Gentherm Incorporated (THRM) Earnings Call Transcript & Summary

[Audio Gap] Right. I think you have not announced any awards to date, to my knowledge, but you did announce a collaboration with Lear, which is another company here at the conference this year.

What so far has come out of that collaboration, including I think what you're calling a market-ready solution. Does that mean that you are like actively engaging with customers, soliciting business, anything that you're able to share in terms of what consumer interest looks like or when you might be able to expect to announce an award?

Yes, absolutely. Let me talk about those. They are kind of 2 separate topics you just brought up. One is our ClimateSense solution. And the other one is the Lear partnership where we developed a seat-based system for their -- into modular seat solutions. I'll start with ClimateSense. ClimateSense is a really critical part of our long-term strategy, and where we really think we're kind of disrupting the thermal solutions in vehicles, and this is especially relevant for EVs going forward. And what basically ClimateSense is, it is a micro climate. We're kind of changing the paradigm of how climate is delivered to individuals in a vehicle. So rather than heating up or cooling an entire cabin, direct the heating and cooling around the human body and do it individually for each seat -- each location in the car. You should consider it not just a seat. And so this system is a software-driven platform, kind of an integrated system where we have developed the control module, an algorithm based on thermophysiology, and we'll touch on thermophysiology, which is basically the science of how the human body responds to thermal change and input. And then we've designed all these effectors that are air-based, resistive, radiation-based heating, all these around the human body. And the end result is, and in EV, especially, we can do 2 things, greatly increase thermal comfort for passengers, driver and passengers. And we do it in an optimized way to really hit the mark on what is the most important for EV manufacturers, which is to drive an improvement in power consumption and to increase range in extreme temperatures. I'll give you a couple of examples. We're working with General Motors. We're working with BMW and several other OEMs, and we're in multiple versions of our development contracts with these OEMs and one result that we found with GM is that we're able to improve power consumption through the heating and cooling system by anywhere between 50% and 70% in the cold weather cycle as one great example. That added 33% range in the cold weather cycle for that EV, which was the Chevy Bolt. So we're really excited about the promise of that system. And just to answer your question on how we're progressing with General Motors, we're on our third phase of a development contract. And obviously, the more phases you do, the closer you get to, hopefully, getting a production award. And we're also on our second phase with BMW and a lot of active work with other OEMs. Answer your question about Lear, we partnered with them a little over a year ago on -- and working together to optimize a seat-based heating and cooling system, and that was to support their development of their INTU modular seating platform. And of course, I'll leave it up to them to talk about all the other technologies that are involved in that exciting platform. But together, we completed this project, and it is market ready. We're collaborating with Lear as we're approaching different customers and certainly hope to have some opportunities to talk about awards in the not-so-distant future. But we're excited. We've got some innovative seat heating and cooling solutions that we've worked with Lear to develop. And also very exciting is we've used the software technology from our ClimateSense solution and integrated into this. So we're really excited to have kind of a scalable software platform that we can use this algorithm in, not just to complete a ClimateSense solution, but also in a seat-based solution.

That was helpful update. I hadn't heard you previously described the development phases that you were in with different auto makers encouraging to hear, thank you. Next, I'd like to ask around your Battery Thermal Management or BTM business. So there's recently been a change in this business, right? Whereas I think previously, you were not really as levered to the very fast-growing high-voltage business. It was a little bit more on the 48-volt or whatnot. And but now with your new thin oil and cell-connecting product, you're making some inroads there. Is that right? Now maybe you could just sort of review the different subcategories now within BTM, from air cooling to thermoelectric to cell connection? And what can you say about the relative content per vehicle growth or TAM opportunities associated with these various different BTM product offerings?

Yes. Ryan, we're really excited about the portfolio of products we have in the battery thermal management space. And you mentioned one product, which is cell connecting technologies that has kind of spun off and grown out of that group. But just to quickly walk through, we kind of started with air cooling devices and with thermoelectric heating and cooling devices. And those are used primarily for 48-volt applications. Jumping back a couple of years, that was really what we expected and the market expected to be even up to this point in time, a fast-growing set of applications of EV in the market. And it's -- kind of hasn't developed quite as much as we had expected, and that's shifting more towards plug-in hybrid and, of course, full EV. And we have some great product that we've developed for that as well. So we've got a battery cell heating products. We do use some air cooling for high-voltage solutions for plug-in hybrid and full EV. And what we're most excited about is actually our cell connecting technologies. We have a wire-based cell connecting technology and our proprietary thin foil technology uses an innovative mechanical structuring process to develop this thin foil and the thin foil provides a lot of flexibility and some exciting opportunities for new applications. That probably is the fastest-growing product in our portfolio, the cell connecting, and we're looking at other potential applications to expand our EV solutions. In fact, one of the decisions we've just recently made is to actually move away from describing that portfolio as Battery Thermal Management, and we're going to move it to Battery Performance Solutions because we feel like that is more appropriate given especially some of the potential growth with products that aren't necessarily thermal in nature.

Absolutely. Maybe you could just talk about what other solutions for batteries you might be able to provide in the future. I know as you are branching beyond thermal management, monitoring the health and whatnot. But how big of a business do you think this could be? What additional problems do you think you might be able to solve in the future?

Well, we look at the TAM of that space and looking at, at least at the current portfolio, somewhere between $1 billion and $2 billion by 2025. And we're really focused on, obviously, our thermal solutions. We think there's a lot of upside opportunity. It's so crucial to manage the performance of the batteries in extreme temperatures, but then also manage the longevity and the charging capacity of battery. So we're really focused on how can we add value for battery makers and OEMs as they're developing their vehicles and their battery packs. So obviously, our cell connecting, we're really excited about this thin foil technology and being able to integrate our skills in a lot [indiscernible] in addition to thin foil. [indiscernible] interesting opportunity to what can kind of be mounted closer to the battery in terms of tracking battery health and performance and temperature through using us. Can you combine the thin foil and do connecting and thermal products? So there's a lot of stuff in our development cycle that we're looking at and certainly investing pretty heavily there and expect it to continue to do that.

Interesting. Maybe pivoting over to the medical business, including us, I think it's seen both tailwinds and headwinds from coronavirus, right? So what are the products that you supply that help COVID patients that are maybe seeing some of the tailwind there? And then are you seeing any renewed headwinds from restrictions on elective surgeries, just with the uptick in COVID cases recently. And how do you expect these tailwinds and headwinds to net out over the near and medium term here? And then just looking beyond COVID, what do you see as the biggest growth drivers for the business?

Well, obviously, we're really excited about this business. And let's just talk specifically on the COVID situation, especially the early phase of COVID when the hospitals became overwhelmed with extreme cases of COVID. One of our products, our Blanketrol product is really heavily used to manage fevers. So we're able to bring down fevers through applying cooling technology, as to a liquid-based solution that we apply this. And we saw a nice -- well, nice. We saw a spike of volume, unfortunately, for the situation, but we certainly saw tailwinds for that for some months, that has died down, for sure. Now we think most of the hospitals have a pretty good infrastructure of that product, and we've seen a little bit -- at least of a leveling off of extreme fevers. Basically, the way that practitioners would use our product, first, they would use medicinal approach to bring down the body temperature and then to augment that they would apply a cooling body solution like a Blanketrol. So we expect that, that tailwind is kind of kind of softened and probably mostly behind us. And then we are seeing some headwinds, certainly, and I think everyone in the med tech space, especially capital equipment related. The hospitals are, because of some of the challenges that they're facing economically, are pulling back a little bit on capital spending. And then it's elective procedures are definitely down. So we're seeing some headwind there. I think we're holding our own with that, but I expect a couple more quarters where it will be a bit of a challenge. Longer term, the medical business for us in terms of patient temperature management is very exciting. It's still relatively young in terms of the many use cases that are possible in hospitals for operations, for intensive care. And we worked really hard to put a suite of solutions that can apply to different needs in hospitals. And that could use -- could be used for practitioners from the time a patient comes into the hospital, in preparation, transfer to the procedure, transfer -- obviously, used in the procedure, transfer back to recovery, through recovery and out the door. And we think we're one of the few in the industry, if not the only, that has this breadth of solutions. And we're getting some great feedback, and we're launching new product in the space. So I think long term, we're excited about the growth. Aspiration is to take it from close to $50 million now to a couple of hundred million in the coming years.

Interesting. I'd like to dive a little bit more too into the synergies that you've outlined between your medical in automotive businesses. Is the primary synergy that it just sort of helps to credentialize you from a go-to-market perspective? And can you point to any improvements you've been able to make to products aimed at either the automotive or medical markets, which have stemmed from learnings in one or the other area?

Yes, sure. No, it's the synergies are super important to us. And it's one reason we continue to look at that as a key area of our business. And I'll start with the most important, which is the fact that Gentherm focuses on the human body. Whether that's in the car, whether that's in the hospital, we're really focused on how do we optimize the temperature of the body and how that relates to not just the health side of things but also perceived comfort and actual comfort. And the science behind that is thermophysiology, and that's really the core of what we do when it comes to human temperature management. And clearly, being able to pivot that and take learnings from the medical business, apply it to a solution that we're developing in the automotive side for our ClimateSense product as an example. We've literally taken thermophysiology from the medical business, created this complex algorithm that can operate a lot of independent thermal effectors around the human body in an intelligent way, in a personalized way. I don't think we could have done that without having that extensive knowledge in medical. Definitely credentializes it. I mean there's -- it's important for us to develop these optimal solutions. But there are a very few, and our customers tell us we're the only supplier that can have that kind of rich dialogue about the human body, and I think that comes from the medical business. But we certainly also share technologies, thermal technologies. We have a pretty nice electronics business, and we're starting to see some good overlap in developing electronics for our medical and automotive products. We just launched a product in the U.S. That's of the name ASTOPAD, that actually uses a carbon fiber resistive heating technology that we're manufacturing in one of our automotive plants and that was developed. The core technology was developed in automotive. So those synergies are really starting to pick up, and we're really excited about them.

Interesting thanks. Questions around M&A, including as M&A relate to the medical business. Maybe just start by describing your general approach to M&A. How do you go about making the various different build versus buy decisions? I'd be interested to know, too, where you see M&A being concentrated? I know you've undergone an effort to sort of focus more on the automotive and medical thermal management business versus previously had a hand in a number of different other end markets. Should we think about M&A then sort of more enforcing current initiatives as opposed to identifying entirely new verticals? And then just specific to Medical, is it more challenging to expand organically within that highly regulated medical industry relative to automotive? And does that make it -- I don't know, more likely that the M&A would be on -- a little bit more on that side of the house? Or what do you think?

Well, great questions. We'll start off at kind of the big picture view. We're -- first of all, we're really proud of what we've done over the last couple of years to shore up our cash flow. We're generating significant cash flow pretty consistently. And that's helped us be in a better position from a balance sheet standpoint to think about M&A. Our top priority for capital allocation is still, especially in these uncertain times, maintaining the security and liquidity of the company. So that remains top, we're going to remain focused on that. But second to that is investing in growth. And obviously, organic growth what investments do we need there. And then M&A. So we are in a kind of a good position now that should an opportunity arise, and as we're kind of searching for those opportunities to grow, we would look at a good opportunity. And the way we would look at that is really in line with our focused growth strategy. So you asked a specific question about would we consider other verticals? Probably not. We want to kind of expand our growth opportunities within those core businesses. And those are automotive and medical and the different product lines that are there. We would look regionally. Can we expand in a region that were maybe underserved? Could an M&A opportunity help us there? Expanding content in the vehicle, around our core capabilities, certainly, is an option. And finally, medical, as you mentioned. While we're pretty adept at launching new products through the FDA cycle, given the fact that we have a pretty long history of doing that, and we expect to grow a fair amount organically but certainly, in order to achieve a couple of hundred million, we think it would take a couple of small acquisitions to help us boost our product portfolio. So we're certainly interested in that as well.

Okay. So I'd like to ask on the competitive environment, maybe just starting with the seating side. It's been a number of years, but I think at one point in the past, you talked about maybe, you had like a 50% or half or so, I forget, of the sort of the resistive heating market, but when it came to heat that was higher, and when it came to heat/cool, I think it was 100%. I think you were the only ones doing the thermoelectric. But we have heard some announcements from time to time about [indiscernible] something and others that maybe they would try to get into heat/cool. I haven't seen the actual on-the-road or actual revenue product announcements, but just curious if you had any thoughts on -- obviously, you're the only ones differentiated with understanding the human physiology -- and with the medical business, but just is anybody trying to encroach upon your heat/cool space?

Yes. Well, we think about ourselves as providing a solution to the thermal problem around the human body, which has lots of different modes, including resistive technologies, radiation of heat is an up and coming area. And of course, air movement. And within the air movement, there's heating and cooling, and you can do this ventilated and of course, using active through thermoelectric. So it's one of many different types of technologies that we apply based on what the thermophysiology tells us we need to do. And at the moment, as far as we know, we're the only provider of a thermoelectric-based active heating and cooling system. Of course, there have been other people that have talked about it. And we hear things throughout the industry that others are developing products, but we're pretty confident in our technology lead there and certainly not resting on our innovation. So we have some pretty interesting thermoelectric-based solutions that we've been working on and that we want to stay ahead of competition on doing that. But it is only one piece of the many solutions. And of course, we -- in a unique way, we control it all through our own electronics in most of our applications that are out there, too. And so I think understanding the how to optimize the control of all these different effectors around the body is really a unique advantage that we bring. So we'll see how -- we're certainly paranoid. We know we have to keep innovating and stay ahead. We're certainly not going to be satisfied with where we're at.

Okay. And maybe on the Battery Thermal Management side or Battery Performance Solutions or whatnot. Obviously, there's a lot of people in the air cooled space. But I imagine you're probably the only ones there in the thermoelectric space. And then also with this thin foil technology, I know -- I think you said it was an industry first or newer innovative, so maybe you're the only ones there now. Do you have any IP around that? Maybe talk about what makes you different or differentiated on that part of the business?

Sure, sure. Well, we've developed this thin foil using a unique technology. And the goal with the thin foil technology was to kind of allow an OEM to reduce weight, to streamline the design in terms of footprint and space requirements. But our technology is also -- we can produce it very fast, and it's very environmentally friendly. What we typically are comparing that with in terms of thin oil technology is chemical etching. So that is a competitive product that's out on the market. We're pretty happy with the response we're getting from customers in the different types of applications. So we think that provides an advantage. And when it comes to IP, I think that's fundamental to the culture of our company. We're -- for the size of our company, we're in the neighborhood of 600 patents, and we're pretty aggressive on the IP side, and that takes different types of forms, too. But we're excited about what we've got in that product. And Battery Thermal Management and Battery Performance Solutions, there is a wide variety of competitors out there and still taking shape. We're very focused on where we think we can differentiate and add the most value. As an example, we're not going after, at the moment, liquid-type solutions, which is pretty predominant when it comes to cooling of high-voltage systems. That's an area that HVAC companies, the Valeos and [indiscernible] and others seem to be moving pretty quickly in. But we've got some pretty exciting solutions with -- you mentioned our thermoelectric-based solution. Right now, that's used on 48-volt batteries, but we've got a lot of road-tested products out there in the market, especially with Mercedes. They're continuing to roll out that system. They won a PACE award about 1.5 years ago. So we're proud of that as well. And we continue to look at lots of other ideas in the pipeline.

Okay. Very good. And I don't know if I promised no financial questions at this conference. Just to ask one, and it has nothing to do with the fourth quarter. So it starts from 3Q that -- obviously, like a lot of supplies, identified a lot of cost savings opportunities, such that maybe when revenue returns to it prior trajectory pre-COVID that you -- it seems like that you'd already be basically at your longer-term margin target that was set out in 2018. At the same time, revenue clearly is lower given some of the earlier headwinds with China production, then COVID relative to plan and back in '18. But how are we thinking about the growth potential of the business long term? We can make inferences about the margin potentials tracking better. But what about the growth potential? I also think back in '18, I mean, you didn't even really know about some of the stuff that we talked about earlier in the call about Battery Performance Solutions. So how would you assess both potential now versus earlier?

Well, first of all, let me hit the cost comments you just made. We're really proud of the progress we've made. We did -- most of our heavy lifting was done before anybody knew about COVID. And of course, we took some more austerity measures after that. But if you look at the third quarter, we're really proud of the results we hit. We took down OpEx from 23% back in 2018, down to 17% of sales, and EBITDA increased from 11% to 19% of sales in that period. And you're right, that's pretty much in line with what we were targeting for 2021 at a much higher revenue rate. So we're really happy with that. Now obviously, we need to continue to invest in the business. We'll continue, especially on the innovation and engineering side to make sure that we're keeping ahead in terms of innovation. And when it comes to growth, certainly, the headwinds in the market, we didn't anticipate in 2018, and that's going to have some effect on the targets that we've laid out there over time. But with the added -- with the increasing take rates in our core business in seat heating and cooling and steering wheel and electronics, and then adding in -- fueling that with growth in Battery Performance Solutions and BTM as well as medical, we expect to continue to outpace the market. And we're pretty excited about the prospects ahead. Our targets aren't changing. We may have to look at timing based on how things recover over the next year or 2, but we're certainly happy with our growth story.

Okay, great. I did want to ask, this is a semiconductor conference in [indiscernible] and we got intel and whatnot here. Volkswagen, some others have called out this potential shortage of computer chips or whatnot in '21 or in the first quarter. I saw Ford's taking some downtime on the escape. So firstly, what are you seeing in terms of that indirect impact? And are you seeing any direct impact on your operations from this phenomena?

Well, we haven't seen anything on the indirect side yet. And obviously, we're -- I'm seeing the same stories and hearing from the customers in the same way. And obviously, we've been very actively talking to customers because the OEMs are being very proactive about this and monitoring all their suppliers. And we are -- we do have a fair amount of electronics production and certainly some integrated circuits where this bottleneck has materialized. And we've spent a lot of effort over the last couple of months, making sure that we understand our inventories and tracking silicon providers to make sure we've been able to supply product to customers. And certainly, that battle is still going raging on a daily basis and probably will for many months ahead. But so far, we've been able to stay a little bit ahead and knock on wood. Hopefully, we can continue to do that. But it's something that is definitely taking resources across the industry.

Okay. Maybe just last question here. Curious where you think we are in terms of what inning are we in with regard to the penetration stories for various different products of yours, whether it's heat/cool or heated seats, but also the steering wheels, the cup holders, at various different products, climate-controlled glove boxes, I don't know. How much further do some of these stories have to go?

Well, if you step back to the last market study we did a couple of years ago, it was still -- 60-plus percent of vehicles produced don't have a thermal solution in the vehicle. There's still a lot of opportunity at that point in time. And this increased a little bit. At that time, we expected by 2025, to see about a 20-point jump. And this included everything from seat heating to climate-controlled heating and cool seats. And obviously, steering wheel is kind of a separate item that's even much lower than that. And we're seeing all those take rates continue to increase and new vehicles roll out with the product and the content per vehicle is going up. So you're seeing all the seats have some kind of thermal solution in many, many new vehicles. So I still think we're in the early innings, third, fourth inning of the game on thermal technologies, and we're working hard to develop those solutions to make them continually compelling to consumers and OEM.

Okay. Well, that's very good to you. And it looks like we are out of time. So thanks, Phil, and Gentherm, for joining us again this year. We really appreciate it.

Thank you, Ryan. I enjoyed it.

Take care.

You too.