Good morning, and thank you for attending today's CTS Q1 2023 Earnings Call. My name is Daniel, and I'll be the moderator for today's call. [Operator Instructions] It is now my pleasure to pass the conference over to our host, Kieran O'Sullivan, CEO. Kieran, you may proceed. Kieran O’Sullivan: Thanks, Daniel. Good morning, and thank you for joining our first quarter 2023 earnings call. We posted solid quarterly top and bottom line results in a mixed global economy. The semiconductor supply challenge we highlighted in the past two quarters has been resolved due to the focus and management of our transportation team. Our focus on profitable growth, driving diversification through our advanced materials capability and growth through electrification and mobility markets with innovative new products remain our highest priorities. We are energized and focused on achieving our long-term strategic growth goals and improving our operational performance while we navigate the current macroeconomic challenges. For the first quarter of 2023, sales were $146 million, a decrease of 1.2% from the same period last year. Adjusted gross margin was 35.4%, down 180 basis points from the same period in 2022. Foreign currency changes impacted our gross margin unfavorably by approximately 120 basis points. Adjusted EBITDA margin was 21.9%, down 164 basis points versus the first quarter of last year. Adjusted diluted earnings per share was $0.61, down $0.06, compared to the first quarter of 2022. Operating cash flow was $11.2 million, compared to $19.3 million in the first quarter of last year. New business awards were stronger in the quarter. We added nine new customers and had a book-to-bill of 0.96, and total book-to-business in transportation increased to $1.5 billion. We continue to make progress on our diversification strategy as non-transportation sales increased to approximately 49% of our overall revenue, up from 46% in the first quarter of last year. Ashish will now take us through the safe harbor statement. Ashish?

I would like to remind our listeners that this conference call contains forward-looking statements. These statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. Additional information regarding these risks and uncertainties is contained in the press release issued today, and more information can be found in the company's SEC filings. To the extent that today's discussion refers to any non-GAAP measures under Regulation G, the required explanations and reconciliations are available in the investors section of the CTS website. I will now turn the discussion back to our CEO, Kieran O'Sullivan. Kieran O’Sullivan: Thank you, Ashish. Overall, we achieved solid results in the quarter as we managed through challenging market dynamics and worked to resolve the semiconductor supply challenge. We continue to advance our diversification with non-transportation revenues increasing to 49% of total sales. Year-over-year non-transportation sales grew by 5%, helped by acquisitions. Transportation sales were down 6% from the same period last year, but up 4% sequentially. Organic sales, which exclude sales from the three acquisitions were down 7.6% for the quarter, due in part to the impact of the semiconductor shortage I noted earlier and the burn-down of inventory in distribution and with certain industrial customers. Customer demand slowed as expected in certain markets in the quarter. We continue to see a challenging demand environment as we move into the second quarter and expect transportation sales to outpace non-transportation sales impacting margin performance short-term. We expect sales growth to remain mixed for the balance of the year as we prioritize our organic growth projects and prudently manage operational expenses, but not at the expense of our longer-term growth goals. Inflation continues to be a challenge and as appropriate, in partnership with our…

Thank you, Kieran. First quarter sales were $146 million, down 1%, compared to the first quarter of 2022 and up 3% sequentially from the fourth quarter of 2022. Foreign currency exchange rate changes impacted revenue unfavorably by approximately $2 million. Sales to non-transportation end markets increased 5% year-over-year. The medical and defense end markets grew high single digits. As we expected, we experienced softness in the industrial end market. Sales to transportation customers decreased 6%, compared to the first quarter of 2022, primarily due to the short-term semiconductor shortage we experienced over the last 5 months to 6 months. We were able to resolve the semiconductor supply shortage during the first quarter. Our recent acquisitions, Ferroperm, TEWA, and maglab, performed as we expected during the quarter, expanding our capabilities in several key end markets. Our adjusted gross margin was 35.4% in the first quarter, down 180 basis points, compared to the first quarter of 2022. Foreign currency exchange rate changes impacted gross margin unfavorably by approximately $1.8 million. We regularly hedge a portion of our currency exposure to reduce volatility, and these partial hedges are in place through the end of 2023. Inflation continues to pressure margins, and we continue to partner with our customers to partially share the burden of these cost increases. In the first quarter, we reported earnings of $0.58 per diluted share. Adjusted earnings were $0.61 per diluted share, compared to $0.67 per diluted share in the same period last year and $0.56 per diluted share in the prior quarter. Included in the first quarter adjusted EPS are a couple of onetime favorable impacts. The first is a $0.02 favorability on tax related to equity-based compensation. We also had approximately $1 million of favorability in operating expenses. These items are not expected to repeat in the…

[Operator Instructions] The first question comes from the line of Justin Long of Stephens.

I wanted to start with a clarification – I just wanted to clarify a comment that you made earlier, Kieran, on the transportation segment outperforming non-transportation in the second quarter. Was that a reference to year-over-year growth or absolute dollars of revenue? Just wanted to get some context there. Kieran O’Sullivan: Yes. The context, [Justin] [ph], is coming off the first quarter. If you look at – we have the headwinds in certain industrial markets. We have the burn down in distribution, and we expect that to continue. Whereas on the transportation side, we're seeing good growth and we're seeing the resolution of the supply chain issue as well. Coming into the year, we were a little bit more cautious on transportation. So, we're seeing some uptick there. And we're still trying to figure out the second half of the year. But that's how I would describe it. And obviously, if transportation is stronger, it has a mix impact on our margins as well.

Yes. Justin, in terms of absolute dollars, the transportation end market sales are larger than the rest of our business. And that's what we expect second quarter to be as well.

Okay. So it sounds like that was a reference to the sequential change. You would expect more sequential growth in transportation than non-transportation in the second quarter. Kieran O’Sullivan: Correct.

That is right, Justin. Yes.

Okay. Got it. I guess thinking about some of the commentary that you had on the second quarter, revenue will be roughly in-line with what we saw in the first quarter. You're going to have some mix headwinds sequentially on the gross margin line. Is there anything from an operating expense perspective that can offset some of that mix headwind as we move into the second quarter or is it reasonable to expect some EPS pressure sequentially from 1Q to 2Q? Kieran O’Sullivan: Justin, I'll start with some color and hand it over to Ashish on the EPS. But I just want to reiterate a little bit that we're also seeing a good performance in medical and defense for the year. So, while we highlighted transportation, we feel good about those two end markets as well. And then, of course, operationally, we still have some costs that we've made in our comments to take cost to take out as we get adjusted to the lower volume. And as you know, we're going to be very much focused on operational improvements as well. Ashish, on the EPS?

Yes. On the surface, Justin, the comments that we made are that there will be some unfavorable mix impact just because of the end market sales, how they are shifting in the short-term. We will be working hard to drive operational efficiency, so looking to offset as much of that mix unfavorability as we can. On the operating expense side, there was some favorability in the first quarter that are not expecting to repeat. And based on that, we may see a little bit of pressure on the operating expense side as well. So, EPS could be unfavorably impacted compared to Q1.

Got it. And I guess the last question for me is on organic growth. So, it was down roughly 8% in the first quarter. I'm curious when you think that will inflect positively? And maybe you could also comment on the trend in organic growth versus the recent trend in orders, which was pretty strong here in the first quarter. It feels like there's a discrepancy there. I would love to get your thoughts around that. Kieran O’Sullivan: So Justin, just as we go forward, when you look at distribution, we're not sure if it's going to be one or two more quarters of burn down in inventory. And we've certainly seen some softness, as we called out, in terms of industrial printing applications with microactuators. That's impacted by China. I know there's a rebound starting in China. We're carefully monitoring that. Yet we don't see full line of sight. Temperature has been a little bit softer. So that's how we see some of those trends evolving. But I do want to emphasize from an organic growth perspective, we feel – while there's near-term headwinds, we feel very good. The new pipeline of products that we have coming forward in terms of current sensing, the maglab addition, what we're doing with eBrake, with predevelopment, motor position sensing, and then in terms of therapeutics and diagnostics and expansion that we're doing with new materials in defense and in new regions, we feel pretty good about that. But there are some short-term headwinds for sure in industrial and in the distribution side.

Okay, thanks. I’ll pass it on and congrats on a good quarter in a tough environment. Kieran O’Sullivan: Thank you, Justin.

Thank you. The next question comes from John Franzreb of Sidoti. Please proceed.

Good morning, guys and thanks for taking the questions. Kieran, I want to go back to the revenue side here. It seems like there's been a step function change in the industrial market versus three months ago. Can you just talk to us about what the change was that changed your outlook a little bit to be thinking about the lower half of your midpoint of guidance? Kieran O’Sullivan: Yes, John. The first – in industrial, we include our distribution as well. So, there's a softness in distribution from over ordering in the past 12 months. That may take one to two more quarters to burn down that inventory to get orders moving again. And on the flip side, by the way, we're forming new partnerships as we go forward in that area. Temperature has been a challenge in terms of some of the applications there. Anything that gets kind of somewhat consumer-related or construction-related like HVAC temperature is an area we've seen a slowdown and definitely in industrial printing that was impacted by what we see in the demand coming from that area, particularly for China. And again, we're seeing some rebounding there, but it's not clear yet. So, we think those headwinds are around for a little bit of time here. But again, we feel better today about transportation than we did several months ago at the last earnings call, and we're doing pretty solid in terms of medical and defense.

So it comes – I mean, I remember you talking about industrial printing last quarter and the consumer last quarter. So, it sounds like the new changes is further weakness in distribution and further weakness or new weakness in construction. Kieran O’Sullivan: John, what I would say is, if I think back to what we messaged in the last quarter, just to give it context, we said that we expected the first quarter to be the softest quarter of the year. And we see that extending, as you can tell, into the next quarter.

Yes, John, we talked about distribution, could we see pressure in Q1 and Q2. And now our view is that we could potentially see some pressure in the third quarter, as well as inventory levels normalize. But again, a lot remains to be unfolding in the next few months.

Got it. And just to stick on the revenue theme here. You're seeing better demand in transportation. Is that because China is recovering or are you seeing better demand here in North America than you expected? Kieran O’Sullivan: Definitely in North America. China was a little slow to start the year here. And so, we're continuing to watch that. I talked about what we're seeing with the locals and the transplant OEMs. But definitely, John, seeing an uptick from where we were in the January earnings call. And it looks good, and we're trying to figure out, based on the macroeconomic things we see out there, is the consumer going to stay strong in the second half of the year? I mean, you saw some of the vehicle OEMs giving some strong earnings at this stage. We're just waiting to see how that plays out.

Okay. And Ashish, if I remember correctly, you said there's onetime benefits in the first quarter. I think you said tax and what – could you just go over that again? What those two expenses were – or benefits were – and where would you find them or identify them in the P&L?

So there was a $0.02 benefit on tax expense related to equity-based compensation. So that you would see on the tax line. And then on the operating expenses between gross margin and operating earnings, we had about $1 million of favorability that I'm not expecting to repeat as we move forward.

Okay. Got it. Okay. And you know what, I've taken enough time, I'll get back into queue. Thanks guys. Kieran O’Sullivan: Thanks John.

Thank you. The next question comes from Hendi Susanto of Gabelli Funds. Please proceed.

Good morning, Kieran and Ashish. I think I would like to ask about the timing or the timeline of new product introductions. I think you listed eBrake, Drive-Pad, AC motor, current sensor and an AC motor position sensor. Can you give us a sense of timing when the revenue ramp-up will take place? Kieran O’Sullivan: Yes, it's different for each one of those products, Hendi. Current sensing has already been in development. And actually, we will launch on a European premium vehicle later this year. The eBrake, which we're very excited about, given its benefits in terms of weight and what it can do in terms of system cost, that's in predevelopment with an OEM. Timing on that, I can't give you exact at the moment, but we would expect to secure a win in the next 12 months. The motor position sensing is still in development, but making good progress there. We see good opportunity with that because of the complexity of the solution that's out there today and we seem to have a more simplified approach to that, which we think will be successful. And the Drive-Pad is something we've been really testing with customers here in several of the markets. It's been well received. We are not in predevelopment, but the level of interest in that product and what it can do in the footwell in terms of its design and the flexibility it gives to the OEM with the footwell design and safety is getting a lot of traction and interest, but don't expect revenue on that one until, I don't know, beyond 2027 because of the automotive development period. But we feel really good about that. And then in the non-transportation markets, you can tell, we're actually bringing new products to the market every quarter here. Obviously, it's smaller impact, but very long runway on those products. And we're very pleased. You saw us into new heart mapping applications this quarter, depth applications. We're really pleased how we're leveraging the Ferroperm acquisition with new material formulations. So that piece, we feel like we've done a lot of good work in the last 12 months even though it's a tough macroeconomic environment. That's why we feel good about the mid- to long-term.

Okay. And then Ashish, I would like to ask about the impact of the factory consolidation in the form of gross margin pressure. I would like to clarify whether this one is the factory consolidation in Mexico. I think in the past, CTS may have mentioned that it will be completed in like 18 months. I would like to clarify that. And I'm wondering whether you can share like the rough magnitude of the impact on the gross margin?

Yes. So, Hendi, we haven't specifically called out the amount of impact. Most of the activity from the plant consolidation in Mexico will be happening between now and the end of the year, and then we will be completing the project in 2024. My expectation is that the cost burden will be heaviest in the second half of 2023, and we'll call it out at that point in time.

Got it. And then I may have missed this. I think in the prior earnings call, there's a discussion about the impact of component shortages in smart actuators in commercial vehicle market. I think you talked about it, but I would like to review that again. So, would you rehearse that one more time? Kieran O’Sullivan: Yes, Hendi. The shortage – that shortage has been resolved. We're back running where we need to be running. Obviously, we continue to watch for shortages out there because while we see that passive components have improved, semiconductors are still something to be watched, but we're back. And as we said, the demand in the commercial vehicle market in the first half of the year looks very solid.

Got it. Thank you Ashish. Thank you Kieran. Kieran O’Sullivan: Thank you, Hendi.

The next question comes from Joshua Buchalter of TD Cowen. Please proceed.

Hey guys. Congrats on the resilient results in a tough backdrop. I wanted to ask about the transportation market again. So, I guess if we isolate the fact that the semi shortage is sort of behind us, is there any sort of catch-up baked into your outlook for the fiscal year or is it just we're now shipping towards – or closer to [indiscernible] demand? I'm trying to understand like where inventory levels are downstream within your transportation vertical? Thank you.

Josh, the semiconductor problem, as Kieran talked about was resolved in the first quarter. We were able to pick up pace on those shipments towards the third month of the quarter, and we expect that to be good momentum moving forward. In terms of timing of revenues, I think we talked about in some of our prior earnings calls that the customers have been managing in terms of how they balance between supplying to OEMs versus supplying to aftermarket. So, there may be some pickup in the next few months from that. But I would expect us to see more normal levels and be more driven by what's happening in the end market demand, which at this point in time, in the commercial vehicle space, as Kieran mentioned, we are seeing a pretty robust demand at the moment.

Got it. And then I wanted to ask about gross margins. If I put the puts and takes together, it sounds like current levels are sort of the right way to think about things unless there's a change in FX or your cost basis. I guess on the flip side, how do you feel about your like-for-like pricing? It sounds like your customers are willing to share some of the increased input costs, but I'd be curious on how we should be thinking about the gross margin trajectory from here through the rest of the year? Thank you.

So, Josh, going back to the pricing first. Those discussions continue to get more challenging. There's no doubt about that. The first time it's a hard discussion and then the second and third time, it continues getting harder. We are working through those. Our teams are doing a good job of having those discussions with our customers and finding the appropriate path forward. We are continuing to monitor carefully if we see the trend reversing on that at some point, which we haven't seen yet. And as we mentioned in our comments, we are actually still seeing some inflationary pressures in different parts of our business. So, that's something we'll have to continue monitoring as we move forward. On the gross margin, we did talk about a little bit of an unfavorable mix impact just as we see stronger transportation sales and some softness on the industrial side of the business. My expectation is, could that continue for the next – definitely in the second quarter, I'm expecting some unfavorable impact. And then we need to monitor how the second half of the year evolves as we work through those different demand environments.

Okay. And then last one for me. Within the mix of non-transport, could you remind us are Aerospace and Defense and Medical materially different than in the Industrial segment from a margin perspective? Thanks, and I'll hop back in the queue. Kieran O’Sullivan: Yes. They tend to be higher margin products in medical and defense.

Yes. Josh, just to clarify Kieran's comments, they are higher than the rest of our business. The industrial, it's a little bit of a mixed bag. There are some parts of it where we have higher margins, some parts of it where we have to be more competitive based on distribution channels may not be quite as rich as some of our custom engineered solutions.

Got it, thank you.

Thank you. And our final question is a follow-up from John Franzreb of Sidoti. Please proceed.

Just on the EV growth outlook. I believe you finished 2022 with something around 8% to 9% volume. What is your thoughts about the targets for where you're going to be in EV by the end of this year? Kieran O’Sullivan: John, I think if you look at it, the penetration rate is out there. If you look at China, it's probably trending more towards 30% in total over time, Europe is trending more like 15%, 7% for North America. So, we're in the double digits, but we haven't gotten to our goal yet. So, we're trending in the right direction. And we feel pretty confident that we're on target for what we're trying to achieve by 2025. But we've got a good pipeline of quotes. You can see our wins in the first quarter still very robust in transportation, and we think this is going to be a year to continue to build momentum.

Did you just say you already are in double digits at this point? Kieran O’Sullivan: Yes. But we didn't – I said we're in double digits, but in terms of momentum, we're not going to hit the 25% until 2025 that directionally.

I recognize that. I'm just trying to see what the slope of this growth is, kind of looking like. Is it all back ended or how much momentum we could see in 2023? Kieran O’Sullivan: I think you're going to see good momentum this year, John, from the products we have and the momentum we're taking because remember, it's some of it's on new products, we're winning on existing products in the portfolio as well and have been for some time.

Got it. And just on the total transportation portfolio, what kind of visibility you have for the balance of the year? Do you have it through the third quarter, through year-end? Can you just give us some color there? Kieran O’Sullivan: John, it's – we've got decent visibility going out three months from now. Beyond that, we – even though we have some visibility, we're just being a little bit cautious in terms of end demand and the consumer confidence. If you look at some of the backlogs in commercial vehicle, they would indicate a strengthening beyond the first half of the year, but we want to really see how demand develops. That's why we said in terms of guidance, we want to give a better update because we'll have more insight into the second half in the next earnings call.

Fair enough. Thanks, Kieran, I appreciate it. Kieran O’Sullivan: You’re welcome, John.

Thank you. And with that, we will conclude our time of question-and-answer. I would now like to pass the call back over to Mr. O'Sullivan for closing remarks. Kieran O’Sullivan: Thank you, Daniel, and thank you all for your time. CTS is well-positioned for future growth driven by market demand for increased automation, connectivity, and energy efficiency. Our strategic focus on diversification, electrification, and mobility and channel development enhances profitable portfolio. I want to thank our global teams for their ongoing focus on operational execution in a difficult environment and their support in driving our strategic initiatives. With the support of our dedicated teams whose deep expertise and custom engineered solution capabilities fuel growth across our customer base, we will continue to deliver sustained long-term value for our stakeholders. Thank you for joining our call today. This concludes the call.

That concludes today's call. Thank you for participating. You may now disconnect your lines.