Q3 2023 Cooper-Standard Holdings Inc Earnings Call

Participants

Christopher E. Couch; Senior VP & CTO; Cooper-Standard Holdings Inc.

Jeffrey S. Edwards; Chairman & CEO; Cooper-Standard Holdings Inc.

Jonathan P. Banas; Executive VP & CFO; Cooper-Standard Holdings Inc.

Roger S. Hendriksen; Director of IR; Cooper-Standard Holdings Inc.

Michael Patrick Ward; MD & Senior Analyst; The Benchmark Company, LLC

Presentation

Operator

Good morning, ladies and gentlemen, and welcome to the Cooper-Standard Third Quarter 2023 Earnings Conference Call. (Operator Instructions) As a reminder, this conference call is being recorded, and the webcast will be available on the Cooper-Standard website for replay later today.
I would now like to turn the conference over to Roger Hendriksen, Director of Investor Relations.

Roger S. Hendriksen

Thanks, Keith, and good morning, everyone. Thank you for spending some time with us this morning. The members of our leadership team who will be speaking with you on the call this morning are Jeff Edwards, Chairman and Chief Executive Officer; and Jon Banas, Executive Vice President and Chief Financial Officer. Also joining us this morning is Chris Couch, Senior Vice President and Chief Technology Officer. Chris will be available to address relevant topics during the Q&A session.
Before we begin, I need to remind you that this presentation contains forward-looking statements. While they are made based on current factual information and certain assumptions and plans that management currently believes to be reasonable, these statements do involve risks and uncertainties. For more information on forward-looking statements, we ask that you refer to Slide 3 of this presentation and the company's statements included in periodic filings with the Securities and Exchange Commission.
This presentation also contains non-GAAP financial measures. Reconciliations of the non-GAAP financial measures to their most closely and directly comparable GAAP measures are included in the appendix to the presentation.
With those formalities out of the way, I'll turn the call over to Jeff Edwards.

Jeffrey S. Edwards

Thanks, Roger. Good morning, everyone. We appreciate the opportunity for you to review our third quarter results and provide an update on our business and outlook going forward.
To begin, on Slide 5, we provide some highlights or key indicators of how our operations performed in the third quarter. We certainly have maintained our focus and dedication to delivering quality products and exceptional service to our customers and keeping our employees safe in our workplaces around the world.
In terms of product quality, you can see that 97% of our customer scorecards were green in the quarter. We also had 97% green scorecards for new product launches. So we continue to achieve outstanding operational performance, allowing us to deliver exceptional value to our customers. In addition, safety performance of our plants continues to be excellent.
During the third quarter, we had a total incident rate of just 0.27 reportable incidents per 200,000 hours worked, and that's well below the world-class benchmark of 0.57. Leading this outstanding safety performance were the 31 plants that have maintained a perfect record of zero incidents through the first 9 months of the year. I certainly want to recognize the teams at these plants for their ongoing commitment and leadership as we continue to strive for our ultimate safety goal of zero incidents for the entire company. I'm extremely proud of our global team for their continued commitment to workplace safety and certainly a big shout out to our plant managers. Thank you all very much.
As global light vehicle production volumes continued to improve in the third quarter, our sales increased by a solid 12% year-over-year, significantly outpacing the market. In addition, we continued our focus and commitment to maximize operational efficiency and become as lean as possible. During the third quarter, our manufacturing and purchasing teams delivered $14 million in savings through lean initiatives and other cost-saving programs. Finally, we're continuing to leverage our award-winning innovations to win new business, especially on new vehicle on new electric vehicle programs, hybrids, and also to upgrade our total content and margin on existing vehicle programs.
During the third quarter, we were awarded contracts for $91 million in annualized future sales on programs that include our most recent technology innovations. This includes both new programs as well as upgrades on existing programs. Importantly, we continue to partner with our customers to design and develop new technologies for their most important electric vehicle platforms. New business awards for EV platforms were $34 million in the quarter, bringing the year-to-date total to $89 million. We are pleased to see our hard work over the past couple of years, begin to drive meaningful improvement in our financial results. The combination of leaner cost structure and our enhanced commercial agreements leveraged across increasing production volumes is certainly powerful.
Turning to Slide 6. Our company culture is based on providing value, frankly, to all of our shareholders, all of our stakeholders and being good stewards of the environment and the communities in which we work and live. Within this culture, a focus on sustainability is kind of a natural extension. So it comes as no surprise that our performance in the areas of sustainability continues to garner recognition from within the industry as well as from sustainability experts. We recently learned that we have again achieved silver metal rating with EcoVadis, which places us in the 87th percentile of responding companies in our segment. Based on this rating, Nissan also recently recognized Cooper-Standard for outstanding achievement and sustainability. We continue to work on aligning our priorities with the values of our customers, and we believe this ultimately will provide opportunities for sustained growth and long-term value creation. And certainly not to fail to mention the type of company that the world's best and brightest want to be a part of.
I'll now turn the call over to Jon to give you the financial details for the quarter.

Jonathan P. Banas

Thanks, Jeff, and good morning, everyone. In the next few slides, I'll provide some details on our financial results for the quarter and discuss our cash flows, liquidity and aspects of our balance sheet.
We are pleased that once again, all four of our operating regions delivered positive adjusted EBITDA in the third quarter. And importantly, total company performance was positive at the U.S. GAAP net income level.
On Slide 8, we show a summary of our results for the third quarter of 2023 with comparisons to the same period last year. Third quarter sales were $736 million an increase of 12% compared to the third quarter of 2022. The increase was driven by favorable volume and mix, primarily in North America and Europe, and our enhanced commercial agreements globally. We also saw a small benefit from favorable foreign exchange. Gross profit for the third quarter was $106.5 million, or 14.5% of sales. This compares to a gross profit of $38.6 million or just 5.9% of sales in the third quarter of 2022. Adjusted EBITDA in the quarter was $79.1 million compared to $20.5 million in the third quarter of last year. The year-over-year improvement was driven primarily by favorable volume and mix, enhanced commercial agreements and lean savings achieved in net manufacturing and supply chain. All partially offset by ongoing inflation headwinds in areas such as energy and the labor costs as well as the impact of unfavorable foreign exchange.
On a U.S. GAAP basis, net income for the quarter was $11.4 million compared to a net loss of $32.7 million in the third quarter of 2022. The current quarter included $2 million in net restructuring costs. Excluding special items and the related tax impact from both periods, adjusted net income for the third quarter of 2023 was $15 million or $0.85 per diluted share, compared to adjusted net loss of $29.5 million or $1.71 per share in the third quarter of 2022. The year-over-year improvement resulted primarily from higher sales and improved gross profit, partially offset by higher interest expense.
Our capital expenditures in the third quarter totaled $16.4 million or 2.2% of sales, compared to $14.2 million in the third quarter of last year. We continue to have discipline around capital investments, which remain primarily focused on customer launch rapidiness. For the first 9 months of 2023, sales totaled $2.1 billion, an increase of $266.2 million or 14.2% and versus the first 9 months of 2022. Adjusted EBITDA was $139.5 million in the first 3 quarters compared to $10.3 million in the same period of 2022, a year-over-year increase of $129.2 million. Adjusted net loss in the first 9 months of the year was $51.2 million or $2.95 per diluted share compared to an adjusted net loss of $139.3 million or $8.11 per share in the first 9 months of 2022. CapEx in the first 9 months of 2023 was $63.2 million or 3% of sales, in line with our full year target.
Moving to Slide 9. The charts on Slide 9 provide additional insights into some of the key factors impacting our results for the third quarter. For revenue, favorable volume and mix including net customer price adjustments, increased sales by $82 million versus the third quarter of 2022. This increase includes a portion of price negotiation settlements that were retroactive to the start of the year and a smaller amount pulled forward into Q3 that we had originally anticipated settling and recording in Q4. Combined, these represented approximately $25 million to $30 million in sales above the normalized Q3 run rate.
Foreign exchange, mainly related to positive euro movements, partially offset by negative Chinese RMB fluctuations, increased sales by a net $6 million versus the same period last year. These positive factors were partially offset by $9 million in reduced sales related to the divestiture of our technical rubber business in Europe during the quarter. For adjusted EBITDA, volume, mix and net price adjustments, including the retroactive portion of the price negotiation settlements mentioned earlier, drove a combined $68 million of improvement for the quarter. Lean initiatives in purchasing and manufacturing efficiencies contributed $14 million year-over-year and material cost improvements were a benefit of $14 million in the quarter. These positive contributors were partially offset by the non-recurrence of a favorable compensation-related adjustment last year and certain ongoing headwinds this year. General inflation, including energy, salaries, wages and transportation and other costs reduced adjusted EBITDA by $16 million in the quarter. The impact of foreign exchange was negative $9 million, primarily related to the strengthening of the Mexican peso.
Moving to Slide 10 to look at the analysis for the first 9 months of the year. For sales, favorable volume, mix and net price adjustments added $291 million versus the same period last year. Foreign exchange was an offset of $16 million and divestitures were a reduction of $9 million. For adjusted EBITDA, favorable volume mix and net price adjustments added $163 million compared to last year. Net manufacturing and purchasing efficiencies added $38 million and material economics were a favorable $19 million. These factors were partially offset by $49 million of significant general inflationary headwinds for items such as labor, utilities and transportation. Negative $23 million of foreign exchange and negative $12 million of various other impacts.
Moving to Slide 11. Looking at cash flows and liquidity. Our cash provided by operations was approximately $20 million in the third quarter of 2023, reflecting not only improved cash operating income partially offset by net changes in working capital associated with increased sales volumes. As mentioned earlier, CapEx was approximately $16 million in the quarter, primarily reflecting the timing of program launch activity. We were pleased to generate positive free cash flow of approximately $4 million during the quarter.
We ended September with a cash balance of approximately $205 million. This included a draw on our ABL facility of $120 million, which we opted to take prior to quarter end as a precautionary measure due to the uncertainty and anticipation of potential production disruptions related to the OEM labor negotiations. Because we had this cash on hand from the ABL draw, we did not factor our receivables in Europe as we typically would, and this had the effect of reducing free cash flow in the quarter by approximately $15 million. With $55 million of remaining availability on our ABL and cash on the balance sheet, we had solid total liquidity of approximately $259 million as of September 30. With the OEMs and the UAW having recently reached tentative labor agreements, which has significantly reduced the risk of further production disruptions, we no longer felt carrying the incremental cash from the ABL borrowings was necessary, and we repaid the $120 million this morning.
Based on our current outlook and expectations for light vehicle production, improving operating efficiencies and the further benefit from enhanced commercial agreements with our customers. We believe we will be cash flow positive in the fourth quarter. We are still assessing the impact of the strike and now production ramp-up will have on our working capital and how that will affect cash flow for the full year. That being said, we believe our current cash on hand, expected future cash generation and access to flexible credit facilities will provide ample resources to support our ongoing operations.
That concludes my prepared comments. So let me turn it back over to Jeff.

Jeffrey S. Edwards

Thanks, Jon. And over the next few minutes, I'd like to provide you with a status update on our commercial negotiations and our innovation pipeline and other strategic initiatives we're executing to drive increasing value in the near term and in the years ahead. Then I'll conclude with a few comments on our outlook for the remainder of the year, including our full year guidance.
So please turn to Slide 13. During the third quarter, we continue to work with all of our customers to recover incremental costs related to inflationary pressures and establish sustainable pricing that will enhance quality of earnings and value creation over the longer term. Through these negotiations, our customers continue to demonstrate support of our strategic partnerships and to recognize the value of our innovation engineering, manufacturing and quality. The majority of these customer negotiations are now complete, resulting in significantly enhanced commercial agreements that will provide for inflation recovery as well as sustainable pricing going forward. Approximately 75% of the recoveries and price adjustments achieved will carry forward into 2024 and beyond. We anticipate concluding the few remaining customer negotiations before the end of the year.
Turning to Slide 14. Our industry-leading innovations -- they are a key reason why our customers consider us a strategic partner. We continue to design, develop and deliver new technologies that help solve our customers' problems, reduce complexity in their systems and enhance vehicle performance and aesthetics. In addition, our innovations are helping our customers to advance their own sustainability goals and objectives by reducing carbon footprint and vehicle weight and improving overall vehicle range and efficiency. At the same time, these innovations are providing growth opportunities for Cooper-Standard through increased content per vehicle and margin enhancement. While we've already launched and sold many unique product innovations, our pipeline of new technologies soon to be in the market holds great promise. Let me remind you of just a few.
Turning to Slide 15. Our new eCoFlow technology, which we developed in partnership with Solari, is revolutionary integrated fluid system that eliminates independent valves and pumps by combining functionality in a single unit. In addition to reducing components and complexity, the system will reduce system pressure drop and optimize tube and adapter routings. The new technology is expected to lower the overall cost of fluid management systems for the OEM customer, but will provide increased content and margin for Cooper-Standard. We expect this technology to be available for quoting on new programs beginning in the first quarter of 2024.
Turning to Slide 16. Another exciting new product is our full thermoplastic dynamic seal, which offers enhanced sustainability features such as full recyclability, weight reduction, and lower energy consumption. A key enabler of this innovation is a proprietary new carrier that replaces the traditional steel or aluminum version while still providing the necessary mechanical integrity. This new technology also offers a wide variety of color options that can enhance overall vehicle aesthetics. We anticipated our full thermoplastic dynamic seal will be formally available for new business quotes early next year.
Turning to Slide 17. Finally, we're continuing to make enhancements to our overall Fortrex technology portfolio by adding new formulations that meet specific customer requests and needs. Micro dense Fortrex was introduced this year to provide additional weight reduction and further benefit from its lower overall carbon footprint. ED 65 Fortrex is expected to be available in 2024 and will provide lower dirometer for an enhanced softer feel and greater design flexibility. It will also provide improved durability and even lower compression set than the original Fortrex formulations. Finally, we're advancing our development of up-cycled Fortrex which will use recycled consumer materials as feedstocks for a lower carbon footprint and overall enhanced sustainability. We expect this technology to become available to the market sometime in 2025.
Also relating to our innovation developments and business diversification, we're pleased to announce a significant milestone in our efforts to commercialize Live Line technologies, our proprietary AI-based advanced process controls system. We developed Live Line as a means of improving efficiency and reducing scrap on our own extrusion lines. Over the past few years, we've developed the technology on 20 lines in four countries. The realized savings have been and continue to be significant. Based on that initial internal success with relatively low cost and efficient scalability, we believe the technology has the potential to benefit many manufacturing companies within a wide range of industries, making advanced process control systems more affordable and accessible. We've begun marketing the technology through a wholly owned AI technology start-up subsidiary, Live Line Technologies, and we have just received our first commercial order from a large fiber optic manufacturer. We're still in the early stages of marketing this technology, but we believe this first commercial contract provides important validation of the business model and the opportunity ahead.
Turning to Slide 19. Even as we continue to invest in exciting innovation, we recognize the need to reduce our overall costs. While we have made great progress, we're continuing to optimize our operating footprint and business portfolio to accelerate value creation and improve profitability. We expect to direct more of our new business to advantaged production facilities over time, reducing our exposure to high-cost labor markets. We will also consider divesting non-core businesses that don't meet our strategic minimum rates for margins, ROI or future growth, similar to what we've done before. Our commitment to either fixing or exiting underperforming businesses remains a central part of our strategy to restore our margins and returns on invested capital to double-digit levels.
Turning to Slide 20. Based on our strong performance in the third quarter, continuing benefits from our enhanced commercial agreements and expected higher production post the recent strikes, we have adjusted our guidance to reflect an improved outlook for the full year. We have tightened the range for sales with a bias towards the high end of our original estimate, and we raised the range for expected full year adjusted EBITDA. We have also lowered our outlook for cash restructuring and cash taxes. We're certainly proud of what our teams have accomplished so far this year, and I'm confident we'll finish the year strong. I'm also very excited to see what we can achieve next year and beyond as production volumes continue to rebound to pre-pandemic levels. And we continue to launch new innovative technology and programs that we believe will enhance content per vehicle and variable contribution margins going forward.
Finally, I want to thank our customers for their continued trust, confidence and support and we remain committed to supporting them with exciting innovations, world-class design and engineering services, Flawless program launches and quality products.
This concludes our prepared remarks. So let's open the call for Q&A.

Question and Answer Session

Operator

(Operator Instructions) And the first question comes from Michael Ward with Benchmark.

Michael Patrick Ward

Jon, on your Slide 9 and 10 with the bridge for adjusted EBITDA. How much of that $68 million was retroactive?

Jonathan P. Banas

Mike, I mentioned in my prepared remarks, the impact on both sales and EBITDA was about $25 million to $30 million. That was a retroactive portion. Say if you use that and you're walking across, you'll get the magnitude.

Michael Patrick Ward

Okay. So then if we look at the 9-month number, that's probably the better read on where it is like from a performance standpoint, is that correct?

Jonathan P. Banas

Correct. The retroactive would have been back to January 1. And therefore, the 9 months is more representative of the run rate.

Michael Patrick Ward

Okay. And so then when you look at your guidance for the year, now from what I can tell with the numbers and your content on the key vehicles, the strike impact was minimal in the third quarter. But it was significant in October and then depending on the pace of ramp-up, it's somewhere in that $40 million to $50 million impact on revenue. Is that the right way to think about it?

Jonathan P. Banas

Fortunately, it's a touch lower, Mike. But you're right on Q3. The way the strike rolled out, it impacted us but to a minor extent, less than $5 million in revenue for September. However, with the continued escalations that grew over time, obviously. So through October 31, the impact on us was closer to about $30 million in lost revenue. and therefore, $8 million to $10 million in EBITDA loss. Now we're continuing to monitor the ramp back up, how that comes back online. So that number could grow. The impact on us as we've got full labor in the plants. We're ready to deliver product to our customers as soon as they're ready to take it.

Michael Patrick Ward

Okay. So the impact, depending on the pace of the ramp-up, it could be obviously above $30 million, somewhere in that $40 million to $50 million range, depending on how fast some of these a plan to ramp up? Is that -- and that's included in your guidance, which you're looking at?

Jonathan P. Banas

The impact is included in our guidance. We'll have to see how the pace of the brand pop goes online.

Michael Patrick Ward

And so then, Jeff, as you've looked historically, you've talked about getting back to double-digit type margin performance, and it looks like you're getting closer every quarter. And so if we take away some of the strike impact, you're up in that 7% type level for 2023. And then -- so what are the steps to take you as we exit '24? Maybe we're getting closer to that double-digit level. What are some of the key variables? You got at the cost in place, you've got the new pricing in place?

Jeffrey S. Edwards

Yes. I think as we look at our 3-year plan like we do this time, each year, Mike, I mean it's clear that we're -- we can reach out and touch it. Let me say that. And clearly, the pricing and all of the negotiations that went into the enhanced commercial agreements this year help that our focus on the cost side helped it even more as we look at launching all the new business that we've been talking about in '24 and '25. Those products will launch at better margins than those that they will replace.
And then finally, volume. I think we all believe that eventually volume is going to return to pre-pandemic levels. And so it's a combination of all those things. And I also mentioned our focus on fixed cost reduction. We have some work left there that we plan on executing over the next couple of years that will really cement this double-digit EBITDA and double-digit ROIC that we're approaching upon right now, but a little bit of work left. And then the volume will certainly help us as we go forward over the next 2 or 3 years.

Michael Patrick Ward

And just lastly, Chris, welcome to the party. On Slide 18, I assume that Live Line is yours. Is that part of your responsibilities?

Christopher E. Couch

It's Cooper-Standard. Correct. Yes, I run it.

Michael Patrick Ward

So could you tell me a little bit how evolved in -- what it came from? And on the chart, there are these numbers popping up plus 89 plus 78. What do they represent? Are they kind of the scrap reduction? Is that the efficiencies? What are -- how does it -- how does it start? What are we looking at with this process?

Christopher E. Couch

We created the technology to solve a problem, which is how to use automation intelligently to improve the operating performance of our lines from a variety of metrics scrap is certainly one unplanned downtime due to line issues as another. And those are the types of numbers you saw popping up. So those are real results from different lines across our internal network. We basically completed the low-hanging fruit rollout within Cooper-Standard and now we're taking this product out to commercialize in the broader markets.

Michael Patrick Ward

So that's the planned uptime, the unplanned up there, you can reduce that and the scrap rates. I got to believe for a lot of those -- the materials you're producing, the scrap rates higher than industry average. So whatever it is 5% to 7%. Are you cutting it in half? Is that what the type of thing we can expect?

Christopher E. Couch

We see reductions typically in half on controllable scrap. That's correct.

Operator

(Operator Instructions) It appears there are no more questions. I would like to return the floor back over to Roger Hendriksen.

Roger S. Hendriksen

Okay. Thanks, everybody. We appreciate you joining the call and your continuing interest in Cooper-Standard. If there are further questions that come up later in the day, feel free to reach out, and we'll be happy to connect. Thanks again for joining the call. You can now disconnect.

Operator

Thank you.