Business context and reporting period
Key Tronic Corporation is a contract manufacturer with operations in the United States, Mexico, China and Vietnam. This 10-Q covers the 13-week second quarter and 26-week first half of fiscal 2022, ended January 1, 2022, compared with periods ended December 26, 2020. The request metadata says “2020 Q2,” but the filing itself is for fiscal 2022 Q2.
Financial performance
| Metric | Q2 FY2022 | Q2 FY2021 | First half FY2022 | First half FY2021 |
|---|---|---|---|---|
| Net sales | $134.5 million | $128.3 million | $267.2 million | $251.5 million |
| Gross profit / margin | $9.8 million / 7.3% | $10.6 million / 8.3% | $19.9 million / 7.5% | $20.6 million / 8.2% |
| Operating income / margin | $1.7 million / 1.2% | $2.7 million / 2.1% | $3.7 million / 1.4% | $5.5 million / 2.2% |
| Net income | $0.6 million | $1.6 million | $1.4 million | $3.3 million |
| Diluted EPS | $0.05 | $0.14 | $0.13 | $0.30 |
| Operating cash flow | Not separately presented for the quarter | $(10.5) million | $(16.8) million |
Q2 sales increased 4.8%; first-half sales rose 6.3%. Management said Q2 included approximately $10 million more in customer reimbursements for tooling, equipment and other costs than the prior-year quarter. For the first half, growth also reflected new program ramps and stronger demand from existing customers.
Cash used in investing activities was $2.8 million in the first half, primarily reflecting equipment purchases; cash provided by financing activities was $10.9 million. Cash declined $2.4 million to $1.0 million. Working-capital movements included increases of $20.8 million in inventory and $13.1 million in receivables, partly offset by a $39.0 million increase in accounts payable.
Balance sheet, debt and liquidity
At January 1, 2022, total assets were $410.5 million, total liabilities $287.9 million and shareholders’ equity $122.6 million. Cash was $1.0 million; inventory was $157.8 million, up from $137.3 million at fiscal year-end. Current assets were $343.6 million and current liabilities $167.1 million; management reported a 2.1 current ratio and 0.9 debt-to-equity ratio.
Revolving-credit borrowings were approximately $97.0 million, with $17.3 million available under the $120 million asset-based facility, subject to the borrowing base. Equipment financing totaled approximately $9.0 million; total debt was approximately $106.0 million before unamortized debt issuance costs. The facility matures in September 2026. The company reported compliance with its financial covenants.
Material changes, outlook and risks
- Margins and earnings declined despite higher sales. Management attributed weaker gross margin to supply-chain and transportation disruption, intermittent component shortages, factory downtime, overtime, a two-week seasonal closure and reimbursement revenue that did not contribute to gross margin. Q2 operating results also included approximately $0.7 million of legal costs related to the SEC’s review of a prior whistleblower complaint.
- Interest expense increased to $1.1 million in Q2 and $2.1 million for the first half, attributed to higher average revolving borrowings and interest rates. Q2 income tax benefit was $31,000; the first-half tax provision was $256,000.
- Backlog was approximately $333.1 million, versus $218.7 million a year earlier. Management cautioned that backlog is not a reliable measure of future sales: orders may shift, and supply-chain constraints have delayed production.
- The company reported winning new programs across several end markets and a significant program with a power-equipment company. Manufacturing is expected to begin in fiscal 2023 Q1; once fully ramped, the program could contribute approximately $80 million in annual revenue. This is an expectation, not a formal company-wide revenue forecast.
- Management said supply-chain constraints, electronic-component shortages, COVID-related workforce disruption, labor and logistics costs, and uncertain customer demand continued to challenge production. It expects cash from operations, credit-facility availability and leasing capacity to meet foreseeable requirements, while noting that higher inventory and slower collections could offset stronger demand.
- Other key risks include customer concentration and the absence of firm long-term purchase commitments, reliance on limited or sole-source suppliers, foreign-exchange and floating-rate debt exposure, start-up costs on new programs, and potential effects of foreign operations and tax incentives. The company hedges some Mexican-peso expenses but does not hedge renminbi expenses.
- Management stated that disclosure controls were effective at January 1, 2022. A material weakness identified in earlier periods was reported as remediated at July 3, 2021; remediation monitoring continues. The company is cooperating with the SEC regarding matters related to the internal investigation. Management said ordinary-course legal matters were not expected to have a material adverse effect.
Important facts for investors to verify
- Whether the $333.1 million backlog converts to shipments and revenue as component availability and logistics improve.
- How much reported sales growth reflects customer reimbursements, and whether margins recover as production disruption and program ramps evolve.
- Progress, timing and eventual economics of the power-equipment program expected to start in fiscal 2023 Q1.
- Inventory quality, customer collections, supplier payment timing and liquidity under the borrowing-base facility.
- Developments in the SEC review and internal-control remediation, including any additional legal expense, regulatory action or financial-reporting findings.
- Exposure to variable borrowing rates and the transition away from LIBOR, which the filing says is expected to cease after June 30, 2023.