Item 2 Management’s Discussion and Analysis of Financial Condition and Results of Operations
Where we say “we”, “us”, “our”, the “Company” or “SMTC”, we mean SMTC Corporation or SMTC Corporation and its subsidiaries, as the context may require. Where we refer to the “industry”, we mean the electronics manufacturing services industry.
You should read this Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) in combination with the accompanying unaudited interim consolidated financial statements and related notes as well as the audited consolidated financial statements and the accompanying notes to the consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) included within the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”)on March 15, 2019. The forward-looking statements in this discussion regarding the electronics manufacturing services industry, our expectations regarding our future performance, liquidity and capital resources and other non-historical statements in this discussion include numerous risks and uncertainties, some of which are as described in the “Risk Factors” section in the Annual Report on Form 10-K filed with the SEC on March 15, 2019, as updated by Item 1A in Part II of this quarterly report. Certain statements in this MD&A contain words such as “could”, “expects”, “may”, “anticipates”, “believes”, “intends”, “estimates”, “plans”, “envisions”, “seeks” and other similar language and are considered forward looking statements or information under applicable securities laws. These statements are based on our current expectations, estimates, forecasts and projections about the operating environment, economies and markets in which we operate. These statements are subject to important assumptions, risks and uncertainties, which are difficult to predict and the actual outcome may be materially different. Except as required by applicable law, we may not update these forward-looking statements after the date of this Form 10-Q, even though our situation may change in the future. All forward-looking statements attributable to us are expressly qualified by these cautionary statements.
This MD&A contains discussion in U.S. dollars (US$) unless specifically stated otherwise.
Background
We are a provider of end-to-end electronics manufacturing services, including product design and engineering services, printed circuit board assembly, production, enclosure, cable assembly, precision metal fabrication, systems integration and comprehensive testing services, configuration to order, build to order and direct order fulfillment. We have more than 50 manufacturing and assembly lines at strategically located facilities in the United States, Canada, Mexico, and China that provide local support and manufacturing capabilities to our global customers. Our services extend over the entire electronic product life cycle from new product development and new product introduction through to growth, maturity and end of life phases. As of September 29, 2019, we had 2,941 employees of which 2,541 were full time and contract employees.
In September 2019, the Company announced it plans to close its Chinese manufacturing operation when its current Dongguan, China facility lease expires in December 2019 as approved by the Board of Directors. The closure of the Dongguan manufacturing facility is intended to reduce the labor force which is anticipated to impact approximately 135 employees at the Dongguan manufacturing facility. Impacted employees were notified in the last week of September 2019. The closure of the Dongguan facility will reduce forecasted losses that would have otherwise been incurred in fiscal 2020 as the Dongguan facility was not expected to be fully utilized. The wind down and closure of the Dongguan facility is anticipated to be substantially completed by the end of the fourth quarter of 2019, however it is expected there will be some continued deregistration and filing requirements in 2020. Manufacturing by the Company of certain products previously manufactured at the Dongguan Facility will be transferred to the Company’s other manufacturing facilities.
During the three months ended September 29, 2019, restructuring charges of $5.5 million were recorded associated with the closure of the Dongguan manufacturing facility. Included in this total are charges of $2.0 million primarily related to severance and other facility closing charges in addition to $0.3 million in property, plant and equipment write down charges, $1.7 million in write down of accounts receivable and $1.5 million in write down of inventory. The majority of the cash outlays associated with the $2.0 million in severance and other facility closing activities are anticipated to be completed by the end of the fourth quarter of 2019.
Results of Operations
The unaudited interim consolidated financial statements of SMTC are prepared in accordance with U.S. GAAP.
Quarter ended September 29, 2019 compared with the quarter ended September 30, 2018:
The following table sets forth summarized operating results in millions of US$ for the periods indicated:
|
|
Three months ended
September 29, 2019
|
|
|
Three months ended
September 30, 2018
|
|
|
Change
2018 to 2019
|
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
Revenue
|
|
|
88.7
|
|
|
|
100.0
|
|
|
|
53.7
|
|
|
|
100.0
|
|
|
|
35.0
|
|
|
|
65.2
|
|
Cost of sales
|
|
|
79.8
|
|
|
|
90.0
|
|
|
|
48.5
|
|
|
|
90.3
|
|
|
|
31.3
|
|
|
|
64.5
|
|
Gross profit
|
|
|
8.9
|
|
|
|
10.0
|
|
|
|
5.2
|
|
|
|
9.7
|
|
|
|
3.7
|
|
|
|
71.2
|
|
Selling, general and administrative expenses
|
|
|
6.6
|
|
|
|
7.4
|
|
|
|
3.7
|
|
|
|
6.9
|
|
|
|
2.9
|
|
|
|
75.7
|
|
Change in fair value of warrant liability
|
|
|
(0.9
|
)
|
|
|
(1.0
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
(0.9
|
)
|
|
|
—
|
|
Restructuring charges
|
|
|
6.4
|
|
|
|
7.2
|
|
|
|
—
|
|
|
|
—
|
|
|
|
6.4
|
|
|
|
—
|
|
Operating income
|
|
|
(3.2
|
)
|
|
|
(3.6
|
)
|
|
|
1.5
|
|
|
|
2.8
|
|
|
|
(4.7
|
)
|
|
|
(313.3
|
)
|
Interest expense
|
|
|
2.7
|
|
|
|
3.0
|
|
|
|
0.5
|
|
|
|
0.9
|
|
|
|
2.2
|
|
|
|
440.0
|
|
Income (loss) before income taxes
|
|
|
(5.9
|
)
|
|
|
(6.7
|
)
|
|
|
1.0
|
|
|
|
1.9
|
|
|
|
(6.9
|
)
|
|
|
(690.0
|
)
|
Income tax expense (recovery)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
(0.1
|
)
|
|
|
(0.1
|
)
|
|
|
0.3
|
|
|
|
0.6
|
|
|
|
(0.4
|
)
|
|
|
(133.3
|
)
|
Deferred
|
|
|
(0.1
|
)
|
|
|
(0.1
|
)
|
|
|
(0.2
|
)
|
|
|
(0.2
|
)
|
|
|
0.1
|
|
|
|
500.0
|
|
|
|
|
(0.2
|
)
|
|
|
(0.2
|
)
|
|
|
0.1
|
|
|
|
0.2
|
|
|
|
(0.3
|
)
|
|
|
(300.0
|
)
|
Net income (loss)
|
|
|
(5.7
|
)
|
|
|
(6.4
|
)
|
|
|
0.9
|
|
|
|
1.7
|
|
|
|
(6.6
|
)
|
|
|
(733.3
|
)
|
Revenue
Industry Sector
|
|
Three months ended
September 29,
2019
|
|
|
Three months ended
September 30,
2018
|
|
|
Change
|
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
Test and Measurement
|
|
|
27.5
|
|
|
|
31.0
|
|
|
|
10.5
|
|
|
|
19.5
|
|
|
|
17.0
|
|
|
|
161.9
|
|
Retail and Payment Systems
|
|
|
10.5
|
|
|
|
11.8
|
|
|
|
10.8
|
|
|
|
20.1
|
|
|
|
(0.3
|
)
|
|
|
(2.8
|
)
|
Telecom, Networking and Communications
|
|
|
9.6
|
|
|
|
10.8
|
|
|
|
10.1
|
|
|
|
18.8
|
|
|
|
(0.5
|
)
|
|
|
(5.0
|
)
|
Medical
|
|
|
10.5
|
|
|
|
11.8
|
|
|
|
7.5
|
|
|
|
14.0
|
|
|
|
3.0
|
|
|
|
40.0
|
|
Industrial, Power and Clean Technology
|
|
|
20.3
|
|
|
|
22.9
|
|
|
|
7.1
|
|
|
|
13.3
|
|
|
|
13.2
|
|
|
|
186
|
|
Semiconductor
|
|
|
5.1
|
|
|
|
5.8
|
|
|
|
7.7
|
|
|
|
14.3
|
|
|
|
(2.6
|
)
|
|
|
(33.8
|
)
|
Aerospace and Defense
|
|
|
5.2
|
|
|
|
5.9
|
|
|
|
—
|
|
|
|
—
|
|
|
|
5.2
|
|
|
|
NA
|
|
Total
|
|
|
88.7
|
|
|
|
100.0
|
|
|
|
53.7
|
|
|
|
100.0
|
|
|
|
35.0
|
|
|
|
65.2
|
|
Revenue increased $35.0 million to $88.7 million for the third quarter of 2019 from $53.7 million in the same period of 2018. With the acquisition of MC Assembly Holdings, Inc. (“MCA”), we recognized additional revenue of $41.0 million during the third quarter of 2019 which was not included in the same period during 2018. Net volume decreases with one customer serviced in the U.S. in the test and measurement sector, represented a decrease in revenue of $1.6 million with an additional $18.5 million in revenue represented from the MCA acquisition. Volume increases of one long-standing retail and payment systems customer serviced in Mexico, offset by volume decreases of one long-standing customer also serviced in Mexico represented a decrease in revenue of $0.3 million. In the telecom, networking and communications sector, an increase in volume from a long-standing customer serviced in Asia was offset by decreased volume from two long standing customers (one serviced in Asia; one serviced in Mexico), and the move of business to other manufacturers from one customer serviced in Asia, resulted in reduced revenue of $2.2 million. An additional $1.8 million in revenue was represented from the MCA acquisition in the telecom, networking and communications sector. Revenue in the medical sector had $3.6 million in revenue resulting from the MCA acquisition, offset by decreased volumes of $1.4 million from one customer serviced in Mexico. In the industrial, power and clean technology sector, one customer serviced in the U.S. had increased volumes, offset by one customer serviced in Mexico with a reduction in volume, representing an increase of $1.0 million in revenue with an additional $11.9 million represented from the MCA acquisition. Two customers serviced in Mexico in the semiconductor sector had decreased volumes resulting in $2.6 million of reduced revenue. Also, revenue in the aerospace and defense sectors increased $5.5 million as a result of the MCA acquisition.
We recorded $3.6 million and $0.6 million of revenue from sales of raw materials inventory to customers during the third quarter of 2019 and the third quarter of 2018, which carried limited margin. The Company purchases raw materials based on customer purchase orders. When a customer requires an order to be altered or changed, the customer is generally obligated to purchase the original on-order raw material at cost, to the extent the materials are not consumed within a specified period.
Due to changes in market conditions, the life cycle of products, the nature of specific programs and other factors, revenue from a particular customer typically varies from quarter-to-quarter and year-to-year. The Company’s ten largest customers represented 53.1% of revenue during the third quarter of 2019, compared with 78.9% in the third quarter of 2018. Revenue from the largest customer during the third quarter of 2019 was $10.9 million representing 12.3% of total revenue. This compares with revenue from the three largest customers during the third quarter of 2018 of $6.9 million, $6.4 million, and $5.8 million representing 12.8%, 12.0% and 10.9% respectively of total revenue. No other customers represented more than 10% of revenue in either period.
During the third quarter of 2019, 64.0% of our revenue was attributable to production from our operations in Mexico, 30.9% of our revenue was attributable to production from our operations in the U.S. and 5.1% of our revenue was attributable to production from our operations in China. During the third quarter of 2018, 73.1% of our revenue was attributable to production from our operations in Mexico, 15.9% of our revenue was attributable to production from our operations in the U.S. and 11.0% of our revenue was attributable to production from our operations in China.
Gross Profit
Gross profit for the third quarter of 2019 increased by $3.7 million to $8.9 million or 10.0% of revenue compared with $5.2 million or 9.7% of revenue for the same period in 2018. When excluding unrealized foreign exchange gains on unsettled forward contracts and amortization of intangible assets, the adjusted gross profit was $10.8 million or 12.1% of revenue for the third quarter of 2019 compared with $5.1 million or 9.6% of revenue for the third quarter of 2018. This was due primarily to the incremental margin earned on $41.0 million of increased revenue from MCA acquisition.
Adjusted Gross Margin Reconciliation:
Adjusted gross margin, a non-GAAP financial measure, is defined as gross profit exclusive of unrealized foreign exchange gains or losses on unsettled forward foreign exchange contracts and the amortization of intangible assets. Management presents adjusted gross margin as management considers gross margins exclusive of such unrealized foreign exchange gains or losses on unsettled forward foreign exchange contracts to be a meaningful measure as it is non-cash and management does not consider the mark-to-market valuation reflective of operating performance in the current period. Management also excludes the impact of intangible assets amortization as these charges are non-cash in nature and are not believed to be reflective of operating performance. We also believe adjusted gross margin provides useful information to investors in understanding and evaluating our operating results in the same manner as management.
Below is the reconciliation from the financial statement presentation of gross profit to the non-GAAP measure of adjusted gross profit:
|
|
Three months
ended
September, 2019
|
|
|
Three months
ended
September 30, 2018
|
|
Gross profit
|
|
$
|
8,906
|
|
|
$
|
5,237
|
|
Add:
|
|
|
|
|
|
|
|
|
Unrealized foreign exchange gains on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(108
|
)
|
Amortization of intangible assets
|
|
|
1,844
|
|
|
|
—
|
|
Adjusted gross profit
|
|
$
|
10,750
|
|
|
$
|
5,129
|
|
Adjusted gross profit percentage
|
|
|
12.1
|
%
|
|
|
9.6
|
%
|
EBITDA and Adjusted EBITDA Reconciliation:
EBITDA and Adjusted EBITDA, non-GAAP financial measures, are defined as earnings before interest, income taxes, depreciation and amortization, with Adjusted EBITDA also excluding restructuring charges, stock-based compensation, fair value adjustment of warrant liability, fair value adjustment to contingent consideration, merger and acquisition related expenses and unrealized foreign exchange gains and losses on unsettled forward foreign exchange contracts. Management presents EBITDA and Adjusted EBITDA, as it is utilized by management to monitor performance against budget as well as compliance with covenants governing our Credit Facilities (as defined below). We also believe EBITDA and Adjusted EBITDA provide useful information to investors in understanding and evaluating our operating results in the same manner as management.
Below is the reconciliation of net (loss) income, the closest GAAP measure, to EBITDA and Adjusted EBITDA.
|
|
Three months
ended
September 29, 2019
|
|
|
Three months
ended
September 30, 2018
|
|
Net (loss) income
|
|
$
|
(5,734
|
)
|
|
$
|
864
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation of property, plant and equipment
|
|
|
1,649
|
|
|
|
883
|
|
Amortization of intangible assets
|
|
|
1,844
|
|
|
|
—
|
|
Interest
|
|
|
2,679
|
|
|
|
485
|
|
Income taxes
|
|
|
(184
|
)
|
|
|
145
|
|
EBITDA
|
|
$
|
254
|
|
|
$
|
2,377
|
|
|
|
|
|
|
|
|
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restructuring charges
|
|
|
6,454
|
|
|
|
58
|
|
Stock based compensation
|
|
|
353
|
|
|
|
75
|
|
Fair value adjustment of warrant liability
|
|
|
(858
|
)
|
|
|
—
|
|
Merger and acquisition related expenses
|
|
|
68
|
|
|
|
—
|
|
Unrealized foreign exchange gain on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(108
|
)
|
Adjusted EBITDA
|
|
$
|
6,271
|
|
|
$
|
2,402
|
|
Adjusted EBITDA for three months ended September 29, 2019 increased by $3.9 million to $6.3 million compared with $2.4 million for the same period in 2018 due in large part to the acquisition of MC Assembly, which represented an increase in Adjusted EBITDA of $3.3 million compared to the same period in the prior year.
Net Income (Loss) and Adjusted Net Income (Loss) Reconciliation:
Adjusted Net Income (Loss), a non-GAAP financial measure, is defined as Net Income (Loss) before amortization of intangible assets, restructuring charges, stock-based compensation, fair value adjustment of warrant liability, fair value adjustment to contingent consideration, merger and acquisition related expenses and unrealized foreign exchange gains and losses on unsettled forward foreign exchange contracts. Management presents Adjusted Net Income (Loss), as it is believed the information is useful to investors in understanding and evaluating our operating results as it aligns the net income (loss) with those adjustments made to EBITDA and gross profit.
Below is the reconciliation of net loss to Adjusted Net (Loss) Income:
|
|
Three months
ended
September 29, 2019
|
|
|
Three months
ended
September 30, 2018
|
|
Net (loss) income
|
|
$
|
(5,734
|
)
|
|
$
|
864
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of intangible assets
|
|
|
1,844
|
|
|
|
—
|
|
Restructuring charges
|
|
|
6,454
|
|
|
|
58
|
|
Stock based compensation
|
|
|
353
|
|
|
|
75
|
|
Fair value adjustment of warrant liability
|
|
|
(858
|
)
|
|
|
—
|
|
Merger and acquisition related expenses
|
|
|
68
|
|
|
|
—
|
|
Unrealized foreign exchange gain on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(108
|
)
|
Adjusted Net Income
|
|
$
|
2,127
|
|
|
$
|
889
|
|
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased to $6.5 million in the third quarter of 2019 from $3.7 million in the same period in 2018, with $2.2 million of the selling general and administrative expenses increase in the third quarter of 2019 related to the MCA acquisition which were not reflected in the same period in the prior year. Therefore selling, general and administrative expenses increased to 7.3% of revenue in the third quarter of 2019 up from 6.9% of revenue in the same period in 2018.
Change in fair value of warrant liability
For the three months ended September 29, 2019 the Company recorded a $0.9 million gain as a result of the valuation of the 504,735 outstanding warrants issued to TCW. The fair value has been assessed at $2.13 per unit or $1,090 as at September 29, 2019 which was a reduction in the stock price from the prior valuation assessment at June 30, 2019.
Restructuring Charges
During the third quarter of 2019, restructuring charges of $5.5 million were accrued related to the Company’s previously announced closure of business operations in Dongguan, China, in addition to $0.9 million were incurred related to the reduction of 19 full-time equivalents (“FTEs”) in U.S, 4 FTEs in Canada and 89 FTEs and contract employees in Mexico. The $5.5 million of restructuring charges related to estimated closure costs of the Dongguan facility. These charges include $2.0 million of severance and other facility closure activities primarily related to severance charges of $1.4 million the reduction of 137 FTEs in addition to tax and duties accrued of $0.2 million and equipment decommissioning and facility charges of $0.4 million. In addition, included in the restructuring charges is a $1.7 million write down of accounts receivable, $1.5 million write down of inventory and $0.3 million write down of property, plant and equipment.
Interest Expense
Interest expense increased to $2.7 million in the third quarter of 2019 compared to $0.5 million in the same period in 2018. The increase was primarily the result of a higher average debt balance in the third quarter of 2019 and higher interest rates compared to the same period in 2018, specifically with $39.4 million of debt outstanding on the Term A Loan Facility related to financing the MCA acquisition. In addition to higher revolving credit facility balance utilized to support working capital needs of Company post acquisition of MCA. The weighted average interest rates with respect to the debt on our Credit Facilities was 12.2%. The weighted average interest rates with respect to the debt on our predecessor PNC Facility (as defined below) was 5.9% for the third quarter of 2018.
Income Tax Expense
The Company recorded current income tax recovery of $0.1 million and expense $0.3 million, respectively, for each of the third quarters of 2019 and 2018, in connection with U.S. state taxes and taxes on profits in certain foreign jurisdictions, and deferred income tax benefit of $0.1 million and deferred income tax expense of $0.1 million, respectively, for each of the second quarters of 2019 and 2018, in connection with temporary differences related to the Mexican operations. The recovery for the three months ended September 29, 2019 was due to recovery of taxes from the prior year, in addition to reduction of 2019 estimated taxes.
Nine months ended September 29, 2019 compared with the nine months ended September 30, 2018:
The following table sets forth summarized operating results in millions of US$ for the periods indicated:
|
|
Nine months ended
September 29, 2019
|
|
|
Nine months ended
September 30, 2018
|
|
|
Change
2018 to 2019
|
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
Revenue
|
|
|
282.3
|
|
|
|
100.0
|
|
|
|
135.3
|
|
|
|
100.0
|
|
|
|
147.0
|
|
|
|
108.6
|
|
Cost of sales
|
|
|
255.7
|
|
|
|
90.6
|
|
|
|
121.9
|
|
|
|
90.1
|
|
|
|
133.8
|
|
|
|
109.8
|
|
Gross profit
|
|
|
26.6
|
|
|
|
9.4
|
|
|
|
13.4
|
|
|
|
9.9
|
|
|
|
13.2
|
|
|
|
98.5
|
|
Selling, general and administrative expenses
|
|
19.9
|
|
|
|
7.0
|
|
|
|
10.8
|
|
|
|
8.0
|
|
|
|
9.1
|
|
|
|
84.3
|
|
Change in fair value of warrant liability
|
|
|
(0.9
|
)
|
|
|
(0.3
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
(0.9
|
)
|
|
|
|
|
Change in fair value of contingent consideration
|
|
|
(3.0
|
)
|
|
|
(1.1
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
(3.0
|
)
|
|
|
|
|
Restructuring charges
|
|
|
8.6
|
|
|
|
3.0
|
|
|
|
0.2
|
|
|
|
0.1
|
|
|
|
8.4
|
|
|
|
4,200.0
|
|
Operating income
|
|
|
2.0
|
|
|
|
0.7
|
|
|
|
2.4
|
|
|
|
1.8
|
|
|
|
(0.4
|
)
|
|
|
(16.7
|
)
|
Interest expense
|
|
|
8.4
|
|
|
|
3.0
|
|
|
|
1.2
|
|
|
|
0.9
|
|
|
|
7.2
|
|
|
|
600.0
|
|
Income (loss) before income taxes
|
|
|
(6.4
|
)
|
|
|
(2.3
|
)
|
|
|
1.2
|
|
|
|
0.9
|
|
|
|
(7.6
|
)
|
|
|
(633.3
|
)
|
Income tax expense
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
0.6
|
|
|
|
0.2
|
|
|
|
0.6
|
|
|
|
0.4
|
|
|
|
—
|
|
|
|
—
|
|
Deferred
|
|
|
—
|
|
|
|
—
|
|
|
|
(0.2
|
)
|
|
|
(0.1
|
)
|
|
|
(0.2
|
)
|
|
|
100.0
|
|
|
|
|
0.6
|
|
|
|
0.2
|
|
|
|
0.4
|
|
|
|
0.3
|
|
|
|
0.2
|
|
|
|
50.0
|
|
Net (loss) income
|
|
|
(7.0
|
)
|
|
|
(2.5
|
)
|
|
|
0.8
|
|
|
|
0.6
|
|
|
|
(7.8
|
)
|
|
|
(975.0
|
)
|
Revenue
Industry Sector
|
|
Nine months ended
September 29,
2019
|
|
|
Nine months ended
September 30,
2018
|
|
|
Change
|
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
|
$
|
|
|
%
|
|
Test and Measurement
|
|
|
90.6
|
|
|
|
32.1
|
|
|
|
24.8
|
|
|
|
18.3
|
|
|
|
65.8
|
|
|
|
265.3
|
|
Retail and Payment Systems
|
|
|
35.5
|
|
|
|
12.6
|
|
|
|
27.2
|
|
|
|
20.1
|
|
|
|
8.3
|
|
|
|
30.5
|
|
Telecom, Networking and Communications
|
|
|
28.4
|
|
|
|
10.1
|
|
|
|
24.8
|
|
|
|
18.4
|
|
|
|
3.6
|
|
|
|
14.5
|
|
Medical
|
|
|
34.2
|
|
|
|
12.1
|
|
|
|
22.1
|
|
|
|
16.3
|
|
|
|
12.1
|
|
|
|
54.8
|
|
Industrial, Power and Clean Technology
|
|
|
58.4
|
|
|
|
20.7
|
|
|
|
15.6
|
|
|
|
11.5
|
|
|
|
42.8
|
|
|
|
274.4
|
|
Semiconductor
|
|
|
18.2
|
|
|
|
6.4
|
|
|
|
20.8
|
|
|
|
15.4
|
|
|
|
(2.6
|
)
|
|
|
(12.5
|
)
|
Aerospace and Defense
|
|
|
17.0
|
|
|
|
6.0
|
|
|
|
—
|
|
|
|
—
|
|
|
|
17.0
|
|
|
|
NA
|
|
Total
|
|
|
282.3
|
|
|
|
100.0
|
|
|
|
135.3
|
|
|
|
100.0
|
|
|
|
147.0
|
|
|
|
108.6
|
|
Revenue increased $147.0 million to $282.3 million for the first nine months of 2019 from $135.3 million in the first nine months of 2018. With the acquisition of MCA, we reported additional revenue of $122.8 million during the first nine months of 2019 which was not included in the same period in the prior year. Volume increases with two customer serviced in the U.S., along with one new customer serviced in China, partially offset by volume decreases with one customer serviced in Mexico in the test and measurement sector, represented an increase in revenue of $7.6 million with an additional $58.3 million represented from the MCA acquisition. Two long-standing retail and payment systems customers serviced in Mexico represented an increase in revenue of $7.5 million. In the telecom, networking and communications sector an increase in volume from one customer serviced in Asia, offset by decreases in volume from three customers (one serviced in Asia; one serviced in Mexico; and one serviced in the U.S.), and the move of business to other manufacturers from one customer serviced in Asia, represented a decrease in revenue of $1.9 million, with an additional $5.3 million of revenue from the MCA acquisition. In the industrial, power and clean technology sector one customer serviced in the U.S. had increased volumes representing an increase of $10.0 million in revenue with additional $30.1 million driven by the MCA acquisition. Also, revenue increased as a result of the MCA acquisition in the medical, and aerospace and defense sectors totaling $11.9 million and $17.3 million respectively.
We recorded $8.0 million and $1.9 million of revenue from sales of raw materials inventory to customers during the first nine months of 2019 and the first nine months of 2018, respectively, which carried limited margin.
Due to changes in market conditions, the life cycle of products, the nature of specific programs and other factors, revenue from a particular customer typically varies from quarter-to-quarter and year-to-year. The Company’s ten largest customers represented 54.0% of revenue during the first nine months of 2019, compared with 78.5% in the first nine months of 2018. Revenue from the largest customer during the first nine months of 2019 was $36.7 million representing 13.0% of total revenue. This compares with revenue from the two largest customers during the first nine months of 2018 of $18.2 million and $14.1 million representing 13.5% and 10.4% respectively of total revenue. No other customers represented more than 10% of revenue in either period.
During the first nine months of 2019, 64.2% of our revenue was attributable to production from our operations in Mexico, 30.6% of our revenue was attributable to production from our operations in the U.S. and 5.2% of our revenue was attributable to production from our operations in China. During the first nine months of 2018, 76.3% of our revenue was attributable to production from our operations in Mexico, 14.0% of our revenue was attributable to production from our operations in the U.S. and 9.7% of our revenue was attributable to production from our operations in China.
Gross Profit
Gross profit for the first nine months of 2019 increased by $13.2 million to $26.6 million or 9.4% of revenue compared with $13.4 million or 9.9% of revenue for the same period in 2018. When excluding unrealized foreign exchange gains on unsettled forward contracts and amortization of intangible assets, the adjusted gross profit was $32.1 million or 11.4% of revenue for the first nine months of 2019 compared with $13.0 million or 9.6% of revenue for the first nine months of 2018. This was due primarily to incremental margin on $124.4 million of additional revenue due to the acquisition of MCA. The decrease in gross profit percentage was due in part to the amortization of intangible assets of $5.5 million included in cost of sales that was not included in the same period in the prior year.
Adjusted Gross Margin Reconciliation:
Adjusted gross margin, a non-GAAP financial measure, is defined as gross profit exclusive of unrealized foreign exchange gains or losses on unsettled forward foreign exchange contracts and the amortization of intangible assets. Management presents adjusted gross margin as management considers gross margins exclusive of such unrealized foreign exchange gains or losses on unsettled forward foreign exchange contracts to be a meaningful measure as it is non-cash and management does not consider the mark-to-market valuation reflective of operating performance in the current period. Management also excludes the impact of intangible assets amortization as these charges are non-cash in nature and are not believed to be reflective of operating performance. We also believe adjusted gross margin provides useful information to investors in understanding and evaluating our operating results in the same manner as management.
Below is the reconciliation from the financial statement presentation of gross profit to the non-GAAP measure of adjusted gross profit:
|
|
Nine months
ended
September 29, 2019
|
|
|
Nine months
ended
September 30, 2018
|
|
Gross profit
|
|
$
|
26,527
|
|
|
$
|
13,370
|
|
Add:
|
|
|
|
|
|
|
|
|
Unrealized foreign exchange gains on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(338
|
)
|
Amortization of intangible assets
|
|
|
5,532
|
|
|
|
—
|
|
Adjusted gross profit
|
|
$
|
32,059
|
|
|
$
|
13,032
|
|
Adjusted gross profit percentage
|
|
|
11.4
|
%
|
|
|
9.6
|
%
|
EBITDA and Adjusted EBITDA Reconciliation:
EBITDA and Adjusted EBITDA, non-GAAP financial measures, are defined as earnings before interest, income taxes, depreciation and amortization, with Adjusted EBITDA also excluding restructuring charges, stock-based compensation, fair value adjustment of warrant liability, fair value adjustment to contingent consideration, merger and acquisition related expenses and unrealized foreign exchange gains and losses on unsettled forward foreign exchange contracts. Management presents EBITDA and Adjusted EBITDA, as it is utilized by management to monitor performance against budget as well as compliance with covenants governing our Credit Facilities. We also believe EBITDA and Adjusted EBITDA provide useful information to investors in understanding and evaluating our operating results in the same manner as management.
Below is the reconciliation of net (loss) income, the closest GAAP measure, to EBITDA and Adjusted EBITDA.
|
|
Nine months
ended
September 29, 2019
|
|
|
Nine months
ended
September 30, 2018
|
|
Net (loss) income
|
|
$
|
(6,991
|
)
|
|
$
|
775
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation of property, plant and equipment
|
|
|
4,902
|
|
|
|
2,426
|
|
Amortization of intangible assets
|
|
|
5,532
|
|
|
|
—
|
|
Interest
|
|
|
8,349
|
|
|
|
1,195
|
|
Income taxes
|
|
|
606
|
|
|
|
405
|
|
EBITDA
|
|
$
|
12,398
|
|
|
$
|
4,801
|
|
|
|
|
|
|
|
|
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restructuring charges
|
|
|
8,624
|
|
|
|
154
|
|
Stock based compensation
|
|
|
538
|
|
|
|
278
|
|
Fair value adjustment of warrant liability
|
|
|
(919
|
)
|
|
|
—
|
|
Fair value adjustment to contingent consideration
|
|
|
(3,050
|
)
|
|
|
—
|
|
Merger and acquisition related expenses
|
|
|
232
|
|
|
|
—
|
|
Unrealized foreign exchange gain on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(338
|
)
|
Adjusted EBITDA
|
|
$
|
17,823
|
|
|
$
|
4,895
|
|
Adjusted EBITDA for nine months ended September 29, 2019 increased by $12.9 million to $17.8 million compared with $4.9 million for the same period in 2018 due primarily to the acquisition of MCA, which represented an increase in Adjusted EBITDA of $10.3 million which was not included in the results in the same period in the prior year.
Net Income (Loss) and Adjusted Net Income Reconciliation:
Adjusted Net Income (Loss), a non-GAAP financial measure, is defined as Net Income (Loss) before amortization of intangible assets, restructuring charges, stock-based compensation, fair value adjustment of warrant liability, fair value adjustment to contingent consideration, merger and acquisition related expenses and unrealized foreign exchange gains and losses on unsettled forward foreign exchange contracts. Management presents Adjusted Net Income (Loss), as it is believed the information is useful to investors in understanding and evaluating our operating results as it aligns the net income (loss) with those adjustments made to EBITDA and gross profit.
Below is the reconciliation of net (loss) income to Adjusted Net (Loss) Income:
|
|
Nine months
ended
September 29, 2019
|
|
|
Nine months
ended
September 30, 2018
|
|
Net (loss) income
|
|
$
|
(6,991
|
)
|
|
$
|
775
|
|
Add:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization of intangible assets
|
|
|
5,532
|
|
|
|
—
|
|
Restructuring charges
|
|
|
8,624
|
|
|
|
154
|
|
Stock based compensation
|
|
|
538
|
|
|
|
278
|
|
Fair value adjustment of warrant liability
|
|
|
(919
|
)
|
|
|
—
|
|
Fair value adjustment to contingent consideration
|
|
|
(3,050
|
)
|
|
|
—
|
|
Merger and acquisition related expenses
|
|
|
232
|
|
|
|
—
|
|
Unrealized foreign exchange gain on unsettled forward exchange contracts
|
|
|
—
|
|
|
|
(338
|
)
|
Adjusted Net Income
|
|
$
|
3,966
|
|
|
$
|
869
|
|
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased to $19.9 million in the first nine months of 2019 from $10.8 million in the same period in 2018, with $7.0 million of the selling general and administrative expenses increase related to MCA which were not reflected in the same period in the prior year. However, selling, general and administrative expenses decreased to 7.1% of revenue in the first nine months of 2019 down from 8.0% of revenue in the same period in 2018 due to increase in revenue and certain cost reductions and savings from restructuring that occurred in the first nine months of 2019.
Change in fair value of warrant liability
For the nine months ended September 29, 2019 the Company recorded a $0.9 million gain as a result of the valuation of the 504,735 outstanding warrants issued to TCW. The fair value has been assessed at $2.13 per unit or $1,090 as at September 29, 2019 which was a reduction in the stock price from the prior valuation assessment at December 30, 2018.
Change in fair value of contingent consideration
During the first quarter of 2019, the fair value of the contingent consideration liability was determined to be $Nil resulting in a gain of $3.0 million being recognized. The contingent consideration liability was initially recognized at fair value in the fourth quarter of 2018 and relates to a contingent earn-out payment associated with the acquisition of MCA. Fair value estimate under purchase accounting of $3.0 million was derived from a multiple of earnings based on MCA’s forecasted twelve-month earnings for the period ended March 31, 2019. Based on actual earnings, the contingent consideration liability was considered resolved and no longer payable as at March 31, 2019.
Restructuring charges
During the first nine months of 2019, $8.6 million of restructuring charges were incurred related to the reduction of 137 FTEs in China, 28 FTEs in U.S., 4 FTEs in Canada and 459 FTEs and contract employees in Mexico. The majority of the charges were incurred during the three months ended September 29, 2019 as it related to the closure of the Dongguan manufacturing facility. During the three months ended September 29, 2019, restructuring charges of $5.5 million were incurred related to Dongguan facility exit, in addition to $0.9 million were incurred related to the reduction of 19 FTEs in U.S, 4 FTEs in Canada and 89 FTEs and contract employees in Mexico. The $5.5 million of restructuring charges related to estimated closure costs of the Dongguan facility. These charges include $2.0 million of severance and other facility closure activities primarily related to severance charges of $1.4 million the reduction of 137 FTEs in addition to tax and duties accrued of $0.2 million and equipment decommissioning and facility charges of $0.4 million. In addition, included in the restructuring charges is a $1.7 million write down of accounts receivable, $1.5 million write down of inventory and $0.3 million write down of property, plant and equipment.
Interest Expense
Interest expense increased to $8.4 million in the first nine months of 2019 compared to $1.2 million in the same period in 2018. The increase was primarily the result of debt incurred to finance the acquisition of MCA, in addition to higher average interest rates compared to the same period in 2018. The weighted average interest rates with respect to the debt on our Credit Facilities was 10.5%. The weighted average interest rates with respect to the debt on our predecessor PNC Facility was 5.7% for 2018.
Income Tax Expense
The Company recorded current income tax expense of $0.6 million and $0.6 million, respectively, for each of first nine months of 2019 and 2018, in connection with U.S. state taxes and taxes on profits in certain foreign jurisdictions, and deferred income tax expense of $NIL million and benefit of $0.2 million for each of first nine months of 2019 and 2018, in connection with temporary differences related to the Mexican operations.
Liquidity
As at September 29, 2019, the Company’s liquidity is comprised of $0.6 million in cash on hand and $21.4 million of funds available to borrow under the PNC Facility which matures on November 8, 2023. The Company funds its operations by regularly utilizing its PNC Facility (refer to Note 5). The Company manages it capital requirements through budgeting and forecasting processes while monitoring for compliance with bank covenants. Funds available under the PNC Facility are managed on a weekly basis based on the cash flow requirements of the various operating segments. Cash flows generated from operations are immediately applied towards paying down the PNC Facility.
Net cash generated in operating activities during the first nine months ended September 29, 2019 was $2.6 million. Cash of $8.6 million was used from accounts payable due to timing of payments. Accounts payable days outstanding decreased to 71 days for the first nine months of 2019 compared to 73 days for the first nine months of 2018. Working capital changes related to $3.7 million decrease in inventory offset by the $6.4 million of increase in unbilled contract assets. Inventory turnover, on an annualized basis was 4.4 times for the first nine months of 2019 compared to 4.9 times for the first nine months of 2018. The reduction in inventory turns was due in large part to timing of inventory receipts due to demand changes not entirely offset by revenue levels. Accounts receivable days outstanding was 61 days for the first nine months of 2019 and 2018.
Net cash used from financing activities during the first nine months of 2019 was $0.4 million. During the nine months ended September 29, 2019, the Company generated net cash by $14.0 million from issuance of common stock through the Rights Offering (as defined below). The Company made net advances from the revolving credit facility of $9.8 million compared to $4.5 million for the same period in 2018. The Company also paid down its long-term debt in the amount of $22.6 million and $1.5 million, respectively in the nine months ended September 29, 2019 and September 30, 2018. Principal repayments on capital lease obligations were $1.2 million in the nine months ended September 29, 2019 compared to $0.2 million in the same period in prior year.
Net cash used in investing activities during the nine months ended September 29, 2019 was $3.2 million compared to $3.9 million in the same period of 2018, related to capital asset purchases.
Capital Resources
The Company borrows money under an Amended and Restated Revolving Credit and Security Agreement with PNC Bank, National Association (“PNC”), which governs the Company’s Revolving Credit Facility (“PNC Facility”). The PNC Facility has a term ending on November 8, 2023. Advances made under the PNC Facility bear interest at the U.S. base rate plus an applicable margin ranging from 0.75% to 1.25%, or LIBOR plus an applicable margin ranging from 2.50% to 3.00%. The base commercial lending rate should approximate U.S. prime rate.
The Company also borrows money under a Financing Agreement (the “Financing Agreement”), by and among us and certain of our subsidiaries, the lenders party to the Financing Agreement from time to time (collectively, the “Lenders”), and TCW Asset Management Company LLC, as collateral agent for the Lenders (“TCW”), which governs a term loan A facility (“Term A Loan Facility” and, together with the PNC Facility, the “Credit Facilities”), and previously governed a term loan B facility (the “Term Loan B Facility”) until it was repaid in full on July 3, 2019 with a portion of the proceeds from the Offerings (as defined below). The Term A Loan Facility matures on November 8, 2023 (the “Maturity Date”). The Term Loan A Facility bears interest LIBOR plus an applicable margin of 8.75% through June 30, 2020, and borrowings under the Financing Agreement will thereafter bear interest at LIBOR plus an applicable margin ranging from 7.25% to 8.75%. Payments made under the Term Loan A Facility at any time prior to the Maturity Date (other than scheduled amortization payments and mandatory prepayments) are subject to an applicable premium equal to the amount of such payment multiplied by (i) 3.00% in the event that such payment occurs before November 8, 2019, (ii) 2.00% in the event that such payment occurs after the November 8, 2019 and on or before November 8, 2020 and (iii) 1.00% in the event that such payment occurs after November 8, 2020 and on or before November 8, 2021. No such applicable premium is payable for any payment of loans made under the Term Loan A Facility occurring after November 8, 2021.
On August 8, 2019, the Company and certain of its subsidiaries entered into that certain Amendments No. 2 to the Amended and Restated Revolving Credit and Security Agreement (the “PNC Amendment No. 2”) and that certain Amendment No. 3. to the Financing Agreement (the “TCW Amendment No. 3”). The PNC Amendment No. 2, among other things, (i) increased the total amount available for borrowings under the PNC Facility to $65,000, (ii) provided for borrowings of up to $15,000 on assets located in Mexico, (iii) provided that borrowings under the PNC Facility bear interest at the U.S. base rate plus an applicable margin ranging from 0.75% to 1.25%, or LIBOR plus an applicable margin ranging from 2.50% to 3.00%, (iv) reset the financial covenants, and (v) permitted the pay down of the Term A Loan Facility by up to $10,000. The TCW Amendment No. 3, among other things, (i) provided for a $20,000 increase in the total amount available for borrowings under the PNC Facility, (ii) provided for the pay down of the Term A Loan Facility by up to $10,000, (iii) provided that the interest rate for borrowings under the Financing Agreement was reset to LIBOR plus an applicable margin of 8.75% through June 30, 2020, and borrowings under the Financing Agreement will thereafter bear interest at LIBOR plus an applicable margin ranging from 7.25% to 8.75%, (iv) deleted the senior leverage ratio covenant, (v) amended the total leverage ratio covenant, including the definition of total leverage ratio, to increase the maximum total leverage on a quarterly basis beginning with the fiscal quarter ended September 30, 2019, (vi) amended the fixed charge coverage ratio covenant to decrease the minimum fixed charge coverage ratio on a quarterly basis beginning with the fiscal quarter ending September 30, 2020 through the fiscal quarter ending December 31, 2021 and (vii) reset the call protection on the Term Loan A Facility.
On September 27, 2019, the Company and certain of its subsidiaries entered into that certain Amendments No. 3 to the Amended and Restated Revolving Credit and Security Agreement (the “PNC Amendment No. 3”) and that certain Amendment No. 4. to the Financing Agreement (the “TCW Amendment No. 4”). The PNC Amendment No. 3, among other things, amended the (i) definition of “Consolidated EBITDA” by permitting an addback for restructuring and transition costs and charges incurred on or before December 31, 2020 in connection with the Company’s previously announced closure of business operations in Dongguan, China, subject to certain exceptions, not to exceed (a) with respect to cash restructuring costs, $2,300, (b) with respect to write-offs of accounts receivable, $1,623, and (c) with respect to write-offs of Inventory (as defined in the Amended and Restated Revolving Credit and Security Agreement), $1,607, (ii) definition of “Permitted Intercompany Investments” by permitting certain investments by a Domestic Loan Party (as defined in the Amended and Restated Revolving Credit and Security Agreement) to or in SMTC Electronics Dongguan Company Limited, a limited liability company organized under the laws of China (“SMTC Dongguan”), solely to facilitate the closure of business operations in Dongguan, China, so long as, among other things, (a) such Investments (as defined in the PNC Agreement) are made prior to March 31, 2020, (b) the aggregate amount of all such Investments does not exceed $2,300 during the term of the Amended and Restated Revolving Credit and Security Agreement, (c) the Borrowers (as defined in the Amended and Restated Revolving Credit and Security Agreement) maintain certain minimum liquidity requirements and (iii) negative covenant regarding excess cash. The TCW Amendment No. 4, among other things, amended the (i) definition of “Consolidated EBITDA” by permitting an addback for restructuring and transition costs and charges incurred on or before December 31, 2020 in connection with the closure of business operations in Dongguan, China, subject to certain exceptions, not to exceed (a) with respect to cash restructuring costs, $2,300, (b) with respect to write-offs of accounts receivable, $1,623, and (c) with respect to write-offs of Inventory (as defined in the Financing Agreement), $1,607, (ii) definition of “Permitted Intercompany Investments” by permitting certain investments by a Domestic Loan Party (as defined in the Financing Agreement) to or in SMTC Dongguan solely to facilitate the closure of business operations in Dongguan, China, so long as, among other things, (a) such Investments (as defined in the Financing Agreement) are made prior to March 31, 2020, (b) the aggregate amount of all such Investments does not exceed $2,300 during the term of the Financing Agreement and (c) the Borrowers (as defined in the Financing Agreement) maintain certain minimum liquidity requirements and (iii) negative covenant regarding excess cash.
The Credit Facilities are joint and several obligations of the Company and its subsidiaries that are borrowers under the facilities and are jointly and severally guaranteed by other subsidiaries of the Company. Repayment under the PNC Facility and Term A Loan Facility are collateralized by the assets of the Company and each of its subsidiaries. The Credit Facilities contain certain financial and non-financial covenants. The financial covenants under each Credit Facility require the Company to maintain a fixed charge coverage ratio and a total leverage ratio quarterly during the term of the Credit Facilities. The Company is in compliance with the financial covenants included in the Credit Facilities as at September 29, 2019. Management projects compliance with the financial covenants included in the Credit Facilities.
We believe that cash we expect to generate from operations, available cash and amounts available under our Credit Facilities will be adequate to meet our debt service requirements, capital expenditures and working capital needs at our current level of operations for the next twelve months, although no assurance can be given in this regard, particularly with respect to amounts available from lenders. We have agreed to a borrowing base formula under which the amount we are permitted to borrow under the PNC Facility is based on our accounts receivable and inventory. Further, there can be no assurance that our business will generate sufficient cash flow from operations or that future borrowings will be available to enable us to service our indebtedness. Our future operating performance and ability to service indebtedness will be subject to future economic conditions and to financial, business and other factors, certain of which are beyond our control.
Rights Offering and Registered Direct Offering
In June 2019, the Company completed its (i) offering of subscription rights (the “Rights Offering”) to the Company’s stockholders and holders of the Company’s outstanding warrants as of the close of business on May 24, 2019, which was fully subscribed for the maximum offering amount of $9.1 million and (ii) registered direct offering (the “Registered Direct Offering” and, together with the Rights Offering, the “Offerings”) of 1,732,483 shares of the Company’s common stock directly to certain investors, resulting in net proceeds to the Company of approximately $14.0 million, after deducting the offering expenses and fees payable the Company. The proceeds of the Offerings were used, in part, to repay the Term Loan B Facility in full as at July 3, 2019.
Off Balance Sheet Arrangements
As of September 29, 2019, the Company had no material off balance sheet arrangements as defined by the rules of the SEC.