Bel Fuse Inc. (BELFA) Earnings Call Transcript & Summary

Good morning, and welcome to the Bel Fuse Definitive Acquisition Agreement Announcement Call. [Operator Instructions] As a reminder, this call is being recorded. I would now like to turn the call over to Lynn Hutkin, Vice President of Financial Reporting and Investor Relations. Please go ahead.

Thank you, and good morning, everyone. Before we begin, I would like to remind everyone that during today's conference call, we will make statements regarding our business and the intended Enercon Technologies Limited acquisition that will be considered forward-looking statements under federal securities laws such as statements regarding the anticipated benefits and impacts of the Enercon acquisition, including on Bel's growth and profitability and on Bel's competitive position; the expected effects of the Enercon's acquisition on Bel's gross margin and EBITDA margin and the expected accretive nature of the acquisition; the expected net leverage at the closing of the acquisition, financial projections for Bel and for Enercon for 2024 and beyond, including forecasted financial information for Enercon for 2024; the expected effects of the acquisition on Bel's presence in end markets, diversification of customer mix, distribution channels, sales channels, addressing customer needs and strengthening relationships with distributors and customers; the anticipated impact of the acquisition on demand creation, future sales of products, margins and expansion and the anticipated timing of closing the acquisition. These statements are based on the company's current expectations and reflects the company's views only as of today and should not be considered representative of the company's views as of any subsequent date. The company disclaims any obligation to update any forward-looking statements or outlook. Actual results for future periods may differ materially from those projected by these forward-looking statements due to a number of risks, uncertainties and other factors. These material risks are summarized in the press release that we issued after market close yesterday. Additional information about the material risks and other important factors that could potentially impact our financial performance and cause actual results to differ materially from our expectations is discussed in our filings with the Securities and Exchange Commission, included in our most recent annual report on Form 10-K for the fiscal year ended December 31, 2023, and our quarterly reports and other documents that we have filed or may file with the SEC from time to time. Joining me on the call today is Dan Bernstein, President and CEO; Farouq Tuweiq, CFO; and Steve Dawson, President of Bel's Power Solutions and Protection segment. As a reference during this call, there is an accompanying slide deck which is available on the Bel Investor website, and these materials were also included as Exhibit 99.2 to the 8-K filed with the SEC earlier this morning. With that, I would like to turn the call over to Dan. Dan?

Yes. Thank you very much, Lynn. Good morning, and thank you, everyone, for joining our call today. As many of you know, acquisitions have played a critical role in the growth of Bel and the expansion of both our product portfolio and our customer base and continue to be an important element in our growth strategy. Thus, we are pleased to announce yesterday an agreement to acquire Enercon Technologies from Fortissimo Capital. Enercon is a leading supplier of highly engineered advanced power conversion and networking solutions for the aerospace and defense end markets. The company is headquartered in Israel, with additional manufacturing and offices in U.S. and India. Enercon's sales for the full year 2024 are projected to come in at an estimated $120 million, with projected gross margin and EBITDA margin of 45% and 32% respectively. The addition of Enercon accelerates our strategy of moving further into critical applications which are largely sole-sourced. On a combined pro forma basis, aerospace and defense will account for approximately 31% of our annual sales, up from 17.5% pre-Enercon, and thus making it our largest end market we serve. In addition, aerospace and defense will account for approximately 30% of our Power segment sales on a pro forma basis following the close of this transaction. From a product perspective, there is no overlap with Bel's current power products portfolio. Enercon's products are highly customized. Order quantities can be as low as 1. The absence of overlap is unusual and avoids any possibility of revenue cannibalization, making the Enercon acquisition a great fit for Bel. Similar to Bel's aerospace and defense business within our connector leads segment, Enercon's customer base is largely comprised of the defense primes and large aircraft manufacturers. Their high diverse customer count is over 350, and their products are utilized over 1,500 different platforms. Upon closing the Enercon acquisition, our manufacturing footprint will expand further into India and U.S., and it'll be a new manufacturing capabilities and a talented group of engineers based in Israel. My geographic -- by geographic region, almost 50% of Enercon are projected for full 2020 revenue is derived from North America and 40% is from within Israel and the remaining sales are generated outside of those regions. Following the close of transaction, Enercon would operate independently under Bel Power Solution and Protection segment. Our focus in the near term and midterm will be on exploring the potential revenue growth through cross-selling opportunities between our customers and throughout the world. Additionally, we see strategic opportunities to sell Enercon products through our well-established distribution channel, given Enercon has not focused on this historically. Cost synergies in this acquisition are expected to be minimal. In summary, Enercon enhances Bel's products and technology portfolio, significantly expands Bel's presence in aerospace and defense. This acquisition diversifies our customer base within Bel Power segment and position the combined company for exciting growth selling opportunities and improve our consolidated margin profile. And with that, I'd like to turn the call over to Farouq.

Thanks, Dan. Thank you, and good morning, everyone. As Dan mentioned, we are extremely pleased to be announcing the signing of this acquisition agreement yesterday. For Bel's investors and analysts who have been following our journey over the past 3 years, we've been -- we've made significant improvements internally on the financial front and look a lot more like our peers today from a margin perspective. With that chapter of our story largely addressed, we have been laser-focused on driving both organic and inorganic growth. As it relates to this transaction and to summarize it, based on an enterprise value of $400 million, Bel will acquire 80% of the value as a first step for a cash value of $320 million, with the intent to acquire the remaining 20% by early 2027. In addition, the sellers will be entitled to a $10 million earn-out that is measured based on 2025 and 2026 ability to meet pre-agreed-upon targets. The completion of the remainder 20% of the ownership stake would be valued on a pre-existing EBIT-based -- EBITDA-based multiple. The Enercon acquisition provides Bel with the ability to utilize and deploy its strong balance sheet in a pointed and conservative manner while paying an attractive multiple for a highly accretive business. With a gross profit margin of 46% and an EBITDA margin of 32.5% on a stand-alone basis, pre-acquisition, the inclusion of Enercon in Bel's financials is expected to be additive to Bel's consolidated margin profile. Our decision to acquire the 80% stake upfront as the first step incentivizes the current management team at Enercon and its partners at Fortissimo to continue to drive growth in the business in the years to come by keeping their interest aligned with ours. Fortissimo is a premier private equity fund with substantial knowledge and operational expertise in the local market, and we're excited to be partnering with them in driving future value for Bel's shareholders. The initial payment of $320 million, subject to customary adjustments, is expected to be funded with $80 million of cash on hand and $240 million of debt under an expansion of the revolver within our current credit agreement. The transaction will be on a cash-free, debt-free basis. We expect our leverage ratio to be under 2x within 1 quarter post close as our T-bills mature. The incremental borrowings on the revolver will be an estimated annualized interest rate of 6.8% based on today's SOFR rates. From a financial perspective, we expect the acquisition will be accretive on a GAAP basis within 1 year of close and immediately accretive at the gross margin, EBITDA and EPS levels on a non-GAAP basis. From a cash flow perspective, we expect the Enercon business to invest approximately $1.5 million of CapEx on an annual basis. On a pro forma combined basis, the addition of Enercon adds meaningful and beneficial diversification both in our end markets and in our geographic footprint, as Dan mentioned. Bel's sales into the aerospace and defense market would increase from 17.5% consolidated sales today to approximately 31% with the inclusion of Enercon. Further, the post-acquisition geographic mix is estimated to be 67% of sales being North America-based customers, 21% in EMEA and 12% in Asia. The transaction is expected to close in the fourth quarter of 2024 and is subject to customary closing conditions, including receipt of certain regulatory approvals. In closing, we're optimistic about the benefits that a combined Enercon and Bel can bring to the table, with a significant expansion of our top line in the higher-margin aerospace and defense markets, with further sales growth potential, coupled with a great valuation and conservative leverage metrics for Bel's shareholders. I could not be more excited for this next chapter in Bel's journey and in welcoming the Enercon team to the Bel family. With that, I'll turn it over back to you, Lynn.

So we can open up the call for Q&A.

[Operator Instructions] Our first question comes from the line of James Ricchiuti with Needham & Company.

Congratulations, by the way, on the announcement. So it sounds like there's no product overlap. I'm assuming there is customer overlap, and I wonder if you could talk a little bit about that, and maybe to the extent there's customer or program concentration at the Enercon business.

Yes. So I can take this one. Jim, thanks for joining here. As you know, we service the defense and aerospace segments out of our connectivity business. And with the addition of Enercon sitting in the power business, this does create some customer overlap. And with that being said, we do think it's still diversified, right. We sell connectors, and now we'll start selling power supplies. There's obviously commonality in the way you handle defense and aerospace businesses in terms of the harsh environment and the specifications and the qualifications and all that complexity from an operational perspective, so we know that. We have customers that we would introduce and potentially expand Enercon into. They also have some customers that we don't supply into today that potentially opens up avenues for the connector. So there's a cross-segment potential synergy play here. And so that's where we think it's interesting, especially in kind of places like Europe and the U.S. From a product concentration, we remain still pretty diverse. As a reminder, despite us serving some of the customers, it really comes down to the platforms, and that's where we think the interesting piece is, right? It's a highly diversified business across multiple platforms. Does that answer your question, Jim?

It does. One other question just as it relates to their business. It looks like the revenues you've distributed across different applications, air and ground sea, any sense as to how that breaks out? Are they concentrated in any one area? Is any of this business, by the way, sole-source? I would assume it's dual-source at least.

Yes. I would say it's pretty diverse. I probably -- I guess, if I had to put a concentration to see if we can opine here as well is really more on air and I'd probably say land, but it is a pretty diverse business. And then the other question -- sorry, can you remind me the last part of that question there, Jim?

Yes. I was just -- if I look at the margin profile of the business, it's pretty attractive. And I'm just wondering what the competitive landscape looks like, whether there's any of these business is sole-source, dual-source? That's where I'm going.

I would say the vast majority of the business here, extremely high percentage, is sole-source. And that's kind of one of the attractions as we overlay the diversity side of things and kind of the sole-source side of things, that's where we find this to be an attractive business.

Our next question comes from the line of Robert Brooks with Northland Capital.

Hats off from this pretty solid acquisition at first glance. I guess the first question I just had is I was just kind of curious about -- I know you guys have been in the market looking for acquisitions, right, and kind of having that, I think, Farouq said laser focused on growth. I was just kind of curious about -- so how this acquisition kind of came about and maybe talk about how long it had been on your radar? Was this something that you guys maybe walked away from initially and then came back to the table? Just kind of any color that you could give just -- on that process.

Farouq, before we begin, maybe I can help just give some more flavor to the question. As you know, when Farouq came aboard, we had many questions of why you're bringing in an investment banker in to become the CFO. It was a pretty unique choice. And I think now you get to see the value of what Farouq brings to the company. Initially, as Farouq mentioned, we had our focus on really improving our bottom line substantially. Once that was accomplished, Farouq spent a lot of time with a lot of the people you know in the industry. Because of this relationship, we get a lot more opportunities come to us than we had in the past. I think this was presented to us 9 months ago. And from that direction, we capitalized on it. So again, I think this is the strategy we brought when we brought Farouq along. And now that we have our house in order, Farouq can really bring his powers to be -- to look at these acquisitions and move a lot quicker than we had over the past 2 or 3 years. Farouq, go ahead.

Yes. Thank you, Dan. Maybe not much to add there, other than Bobby, I think we -- when we're sitting and kind of talking about this, we initially became aware of the business, I think, back in, call it, 2021, 2022, I have seen it from afar. And obviously, given the journey we've been on '21, '22 and '23, we were in a different position here. But it was a business we've always admired from afar and kind of always heard about it. And as we have been looking, we decided to -- we made contact with them, I think, early on in the year. And then finally, we were able to have a meet and kind of discussions and progressing from there. So I would say, we've known it for a little bit while from afar, but recently kind of accelerated those discussions. And then there was -- I would say there's also some level of connectivity with the Fortissimo folks on the -- with some folks on the Bel side. So just going to make for a perfect marriage given that we kind of touched it or knew it from afar from a few different angles.

Got it. Okay. And then just kind of curious, so maybe I just wanted to gauge on your appetite to do more M&A going forward? Is this something where -- I know you guys talked about you'll be sub-2x net leverage post one quarter after the close. Is that something where you'd like to step up even more if the right deal -- obviously, if the right deal came across? Just trying to get a sense on the appetite for more M&A over the next, call it, 12 months.

I'd say...

Go ahead, Dan.

No, I think, again, back to the point of why we brought Farouq aboard, again, we didn't bring Farouq aboard to be a traditional CFO. And again, Farouq came from a strong investment banking background, and his focus has always been in the M&A side before he came to us. So I think it's -- this is probably the easiest question I ever had. Yes, we are going to be looking at other acquisitions, and we feel this is just the first step as we move forward.

Got it. And then maybe so could -- is this -- should investors kind of expect similar size deals or maybe something a little smaller or maybe reversely asked is what level of leverage would you be comfortable kind of getting to? And then more subsequently, once you hit that point, where would you want to get it down to before looking at other acquisitions?

Yes. So Bobby, I'll give you kind of the answer of it depends, right? We're -- I'd say, we're very mindful about leverage. We're also mindful about how much we're going to pay for businesses and also organizational capacity. As -- so the answer is, it depends, right? For this one, it gets us within a good level of leverage where we are out of the gate and shortly thereafter to kind of something conservative and not overly aggressive. So the answer is it depends when it comes, right? So if something pops up next week, that's of scale, maybe that's a different answer would give you than if it was something smaller or something happens a year or so out after we paid down some debt. So the answer is, I would say, it depends. I think the nice thing -- one of the things we're also always focused on in addition to valuation and fit and strategy, we want to be mindful of organizational capacity to absorb, integrate and synergize where it makes sense with companies. The nice thing about the Enercon one here is we're talking about the revenue side of it. So it's not going to be a heavy lift from an integration perspective to kind of get synergies and the like, right? So this one is, call it, low medium touch with the nice fundamentals. So we have the organizational capacity to do something else. We are mindful of where our leverage is, and I'll kind of give you the answer, it depends. As you know, Bobby, right, it's not like we get to sit here and decide what M&A is coming out, right? Sometimes you get a great opportunity that comes your way, and you need to ask yourself, is this accretive to the story, is this additive to the product line, is this a good business to have, can we afford at how much? If -- so the opportunities come your way. So the answer is a little bit depends, right? Obviously, as we talked in general, deal volume has been pretty low in '23. It's still pretty low in '24, maybe a little bit better than '23, but it's not normal. So I think we've been very fortunate to find one in this kind of deal environment and also on the back of some of the interest rates coming down. So to give you kind of the answer, it depends.

No, that's I think you kind of laid it out really well there. And then just -- maybe last one for me is just with M&A. Obviously, this was an excellent job by you guys kind of diversifying your revenue streams. Would the -- and also I know aerospace and defense, it's been -- obviously, that's been crushing it for you guys in connectivity. So would -- is there any sort of verticals that you would kind of continue to focus on M&A? Or would you kind of keep -- would the preference be to continue to expand the aerospace and defense? Or maybe reversely said, too, is there any type of -- is there any factors that you current -- any end markets that you're currently in that you probably wouldn't look to beef up more, maybe networking?

I would say, generally, I think there is a subset of markets that we really like, and there's kind of things that maybe would like a little bit less. And the markets, the themes that we generally like around them are good, healthy moat protection around the business, good margins or a pathway to good margins, diversity within the customer and/or program based, would preferably kind of North America, European-type EMEA exposure end markets, where we really can have the engineer to engineer relationship because that ultimately wins and you can get designed in and then you have a long design cycle. So aerospace and defense would be obviously one of those end markets in commercial air. So I kind of leave it at that, and we like those kind of end markets. I think where there's lower moats around protecting of the business, where there is a, let's call it, a heavy or concentrated potential Asian competition, we need to be mindful about that with shorter design cycles because that could potentially come a race to the bottom on pricing. So if we were to kind of put those 2 as the book ends, we like the first book end a little bit more than the right. But the reality of the matter is as companies grow up in our space, I think one of the unique things about Enercon is finding over a $100 million business that's so laser-focused on end market. Generally, when you get to these businesses of this size, they're going to be touching 3, 4, 5 end markets. So if we kind of have a business this size with a lot more end markets from the ones we like and maybe some of the markets that you don't like, you'd have to just weigh with the proportionality there is. Obviously, what we like about Enercon is it was a pure play, if you will, at this scale is a little bit unheard of. And that's kind of why we really like this business, and it's kind of immediately jumps it up on the revenue side and obviously, a little bit more so on the EBITDA side, right, when we look at, call it, end market contribution.

That's terrific color. Congrats on the solid acquisition.

Our next question comes from the line of Hendi Susanto with Gabelli Funds.

Congratulations.

Thank you.

Yes. My first question is about the end products. So when you talk about air, ground, sea and soldier, would you be able to elaborate like what the end products are, whether they are like missiles, fighter jets, commercial planes and then defense airplane? Would you be able to share more color on those?

Hendi, this is Steve Dawson. Yes, I'll take this one. The end markets are quite a bit on the aerospace side, so commercial aerospace side of things, and primarily focused on the defense area. So missiles for defense and quite a bit of aircraft. The products themselves range from power to networking, so not only powering of these applications but also the communication. And those 2 things are -- have been very synergistic for Enercon, and we plan to bring that into our connectivity area into these -- some of these same applications. But primarily on the end applications, we're looking at a lot of defense much more than offense and quite a bit on the aerospace side.

And then Farouq or Lynn, I think I mentioned the pro forma CapEx. May I ask that?

Hendi, yes. So going forward, Enercon's annual CapEx is around $1.5 million is what's expected.

Yes. And then would you be able to share historical sales figure and then historical profitability of Enercon prior to 2024, let's say, 2022 and 2023, so that we can understand more about the trajectory of the top line growth and whether or not they maintain the high margin or whether or not they continue to expand their gross margin during those years?

Sure. So Hendi, the beginning of that question, you're asking about revenue and gross margin historically?

Yes. For Enercon, yes.

Sure. So they have had growth in the last several years, top line. So if we're looking back to 2021, 2022, for example, it was $81 million of sales. So we have seen significant growth over the last few years. And at that point, their gross margin was in the mid- to high 30s. So we've seen expansion on the margins as well.

I see. Yes. And then in terms of the time line of cross-sells, when do you expect that cross-sell activities can start materialize? I know that it may take some time.

No. We're going to start that day 1 once everything is done. But generally, when you look at military aerospace projects, the time frame is generally 18 months to 3 years before our new product is designed in.

I see. And then may I ask how strong the, let's say, like the use case for bundling your connectivity to their power and then communication?

I think anytime you can solve more of your customer problems, the better off you are. So this really adds a strong basket to the customer. So this way, instead of dealing with 2 or 3 different vendors, they can deal with us. And then the opportunities of knowing where new projects are going into is extremely helpful. So I think it gives us a leg up on connected companies, and it give us a leg up on most power supply companies. So we really think it's a really perfect fit for us when dealing with our customers.

Ladies and gentlemen, that concludes our question-and-answer session. I'll turn the floor back to Mr. Bernstein for any final comments.

Hopefully, everybody understands how extremely we're excited about this acquisition. We think it's going to really be a first step of many, but a very exciting step. And thank you for joining our call today, and we're looking forward to speaking to you soon.

Thank you. This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.