Item 2. Management’s Discussion and Analysis
ITEM 2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The discussion and analysis below describe material changes in financial condition and results of operations as reflected in our condensed consolidated financial statements for the three months ended March 31, 2023 and 2022. This discussion and analysis should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our 2022 Form 10-K.
Business Overview
CVG is a global provider of systems, assemblies and components to the global commercial vehicle market, the electric vehicle market, and the industrial automation markets. We deliver real solutions to complex design, engineering and manufacturing problems while creating positive change for our customers, industries, and communities we serve.
We have manufacturing operations in the United States, Mexico, China, United Kingdom, Czech Republic, Ukraine, Thailand, India, Australia and Morocco. Our products are primarily sold in North America, Europe, and the Asia-Pacific region.
We primarily manufacture customized products to meet the requirements of our customer. We believe our products are used by a majority of the North American Commercial Truck markets, many construction vehicle OEMs parts and service dealers distributors, as well as top e-commerce retailers.
Key Developments
During the quarter ended March 31, 2023, CVG established two new plant locations: one in Tangier, Morocco, and another in Aldama, Mexico. Both locations are expected to be large scale facilities and production is targeted for third quarter of 2023. These plants are a cornerstone in CVG's strategy of expanding its electrification systems business.
Consolidated Results of Operations
Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022
The table below sets forth certain consolidated operating data for the three months ended March 31 (dollars are in thousands):
2023 2022 $ Change % Change
Revenues $ 262,709 $ 244,374 $ 18,335 7.5%
Gross profit 35,209 25,383 9,826 38.7
Selling, general and administrative expenses 20,565 16,999 3,566 21.0
Other (income) expense (202) 1,041 (1,243) NM 1
Interest expense 2,890 1,961 929 47.4
Provision for income taxes 3,256 1,400 1,856 132.6
Net income 8,700 3,982 4,718 118.5
1. Not meaningful
Revenues . The increase in consolidated revenues resulted from:
• a $40.0 million, or 24.1%, increase in sales to OEM;
• a $21.9 million, or (69.2)%, decrease in industrial automation sales;
• a $0.4 million, or (1.0)%, decrease in aftermarket and OES sales; and
• a $0.7 million, or 20.1%, increase in other revenues.
First quarter 2023 revenues were unfavorably impacted by foreign currency exchange translation of $3.6 million, which is reflected in the change in revenues above. The increase in revenues was primarily driven by increased pricing to offset material cost increases and increased sales volume, offset by sales volume decreases in the Industrial Automation segment.
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Gross Profit . Included in gross profit is cost of revenues, which consists primarily of raw materials and purchased components for our products, wages and benefits for our employees and overhead expenses such as manufacturing supplies, facility rent and utilities costs related to our operations. The $9.8 million increase in gross profit is primarily attributable to the increase in sales volume. Cost of revenues increased $8.5 million, or 3.9%, as a result of an increase in raw material and purchased component costs of $2.5 million, or 1.7%, and an increase in labor and overhead expenses of $6.0 million, or 8.1%. As a percentage of revenues, gross profit margin was 13.4% for the three months ended March 31, 2023 compared to 10.4% for the three months ended March 31, 2022.
Selling, General and Administrative Expenses . Selling, general and administrative expenses ("SG&A”) consist primarily of wages and benefits and other expenses such as marketing, travel, legal, audit, rent and utility costs which are not directly associated with the manufacturing of our products. SG&A expenses for the three months ended March 31, 2023 increased $3.6 million compared to the three months ended March 31, 2022, primarily as a result of higher incentive compensation expenses. As a percentage of revenues, SG&A expense was 7.8% for the three months ended March 31, 2023 compared to 7.0% for the three months ended March 31, 2022.
Other (Income) Expense. Other expenses decreased $1.2 million in the quarter ended March 31, 2023 as compared to the quarter ended March 31, 2022 due primarily to a favorable change in the fair value of foreign currency forward exchange contracts in 2023 versus an unfavorable change in the fair value of foreign currency forward exchange contracts in 2022.
Interest Expense . Interest associated with our debt, and other expense was $2.9 million and $2.0 million for the three months ended March 31, 2023 and 2022, respectively. The increase in interest expense primarily related to higher interest rates on variable rate debt.
Provision for Income Taxes. An income tax provision of $3.3 million and $1.4 million were recorded for the three months ended March 31, 2023 and 2022, respectively. The period over period change in income tax was primarily attributable to a $6.6 million increase in pre-tax income versus the prior year period.
Net Income. Net income was $8.7 million for the three months ended March 31, 2023 compared to $4.0 million for the three months ended March 31, 2022. The increase in net income is attributable to the factors noted above.
Segment Results
Vehicle Solutions Segment Results
Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022
The table below sets forth certain Vehicle Solutions Segment operating data for the three months ended March 31 (dollars are in thousands):
2023 2022 $ Change % Change
Revenues $ 160,584 $ 140,157 $ 20,427 14.6%
Gross profit 19,471 12,907 6,564 50.9
Selling, general & administrative expenses 6,077 6,588 (511) (7.8)
Operating income 13,394 6,319 7,075 112.0
Revenues. The increase in Vehicle Solutions Segment revenues primarily resulted from increased sales volume and increased pricing to offset material cost increases.
Gross Profit. The increase in gross profit was primarily attributable to the increase in sales volume. Included in gross profit is cost of revenues, which increased $13.9 million, or 10.9%, as a result of an increase in raw material and purchased component costs of $10.1 million, or 11.8%, and an increase in labor and overhead expenses of $3.8 million, or 9.1%.
As a percentage of revenues, gross profit margin was 12.1% for the three months ended March 31, 2023 compared to 9.2% for the three months ended March 31, 2022, driven by lower startup costs, improved manufacturing efficiencies, increased pricing to offset material cost inflation and freight costs.
Selling, General and Administrative Expenses . SG&A expenses decreased $0.5 million for the three months ended March 31, 2023 compared to the three months ended March 31, 2022, primarily due to overhead reductions.
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Electrical Systems Segment Results
Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022
The table below sets forth certain Electrical Systems Segment operating data for the three months ended March 31 (dollars are in thousands):
2023 2022 $ Change % Change
Revenues $ 54,749 $ 39,876 $ 14,873 37.3%
Gross profit 8,297 3,401 4,896 144.0
Selling, general & administrative expenses 2,227 1,640 587 35.8
Operating income 6,070 1,761 4,309 244.7
Revenues. The increase in Electrical Systems Segment revenues primarily resulted from volume, increased pricing to offset material cost pass-through and new business.
Gross Profit. The increase in gross profit was primarily attributable to the increase in sales volume. Included in gross profit is cost of revenues, which increased $10.0 million, or 27.4%, as a result of an increase in raw material and purchased component costs of $5.2 million, or 25.8%, and an increase in labor and overhead expenses of $4.8 million, or 29.4%.
As a percentage of revenues, gross profit margin was 15.2% for the three months ended March 31, 2023 compared to 8.5% for the three months ended March 31, 2022, driven by volume, increased pricing and manufacturing efficiencies.
Selling, General and Administrative Expenses . SG&A expenses increased $0.6 million for the three months ended March 31, 2023 compared to the three months ended March 31, 2022, consistent with the prior year amount on a percent of sales basis.
Aftermarket & Accessories Segment Results
Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022
The table below sets forth certain Aftermarket & Accessories Segment operating data for the three months ended March 31 (dollars are in thousands):
2023 2022 $ Change % Change
Revenues $ 37,629 $ 30,215 $ 7,414 24.5%
Gross profit 7,227 4,086 3,141 76.9
Selling, general & administrative expenses 1,650 1,465 185 12.6
Operating income 5,577 2,621 2,956 112.8
Revenues. The increase in Aftermarket & Accessories Segment revenues primarily resulted from increased sales volume and increased pricing to offset material cost pass-through.
Gross Profit. The increase in gross profit is primarily attributable to the increase in sales volume. Included in gross profit is cost of revenues, which increased $4.3 million, or 16.4%, as a result of an increase in raw material and purchased component costs of $3.0 million, or 17.8%, and an increase in labor and overhead expenses of $1.3 million, or 14.0%.
As a percentage of revenues, gross profit margin was 19.2% for the three months ended March 31, 2023 compared to 13.5% for the three months ended March 31, 2022. This was primarily due to increased pricing offsetting moderating cost inflation.
Selling, General and Administrative Expenses . SG&A expenses increased $0.2 million for the three months ended March 31, 2023 compared to the three months ended March 31, 2022.
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Industrial Automation Segment Results
Three Months Ended March 31, 2023 Compared to Three Months Ended March 31, 2022
The table below sets forth certain Industrial Automation Segment operating data for the three months ended March 31 (dollars are in thousands):
2023 2022 $ Change % Change
Revenues $ 9,747 $ 34,126 $ (24,379) (71.4)%
Gross profit 214 4,991 (4,777) (95.7)
Selling, general & administrative expenses 1,076 1,324 (248) (18.7)
Operating income (loss) (862) 3,667 (4,529) NM 1
1. Not meaningful
Revenues. The modest decrease in Industrial Automation Segment revenues primarily resulted from lower sales volume due to decreased customer demand which was commensurate with market contraction.
Gross Profit. The decrease in gross profit is primarily attributable to lower sales volume. Included in gross profit is cost of revenues, which decreased $19.6 million, or 67.3%, as a result of a decrease in raw material and purchased component costs of $15.8 million, or 69.8%, and a decrease in labor and overhead expenses of $3.8 million, or 58.6%.
As a percentage of revenues, gross profit margin was 2.2% for the three months ended March 31, 2023 compared to 14.6% for the three months ended March 31, 2022 due to volume reduction and restructuring expenses.
Selling, General and Administrative Expenses . SG&A expenses decreased $0.2 million for the three months ended March 31, 2023 compared to the three months ended March 31, 2022, primarily driven by overhead reduction.
Liquidity and Capital Resources
As of March 31, 2023, the Company had total liquidity of $188.0 million, including $41.5 million of cash and $146.5 million of availability from its US and China credit facilities.
Our primary sources of liquidity as of March 31, 2023 were cash reserves and availability under our credit facilities. We believe that these sources of liquidity will provide adequate funds for our working capital needs, capital expenditures and debt service throughout the next twelve months. However, no assurance can be given that this will be the case.
As of March 31, 2023, cash o f $41.5 million was held by foreign subsidiaries. The Company had a $1.3 million deferred tax liability as of March 31, 2023 for the expected future income tax implications of repatriating cash from the foreign subsidiaries for which no indefinite reinvestment assertion has been made.
Covenants and Liquidity
On May 12, 2022, the Company entered into an amendment to increase its existing senior secured credit facilities to $325 million from $275 million consisting of a $175 million Term Loan A and a $150 million Revolving Credit Facility. The amendment provides the Company with additional capital flexibility to execute upon its transformation and growth initiatives. As part of the amended terms of the agreement, the maturity date of the Senior Secured Credit Facilities has been extended by twelve months to May 12, 2027, the interest rate decreased by 50 bps at various leverage ratios based on SOFR, and the maximum consolidated total leverage ratio increased from 3.25x to 3.75x until December 31, 2022 with a quarterly step down of 25 bps to 3.00x leverage by September 30, 2023 and the maximum consolidated total leverage ratio will remain at this level thereafter. Further, separate from the Company’s annual $35 million capital spending cap, a one-time $45 million capital project basket was included in the amendment. All other key provisions, including the $75 million accordion, acquisition holiday, and other baskets remain unchanged.
Our ability to comply with the covenants in the Credit Agreement, as discussed in Note 4, Debt, may be affected by economic or business conditions beyond our control. Based on our current forecast, we believe that we will be able to maintain compliance with the financial maintenance covenants and the fixed charge coverage ratio covenant and other covenants in the
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Credit Agreement for the next twelve months; however, no assurances can be given that we will be able to comply. We base our forecasts on historical experience, industry forecasts and other assumptions that we believe are reasonable under the circumstances. If actual results are substantially different than our current forecast, we may not be able to comply with our financial covenants.
Sources and Uses of Cash
March 31, 2023 March 31, 2022
(In thousands)
Net cash (used in) provided by operating activities $ 58 $ (21,398)
Net cash used in investing activities (3,321) (3,590)
Net cash provided by financing activities 12,377 28,406
Effect of currency exchange rate changes on cash 545 (168)
Net increase in cash $ 9,659 $ 3,250
Operating activities. For the three months ended March 31, 2023, net cash provided by operating activities was $0.1 million compared to net cash used in operating activities of $21.4 million for the three months ended March 31, 2022. Net cash provided by operating activities is primarily attributable to a smaller increase in working capital for the three months ended March 31, 2023 as compared to the three months ended March 31, 2022.
Investing activities. For the three months ended March 31, 2023, net cash used in investing activities was mainly due to capital expenditures and was $3.3 million compared to $3.6 million for the three months ended March 31, 2022. In 2023, we expect capital expenditures to be in the range of $20 million to $25 million.
Financing activities. For the three months ended March 31, 2023, net cash provided by financing activities was $12.4 million compared to $28.4 million for the three months ended March 31, 2022. Net cash provided by financing activities for the three months ended March 31, 2023 is attributable to borrowings under the revolving credit facility to fund the working capital increase.
Debt and Credit Facilities
The debt and credit facilities descriptions in Note 4, Debt are incorporated in this section by reference.
Critical Accounting Policies and Estimates
Our consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). For a comprehensive discussion of our significant accounting policies, see "Note 1. Significant Accounting Policies", to our consolidated financial statements in Item 8 in our 2022 Form 10-K.
Critical accounting estimates are those that are most important to the portrayal of our financial condition and results. These estimates require management's most difficult, subjective, or complex judgments, often as a result of the need to estimate matters that are inherently uncertain. We review the development, selection, and disclosure of our critical accounting estimates with the Audit Com mittee of our board of directors. For information about critical accounting estimates, see Critical Accounting Estimates in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" in our 2022 Form 10-K. At March 31, 2023, there have been no material changes to our critical accounting estimates from those disclosed in our 2022 Form 10-K.
Forward-Looking Statements
This Quarter Report on Form 10-Q contains forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. For this purpose, any statements contained herein that are not statements of historical fact, including without limitation, certain statements under “Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations” and located elsewhere herein regarding industry outlook, the Company’s expectations for future periods with respect to its plans to improve financial results, the future of the Company’s end markets, including the short-term and long-term impact of the COVID-19 pandemic on our business and the global supply chain, changes in the Class 8 and Class 5-7 North America truck build rates, performance of the global construction equipment business, the Company’s prospects in the wire harness, warehouse automation and electric
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vehicle markets, the Company’s initiatives to address customer needs, organic growth, the Company’s strategic plans and plans to focus on certain segments, competition faced by the Company, volatility in and disruption to the global economic environment, including inflation and labor shortages, financial covenant compliance, anticipated effects of acquisitions, production of new products, plans for capital expenditures and our results of operations or financial position and liquidity, may be deemed to be forward-looking statements. Without limiting the foregoing, the words “believe”, “anticipate”, “plan”, “expect”, “intend”, “will”, “should”, “could”, “would”, “project”, “continue”, “likely”, and similar expressions, as they relate to us, are intended to identify forward-looking statements. The important factors discussed in “Item 1A - Risk Factors”, among others, could cause actual results to differ materially from those indicated by forward-looking statements made herein and presented elsewhere by management from time to time. Such forward-looking statements represent management’s current expectations and are inherently uncertain. Investors are warned that actual results may differ from management’s expectations. Additionally, various economic and competitive factors could cause actual results to differ materially from those discussed in such forward-looking statements, including, but not limited to, factors which are outside our control.
Any forward-looking statement that we make in this report speaks only as of the date of such statement, and we undertake no obligation to update any forward-looking statement or to publicly announce the results of any revision to any of those statements to reflect future events or developments. Comparisons of results for current and any prior periods are not intended to express any future trends or indications of future performance, unless specifically expressed as such, and should only be viewed as historical data.