Nortech Systems Incorporated ($NSYS)

Good morning, ladies and gentlemen, and welcome to the Nortech Systems Inc. Fourth Quarter 2025 Earnings Conference Call. With me on the line today are Mr. Jay Miller, President and Chief Executive Officer; and Andrew LaFrence, Chief Financial Officer and Senior Vice President of Finance [Operator Instructions]. And the call will be open for questions and comments following the management presentation. At this time, it is my pleasure to turn the call over to your host, Mr. Andy LaFrence. Sir, the floor is yours.

Thank you, Ali. I would also like to welcome everyone to today's conference call. Jay will begin the call with a few -- a review of our operations, recent developments and business outlook, then I will review Nortech's Fourth quarter 2025 financial results. Before I turn it back to Jay for his closing comments. Then we will open up the call for your questions. . Before we continue, please note statements made during this call may be forward-looking regarding expected net sales operating results, future plans, opportunities and company expectations. These estimates, plans and other forward-looking statements involve unknown and known risks and uncertainties that may cause actual results to differ materially from those expressed or implied on this call. These risks, including those that are detailed in our most recent SEC filings may be amended or supplemented. The statements made during this conference call are based upon information known by Nortech as of the date and time of this call, and we assume no obligation to update the information in today's call. You can find Nortech's complete safe harbor statements in our SEC filings. And with that, I'll now turn it over to Jay for his opening comments. Jay?

Thank you, Andy, and good morning, everyone. We're glad you could join us today. The fourth quarter is our third consecutive quarter of positive operating and EBITDA results, reflecting the positive execution of our strategy, strategic restructuring initiatives in late 2024 and early 2025. This contributed to a $2.1 million improvement in income from operations in the fourth quarter of 2025 as compared with the same quarter in 2024. We continue to see positive trends in several operational performance indicators, including gross margins, cost management, quality and customer backlog. During the quarter, we continued the trend of increased manufacturing efficiencies across customer programs transferred to more geographically desirable plants, which are driving planned sustained performance improvement as we experienced a continued positive mix shift from new production -- new product introduction first builds to recurring production. We are realizing significant improvements in key quality metrics, including defective parts per million, also known as DPPM and Escape. We believe our quality metrics are world-class especially within the low-volume, high-mix market space, where we believe we are head and shoulders better than our dependers. Gross margins increased 20 basis points in the fourth quarter of 2025 as compared to the third quarter. A bright spot also includes our customer backlog. We increased backlog as of year-end 2025 to $77.3 million, a 17.4% increase from the end of 2024. And we have continued this positive backlog trend during the first quarter of 2026. This increase is occurring in the backdrop of several customers ordering with shorter lead times. We have implemented just-in-time finished product delivery strategies with several large customers who have requested much shorter lead times. These programs allow customers to order in smaller quantities based on long-term binding forecast, which have reduced the delivery time of many items from over 100 days to 20 days or less. I would further note that we are seeing signs of strength in our aerospace and defense -- with our aerospace and defense customers. Andy and I, along with the rest of the Nortech leadership team, I'm proud of the hard work and execution of our employees. I'd also like to highlight a very important accomplishment this past week. We entered into new agreements with Associated Bank for a $2.2 million term note and a $15 million asset-backed line of credit. We believe that this new asset-backed debt structure and banking arrangement is more flexible and more closely matches our business model. This new relationship will lower our borrowing costs and provides a 3-year arrangement to support our business growth. We continue to see strong quoting activity as many of our customers are evaluating nearshore manufacturing strategies for both North America and Asia. We believe we are currently well positioned with our North American footprint as our Monterrey Maquiladora operations and Minnesota facilities work under the framework of the U.S.-Mexico-Canada agreement or USMCA. While the tariff environment remains uncertain, including tariffs with Mexico, it's important to note Nortech is not the importer of record into the United States for goods we produce in Mexico as we operate under a maquiladora structure for our customers. This materially reduces our direct exposure to these tariffs. In situations where we incur tariffs on imported components, we are working closely with our customers to pass these costs through. More recently, we are closely monitoring the Supreme Court decision regarding the validity of APA tariffs and the process for reimbursement of these tariffs. We believe the reimbursement of these tariffs will be a net plus to Nortech as some customers have not fully completed their payment to Nortech of the AEPA tariffs that we have incurred. All in all, we are working hard and have all hands on deck to proactively monitor the shifting landscape, trade policies and uncertainties in the current geopolitical environment. Next, I'll turn it over to Andy for a more in-depth look at our financial results. Andy?

Thank you, Jay. In the next few minutes, I will provide certain details of our financial performance in the fourth quarter of 2025. I would encourage you to review our Form 10 -- excuse me, 8-K contained in our press release and non-GAAP measures as well as our annual report on Form 10-K that were both filed last night with the U.S. Securities and Exchange Commission. As a continued theme, we have historically noted our individual quarterly performance can be affected by outside factors. These might include timing fluctuations including seasonal fluctuations, customer shipments and supply chain issues. Any of these can materially impact a particular quarter either positively or negatively. Consequently, we believe it's important to review our business on a 12-month basis rather than focusing on quarterly performance. This approach will help normalize these potential anomalies and offer a better gauge of our strategy's long-term success. Net sales for 2025 totaled $118.4 million. This represents a 7.6% decrease from net sales of $128.1 million in 2024. Net sales for the fourth quarter of 2025 totaled $3.3 million, a 5.9% increase from the net sales of $28.6 million in the fourth quarter of 2024. As Jay noted, we have made significant headway with the transfer of customer programs in 2025. And this, when combined with new product introductions contributed to a 6.7% or $2.5 million increase in medical imaging net sales in 2025 as compared to 2024. Medical imaging net sales increased by $1.4 million in the fourth quarter of 2025 as compared with the same prior year quarter. Medical device net sales increased $2.7 million or 7.8% in 2025 as compared with 2024. The decrease was primarily due to inventory rebalancing with existing customers and timing of customer product launches as well as lower productivity as we manage our facility consolidation primarily in the first quarter of 2025. Medical device net sales decreased by $184,000 in the fourth quarter of 2025 as compared with the same prior year quarter. Aerospace and defense net sales in 2025 decreased $5 million as a result of increased production in the middle of 2024 in anticipation of moving the aerospace and defense manufacturing from our former Blue Earth facility to our Bemidji facility and to a lesser extent, the continued delay of certain defense customer product approvals at the end of 2025. Aerospace and defense net sales increased by $1.1 million in the fourth quarter of 2025 compared with the same quarter in 2024, reflecting the impact of the Blue Earth facility closing in 2024. Industrial demand soften as customers' orders and we incurred certain component shortages resulting in a $4.6 million or 12.9% decline in full year net sales. Industrial net sales decreased by $607,000 or 7.7% in the fourth quarter of 2025 compared with the same quarter 2024. As Jay noted, our customer backlog at the end of the fourth quarter 2025 increased to $77.3 million as compared with $65.9 million as of December 31, 2024. For 2025, gross margin percentage increased to 15.2% as compared with 13.1% in 2024. Fourth quarter 2025 gross profit totaled $5.1 million or 16.7% of net sales compared with gross profit of $2.8 million or 9.9% of net sales in the same prior year quarter. The increase in gross profit as a percentage of net sales in the current year period was a result of increased facility utilization, increased manufacturing productivity, the impact of restructuring activities in 2024 and 2025, and a change in the reporting structure of our customer managers from operations to a sales function, which more than offset lower net sales. Operating expenses for 2025, excluding restructuring charges, increased by $419,000 as compared with 2024. Operating expenses, excluding the restructuring charges in the fourth quarter increased $420,000 as compared with the prior year period as a result of higher selling expenses from the realignment of the customer-facing managers to a sales function. Income tax expense for 2025 was $263,000 as compared with $356,000 in 2024. Income tax benefit for the fourth quarter of 2025 was $216,000 as compared to $55,000 of expense in the fourth quarter 2024. Our fourth quarter 2025 income tax benefit was impacted by our updated analysis of the One Big Beautiful Bill Act that was signed by the President in the third quarter of 2025. Turning to the balance sheet. As of December 31, 2025, cash totaled $1.7 million, up from $916,000 as of December 31, 2024. The fluctuation of cash balances reflects the timing of cash receipts and expenditures, distribution of earnings from our Chinese operations and credit line borrowings, which aggregated $7 million as of the end of the quarter. Accounts receivable as of December 31, 2025, were $17.5 million, up from $14.9 million as of December 31, 2024. This increase is largely due to the timing of shipments. Inventories were $20.7 million as of December 31, 2025, as compared to $21.6 million as of December 31, 2024, reflecting a planned decrease in our inventory balances during 2025. Our contract asset, which represents revenue earned but not yet billed to customers increased to $15.2 million as of December 31, 2025, as compared with $13.8 million as of December 31, 2024. This increase reflects the timing of customer shipments and our focus on increased production to reduce raw material balances, optimize plan operations and provide ready-to-ship inventory to certain customers to reduce lead times. Our line of credit balance decreased by $1.6 million as of December 31, 2025, as compared with the year-end 2024. This decrease was largely due to the timing of accounts payable payments. Moving to the cash flow payment. For the year ended December 31, 2025. Net cash provided by operating activities totaled $2.7 million as compared with a $2.3 million usage in the same period in 2024. The timing of revenue shipments as well as customer and vendor payments impacted operating cash flow for the each early period. We use EBITDA as well as adjusted EBITDA, which does not reflect restructuring charges as key performance indicators to manage our business. While EBITDA and adjusted EBITDA are non-GAAP measures, we believe these provide meaningful information regarding our underlying core business financial performance. In the press release, we provided a reconciliation of our financial performance as determined in accordance with U.S. generally accepted accouting principles and EBITDA as well as adjusted EBITDA. For the fourth quarter of 2025, adjusted EBITDA was $1.2 million as compared with $889,000 loss in the same period in 2024. This significant improvement in adjusted EBITDA in the -- from the prior year quarter reflects the positive impacts of our restructuring activities as well as improved efficiencies and productivity in our manufacturing facilities as noted in Jay's prior comments. In our press release issued last night, we also presented non-GAAP results from a trailing 12-month financial data and EBITDA basis. For the year ended December 31, 2025, net sales were $118 million -- $118.4 million as compared with $128.1 million for the year ended December 31, 2024. In addition, adjusted EBITDA for the year ended December 31, 2025, was $2.5 million as compared with $2.1 million for the year ended December 31, 2024. As we noted, over the past year, we have experienced revenue and resulting in earnings headwinds from changes in customer ordering patterns. Medical device customers post COVID rebalancing of inventory levels and delays in aerospace and defense programs for moving our Blue Earth facility to Bemidji. We firmly believe that we have overcome these headwinds as demonstrated by our financial results over the last 3 quarters, increased backlog, and we are very optimistic about 2026. Our top financial priorities remain unchanged. First, we are extremely focused on continuing to strengthen our balance sheet, including our plan to further reduce our inventory investments in 2026. As Jay noted, we completed a significant goal last week with the closing of a term an asset-backed line of credit with Associated Bank. Next, we are focused on driving efficiencies in our manufacturing processes and operating leverage to deliver sustainable long-term EBITDA growth as well as driving improvements in free cash flow. With that, I will turn it back to Jay for his closing comments. Jay?

Thanks, Andy. Before we open the call to your questions, I want to highlight once again 3 related areas that together serve our customers and help advance Nortech's corporate stewardship, Nortech's engineering expertise, product innovation focus and sustainability plans. As for engineering expertise, we have a dedicated engineering services team focused on optimizing manufacturability, serviceability, supply chain risk mitigation and cost efficiency for our customers. Our 3-tier cost structure across U.S., Mexico and China allows us to quickly adopt our global engineering resources to fit our customers' changing needs. Our core goal for our long-term strategic plan focuses on unique innovation, Nortech's engineering capabilities and innovation skills advance our research and development activities to solve the most complex challenges our customers face with technologies that are ruggedized, lighter, faster, more sustainable and more affordable. Nortech's technology is engineered to provide connectivity solutions to address 3 concerns for our customers. First, there is a need for regulation. Nortech's fiber-optic technology stands up in harsh environments, such as the type of conditions commonly found in aerospace and defense applications. Nortech has a proud history of serving these customers' unique needs dating back roughly 30 years. It's the smallest of our 4 core markets by net sales, but is our fastest-growing segment and very important for our for both diversification and future growth. Most of the cable harnesses we produce today for aerospace and defense applications are traditional cables common and legacy defense systems such as seaboard missile launchers for the Navy. In conversations with our aerospace and defense customers, we see increasing interest in more modern warfare components such as ruggedized fiber optics, MT 389 connectors, which was the applied in wearable technology and tethered drones and others. Second, our customers need a means to enable connected devices and sensors to collect, parse, transmit and receive data to the cloud in order to apply the data effectively in decision-making. Nortech's digital diagnostics Xtreme and SkyLak technology platforms, integrate digital technologies with fiber optic cables to generate real-time cable and system performance data. These digital diagnostic systems advance our customers' ability to monitor their systems and devices and to evolve from preventive maintenance to predictive as to minimize downtime and costs. Third, our customers require technology that is physically lighter and more sustainable. Nortech is well positioned to capitalize on this increasing interest with our advanced fiber optic capabilities. Our technology is aligned perfectly with the industry is moving in favor of more efficient and reliable fiber optic solutions to provide EMI immune high-speed data transmission and power delivery all-in-one hybrid cable. Nortech's power or fiber technology reduces overall cable weight and while providing EMI immunity in shielding. By transmitting power over optical fiber cable, Nortech eliminates the need for a separate local power source on cables that are used in medical devices and imaging where electronic inference must be mineralized. Additionally, in satellites, aircraft or military systems, fiber can deliver power to isolated or shielding components where EMI is also concerned. More and more often today, that data is being evaluated analyzed using human intelligence as well as combined artificial and human intelligence for improved performance and data management for our customers and for their customers. For Nortech, we see AI capabilities as a clear opportunity to streamline and improve our processes, make our employees more productive and serve our customers better. With our intellectual property and fiber optic and digital technologies, Nortech is well aligned with projected future demand for fiber products. When compared with traditional copper fiber optics offer, dramatic environmental benefits during both production and operations, including improved energy efficiency and less material usage, while significantly decreasing the carbon footprint of complex cables we manufacture. We're also taking a forward-looking stance on materials, shifting focus from copper to fiber to mitigate cost pressures and align with our long-term strategy to produce ruggedized, lighter, faster, more sustainable and more affordable technology. Including -- in closing, we are excited about technological developments across all of our markets and expect them to support our continued sales momentum in 2025 and beyond. Aided by stabilization of the supply chain and customer orders. As we wrap up our prepared remarks, let me summarize key takeaways from today's call. First, we are operationally and financially realizing positive results from our restructuring activities in 2024 and early 2025. Second, we remain optimistic that our positioning in the near shoring landscape. Third, we are seeing benefits of our strategy with an increase in backlog over the past several words. And finally, we have made investments in new technologies and regulatory capabilities to leverage future growth. Now we'll open up the call to your questions. Ali, please open the lines.

[Operator Instructions]. Okay. As we have no questions in the queue at this time. I'd like to hand the call back over to Mr. Miller for any closing remarks you may have.

Thank you, Ali, and thanks to everyone for joining us today. We look forward to speaking with you in May when we report our first quarter 2026 results. Again, thank you and bye. .

Thank you. Ladies and gentlemen, this concludes today's call, and you may disconnect your lines at this time, and we thank you for your participation.