Prepared remarks
Greetings, and welcome to the Methode Electronics Third Quarter Fiscal 2026 Results Conference Call. And please note, this conference is being recorded. I will now turn the conference over to your host, Joni Konstantelos, Managing Director of Riveron. Ma'am, the floor is yours.
Good morning, and welcome to Methode Electronics Fiscal 2026 Third Quarter Earnings Conference Call. Our fiscal 2026 third quarter financial results, including a press release and presentation can be found on the Methode Investor Relations website. I'm joined today by John DeGaynor, President and Chief Executive Officer; and Laura Kawaltick, Chief Financial Officer. Please turn to Slide 2 for our safe harbor statements. This conference call contains certain forward-looking statements, which reflect management's expectations regarding future events and operating performance and speak only as of the date hereof. These forward-looking statements are subject to the safe harbor protection provided under the securities laws. Methode undertakes no duty to update any forward-looking statement to conform the statement to actual results or changes in Methode's expectations on a quarterly basis or otherwise. The forward-looking statements in this conference call involve a number of risks and uncertainties. We will also be discussing non-GAAP information and performance measures, which we believe are useful in evaluating the company's operating performance. Reconciliations for these non-GAAP measures can be found in the conference call materials. The factors that could cause actual results to differ materially from our expectations are detailed in Methode's filings with the SEC, such as the 10-K and 10-Q. Please turn to Slide 3, and I will now turn the call over to John DeGaynor.
Thanks, Jonny, and good morning. Welcome to Methode's Third Quarter 2026 Earnings Call. I want to begin by recognizing our global team for their continued focus on serving our customers in the face of a challenging and rapidly evolving environment while driving forward our multiyear transformation journey. Across our manufacturing sites and corporate functions, our teams have demonstrated resilience as we work through industry headwinds and advance our transformation initiatives. Your discipline, collaboration, and commitment to continuous improvement are strengthening our foundation and positioning us for better long-term performance. Thank you. Moving to our third quarter results. We generated $234 million in sales and $7.3 million in adjusted EBITDA. While profitability was pressured year-over-year, we delivered positive free cash flow of $10 million in the quarter and approximately $17 million in year-to-date cash flow as we remain on track to achieve our fiscal '26 free cash flow targets. Importantly, our Industrial segment sales increased 9.5% year-over-year, reflecting continued strength in off-road lighting and power distribution solutions supporting data center applications. That performance demonstrates the benefit of our growing exposure to higher-growth industrial power markets and helps offset some of the headwinds we are seeing in North American automotive and in commercial vehicle lighting. Generating cash while navigating a volatile revenue environment is a clear reflection of the operational discipline we are building into this organization. Please turn to Slide 4. Our transformation journey continues. As I've said before, progress will not be linear and is not something that could be measured in a single quarter or even a few quarters. Our transformation is a multiyear effort focused on strengthening the foundation of the company, utilizing our resources as efficiently as possible and finding new sources of value. Along the way, we must refine our portfolio, align our business structure, optimize our footprint and embed operational discipline into everything we do. At the same time, there are factors outside of our near-term control, commercial vehicle market softness, EV program delays and macro volatility, particularly in North American automotive that will impact our improvement trajectory. We are addressing those realities directly with our teams and with our customers, but we are not allowing them to distract us from executing our priorities. Let me briefly recap these priorities. First, stabilize and improve our operational execution. When we started this journey, we had two facilities that were extremely challenged, Egypt and Mexico. We continue to see positive trends in Egypt as a result of the changes we have made there. The transformation of our Mexico facility is not as far along. We're making progress in upgrading the team and improving execution on both existing programs and new programs. However, we have not seen the productivity improvements as quickly as we initially expected, which has been exacerbated by commercial vehicle volume reductions and program delays from multiple North American customers. These external factors were the primary driver of our EBITDA guidance revision that Laura will talk about later in the call. We've built an entirely new leadership team in Mexico, and we are supplementing that team with both corporate and specialist external resources. Our new leadership team is getting fully up to speed and working hard to tackle the challenges in our two Mexico facilities, understanding root causes, driving accountability, and resetting expectations. Naturally, when you're transforming an operation, there's a cleanup involved. You have to surface issues before you can permanently fix them. This is part of the process. It is not comfortable, but it is necessary. We are taking focused actions to improve execution, efficiency, and cost control, and we expect performance to strengthen as those actions take hold. Second, we are refining and simplifying the portfolio. A clear example is the completed sale of the Datamate business, which I'll talk about more in a minute. Third, align our cost structure and footprint. We completed the move of our headquarters from Chicago and subleased that facility. We've signed a purchase agreement on our Howard Heights facility in Illinois, a facility that formally housed our Datamate business. So we are making good progress in reducing our overall footprint. And fourth, position the company to capitalize on secular growth opportunities, particularly in Power Solutions. We are actively capitalizing on the data center and vehicle electrification megatrends, reallocating resources toward the areas where the strongest long-term return potential. These are deliberate, measurable actions, and we are doing what we said we would do. These are not concepts; they are actions. Turning to Slide 5. For background, Datamate is a supplier of copper transceivers for enterprise and telecom networks. While it was a solid business, it was not aligned with our long-term power solutions strategy. Divesting it allows us to redeploy capital and management toward higher growth, higher return opportunities, particularly in our Industrial Power Solutions business. We are concentrating our capital management, capital and management attention, and engineering resources on the areas that can generate the greatest long-term returns. The proceeds from this sale and the Harvard Heights facility sale will be used primarily to repay debt and further strengthen our balance sheet, consistent with our disciplined capital allocation approach. Turning to Slide 6. Power Solutions has been part of the Methode DNA for more than 60 years. We are now leveraging that deep expertise to serve today's most demanding applications across EV, industrial, and data center markets. We're expanding our customer base. We are adding experienced industry veterans into the industrial power business, and we are rotating engineering and commercial resources toward higher growth opportunities. This is not a short-term pivot. It is a structural reallocation of talent and capital, and we expect this to pay dividends over time, but we are still early in this journey. Let me spend a minute on data centers. Based on Q4 order patterns, we now have a line of sight toward a $120 million annualized run rate. This represents a significant increase in run rate year-over-year. Importantly, this run rate reflects current end customers through various contract manufacturers. It does not assume incremental wins from new accounts. Our actions regarding additional commercial and engineering resources and our investment in items like vendor-managed inventory are enabling us to react much more quickly to customers. We are seeing increasing momentum as a result of these actions. We are expanding our customer base, but our current run rate is supported solely by existing relationships. As momentum builds, the trajectory suggests a 50% increase in run rate year-over-year in the near term. This is a meaningful growth driver for Methode both for today and the future. Turning to Slide 7. Transformation is not linear. There will be turbulence, particularly in North American automotive, and we are seeing that today. But we are building a stronger operational foundation underneath the business. At the same time, we are executing every day. We're shipping product. We're supporting launches, and we are managing working capital. This dual focus of transformation while operating is critical. Transformation does not happen in isolation. We remain encouraged by opportunities in our Industrial segment, especially in power distribution solutions supporting data center infrastructure. Those align directly with our core competencies while there is more work ahead, we are making measurable progress, strengthening execution, simplifying the organization, improving the balance sheet, and positioning Methode for performance over time. I'll now turn it over to Laura to go through the financials.
Thanks, John. And turning to Slide 8. Third quarter net sales were $233.7 million compared to $239.9 million in fiscal 2025, a decrease of 3%. The year-over-year decrease in sales reflected lower sales volumes in the automotive segment related to a reduction in North American electric vehicle volumes and the interface segment related to a previously announced appliance program roll-off. Results were partially offset by a higher sales volume in the Industrial segment, particularly for off-road lighting and power products, as well as positive foreign currency translation which had a favorable impact of approximately $12 million in the quarter. As a reminder, the third quarter is also historically our weakest quarter for sales as it covers the year-end holidays. Gross profit was $38.8 million, down from $41.3 million in the prior fiscal year quarter, primarily a result of lower sales volume and product mix in the Automotive segment and interface segment. Selling and administrative expenses increased by $1.4 million to $39.1 million in the quarter. Restructuring and asset impairment charges included within selling and administrative expenses were $400,000. Income tax expense for the quarter was $2.8 million, down from $6.2 million in the prior fiscal year quarter. In the quarter, we realized a lower valuation allowance for U.S. deferred tax assets of $2.4 million compared to $6.5 million in the prior fiscal year quarter. Third quarter adjusted EBITDA was $7.3 million, down $5 million from the same period last fiscal year. Third quarter adjusted net loss was $13.1 million, a $5.9 million change from the third quarter of fiscal 2025 attributable to the decrease in gross profit and increase in selling and administrative expenses, partially offset by a lower income tax expense. Third quarter adjusted loss per diluted share was $0.37 compared to a loss of $0.21 in the prior fiscal year third quarter. Please turn to Slide 9, where I will discuss the progress made with our disciplined capital allocation strategy. We ended the quarter with $133.7 million in cash, which was up $30.1 million compared to the end of fiscal 2025. Operating cash generation in the third quarter was $15.4 million. Third quarter free cash flow was $10.1 million compared to $19.6 million in the fiscal third quarter 2025. Although down year-over-year, we continue to generate robust free cash flow amidst a challenging operating environment with a free cash flow of $16.5 million year-to-date as we continue to operate with strong capital discipline. Net debt was down $16.9 million compared to the same period last year. Moving forward, we remain committed to driving strong cash flow generation to further pursue our capital allocation priorities of net debt reduction, selective high-growth investments, business improvements, portfolio alignment as well as returning value to our shareholders through dividends. Turning to Slide 10. Again, please note that fiscal 2025 was a 53-week fiscal year and fiscal 2026 is a 52-week fiscal year. Our guidance also does not reflect the sale of Datamate or our Howard Heights, Illinois facility. For fiscal 2026, we have narrowed our net sales guidance, raising the low end of the range by $50 million to now be $950 million to $1 billion. The increase primarily reflects the benefit of foreign currency translation, which totaled approximately $25 million through the first nine months of fiscal 2026. For the full year, we anticipate foreign exchange to provide an approximate $30 million benefit relative to our prior assumptions, which is largely driving the increase in our midpoint. In addition, we have lowered our adjusted EBITDA outlook to be in the range of $58 million to $62 million compared to our prior range of $70 million to $80 million. The reduction is primarily concentrated in North American auto and reflects updated cost assumptions related to multiple customer program delays and higher expenses associated with the transformation of our Mexico facility, including wages and professional fees. For fiscal year 2026, we continue to expect positive free cash flow in the fourth quarter and for the full year compared to an outflow of $15 million in the previous fiscal year. With that, I will hand it back to Jon for closing remarks.
Thanks, Laura. To close, while the near-term environment remains dynamic and our improvement trajectory is not linear, we are taking deliberate actions to strengthen the company. We are stabilizing operations, refining the portfolio, aligning our footprint and cost structure, and reallocating resources towards higher-growth power solutions opportunities. There is more work ahead, particularly in Mexico and within North American automotive. But the foundation we are building is real. At the same time, we are maintaining a sharp focus on cash generation and balance sheet discipline. We believe the actions we are taking today position Methode for improved performance and more consistent value creation over the long term. With that, operator, please open the line for questions.
Questions and answers
Our first question is coming from John Franzreb with Sidoti & Company.
I would like to start with Mexico. Can you just kind of review what's going on there? And how far along are you on the process and maybe time line when you think it will be completed.
Yes. So John, thank you for your question. Laura will also provide input. As we've mentioned in earlier calls, the transformation in Mexico is approximately six months behind where we stand with Egypt. We are making advancements, but one significant challenge we face is that in Egypt, we're experiencing year-over-year revenue growth in addition to performance improvement, while in Mexico, we're still seeing a year-over-year decline in revenue. The majority of the reductions from our past programs are occurring in Mexico, and the main effects of program delays are also felt there. Consequently, our investments to prepare and launch new programs and the transformation efforts in Mexico aren't benefiting from any increase in revenue. We're incurring costs to get the launches ready, yet we are encountering delays. Over the past six months, the team has been entirely revamped, and I am genuinely pleased with our progress in daily operations. However, we are still six months behind our timeline compared to Egypt.
Yes. And as Jon mentioned, the decrease year-over-year in revenue, which results in the bottom line decreases as well as under absorption. We have some additional selling and administrative expenses related to changing out the management team and wages as well as additional resources that we brought in to help with the operational performance. But despite this, we are seeing improvements in scrap and direct material costs as a percent of sales through our supply chain initiatives.
Now we had three great months of commercial truck orders. I'm curious, have you seen that flow through your P&L yet or any purchasing orders or anything? And also, does that impact the Mexico facility at all? Can you just maybe talk to that?
So John, it does impact the Mexico facility, and we are still experiencing it as a headwind in terms of orders. Both DTA and PACCAR suggest that we should expect volumes to begin to recover in the second half of calendar 2026. The impact we are observing is a trade-off between commercial vehicle volumes in our lighting segment and some of the North American automotive programs. So, we are facing both a mix impact and a volume impact. We anticipate some future growth later in this quarter and likely more in early fiscal 2027, but we are not seeing it yet.
And one last question on Datamate. How much in revenue or annualized revenue did that business contribute? And was it profitable? Or maybe you can give us maybe the scale profitability?
So it's roughly $18 million worth of revenue. It was profitable. But what I can say is it was roughly $3 million worth of profitability. But what we can say, John, is the ability to pay down debt, the ability to exit an underutilized facility and to continue just our overall rationalization of structural cost, we believe we can largely offset that profitability. So we think overall, it's an accretive decision.
Our next question is coming from Luke Junk with Baird.
I'll jump off there. Jon, can you just remind us of some of the key products and applications for that Datamate business? And I guess one of the obvious questions strategically is just why it wasn't too complementary with the core power business in the data center?
This is primarily a data over copper system, which is a small electronic product. It does not align with our data center activities at all. The assessment was that it’s a good business, but when considering our opportunities and our discussions about return on effort, we noted that making it grow significantly would require substantial investment. It has remained relatively flat in revenue, around $15 million to $18 million, for an extended period. While it is a good business, we concluded that focusing our efforts on our core data center business and other growth areas would provide better returns for our shareholders, making this product a better fit for a different company than Methode.
Sticking with data center, if I look at the chart that you guys provided, which is helpful. Just trying to extrapolate the data center piece in fiscal '26 specifically. It seems like it's trending fairly flat this year. Now I understand some of the reasons for that. I know you were implementing the VMI. There are some other things going on in the hood there. But just trying to understand, certainly, there's been a lot of CapEx growth this year. Should we perceive that there's been effectively like a little bit of a growth bubble because I'm just trying to get comfortable then stepping into, I think you said a $120 million run rate on a go-forward basis given the clarification.
We have communicated to you and our investors that as we transition to an EDI-based sales forecast rather than a contract-by-contract approach, we will provide transparency as soon as we have it. The run rate we are discussing reflects that transparency and is supported by EDI. While it appears relatively flat for the year overall, part of this is due to a sales gap caused by our shift from recognizing revenue when products leave the boat in Shanghai to a vendor-managed inventory system, which resulted in a 6- to 8-week revenue gap. The key takeaway is that we expect a relatively flat year-over-year performance, with a Q4 run rate of $120 million supported by EDI, giving us confidence in year-over-year growth and future projections. Regarding capital expenditures, we have not seen significant growth; in fact, it has decreased year-over-year, with no material CapEx invested in the data center business. We are leveraging core competencies from other investments as we expand into Mexico. Our capabilities have allowed us to adapt with the VMI approach, which is generating the expected momentum, and the $120 million run rate supports this outlook.
Yes. Our CapEx, just to jump in here. Our CapEx was $42 million for FY '25, and we're at 16.5%, right under 17% approximately this year.
Yes. That $120 million, you also mentioned that there is a line of sight to 50% growth in the medium term. If I try to extrapolate what you're implying in the targets, it may be about $85 million from the data center this year. What kind of base numbers should we use for that 50% opportunity?
We have consistently indicated a guidance range of $80 million to $85 million. As mentioned in the previous earnings call, this figure reflects the impact of VMI. However, we are currently observing a run rate that exceeds this range, much of which will position us well going into fiscal 2027.
I have a question about Mexico. I understand there are some challenges. While you've had some initial improvements, it seems like there may have been unforeseen issues. Is there a possibility that these problems are stemming from the recent launches? I know you had around 20 launches this year. Although Sylensys was noticeable, are there other launches that are also facing challenges?
Yes. I believe that when we bring in new team members with fresh perspectives, we do observe some performance trends. However, as Laura mentioned, our scrap rates, premium freight, and other controllable performance metrics have improved compared to last year. Regarding our new product launches, we've invested in both capital and engineering to get ready for these launches, but we have experienced further delays beyond what we had anticipated in the last quarter. The primary focus of these launches has been on EV-based power applications in North America, and many of our customers have postponed their programs. This has created a challenge for us as we're not seeing the revenue we expected from these launches as they begin and ramp up. As we've discussed, we're managing this issue at a class level and are also approaching customers for compensation due to these delays.
Our next question is coming from Gary Prestopino with Barrington Research.
Jon, Laura. I just want to follow up on this EV issue. These are delayed programs. Is there any programs that have been outright canceled?
Yes, you're okay. To answer your question, we've discussed some project cancellations from Stellantis along with other program delays. We've also talked about how we're handling cancellation claims, particularly with Stellantis. These discussions are still in progress, and none of the negotiations with customers are included in our guidance. It's important to highlight that the Datamate transaction, the Hardwood Height transaction, and any customer recoveries are not part of this guidance.
Let me ask the question another way just so I can get an idea. In the programs that you have right now that you're actually producing for and you're actually having take rates, were the take rates less than you had anticipated and that has been causing you to channel down your expectations for the EV market this year? I'm just trying to get a handle on it, how this is all shaping out.
Yes, the answer is yes, and it's mainly in North America. To put it in perspective, the automotive sector accounts for 45% of Methode, with electric vehicles (EVs) making up 41% of that. Consequently, EVs represent 18% of Methode for this fiscal year. Looking closer, within that 41% of automotive EVs, only 14% comes from North America. If we reflect back to when we initially set our guidance, that figure should have been significantly higher based on our expectations of multiple program launches. What we are observing includes expenses related to launches, capital expenditures, and building inventory in Mexico, where major programs are winding down, and we have not yet seen revenue from the EV initiatives.
What about what you're doing outside of North America, how would the take rate spend there?
Those take rates are generally on track. The year-over-year growth in Egypt is driven by performance, and we are seeing top line growth primarily from the ramp-up of our programs, especially the EV programs we introduced there. In China, the situation is stable. This is why we refer to the situation as a North American automotive challenge concerning EV program cancellations or delays.
Are the products that you guys produce for EVs, are they applicable to plug-in hybrids and hybrids? I mean can you bid on those new models that are coming out because it seems that that's the way the market's really rolling now.
Yes. And our pipeline of bids has our quoting and cost estimating team is very busy.
We have another question from John Franzreb with Sidoti.
I would like to focus on the launch topic. How many programs have you launched so far in fiscal '26 and how many do you have left for this year? Additionally, how does this compare to your expectations at the beginning of the year? I'm trying to understand the scale of what we are discussing here.
John, I don't have the exact split between what we plan to launch and what we have launched versus cancellations. Our number was programs in this fiscal year. It was 56% over fiscal 2025 and fiscal '26. And because of the timing of some of these delays, we spent the money on the launches before we ended up with either a delay or cancellation. So the number is still the same. It's just a question of whether we got the revenue from it. What we would say is that Datamate was an important first step. It reinforces what we have said to the shareholders that we will continue to refine our portfolio as well as refine our overhead structure. The portfolio review is ongoing, and you can expect more to come in the future.
Thanks, Jon. Thank you, everybody. Thank you, ladies and gentlemen. As we have reached the end of our Q&A session. This will conclude today's call. You may disconnect your lines at this time, and we thank you for your participation.