Integrated Micro-Electronics, Inc. (IMI) Earnings Call Transcript & Summary

All right. Good afternoon, everyone. Thanks for joining us for the briefing for IMI's Q3 Earnings Results. Joining us today is President, Jerome Tan; and our CFO, Laurice Dela Cruz. Jerome will start with some market updates before Lau moves on to explain some of the financials of the quarter.

All right, good afternoon, everyone. A quick snapshot on the global economic outlook. I think you've seen this before. As you see, 2022 is projected to grow by half of 2021 and continued slowdown in 2023. This is really driven by the inflation that's -- that we're seeing across the major economies and the concerted effort of the central bankers around these regions to increase interest rates to lower inflation. It also has actually slowed down in terms of the forecast versus the beginning of the year. Most notably, I think the Eurozone has dropped from its earlier forecast, as well as in the U.S. in terms of 2022 growth rates. And so a lot of the outlet that we're monitoring is really in '23, what type of economic growth or global growth do we expect. A lot of that would be, I believe, driven by how the inflation is being contained. We did see a peak, I think, in the last 2 months. Hopefully, that will continue to trend downwards. So that the central banks will reduce the pressure or the need to increase interest rate to slow down the economies. In anticipation of this, we are looking at being very cautious in terms of where we invest in terms of our CapEx, and you'll see that later. Since the beginning of this year, we've been cautious, and it's also reflected in the new wins that you'll see later on, wherein we are also a bit more selective in what we bid on to make sure it gives us a higher margin and does not give us a very high working capital and CapEx requirement. We are seeing some customers because of this slowdown reduce some of their forecast, but -- it's not a big reduction across the board. We only see a few of them updating their forecast. So we still expect, at least for IMI to still go into next year. Next page, please. This is another set of indicators that we look at. As you see, the global manufacturing index on the left, it has dropped to below 50% first time since June 2020. The combination of weaker new order inflows and inventory buildup led to a deteriorating production outlook. This was shown by a sharp drop in future output as well among the global manufacturers. Similar story for electronics. Electronics posted slightly above 50%, 50.2% in September. So again, reflecting the slowdown overall in the expansion of the electronics market and also the outlook. And decline in output is mainly driven by Europe and the U.S. and also China because of the continued COVID zero policy that the government is implementing. One of the categories that is showing growth is the industrial segment. So that continues to see growth. The big decline is in the consumer and computing space. Next page, please. This shows the North American sales performance compared to prior months, which is a representative globally of what's happening in the component supply. Index shows -- or anything above 100 in the index means growth in terms of sales. So if you'll see with the high growth that we've experienced in 2021 and beginning of 2022, that led to a lot of component shortages that we've been experiencing. That has started to come down, also partly because of the efforts I mentioned earlier, where governments are trying to tame inflation and raise interest rate. And so that environment has slowed down and correspondingly component supply has also dropped. So this one would help -- the positive side here is this one would help for us to see the start of normalization of the supply chain or the component shortage. We do see the times also improving. The average lead time now is down to 18 weeks, about a 40% reduction from the last few months. There are, however, certain electronic semiconductor that are still quite short for us. So we still continue to see very tight semiconductor or chip allocations. But we expect that to ease more next year. This is also reflected in our backlog. Our backlog has improved from the end of last year, which is about USD 90 million. Now our backlog is lower down to about USD 65 million as of end of Q3. Next page, please. This one is also a similar indicator that shows what the sentiment of the market is in the electronic component industry. The red line shows the -- how companies are feeling in terms of the outlook, and the green line is showing whether it's improving or better than prior period. And you'll see starting in Q2 this year, the sentiment has turned really quite negative most -- and this is also shown if you look at the news, a lot of the talk about consumer electronics and computing electronics coming down significantly. So this is reflected of that. Aerospace, automotive and industrial markets are also down and the sentiments are also negative, but they're not as bad as the consumer and computing segment. Next page, please. We also track the logistics and freight costs. Again, you'll also see the freight costs coming down in the last few months. It's down by 43.9% against the same period last year. So the current levels now, we're seeing freight costs about still high than pre-pandemic levels. We're down to 2x pre-pandemic level as opposed to 5x that we have seen early part of this year. And we are also seeing that in IMI. So our freight in cost has also reduced significantly from over 3%, now down to about a little over -- sorry, a little below 2%. And we expect that to continue to improve. Next section. So just give you an outlook on the segment. For year-to-date September, total revenue grew by 7% while in Q3 to Q3, our total growth is 8%. This one is -- our key focus segments. Automotive and industrial continue to grow, as you can see, slow double digit growth. This despite the effect of unfavorable FX rates in renminbi and also in euro. So if you take out those negative impact on the euro and renminbi, our growth in automotive segment year-to-date September is around closer to 18% or 20%. And for industrial, it's also higher slightly, not as much as automotive. Also, the other positive growth that's driving our automotive segment is really the ramp-up of new projects that we've launched. And you'll see in the next page, particularly in our Czech Republic and Mexico region. The other improvement is also the easing of components, particularly in China. You'll see our automotive recovery in our production site in Jiaxing has improved significantly as well as the shortage leases. In Industrial, the growth is also driven by successful ramp-up, particularly in Philippines and Serbia. And also, we are able to be able to adjust our prices given the efficient component costs. So we also -- that also helped in terms of increased revenue for automotive and industrial. On the other hand, some of the segments that we're seeing declines would be in Aerospace and Defense. This continued to be hampered by the specialized chip that they have, which is very difficult to come by. So that is the main driver for the drop in the Aerospace and Defense, as well as some delays on some of our projects. On the consumer, we talked about as people return to office, the need for [ laptop ] has dropped significantly. So that's impacting our consumer segment. This is particularly on the revenue. This is partially offset, though, by improvement in the automotive segment in VIA where some of -- where a number of the automotive customers have started to ramp up this year. The other segment where we have seen decline is in the telecom infrastructure. So this is due to an exit of one of the businesses in our Shenzhen facility wherein we exit a low-margin business so we can consolidate our production and focus more on higher-margin products. On a region-by-region basis, next page, you'll see most growth across the board, except for VIA and STI and this is primarily the drop in VIA, STI -- is primarily driven by a decline in STI. In the Philippines, as we mentioned, the extended component shortage is also impacting our demand. We have currently about the backlog of USD 20 million in the Philippines. So despite that, we're seeing a year-to-year first 9-month growth of 7%. In China, we've seen 11% growth. Again, this is also partly due to the recovery of some of the easing and the component shortage which helps drive growth in our Jiaxing business, when it's offset by the exit of the telco infrastructure customer that we have in Shenzhen. In Europe, I guess the thing to note more is on the Q3 growth compared to last year for Bulgaria, Serbia, mainly Serbia and also Czech Republic. You'll see the big growth is driven by ramp-up of new customers that they have -- that we have in those 2 locations. Mexico as well. Mexico has strong growth and continue to have strong growth in the pipeline as a lot of the customers are transitioning or shifting or diversifying their production or supply base outside of China and going into onshoring in North America. So we see a lot of benefit in that, and we expect that to continue on into 2023 and beyond. Again, Mexico -- sorry, VIA and STI, I mentioned that it's mainly impacted by the lower consumer sales in VIA as well as STI. But it's partially offset by the ramping up of the VIA automotive customers. Next page, please. In the new wins program, year-to-date September, we show a big drop, 42% drop in the first 9 months at 165 million new wins for the core IMI business versus 287 million. If you recall from the earlier update that we have beginning of this year, in 2021, there were 2 major programs that we won, which has a total of USD 110 million annual revenue potential. So that is not repeated in 2022, so that's driving the big decline that we have for mobility in 2022 versus 2021. The other item that also I mentioned in the earlier update is in the beginning of the year, the focus or our focus is really to renegotiate the prices with our customers as well as our customer negotiating prices with the OEMs, and that's also partly impacting the new business that's being pursued, particularly in the mobility segment. We do see improvements in our industrial segments. So we are showing growth versus last year. And we continue to see that growth going forward. If you compare Q3 -- Q3 to Q3 last year, it actually has slowed a bit as well. It's down 18%. So the slow -- the drop is not as significant as the first 9 months. That's also reflective of the situation in the global economy where a lot of the customers also are seeing a slowdown in growth and therefore, not as active in terms of pursuing new projects. We do have 2 key wins in Q3 which is if you look below the EV battery isolation box and the other one is the EV battery management system, so both EV related. This subsegment within the mobility is actually driving a lot of the growth in new projects that we have, and we think that would continue into the new future. With that, I'll turn it over to Lau to share the financial performance.

Hello. Good afternoon, everyone. So I'll be providing more highlights on the Q3 performance. So as mentioned earlier, our revenues grew 8% versus same period of last year driven mainly by the recovery in demand for our automotive and industrial businesses across all sites. As you may know, the Q2 and Q3 of last year was the peak of the component shortage, but for 2022, some of the components availability have started to normalize, and lead times were already reduced. However, Q3 in terms of revenue is slightly lower than Q2. This is because of some push outs of demand and also material shortage issue for some of our industrial customers. Our China factories were also affected by COVID lockdowns in September and also some power cuts during Q3. And also the -- still the main factor also for the decline in top line is the depreciating euro and RMB. On operating income, our operating income significantly improved from last year and also from previous quarters. And this is driven mainly by the improved efficiencies and our continuous efforts to pass on and negotiate cost increases to the customers, albeit the rising inflation mainly affecting or impacting our labor cost and the utilities cost. With the positive operating income, our net income is also positive in Q3 despite increasing financing costs, but it's somehow offset by beneficial ForEx position, particularly in our VIA entity on the revaluation of their USD cash. The positive net income is driven by the IMI core business, which reported USD 3.8 million of net income. But VIA and STI still continues to face supply chain headwinds, but they're already improving from previous quarters. The combined VIA and STI net loss is around USD 3 million. Next slide, please. So this is just a split, I think I mentioned the main drivers. So for the core business, the decrease in revenues are mainly from the push outs of some demands due to the shortage, but this was offset by the increase in revenues in the non wholly owned subsidiaries mainly from VIA Optronics. On net income, I already mentioned that the core business is reported positive USD 3.8 million, and this is offset by the losses from VIA and STI. But on a consolidated basis, we're still at a positive USD 800,000 for the quarter. Next slide, please. So on the capital structure, so just to note that we have additional of about USD 19 million loans from last year although USD 10 million of that is just a principal or -- reavailment of the principal cleanup we had in December 2021, while the other USD 9 million are used to fund the CapEx and working capital requirements of our new programs. And that caused our debt-to-equity to increase to [ 0.86% ], and current ratio also slightly decreased to [ 1.51% ]. Also, our book value per share now is at [ $9.93 ]. The -- it's just the same in terms of dollar value, it's just the FX conversion that caused the increase. And that just to note that we are currently trading at below book value. I think we're now trading at 5 pesos. Okay. Next slide, please. So as mentioned by Jerome, we are trying to manage our capital investment to just invest on those significant expansion programs. So we are focusing our CapEx expenditures on new businesses, and as of September, we have incurred USD 16 million. But for Q4, we are expecting to spend more on expansions to take advantage of the increasing manufacturing investments in North America by U.S. companies. So we expect to invest maybe additional 10 million more in Q4 for the new program wins we have in Mexico that would require expansion of facilities. I think that's the last slide for me. I'll turn you back to Jerome for the key takeaways.

As a takeaway, we're starting to see some normalization. The supply chain is quite tight, but a number of those shortage of components, we are seeing increased allocation. So that is a positive sign for us. And as shown also given that the market overall is slowing down, so that gives us also opportunities to start working with our suppliers and start targeting higher cost reductions for these components that we purchase, which will help our bottom line and offset the increased costs that we've seen in 2022. We're also able to -- if you look at the financial statements, we've also improved our margins in particularly Q2 and into Q3, there are recoveries from higher purchase price variance that we experienced early part of this year that we are now able to recover these unfavorable purchase price variance from our customers to help ease the pressure on our margins. We are also starting to see good utilization across our sites. Our overall utilization rates of the machines are now up to 68% versus last year of around 58%. That's driven by mainly improvement in revenue or volume growth and also taking out some of the older equipments that we have, particularly in the Philippines and also in China. We continue to look at how we can conserve our cash. The global environment is still quite volatile and uncertain. So as we mentioned, we are watching where we spend our funds in terms of new projects, making sure that it's a much higher return given the uncertainty in the market. And also continuing to focus on how we can improve our inventory levels. The inventory turnover is still quite elevated at this point. But as the component shortage start to ease, we expect to see improvement going into -- towards the end of the year as we are able to now produce component -- sorry, produce finished goods and ship up as much as we can this year. So that's where the whole team is focused on, on how we drive the improvement in working capital. What remains to be quite challenging for us is the inflationary pressure. We see a lot of increases in energy across a lot of the locations that we operate in and also very tight labor markets. So we try as much as possible to renegotiate our price to be able to pass on some of the costs. And with the improvement in the supply chain, that would allow us to improve our manufacturing efficiency, which would help us also reduce our costs. So these are the things that we're mitigating, the increase in energy prices and the tightness in the labor market. That's it. Now I think we can open it up for questions. Thanks, everyone.

[Operator Instructions]

I think there's a question on the chat box. How are you coping with China lockdown -- sorry, and have you moved some of the operations outside? We haven't moved any operations outside of China. We do have -- it's actually more new customers or new opportunities that we see in our other locations where existing customers or new customer wanting to transfer or diversify out of China. We've been, I guess, so far in 2022, there are lockdowns in Shenzhen and in Jiaxing. The good thing is the lockdown period, it was not extended and particularly the more recent lockdowns -- there are -- we are able to work with the government to be able to allow us to still have what they call the closed loop. So as long as we can control where we transfer our workers from the factory into the staff houses and control that exposure, then we're still allowed to produce. So the impact has been not very significant for us in the China lockdown. I think the broader impact is really on the global supply chain, right? Some of the lead times remain to be extended because of the series of lockdowns within China. So that is more indirect impact to us as opposed to shutting down our manufacturing operations in China. Are you sourcing raw materials outside of China? Yes, a lot of the semiconductor components are also outside of China that we get. So it's a mix. But I think China is still a significant portion of the supply chain that we get. But it's also -- but we do get the raw materials outside of China.

Okay, we have a raised hand. It's [ Elizabeth ] Santiago.

I have 3 questions. So first, what -- could you provide more detail on what drove the cost efficiencies and if this is sustainable? My second question is -- do you have an estimate of the impact of the strength of the dollar? Do you have an estimate of the sensitivity of net income, for example, for every 1 peso depreciation to the U.S. dollar? And my last question would be, do you have -- or do you think there will be an impact on the company from the banning of the U.S. of semiconductor exports to China?

I'll take some and maybe Lau can help on some of the answers. The first one on cost efficiencies, a lot of the cost efficiency is more on trying to find alternate components to our customers that wherein the components -- original components are difficult to find our allocation. So that's a significant part of the cost efficiency. The other ones are -- we continue to look at how we can increase the manufacturing cycle, so that it's shortened and to reduce the ratio of our indirect labor to labor. That's the second one. The other one is really focusing on how we are able to pass on a lot of the increasing costs to renegotiate with our customers. So the challenge with us is we do have a lot of long-term fixed contracts, and it's not as easy as some of the contract manufacturers where they can just pass on the cost. So a lot of our focus is really being able to track what are the unfavorable purchase price variance that we're experiencing from the increased component costs and be able to renegotiate with the customers. The other one is also driven by renegotiation of our contracts is really on the FX. So we have a big impact on our -- on the weakening of the euro. So we are going back to our customers and negotiating for a more regular frequency in terms of price adjustments related to the FX. So these are the things that we're doing to help improve our efficiencies. The other one is we are looking also at some of our structures, particularly in China, wherein we are looking to flatten the organization. So having people at each of the local manufacturing site take on regional roles and eliminating that need to have a regional role within China. So that's on the cost efficiencies. In terms of estimate of the peso to U.S., if I remember correctly, I think for every 1 peso, the impact is about USD 400,000 to USD 500,000 benefit. That is on the peso side.

Yes, USD 430,000 for every $1. But in terms of our revenues, so let's say, in the September year-to-date, the impact of the ForEx overall is about USD 40 million. So we could have been higher by USD 40 million revenues. In terms of the...

That's a negative.

That's a negative, yes, it's mostly on the euro. And on the bottom line, since we also have a mix of purchases in U.S. dollar and euro. The impact on the revenue is somehow offset by some purchases. And also it also benefits some of our operating expenses. So I don't have the exact, but I think in our last simulation, the impact on an annualized basis is around USD 5 million on all the FX fluctuations.

Yes. And on the last question, the new chips regulation, we don't see significant impact yet because I think a lot of the regulation is to control the -- I think it's 7 nanometers and below type of chips that's related for use in artificial intelligence. So those higher-end chips. So for us, we're watching the space. So far, we don't see significant impact to our operations. The benefit of that is, as we mentioned, we do see a lot of customers and new opportunities that's coming into our Mexico facility, where a lot of companies wants to onshore into North America to be able to serve the U.S. instead of serving it from China, serving it from somewhere in North America. So Mexico is one of the beneficiaries.

There's a question here about the Ukraine war. How is it affecting your European operations? I think business-wise, there's not a significant effect. We have a wide geographical footprint, so any direct contracts with either Ukraine or Russia we can always shift it around to there's Bulgaria, there's Czech Republic, there's Mexico in the North American side. So there's also Serbia as well. So no big effect on the business side, but it's certainly not helping the inflationary pressure on energy prices and also not helping the labor situation in Europe since -- there is a portion of the European labor force that is based in Ukraine that has been recalled for the war, and certainly not helping in that regard. Another question is this a new Philippine plant operational already?

No, not yet, still in the process of setting up. We actually -- there's a question about whether we expect positive profit next year. We actually don't give forward guidance, I think, but we do see improvement into next year. So hopefully, the situation that we have experienced so far will continue and even improve. Right, Brian? That's the right answer?

That's right. The reported income in Q3 is certainly a good first step. If things go well and continue to go well, then there isn't really any reason to [indiscernible].

But I think what we are watching, as I mentioned, really what is the global slowdown going to look like next year? So that is something that is uncertain at this point in time. So, so far, indications are showing not very drastic moves. In our 2 key segments of automotive or mobility in industrial. But that's something that we continue to watch and monitor it.

All right. I don't think there are any other questions. If you have any -- if you think of any questions, feel free to e-mail [email protected]. I'll answer your question or forward it to whoever can help us. Thank you again, Jerome and Lau. Thank you, everyone, for joining us today. Appreciate the time and effort of joining us.

Thanks, everyone.

Thank you, everyone. Bye-bye.