Good day, and thank you for standing by. Welcome to the Stoneridge Second Quarter 2023 Conference Call. At this time all participants are in a listen-only mode. [Operator Instructions] Please be advised that today's conference is being recorded.

I would now like to hand the conference over to your first speaker today, Kelly Harvey, Director of Investor Relations. Kelly, you have the floor..

Good morning, everyone, and thank you for joining us to discuss our second quarter results. The release and accompanying presentation was filed with the SEC yesterday evening and is posted on our website at stoneridge.com in the Investors section under Webcasts and Presentations.

Joining me on today's call are Jim Zizelman, our President and Chief Executive Officer; and Matt Horvath, our Chief Financial Officer. Before we begin, I need to inform you that certain statements today may be forward-looking statements.

Forward-looking statements include statements that are not historical in nature and include information concerning our future results or plans. Although we believe that such statements are based upon reasonable assumptions, you should understand that these statements are subject to risks and uncertainties, and actual results may differ materially.

Additional information about such factors and uncertainties that could cause actual results to differ may be found in our 10-Q, which was filed with the Securities and Exchange Commission under the heading Forward-Looking Statements. During today's call, we will also be referring to certain non-GAAP financial measures.

Please see the appendix for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures. After Jim and Matt has finished their formal remarks, we will then open up the call to questions. With that, I will turn the call over to Jim..

Thanks, Kelly, and good morning, everyone. Let me begin on Page three. In the second quarter, we drove strong top line growth and significant margin improvement resulting in financial performance that exceeded the expectations we outlined on the first quarter call.

As expected, we finalized the majority of our pricing negotiations in the second quarter, resulting in retroactive and forward-looking price increases. Additionally, we continue to focus on improving manufacturing performance and optimizing our global cost structure to both reduce costs and improve operational efficiency.

This resulted in significant operating margin improvement in the quarter and provides a good foundation to drive continued operating performance as we continue to grow the company. Second quarter adjusted sales grew by 13% relative to the first quarter to $262.4 million.

Second quarter growth outpaced the growth in our weighted average end markets by more than 5 times. Second quarter adjusted gross and operating margin improved by 470 and 390 basis points, respectively, versus the first quarter, resulting in a gross margin of 23.2%, over $6 million of operating income and an operating margin of 2.4%.

Our adjusted EBITDA margin increased by 300 basis points to 4.5%, while adjusted EPS for the quarter improved by $0.20 relative to the first quarter. Second quarter EPS and adjusted EBITDA included non-operating expenses of $2.7 million or approximately $0.08, primarily related to a below-the-line non-operating foreign currency expenses.

Excluding these non-operating expenses, adjusted EPS would be approximately $0.03 in the quarter, while adjusted EBITDA margin would be approximately 5.5%.

This morning, we are updating our expectations for operating performance and guiding to the high end of the previously provided range for adjusted revenue, gross margin and operating margin to reflect improved operating performance, continued strong demand and the favorable impact of completed price negotiations with our customers.

Primarily as a result of the below-the-line non-operating costs recognized to date, we are reaffirming our previously provided full year guidance ranges for adjusted EPS, EBITDA and tax expense. Now on Page 4, we're summarizing our key financial metrics for second quarter relative to the prior quarter in greater detail.

Each of our key financial metrics improved significantly relative to the first quarter. Second quarter adjusted sales grew by 13% relative to the first quarter of 2023, driven primarily by strong performance across each of our primary segments and key end markets.

In addition to increased pricing, we saw continued strong demand in our commercial vehicle end markets, stable production in North America and normalization in our China and off-highway end markets. Easing material constraints contributed to strong production volume and reduced production volatility for both us and our customers.

Adjusted gross margin increased by 470 basis points relative to the first quarter of 2023, primarily due to incremental pricing. As expected, gross margin was significantly impacted by the finalization of customer price agreements as well as contribution on incremental sales.

We expect the price agreements reached during the quarter will result in sustainable, improved profitability as we capitalize on our strong forward growth profile. Adjusted operating margin improved by 390 basis points, resulting in operating income improvement of $9.7 million relative to the first quarter.

During the quarter, we took several actions to optimize our organizational structure, reduce discretionary spending and improve operating leverage. We expect these actions will continue to drive improved operating margin as revenue continues to grow.

During the quarter, operating performance was partially offset by higher engineering spend as a result of required short-term support for key program launches.

We expect D&D costs to be more in line with the first quarter by the end of the year as we progress toward the launch of several major programs, including the launch of the Smart 2 tachograph this summer. Additionally, we are accelerating our plan to utilize our global resources to align engineering capability and capacity with cost efficiency.

Finally, adjusted EBITDA margin improved by approximately 300 basis points as a result of improved operating performance. This is partially offset by the impact of non-operating expenses relative to foreign currency adjustments on intercompany loans and a small adjustment to the fair value of our investments and Autotech Ventures.

Excluding these non-operating expenses, adjusted EBITDA would be $14.7 million, resulting in an adjusted EBITDA margin of 5.6%. Overall, we are very pleased with our operating performance in the quarter and even more excited about the foundation we are building to generate improved operating performance and the strong growth we expect going forward.

Now turning on to Page 5. While we continue to focus on improved operating performance, we are also continuing to execute on our long-term strategy focused on drivetrain agnostic technologies across our segments, end markets and customers.

This morning, I want to highlight a new business award aligned with this long-term strategy and consistent with our strategy focused on safety and electronics, we will also provide some very exciting new information regarding our existing MirrorEye programs.

Today, we are announcing new business that encompasses both the extension of an existing front axle disconnect program and the awarding of the next-generation program for a major OEM in our Control Devices segment.

The front axle disconnect is an actuation device that decouples and recouples of front axle in 4x4 vehicles in order to allow for a seamless transition between 4-wheel drive and 2-wheel drive. The extension and new awards secure our strategic position on high-demand light trucks and SUVs through 2032.

These programs are expected to generate approximately $20 million in peak annual revenue. This award demonstrates our capabilities in advanced actuation devices and continued expansion in 4-wheel drive applications.

But in addition, this product aligns with our platform-based driveline agnostic approach as this technology can be applied to hybrid and fully electric vehicles as demonstrated by our disconnect product that was recently launched on the hybrid electric Corvette E-Ray.

Next, I would like to provide an update on another product that we believe has significant upside, our very first North American near-eye OEM program. This morning, I am happy to announce that PACCAR is our first North American customer.

The Kenworth T680 truck now offers MirrorEye as an option, offering improved fuel economy of up to 1.5%, enhanced driver visibility during the day, night and in tune weather and the ability to track the trailer around the corner or while backing through any driving environment.

We are so proud to support the launch of this industry-leading and innovative new platform. The program launched in mid-April, and production continues to ramp up on the 10worth vehicles. Also aligned with our prior expectations, the Peterbilt production launch will soon follow.

In addition, our fleet customers have expressed to us their excitement around this OEM offering, which suggests very strong market demand in North America. Additionally, the MirrorEye OEM program in Europe remains consistent at an approximately 40% take rate.

Other OEMs are starting to take note of the strong market demand, both in North America and Europe, and we continue to work with our current and potential customers to expand MirrorEye onto other OEM programs, platforms and configurations, and we plan for increasing demand as well.

We are outlined -- as we outlined last quarter, our next OEM has already increased their expected take rates. Our strategy is working. Our strategy is working.

We continue to win new business awards, launch new and exciting technologies across our end markets and support our customers as they bring best-in-class industry-changing technologies to market.

Now turning on to Page 6 and in summary, we're so very pleased with our performance in the second quarter as we demonstrated our ability to execute and drive improved financial performance.

As a result of our rigor and discipline and completing customer price negotiations in the second quarter as well as our laser focus on operating performance, we recognized substantial gross margin improvement that translated to improved operating performance during the quarter.

Now with the majority of our customer price negotiations complete, we will continue to focus on improving execution in our manufacturing facilities and in all of our supporting functions resulting in both reduced costs as well as more efficient operations. Now with that, I'll turn it over to Matt to discuss our financial results in more detail.

Matt, it's all yours..

Great. Thank you, Jim. Turning to Slide 8. Adjusted sales in the second quarter were approximately $262.4 million, an increase of 13% relative to the prior quarter. Adjusted operating income was $6.2 million or 2.4% of adjusted sales, which was an increase of 390 basis points from the prior quarter.

I'll provide additional detail on segment level performance on the subsequent slides.

As Jim discussed earlier in the call, we are guiding to the high end of the previously provided guidance ranges for adjusted revenue, gross margin and operating margin to reflect improved operating performance to date and an improved outlook for the remainder of the year on continued strong sales.

We expect continued strength in our commercial vehicle end markets as customer orders remain stable and new program launches, including our SMART2 tachograph, are expected to continue to drive outsized market growth. In our automotive end markets, production volatility has improved and stabilized.

Despite the fact that the third quarter is typically slower due to reduced production schedules in the summer, we expect revenue in the second half to be relatively in line with the first half. As a result, we're expecting second half revenue to be weighted to the fourth quarter.

Adjusted gross margin improved by 490 basis points in the quarter relative to the first quarter, primarily driven by improved operating performance and the impact of negotiated price increases.

We expect third quarter gross margin to be approximately 21% after considering the onetime impact of retroactive price benefits in the second quarter and relatively lower revenue in the third quarter, impacting fixed cost leverage relative to the second.

We expect the gross margin performance will follow sales with sequentially better performance from the third and fourth quarter, resulting in full year performance at the high end of our previously provided guidance.

We expect operating margin to continue to expand in the third quarter and subsequently in the fourth quarter, aligned with reduced engineering expenses compounded by expanding gross margin in the fourth quarter on increased revenue.

We expect that engineering expenses will decline back to normalized levels in the second half as we ramp down after the launch of SMART2 in late summer and continue to utilize our global footprint to reduce overall expense.

We expect that the reduction in engineering expense in the third quarter will more than offset the onetime retroactive price benefit from the second quarter that is not expected to repeat in the third. In addition, today, we are reaffirming our previously provided full year guidance ranges for adjusted EPS, EBITDA and tax expense.

In the first half of the year, we recognized headwinds related to non-operating FX expense and non-operating equity interest related expenses of approximately $4 million or $0.12 of adjusted EPS. Furthermore, we expect slightly higher interest expense, driven primarily by rising interest rates for the remainder of the year.

We expect continued EPS improvement in the third quarter, driven by operating performance relatively in line with the second quarter and reduced non-operating expenses to result in above breakeven adjusted EPS for the quarter.

With continued revenue growth and margin expansion in the fourth quarter, we expect significant EPS growth in the fourth quarter to result in approximately breakeven adjusted EPS performance for the full year.

With strong revenue growth and expanding gross margin driving stronger operating performance, we remain well positioned to achieve the high end of our previously guided operating metrics.

Despite $4 million or approximately $0.12 of non-operating expense headwinds for the year, we remain on track to achieve the midpoint of our adjusted EPS and EBITDA guidance that we set at the beginning of the year.

Our implied margin run rate in the fourth quarter provides a strong foundation to support significant earnings growth forward on our expectation of continued strong sales. Page 9 summarizes our key financial metrics specific to Control Devices.

Control Devices second quarter sales of $93.1 million increased by 7.4% compared to the prior quarter, outpacing our underlying end markets, primarily due to higher sales in our North America automotive end market as well as higher sales in our China end markets as a result of production stabilizing in the second quarter.

As Jim previously outlined, our continued rotation to a drivetrain agnostic portfolio allows us to continue to grow no matter the shifts in end markets as evidenced by the business awards and our axle-based actuation technologies on both traditional 4x4 vehicles and the e-axle application on the Corvette E-Ray that we announced last quarter.

Adjusted operating income was $5.5 million for the quarter or 5.9% of sales, which improved by approximately 420 basis points versus the prior quarter. The sequential expansion was driven by higher gross margin, primarily due to favorable sales mix during the quarter and increased overall sales.

Also impacting adjusted operating performance was relatively lower SG&A costs. We currently expect stable revenue performance and sequentially improving margin for Control Devices for the remainder of the year.

We continue to focus on improved manufacturing and functional execution, supply chain strategy and material cost improvement actions and will continue to react to changes in our end markets as needed to drive sustained profitable growth. Page 10 summarizes our key financial metrics specific to electronics.

Electronics second quarter sales were approximately $164 million, an increase of approximately 17% versus the prior quarter. Electronics sales growth significantly outperformed our underlying end markets relative to the first quarter.

This was primarily driven by higher sales in our commercial vehicle end markets due to continued high demand and incremental pricing as a result of completed contract negotiations with the majority of our customers.

In addition, we recognized incremental sales in our off-highway end markets during the quarter as a result of easing supply chain constraints that negatively impacted production in the prior quarter.

Adjusted operating income increased by approximately 370 basis points relative to the first quarter, primarily due to contribution from incremental revenue and the impact of increased pricing. This was partially offset by incremental D&D costs due primarily to program launch support.

As we outlined previously, we do not expect this level of engineering expense to continue and expect a return to normalized levels in the second half of this year.

Based on continued strong demand by our commercial vehicle customers, normalizing production levels and product launches, including our SMART2 tachograph in the third quarter, we expect strong revenue growth for electronics.

Our margin profile continues to normalize after the last two years of supply chain and material related challenges, aided by price increases negotiated and concluded this quarter.

With an expanding margin profile and strong expected growth, we expect Electronics operating income to continue to expand while required investments to fund short-term launches are expected to decline. This provides a strong foundation for outsized market growth as well as significant earnings expansion going forward.

Page 11 summarizes our key financial metrics, specific to Stoneridge Brazil. Excluding the favorable impact of foreign currency, Stoneridge Brazil's second quarter sales were approximately in line with the first quarter.

Revenue was impacted by higher sales primarily in our aftermarket products, offset by relatively lower OEM sales versus the first quarter of the year. Despite continued macroeconomic challenges in Brazil, we expect revenue and operating margin to remain approximately stable in 2023.

Additionally, Brazil has become a critical engineering center as we continue to expand our global engineering capabilities and core competencies. We will continue to utilize our global footprint to cost-effectively support our global business. Turning to Page 12.

As our operating performance continues to improve, so does our balance sheet and related leverage profile. This quarter, we achieved a net debt to trailing 12-month EBITDA compliance ratio of under 3 times as we continue to progress toward our target of less than 2.5 times. Second quarter net debt was approximately in line with the first quarter.

We remain focused on improving cash performance and reducing net debt and related interest expense through strong operating performance and targeted actions to reduce net working capital, particularly our inventory levels as supply chains normalize and material availability continues to improve.

At the beginning of 2023, we anticipated the continued material cost and production headwinds forecasted for the first half of the year would result in relatively lower EBITDA and worked with our bank group to amend our existing credit facility. Our amendment period ended at the end of the second quarter.

Coming out of the amendment period and with considerably stronger operating performance, we have initiated refinancing discussions and expect to refinance our existing credit facility prior to the issuance of the year-end 2023 financial statements as performance and leverage ratios are expected to continue to improve. Moving to Slide 13.

In closing, as evidenced by the strong performance in the quarter, this team is focused on strong execution and careful cost control to continue to drive margin improvement.

That said, we are very pleased with our progress during the quarter with adjusted sales growth of 13%, adjusted gross margin expansion of 470 basis points and operating margin expansion of 390 basis points versus the first quarter.

In addition, we continue to execute our long-term strategy by winning business in critical growth areas and expanding our existing opportunities. Stoneridge is committed to driving shareholder value and that focus remains at the forefront of all of our strategic initiatives. With that, I will open up the call to questions..

[Operator Instructions] Our first question comes from Justin Long with Stephens. Justin, please go ahead with your question. .

Thanks, good morning. And congrats on the quarter. So maybe to start with the guidance, Matt, you talked about the gross margin cadence in the back half of the year. Is there any color you can give on that EBITDA margin cadence 3Q to 4Q? Because to your point, the run rate should be kind of well above the average for the full year on EBITDA margin.

So I just wanted to see if we could get a little bit more clarity on how to think about the setup as we progress into next year?.

Yes. So certainly, Justin. Thank you for the question. We expect that we will have some normalizing of gross margin in the third quarter, like I talked about in the prepared remarks particularly around the reduction of that kind of retroactive price benefit that we saw in the second quarter.

That said, we expect that, that will be more than offset by reduced engineering expenses as we move forward into the second half of the year. So like I said in the prepared remarks, we expect above breakeven EPS performance for the quarter.

And you should expect that we'll see sequentially improving EBITDA margin performance through the second quarter. We talk about back half of the year in run rate. Like we said, we expect weighted -- the revenue to be weighted to the fourth quarter in the second half.

We would expect gross margin to continue to sequentially improve from the third to the fourth quarter, and we would expect that D&D remains kind of at that normalized level or maybe even improve a little bit in the back half.

So when you put those pieces of the puzzle together, you should expect sequentially improving EBITDA margin to a run rate out of 2023 that is strong heading into 2024..

And maybe one for Jim. As we look at the margin improvement we saw in the business sequentially in the second quarter. It's encouraging. It feels like the majority of this was driven by price and that pricing outside of the retroactive catch-up is sustainable.

But when you think about the next lag of margin improvement, can you talk about some of the self-help opportunities that are out in front of you? I know D&D is coming down, but what are some of the operational changes you can drive to improve margins from here?.

Justin, thanks for the question. And maybe first things first. I would say that the improvement isn't just characterized by price, right? We have already started to apply some of the execution type initiatives that I've been talking about for the last six months or so.

And we're already seeing the benefits of some of those actions really hitting our numbers. Going forward, of course, as you're alluding to, there are more. And some of the things that we're doing inside the house is really taking action on how we are set up as a company.

What should we be doing from a functional perspective to ensure that we've got the greatest amount of efficiency as we execute. And there's several different functional areas where we are realigning those organizations so that we can operate more effectively across the company instead of so independently division by division.

And by doing that, we end up taking care of redundancies and we significantly improved the throughput in the company as well, being able to handle a lot more development and launches than what we would normally do as we had been set up in a prior sense..

Okay, thanks. And last one for me is on the balance sheet. Matt, is a refi of the debt factored into the guidance at all. It looks like that's something you anticipate before the end of the year. So curious if you have any initial thoughts on the impact that could have and if that's factored in..

No. Justin, that is not included in the current guidance. We're still evaluating what the right structure is. We -- as we've talked about in the past, we were very confident in the initiatives and execution plan that we had to drive significantly better performance in this quarter.

And as you see in the guidance, continue that trend for the remainder of the year. So we wanted to make sure that we got a couple of good quarters of performance as we expected out in front of us here as we look at refinancing because I think it will help us significantly with the structure and the terms that we should get in that deal.

But there is not anything included in the guidance related to the refinancing at this point..

Okay, understood. Thank you so much for the time. .

I'm showing no further questions at this time. I would now like to turn it back over to Jim for closing remarks..

Well, thanks, everyone, for joining us for the call. I know your time is really quite important, and we truly appreciate your willingness to engage us today. We couldn't be more excited about our industry-changing product platforms and the growth it brings to our company.

Our focus on rigorous and disciplined execution is already driving improved performance based on the results we outlined today, and we will remain focused on the operational excellence to drive shareholder value as we continue to build our strong strategic foundation. Thanks again, everyone..

This concludes today's conference call. Thank you for participating. You may now disconnect..