Good day, everyone, and welcome to the NN, Inc. First Quarter 2018 Earnings Conference Call. Today's conference is being recorded. At this time, I would like to turn the conference over to Paul Taylor, Vice President of Marketing and Investor Relations. Please go ahead, sir.

Thank you, Operator. Good morning, everyone, and thanks for joining us. I'm Paul Taylor, Vice President of Marketing and Investor Relations, and I'd like to welcome you to NN's First Quarter 2018 Earnings Conference Call. Our presenters this morning are President and Chief Executive Officer, Rich Holder; and Senior Vice President and Chief Financial Officer, Tom Burwell. If anyone needs a copy of the press release or the supplemental presentation, please contact Abernathy McGregor at 212-371-5999, and they'll be happy to send you a copy. Before we begin, I'd like to ask that you take note of the cautionary language regarding forward-looking statements contained in today's press release, supplemental presentation and in the Risk Factors section of the company's 10-K for the year ended December 31, 2017. The same language applies to comments made on today's conference call, including the Q&A session as well as the live webcast. Our presentation today will contain forward-looking statements regarding sales, margins foreign exchange rates, cash flow, tax rate, acquisitions, synergies, future operating results, performance of our worldwide market and other topics. These statements should be used with caution and are subject to various risks and uncertainties, many of which are outside of the company's control. The presentation also includes certain non-GAAP measures as defined by SEC rules. A reconciliation of such non-GAAP measures is contained in the tables in the final section of the press release and the supplemental presentation. First, we'll give an update and an overview of the quarter. Then afterwards, we'll open up the line for questions. With that said, Rich, I'll turn the call over to you.

Thanks, Paul. Good morning, everyone, and welcome to our Q1 conference call. As usual, I'll take some time to go through the highlights and some of the corporate numbers. I'll then turn it over to Tom to do a little bit of a deep dive into each one of the business segments. Then we'll return to questions and wrap it up. Before I begin, I want to take just a moment to welcome the newest member of our team, Paul Taylor. You heard him give the preamble. Paul comes to us from Rockwell, and he will be handling both Marketing and Investor Relations going forward. So welcome, Paul. Additionally, I'd like to take a moment to note that on Monday, we welcomed the Paragon Medical team into the NN family. We are incredibly excited to have them as a part of the organization, and we look forward to some great activities with the combined organization going forward. With that, let's jump into the highlights. Sales for the quarter was $169 million, so that derives $11.6 million in growth or 7%. It's important to note that the Power Solutions business was impacted by weather in the Northeast. We had multiple bomb cyclones as they've been coined, and all in all, we lost about six days of production. They're not entirely lost, they were just lost out of the quarter, they will be made up in Q2. And I think Tom will give you a little bit of color on that. Adjusted EBITDA of $28.6 million. The operation performed as we expected in the quarter. The acquired businesses are performing at their pre-synergy level. So maybe a little color on that. As you recall, we purchased DRT, we purchased Bridgemedica, and both those were blended into the plan at the pre-synergy level.…

Thank you, Rich. Turning to the division financials, as Rich mentioned in his opening comments, and as we discussed in our press release, during the first quarter, we completed the realignment of our business focused on products sold and end markets served. And this new enterprise structure will allow us to accelerate organic growth and further balance our portfolio by aligning our assets with the end markets served and where they are utilized to generate sales and operating income. We believe this new reporting structure will provide investors with better insight into our business and also, help them correlate the business with the underlying end market macroeconomic drivers to better judge how we're doing and growing relative to the markets. However, as we are breaking these divisions out for the first time, we do advise caution in drawing too many conclusions from these two comparable data points of Q1 in '18 and Q1 '17. There have been a lot of changes within these divisions and events affecting comparability, including, but not limited to, acquisitions that Rich discussed, the addition of the segment leadership that we mentioned earlier and new program startups and program wins. So with that, I will start with the Life Sciences division. Sales growth was driven primarily by the acquisitions of DRT and Bridgemedica. Additionally, we did see organic growth in the high single-digit percentages quarter-over-quarter within the division's largest customers. So everything is operated as planned relative to top line. Relative to the operating margin performance, in Q1 of '18, it was also as expected and as we had planned. When comparing Q1 '18 to Q1 '17, the comparison is impacted by the acquired operations performing at pre-synergy levels as Rich discussed earlier. And these levels are below the NN Life Sciences division operating margin levels…

Thanks, Tom. So just starting to wrap up the quarterly highlights. Sales growth and operating performance in the quarter was as expected. We're very pleased with the way the business is running, and we continue to look forward to the synergies of the acquisitions, sort of, being realized as we go over the course of the next 12 months. The completion of the realignment of the enterprise to accelerate growth is a big win for us. We are almost complete in putting in the infrastructure for all three businesses. We have full alignment, I think, from top to bottom, with respect to being able to manage those businesses. And most importantly, we have deployed the front end, that is the sales engineers, the application engineers, the specific customer service managers and our biggest customers to continue to drive greater growth. So we're pretty excited about that. As I said before, the redeployment of the proceeds from the divestiture is complete. We are a much balanced -- much more balanced business today. We're about 30% Life Sciences, about 40% Mobile Solutions and the balance in Power Solutions. We feel very good about the balance of the business and the ability of the business to not only drive growth but to drive continuously increasing margins. Again, recognize that DRT and Bridgemedica, and Paragon to a lesser extent, will continue to run for the -- at least a year at a margin profile that is pre-synergy. In the Paragon deal, we have immediate synergies, but we also have some -- a modicum of synergies going across this year and into '19 as well as '20. So we look forward to watching the realization of those synergies. We continue to invest in new multi-year programs. Tom talked to that a little bit. The investments…

[Operator Instructions]. We'll take our first question from Daniel Moore from CJS Securities.

Rich, Tom, I was hoping you could tell us how much in your 2018 guidance -- what's embedded or assumed there for Paragon, both from a revenue and EBITDA perspective? And how much of the synergies that we expect to achieve over the next 18 months are included in '18? Just to get a sense for what's left for '19, and a quick follow-up.

Yes, I think probably the best way to handle that, Dan, is to refer you to the deck we put out when we made the announcement. We've not changed any of those assumptions with respect to the business. We have just simply layered it on within the guidance.

Got it. Okay, and from -- shifting gears. Just looking down the income statement a little bit. JV income. Little bit soft in the quarter. Just wondering if that's mostly just investments right now? Or is that -- run rate is indicative of what we should think about for the next couple of quarters?

Yes, actually, it's neither. Relative to the JV, in February, there was a bit of a moratorium that was placed on our markets. And -- by the government. I'm not really sure of all the back-end, sort of, political details behind it. And the markets slowed, I will say, artificially, about 10% in the month. And then it came back to normal levels in March and continues to go. So there -- this was an action taken by the Chinese government that essentially, sort of, retarded the pace of the business for the month of February.

Got it. Helpful. And then, if the updated free cash flow guide is helpful, Tom, how should we think about -- you gave some detail in your prior decks, but 2019, I know you don't want to get into guidance yet, but what does the free cash flow profile of the business look like on a '19 basis?

Yes, I think you can probably take the uplift that we have within the guide and annualize that, and then we'll continue to see further improvement as we embed the operating system within Paragon and realize synergies and operating improvements, both on the income statement and with working capital.

Our next question comes from Rob Brown with Lake Street Capital Markets.

I want to take a step back, I guess, and get your thoughts again on the, sort of, big picture, what this business can get to once you integrate next Q the synergies in terms of operating margins?

Yes. So strategically, when we put this together, so I'll take you all the back to 2014 when we laid this out. We said that, as we transform this business, when we got to, sort of, the flow-effective post-synergy run rate, we'd be operating somewhere between 13% to 16%, right? When we -- so bottom of the cycle, top of the cycle. With the addition of a larger Life Sciences business, we think that number is more like 14 % to 17%. So bottom of the cycle, top of the cycle is the way we are going. So we have -- we still have about 2 points, 2.5 points of synergy work -- pure synergy work that is in the [indiscernible], maybe it's a little north of that. And then, we have, certainly, we have market in there. So when you look at the mathematical trajectory, we are well on the path to get there.

Okay, great. That's a good overview. And then, switching to the industrial part of the market. That market, historically, had been a little weaker. I presume it's come back nicely. But how is that running? How is that contributing? And isn't there a further potential for growth in that piece of the business?

Yes, so our Industrial business -- first of all, the macro end markets are fairly robust, right? I would tell you that, that in some of the heavier equipment markets, what we're seeing is, there's a tightening of capacity, even at our customers. And so, those markets, I think, are very healthy markets. We are growing with the products volumetrically that we have, and we have an awful lot of work going on to work our way into some new products. And that's indicative of some of the new programs we are launching. We are focused on that business. We are trying to get that business in a place where it's -- it's already outgrowing its end market. We're trying to get it to grow even faster. We think with the current capacity constraints that are in the market, we have an opportunity to maybe take a little bit more share. So we're pretty excited about that space of the business. We'd like to see that over the course of the next couple of years to get up well beyond $100 million mark.

And next question comes from Charley Brady with SunTrust Robinson Humphrey.

On the updated guidance and going back to the Paragon slides and, kind of, backing into some stuff, it looks as though, maybe, your organic expectations for growth have gone up a little bit relative to where they were. Is that accurate?

Yes, I think, that's a fair statement. When you look at the new -- the newly combined portfolio with Paragon, with DRT and with Bridgemedica, we now have an inroad to sell some products and/or some solutions that heretofore we didn't have. So yes, we're a little bit more bullish on organic. And let's face it, going forward, that's going to be -- the game for us is organic.

Right, right. And just quickly on the foreign earnings impact. If I heard you correctly, it was a $0.03 impact in Q1 but $0.04 for the full year. I'm just wondering why the full year wouldn't be a bigger number.

Yes. So I'll just say this, we are still, with our tax advisors, working through what that number really looks like. We -- this was not expected. And we do know that there are mechanisms to mitigate it. So right now, that $0.04 is really just our best guess.

And really why the quarterly impact would be more is because you have to determine the effective tax rate for the full year and apply that for the quarter. And that was really the impact. The effective rate, it differently goes with the full year impact of that tax.

Our next question comes from Justin Long with Stephens.

So we got the 2018 guidance. But with the new segment reporting, I was wondering if you could help us think through the progression of the margin profile for each of the three segments over the remainder of the year and where you expect to be on a run-rate basis as we exit 2018.

Honestly, Justin, I don't have those numbers in front of me. And I don't want to give you a set of numbers that will skew your model. I think we can certainly take that one offline and give you a little bit more color than that. But I can certainly tell you for the enterprise. We certainly, expect to be on a run rate of -- certainly, something 14%, slightly north of 14% on a run rate exiting '18, with the expectation of getting firmly into of our strategic positioning through '19, in part, because in '19, we won't have -- we'll get back a couple of points of margin from the spend rate for some of these new programs. We'll see roughly a 1.5 point come back to us in the absorption of SG&A. So we certainly expect to be in our strategic target area going -- in '19 and pretty close to the low end of that run rate going into '19.

Okay. That helps. And I believe that Paragon had their own strategic plan to improve margins organically, pretty significantly, before you made the purchase. Any detail you can provide around the margin improvement that they were targeting and how far along they were in that process?

Yes. So, I think, it's fair to say that the work they have done was really good work. And very similar to the same work that we did and validated during due diligence. I will tell you that, we have certainly used that work. It's part of our synergy plan. And it's laid in. In terms of executing on that work, they weren't very far along. So certainly, we were able to take, let's say, advantage of the work they had done as part of our synergy plan as well.

Okay. And lastly, maybe this one is for Tom. I was wondering if you could share where leverage stands today pro forma for Paragon. And just update us on your thoughts about the delevering process and the cadence of that going forward.

Yes. We're right around the mid-five pro forma after the deal with Paragon and clearly, as Rich mentioned in his closing comments, and we're focusing on execution for the company. So we will have that down to just south of five exiting '18. And then certainly, within the course of '19, we will get to the low 4s by the end of '19. So dramatic free cash flow from the new business that will be utilized to [indiscernible] pay down debt.

We'll take our next question from Steve Barger with KeyBanc Capital Markets.

Not sure this is a really fair question since Paragon is so new, but you do have the businesses in line with your initial vision now. Just as you think about the diversity across segments, does that make the total business more predictable? Or do you think you have more flexibility in terms of being able to forecast and manage across cycles? Just any comments on your ability to manage this new portfolio.

That's a great question. So, Steve, I will tell you, with the portfolio we now have, the business is absolutely more predictable. It is much less seasonal than it's ever been. There is very little seasonality in the business going forward. And we believe we have the appropriate balance relative to economic cyclical behavior. So yes, I think, we'll become much better forecasting -- much better at forecasting. Yes, for no other reasons, we just have less moving parts now. But it's a much more predictable business. We -- and we have now three quarters of the company where we have a pretty good look, 90 to 100, maybe, days out.

Okay. That's good. And it was really good to hear you say that it's all about execution at this point. Just want to talk about your confidence in being able to consistently hit midpoint or better of the guidance ranges that you put out for 2Q and full year, and just how you think about that consistent predictability as part of the operating culture going forward.

Yes, look, I think, at the end of the day, right, we are an organization that is driving discipline, right? And so, certainly, that will be our focus, to provide consistent and predictable, not only guidance, but results to the marketplace. We have suffered in the past from a series of, sort of, one timers, right? And to some degree, we did that this quarter. We didn't see this tax thing -- we didn't expect the tax thing to hit us for $0.03. And so EPS -- so our EPS was a little bit of a surprise, right? It should have been a -- certainly, should have been a beat. But I think we got our arms around that going forward. I think we now have the benefit of fewer moving parts. We have a lot more stability in the business. And maybe, most importantly, as I mentioned earlier, we've laid in the infrastructure for each one of these three segments, so they now have their finance leaders, they now have their marketing leaders, they now have all they need to be able to execute as independent, market-focused divisions. And so that's going to go a long way in driving the discipline lower and lower in the organization and the resulting operating culture.

Right. That's good. And thank you for the 14% to 17% range from the prior question. And I know you don't want to give segment guidance for the year at this point, but I'll just ask, kind of, forward state. Can you give us some general ranges for how you see the three-year margin targets for the segments?

I think, I'm going to defer on that one, and we'll see if we can get something out there to give you a better view of what the segment operating margins are going to be. I will say this, I don't think -- when you look at Mobile Solutions, I think Mobile Solutions is probably up from where it's performing today about 1 point, right? If you want to use that as a kind of a high-level take. Life Sciences is up considerably from where it is today. And Power Solutions is probably up about 1.5 points when you think about it long term, as we get through -- long term being as exiting this year. So that's probably the right way to think about it.

That's good initial color. And last one from me. What are some of the puts and takes to free cash flow guidance this year? We know new contract wins can result in upfront spending, which is a good problem to have, but it's still a use of cash. Did you build any cushion in for a potential upside to free cash flow or downside? And just where could that come from?

Yes, I mean, Steve, as we mentioned in the guide, we've included all the investment for the sales programs within our CapEx spend. They obviously -- as we continue to grow, and as we capture synergies, the sales -- free cash flow is going to improve. So I mean, that's really where I see the upside at this point.

Our next question comes from Stanley Elliott with Stifel.

Start off with an easy, kind of, quick housekeeping. What should we think about SG&A as a run rate now with, kind of, the one timers out from this quarter plus acquisitions?

Yes. As a hard number, I think, you should probably think about SG&A somewhere between current spend of between probably $19 million and $20 million. That's probably our run rate, given everything we've put in, and, of course, like I said, the absorption of that is a structure that gets laid over -- overlaid on Paragon. So we fall into as a percent of sales, kind of, about right where we need to be, 15%, 15-ish.

Yes, but right around that 10% range we are operating in before.

We will see within Q2, Stanley, you will see some additional M&A cost that will be embedded within the SG&A number. But once that we get past Q2, that will be the more adjusted, normalized level.

And you kind of -- as it relates to the margin discussion, I mean, did you all see any input cost, material inflation? Anything along the supply chain logistics-wise, that would -- that you're seeing or concerned about over the near term?

Yes. So I think, obviously, we are -- well, let me answer the first part of this. So we were, in this quarter, relatively unaffected by any increase -- by increases in input costs, largely because when you think about our business in an input perspective, we, sort of, had inventory that buffered us from a lot of the gyrations that were going on in the market. As we look forward, as I said, we're keeping a really close eye, and specifically the one that everyone's nervous about is steel because what has actually happened is that with the announcement of the tariff, irrespective of the implementation of the tariff, prices have gone up. Now fortunately for us, we buy very, very specialized steel. And so, we have long-term contracts on those mill runs. So far, we have been able to stiff arm the input cost. Now the other side of that is, if we do have to take it, for us, it's mainly a matter of timing. Like as most of our agreements have a pass-through clause for the timing issue. If we take it next quarter, we'll probably get it back the quarter after. That's probably the right way to think about it. So we don't have an awful lot of risk right now associated what's going on in the market. With that said, we are struggling to predict the macro behavior of some of these commodities.

I think that's fair. And then, kind of, going back to the guidance piece, so it looks like you took it up about 110-plus at the midpoint, 27 on EBITDA. So margin's kind of a 24%. But if you annualize Paragon, I'm still coming -- which would be kind of a low 20% margin. The organic growth that you're talking about on top of this would imply something pretty significantly above that as a midpoint. What -- is my math right? Am I missing something here in terms of, kind of, how to think about the outlook for the coming year?

You're not. I think, it's definitely fair to say that we've lifted our organic number up in the Life Sciences business. And I think, we've lifted it up on -- based on some very accurate information. And we did -- we have a different portfolio that we are selling or have sold today. And so, we feel really good about our organic growth in this space.

And then the corresponding profitability with that as well?

Yes, yes. On the organic growth, it's fair to say that, that will come through in, sort of, the normal NN Life Sciences incrementals versus the pre-synergistic incrementals that some of the other sales are coming through.

Perfect. And then the last for me. On a couple of the segments you guys talked about high single-digit growth with some of your larger customers. Is -- obviously, that's the bigger plan to get part of wallet share. Did those additional add-on revenues with customers, did they come at better margins, worse margins? Just trying to think about the puts and takes there too.

Yes. I don't think that I know of any that are coming in at worse margins. In large part, they are either at our historical margins or a little bit better. There are some scenarios where we are, sort of, diving through windows to help out some customers that are in the middle of capacity constraint issues. I would suggest to you those come in at a bit better margin than historical. And then, there are some programs that we are laying in that are 4 or 5 year programs, especially on the Aerospace and Defense side of the house. Those are coming in at expected margins.

[Operator Instructions]. We'll take our next question from Daniel Moore with CJS Securities.

I wanted to echo the comments about -- your comments about the focus on execution. It should be very exciting to watch over the next few quarters. That said, given the balancing act of deleveraging, are there -- is it possible, Rich, that there is opportunities that present themselves, given the capital and intense nature of some of your businesses that you might have to pass up? And would you then, maybe, consider alternative means of deleveraging in the meantime?

Yes. So, I think, that's a really complex question, Dan. But I'll put it to you this way. I think with the launching of $94 million of new programs in the space of our, mostly in the space of our high-capital, intense businesses, I think we are -- we would be a lot more skeptical to add to that during the course of -- certainly, of '18 and as we keep a keen eye on delevering the business. That's not to say that we would walk away from an appropriate strategic customer opportunity. But it is to say that our filter is probably of a finer grain than it was, say, this time last year, all right? One of the issues, as I pointed out, and it's a great problem to have, we are increasing capacity almost everywhere in the enterprise. We are moving into three different new plants. There's a lot going on. And these are great problems, and the enterprise is handling it very, very well. But keep in mind, what we don't want to do is find ourselves in a place where our eyes are bigger than our stomachs, and we can't continue to pull out the, kind of, profitability and cash flow that is expected of the business. So we will manage that appropriately.

We'll take our next question from Charley Brady with SunTrust Robinson Humphrey.

Just you've got -- I want to talk about the -- R&D facility you have within your customers -- R&D facility. It sounds like you are opening a second one there and maybe you can just from the first one, what you're seeing, coming out of that first one, and, kind of, expected revenue or synergies and how many more -- what's the opportunity for replicating that strategy going forward?

Okay. So I will tell you that we have opened our second one. It is down in Houston. It is literally, as the first one, it's literally in the middle of our customers' Research and Development activities. And it is 100% open to engineers. So essentially, the way it works is, the customers' engineers are working on the latest product, whatever it may be, and they walk into our facilities with, effectively, a sketch on the back of a napkin, and say, hey, here's what I'm thinking. And literally, we help them codesign it at that point in time. And more often than not, they walk out of the facility with either a 3D printed pod, a water jetted pod, something that that they can go back and touch. What it's doing for us, while these entities are proving to be very profitable and certainly, well-run, what it's really doing for us is putting us on the absolute front end of the demand cycle. So we know what the customer's working on and we can work through the advanced manufacturing of that product early on. So we can offer the customers something from a manufacturing perspective that no one else can offer because we were part of the design cycle. It also helps us gain an increase in intellectual property, where in many cases, we either codesign or we're designing the product on behalf of the customer and putting the customer's name on it. So when it all shakes out, there is typically only two scenarios, either the customer decides, I want to make this myself, and I will pay you for your engineering solutions that you've provided to me, typically somewhere around a 40% margin, or, say I want you to make it, and here's the long-term agreement to make it, and that comes in at our normal Life Sciences incremental margin. So we would like to replicate this process, and we plan to do that wherever we can. It's always nice to be co-located with the customer. But the other end of that is we have people on site that the customer where they can come back to our engineering solutions organization. And so, part of the reason we've bought Bridgemedica is to be able to provide that end-to-end engineering solutions services to anyone, anywhere, especially the smaller customers that don't have it integral their businesses. So we cover the entire spectrum with the portfolio we have today.

Okay, I think with that, we can bring the conference call to a close. Thank you all for participating. We're really excited about what this business looks like going forward. And as I said to you, our mantra is execute, execute, execute. With that, we'll bring the call to a close. Thank you.

Thank you. And that does conclude today's presentation. Thank you for your participation, and you may now disconnect.