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Edited Transcript of BELFA earnings conference call or presentation 21-Feb-19 4:00pm GMT

Q4 2018 Bel Fuse Inc Earnings Call

Jersey City Feb 26, 2019 (Thomson StreetEvents) -- Edited Transcript of Bel Fuse Inc earnings conference call or presentation Thursday, February 21, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Craig Brosious

Bel Fuse Inc. - VP of Finance, Treasurer & Secretary

* Daniel Bernstein

Bel Fuse Inc. - President, CEO & Director

* Lynn Hutkin

Bel Fuse Inc. - Director of Financial Reporting

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Conference Call Participants

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* Hendi Susanto

G. Research, LLC - Research Analyst

* Sean Kilian Flanagan Hannan

Needham & Company, LLC, Research Division - Senior Analyst of Smart Grid, Electronic Mfg Svcs, IT Components & Electronic Components

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Presentation

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Operator [1]

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Good day, and welcome to the Bel Fuse Inc. Fourth Quarter and Full Year 2018 Results Conference Call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Mr. Dan Bernstein, President and Chief Executive Officer. Please go ahead, sir.

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [2]

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Thank you, Allison. Joining me on the call today is Craig Brosious, our Vice President of Finance; and Lynn Hutkin, our Director of Financial Reporting.

Before we begin the call, I'd like to ask Lynn to go over the safe harbor statement. Lynn?

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Lynn Hutkin, Bel Fuse Inc. - Director of Financial Reporting [3]

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Thank you, Dan. Good morning, everybody.

Before we start, I'd like to read the following safe harbor statement. Except for historical information contained on this call, the matters discussed on this call such as statements regarding anticipated growth from the company's distribution channel, the effects of the ERP system implementation and other positive business and growth trends are forward-looking statements as described under the Private Securities Litigation Reform Act of 1995 that involves risks and uncertainties. Actual results could differ materially from Bel's projections.

Among the factors that could cause actual results to differ materially from such statements are: the market concerns facing our customers; the continuing viability of sectors that rely on our products; the effects of business and economic conditions; difficulties associated with integrating recently acquired companies; capacity and supply constraints or difficulties; product development, commercialization or technological difficulties; the regulatory and trade environment; risks associated with foreign currencies; uncertainties associated with legal proceedings; the market's acceptance of the company's new products and competitive responses to those new products; the impact of changes to U.S. trade and tariff policies; and the risk factors detailed from time to time in the company's SEC reports.

In light of the risks and uncertainties, there can be no assurance that any forward-looking statement will, in fact, prove to be correct. We undertake no obligation to update or revise any forward-looking statements.

We may also discuss non-GAAP results during this call and reconciliations of our GAAP results to non-GAAP results have been included in our release.

And just before turning the call back to Dan, I just wanted to give everyone a heads up that our EBITDA reconciliation table in our original release was incorrect. There were errors in that table and a new release is coming out. So please disregard that initial table. So that's the third table, which is on Page 7 of the release.

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [4]

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Thank you, Lynn. Before going through the financials, I would like to provide a brief update on how the businesses did from an operational standpoint this quarter and what we see going forward.

Overall, we were very pleased that we closed the year with another solid quarter, bringing our 2018 sales to $548 million, our highest sales year since 2015. More importantly, our net earnings for the year of $21 million were the highest in over a decade. Sales during the fourth quarter were $142.7 million, up 19% from the fourth quarter of 2017 with double-digit growth in each of the 3 main product lines. Our backlog of orders remained strong at $171.2 million at December 31, 2018, an increase of 17% from a year ago. The increase in backlog is also seen across each of our major product groups, which is a good barometer for diversified future growth.

And looking at the full year, our Magnetic Solutions group closed the year with $24.4 million increase in sales over 2017 levels led by a high demand for our integrated connector modules that are used in next-generation switching applications. Sales of our Signal Transformer products were also strong during 2018 as new programs with medical and industrial applications move into full production. We have also expanded the presence of our magnetic products through our distribution channels, which add to the year-over-year sales growth. The backlog of orders from magnetic products grew by $9.7 million or 28% increase since the 2017 year-end.

Our Connectivity Solutions group had year-over-year sales growth of $16.4 million. Our Cinch business increased revenue by $8.2 million compared to 2017 led by strong demand for our optical and copper products used in encryption, communication and threat detection radar applications. Our Stewart passive connectors also saw increase in sales of $8.2 million from 2017 as improved economic conditions in the construction industry led to high demand for our premise wiring customs during the year. The Cinch and the Stewart business also benefit from notable growth in sales through our distribution channel in 2018. Overall, the backlog of orders for our Connectivity products grew by $7.8 million, or 16%, since 2017 year-end levels.

Our Power Solutions and Protection group had a turnaround year as sales growth of $15.8 million from 2017 led this group to its first year of sales growth since 2015. Excluding the effects of our NPS divestiture, sales for this group were up $21 million or 14% from last year, driven by continued demand for our power supplies in a variety of data center applications. Sales of our DC to DC and circuit protection products also grew in 2018, offset by a decline in demand for our custom modules. The backlog of our orders for our Power Solutions and Protection group is up $7.1 million or 11% from 2017 year-end levels.

From a profitability standpoint, foreign exchange gains and a favorable adjustment draw a transition tax help to mitigate the higher labor and material costs that impacted our bottom line this year. We continue to hold pricing firm as we work through our higher cost inventory on end. Regarding the tariffs that were implemented in 2018, we estimate that approximately 10% of our consolidated annual revenues are currently impacted. At this point, the majority of these costs have been passed along to our customers in the form of an invoice charge. We continue to monitor the situation closely as we approach the tentative March 1 deadline for the U.S. reaching a great deal with China in order to prevent further increases on existing tariffs. Overall, we remain cautiously optimistic with continued sales growth and profitabilities as we enter 2019.

And with that, I turn over to Craig to run through the financial update.

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Craig Brosious, Bel Fuse Inc. - VP of Finance, Treasurer & Secretary [5]

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Thanks, Dan. To provide a quick recap on sales. Sales during the fourth quarter were $142.7 million. By geographic segment, North America sales were $70.3 million, Asia sales were $49.1 million and Europe were $23.3 million.

By product group, Connectivity Solutions sales were $46.4 million, Magnetic Solutions sales were $48.6 million and Power Solutions and Protection sales were $47.7 million.

Gross profit margin increased to 21.3% in the fourth quarter of 2018 as compared with 18.5% in the fourth quarter of 2017 as incremental sales in 2018 led to improved fixed cost absorption offsetting higher labor costs during the year. In addition, our gross profit margin during the fourth quarter of 2017 had been impacted by inventory-related charges totaling $2 million in connection with maintaining our inventory at the lower cost or net realizable value.

Our selling, general and administrative expenses were $22.2 million or 15.6% of sales as compared with $21.1 million or 17.6% of sales in the fourth quarter of 2017. While the increase in SG&A expenses during the 2018 period $900,000 relates to a decline in market value of our COLI policies, which was in line with the general stock market activity during the fourth quarter of 2018. We have already started to see this reverse in 2019.

Other offsetting factors that affected the variance in the fourth quarter periods were higher legal and professional fees of $800,000 offset by a decrease in bad debt expense of $500,000 and a reduction in depreciation and amortization of $400,000. On a go-forward basis, we would expect SG&A to run between $20 million and $21 million per quarter in the near term, barring any significant fluctuations in foreign currencies.

As a result of these factors, we generated income from operations of $8 million in the fourth quarter of 2018 as compared to $1 million in the fourth quarter of 2017. Interest expense was 14 -- I'm sorry, $1.4 million in the fourth quarter of 2018, down $900,000 from the same period last year.

If you recall, we refinanced our credit agreement in the fourth quarter of 2017, which led to an acceleration of deferred financing cost amortization of $1 million during the last year's fourth quarter.

Our provision for income taxes was $2.4 million for the fourth quarter of 2018 compared to $19.2 million during last year's fourth quarter. The provision for income taxes during the fourth quarter of 2018 was unfavorably impacted by taxes on foreign earnings, the GILTI tax, partially offset by a decrease in the U.S. tax rate from 35% to 21% in 2018. The provision for income taxes in 2017 period included an $18 million impact from the U.S. Tax Cuts and Jobs Act, which was enacted on December 22, 2017.

Earnings per share for Class A common shares was $0.31 per share in the fourth quarter of 2018 as compared with a loss of $1.66 per share in the fourth quarter of 2017. Earnings per share for the Class B common shares was $0.33 per share in the fourth quarter of 2018 as compared with the loss of $1.74 per share in the fourth quarter of 2017. On a non-GAAP basis, which excludes certain unusual and other nonrecurring items, EPS for Class A shares was $0.37 per share in the fourth quarter of 2018 as compared with the loss of $0.09 per share in the fourth quarter of 2017. On a non-GAAP basis, EPS for Class B shares was $0.39 per share in the fourth quarter of 2018 as compared with a loss of $0.10 per share in the fourth quarter of 2017.

And now I would like to go through some balance sheet and cash flow items. Our cash and cash equivalents balance at December 31, 2018, was $53.9 million, a decrease of $15.4 million from December 31, 2017. During 2018, we made payments of $9 million towards our outstanding debt balance. We also used cash for capital expenditures of $11.6 million, dividend payments of $3.3 million and interest payments of $4.8 million.

Accounts receivable were $91.9 million at December 31, 2018 as compared with $78.8 million at December 31, 2017. Days sales outstanding were 59 days at December 31, 2018 compared to 60 days at December 31, 2017. The increase in accounts receivable balance was largely due to the higher sales volume in the fourth quarter of 2018 as compared to the fourth quarter of 2017.

Inventories were $120.1 million at December 31, 2018, up $12.3 million from December 31, 2017. In January of 2018, we adopted the new revenue recognition standard, which accelerates the timing in which revenue was recognized and the corresponding release of finished goods from our inventory balance related to products held at customer control hubs. Excluding the effects of this adoption, our inventory balance would have increased by $23.4 million from December 31, 2017, primarily in raw materials and work-in-progress in response to the increase in demand for our products in 2018.

Accounts payable were $56.2 million at December 31, 2018, up $8.2 million from its level at December 31, 2017 due to the increase in raw material purchases.

Bel's total outstanding debt was reduced by $744,000 during the fourth quarter, bringing the balance down to $116 million as of December 31, 2018, excluding deferred financing cost. Book value per share, which is calculated as stockholders' equity divided by our combined A and B classes of common stock outstanding, was $14.39 per share at December 31, 2018 as compared to $13.13 per share at December 31, 2017.

And now I would like to turn the call back to Dan and open the call for questions.

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [6]

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Yes. Can we open up the call for questions, please Allison?

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Questions and Answers

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Operator [1]

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(Operator Instructions) We will now take our first question from Sean Hannan from Needham & Company.

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Sean Kilian Flanagan Hannan, Needham & Company, LLC, Research Division - Senior Analyst of Smart Grid, Electronic Mfg Svcs, IT Components & Electronic Components [2]

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Dan, I was looking to see if I could ask you to provide for us a little bit more detail around the segment. I know you provided some in the prepared comments. Can you perhaps get into a little bit more specificity in terms of how it is that we're feeling with each of these segments today in the activities we ramp here in the first quarter and in '19. And perhaps how that may have changed or might be different versus what you were expecting maybe just a few months ago? Any insight there would be very helpful.

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [3]

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Okay. Again, of course, all our product groups and all the subdivisions within the product groups, a majority, I would say, 80% of all have been very strong. We have one group, is the Modular group and the DC to DC group out of Italy that have some large customers that they lost, but that hasn't been anything to do with market conditions just because of the situation with these customers. So overall everything has been, as you know, extremely positive. Going into this quarter and next quarter, January was a very -- we saw a strong January, and again, we think we don't see any changes in the first quarter. The only concerns that we do have is there are some IC companies that are seeing some softening in the market and we do hear some rumblings that there might be too much inventory in the pipeline. But so far it has not affected our sales or backlog. So again, that's why I think we're somewhat positive for the first quarter and let's see how things close out after there.

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Sean Kilian Flanagan Hannan, Needham & Company, LLC, Research Division - Senior Analyst of Smart Grid, Electronic Mfg Svcs, IT Components & Electronic Components [4]

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Okay. Fair enough. Now as we look into the Power group, this is obviously always a topic each call. There is a lot that you've done in terms of correcting the quality issues from some of the acquisitions you had taken on, there's a lot you've been doing to step-up executions, a lot that you've done in incrementally winning new designs and into new programs some of which has been getting some momentum. And I think you talked about that a little bit earlier today. What more should we expect in the trajectory of this business? Is there anything in the background that is incrementally being worked down or is out there a bogey that could accelerate the growth trajectory that you're now setting into today? Or how should we think about how this continues to develop as a product segment for you?

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [5]

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Okay. So the Power group, again, as we stated over the last 2 or 3 years, we believe very strongly that it has the greatest growth potential for Bel from a top line standpoint. The problem we did have is when we acquired the company previous management really didn't focus on quality and customer service. And it took us a long time to change that; a, first change our factory then change the customer opinion, and over the past 18 months, we have all our customers are back and consider Bel to be a power supplier. I think 2 things that we have done that we've changed recently. One was, I think, because we were so desperate for sales, we took a shotgun approach and really put all restrain on our R&D group without getting the type of results that we would like. So what we have done is, really gone from much more selected approach of what customers we want to deal with, how they fit into us and will they be long-term customers? With that said, we are streamlining our R&D group because we don't have to go with the sock-on approach, we know what exactly engineers we need to support these products as we move forward. The key problem now is that we do have 2 or 3 key customers that can go anywhere from $8 million to $12 million, $13 million. And when we're talking about data center-type of customer, we do have big client type of customers. Again, those fluctuate very big from a revenue standpoint. Again, however, we do think that we have positioned ourselves a lot more in the marketplace, and currently I think we have 90 NDAs signed on high-efficiency vehicles and we're starting to see that business go from $3 million to $5 million. So we're hoping that would double again, gives us a lot more diversification, and we are working with other data center type of customers. So we get that more diversified. So again, we are still shooting. Our goal has always been to get power to that consistent 10% growth over a 2- to 3-year period.

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Sean Kilian Flanagan Hannan, Needham & Company, LLC, Research Division - Senior Analyst of Smart Grid, Electronic Mfg Svcs, IT Components & Electronic Components [6]

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Okay. That's helpful. And then last question here. Just to see if I can get some perspective around a customer of yours directly or indirectly. Huawei, now I understand that you're not necessarily even a 5% customer, but can you talk about how do they play into your business historically? And is there anything that we should be mindful of thinking about that relationship or revenue generation and maybe in somehow tied to them on a go-forward basis?

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [7]

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Well, I think, again, being a Chinese company, I think they tend to go with Chinese vendors in China. I know, for example, they sold their power supply group to Emerson about 6 years ago, and now former Huawei people have their own power supply company. So we know it's a tough nut to crack. We do some ICM business, but not substantial at all. And for us, it should be a strong benefit because we think people like Nortel, Cisco should pick up the business that they are losing. So I know there are certain countries, Czech Republic, Canada and the U.S. how they view Huawei going forward. And if they can't buy equipment from Huawei for 5G, they will go -- I'm sorry I didn't mean Nortel, I apologize, Nokia, that Nokia and Cisco will probably pick up that slack and possibly Alcatel, and these multinational non-Chinese customers we do substantial amount of business with them. So we're hoping that our business should increase as more and more 5G is introduced.

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Operator [8]

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(Operator Instructions) And we will now take a question from Hendi Susanto from G. Research.

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Hendi Susanto, G. Research, LLC - Research Analyst [9]

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Dan, you travel to China a lot. How do you characterize your China market now? How different is it compared to a typical year?

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [10]

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We always -- for us -- throughout the world, I mean, Europe and China there's so much uncertainty and how they believe in Donald Trump and the job he is doing. There is tremendous amount of nervousness. For us again, for the China market, it's always been very difficult to break into that market because of the pricing parameters that you have selling to, again, a Chinese customer. However, a good portion may be 35% of our sales go to China, but it goes through the CEM like Flextronics or Hon Hai, Foxconn, and those are non-Chinese companies. However, we do -- we are starting to see more people look at China in a different light. We know the ODMs in Taiwan, they have majority of their production in China. They are now moving some of that production back into Taiwan. We see other multinationals moving products around to get around the tariffs. So if you have production in Malaysia, use that for all products coming to the States and then you use your China production to go into Europe and the Far East market. But again, nobody likes uncertainty and that without question with the tariffs there's tremendous amount of uncertainties and that's not good for anybody.

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Hendi Susanto, G. Research, LLC - Research Analyst [11]

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Got it. And then Dan, given solid sales growth and your backlog growth in 2018 and current ERP implementation, how much improvement in gross margin and operating margin we should expect in 2019?

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [12]

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I will leave that to my accounting group here.

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Craig Brosious, Bel Fuse Inc. - VP of Finance, Treasurer & Secretary [13]

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Yes. I think assuming the reasonable sales growth that we're expecting, moderate sales growth, I think we have some leverage ability to move the gross margin up to maybe 1.0, 1.5. Again, a lot of our production costs are based in China and depending on which way the trade agreements go, it could have an effect on the exchange rates that we have to deal with on the cost of that -- on the labor costs, particularly. So barring any significant moves in those exchange rates, we have opportunities to expand margins a little bit.

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Hendi Susanto, G. Research, LLC - Research Analyst [14]

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And then another question on cost. So I think Bel Fuse is dealing with increase in labor cost, and I think that has been there for a while and then you have been mitigating or taking actions or increased your labor costs. When we go through like 2019, when can we compare on an apple-to-apple year-over-year comparison with regard to the labor cost? And like how -- and then would you be able to quantify how much labor cost was?

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Craig Brosious, Bel Fuse Inc. - VP of Finance, Treasurer & Secretary [15]

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I think we -- to get to an apples-to-apples comparison, we will probably need to be in the third quarter of this year because we had cost increases going into effect in the first and second quarters of 2018. So I think once we get to the third quarter, we get some reasonable comparatives.

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Lynn Hutkin, Bel Fuse Inc. - Director of Financial Reporting [16]

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The only thing to add there is, in 2019, we are also experiencing increased labor cost in Mexico that will impact the 2019 period, but was not there during the 2018 period. So we have that as well.

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Hendi Susanto, G. Research, LLC - Research Analyst [17]

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Okay. And then the majority of the tariff cost has been passed to customers. Can you quantify how much has been passed and what's next?

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [18]

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I think it's been about $7.8 million, in that range.

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Lynn Hutkin, Bel Fuse Inc. - Director of Financial Reporting [19]

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In 2018, it was about $2.4 million, in total for 2018, so that was a partial year.

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Craig Brosious, Bel Fuse Inc. - VP of Finance, Treasurer & Secretary [20]

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So like, I think Dan had mentioned previously, most of our sales at least coming out of China do not end up directly into the U.S. So we're not significantly impacted by the tariffs. So we were able -- basically $2.5 million or so is what we had to pass on.

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Operator [21]

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(Operator Instructions) It appears there are no further questions. Mr. Bernstein, I would like to turn the call back to you for any additional or closing remarks.

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Daniel Bernstein, Bel Fuse Inc. - President, CEO & Director [22]

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Thank you for joining us today, and we look to speak to you in the future. Thank you for your time.

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Operator [23]

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Ladies and gentlemen, this concludes today's call. Thank you very much for your participation. You may now disconnect.