CTS Corporation — Q1 2020 Form 10-Q
Business context and period: Unaudited results for the three months ended March 31, 2020, compared with Q1 2019. CTS designs and manufactures sensors, actuators and electronic components for transportation, industrial, medical, aerospace and defense, and telecom and IT markets. The quarter includes sales from the July 2019 acquisition of QTI Sensing Solutions.
Key financial results
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $103.1 million | $117.6 million | Down 12.4% |
| Gross margin | $32.9 million; 31.9% | $40.6 million; 34.5% | Margin down 2.6 percentage points |
| Operating earnings | $8.5 million; 8.2% of sales | $14.2 million; 12.1% of sales | Down 40.3% |
| Net earnings | $3.8 million | $11.4 million | Down 66.7% |
| Diluted EPS | $0.12 | $0.34 | |
| Operating cash flow | $11.9 million | $9.6 million | |
| Capital expenditures | $4.6 million | $5.3 million |
All dollar amounts are in U.S. dollars; financial statements report amounts in thousands, except per-share data. The effective tax rate increased to 36.4% from 20.0%, primarily due to valuation allowances on certain U.S. tax credits and a one-time tax expense from a change in company structure. Other expense was $2.0 million, principally reflecting foreign-currency translation losses and pension expense. A $1.016 million impairment charge for a specific asset group was recorded.
Revenue mix and material changes
- Transportation sales fell 22.0% to $61.5 million. Sales to other markets collectively increased 7.1%; QTI contributed $5.6 million in quarterly sales.
- Industrial sales rose to $20.8 million from $18.2 million; aerospace and defense sales rose to $9.0 million from $7.5 million. Medical sales were $9.4 million versus $9.7 million, and telecom and IT sales were $2.3 million versus $3.4 million.
- Management attributed lower sales to COVID-19-related facility restrictions and closures, supplier disruption, and weaker customer demand. Lower volumes were the primary driver of the gross-margin decline.
- Restructuring charges were $0.24 million, compared with $2.08 million in Q1 2019. Research and development expense increased 9.1% to $7.4 million.
Liquidity, debt and capital
Cash and equivalents were $151.0 million at March 31, up from $100.2 million at year-end 2019. Long-term debt increased to $151.2 million from $99.7 million, principally reflecting $51.5 million of net additional borrowings. Management described net debt as approximately zero. The $300 million revolving facility had $147.0 million available, and CTS reported compliance with its debt covenants. Debt represented 27.6% of total capitalization, versus 19.7% at year-end.
Operating cash flow was $11.9 million; investing cash outflow was $4.6 million, entirely capital expenditures; financing cash inflow was $43.0 million. The company repurchased $5.3 million of stock, paid $1.3 million in dividends, and declared a quarterly dividend of $0.04 per share. The board had $8.5 million remaining under its repurchase authorization.
Outlook, risks and unusual items
- COVID-19: CTS expected greater effects in Q2 from mandated closures or labor restrictions at its plants in China, Europe and North America, supplier capacity constraints, and weaker demand. The company said the ongoing effects were not yet quantifiable and could materially affect results, financial position and cash flows. It provided no numerical guidance in this filing.
- Management implemented temporary cost-saving measures and said it would continue to assess whether further actions were necessary. It believed operating cash flow and available revolver borrowings would cover working capital, capital spending and debt service for at least the next 12 months, while noting it could pursue additional financing.
- Environmental remediation reserves were $9.0 million at quarter-end, down from $11.4 million at year-end. CTS disclosed environmental matters at several sites, including two Superfund sites, and other ordinary-course legal claims; ultimate outcomes could exceed accruals.
- Foreign-exchange movements contributed to a $1.3 million transaction loss. Derivative fair values were negative, with $50 million of debt fixed through interest-rate swaps through February 2024.
- Management was authorized to explore termination of U.S. pension plans but had made no final decision. CTS said it had not identified the COVID-19 environment as a goodwill impairment trigger at quarter-end; it did record the separate asset-group impairment noted above.
- Cummins represented 16.5% and Toyota 11.9% of Q1 sales, indicating customer concentration.
Important facts for investors to verify
- Subsequent filings and results for evidence of the duration and financial effects of COVID-19 disruption, especially on transportation demand and plant and supplier operations.
- Cash generation, revolver usage and covenant headroom as operations evolve; quarter-end cash increased alongside higher borrowings.
- Whether lower volumes, customer concentration or QTI integration affect margins, sales mix and impairment assumptions.
- Developments in environmental remediation, legal claims and the potential U.S. pension-plan termination.
- Foreign-exchange exposure, derivative valuations, and the effect of the higher tax rate and one-time tax items on later periods.