Rogers Corporation (ROG) Q1 2020 Earnings Report, Transcript and Summary

Good day. My name Erica. And I will be your conference operator today. At this time, I would like to welcome everyone to the Rogers Corporation Q1 2020 Earnings Call. At this time all participants are in a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. [Operator Instructions] I would now like to turn the conference over to your host, Mr. Steve Haymore, Director of Investor Relations. Sir, you may begin your conference.

Thank you, Erica. Good afternoon, everyone. And welcome to the Rogers Corporation first quarter 2020 earnings conference call. The slides for today’s call can be found on the Investors section of our website, along with the news release that was issued today. Please turn to slide two. Before we begin, I would like to note that statements in this conference call that are not strictly historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and should be considered as subject to the many uncertainties that exist in Rogers’ operations and environment. These uncertainties could include economic conditions, market demands and competitive factors. Such factors could cause actual results to differ materially from those in any forward-looking statement. Also, the discussions during this conference call may include certain financial measures that were not prepared in accordance with Generally Accepted Accounting Principles. Reconciliations of those non-GAAP financial measures to the most directly comparable GAAP financial measures can be found in the slide deck for today’s call, which is posted on the Investors section of our website. Turning to slide three, with me today is Bruce Hoechner, President and CEO; Mike Ludwig, Senior Vice President and CFO; and Bob Daigle, Senior Vice President and CTO. I will now turn the call over to Bruce.

Thanks, Steve. Good afternoon, everyone, and thank you for joining us today. Please turn to slide four. Before discussing the results for the quarter I will first provide an update related to the impact of COVID-19 on Rogers. I’m extremely proud of the Rogers team for their tremendous response which allowed us to prioritize employee health, maintain business continuity and deliver results at the top end of our guidance. Rogers is a great company because of the extraordinary capabilities and dedication of our employees. Thank you, team. When the virus outbreak first emerged early in Q1, we reacted swiftly. Site pandemic response teams implemented safety measures such as remote work arrangements, social distancing policies, providing appropriate personal protective equipment and enhanced disinfection protocols to protect employee health. Global operations and supply chain teams focused on site level measures to maintain business continuity for our customers. And at all levels of the organization other teams were empowered to make rapid decisions to protect employee safety and to meet customer’s needs. Caring for our employees at this time is an essential priority. And in addition to the robust safety measures implemented we have also temporarily expanded certain benefits to provide employees additional support to care for themselves and their families. As demonstrated in Q1, the strength of our global manufacturing network and effective supply chain management is enabling us to successfully respond to the current challenges. For example, early in the quarter our operations in China, along with other businesses in the country, were temporarily suspended by the government. In response to this disruption, our global operations and supply chain teams collaborated to shift some production to other factories and worked with our suppliers to maintain the appropriate levels of critical raw materials. Our China leadership team worked closely with local authorities to implement the proper actions to ramp up the Suzhou campus as soon as the suspension was lifted. Thanks to the work of these teams we were able to minimize disruptions to customers. Further, our Europe and North America regions were able to leverage what we learned from our Suzhou factory, which has been of great benefit. With the exception of the temporary shutdown of the Suzhou factory, all of our manufacturing facilities maintained production in Q1 and continue to operate as essential businesses. We continue to work closely with suppliers and, thus far, have minimized any supply disruptions. As the virus has spread, we have faced varying levels of absenteeism at our global factory locations. To date, we have effectively managed the situation and minimized disruptions to customers, but it continues to be a dynamic situation. There was only a minimal impact to Q1 sales due to production availability, but we did see a greater effect from demand that was lost or delayed due to COVID-19. These impacts were primarily from disruptions in the business environment in China, which resulted in lower wireless infrastructure and portable electronics demand. Late in the quarter, we also began to see weaker automotive demand. As we look ahead to Q2, we expect additional reductions to demand related to COVID-19 challenges, although our revenue and EPS outlook is largely consistent with our Q1 results. We anticipate the most significant impacts to Q2 demand will be in traditional automotive and portable electronics markets, where global factory shutdowns and stay-at-home orders have limited production capabilities and reduced consumer demand. We also expect general industrial demand to be weakened by the broad nature of the current market challenges. The primary offset to the weakness in these markets is an expected increase in 5G wireless infrastructure demand which was slowed in Q1 by COVID-19 related challenges in China. Lastly, we are in a strong financial position to face the current challenges. We have over $300 million in cash on the balance sheet, a net cash position and additional liquidity available through our revolving credit facility. While the duration and full range of consequences of the COVID pandemic are not easily predictable, the resilience of the Rogers team, our diversified market strategy and our financial strength give us a solid foundation to respond to the challenging environment. In addition to our actions to deal with the COVID-19 crisis, we are taking a longer-term view, seeking to build upon our strategic position and strengths as we move through these near-term challenges. Turning to slide five, I’ll next discuss our Q1 results. We delivered solid Q1 results, with quarterly net sales of $199 million and adjusted earnings of $0.92 per share, which were at the top end of our guidance range. The coronavirus outbreak did affect our Q1 results, but the impact was in line with our guidance assumptions. We continued to see the benefits of our diverse portfolio and market strategy in Q1. Net sales for the quarter were driven by strength in advanced mobility, where both EV/HEV and ADAS grew at double-digit rates sequentially. EV/HEV demand was particularly strong for power semiconductor substrates and battery pad and battery pack sealing solutions. Relative strength in advanced mobility countered the Q1 effect of the COVID-19 outbreak on portable electronics and wireless infrastructure demand in China. Given the current market challenges, we continue to be mindful of controlling spending. From an operations standpoint, we have ongoing cost reduction programs in place and we are also prepared to flex manufacturing costs as necessary to match production levels. We are also carefully managing operating expenses, with hiring and discretionary cost controls now in place. Please turn to slide six. ACS net sales for the first quarter were $65 million, which was essentially flat to the prior quarter. ADAS demand grew sequentially at a double-digit rate, and wireless infrastructure demand increased modestly. Offsetting these increases was a decline in aerospace and defense demand following a strong fourth quarter. This was not unexpected, as specific programs come to completions and other begin to ramp up. Looking ahead to Q2, we expect total ACS revenue to increase slightly versus Q1. We are expecting significantly higher wireless infrastructure sales, driven by stronger China 5G deployments. Offsetting this growth is an expected decline in ADAS, driven by the current challenges in the automotive industry. 5G deployments in China are rebounding in Q2 and is expected to continue into the second half of the year. As we noted last quarter, we are facing challenges in this market from both the effects of trade tensions, which continue to push Chinese OEMs to diversify their supply chains, and the drive by telecom carriers and OEMs to reduce the capital costs of 5G infrastructure. These pressures have driven Chinese OEMs to redesign their base station systems to reduce costs and to accommodate local Chinese manufactured components and materials. Based on recent indications, we will likely have limited market share with one of the major Chinese OEMs. As a result, while we expect Q2 wireless infrastructure revenue to grow sequentially, increasing competitive pressures and reductions to content are limiting the magnitude of this opportunity going forward. Turning to ADAS, longer term we continue to expect that the positive trends in adoption of automotive safety systems and the push by automakers to higher levels of autonomy will continue to make this market a compelling opportunity. In the near term, there will be a meaningful impact from the shutdown of auto factories and from lower sales due to shelter in place orders. We expect Q2 ADAS driven revenue to be significantly lower than Q1, and demand beyond Q2 at this point is highly uncertain. Aerospace and defense demand is expected to increase relative to Q1 and remain solid for the balance of the year. Lastly, while a smaller part of our ACS business, we expect sales of our high-frequency circuit materials used in tablets to increase, driven by online education and remote working. Please turn to slide seven. PES net sales in the first quarter were $47 million, an increase of 6% as compared to Q4. We saw double-digit growth in EV/HEV and renewable energy market demand, partially offset by declines in rail and variable frequency drives. Q2 PES revenue is expected to decline across most market segments as a result of the broad effect of COVID-19. Over all, automotive demand is expected to be lower due to factory shutdowns, with applications for traditional automotive experiencing the greatest impact. Given the current challenges the automotive industry is facing, it is uncertain when we may begin to see a return to growth in EV/HEV demand. However, we continue to believe that this is a market with significant long-term opportunity and we are in a strong position to be successful with our leading wide band gap semiconductor silicon nitride substrate technology, where we continue to gain design wins as more and more automakers move towards EV/HEV technologies. We remain committed to this opportunity and will continue to invest to position the company for long-term growth in this area. We made further improvements in PES operations in the first quarter. Yields for our new silicon nitride power semiconductor substrate process technology showed further improvement, which resulted in lower scrap and material usage. We remain on track to the yield recovery plan that we established last year, but realizing the targeted gross margin improvements will be volume-dependent. Turning to slide eight. Q1 EMS net sales were $84 million, a sequential increase of 4%. The higher EMS sales resulted from a rebound in general industrial and mass transit demand and stronger sales of applications for EV/HEV batteries. The demand in these markets was partially offset by lower portable electronics demand, which, as mentioned, was impacted by coronavirus-related factory shutdowns in Asia. The increase in general industrial sales, while positive, is primarily due to customers refilling inventory levels and does not necessarily point to an uptick in end user demand. One way that Rogers is contributing to the fight against COVID-19 is by supplying products for medical applications, such as ventilators and testing devices. In order to meet demand for this critical equipment, the Rogers team has shown tremendous dedication and responsiveness, in some cases turning around orders in a matter of only a few days. Sales of products for medical-related applications is only a small portion of our EMS business, but we are committed to supporting the battle against this pandemic. For Q2, we expect EMS sales to decline due to weaker automotive, general industrial and portable electronics demand. New and innovative technologies such as battery pad and battery pack sealing solutions used in the EV/HEV market remain a top area of focus. Like our power semiconductor substrates business in PES, we continue to see this as a long-term growth opportunity, and we are encouraged by the significant design progress we’ve made with a number of battery suppliers. Lastly, turning to slide nine, I’ll summarize our key messages before turning the call over to Mike. First, we are focused on protecting our employee’s health and well-being, while also continuing to meet our customers’ needs. In addition, we are pleased with the solid first quarter results that we delivered despite challenging market conditions. Our Q2 outlook is also projected to be solid, with results expected to be consistent with Q1. Beyond Q2, visibility is extremely limited by the unfolding impacts of COVID-19 in some of our markets, such as traditional automotive, general industrial and portable electronics. While there are uncertainties and challenges, Rogers has a strong foundation that will help us navigate the current environment. We continue to seek opportunities to build upon our strategic position and strengths as we move through these near-term challenges. Rogers has strong market positions, a history of innovation and a solid balance sheet. We will prudently manage expenses and preserve cash through this downturn, while also maintaining a long-term view of the market opportunities ahead. Now I’ll turn it over to Mike to discuss our Q1 results in more detail.

Thank you, Bruce. Good afternoon, everyone. Before I discuss the results, I would also like to express my thanks and admiration to the employees of Rogers around the globe for an outstanding performance of delivering products to our customers in a challenging, unprecedented business and social environment. While we experienced minor disruptions and increased costs, the Rogers community demonstrated resilience and creativity in the face of uncertainty and anxiety to demonstrate their commitment to their jobs and our customers. Great results, team. In the slides ahead, I’ll review our first quarter results, followed by our second quarter guidance. Turning to slide 11, first quarter revenues, as previously noted, were $198.8 million, 3% higher than Q4 2019 and at the high end of our guidance range of $185 million to $200 million. Strong demand for power semiconductor substrates and battery materials serving EV/HEV applications, increased demand for products serving ADAS applications, as well as an increase in general industrial revenues in Elastomeric Materials were the primary drivers for the increased revenues. Revenues decreased in portable electronics and materials serving aerospace and defense applications. Disruptions of the business environment in China resulting from the coronavirus pandemic negatively impacted our portable electronics and wireless infrastructure demand in the first quarter. We saw orders increase for these applications in the second half of the first quarter as the environment in China improved. Our gross margin for the first quarter was 33%, at the midpoint of our guidance range of 32.5% to 33.5%. In the quarter we experienced a less favorable product mix of higher power semiconductor substrates and lower portable electronic revenues, and we incurred incremental costs associated with the coronavirus pandemic as we temporarily expanded certain benefits to provide employees additional support to care for their families. Improved operations execution resulted in material cost reductions, efficiencies and yield improvements in the first quarter, mitigating the unfavorable product mix and the incremental pandemic-related costs. Adjusted operating income for Q1 2020 was $22.6 million, or 11.3% of revenues, a slight decrease from Q4 of 11.6% of revenues. GAAP net income for the first quarter of $13.3 million represents a $42.1 million improvement compared to the fourth quarter net loss. The loss in the fourth quarter of $28.8 million included a $43.9 million non-cash after-tax charge which resulted from terminating a pension plan in the quarter. On an adjusted basis, the company delivered EPS of $0.92 per fully diluted share, at the upper end of our guidance range of $0.75 to $0.95. Turning to slide 12, our Q1 2020 revenues of $198.8 million increased $5 million compared to the fourth quarter of 2019. The sequential increase was driven by our PES business segment, up 6%, and our EMS business segment, up 4%, while the ACS business segment’s revenues were flat compared to Q4. Currency exchange rates favorably impacted first quarter revenues by $0.5 million compared to the fourth quarter. The flat ACS revenues compared to Q4 resulted primarily from the 3% increase in wireless infrastructure revenues, primarily in 5G power amp applications, and a 10% increase in ADAS revenues, mitigated by a decline of 8% in aerospace and defense application revenues. While the 5G ramp continued to be delayed in the first two months of Q1, due partly to the coronavirus pandemic impacts in China, the second half of the quarter saw increased orders for 5G applications as China makes a push to continue its aggressive rollout of 5G. ADAS revenues were strong in the first quarter as a result of customers building inventory. Late in the first quarter and continuing into the second quarter, we experienced a significant slowdown of ADAS orders, consistent with several automakers’ announced shutdowns due in large part to the impacts of the pandemic. We expect the slowdown to continue through the second quarter, and it will have a meaningful impact on our ADAS and other automotive businesses at least through Q2. Revenues for aerospace and defense programs declined sequentially off a strong fourth quarter base but did increase year-over-year. We continue to be positive on this market and expect continued year-on-year growth. Revenues in our EMS segment increased sequentially, due primarily to orders in general industrial applications, robust growth in a small but growing base for EV battery pad materials and nice growth in our mass transit business. The increase in general industrial demand, which comprised over 45% of the segment’s revenues in the quarter, pointed to our preferred converters refilling inventory levels, as opposed to an increase in end user general industrial demand. In fact, we expect the demand for these materials to soften in the second quarter with the general economic slowdown. Portable electronic revenues, which comprised almost 25% of the revenues of the quarter, declined meaningfully in the quarter, particularly in China, resulting partially from the business disruption caused by the coronavirus pandemic. Late in the quarter, we saw a pickup in demand as China economy came back online, but we do not expect the increased demand to carry through the second quarter, as the impact of the coronavirus pandemic will temper global demand for portable electronics. PES revenues increased in the first quarter due to a strong demand in our EV/HEV applications, both for power semiconductor substrates as well as laminated busbars for power distribution. The semiconductor substrate revenues, which accounted for approximately 25% of the segment revenues, increased 28% compared to the fourth quarter, and the laminated busbar revenues for EV/HEV, which accounted for less than 10% of the segment revenues, grew 18% sequentially. While we enjoyed nice sequential growth in our EV/HEV business in the first quarter, we expect demand for this business to decline in the second quarter, as a significant end customer shut down production in certain locations to address the coronavirus threat. We also had revenue gains in renewable energy applications, which comprise greater than 15% of segment revenues. Power semiconductor substrates for general industrial applications, which comprised over 30% of the segment revenues, were down slightly compared to Q4. These industrial equipment applications generally track with manufacturing CapEx spending. As such, we expect demand to soften in the second quarter as CapEx spending declines, resulting from the economic downturn. Turning to slide 13, our gross margin for Q1 2020 was $65.6 million, or 33% of revenues, slightly less than the 33.1% achieved in Q4. The decrease in the gross margin percentage was due primarily to the negative product mix discussed earlier and the higher incremental costs associated with the coronavirus pandemic as we temporarily expanded certain benefits to provide additional support to our employees. We continued to improve our operational performance through our ongoing focus on lowering material costs and increasing efficiencies in yields in all business segments, mitigating the negative impact of product mix and the incremental costs to address the pandemic. Tariffs were lower in the quarter compared to Q4, resulting from our efforts to leverage our global factory footprint and shift production to facilities that mitigated tariff costs. As a result, we expect the tariffs to have less than a 25 basis point impact on gross margins going forward. Gross margins increased significantly for ACS in the first quarter, as cost reduction efforts and decreased tariffs benefited the margin. The EMS gross margin was essentially flat on a percentage basis in the quarter, as the benefit of volume increases were offset by an unfavorable product mix resulting from lower portable electronic revenues in Q1. In the first quarter, we continued to execute on the PES recovery plan. As Bruce mentioned, we are encouraged by the continued signs of progress made in the quarter for manufacturing yield and continued material cost reductions. We did not see these benefits materialize in the gross margin due to an unfavorable product mix in our Curamik business, direct labor efficiency challenges that were pandemic-related and reserves taken on excess inventory resulting from past material planning challenges. The operational execution work continues, and we are encouraged and confident we will capture the incremental 600 basis points of improvement in this business, subject to increased volumes, which will result in over a 100-basis-point improvement in the company gross margin. While we expect continued improvement in the efficiencies and yields in this business segment in the coming quarters, the pace of the gross margin improvement will be volume-dependent. Slide 14 details changes to adjusted net income for Q1 2020 of $17.2 million, compared to adjusted net income for Q4 of $21.3 million. As discussed earlier, the adjusted operating income for Q1 2020 of $22.6 million and 11.3% of revenues was slightly higher than Q4’s adjusted operating income on a dollar basis but slightly lower as a percent of revenues. Adjusted operating expenses for Q1 of $43.1 million, or 21.7% of revenues, were $1.4 million higher than Q4 adjusted operating expenses. The higher dollar expenses resulted from increased performance based costs compared to Q4. Rogers incurred higher tax expenses in Q1 compared to Q4 while achieving an effective tax rate of 20.6%, in line with our forecasted rate of 20% to 21%. We now expect our effective tax rate for 2020 will be 24% to 25%, higher than our previously communicated effective tax rate of 20% to 21% due to an increase in reserve for uncertain tax position, a lower benefit from discreet tax items anticipated in 2020 and the anticipated geographic mix of pretax income. Overall, the financial impact on the company’s first quarter result from the coronavirus pandemic were not significant. As Bruce mentioned, we did experience a very small increase in our EMS revenues from the sale of materials into medical applications to address the pandemic. We experienced higher cost of goods sold expenses in the form of increased support costs for our employees, approximately $0.6 million, as well as higher freight costs to distribute products. Finally, certain of our operating expenses were lower in Q1 as a result of less travel and less recruiting. All costs and benefits resulting from the pandemic are included in our pro forma results. Turning to slide 15, we ended the first quarter with a cash position of $308.3 million, an increase of $141.4 million from December 31. The increase resulted from a $150 million draw on our revolving credit facility in March, which I’ll discuss later. We ended the first quarter with a net cash position, cash and equivalent balance in excess of amounts owed under our revolving credit facility, of $35.3 million. In Q1, the company spent $11.2 million on capital expenditures. In our last call, we communicated a CapEx spend range of $40 million to $45 million for 2020. We are closely managing our planned capital spending in this difficult economic environment. At this time, we expect to come in at the lower end of the range but are not yet prepared to adjust our range, as we believe there are growth opportunities, particularly EV/HEV programs that may require additional capacity. The company generated $8.6 million from operating activities in Q1, net of an increase in working capital of $18.5 million, primarily from the increase in accounts receivable due to the timing of revenues late in the first quarter. As a result of the cash used for working capital, Q1 free cash flow was negative $2.5 million. In March, the company drew $150 million on its revolving credit facility as a precautionary measure against a potential significant and protracted economic downturn resulting from the financial impacts of the coronavirus pandemic. The company does not presently expect to require this cash to fund its current or future operation and has invested the cash in short term government-backed securities. At March 31, the company had an outstanding balance on its revolving credit facility of $273 million. The company has $177 million available on its revolving credit facility and has an uncommitted accordion option of $175 million. The required payment terms are interest-only, on a monthly basis. The revolving credit facility has interest coverage and leverage covenants, which the company was in compliance with at the end of Q1 and continues to be in compliance with at this date, with significant headroom against the covenant limits. The revolving credit agreement expires in February 2022. The company ended the first quarter with a healthy balance sheet, net cash position, and is well positioned to withstand the current economic challenges and to invest in growth opportunities. Our current cash flow breakeven level is greater than 20% lower than our first quarter revenues on a run-rate basis, depending on the product mix of revenues, and we have the ability to flex our costs with changing demand levels. In this economic environment we will continue to closely manage spending levels and make prudent investments in capital, but we will look to invest in opportunities to accelerate growth out of the downturn. Taking a look at our Q2 2020 guidance, on slide 16, we see opportunities and challenges that were discussed by Bruce and me. The resumption of the 5G rollout in China in late Q1 and continuing into Q2 will provide some buffer against the very challenging automotive demand landscape, where several OEMs and Tier 1s have closed plants indefinitely, impacting our conventional automotive and our EV/HEV business. In addition, we believe our general industrial business in both EMS and PES will be impacted by the significant economic downturn we expect in the second quarter, and possibly longer, resulting from the coronavirus pandemic. We do, however, expect to see incremental revenues for medical applications addressing the needs of the coronavirus pandemic of greater than $0.6 million in the second quarter. While Rogers employees did an outstanding job managing the supply chain and delivering products to customers in Q1, the impact of the pandemic on supply chain and employee availability is difficult to estimate for the second quarter and second half of 2020. Therefore, our revenue guidance is provided with the assumption that our supply chain will continue to supply critical materials and we will continue to produce and deliver products for our customers with minimal disruptions. Revenues for Q2 are estimated to be in the range of $190 million to $205 million. Similar to our guidance for Q1, the range for Q2 is wider than historically provided, due to the increased level of uncertainty from the potential impact of the coronavirus pandemic. We will continue to monitor and flex our spending for manufacturing infrastructure, SG&A and capital expenditures to address the anticipated demand levels. We will also continue our progress on lowering costs, improving efficiencies and improving yields in all businesses, with added focus on PES, as discussed earlier. Even with these actions, the low volumes will continue to negatively impact our gross margin in Q2. In addition, we expect the incremental costs associated with the expanded benefit provided to employees as well as supplies to keep our employees safe resulting from the pandemic to increase in Q2, to approximately $3.5 million to $4 million. As a result, we are guiding gross margin in the range of 32.5% to 33.5% for Q2. We also expect to reduce certain OpEx spending in Q2, principally travel-related and recruiting expenses, by approximately $1 million as a result of the coronavirus pandemic. We guide GAAP Q2 earnings in the range of $0.58 to $0.78 per fully diluted share. On an adjusted basis, we guide fully diluted earnings in the range of $0.80 to $1 per share for the second quarter. Our adjusted results are inclusive of all incremental costs and benefits resulting from the coronavirus pandemic. I will now turn the call back over to the operator for questions.

[Operator Instructions] Your first question comes from Craig Ellis with B. Riley FBR.

Yeah. Thanks for taking the question. And Bruce and team, congratulations on successfully navigating a real difficult environment [Technical Difficulty] first quarter.

Thanks, Craig.

It sounds like we’ve got some background noise, at least on this end, but I’ll [Technical Difficulty] as best I can. Bruce, I wanted to start by following up on the points you made with the China infrastructure and the domestic [Technical Difficulty] dynamic that exists with one of the suppliers. As you think about that dynamic over the intermediate term and the potential for significant 5G rollouts in other countries and geographies, how does that net out to the growth profile for Rogers? Do we see a plateau here second quarters [ph] levels? Or [Technical Difficulty] deployments next year? Would we expect to see growth off of what you can achieve in Q2?

So as we talked about in the prepared remarks, the impact of the trade policies and so forth, obviously, with that one OEM in China has impacted us because of the redesign work and local sourcing that they’ve done. As we look across the network of other OEMs and so forth, we anticipate certainly in Q2 near historic levels of share with those other OEMs. And as we move outside of China and think through the other OEMs that are providing base stations, aside from the large Chinese one, we would anticipate that our share would remain strong there as those rollouts move across the world.

Okay. So that sounds like it’s a more constructive outlook once we get to broader global deployment outside of China. Mike, I wanted to do a follow-up just on some of the gross margin points. And congratulations to the team for getting PES improvements really set structurally. As we look at the things that are going on across the business and, admittedly, we’ve got near term crisis issues that are impacting things. But as we think about longer term margin expansion potential given the improvement in PES, are we really talking about volume driven gains beyond what we would navigate through in the second quarter? Or are there more meaningful efficiency and optimization programs that can really provide significant clip from here?

Yeah. Craig, I think we’re going to see contributions on both sides of that. Again, I think the operations team really has done a phenomenal job focusing on cost reductions, whether it be material cost reductions, yield improvements and efficiencies. But I think there’s still work to be done on that and in all businesses, right? We’re going to really focus and continue to focus on PES because, again, while we’ve made some good headway there, there’s still a lot of room to be had there. But I think as we move forward, we’ll see equal benefits from continued focus on costs and cost down and manufacturing efficiencies compared with volume benefits, as well.

Okay. Great. And then I’ll come back to you if I could, Bruce, for one more before I hop back in the queue. Just looking beyond the very near term, beyond 2Q and maybe even 3Q, but really focusing on the back half of the year and the business’s exit velocity in late 2020 and 2021, as you look at the changes that are occurring where do you feel like the business is poised for real growth and growth acceleration? And where might things be changing and have the business in a less advantaged position than you might have thought you had going into the crisis? Thanks for the help, guys.

Sure. Thanks, Craig. So in terms of coming out of the year, of course we don’t give full-year guidance, but from a market perspective I think a lot depends here on the impact of coronavirus, specifically on automotive. We still believe and we even continue today to see trends in EV/HEV conversion that remain very strong. I think there was some announcement today that a large west coast provider of EVs, a producer of EVs, saying that their backlog was very strong. So that’s a real good indication to us that the market is still very interested in EV/HEVs. The work that we’re doing with a number of German auto manufacturers continues, even though the crisis, in terms of design wins and looking at next-generation systems, both on the battery side and power module side. So we see, again, EV/HEVs coming out of this as being strong. We also see growth in the 5G telecom side because of the rollouts in China. But it’s muted for us, as we talked about, because of the share situation, specifically in China. But that growth is also, we anticipate, we would hope to see some of that coming through the year, as well, certainly in Q2. So those are areas where we see strength. And I would also mention A&D, aerospace and defense. That was robust through 2019, coming into 2020 a little bit off, but really around end of program and beginning new programs that impacted there. But as we move through the year, we see that as remaining strong, not only in the ACS business but also in EMS.

Thanks, Bruce. And then just to clarify that China view, is it the company’s view that they could have some business with that leading supplier? Or after 2Q would you not be expecting to have that? Thank you.

I think it’s very cloudy, let’s say. The tenders that have gone out, we understand our position. Beyond Q2, it is very difficult to predict.

Thank you.

[Operator Instructions] Your next question is from Daniel Moore with CJS securities.

Good afternoon. Thanks for the color and thanks for taking the question, Bruce and Mike. I wanted to follow up a little bit on the wireless telecom opportunities and challenges. But given the changing landscape in terms of market share, but also given the build-out numbers that we’ve seen, do you see Q2 as being potentially a high watermark near term for wireless telecom revenue, building for you in the back half of the year but cloudy to what degree? Any additional color just kind of netting all those puts and takes, that would be very helpful.

I think certainly Q2 we see the ramping in Q2 and into the second half of the year for base station build-out in China. So we would participate in that as it moves through the year. But it is very difficult as you get towards the end of the year to understand where it all ends up. What I would also say, we talked a little bit about the re-design and de-contenting that’s gone on. And so part of the push down on maybe the total potential revenue in wireless and 5G is because we’re now looking at content per base station in the mid-100s, down a bit from what we had projected earlier, because of those redesigns and that de-contenting. So that’s muting some of the growth opportunity there for us.

Very helpful. And is that with all OEMs or just with the large Chinese OEM?

I think as we’ve discussed in the past, each OEM has their own designs. And I would say the drive by that one large Chinese OEM to significantly redesign for local content has had a big effect versus maybe some other folks.

Okay. And then shifting gears, kind of a broad, high level question. The COVID pandemic and the related increase in demand for bandwidth, could that accelerate the opportunity in 5G in North America and Europe or too early to tell?

It’s a very good thought. We’ve considered that certainly, and in the press, you’ve seen more interest and people saying, hey, we need better, more bandwidth, higher speeds. So we’re hopeful that that could have an acceleration. Certainly we’ve seen some of this in our ACS business, where we supply circuit materials used in tablets that are utilized for, obviously, distant learning and so forth. So the pandemic has had some impact on those kinds of opportunities for us.

Got it. And then shifting gears to ADAS, given the sharp declines we’ve seen in SAR [ph] in H1, specifically, in Q2, do you see Q2 as potentially a near-term bottom in terms of demand for your products or just too difficult to say in terms of the crystal ball for H2, and similar question for EV/HEV. Thanks.

Yeah. On the ADAS side, very much tied to traditional automotive, right? Those go into traditional cars as well as EV/HEVs. Across the board, certainly, we’ve seen all the shutdowns announcements of the automotive factories. So certainly Q2, as we said in the prepared remarks, is going to be a down quarter for ADAS. EV/HEV is a bit of another story. We’ll see how well that holds up, given what we’ve seen in the press about some of the EV manufacturers. But certainly you would imagine with consumer confidence waning here people aren’t going to be out buying a lot of automobiles. But maybe the ones they buy will be more oriented towards the EV/HEV side.

Got it. And lastly for me, you gave good color, Mike did as well, in terms of gross margin, understanding that a decent amount of the potential uptick or increase over time will be volume related. Given that, do you see the ability to build off of Q2 levels in coming quarters? Maybe can you quantify the extent to which you can drive margins higher just based on efficiency?

Yeah. I think, again, as I had mentioned to Craig earlier, I still think that we definitely have runway with respect to greater efficiencies, yields, right? So again, if I were to look at the opportunities down the road I still believe that we probably have - if you think about getting from 33% into the upper 30s, I would say probably I still think 35%, 40% of that will be driven by increase in efficiencies, with the other piece of it coming from volume. So, yes, I still, Dan, that we definitely have opportunities to continue to move up the gross margin from performance areas in the second half of the year.

Okay. Thank you for the color.

And there are no further questions at this time…

Okay…

Sorry.

If there is another question, we’re happy to take it.

[Operator Instructions] And you do have an additional question from Craig Ellis with B. Riley FBR.

Thanks for taking the follow up question. Bruce, I wanted to go back to one of the points that came up both in your commentary and in Mike’s comments, and it’s about the level of inventory at fabricators or cutters or elsewhere. All the work we did on inventory throughout the supply chain shows that it was at 10 year lows going into the crisis. And so one of the questions is, while there may have been some restocking that was able to occur in the first quarter, what’s your sense on where inventory levels are downstream from the company? Are they at sufficient levels if we start to get demand recovery or is there really further replenishment that will be needed so that we get to the right level for the new level of uncertainty that we have in the current environment? Thank you.

Thanks for the follow up question, Craig. What we’ve understood and what we’ve seen, and this is specifically in the EMS business, around our converters, our preferred converters, that they’re restocking in anticipation of a rebound here at some point. Now of course the length and depth of the impact of coronavirus on the industrial side of the business is hard to know. But there was a sense, certainly, I’d say mid-quarter in Q1 to build up that inventory in anticipation of maybe coming out of this and making sure that they had materials available. So it’s a good point. Again, it’s very cloudy. But there was a sense certainly that let’s make sure that we’ve got inventory available so when people come back in and start demanding it, they’ve got it on hand. So again, we’ll see how that turns out.

Thank you. Thanks, guys.

And we have an additional question in queue from Daniel Moore with CJS Securities.

Thank you, again. Maybe just a little bit of additional color across geographies, starting with China and then into Europe and the US, where you’ve got good intel on the ground, where were we in terms of the relative impact of COVID, where we are in terms of emerging from it and recovery as far as just production levels and potential interruptions across each of those? Thank you.

So as we said, obviously this whole thing started in China with our Suzhou plant. We’re back up and running, pretty much 100% there in terms of capability. And we’ve seen, I’d say, an interesting amount of demand coming back in, certainly driven by 5G, but also some of the other demand has held up a little bit, tailing off on handhelds. But over all, it’s been pretty solid there. In Europe, again I think what we’ll start to see is some of the impact on the automotive, and that’s a lot of what is supplied out of our two operations there in Europe in the PES side of the business. So I think we’ll start seeing that net effect coming in Q2 on that as well as on the ADAS side, and some of that’s coming out of Europe, as well. And in the United States, we’ve been operating our facilities, all of them. We are a provider of essential materials going into a number of different end markets. And demand, as we outlined, is remaining relatively good; again, variable by market. But we’ll see, again, where we end up at the end of the quarter. As we keep on referring, automotive, probably handhelds and then the knock-on effect on general industrial, which is supporting CapEx-type sales into factories. So factory expansion will go down. We won’t necessarily see strong sales on general industrial because of that. But that’s the way we see it. It was interesting to see the recovery in China of our teams and also the bounce back of some of the demand that came out when everybody got back to work. So hopefully that’ll follow in Europe and North America.

Understood. Thanks again for the color, Bruce.

And there are no further questions at this time. I’ll turn the call back over to management for any closing remarks.

Well, again thank you, everyone, for joining us on today’s call. As we outlined, Rogers is in a very strong position. We continue to focus on our strategic markets. We continue to focus near term to ensure that we’re matching our costs and output with demand that we see in the marketplace, and we’re able to flex and do that. But a robust balance sheet and we continue to seek opportunities to move the company ahead on a strategic nature, as well. So again, thanks for joining us, and have a safe evening and stay well.

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.