Fox Factory Holding Corp. (FOXF) Q1 2020 Earnings Report, Transcript and Summary

Greetings and welcome to the Fox Factory Holding Corp. First Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host today, David Haugen, Vice President, General Counsel and Secretary. Thank you, sir. You may begin.

Thank you. Good afternoon and welcome to Fox Factory’s First Quarter Fiscal 2020 Earnings Conference Call. On the call today are Mike Dennison, Chief Executive Officer; and John Blocher, Interim Chief Financial Officer. By now, everyone should have access to the earnings release, which went out today at approximately 4:05 PM Eastern Time. If you’ve not had a chance to review the release, it’s available on the Investor Relations portion of our website at www.ridefox.com. Please note that throughout this call, we will refer to Fox Factory as Fox or the company. Before we begin, I’d like to remind everyone that the prepared remarks contain forward-looking statements and management may make additional forward-looking statements in response to your questions. Such statements involve a number of known and unknown uncertainties, many of which are outside the company’s control and can cause future results, performance or achievements to differ significantly from the results, performance or achievements expressed or implied by such forward-looking statements. Important factors and risks that could cause or contribute to such differences are detailed in the company’s latest Form 10-Q and in the annual report on Form 10-K filed with the Securities and Exchange Commission. Except as required by law, the company undertakes no obligation to update any forward-looking or other statements herein, whether as a result of new information, future events or otherwise. In addition, within our earnings release and in today’s prepared remarks, non-GAAP gross margin, non-GAAP operating expenses, non-GAAP income tax, non-GAAP adjusted net income, non-GAAP adjusted earnings per diluted share, adjusted EBITDA and adjusted EBITDA margin are referenced. It is important to note that these are non-GAAP financial measures that we believe are useful metrics that better reflect the performance of our business on an ongoing basis. A reconciliation of these non-GAAP financial measures to their most directly comparable GAAP financial measures are included in today’s press release, which has also been posted on our website. And with that, it is my pleasure to turn the call over to our CEO, Mike Dennison.

Thank you, David, and good afternoon. We appreciate everyone taking the time to join us for today’s call. Since we last reported earnings, the COVID-19 pandemic has rapidly caused an unprecedented impact on our global economy, our daily lives and our business. First and foremost, our thoughts and prayers go out to all those affected by the virus. I would like to extend my sincerest appreciation to our employees, whom continue working in our facilities to keep our operations running where possible, and to all of the healthcare workers helping to win this war on COVID-19. Our number 1 priority has been ensuring the health and safety of our employees and their families. We are working together as an organization to be as informed and nimble as possible to also ensure the health of our business now and for the future. I’m going to start by sharing how we’re responding to this unprecedented and dynamic environment. I will then focus on key highlights of our business in the first fiscal quarter of 2020, along with some perspectives on the month of April and the second quarter. John will then go through our first quarter results in more detail and provide perspective on our balance sheet, cash flow and a few financial elements of our business as we move forward. As you would expect, according to CDC guidelines, we have implemented new policies and enhanced our best practices in key manufacturing and operational areas, including stepping up the sanitation, social distancing and health-checks for visitors at all of our facilities. We experienced approximately $1.8 million in COVID-19-related costs in the first quarter to support our operations, which is reflected in our gross profit results. And for Q2, we expect a step-up in these COVID-19-related costs, as the costs are commensurate with the amount of time we are impacted within the quarter. We will keep these enhanced practices and procedures in place to ensure we are operating our business as responsibly and safely as possible in a new COVID-19 environment. Our teams meet daily to evaluate the health, financial and social impacts of the pandemic it’s having on our employees, business, and valued supply-chain and OEM partners. We are responding quickly with measures, policies and actions to minimize any potential negative impact to our business near-term. There are new developments daily and I am proud of how our team is consistently managing our way through a very unpredictable time and circumstances. Shortly after the outbreak in China, Taiwan started taking measures to prevent the spread of COVID-19. These actions began much earlier than other countries around the world. As a result, relatively speaking, Taiwan is maintaining life and business closer to normal than most of other parts of the world. We are fortunate that our operations in Taiwan are running smoothly, and we are continuously monitoring the situation to ensure that we are able to anticipate and respond to any potential changes quickly. In Canada and Europe, our SSG team is working closely with our customers and suppliers, talking to them daily to ensure we are supporting them now and able to emerge stronger as partners in due course. We continue to follow government and health authority guidance to ensure we practice good health measures, including social distancing, and currently have a mix of on-site operations and employees working from home as we prepare to return to more normal operations on site. In the U.S., we are faced with varying degrees of stay-at-home orders in several states that are impacting our manufacturing operations, OEM partners and end-consumers. We are in compliance across all of our affected locations and taking the necessary actions to adhere to the orders and key government guidelines. At the same time, we are working with government authorities at all levels to determine how best to continue to maintain minimum operations. As it stands right now, in all impacted facilities, we are currently able to remain operational at least at minimal levels as we provide essential services to our community. It is important for us to continue to operate even at limited capacity to enable us to continue to meet customer demand and changing business needs during these times. We started the year with very strong business momentum with our diversified product offerings and differentiated market position ahead of the global spread of COVID-19. Both of our businesses had great results for the first half of the quarter. And while they ultimately had unique demand profiles from early March onward, we were generally happy with their ability to sustain revenue in spite of the rising pandemic. In general, the Powered Vehicles Group is currently experiencing a temporary slowdown with OEM customers but is booking strong sales in the aftermarket, military and commercial vehicle product lines. Within the Powered Vehicles Group, we continued to make excellent progress on our efforts to expand our powered vehicles manufacturing footprint in Georgia. The development of our new facility in Hall County remains on track. The first phase of this expansion project is set up to be – is set to be up and running later this quarter, and we’re beginning preproduction work as we speak. The Specialty Sports Group experienced a slight shift in sales late in the first quarter from Q1 into Q2, but has been a bright spot based on what we have seen in our order books from their channel. Overall, in the first quarter, we generated sales of $184.4 million, a 14% increase compared to the first quarter last year. Our results were driven by the continued success of our broad powered vehicles product line-up, particularly in the OEM channel prior to the pandemic. Powered Vehicles Group product sales were up 24.6% compared to the first quarter of 2019. And Specialty Sports Group sales were down 1.8% for the first quarter compared to the prior year quarter, reflecting a shift in timing of OEM orders, as mentioned earlier. Keep in mind, the Specialty Sports Group sales were up approximately 13% in Q1 of last year, creating a difficult year-on-year comparison. That said, we are pleased that our Specialty Sports Group model year 2021 introductions have been well received by both the aftermarket and OEMs thus far. While it is difficult to fully quantify, we believe operating with limited production beginning in March impacted our overall sales by approximately 5% to 7%. Focusing on our post-Q1 trend, during the month of April, OEMs were shut down in the U.S., which impacted our PVG results during that time. Yet at the same time, SSG was able to function in a more normalized production environment. While our top-line results in April have been severely challenged, we’re pleased with our order books for both sides of the business. We do expect Powered Vehicles Group sales in Q2 2020 to be down versus prior year quarter. In addition, we are assuming potential for some intermittent challenges as we begin to re-ramp our powered vehicle production back to more normalized levels. As many of you likely know, majority of OEMs plan to restart their production throughout the month of May, but the exact timing and pace at which production resumes is still developing. The good news is that we are already starting to see indications of bookings coming back from our key OEMs, and we view this as the beginning of a more positive trend. Keep in mind that we strongly believe these issues are more transitory in nature, as we work through this unprecedented operating environment resulting from the COVID-19 pandemic and not an end market demand issue. Consumers staying at home or traveling less have turned to our powered vehicle and specialty sports products as they are inherently outdoor, recreational activities enjoyed by friends and families, while keeping physically distant. We expect demand to reaccelerate as we move into a post-COVID-19 environment and believe that a growing consumer base could emerge much stronger for both businesses. As North America and Europe begin to reopen their economies, we remain optimistic and confident about the growth opportunities ahead of us, grounded in our strategic initiatives as well as the consumer loyalty and power of the FOX brand. We continue to remain focused on the off-road capable, on-road vehicle market and are excited about the prospects with our automotive OEM customers, Ford, Toyota and FCA. We believe consumer demand for the truck and jeep platforms that we’re on remains strong and expect to see that reflected in the revised forecast as they make moves to bring their plants back on line. We are pleased to have completed the acquisition of SCA in mid-March. In conjunction with the closing of the transaction, we amended our credit facility and believe that, in combination with our cash on hand and operating cash flow provides us with sufficient financial flexibility as we move forward. As we’ve previously stated, SCA is complementary to our Tuscany business, expanding our North American manufacturing footprint and diversifying our brand and product portfolio. The combination of these benefits creates a leading platform with solid runway for continued growth in our powered vehicles business. In addition, it will significantly expand our automotive dealer network. In fact, in the first quarter, we expanded our SCA dealer base by nearly 100 dealers, which led to a 22% higher-than-average monthly volume per truck. This positive trend continued into April with another solid increase for truck shipments. This was driven by attractive truck prices and great financing options from OEMs. Another notable data point is focused online, where SCA generated a 25% sequential increase in internet leads from Q4 last year to Q1 of 2020. This drove actual internet-led sales up 17% for the same period. The team has executed extremely well in the last several weeks since we closed the transaction, and we look forward to their continued growth and development as part of the FOX team. In summary, across our organization, we are taking necessary safety, support and other measures to best manage our business in the current operating environment as we continue to deliver our performance-defining products. On behalf of our Board of Directors and executive team, we appreciate the strong efforts of our team as they continue to deliver differentiated products to our passionate customer base, which reinforces the value of our brands. We plan to build upon our existing accomplishments and remain confident in our long-term financial objectives, as we generate sustainable growth and value for our shareholders. And with that, I’ll turn the call over to John.

Thanks, Mike. Good afternoon, everyone. I’ll review our first quarter fiscal 2020 financial results and then go over the status of our recent actions relative to the COVID-19 pandemic in more detail. Sales in the first quarter of 2020 were $184.4 million, an increase of 14% versus sales of $161.7 million in the first quarter of 2019. Our sales included approximately $6.5 million from SCA, which closed in mid-March. While it was a record first quarter, it was slightly below our original expectations at least back in early March due to the COVID-19 shelter-at-home orders that began later in the month. Prior to the shelter-at-home orders, our sales in the quarter for the company and SCA were ahead of plan. Gross margin was 30.7% in the first quarter of 2020, a 90 basis point decrease from 31.6% in the prior year period. Non-GAAP gross margin decreased 80 basis points to 30.9%. The decrease in gross margin was primarily due to approximately $1.8 million of factory costs associated with the COVID-19 pandemic that were not added back to our non-GAAP gross margin. As Mike mentioned, we expect that these costs will continue and most likely increase in the second quarter due to the continued impact of COVID-19. These costs are difficult to predict due to the unknown length of these shelter-at-home orders. Total operating expenses were $45 million or 24.4% of sales in the first quarter of 2020 compared to $29.2 million or 18.1% of sales in the first quarter of last year. The increase in operating expenses on a dollar basis was primarily due to acquisition costs related to the SCA transaction, along with the inclusion of their operating costs and amortization expense. Our first quarter expenses also include operating costs related to our Ridetech subsidiary acquired in the second quarter of 2019 as well as increases in line with business growth. Non-GAAP operating expenses as a percentage of sales were 16.7% compared to 15.7% in the prior year period. Focusing on expenses in more detail. Sales and marketing increased $2.8 million due to the inclusion of our Ridetech and SCA subsidiaries, higher commissions and various other expenses. R&D was up slightly by approximately $700,000. As we’ve consistently stated, the timing of both R&D and promotional expenses often changes between quarters and years, depending on a number of factors, including product launch cycles. Our general and administrative expenses in the first quarter of 2020 were $22.4 million, compared to $11.2 million in the first quarter of 2019. The change was primarily due to the SCA transaction costs and operating costs totaling approximately $11 million and facility and various other administrative expenses, partially offset by lower patent litigation expenses. For the first quarter of fiscal 2020, our effective tax rate was 9.5%. This rate is lower than our mid- to long-term expected tax rate primarily due to a reduction of foreign tax resulting in the quarter from our global tax initiative. Adjusted EBITDA was $31.3 million for the first quarter of 2020 compared to $30.1 million in the same quarter last year. Adjusted EBITDA margin was 17% compared to 18.6% in the first quarter of 2019. The lower EBITDA margin is primarily due to the change in gross margin highlighted in my earlier comments and the increase in non-GAAP operating expenses due to growth. On a GAAP basis, net income attributable to FOX in the first quarter of 2020 was $8.3 million or $0.21 per diluted share compared to $18.1 million or $0.46 per diluted share in the prior year period. Non-GAAP adjusted net income was $20.5 million, a decrease of approximately $1.1 million compared to $21.6 million in the first quarter of last year. Non-GAAP adjusted earnings per diluted share for the first quarter of 2020 was $0.52 compared to $0.55 in the first quarter of 2019. Our first quarter EPS was slightly below our original expectation primarily due to the impact related to COVID-19 in mid- to late-March. Now focusing on our balance sheet. As of April 3, 2020, compared to January 3, 2020, we ended the first quarter with cash on hand of $76.2 million. Accounts receivable was $85.7 million compared to $91.6 million. Inventory was $156.6 million compared to $128.5 million. Prepaid and other current assets were $75.8 million compared to $17.9 million. Accounts payable was $88.6 million compared to $55.1 million, and total debt outstanding was $479.2 million compared to $68 million. And our net leverage ratio on a pro forma basis was approximately 2.2 times and approximately 2.8 times on a gross basis. The changes in accounts receivable, inventory and accounts payable reflect the addition of SCA, along with our business growth and impacts from the COVID-19 pandemic on the company’s shipment, collection and payment cycles. The increase in prepaid and other current assets was primarily due to SCA-related items, including vehicle chassis deposits and contingent retention incentives held in escrow. Our net property, plant and equipment increased to $127.6 million as of April 3, 2020, compared to $108.4 million at the end of 2019. The increase reflects the SCA acquisition as well as investments in our new PVG manufacturing facility in Georgia. As we announced on April 9, we have taken action to manage costs and conserve cash during this time of global uncertainty. We have reduced nonessential operating expenses, furloughed hourly and salaried employees and enacted temporary pay reductions on management and executive positions by 20% or more. We will continue to monitor the situation if further action is needed. As a further measure to maintain liquidity, we expect to reduce our annual CapEx by $6 million to $10 million or more from our original plans, but we’ll continue to invest in the new Georgia facility. The facility remains on track, and we expect to begin production this quarter and ramp throughout the balance of the year. We anticipate some duplicative costs during this production ramp in 2020 and are working to mitigate these costs where possible. Finally, under our credit agreement, we have a $250 million revolving credit facility. As Mike mentioned, we believe we have the financial flexibility to support our business as we move forward based on our cash on hand, operating cash flow and availability under our existing credit facility. While the second quarter will be challenging and while the U.S. and the broader global economy begin to reopen, we believe we will continue to remain within compliance of our covenants. Now turning to our outlook. Due to the rapidly evolving market conditions domestically and internationally, in response to the COVID-19 pandemic, the full fiscal year 2020 guidance we provided on March 3 remains suspended, and we do not intend to provide quarterly guidance until we have the visibility necessary to provide such guidance. With that, I would like to now turn the call back to Mike.

Thanks, John. In closing, the health and safety of our employees remains our number 1 priority, and we believe we are well positioned with our diversified bike and powered vehicle businesses to manage through this situation and emerge stronger. The resilience of our people, the power of the FOX brand and our performance-defining ride dynamics products, combined with the strength of our valued OEM partners, will continue to be competitive advantages in the market as we move forward. I would now like to open the call for questions. Operator?

Thank you. At this time, we will conduct a question-and-answer session. [Operator Instructions] Our first question comes from Larry Solow with CJS Securities. Please proceed with your question.

Great, thanks and good afternoon guys. Good to hear your voices and hope you and your families are doing well and pretty okay.

You too, Larry. Good to hear from you.

Yeah, great. Just a couple of questions. I know you – I realize you’re not giving guidance. I don’t know, I would recommend that. Just in terms of – and it sounds like the powered vehicle, at least in the short run is probably going to get – get impacted a little bit more due to closures and whatnot and inability to purchase vehicles. But can you give us an idea just what you’re seeing in April in terms of, I mean, more on the powered vehicle side, I mean, are sales going down? I suppose, well into the double-digits, right, I mean, I don’t know if you can sort of just give us an idea of what April looked like on the sales side.

Yeah, Larry, this is Mike. Let me give you some data points here that should be helpful. End-customer demand, so think about it from the standpoint of my prepared comments on SCA, our outfitting business, SCA and Tuscany. That remained incredibly strong actually in April, and you probably have seen reports just in terms of truck sales across the U.S. remaining strong. So that’s a function of, I think, financing options and good deals being created by the OEMs to move vehicles. The thing is that the impact of this April is their factories being shut down. So when you think of powered vehicles, and you think of Ford and Chrysler and Toyota, those facilities were fundamentally shut down across-the-board for April. So they weren’t receiving or taking any product from us, which means our facilities were shut down in conjunction with that or at least running very small production runs. Similar in Power Sports, different across the water when you think of Taiwan, our bike business. That was running closer to normal and April was good. So it’s a bit of a different story, depending on the part of the business it’s coming from. Other parts of our business have remained strong. Of course, for military that didn’t really lose a beat. Our Ridetech business was phenomenal, and commercial trucking continued on. So it really was a function of the factories that we support directly into in terms of OEMs being shut down that was a major factor. You would see some of that in the aftermarket just because in a lot of the environments where we sell into, our channels in the aftermarket, distributors and retailers, some of those folks were shut down as well. So you saw some lumpiness in the month of April with that, and you’ll probably see some of that continue. And you’ll see some of that in May relative to the OEMs in power sports I mentioned earlier, as they’re not all on line. As you know May 1, it’s kind of throughout the course of May they come back on line.

Right, okay. No, but that does sound like, I know really truck sales have been good. And obviously, there’s been a lot of incentives in work. And like I said, it’s super hard to sort of predict what happens in the short run. And, I guess, a better question would be your – in prior recessions or economic slowdown, especially on the specialty sports or – powered bike side. Your customers have been super resilient and view these things as more of necessities than discretionary. How about on the powered vehicles side? Obviously, early on, it sounds like truck sales are doing okay. But just in terms of profiling your average customer, impacts to the economy, might you see maybe a mix shift within powered vehicles. I get the outdoors activity is actually up now, so maybe people are buying more side-by-sides, their vehicles, but maybe some of these big-ticket items, there’s a slowdown eventually as we look out to 2021 and the economy is sort of trailing to get some legs under it, any thoughts on that?

Yes. I guess, my position on that, Larry, would be a couple of points. One, our end-customer demand has remained strong. It hasn’t been a recessionary kind of response. It’s been a pandemic response, and I think those are slightly different. Now, to your point, if we stay in a pandemic situation long enough, does that have an impact on our end-customer demographic, which is probably a more salaried person who’s probably working at home today versus an hourly employee who may not be able to go to work or get a paycheck So I think it is – again, a bit of a crystal ball, I think it’s really hard to predict out into 2021 what end-customer demographics are going to look like. We believe, right now, end-customer demand stays strong. We believe that our products, albeit premium products, are those products that people who want to go outside and enjoy their time with their families in a social distancing sort of way can use our products and be very happy in the outdoors. So we think that still resonates really well, given the current circumstances.

Indeed. Okay. And then, just lastly, how about just a sort of a benefit, if you will, calling – I hate to call COVID spinning off benefits, but in terms of a little bit of a slowdown on the powered vehicles side, maybe that helps you sort of catch up a little bit in terms of you build out your capacity and opening in Georgia. And then also, I know you got some bigger opportunities waiting in the wings, particularly on the tractor trailer or the commercial truck side, so maybe that’ll afford you the ability to get in there in early 2021. Any thoughts on those 2?

Yes. We’re really happy about the pace in which we’re getting Georgia built out and into production. So that’s a great opportunity for us. We won’t call anything associated with the pandemic a win, to your point, as you said, Larry. But I do think it gives us an opportunity, maybe a pause in other high-volume production activities to migrate business, to migrate production to the Georgia facility. So I think there are some things that we can take advantage of over the next several months as we think about Georgia and getting ready for 2021, which we still believe is going to be a fantastic opportunity for us.

Right, thanks. I appreciate it, guys.

Our next question comes from Mike Swartz with SunTrust. Please proceed with your question.

Hey, guys. Good evening.

Hi, Mike.

Yeah, you guys around a couple of weeks ago preannounced 1 quarter results, and you laid out a number of cost-cutting and cash preservation measures that you’ve taken. You’ve highlighted some of those again tonight. Is there any way to think about maybe what the annualized benefit from some of those actions is?

Yes. Mike, good question. That’s a pretty tough one to really specify though. When we think about furloughs, it depends on how long those furloughs are in place, and that’s directly correlated to when those production facilities start back up. Layoffs, we haven’t publicly stated the value of reduction associated with the layoffs. It was definitely helpful to our cost measures, of course. And then, we’ve also, as you know, done pay-cuts for our management team, executive team, myself, et cetera. So those all will help. They really offset incremental costs associated with limited production run, extra safety measures and things like that. So to me, you do want to make sure you can do the other, is the way I think about it. And we haven’t put a number on it, I don’t think, for the year. And, John, if you have anything else to add…

No. I think you – I think you got it. Yeah.

Yeah.

Okay. So, I mean, the best way to think about it is some of these cost reductions you’re just merely offsetting some of the temporary headwinds you’re facing. And I guess you took CapEx down $6 million to $10 million as well, so those from there.

Yeah, CapEx – CapEx is right. That was about $6 million to $10 million, and that was just associated with moving things out to 2021, things that weren’t necessary for the 2020 year based on where we’re currently at. So, obviously, we’re looking at every nickel we spend. And if we don’t need to spend it right now, we’re not going to spend it. So that’s just kind of the mentality that we’ve started as we went into this situation, and we’ll continue with that same mentality through the balance of it.

And with regard to some of the costs related to COVID, I think you outlined $1.8 million that you faced in the first quarter. Is there a way to think about that on a run rate basis? I mean, just as we attempt to estimate what that could be for the second quarter, I mean, is there a rule of thumb or anything you can provide us?

It’s really difficult, Mike. It’s John, because there’s kind of direct cost with that initial plant closures, there is incremental cost. And then there is kind of the unabsorbed overhead cost as well relative to not being able to produce those last couple of weeks of March. So it’s really difficult to kind of estimate a number right now. And things can change. I mean, if you think about some of the things we’re also doing here as we begin to ramp up in production again back in our PVG facilities, there’s going to be some incremental spend relative to investing in those factories for this new kind of new environment we’re operating in. So of course, today, it’s really difficult to predict. I think we’re – it’s pretty safe to say that we do see it going up from where we were in Q1, though.

One note, Mike, that I would mention, too, is that when we got into some of these factory shutdowns in mid-March in California specifically, we weren’t sure how long those were going to continue. If you remember those were initial announcements from the governor and from the different counties in California, they talked about shutting down for a period of time. And we believed then in the middle of March that it was probably a 2- or 3-week minimum shutdown. And so what we did instead of sort of furloughing employees immediately was we actually kept even all of our hourly production employees on the payroll and just said, go home and be safe. We’re going to go in and cover your costs until at least April 7. It wasn’t until that time that we recognized that, that was going to be all of April and potentially longer and made some moves on furloughs and layoffs that, obviously, we just – we had to do, didn’t want to do but had to do. So those costs did change course. In March, those costs were higher, because we literally had our entire workforce, production workforce of employees on payroll, even though we weren’t producing. So you would see that shift from the Q1 to Q2 time frame. That doesn’t apply in Q2 like it did in Q1, if that’s helpful.

Yeah. That’s very helpful. Thanks for that, guys.

Our next question comes from Craig Kennison with Baird. Please proceed with your question.

Good afternoon. Thanks for taking my questions as well. I’m trying to understand, I guess, what’s going on in the bike market from a retail perspective? Sounds like you’re optimistic. We’ve read anecdotes of the outdoor lifestyle being attractive during the shutdown phase of the pandemic, but there are also reports of some dealers that may be struggling in this context. So I guess, I’m not sure what to believe in terms of retail trends, but I’m sure you have better data than we do.

That’s a great question, Craig. And what there is a lot of different data points out there. So you have to kind of mix them all together to try to come up with a perspective. Going into Q2, our backlog was – our order book, if you will, was really strong. A lot of that was associated with some great products for our model 2021 bikes that we’ve already talked about in prior conversations. So we were set up really well in Q1 and going into Q2. We believe some parts of the business have definitely performed better than others. Shimano has reported and had some challenges with their year-on-year revenue, as you probably know. We didn’t see those same issues. We believe that’s probably associated with just the mix of products that we’re on and the things that we do in this space. As – where we sit right now is that, that end customer demand in both Europe and the U.S., within North America, which is the predominant majority of where we sell our bikes, has remained strong. And our dealers remain operational in most cases in most states, and they’re selling a lot of product. So that seems quite positive. I think, I’d be hesitant to say that, that’s just going to be perpetually the same scenario. We don’t know what Q3 and Q4 looks like yet. We will have to see how that market demand profile holds up as we get further into Q2 and then into – seeing what Q3 and Q4 looks like. From where we sit right now, though, we feel like we’re – as we have done in the past, we’re kind of beating the market, so to speak, in terms of how we perform.

Thanks for that, Mike. Do you have visibility into the independent bike dealer channel as to whether all of those dealers are open or whether some may be closed, because of stay-at-home orders? Curious just if that channel is still functioning well and if you’re confident that dealers can make it through this tough time.

We have, and it is a bit situational. We know a lot of the bike dealers. We work with a lot of the bike dealers in different parts of the country. So we – while I couldn’t speak to every one of them, we have lots of examples of very positive situations where they’re selling out of bikes. They can’t keep – they’re hiring people to service bikes because people are looking for something to do and they’re bringing their bikes in for service, however old those bikes may be. So from what we can tell, and this is, again, kind of a European/North American comment, bikes have been able to remain open and bike shops, it will remain open and functional for the majority of the time and have done quite well. I think, I’d have to caveat that by saying in certain situations where, of course, the shutdown process has been much more fierce, let’s say, Italy or Spain, certain parts of Italy or Spain or in New York City, clearly, in those markets, bike sale is going to be pretty severely impacted. It doesn’t take a rocket scientist to probably understand that. And in some of those markets, as in like New York, it’s probably not one of our larger premium mountain bike markets to begin with. So again, I think in the markets of where we produce or sell a lot of our products, we’re doing okay. And for the most part, those bike shops have remained open.

And then how would you frame aftermarket trends in both the bike market and the, I guess, power sports market Are you able to service demand for aftermarket components Do you need more direct-to-consumer options in the event some of that channel is not functioning well? Just curious how the aftermarket in general is performing for your business units. Thanks.

Yeah. And I’ll give that to you in 2 pieces. On the SSG side, our aftermarket is through those bike dealers I just referenced. So those remained strong, and people were getting their bikes serviced and upgraded and things done to their bikes. And then they continued to ride them. So that’s been fine. On the powered vehicle side, a lot of our product sell-through large distributors and retailers who have a strong online presence. And what we’ve seen notionally from those channels and from our partners is their retail business has been down, but their online business has been up. And we’ve benefited from that factor. And I think that’s consistent with what you’ve seen in other industries or other markets. So we believe that online function is an important piece. I would also suggest, though, that a lot of our high performance products require installers and people to actually put those products on vehicles. So in markets where those installers have been shut down for a part of the time – a period of time or are still shut down, that does cause an implication on the aftermarket side, because it requires an installer to do that work.

That’s helpful. Thanks so much, Mike.

Thanks, Craig.

Our next question comes from Scott Stember with CL King. Please proceed with your question.

Good evening. And thanks for taking my questions.

Hi, Scott.

[Technical Difficulty]

Scott, we lost you. I don’t know. I’m not sure what – where we lost Scott.

Scott, your line is live. You can speak.

Can you hear me?

I can hear you now.

Okay. Sorry about that. Yeah. Talking about the bike side of the business. It seems like, obviously, that’s holding up a lot better than powered vehicles. You talked about powered vehicles that they’re being down year-over-year in the second quarter. Would you expect that the other side of the business would be up in the second quarter as well?

Yeah. If the trend continues, we think SSG will do better in the second quarter, just from a standpoint of the model year change that I talked about earlier and from the order book going into the quarter. Again, I want to be careful, though, in stating that things are pretty fluid, right. So to the extent that we can see that order book and understand what’s happening, we feel good about bike. But again, I want to be cautious and try to not – I’m not going to give guidance, as you know, but let’s see how things play out over the course of the back half of Q2 and Q3 and Q4.

Okay. That’s fair enough. And on the cost structure, could you just remind us the variability of your cost structure? And how easy it is for you guys to flex it up and down when the markets change?

Yes. This is John. So in the manufacturing side of our cost structure, the manufacturing costs tend to be more variable than fixed. You’ve got things like material. We’ve got some direct labor and those sorts of things. So they tend to be more variable than fixed. Now obviously, whenever you have to pivot and make a change in direction or something like that, it takes a little time to kind of move in that direction. Down in the operating expense side, those expenses tend to be a little bit more fixed than variable. They’re people related primarily. Obviously, we talked about some of the expense management things that we’re doing relative to pay cuts and other types of things that are just kind of discretionary spending, think like traveling expense. Various other expenses we have, we manage that up pretty tightly. But now in the operating expense, those expenses tend to be a lot more fixed and variable, because it primarily impacted people.

One thing to note, too, I’ll just add. In California, which is probably almost the most impacted, of course, with our powered vehicles business, we did – we always had a temporary workforce, and we use temp labor as well as full time labor. And so temp labor is a more variable resource for us in times like this. So we were able to flex that up and down based on what we need. So that is helpful, to always have a percentage of your production workforce as temporary labor.

All right. Got it. And then on the balance sheet, again, just remind us of what your covenants are. And lastly, I know – I’m not trying to get guidance out of you guys. But do you expect to remain cash flow positive over the next quarter or so? Thank you.

Yeah. So our covenant ratio is at 3.75. And I mentioned on our script that our net leverage ratio came in at the quarter at around 2.3, grows at about 2.8. I think it’s important, on the gross side, if I remember – to keep in mind that we pulled in some additional cash at the end of the quarter for near-term liquidity. If we were to kind of end the quarter at our normal cash flow balances that leverage ratio would have been more like 2.6 than 2.8. This quarter – I think this quarter is going to be a challenging quarter for us. A lot of this will depend on how quickly we can kind of ramp up and do production with things like Taiwan that, as Mike has said, is continuing to produce and really not impacted there. I think from a long-term cash perspective, we feel our – we’re confident in our ability to kind of maintain positive cash flow. And I think right now, we’ve got – I think, it’ll be a little bit dependent on the cash flow in Q2. We’ll have to see how this kind of goes. But I think on a longer-term basis, we feel pretty confident about our cash position and our ability to manage within our covenants.

Our next question comes from Rafe Jadrosich with Bank of America. Please proceed with your question.

Hi, good afternoon. It’s Rafe. Thanks for taking my question.

Hi, Rafe.

So you mentioned the order book is strong. Can you just give a little bit more color like how long your lead times are and how much visibility you have from the order book?

Yeah, it depends on the quarter. Clearly, going into Q2, our order book was strong, because it was a reflection of a lot of the model year 2021 products getting produced and ready for retail sales in the balance of the year. So we had a real nice visibility into that towards the end of March going into April. So that was great. You usually get about a quarter ahead. So we saw Q2 at the end of Q1. You would see Q3 kind of at the end of Q2, which is why in some of the Q&A earlier, I referenced – I don’t want to get too ahead of my skis, saying the whole year is going to be fantastic with bikes, because we really don’t see Q3 until the end of Q2. Does that make sense? And that’s why I think it’s a bit fluid for the back half of the year still.

Okay. That’s really helpful. And then the retail demand has been strong, like even through the manufacturing shutdown period. So as everything reopens, like whenever that happens, do you think there could be pent-up demand on the other side? Or do you think sales that are from the shutdown period are lost?

Rafe, I think there’s a little bit of both, depending on the parts of the business you’re talking about. So I think there is going to be pent-up demand, especially in our powered vehicles business for coming out of this. And I’ll tell you, one of my concerns actually, so I’ll give you another part of your question that you didn’t ask, is to make sure that we get enough vehicles from our OEs like GM, Ford, et cetera. So in the longer they stay shut down, the more backlog we get in terms of vehicles we need to sell with dealers or sell through dealers. So I think there could be almost a demand issue, because of the pent-up demand that we can’t fulfill if – or a supply issue because of the demand associated with some of those products. And in other parts of the business, I think, it’s too early to tell. But I do believe that it’s not as perishable as you might think in terms of demand. I think it’ll hang in there, as long as you get back to people out and about and able to go spend their money.

And then I think in the past, you’ve highlighted like key racing events and some trade shows as important showcases for your product, especially on the aftermarket side. I think a lot of those events this year will probably be delayed or canceled. Like how do you think that will impact your 2020 business? Like will you move product launches around to adjust for that? Or is there any other way you can reallocate the market?

It’s a great question. We’ve reacted very quickly to that. Obviously, there’s a couple of parts to it. One, we’ve saved some money by not doing a lot of it. We were really big, as you know, in events and trucks, getting trucks to events on both the bike side and the powered vehicle side, having staff at the events, a lot of events across North America and Europe and elsewhere. So that’s obviously been a cost saving. At the same time, we’ve really amped up our marketing around go-to-market and how to reach those consumers with new product launches and make sure that we’re supporting our partners, whether it be new bike launches or new powered vehicle launches. So we’ve just tilted a different direction to go away from kind of using events as our launch pad for new products, doing that more in a digital way and in partnership with our channels and OEMs. So I think we’re doing well in that area. And we really started to do it differently than we used to, and I think that’s a temporary thing. We’ll get back to doing events and things like that hopefully in the very end of 2020 and 2021. But for now, we’re getting those same launches with different ways and it’s working great.

Great, thank you. That’s very helpful.

Our next question comes from Jim Duffy with Stifel. Please proceed with your question.

Thanks. Good afternoon, guys. Mike, I wanted to start with a couple of questions on the powered vehicles side. You mentioned the possibility of increased mix of your vehicles once production turns on. Can you speak to some of the indicators behind that comment?

Increased mix to some of our vehicles when production turns on.

Yeah. I think you said that when manufacturing production ramps up, you think there may even be an increased mix of – with your OEMs of vehicle platforms featuring your products.

Yes. My perspective is a bit wrong, maybe. Well, I don’t – yeah, I think I might have been referring to something else, but I can’t speak to the question still, which is how do we do when these companies ramp back up. I think, what you’ve seen in the market, and I’ll talk about powered vehicles first, the OEMs are clearly tilting their business towards SUVs and pickup and light pickup trucks. That’s been a big winner for them, and it’s going to be the thing that brings them back to health a lot faster. So we’re going to see, and we’re already seeing a lot of those order books for those vehicles, support for those vehicles, re-ramping those vehicles, strong input from those companies to us to make sure that we’re ready. So we feel pretty good about that. We believe they’re going to really use those as their way to get back to health and that benefits us. I think we also see it as strong just from a standpoint that as markets turn back on and people can go out and do things, they will spend their money on vehicles like side-by-sides, powered vehicles, other things they can do in the outdoors versus going on general vacations or doing things that they might have otherwise done. So we think that benefits us as well in the different categories that we serve. Same really holds true on the bike side, a little bit different, but the same holds true on the bike side that people, again, may not take that vacation, but they’ll go spend a bit extra money on a new mountain bike, whether it’s an e-bike or a traditional mountain bike. And in those cases, we will benefit from that trend as well.

Got it. And then as it relates to the impact of the pandemic on the strategies of the OEMs, do you expect any impacts to the timing of new vehicle introductions?

It’s a good, it’s a really good question. Potentially, potentially, but I think the challenge in like powered vehicles, if you think about a pickup truck, that they had planned to produce X amount of units for their 2020 year, in a lot of cases, those supply chains were constructed a long time ago. Contracts were drafted a long time ago. They still need to produce those same vehicles. They just got pushed from April to May, let’s say, as an example. So as those get pushed, does that mean their future next year model start a bit later than they would traditionally do? I think the answer is probably yes, Jim. So I think what we’ll see is those 2020 models get completed as they ramp back up, but then the 2021 vehicles, I guess, the way I think about that, will start a little bit later.

Okay. And then John, a question for you on the balance sheet, can you help us with more detail on the SCA callout with respect to receivables and payables? What’s notably different about the business model there? And can you speak to the mention of vehicle chassis deposits, please?

Sure. Yes, there’s going to be more detail in the Q that we filed. From a working capital standpoint, their AR, they tend to be fairly light on the inventory side. I think their AR and AP would be fairly similar to our historical kind of numbers. I think with the vehicle chassis, the way those work, it’s similar to how we have things at Tuscany. It’s a little bit dependent on the OEM itself. But for the chassis, how that works is both come in on our line, like we’ve talked about before is that they’ll come on to our credit-line whenever they ship to us. And then they can go ahead and when we ship them out, they come off of those. There’s a prepaid amount in the balance sheet for the chassis from SCA that kind of went up a bit. Now keep in mind, we’ve always had the similar type of things of our, some of our Tuscany chassis as well. It’s just that SCA is such a larger and a bigger entity, so that’s kind of where that increase in prepaid goes. I would say also, too, it’s one of those things where we don’t charge for the chassis. It’s just kind of as a pass-through type of thing for us. So if that helps you at all.

Got it. Thank you, guys. I appreciate it.

You bet.

Our next question comes from Alex Maroccia with Berenberg. Please proceed with your question.

Hey, good evening, guys. Thanks for taking my questions. Can you give us an idea of the growth or decline in the Specialty Sports Group without that OEM shift for the quarter?

So, yeah. And I think we had this in the prepared remarks, so let me just comment on it again. In last year, that business grew 13% in the same quarter. So the comp was pretty tough in this quarter. So you could factor that in. And then we talked in the prepared remarks today about we think the March impact, just based on pandemic and then shifts and things, was 5% to 7%. So you can kind of model what that would look like. Again, in bike it’s a bit interesting, because it really depends on one model a year production shift and changes. So it can easily be a few million bucks that shifts from one quarter to the next. It doesn’t really does like change the year at all. It just changed from one quarter to the next.

Okay. Got it. That’s helpful. And second one is on end-market trends in a recession and then coming out of it. I know that it’s a bit different, whether it’s a side-by-side, a dirt bike, et cetera. Can you just give us a sense of the mix of your non-auto powered vehicles, so we can judge what the recovery looks like?

Non-auto powered vehicle recession recovery. Well, I guess the way – I would try to frame that for you, so if we parked all of our automotive business and you just talked about things like power sports, which is side-by-sides, snow-mobiles, all those kind of products, I think it’s a function of those companies, our partners in those spaces and even they are, what kinds of financing options they have, what kind of go-to-market strategies they have. A lot of that’s based on their ability to bring consumers in to get loans, to finance vehicles or to buy vehicles. I think it’s in a very different scenario today than in normal – than like a 2008 or 2009 recession. I think we were fairly recession-resistant back in those days. In fact, I don’t have the numbers in front of me, so I can’t or I’d quote them for you. But I think our power sports business in 2008 and 2009 did quite well. And so, I would expect that even though this is different than that recession that we’ll see a nice resurgence in those markets as people are allowed to go get out of their house and go do something.

Okay, very helpful. Thank you and stay safe down there.

Yeah, thanks, Alex. You too.

Our next question comes from Ryan Sundby with William Blair. Please proceed with your question.

Yeah, hi, thanks for taking my question. Mike, I guess just a follow-up on one of Jim’s questions there. I guess with your OEM partners being kind of forced to step back and shut down manufacturing for a period of time, do you think this could ultimately create a bigger or a longer-term opportunity for you to kind of sit down with these partners and build new business plans from the scratch or an innovation plan from scratch to where maybe this opens up some doors to win new spec position that maybe you just hadn’t had before in the past?

Yeah, Ryan, let me answer that question carefully. So one of the things that’s been interesting about this shutdown from their production facilities with our large OEM partners is there had not been a shutdown of their engineering team from those partners. And we’ve had a lot of work happening between our teams and those teams on new product development throughout this time period. So in a way of answering your question, with maybe not answering your question, I’d say, yes, I believe there’s a great opportunity for us to find new opportunities with our OEM partners to grow our business. Of course, that’s not a tomorrow-type event, because the roadmap for this is pretty long. But it’s been a great opportunity for us to go work on those during this downturn.

Got it. That’s helpful. And then just a follow-up on the powered vehicle kind of demand question, can you maybe just like help us understand what did demand look like through, or yourselves through mid-March, and then what happened in the last 2 weeks of the quarter, just to kind of have a perspective on that?

Yeah, going into the beginning of March, I can almost remember the days specifically, we were seeing fantastic results. We were pretty elated with what we saw for the quarter and for the year in terms of demand signals, in terms of production. Everything was great. And then it just wasn’t. And literally, it was almost you wake up one day, and all of your customers call you and say, sorry, we shut down our factories. Please don’t ship any more products. It was literally that much of apply the brakes, stop everything towards the end of middle – end of March. So it was drastic. It was dramatic and it was incredibly hard for the team. I think they did a great job working through it, but it was an incredibly hard situation for us to try to bring production facilities to a stop. That’s basically overnight.

Got it. Thanks. Thanks for the color there.

You bet.

At this time, I would like to turn the call back over to management for closing comments.

Thanks, operator. We appreciate your participation and questions on today’s call, and we thank you for your interest in FOX. Stay safe out there. Have a nice evening and we’ll talk soon. Thank you.

This concludes today’s teleconference. You may disconnect your lines at this time, and have a great evening.