Methode Electronics, Inc. — Form 10-Q Summary
Business context and reporting period. Methode manufactures electronic and electromechanical components and subsystems for automotive, industrial, interface and medical markets. This filing covers the second quarter and first six months of fiscal 2020, ended October 26, 2019; comparable periods ended October 27, 2018. Both quarters were 13 weeks and both six-month periods were 26 weeks. Amounts below are in millions of dollars except per-share data.
Financial performance
| Metric | Quarter ended Oct. 26, 2019 | Quarter ended Oct. 27, 2018 | Six months ended Oct. 26, 2019 | Six months ended Oct. 27, 2018 |
|---|---|---|---|---|
| Net sales | $257.2 | $264.0 | $527.4 | $487.4 |
| Gross profit / margin | $68.6 / 26.7% | $70.8 / 26.8% | $144.4 / 27.4% | $130.9 / 26.9% |
| Operating income | $30.7 | $19.1 | $69.3 | $47.8 |
| Net income | $23.8 | $14.6 | $52.1 | $38.3 |
| Diluted EPS | $0.63 | $0.39 | $1.38 | $1.02 |
- Quarter sales declined 2.6%; net income rose 63.0%. Six-month sales rose 8.2% and net income rose 36.0%.
- Quarter operating margin was approximately 11.9%, versus 7.2%; six-month operating margin was approximately 13.1%, versus 9.8%. The quarter’s net margin was 9.3%, versus 5.5%; six-month net margin was 9.9%, versus 7.9%.
- Cash flow, six months: operating cash flow was $67.8, compared with $36.2. Investing used $26.2, including $26.8 of capital expenditures; financing used $26.7. Cash increased $12.4 from fiscal-year-end to $95.6.
- Balance sheet at October 26, 2019: cash was $95.6; current assets $465.4 and current liabilities $184.3. Total debt was $275.1, versus $292.6 at April 27, 2019; shareholders’ equity was $732.6. Cash was $83.2 at April 27, 2019.
- The company had $262.1 of principal outstanding under its credit agreement, including $24.6 on the $200.0 revolving facility and $237.5 on the term loan. The term loan matures in September 2023. The company reported covenant compliance. Cash of $86.9 was held outside the United States and management said it could be repatriated without material additional tax expense.
Material changes and drivers
- The General Motors UAW labor strike reduced quarter and six-month sales by an estimated $32.0 and gross profit by $9.6. Management attributed $7.9 of lower net income to the strike over the six-month period.
- Grakon, acquired in September 2018, contributed to year-over-year growth; its results were included for the full current periods but only about 1.5 months in the comparable prior-year periods. Excluding Grakon and foreign-currency effects, sales fell $35.2 in the quarter and $38.4 in the first half, according to management.
- Automotive sales and operating income weakened: six-month sales fell 2.8% and operating income fell 11.0%, with strike effects, product mix and currency headwinds. Industrial benefited substantially from Grakon: six-month sales rose 70.5% and operating income rose 159.0%. Interface sales fell 18.2%, primarily due to lower appliance volumes; Medical sales remained $0.6 and the segment continued to report an operating loss.
- Quarter selling and administrative expense declined to $33.2 from $48.0. Management cited lower compensation and professional fees, cost-reduction initiatives, and a $7.4 million stock-compensation accrual adjustment included in the prior-year quarter. Amortization and interest expense increased, largely related to Grakon and acquisition financing.
Outlook, risks and unusual items
- The filing provides no specific revenue, earnings or cash-flow guidance. Management stated that cash, expected operating cash flows and the committed credit facility should be sufficient to support current operations.
- Key disclosed risks include dependence on two large automotive customers and particular vehicle programs; automotive and other end-market conditions; trade disputes and tariffs; pricing pressure; foreign-exchange exposure; supply-chain and commodity-cost volatility; new-program execution; acquisition integration; and debt and covenant constraints. A hypothetical 10% adverse currency move could have affected six-month pretax income by $4.2; a 1% rise in credit-agreement rates was estimated to increase annual interest expense by $2.6.
- Other income included a $0.5 gain on sale of assets of a previously closed business. Grakon-related tariffs reduced gross profit by $0.6 in the quarter and $0.9 in the first half, net of related effects described by management. The company adopted lease accounting on April 28, 2019, recognizing $27.6 of right-of-use assets and $28.1 of lease obligations; it reported no significant effect on operating results or cash flows.
- Pending Hetronic litigation includes company claims and defendants’ counterclaims; trial was scheduled for February 2020. The company stated it had adequate reserves for litigation and claims, but the outcome of the case is uncertain.
Most important facts for investors to verify
- How much of earnings growth is sustainable without Grakon’s comparison-period effect, and how quickly underlying sales recover from the GM strike and weaker Interface and Industrial volumes.
- Whether Automotive margins and customer/program concentration remain under pressure, and whether Industrial growth and margins persist.
- Debt repayment, variable-rate interest exposure, covenant headroom and the availability of revolving credit.
- Cash conversion and working capital, particularly the increase in inventories and prepaid and other assets during the first half.
- Developments and potential financial exposure from the Hetronic litigation, as well as tariff, currency and raw-material cost effects.