Earnings Call Transcript - MEI Q1 2026

Operator, Operator

Good day, everyone, and welcome to the Methode Electronics First Quarter Fiscal 2026 Results. It is now my pleasure to turn the floor over to your host, Robert Cherry, Vice President, Investor Relations. Sir, the floor is yours.

Robert Cherry, Vice President, Investor Relations

Thank you, operator. Good morning, and welcome to Methode Electronics Fiscal 2026 First Quarter Earnings Conference Call. For this call, we have prepared a presentation entitled Fiscal 2026 First Quarter Financial Results, which can be viewed on the webcast of this call or found at methode.com on the Investors page. This conference call contains certain forward-looking statements, which reflect management's expectations regarding future events and operating performance and speak only as of the date hereof. These forward-looking statements are subject to the safe harbor protection provided under the securities laws. Methode undertakes no duty to update any forward-looking statement to conform the statement to actual results or changes in Methode's expectations on a quarterly basis or otherwise. The forward-looking statements in this conference call involve a number of risks and uncertainties. The factors that could cause actual results to differ materially from our expectations are detailed in Methode's filings with the Securities and Exchange Commission, such as our 10-K and 10-Q reports. On Slide 4, please see an agenda for our call today. We will begin with a business update, then a financial update, followed by a Q&A session. At this time, I'd like to turn the call over to Mr. Jon DeGaynor, President and Chief Executive Officer.

Jonathan DeGaynor, President and Chief Executive Officer

Thanks, Rob, and good morning, everyone. Thank you for joining us for our first quarter earnings conference call. I'm also joined today by Laura Kowalchik, our Chief Financial Officer. Let's start with the key messages. Please turn to Slide 5. I'm happy to report the Methode transformation is firmly on track. There's still much more to do, but the trajectory is according to plan. We had another good quarter for Data Center Power Product sales with growth over the prior year. Our income from operations was up $9 million from the prior year. This was the result of reduction in SG&A costs and operational improvements that we have been sharing with you. This is clear evidence of Methode starting to earn the right, as we like to say. Another example of excellent improvement is the third straight quarter of strong free cash flow and net debt reduction. Our management team is maintaining a key focus on both the income statement and the balance sheet. As we look to the remainder of fiscal '26, we are confidently affirming our guidance. Despite all the various headwinds that we are facing, the company still expects to double its EBITDA for the full year, even with a $100 million decline in sales driven by lower EV demand. The ability to affirm this profit growth is a direct result of the significant and tireless efforts of the Methode team. They put a lot of work into our transformation, and the progress is tangible. Turning to Slide 6 and our results for the quarter. Our sales were $241 million, down $18 million year-over-year as we continue to navigate the transition in programs that we have previously communicated. We remain on track to launch over 30 new programs this year, with most of the launches scheduled for the remainder of the year. In addition, the ongoing strength of our Power products activity was able to partially offset the program transition headwind. We recorded a $9 million increase in operating income, driven by the SG&A reductions and operational improvements that I previously mentioned. At the adjusted EBITDA level, we delivered $16 million, up $6 million year-over-year. All of this is further evidence of the actions that we have taken to improve our operations, supply chain, and product launch capabilities. In these three key areas, our performance in EMEA, particularly in Egypt, has notably improved while we continue to see solid ongoing performance in Asia. Both free cash flow and debt reduction continue to be good stories for us. The business delivered free cash flow of $18 million in the quarter, which was the third quarter in a row of strong free cash flow. In turn, we reduced our net debt level also for the third quarter in a row, and we have now reduced it by $41 million over the last three quarters. These results provide more evidence of an organization whose operating efficiency is improving. Turning to EV activity. Sales were down slightly year-over-year, but we were up on a percentage basis. For the quarter, they were 19% of our consolidated total, an increase from 18% last year. On a sequential basis, they were down from 20%. We do remain bullish on the long-term mega trend in EVs. However, the near-term outlook remains soft, mostly in North America, which is partially being offset by the strength in Europe and Asia. Based on customer EDI forecasts and third-party industry projections, we still expect a significant overall rebound in EV sales in fiscal '27. Turning to Data Centers. Sales growth was a solid 12% year-over-year. As a reminder, we did have record sales in the fourth quarter of '25. So not surprisingly, our sales were lower sequentially. However, we still expect fiscal '26 sales to be similar to fiscal '25 with some upside potential. As I mentioned last quarter, we are achieving this performance based on our existing product technologies. We also have an opportunity to leverage our Power expertise developed over decades and honed by our EV activity to capture even more growth. The opportunity is being driven by vast increases in power density sought by data center operators for future installations. Again, it's too early to share any more details on this, but it is very promising for future growth in our Power Solutions enterprise. Turning to Slide 7. I want to spend a little more time on our Power Solutions enterprise. Power products are in Methode's DNA. Our experience goes back many years to the time when we supplied busbars and sensors on the Apollo Lunar Landers and on the original IBM mainframe computers. Now those years of experience and expertise are being leveraged on today's power distribution needs in electric vehicle, data center, and military and aerospace applications. As you can see from the chart on this slide, those applications have helped drive our Power Solutions sales to a healthy 30% compound annual growth rate over the last three years. Going forward, we see even more opportunities for sales growth. For Data Centers, the need for higher voltage busbars is driving further product innovation. In EVs, we are starting to supply interconnect boards for a more efficient power architecture. Lastly, from military and aerospace applications, we are supplying advanced products to meet the growing needs of defense equipment manufacturers. In all these cases, we are bringing our One Methode mindset to bear and drawing on our global creativity to drive innovation by listening to the customers' needs and bringing them solutions like cutting-edge high-voltage power products. Our Power history and DNA are providing Methode with a competitive differentiation in the marketplace. In regard to our forecast for fiscal '26 Power sales, given our guidance for flat Data Centers and decline in EV, our sales will moderate this year before reaccelerating next year. Power Solutions are clearly a long-term growth engine for Methode, and we are actively investing in this area. Turning to Slide 8. I'll give a brief update on where Methode is on its transformation journey. As I have said before, transformations are never easy, and I make a distinction between transformations and turnarounds. Quite simply, the transformation is about fixing a business in a way that enables it to evolve and positions it for future growth. The Methode journey is undoubtedly a transformation. Like any journey, the path is not linear. The first order of business was stabilizing the base, which included the significant organizational changes that we made in previous quarters. It meant focusing on executing program launches while simultaneously revamping plants and installing a new team, all in the face of numerous external distractions. We have worked hard to remediate practices that had stagnated or institute practices where they didn't exist. We now have better visibility into the business and are driving more global collaboration and efficiency, especially around engineering, product management, and supply chain. The work is showing in many areas but is exemplified in our improved working capital. We are now better positioned to leverage synergies and utilize core competencies to align with market megatrends like Data Centers and EVs. Our improvements are creating opportunities in other areas as well. We have seen a notable uptick in RFQs and RFPs, which is being driven by our ability to leverage our global footprint and respond to market changes. As a result, we are seeing potential future sales growth from takeover business. This takeover business is in both automotive and non-automotive markets, and it will likely result in even more customer diversity for Methode. While the financial results are not yet where we want them, our team has accomplished much since the beginning of our transformation journey, and a foundation has been laid for us to drive consistent and improved execution. At this point, I'll turn the call over to Laura, who will provide more detail on our first quarter financial results and guidance.

Laura Kowalchik, Chief Financial Officer

Thank you, Jon, and good morning, everyone. Before I begin, I would like to address the cause of our delay in reporting first-quarter earnings. Shortly before our original reporting date, we discovered an inadvertent miscalculation of dividend equivalents. This caused us to exceed our restricted payments basket for the first quarter as per our credit agreement. The amount was not material but was in excess of what the agreement allowed. We subsequently needed time to obtain a waiver from our banks, which we could not disclose until the matter was resolved. The waiver was successfully obtained. Please turn to Slide 10. The first-quarter net sales were $240.5 million compared to $258.5 million in fiscal '25, a decrease of 7%. On a sequential basis, sales decreased 6%. The quarter saw continued growth in the sale of Power products, including data center applications. In the Automotive segment, sales were weaker in North America as we continue to experience a net negative impact from the transition from legacy programs to new ones. We also experienced continued sales weakness in commercial vehicle lighting applications. First-quarter adjusted income from operations was $2 million, an increase of $6.7 million from fiscal '25. On a sequential basis, adjusted income from operations increased $23.6 million from the fiscal '25 fourth quarter. Please see the appendix for a reconciliation of all adjusted measures to GAAP. On a year-over-year basis, gross profit was relatively flat despite the $18 million on lower sales. The main driver of the improved operating income was a $9.6 million reduction in S&A related to lower professional fees and compensation expenses. In the sequential comparison, the fourth quarter of fiscal '25 included an excess and obsolete inventory expense and discrete inventory adjustments of $15.2 million. Overall, despite the $18 million sales headwind, Methode delivered operating income growth both over the prior year and sequentially. Please turn to Slide 11. Shifting to EBITDA, a non-GAAP financial measure. First-quarter adjusted EBITDA was $15.7 million, up $5.9 million from the same period last year. On a sequential basis, adjusted EBITDA increased $22.8 million from the fiscal '25 fourth quarter. As with operating income, EBITDA increased despite the sales headwinds, driven mainly by a reduction in S&A and other operational improvements. Please turn to Slide 12. First-quarter adjusted pretax loss was $5.1 million, an improvement of $4 million from fiscal '25. On a sequential basis, adjusted pretax loss improved $23.5 million from the fiscal '25 fourth quarter. Again, the pretax loss improved despite a 7% sales headwind year-over-year and was driven mainly by a reduction in S&A and other operational improvements. First-quarter adjusted diluted loss per share was $0.22, a $0.09 improvement from the prior year and a $0.55 improvement from the fiscal '25 fourth quarter. Overall, our cost reduction efforts clearly bore fruit this quarter and set Methode up for improved margins when we return to sales growth. Please turn to Slide 13. The first quarter's net cash from operating activities was $25.1 million, up from $10.9 million in fiscal '25. First-quarter capital expenditures were $7.1 million, down from $13.6 million in fiscal '25. The lower CapEx was according to plan as much of the program launch investments are behind us, and we are becoming more efficient in our spending on the new launches. First-quarter free cash flow, a non-GAAP financial measure, was $18 million as compared to negative $2.7 million in fiscal '25, an increase of $20.7 million. This increase was mainly due to the lower working capital and lower capital expenditures. This was our third quarter in a row of strong free cash flow. Please turn to Slide 14. Just like free cash flow, we had our third quarter in a row of reduced net debt, a key focus of the Methode management team. Total debt was up $5.8 million from the fourth quarter. The increase was mostly driven by foreign exchange as the majority of our debt is based in euros. We ended the quarter with $121.1 million in cash, up $17.5 million from the fourth quarter. Net debt, a non-GAAP financial measure, decreased by $11.7 million from the fourth quarter to $202.3 million. We have now reduced net debt by $41 million over the last three quarters. Please turn to Slide 15. Regarding forward-looking guidance, it is based on management's best estimate and is subject to change due to a variety of factors as noted at the bottom of this slide. For fiscal '26, we are affirming our expectation for sales to be in a range of $900 million to $1 billion. Please note that fiscal '25 was a 53-week fiscal year and fiscal '26 will be a typical 52-week fiscal year. So we will have one less week in fiscal '26 compared to the prior year. We are also affirming our expectation for EBITDA to be in the range of $70 million to $80 million, and we expect the second half of the year to be higher than the first half. As you can see from the charts on the right of the slide, we expect fiscal '26 EBITDA to be higher than both fiscal '24 and '25 despite a significant reduction in sales over that same time period. As a percentage of net sales, we expect almost a doubling of EBITDA margin from 4.1% to 7.9%. In regard to free cash flow, as previously noted, we had a strong start to the year. For the full fiscal year '26, we expect free cash flow to be positive versus the negative $15 million in the previous fiscal year. The fiscal '26 guidance assumes the current market outlook based on third-party forecasts and customer projections, the current U.S. tariff policy, depreciation and amortization of $58 million to $63 million, CapEx of $24 million to $29 million, interest expense of $21 million to $23 million, and a tax expense of $17 million to $21 million, of which $10 million to $15 million is for valuation allowance on deferred tax assets. Our practice has been to treat the valuation allowance as a non-GAAP item for our adjusted earnings calculations. So to echo Jon, this guidance represents a solid foundation for the Methode team to further build on. That concludes my comments, and we can now open it up to questions.

Operator, Operator

Your first question is coming from Luke Junk from Baird.

Luke Junk, Analyst

Jon, maybe starting with Automotive, clearly most challenging results relative to Methode overall still. I know there's a lot of countervailing factors there. Just hoping to better understand relative to the overall outlook for EBITDA to double this year. How you see the Automotive segment contributing to that incrementally, especially beyond some of the non-repeating operating items that were in the P&L last year? And then even beyond this year, assume out maybe a couple of years? Just kind of what you envision for that business at a high level on the operating side of the house?

Jonathan DeGaynor, President and Chief Executive Officer

I think it's important that we separate out by region. That's why we specifically talked about the performance in EMEA and the transformation in Egypt. We have Automotive business around the world and our business in EMEA has significantly improved on a year-over-year basis. Part of the challenge that we have in North America, as you well know, is the transition of some of the historic programs rolling off that specifically hit us in Mexico. So the Automotive business globally, I would say the performance activities are impacted disproportionately in North America due to just the roll-off of that program and the subsequent delay in the EV programs, particularly with regard to Stellantis as we've mentioned to you. So we have a bit of a tremendous amount of progress in EMEA. We have stability and good performance in Asia, and we have challenges both from an execution standpoint as we talked about in the Q4 call, but also from a revenue headwind perspective in North America. The second part of your question, where do I see it going forward? As we talked about, we expect to see the volumes start to stabilize and grow in fiscal '27 from an EV standpoint, and that will create tailwinds for our Mexican facilities and basically for our North American business. And then you also see some of the Data Center activity that we're putting into Mexico that will help it. So I see leverage from all of our segments in our facilities, and that will help the business going forward.

Luke Junk, Analyst

And maybe a related question, just in terms of Asia. So I know there's been program roll off impacting that business in Automotive as well, if we look at the sales base following that roll off fairly limited on a quarterly basis right now. Just maybe at a high level, strategically, how you're thinking about Asia. And clearly, relative to EV is one of the trends that you're most focused on probably the most opportunity-rich region in China, especially.

Jonathan DeGaynor, President and Chief Executive Officer

Our Asia team is taking the lead in developing new products for electric vehicle applications. Many of our advanced manufacturing activities are centered in Asia, making it our primary location for product launches, developments, and validations. Although we faced challenges with the discontinuation of one customer's programs, I see significant progress. The organization operates efficiently from both an operational and engineering standpoint, as well as in managing working capital. They have established credibility with clients in both the Power sector and the Data Center, and the EV Power sector, allowing us to expand our presence globally.

Luke Junk, Analyst

Got it. And then maybe just a quick one on the interface business. I know that in the bridge you've given us for the current fiscal year, there was an appliance program roll-off reflected in that bridge. Are we seeing that in the first-quarter results yet and to what extent there might be any offsets from the transceiver business that we're seeing in the P&L right now?

Jonathan DeGaynor, President and Chief Executive Officer

The reason we did put that bridge in there is the situation is consistent with what we have said in previous quarters. So the roll-off, as we talked about in the fiscal year and how they're going to move year-over-year is consistent from one quarter to the other. So yes, you're seeing the impact of the roll-offs both from the user interface as well as from the Whirlpool business, and then we see the ramp-up of some of the new programs as well as the backfill with some of the data center activity.

Operator, Operator

Your next question is coming from John Franzreb from Sidoti.

John Franzreb, Analyst

I'm curious, last quarter you provided a slide that kind of really took a deep dive into the tariff outlook. Has there been any change in your tariff expectations, be it positive or negative?

Jonathan DeGaynor, President and Chief Executive Officer

There has been no change, John. The impact we experienced was about $1 million, which is more related to timing than anything else for the quarter. We have remained consistent in our approach to tariffs and will not absorb the additional costs. We have worked with our customers on this. Therefore, there hasn’t been any change from what we communicated in previous quarters, and we feel fairly confident about the situation in Washington based on what we see now and the relationships we maintain with customers. Additionally, the current tariff environment is actually creating new opportunities for us because our operations are USMCA compliant and we can deliver in North America with over 97% compliance. This has opened up RFQ opportunities that were not present six or nine months ago, and we have new customers engaging with us.

John Franzreb, Analyst

That's good to hear. And in terms of restructuring actions, can you talk a little bit about how far along are you in this process, Jon? You just got the low-hanging fruit at this point? And maybe some more color of what kind of we should expect maybe in fiscal 2026?

Jonathan DeGaynor, President and Chief Executive Officer

We've discussed the changes in our leadership team and the consolidation of our headquarters. We are on schedule to complete this consolidation by the middle of this fiscal year. We are also evaluating ways to reduce costs globally through potential cuts in engineering, warehouse activities, and other facilities. Currently, there are no material changes to report. We have reduced our headcount by around 500 people and are continuing to adjust that. A significant part of the improvement driving our EBITDA and performance growth is due to these headcount reductions in various locations, especially in Mexico and Egypt.

John Franzreb, Analyst

Got it. When you look at the end markets, the truck, agriculture, and construction sectors have been particularly favorable. I'm curious about your thoughts on how those end markets will develop in the year ahead based on what your customers are saying.

Jonathan DeGaynor, President and Chief Executive Officer

We continue to receive indications from our customers and forecasting services like ACT that the commercial vehicle sector remains down by 5%. We anticipate a rebound in 2026, although we have not yet seen this reflected in EDI. However, our Lighting business has been actively working to strengthen customer relationships, leading to more RFQs, and we are also noticing interest in the Power segment from the commercial vehicle market. While this does not result in immediate revenue impact, it does have future significance and aligns with our goal of being recognized as a trusted partner by our customers, beyond just Lighting. Despite ongoing softness in the commercial vehicle and Ag and construction markets, we are gaining business due to improved organizational execution.

Operator, Operator

Your next question is coming from Gary Prestopino from Barrington.

Gary Prestopino, Analyst

Okay. A couple of questions here. First of all, when you reported Q4, you gave us a sales bridge for sales guidance for this year. Has anything changed dramatically in that bridge? I mean, are we still looking at a $40 million reduction in Stellantis programs and then about $48 million of other program launches positive on the sales side?

Jonathan DeGaynor, President and Chief Executive Officer

And that's the reason why we didn't put the bridge back in again, Gary, as there's nothing to change. So as you think about how you model it, just go back and get that as the basis.

Gary Prestopino, Analyst

And just wanted to make sure there. Couple of questions here surrounding busbars for data centers, okay. Is this mostly a new construction market, what you guys are supplying? Or is there a repair and replace component of this market for these busbars for data centers?

Jonathan DeGaynor, President and Chief Executive Officer

This is primarily new construction and everything that we talked about with regard to our guidance is what we would refer to as sort of current technology. We're working with them on future advanced activities. None of that is in our guidance. We're excited about those opportunities, but it's a little bit too soon to talk about from a revenue perspective. But everything that we're talking about here is sort of current product technology and is new construction with multiple end customers.

Gary Prestopino, Analyst

My question is about the new construction aspect. It’s uncertain how long the growth in data centers will continue. I'm curious if there are plans to make this business become a significant part of the overall market. According to the chart on Page 7, it seems that enterprise value comprises about 60% of sales, while data centers account for roughly 35% of fiscal '25 sales. Is there a way to increase this proportion, or are you limited by the nature of the new construction market?

Jonathan DeGaynor, President and Chief Executive Officer

No, we're not range bound because remember, we have a relatively small share of the total. So what we've done, and we talked about it in previous calls, to be more responsive to our customers and offer them utilizing our global footprint in a more efficient way than what we've done in the past has allowed us to grow share on the current data center product. That's where you see the growth between fiscal '24 and fiscal '25, that also is giving us opportunities with expansion because we weren't on every one of their designs for the current data centers. But in addition to that, and so that's what we talked about is in our current guidance. In addition to that, then, as they look at putting higher voltages into their data centers and bringing high voltage closer to the rack, we are working to try to help them with that. And that's growth on top of what you see here. So the chart on Slide 7 is historical, and yes, it is Power activities, not just for data centers, but for Mil/Aero as well as EV. But what you heard me say earlier is now we're starting to talk about commercial vehicles. We're starting to talk about utilizing those core competencies in other pieces of our end markets and with our existing customers as well as what's the next product families with our existing customers like the data center customers. So we expect this as an opportunity for growth. That's what I mentioned in my script.

Gary Prestopino, Analyst

Okay. And then I want to also ask about the EV side of the business here. Can you give us an idea of the percentage of your EV sales that our products for EVs, I should say, that are outside the U.S., which will be mainly China and Europe, I suppose?

Jonathan DeGaynor, President and Chief Executive Officer

As we consider fiscal 2025, it's important to focus on the overall picture rather than comparing individual quarters. We sell more than just busbars for electric vehicles. In fiscal 2025, our total revenue from EV products is estimated to be around $220 million, which represents 20% of our revenue; 55% of that revenue came from the EMEA region, 16% from Asia, and 30% from North America. This data shows that our exposure to EVs is not limited to North America. We anticipated significant growth in North American EV sales, particularly with Stellantis and several other customers. However, we are facing some challenges in North America. Overall, the distribution of our sales is fairly balanced across different regions. Absolutely.

Operator, Operator

Thank you. That concludes our Q&A session. I will now hand the conference back to CEO, Jon DeGaynor for closing remarks. Please go ahead.

Jonathan DeGaynor, President and Chief Executive Officer

Yes, I want to thank all of you for joining us and for your interest in Methode and for your questions. We look forward to updating you on our progress in future calls. And have a great day.

Operator, Operator

Thank you, everyone. This concludes today's event. You may disconnect at this time, and have a wonderful day. Thank you for your participation.