Earnings Call Transcript - JRSH Q2 2022

Operator, Operator

Good morning and welcome to the Jerash Holdings' Fiscal 2022 Second Quarter Financial Results. At this time, all participants are in a listen-only mode and the floor will be open for your questions and comments following the presentation. It is now my pleasure to turn the floor to your host Roger Pondel, Investor Relations for Jerash Holdings. Sir, the floor is yours.

Roger Pondel, Investor Relations

Thank you, Kathryn, and good morning, everyone. Welcome to the Jerash Holdings fiscal 2022 second quarter earnings call. I'm Roger Pondel with PondelWilkinson, Jerash Holdings' Investor Relations firm. It will be my pleasure momentarily to introduce you to the company's Chief Financial Officer, Gilbert Lee; and Eric Tang, who leads the company's operations in Jordan. Sam Choi, the company’s CEO unfortunately is not able to join us today because of a prior business commitment. Before I turn the call over to Gilbert, I want to remind our listeners that today's call may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to numerous conditions, many of which are beyond the company's control, including those set forth in the risk factor section of the company's most recent Form 10-K and Form 10-Q as filed with the Securities and Exchange Commission, copies of which are available on the SEC's website at www.sec.gov along with other company filings made with the SEC from time to time. Actual results could differ materially from these forward-looking statements and Jerash Holdings undertakes no obligation to update any forward-looking statements except as required by law. And with that, it is my pleasure to turn the call over to Gilbert Lee.

Gilbert Lee, CFO

Thank you, Roger, and hello, everyone. Our fiscal 2022 second quarter results demonstrated continued strong progress. Revenue was at a record level for the second quarter, reflecting robust shipments to our largest customers as a result of strong demand and expanded capacity. Gross profits also represented a record for the second quarter, primarily due to higher revenue and gross margin performance. Our gross margin expanded to 22%, reflecting increased shipping volumes and an improved product mix in the second quarter. The robust momentum is continuing further into fiscal 2022 with orders for the year-to-date that we believe will lead to a revenue run rate for the year that will exceed our prior record. As a result, we have increased our revenue outlook for the full year. We continue to advance plans to increase capacity in our existing facilities and secure additional capacity to meet our customers' needs, both by building new facilities and through leases and acquisitions. We recently completed the acquisition of the operator of a 71,000 square-foot manufacturing facility in Amman, Jordan. Our agreements to acquire the related physical premises are expected to close by early next year. Eric will provide more details in a moment. I will now turn the call over to Eric Tang, who is based in Jordan. And after I will cover the financial results in further detail.

Eric Tang, Operations Lead

Thank you, Gilbert, and hello to everyone. Our factories in Jordan are extremely busy and we continue to add capacity as quickly as we can. Order volumes are up substantially and our product mix improved in the second quarter. This led to orders with higher average selling prices and margins than what we saw in the last fiscal year. Capacity is completely booked through the end of May 2022 based on orders from our largest global brand customers. As Gilbert mentioned we recently completed the acquisition of a new manufacturing facility in Jordan. Under the terms of the agreement, Jerash assumed manufacturing licenses and existing operational capabilities including all machinery, equipment, 500 workers, and the dormitory. We took over production of the new facility in August, and we are now manufacturing products for our own customers. Our separate agreement to acquire the land and building that house the apparel manufacturing operations is expected to close in the next month or two. The new facility is expected to enable Jerash to produce approximately 2.5 million to 3.5 million additional garments per year. That is approximately a 20% increase in our current annual capacity. In addition, the facilities give us the ability to scale up even further. Construction of a new dormitory for our multinational workforce is progressing well and is expected to be completed by the third quarter of calendar year 2022. The high-quality living space with comfort designs and highest safety measures will help position us for growth and further our ESG goals. With that, I will turn the call back to Gilbert to discuss our financial results and fiscal 2022 outlook. Gilbert, please.

Gilbert Lee, CFO

Thank you, Eric. Our fiscal 2022 second quarter revenue rose substantially to $46 million from $27 million in the same period last year, an increase of nearly 70%. The increase was primarily due to higher shipments to our largest customers in the quarter. The highest sales volume reflects stronger demand as well as increased capacity. Gross margin expanded 40 basis points to 22.1% in the fiscal 2022 second quarter, compared with 21.7% in the same period last year. Gross margin expansion in the quarter reflects a higher proportion of export orders which typically carry higher gross margins, as well as increased production and sales volume. Operating expenses totaled $4.5 million in the fiscal 2022 second quarter, compared with $2.9 million in the same period last year. The increase is primarily reflected in headcount additions to support our growth, higher shipping costs that were in proportion with increased sales volumes, and expenses related to COVID-19 precautions and recruitment of new migrant workers. Operating income rose to $5.6 million in the fiscal 2022 second quarter from $3.0 million in the same period last year. Comprehensive income attributable to Jerash's common stockholders increased to $4.4 million, or $0.39 per share in the second quarter from $2.6 million, or $0.23 per share in the same period last year. Our balance sheet remained strong, with cash of $26 million and net working capital of $54 million at September 30, 2021. Inventory was $21 million, and accounts receivable was $13 million. Net cash provided by operating activities was $22 million in the fiscal 2022 second quarter, compared with $9 million in the same period last year. The net change was primarily due to working capital activity. Inventories and accounts receivable decreased to normal levels in the second quarter following strong increases in the first quarter. We expect the business to generate cash from operating activities on an annualized basis. We continue to have access to supply chain financing programs with our major customers and an untapped $3 million line of credit available. As you know, we also recently completed a public offering of 1.4 million shares at a price of $7 per share. The total number of shares included 1 million shares issued and sold by the company and 400,000 shares sold by a selling shareholder. The company received net proceeds of $6.25 million from the offering, which we expect to use for working capital and expansion plans. In terms of our fiscal 2022 outlook, we're increasing revenue guidance to be in the range of $125 million to $130 million as strong demand continues and our capacity expands. We also anticipate revenue in the fiscal 2022 third quarter to be in the range of $31 million to $33 million. Orders continue to reflect high-margin jackets and other outerwear products, which are expected to support gross margins in the high teens for the full fiscal 2022 year. I would also like to remind you that operating expenses are expected to be higher in fiscal 2022, reflecting our growth and pandemic's impact on last year's first half. We also anticipate stock-based compensation to be at a higher level for the rest of fiscal 2022 compared with the same period last year. While customer orders remain strong, it is important to note that potential risk from supply chain issues that some of our customers are facing could affect the timing of shipments in the near term. We'll continue to monitor developments over the next few months and give you an update on the next quarter's earnings call. In addition, our Board of Directors approved a regular quarterly dividend of $0.05 per share to our common stockholders on November 2, payable on November 29, 2021 to stockholders of record as of November 22, 2021. And with that, we will now open the call for questions. Operator, may we have the first question, please?

Operator, Operator

Ladies and gentlemen, the floor is now open for questions. Your first question is coming from Michael Baker with D.A. Davidson.

Michael Baker, Analyst

Just a couple for me. One, so very strong results and we appreciate the increase in guidance. The guidance for the third quarter though 32 million is the midpoint often look pretty strong, 55% year-over-year. But that is a little bit of a slowdown from the first half and even if you look at on a two-year basis, it's a little bit of a slowdown. And then, again, if we now have the full year guidance in the first half, and the third quarter guidance, we can back into the fourth quarter. And that's a further slowdown, in fact down year-over-year and a slowdown in the second quarter. So my guess is it's just the uncertainty of the environment and don't read too much into it. But the numbers do suggest a slowdown. So I just was wondering if there's anything more that we should think about as to why the business might slow?

Gilbert Lee, CFO

Thank you, Michael. You're correct. We anticipate a slowdown in the second half compared to the first half, which was stronger than the pandemic-affected first half of fiscal 2021. However, the second half of fiscal 2021 rebounded quite well. Thus, when comparing the second half of fiscal 2022 to the second half of fiscal 2021, the growth won't match the first half's performance. We remain somewhat cautious due to global supply chain challenges impacting all sectors, leading to product shortages and extended lead times. The situation's improvement is uncertain, and we prefer not to place high expectations on Q3 and Q4. In Q3, we believe we will meet our guidance based on current orders, but unforeseen issues may arise, similar to last year's shipment delays toward December. Therefore, we are adopting a more conservative outlook for Q3 and Q4 due to ongoing uncertainties.

Michael Baker, Analyst

Yes. That makes sense and I appreciate that conservatism. One more, I guess, maybe along the same type of lines, maybe the answer will be similar. But your year-to-date gross margin is 20.8%. You said the full year you expect high teens. So again, that implies lower margins at least sequentially in the back half of the year. I know that some seasonality in there, but again, anyways, why the gross margins wouldn't be quite as strong in the second half of the year?

Gilbert Lee, CFO

Well, it's entirely because of seasonality. Usually, our first half would have stronger margins. And the second half will be much lower. Because in the second half, we were producing for the summer or warmer type clothing. And the first half is mostly for winter jackets and outerwear products. And then, the second half, we also expect to have some higher volume below ASP sales to some of the mass merchandisers and more trading sales to New Balance in the second half. So that will pull down the margin somewhat.

Operator, Operator

Your next question is coming from Mark Argento with Lake Street Capital.

Mark Argento, Analyst

It was a great quarter. Regarding the second half, the growth rate is challenging because the comparisons in Q4 are tougher. Last year, you saw an increase of over 60 percent in Q4, so those numbers are quite significant. However, in terms of capacity utilization, you are currently operating at maximum capacity, and it appears your orders are booked through May.

Gilbert Lee, CFO

Yes.

Mark Argento, Analyst

What's the prospects or finding additional capacity to be able to kind of supply that demand that you guys see out there?

Gilbert Lee, CFO

Well, we're actively looking. Actually, we're constantly looking for additional capacity. But at the same time, I think we still have some room to grow. First of all, at the newly acquired MK Factory, there's still room to increase the number of people, increase the number of machines. So those are probably ongoing as soon as we see the need, we will be able to immediately increase some capacity. Maybe, Eric, you can add something about the capacity growth.

Eric Tang, Operations Lead

Yes, we currently have 500 workers at our newly acquired MK Factory, which has a total capacity of around 900 workers. If the business continues to grow, we can hire an additional 400 workers to expand the factory's capacity. In addition to acquiring a new factory, we are also renovating our existing facilities. We have three factories producing garments in the industrial zone, and we are working on internal renovations to consolidate departments to create more space for additional production lines. This will allow us to increase our in-house capacity while minimizing costs. This project is already underway and is expected to be completed by the first quarter of next year.

Gilbert Lee, CFO

Yes. At the same time, we are still studying and we should be able to start construction in the next three to six months on our larger piece of land that we plan to build a new factory. So we're currently still doing our internal studies and looking over all the engineering designs and construction contractors' bid or we haven't sent it out for bid yet but as soon as we finish our internal study, I think we will get that going. So that is a much longer term capacity increase.

Mark Argento, Analyst

How long? Like when can you bring a facility like that online? Is that a two-year build? Or how quickly can you turn something there?

Gilbert Lee, CFO

No, actually, we're trying to get it down to within one year. Is that right, Eric?

Eric Tang, Operations Lead

Yes. Within one year and one and a half.

Mark Argento, Analyst

Great. Just one quick question in terms of customers, I know you had mentioned in your prepared remarks that you saw an uptick, and I think you called an export order. So just want to understand what that was. And then any new kind of brands or customers in the mix, I know it's hard to go sell, additional manufacturing capacity when you guys are capacity constrained as you are currently, but any new brands or any new customers that you brought on the platform?

Gilbert Lee, CFO

Thanks. Well, we try. We're going to run the trial order by Adidas, but because of capacity constraint, we may not be able to bring them on in the near future, as one of our major customers, but I don't know, maybe there are some other potential customers talking to us. But at this point, I don't think we have any solid, big customer increase. Is that right? Eric?

Eric Tang, Operations Lead

Yes. We have been approached by Adidas last year. I mean, okay, sorry, I'm in the middle of this year, okay to see if we have capacity. But unfortunately, we are overbooked. So in order to do the pre-production arrangement, Adidas sent a team to audit Jerash factory and we got approval already. So we are now an approved vendor of Adidas. So Adidas already sent us one trial order around 10,000 pieces, okay, we are going to produce next year in February. So after this trial order, if the quality is acceptable to them, they will proceed to discuss with how much capacity we can provide to them each month. So this is the latest situation of another big brand, Adidas.

Operator, Operator

Your next question is coming from Rommel Dionisio with Aegis Capital.

Rommel Dionisio, Analyst

In the past, you guys have in addition to talking about expanding production capacity in Jordan, you also talked about looking at perhaps some additional capacity in China, just given all the supply chain issues going there. Have you sort of changed your view on that, and are looking to refocus your efforts on Jordan? Or how do you guys think about that? Thanks.

Gilbert Lee, CFO

Well, you're right, Rommel. The current supply chain issues are actually forming a trend that everybody is trying to shorten their supply chain. So getting a factory or getting capacity in China and supplying the North American or European market is just not going to be competitive. And maybe we misstated or misrepresented, but we have never even considered having a factory in China. We do have orders going into China by New Balance, but we supply those orders by outsourcing our production to two factories in Southeast Asia. So those are the so-called trading orders. And apart from the exporting order that we have in Jordan, which we produce in Jordan and export to North America or to Europe, those are the exporting orders that we actually produce ourselves. Now, of course, we also outsource or contract some of the production when we run our capacity to local Jordanian manufacturers, who are also qualified by our customers. In the Southeast Asian factories, they are also qualified by our customers first before we can outsource to them. So maybe that's some misunderstanding that we were looking for building or acquiring factories in China. But as you said, in the current situation, that may not be such a wonderful strategy.

Operator, Operator

Your next question is from Michael Woo.

Unidentified Analyst, Analyst

I have a question about New Balance. Can you give me some update on the New Balance business going forward?

Gilbert Lee, CFO

Eric, do you want to take this one on New Balance?

Eric Tang, Operations Lead

Yes, we started New Balance, I think around one and a half years ago. And New Balance is trending actually to transfer more orders to Jordan. Before, they were mainly producing in China and also some Southeast Asia countries. Now, because they understand that Jordan has a free trade agreement with the U.S. and also Europe. So from last year, they already started transferring most of the orders, stage by stage from Southeast Asia and China to Jordan to our facility. And in Jordan, we are the only factory in apparel who is producing New Balance garments.

Unidentified Analyst, Analyst

So, my question is, like, I know, you're doing really well, like last quarter, you did like 10 million, right? Do you have any numbers for this quarter, and then going forward, what’s the business outlook for New Balance line?

Eric Tang, Operations Lead

I think currently we are doing around 23% for New Balance garments in view of our overall production. So, but this year we are already talking with New Balance about increasing capacity and providing to them. So for our newly acquired MK factory, we can provide more capacity for them. And they already told us that they need to do it. So for New Balance, we are expecting that the business will increase from 23% to at least 30% next year.

Gilbert Lee, CFO

To answer your question, Michael, most specifically, last quarter, we did about $9.2 million with New Balance. And this quarter, we did about $6.4 million. The reason for the decrease this quarter with New Balance is because this quarter is primarily VF, the North Face. This is a very strong quarter for the North Face. But next quarter, we project New Balance to be back into the $10 million or $11 million level. So New Balance is growing very fast and strong in terms of sales to them.

Unidentified Analyst, Analyst

That's great. That's great. So how about the North Face line? I assume it's really strong in this quarter. I mean, the first half, and if it exceeds the 2019 level or do you have a number for that half-year?

Gilbert Lee, CFO

Well, the entire first half we did $57 million for the North Face.

Unidentified Analyst, Analyst

Oh, that's a lot. Okay. Great. Thank you.

Gilbert Lee, CFO

That's already higher than last fiscal year's entire number.

Operator, Operator

You have a follow up question coming from Michael Baker.

Michael Baker, Analyst

Can you remind us about the December 20 quarter from last year? In my model, the gross margins for Q3 '21 were down by nearly 800 basis points. What caused that? And as we look ahead to the third quarter of this year, considering the margins were 19.3 two years ago and 11.7 last year, what should we expect moving forward for the third quarter?

Gilbert Lee, CFO

I don't quite remember what caused that significant decrease in the gross margin. The sales were not that bad. I mean, obviously, it was worse than the previous year because of the pandemic. So part of it would be due to not fully utilizing the capacity. And the third quarter, usually, we have more local orders, local meaning Jordanian orders that have a really low margin, maybe sometimes even less than 10%. And I’m trying to look back at what the mix is for that physical quarter Q3, but I can’t find it.

Michael Baker, Analyst

I guess, how should we think about it for this year? That's really the important point.

Gilbert Lee, CFO

Well, for this year, it's going to be lower than the first two quarters, for sure. But it will be better than last year. We are projecting about 16.5% to 17% gross margin for this third quarter.

Michael Baker, Analyst

Understood. Yes. That makes sense. Okay. Yes. I appreciate that. Thank you.

Operator, Operator

We have no further questions from the lines at this time. I would now like to turn the floor back to Gilbert Lee for closing remarks.

Gilbert Lee, CFO

Thank you, Kathryn. And thanks again to everyone for joining us today and for your support and interest in our company. We look forward to speaking with you again on our fiscal 2022 third quarter earnings call.

Operator, Operator

Thank you, ladies and gentlemen. This does conclude today's event. You may disconnect at this time and have a wonderful day. Thank you for your participation.