Nortech Systems Incorporated (NSYS) Q1 2025 Earnings Report, Transcript and Summary

Good afternoon, ladies and gentlemen, and welcome to the Nortech Systems Inc. First Quarter 2025 Earnings Conference Call. With me on the line today are Jay Miller, President and Chief Executive Officer; and Andrew LaFrence, Chief Financial Officer and Senior Vice President of Finance. [Operator Instructions] At this time, it is my pleasure to turn the call over to Andy LaFrence.

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

Thank you, Andy, and good afternoon, everyone. We're glad you can join us today. In our last several earnings calls, we noted customer order headwinds at Nortech and across our industry, which we expect to impact our near-term orders and revenue. While net sales over past several quarters were impacted by continued pattern of customers delaying product purchases, reducing their on-hand inventories and shortening order -- to fulfillment time lines. We are very encouraged with the stabilization of our customer backlog as of March 31, 2025, as compared with the end of 2024 and a robust pipeline of customer quote opportunities. Additionally, first quarter 2025 and fourth quarter 2024 revenues in our aerospace and defense market were negatively impacted by closure of our Blue Earth facility and the transfer of customer programs to Bemidji, Minnesota, as we experienced unexpected delays due to slow customer approvals. While we fully expect our aerospace and defense business to get back to normal in the second half of 2025, we do expect this headwind to continue to impact revenues to a decreasing level in the second quarter of 2025. The team in Bemidji has been working very hard, and we're very encouraged by the progress the Bemidji team has made in this area. Meanwhile, the on again, off again imposition of tariffs may significantly impact contract manufacturers with facilities in China and Mexico, including Nortech. While the tariffs with Mexico are currently somewhat uncertain, it's important to note that Nortech is not the importer of record into the United States for goods produced in Mexico as we operate under a maquiladora structure for our customers. This reduces our direct exposure to these tariffs. Throughout this period of uncertainty, we remain vigilant and hand-in-hand with our customers, we're closely monitoring any potential changes that could affect our operations and the operations of our customers. As we expected, many of our customers are evaluating their supply chain strategies, we believe that we are currently very well positioned with our North American footprint as our Monterrey maquiladora operations and Minnesota facilities work under the framework of the USMCA. As for China, as I've mentioned on past calls, much of our production work there is built in country for country. a near-shoring strategy -- a near-shoring approach to better serve customers in the global market with reduced shipping costs and time. Fortunately, we had the foresight to start implementing this strategy faster than most of our competitors. As a result, our China tariff exposure is primarily related to piece parts imported from China rather than larger finished goods imported from China. As tariffs on Chinese imports may increase cost, we are closely monitoring these impacts in our business and adjusting customer pricing as well as our sourcing strategies as needed to mitigate any adverse effects. As with our North American footprint, we are seeing opportunities in China with companies that are seeking to consolidate their manufacturing within China to serve the China and Asia markets. Globally, we are also seeing opportunities to help our customers with Nortech engineering services to support near-shoring activities as the uncertainties of tariffs has challenged the allocation of engineering resources of our customers. All in all, we are working hard and have all hands on deck to proactively monitor the shifting landscape, trade policies and uncertainties in the current geopolitical environment. Regarding our cost structure, we also continue to be very diligent in managing operating costs. Over the past 3 quarters, we have undertaken significant actions to reduce our cost structure with the Blue Earth facility closure, reduction of our headquarters lease space, along with other actions during the first quarter of 2025 to further manage our headcount based on our current operating metrics. The backdrop of the past year has provided us with the opportunity to work closely with our customers to provide solutions for the new norm of supply chain near shoring. These very important strategic customer discussions evolve around shorter lead times, coupled with critical on-time delivery strategies, along with deeper customer partnerships that are fundamental to our long-term growth strategy. As a result of the tariffs, we are also encouraged by the new flow of quoting opportunities to potentially onshore production in both North America under the USMCA as well as China. This is also an opportunity for us to work with our customers to minimize their logistics surrounding their manufacturing strategies and sourcing production in one geographic location. A key takeaway from today's call, and I want to make this very clear, is that we continue to be very bullish on the future of Nortech and continue to closely watch our expenses while carefully making prudent investments to accelerate long-term growth. For example, to support our defense customers, we are working to complete newly mandated security investments by the end of the year. While we clearly recognize that it was a difficult and disappointing quarter, we firmly believe that our decision to consolidate our North American footprint as well as moving customer programs to other manufacturing locations to better fit customers' needs will improve our long-term EBITDA generation. We are starting to see these benefits -- the benefits of these activities as we completed the first quarter. These numerous strategic activities have been hard and have stretched our employees, but we all know that these changes are important, and we're happy that the whole team came together and had the wherewithal to get them done expeditiously. I continue to be impressed by our employees -- by how our employees live out Nortech's values of teamwork, excellence, commitment, innovation and integrity every day. Once again, the whole Nortech team deserves our sincere appreciation. Our 3-tier global strategy of manufacturing in the U.S., Mexico and China gives Nortech customers flexibility to improve their own competitiveness by moving quickly in response to global market dynamics. We can move production among facilities based on factors like cost, intellectual property management and operational requirements, including ever improving on-time delivery of high-quality products with shorter lead times. Our customer business development teams and engineers evaluate each customer's needs to determine the most suitable location, which may also change over the course of a product's lifestyle. Next, I'll turn it over to Andy for a more in-depth look at our financial results. Andy?

Thank you, Jay. In the next few minutes, I will provide certain details of our financial performance for the first quarter of 2025. I would encourage you to review our Form 8-K filing containing our press release and non-GAAP measures as well as our quarterly report on Form 10-Q filed earlier this afternoon with the U.S. Securities and Exchange Commission. As a continued theme, we have historically noted that our individual quarterly performance can be affected by outside factors. These might include timing fluctuations, including seasonal fluctuations, customer shipments and supply chain issues, any of which could materially impact a particular quarter either positively or negatively. Consequently, we believe it's more important and appropriate to review our business on a 12-month basis rather than focusing entirely on quarterly performance. This approach will help normalize its potential anomalies and offer a better gauge of our strategy's long-term success. So today, while I will focus most of my comments on our first quarter results, I will spend some time reviewing trailing 12-month results for the business. Net sales for the first quarter of 2025 totaled $26.9 million. This represents a 21.4% decrease from net sales of $34.2 million in the first quarter of 2024. Net sales in the first quarter of 2025 were negatively impacted by delays in aerospace and defense customers approvals of products transferred from our Blue Earth facility to our Bemidji facility as well as manufacturing and plant utilization efficiencies related to the movement of various production between our plans. We expect these managed to be positively resolved over the next 2 quarters. Our customer backlog in the first quarter of 2025 has stabilized and is consistent with the year-end 2024 backlog. Several of our aerospace and defense customers are delaying orders now until they approve the move of the production to our Bemidji facility. We expect the majority of those approvals to be completed -- completed by the end of the second quarter, which should improve our order volume. First quarter of 2025 gross profit totaled $3.1 million or 11.1% of net sales compared with gross profit of $5.4 million or 15.9% of net sales in the same prior year quarter. The decrease in gross profit as a percent of net sales in the 2025 period as compared with the same prior year period was a result of lower net sales as discussed above, reduced facility utilization and decreased manufacturing productivity. Operating expenses for the first quarter were up $398,000 as compared with the prior year period as a result of higher selling expenses as a result of realignment of our customer-facing managers to a sales function reporting to business development. These expenses were previously included in our cost of sales, and this increase was partially offset by payroll and expense management. In the first quarter of 2025, we incurred $266,000 of restructuring costs related to severance charges for our February 2025 reduction in force to align staffing to our forecasted net sales and a $15,000 of expenses that were related to our closed Blue Earth facility. We paid substantially all of these restructuring costs in the first quarter of 2025. Moving to the cash flow statement. For the quarter ended March 31, 2025, net cash used in operating activities totaled $2.9 million as compared with cash provided of $2.8 million in the same period of 2024. While the timing of revenue shipments as well as customer and vendor payments impacted operating cash flow for the period, we purposely decreased inventory levels in the first quarter, and we plan to further reduce our investment in inventory during 2025 by several million dollars. As noted in our press release distributed this afternoon, we used earnings before interest, tax, depreciation and amortization or EBITDA as well as adjusted EBITDA which does not reflect restructuring charges we incurred through the first quarter related to our staffing reductions and Blue Earth plant closure as key performance indicators to manage our business. While EBITDA and adjusted EBITDA are non-GAAP measures, we believe that these provide meaningful information regarding our underlying business. In the press release, we have provided a reconciliation of our financial performance determined in accordance with U.S. generally accepted accounting principles and EBITDA as well as adjusted EBITDA. For the quarter ended March 31, 2025, adjusted EBITDA was negative $1 million as compared with $1.6 million for the same period in 2024. Turning to the balance sheet. As of March 31, 2025, cash totaled $1.2 million, up from $916,000 as of December 31, 2024. The fluctuation in cash balances reflects the timing of cash payments, expenditures and credit line borrowings, which aggregated $12 million as of the end of the quarter. Accounts receivable as of March 31, 2025 were $15.7 million, up from $14.9 million as of December 31, 2024. Inventories were $20.9 million as of March 31, 2025, as compared with $21.6 million as of December 31, 2024. We plan to further reduce inventory balances throughout 2025. Our contract asset, which represents revenue earned but not yet billed to customers decreased slightly to $13.4 million as of March 31, 2025, as compared with $13.8 million at the end of December 21 -- December 31, 2024. This decrease reflects the timing of customer shipments and a focus on reducing our contract asset balance. In our press release, we have presented the non-GAAP measures for the trailing 12-month data and EBITDA. For the 12-month period ended March 31, 2024, net sales were $120.8 million as compared with $138.7 million in the 12-month period ended March 31, 2024. In addition, adjusted EBITDA for the 12-month period ended March 31, 2025, was a negative $0.5 million as compared with $8.1 million for the 12-month period ended March 31, 2024. Our top line -- our top priorities for 2025 remain unchanged. First, we are extremely focused on continuing to strengthen our balance sheet. We plan to reduce our inventory investments in 2025. Next, we will take further advantage of opportunities to align our operations and infrastructure with the market demand that we are seeing to deliver sustainable long-term EBITDA growth as well as driving improvements in free cash flow. Coupled with disciplined, lean operations and execution, expense management and R&D innovation, we believe Nortech can deliver on our objectives. With that, I will now turn it back to Jay for his closing comments. Jay?

Thanks, Andy. Before we open the call to your questions, I want to highlight, once again, 3 related areas that together serve our customers and help advance Nortech's corporate stewardship, Nortech's engineering expertise, product innovation focus and sustainability plans. As for engineering expertise, we have a dedicated engineering services team that is focused on enhancing manufacturability, serviceability and supply chain risk mitigation and cost efficiency for our customers. Our 3-tier cost structure across the U.S., Mexico and China allows us to quickly adapt our global engineering resources to fit our customers' changing needs. A core goal of our long-term strategic plan focuses on unique innovation. This is somewhat unusual for most contract manufacturers. Nortech's engineering capabilities and innovation skills further our research and development activities with advancements like the Expanded Beam Xtreme fiber optic technology, or EBX that we announced in January. EBX is designed for digital data transmission through the very complex custom cables we manufacture and offers improved speed, reliability and security when compared with traditional copper. We're also excited about our Active Optical Xtreme or AOX hybrid power plus data fiber optic technology that works in sophisticated magnetic environment, a testament to our team's dedication to innovation, hard work and excellence in the field of digital connectivity solutions. AOX represents a significant advancement in our product offerings and underscores our commitment to providing state-of-the-art solutions that meet the evolving needs of our clients to deliver products that offer lighter weight, lower cost and ruggedized solutions sustainably. At the simplest level, the vast majority of Nortech's products provide complex custom digital connectivity solutions that transmit data and power in various applications. As you may know, the Internet of Things, or IoT, integrates a variety of electronic components such as microcontrollers, sensors, actuators and connectivity modules. These components in turn, enable IoT connected devices to collect, parse, transmit and receive data. More and more today, the data is being evaluated and analyzed using human intelligence and a combined artificial and human intelligence for improved performance and data management for our customers as well as for their customers. For Nortech, we see AI capabilities as a clear opportunity to streamline and improve our processes, make our employees more productive and serve our customers better. You will hear more about our innovations in AI in future conference calls. More data needs better and faster data pipelines, and that's where Nortech comes in. Technology like our EBX smart cables help collect distribute -- and distribute this data faster, more cost effectively and more securely across these sophisticated networks. We see strong opportunities for growth. Our pivot to more fiber optic technology improves product performance for our customers by offering unparalleled speed and reliability. And it also aligns with sustainability goals we share with many of our customers. When compared with traditional copper, fiber optics offers significant environmental benefits during both production and operations, including improved energy efficiency and less material usage, while significantly decreasing the carbon footprint of the complex cables we manufacture. One might think that our customers no longer care about their carbon footprint, but we're listening carefully to our customers and for a range of important business reasons, we know that they still care. We also know that our aerospace and defense customers are adopting fiber optic technology due to these key advantages, reduced size, weight and power requirements, immunity to electromagnetic interference and greater ruggedization in harsh environments. Harsh environments, of course, is very common for aerospace and defense applications. Nortech has a proud history of serving these customers' unique needs dating back roughly 30 years. It's the smallest of our 4 core markets by net sales, but it's our fastest-growing segment and very important for our diversification and future growth. Our contributions to our national and defense are also a source of great pride to the Nortech employees. The majority of our aerospace and defense cables are still the traditional type common and legacy defense systems, such as shipboard missile launchers for the Navy -- Navy. But we -- but we're also looking to the future with ruggedized fiber optics and evolving along with our customers. In closing, we're excited about the technological developments across all our markets and expect them to support our continued sales momentum in 2025 and beyond, aided by stabilization in supply chain and customer orders. We're seeing an increase in our fiber optics capabilities from our customers. Nortech is well positioned to capitalize on these trends with our advanced fibrotic capabilities. Our EBX and AOX technologies align perfectly with the industry's move towards more efficient, reliable fiber optic solutions. EBX offers nonphysical contact connectors for applications and harsh environments, while AOX combines fiber optics with copper to provide EMI immune, high-speed data transmission, low-speed signals and power delivery, all in one hybrid cable. By integrating digital diagnostics with fiberoptic cables, we're able to generate real-time cable and system performance data. These digital diagnostic cables advance our customers' ability to monitor their systems and devices and to evolve from preventive maintenance to predictive maintenance to minimize downside -- downtime and costs. Our commitment to innovation and sustainability positions us as a leader in fiber optics -- in the fiber optics industry, ready to meet the growing demand for high-speed, reliable, environmentally friendly connectivity solutions. Now we'll open up the call for your questions. Tom, go ahead and open the lines.

Thank you, Tom, and thanks, everyone, for joining us today. We look forward to talking to you in August when we report our second quarter 2025 results. Again, thank you, and goodbye.

Thank you. This does conclude today's conference call. You may disconnect at this time, and have a wonderful day. Thank you once again for your participation.