Earnings Call Transcript - JRSH Q3 2021

Operator, Operator

Greetings and welcome to the Jerash third quarter fiscal 2021 results call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. I’d now like to turn the conference over to your host, Matt Kreps, Investor Relations for Jerash Holdings. Please go ahead, Mr. Kreps.

Matt Kreps, Investor Relations

Thank you and good morning and welcome to the Jerash Holdings fiscal third quarter 2021 results conference call. Joining me today are Sam Choi, our Chief Executive Officer; Gilbert Lee, our Chief Financial Officer; and Eric Tang, who oversees our Operations in Jordan. Our quarterly results press release was issued earlier today and can be found in the Investor Relations section of our website. This call is being recorded and will be available for playback on that site. All participants will be in a listen-only mode. Before we begin, I would like to remind everyone about forward-looking statements made during this call. Any statements made by Jerash management that are not purely historical may be forward-looking and are subject to Safe Harbor protections under applicable Securities Laws. Important factors that could cause actual results to differ materially from those in our forward-looking statements are detailed in our SEC filings, specifically in our most recent Form 10-K and Form 10-Q. These documents can also be found in the Investor Relations section of our website under SEC filings. We do not update our forward-looking statements and have no obligation to publicly release revisions that may reflect new events or occurrences. Now, I will turn the call over to Sam Choi. Please go ahead.

Sam Choi, CEO

Thank you, Matt, and hello to everyone joining us on the call today. Our December quarter demonstrates most of the typical seasonality in our business, but the most important parts of the quarter are marked in the financial reports. With orders collected during the quarter, we are now set up for not only a 38% plus revenue increase in the fourth quarter but also a record fiscal 2022 starting April 1st. That includes significant revenue growth in our first and second quarters, ending in June and September. This would generate three quarters in a row of strong year-over-year growth and take us back to gross margins in the high teens, driving better performance through the income statement. We have taken a conservative stance out of prudence during the past few quarters, and it has served us well, and we are now back to growth. Right now, we are almost halfway through our fiscal fourth quarter, which we expect will show significant year-over-year growth compared to last year. We also expect a rise in gross margin thanks to our historical average range. We believe this will result in a full recovery to last year's second half revenue levels and year-end revenue in excess of the $85 million target for the full year. Orders for the first six months of fiscal 2022 have our jacket and outerwear capacity set even above our internal capacity through September at revenue levels that would lead to quarterly results near or about our prior record quarterly revenue of $33.5 million. Achieving those targets would place Jerash on track to achieve revenue well above $100 million, and we ensure our initial guidance to support our assessment for this outlook. When the COVID pandemic first emerged, we initially saw cancellations from our customers, but most of those orders were swiftly reinstated, and any excess capacity was taken by other customers. While that was good news, the timing of shipments over the past few quarters has been more fluid than in prior years, which is what you are seeing in our third and fourth quarter results right now. This is certainly a positive recovery, and Jerash’s volumes have been left intact compared to sales from our end customers, indicating that they prioritize production at our facilities to ensure access to high quality and zero defects. Based on this order, we are now acting swiftly to increase capacity in our existing facilities and secure additional capacity to meet their quantity needs. Revenues in the December quarter were $20.7 million, down 19% from $25.4 million a year ago, mainly due to the timing of shipments, which is when we recognize the revenue. As such, our fourth quarter is expected to be in excess of $20 million, up from $14.4 million a year ago, an increase of 39%. Taken all together, our second half revenue will be fully recovered to pre-COVID levels and more evenly distributed than in past years, a positive for our business overall. Gross margins declined in the quarter to 12%, mainly due to a mix as we shift higher volumes of local and discount store orders in the December quarter. We'll be shipping heavily our major brand orders with higher margins in the fourth quarter. As a result, we expect the fourth quarter’s gross margin to be at least 18%, compared to 9% a year ago. We're excited for the next nine months as we return to growth and higher margins, and can return to investment in our growth through capacity expansion and the relaunch of our construction plans for new buildings on our land in the short term. With that, I would turn the call over to Eric to discuss our factory operation in Jordan. Eric will then cover some financial data.

Eric Tang, Operations Leader

Thank you, Sam. Hello, everyone. My comments today will be somewhat brief, as the news is all very positive and easy to state. As Sam mentioned, our customers are returning to more typical patterns and doing so at much higher order volumes. In other words, we are past the pandemic and back to growth. Our factories in Jordan are very busy, and we are actively increasing capacity. Looking at the third and fourth quarters, revenue has evened out between these quarters, which was one of our long-term goals. The mix is a bit different between the quarters, accounting for the gross margin difference between our third quarter report and the fourth quarter outlook. Looking at the mix in more detail, the third quarter has a higher percentage of local and discount store orders, which are usually lower ASP and margin compared to orders from our major brand customers. This is due to a shift in the customer delivery schedule that shifted most of our major brand customer shipments into the fourth quarter. We usually refer to these major brand orders as FOB or free on board, which is a term describing the shipping method upon which we recognize revenue. So that means our fourth quarter will consist almost entirely of FOB orders for these major global brands, raising both revenue and gross margin compared to last year, as we are guiding in the press release. Even better news is that customer orders for the first half of fiscal 2022, which starts April 1, show we are back to growth. Orders from our four biggest global brand customers have our capacity completely booked until the end of September, with the bookings heavily weighted towards jackets and outerwear, which are better ASP and margin items. As a result, we expect that the June and September quarters might be near or above our previous revenue record of $33.5 million from the second quarter of fiscal 2019. In fact, I'm currently working hard to install additional production lines in our own factories and secure more capacity to ensure we meet the demand, and that is just from our four largest customers. We are also restarting our construction programs that were planned for a year ago but put on hold due to the COVID pandemic. We've bought land some time ago for this project and will start construction on both the dormitory building and an additional factory. This will allow us to grow our workforce and manufacturing capacity and possibly also replace these facilities with more cost-effective owned facilities. The dormitories also help us provide excellent housing to our workers, in keeping with our commitments to ESG and driving what is best to care for the workers, which in turn drives our business. We are very excited about our developments and growth over the next three quarters that we have booked, plus our opportunities to continue that growth into the second half of next year. With that, I will turn the call to Gilbert for financials and outlook.

Gilbert K. Lee, CFO

Thank you, Eric. Hello, everyone. The third quarter ended December 31 was in line with our forecasts and demonstrated a shift in mix and timing between the third and fourth quarters, as well as leveling out our second half revenue compared to prior years where the fourth quarter was far smaller than the rest of the year. Revenue in the third quarter was $20.7 million, a decrease of 19% from $25.4 million in the third quarter of fiscal 2020. The change in revenue reflected a shift in customer timing related to the COVID-19 pandemic, causing several third quarter orders to ship in the fourth quarter, which delayed revenue recognition. Gross margin for the third quarter was 12%, compared with 19% in the third quarter of fiscal 2020, mainly due to a shift in product mix, with the third quarter being weighted toward local and discount store orders, while our fourth quarter will be heavily global brands. We are guiding for higher gross margin in the fourth quarter to reflect this. Operating expenses for the third quarter of fiscal 2021 were $2.4 million, a decrease of 9% from $2.6 million in the third quarter of fiscal 2020, mainly due to slightly lower labor costs. Operating income for the third quarter was $0.1 million, and GAAP net income for the third fiscal quarter was $0.1 million or $0.01 per diluted share. In short, the third quarter was solid but positions us for an improved fourth quarter ending in March. Plus, the trends that Eric described position Jerash for potential record quarters in June and September and a record fiscal year breaking the $100 million in revenue target. Digging into that more, we expect fourth quarter revenue to be in excess of $20 million, an increase of at least 38% on a year-over-year basis with gross margins in the high teens due to a more favorable mix. We're booking orders now for our fiscal 2020 first half, which will be the June and September quarters. We're fully booked for all capacity through September with orders from our major brand customers, mainly jackets and outerwear, which provide favorable ASP and gross margin opportunities. We believe those orders represent an opportunity for both the June and September quarters to be near or above our previous revenue record of $33.5 million. We expect the favorable mix in orders will put gross margins in the high teens. Achieving that goal would put Jerash on track to break $100 million in revenue in fiscal 2022, as we would expect this momentum to carry into our second half as well. Additionally, the Board has announced approval of another $0.05 dividend for the December quarter. Our balance sheets remain very strong with cash and restricted cash at December 31 of $29.2 million, and working capital of $50.3 million. Inventory was $19.2 million, up from $10.3 million at the end of the second quarter, reflecting goods produced for shipment in the fourth quarter to FOB customers. Receivables collection remains consistent with no customer issues. We expect the business to generate cash flow from operations on an annualized basis. We also have untapped lines of credit available for up to an aggregate of $26 million, which does not include an opportunity for additional asset-based lending should it be opportune. We expect full year sales to be more than $85 million, down slightly year-over-year from a record $93 million last year due to COVID-19 impacts in the first half, then increasing to a range of $100 million to $102 million in fiscal 2022. This is just our initial forecast, and more complete fiscal 2022 guidance will be provided at a later date. To fill out our notes, we continue to expand our PPE shipments and see this as a sustainable business. We're focusing on surgical gowns, disposable masks, and reusable masks where we believe we are cost and quality competitive. We continue to expand our capabilities and sales in this product category, including registrations with the FDA to expand our sales opportunities in the U.S. market. Second, we have previously discussed that Jerash is diversifying our geographical production capability to enhance our competitiveness in the Asia Pacific, particularly for customers like VF and New Balance who have multi-regional sales networks. This effort includes working with overseas subcontracting partners in APAC locations who have existing certifications required by these customers. We collaborate with these manufacturers to place orders on behalf of our brand customers and ensure quality and timely delivery. We believe this is a good growth opportunity and represents a capital-light and minimal risk approach to expanding our reach into Asia Pacific markets. In terms of revenue recognition, we will recognize the full value of the order and the cost of production. Because we do not do the actual production, our margins will be lower on these sales, but our cost structure is minimal, resulting in a net positive impact on the bottom line as we get to scale. In conclusion, we reported a solid third quarter and expect strongly improved financial performance in the fourth quarter with revenue growth of approximately 38% and higher gross margin. We also sold out on capacity through September of this year and expect at or close to record revenue for the June and September quarters, which are the first and second quarters in fiscal 2022, with strong gross margin to accompany the increased revenue. Jerash is back to growth and moving swiftly to take full advantage of these opportunities. We now welcome your questions.

Operator, Operator

Thank you. The first question is from Mark Argento, Lake Street Capital. Please go ahead, sir.

John Godin, Analyst

Hey guys, this is John on for Mark. Thanks for taking my question. First, can you just update us on where your total capacity is at currently? And then second, how much capacity can some of this new construction and new production lines add over the next year or so?

Choi Lin Hung, CEO

Eric, do you want to answer the capacity question about how much capacity increase we can put in for the next fiscal year?

Eric Tang, Operations Leader

For the next fiscal year, we are planning to add four production lines in-house. This addition will require approximately 500 to 600 new workers and will enable us to increase our capacity by around 0.5 million pieces. We aim to implement this over the next six months.

John Godin, Analyst

Awesome, okay. And then as far as some of the new construction that you guys are resuming, what is kind of the timing as far as the dorms and facilities go from a construction standpoint and then at what point can that additional capacity start to come online?

Choi Lin Hung, CEO

So Gilbert, are you going to answer or I will answer?

Gilbert K. Lee, CFO

I can answer and then you could add anything. So John, we're planning to start construction as soon as we approve the engineering designs of the dormitory and the factory. But it's going to take at least one and a half to two years to complete. So nothing is going to add any capacity in the next coming fiscal year.

John Godin, Analyst

Okay, and then last question for me, I'm just thinking about the strategic partnership business in Asia. How quickly can you start to ramp that up? I know you mentioned some of the profitability dynamics, but really, how long is it going to take to get that portion of the business to scale where it has a meaningful impact on the bottom line?

Eric Tang, Operations Leader

In fact…

Choi Lin Hung, CEO

I will try to answer this.

Eric Tang, Operations Leader

Go ahead, go ahead, Sam.

Choi Lin Hung, CEO

For the time specification of our orders to factories in Asia, such as Indonesia or China, we have tried some trial orders already, and we received very good feedback from New Balance, our existing customer. We expect in the coming years that we will secure orders amounting to at least $5 million to $10 million U.S. through this diversification to the offshore factories in the Asia Pacific region. In terms of profitability, the margin will be around 10% to 12%, or even up to 15%. Since we don't need to produce ourselves and our costs in pursuing these orders are low, we expect to achieve a net margin of 8% to 10% through this kind of orders with this scale of diversification in APAC countries.

John Godin, Analyst

Okay, thanks guys.

Choi Lin Hung, CEO

Thank you.

Matt Kreps, Investor Relations

Thanks, John.

Operator, Operator

Your next question is from Rommel Dionisio, Aegis Capital. Please go ahead, sir.

Rommel Dionisio, Analyst

Yes, good morning. Thank you for taking my question. As you guys are adding production capacity, I know that different countries have different rules and regulations regarding people from overseas coming in and quarantines and all that. So is the plan to continue to import workers into Jordan from Bangladesh, India, Sri Lanka, and other countries? Or will you increase the percentage of workers that come from Jordan, and if so, would there be an impact on margins if you use more domestic labor in Jordan? Thank you.

Choi Lin Hung, CEO

Eric, you can answer that.

Eric Tang, Operations Leader

Yes, okay. Actually, our percentage of migrant and local workers is 75% from overseas and 25% from local under the direction of the Ministry of Labor here. However, due to the epidemic in 2020, the Jordan government already banned the arrival of migrant workers, so for almost a year we had no newcomers from overseas. Starting from January 15, when the epidemic is well controlled in Jordan, the Ministry of Labor reopened the migrant workers’ visa. Now, starting this month, around 50 new migrant workers will be coming to Jordan to join the Jerash factory each month. At the same time, because last year we could not bring in migrant workers, we have also increased some local workers in one of our factories. This year, we also plan to increase the number of local workers by providing them with appropriate training so that they can handle more complicated tasks than before. If our training program proves successful, we will be able to employ more local workers, which can reduce our operational costs at the factory.

Rommel Dionisio, Analyst

Great, that's very helpful. Thank you very much.

Gilbert K. Lee, CFO

In terms of margin impact, there should be minimal or possibly no negative impacts to our overall manufacturing costs, the bottom line, or gross margin impact.

Rommel Dionisio, Analyst

Perfect, thank you, Gilbert. Thank you, Eric.

Eric Tang, Operations Leader

Thank you.

Operator, Operator

We have a question from a private investor, Michael Woo. Please go ahead, Mr. Woo.