Methode Electronics, Inc. — Form 10-Q Summary
Reporting period: Third quarter and first nine months of fiscal 2012, ended January 28, 2012. Comparisons are to the periods ended January 29, 2011, except balance-sheet comparisons, which are to April 30, 2011. Dollar amounts are in millions unless stated otherwise.
Business context
Methode designs and manufactures electronic and electromechanical components and subsystems. Its operating segments are Automotive, Interconnect, Power Products and Other. The company serves automotive, appliance, communications, aerospace, transportation, consumer and industrial markets. Management identifies dependence on two large automotive customers as a significant business risk.
Financial performance
| Metric | Q3 FY2012 | Q3 FY2011 | Nine months FY2012 | Nine months FY2011 |
|---|---|---|---|---|
| Net sales | $112.0 | $102.1 | $338.7 | $308.8 |
| Gross profit / margin | $19.3 / 17.2% | $19.4 / 19.0% | $60.2 / 17.7% | $63.3 / 20.5% |
| Operating income | $2.4 | $3.9 | $6.5 | $10.2 |
| Net income attributable to Methode | $0.8 | $5.9 | $2.6 | $9.4 |
| Diluted EPS | $0.02 | $0.16 | $0.07 | $0.25 |
Revenue rose 9.7% in both the quarter and year-to-date period, led by Automotive. Profitability fell: gross margin declined 1.8 percentage points in Q3 and 2.8 points year to date. Management cited launch and development spending, vendor production and delivery issues, higher purchased content, weaker Interconnect volumes and unfavorable Power Products mix. Q3 tax expense was $1.2 million versus a $1.5 million benefit a year earlier; the prior-year quarter included a $2.8 million benefit from the expiration of uncertain tax positions and related interest.
Segments and material changes
- Automotive: Q3 sales increased 23.9% to $65.9 million, while operating income fell to $1.2 million from $4.8 million. Year-to-date sales rose 23.3% to $196.1 million, but operating income declined to $6.7 million from $9.3 million. Growth included Ford programs and the acquired AMD business; margins were pressured by launch costs, vendor issues and higher purchased content.
- Interconnect: Q3 sales fell 10.1% to $29.3 million; operating income was $4.1 million, unchanged. Year-to-date sales fell 10.3% to $93.2 million and operating income declined to $12.1 million from $14.0 million. Weak white-goods and interface-solutions sales and the prior-year sale of the optical business affected comparisons.
- Power Products: Q3 sales were approximately flat at $13.0 million and operating income declined to $0.7 million from $1.0 million. Year-to-date sales grew 8.5% to $39.6 million, while operating income fell to $1.8 million from $2.7 million, largely reflecting mix and product-development costs.
- Other: Q3 sales rose 18.2% to $3.9 million and operating results improved to $0.5 million income from a $0.6 million loss. Year-to-date sales rose 6.4% to $10.0 million; operating loss narrowed to $0.7 million from $1.6 million.
During the period, Methode increased its Eetrex ownership from 70% to 90% and acquired AMD, an injection-molding and painting business in Monterrey, for approximately $6.4 million. AMD was included in Automotive. A $0.3 million acquisition gain was recorded in the nine-month period.
Cash flow, debt and liquidity
- Cash and cash equivalents were $76.8 million at January 28, 2012, up from $57.4 million at April 30, 2011. Current assets were $219.8 million and current liabilities $68.7 million.
- Long-term debt was $39.5 million, versus none at April 30, 2011. The company had a $75 million revolving credit facility, with a potential $25 million increase, maturing in February 2016; it reported compliance with covenants.
- For the first nine months, operating cash flow was $11.9 million, down from $19.6 million. Investing cash use was $23.0 million, including $16.6 million in capital expenditures and $6.3 million for the AMD acquisition. Financing provided $31.9 million, primarily from $39.5 million of net borrowings; dividends paid were $7.8 million.
- Of cash balances, $67.8 million was held outside the U.S. and deemed permanently reinvested, limiting its availability for domestic operations and potentially creating tax consequences upon repatriation. Management said worldwide cash and expected operating cash flows were expected to support current operations.
Outlook, risks and contingencies
The filing provides no numerical earnings or revenue guidance. Methode expected cash balances to decline as it funded equipment, tooling, inventory and staffing for North American automotive programs scheduled to begin production in fiscal 2013. It also reported a non-binding memorandum of understanding to acquire a distressed strategic distributor’s business assets, anticipated in Q4 FY2012. The proposed consideration includes $1.2 million of receivables; if the deal does not close, those receivables may be impaired and written off.
Key risks include reliance on two large automotive customers, industry cyclicality, pricing pressure, material availability and supply-chain disruption, product launch costs, competition, technology changes, foreign currency and international operations, and the possibility that acquired businesses may not succeed. A 10% currency-rate change could affect pretax income by $4.2 million and the value of foreign net investments by $20.0 million, according to the filing.
Delphi-related litigation remains pending, including a dispute over termination of a supply agreement and a claim seeking approximately $19.7 million in alleged preference payments. Methode is contesting the claims; outcomes are uncertain. The company stated it believed it had adequate reserves for ordinary-course litigation and claims. It also carried a $62.9 million valuation allowance against deferred tax assets and said it could not forecast when sufficient positive evidence would support reversal. Disclosure controls were reported effective, with no material quarterly change in internal control over financial reporting.
Most important facts for investors to verify
- Whether Automotive launch expenses and vendor delivery problems ease, and whether planned fiscal 2013 programs begin on schedule and at expected economics.
- Whether revenue growth can translate into improved gross margins and earnings, given the Q3 and year-to-date margin declines.
- How the proposed distributor-asset acquisition is resolved and whether the related $1.2 million receivable is recovered or impaired.
- Progress and potential exposure from Delphi litigation, including the approximately $19.7 million preference-payment claim.
- Availability and use of overseas cash, future borrowing needs, and effects of foreign-exchange movements and tax valuation allowances.