Methode Electronics, Inc. — Form 10-Q Summary
Reporting period: Fiscal third quarter ended February 1, 2014; the quarter included 14 weeks versus 13 weeks in the prior-year quarter. The nine-month comparison is 40 weeks versus 39 weeks. Financial amounts are in U.S. dollars; unless otherwise noted, amounts below are in millions.
Business context
Methode designs and manufactures electronic and electromechanical components and subsystems. Its reportable segments are Automotive, Interconnect, Power Products and Other. Automotive is the largest segment, and the company identifies dependence on two large automotive customers and specific vehicle models as a significant business risk.
Key financial results
| Metric | Quarter ended Feb. 1, 2014 | Prior-year quarter | Nine months ended Feb. 1, 2014 | Prior-year nine months |
|---|---|---|---|---|
| Net sales | $189.8 | $123.0 | $547.9 | $371.5 |
| Gross profit / margin | $38.5 / 20.3% | $20.0 / 16.3% | $113.8 / 20.8% | $63.8 / 17.2% |
| Operating income | $16.4 | $4.3 | $53.2 | $35.5 |
| Net income attributable to Methode | $14.6 | $3.3 | $48.0 | $30.6 |
| Diluted earnings per share | $0.38 | $0.09 | $1.26 | $0.81 |
| Operating cash flow | — | — | $49.4 | $32.9 |
| Capital expenditures | — | — | $23.5 | $30.0 |
Quarterly sales rose 54.3% and attributable net income rose 342.4%. For the nine months, sales increased 47.5% and attributable net income increased 56.5%; prior-year nine-month results included a $20.0 million Delphi settlement gain. The current-period gross-margin improvement reflected higher volumes and manufacturing efficiencies, particularly in Automotive, as well as favorable commodity pricing and product mix in Power Products. Quarterly selling and administrative expense was $22.1 million, or 11.6% of sales, versus $15.8 million, or 12.9%.
Segments and material changes
- Automotive: Quarterly sales rose 73.5% to $128.9 million, mainly from the GM Center Console program launched in fiscal 2014 and higher volumes in other product lines. Operating income was $17.9 million versus $3.3 million.
- Interconnect: Quarterly sales rose 28.5% to $40.6 million, supported by appliance and data-product volumes. Gross margin declined to 24.1% from 25.0%, with European sensor-product inefficiencies cited.
- Power Products: Quarterly sales rose 40.6% to $18.0 million; operating income increased to $2.1 million from $0.5 million. Higher volumes, favorable raw-material pricing and product mix supported margins.
- Other: Quarterly sales fell 42.9% to $2.4 million, and the segment recorded a $0.7 million operating loss versus $1.1 million of income. Lower torque-sensing demand and planned product-line exits, production inefficiencies and patent-litigation expenses contributed.
Nine-month operating income increased despite the absence of the prior-year settlement gain: current-period income was $53.2 million versus $35.5 million. The prior-year comparison also included a $1.1 million reversal of customer-bankruptcy-related accruals.
Cash, debt and liquidity
- At February 1, 2014, cash and equivalents were $96.8 million, up from $65.8 million at April 27, 2013; long-term debt was $50.0 million, versus $43.5 million. Cash exceeded debt by $46.8 million on a consolidated basis.
- Of the cash balance, $88.6 million was held outside the United States and deemed permanently reinvested, limiting its availability for domestic operations. Management said worldwide cash, expected operating cash flow and the committed facility were sufficient for current operations.
- The credit facility matures September 21, 2017, has $100.0 million of commitments and an option for an additional $50.0 million subject to conditions. At period-end, $50.0 million was drawn and $50.0 million remained available; the rate was 1.5% plus LIBOR. The company reported covenant compliance.
- Operating cash flow was $49.4 million; investing activities used $23.5 million, primarily for property, plant and equipment; financing provided $3.6 million. The company paid $7.9 million in dividends and received $5.0 million from stock-option exercises.
- Current assets were $325.0 million and current liabilities were $98.9 million. Inventory was $79.2 million, up from $59.9 million at April 27, 2013.
Outlook, risks and unusual items
- The filing provides no quantified sales, earnings or margin guidance. Management cited new-program launches and higher volumes as important current-period drivers, but warned results may vary and depend on execution, demand and customer programs.
- Key disclosed risks include dependence on two large automotive customers; industry and vehicle-model exposure; launch timing, quality and cost; material availability and pricing; supply-chain disruption; foreign operations and currency movements; competition and pricing pressure; technology and intellectual-property risks; and potential goodwill or intangible-asset impairment.
- Foreign-exchange sensitivity: a 10% currency-rate change could affect pretax income by an estimated $2.7 million and the value of net foreign investments by $23.4 million. Management estimated a one-percentage-point interest-rate change would not materially affect fiscal 2014 results at then-current and expected debt levels.
- The company maintained a full valuation allowance against domestic federal and state net deferred tax assets, citing recent cumulative U.S. losses despite income from recently launched programs. Sustained domestic improvement could permit a future reversal.
- On February 10, 2014, the company sold its Lumidigm investment for proceeds of $7.241 million against a $4.056 million cost basis, expecting to record a $3.185 million pretax gain in fiscal fourth quarter. It retained an exclusive license for certain transportation markets.
- Normal-course litigation was pending; management said it believed reserves were adequate. The Delphi litigation settlement had been recorded in fiscal 2013 and is not a current-period gain.
- Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- How much of the growth and margin improvement depends on the GM Center Console program, other launches and continued volume levels, particularly given the 14-week current quarter.
- Customer concentration and the durability of demand from the two large automotive customers and specific vehicle models.
- Whether foreign-held cash can support domestic needs, and the potential implications of its permanently reinvested status.
- Progress in resolving Other-segment torque-sensing weakness, production-transition inefficiencies and patent-litigation costs.
- Whether domestic operating results support any future reduction in the valuation allowance, and the eventual accounting for the Lumidigm sale in the fourth quarter.