Kimball Electronics, Inc. - Quarter Report: 2022 September (Form 10-Q)
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2022
OR
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 001-36454
| KIMBALL ELECTRONICS, INC. | ||
| (Exact name of registrant as specified in its charter) | ||
| Indiana | 35-2047713 | |||||||||||||
| (State or other jurisdiction of | (I.R.S. Employer Identification No.) | |||||||||||||
| incorporation or organization) | ||||||||||||||
1205 Kimball Boulevard, Jasper, Indiana | 47546 | |||||||||||||
| (Address of principal executive offices) | (Zip Code) | |||||||||||||
(812) 634-4000
| Registrant’s telephone number, including area code | ||
| Not Applicable | ||
| Former name, former address and former fiscal year, if changed since last report | ||
| Securities registered pursuant to Section 12(b) of the Act: | ||||||||
| Title of each Class | Trading Symbol | Name of each exchange on which registered | ||||||
| Common Stock, no par value | KE | The Nasdaq Stock Market LLC | ||||||
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
| Large accelerated filer | ☐ | Accelerated filer | ☒ | Emerging growth company | ☐ | ||||||||||||
| Non-accelerated filer | ☐ | Smaller reporting company | ☐ | ||||||||||||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ☐ No ☒
The number of shares outstanding of the Registrant’s common stock as of October 26, 2022 was 24,710,331 shares.
KIMBALL ELECTRONICS, INC.
FORM 10-Q
INDEX
| Page No. | |||||||||||
| PART I FINANCIAL INFORMATION | |||||||||||
| PART II OTHER INFORMATION | |||||||||||
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
KIMBALL ELECTRONICS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Amounts in Thousands, Except for Share Data)
| (Unaudited) | |||||||||||
| September 30, 2022 | June 30, 2022 | ||||||||||
| ASSETS | |||||||||||
| Current Assets: | |||||||||||
| Cash and cash equivalents | $ | 19,715 | $ | 49,851 | |||||||
Receivables, net of allowances of $144 and $139, respectively | 253,823 | 222,857 | |||||||||
| Contract assets | 68,314 | 64,080 | |||||||||
| Inventories | 449,528 | 395,630 | |||||||||
| Prepaid expenses and other current assets | 28,637 | 28,665 | |||||||||
| Total current assets | 820,017 | 761,083 | |||||||||
Property and Equipment, net of accumulated depreciation of $271,127 and $271,139, respectively | 215,469 | 206,835 | |||||||||
| Goodwill | 12,011 | 12,011 | |||||||||
Other Intangible Assets, net of accumulated amortization of $36,352 and $35,437, respectively | 13,792 | 14,707 | |||||||||
| Other Assets | 40,474 | 41,131 | |||||||||
| Total Assets | $ | 1,101,763 | $ | 1,035,767 | |||||||
LIABILITIES AND SHARE OWNERS’ EQUITY | |||||||||||
| Current Liabilities: | |||||||||||
| Current portion of borrowings under credit facilities | $ | 52,505 | $ | 35,580 | |||||||
| Accounts payable | 322,199 | 308,617 | |||||||||
| Accrued expenses | 65,258 | 64,545 | |||||||||
| Total current liabilities | 439,962 | 408,742 | |||||||||
| Other Liabilities: | |||||||||||
| Long-term debt under credit facilities, less current portion | 180,000 | 145,000 | |||||||||
| Long-term income taxes payable | 5,859 | 7,812 | |||||||||
| Other long-term liabilities | 19,697 | 20,242 | |||||||||
| Total other liabilities | 205,556 | 173,054 | |||||||||
| Share Owners’ Equity: | |||||||||||
Preferred stock-no par value | |||||||||||
Shares authorized: 15,000,000 Shares issued: None | — | — | |||||||||
Common stock-no par value | |||||||||||
Shares authorized: 150,000,000 Shares issued: 29,430,000 | — | — | |||||||||
| Additional paid-in capital | 310,271 | 311,090 | |||||||||
| Retained earnings | 249,731 | 240,222 | |||||||||
| Accumulated other comprehensive loss | (27,089) | (19,672) | |||||||||
| Treasury stock, at cost: | |||||||||||
Shares: 4,720,000 and 4,804,000, respectively | (76,668) | (77,669) | |||||||||
| Total Share Owners’ Equity | 456,245 | 453,971 | |||||||||
| Total Liabilities and Share Owners’ Equity | $ | 1,101,763 | $ | 1,035,767 | |||||||
3
KIMBALL ELECTRONICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(Amounts in Thousands, Except for Per Share Data)
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Unaudited) | 2022 | 2021 | |||||||||
| Net Sales | $ | 405,889 | $ | 292,717 | |||||||
| Cost of Sales | 376,568 | 277,117 | |||||||||
| Gross Profit | 29,321 | 15,600 | |||||||||
| Selling and Administrative Expenses | 15,750 | 12,204 | |||||||||
| Other General Income | — | (1,384) | |||||||||
| Operating Income | 13,571 | 4,780 | |||||||||
| Other Income (Expense): | |||||||||||
| Interest income | 17 | 24 | |||||||||
| Interest expense | (1,920) | (395) | |||||||||
| Non-operating income (expense), net | 500 | (878) | |||||||||
| Other income (expense), net | (1,403) | (1,249) | |||||||||
| Income Before Taxes on Income | 12,168 | 3,531 | |||||||||
| Provision for Income Taxes | 2,659 | 967 | |||||||||
| Net Income | $ | 9,509 | $ | 2,564 | |||||||
| Earnings Per Share of Common Stock: | |||||||||||
| Basic | $ | 0.38 | $ | 0.10 | |||||||
| Diluted | $ | 0.38 | $ | 0.10 | |||||||
| Average Number of Shares Outstanding: | |||||||||||
| Basic | 24,826 | 25,145 | |||||||||
| Diluted | 24,955 | 25,301 | |||||||||
4
KIMBALL ELECTRONICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Amounts in Thousands)
| Three Months Ended | Three Months Ended | ||||||||||||||||||||||||||||||||||
| September 30, 2022 | September 30, 2021 | ||||||||||||||||||||||||||||||||||
| (Unaudited) | Pre-tax | Tax | Net of Tax | Pre-tax | Tax | Net of Tax | |||||||||||||||||||||||||||||
| Net income | $ | 9,509 | $ | 2,564 | |||||||||||||||||||||||||||||||
| Other comprehensive income (loss): | |||||||||||||||||||||||||||||||||||
| Foreign currency translation adjustments | $ | (7,237) | $ | — | $ | (7,237) | $ | (2,953) | $ | — | $ | (2,953) | |||||||||||||||||||||||
| Postemployment actuarial change | (10) | (7) | (17) | 37 | (15) | 22 | |||||||||||||||||||||||||||||
| Derivative gain (loss) | 283 | 39 | 322 | (1,561) | 317 | (1,244) | |||||||||||||||||||||||||||||
| Reclassification to (earnings) loss: | |||||||||||||||||||||||||||||||||||
| Derivatives | (346) | (62) | (408) | (101) | 59 | (42) | |||||||||||||||||||||||||||||
| Amortization of actuarial change | (101) | 24 | (77) | (64) | 15 | (49) | |||||||||||||||||||||||||||||
| Other comprehensive income (loss) | $ | (7,411) | $ | (6) | $ | (7,417) | $ | (4,642) | $ | 376 | $ | (4,266) | |||||||||||||||||||||||
| Total comprehensive income (loss) | $ | 2,092 | $ | (1,702) | |||||||||||||||||||||||||||||||
5
KIMBALL ELECTRONICS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Amounts in Thousands)
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Unaudited) | 2022 | 2021 | |||||||||
| Cash Flows From Operating Activities: | |||||||||||
| Net income | $ | 9,509 | $ | 2,564 | |||||||
Adjustments to reconcile net income to net cash used for operating activities: | |||||||||||
| Depreciation and amortization | 7,611 | 8,908 | |||||||||
| (Gain) loss on sales of assets | (21) | 10 | |||||||||
| Deferred income taxes | (238) | 820 | |||||||||
| Stock-based compensation | 1,632 | 1,128 | |||||||||
| Other, net | (3,167) | (695) | |||||||||
| Change in operating assets and liabilities: | |||||||||||
| Receivables | (33,283) | 25,718 | |||||||||
| Contract assets | (4,234) | (217) | |||||||||
| Inventories | (57,563) | (62,840) | |||||||||
| Prepaid expenses and other assets | (214) | (2,368) | |||||||||
| Accounts payable | 17,521 | 32,335 | |||||||||
| Accrued expenses and taxes payable | 2,253 | (13,550) | |||||||||
| Net cash used for operating activities | (60,194) | (8,187) | |||||||||
| Cash Flows From Investing Activities: | |||||||||||
| Capital expenditures | (19,265) | (12,541) | |||||||||
| Proceeds from sales of assets | 112 | 36 | |||||||||
| Purchases of capitalized software | (186) | (182) | |||||||||
| Other, net | 19 | (181) | |||||||||
| Net cash used for investing activities | (19,320) | (12,868) | |||||||||
| Cash Flows From Financing Activities: | |||||||||||
| Proceeds from credit facilities | 20,000 | — | |||||||||
| Net change in revolving credit facilities | 32,186 | 6,536 | |||||||||
| Payments related to tax withholding for stock-based compensation | (1,417) | (1,571) | |||||||||
| Net cash provided by financing activities | 50,769 | 4,965 | |||||||||
| Effect of Exchange Rate Change on Cash and Cash Equivalents | (1,391) | (1,028) | |||||||||
| Net Decrease in Cash and Cash Equivalents | (30,136) | (17,118) | |||||||||
| Cash and Cash Equivalents at Beginning of Period | 49,851 | 106,442 | |||||||||
| Cash and Cash Equivalents at End of Period | $ | 19,715 | $ | 89,324 | |||||||
| Supplemental Disclosure of Cash Flow Information | |||||||||||
| Cash paid during the period for: | |||||||||||
| Income taxes | $ | 3,324 | $ | 5,509 | |||||||
| Interest expense | $ | 1,135 | $ | 349 | |||||||
| Non-cash investing activity: | |||||||||||
| Unpaid purchases of property and equipment at the end of the period | $ | 2,844 | $ | 2,606 | |||||||
6
KIMBALL ELECTRONICS, INC.
CONDENSED CONSOLIDATED STATEMENT OF SHARE OWNERS’ EQUITY
(Amounts in Thousands, Except for Share Data)
| Retained Earnings | Accumulated Other Comprehensive Income (Loss) | Treasury Stock | Total Share Owners’ Equity | ||||||||||||||||||||||||||
| (Unaudited) | Additional Paid-In Capital | ||||||||||||||||||||||||||||
| Amounts at June 30, 2022 | $ | 311,090 | $ | 240,222 | $ | (19,672) | $ | (77,669) | $ | 453,971 | |||||||||||||||||||
| Net income | 9,509 | 9,509 | |||||||||||||||||||||||||||
| Other comprehensive income (loss) | (7,417) | (7,417) | |||||||||||||||||||||||||||
| Compensation expense related to stock compensation plans | 1,598 | 1,598 | |||||||||||||||||||||||||||
Performance share issuance (85,000 shares) | (2,417) | 1,001 | (1,416) | ||||||||||||||||||||||||||
| Amounts at September 30, 2022 | $ | 310,271 | $ | 249,731 | $ | (27,089) | $ | (76,668) | $ | 456,245 | |||||||||||||||||||
| Amounts at June 30, 2021 | $ | 308,123 | $ | 208,969 | $ | (4,883) | $ | (70,237) | $ | 441,972 | |||||||||||||||||||
| Net income | 2,564 | 2,564 | |||||||||||||||||||||||||||
| Other comprehensive income (loss) | (4,266) | (4,266) | |||||||||||||||||||||||||||
| Compensation expense related to stock compensation plans | 1,116 | 1,116 | |||||||||||||||||||||||||||
Performance share issuance (144,000 shares) | (3,153) | 1,581 | (1,572) | ||||||||||||||||||||||||||
| Amounts at September 30, 2021 | $ | 306,086 | $ | 211,533 | $ | (9,149) | $ | (68,656) | $ | 439,814 | |||||||||||||||||||
7
KIMBALL ELECTRONICS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Business Description and Summary of Significant Accounting Policies
Business Description:
Kimball Electronics, Inc. (also referred to herein as “Kimball Electronics,” the “Company,” “we,” “us,” or “our”) is a global, multifaceted manufacturing solutions provider. We provide contract electronics manufacturing services (“EMS”) and diversified manufacturing services, including engineering and supply chain support, to customers in the automotive, medical, and industrial safety end markets. We deliver a package of value that begins with our core competency of producing durable electronics and has expanded into diversified contract manufacturing services for non-electronic components, medical disposables, precision molded plastics, and production automation, test, and inspection equipment. Our design and manufacturing expertise coupled with robust processes and procedures help us ensure that we deliver the highest levels of quality, reliability, and service throughout the entire life cycle of our customers’ products. We deliver award-winning service across our highly integrated global footprint, which is enabled by our largely common operating system, procedures, and standardization. We are well recognized by customers and industry trade publications for our excellent quality, reliability, and innovative service.
Basis of Presentation:
The Condensed Consolidated Financial Statements presented herein reflect the consolidated financial position as of September 30, 2022 and June 30, 2022, results of operations for the three months ended September 30, 2022 and 2021, cash flows for the three months ended September 30, 2022 and 2021, and share owners’ equity for the three months ended September 30, 2022 and 2021. The financial data presented herein is unaudited and should be read in conjunction with the annual Consolidated Financial Statements as of and for the year ended June 30, 2022 and related notes thereto included in our Annual Report on Form 10-K. As such, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted, although we believe that the disclosures are adequate to make the information presented not misleading. Intercompany transactions and balances have been eliminated. Management believes the financial statements include all adjustments (consisting only of normal recurring adjustments) considered necessary to present fairly the financial statements for the interim periods. The results of operations for the interim periods shown in this report are not necessarily indicative of results for any future interim period or for the entire fiscal year.
Change in Estimates:
The Company reviews the estimated useful lives of its fixed assets on an ongoing basis. In evaluating useful lives, the Company considers how long assets will remain functionally efficient and effective, given levels of technology, competitive factors, and the economic environment. If the assessment indicates that the assets will continue to be used for a longer period than previously anticipated, the useful life of the assets is revised, resulting in a change in estimate. Changes in estimates are accounted for on a prospective basis by depreciating the assets’ current carrying values over their revised remaining useful lives.
The most recent review indicated that Surface Mount Technology production equipment had actual lives that were longer than previously estimated. As a result of these findings, the Company changed its estimates of useful lives on these assets to 10 years, from lives of 5 or 7 years. The change was effective and accounted for prospectively beginning on November 1, 2021. The effects of this change in useful life estimate for the three months ended September 30, 2022 were a decrease in depreciation expense of $2.0 million, an increase in net income of $1.6 million, and an increase to basic and diluted earnings per share by $0.06.
Revenue Recognition:
Our revenue from contracts with customers is generated primarily from manufacturing services provided for the production of electronic assemblies, components, medical devices, medical disposables, precision molded plastics, and automation, test, and inspection equipment built to customer’s specifications. Our customer agreements are generally not for a definitive term but continue for the relevant product’s life cycle. Typically, our customer agreements do not commit the customer to purchase our services until a purchase order is provided, which is generally short term in nature. Customer purchase orders primarily have a single performance obligation. Generally, the prices stated in the customer purchase orders are agreed upon prices for the manufactured product and do not vary over the term of the order, and therefore, the majority of our contracts do not contain variable consideration. In limited circumstances, we may enter into a contract which contains minimum quantity thresholds to cover our capital costs, and we may offer our customer a rebate for specific volume thresholds or other incentives; in these cases, the rebates or incentives are accounted for as variable consideration.
8
The majority of our revenue is recognized over time as manufacturing services are performed as we manufacture a product to customer specifications with no alternative use and we have an enforceable right to payment for performance completed to date. The remaining revenue for manufacturing services is recognized when the customer obtains control of the product, typically either upon shipment or delivery of the product dependent on the terms of the contract, and the customer is able to direct the use of and obtain substantially all of the remaining benefits from the asset. We generally recognize revenue over time using costs based input methods, in which judgment is required to evaluate assumptions including anticipated margins to estimate the corresponding amount of revenue to recognize. Costs used as a basis for estimating anticipated margins include material, direct and indirect labor, and appropriate applied overheads. Anticipated margins are determined based on historical or quoted customer pricing. Costs based input methods are considered a faithful depiction of our efforts and progress toward satisfying our performance obligations for manufacturing services and for which we believe we are entitled to payment for performance completed to date. The cumulative effect of revisions to estimates related to net contract revenues or costs are recorded in the period in which the revisions to estimates are identified and the amounts can be reasonably estimated.
We have elected to account for shipping and handling activities related to contracts with customers as costs to fulfill our promise to transfer the associated services and products. Accordingly, we record customer payments of shipping and handling costs as a component of net sales and classify such costs as a component of cost of sales. We recognize sales net of applicable sales or value add taxes. Based on estimated product returns and price concessions, a reserve for returns and allowances is recorded at the time revenue is recognized, resulting in a reduction of net revenue.
Direct incremental costs to obtain and fulfill a contract are capitalized as a contract asset only if they are material, expected to be recovered, and are not accounted for in accordance with other guidance. Incidental items that are immaterial in the context of the contract are recognized as expense in the period incurred.
Trade Accounts Receivable:
The Company’s trade accounts receivable are recorded per the terms of the agreement or sale, and accrued interest is recognized when earned. Our policy for estimating the allowance for credit losses on trade accounts receivable includes analysis of such items as aging, credit worthiness, payment history, and historical bad debt experience. Management uses these specific analyses in conjunction with an evaluation of the general economic and market conditions to estimate expected credit losses. Management believes that historical loss information generally provides a basis for its assessment of expected credit losses. Trade accounts receivable are written off after exhaustive collection efforts occur and the receivable is deemed uncollectible. Adjustments to the allowance for credit losses are recorded in Selling and Administrative Expenses on our Condensed Consolidated Statements of Income.
In the ordinary course of business, customers periodically negotiate extended payment terms on trade accounts receivable. Customary terms require payment within 30 to 45 days, with any terms beyond 45 days being considered extended payment terms. We utilize factoring arrangements for certain of our accounts receivables with third-party financial institutions in order to extend terms for the customer without negatively impacting our cash flow. These arrangements in all cases do not contain recourse provisions which would obligate us in the event of our customers’ failure to pay. Receivables are considered sold when they are transferred beyond the reach of Kimball Electronics and its creditors, the purchaser has the right to pledge or exchange the receivables, and we have surrendered control over the transferred receivables. In the three months ended September 30, 2022 and 2021, we sold, without recourse, $97.6 million and $62.1 million of accounts receivable, respectively. Factoring fees were $0.9 million and $0.2 million for the three months ended September 30, 2022 and 2021, respectively. Factoring fees are recorded in Selling and Administrative Expenses on our Condensed Consolidated Statements of Income.
Goodwill and Other Intangible Assets:
Goodwill represents the difference between the purchase price and the related underlying tangible and intangible net asset fair values resulting from business acquisitions. Annually, or if conditions indicate an earlier review is necessary, goodwill is assessed or tested at the reporting unit level. If the estimated fair value of the reporting unit is less than the carrying value, goodwill is written down to its estimated fair value. Other Intangible Assets consist of capitalized software, customer relationships, technology, and trade name, and are reviewed for impairment, and their remaining useful lives evaluated for revision, when events or circumstances indicate that the carrying value may not be recoverable over the remaining lives of the assets. As of September 30, 2022, the Company determined there have been no indicators of impairment for goodwill and other intangible assets. See Note 11 - Goodwill and Other Intangible Assets of Notes to Condensed Consolidated Financial statements for more information on Goodwill and Other Intangible Assets.
9
Leases:
The Company leases certain office, manufacturing, and warehouse facilities under operating leases, in addition to land on which certain office and manufacturing facilities resides. Operating lease costs and cash payments for operating leases are immaterial to the Condensed Consolidated Statements of Income and our Condensed Consolidated Statements of Cash Flows. Lease right-of-use assets and lease liabilities each totaled $3.0 million at September 30, 2022 and $3.1 million at June 30, 2022, respectively. Lease right-of-use assets are included in Other Assets and lease liabilities are included in Accrued expenses and Other long-term liabilities on the Condensed Consolidated Balance Sheets.
Other General Income:
Other General Income in the three months ended September 30, 2021 included $1.4 million of pre-tax income resulting from payments received related to class action lawsuits in which Kimball Electronics was a class member. These lawsuits alleged that certain suppliers to the EMS industry conspired over a number of years to raise and fix the prices of electronic components, resulting in overcharges to purchasers of those components. No Other General Income was recorded in three months ended September 30, 2022.
Non-operating Income (Expense), net:
Non-operating income (expense), net includes the impact of such items as foreign currency rate movements and related derivative gain or loss, fair value adjustments on supplemental employee retirement plan (“SERP”) investments, amortization of actuarial gains (losses), and other miscellaneous non-operating income and expense items that are not directly related to operations. The gain (loss) on SERP investments is offset by a change in the SERP liability that is recognized in Selling and Administrative Expenses.
Components of Non-operating income (expense), net:
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Amounts in Thousands) | 2022 | 2021 | |||||||||
| Foreign currency/derivative gain (loss) | $ | 534 | $ | (572) | |||||||
| Gain (loss) on SERP investments | (235) | (87) | |||||||||
| Other | 201 | (219) | |||||||||
| Non-operating income (expense), net | $ | 500 | $ | (878) | |||||||
Income Taxes:
In determining the quarterly provision for income taxes, we use an estimated annual effective tax rate which is based on expected annual income, statutory tax rates, and available tax planning opportunities in the various jurisdictions in which we operate. Unusual or infrequently occurring items are separately recognized in the quarter in which they occur.
Deferred income tax assets and liabilities, recorded in Other Assets and Other long-term liabilities, respectively, in the Condensed Consolidated Balance Sheets, are recognized for the estimated future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. These assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which the temporary differences are expected to reverse. We evaluate the recoverability of deferred tax assets each quarter by assessing the likelihood of future taxable income and available tax planning strategies that could be implemented to realize our deferred tax assets. If recovery is not likely, we provide a valuation allowance based on our best estimate of future taxable income in the various taxing jurisdictions and the amount of deferred taxes ultimately realizable. Future events could change management’s assessment.
We operate within multiple taxing jurisdictions and are subject to tax audits in these jurisdictions. These audits can involve complex uncertain tax positions, which may require an extended period of time to resolve. A tax benefit from an uncertain tax position may be recognized only if it is more likely than not that the tax position will be sustained on examination by taxing authorities, based on the technical merits of the position. We maintain a liability for uncertain income tax and other tax positions, including accrued interest and penalties on those positions. As tax positions are effectively settled, the tax liability is adjusted accordingly. We recognize interest and penalties related to unrecognized tax benefits in Provision for Income Taxes on the Condensed Consolidated Statements of Income.
10
The U.S. Tax Cuts and Jobs Act (“Tax Reform”) was enacted into law on December 22, 2017, making broad and complex changes to the U.S. tax code, for which complete guidance may have not yet been issued. Tax Reform, in addition to other changes, required a one-time transition tax on certain unremitted earnings of foreign subsidiaries that is payable over an eight-year period. As of September 30, 2022 and June 30, 2022, the remaining provision recorded for the one-time deemed repatriation tax was $7.8 million and $8.9 million, respectively, payable through fiscal year 2026, with the long-term portion recorded in Long-term income taxes payable on the Condensed Consolidated Balance Sheets. As of September 30, 2022, $1.9 million of the remaining deemed repatriation tax is short term and is recorded in Accrued expenses on the Condensed Consolidated Balance Sheet.
Note 2. Revenue from Contracts with Customers
Our revenue from contracts with customers is generated primarily from manufacturing services provided for the production of electronic assemblies, electronic and non-electronic components, medical devices, medical disposables, precision molded plastics, and automation, test, and inspection equipment in automotive, medical, and industrial applications, to the specifications and designs of our customers. Beginning in fiscal year 2023, the Company changed its presentation of revenue for the industrial and public safety end market verticals by combining them into the industrial end market vertical. Prior year periods have been recast to conform to the current year presentation.
The following table disaggregates our revenue by end market vertical for the three months ended September 30, 2022 and 2021.
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Amounts in Millions) | 2022 | 2021 | |||||||||
| Vertical Markets: | |||||||||||
| Automotive | $ | 184.5 | $ | 129.4 | |||||||
| Medical | 114.8 | 85.0 | |||||||||
| Industrial | 100.9 | 75.0 | |||||||||
| Other | 5.7 | 3.3 | |||||||||
| Total net sales | $ | 405.9 | $ | 292.7 | |||||||
For the three months ended September 30, 2022 and 2021, approximately 96% and 95% of our net sales, respectively, were recognized over time as manufacturing services were performed under a customer contract on a product with no alternative use and we have an enforceable right to payment for performance completed to date. The remaining sales revenues were recognized at a point in time when the customer obtained control of the products.
The timing differences of revenue recognition, billings to our customers, and cash collections from our customers result in billed accounts receivable and unbilled accounts receivable. Contract assets on the Condensed Consolidated Balance Sheets relate to unbilled accounts receivable and occur when revenue is recognized over time as manufacturing services are provided and the billing to the customer has not yet occurred as of the balance sheet date, which are generally transferred to receivables in the next fiscal quarter due to the short-term nature of the manufacturing cycle. Contract assets were $68.3 million and $64.1 million as of September 30, 2022 and June 30, 2022, respectively.
In limited circumstances, the Company may receive payments from customers in advance of the satisfaction of performance obligations primarily for material price variances, tooling, or other miscellaneous services or costs. These advance payments are recognized as contract liabilities until the performance obligations are completed and are included in Accrued expenses on the Condensed Consolidated Balance Sheets, which amounted to $24.6 million and $22.5 million as of September 30, 2022 and June 30, 2022, respectively. Our performance obligations are short term in nature and therefore our contract liabilities are all expected to be settled within twelve months.
Note 3. Inventories
Inventories were valued using the lower of first-in, first-out (“FIFO”) cost and net realizable value. Inventory components were as follows:
| (Amounts in Thousands) | September 30, 2022 | June 30, 2022 | |||||||||
| Finished products | $ | 751 | $ | 525 | |||||||
| Work-in-process | 4,997 | 4,911 | |||||||||
| Raw materials | 443,780 | 390,194 | |||||||||
| Total inventory | $ | 449,528 | $ | 395,630 | |||||||
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Note 4. Accumulated Other Comprehensive Income (Loss)
During the three months ended September 30, 2022 and 2021, the changes in the balances of each component of Accumulated Other Comprehensive Income (Loss), net of tax, were as follows:
| Accumulated Other Comprehensive Income (Loss) | |||||||||||||||||||||||
| (Amounts in Thousands) | Foreign Currency Translation Adjustments | Derivative Gain (Loss) | Post Employment Benefits Net Actuarial Gain (Loss) | Accumulated Other Comprehensive Income (Loss) | |||||||||||||||||||
Balance at June 30, 2022 | $ | (17,349) | $ | (2,203) | $ | (120) | $ | (19,672) | |||||||||||||||
| Other comprehensive income (loss) before reclassifications | (7,237) | 322 | (17) | (6,932) | |||||||||||||||||||
| Reclassification to (earnings) loss | — | (408) | (77) | (485) | |||||||||||||||||||
| Net current-period other comprehensive income (loss) | (7,237) | (86) | (94) | (7,417) | |||||||||||||||||||
Balance at September 30, 2022 | $ | (24,586) | $ | (2,289) | $ | (214) | $ | (27,089) | |||||||||||||||
Balance at June 30, 2021 | $ | (2,223) | $ | (2,427) | $ | (233) | $ | (4,883) | |||||||||||||||
| Other comprehensive income (loss) before reclassifications | (2,953) | (1,244) | 22 | (4,175) | |||||||||||||||||||
| Reclassification to (earnings) loss | — | (42) | (49) | (91) | |||||||||||||||||||
| Net current-period other comprehensive income (loss) | (2,953) | (1,286) | (27) | (4,266) | |||||||||||||||||||
Balance at September 30, 2021 | $ | (5,176) | $ | (3,713) | $ | (260) | $ | (9,149) | |||||||||||||||
The following reclassifications were made from Accumulated Other Comprehensive Income (Loss) to the Condensed Consolidated Statements of Income:
| Reclassifications from Accumulated Other Comprehensive Income (Loss) | Three Months Ended | Affected Line Item in the Condensed Consolidated Statements of Income | |||||||||||||||
| September 30 | |||||||||||||||||
| (Amounts in Thousands) | 2022 | 2021 | |||||||||||||||
Derivative gain (loss) (1) | $ | 346 | $ | 101 | Cost of Sales | ||||||||||||
| 62 | (59) | Benefit (Provision) for Income Taxes | |||||||||||||||
| $ | 408 | $ | 42 | Net of Tax | |||||||||||||
| Postemployment Benefits: | |||||||||||||||||
Amortization of actuarial gain (2) | 101 | 64 | Non-operating income (expense), net | ||||||||||||||
| (24) | (15) | Benefit (Provision) for Income Taxes | |||||||||||||||
| $ | 77 | $ | 49 | Net of Tax | |||||||||||||
| Total reclassifications for the period | $ | 485 | $ | 91 | Net of Tax | ||||||||||||
Amounts in parentheses indicate reductions to income.
(1) See Note 8 - Derivative Instruments of Notes to Condensed Consolidated Financial Statements for further information on derivative instruments.
(2) See Note 9 - Employee Benefit Plans of Notes to Condensed Consolidated Financial Statements for further information on postemployment benefit plans.
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Note 5. Commitments and Contingent Liabilities
The Company typically provides only assurance-type warranties for a limited time period, which cover workmanship and assures the product complies with specifications provided by or agreed upon with the customer. We maintain a provision for limited warranty repair or replacement of products manufactured and sold, which has been established in specific manufacturing contract agreements. We estimate product warranty liability at the time of sale based on historical repair or replacement cost trends in conjunction with the length of the warranty offered. Management refines the warranty liability periodically based on changes in historical cost trends and in certain cases where specific warranty issues become known. Product warranty liability is recorded in Accrued expenses and Other long-term liabilities on the Condensed Consolidated Balance Sheets.
Changes in the product warranty liability for the three months ended September 30, 2022 and 2021 were as follows:
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Amounts in Thousands) | 2022 | 2021 | |||||||||
| Product warranty liability at the beginning of the period | $ | 529 | $ | 610 | |||||||
| Additions to warranty accrual (including changes in estimates) | 15 | (34) | |||||||||
| Settlements made (in cash or in kind) | (9) | — | |||||||||
| Product warranty liability at the end of the period | $ | 535 | $ | 576 | |||||||
Note 6. Credit Facilities
Credit facilities consisted of the following:
| Available Borrowing Capacity at | Borrowings Outstanding at | Borrowings Outstanding at | |||||||||||||||
| (Amounts in Millions, in U.S Dollar Equivalents) | September 30, 2022 | September 30, 2022 | June 30, 2022 | ||||||||||||||
Primary credit facility (1) | $ | 74.6 | $ | 225.0 | $ | 171.4 | |||||||||||
Thailand overdraft credit facility (2) | 10.1 | — | — | ||||||||||||||
China revolving credit facility (3) | 7.0 | 0.5 | — | ||||||||||||||
| Netherlands revolving credit facility | 2.0 | 7.0 | 9.2 | ||||||||||||||
| Total credit facilities | $ | 93.7 | $ | 232.5 | $ | 180.6 | |||||||||||
| Less: current portion | $ | (52.5) | $ | (35.6) | |||||||||||||
Long-term debt under credit facilities, less current portion (4) | $ | 180.0 | $ | 145.0 | |||||||||||||
(1) The Company maintains a U.S. primary credit facility (the “primary credit facility”) among the Company, the lenders party thereto, and JPMorgan Chase Bank, N. A., as Administrative Agent, and Bank of America, N.A., as Documentation Agent, scheduled to mature May 4, 2027. The primary credit facility provides for $300 million in borrowings, with an option to increase the amount available for borrowing to $450 million upon request, subject to the consent of each lender participating in such increase. This facility is maintained for working capital and general corporate purposes of the Company. A commitment fee is payable on the unused portion of the credit facility at a rate that ranges from 10.0 to 25.0 basis points per annum as determined by the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA, as defined in the primary credit facility. Types of borrowings available on the primary credit facility include revolving loans, multi-currency term loans, and swingline loans.
The interest rate on borrowings is dependent on the type and currencies of borrowings and will be one of the following options:
•any Term Benchmark borrowing denominated in U.S. Dollars will utilize the Secured Overnight Financing Rate (“SOFR”), which is a rate per annum equal to the secured overnight financing rate for such business day published by the SOFR Administrator, the Federal Reserve Bank of New York, on the immediately succeeding business day, plus the Revolving Commitment Term Benchmark spread which can range from 100.0 to 175.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA;
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•any Term Benchmark borrowing denominated in Euros will utilize the Euro Interbank Offered Rate (“EURIBOR”) in effect two target days prior to the advance (adjusted upwards to reflect bank reserve costs) for such interest period as defined in the agreement, plus the Revolving Commitment Term Benchmark spread which can range from 100.0 to 175.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA; or
•the Alternate Base Rate (“ABR”), which is defined as the highest of the fluctuating rate per annum equal to the higher of
a.Prime Rate in the U.S. last quoted by the Wall Street Journal, and if this is ceased to be quoted, the highest bank prime loan rate or similar loan rate quoted by the Federal Reserve Board;
b.1/2 of 1% per annum above the Federal Funds Effective Rate (as defined under the primary credit facility); or
c.1% per annum above the Adjusted SOFR Rate (as defined under the primary credit facility);
plus the Revolving Commitment ABR spread which can range from 0.0 to 75.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA.
The Company’s financial covenants under the primary credit facility require:
•a ratio of consolidated total indebtedness minus unencumbered U.S. cash on hand in the United States in excess of $15 million to adjusted consolidated EBITDA, determined as of the end of each of its fiscal quarters for the then most recently ended four fiscal quarters, to not be greater than 3.0 to 1.0, provided, however, that for each fiscal quarter end during the four quarter period following a material permitted acquisition, as defined in the Credit Agreement, the Company will not permit this financial covenant to be greater than 3.5 to 1.0 for each such fiscal quarter end, and,
•an interest coverage ratio, defined as that ratio of consolidated EBITDA for such period to cash interest expense for such period, for any period of four consecutive fiscal quarters, to be less than 3.5 to 1.0.
The Company had $0.4 million in letters of credit contingently committed against the credit facility at both September 30, 2022 and June 30, 2022.
(2) During the first quarter of fiscal year 2023, the Company expanded the borrowing capacity of the Thailand credit facility to $10.1 million.
(3) The Company entered into a foreign credit facility for its EMS operation in China which allows for borrowings up to $7.5 million. The facility is scheduled to mature on June 30, 2023.
(4) The amount of Long-term debt under credit facilities, less current maturities reflects the borrowings on the primary credit facility that the Company intends, and has the ability, to refinance for a period longer than twelve months. The primary credit facility matures on July 27, 2023.
The weighted-average interest rate on borrowings outstanding under the credit facilities at September 30, 2022 and June 30, 2022 were 4.4% and 2.7%, respectively.
Note 7. Fair Value
The Company categorizes assets and liabilities measured at fair value into three levels based upon the assumptions (inputs) used to price the assets or liabilities. Level 1 provides the most reliable measure of fair value, whereas level 3 generally requires significant management judgment. The three levels are defined as follows:
•Level 1: Unadjusted quoted prices in active markets for identical assets and liabilities.
•Level 2: Observable inputs other than those included in level 1. For example, quoted prices for similar assets or liabilities in active markets or quoted prices for identical assets or liabilities in inactive markets.
•Level 3: Unobservable inputs reflecting management’s own assumptions about the inputs used in pricing the asset or liability.
There were no changes in the inputs or valuation techniques used to measure fair values during the three months ended September 30, 2022. For more information on inputs and fair valuation techniques used, refer to our Annual Report on Form 10-K for the year ended June 30, 2022.
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Recurring Fair Value Measurements:
As of September 30, 2022 and June 30, 2022, the fair values of financial assets and liabilities that are measured at fair value on a recurring basis using the market approach are categorized as follows:
| September 30, 2022 | |||||||||||||||||
| (Amounts in Thousands) | Level 1 | Level 2 | Total | ||||||||||||||
| Assets | |||||||||||||||||
| Cash equivalents | $ | — | $ | — | $ | — | |||||||||||
| Derivatives: foreign exchange contracts | — | 3,791 | 3,791 | ||||||||||||||
| Trading securities: mutual funds held in nonqualified SERP | 8,081 | — | 8,081 | ||||||||||||||
| Total assets at fair value | $ | 8,081 | $ | 3,791 | $ | 11,872 | |||||||||||
| Liabilities | |||||||||||||||||
| Derivatives: foreign exchange contracts | $ | — | $ | 2,464 | $ | 2,464 | |||||||||||
| Total liabilities at fair value | $ | — | $ | 2,464 | $ | 2,464 | |||||||||||
| June 30, 2022 | |||||||||||||||||
| (Amounts in Thousands) | Level 1 | Level 2 | Total | ||||||||||||||
| Assets | |||||||||||||||||
| Cash equivalents | $ | 1,541 | $ | — | $ | 1,541 | |||||||||||
| Derivatives: foreign exchange contracts | — | 1,872 | 1,872 | ||||||||||||||
| Trading securities: mutual funds held in nonqualified SERP | 10,364 | — | 10,364 | ||||||||||||||
| Total assets at fair value | $ | 11,905 | $ | 1,872 | $ | 13,777 | |||||||||||
| Liabilities | |||||||||||||||||
| Derivatives: foreign exchange contracts | $ | — | $ | 3,522 | $ | 3,522 | |||||||||||
| Total liabilities at fair value | $ | — | $ | 3,522 | $ | 3,522 | |||||||||||
We had no level 3 assets or liabilities at September 30, 2022 and June 30, 2022, or any activity in Level 3 assets or liabilities during the three months ended September 30, 2022.
The nonqualified supplemental employee retirement plan (“SERP”) assets consist primarily of equity funds, balanced funds, bond funds, and a money market fund. The SERP investment assets are offset by a SERP liability which represents the Company’s obligation to distribute SERP funds to participants. See Note 9 - Employee Benefit Plans of Notes to Condensed Consolidated Financial Statements for further information regarding the SERP.
Financial Instruments Not Carried At Fair Value:
Financial instruments that are not reflected in the Condensed Consolidated Balance Sheets at fair value that have carrying amounts which approximate fair value include notes receivable and borrowings under credit facilities. There were no changes to the inputs and valuation techniques used to assess the fair value of these financial instruments during the three months ended September 30, 2022. For more information on inputs and fair valuation techniques used, refer to our Annual Report on Form 10-K for the year ended June 30, 2022.
The carrying values of our cash deposit accounts, trade accounts receivable, and trade accounts payable approximate fair value due to the relatively short maturity and immaterial non-performance risk.
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Note 8. Derivative Instruments
Foreign Exchange Contracts:
We operate internationally and are therefore exposed to foreign currency exchange rate fluctuations in the normal course of business. Our primary means of managing this exposure is to utilize natural hedges, such as aligning currencies used in the supply chain with the sale currency. To the extent natural hedging techniques do not fully offset currency risk, we use derivative instruments with the objective of reducing the residual exposure to certain foreign currency rate movements. Factors considered in the decision to hedge an underlying market exposure include the materiality of the risk, the volatility of the market, the duration of the hedge, the degree to which the underlying exposure is committed to, and the availability, effectiveness, and cost of derivative instruments. Derivative instruments are only utilized for risk management purposes and are not used for speculative or trading purposes.
We use forward contracts designated as cash flow hedges to protect against foreign currency exchange rate risks inherent in forecasted transactions denominated in a foreign currency. Non-designated foreign exchange contracts are also used to hedge against foreign currency exchange rate risks related to intercompany balances and other balance sheet positions denominated in currencies other than the functional currencies. As of September 30, 2022, we had outstanding foreign exchange contracts to hedge currencies against the U.S. dollar in the aggregate notional amount of $27.4 million and to hedge currencies against the Euro in the aggregate notional amount of 80.5 million Euro. The notional amounts are indicators of the volume of derivative activities but may not be indicators of the potential gain or loss on the derivatives.
In limited cases due to unexpected changes in forecasted transactions, cash flow hedges may cease to meet the criteria to be designated as cash flow hedges. Depending on the type of exposure hedged, we may either purchase a derivative contract in the opposite position of the undesignated hedge or may retain the hedge until it matures if the hedge continues to provide an adequate offset in earnings against the currency revaluation impact of foreign currency denominated liabilities.
The fair value of outstanding derivative instruments is recognized on the Condensed Consolidated Balance Sheets as a derivative asset or liability and presented with Prepaid expenses and other current assets and Accrued expenses, respectively. When derivatives are settled with the counterparty, the derivative asset or liability is relieved and cash flow is impacted for the net settlement. For derivative instruments that meet the criteria of hedging instruments under FASB guidance, the gain or loss on the derivative instrument is initially recorded net of related tax effect in Accumulated Other Comprehensive Income (Loss), a component of Share Owners’ Equity, and is subsequently reclassified into earnings in the period or periods during which the hedged transaction is recognized in earnings. The gain or loss associated with derivative instruments that are not designated as hedging instruments or that cease to meet the criteria for hedging under FASB guidance is reported immediately in Non-operating income (expense), net on the Condensed Consolidated Statements of Income.
Based on fair values as of September 30, 2022, we estimate that approximately $0.7 million of pre-tax derivative loss deferred in Accumulated Other Comprehensive Loss will be reclassified into earnings, along with the earnings effects of related forecasted transactions, within the next 12 months. Gains on foreign exchange contracts are generally offset by losses in operating income in the income statement when the underlying hedged transaction is recognized in earnings. Because gains or losses on foreign exchange contracts fluctuate partially based on currency spot rates, the future effect on earnings of the cash flow hedges alone is not determinable, but in conjunction with the underlying hedged transactions, the result is expected to be a decline in currency risk. The maximum length of time we had hedged our exposure to the variability in future cash flows was 12 months as of both September 30, 2022 and June 30, 2022.
See Note 7 - Fair Value of Notes to Condensed Consolidated Financial Statements for further information regarding the fair value of derivative assets and liabilities and Note 4 - Accumulated Other Comprehensive Income (Loss) of Notes to Condensed Consolidated Financial Statements for the changes in deferred derivative gains and losses.
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Information on the location and amounts of derivative fair values in the Condensed Consolidated Balance Sheets and derivative gains and losses in the Condensed Consolidated Statements of Income are presented below.
Fair Value of Derivative Instruments on the Condensed Consolidated Balance Sheets
| Asset Derivatives | Liability Derivatives | ||||||||||||||||||||||||||||||||||
| Fair Value As of | Fair Value As of | ||||||||||||||||||||||||||||||||||
| (Amounts in Thousands) | Balance Sheet Location | September 30, 2022 | June 30, 2022 | Balance Sheet Location | September 30, 2022 | June 30, 2022 | |||||||||||||||||||||||||||||
| Derivatives Designated as Hedging Instruments: | |||||||||||||||||||||||||||||||||||
| Foreign exchange contracts | Prepaid expenses and other current assets | $ | 1,888 | $ | 1,189 | Accrued expenses | $ | 2,464 | $ | 1,486 | |||||||||||||||||||||||||
| Derivatives Not Designated as Hedging Instruments: | |||||||||||||||||||||||||||||||||||
| Foreign exchange contracts | Prepaid expenses and other current assets | 1,903 | 683 | Accrued expenses | — | 2,036 | |||||||||||||||||||||||||||||
| Total derivatives | $ | 3,791 | $ | 1,872 | $ | 2,464 | $ | 3,522 | |||||||||||||||||||||||||||
The Effect of Derivative Instruments on Other Comprehensive Income (Loss)
| Three Months Ended | ||||||||||||||||||||
| September 30 | ||||||||||||||||||||
| (Amounts in Thousands) | 2022 | 2021 | ||||||||||||||||||
| Amount of Pre-Tax Gain or (Loss) Recognized in Other Comprehensive Income (Loss) (OCI) on Derivatives: | ||||||||||||||||||||
| Foreign exchange contracts | $ | 283 | $ | (1,561) | ||||||||||||||||
The Effect of Derivative Instruments on Condensed Consolidated Statements of Income
| Three Months Ended | ||||||||||||||||||||
| (Amounts in Thousands) | September 30 | |||||||||||||||||||
| Derivatives in Cash Flow Hedging Relationships | Location of Gain or (Loss) | 2022 | 2021 | |||||||||||||||||
| Amount of Pre-Tax Gain or (Loss) Reclassified from Accumulated OCI into Income: | ||||||||||||||||||||
| Foreign exchange contracts | Cost of Sales | $ | 346 | $ | 101 | |||||||||||||||
| Derivatives Not Designated as Hedging Instruments | ||||||||||||||||||||
| Amount of Pre-Tax Gain or (Loss) Recognized in Income on Derivatives: | ||||||||||||||||||||
| Foreign exchange contracts | Non-operating income (expense) | $ | 1,455 | $ | 73 | |||||||||||||||
| Total Derivative Pre-Tax Gain (Loss) Recognized in Income | $ | 1,801 | $ | 174 | ||||||||||||||||
Note 9. Employee Benefit Plans
The Company maintains a trusteed defined contribution retirement plan which is in effect for substantially all domestic employees meeting the eligibility requirements. The Company also maintains a supplemental employee retirement plan (“SERP”) for executives and other key employees which enables them to defer cash compensation on a pre-tax basis in excess of IRS limitations. The SERP is structured as a rabbi trust, and therefore, assets in the SERP portfolio are subject to creditor claims in the event of bankruptcy. We recognize SERP investment assets on the balance sheet at current fair value. A SERP liability of the same amount is recorded on the balance sheet representing an obligation to distribute SERP funds to participants. As of September 30, 2022, both total investments and obligations under SERP were $8.1 million, of which $0.5 million were short term and $7.6 million were long term. As of June 30, 2022, both total investments and obligations under SERP were $10.4 million, of which $2.6 million were short term and $7.8 million were long term. The SERP investment assets are classified as trading, and accordingly, realized and unrealized gains and losses are recognized in the Other Income (Expense) category on our Condensed Consolidated Statements of Income. Adjustments made to revalue the SERP liability are also recognized in income as selling and administrative expenses and offset valuation adjustments on SERP investment assets. The change in net unrealized holding gains for the three months ended September 30, 2022 and 2021 was approximately $(0.3) million and $(0.1) million, respectively.
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The Company established and maintains severance plans for all domestic employees and other postemployment plans for certain foreign subsidiaries. There are no statutory requirements for us to contribute to the plans, nor do employees contribute to the plans. The plans hold no assets. Benefits are paid using available cash on hand when eligible employees meet plan qualifications for payment. Net periodic benefit costs were not material for the three months ended September 30, 2022 and 2021.
Note 10. Stock Compensation Plans
A stock compensation plan was created and adopted by the Company’s Board of Directors (the “Board”) on October 3, 2014. The Kimball Electronics, Inc. 2014 Stock Option and Incentive Plan (the “Plan”) allows for the issuance of up to 4.5 million shares and may be granted in the form of incentive stock options, stock appreciation rights, restricted shares, unrestricted shares, restricted share units, or performance shares and performance units. The Plan is a ten-year plan with no further awards allowed to be made under the Plan after October 1, 2024.
On October 20, 2016, the Board approved a nonqualified deferred stock compensation plan, the Kimball Electronics, Inc. Non-Employee Directors Stock Compensation Deferral Plan (the “Deferral Plan”), which allows Non-Employee Directors to elect to defer all, or a portion of, their retainer fees in stock until retirement or termination from the Board or death. The Deferral Plan allows for issuance of up to 1.0 million shares of the Company’s common stock. For more information on the Plan and the Deferral Plan, refer to our Annual Report on Form 10-K for the year ended June 30, 2022.
During the first three months of fiscal year 2023, the following stock compensation was granted under the Plan.
| Stock Compensation Granted | Quarter Granted | Shares/Units | Grant Date Fair Value (2) | |||||||||||||||||
Long-Term Performance Shares (1) | 1st Quarter | 184,446 | $23.34 | |||||||||||||||||
Restricted Shares (3) | 1st Quarter | 55,355 | $23.34 | |||||||||||||||||
Long-Term Performance Shares (4) | 1st Quarter | 500 | $21.51 | |||||||||||||||||
(1) Long-term performance share awards were granted to officers and other key employees. These annual performance share awards were approved by the Compensation and Governance Committee of the Board. The awards granted in fiscal year 2023 will cliff vest at the third anniversary of the award date in fiscal year 2026.
Under these awards, a number of shares will be issued to each participant based upon a combination of the Company’s profitability based on its operating income over the performance period as defined in the Company’s operating business plans for the applicable fiscal years and the Company’s growth based on a comparison of its three-year compounded annual growth rate (“CAGR”) with the Electronics Manufacturing Services Industry’s three-year CAGR. The number of shares issued will be less than the targeted shares issuable if the Company does not reach 100% of one or both of the above-mentioned performance metrics, and could be zero if the Company does not reach the required minimum thresholds of either metric. The number of shares issued will exceed the number of targeted shares issuable (up to a maximum of 125%) if the Company exceeds 100% of one or both of the above-mentioned incentive metrics.
(2) The grant date fair value is based on the stock price at the date of the grant.
(3) Restricted shares were granted to officers and other key employees. These restricted shares were approved by the Compensation and Governance Committee of the Board. The contractual life of the restricted shares is three years, with one-third of the interest in the restricted shares vested after year one of the grant, another one-third after year two of the grant, and the final one-third after year three of the grant. Restricted shares are expensed over the contractual vesting period as earned. If the employment of a holder of restricted shares terminates before the RSU has vested for any reason other than death, retirement, or disability, the restricted shares not yet vested will be forfeited.
(4) Long-term performance share awards were granted to a key employee. This award granted in fiscal year 2023 will cliff vest at the first anniversary of the award date in fiscal year 2024. Shares will be issued to this participant based on the performance metrics described in (1) above.
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Note 11. Goodwill and Other Intangible Assets
A summary of goodwill is as follows:
| (Amounts in Thousands) | September 30, 2022 | June 30, 2022 | |||||||||
| Goodwill | $ | 32,762 | $ | 32,762 | |||||||
| Accumulated impairment | (20,751) | (20,751) | |||||||||
| Goodwill, net | $ | 12,011 | $ | 12,011 | |||||||
A summary of other intangible assets subject to amortization is as follows:
| September 30, 2022 | June 30, 2022 | ||||||||||||||||||||||||||||||||||
| (Amounts in Thousands) | Cost | Accumulated Amortization | Net Value | Cost | Accumulated Amortization | Net Value | |||||||||||||||||||||||||||||
| Capitalized Software | $ | 29,891 | $ | (26,583) | $ | 3,308 | $ | 29,891 | $ | (26,209) | $ | 3,682 | |||||||||||||||||||||||
| Customer Relationships | 8,618 | (3,149) | 5,469 | 8,618 | (3,024) | 5,594 | |||||||||||||||||||||||||||||
| Technology | 5,060 | (4,058) | 1,002 | 5,060 | (3,805) | 1,255 | |||||||||||||||||||||||||||||
| Trade Name | 6,575 | (2,562) | 4,013 | 6,575 | (2,399) | 4,176 | |||||||||||||||||||||||||||||
| Other Intangible Assets | $ | 50,144 | $ | (36,352) | $ | 13,792 | $ | 50,144 | $ | (35,437) | $ | 14,707 | |||||||||||||||||||||||
For both the three months ended September 30, 2022 and 2021, amortization expense of other intangible assets was $0.9 million.
The estimated useful life of internal-use software ranges from 3 years to 10 years. The amortization period for the customer relationships, technology, and trade name intangible assets is 15 years, 5 years, and 10 years, respectively. We have no intangible assets with indefinite useful lives which are not subject to amortization.
Note 12. Share Owners’ Equity
The Company has a Board-authorized stock repurchase plan (the “Plan”) allowing the repurchase of up to $100 million of our common stock. Purchases may be made under various programs, including in open-market transactions, block transactions on or off an exchange, or in privately negotiated transactions, all in accordance with applicable securities laws and regulations. The Plan has no expiration date but may be suspended or discontinued at any time.
During the three months ended September 30, 2022, the Company had no share repurchases under the Plan. Since the inception of the Plan, the Company has repurchased $88.8 million of common stock at an average cost of $15.27 per share.
Note 13. Earnings Per Share
Basic and diluted earnings per share were calculated as follows under the two-class method:
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| (Amounts in thousands, except per share data) | 2022 | 2021 | |||||||||
| Basic and Diluted Earnings Per Share: | |||||||||||
| Net Income | $ | 9,509 | $ | 2,564 | |||||||
| Less: Net Income allocated to participating securities | 13 | 4 | |||||||||
| Net Income allocated to common Share Owners | $ | 9,496 | $ | 2,560 | |||||||
| Basic weighted average common shares outstanding | 24,826 | 25,145 | |||||||||
| Dilutive effect of average outstanding stock compensation awards | 129 | 156 | |||||||||
| Dilutive weighted average shares outstanding | 24,955 | 25,301 | |||||||||
| Earnings Per Share of Common Stock: | |||||||||||
| Basic | $ | 0.38 | $ | 0.10 | |||||||
| Diluted | $ | 0.38 | $ | 0.10 | |||||||
19
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Forward-Looking Statements
Certain statements contained within this document are considered forward-looking under the Private Securities Litigation Reform Act of 1995. The statements may be identified by the use of words such as “believes,” “anticipates,” “expects,” “intends,” “plans,” “projects,” “estimates,” “forecasts,” “likely,” “future,” “may,” “should,” “would,” “could,” “will,” “potentially,” and similar expressions. These forward-looking statements are subject to risks and uncertainties including, but not limited to, global economic conditions, geopolitical environment and conflicts such as the war in Ukraine, global health emergencies including the COVID-19 pandemic, availability or cost of raw materials and components, foreign exchange fluctuations, and our ability to convert new business opportunities into customers and revenue. Additional cautionary statements regarding other risk factors that could have an effect on the future performance of Kimball Electronics are contained in our Annual Report on Form 10-K for the year ended June 30, 2022.
Business Overview
We are a global, multifaceted manufacturing solutions provider. We provide contract electronics manufacturing services (“EMS”) and diversified manufacturing services, including engineering and supply chain support, to customers in the automotive, medical, industrial, and public safety end markets. Our core competency is producing durable electronics, and we further offer diversified contract manufacturing services for non-electronic components, medical devices, medical disposables, drug delivery devices and solutions, precision molded plastics, and production automation, test, and inspection equipment. Our manufacturing services, including engineering and supply chain support, utilize common production and support capabilities globally. We are well recognized by our customers and the industry for our excellent quality, reliability, and innovative service. CIRCUITS ASSEMBLY, a leading brand and technical publication for electronics manufacturers worldwide, has recognized us three times in the past four years for achieving the Highest Overall Customer Rating in their Service Excellence Awards.
The contract manufacturing services industry is very competitive. As a mid-sized player, we can expect to be challenged by the agility and flexibility of the smaller, regional players, and we can expect to be challenged by the scale and price competitiveness of the larger, global players. We enjoy a unique market position between these extremes which allows us to compete with the larger scale players for high-volume projects, but also maintain our competitive position in the generally lower volume durable electronics market space. We expect to continue to effectively operate in this market space; however, one significant challenge will be maintaining our profit margins while we continue our revenue growth. Price increases are uncommon in the market as production efficiencies and material pricing advantages for most projects drive costs and prices down over the life of the projects. This characteristic of the contract electronics marketplace is expected to continue.
The Worldwide Manufacturing Services Market - 2022 Edition, a comprehensive study on the worldwide EMS market published by New Venture Research (“NVR”), provided worldwide forecast trends through 2026. NVR projects the worldwide assembly market for electronics products to grow at a compound annual growth rate (“CAGR”) of 4.3% over the next five years, with the EMS industry projected to grow at a CAGR of 5.5%.
We continue to monitor the current economic and industry conditions for uncertainties that may pose a threat to our future growth or cause disruption in business strategy, execution, and timing in the markets in which we compete. The COVID-19 pandemic continues to impact the global economy, and we are actively monitoring its impact on all our operations. The well-being and safety of our employees remains our number one priority, and we are following guidelines suggested by applicable authorities as appropriate for our operations. Due to the continued spread of COVID-19 cases, in various cities in China where our customers and suppliers operate, Chinese authorities have reinstated certain measures to keep COVID-19 in check, including travel restrictions, stay-at-home orders, compulsory quarantines, and the temporary closure of many corporate offices, manufacturing facilities, and factories. We continue to maintain close contact and communication with our customers and our supply chain to ensure safety measures follow appropriate guidelines for the health and safety of all parties and to minimize disruption of operations. While the availability of vaccines and other treatments is encouraging, significant uncertainties and risks still exist related to the severity and duration of the impact of COVID-19 on our end markets, the supply chain, the health and availability of our workforce, and global macroeconomic conditions; therefore, its financial impact on our future results cannot be reasonably estimated but could be material.
The EMS industry continues to experience component shortages, component allocations, and shipping delays, particularly with semiconductors, which were especially challenging in the prior fiscal year. Component shortages or allocations could continue to increase component costs and potentially interrupt our operations and negatively impact our ability to meet commitments to customers. We have taken various actions to mitigate the risk and minimize the impact to our customers as well as the adverse effect component shortages, component allocations, or shipping delays could have on our results; however, the duration or severity of the components shortages is unknown.
20
COVID-19 interruptions and supply chain restraints have also resulted in an industry-wide inflation of components, labor, freight, and other operating costs. Through contractual pricing arrangements and negotiations with our customers, we have been able to mitigate a majority of these cost increases; however, our profitability has been impacted, and the financial impact on our future results cannot be reasonably estimated but could be material.
The Russian invasion of Ukraine and the ongoing war there has impacted the global economy as the United States, the UK, the EU, and other countries have imposed broad export controls and financial and economic sanctions against Russia (a large exporter of commodities), Belarus, and specific areas of Ukraine, and may continue to impose additional sanctions or other measures. Russia may impose its own counteractive measures. Companies worldwide are interrupting or stopping production in Ukraine, Russia, and neighboring countries. We do not procure materials directly from Ukraine or Russia, but these impacts can further exacerbate the ongoing supply chain disruptions that are occurring across the globe, particularly in the automotive industry. While the precise effects on global economies of the ongoing war and sanctions remain uncertain, they have already resulted in significant volatility in financial markets, fluctuations in currency exchange rates, and an increase in energy and commodity prices globally. Should the war continue or escalate, there may be various economic and security consequences including, but not limited to, additional supply shortages of different kinds; further increases in prices of commodities; significant disruptions in logistics infrastructure and telecommunications services; and risks relating to the unavailability of information technology systems and infrastructure. The resulting impacts to the global economy, financial markets, inflation, interest rates, and unemployment, among others, could adversely impact economic and financial conditions, and may disrupt the global economy’s ongoing recovery from the COVID-19 pandemic. Other potential consequences include, but are not limited to, growth in the number of popular uprisings in the region, increased political discontent, especially in the regions most affected by war or economic sanctions, increase in cyberterrorism activities and attacks, displacement of persons to regions close to the areas of conflict, and an increase in the number of refugees fleeing across Europe, among other unforeseen social and humanitarian effects. Any future negative impact to our operations cannot be reasonably estimated but could be material.
We experienced record quarterly net sales in the first quarter of the current fiscal year as sales increased 39% from the prior fiscal year first quarter, with double-digit increases in all three of our end market verticals. Beginning in fiscal year 2023, we changed our presentation of revenue for the industrial and public safety end market verticals by combining them into the industrial end market vertical. Prior year periods have been recast to conform to the current year presentation. The prior fiscal year first quarter net sales were adversely impacted by component shortages, especially within the automotive end market vertical. Sales to customers in the automotive market in the first quarter of fiscal year 2023 were a quarterly record, largely driven by the supply chain catching up with the demand and the continued ramp-up of certain programs and the launch of new programs. In the medical market, sales increased due to the launch and ramp-up of new programs in addition to improved component availability. In the industrial market, sales increased in large part due to higher end market demand for climate control products, which was supported by improved component availability.
We have a strong focus on cost control balanced with managing the future growth prospects of our business and growing backlog of orders due to the global component shortage and logistical challenges. We expect to make investments that will strengthen or add new capabilities to our package of value as a multifaceted manufacturing solutions company, including through our recently announced and completed capacity expansions. Managing working capital in conjunction with fluctuating demand levels is likewise key. In addition, a long-standing component of our profit-sharing incentive bonus plan is that it is linked to our financial performance which results in varying amounts of compensation expense as profits change.
We continue to maintain a strong balance sheet, which included a current ratio of 1.9, a debt-to-equity ratio of 0.5, and Share Owners’ equity of $456 million at September 30, 2022. Our short-term liquidity available, represented as cash and cash equivalents plus the unused amount of our credit facilities, some of which are uncommitted, totaled $113 million at September 30, 2022.
In addition to the above discussion related to the current market conditions, management currently considers the following events, trends, and uncertainties to be most important to understanding our financial condition and operating performance:
•Employees throughout our business operations are an integral part of our ability to compete successfully, and the stability of the management team is critical to long-term Share Owner value. Our talent management and succession planning processes help to maintain stability in management.
•Due to the contract and project nature of the contract manufacturing industry, fluctuation in the demand for our products and variation in the gross margin on those programs is inherent to our business. Effective management of manufacturing capacity is, and will continue to be, critical to our success.
21
•The nature of the EMS industry is such that the start-up of new customers and new programs to replace expiring programs occurs frequently. As such, our ability to continue contractual relationships with our customers, including our principal customers, is not certain. While our agreements with customers generally do not have a definitive term and thus could be canceled at any time with little or no notice, we generally realize relatively few cancellations prior to the end of the product’s life cycle. We attribute this to our focus on long-term customer relationships, meeting customer expectations, required capital investment, and product qualification cycle times. New customers and program start-ups generally cause margin dilution early in the life of a program, which is generally recovered as the program becomes established and matures.
•Risk factors within our business include, but are not limited to, general economic and market conditions, component availability, logistical challenges, customer order delays, globalization, global health emergencies including the COVID-19 pandemic, geopolitical conflicts such as the war in Ukraine, impact related to tariffs and other trade barriers, foreign currency exchange rate fluctuations, rapid technological changes, supplier and customer financial stability, the contract nature of this industry, the concentration of sales to significant customers, and the potential for customers to choose a dual sourcing strategy or to in-source a greater portion of their manufacturing. The continuing success of our business is dependent upon our ability to replace expiring customers/programs with new customers/programs. We monitor our success in this area by tracking the number of customers and the percentage of our net sales generated from them by years of service as depicted in the table below. While variation in the size of program awards makes it difficult to directly correlate this data to our sales trends, we believe it does provide useful information regarding our customer loyalty and new business growth. Additional risk factors that could have an effect on our performance are located within the “Risk Factors” section of our Annual Report on Form 10-K for the year ended June 30, 2022.
| Three Months Ended | ||||||||||||||
| September 30 | ||||||||||||||
| Customer Service Years | 2022 | 2021 | ||||||||||||
| More than 10 Years | ||||||||||||||
| % of Net Sales | 80 | % | 78 | % | ||||||||||
| # of Customers | 31 | 34 | ||||||||||||
| 5 to 10 Years | ||||||||||||||
| % of Net Sales | 16 | % | 18 | % | ||||||||||
| # of Customers | 18 | 22 | ||||||||||||
| Less than 5 Years | ||||||||||||||
| % of Net Sales | 4 | % | 4 | % | ||||||||||
| # of Customers | 11 | 15 | ||||||||||||
| Total | ||||||||||||||
| % of Net Sales | 100 | % | 100 | % | ||||||||||
| # of Customers | 60 | 71 | ||||||||||||
22
Financial Overview
| At or for the | |||||||||||||||||||||||||||||
| Three Months Ended | |||||||||||||||||||||||||||||
| September 30 | |||||||||||||||||||||||||||||
| (Amounts in Millions, Except for Per Share Data) | 2022 | as a % of Net Sales | 2021 | as a % of Net Sales | % Change | ||||||||||||||||||||||||
| Net Sales | $ | 405.9 | $ | 292.7 | 39 | % | |||||||||||||||||||||||
| Gross Profit | $ | 29.3 | 7.2 | % | $ | 15.6 | 5.3 | % | 88 | % | |||||||||||||||||||
| Selling and Administrative Expenses | 15.7 | 3.9 | % | 12.2 | 4.2 | % | 29 | % | |||||||||||||||||||||
| Other General Income | — | 1.4 | |||||||||||||||||||||||||||
| Operating Income | 13.6 | 3.3 | % | 4.8 | 1.6 | % | 184 | % | |||||||||||||||||||||
| Other Income (Expense) | (1.4) | (1.2) | |||||||||||||||||||||||||||
| Provision for Income Taxes | 2.7 | 1.0 | 175 | % | |||||||||||||||||||||||||
| Net Income | $ | 9.5 | $ | 2.6 | 271 | % | |||||||||||||||||||||||
| Diluted Earnings per Share | $ | 0.38 | $ | 0.10 | 280 | % | |||||||||||||||||||||||
| Open Orders | $ | 1,069 | $ | 749 | 43 | % | |||||||||||||||||||||||
| Net Sales by Vertical Market | Three Months Ended | ||||||||||||||||
| September 30 | |||||||||||||||||
| (Amounts in Millions) | 2022 | 2021 | % Change | ||||||||||||||
| Automotive | $ | 184.5 | $ | 129.4 | 43 | % | |||||||||||
| Medical | 114.8 | 85.0 | 35 | % | |||||||||||||
| Industrial | 100.9 | 75.0 | 35 | % | |||||||||||||
| Other | 5.7 | 3.3 | 75 | % | |||||||||||||
| Total Net Sales | $ | 405.9 | $ | 292.7 | 39 | % | |||||||||||
First quarter fiscal year 2023 consolidated net sales increased compared to the first quarter of fiscal year 2022, setting a new quarterly record. The impact from foreign currency fluctuations on net sales was an unfavorable 5% in the current quarter compared to the first quarter of fiscal year 2022. By end market vertical, our market verticals fluctuated as follows:
•Sales to customers in the automotive market experienced record net sales during the first quarter of fiscal year 2023, increasing 43% compared to the first quarter of fiscal year 2022. This double-digit increase is largely due to the continued ramp-up of certain programs, new product launches, and improved component availability.
•Sales to customers in the medical market had a double-digit increase in the first quarter of fiscal year 2023 when compared to the first quarter of fiscal year 2022 primarily due to launch and ramp-up of new programs and overall improved component availability.
•Beginning in fiscal year 2023, the Company changed its presentation of revenue for the industrial and public safety end market verticals by combining them into the industrial end market vertical. Prior year periods have been recast to conform to the current year presentation. Sales to customers in the industrial market also had a double-digit increase in the first quarter of fiscal year 2023 when compared to the first quarter of fiscal year 2022, primarily due to higher end market demand for climate control products which was supported by overall improved component availability.
23
A significant amount of sales to Philips, Nexteer Automotive, and ZF accounted for the following portions of our net sales:
| Three Months Ended | |||||||||||
| September 30 | |||||||||||
| 2022 | 2021 | ||||||||||
| Philips | 17% | 14% | |||||||||
| Nexteer Automotive | 15% | 17% | |||||||||
| ZF | 12% | * | |||||||||
| * amount is less than 10% of total | |||||||||||
Open orders were up 43% as of September 30, 2022 compared to September 30, 2021, primarily from an increase in the automotive and medical verticals; however, our open orders were down 10% when compared to June 30, 2022, driven by improved component availability. The increase in open orders from September 30, 2021 in both the automotive market and the medical market is driven by the overall increase in demand coupled with the component shortages, which has limited our ability to fulfill customer orders. Open orders are the aggregate sales price of production pursuant to unfulfilled customer orders, which may be delayed or canceled by the customer subject to contractual termination provisions. The majority of open orders as of September 30, 2022 are expected to be filled within the next twelve months. Open orders at a point in time may not be indicative of future sales trends due to the contract nature of our business and the variability of order lead times among our customers. Additionally, COVID-19 and the component shortages could impact the timing and certainty of fulfillment of open orders.
Gross profit as a percent of net sales in the first quarter of fiscal year 2023 improved when compared to the first quarter of fiscal year 2022 primarily due to the leverage gained on higher revenue and the lower depreciation expense from the change in estimates of useful lives on Surface Mount Technology production equipment that occurred in the second quarter of fiscal year 2022. Additionally, the first quarter of fiscal year 2022 was impacted to a much greater degree than the current year by component shortages, and as we retained our workforce, our gross profit as a percent of net sales was negatively impacted. See Note 1 - Business Description and Summary of Significant Accounting Policies of Notes to Condensed Consolidated Financial Statements for more information on the change in estimates of useful lives.
Selling and administrative expenses declined as a percent of net sales but increased in absolute dollars in the first quarter of fiscal year 2023 when compared to the first quarter of fiscal year 2022. The selling and administrative expenses increased primarily from higher salary and related payroll costs, higher incentive-based compensation, and increased factoring fees associated with our accounts receivable factoring arrangements, which were partially offset by the decrease in the fair value of the liability for the supplemental employee retirement plan (“SERP”).
Other General Income in the three months ended September 30, 2021 included $1.4 million of pre-tax income resulting from payments received related to the class action lawsuits in which Kimball Electronics was a class member. These lawsuits alleged that certain suppliers to the EMS industry conspired over a number of years to raise and fix the prices of electronic components, resulting in overcharges to purchasers of those components. No Other General Income was recorded in three months ended September 30, 2022.
Other Income (Expense) consisted of the following:
| Three Months Ended | ||||||||||||||
| September 30 | ||||||||||||||
| (Amounts in Thousands) | 2022 | 2021 | ||||||||||||
| Interest income | $ | 17 | $ | 24 | ||||||||||
| Interest expense | (1,920) | (395) | ||||||||||||
| Foreign currency/derivative gain (loss) | 534 | (572) | ||||||||||||
| Gain (loss) on SERP investments | (235) | (87) | ||||||||||||
| Other | 201 | (219) | ||||||||||||
| Other income (expense), net | $ | (1,403) | $ | (1,249) | ||||||||||
Foreign currency/derivative gains (losses) result from net foreign currency exchange rate movements during the periods. The revaluation to fair value of the SERP investments recorded in Other Income (Expense) is offset by the revaluation of the SERP liability recorded in Selling and Administrative Expenses, and thus there is no effect on net income.
24
Our provision for income taxes for the first three months ended September 30, 2022 and September 30, 2021 was $2.7 million, or 21.9% of income before taxes on income, and $1.0 million, or 27.4% of income before taxes on income, respectively.
Comparing the balance sheet as of September 30, 2022 to June 30, 2022, receivables increased $31.0 million largely due to higher sales volumes. Our inventory balance increased $53.9 million primarily due to the component shortages as we continue to purchase material not impacted by the shortages so we can fulfill our customer orders once the impacted components are received, as well as increased demand. Accounts payable increased $13.6 million primarily due to the increased inventory purchases. Borrowings on credit facilities increased $51.9 million primarily for working capital purposes.
Liquidity and Capital Resources
Working capital at September 30, 2022 was $380.1 million compared to working capital of $352.3 million at June 30, 2022. The current ratio was 1.9 at both September 30, 2022 and June 30, 2022. The debt-to-equity ratio was 0.5 at September 30, 2022 and 0.4 at June 30, 2022. Our short-term liquidity available, represented as cash and cash equivalents plus the unused amount of our credit facilities, some of which are uncommitted, totaled $113.4 million at September 30, 2022 and $178.6 million at June 30, 2022.
Cash Conversion Days (“CCD”) are calculated as the sum of Days Sales Outstanding (“DSO”) plus Contract Asset Days (“CAD”) plus Production Days Supply on Hand (“PDSOH”) less Accounts Payable Days (“APD”). CCD, or a similar metric, is used in our industry and by our management to measure the efficiency of managing working capital. The following table summarizes our CCD for the quarterly periods indicated.
| Three Months Ended | ||||||||||||||||||||
| September 30, 2022 | June 30, 2022 | September 30, 2021 | ||||||||||||||||||
| DSO | 54 | 53 | 57 | |||||||||||||||||
| CAD | 14 | 16 | 14 | |||||||||||||||||
| PDSOH | 106 | 100 | 77 | |||||||||||||||||
| APD | 75 | 78 | 75 | |||||||||||||||||
| CCD | 99 | 91 | 73 | |||||||||||||||||
We define DSO as the average of monthly trade accounts and notes receivable divided by an average day’s net sales, CAD as the average monthly contract assets divided by an average day’s net sales, PDSOH as the average of monthly gross inventory divided by an average day’s cost of sales, and APD as the average of monthly accounts payable divided by an average day’s cost of sales. Over the past several quarters, we have supported our customers through strategic inventory builds to mitigate parts shortages, which adversely impacted our PDSOH and CCD metrics.
Cash Flows
The following table reflects the major categories of cash flows for the first three months of fiscal years 2023 and 2022.
| Three Months Ended | ||||||||||||||
| September 30 | ||||||||||||||
| (Amounts in Millions) | 2022 | 2021 | ||||||||||||
| Net cash used for operating activities | $ | (60.2) | $ | (8.2) | ||||||||||
| Net cash used for investing activities | $ | (19.3) | $ | (12.9) | ||||||||||
| Net cash provided by financing activities | $ | 50.8 | $ | 5.0 | ||||||||||
Cash Flows from Operating Activities
Net cash used for operating activities for the first three months of fiscal year 2023 was driven by changes in operating assets and liabilities. Net cash used for operating activities in the first three months of the prior year was driven by changes in operating assets and liabilities. Changes in operating assets and liabilities used $75.5 million of cash in the first three months of fiscal year 2023 compared to $20.9 million of cash used in the first three months of the prior year.
The cash used of $75.5 million from changes in operating assets and liabilities in the first three months of fiscal year 2023 is largely due to an increase in inventory, which used cash of $57.6 million primarily due to the component shortages as we continue to purchase material not impacted by the shortages so we can fulfill our customer orders once the impacted components are received in addition to increased demand, and an increase in accounts receivable, which used cash of $33.3 million primarily resulting from increased sales volumes. Partially offsetting cash used by inventory was an increase in accounts payable, which provided cash of $17.5 million largely resulting from increased inventory purchases.
25
The cash used of $20.9 million from changes in operating assets and liabilities in the first three months of fiscal year 2022 is largely due to an increase in inventory, which used cash of $62.8 million primarily due to the component shortages as we continue to purchase material not impacted by the shortages so we can fulfill our customer orders once the impacted components are received, and the decrease in accrued expenses and taxes payable, which used cash of $13.6 million from a significant portion of accrued incentive compensation payments occurring during the first quarter. Partially offsetting cash used by inventory and accrued expenses was an increase in accounts payable, which provided cash of $32.3 million largely resulting from increased inventory purchases, and a decrease in accounts receivable, which provided cash of $25.7 million primarily resulting from decreased sales volumes.
Cash Flows from Investing Activities
For the first three months of fiscal years 2023 and 2022, net cash used for investing activities was $19.3 million and $12.9 million, respectively. During the first three months of fiscal year 2023, we invested $19.5 million into capital expenditures primarily for expansions at our Mexico, Thailand, and Poland facilities and to support new business awards. During the first three months of fiscal year 2022, we invested $12.7 million into capital expenditures for expansions at our Thailand and Mexico facilities, capacity purposes, to support new business awards.
Cash Flows from Financing Activities
For the first three months of fiscal year 2023, net cash provided by financing activities of $50.8 million resulted largely from net borrowings on our credit facilities of $52.2 million primarily for working capital purposes. For the first three months of fiscal year 2022, net cash provided by financing activities of $5.0 million resulted largely from net borrowings on our credit facilities of $6.5 million, partially offset by remittance of tax withholdings on share-based payments.
Credit Facilities
The Company maintains a U.S. primary credit facility (the “primary credit facility”) among the Company, the lenders party thereto, and JPMorgan Chase Bank, N.A., as Administrative Agent, and Bank of America, N.A., as Documentation Agent, scheduled to mature May 4, 2027. The primary credit facility provides for $300 million in borrowings, with an option to increase the amount available for borrowing to $450 million at the Company’s request, subject to the consent of each lender participating in such increase.
The proceeds of the loans on the primary credit facility are to be used for working capital and general corporate purposes of the Company. A portion of the credit facility, not to exceed $15 million of the principal amount, will be available for the issuance of letters of credit. A commitment fee on the unused portion of the principal amount of the credit facility is payable at a rate that ranges from 10.0 to 25.0 basis points per annum as determined by the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA, as defined under the primary credit facility.
The interest rate on borrowings is dependent on the type and currencies of borrowings and will be one of following options:
•any Term Benchmark borrowing denominated in U.S. Dollars will utilize the Secured Overnight Financing Rate (“SOFR”), which is a rate per annum equal to the secured overnight financing rate for such business day published by the SOFR Administrator, the Federal Reserve Bank of New York, on the immediately succeeding business day, plus the Revolving Commitment Term Benchmark spread which can range from 100.0 to 175.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA;
•any Term Benchmark borrowing denominated in Euros will utilize the Euro Interbank Offered Rate (“EURIBOR”) in effect two target days prior to the advance (adjusted upwards to reflect bank reserve costs) for such interest period as defined in the agreement, plus the Revolving Commitment Term Benchmark spread which can range from 100.0 to 175.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA; or
•the Alternate Base Rate (“ABR”), which is defined as the highest of the fluctuation rate per annum equal to the higher of:
a.Prime Rate in the U.S. last quoted by the Wall Street Journal, and if this is ceased to be quoted, the highest bank prime loan rate or similar rate quoted by the Federal Reserve Board;
b.1/2 of 1% per annum above the Federal Funds Effective Rate (as defined under the primary credit facility); or
c.1% per annum above the Adjusted Term SOFR Rate (as defined under the primary credit facility);
plus the Revolving Commitment ABR spread which can range from 0.0 to 75.0 basis points based on the Company’s ratio of consolidated total indebtedness to adjusted consolidated EBITDA.
26
At September 30, 2022, we had $225.0 million in borrowings under the primary credit facility and $0.4 million in letters of credit against the primary credit facility, and $180.0 million of the borrowings were classified as long-term as the Company intends, and has the ability, to refinance for a period longer than twelve months. At June 30, 2022, we had $171.4 million in borrowings under the primary credit facility and $0.4 million in letters of credit against the primary credit facility, and $145.0 million were classified as long-term.
The Company’s financial covenants under the primary credit facility require:
•a ratio of consolidated total indebtedness minus unencumbered U.S. cash on hand in the United States in excess of $15 million to adjusted consolidated EBITDA, determined as of the end of each of its fiscal quarters for the then most recently ended four fiscal quarters, to not be greater than 3.0 to 1.0, provided, however, that for each fiscal quarter end during the four quarter period following a material permitted acquisition, as defined in the Credit Agreement, the Company will not permit this financial covenant to be greater than 3.5 to 1.0 for each such fiscal quarter end, and
•an interest coverage ratio, defined as that ratio of consolidated EBITDA for such period to cash interest expense for such period, for any period of four consecutive fiscal quarters, to be less than 3.5 to 1.0.
We were in compliance with the financial covenants during the first quarter ended September 30, 2022.
Kimball Electronics has foreign credit facilities available to satisfy short-term cash needs at specific foreign locations rather than funding from intercompany sources. These foreign credit facilities can be canceled at any time by either the bank or us. As of September 30, 2022, we maintained the following foreign credit facilities:
•A Thailand overdraft credit facility which allows for borrowings up to $10.1 million. We had no borrowings under this foreign credit facility as of September 30, 2022 or June 30, 2022. During the first quarter of fiscal year 2023, the borrowing capacity was expanded.
•The Company entered into an uncommitted credit facility for its EMS operation in China which allows for borrowings up to $7.5 million that can be drawn in either U.S. dollars or China Renminbi during the current quarter. The facility is scheduled to mature on June 30, 2023. We had $0.5 million in borrowings under this foreign credit facility as of September 30, 2022.
•An uncommitted revolving credit facility for our Netherlands subsidiary, which allows for borrowings of up to 9.2 million Euro (approximately $9.0 million at September 30, 2022 exchange rates) that can be drawn in Euro, U.S. dollars, or another optional currency. We had $7.0 million in borrowings outstanding under this Netherlands revolving credit facility as of September 30, 2022 and $9.2 million as of June 30, 2022.
Factoring Arrangements
The Company utilizes factoring arrangements for certain of our accounts receivables with third-party financial institutions in order to extend terms for the customer without negatively impacting our cash flow. These arrangements in all cases do not contain recourse provisions which would obligate us in the event of our customers’ failure to pay. Receivables are considered sold when they are transferred beyond the reach of Kimball Electronics and its creditors, the purchaser has the right to pledge or exchange the receivables, and we have surrendered control over the transferred receivables. In the three months ended September 30, 2022 and 2021, we sold, without recourse, $97.6 million and $62.1 million of accounts receivable, respectively. See Note 1 - Business Description and Summary of Significant Accounting Policies of Notes to Condensed Consolidated Financial Statements for more information regarding the factoring arrangements.
Future Liquidity
We believe our principal sources of liquidity from available funds on hand, cash generated from operations, and the availability of borrowing under our credit facilities, will be sufficient to meet our working capital and other operating needs for at least the next 12 months. The unused borrowings in USD equivalent under all of our credit facilities totaled $93.7 million at September 30, 2022. We expect to continue to prudently invest in capital expenditures, including for capacity expansions and potential acquisitions, that would help us continue our growth as a multifaceted manufacturing solutions company. We recently completed our Thailand facility expansion in the third quarter of fiscal year 2022 and our Mexico facility expansion in the first quarter of fiscal year 2023. Our Poland expansion is expected to be completed in early fiscal year 2024. We are in a solid financial position to be able to weather the continuing impact of COVID-19; however, significant uncertainties and risks exist related to the severity and duration of the impact to certain markets, the supply chain, and to global macroeconomic conditions.
At September 30, 2022, our capital expenditure commitments were approximately $26 million, consisting primarily of commitments for the expansion of our Poland facility, equipment for the Mexico and Thailand facility expansions, and capital related to new program wins. We anticipate our available liquidity will be sufficient to fund these capital expenditures.
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We have purchase obligations that arise in the normal course of business for items such as raw materials, services, and software acquisitions/license commitments. In certain instances, such as when lead times dictate, we enter into contractual agreements for material in excess of the levels required to fulfill customer orders to help mitigate the potential impact related to component shortages, which require longer lead times. In turn, our material authorization agreements with customers cover a portion of the exposure for material which is purchased prior to having a firm order.
At September 30, 2022, our foreign entities held cash totaling $19.6 million. Most of our accumulated unremitted foreign earnings have been invested in active non-U.S. business operations, and it is not anticipated such earnings will be remitted to the United States. Our intent is to permanently reinvest the remaining funds outside of the United States, and our current plans do not demonstrate a need to repatriate these funds to our U.S. operations. However, if such funds were repatriated, a portion of the funds remitted may be subject to applicable non-U.S. income and withholding taxes.
The Company has a Board-authorized stock repurchase plan (the “Plan”) allowing the repurchase of up to $100 million of our common stock. Purchases may be made under various programs, including in open-market transactions, block transactions on or off an exchange, or in privately negotiated transactions, all in accordance with applicable securities laws and regulations. The Plan has no expiration date but may be suspended or discontinued at any time. The extent to which the Company repurchases its shares, and the timing of such repurchases, will depend upon a variety of factors, including market conditions, regulatory requirements, and other corporate considerations, as determined by the Company’s management team. The Company expects to finance the purchases with existing liquidity. The Company has repurchased $88.8 million of common stock under the Plan through September 30, 2022.
Our ability to generate cash from operations to meet our liquidity obligations could be adversely affected in the future by factors such as general economic and market conditions, lack of availability of raw material components in the supply chain, a decline in demand for our services, loss of key contract customers, unsuccessful integration of acquisitions and new operations, global health emergencies such as the COVID-19 pandemic, the duration and severity of the COVID-19 pandemic and the related uncertainties around the financial impact, and other unforeseen circumstances. In particular, should demand for our customers’ products and, in turn, our services decrease significantly over the next 12 months, the available cash provided by operations could be adversely impacted. Additional cautionary statements regarding our risk factors are contained in our Annual Report on Form 10-K for the year ended June 30, 2022.
Fair Value
During the first quarter of fiscal year 2023, no level 1 or level 2 financial instruments were affected by a lack of market liquidity. For level 1 financial assets, readily available market pricing was used to value the financial instruments. Our foreign currency derivative assets and liabilities, which were classified as level 2, were independently valued using observable market inputs such as forward interest rate yield curves, current spot rates, and time value calculations. To verify the reasonableness of the independently determined fair values, these derivative fair values were compared to fair values calculated by the counterparty banks. Our own credit risk and counterparty credit risk had an immaterial impact on the valuation of the foreign currency derivatives. See Note 7 - Fair Value of Notes to Condensed Consolidated Financial Statements for additional information.
Off-Balance Sheet Arrangements
As of September 30, 2022, we do not have any material off-balance sheet arrangements.
Critical Accounting Policies
Kimball Electronics’ Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America. These principles require the use of estimates and assumptions that affect amounts reported and disclosed in the Condensed Consolidated Financial Statements and related notes. Actual results could differ from these estimates and assumptions. Management uses its best judgment in the assumptions used to value these estimates, which are based on current facts and circumstances, prior experience, and other assumptions that are believed to be reasonable.
There have been no material changes to our critical accounting policies since our Annual Report on Form 10-K for the year ended June 30, 2022. For further information regarding our critical accounting policies, refer to “Note 1 - Business Description and Summary of Significant Accounting Policies” of Notes to Consolidated Financial Statements and “Critical Accounting Policies” in the section entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended June 30, 2022.
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New Accounting Standards
New accounting standards which have been issued but not yet adopted are typically disclosed in Note 1 - Business Description and Summary of Significant Accounting Policies of Notes to Condensed Consolidated Financial Statements for information regarding New Accounting Standards. Currently, there are no issued but not yet adopted accounting standards that are expected to have a material impact on the Company.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
There were no material changes in our exposure to market risks for changes in foreign currency exchange rates and interest rates as compared to the fiscal year ended June 30, 2022.
Comprehensive disclosures of quantitative and qualitative market risk can be found in our Annual Report on Form 10-K for the year ended June 30, 2022.
Item 4. Controls and Procedures
(a)Evaluation of disclosure controls and procedures.
Kimball Electronics maintains controls and procedures designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized, and reported within the time periods specified in the rules and forms of the Securities and Exchange Commission and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Based upon their evaluation of those controls and procedures performed, the Chief Executive Officer and Chief Financial Officer of the Company concluded that the disclosure controls and procedures were effective as of September 30, 2022.
(b)Changes in internal control over financial reporting.
There have been no changes in our internal control over financial reporting that occurred during the quarter ended September 30, 2022 that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We and our subsidiaries are not parties to any pending legal proceedings, other than ordinary routine litigation incidental to the business. The outcome of current routine pending litigation and claims, individually and in the aggregate, is not expected to have a material adverse impact on our business or financial condition.
Item 1A. Risk Factors
We are subject to various risks and uncertainties in the course of our business. A comprehensive disclosure of risk factors related to Kimball Electronics can be found in our Annual Report on Form 10-K for the year ended June 30, 2022.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
On October 21, 2015, our Board of Directors (the “Board”) approved an 18-month stock repurchase plan (the “Plan”), authorizing the repurchase of up to $20 million worth of our common stock. Then, separately on each of September 29, 2016, August 23, 2017, November 8, 2018, and November 10, 2020, the Board extended and increased the Plan to allow the repurchase of up to an additional $20 million worth of common stock with no expiration date, which brought the total authorized stock repurchases under the Plan to $100 million.
During the three months ended September 30, 2022, the Company did not purchase any common stock. The Company’s maximum value of remaining shares that may be purchased under the Plan was $11.2 million at September 30, 2022.
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Item 6. Exhibits
Exhibits (numbered in accordance with Item 601 of Regulation S-K)
| Incorporated by Reference | ||||||||||||||||||||
| Exhibit No. | Description | Form | Period Ending | Exhibit | Filing Date | |||||||||||||||
| 3.1 | 8-K | 3.1 | 2/18/2021 | |||||||||||||||||
| 3.2 | 8-K | 3.2 | 2/18/2021 | |||||||||||||||||
| 31.1 | Filed Herewith | |||||||||||||||||||
| 31.2 | Filed Herewith | |||||||||||||||||||
32.1(a) | Furnished Herewith | |||||||||||||||||||
32.2(a) | Furnished Herewith | |||||||||||||||||||
| 101.INS | Inline XBRL Instance Document - The instance document does not appear in the Interactive Data File because its Inline XBRL tags are embedded within the Inline XBRL document | Filed Herewith | ||||||||||||||||||
| 101.SCH | Inline XBRL Taxonomy Extension Schema Document | Filed Herewith | ||||||||||||||||||
| 101.CAL | Inline XBRL Taxonomy Extension Calculation Linkbase Document | Filed Herewith | ||||||||||||||||||
| 101.DEF | Inline XBRL Taxonomy Extension Definition Linkbase Document | Filed Herewith | ||||||||||||||||||
| 101.LAB | Inline XBRL Taxonomy Extension Label Linkbase Document | Filed Herewith | ||||||||||||||||||
| 101.PRE | Inline XBRL Taxonomy Extension Presentation Linkbase Document | Filed Herewith | ||||||||||||||||||
| 104 | Cover Page Interactive Data File (formatted in Inline XBRL and contained in Exhibit 101) | Filed Herewith | ||||||||||||||||||
(a) In accordance with Item 601(b)(32)(ii) of Regulation S-K, the certifications furnished in Exhibit 32.1 and 32.2 will not be deemed “filed” for purposes of Section 18 of the Exchange Act. Such certifications will not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act, except to the extent that the registrant specifically incorporates it by reference. | ||||||||||||||||||||
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| KIMBALL ELECTRONICS, INC. | ||||||||
| By: | /s/ DONALD D. CHARRON | |||||||
| Donald D. Charron Chairman of the Board, Chief Executive Officer | ||||||||
| November 8, 2022 | ||||||||
| By: | /s/ JANA T. CROOM | |||||||
| Jana T. Croom Chief Financial Officer | ||||||||
| November 8, 2022 | ||||||||
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