Bel Fuse Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018; unaudited. Bel designs, manufactures and markets electronic components for power, protection and connectivity across networking, telecommunications, computing, military, aerospace, transportation and other markets. Results are reported across North America, Asia and Europe.
Financial performance
| Metric | Q3 2018 | Q3 2017 | First 9 months 2018 | First 9 months 2017 |
|---|---|---|---|---|
| Net sales | $146.5 million | $126.4 million | $405.5 million | $371.7 million |
| Gross profit | $29.2 million | $27.7 million | $79.4 million | $80.2 million |
| Gross margin | 19.9% | 21.9% | 19.6% | 21.6% |
| Operating income | $10.5 million | $6.8 million | $21.6 million | $16.4 million |
| Net earnings | $11.4 million | $5.0 million | $16.7 million | $8.9 million |
| EPS, Class A / Class B | $0.89 / $0.94 | $0.40 / $0.42 | $1.31 / $1.40 | $0.69 / $0.75 |
Sales rose 15.9% in Q3 and 9.1% year to date. Operating income improved despite lower gross margins; year-to-date gross profit declined slightly as sales growth was offset by cost pressures. In Q3, materials were 43.0% of sales versus 38.2% a year earlier, and labor was 11.5% versus 11.0%. Year-to-date materials were 42.0% versus 39.7%, and labor was 11.5% versus 10.4%.
- Cash flow: Operating cash flow was $4.2 million for the first nine months, down from $14.2 million. Capital expenditures were $8.8 million; debt repayments were $8.3 million; dividends were $2.4 million. Cash decreased $15.1 million to $54.3 million.
- Debt and liquidity: Debt carrying value was $114.8 million at September 30, including $116.7 million of term-loan borrowings before deferred financing costs; no revolver borrowings were outstanding. Current assets were $292.5 million and current liabilities $101.3 million; the reported current ratio was 2.9. The $75 million revolver was unused, but covenant-based borrowing capacity was $34.1 million. The term loan matures December 11, 2022. Bel reported compliance with debt covenants.
- Working capital: Accounts receivable was $97.6 million and inventory $114.4 million. The filing attributes working-capital use to higher receivables and inventory, including inventory build to support demand and component constraints.
- Dividends: Q3 dividends were $0.06 per Class A share and $0.07 per Class B share; nine-month totals were $0.18 and $0.21, respectively.
Material changes and operating trends
- Sales increased across all three product groups. Q3 sales were $53.0 million in magnetic solutions, $48.5 million in connectivity solutions and $45.0 million in power solutions and protection.
- Management cited production ramp-ups from prior project wins, stronger distribution sales, next-generation switching products, military programs, premise-wiring demand and datacenter power demand. The North America and Europe segments increased operating income year to date; Asia operating income declined to $11.0 million from $11.8 million.
- Material supply constraints, including resistors, capacitors, MOSFETs and printed circuit boards, extended lead times and increased component costs. Higher PRC minimum wages and Renminbi appreciation raised labor costs. Management said sales growth and price stabilization could help mitigate margin pressure.
- SG&A declined year over year, partly due to foreign-exchange remeasurement effects. For the first nine months, Bel reported $2.4 million of transactional foreign-exchange gains, while currency appreciation increased operating costs by an estimated $2.5 million.
Outlook, risks and notable items
- Demand indicators: Backlog was $185.1 million at September 30, up $38.6 million, or 26%, from year-end 2017. Q3 bookings were the highest quarterly level in four years and 28% above Q3 2017. These indicators are not formal revenue guidance; the filing provides no specific earnings or sales forecast.
- Costs and demand uncertainty: Management noted limited visibility into customer ordering patterns, unpredictable demand, product-mix sensitivity, material availability and labor-cost risks. Foreign exchange rates may affect both operating costs and reported results.
- Restructuring and systems: Bel expected further Q4 2018 restructuring related to power-group R&D resources. Initiatives completed in the first nine months were expected to generate approximately $1.4 million in annual savings. The multi-year ERP project was estimated at $6.0 million total cost, with $4.4 million incurred to date; management expects approximately $2 million in annual savings after implementation.
- Taxes: Q3 included a $2.2 million income-tax benefit and a negative 24.1% effective tax rate; the nine-month tax provision was $0.5 million, or a 3.0% effective rate. Tax-reform measurement-period adjustments reduced the estimated transition tax from $18.1 million to $15.5 million. Total uncertain tax-position liabilities were approximately $28.2 million; amounts could change as examinations and statutes of limitations resolve.
- Accounting change: Bel adopted ASC 606 on January 1, 2018. It recorded a $3.4 million opening retained-earnings increase. For the first nine months, reported sales were $2.0 million higher and net earnings $0.7 million higher than they would have been without adoption, principally reflecting earlier revenue recognition for customer-controlled consignment hubs and related unbilled receivables.
- Contingencies and subsequent event: A disputed Italian tax matter with an estimated $12.0 million liability is covered by an indemnification asset under the acquisition agreement. Bel’s claim against Unipower sought damages exceeding $1.0 million and was in discovery. Other described matters included a resolved German patent settlement and recovery of approximately $3.2 million in a China construction-cost dispute. On October 1, 2018, Bel acquired UK precision-machining supplier BCMZ for approximately $2.6 million cash; purchase-price allocation was not yet available.
- Bel stated that other legal proceedings were not expected to have a material adverse effect. Forward-looking results remain subject to the risk factors in its 2017 Form 10-K. Management concluded disclosure controls were effective.
Investor verification checklist
- Verify whether the strong bookings and backlog convert to sales, and whether demand remains broad across product groups and regions.
- Track gross-margin recovery against component supply constraints, material inflation, PRC wage increases and product mix.
- Assess cash conversion and working-capital trends, especially receivables and inventory, alongside capital spending and debt reduction.
- Monitor covenant headroom, borrowing capacity, interest-rate exposure and plans for cash held by foreign subsidiaries.
- Review the resolution and cash implications of uncertain tax positions, the Italian tax matter and the Unipower claim.
- Check whether restructuring and ERP savings are realized, and evaluate the BCMZ acquisition’s final purchase price and contribution.