Good morning and welcome to the NN, Inc. Third Quarter 2022 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Jeff Tryka. Please go ahead.

Thank you, Andrea. Good morning, everyone and thanks for joining us. I'm Jeff Tryka, Investor Relations contact for NN, Inc. and I'd like to thank you for attending today's business update. Yesterday afternoon, we issued a press release announcing our financial results for the third quarter ended September 30, 2022, as well as a supplemental presentation which have all been posted on the Investor Relations section of our website. If anyone needs a copy of the press release or the supplemental presentation, you may contact Lambert & Co. at 315-529-2348. Our presenters on the call this morning will be Warren Veltman, President and Chief Executive Officer; and Mike Felcher, Senior Vice President and Chief Financial Officer. Before we begin, I'd 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 annual report on Form 10-K for the fiscal year ended December 31, 2021 and other filings with the Securities and Exchange Commission. The same language applies to comments made in 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, input cost inflation, supply chain constraints, the impact of the automotive semiconductor chip shortage, statements regarding the planned management transition, foreign exchange rates, cash flow, tax rates, acquisitions, synergies, cash and cost savings, future operating results, performance of our worldwide markets and the impacts of the coronavirus pandemic and the Russian-Ukrainian conflict on the company's financial condition 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. Reviewing the agenda for today's call, Warren will open with an update on actions the company has taken to position NN for success and then provide a business update from the third quarter. Mike will then provide a detailed review of the financial results before turning the call back over to Warren to discuss our segment results and markets as well as our outlook for 2022 which has been revised based on our current view of the business and external factors influencing our results. There will be a Q&A session following the conclusion of the prepared remarks. At this time, I will turn the call over to Warren Veltman, President and CEO. Warren?

Thanks, Jeff. Good morning, everyone and thank you for joining us this morning. Before we dive into a discussion of our results for the third quarter, I would like to review the other news we announced last night regarding the management transition plan. This transition includes my planned retirement as NN CEO, effective at the end of the first quarter of 2023. I've given this decision a great deal of thought and consideration, as it was very important to me that the timing be right for both me personally and for the company. In the 3-plus years I served as CEO, we have made significant progress to improve the company's financial structure, operating cost drivers and reposition our growth strategy to be focused on the high-growth electric vehicle and electrical markets. I believe these and other initiatives have placed NN on a path for continued success and will ultimately drive improved shareholder value. Our efforts regarding rationalizing our manufacturing footprint is an example of cost reduction efforts to create a more competitive cost structure for NN. We have taken action to close 5 manufacturing facilities by the end of the first quarter of 2023. When complete, we expect to see annualized improvement in adjusted EBITDA versus our 2022 outlook of $10 million to $12 million. The finalization of these closures will be a huge step in creating a more competitive global footprint for NN to support our growth objectives and are actions I hope to complete before my retirement. To address my planned retirement, our Board of Directors has engaged Korn Ferry, a global organizational consulting firm, to identify a range of potential candidates, with particular emphasis on individuals with skills and experience in the electric vehicle and residential and commercial electric grid markets. The Board is targeting to announce…

Thank you, Warren. Slide 11 is a review of our financial highlights for the third quarter. Increased volumes and demand drove an increase of 8.6% in sales versus the prior year period which along with favorable mix and higher JV net income equated to improved year-over-year profitability of approximately $4 million. The JV reported sales of $27 million during the third quarter, up $4.3 million, or 18.8%, from the third quarter of 2021. Year-over-year results were also favorably impacted by reduced incentive and stock-based compensation expense of approximately $3 million. These improvements were partially offset by unfavorable impacts of approximately $2 million due to unrecovered inflation and $1.7 million related to overhead absorption. Turning to Slide 12, our working capital remained consistent with the prior quarter, at 4.2 turns. Similar to recent quarters, we continue to experience challenges with our supply chain and, as a result, have maintained higher-than-usual levels of inventory. While inventory remains above normal levels due to safety stock needed to address increased lead times, we remain focused on reducing inventory levels and are working on several initiatives to reduce them by year-end. Turning to Slide 13, we provide a look at our capital expenditures. We continue to take a disciplined approach as we fund investments to support long-term growth. Year-to-date CapEx has decreased from $14.6 million in 2021 to $14 million in the current year. Moving to Slide 14, free cash flow was a use of $4.4 million in the third quarter of 2022, compared to a free cash flow use of $3.7 million in 2021. Free cash flow used in the quarter was primarily driven by a $3.1 million increase in working capital and lower operating results than expected. We expect working capital to reduce by approximately $9 million in Q4, driven by inventory reduction…

Thank you, Mike. On Slide 17, we broadly outline certain market trends surrounding the electrical market. We continue to view the rapid transformation of the energy and electrical equipment markets as significant opportunities. Government regulations and increased pressure on corporations to accelerate the adoption of sustainable or alternative energy continues to persist. Corporate investments into the energy storage sector reached $22 billion for the first 9 months of 2022, exceeding 2021's investments by 30%. Renewable power generation, electric grids and energy storage account for 80% of total investments within the power sector. On August 19, 2022, President Biden signed the Inflation Reduction Act, with one of the primary goals of increasing the amount of dollars invested to combat climate change. As part of these efforts, the bill allocated $369 billion in funding for energy security and climate change investment through tax credits and loans. We expect legislation in numerous countries to accelerate the amount of investment. On Slide 18, we summarize certain trends in the automotive market. The transition to EV continues to gather momentum. While rising interest rates, increasing energy costs and ongoing supply chain disruptions continue to affect global vehicle production and elevate price levels, we continue to see increased interest from federal and state governments to advance the country's EV infrastructure. As of 2022, the U.S. had a total of 92,000 EV chargers which increased 12% from 2020. More recently, the U.S. Department of Transportation approved EV charging station plans that support all 50 states and cover 75,000 miles on the highway as part of a bipartisan infrastructure package. While we believe the transition to EVs remains inevitable, the ultimate path and time frame for the transition remains uncertain given the recent increase in inflation and sustained impact on the supply chain challenges. That said, recent investments…

[Operator Instructions] And our first question comes from Rob Brown of Lake Street Capital Markets.

My first question is on kind of the pricing improvement. I know it takes a little time to flow through and you said you got, I think, $40 million last year. How much is sort of yet to come and that you've already negotiated? And I guess, how much more is sort of out there that you think you can get?

I would tell you, Rob, it largely depends on how much inflation we see, honestly. As we have indicated, we have what I would call automatic pricing increases currently built in for anything that's material-related with the majority of our customers on the Mobile Solutions side. On the Power side, we've seen increases. Pricing goes up and down as it relates to precious metals and we adjust that pricing on the day of shipment. We've seen significant material-related costs for resins and we've passed that through proactively to our customers. And in those cases, it doesn't require a significant amount of negotiation because we don't have long-term contracts. So as prices move there, we have the opportunity and, as I indicated in my remarks, have demonstrated the ability on the electrical side to pass through that pricing. On the Mobile side, we have the material that is really automatic. I would tell you there's probably another -- I hate to speculate but there's probably, on nonmaterial-related products, there's probably another 5% to 10% as it relates to the cost increases associated with nonmaterial-related applications that we're pursuing from our customers today.

Okay, great. And then moving kind to EV activity, you had pretty good project wins in the quarter, I guess. How is that pipeline building? Do you see that sort of cadence continuing in terms of adding projects? And then I presume it takes a few years to get those into revenue. But what's sort of the base of activity that you've won that can turn into revenue over the next couple of years?

I would tell you, obviously, it's a priority for us, as I indicated. Our team is very heavily focused on that. One of the things that was interesting to me when I attended the Battery Show that I referenced in my comments was that there is a lot of research and development surrounding it. But as it relates to the number of factories today that reside on this continent for manufacturing not only batteries for vehicles but certainly storage-related batteries for utilization in the grid, there's still a lot of development that needs to be done by those customers as it relates to establishing their factories. So the good news is that we're connected with quite a few people that are moving forward with those types of installations. We're seeing a lot of quoting activity for that. We've had some instances on the EV side where we're quoting the same product with multiple customers. So there is a little duplication in the pipeline in some of those types of instances. But I think that we're right at the forefront of this and certainly, our teams are actively engaged as this is developing in the United States.

Okay. Okay, great. And then, maybe just sort of your kind of comments around the macro environment into next year. I know there's some uncertainty but what's sort of the range of kind of outcomes that you've experienced in the past? How much visibility do you have? And how do you kind of manage through changes in volume if things slow down? And I guess, what visibility do you have for next year at this point?

Look, good question. I would tell you that when we did the outlook 3 months ago, I think that we were looking for a little bit more of a bounce, especially on the auto side, in the fourth quarter and through 2023. And I think what we're seeing with some of our customer release schedules is a little bit more cautiousness on their part. You saw that inventory levels for the OEMs jumped up. I think, on average, when we were talking previously, it was in the low 20s. Now it's at the 34-day, 35-day range. Ford, I think, actually was a little bit higher when they announced and some of the data that we're seeing. They were up in the 50 range, getting back more towards where they have been historically. So, I think that there's a certain amount of cautiousness going on as it relates to the higher interest rates. The ability to move product is a result of that. And we've seen that in some of our releases. I would tell you our expectation is that we don't think that it's going to be significantly down from where we are today, at least what we're seeing, simply because we've been operating at lower levels so far in 2022 as a result of the semiconductor chip shortages and supply chain interruptions which impacted us for the majority of the first half of this year. So, I think that NN is well positioned with a diversified portfolio on the electrical side and the automotive side. And certainly, as it relates to our ability to flex, I think that we've proven that we have a very strong and capable management team that demonstrated throughout 2020 that we can do that. The majority of our facilities run a 50-hour work week. So we can flex back 20% on the labor side without losing any skilled machinists or engineers which is a key part of what we would like to retain in the event that there is a downturn.

The next question comes from Steve Barger of KeyBanc Capital Markets.

This is Jacob [ph] on for Steve. So the first one, just organic growth levels seemed to be pretty decent in the quarter, maybe a little bit lower than the double-digit levels that we were talking about last quarter. Can you just talk about how you see those trends moving into Q4, specifically? And then maybe what that implies for momentum heading into the first half of '23?

Well, I think the guidance that we gave for the whole year that we went through, honestly, I think kind of covers how we expect that to build through the fourth quarter. So we're not at this point in time giving guidance on 2023. We'll do that certainly when we report our year-end results. But as I indicated, our view is that there's some adjustment going on in the market today. We're seeing some cautiousness as it relates to our customers' volumes. We've seen inventories jump just a little bit. They're certainly not as robust as they were pre-COVID and I think that there is some doubt on whether they will get back to that level given how the OEMs have been able to run their businesses and maintain lower inventory levels for a period of time. So our expectation is that we will continue to see improvement in sales throughout 2023. As it relates to the degree, I think we'd like to see things develop a little bit here over the fourth quarter and see where the economy goes, especially post-election.

Okay. Got it. That's some good color there. Second one, just kind of a follow-up on the cost recovery side. I know a lot of your contract negotiations are centered around end of year, maybe only some twice a year. Do you think we're going to have to wait until first quarter to start seeing the majority of the rest of those recoveries coming through?

Most of what we're talking to our customers about right now relates to pricing adjustments on January 1.

Okay, understood there. Just maybe 1 or 2 more for me. Specifically on the medical market, the reentry into your medical market, I know you talk about the noncompete from the Life Sciences business until October of next year but I'm just kind of curious what areas you're specifically targeting in the medical market.

Well, we're not targeting any areas right now because we're still subject to a noncompete agreement. I would tell you that when we get to that point in time, there are applications within the medical space that fit the core processes that NN has. So anything that would be focused on precision turning or grinding or stamping would play very clearly into the skill set that we have. And obviously, we have a small medical business today that was grandfathered in to our noncompete. And some of the capabilities that we have there as it relates to instrument manufacturing, we could expand into other customer relationships.

Okay. Understood. I mean, I guess maybe do you have any sense of sort of the magnitude of what that opportunity could be as you get back into it once this noncompete is up?

Look, it's a $10 million business for us today. Certainly, we think that over a period of time we could -- in a period of time once we're into it, over a 2- or 3-year period of time, we could triple or quadruple the size of that business, I would think.

Okay, got it. And then maybe just one last quick one. In the beginning of your prepared remarks, you talked about getting to 20%-plus of your revenues from sort of those mega trend markets by '25. I'm just curious what that percentage is of your business right now.

Where are we at, Mike? We're at, like, 15%? 14% or 15%, I think?

I think it's 13% or 14%, I think, is where we're at.

So it's getting it to 20% but with sales growth throughout the period, right? So it's not the growth aspect of it. And that's the stated target. Certainly, we've had conversations about setting our goals higher than that. And internally, they are but that is our external stated objective.

The next question comes from Tom Kerr of Zacks Investment Research.

I think most of my questions have been asked and answered. A couple of quick ones. Any current commentary on the inflation situation? You're 1 month into the fourth quarter. Any signs of hope or anything like that?

Well, I think the signs of hope are that we continue to secure pricing adjustments from our customers. As I indicated, we've done that on the Power Solutions side and we'll continue to do that. We have seen on the Power side, the sales are impacted by lower process metal prices. So we've seen silver come down a little bit. And that, from a quarter-over-quarter comparison standpoint, doesn't necessarily change our margins significantly but certainly changes the sales. And I'd say margin, I'm talking about dollar, right? It can impact the percentage margin. But I would tell you that my feeling today is we have a lot of conversations with customers. And I think early on, they were maybe a little bit more adversarial than they have been recently, because I think our customers understand that it's important that they have the conversation with us and we reach some sort of an agreement because they want a healthy supplier supplying them product. And now they've already had an opportunity to talk to the OEMs and deal with some of their pricing-related issues, because they have some of the same concerns. And now that they have a clearer path on how that is working, I think they're more reasonable in the approach in dealing with us.

All right. Sounds good. Any additional color on the China JV? Is that back to normal? Or recovered kind of like you expected?

Look, I would tell you we had a little bump there in our China operations in the second quarter with the COVID. That's still an issue that we're concerned about there. But we're really jamming pretty hard, with a volume $27 million for a quarter. Obviously, well over a $100 million run rate. Our WOFE is performing reasonably well, as well. So we feel pretty good about what's going on in our China operations at this point in time. I think the one negative for us is that we still are negotiating some pricing with a customer for the JV. We concluded on a pricing arrangement with them. It was unfortunate that we didn't conclude on it prior to the end of September but we agreed to an adjustment for the first half of the year. But we concluded on that in October and we didn't get an opportunity to book it in the third quarter but we'll pick that up in the fourth quarter. And then we've already started the negotiations with the customer on the second half of the year. So a little bit of a lag in the China arena as it relates to talking about pricing for inflationary matters.

Got it. Okay. A couple of quick ones. I think last quarter, you talked about the leverage ratio being under 3x at year-end. I'm assuming that's still not a goal? Or can that still happen?

We're obviously focused on getting it below 3x. I think, given the revised outlook, that's probably going to be more early in 2023 than at year-end at this point.

Okay. And last one, you guys talked about how you're not giving 2023 guidance until the next quarter but you did give pro forma segment adjusted EBITDA margins. Can you consider that a goal or expectation going forward on a normalized basis?

So regarding the $10 million to $12 million we outlined, our current view is that sequentially versus 2022 we'd realize about 75% of that in '23. There's obviously some continued impact as we get through the closure of those facilities and the work transfer. When we provide our 2023 outlook in March, we'll have a better estimate on that. It's going to depend on sublease timing and terms and various other factors. But our current view is of the $10 million to $12 million that we outlined for the facility closure savings, that we'd be able to realize about 3/4 of that in 2023.

This concludes our question-and-answer session. I would like to turn the conference back over to Warren Veltman for any closing remarks.

I just want to thank our analysts and shareholders for participating in this call today as well as our employees. Certainly, as I indicated at the beginning, we appreciate the support that we've had from all of our stakeholders and appreciate you taking part in the call today. Thank you. Have a good day.

The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.