Park-Ohio Holdings Corp. (PKOH) Q3 2019 Earnings Report, Transcript and Summary

Good morning, and welcome to the Park-Ohio Third Quarter 2019 Results Conference Call. [Operator instructions] Today's conference is also being recorded. Before we get started, I want to remind everyone that certain statements made on today's call may be forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those projected. A list of relevant risks and uncertainties may be found in the earnings press release, as well as in the company's 2018 10-K, which was filed on March 5, 2019 with the SEC. Additionally, the company may discuss adjusted EPS and EBITDA as defined. Adjusted EPS and EBITDA as defined are not measures of performance under generally accepted accounting principles. For a reconciliation of net income to as-adjusted earnings and for a reconciliation of net income attributable to Park-Ohio common shareholders of EBITDA as defined, please refer to the company's recent earnings release. I would now like to turn the conference over to Mr. Matthew Crawford, Chairman, CEO and President. Please proceed, Mr. Crawford.

Thank you very much, and good morning. It's clear by now that the second half of 2019 is going to be a very dynamic period for our company. Unfortunately, our third-quarter results were slightly below our expectations, due largely to one-time events, like the UAW strike and an untimely equipment failure at one of our facilities, as well as some minor softening in the industrial markets globally. Because of these events, I do not believe the results are a good indication of the progress that we're making across the business as we begin to harvest the investments we have made over the last 18 months. I believe we will continue to outperform the market over the next three to five years based on our strategic positioning in automotive electrification, aerospace and advancements in forging capabilities. Most notably during the quarter, our focus on margin improvement and free cash flow has begun to benefit our results. We expect these improvements to accelerate as new business and increased volume provide important operating leverage at key facilities and capital expense reduces going into 2020. Additionally, we are continuing to see our investments in key areas begin to get traction. For example, I recently met in Europe with our Supply Technologies team, building our aerospace division, Apollo. And I'm pleased to report we continued to see significant incremental opportunity in an industry which is undergoing significant change, just when backlogs in commercial aerospace are at very robust levels. We are more than halfway to our stated goal of $100 million in revenue, and I'm optimistic we will exceed our goal in the medium term. Assembly Components has accomplished a great deal during the last 12 months relating to the launch of several new facilities, while simultaneously investing in new products and customers who are anxious to benefit from our global footprint, Lean manufacturing systems and technologies, which will help them achieve important targets around electrification, fuel efficiency and autonomy. Admittedly, our business launches are a bit behind schedule, particularly in China. But we're more confident than ever that we are positioned with the right partners. And thus quoting activity is strong and, more importantly, diverse, both geographically and by OEM. Lastly, relating to our Engineered Components segment, last Friday, I traveled to Arkansas to see the first parts made from our new 7,000-pound forging press. Not only will this serve as an important backup for our current production but will lead the way into new industries and products, like construction for example. In the meantime, our efforts to diversify our capital equipment business has paid dividends recently, as we have robust backlogs even during a moment of weakness in key markets like steel and induction hardening. The bottom line is that we continue to be an increasingly diverse industrial business, and this continues to protect us from modest ups and downs in traditional markets. But more importantly, we continue to identify opportunities, technologies and leadership within our business which allow us to outperform the market up or down for the foreseeable future. With that, I'll turn it over to our Chief Financial Officer Pat Fogarty, to review the third-quarter results.

Thank you, Matt. Overall, our third-quarter results were positive in several aspects of our business but were impacted by the UAW labor strike at General Motors and softening demand in certain end markets. Our third-quarter highlights included: the continued launch of new business in our Assembly Components segment, representing over 50 new auto-related programs in our fuel, rubber and aluminum businesses. Secondly, new business initiatives in Supply Technologies focused on aerospace and defense and industrial supplies continued to gain traction during the quarter. Also, we saw continued strong demand in our industrial equipment group, which we expect will continue into next year. I also want to highlight our consolidated gross margin, which improved 60 basis points year over year. And finally, strong operating cash flow and free cash flow enabled us to lower our long-term debt and increase our cash on hand during the quarter. We feel strongly that our diversified portfolio of products and services enabled us to achieve these highlights despite certain challenges during the quarter. Turning now to the detailed results for the quarter. Consolidated sales were $403 million, compared to $414 million in the third quarter of last year. The sales decline year over year was a result of the impact of the UAW labor strike at GM, soft demand in certain industrial markets, and negative foreign currency translation from a weaker euro and British pound. These factors were partially offset by higher demand for our capital equipment, our after-market parts and services, and our aerospace products. Consolidated gross margins in the third quarter increased to 16.5%, compared to 15.9% a year ago. The margin increase reflects the benefit of recent cost reduction actions and higher margins on new business, which is now in production in our molded and extruded rubber products business. SG&A expenses were $43 million, compared to $41 million a year ago. The increase in expense in the 2019 period was due primarily to the SG&A of recent acquisitions. Operating income was $23.8 million in the third quarter. On an adjusted basis, operating was $24.1 million this year versus $24.8 million last year. Adjusted operating income as a percentage of sales was 6% in both the current year and prior-year quarters, as higher gross profit margins offset the increase in SG&A year over year. Our effective tax rate in the third quarter was 25%, resulting from favorable discrete items recognized during the quarter. For the full-year 2019, we expect our effective income tax rate to be approximately 28%. On an adjusted basis, our EPS was $1.01, compared to $1.07 a year ago. Our GAAP earnings per share were $0.99, compared to $1.14 a year ago. During the quarter, we generated strong operating cash flows of $31 million and free cash flow of approximately $20 million. Our free cash flow was primarily used to repay debt of $12 million and increased cash on hand by $4 million during the quarter. We expect to generate operating cash flows of $25 million to $30 million during the fourth quarter and estimate free cash flow to be approximately $17 million to $22 million, which will again be used to reduce outstanding indebtedness. We increased our liquidity position during the quarter by $12 million to $236 million at September 30, which includes approximately $50 million of cash and cash equivalents on hand and $186 million of availability under our current credit arrangements. CapEx in the quarter was $11 million and supported various growth projects. As we have mentioned on previous quarterly calls, these investments have been made to support newly awarded business in our aluminum molded and extruded rubber and fuel-related businesses. Also in our Engineered Products segment, we have installed our new forging line in Arkansas, as Matt mentioned. And that forging line is now operational. For the full year, we expect CapEx of approximately $40 million. Moving to our individual segment results in the third quarter. In Supply Technologies, sales in the quarter were $149 million, compared to $155 million a year ago. The decline in sales was driven by lower year-over-year demand primarily in Asia. In terms of end markets, sales were lower in the semiconductor and construction and agricultural equipment markets, which were down 11% and 18% year over year, respectively. These decreases were partially offset by sales growth in other end markets, including the heavy-duty truck and truck-related markets, which were up 3% year over year; the civil aerospace market, which was up 16% year over year, and the power sports market, which was up 5% year over year. Also our sales during the quarter were affected by negative foreign currency translation from a weaker euro and British pound against the U.S. dollar. Operating income was $10 million, compared to $11.3 million a year ago. Margins during the quarter were affected by lower profit flow-through from the lower sales levels and end market mix. On a positive note, our Supply Tech team has worked diligently to adjust customer pricing and make changes to the supply chain in an effort to offset tariffs and other supplier price increases seen throughout the year. This initiative affected thousands of parts and many different customers. We expect that our efforts will continue to positively impact margins throughout the rest of the year and into next year. Moving to our Assembly Components segment. Sales were down 7% year over year due to the impact of the UAW strike at GM, lower levels of demand in our China locations and the pass-through of reduced aluminum prices. The GM labor strike impacted our third quarter earnings by approximately $0.05 to $0.07 per diluted share. Now that the 40-day strike is over, we are beginning to see releases increase from GM plants and from our Tier 1 customers. We expect that our plants selling to GM will get back to normal production levels by the end of November. Segment operating income margins of 7.7% were up 130 basis points from a year ago. During the quarter, we saw higher profit margins, both sequentially and year over year, as the benefits from cost reduction actions and profit on new business launches contributed to improved operating margins in the quarter. We continue to believe we are well positioned to benefit from current trends in the global auto industry, which are aimed at producing lighter vehicles with reduced emission technology, which provides us the opportunity to significantly increase our content per vehicle over the next several years. In our Engineered Products segment, sales in the third quarter were up 5% compared to a year ago, driven by increased customer demand for our induction and pipe threading equipment, which was up 15% year over year. Sales were partially offset by weaker customer demand in the oil and gas market, which affected our Forged and Machine products group. Bookings of new equipment and current backlogs in this segment continue to be at high levels. We expect our industrial equipment business to book in excess of $200 million in new equipment for the full year, up 5% over 2018. We continue to see strong demand in this segment heading into next year, resulting from the strength in the specialty steel rail and aerospace markets. Operating income margin in this segment was 8.7% in the quarter, compared to 10.8% last year, with the decrease due primarily to unfavorable sales mix and the effect of a temporary shutdown of one of our forging production lines during the quarter. Corporate expenses were down 14% year over year to $6.9 million in the quarter, compared to $8 million last year. The decrease was due primarily to lower employee-related expenses and professional fees during the quarter. Finally, with respect to our 2019 guidance, we are reducing our GAAP EPS guidance to $3.42 to $3.62 and our adjusted EPS guidance to $4 to $4.20, due primarily to the impact of the UAW labor strike at GM, which has affected several of our operations in our Assembly Components segment. We estimate the impact of the strike on our full-year earnings to be approximately $0.30 per diluted share. Now I'll turn the call back over to Matt.

Great. Thank you very much, Pat. Before I turn it over to questions, I do want to highlight again - I know I mentioned, and Pat did as well - while we're a little disappointed on the revenue side and what happened relative to the discrete events around the forging line equipment failure and the GM strike, this progress we made, even at lower volumes on the margin side and the free cash flow side are really important relative to some of the pivots we've been making to focus on quality of earnings and deleveraging. So significant strides in that area, which, as most people know, is part of our near-term strategic goal. With that, I'll turn it over for questions.

[Operator Instructions] Our first question comes from the line of Chris Van Horn, with B. Riley. Please proceed with your question.

Good morning, everyone. Thanks for taking my call. So gross margins continue to expand as we head throughout the year. And I'm just curious; I think you mentioned you see some tailwinds potentially from a product perspective for those margins to possibly continue. Is that the right way we should think about it as we head throughout this year and into 2020?

Yes, Chris. First of all, thank you for the question. It's an area we are dedicating a tremendous amount of focus on. So I'll cover sort of tactically a few things and then strategically a couple things. Tactically, each business, I think, has margin enhancement initiatives. I'll touch on Supply Technologies briefly. The tariff issue started for us, really, the middle of 2018. So addressing tens of thousands of part numbers and a significant body of our customer base with the type of price action and supply base action required has candidly taken a little bit longer than we thought. Our brand is to be a good partner for our customers. We tend to look at resourcing options first. Price action tends to be something that we look to as a last resort. But we've been having to manage a lot of this through pricing. And we're beginning, I think, to see both supply chain and pricing impact the performance of Supply Technology, which is important. I think at Assembly Components you've been hearing a lot about the expenses related to start-up costs at new facilities. We're hugely disappointed with the launches in our China facilities. Having said that that's just going to push things back a quarter or so. Strategically, we continue to be in the right place. So we do believe there's a significant tailwind there. And the same is true, I think, relative to our equipment business and our forging businesses. Some of the new customers and products that we're emphasizing, candidly, have higher margins. So at a strategic level, that's what we're continuing to do. I mean, you're hearing us talk a lot about industrial supplies MRO, you're hearing us talk a lot about aerospace. We're looking to expand in adjacencies and focus our investment and our leadership into areas that have higher margins. So that's what we're doing. And I think that the tactical things will have an impact over the next two, three, four quarters. And I think the strategic ones will continue our focused energy, both from an organic and acquisition standpoint, on adjacencies that provide leverage or higher margins is an absolute marching order at Park-Ohio these days.

Okay. Great. Thanks for that color. And then, maybe on that front, do you see additional need on the SG&A line to kind of continue down this new product and market expansion path? Or do you think the investments you've made throughout the year on SG&A, and in last year as well, set you up to kind of either keep the level or not have to expand it as much?

I'm going to let Pat answer that. But I would be remiss if I didn't say I feel like we've absorbed a disproportionate amount of SG&A on a percentage basis since we've lacked revenue to support it. But Pat, what do you -

Yes, I would agree with Matt's comment. I think when you've heard about some of the initiatives that we've put in place in Supply Technologies - whether it's MRO related or industrial supply related, or the new business launches that have occurred in our Assembly Components segment - the SG&A to support those initiatives, as well as the new business, have been in place. Now do I see the percentage dropping as sales grow? Most definitely. But we'll continue to support our growth around the world as we feel necessary. But I don't expect that to be material.

Maybe just from a couple of end markets perspective, with heavy-duty truck, some of the forecasts for 2020, looking for that to maybe roll over a bit, if you will, as well as the automotive markets maybe being stable to slightly down - I think in the auto side, you have a lot of good secular themes when it comes to electrification and maybe autonomous. Maybe you could touch on a couple of those? And then, are there any secular themes in the heavy-duty truck market that might help you offset some of those headwinds as we head into 2020?

Well, there's no question. I did see some data this morning that suggested that sequentially heavy-duty truck was a little better than people expected. So perhaps there's some good news in 2020 relative to what the dollar expectations are. But no, that's a risk going into 2020. As you know, we've deemphasized that business as an end market over the last several years to diversify away from that a little bit. So it's not as significant a part of our portfolio as it once was. Having said that, it's an important part of it. We've got great customers. And no, it looks like they're in for a relatively tough year coming up. So there's not much more to say about that. I would tell you that on the automotive side, I think what gets missed sometimes - and people talk a lot about volume. And let's even just talk about North America. We believe we address - about 50% of the car market globally is our sort of sandbox, if you will. We look to increase that daily, particularly with our exposure in China. But even if we just talk about NAFTA, I think what gets missed occasionally is people talk in terms of build rate. They don't often talk in terms of dollars. What's important to mention here is the revolution that's happening inside of the OE and model space in terms of increased model launches, in terms of increased capabilities, electrification. The car market on a dollar basis has never been bigger. Cars are getting more expensive. They have more features, they ride better. I mean, everything about it is getting to be more premium, even at the entry model level. So we view not just the secular trend but we view the marketplace that we live in to be expanding on a dollar basis. So, sure, we're concerned about build rates. Sure, we keep an eye on them globally. China in particular has been disappointing, but Europe and the U.S. haven't been a whole lot better. But I just want to remind people that where we are with our technologies, new models matter disproportionately. Content, dollar content, matters disproportionately. Build rates matter, too, but only as a function of those two things.

Our next question comes from the line of Steve Barger, with KeyBanc Capital Markets. Please proceed with your question.

Hey, good morning, guys. Matt, you make a great point on the dollar basis for the car market. In terms of the light-weighting and fuel efficiency initiatives, can you talk through where your content per vehicle is now, and maybe what you're targeting in various time frames?

Boy, that's a great question, Steve. And we're doing a fair amount of work on that right now. I can tell you that we believe our content per vehicle right now to be less than $40 a vehicle. As you know better than most, we service a diverse set of products. We're in rubber molding, which protects the electrification of the car. We're in extruded product, which helps autonomy and fluid control for cleaning of sensors. We're in such a variety of products relative to this market. We estimate that our available market, if you look at all of those products, could be at least 10x. So we have a lot of opportunities to win. And candidly today, we are positioned with the investments we've made in the right markets from a manufacturing standpoint in terms of the diversifying OEM space and the new model space, as well as having the right footprint in low-cost countries when it's important. So our estimates internally - it's a little difficult, given the diversity of products we have. And I didn't even mention aluminum castings or, most importantly, fastener technologies. So there's at least four significant buckets I just mentioned. We believe the available content is 10x.

Can you talk about maybe just general time frames for seeing revenue and cash flow benefits from the areas of electrification and autonomy? And just what does the autonomy business look like for you?

Yes, I think where we touch on the autonomy is - our extrusion business has traditionally sort of cut its teeth, if you will, in the fuel space. And what's nice about cutting your teeth in the fuel space is you tend to be very efficient and also very good at producing high-quality hose that doesn't corrode easily, that helps meet some of these permeation standards that are accelerating very quickly in China in particular, but also Europe and the United States. So adapting that technology for us into fluid spaces that clean cameras and sensors in particular is very exciting for us. So whether it's traditional spaces like window washers and seals, or grommets, or, in this case, transferring fluid and cleaner to make sure sensors are working properly, are all a very robust part of our current portfolio but growing exponentially?

Got it. That's great. And I really like to hear the focus on the higher margins and returns that management is looking at and that you gave the Apollo story. But can you talk through any of the new sales initiatives in more detail or at a higher level? Just what are you doing differently? And are there any specific markets or geographies you're targeting?

Well, first I'll comment and say I appreciate your comment. I know you have been an advocate for us to work harder at the margin line and quality of earnings. So we appreciate your candid feedback. And that's a part of the reason we're focusing more aggressively on some of these initiatives, and they're beginning to pay off. Imagine how they'll pay off when we get the volume going here a bit. But the punch line is - I'll talk about Supply Technologies a little bit and our O space strategy. It's quite interesting. There's been some consolidation in that space with Boeing buying KLX, Wesco being sold. So we continue to believe that particularly in the Tier 2 and Tier 3 space people are going to be looking for alternatives to guys that don't provide the service model that we traditionally provide at Supply Tech to our long-term customers. We're a high-touch, high-service model looking to reduce the total cost of a procured item. And we think that the aerospace product - and it's proving out - as Pat mentioned, it was up 16% year over year - we think that'll accelerate as people look for alternatives in the supply chain for Boeing and Airbus in particular to find high-touch, high-service suppliers. So that is extremely active right now. And we're quoting on multiple continents.

One thing I'll add on that, Steve. Historically, our aerospace business has focused on the structural side of the plane with this Tier 1, 2 and 3 customers. We're focused on diversifying our efforts to various parts of the plane, including the interior, which I think will be able to provide us and our customers with a service that is unmatched by others in terms of replenishment programs. And those will come at higher margins.

That is really great detail. Thanks so much. I guess I'll just ask one more quick one and then get back in line. The unplanned shutdown for the forging plant, was that related to the new press in Arkansas? And is everything back up and running?

Yes, it is. We hesitated to even talk about that. Because obviously, in our business, we have equipment failures all the time. That's part of our responsibility, to keep things running and preventative maintenance and all that. But in this particular case, it was meaningful. It was unrelated to the new press line. In fact, it probably validated one of the reasons we needed to invest in a new press line to back up the old one. But in this particular case, it was material to our numbers. So we felt it was important at least to mention it. It is back up and running. And I think that we've solved the issue. Having said that, the strategic solution is to have two presses in the same location to back each other up.

Our next question comes from the line of Edward Marshall, with Sidoti & Company. Please proceed with your question.

Hey, good morning, guys. Thanks for taking my call. I wanted to come at the gross margin question just a little differently, if we could kind of look down into the segment level, where you've had some probably successes and maybe where you haven't had as much success in the different business lines? Can you kind of talk about where things have been positive and where you have more work to do, at the segment level?

Yes, Ed, this is Pat. I think at Supply Technologies, we've talked about our initiative to combat tariffs and supplier-related price increases. I think that if you look at the prior quarters, we haven't seen much improvement there. We expect that to start to improve as we've been able to pass through, whether it's tariffs or other supplier-related price increases. Clearly, we saw a nice bump in our Assembly Components operating income margins. We've put a lot of time and effort on restructuring the business. We had two plant closings that occurred over the last 12 months, and plus the costs of launching, as Matt mentioned. So as we continue to launch the new business, which is significant to this segment, we're going to see those margins continue to improve. In our last segment, the Engineered Products segment, that was really a mix issue in the quarter. We had a higher level of new equipment flow through the P&L in the quarter versus aftermarket services, which come at a higher margin. So once we see that sales level out - we like to see 50% aftermarket in new equipment - it was skewed more like 70-30 in the quarter. So that clearly had an impact. Also in that segment, we have our forging business having two operating presses in our Arkansas forge plant. The flow-through on that incremental revenue should be significant. We operate two large hammer shops, one of which is at about 40% of capacity. And so we expect new volume in that particular facility to improve our margins pretty significantly. So overall, there are initiatives in each one of our segments to continue to focus on gross profit, continue to focus on free cash flow, which I think will provide benefits for the future.

And I would just talk at a high level. All three of our segments are off peak margins, in some cases considerably. So we've talked about the strategy behind moving the needle on what peak margins can look like in this business. But whether it's the resourcing and pricing work that's being done at Supply Technologies - whether it's the new product and business launches at Assembly Components or whether it's working, I think, to bring the new press online, and also working on some operating efficiencies of some of the equipment businesses - we've got tactical short-term plans to address that. So I think there's tremendous near-term opportunity besides what we've talked about in terms of trying to move the needle on peak margins.

Got it, got it. And I like to look at Park as a barometer for industrial activity and, I think, the mix of short- versus long-cycle businesses. But currently, we see a lot of different product rollouts. We see the acquisitions and so forth, so the water's getting a little bit muddy. Wonder if you'd be so kind to discuss maybe what you've been seeing in the short-cycle businesses versus maybe the long-cycle business, and to kind of just give us an outlook to the future, if you could, that's for the next six months or so?

Yes, this is Matt. I would start by saying that we have felt some softness in the industrial sector for the last four or five months. It's been not across the board. It has been in discrete areas. But I would say, particularly in some of the shorter-cycle businesses, we've seen continuing softness. Now when I talk about it, I remind people that - most people kind of remember in the pit of their stomach the '08 recession, '09 recession. This weakness is a little bit more traditional, kind of where you see two-thirds to 70% of your customers a little weaker year over year. Those volumes are coming off peak numbers. These are the kind of softness that we should overcome with new business launches. But if you ask me what I believe has been happening in the industrial market, I believe it's been soft for four, five, six months. I think that people underestimate again, as they did in '15 and '16, what a weak oil market means and gas market means to the overall industrial economy. So there have been some headwinds for a while. I anticipate some of those headwinds to continue. But once again, I think that it's nothing like - it's something that we should be able to overcome and move forward on from a position of strength. That's a little bit why I think you saw me conclude my earlier comments by talking about; we think we're positioned to outperform the market. Whether the underlying industrial market shrinks a little, grows a little, is stable, I think we're in that band. And we expect ourselves to outperform the market.

If you could comment on the success in China? You mentioned several different product lines: extrude products, fluid, rubber, aluminum castings, etc. I would imagine that you're probably seeing the success of the penetration within China. Maybe you can kind of talk about your China auto, and how those different product lines have been either successes or failures?

Yes. I would tell you that we have positioned ourselves, particularly more recently on the auto side, in products which we believe we have not only technology that gives us an advantage, but also we're on the right side of the regulatory environment in China. So we, I think, feel as though that strategy has been validated, in the sense that we see robust quoting activity and very diverse quoting activity in terms of not just the JVs - the Western JVs, which are losing market share, candidly - but also the Chinese national companies as well. And I think that's really where the opportunity is going forward. So I feel really good about where we've positioned ourselves strategically. But I would be remiss if I didn't say that what is happening in China relative to build rates and product launches this year may be a little related to the trade war. But I think also relating to a decelerating auto market in China has caused our financial results to suffer. We're well behind where we expected to be at this point. So I feel good about the investments. I feel good about how we're positioned in the products. Keep in mind; too, the way you've seen the Chinese government respond as their economy has decelerated in auto production and demand has decelerated, you've seen them be a little bit less aggressive relative to incentives and enforcement around some of the environmental changes. So they're pretty savvy in terms of how they respond to a weakening market. So we have a business model that to date has succeeded with the JVs. We've doubled down and positioned ourselves to succeed with the Chinese national companies. And we're seeing the strategy work. It's just not working at the pace that we expected.

And you just went through a big period of capital investment, probably one of the largest capital investments that Park has seen. And I don't want to say that you're decelerating your capital spending. But my assumption is that it drops off next year from the high levels that it's been. First, is that true? And then, secondly, do you have a target maybe for the capital investment to the business in 2020?

This is Pat, Ed. You're absolutely correct. The last two years, we're estimating, including the current year, that we would've spent somewhere around $83 million in capital in that two-year period, we expect it to be down significantly as we head into next year. If I were to guess at where we will end up, it'll probably be more in the range of $30 million in capital. We're working through our operating plans now. But that's a target number that I feel very comfortable with, and a huge reduction from where we've been the last two years.

And you mentioned leverage as a target for cash. Do you have an assumption of where you want your leverage to go? Do you have a target?

Definitely. We've been in the 3.5 net debt leverage, a little higher than that. We would like that net debt leverage to be approaching three. I don't know if we can do that in the near term, but clearly over the next two years, we should be able to get there. But that's a target leverage point that we've set a goal for at the beginning of the year.

Our next question comes from the line of Marco Rodriguez, with Stonegate Capital Partners. Please proceed with your question.

Good morning and thank you for taking my questions. Wanted to kind of circle back on some of the comments you've made on, I guess, the end markets and potential growth areas you have. I was wondering if you can maybe kind of help frame a little bit more by segment some of the major opportunities you're kind of looking at as we progress to fiscal '20. And then, if you can also kind of contrast that against some of the big risks you're kind of looking at and monitoring for each segment?

Marco, it's difficult at this time to really comment on where we expect next year by segment. We monitor pretty closely all of our end markets and where we're seeing opportunities. Clearly, as Matt mentioned in his opening comments, our auto business in Assembly Components, we would expect that segment to outperform the market relative to the new business that we're launching. And with the softness we're seeing in heavy-duty truck as we enter into next year, I'm hopeful that other growth aspects of Supply Technologies will overcome that. Aerospace is an area that we have a number of new initiatives. I mentioned the interior of the plane, the initiative of winning new business with existing customers, Tier 2 and 3 customers. We just opened up a new facility in Spain that we're seeing growth in. So there's going to be really strong pockets of growth in our business that we're hopeful that will offset any softness that we see in some of the other end markets.

Got it. And then, maybe if you can talk a little bit more about your driving the aerospace side, especially in the Supply Technologies? Just kind of maybe walk us through a little bit more or an update on the strategy there? What is it you're doing to kind of drive that revenue higher?

Marco, I don't know that I can add - this is Matt - much more than the color I gave one of the prior people that asked the question, where I discussed a little bit about the Tier 2 and Tier 3 strategy, particularly with Boeing buying Cadillacs and Wesco being sold. So I think the bottom line is the Tier 2 and Tier 3 people in that environment are looking for higher-touch service models as the big boys, if you will, move away from solving for a lower total procurement cost and more focused on product distribution. So I don't know. At this point, I'm not sure I can answer; give much more color, than what's going on in the marketplace competitively and some of the things Pat talked about relative to our geographic expansion.

And then, kind of shifting gears here to the gross margin focus that you talked about at some length in your prepared remarks - just trying to get a little bit better of a sense here. I mean, that push, that focus that you guys are really moving on - do you think that that sort of drives your overall gross margins and maybe your operating margins above where your peak margins are, above kind of a normalized level? Just how do we think through that?

I made the point, I think, just a few seconds ago to another question about having opportunity. Because each of our segments is operating at below peak margin. So I do believe there's some opportunity there in the short term. But I tend to think our opportunity to move the needle on peak margins is really related to some of the more strategic things that we've been discussing on this call, particularly as it relates to our automotive business and some of the fuel efficiency and electrification products we're talking about. So I do think there's tremendous opportunity in the short term. But I think to achieve peak margins for the business and beyond is going to take fully implementing some of the investments we've made, which could be 18 to 24 months out.

Got you. Then lastly, maybe if you could talk about the acquisition landscape, just kind of give us an update as far as what it sort of looks like from an opportunity standpoint, and what valuations might look like?

Yes, Marco. Our deal flow continues to be solid. We continue to see businesses that some bankers might think fit with our company. We're very selective on the deals that do fit, making sure that there are proper synergies, making sure the valuations come in line that allows us to get the returns that we expect. I think valuations are coming down a little bit. But still, we're seeing companies being sold at 8x to 10x EBITDA. So in order for us to do that and pay a higher price than we've traditionally done, we better see some tremendous growth aspects in those deals. We haven't taken our eye off the acquisition ball. But we continue to be very selective.

Marco, this is Matt. We spent a lot of time today, I think, appropriately talking about margins: margin improvement, strategy, harvesting investments. Please don't let anyone not appreciate that one of the pillars for our growth strategy is acquisitions. So we anticipate that in 2020 we will be impacted in an accretive way by a smart acquisition or two. So that is still core to our strategy around here. End of Q&A

Ladies and gentlemen, at this time, there are no further questions. I would like to turn the floor back to management for closing comments.

Great. Well, thank you for all the time and energy and support. And appreciate the good questions today. And we will see you at the next quarter. Thank you.

Thank you. Ladies and gentlemen, this concludes today's teleconference. You may disconnect your line at this time. Thank you for your participation.