Gentherm Incorporated (THRM) Earnings Call Transcript & Summary

Okay. Great. I think we can get going with the next presentation, which is with Gentherm, the world's largest automotive thermal comfort company with a budding battery business as well. Happy to have with us Phil Eyler, President and Chief Executive Officer; as well as Matteo Anversa, Executive Vice President, CFO and Treasurer, Phil and Matteo, thanks so much for coming to the conference. We appreciate it.

Thank you, Ryan. We're excited to be here, live and in person.

Absolutely.

I thought to start off with some higher-level questions, including one we've been asking a number of companies at the conference to please comment on their latest thoughts on normalized demand in the U.S. We averaged $17 million SAAR for so many years leading up to the pandemic. We're only at $13.7 million year-to-date. And I think that they're the most proper explanation as to why it's supply constraints. And obviously, that's a huge part of it. I wonder, though, if it's maybe more nuanced, vehicles cost $46,000 now versus $35,000 prepandemic. Given that, how likely is it and over what time frame that we might return to pre-pandemic levels of unit volumes or if we are in some sort of period characterized by higher price and lower volumes, how is the supplier like Gentherm positioned for that environment?

Well, it's a little hard to forecast exactly how things are going to play out. But I do sense that once the supply chain starts to open up, especially on the semiconductor side, that we will see some of this pent-up demand start to get released into the market. I do think there's replacement volume that's pent up in the market as well. So I would think that if you look at the current IHS estimates of the $16 million, $16.5 million that feels about right to us. We're certainly prepared if it's lower, but I think that's fairly reasonable. When it comes to our -- where we're positioned with respect to the volume. I think, number one, and of course, your question was do we see things skewing to more expensive vehicles, more luxury vehicles or more mass market vehicles, I think we're really positioned well either way. Number one is on the higher-end vehicles, we certainly see more content of our products, which we're thinking about climate seating, heated and cool -- heated steering wheel, a lot of surfaces that we just acquired Alfmeier. So we now have lumbar and massage in the car. So those high-end vehicles are really spurred by the demand from consumers for comfort, health and wellness solutions. And that really is also scaling to mass market vehicles now, too. And we have enough scalability in our solutions to manage entry-level cars with these -- with a lot of these features as well. There's a lot of tailwinds in terms of demand for those kinds of features across the whole spectrum. So regardless of what happens to vehicle production, I think we're in a great position to see pretty sizable above-market growth.

I wanted to get your latest thoughts, too, on the pace and progress of customer discussions to recover a lot of these premium costs that you've incurred over the past year, including diesel, freight, logistics, natural gas, electricity, et cetera, and the likely impact to Gentherm's margin. Maybe you can address it from a couple of different perspectives. First of all, with regard to opening up contracts that maybe previously didn't anticipate those cost -- contracts currently in production. But then also when it comes to signing new contracts, are you able to gain any more flexibility or better protection should noncommodity supply chain costs track differently again in the future?

I think there's a lot of momentum in terms of the relationships with the OEMs in terms of moving forward on recoveries. Maybe, Matteo, you want to take some of the details there?

Sure. So Ryan, the -- so we did -- going after this in that kind of a holistic way, in 3 ways, primarily, a, just a straight reimbursement of onetime costs like the premium freight and the spot buys. We've been doing this now for quite some time, almost 1 year. and we're going to be very successful in doing it. Then the second thing we look at is the really a reduction in the annual price reduction that we have either in the current agreements and/or new awards to your point. And then the third is straight price increases. So I think there has been receptivity more in the recent months compared to, for example, last year, on the side of our customers to the last 2 pieces, which is really the reduction of the APRs and the increase in the prices. And we have been relatively successful. We actually, the second quarter, if you take the second quarter is an indication is the first time where we had positive price. You know that generally, in our business, price is always 2%, 2.5% drag in the margin. It was positive, thanks to this recovery. So I think we are at the beginning, but you will see more in the second half, but I think we're starting to see some good momentum on these aspects.

Okay. Great. And could you maybe revisit the logic behind and the benefits of the Alfmeier acquisition? I mean on the one hand, it seems pretty attractive just on valuation terms. It looks like you're paying, I think, EUR 178 million to buy our $30 million of EBITDA. I guess they were making $20 million, you're targeting $10 million of cost synergies. So only about kind of like 6x, which is a substantial discount to the multiple that your own shares trade at. What other benefits though, do you think there are to the acquisition? Are there revenue synergies as well from customer introductions? Could the benefit from revenue synergies rival even the cost synergies over time? Or what's the right way for investors to think about this acquisition?

Well, for us, it all starts with the mission of the company. And our mission is to develop and deliver solutions that have a positive impact to the consumers in the vehicle of today. And we do that through improved comfort, health, wellness and energy efficiency. And of course, traditionally, we've been a thermal products supplier. But as we looked at how to increase our value proposition with our customers, increase content per vehicle, seemed like a very natural fit that adding physical enhancement of health and wellness through lumbar and massage, integrated into our thermal products was a very natural thing to do for us. And actually, we started discussions with Alfmeier, almost 4 years ago, and it's kind of been a journey in building that relationship. Alfmeier is a small private German technology company. And really, we believe, the clear technology leader in pneumatic lumbar and massage. And the timing kind of all came together, and we were able to put this deal together. You pointed out that we think we got a nice fair deal for the company. When you look at what we think this can do for us, you mentioned the cost synergies, and we're very comfortable with the $10 million that we can make that happen over the next couple of years. But probably the biggest upside, which isn't included in that $10 million is going to be on the growth side. Alfmeier is a company that has done very, very well with premium European OEMs, BMW, Mercedes, Volkswagen/Audi. They do have a good business with one of the very large EV manufacturers, global EV manufacturers as well. And they started to build some business with Ford. But that's pretty much it. Where we see the opportunity is, number one, that we're going to strengthen our relationship with those customers. But more importantly, Gentherm will bring our customer base, which is vast, you look at North America customers, GM, Stellantis, Ford and then you start looking at Asia, our second largest customer as a company is Hyundai Kia. So that -- you start looking at them. Japanese customers were very strong with Japanese customers and then also looking at how to grow in China. So we see significant opportunities to bundle their product with our offerings, but also uniquely grow with their products.

Great. And maybe you could talk a little bit too about another recent acquisition that of Dacheng Medical on the recent earnings call, you commented that Dacheng has innovative and complementary patient temperature management devices. What are these devices? How do they compare to lane control or other patient thermal management products we might be more familiar with. And you mentioned too, I heard private label opportunities. Could you elaborate on that?

For those of those who don't know a lot about Gentherm, many are surprised to hear that we're not only in the automotive side of comfort, wellness and health, but we also have a medical division that's relatively small as of right now, kind of in the $40 million to $50 million pace in terms of revenue. But it really is a very unique position in our space to have that medical business. It's a good business anyway. I mean it's generally high-margin business. It's in a space that's growing. It's patient temperature management. But what's really unique from an automotive standpoint is it's that expertise that we can bring around how the human body responds to thermal change. And we do that in the hospitals and ERs and intensive care units. So we can take that knowledge called thermophysiology and build it right into our automotive solutions. And that's put us in -- we believe we're the only supplier in the world that has that capability. So just to give a little background on it. The thing about the business though is we really -- we want to scale it up in order to have critical mass so we can take advantage of the margin profile of the business. So Dacheng Medical is a China-based developer and manufacturer of patient temperature solutions and is actually in the top 3 in terms of market share in China. Granted, this technology in China, patient temperature management is really on the earlier stages as compared to the U.S. We didn't have a lot of access to hospitals in China. So this gives us a really great opportunity to grow in China, and it's a China for China model. On top of that, the company has some very innovative patient warming solutions, mostly air based around the delivery device, so call it the warm air delivery module. But where they're really, really strong is on the consumable side. And so the body covers and the blankets the things that is kind of like the razor blade to the razor model. And that's what that was very attractive. In fact, they were supplier to us in the first place. So we can obviously tap into their product and go directly to hospitals, but this private label business is something we think could really give us an opportunity to scale volume much faster. And that's to supply other players in the market who are also doing patient warming. So you can look at it as competitors, but something they've really established themselves well and we're pretty excited about that opportunity to grow.

Maybe you could just talk a little bit about how having the medical business, together with the automotive business improves the go-to-market. What is the response from the customers because it does make you unique, as you mentioned.

You mean on the medical side go-to-market or both?

No, on the automotive side. I can only imagine medical care is very much about the steering wheel...

Well, it's really about -- when you look at Gentherm, Gentherm is an innovation and technology company. And the thing that our OEM customers look to us the most for is the thought leadership on how to enhance the performance of the thermal products when you're talking about thermal in the vehicle. And the way we do that is we build expertise around the human body and thermophysiology. And it's really unique in automotive. I believe there are a few to none who are thinking like we are. We really focus all of our attention around how the body behaves and how to reach comfort and a positive sensation without having to blast heat, warm air or cool air throughout the cabin. So that approach, that human-centric approach is really important. And when you look at the medical business, it's all based on those, the science around that because what you're trying to do is you're trying to warm or cool a body to a really specific level to improve the outcomes of the procedure in the hospital. So you have to understand how the human body reacts and responds to heat, what are the locations of the body to apply, temperature change. The body is a very nuanced machine when it comes to temperature management. It's not uniform. You want to address the neck, vital organs. So you have to be really careful about how this can work. So on the car side, the other advantage we get by understanding that is we can use less energy to bring the consumer to a comfortable level. And that's really what has spurred ClimateSense for us. So at the end, the medical product and the skills that we have in the medical have really come together with this idea of an individual micro climate in the car called ClimateSense. We actually created an algorithm that's part of our offering that's based on the science of thermophysiology. So it's not just applying more of the thermal effectors around the body. It's also managing when, how much heat or cool to provide to what part of the body given a lot of different circumstances in the vehicle. And we couldn't do that. We don't believe without that thermophysiology expertise.

Yes. It seems like maybe if you backed it up several years ago, it was more about a credentializing thing, whereas as you transition to ClimateSense, it really is important in order to achieve the moment to have that extra expertise is having the medical business going to be even more important, even more of a differentiating factor as the industry transitions to these more sophisticated micro climate solutions?

I think so. And obviously, it's our medical group is pretty small right now. But as we can grow that, we can get more scale, we can get more horsepower behind the scientists and the expertise in the space. I do think it's going to have a positive effect. I really do. And for those of you who aren't aware on -- EVs are the key in our ClimateSense. With EVs, and this is not really common knowledge either, the second highest drain on a battery in an EV is the HVAC system. And that's what we're looking to address is the huge power consumption of an HVAC system. We've -- our ClimateSense solution, which integrates the thermophysiology that I talked about we've proven in our studies, and this is repeatedly with multiple customers through development projects that we can reduce power consumption of the HVAC system by 70% in many applications. That equates to an -- to use a cold -- let's call it, a cold weather cycle, we can actually extend the vehicle's range by 30-plus percent in the cold weather cycle by applying our -- and by the way, the consumer is actually more comfortable than they would be with the traditional HVAC system.

And to follow up on ClimateSense, as you recently announced your second award, right, with the battery electric SUV launching in 2025, follows on the first award announced last year also for an EV, a '24 model year. I know you're limited in terms of what you can say about these. You're not allowed to identify the vehicle or the automaker, but is there anything else you could share, for example, content per vehicle or materiality to your financials or maybe how many more automakers might you possibly be in discussions with or have shown prototypes to.

Well, ClimateSense, I've been very clear on our priorities around ClimateSense. We were excited. Our first win happened last year and launches '24 model year. And that our number one priority is executing that project well that we only get one shot at our first impression on the market. So we want to make sure that's done very well. So we've really pulled the vast majority of our engineering team on that. Our second priority was to get follow-on business with that same customer. That's to me the biggest opportunity to grow, to convince the customer, it's a large OEM. And our second win was, I think, a good proof point that we were able to do that. So there is obviously enough confidence in what we were doing in the first program to get the second award before SOP of the first program. It's kind of a big deal. And third priority then is over time, obviously continue to win with this OEM, but over time, find another OEM or more to bridge this to. And we are in discussions with a handful other OEMs. We could be in discussions with lots, but we just don't have the resources to do all of these. Generally, what happens is if an OEM is interested, they'll give us a development project where we'll do a full-blown implementation in a vehicle, which takes a lot of work, a lot of programming, a lot of tuning and then you do the testing to prove out the comfort performance and the energy savings performance. And so we have a handful of those ongoing, some that are quite interesting and obviously, we're hoping to see some momentum over the course of time.

Ryan, in terms of content, we said it's about 2x to 4x a normal climate seat. So it's a pretty substantial financial impact.