thus limiting our production or product evaluation opportunities in hospital operating rooms and ICUs. On an order basis, we had solid awards for EV, cloud computing and e-bike applications.
Focusing on EV, last quarter, we reported that sales into EV applications were 13% of consolidated sales. This quarter, EV sales were 16% of consolidated sales and we continue to expect that number to be in the mid-teens for fiscal 2022. Methode’s combination of user interface, LED lighting and power distribution solutions is a winning formula in EV. We are especially seeing growth in our power offerings, where we leverage over 40 years of expertise to supply busbars, connectors and battery disconnect units to the EV OEMs.
In the quarter, we further reduced debt, generated positive operating cash flow and continued to return capital to our shareholders. We have ample liquidity, which also allows us to execute our stock buyback program, under which we purchased $7.6 million of shares in the quarter, and to pay our dividend, which rose from $0.11 to $0.14 per share in the quarter. We continued to allocate capital per our balanced approach.
Moving to Slide 5. Methode had another solid quarter of business awards. These awards continue to capitalize in key market trends like vehicle electrification and cloud computing. The awards identified here represent some of the key businesses — business wins in the quarter and represent over $30 million in annual business at full production. In vehicle electrification, we won awards for power distribution and LED lighting programs. We continue to win programs with OEMs globally in both auto and commercial vehicle applications. In non-EV automotive, we were awarded programs for power, lighting and traditional switch applications. In cloud computing, we saw demand for our power distribution and transceiver products and data center applications. Lastly, we continue to participate in the growth of e-bikes, which utilizes our proprietary magneto elastic sensor technology. Building on the prior year, our business awards are delivering on our strategic priority to drive both customer and geographic diversity.
Turning to Slide 6. As I’ve mentioned in recent quarters, our business awards over the last couple of years have put us on track in aggregate to replace the sales from the roll off of our largest auto program. As such our customer and program diversity continues to improve. Our EV, as well as our commercial vehicle and cloud computing businesses have helped drive our customer diversification. While GM and Ford have been and are expected to continue to be good customers that have fueled Methode’s historical growth, in recent years, we have strategically and systematically broaden our customer base. Our business outside of GM and Ford grew to two-thirds of our fiscal 2021 total sales.
To conclude, despite the ongoing demand fluctuations and supply chain challenges, we are still in a position to deliver strong organic growth for fiscal 2022.
At this point, I’ll turn the call over to Ron, who will provide more detail on our first quarter financial results. Ron?
Ronald L.G. Tsoumas — Chief Financial Officer
Thank you, Don, and good morning, everyone.
Please turn to Slide 8. First quarter sales were $287.8 million in fiscal year ’22 compared to $190.9 million in fiscal year ’21, an increase of $96.9 million or 50.8%. The year-over-year quarterly comparisons include a favorable foreign currency impact on sales of $10.3 million in the current quarter. The increase was mainly due to lower sales in the prior year quarter from the impact of the COVID-19 pandemic and to higher sales of electric and hybrid electric vehicles, which amounted to 16% of sales in the first quarter of fiscal year ’22, which was in line with our previous communication that electric vehicles and hybrid electric vehicle sales would comprise mid teens of our fiscal year ’22 consolidated sales. In addition, stronger commercial vehicle sales contributed to the robust sales growth.
First quarter net income increased $8.4 million to $29.1 million or $0.76 per share diluted from $20.7 million or $0.54 per diluted share in the same period last year. Net income benefited from increased sales and favorable currency translation, partially offset by higher income tax expense, higher costs from supply chain disruption, higher selling and administrative expenses and lower other income.
Please turn to Slide 9. First quarter gross margins were higher in fiscal year ’22 as compared to fiscal year ’21, mainly due to increased sales, partially offset by higher material costs, higher logistic costs, including freight and supply chain shortages. Fiscal year ’22 first quarter margins were 24.9% as compared to 23.6% in the first quarter of fiscal year ’21. The negative impact of the supply disruption and higher logistics costs, including freight, on the first quarter of fiscal year ’22 gross margin was nearly 300 basis points. These higher costs that were experienced in the first quarter are expected to continue further in fiscal year ’22. In addition, we anticipate a degree of cost inflation in the remainder of the current fiscal year.
First quarter selling and administrative expenses as a percentage of sales decreased to 11.4% compared to 13.9% in the fiscal ’21 first quarter. The fiscal year ’22 first quarter percentage decrease was attributable to increased sales related to the negative impact of COVID-19 pandemic on fiscal ’21 sales, partially offset by higher stock-based and performance-based compensation expenses. The first quarter of fiscal year ’22 selling and administrative expenses percentage was in line with our historical norm, which should yield an efficient flow-through from gross margin to operating income.
Please turn to Slide 10. In addition to the gross margin and selling and administrative items mentioned above, two other non-operational items significantly impacted net income in the first quarter of fiscal year ’22 as compared to the comparable quarter last fiscal year. First, income tax expense in the first quarter of fiscal year ’22 was $5.7 million or 16.4% as compared to a net tax benefit of $5.1 million in the first quarter of fiscal year ’21. The effective tax rate was lower in the first quarter of fiscal year ’21 due to discrete tax benefits of $7.8 million in the quarter or $0.20 per diluted share. Without the discrete tax benefits, the effective rate would have been 17.2%. The year-over-year tax expense increase was $10.8 million. Second, other income net was lower by $1.6 million, mainly due to lower international government assistance between the comparable quarters.
Shifting to EBITDA, a non-GAAP financial measure. Fiscal year ’22 first quarter EBITDA was $48.5 million versus $29.3 million in the same period last fiscal year. EBITDA was positively impacted by higher operating income, partially offset by lower other income.
Please turn to Slide 11. Free cash flow, a non-GAAP financial measure, is defined as net cash provided from operating activities minus capex. For fiscal year ’22 first quarter free cash flow was a negative $6.2 million as compared to a positive $4.8 million in the first quarter of fiscal year ’21. The decrease was mainly due to negative working capital changes, especially inventory, resulting from difficult logistics and higher capital expenditures. While we experienced negative free cash flow in the first quarter of fiscal year ’22, we expect improvement the remainder of the fiscal year. We anticipate continuing our proven history of consistently generating reliable cash flows, which allow for ample funding of future organic growth, inorganic growth and return of capital to shareholders.
In the first quarter of fiscal year ’22, we invested approximately $15.9 million in capex as compared to $11.6 million in the first quarter of fiscal year ’21. The higher first quarter capex is in line with our expectation that capex in fiscal year ’22 would be higher than the investment in the prior year estimated to be in the range of $53 million to $57 million. We have a strong balance sheet and we’ll continue utilizing it by continuing investment in our businesses to grow them organically in the future. In addition, we continue to actively pursue opportunities for inorganic growth and have a measured return of capital to the shareholders.
In the first quarter of fiscal year ’22, we reduced gross debt by $4.7 million. Since our acquisition of Grakon in September 2018, we reduced gross debt by nearly $123 million.
Regarding capital allocation, we recently announced two initiatives. First, on March 31st, we announced the $100 million share repurchase program, which we executed $7.6 million of repurchases during the first quarter of fiscal year ’22. Since the authorization’s approval, we have purchased $15.1 million worth of shares at an average price of $46.45. In addition, we increased our quarterly dividend from $0.11 to $0.14 per quarterly share, an increase of 27%. We ended the first quarter with $207.9 million in cash.
Please turn to Slide 12. As Don mentioned in his remarks, we reaffirmed our previously issued guidance and earnings per share annual guidance. Guidance is based on management’s best estimates. External events and their related potential impact on our financial results remain an ongoing challenge. While we have reaffirmed our guidance for the full year, persistent headwinds could cause our performance to be below the midpoint of the ranges as the situation is fluid and will likely remain very challenging.
The revenue range for the full fiscal year ’22 is between $1.175 billion to $1.235 billion. Diluted earnings per share range is between $3.35 to $3.75 per share. The range is due to the uncertainty from the supply chain disruption for semiconductors and other materials on both Methode and its customers. From a sales perspective, lower sales could result from the supply disruption to us and/or our customers, which could result in lesser demand for our products or our ability to meet customer demand. Continued supply chain disruption would also negatively impact gross margins due to additional costs incurred from premium freight, factory inefficiencies and, to a lesser extent, tariffs and other logistic factors, including port congestion. Higher costs for materials, freight and labor are a constant and dynamic battle, and we are uncertain as to when things will stabilize.
Don, that concludes my comments.
Donald W. Duda — Director, President and Chief Executive Officer
Ron, thank you very much. Ken, I believe we’re ready to take questions.
Questions and Answers:
Operator
Certainly. Thank you. [Operator Instructions] And our first question comes from — I’m sorry. Our first question comes from Matt Sheerin from Stifel. Go ahead, Matt.
Matt Sheerin — Stifel Nicolaus — Analyst
Yes, thank you. Good morning, everyone. Just a couple of questions from me. First, regarding your guidance for the fiscal year, it sounds like you’re reaffirming that, but a little bit more cautious due to some of the headwinds that you see on the supply side. So, are you seeing less visibility into demand because of those issues, or things getting worse than they were? Just want to sort of understand why you sound a little bit more cautious relative to last quarter.
Donald W. Duda — Director, President and Chief Executive Officer
I think what I can point to is GM’s announcement this morning on additional plant shutdowns. We were anticipating some of that, and that’s really what causes us to say, we’re going to see enough fluctuation here and uncertainty that if that were to continue, we would be off the midpoint of our guidance ranges. We still remain confident in the range. It’s just, as you mentioned, the uncertainty causes us to be perhaps more cautious than we were at the beginning of the fiscal year. I think that’s fair to say…
Matt Sheerin — Stifel Nicolaus — Analyst
Understood. In terms of how you see sort of the fiscal year playing out, I think typically you’re up a little bit in the October quarter sequentially. But would it be more flattish just because of those near-term headwinds? Obviously, GM is not the only one we’re hearing about shutdown, IHS has been cutting its numbers every month it seems. So, I mean, are you expecting things to sort of stall here before they pick up again?
Donald W. Duda — Director, President and Chief Executive Officer
I think the word is lumpy. I think we’re going to see some good months as some of the supply chain issues abate some of the alternate materials that everyone is working on come in the play, but I don’t think we can look at the business historically and say October or February is going to be better based on history. If you look at the dealer lots, they’re empty. So, the moment they can build cars, we’re going to get business. So, if that happen in December, which is usually a slower month, then we will see an uptick in December timeframe. It’s the unpredictability that is going to make the foreseeable future, the revenues — I hate to use the word, but lumpy.
Matt Sheerin — Stifel Nicolaus — Analyst
Yeah. Okay. And just lastly, regarding the gross margin headwinds that you’re not the only one seeing, are you having any success talking to your customers about passing some of those costs along?
Donald W. Duda — Director, President and Chief Executive Officer
We’re having some success, but, I would say, it’s limited. Ultimately, we’re pretty persistent. We’ll have some success in that, but as — in the past, it could take six to eight months to come to an agreement with the customer on that took, it took that on tariffs.
Ronald L.G. Tsoumas — Chief Financial Officer
Yeah. I think the key thing is, we incur them and there’s going to be a degree of latency between any type of recovery and it will be a little bit mismatch. But, as Don mentioned, we’re persistent and working with our partners as best we can.
Donald W. Duda — Director, President and Chief Executive Officer
And it’s a cycle. As we bid new business, we’re taking all that into account, as I’m sure as our competitors are too. So, that will eventually get passed on. Just there’s a lag.
Matt Sheerin — Stifel Nicolaus — Analyst
Okay. All right. Thanks so much.
Donald W. Duda — Director, President and Chief Executive Officer
Thank you.
Operator
[Operator Instructions] And our next question comes from Luke Junk from Baird. Go ahead.
Luke Junk — Robert W. Baird & Co. — Analyst
Good morning, everyone. Thanks for taking the question. I’ll start with the question, probably for Ron, recently you’ve given us guidance for the next quarter. I would appreciate why you didn’t do that today? Obviously, the GM announcement went out this morning, but I was hoping you could maybe walk through any key factors sequentially that might help to bridge from the fiscal first quarter to what you’re thinking might be likely internally for the second quarter just at a high level?
Ronald L.G. Tsoumas — Chief Financial Officer
Yeah. Notwithstanding any GM items that would result from today’s announcement this morning, yeah, I think we’ve got a good strong backlog in terms of visibility to our commercial vehicle business. Vehicle electrification continues to go well. So, we do have some other areas that have firmed up relative to where we are in the first quarter. So, we clearly would expect the second quarter to have some momentum relative to the first quarter.
Luke Junk — Robert W. Baird & Co. — Analyst
Okay. And then…
Donald W. Duda — Director, President and Chief Executive Officer
We chose not to — well, generally Methode doesn’t give quarterly guidance. We felt that there is enough uncertainty going into a new fiscal year and the first quarter that we wanted the level set things, which we did. And then, of course, on the call here, we gave comments to what pressures we’re seeing in second quarter and the balance of the year.
Luke Junk — Robert W. Baird & Co. — Analyst
Okay. Appreciate that. Next question I had, you called out a 300 basis point headwind to gross margin around these various supply chain and product-related issues this quarter, that’s up versus I think it’s 200 basis points last quarter. Just wanted to dig into that a little bit further in terms of where you saw changes in terms of increased pressure there? And maybe if you could also expand on how that sets up going forward based on what you know right now?
Ronald L.G. Tsoumas — Chief Financial Officer
Clearly, there is a logistics standpoint that really hurt. The port congestion we manufacture a good amount of our Grakon products in China that have to be shipped, and they’re in containers. And so, our air freight continues — to meet the customer demands continues to escalate relative to where we were in the first quarter. We’re also seeing a lot of spot buy increases in terms of pricing and able to compare [Phonetic] components and to secure them, seeing some significant material cost inflation as well. So, those are the major things that are going.
And you can see — look, the other thing I’ll add to that besides the 300 basis points, as you saw our inventory increased a lot during the three months as well. So, it really has got exacerbated in the first quarter. And we hope to see some improvement in that. But port congestion is a real problem, getting our goods out of our facilities in China and getting them to the rest of the world.
Donald W. Duda — Director, President and Chief Executive Officer
[Speech Overlap] Excuse me. We’ve increased our surveillance on counterfeit component. We’ve had — we’ve always had a system in place for that and we’re more comfortable when the components come directly from the manufacturer, but, as Ron was mentioning, spot buy sometimes with their distribution and we’ve increased our surveillance, because that represents a heightened concern when you’re not going directly to the factory all the time. So, there is a cost associated with that.
Luke Junk — Robert W. Baird & Co. — Analyst
Okay. Thanks for that. And then my last question, bigger picture one and one I’m wondering, if there is any updates in the last three to six months, let’s say, on some of the emerging opportunities that you’re pursuing? I’m thinking areas that you’ve mentioned in the past like charging ports, other areas around power in general, [Indecipherable] sensors cameras, those sorts of things?
Donald W. Duda — Director, President and Chief Executive Officer
No, we have anything to update other than what we’ve mentioned in the awards. We continue to pursue the charge ports, that’s a big focus for us. But as of today, we don’t have any awards that I can announce. But that is an area that we are clearly focused on.
Ronald L.G. Tsoumas — Chief Financial Officer
And, look, we’re still seeing a very robust RFQ opportunities for our bus power and power products regarding vehicle electrification. Those opportunities to quote and to win business are still very robust, so they might not show up as a booking for another six, nine or 12 months, but…
Donald W. Duda — Director, President and Chief Executive Officer
Yeah. And I think we remain a little cautious. We are excited about the newer OEMs, on lighting and those, and as that ramps up, we’ll definitely benefit from that. And we’re little cautious in our forecasting, but that it is an area that we do expect to see upside from it at some point. I — so I’m not going to predict exactly when, but it’s certainly in our planning.
Luke Junk — Robert W. Baird & Co. — Analyst
Okay. Well, yeah, thanks for the color this morning. I’ll go ahead and leave it there.
Donald W. Duda — Director, President and Chief Executive Officer
Thanks, Luke.
Operator
And it appears we have no further questions at this time. I would now like to turn it back over to management. Go ahead, Don Duda. The floor is back to you.
Donald W. Duda — Director, President and Chief Executive Officer
All right. Ken, thank you very much. And, well, thank everybody for listening today, and wish everyone a very pleasant and safe Labor Day holiday. Good day
Operator
[Operator Closing Remarks]