Q4 2019 Earnings Call
[music].
Greetings and welcome to Healios technologies fourth quarter 2019 financial results Conference call.
At this time, all participants are in listen only mode.
Sure Let me answer session will follow the formal presentation.
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I will now turn the conference over to your host Karen Howard Investor Relations for Helios you may begin.
Thank you area and good morning, everyone.
Welcome to the <unk> technologies fourth quarter, and full year 29, Chief financial results Conference call.
In line with me are walking jungle, our president and Chief Executive Officer, and Tricia Fulton Chief Financial Officer, working interest shop will review the results that were published in the press release distributed after yesterday's market close.
If you do not have that release, it's available on their website at www Dot and show I O dotcom.
You'll also find slides there that will accompany our discussions today.
If you look do this like Jack I'd like to you'll find our safe Harbor statement.
As you may be aware, we will make some forward looking statements. During this presentation and also during the Q anyway.
These statements apply a future events that are subject to risks and uncertainties and other factors that could cause actual results to differ materially for where we are today.
The risks and uncertainties and other factors are provided in the earnings release as well as in other documents outside the company with the Securities and Exchange Commission.
These documents can be found at our website at www Dot STC Dot Gov.
Also want to point out that during today's call. We will discuss some non-GAAP financial measure, which we believe are useful in evaluating our performance.
You should not considered the presentation of this additional information in isolation or as a substitute for results prepared in accordance with gap.
We have provided reconciliations of comparable GAAP to non-GAAP measures and the tables that accompany today's earnings release as well as in the slide.
Wolfgang will get started by summarizing our financial performance and strategic progress during 2019.
Michelle will go through that each of their financial results for the fourth quarter and full year and then we'll turn it back to Wolfgang for his perspective on our outlet and 2020 guidance before we open up the line for questions and answers.
With that it's now my pleasure to introduce walking.
Thank you Karen good morning, everyone.
I will start on slide three.
For 2019, we reported a record setting here is supposed to top and bottom lines.
Realized sales of $555 million, a 9% increase over last year.
Our 20 feet acquisitions or fostering custom fluid power drove our twinkie 19 growth contributing $65.5 million off acquisition revenue when 29 Pete.
Organic sales on a consolidated basis, excluding currency decreased 2% in twinkie 90.
Organic sales of our hydraulic segment grew 1% while sales in our electronic segment declined by 11% most excluding the effects of changes in foreign exchange rate.
As expected currency had an unfavorable impact during the year.
Despite the challenging macroeconomic backdrop, our fourth quarter consolidated revenue went quality of earnings were better than we expected.
We have been successfully improving operational efficiency and throughput at all of our operations.
Sure, we'll provide more details on each segment's performance.
Turning to the bottom line.
Twinkie 19, we reported $60.3 million off net income, 29% increase over the prior year.
On a non-GAAP cash basis, net income was $77.7 billion or $2.43 per share 6% improvement over 2018.
Adjusted EBITDA for the year, what's a good $31.1 million or 23.6% of sales.
As you may know increasing cash flow in reducing debt has been important goals for us this year.
We finished 2019, but it's very strong cash generation in the fourth quarter.
These contributive to adjusted free cash flow for the year or nearly 14% of sales.
Significantly exceeding our 10% target level.
During twinkie 19, we reduced debt by over $52 million closing the year with a 2.1 times net debt to adjusted EBITDA ratio.
We're nearing our goal of less than two times, which we anticipate achieving by the middle of this year.
Please turn to slide four and I'll summarize our strategic business highlights for 2019.
Starting with our hydraulic segment as we reported earlier in the year, we completed our CBP manufacturing consolidation project.
This involves consolidating manufacturing into our two at chase in Sarasota facilities, applying our lean enterprise principles and reorganizing our production lines.
We improved our productivity as we progress through the year and freed up additional capacity.
Next we accelerated our India region for to reach an initiative in both the EMEA and E bike markets.
I want to remind you did one of the synergies where you identified as part of the faster acquisition was to leverage the capacity and reach all expertise presented by machining CVP components and I were foster facilities.
In the Middle of 2019, we began production oximetry components in Europe, which will ultimately drive efficiency and cost savings, we will produce six critical parts for the high volume corporate trials at that location.
Initially representing a near term vertical integration cost synergy.
We expected the cost savings will ramp up to full realization in the middle off this year.
This represents the first phase so CVP manufacturing in EMEA.
The next phase of this project will involve complete copy 12 production capability for the EPA market.
We have approved site expansion plans to support our anticipated hydraulic segment growth in that market.
Turning to the APEC region. We opened then began shipping products from our new facility in China near Shanghai ahead of schedule in the middle of 29 team.
We experienced significant demand William ramped up as we progressed through the year.
I'll touch on Corona virus later in this presentation.
This factory is currently performing assembly and test for a selected range of project sold in the region.
Over the next few years, we plan to expand the value at manufacturing within this facility for our regional customers ultimately bring complete cartridge rollout production capability to the agent region, where we continued to make market share gains.
This new capacities complimentary to our facility in South Korea, which we inaugurated in 2018.
Furthermore, the new Engineering center of excellence in our third Sarasota facility is progressing as planned.
As a reminder, third facility will house, our global CVP research and development activities.
As well as certain administrative and operating functions.
And he is expected to be completed next month.
Our R&D investments remained very active in our hydraulic segment.
We launched an initiative named evolve to take is focused on the development of electrohydraulic coupling solutions.
As we have standing in the past, we will leverage the electronics knowledge across our segments as we develop this innovative product offering.
We anticipate continued product development and electro hydraulic portfolio expansion.
During 2019, we also launched new wells in our Flex series.
As you might recall, we commenced this activity at the end of 27, Pete continued releasing flex products in 2018, and will expand and broad and the electrohydraulic smell offering on an ongoing basis.
This was an important strategic initiative for us as it provides robust electro hydraulic control for mobile agricultural and industrial applications.
Creating a critical path to expand our systems business and opening the door to new opportunities.
Turning to our electronic segment, we continue to make significant investments in collaborative R&D initiatives actively pursuing project jointly with Oems that if model year Rollouts beginning mid to late 2021 and continuing through 2023.
These elevated levels of engagement with existing and new customers require additional upfront investments in R&D and engineering resources as the projects progress.
2019 marked the third and final payment of the contingent consideration pay out to the group from whom we acquired Enovation controls.
Given the strong performance of that business. It is truly a win win situation for all parties involved.
Finally, we're very pleased with the gross margin expansion realized in the electronic segment in 29 team, which he is the result of simultaneous engineering capabilities, meaning state of the art product design capabilities in combination with sophisticated manufacturing execution.
All of these initiatives are important components of our vision 2025 strategic plan to achieve global technology leadership in the industrial goods sector was critical mass exceeding $1 billion in sales, while maintaining superior profitability and financial strength.
With that overview I will now turn the call over to Tricia to review the financial results for the fourth quarter and full year in a bit more detail.
Thank you Wolfgang and good morning, everyone, let's begin on slide six with the review of our fourth quarter consolidated results.
Organic sales were down 11.1 million or 8% compared with last year's quarter, excluding a 1.7 million unfavorable currency impact.
Oh, no touch on sales by region, which are designated here in the sales bar charts on a lot.
During the 2019 fourth quarter APEC realize year over year growth of 9% well the Americas EMEA markets declined by 18% and 10% respectively.
Sales to be Americas, EMEA, and APAC regions were 44%, 26% and 30% of the consolidated total respectively in the fourth quarter.
Despite lower revenue in the quarter profitability remains relatively comparable with consolidated adjusted EBITDA margin at 23.2% compared to 23.4% in the prior year period.
Turning to the bottom line non-GAAP cash earnings per share were 54 cents down two cents compared with last year's fourth quarter.
The adjustment to arrive at non-GAAP cash earnings consists of acquisition related amortization of intangible assets in this years quarter and also the impact of tax reform and some other nonrecurring items in last year's quarter. These are shown in the reconciliation tables in the back of the slide deck and release.
Please turn to slide seven for review of our hydraulic segment fourth quarter operating results.
Consistent with prior periods I want to point out that acquisition related costs, including amortization.
Are not included in our operating segment numbers. They are accumulated in our corporate and other segment reported in the tables in the back of our earnings release and flight.
Sales for the hydraulic segment declined 8%, excluding currency, which had a 1.7 million unfavorable impact.
From a geographic perspective, excluding the effects of currency, we saw 11% year over year growth.
For the quarter in the Asia Pac region, which was offset by 18% decline in the Americas, and an 8% decline in the M&A market.
The primary drivers for the decline in the Americas, EMEA regions were seasonality and softer end market demand.
As a result at the lower sales volume gross profit declined 6% for the quarter, while gross margin increased by 70 basis point.
The gross margin expanded as improved productivity not price increases and cost management efforts more than offset unfavorable product mix and foreign currency.
Hi drugs segment operating income decreased 2 million, primarily due to lower revenue in the quarter.
However cost management efforts drove a 500000 reduction in up the expenses in the quarter compared with prior quarter.
Prior year quarter sorry.
Please turn to slide eight for review of our electronic segment fourth quarter operating results.
Revenue was down 14% compared with the fourth quarter of last year.
Decrease was due to continued softer demand in the recreational and oil and gas and market as well as the ongoing impact of the customer contracts that we renegotiated in the first quarter recall that this allows us to offer all of our product to a broader global and more diversified customer base.
Fourth quarter gross margin was 43.5%, reflecting the impact of lower revenue during this quarter.
The decline was primarily offset by cost management efforts, which resulted in production efficiencies.
Due to the lower revenue and gross margin operating margin in 2019 fourth quarter declined.
To 12.9% of sales.
Please turn to slide nine for review of our 2019 consolidated results.
Sales were up 9% over 2018.
That's true CFP contributed 65.5 million of acquisition revenue well, our organic sales declined about 10.7 million or 2%, excluding the impact of currency.
Currency had an 8.1 billion on favorable impact on the consolidated sales for our organic businesses.
During 2019 sales to the Americas, EMEA and APAC regions were 47%, 27% and 26% of the consolidated total respectively.
Regarding profitability consolidated adjusted EBITDA increased 5% compared with last year.
Non-GAAP cash earnings per share were $2.43 up 6% over last year.
Please turn to slide 10 for review of our hydraulic segment operating results for 2019.
Sales for the segment grew 16% compared with 2018. The growth included 65.5 million of acquisition revenue contributed by faster and CFP and 1% organic growth, excluding the 7.6 million unfavorable impact of currency.
Gross profit increased by 14% during the year. This significant increase resulted primarily from acquisition as well as production efficiencies and price increases, partially offset by higher material cost and the impact of changes in product mix.
The same drivers applied to hydraulics operating income which increased 3%.
I see a included 11.3 million of incremental costs for the acquisition. Additionally, 4.4 million of onetime unusual items in the third quarter unfavorably impacted operating income for the year.
Please turn to slide 11 for a review of our electronic segment 2019 operating results.
Sales for this segment decreased 11% compared to 2018.
Decline was primarily due to softer demand in end markets and the renegotiated customer contract.
Despite the lower revenue gross margin increased by 160 basis points to 45.5% and operating margin declined by only 10 basis points to 19.7%.
Significant improvement in gross margin was primarily the result of lower material costs as well as cost management efforts, which drove production efficiencies.
Same drivers apply the operating margin, which remained relatively comparable to the prior year.
Please turn to slide 12 for review of our cash flow and capitalization.
In 2019, we generated 101.2 million of adjusted cash from operating activities and 76.2 million of adjusted free cash flow both of which reflect reflects significant improvements over 2018.
Benefiting from our strong fourth quarter performance or adjusted free cash flow as a percent of sales for 2019 was 14% significantly exceeding our 10% target.
Our Capex was 25 million down from 28.4 million in 2018, due to timing and adjustment of Capex related to the manufacturing consolidation project.
As planned spending was primarily for machinery.
Sorry, what's for manufacturing technology enhancement.
After the expansion machinery and leasehold improvements for China facility that opened in June equipment for our New Engineering Center of Excellence and also for the addition of the faster business.
In 2020 capital expenditures are estimated to be between 20 and 25 million.
Regarding kept capitalization, we reduced our debt by nearly 18 million in the fourth quarter contributing to over 45 million debt reduction for the year.
The year, we improved our net debt to adjusted EBITDA, finishing at 2.1 times with our strong cash flow profile, we're focused on getting that below two times, which we expect to achieve by the middle of this year.
Okay, Let's turn it back to you for your perspective on outlook at our 2020 guidance before we open the lines for acuity.
Thanks Trisha.
Please turn to slide 14.
The macroeconomic climate continues to be filled with uncertainty. In addition to human told that the Corona virus is having it has caused significant economic disruption leading to future uncertainty.
He is technologies generates approximately 9% of global revenue with Chinese customers like most Chinese companies. She is technologies is gradually resuming work within our facilities.
We have no subsidiary in Hebei Province, which remains in the Lockdown state our factory and offices R&D expenditure Shanghai Metro area.
After having received approval from the local authorities to reopen our businesses in mid February right. Now we are operating at about 50% working capacity.
The reduced staff level is driven mainly by the 14 day corn team period imposed on all travelers returning to the Shanghai area from other provinces.
Tracking services across all cities remain limited because of the closure of selected highways.
And shortages of drivers course in cargo deliveries to be under tight delivery constraints.
We are monitoring the China situation closely and we are adjusting well to support our customers and channel partners on an ongoing basis.
China remains a key market for Hughes and the Corona virus will not change our localization plans, which involve sourcing activities and revenue growth on the mid and long term basis.
We expect a gradual improvement in China over the next few weeks.
Most recently several jurisdictions in northern Italy, near our faster facility around the current team.
Today, our operations are marginally impacted by the imposed detailing and travel restrictions, we're observing ongoing developments.
Given these disruptions we are seeing delays in demand for Q1 and expect this do continue into Q2.
The factors such as the us presidential election provide a lot of media hype, but are not expected to have a significant macroeconomic impact.
It appears that the U.S., China trade wars have called for the time being but we all know this situation is fluid.
With the United Kingdom exiting the European Union last month. It is unknown working swing negotiations will yield.
We believe that mitigating factors will reduce the potential downside to our results and therefore, we do not expect the material impact but uncertainty remains.
Lastly, anxiety in the Middle East continues to disrupt that part of the world.
Considering all of these factors, leading U.S. indicators suggest that we continue to be in a slowing growth phase expecting a new cyclical rise into second half of this year.
Around the world nearly all major global economies are still experiencing either a slowdown of gross or negative gross.
Specifically western Europe, and Japan are in a mild recession and economic growth in China has decelerated.
Again, the good news is that similar to the U.S. all global economies are currently expected to recover in the latter half of this year.
As we have said in the past in accordance with our vision Twentytwenty five plan, we expect to outpace macroeconomic growth over the long term.
This is being driven by investments, we have been making to expand our coverage in the field.
Increasing and broadening relationships with Oems.
Penetrating regions, where we have white space and continuing to introduce new and innovative products and solutions.
Further the actions we have taken to broaden from our traditional end markets into more diversified markets expand our ability to successfully whether economic cycles.
Please turn to slide 15 for our salt regarding our outlook for heaters in Twentytwenty.
We have selectively manage cost as we continue to invest in innovative manufacturing technologies and market, leading new products.
These investments are critical to achieve our long term strategic revenue and profitability goals and position us well when our end markets recover.
Given the economic climate and the temporary uncertainty surrounding Corona virus, we're approaching twentytwenty guidance cautiously.
We currently expect Q1 will be the weakest off the year from an absolute dollar standpoint.
Referring to our hydraulic segment demand remained soft and activity in China in particular is being impacted by the Corona virus on the short term basis, which presents uncertainty at this point.
Accordingly, we expect a slow start to the year with some anticipated catch up during the second quarter, which we currently forecast this our strongest for the year.
In accordance with our vision 2025 goals, we anticipate a key your rate of 8% from 2019 to 2025 for the hydraulic segment was 2025 revenue of approximately $700 million.
This will result in market share gains relative to an expected market growth of 3%.
Our twentytwenty outlook for our electronic segment also continues to be challenging.
Given model year rollout schedules, we currently expect our third quarter to be the strongest for this segment. However, we are encouraged by considerable demand for projects slated for mid to late 2021 and continuing through 2023.
We will incur incremental R&D and engineering expenses during Twentytwenty for development of these projects.
Given the projects we have in our pipeline at this time, we believe we can increase our vision 2025 sales target for the electronic segment to approximately $220 million.
Representing a 12% CAGR from 2019 through 2025.
Please proceed to slide 16, where we provided our guidance for Twentytwenty.
I would like to note the following.
First.
Given the level of macro uncertainty as I described a moment ago, we're providing wider guidance ranges then we have in past years.
Second we are optimistic about the second half of Twentytwenty based on economic reports that we track and feedback we receive from our customers.
Some level of recovery in the back half of Twentytwenty spilled into the top end of our guidance and can be seen in the expected 50 50 split in revenue between first half second half of Twentytwenty, which deviates from normal seasonality.
We remain committed to investing for long term profitable growth throughout the business cycle to be ready when our markets start to pick up and to outpace the market as we work diligently toward our vision 2025 goals.
Now, let's open the lines for acuity.
Certainly.
At this time, we will be conducting a question and answer session.
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One moment, please when we pull for questions.
Our first question comes from Nathan Jones of Stifel. Please go ahead.
Good morning, everyone.
Hi, good morning Nathan.
Oh, let's start with the incremental R&D and engineering expenses in 2020 to support these projects in 21 through 23 can you give us a little more information on what the incremental spend is in 2020, just so we can see how that's impacting 2020 results and then can you talk a little bit more about the kind of rather.
New levels kinds of products et cetera that these projects are going into in 21 through 23.
Sure Nathan so with regard to the first question. If you look at the incremental spend so as I explained earlier on we obviously.
If quite a number of attractive projects in the pipeline. They don't slated for revenue generation then in the latter part of.
The next year, maybe 2021, 22, and 23, and we decided obviously in order to support these projects professionally to investing to R&D and engineering expenses at this point in time already so we are talking roughly about an increase of about.
20 people.
Which is quite sizable I mean, if you put that in relation to the entire workforce.
Of innovation controls, that's an increase of 5% basically.
Right. There is you know about 40% of the entire workforce is working in R&D and engineering related positions. We are talking roughly about 20 people. We are adding these people during the course of the year have pretty much started already at the beginning here at the beginning of year end are progressing according to plan.
With regard to your second question from a revenue recognition perspective, I mean also as we indicated obviously, we're pretty confident based on the numbers of projects. We have in the pipeline and based on the degrees of discussions and collaborations with our OEM.
[laughter] partners that they will generate than double digit rose in 21 20 to 20.
If you see from guidance for 2019, we're pretty much flat compared to 2018, but as of next year, we would expect double digit growth in terms of sales revenue continuing in 2020 and 23.
Maybe the last statement I would like to add here to your first question. Because you were asking about incremental spend is we're doing this in terms of step up functions. So obviously they will be 20 people will support projects.
For the next years and beyond meaning that the investments in R&D expenses in 21, and 22 are expected to be significantly lower.
Kind of step up investments that you have to make upfront you make it in one go over certain period of time and then the following one or two years normally investments that particular area will be at the lower pace.
Yes.
Okay. So they they 20 people become part of the base going forward and then we stay a little flatter after that got bored exactly.
Exactly will stay flattering 21 22.
Obviously, except I mean, there was there was still some incremental costs that come in merit increases and so for us, but it's a step function.
We have basically building guidance for Twentytwenty and you won't see that than in 21 insight into.
Okay. My follow up question then I mean, you guys is are you guys that a lot of projects going there over the last few years, you've done two major acquisitions. So the company, saying a lot of a lot of disruption over the last few years can you describe the differences in the culture the level of talent in the organization relative to three or four years ago, where do you still need to add.
Talent to support this ramp up had revenue you say over the next few years what functions are you still upgrading and where what's your view of the culture within the company today. Thanks.
Yeah, I mean, I wouldn't call it disruption I call. It evolution, it's up in evolution. If you know as a classical hydraulic copy trove company we entered into.
Into the electrical side of the business, obviously to enhance our capabilities.
From a culture perspective, I would say there is not one culture in the Hughes companies because if you look at the acquisition strategy. Obviously, we're looking for very strong standalone companies that have already a very strong existing culture.
So we don't want to destroy that DNA and I think we have done a very good job. If I look at innovation, if I look at foster and even if I look at the most recent acquisition in Australia was custom fluid power to protect the successful the DNA that meet these companies what the are.
Made off and what.
What we bring to the table for us.
With regard to your to the talent pool.
As you know and we highlight that on an ongoing basis, so covering the marketplace.
Yes, I think these key for us down the road, so occupying white spots.
Obviously, expanding the business on the global basis, I think is one of the key challenges that you still have and if we look at the talent pool or the pipeline from a talent pool perspective that is probably where we still have to focus on on the development of people that we have on board already today to develop the scaling them that they can help us to blow.
Realized the business.
Even more in years ahead.
I would say that's the area, where I would say from a from a talent need perspective, we have probably to.
Most significant need.
Our next question comes from Jeff Hammond of Keybanc capital markets.
Good morning.
Morning.
Hey, Wolfgang just to come back on the electronics investments is there way to quantify like the incremental spend in dollars.
I'm just I'm just trying to get at the you know the margin impact.
You know into into 2020.
Well, it's great. It's 20 people as I said and we are hiring on these people during the course of 2020, it's more front end loaded, though because we want to half. These people on board and we have a number of them already hired over the last six or seven seven weeks.
I think if you quantify it in in dollars, it's somewhere in the range of about two and a half to $3 million fully loaded.
Oh, and clearly that's built into the guidance that we've given on the profitability site.
Right, Okay, and then margin resilience in hydraulics is pretty impressive as you just saw your kind of for sales decline.
It was really working there and then how should we think about decrementals in hydraulics.
In the 2020 on that you know I guess is flat to down six.
We entered the first part of the question I like Tricia onto the decremental margins, but for to the first part of the question what has been working well I mean youre you have seen an improvement over the past couple of quarters already and it's mainly driven obviously by productivity and efficiency.
Improvements so it's a much better oil to machine I would say then it then it was probably a year a year ago and I'm actually pretty pleased with what the fund team is doing in that regard and I'm pretty encouraged looking at some of the initiatives that are outlined for the balance off of Steve here.
Then besides productivity and efficiency improvement I mean, the other affected it comes into place also pricing.
Just on reasonably well from a pricing.
Perspective, we were not always very lucky from a mix perspective, as we explained on the last call you might recall that we still have idle capacity in a certain area of manufacturing that's pretty attractive from a profitability perspective that challenge has not been overcome yet. So there is additional potential I think there for margin.
Prufund down the road.
Mid and long term I would just like to repeat I mean, the goal is that all of our businesses generate cross profit margins.
Of 40%.
On sales sales revenue and I am hopeful with everything I'm seeing there that we will get there overtime.
On the detrimental margin side, I think we're going to see more traditional detrimental margin.
30% to 40% that we historically saw.
In these businesses, but I will say that I think over the last.
A couple quarters Weve done a good job up right sizing.
The.
Bob businesses from a perspective of being able to.
Flex a little bit on the.
Fixed cost.
Side and the labor side. So I don't think we're going to see huge decrementals on the hydraulic side as we roll and through 2020 with a little bit lower revenue.
Okay, and then just on the 2025.
Targets I think you fine tune the absolute revenue number for hydraulics down, but I think the growth rate is actually higher just kind of where we stand today is that a function of you know we get a snap back in the market or or something around confidence for for share gains and outgrowth.
Well, it's a mixture off of both there. If you know we were always hovering around that 7% to 8% CAGR range for the hydraulics business going back all the way I think back to 27, peaking.
And it's obviously tie to all the investments that we are making from a again from a global coverage perspective, I think we're covering the marketplace significantly better than we did three years ago and obviously also from a product development perspective, I mean, there is still a lock lined up to broaden and expand the product portfolio as I stated.
Earlier on with with Electrohydraulic products. So decking combination I think makes it pretty comfortable.
To look at an 8% CAGR rate in between now and 2025.
Okay. Thank you.
Our next question comes from Jim Sheehan of Suntrust Robinson Humphrey. Please go ahead.
Good morning, this is Pete Osterlund on for Jim.
On your fourth quarter gross margin commentary you discuss a change in the margin profile of your products was this more of a negative mix shift or was it based on pricing versus raw materials and what are your expectations for gross margins in 2020.
Yeah. It was a mix shift it was the ship that we've been talking about the last couple quarters, specifically in the CVT business between auto sell products and you sell products.
They have a little bit different margin profile and we've seen a decline in the auto sell products over the last couple quarters.
So it's skewed more toward the you sell and that's a function of the consolidation project as well that we've moved to this you sell manufacturing.
With regard to gross margin.
We are we don't guide to gross margin.
But I think that we can infer from one of the previous questions on what the detrimental margins might be that we can roll forward. The Q4 margins with some potential downside given.
The guidance.
We provided in hydraulic segment.
Thanks, and then know what's your net leverage closing in on your target of two times. How are you thinking about free cash flow deployment. This year beyond debt reduction do you have an active M&A pipeline or would you consider share repurchases.
Yes, I mean, we want to be consistent with the messaging also flask years, so getting below.
Ratio of two as far as net debt to adjusted EBITDA is concerned is is is pivotal. So we are we will continue and.
Use to free cash flow generation two to de lever to company irrespective of that Doesnt mean, we have an ongoing M&A process in place, where we continuously look at companies and evaluate businesses, but de levering at this point in time is still is still the.
It's still.
Hi up on the on the agenda here.
Thank you.
You're welcome.
Our next question comes from make Gilbert of Robert W. Baird Enco. Please go ahead.
Thank you good morning, everyone.
A few questions on hydraulics first.
Can you can you comment at all on on when you think on where you stand from a backlog standpoint, and I guess, what I'm curious one when we're looking at 2019 to call a $443 million revenue.
How much of that revenue would you say was associated with you being able to convert on the backlog build more put differently. How much of that revenue do you think is associated with the backlog declined 29.
Kind of level set us into 2020.
Yeah, I think from a backlog perspective make I think we're exactly in line with with what we told you already two quarters ago.
We said backlog based on what we could see and based on softening in the economy and expected order intake. We force we can foresee that backlog is still supporting a revenue generation in Q1, maybe marginally into Q2.
As well and I think what we've seen over the last couple of weeks. So last couple of months was exactly was exactly in line with debt we state statement.
So bank overall, obviously is depleting because the ordering wireless entities is soft and Corona virus situation is not helping as I said I mean, we have 9% of revenue tied to Chinese customers that was a specific geography, where we have one quite some market share and thats done except.
Yeah, well over the last three four years, so backlog is depleting buckets I still expect it to support hydraulics revenue in Q1, and maybe even leading into Q2.
So just to make sure I understand what you're saying here you're you expect further backlog depletion into you wanting you to whatever the way I kind of read that is that.
The order intake that you're you're taking is.
Not necessarily what's reflected in revenue it there's that plus the backlog burn that's that's how I should be thinking about it right, yes, yes, et cetera, I mean, we're tapping into backlog and we are depleting the backlog as I say exactly as we said already during I think it was the Q2 earnings call.
Last year, so I think where exactly in line with was those projections that at a time.
Understood. The this is a and the reason why I'm asking all of this is.
Kind of a big picture question here. This is your first.
Quarter or this was your first quarter revenue decline in hydraulics.
Can you can you maybe give us a framework for how you're thinking about the current environment versus prior downturns I mean, when I'm looking at my model here I typically see four plus quarters of revenue decline whenever.
Markets term softer, but this time, we had this backlog dynamic that I don't think we've seen in prior cycles. So.
How do you think about the current environment and how long.
Revenue contraction might be might be lasting here.
Yeah, Yeah, maybe this will be helpful. If if we look at seasonality de scared when comparing to two previous years. So last year in hydraulics, we generated 52% of revenue into first half 48% in the second half.
We expect us to evenly split in Twentytwenty, So 50, 50, and the 50% in the first half still supported by backlog as I mentioned, just now and then if you look at the 50% into back half of Twentytwenty.
That is in line with the second half of 29 tier.
This is actually a little bit it's a little bit higher. So obviously, we are expecting orders to increase as we enter into the third quarter. This year. So if you put the two statements together backlog will be depleted no later than mid of this year. If it actually early second quarter. We are then counting on.
Order gains in the second half Steve here in hydraulics compared to the second half of 29 team.
Which in theory should be quite strong in order to offset your comparison on the backlog burn right could you are starting from a lower plate I would present.
Yes, but nevertheless, I mean, it will be single digits is will be a single digit increase compared to second half of 29 team, but that's pretty much more what our own forecast is based on.
Understood and then.
This question on on Incrementals and Decrementals with was asked earlier, but I want to make sure that first we're kind of talking about gross margin Trish in terms of your comments on the.
30 to 44 and channel Decrementals correct.
Yes.
Do you contemplate any adjustments to your SGN a in hydraulics, given obviously the market volatility that we've got here.
No. We don't expect a lot of change on the hydraulic side and then we did have.
The.
Restructuring that we did in Q3 of last year.
Got hit the assay a line for.
Hydraulics, so that will carry forward into the year, but yeah. We clearly have some other expenses corporate level that that may offset some of that so we.
We we.
We don't expect to see the large increase and I see that we're seeing in electronics, but we won't see a huge decline over the FDA that we had last year.
Okay and to.
And then then moving to electronics.
These incremental costs these incremental investments, you're saying that those are going to flow through the DNA line, there, they're not going to flow through gross margin.
Correct.
Oh, Okay. Good and then lastly here.
I'm kind of scratching my head a little bit on on how you structured the topline guidance.
Simply because unless I'm mistaken here your your.
First half a year is going to be down maybe north of 13%, but then you got pretty robust growth double digit growth in the back half so.
Now I'd like a little more color on what gives you guys. The confidence that we can have this level of swing.
And you know that's sort of driven by your broader end market assumptions like it did indicate the hydraulics, where if this is something that's specific to customers and product that you really have good visibility on thank you.
I think it's both make its obviously as you know in the meantime.
More than 50% is tied to OEM business. So we have much better visibility I think what he is expected for the balance of the year and if we look at their full constant their schedules I.
I think it's pretty obvious that everybody's counting on a rebound in the second half of the year I think if you look at the macroeconomic picture obviously in there we pretty much go by the by industrial production inside of that.
Forecast for industrial production in the.
In the seven seven largest economies around the globe. You also see that there is and that is not being expected in the second half of the year. So I think it's a combination of both met what we see from a macro economic perspective and feedback that we are getting from our from our customer base.
In both segments.
Okay. Thank you.
Welcome.
Our next question comes from Brian Drab of William Blair. Please go ahead.
Hi, Good morning, you know.
Mentioned.
Yeah, well prepared comments back half of the year look stronger from a macro perspective kind of across the board across the regions.
But then I think you just said that you're expecting your business to be.
Flat in the second half with 20 versus second half of 19.
Was wondering why why that is and is there some conservatism just given the.
Uncertainty that is obviously out there.
I think Brian Good morning, first I think Brian that you misunderstood. So the business will be slightly up in the second half I say it into second half of Twentytwenty compared to the second of 29 team index applicable for both segments when I discussed with the Meg We said in the hydraulic segment it will be.
Up and single digit percentage ranges and it will also be up on the electronics side.
In the second half of Twentytwenty compared to 2019.
Okay, Okay, Yeah, I think I heard it.
At one point, so I don't know I just didn't didn't sound like you had a ton of conviction in the back half growth I thought at one point you did say flat to.
It actually then slightly up but I.
Just given the rebound and given the challenges that we've had the back half of 2019.
That's all I was just wondering if there's some conservatism there so.
I can I can help you a little bit more on the electronic side I mean in 2019 debt ratio between the first and second half was 54 versus 46.
And we expect that ratio to go to 49 versus 51. So it is back end loaded in electronics as well.
Okay, and then in the backlog both.
2020, if you do experience growth.
Let's say at a low single digit rate you know what would.
Actually let's say the scenario, if let's say in a a tougher scenario and growth doesn't.
Tom in the second half and your flat in the second half would you expect your gross margin to improve given the.
Productivity improvements that have been in place even on flat revenue.
Yes, I think based on the initiatives that we launched last year in Q3 in Q4, if I look at the restructuring and everything associated with that obviously that benefit will carry forward. So we would expect margins to at least a stable or slightly improve.
Thanks, and then looking just finally can you put a finer point on some of that activity that you're seeing until the end markets and maybe even a little color regionally yeah, just a little more on like had construction mining material handling since you've got such a a good finger on the pulse of all those those end markets.
Yeah. So if I look at the four main clusters that that we are supporting so industrial mobile AG and recreational and markets. It's definitely a fair assessment to fade every softness across all the four clusters now if you break it down into individual geographies any new in into individual.
Sectors underneath there than we are seeing actually if you view.
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Positive spots.
Well.
I repeat again, what I'd say it last year I think renewable energy is you still an attractive market. We grew a lot there in China over the last couple of years icing debt will continue despite the corona virus situation that we consider being temporary I think the other more positive.
Note that we saw a after the easing of the trade negotiations between the U.S. in China. This past December isn't in AG in North America is a little bit stronger than we anticipated. So that's a positive fine, but then I would see all the rest if you look all the other sectors within construction within material.
Handling energy oil and gas it it's Rob a soft and we expect that to continue during the first two quarters of Twentytwenty.
Okay. Thanks, a lot I'll say the rest of my questions for offline. Thank you.
Thank you.
Our next question comes from Joe Mondillo of Sidoti and company. Please go ahead.
Hi, everyone. Good morning.
I wanted to follow up on a couple of questions regarding I guess, the I guess the ended the day, we're talking about the revenue guidance and it just seems like the high end of that revenue guidance in terms of sort of flattish sales seems a bit aggressive when you're talking about.
Alex backlog declining into the second quarter you have.
Asia region, which was a really good.
Growth factor for you in 2019, what's going on with Corona buyers in China was already slowing before then you know back going on and then on top of that we're hearing from you know you said a over 50% of your OE customers are over 50% of your hydraulic sales or are we.
Hearing deer down 5% to 15% Caterpillar similar a lot of these are we are talking about how their production is going to be down quite a bit. So I'm just wondering.
How you get to the high end of the guidance.
Considering all up.
Well I think Joe as I mentioned early on I can just repeat what I already said I mean based on the initiatives we have in place. So so it's a split 50 50, roughly OEM and channel and I think the initiatives we have in place on a global basis on the channel side are there in order to covered geographies in a much better.
He than in the past. They are we are dealing more with end users and small and medium sized Oems. So I would still expect business to trickle in there.
And grow, particularly in geographies, where we had nothing in the past I'm still referring to places like southeast Asia, we still have opportunities with more even in countries like China and.
In Japan, and and so for us and on the OEM side, we worked with both partly with the large Oems you are referring to that that are obviously.
Reasonably negative at this point in time, but we also working with a lot of small and medium sized signpost Oems and I think they're probably the picture is a little bit more roe the or little bit more optimistic so all of that embedded into this forecast is pretty much what we reflected in the numbers in the numbers here.
Okay.
Could you talk about the decremental margin.
Tomich segment since Q since we've already talked about hydraulics, just wondering how that looks.
Yeah, I mean, we will see some but there is much smaller fixed cost based on the electronics business. So the decremental margins are not as significant as what we generally see on hydraulic side, which has.
Very large capital investment so I would expect that probably to be.
Somewhere around 20%.
Okay and regarding the.
Margin expectations that you're looking at hydraulics is there anything baked in there in terms of more improvements are more cost restructuring or anything related to your.
Your cost structure.
Going forward.
No. The only thing that we that's different from a cost structure perspective, as what we've already touched on with regard to the addition of engineering resources for R&D in the electronic segment nothing else is different from.
Before.
Okay.
All right. That's all I had most of my questions were answered. Thank you.
Thank you.
We have reached the end, it's a question and answer session I will now turn the call over to management for closing remarks.
Thank you for interesting he is technologies and for your participation. This morning also thank you to all of the hardworking iOS employees, who are driving these results. We look forward to updating all of you on our first quarter results in May.
Thank you very much and have a great day.
This concludes today's conference call you may disconnect. Your lines. Thank you for participating and have a pleasant day.
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Ooh.
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