Sypris Solutions, Inc. (NASDAQ:SYPR) Q4 2022 Earnings Call Transcript

Sypris Solutions, Inc. (NASDAQ:SYPR) Q4 2022 Earnings Call Transcript March 17, 2023

Operator: Good day and welcome to the Sypris Solutions Incorporated Conference Call. Today’s call is being recorded. At this time, for opening remarks, I’d like to turn the call over the President and Chief Executive Officer, Mr. Jeffrey Gill. Please go ahead, sir.

Jeffrey Gill: Thank you, and good morning, everyone. Rich Davis and I would like to welcome you to this call the purpose of which is to review the company’s financial results for the fourth quarter and full year 2022. For those of you who have access to our PowerPoint presentation this morning, please advance to Slide 2 now. We always begin these calls with a note that some of what we might discuss here today may include projections and other forward-looking statements. No assurance can be given that these projections and statements will be achieved and actual results could differ materially from those projected as a result of several factors. These factors are included in the company’s filings with the Securities and Exchange Commission.

And in compliance with Regulation G, you can access our website, sypris.com, to review the definitions of any non-GAAP financial measures that may be discussed during this call. With these qualifications in mind, we’d now like to proceed with the business discussion. Please advance to Slide 3. I will lead you through the first half of our presentation this morning, starting with an overview of the highlights for the quarter to be followed by an update on the outlook for each of our primary markets. Rich will then provide you with a more detailed review of our financial results for the quarter and the year. Now let’s begin with the overview on Slide 4. We are pleased to report that revenue for the quarter increased 15.2% year-over-year and 17.9% sequentially, reflecting continued strength across each of our business segments.

Gross profit for the quarter increased 4.3% year-over-year and 133% sequentially, supported by a 164% expansion for Sypris Electronics and a 107% increase for Sypris Technologies, each when compared to the third quarter of 2022. The company reported earnings of $0.01 per share which reflected an improvement of $0.11 per share sequentially from the third quarter of last year. Orders for the quarter were up 103% year-over-year and increased 71% sequentially, while backlog rose 117% year-over-year and 17% sequentially. Both segments contributed to the year-over-year growth despite the well-reported challenges of the supply chain. Quarterly revenue for Sypris Electronics increased 13% year-over-year, while orders jumped 110% and backlog climbed to $118.5 million at the end of 2022, up $64.5 million year-over-year and up $18.1 million sequentially.

In a similar fashion, revenue for Sypris Technologies increased 17% year-over-year, while orders for the segment’s energy products increased 71% during the period resulting in a 76% year-over-year increase in backlog at year-end. Turning now to Slide 5. We’ve been pleased to announce several additional new contract awards during the quarter, more specifically at Sypris Electronics. In early October, we announced that we’d entered into an amendment to an existing multiyear supply agreement to include the production of electronic power logic assemblies for a large mission-critical Navy program. The amended contract, including options, now provides for the purchase of up to $77 million of assemblies from Sypris over the term of the agreement, representing a 39% increase in potential volume when compared to the original base contract announced in early 2022.

In conjunction with the amendment, we also received releases for the first year of production with shipments scheduled to begin in 2023. The modules to be produced by Sypris will be integrated into an electronic warfare improvement program for the U.S. Navy. According to new sources, the upgrade will provide the capability to actively jam incoming missiles that threaten a warship, cue decoys and adapt quickly to evolving threats. The improvements to the electronic attack portion will provide integrated countermeasures against radio-frequency guided threats according to the Navy. The U.S. Naval Institute reported that the systems capability for non-kinetic electronic attack options can be further deployed in additional critical areas, from advanced communications to multi-role waveforms, the multifunction applications of the system will provide enhanced mission-critical capabilities to the U.S. Navy fleet while presenting opportunities for future reductions in cost, size, weight and power.

And in November, we announced that we had received a follow-on award from a U.S. DoD prime contractor to manufacture and test embedded circuit card assemblies that will perform certain of the cryptographic functions for the Army Key Management System. The AKMS is a fielded system that consists of 3 subsystems, Local Communications Security Management Software, the LCMS, Automated Communications Engineering Software, the ACES and the simple key load device. Under the umbrella of our nation’s Electronic Key Management System, the AKMS provides tactical units and sustaining bases with an organic key generation capability and an efficient, secure electronic key distribution needs. The LCMS workstation provides automated key generation, distribution and communication security accounting.

The ACES, which is a frequency management portion of the AKMS has been designated by the Military Communications Electronics Board as a standard for use by all services in the development of the frequency management, cryptographic net planning and signal operations instructions generation. The embedded circuit card assemblies to be produced by Sypris will perform the cryptographic functions for a ruggedized, portable, handheld simple key load device that will be used to securely receive, store and transfer data between compatible cryptographic and communications equipment. The device incorporates features that provide for the streamlined management of communications security key, electronic protection data and signal operation instructions.

Production is expected to begin in 2023. Subsequent to quarter end, you will note on Slide 6 that we announced an award to produce and test electronic interface modules for Department of Defense weapon system that is an important part of the DoD’s ongoing modernization effort. Production on this program is expected to begin later in 2023. And in March of this year, Sypris Technologies announced that it entered into an amendment to its current supply agreement with Detroit Diesel Corporation, a subsidiary of Daimler Truck North America. Daimler Truck North America is itself a subsidiary of Daimler Truck Holding AG, one of the world’s largest commercial vehicle manufacturers. The amendment adds a new series of part numbers to the agreement with DDC for drivetrain components for use of DDC’s Detroit branded drive axles.

The components to be produced by Sypris will be essential to the performance of the drive axles of freightliners, heavy-duty vehicles. Production of these additional part numbers under the amended contract are expected to commence in 2023. Each of these contracts are representative of the high cost-of-failure applications for which Sypris is well known. We expect the momentum of new contract wins to continue during 2023 and we remain very optimistic about the potential for future program and revenue growth as we move forward. In summary, we are pleased with the substantial progress that continues to be made across our business. The supply chain challenges are beginning to abate, and our focus is clearly on meeting the growing demand of our customers.

We have reached the inflection point of future shipments now expected to reflect the impact of our growing backlog. Looking forward, the substantial growth of this backlog, when combined with the improving outlook for the supply chain provides us with the confidence to increase our outlook for 2023. Our new forecast now includes top line growth of 25% to 30%, margin expansion of 175 to 225 basis points and for cash flow from operations to once again be solid because — reflecting the benefit of our earnings growth. Now let’s advance to Slide 7 to review the outlook for each of our major markets. According to ACT Research, the demand for the production of Class 8 heavy vehicles increased 19% in 2022 and is expected to remain essentially flat at this elevated level during 2023.

There are many factors that are having a positive influence on the demand for transportation, unfilled demand from 2022, capacity shortfalls in the supply chain, elevated carrier profitability and the continued transition to e-commerce, among other factors. Shortages of semiconductor chips, steel and other components have served to hold down OEM production levels, pushing the backlog well into 2023. The current ACT outlook calls for medium- and heavy-duty truck production to remain at elevated levels into Q3 before easing somewhat in the second half of 2023. Turning now to Slide 8. The market for the transportation and use of natural gas is key for Sypris, and it has become increasingly dynamic over this past year. European countries boosted LNG imports by 60% in 2022 to offset declining pipeline shipments from Russia.

As part of the strategic response to their former dependency on Russia for the reliable supply of natural gas, Europe has embarked upon an aggressive campaign to source its needs elsewhere. The IEEFA forecasts that Europe will increase its LNG import capacity by 33% by the end of 2024 and that the global LNG market will see a tidal wave of projects come online starting in mid-2025. The outlook projects that 64 million metric tons of annual liquefaction capacity will be added by 2026. The U.S. is a major provider of LNG and became the world’s largest exporter in 2022 with plans to do even more in the future. The maps to the right depict the various projects underway in the U.S. and Europe, identifying those that are operational, under construction, approved and proposed.

The 76% growth in our energy products backlog year-over-year reflects the strong and growing demand to support these infrastructure programs. We remain cautiously optimistic that this positive outlook will remain in effect for some time to come. As you’ll see from the chart on Slide 9, the long-term market for defense spending remains positive. And within the overall budgetary allocations spending for technology upgrades no strategic platforms continues to be a very high priority. Our backlog for future business now stands at $118.5 million that is up 119% or $64.5 million as of year-end with firm orders now extending well into 2024. We are very pleased with the level of new business momentum and we are optimistic that this important trend will continue going forward.

During previous calls, we discussed the changes that have taken place in our market mix over the past several years. Turning now to Slide 10. Please note that revenue is now forecast to increase 25% to 30% for 2023, with shipments to our customers in defense-related markets expected to result in a 32% increase in overall mix, rising to 37% of sales in 2023, up from 28% of sales in 2022. We believe that additional opportunity exists to further diversify our business, and we will continue to aggressively pursue this outcome. Now let’s turn to Slide 11 for a brief summary. Revenue for the quarter increased 15%. Our backlog grew by 117%, providing a strong platform to support future growth in 2023. Backlog at Sypris Electronics now stands at $118.5 million, reflecting a 119% or $64.5 million increase from the prior year-end.

In a similar fashion, backlog for our energy products is up more than 76% year-over-year. Our markets are in good shape. Defense spending is rising and we may yet feel some additional tailwind depending upon the future outcome of the current unfortunate geopolitical situation. Our recent contract awards are expected to provide further support for top line expansion during the year, while we remain optimistic about the potential to get additional contract wins and successes. As a result, we have increased our outlook for 2023, but from the initial guidance we provided in November of last year. Revenue is now expected to increase 25% to 30% year-over-year. We expect gross margin to follow suit, expanding 175 to 225 basis points in 2023, while cash flow from operations is forecast to remain strong supported by our outlook for earnings growth.

Quite simply, we are looking forward to the task of building the business profitably during the coming year and beyond. Turning now to Slide 12. Rich Davis will lead you through the balance of our presentation this morning. Rich?

Rich Davis: Thanks, Jeff. Good morning, everyone. I’d like to discuss with you some of the highlights of our fourth quarter financial results. Please advance to Slide 13. Q4 consolidated revenue was $29.7 million, an increase of 15.2% from the fourth quarter of last year, driven mainly by an increase in bookings in 2022 and an increase 17.9% sequentially as we recovered from supply chain issues in Q3. Consolidated gross profit was $4.6 million for the quarter, an increase of 4.3% from the prior year and up 133% sequentially on the growth in revenue over the prior quarter. While gross margin was off 160 basis points compared to the prior year Q4 due to an unfavorable shift in mix, it was up 770 basis points sequentially to 15.5% on the rebound in revenue.

Revenue for Sypris Technologies increased 16.6% year-over-year to $17.2 million for the quarter. Gross margin was down 290 basis points from the prior year due to raw material price increases passed through to the customer without markup. However, gross margin was up 660 basis points from Q3 on increased shipments of higher-margin branded products. While production in the Class 8 truck market at the OEM level continue to be constrained in 2022, by supply chain issues unrelated to the availability of the components we manufacture, it continued at a high level compared to the prior year. However, our shipment volume went down in Q4 as our customers rebalance their inventory levels at year-end, shipments have subsequently returned to normal levels in January.

Class 8 demand finished 2022 with a 19.2% increase over 2021 and is expected to be essentially flat at that high level through 2023 with a slight decline in the second half. Fourth quarter orders and backlog for energy products increased 71% and 76%, respectively, year-over-year, and we expect revenue from these products will increase in 2023. On the cost side, we are experiencing some of the inflationary pressures that are being felt across the economy. Prices of consumable supplies and tooling have increased as have utility rates. We are working both internally and with our vendors on cost-effective solutions to control spend in these areas. We also incurred additional costs during the year to support increased demand in the commercial vehicle market in 2022 and new programs planned for 2023.

The price of steel has increased over the prior year and certain of our contract terms provide for sales price adjustments to pass increased costs on to our customers. Our engineering and product development teams have also initiatives underway to reduce steel consumption in both our forging and machining processes to improve our margins and deliver cost savings to our customers. Revenue for Sypris Electronics was $12.5 million for the quarter, an increase of 13.2% from the prior year and 53% sequentially as it rebounded from the supply chain issues that impeded shipments in the third quarter. Gross margin was at 18.9%, an increase of 20 basis points from the prior year and 790 basis points from Q3 on the rebound in revenue. We ramped up an advanced version of an assembly for a large defense electronics program in the quarter, while production for communication customers also continue to increase.

We continue to expand our workforce in the quarter at Sypris Electronics to reinforce the team’s efforts to execute the significant planned increase in shipments in 2023. When not limited by material availability, these efforts along with increased capital expenditures will boost manufacturing capacity and capability for the planned increase. As we increase production and transition from limited rate to full rate build on programs, our margin rates typically increase during the life of the program as labor productivity improves and engineering resource requirements and rework decline. As programs mature, we also have the opportunity to reduce material costs by working together with our suppliers and customers, to qualify components that lower our cost per unit.

Consolidated operating income for Q4 was $800,000, down 28% from the prior year, mainly due to increases in selling and administrative costs but up 150% sequentially due to the revenue improvement in Q4. Our operations teams are focused on execution and meeting our objectives for customer service and cost. The strong backlog in place provides a solid foundation to support growth into 2023. Please advance to Slide 14. Consolidated revenue for the full year increased $12.7 million or 13% from the prior year. Both segments contributed to the year-over-year revenue growth. Consolidated gross profit increased 2.4% to $14.9 million. Gross margin decreased year-over-year by 140 basis points to 13.5% on unfavorable mix. Revenue for Sypris Technologies increased 12.2% year-over-year to $69.3 million, and gross profit increased 5.4% to $8.6 million.

Gross margin decreased 80 basis points to 12.3% for the period. The 2022 revenue mix for Sypris Technologies was unfavorable compared to the prior year due to increased revenue from material price pass-through adjustments which increased revenue without increasing gross profit, driving a decrease in gross margin. Revenue for Sypris Electronics increased 14.5% from the prior year, though gross profit decreased 1.4% to $6.3 million. Gross margin declined 250 basis points to 15.4%. In comparison of year-over-year revenue gross margin for Sypris Electronics reflects the material availability challenges we faced during 2022 and their impact on overhead absorption along with unfavorable mix compared to the prior year. Excluding the results of Q3, which was quite negatively impacted by the supply chain challenges, 2022 gross margin would have been 110 basis points higher.

2022 operating income decreased $1.5 million from the prior year due mainly to decrease — increases in selling and administrative costs. The comparison of year-over-year net income highlights the $3.6 million benefit recognized in 2021 on the forgiveness of the PPP loan. Please advance to Slide 15. On this slide, we show our trend of consolidated gross margin for 2021 and 2022, along with the performance expected for 2023. 2022 decreased by 140 basis points from the prior year on production inefficiencies induced by the supply chain challenges and unfavorable mix. With the strength of shipment volume increases required by the increase in our backlog, we expect revenue growth in the range of 25% to 30% as we enter 2023. We expect to deliver year-over-year margin improvement in the range of 175 to 225 basis points, placing us at a 15.5% margin at the midpoint of this range in 2023.

We again want to recognize the efforts of all of our teammates involved in securing the orders received this year to push our backlog to a record level, and we are excited about the opportunity this provides to improve our margins and profitably grow our business. We also want to recognize and thank our reinforced Sypris Electronics team for its intense focused efforts to meet its customers’ expectations for rising shipments in 2023 and the Sypris Technologies team for similar efforts to implement new programs for existing customers. We will also continue our efforts to diversify our markets served and our customer base to deliver more value-add services to our customers, which we believe can provide further upside to our current margin levels.

Please advance to Slide 16 for a quick summary of our comments. A key highlight for the quarter and the year was the significant increase in orders and backlog in both segments. Sypris Electronics orders were $105.4 million for 2022, up 87% year-over-year, increasing its backlog to $118.5 million from $54 million in 2021. We expect shipments to rise in 2023 as a function of the increase in backlog. Sypris Technologies energy products orders were up 23% for the year with fourth quarter orders up 71% over the prior year period. The outlook for Sypris Technologies remains favorable, with the current forecast for Class 8 production in 2023, basically even with a high level of 2022 and further supported by planned increases in new programs with existing customers.

Sypris Technologies has augmented its product line and distribution resources to expand its energy products presence in Europe, Asia and the Middle East. We expect both segments will generate double-digit year-over-year top line growth in 2023, significantly increasing gross margin. Based on our record backlog and momentum in orders, we expect continued revenue growth of 25% to 30% and a 175 to 225 basis point improvement in gross margin in 2023. Thank you for your continued support and interest in our business. Now I’d like to turn it over to Jeff for closing remarks.

Jeffrey Gill: Thank you, Rich, and thank you, everyone, for joining us on the call this morning. We’re looking forward to another year of double-digit growth, expanding margins and increased profitability. And please note, we appreciate your continued interest in our business. Thank you, and have a great day.

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Operator: