Key Tronic Corporation (NASDAQ:KTCC) Q2 2024 Earnings Call Transcript
Key Tronic Corporation (NASDAQ:KTCC) Q2 2024 Earnings Call Transcript February 6, 2024
Key Tronic Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Good day, and welcome to the second Quarter Fiscal 2024 Key Tronic's Conference Call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Mr. Brett Larsen. Please go ahead.
Brett Larsen: Good afternoon, everyone. I am Brett Larsen, Chief Financial Officer of Key Tronic. I would like to thank everyone for joining us today for our investor conference call. Joining me here in our Spokane Valley headquarters is Craig Gates, our President and Chief Executive Officer, and Tony Voorhees, our Vice President of Finance and Corporate Controller. As always, I would like to remind you that during the course of this call, we might make projections or other forward-looking statements regarding future events or the company's future financial performance. Please remember that such statements are only predictions. Actual events or results may differ materially. For more information, you may review the risk factors outlined in the documents the company has filed with the SEC, specifically our latest 10-K, quarterly 10-Qs and 8-Ks. Please note that on this call, we will discuss historical financial and other statistical information regarding our business and operations.
Some of this information is included in today's press release, and a recorded version of this call will be available on our website. Today, we released our results for the three months ended December 30, 2023. For the second quarter of fiscal 2024, we reported total revenues of $154.4 million, up 18% from $123.7 million in the same period of fiscal 2023. Revenue growth for the second quarter of fiscal 2024 was driven by increased production at our U.S.-based and Vietnam-based facilities, as well as by the sale of approximately $8.1 million of inventory from a discontinued program. For the first six months of fiscal 2024, total revenue was $293.2 million, up 12% from $261 million in the same period of fiscal 2023. For the second quarter of fiscal 2024, our gross margin was 8.1%, and our operating margin was 2.7%, compared to gross margin of 7.2%, and an operating margin of 2.9% in the same period of fiscal 2023.
The increase in gross margin for the second quarter of fiscal 2024 reflects a favorable product mix for the quarter and improved operating efficiencies. In recent periods, our improved production efficiencies, strategic labor cost reductions, and the gradual stabilization in its supply chain have been largely offset by the strengthening of the Mexican peso relative to the U.S. dollar and increasing labor costs in Mexico and in the U.S. For the second quarter of fiscal 2024, net income was $1.1 million, or roughly $0.10 per share, compared to $1 million, or $0.09 per share, for the same period of fiscal 2023. For the first six months of fiscal 2024, net income was $1.4 million, or $0.13 per share, compared to $2.1 million, or $0.20 per share, for the same period of fiscal 2023.
As we've discussed, our profitability in the fiscal 2024 continues to be negatively impacted by increased labor costs in both the U.S. and Mexico and by higher interest rates on our line of credit. Turning to the balance sheet, we ended the second quarter of fiscal 2024 by reducing inventory and contract assets, which are finished products, by approximately $48.3 million, or roughly 24% from the same time a year ago. These improvements in inventory levels primarily reflect increased component availability and our concerted efforts to drive inventory reductions. Total inventory turns increased to 3.8 times in the second quarter of fiscal 2024, up from 2.6 turns a year ago. We are pleased to see our inventory levels continue to become more in-line with our current revenue.
At the same time, the state of the worldwide supply chain still requires that we drive demand for parts differently than in historical periods. Our customers have revamped their forecasting methodologies, and we have significantly modified and improved our material resource planning algorithms. As a result, we should be better equipped for future disruptions in the supply chain, even as we continue to manage inventory more cost effectively. During the second quarter, we also reduced our accounts payable, leasing obligations, and overall debt by a combined amount of $51 million from a year ago. At the same time, accounts receivable DSOs was at 85 days compared to 78 days a year ago, which we believe reflects some increased delays in collections from certain customers, despite continuing improvement of most customers with respect to disruptions from supply chain issues.
Total capital expenditures were about $2.1 million for the second quarter of fiscal 2024, and we expect total CapEx for the year to be around $8 million. While we're keeping a careful eye on capital expenditures, we plan to continue to invest selectively in our production equipment, SMT equipment, and plastic molding capabilities, utilize leasing facilities as well as make efficiency improvements to prepare for growth and add capacity, particularly in our U.S. and Vietnam locations. For the third quarter of fiscal 2024, we're seeing steady demand for most established programs relative to our second quarter. As previously announced, the large program with a leading power equipment company is now expected to resume materially in fiscal 2025 with a redesigned product.
For the third quarter of fiscal 2024, we expect to report revenue in the range of $135 million to $145 million. While new programs continue to ramp in our Mexico facilities, efficiency improvements, a muted rebound to pre-COVID production levels amongst existing Mexico customers, and a continued pressure of a strengthened peso have combined to create an excess of overhead in our Juarez facilities. After careful consideration and analysis, we expect to incur a severance expense of approximately $1 million to $2.5 million from headcount reductions in our Mexico-based operations. These severance expenses are unfortunate, but a clear requirement. Among other considerations, the payback period for this decision is expected to be under a half of a year.
Taking all these factors into consideration, we expect net income in the range of break-even to $0.15 per diluted share. In the second half of calendar 2024, we expect continued sales growth in the U.S. and Vietnam, and we have a strong pipeline of potential new business. Over the longer term, we believe that we are increasingly well-positioned to win new programs and to continue to profitably expand our business. That's it for me. Craig?
Craig Gates: Okay. Thanks, Brett. During the second quarter of fiscal 2024, we continue to ramp many new programs produced in our U.S. and Vietnam facilities, and we remain profitable. We're also pleased to see improvements in our operating efficiencies, inventory levels, and other improvements made on the balance sheet. Moving into the third quarter of fiscal 2024, we continue to see the favorable trend of contract manufacturing returning to North America. As a result, we continue to expand our customer base and won new programs involving security products, medical devices, and military aerospace. Global logistics problems and China-U.S. geopolitical tensions continue to drive OEMs to examine their traditional outsourcing strategies.
We believe these customers increasingly realize they have become overly dependent on their China-based contract manufacturers for not only product, but also for design and logistic services. Over time, the decision to onshore or near-shore production is becoming more widely accepted as a smart long-term strategy. As a result, we see opportunities for continued growth, and those opportunities are becoming more clearly defined over time. At the same time, we are seeing a sustained trend of a strong Mexican peso and continued wage increases in Mexican wages, particularly along the U.S.-Mexico border. As it has become clear that these changes in the base cost of Mexican production are longstanding, it has also become clear that customers have a different calculus for selecting a geographic location for business they are bringing back from China.
For those customers who struggled with China production due to their flexibility needs, the decreasing cost differential between our U.S. and Mexico plants means they will probably choose one of our U.S. sites. There, we believe, they can enjoy the ultimate in flexibility, engineering support, and ease of communication. Meanwhile, for those customers whose requirements had adapted to the China model of limited flexibility, challenging communications, and slow-motion engineering support, our Mexico facilities remain the answer. Therefore, we are reconfiguring our Mexico sites to endeavor to be a lower-cost, high-quality, but more commodity-level service provider. Over the past 12 months, revenue from our U.S. production facilities has increased approximately 15%.
In Q2 of 2024, production in the U.S. represented about 31% of our total revenue. While our Vietnam facility continues to be a modest contributor to our over-revenue at approximately 4%, production there has increased by about 29% over the past 12 months. Moreover, a growing number of potential customers are actively evaluating a migration of their China-based manufacturing to our facility in Vietnam. In the coming years, we expect our Vietnam facility to play a major role in our growth. While China growth has slowed and many companies have decided to take risk mitigation steps with their China manufacturers, the fact remains that many components must be sourced from China. Our procurement group in Shanghai, which serves the entire corporation, remains important for managing the China component supply chain on an ongoing basis.
The combination of our global footprint and our expansive design capabilities is proving to be extremely effective in capturing new business. Many of our large and medium-sized manufacturing program wins are predicated on Keytronic's deep and broad design services. And, once we have completed a design and ramped it into production, we believe our knowledge of a program's specific design challenges makes that business extremely sticky. We also invested in vertical integration and manufacturing process knowledge, including a wide range of plastic molding, injection, blow, gas assist, multi-shot, as well as PCB assembly, metal forming, painting and coating, complex high-volume automated assembly, and the design, construction, and operation of complicated test equipment.
This expertise may set us apart from our competitors of a similar size. As a result, a customer looking to leave their contract manufacturer will find a one-stop shop in Keytronic, which is expected to make the transition to our facilities much less risky than cobbling together a group of providers, each limited to a portion of the value chain. In fact, most of the new customers we have onboarded take advantage of the one-stop shop capabilities we provide. We believe global logistics problems, China-U.S. political tensions, and heightened concerns about supply chains will continue to drive the favorable trend of contract manufacturing returning to North America, as well as to our expanding Vietnam facilities. We continue to see improvement across the metrics associated with business development, including a significant increase in the number of active quotes with reflective customers.
We move into the second half fiscal 2024 with a strong pipeline of potential new business. While we're seeing some improvement in our gross margin, recent wage increases, higher interest rates, and a strong peso will dampen our growth and profitability in the near term. Moreover, we will continue to rebalance our manufacturing across our facilities in Mexico, the U.S., and Vietnam. We remain very encouraged by our progress and potential for growth over the long term. In preparation for our future, we recently announced our leadership succession plan beginning June 30. I am very pleased that our board of directors named Brett to succeed me as president and chief executive officer. I expect to remain a member of the board. We are most fortunate that Brett joined Keytronic in 2004 and has served as our executive vice president of administration, chief financial officer, and treasurer since 2015.
He has assumed ever-increasing roles and responsibilities over the past 20 years. Brett and I have worked very closely, and he has been a critical member of the management team formulating and executing our strategies over the years. In addition, Tony will be promoted to executive vice president of administration, chief financial officer, and treasurer. Tony has served in various financial management roles with us since 2010 and has worked closely with Brett for many years. I am confident Brett, Tony, and their outstanding team will continue to take Keytronic to new heights. This concludes the formal portion of our presentation. Brett, Tony, and I will now be pleased to answer your questions.
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