Good day, and welcome to the VPG Second Quarter 2021 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Steven Cantor. Please go ahead..

Thank you, Betsy, and good morning, everyone. Welcome to VPG’s 2021 second quarter earnings conference call. Our Q2 press release and accompanying slides have been posted on our website. An audio recording of today’s call will also be available on the Internet for a limited time and can be accessed on the VPG website.

Today’s remarks are governed by the Safe Harbor provisions of the 1995 Private Securities Litigation Reform Act. Our actual results may vary from forward-looking statements.

For a discussion of the risks associated with VPG’s operations, we encourage you to refer to our SEC filings, especially the Form 10-K for the year ended December 31, 2020, and our other recent SEC filings. On the call today are Ziv Shoshani, CEO and President; and Bill Clancy, Chief Financial Officer.

And now I’ll turn the call to Ziv for some prepared remarks. Please refer to Slide 3 of the quarterly presentation.

Ziv?.

Thank you, Steve. I will begin with some commentary on VPG’s consolidated financial results and sales trends for the second quarter. Bill will provide financial details and our outlook for the third quarter of 2021. Slide 3, we are pleased with our results for the second quarter. We achieved solid sales performance of $75.3 million.

We ended the quarter with a book-to-bill of 1.4 as we grew our orders 23.3% sequentially to $105.4 million reflecting strength across our businesses and end markets and the inclusion of DTS backlog. We executed well operationally and grew adjusted gross margin to 42.3%, adjusted operating margin to 12.2% and our adjusted EPS to $0.49.

We also generated strong cash flow and adjusted EBITDA margin of 16.6%. We are excited about the acquisition of DTS, which we completed in June. And we are in the final stages of completing the move of advanced sensors manufacturing to our new facility. Moving to Slide 4; looking at the second quarter sales results in more detail.

Sales grew 27.4% from a year ago, and 6.7% from the first quarter. On a sequential basis, business trends were positive, and we ended the second quarter with the book-to-bill above 1.2 in all three reporting segments.

In each – excuse me, in each of our end markets, we had the book-to-bill above 1 and with the exception of industrial weighing, all the end markets were at 1.3 or higher. The individual end markets performed as follows. In the test and measurement market, sales grew 12.9%.

Demand in this market remains at strong levels as orders were at sustained levels compared to Q1, which reflected ongoing strength related to the semiconductor process control and test equipment. Sales rose 24.9% in the transportation market, and orders increased 45.3% due to the inclusion of the DTS backlog.

Sales to the steel market grew 8.6% sequentially, reflecting increased customer activity and improved project driven demand. Steel related orders continued to rebound and grew 21.4%. While sales in general industrial was up modestly. Orders grew 40.2% driven by oil and gas and general tooling. Sales and orders to the industrial weighing were flat.

In the Avionics, Military and Space market, sales declined by 2.6% while orders grew 85% from Q1, which included approximately $3 million from DTS backlog.

The net result of this trend was a book-to-bill of 1.4 for the second quarter, and a backlog of $130.9 million, an increase of $30.2 million from the first quarter of 2021, which includes $7.1 million of backlog from DTS. Moving to Slide 5, turning to the results by segments.

Foil Technology Products second quarter sales of $33.3 million were 1.8% higher sequentially, primarily due to higher sales of precision foil resistors and Pacific Instrument system. Compared to a year ago, FTP sales grew 4.8% primarily driven by advanced sensors.

While advanced sensors second quarter sales were 22.6% higher than a year ago revenue moderated from Q1 due to the transition to the new manufacturing facility. We incurred $1.2 million of startup costs related to this transition in the second quarter.

We expect the transition impact on revenue to extend to Q3 as we anticipate completing the move to our new facility in the third quarter. Demand for those products continued to grow, increasing approximately 19% sequentially. Backlog for advanced sensors grew more than 16% sequentially, which positions us for a good post transition run rate.

Adjusted gross margin for FTP was 42.6% increasing from 40.4% in the first quarter as the result of higher volume manufacturing efficiencies and higher inventory levels. Book-to-bill for FTP was 1.37 in the second quarter, which reflected a 17.5% sequential increase in orders.

The strength in demand was driven by precision foil resistors for AMS, as well as for advanced sensors. The Force Sensors segment reported another quarter of strong performance, as it continued to manage well to COVID-related challenges facing India.

Second quarter sales of $17.2 million improved 1.7% from the first quarter and were 93.1% higher than a year ago.

Recall that in the second quarter of 2020 this segment was adversely affected by COVID-related production limitation at our facility in India, while COVID infections rates remain an ongoing issue across many parts of India we continue to operate it fully capacity, given our exemption from COVID restrictions due to the critical nature of our products.

This strategic growth initiatives to expand Force Sensors OEM business continues to perform well as its OEM revenue grew 7.5% sequentially. Financially Force Sensors adjusted gross margin of 35.4% in the second quarter, declined modestly from a high level of 36% in the first quarter, but improved significantly from 19.6% a year ago.

The sequential decline was primarily due to unfavorable foreign exchanges, partially offset by higher inventories and volume.

As we discussed in May, we expect gross margin for Force Sensors at comparable revenue levels and product mix to be 30% or above given higher costs related to expanding our China manufacturing, and the expected impact of tariffs for our China production products.

At levels of 30% plus, this is a step function improvements over the average margins, we recorded for this business over the last several years. The book-to-bill for Force Sensors of 1.23 reflects order momentum in our other markets, mainly precision agricultures and consumer.

Sales of Weighing and Control Systems in the second quarter of $24.8 million increased 18.5% sequentially, and 34.5% from a year ago. Sequentially, the higher sales reflected the addition of approximately $3 million of sales from DTS, as well as higher sales of process weighing solutions and KELK product.

Sales from our TruckWeigh and VanWeigh initiatives grew 123.7% from a year ago, but softened 9.5% sequentially, reflecting slower industry production of trucks and vans due to ICN components shortages. We have seen increased customer interest in our solution since EU overloading regulations went into effect in May of 2021.

And we expect this interest to translate in orders as the availability of new vehicles improves, and the EU countries continue to ramp up their enforcement of the new regulations.

Adjusted gross margin in the second quarter for WCS was 46.6%, which includes adjustments for acquisition related cost as well as COVID impacts and improved from 44.3% in the first quarter, mainly due to the addition of DTS and higher revenue of WCS products.

In terms of order trends in the WCS segment, orders grew 41.3% sequentially, reflecting the addition of DTS as well as continued demand recovery for our steel related products.

As we have discussed previously, orders for KELK and DSI are generally driven by customer CapEx projects, which in case of KELK typically have a two-quarter lag relative to inflection in the steel market.

With regards to the steel market, the book-to-bill combined for KELK and DSI was 1.72, which is a positive indicator for revenue in the second half of this year and in 2022. The result of this WCS order trends in the second quarter was the book-to-bill of 1.56. Moving to Slide 6. Before turning the call to Bill, I will make a few additional comments.

In terms of COVID, all our facilities are currently open and operational. Given the rise in COVID cases around the world, we continue to be proactive in taking measures were needed to protect our employees and our customers.

On behalf of the Board and our management team, I want to thank all of VPG’s employees for their dedication and customer focus during this current wave of the pandemic. I also want to comment on one of the key highlights for the quarter, the acquisition of DTS on June 1.

DTS is a leading manufacturer of data acquisition systems and sensors for product and safety testing. It is an established niche market leader with a strong brand in superior technology, as well as talented management team with the deep business and technical knowledge.

DTS not only adds complimentary technology to our platform, but it brings unique engineering capabilities, centered on miniaturization, data acquisition and system integration with sensor technology for critical testing applications.

As a major supplier of embedded data acquisition, and logging capabilities for crash test dummies, DTS will give us a presence in the automotive market, as well as add to our offering in the avionic military and defense market.

We believe DTS will continue to benefit from the global need for specialized safety testing technology that is expanding from the automotive and avionics sectors to sports applications. Over the next 12 months, we believe the DTS has a potential to generate $30 million or more in revenue, with an adjusted EBITDA margin over 20%.

We are continuing to look for attractive acquisitions, opportunities that will further accelerate our growth and profitability. I will now turn it over to Bill Clancy for additional financial details.

Bill?.

Thanks, Ziv. Referring to Page 7 and the reconciliation tables as a slide deck, in the second quarter or 2021 we achieved revenues as $75.3 million, gross profit of $29.8 million or 39.6% of sales, operating income of $4.9 million for 6.5% of revenues and net earnings per diluted share of $0.29.

On an adjusted basis, which we lay out in a reconciliation table in the press release, our gross profit was $31.9 million or 42.3% of sales. Operating income was $9.2 million, or 12.2% of sales, and net earnings per diluted share was $0.49.

Our second quarter 2021 revenues grew 6.7% compared to $70.6 million in the first quarter and were 27.4% above the second quarter year ago. Foreign exchange for the second quarter of 2021, positively impacted revenues by $2.8 million compared to a year ago, and $200,000 as compared to the first quarter of 2021.

The gross margin in the second quarter was 39.6% compared to 40.5% in the first quarter. On an adjusted basis second quarter gross margin of 42.3% grew from the 40.5% in the first quarter of 2021. Our operating margin was 6.5% with the second quarter of 2021.

Our second quarter adjusted operating margin was 12.2% excluding acquisition purchase accounting adjustments. Facilities startup costs or advanced sensors acquisition costs. Goodwill impairment charges related to Pacific Instrument and COVID-19 related subsidies. This represents an increase from the 8.7%. We recorded in the first quarter of 2021.

Selling, general, and administrative expenses for the second quarter of 2021 were $22.5 million or 29.8% of revenues, compared to $18.6 million, but 31% of revenues for the second quarter of 2020. The increase in SG&A of $3.9 million, mainly relates to $1.1 million for foreign exchange rate impacts.

$1 million for bonus accruals, 900,000 related to the DTS acquisition, 300,000 a wage increases, and 600,000 of other costs. The adjusted net earnings for the second quarter of 2021 were $6.7 million, or $0.49 per diluted share, compared to $3.6 million or $0.27 per diluted share in the second quarter of 2020.

Adjusted EBITDA was $12.5 million or 16.6% of revenue as compared to $8 million or 13.5% of revenue a year ago. Capital expenditures were $2.6 million, the majority of which reflects purchases and related infrastructure for the new advanced sensor facility.

As a result of these investments, we generated free cash flow of $4.2 million for the second quarter of 2021 as compared to $3.1 million for the second quarter of 2020. We define adjusted free cash flow as cash from operating activities, less capital expenditure, plus sale of fixed assets.

We currently expect CapEx to be in the range of $20 million to $23 million for the full fiscal 2021, which includes anticipated cost related to the new events central facility, as well as manufacturing expansion and enhancement projects for precision for resistors.

The GAAP tax rate in the second quarter was 6.1%, which includes a one-time tax benefit of approximately $1 million associated with the DTS acquisition. We are assuming an operational tax rate in the range of 25% to 27% for the full year of 2021.

Moving to Slide 8, we ended the second quarter with $73.5 million of cash and cash equivalents and sort of long-term debt of $60.7 million. We believe that we have a strong balance sheet and ample liquidity to support our business requirements at the fund additional M&A opportunities.

At the outlook, given our order flow and backlog, we are optimistic about the second half of 2021 and beyond. For the third fiscal quarter, we expect net revenues to grow sequentially, have been the range of $81 million to $87 million at constant second fiscal quarter of 2021 exchange rates.

In summary, we performed well in the second quarter, growing our margins and adjusted EPS and generating good cash flow. We had strong orders of $105.4 million across our business at a book-to-bill ratio of 1.4. We are pleased with the addition of DTS, and what they bring to VPG going forward. With that, let’s open the lines for questions. Thank you..

[Operator Instructions] Your first question comes from John Franzreb with Sidoti and Company. Please go ahead..

Good morning, everybody. And thanks for taking the questions. Ziv, I want to start with some of the end markets here, particularly with your commentary in the steel market – this flattish business, but if I heard you correctly, said the book-to-bill in steel is 1.72.

I wanted to talk a little bit about that, what’s the duration of the delivery times in that business? Can I put it into context for us?.

Yes. Regarding the steel market, John, which is mainly represented by DSI and KELK products. The indication is that many companies and as you see the metal prices are going up are starting to reinvest increasing capacity and improving the cost reduction in the steel mills, we have seen a very strong demand of 1.72.

Historically, the backlog or I will say the lead time for those projects driven between, I would say around four to five months.

Therefore, the orders that we currently order intake, the strong order intake that we currently see will be reflected in a much higher sales, as I indicated in the second half of the year, and move into the first half of 2022..

Got it. I guess similarly in the avionics and defense and military business. What kind of order trends you’re seeing in that marketplace, are seeing any kind of strength there. It’s kind of also been kind of flattish..

Yes. We have seen an improvement on the AMS – the AMS book-to-bill for the company was – is 1.67 for the second quarter. And we have seen much stronger demand coming back from projects mainly for precision resistors and Pacific Instruments, which a quarter ago was much softer. Yes. So, we’ve got the rebound in demand..

And is that all deliverable this calendar year?.

Yes. It is expected to be shipped. Yes. The lead time for those types of products are expected to be more in line with our repeatable business, therefore, it is expected to be shipped in the second half of this year..

Got it. And just on DTS, great contribution from the business from the get go. I wonder if you could talk a little bit about how that revenue performance is today versus maybe the pre-COVID levels now in 2019 is it’s up to that level to have some opportunity, can you just put it in context for us..

Well, in fact, just to give you DTS, as we have reported $3 million of revenue, adjusted gross margin of 60.4%, adjusted operating margin of 32.6%. In fact, the company before we acquire them, when we looked at the historical numbers, we have not seen any significant impact due to COVID.

And we do see a continuation in momentum for DTS business due to the fact that there is a continuation. Strength in the automotive business, testing and introducing new car model, and this is really a DTS core business, automotive safety.

In addition, it’s 80% of its business in addition to 20%, which is AMS safety, which is also a fairly strong – there is a strong demand therefore, DTS continues to go strong and we have not seen any significant decline to prior COVID environment..

Okay. All right. Thanks for coming, Ziv, I’ll actually get back in the queue. Thank you..

Thank you..

The next question is from Sarkis Sherbetchyan with B. Riley Securities. Please go ahead..

Hi, good morning. And thank you for taking my question here..

Good morning..

Good morning, Sarkis..

Hi, Ziv. So, just wanted to touch on the outlook here. Pretty strong, right, $81 million to $87 million in third quarter sales, obviously DTS is folding into that you’re seeing strong book-to-bill and across all your segments.

And just to help me with my math here, if you’re going to post let’s see, on the low end an $81 million quarter, shouldn’t EBITDA kind of be in that, let’s call it $14 million to $15 million range on the low end, help me understand if the contribution assumptions are correct, or should we see anything different from a profitability standpoint..

As, Sarkis we don’t give any guidance regarding a profitability or margins for the following –for the next quarter, in this case, it’s Q3 only sales guidance, the sales guidance of $81 million to $87 million, which is – which let’s say the midpoint its own $9 million higher, we are looking sequentially, we are looking at a favorable impact of the full quarter of DTS, which we would expect it to be another $5 million is a full quarter effect.

In addition to another $4 million being delivered by our steel related products, which is KELK and DSI. In FTP, we are looking at few factors on one hand.

We have the AS transition in Q3, which is expected to be finalized, which we would expect to see some lower margins due to the fact that we are putting in place and qualifying the last piece of equipment. Naturally in Q4, we should see a much, higher revenues once the transition has been completed.

In addition to the fact that historically in Q3, we had also, you will be in the seasonality effect coming from Europe, in addition to the fact that mainly FTP is being impacted by having less working days due to the Israeli national holidays, which are all in September for this year.

So, even all the ups and downs, we are looking all in all at the midpoint is around about as I said, a $9 million upside in respect to the second quarter..

Yes, understood Ziv, and I think that kind of sets up for the next question. So regarding kind of the order strengths, and typically, the September quarter for you guys is fairly seasonal.

So, do you think the fourth quarter of this year at least from a top-line perspective looks better than the third quarter that you’ve outlined? Or should we expect something kind of in this zipcode of the guidance you’ve provided for the third quarter?.

If I may say Sarkis, now we are moving into the fourth quarter guidance. At least, based on what we have indicated, we are expecting to have a second strong second half year..

Yes, now understood. And then finally, for me, for advanced sensors, it sound like some of the transition might have acted as a headwind to revenues in this quarter. And you still expect to kind of complete the move in the third quarter here.

Just wanted to get an understanding of I think you mentioned in the prepared remarks, backlog grew 16% Q-on-Q for advanced sensors.

So, what would the run rate be for sales, if you will, on an annualized basis for that product category?.

So, at this point in time, in the second quarter, since we realized $1.2 million of startup cost and expectation would be also to be at around 700, 800 in the third quarter, we are still qualifying some key equipment processes, which, to an extent does not allow us to get to the full capacity.

The expectation is that by the end of the third quarter, once the transition has been completed, we would have in place an additional 25% of equipment capacity in respect to Q1, depending on the product mix, and the backlog with additional equipment capacity, we would be able to support much higher revenue in the fourth quarter once the transition has been completed..

Thank you. I’ll hop back in the queue..

The next question comes from Dick Ryan with Colliers. Please go ahead..

Thank you.

Ziv was the broad end market exposure you have and supply chain concerns that we’ve heard about kind of across the board with most companies, did you see any revenue pushed or deferred out of Q2 and was there I know you’ve had logistic cost increases, but were there any specific margin impacts due to the supply chain?.

Okay. So, in regards to supply chain, Dick, we have seen an increased logistics cost mainly for Force Sensors coming from Asia to Europe and the United States or I would say logistic surcharge, we have been discussing with customers to increase the prices or to allow for additional logistic surcharge in order to offset this effect.

In addition to that as you know and there is some discussion regarding chip shortage, so, in terms of sourcing components, we have not experienced any significant impact to date to our supply chain from the global chip shortage, delivery lead time to our customers remains competitive. And we continue to monitor it very, very well.

In some cases, we have seen higher components cost as we work to ensure the supply and we are trying to pass it to our customers, we are also increasing inventories in some key IC components like microprocessors where we identify there is a potential shortage. But we do not believe that those additional costs will be significant in the third quarter.

In the second quarter, and I did mention that before, there is an impact in new vehicles being introduced to the market due to components availability. We estimated these headwinds for approximately $400,000 of additional revenue in the second quarter and probably also in the third quarter coming mainly for from our own board weighing for the client.

But those would be probably the main supply chain concerns we have identified..

Okay. Great. Thank you. In Force Sensors, I think you said there was a nice increase in the OEM business.

I’m not sure if I caught the percent increase or if you gave the actual dollar amount and is that business coming from existing customers? Are you seeing new wins there?.

So, I did identify that the reason upside for OEM business it is coming from precision ag, but also from consumers customers coming from new applications. And I would say to an extent, we had those customers, but the business has gone those have been designed in that came to fruition.

And now we starting to realize the larger production volume, mainly, again, in precision ag, but also in consumer for Force Sensors, which while consumer was barely smaller part of Force Sensors before..

Okay, thank you. On the end market test and measurement, you mentioned strong semi.

Are you seeing any kind of digestion period or kind of a consolidation period for your semi business going through the second half of this year? Or are you still seeing some pretty strong underlying trends?.

When I speak about our semi business, which mainly relates to precision resistors, the demand we currently realize is coming from the OEM, if I look at the sales channel, distributors, they still have a fairly low level of inventory.

So at this point in time, we do believe that once those inventories will be depleted at our distributors, and they have not placed any significant orders in the last six months of this year. We would expect to see an additional demand coming from distributors. But at this point in time, the main driving force for the demand of the OEM.

Therefore we do not expect at this point in time to see major changes as we move into the second half of this year..

Okay, thank you..

[Operator Instructions] The next question comes from Bill Dezellem with Tieton Capital. Please go ahead..

Thank you.

A couple of questions, first of all, relative to Pacific Instruments, and the fact they had sequential revenue growth, and yet you did the goodwill write off, would you kind of discuss that those two contrasting aspects?.

Yes, Bill, I can handle that. I mean, Bill, basically, this is – it’s a, the goodwill and impairment taxes always based on an accounting calculation.

You look at what you presented or proposed to have a forecast, I mean a year ago, and even though we seen slight sequential increases in revenue for – as we mentioned, for the full year, we still see not hitting the targets.

And just based on the accounting methodology, running through the process, we took the impairment this quarter and now for Pacific Instruments all the goodwill has been completely written off..

Thank you. And then totally different question. You have your revenue model, and that you have published in prior presentations.

And with that, it would indicate that $75 million revenues that the EPS would be closer to $0.42 in that model, why did you end up being above the revenue model?.

Well, Bill, this is a very good question. The target model we have introduced in 2019 did not include at that time, the acquisition of DTS and DSI.

We also need to update it for the exchange rate, which has been, which also has been changed dramatically mainly the Israeli shekel and you by the way, may see the – you see the foreign exchange rate effect, which is 800 negative quarter-over-quarter, but also quarter a year ago.

So, we are in the process of updating that model and anticipate to introducing it in the fourth quarter..

Great, thank you.

And the implication, then as we would be for the third quarter, that you would also end up with earnings that would be above what the model would otherwise indicate?.

Given the two – okay, given the two acquisitions, that has not been – that we have not accounted in the model, I would assume that you’re correct. But Bill, please bear in mind that the model itself does encompass top-line, but also profitability and cost related the target.

So, once we would update the model, based on the – based on integrating and updating the exchanges, we would be able to provide as we did before a more comprehensive model, which accounts for all those moving parts..

Now, that’s very helpful. And I’m just thinking in terms of the $0.62 to $0.87 of earnings, that that model indicates at the $80 million to $85 million of revenues, we can just recognize that the model is not entirely taking everything into account in the two acquisitions are accretive to that model.

So that, that’s just directionally the way to be thinking about it, then it sounds like..

You’re absolutely correct. The model at that time did account for pure organic growth, which would be in a way for every additional incremental of revenue, there will be a certain percentage dropping into the pre-tax level.

Once we have accounts for those two acquisitions, we should account not only for the top-line revenue, but we should also account for the fixed costs, and the SG&A cost associated with those companies. Therefore, the complete model has to revise – has to be revised and we will provide the chart..

Great, thank you. And thank you for having acquisitions that are accretive and beneficial to the model..

Thank you..

The next question is a follow-up from John Franzreb with Sidoti and Company. Please go ahead..

Actually, it’s very much along the lines of the last two questions. I was essentially going to ask with the accretive acquisitions, how does it change that 30% to 50% incremental op margin.

So to answer or not depending on how you feel comfortable?.

John, as I said, we will have to revise the model. At this time, the model does not account for those acquisition and also to update the exchange rate. So, therefore the top-line revenue does not correlate to the bottom line profitability in respect to the model. We just have to revise the model..

Okay, that was my follow-up question. But the revising it the way it sounds like is a good thing. Congratulations..

Thank you, John..

[Operator Instructions] This concludes our question-and-answer session. I would like to turn the conference back over to Steve Cantor for any closing remarks..

Thank you. Before concluding I want to note that we will be participating in a number of investor conferences in September, including the Sidoti, Colliers and D.A Davidson conferences. And we’ll be posting some information about that on our website. With that, I’d like to thank you all for joining our call. And have a good day..

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect..