Q1 2023 Knowles Corporation Earnings Call
Okay.
Good afternoon. Thank you for attending todays <unk> first quarter 2023 earnings call all lines will be muted during the presentation portion of the call with an opportunity for questions and answers at the end if you'd like to queue for a question on today's call you can do so by dialing star one now.
I'd now like the best conference over to your host Patty <unk>, Vice President of Investor Relations with no. Thank you you May proceed.
Thank you Joel and welcome to our Q1 2023 earnings call.
<unk> Vice president of exploration.
Investor Relations and presenting with me on the call today are Jeffrey <unk>, our president and CEO and John Anderson, Our senior Vice President and CFO .
Our call today will include remarks about future expectations plans and prospects for Knowles, which constitute forward looking statements for purposes of the safe Harbor provisions under applicable Federal Securities Law.
Forward looking statements. This call will include comments about demand for company products anticipated trends in company sales expenses and profits and involve a number of risks and uncertainties that could cause actual results to differ materially from current expectations.
The company urges investors to review the risks and uncertainties in the company's SEC filings, including but not limited to the annual report on Form 10-K for the fiscal year ended December 31, 2022 periodic reports filed from time to time with the FCC and the risks and uncertainties identified in today's earnings release.
All forward looking statements are made as of the date of this call and Knowles disclaims any duty to update such statements except as required by law. In addition, pursuant to Reg G. Any non-GAAP financial measures referenced during today's conference call can be found in our press release posted on our website at <unk> Dot com and in our current report on form 8-K filed today with the.
D C, including a reconciliation to the most directly comparable GAAP measures.
All financial measures on this call will be on a non-GAAP continuing operations basis, unless otherwise indicated also we've made selected financial information available on webcast form which can be found in the investor Relations section of our website with that let me turn the call over to Jeff who will provide some details on our results.
Thanks, Pat and thanks to all of you for joining us today.
Our first quarter results were largely in line with our expectations revenue finished slightly below the midpoint of our guidance, but due to strong operational performance and the benefits of mix, we were able to deliver gross margins adjusted EBIT margins EPS and cash from operations all above the midpoint of the guided ranges.
Looking at Q1 in more detail little generated 144 million of revenue slightly below the midpoint driven by weak consumer electronics demand in the market and excess customer and channel inventory across all three segments.
In precision devices revenues down 4% from the prior year.
G Med Tech and defense all grew year over year, while our industrial market faced inventory challenges, which are now expected to continue through Q2.
In Med Tech, especially audio revenue was down 24% versus prior year levels due to customer inventory adjustments and softer end market demand in the hearing health market I would note MSA it was better than expected as inventory moves faster than we anticipated driving revenue higher in Q1.
A consumer Mems microphone revenue was down 48% from Q1 of 2022 as all end markets were down versus prior year.
Before I turn the call over to John I'll spend some time discussing the current customer and market conditions for each segment with some insights into what you're seeing for Q2 and the rest of the year.
For our precision device segment, we continue to have strong demand and growth in our three key end markets defense Med Tech and EV.
In defence the demand for communications electronic warfare systems continued to amplify the need for our RF filtering and high performance capacitor products.
Despite awards and shipments in this market being lumpy at times, we grew year over year again in Q1 for the seventh quarter ROE, but we're confident based on current bookings and the expected awards will generate growth in 2023.
For Med tech or high performance and high reliability capacity price grew again in Q1.
And you see demand growth throughout 2023.
We believe this market continues to show resilience similar to our MSA segment in the face of academic or macroeconomic challenges.
In the EV market, we grew 50% year over year in the first quarter.
<unk> continues to expand as design wins, and it's exciting market with a broad range of new customers.
In the industrial market, which currently makes up less than 15% of company revenue. We are seeing continued weakness is distribution and customer inventory levels remain elevated we.
We expect the inventory challenges market to continue in the second quarter, but we see signs that leads to bleed of recoveries coming in the second half.
Overall for PD, we expect strong bookings in Q2 for our three key markets and depending on the inventory consumption at our distributors. We can see a return to growth in the second half for this segment.
In Med Tech, especially audio as we stated on the Q4 call. We started seeing signs early in Q1 that the inventory situation was improving which gave us increasing confidence on strong sequential revenue improvement in Q2.
Our guide reflects a more than 27% sequential improvement and MSA driven by driven by major hearing aid retailers around the globe starting to see a return to growth.
This demonstrates the resilience of this end market and provides confidence in a return to growth starting in Q3 of this year.
Lastly, our consumer Mems microphone segment demand across all of our end markets were down in Q1 versus prior year levels, but as we look ahead, we are starting to see recovery in some end markets.
Specifically non mobile shipments are expected to be up over 30% sequentially as channel inventory has improved and replacement cycles are expected to start in Q3.
These markets are still down from prior year levels, but definitely showing signs that the first quarter was the bottom.
Finally, while the smartphone market is not the greatest further we are not yet seeing a recovery due to excess capacity in the market. We are seeing further pricing pressure.
While our strategy has not changed in the short term, we will continue to fill our capacity with smart phone business.
Our CMO due to normal seasonality of this business and improving market conditions, we are expecting strong sequential improvement of revenue and earnings starting in Q2.
We expect sequential improvement to continue for the remaining quarters in 2023.
Overall for Knowles in the outlook for improvement in revenue margins and earnings as the year progresses remained unchanged from our last call. The inventory situations inheriting bucket has improved as forecasted and we are increasingly confident of second half growth.
In precision devices, the defense Med Tech and EV markets remain robust while inventory challenge challenges further dampen the industrial market in the near term.
Lastly for CMS, we are seeing improving trends in computing and ear and Iot, while smartphone demand shows a slower return to recovery.
In summary, we are now expecting 2% to 3% reduction off of last year's full year revenue.
Now, let me turn the call over to John to give us some quarterly details our guidance.
Thanks, Jeff we reported first quarter revenues of $144 million down 28% from the year ago period, driven primarily by lower shipment volumes in consumer Mems mics, and med Tech and specialty audio.
The precision device segment delivered revenues of $54 million down 4% from the prior year driven by excess channel inventory in the industrial market, partially offset by increased shipments in EV defense and Med Tech end markets.
In the Med Tech and specialty audio segment revenue was $46 million down 24% versus the prior year as our customers reduced inventory levels and we faced difficult year over year Comparables as the first half of 2022 demand benefited from strong COVID-19 recovery.
Consumer Mems mic revenue of $45 million was down 48% versus the prior year driven by weak global demand for consumer electronics and channel inventory adjustments across all end markets first.
First quarter gross margins were 37, 7% to 170 basis points above the high end of our guidance range and down 390 basis points from the year same period a year ago.
Precision devices segment gross margins were 46, 9% up 130 basis points from the prior year due to factory productivity gains and lower raw material cost net.
Med Tech and specialty audio segment gross margins were 43, 5% down 680 basis points versus the prior year, driven primarily by lower factory capacity utilization, partially offset by foreign currency benefits.
Consumer Mems microphone gross margins for the first quarter was 21, 7% down more than 11 percentage points versus the prior year driven by significantly lower factory capacity utilization pricing pressure in the mobile market and unfavorable mix, partially offset by benefits of the restructuring.
Actions announced in August of 2022.
R&D expense for the quarter was $17 million down $3 million from the prior year with the reduction driven entirely by the benefits of the restructuring actions taken in the consumer Mems microphone segment.
SG&A expenses were 27 million $2 million higher than prior year levels, driven primarily by higher incentive compensation cost, partially offset by restructuring actions and the consumer Mems microphone segment.
For the quarter adjusted EBIT margin was five 6% near the high end of the guidance range.
<unk> was five cents in the quarter above the midpoint of our guidance range.
Now I'll turn to our balance sheet and cash flow cash.
Cash and cash equivalents totaled $52 million at the end of the quarter, we generated cash from operations of $22 million above the midpoint of our guidance range driven by lower networking capital.
Capital spending was $4 million in the quarter and we repurchased approximately 430000 shares at a total cost of $7 5 million.
We ended the quarter with cash net of outstanding borrowings of $7 million.
Moving to guidance for the second quarter, we expect total company revenue to be between 165, and $180 million up 20% sequentially and down 8% versus the same period a year ago.
We estimate gross margins for the second quarter to be approximately 39% to 41% down 150 basis points from the year ago period, but improving 230 basis points sequentially.
R&D expense is expected to be between 15 and $17 million down 2 million from prior year levels.
Primarily by prior year restructuring actions in the consumer Mems Mic segment.
We're projecting selling and administrative expense to be between 26 and $28 million up $3 million from the year ago period, driven primarily by higher incentive compensation cost, partially offset by restructuring actions in the consumer Mems microphone segment.
We're projecting adjusted EBIT margin for the quarter to be in the range of 14% to 16% and expect EPS to be within a range of 20% to 24 per share. This assumes weighted average shares outstanding during the quarter of $95 1 million on a fully diluted basis were <unk>.
Casting and effective tax rate of 17% to 19% for both the quarter and full year 2023, which reflects the change in jurisdictional income and the potential impact of the unmet conditions for our tax holiday in Malaysia.
For the quarter, we expect cash from operations to range from 5 million to negative $5 million capital spending is expected to be approximately $5 million.
Now ill turn the call back over to the operator for question and answers portion of our call.
Operator.
Absolutely we will now begin the Q&A session, if you'd like to ask a question. Please press star followed by one on your Touchtone keypad.
The reason you would like to remove that question. Please press star followed by <unk>.
Again to ask a question press star one.
As a reminder, if you are using a speaker phone. Please remember to pick up your handset before asking your question, we will pause briefly to a lot of questions to generate in Q.
The first question is from the line of Bob <unk> with CJS Securities You May proceed.
Thanks, Good afternoon, thanks for taking our questions.
Hey, Bob.
Yes.
Hi.
Wanted to start obviously you guys are operating I think very well in a difficult and volatile market and so I wanted to.
It kind of take a step back and just get like a big picture view and you've given medium term targets.
Previously I think it's 43% gross margin in the 20.
<unk>, 22% to 24% adjusted EBIT margin.
And a lot of the growth to getting there was mix shift to higher margin business plus utilization and then the recovery in <unk>. So maybe you can give us a sense of what the hurdles are where we are in that timeline.
Where you stand I guess <unk> you've done the restructuring is there more to come or is it now just utilization to catch up and.
Kind of.
A level set us back to the medium term targets and where we stand given all of the volatility in the market.
Yeah, Bob It's a good question. So let me just take back a step back what you said you kind of give you the bigger picture here, but but I kind of what we sit there and say is I think we're making great progress on mix.
You know I think I'll take you back to art.
Some of our three key markets that we talk a lot about is med tech which includes MSA.
And the exit we put together for investors.
Then defense and EV.
Go back or is that just kind of sat in 2018 that was about 32% of our total company revenue last year was 47, I would say it would probably be over 55% of our business now is in between a med tech.
In defence, So we're making good progress there those business continued to perform extremely well for us.
Highlight first even in the short term.
Our MSA business, yet with the hearing health business is recovering faster than we had expected a quarter ago and it continues to demonstrate the resilience of the med Tech markets.
In the face of some of the macro conditions that we have so we're very pleased about that.
Second I would sit there and say.
On PD, just a little bit more.
We are expecting to have extremely strong bookings, which possibly could be record bookings in Q2 based on our forecast. This year driven by again defense Med Tech and EV and so I think as we.
See how we're investing whether it be our R&D dollars are capex. This is kind of playing exactly the place we want to go now if you go into CRM business.
Kind of said in the prepared remarks.
I would say that my recent discussions like on Taiwan, which is primary laptop is that you know that.
This is coming up that a little faster than we probably expected a quarter ago, but I will sit there and say that the mobile portion of this business. We are not really seeing a lot of improvement here.
And we're still hopeful with seasonality that we're going to see a strong uplift lift in the back half on capacity utilization. So if you take this overall I don't think we're backing off or our mid term targets that we've talked about at all.
In fact, I would sit there and say is if the rest of the year kind of plays out the way, we're expecting which I'll just say that about 2% to 3% down is what I kind of said in the prepared remarks, we will be exiting the year probably at like the gross margins that we're expecting around 43% and so I think obviously, we got to do that for a full year.
But you can see the power that we're getting to with mix capacity utilization to get to that 43% plus I would just caution I think.
Q3, and Q2 are still going to be a little volatile here, we are expecting sequential growth in Q3 again.
Right now I'd projected at about 8% to 10% sequential growth off of the Q2 finished because whenever I see but overall I don't think we're changing any of what we're talking about for the midterm.
Okay Super Thank you for all that color and then just kind of.
<unk>.
I guess shifting over to your balance sheet, obviously, you've done a fantastic job you've paid down.
Net cash position now, it's an enviable balance sheet given the market can you discuss the M&A opportunities out there in your pipeline is this.
You've done some restructuring is it still an area of focus right now or are you more focused internally how should we think about.
M&A opportunities for you.
Here's what I'd say I would agree with you we are very unhappy with our balance sheet right now and we've been very disciplined about what we've been doing with the cash that we've been generating we've been buying back a fair amount of shares over the last couple of years.
And I think we will continue to buy back shares, but we are still interested in M&A and I would say specifically in the PD space.
Over the last couple of years up until maybe six months ago. So kind of some of the valuations, we're getting kind of a little crazy and we kind of just back away from that that wed rather keep that strong balance sheet and I think we're going to benefit from that whether it be this year or next through some of the M&A opportunities that we have so I would I would sit there and say that it's likely we're going to do.
And hopefully at prices that are little bit more reasonable than say they were a year ago.
Okay Super I'll jump back in queue. Thank you.
Thanks, Bob.
Thank you.
The next question is from the line of Great fulfillment.
You May proceed.
Hey, guys. Thanks for my question.
You guys touched kind of on the inventory dynamic.
I was wondering if you could go maybe a little bit deeper there I think you even might have hinted towards inventory replenishment.
I wasn't sure on that.
And maybe you could break this up kind of by end markets.
If they stick out the inventory dynamic sticks out thank you.
Yes, here's what I'd say is I think we've kind of talked on the last call about that inventory for us would not be a headwind. This year, we didn't see necessarily our inventory going down for the full year, but it wouldn't be a headwind again like it was last year, but I think if youre, referring maybe to the.
Inventory in the channel and I would sit there and say it is.
Most of our end markets I would say are in pretty decent shape right now.
So let me start with a few of them I would sit there and say after a year of a lot of challenges. The compute market is doing as much better in terms of the channel inventory than it was say six months ago. So we feel pretty good about that our hearing health customers in MSA I visit all of these customers in the last quarter.
A number of the CEO of the company and I would sit there and say.
Yeah, again, I would sit there and say we're going to obviously get a benefit from that it doesn't appear that the inventory. We've dealt with in Q1 is going to continue the rest of the year and the <unk>.
<unk> segment, I would sit there and say med.
Med Tech EV defense, a lot of custom products that we're building I wouldn't say our customers have a lot of inventory I wouldn't say that's the issue I would say it's in that industrial slash distribution segment, where we still see.
Hearing there is inventory in the channel that needs to be burned down.
Last quarter I thought we would probably start to see an uptick in Q2 and that portion of the business.
It Hasnt materialized. It now appears to us that has been pushed out a quarter that we might see the inventory rundown in the industrial portion of precision devices starting to dissipate in Q3.
That's great and I was talking about distribution. So so thank you for that.
You you also have some kind of interesting options I would say for your business model around.
<unk> RF, whether for defense or five G.
And balanced armature speakers and I guess I would ask what are you most optimistic about and.
And when could these be meaningful drivers of your business.
Yes, so I mean again as I stated a little earlier.
This is starting to become a pretty significant portion of our business.
If I go back a few years ago. This was less than I hope. Some of this is through acquisition. If I go back to the 2020 timeframe. This was like a $30 $40 million business and through acquisitions and growth and it's going to be.
Over $100 million again.
We've grown our defense business.
That mainly of RF filtering by significant amount over the last four years. So we're still very excited about this market Chris.
We see a lot of opportunities both in terms of M&A, but also in terms of just organic growth with the product portfolio that we have so I think we're pretty happy with that I would say generally speaking our domestic business.
Growing at breakneck pace, but I would sit there and say it is extremely stable and extremely strong gross margins and that goes for both MSA and PV.
I would sit there and say we're now look the yield in our med tech business being well over $250 million right. It's a big business now again, it doesn't grow at 10% per year, but but but it's extremely strong gross.
Gross margin with great cash flow.
Continue to look for opportunities to continue to grow that business and then lastly, EV like you mentioned.
It started from a small base, but I mean.
It was up 50% in the first quarter and bookings were extremely strong here, we're expanding our customer base. If I go back two years ago. The majority of our business came from a couple of customers now we've got many customers and so we're pretty confident about our position in <unk>.
Remind you. This is all on high voltage charging systems right and so it's not like we're replacing like Commoditized low voltage capacitors. These are extremely unique high voltage capacitors that are being put both in cars and we're actually seeing some design win business in the charging stations now as well.
So I'd say those three markets are going to be our focus going forward over the next three years to four years, because good gross margin generate great cash flow.
And growth.
Great. Thanks, so much Jeff.
Okay.
Thank you Mr. Roland.
The next question is from the line of Tristan <unk> with Baird you May proceed.
Hi, This is Tyler on for Christian Thanks for taking my questions.
First building off of a previous question.
Could you provide an update on our balanced armature Speaker line and then also how is the over the counter hearing aid market been trending.
Yes, you guys too.
Good questions I. Appreciate the question first of all any over the counter market I would say incrementally more optimistic than I was a quarter ago.
I would say we've seen more orders coming in in the over the counter market than I would've said a quarter ago for this year one of the reasons that the.
The MSA business had been doing a little bit better.
But I would just say there is still concern it could be channel filling in how that's actually going to sell in the end market. So.
I'm still holding my breath here, but I'd say I'm.
The incrementally more optimistic about the over the counter market as far as the B.
Alight.
I mentioned this last quarter.
We have not focused line yet I would say part of it is the reason is this.
A lot of the designs that we've been working out with our customers in China have been slower to come to production.
China reopening we are starting to see more activity.
But I think what we are surprised that and happy about is the asps are significantly higher than we would've expected a year and a half ago.
To the tune of $30, 40% higher than we were expecting so the revenue coming off his line is approaching what we would've expected.
A year and a half ago at the lower Asps.
There's three ways that we're going to.
Phil This line.
Which is probably a little different than we were just talking about two years ago. When is this high definition audio which is expanding the range of what you can listen to in the high frequency band, where you could only use it really to get that really great high definition at high frequency.
Number two we are starting to see some of these over the counter hearing aid customers use our balanced armature line and third even some of our traditional hearing aid manufacturers are starting to use this as well so we're very confident.
Filling this line.
And then hopefully buying another line I would say the other thing which has benefited the hearing aid business, which you can kind of see in the MSA margins, which is a lot of the learnings that we got off.
Automated lines are have been having are being applied to our manual lines, which is helping our gross margin in that business as well.
Great. Yeah, that's really helpful. And then just for my follow up can you just provide an outlook on what youre seeing in China in the smartphone market and if theres anything you any signs youre seeing for a second half recovery there.
I think there's going to be some recovery in China, the mobile market.
In the back half I, just don't know the size of it but I would just sit there and say is it is.
It's not.
Great right now the mobile market overall, and I would say that's not just China I would say that the overall mobile market I.
I think it's a tough market a lot of people are our customers don't make money in this market.
Coupled with there's very little growth and so we still see this as a challenge and I think it just continues to confirm what we've been talking about for two plus years about.
Our desire and are working our desire our efforts to diversify away from mobile.
Over the long term.
I think we've talked about this in the past in terms of mobile I think last year mobile was about 16% of our total company revenue I would say this year, we're probably looking at less than 15%. This year. So I think we continue to execute on that strategy of diversifying away and in our other markets recover.
Year Iot compute in the Mems microphone business I think hopefully, we'll be able to even reduce mobile as a smaller take even a small percentage of the toll business.
Great. Thanks, again for taking the questions.
Thanks Todd.
Thank you.
The next question is from the line of Anthony Stoss with Craig Hallum. You May proceed.
Hey, Jeff and John .
I'm curious if you've made any downshift to your Capex plans for the second half of the year and maybe Johnny can comment about your expected free cash flow in 2023 over 2022, then I had a couple of follow ups.
Yeah sure Tony in terms of Capex.
I'd say two things one there is a shift more of our capex will be tilted toward the MSA segment in the PD segment overall spend it's coming down a bit we're kind of in the 4% of revenue range is what I would say for 'twenty. Three if you think back a few years we are.
Higher we're kind of in the 5% to 7% of revenue and again its less capital that we're putting into the <unk>.
CMS segment.
In terms of free cash flow I think it's important we had a decent free cash flow above our guidance. In Q1 Q2 is is a bit more muted, but I think you really have to look at cash flow over a longer period than a quarter because it can really be influenced by timing customer collections payments through the end of the quarter, but for full.
Year 'twenty three we feel really good of free cash or I feel really good about free cash flow generation of 15% or more revenues in 2023.
Got it thank you.
Clearly you've uptick quite a bit your excitement related to the <unk> side of the business.
I know, it's got great gross margins.
I'm curious if you want to share how big that business is or how big do you think it can become over the next several years for Knowles.
Yeah, I think this year will probably be roughly about 3% of our company revenue this year.
Around 20 million Bucks somewhere in that range.
Probably probably.
<unk>, 30% to 40% over last year.
And I think what I guess, what I would say my caution is with this businesses, we've got a lot of design wins.
But the content level with each customer is different and we have some platforms, where we have $20 worth of content per car other platforms, where it's more like five.
I guess, it's hard for me to kind of gauge at this point is in five years three years, who are going to be the big winners and losers in the end market in the EV market and so that extent I guess I would sit there and say.
I'd be disappointed if in a couple of years. This business is 40% to $50 million, but on diverse side.
Some of the winners it could be $60 million to $70 million.
And two to three years, so I think it's a little early to call like how big this is going to be but I think what we like about this business is the macro of this market is it's going to grow. The question is how fast is it going to grow.
Our content per vehicle is going to be.
Got it and then last question for John .
I think I heard this correctly you expect total revenues to be down 2% to 3% year over year can you maybe help us understand.
Sometimes Q4 the December quarter is up sometimes it's down what do you think Q4 shakes out versus Q3.
Well, let me just take that Tony So again.
Kind of mentioned it I would sit there and say right now we see Q4 being the peak.
This year and it varies from year to year, but I think what we kind of would add just the normal the variance from year to year, but we would also add.
What do you call it the recovery.
We are seeing and.
How it is happening.
As I said last quarter, we gave some I would say some soft guidance on the sequential improvement we were going to see in Q2, which we're right on kind of what we said we were going to do anything on the high end of that.
15% to 20 analysts deployment contract correct.
Right now, we see Q3 being up 8% to 10% sequentially from Q2, and then I think with seasonality and further recovery.
We see Q4 will be the peak.
Got it alright, thanks, guys I appreciate it.
Thanks, Tony.
Okay.
Thank you.
There are no further questions in queue. So as a final reminder, if you'd like to ask a question on today's call. Please dial star one.
There are no further questions in queue with that we will conclude today's Knowles, earning conference call. Thank you for your participation. Please enjoy the rest of your day.
Okay.