Earnings Call Transcript - MEI Q2 2026

Operator, Operator

Good day, and welcome to the Methode Electronics Second Quarter Fiscal 2026 Financial Results Conference Call. I will now turn the call over to your host, Mr. Randy Wilson, Vice President of Investor Relations and Treasury. Randy, the floor is yours.

Randy Wilson, Vice President of Investor Relations and Treasury

Thank you. Good morning, and welcome to Methode Electronics Fiscal 2026 Second Quarter Earnings Conference Call. Our fiscal 2026 second quarter financial results, including a press release and presentation, can be found on the Methode Investor Relations website. I'm joined today by Jon DeGaynor, President and Chief Executive Officer; and Laura Kowalchik, Chief Financial Officer. Please turn to Slide 2 for our safe harbor statements. 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. We will be discussing non-GAAP information and performance measures, which we believe are useful in evaluating the company's operating performance. Reconciliations for these non-GAAP measures can be found in the conference call materials. The factors that 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. Please turn to Slide 3, and I'll turn the call over to Jon DeGaynor.

Jonathan DeGaynor, President and Chief Executive Officer

Thanks, Randy, and good morning. I'd like to welcome everyone to our earnings call, and I appreciate your interest in Methode. I want to start by thanking our global team for their continued focus on our customers and on our operational performance while navigating through a very difficult and dynamic operating environment. Your efforts are paying dividends. The Methode transformation is firmly on track with much more work to do, but the trajectory is positive and is progressing largely according to plan. We are pleased to report that our improvement efforts and disciplined execution against those initiatives have delivered sequential improvement in our financial results. Our net sales for the quarter were $247 million, up 3% sequentially, with adjusted EBITDA rising 12% sequentially to $18 million. There was a usage of cash in the quarter, driven by a one-time customer initiative. We were able to improve quarterly free cash flow by $47 million year-over-year, and our first half cash flow results were in line with management estimates. Finally, we expect the second half of fiscal 2026 to be stronger, so we are reaffirming our full year sales guidance of $900 million to $1 billion and our adjusted EBITDA of $70 million to $80 million. Please turn to Slide 4, and I will discuss our operational and strategic accomplishments for the quarter as we have significantly increased the intensity of our improvement actions to drive financial performance. I've said previously, our Egypt and Mexico facilities needed significant management attention and leadership upgrades. We've had members of my staff dedicating a large portion of their time on the ground in both of these facilities to drive improvement. I'm pleased to say that our actions have resulted in quality, delivery and cost improvements in both sites. The Egypt facility is ahead of Mexico on its transformation journey, but both facilities are making significant progress. We continue to refine our organization and align our portfolio and business structure, working as One Methode by strengthening leadership and the company culture. Very simply, we are moving from a regional siloed organization to one where teams are global and work cross-functionally to rapidly drive improvement. The top grading of leadership is now substantially completed across the organization, ensuring that we have the right people in place to execute our strategy. Our product portfolio is well aligned with key megatrends, including data centers and vehicle electrification, and we are driving a disciplined approach to long-term growth investments. A major strategic footprint action is also underway with the relocation of our corporate headquarters to Southfield, Michigan, which positions us for future growth and operational efficiency. We look forward to being closer to our automotive customers and to having almost all of our functions under one roof. Please turn to Slide 5. Methode's Power Solutions offerings actually go back more than 60 years, and we are using this history and our expertise to bring solutions to our customers. Our data center activity was just over $40 million in fiscal 2024 and last year generated over $80 million in annual sales. We continue to expect to see long-term growth in this area. One of the most exciting aspects for me in this business is the ability to apply core competencies that have been built over decades to current and future products in different end markets. These capabilities can be brought to bear to better address the megatrend-fueled opportunities in the EV and data center spaces. Looking ahead, as we implement more customer-focused solutions like vendor-managed inventory, utilize our global footprint more aggressively and develop solutions for problems like high-voltage in data centers, it provides us with opportunities to differentiate Methode in ways that we have not in the past. We continue to expect our fiscal 2026 Power sales to be in line with fiscal 2025. We also expect a sales acceleration in the future as our data center growth strategy positions us to take a larger share of customer demand. Our Power solution offerings are clearly a long-term growth engine for Methode. Please turn to Slide 6. As you think about the transformation of Methode, it has been a journey and the starting point for that 18-month journey was to stabilize the base. It started by fixing launch execution, and we had 50-plus launches between fiscal 2025 and fiscal 2026 to deliver while improving customer satisfaction and product quality in multiple regions, so we needed to address these fundamental challenges first. A revamp of our most important plants in Mexico and Egypt, both from a leadership and execution standpoint, was next. We have changed all but 2 of the senior leaders and many of the team members below those leaders in the company. Standing up a new team who are driving a more global approach, diagnosing situations and pinpointing weaknesses has dramatically helped move things forward. We are nearing the end of this foundation-building phase of our transformation journey. And now starting to discuss what the next chapter is as the foundation is corrected. In this next phase, we can start talking about leveraging synergies with credibility. Because without execution as a foundation, we would not have the credibility with customers and shareholders to talk about what's next. Overall, we've been laser-focused on improving execution and making Methode a more reliable and resilient company, and this is showing up in our results. I'll now turn it over to Laura for a discussion of our financial results.

Laura Kowalchik, Chief Financial Officer

Thanks, Jon. And turning to Slide 7. First, let me note that fiscal 2026 is a 52-week year and fiscal 2025 was a 53-week fiscal year. The 3 months ended November 1, 2025, and November 2, 2024, were 13- and 14-week periods, respectively. Second quarter net sales were $246.9 million compared to $292.6 million in fiscal 2025, a decrease of 16%, while on a sequential basis, sales increased 3%. The year-over-year decrease in sales reflected lower volume across all segments. Second quarter adjusted net loss was $6.7 million, an $11.9 million change from fiscal 2025 and on a sequential quarter basis, a reduction of adjusted net loss by $1.1 million. Second quarter adjusted EBITDA was $17.6 million, down $9.1 million from the same period last year. And on a sequential quarter basis, adjusted EBITDA increased $1.9 million. Second quarter adjusted diluted loss per share was $0.19, a $0.33 decrease from the prior year second quarter and a $0.03 improvement from Q1 fiscal 2026. Overall, our improvement efforts to drive expanded margins when we return to sales growth are still underway. Please turn to Slide 8, where I will discuss the progress made with our disciplined capital allocation strategy. Net debt was down $29.6 million compared to the same period last year as we continue to drive cash flow and debt reduction. We ended the quarter with $118.5 million in cash, which was up $21.5 million year-over-year. Operating cash usage in the second quarter was $7.4 million, but we generated $17.7 million in the first half of fiscal 2026. An item to note in the quarter was a $10 million inventory build to support the transition to vendor managed inventory for our data center customers. With that said, our operating cash flow performance in the quarter would have been positive without the vendor managed inventory impact. Second quarter free cash flow was a usage of $11.6 million compared to a usage of $58.4 million in the fiscal second quarter 2025, reflecting a $46.8 million improvement on a year-over-year basis. Turning to Slide 9. Again, please note that fiscal 2025 was a 53-week fiscal year and fiscal 2026 is a 52-week fiscal year. For fiscal 2026, we are reaffirming our expectation for sales to be in a range of $900 million to $1 billion and for adjusted EBITDA to be in a range of $70 million to $80 million. We expect our second half results to be higher than the first half, as we have previously communicated. Q3 results will reflect traditional seasonality with improvement expected in Q4. For fiscal year 2026, we expect free cash flow to be positive compared to an outflow of $15 million in the previous fiscal year. Our fiscal 2026 guidance represents a solid foundation for the Methode team to further build on. We are pleased with the results year-to-date, and our team is focused on finishing the second half of fiscal 2026 strongly. With that, I will hand it back to Jon for closing remarks.

Jonathan DeGaynor, President and Chief Executive Officer

Thanks, Laura. And please turn to Slide 10. The Methode team is not standing still and is working with a high sense of urgency and purpose to drive improved execution. This quarter's results demonstrate that our business is moving decisively in the right direction, yet there is still important work ahead as we rebuild the future of Methode. We are aggressively driving financial improvement to strengthen our balance sheet and deliver our fiscal 2026 guidance. At the same time, we are selectively investing in initiatives such as data centers that will position Methode for long-term growth. We are transforming Methode into a more reliable and resilient company, one that is poised to generate long-term value for our shareholders. And with that, operator, please open the line for questions.

Operator, Operator

Our first question is coming from Luke Junk with Baird.

Luke Junk, Analyst

Jon, maybe if we could start with the Power business this quarter. Just hoping to square kind of current trends that you're seeing right now between the big drivers there in terms of EV and data center. And then in terms of that full year expectation, maybe if you could break that out similarly, are you expecting some growth in data center to be offset by EV? Or are those trending more similarly, would you say?

Jonathan DeGaynor, President and Chief Executive Officer

Thanks, Luke. I think it's important to note, as we've talked before, the year-over-year headwind from an EV standpoint, we've already really taken that hit with some of the launches and the things that we've talked about, whether it's delays in certain Stellantis programs or other programs. When you understand overall EV volumes or when you understand our volumes, automotive is on a year-to-date basis, automotive within Methode is 44% of total sales. EVs represent 41% of that and North American EVs is 12% of that. So total revenue year-to-date in North America for EVs is less than $12 million. So when we talk about EVs and we talk about the headwinds of EVs, I think it's important for everybody to understand, as we've said multiple times that our EV exposure is not just in North America, it's in Europe and Asia, and it's a much greater percentage of our total than in North America. We expected it to be much higher as we've talked about in previous quarters, but those launches did not come to fruition. So we've already taken that hit. With regard to data centers, as we mentioned to you on the last call and as we talked about at the Baird conference a few weeks ago, we're very optimistic about the opportunity to grow, and the move to vendor managed inventory gives us an opportunity to take share and to get a lot more clarity with regard to the sales forecast. But as we have said, we will not adjust our guidance from a data center standpoint until that EDI is locked in. So I believe there is tailwind to come in that. It is not something that we can talk about here in Q2, but I'm very confident in the team that Brad Perotti is leading and the work that we're doing to deepen our relationships with customers. We would not have made this investment in the $10 million of vendor managed inventory if we did not feel confident that this was a source of growth for us.

Luke Junk, Analyst

Yes. I mean I appreciate the investment, Jon. I was just wondering if we could put a finer point on the 2Q trends. Just was the Power business similar to what you're expecting for the full year in terms of just being relatively flat? And within that, did data center show any growth overall in the second quarter versus 2Q last year?

Jonathan DeGaynor, President and Chief Executive Officer

Yes, data centers are on track with our expectations, perhaps slightly ahead. The data center revenue for Q2 aligns perfectly with our full-year outlook. Regarding the EV business, the main challenges are in North America due to delays or cancellations of launches, which we have already accounted for. This is why we initially projected $100 million less in revenue. Our exposure to automotive is only 44%, with just 36% of that in North America. Therefore, our revenue headwinds related to automotive are quite limited, and the challenges for EVs in North America are also manageable. We remain aligned with our expectations, but we are not seeing positive impacts from commercial vehicles or agricultural and industrial sectors yet. The data center operations are progressing well, and we remain hopeful about their future, though it’s not sufficient for us to raise our guidance at this time.

Luke Junk, Analyst

Got it. Just in terms of the guidance, reiterating overall sales and EBITDA and the comment that the second half should be stronger. I mean, certainly appreciate the seasonality in the third quarter from a top line standpoint. Should we think that second half versus first half strength primarily through the lens of EBITDA? Just want to clarify that.

Jonathan DeGaynor, President and Chief Executive Officer

Well, I think what you should think about, and Laura can give you a little more detail on sort of the year-over-year improvements. I think what you should think about is the sequential improvements in our 2 biggest facilities and the progress that we've made in both Egypt and Mexico. And as I said in my prepared remarks, Mexico is behind Egypt with regard to that performance. But Laura will talk a little bit on just where we are today.

Laura Kowalchik, Chief Financial Officer

Yes. In Egypt, our gross margins have nearly doubled due to reductions in scrap and freight costs. We have also improved our talent pool at both the leadership level and the level below. In Mexico, margins have decreased due to a reduction in volume, but we are focusing on cost reductions, including direct and indirect labor and salaries. Additionally, material, freight, and scrap costs are also down in Mexico.

Jonathan DeGaynor, President and Chief Executive Officer

To clarify, Luke, you can expect a significant increase in sales conversions due to the reduction in costs associated with poor quality, premium freight, and other improvements we are making in the plants. As we progress through these launches, you'll start to see the positive impact on our run rates. This is why we are quite confident about the outlook for the second half of the year.

Operator, Operator

Our next question is coming from John Franzreb with Sidoti & Company.

John Franzreb, Analyst

I guess I'm just curious about the guidance. We're more than halfway through with the year. We have a seasonally weak third period coming up. Are you comfortable at the lower end of the guidance or at the upper end based on your current visibility today?

Jonathan DeGaynor, President and Chief Executive Officer

John, due to the significant external volatility, Nexperia is still facing challenges. We continue to experience instability in commercial vehicle sales and a variety of economic uncertainties. This is the reason we haven't refined either the upper or lower end of our guidance and why we maintain our revenue and adjusted EBITDA guidance as it stands. The predictability and performance of the business have improved compared to 12 to 18 months ago. However, we are still frequently discussing tariffs and their potential impact on future revenue. We believe it would be unwise to adjust those figures at this time until we gain more clarity on the ongoing turbulence in the external market.

John Franzreb, Analyst

Okay. Fair enough, Jon. In the quarter, I noticed there was a nice improvement in the industrial operating profit on a sequential basis and a nominal increase in revenue. Is that totally due to data centers? Or can you provide some color what drove that sequentially?

Jonathan DeGaynor, President and Chief Executive Officer

No. Basically, it goes back to the improvement in our plants. We've mentioned previously that these plants are, except in very specific situations, shared between our industrial and automotive activities. The improvements in the plants positively impact the P&Ls of the different segments. Our plants are getting better, which allows us to feel confident about our guidance without needing to rely on revenue boosts. This is particularly true for Mexico and Egypt, both of which are showing improvement. Our plant in Malta has significantly improved, and the plants in China continue to perform well. I want to thank the team for their efforts. The two locations that were struggling 18 months ago have shown significant progress, providing us with greater predictability as we discuss shareholder value and the associated reliability, starting with the enhancements in our plants.

John Franzreb, Analyst

Jon, there's a point where you voiced concerns about new program rollouts and you want to get beyond that. And you just mentioned 50 so far in '25 versus '26. Are we beyond the point given the new personnel that you've hired in multiple levels, where that's no longer a significant worry for you at this point?

Jonathan DeGaynor, President and Chief Executive Officer

The trend lines from our launches are moving in a positive direction. Many of these launches occurred in Egypt and Mexico. Although the plant's performance is improving, we faced issues such as premium freight during the program launches. The most problematic launches, those involving customers on-site, have mostly been resolved. However, a few challenges remain, particularly regarding the differences between the phases in Mexico and Egypt. We now have new team members and external support helping us to stabilize and enhance these launches. Overall, the major launch challenges are mostly behind us, but there are still some issues to address.

John Franzreb, Analyst

Okay. Fair assessment. I guess one more question. It appears that you're past the part of stabilizing the business and moving on to addressing revenue and cost-cutting drivers. Can you kind of walk us through the road map to returning to profitability? What's going to be the biggest drivers here? Is it going to be on the cost-cutting, part rationalization? Or is it going to be really a top line-driven story here to get you back in the black?

Jonathan DeGaynor, President and Chief Executive Officer

If you consider our year-over-year improvement in EBITDA, the midpoint of our current EBITDA guidance compared to last year indicates an increase from $43 million to $75 million, reflecting an increase of $32 million despite $100 million less in sales. This reflects our efforts to reduce costs related to quality and waste in our plants. We have streamlined operations by removing over 1,000 positions from our two main facilities in Mexico and Egypt. We will keep refining these operations, and the relocation of our headquarters will serve as both a cost-saving measure and an enhancement of capabilities. We will persist with cost adjustment initiatives while focusing on ramping up new programs and increasing activity in our data center. Our goal is to drive revenue and position ourselves to benefit from perceived increases in commercial vehicle volumes around calendar 2027, which aligns with the later part of our fiscal 2026 and into our fiscal 2027, as we anticipate some revenue growth despite current headwinds in each of our markets. We are confident that the business is well set up for profitability across all levels of the income statement.

Operator, Operator

Our next question is coming from Gary Prestopino with Barrington Research.

Gary Prestopino, Analyst

A couple of housekeeping questions here. Laura, this was the quarter where it was 12 versus 13 weeks last year. Is that correct?

Laura Kowalchik, Chief Financial Officer

That's correct.

Gary Prestopino, Analyst

Okay. So on a like-for-like basis, can you give us some idea of what the sales were down?

Laura Kowalchik, Chief Financial Officer

Yes. The sales were about roughly $20 million for one week?

Gary Prestopino, Analyst

$20 million that was incrementally added by that one week?

Laura Kowalchik, Chief Financial Officer

For last year, yes.

Gary Prestopino, Analyst

Okay. And then I noticed you didn't report the percentage of your sales to EV and hybrid applications, which you had done in the past. Are you not reporting that anymore? Or can you share that with us?

Jonathan DeGaynor, President and Chief Executive Officer

I don't have the specific quarterly details, but in the first half, automotive made up 44% of our total sales, amounting to $217 million. Electric vehicles account for 41% of that. For full transparency, this includes all components related to electric vehicles, not just our Power products. Of that 41%, 71% is from Europe, 18% from Asia, and 12% from North America. In the first half of fiscal 2026, our electric vehicle sales in North America were $11.5 million. So when discussing electric vehicle penetration in North America and its potential impact, it's important to note that this has already been considered in our guidance, which includes projections related to Stellantis and other programs that we've discussed.

Gary Prestopino, Analyst

Right. I understand that. I'm just trying to square with what you guys had reported in the past. And I'll work through that. That includes EV and hybrid, right?

Jonathan DeGaynor, President and Chief Executive Officer

No. This is just based on platform specific; it's EV stuff. As we talk about business wins and where there are opportunities for Power going forward, those would be both in EVs and hybrid vehicles, and we talk about that separately. But these are for EV-based platforms.

Gary Prestopino, Analyst

Okay. And then in your guidance, the tax expense of $17 million to $21 million, is that all cash taxes, Laura? Could you give us some idea of what the cash taxes will be?

Laura Kowalchik, Chief Financial Officer

No. Some of that, as is noted on the slide, it does include a $10 million to $15 million valuation allowance on deferred tax assets. So that's...

Gary Prestopino, Analyst

So if I back that out of your range then to get an idea of what cash taxes could be?

Laura Kowalchik, Chief Financial Officer

Yes, yes.

Gary Prestopino, Analyst

Okay. All right. And then, Jon, I wanted to talk about your program launches. Like I went through my reports over the last quarter, 30 program launches you're anticipating this year. You say you've taken all the hits from the reduction in the EV programs. So in the back half of the year, number one is, how many programs are expected to be launched? And are these programs all dealing with ICE applications? Or can you give us some idea of where those programs are? Is it all auto? Is it across all of the different segments like industrial or whatever?

Jonathan DeGaynor, President and Chief Executive Officer

I don’t have the regional breakdown, but most of the programs we are launching are power-based, primarily focusing on either electric vehicles or hybrids, with some examples featuring both. Currently, the new launches are mostly taking place in Mexico rather than in EMEA, where we experienced some challenges earlier. This contributes to why Egypt is ahead of Mexico in the transformation process. The significant impact we faced regarding delays or cancellations occurred mainly in North America. This is a key reason for the challenges in the North American auto sector, as we lost expected revenue of over $100 million annually from canceled Stellantis programs. As we mentioned before, we are in discussions with Stellantis on this matter, but we are moving forward with multiple program launches in Mexico and are ramping up initiatives in Egypt and Malta, in addition to our programs in the Asia Pacific region.

Operator, Operator

We have another question from John Franzreb with Sidoti & Company.

John Franzreb, Analyst

Yes. Just regarding the cash outflow in the quarter, click back of the envelope suggests that there was a cash outflow in the receivables in the quarter. Is that like seasonal timing? If I did the numbers right, it seems like it was $12 million in the quarter. Or is there something else to that? I'm sorry, $14 million in the quarter.

Laura Kowalchik, Chief Financial Officer

Yes, that's correct. There was $14 million. It was up from last year and that's due in last quarter due to the sales increase in the quarter compared to last quarter.

John Franzreb, Analyst

Okay. Okay. So there's nothing else unusual about that?

Laura Kowalchik, Chief Financial Officer

No, there are some receivables that were collected in November after the end of our quarter. So it came down in November.

John Franzreb, Analyst

Excellent, Laura. Since Jon mentioned tariffs, I notice that there's been no new information in the slide presentation compared to the fourth quarter. Can we assume that both the previous bridge discussion and the tariff details remain the same as in our last presentation? Or is there anything we should be updated on?

Jonathan DeGaynor, President and Chief Executive Officer

There are no new updates from an investor perspective regarding tariffs. As we have mentioned, we are collaborating closely with our customers to mitigate any tariffs whenever possible, and our USMCA facility supports this effort. We are adjusting our manufacturing processes to assist with this. However, for tariffs that we cannot avoid, we are passing on those costs to customers and working with them accordingly. Therefore, there are no changes for us in terms of financial impact. I want to emphasize that the tariff situation, especially the recent chip issue, continues to create instability and challenges for our customer plans, much of which is beyond our control. This is why it remains difficult to narrow down our revenue guidance at this time.

John Franzreb, Analyst

Okay. That's fair. And I guess one last question as we close out the calendar 2025 calendar. I'm kind of curious about how you envision calendar 2026 in some of the, let's call it, problematic end markets. Do you view the overall automotive sector as up or down, same with the ag and the Class 8 truck market. What are your thoughts in aggregate about how calendar 2026 plays out?

Jonathan DeGaynor, President and Chief Executive Officer

We rely on third-party forecasters because we currently do not have an extensive internal economic team. IHS indicates that the current fiscal year will show slight improvement in overall volume compared to the calendar year. They also predict that 2026 and 2027 will see better conditions in the commercial vehicle sector, especially in the latter half of 2027, coinciding with our fiscal 2027. In discussions with customers regarding our electronics business, Nordic Lights, and Grakon, we anticipate some positive trends rather than challenges ahead. What gives me confidence is that we have improved our performance despite limited favorable news in the market. While there have been positive developments in the data center segment, other markets have faced challenges. The commercial vehicle sector, which is known for its cyclical nature, continues to thrive as there will still be demand for trucks. For calendar year 2026, we expect improvements mainly in North America and a modest uptick in Europe toward the end of our fiscal year and the beginning of fiscal 2027.

Operator, Operator

Thank you. And that concludes our Q&A session. I will now hand the conference back over to Mr. Randy Wilson for closing remarks. Please go ahead.

Randy Wilson, Vice President of Investor Relations and Treasury

Thank you for joining us today and your interest in Methode. Take care, everyone, and have a great rest of the day. And with that, operator, please disconnect the call.

Operator, Operator

Thank you. Ladies and gentlemen, this concludes today's call. You may disconnect your lines at this time, and have a wonderful day, and we thank you for your participation.