Participants

Sarah Cook; Vice President, Investor Relations; Knowles Corp

Jeffrey Niew; President, Chief Executive Officer, Director; Knowles Corp

John Anderson; Chief Financial Officer, Senior Vice President; Knowles Corp

Bob Labick; Analyst; CJS Securities

Anthony Stoss; Analyst; Craig-Hallum

Christopher Rolland; Analyst; Susquehanna Financial Group LLLP

Presentation

Operator

Good day, everyone, and welcome to the Q1 2025 Knowles Corporation earnings call. This call is being recorded. At this time, I would like to hand things over to Ms. Sarah Cook. Please go ahead, ma'am.

Sarah Cook

Thank you and welcome to our first-quarter of 2025 earnings call. I'm Sarah Cook, Vice President of Investor Relations. And presenting with me today are Jeffrey Niew, our President and CEO; and John Anderson, our Senior Vice President and CFO.
Our call today will include remarks about future expectations, plans, and prospects for Knowles, which constitute forward-looking statements for purposes of the Safe Harbor provisions under applicable federal securities laws.
Forward-looking statements in this call will include comments about demand for company products, anticipated trends in company sales, expenses, and profits, and involve a number of risks and uncertainties that could cause actual results to differ materially from current expectations.
The company urges investors to review the risks and uncertainties in the company's SEC filings, including but not limited to the annual report on Form 10-K for the fiscal year ended December 31, 2024. Periodic reports filed from time to time with the SEC, and the risks and uncertainties identified in today's earnings release. All forward-looking statements are made as of date in this call, and Knowles disclaims any duty to update such statements except as required by law.
In addition, pursuant to Reg G, any non-GAAP financial measures referenced during today's conference call can be found in our press release posted on our website at knowles.com and in our current form, in our current report on Form 8-K filed today with the SEC. This will include a reconciliation to the most directable comparable GAAP measure.
All financial references on this call will be on a non-GAAP continuing operations basis unless otherwise indicated. We've made selected financial information available in webcast slides, which can be found in the investor relations section of our website.
With that, let me turn the call over to Jeff who will provide details on our results. Jeff.

Jeffrey Niew

Thanks, Sarah, and thanks to all of you for joining us today.
Before I provide our commentary on the Q1 results and report on what we are seeing in our markets for Q2 and beyond, I would like to touch on the terror situation we are all hearing so much about.
Obviously, there's a lot going on in the markets over the last few weeks. It has been and continues to be fluid, and while I'm being cautious about how it could impact our business, I believe Knowles is well positioned to continue to deliver growth in earnings and revenue despite the current tariff environment.
The tariff situation can be easily explained by breaking things into three major areas that could affect malls. First and most simply, our direct tariff exposure that is our revenue that could be subject to tariffs. Generally speaking, Knowles is a proximity manufacturer, meaning the vast majority of product built in the US is shipped within the US, and product built in Asia ships to customers in Asia.
Based on this proximity manufacturing strategy and our associated footprint, we estimate that less than 5% of revenue are subject to the current tariffs. In our markets of MedTech, Defense, and Industrial, our expectation is we can pass these tariffs on to our customers without significant loss of business.
Second, there's an indirect tariff exposure or impact on our sourcing of raw materials for our different manufacturing locations. We have a world-class global supply chain team that, when possible, procures materials geographically close to our production facilities. We believe that less than 3% of our cost of goods sold will be impacted by current tariffs. We also anticipate being able to recover substantially all tariff impacts through price increases and surcharges.
Finally, there's an impact on our customers and market demand. This is the most difficult to predict at this moment, and while no company will be immune to the effect of tariffs, I believe the markets we serve in MedTech, Defense, and Industrial sectors will be relatively insulated from tariff impacts.
Let me explain a bit. The applications that our products serve in the MedTech market have traditionally been considered essential. Our capacitors are in implantable devices, imaging, and ventilators, to name a few. Hearing aids have also been considered essential devices.
Our historical experience shows economic shocks and subsequent recessions can have modest short-term impacts on these markets but tend to have very little impact over across the course of a year. I also believe that the Defense programs we participate in are secure. In the past, the air filters and capacitors that we sell in the Defense space have generally been insulated from economic downturns.
Lastly, in the Industrial market, it is and has been more sensitive than MedTech and Defense to recessions, but we are not currently seeing any impact on demand. We are obviously monitoring this closely, as this could change based on the macroeconomic environment.
Now I'll turn to our results. We started 2025 on solid footing in Q1, delivering revenue of $132 million at the high end of our guided range. EPS of $0.18 was at the midpoint of the guided range, and we delivered cash from operations exceeding the high end of the guided range.
Turning to our segments in Q1, MedTech and especially audio revenue was $60 million, up slightly on a year over year basis and seasonally down from Q4. Hearing health revenue was seasonally down, which was offset by strength in our specialty audio business and our supply of metal cans in connection with the sale of the consumer men's microphone business. As it relates to the current tariff environment, our historical experience shows that during times of economic uncertainty, there's often a short-term decline followed by a rebound in demand in our hearing health business.
By the way of example, in 2000 during the dotcom bubble burst in 2008 during the financial crisis, and in 2020 during COVID, the market contracted for one or two quarters in response to the economic uncertainty with demand returning quickly to normalized levels. This is evidenced by hearing health markets growing 2% to 3% annually over the last 20 years.
That all being said, our backlog for the MedTech especially audio segment for Q2 is strong. Our partnership with our customers is leading to continued innovations, solutions, enhancing the performance of their products. This coupled with our strong performance and especially audio business and new opportunities utilizing core companies, competencies, and medical markets leads us to continue to believe in our ability to grow throughout 2025 with year over year revenue growth accelerating in the second quarter.
In the Precision Device segment, Q1 revenues was $73 million flat to Q4. This was expected while we continue to work through production challenges in our specialty film line. Progress is being made. Our new prototype production line is up and running, improving the production flow. Yields are improving, and I have confidence in the team to continue to incrementally improve shipments throughout the first half of the year with a larger ramp up coming in the second half of the year. We are well-positioned for growth in 2025 as the specialty film line grants to full production.
Additionally, we have strong design and quoting activity, especially in MedTech, Defense, and EV markets with our ceramic capacitors. In '21, bookings trends for Precision Device segment independent of our previously announced $75 million plus energy order was strong for the second consecutive quarter. The booking strength was broad based across most of our end markets as we believe inventory levels are normalizing.
It's noteworthy that bookings and shipments to our distribution partners across all our capacitor products were favorable as we continue to see their inventory levels reducing. This gives me confidence in the Precision Device segment expected return to year over year growth in the second quarter of 2025.
In the first quarter we purchased $5 million in shares and reduced our debt level by $15 million as our cash generation from operations exceeds the high end of our giant range. We expect to generate robust cash from operations throughout 2025. This will allow us to continue to explore acquisition opportunities, buy back shares, and keep our debt at manageable levels.
As we close out the first quarter of 2025, I'm excited about the opportunities we have in front of us. We continue to see strong design winds across our product portfolio with dis distribution or increasing and inventory levels normalizing in the Industrial markets, coupled with increasing backlog and demand for our products. I have greater confidence that we will see year over year growth for 2025.
On May 13 we will be hosting our investor day where we will have the opportunity to lay out our plans for future growth in detail. I'm excited you will have the opportunity to hear from several members of our senior leadership team as they will discuss our competitive advantages and why we win across the markets we serve.
Now let me turn the call over to John to detail our quarterly results and provide our Q2 guidance.

John Anderson

Thanks, Jeff. We recorded fourth-quarter revenue of $132 million, down 1% from the year ago period and at the high end of our guided range. EPS was $0.18 in the quarter, flat from the year ago period and at the midpoint of our guidance range. In the med tech and especially the audio segment, Q1 revenue was $60 million, up slightly compared with the year ago period. Q1 gross margins were 48.7%, down 450 basis points versus a year ago period.
As part of our supply agreement with Syntiant, we produced and supply metal cans on a cost-plus basis which negatively impacted gross margins by nearly 200 basis points in the quarter. The remainder of the year over year decline in gross margin was driven by unfavorable customer mix and the absence of a one-time benefit, which was recorded in Q1 2024.
While the supply agreement with Syntiant is expected to continue through the remainder of 2025, we expect M&A gross margins to improve sequentially, driven by mixed improvements and higher capacity utilization, resulting in full year gross margins in the low 50% range.
The Precision Devices segment delivered first-quarter revenues of $73 million, down 2% from the year ago period and slightly above our expectations going into the quarter. Segment gross margins were 35.7%, flat from the first quarter of 2024, as factory productivity improvements in our legacy Precision Device business were partially offset by factory inefficiencies as we ramp up the specialty film product line.
On a total company basis, R&D expense in the quarter was $8 million flat with Q1 2024 levels. SG&A expenses were $25 million dollars, down $2 million from prior levels driven by cost reduction actions taken to right size spending in connection with the sale of the consumer microphone business. Interest expense was $3 million in the quarter and down $2 million from the year ago period as we continue to reduce our debt levels.
Now I'll turn to our balance sheet and cash flow. In the first quarter, we generated $1 million in cash from operating activities exceeding the high end of our guided range driven by higher-than-expected customer prepayments. It is important to note that cash from operations for the 3 months ended March 301 includes $21 million in cash used to settle supplier obligations related to the consumer men's microphone business which was sold last year.
Capital spending was $4 million in the quarter. During the first quarter, we repurchased 300,000 shares at a total cost of $5 million and reduced outstanding borrowings under our revolving credit facility by $15 million. We exited the quarter with cash of $102 million and $189 million of debt that includes borrowings under our revolving credit facility and an interest-free seller note issued in connection with the Cornell acquisition.
Lastly, our net leverage ratio based on trailing 12 months adjusted EBITDA was 0.7 times, and we have liquidity in excess of $350 million as measured by cash on hand plus unused capacity under our revolving credit facility.
Moving to our guidance for the second-quarter of 2025, revenues are expected to be between $135 million and $145 million. R&D expenses are expected to be between $8 million and $10 million. Selling at administrative expenses are expected to be within the range of $23 million to $25 million. We're projecting adjusted EBIT margin for the quarter to be within a range of 19% to 21%. Interest expense in Q2 is estimated at $3 million and includes non-cash imputed interest. We expect an effective tax rate of 13% to 17%.
We're projecting EPS to be within a range of $0.21 to $0.25 per share. This assumes weighted average shares outstanding during the quarter of $90.1 million on a fully diluted basis. We're projecting cash generated by operating activities to be within the range of $10 million to $20 million which includes $9 million to settle supplier obligations related to consumer men's microphone business. Capital spending is expected to be $7 million. We expect full year capital spending to be 5% of revenues as we increase our investments associated with capacity expansion relating to our specialty film line.
In conclusion, based on increasing order activity and our growing backlog, we expect to resume year-over-year revenue and earnings growth in the second quarter. Additionally, we expect another year of strong cash generation in 2025.
With that, we'll move to the Q&A portion of the call.

Question and Answer Session

Operator

Thank you, sir. (Operator Instructions)
Bob Labick, CJS Securities.

Bob Labick

Good afternoon. Thanks for taking our questions.

Jeffrey Niew

Hey Bob, we can barely hear you, Bob.

Bob Labick

Okay, great, sorry about that. Well, first, congrats on nice quarter and obviously a good outlook as well. I think you know you hit a really important part with the minimal tariff exposure. I appreciate that that call the 5% and 3% kind of indirect, just, sticking on the theme for a minute though.
Maybe talk about your, you talked a little bit about MedTech, but overall and market customer exposure, how are you thinking about that? What are you hearing from your customers in this, uncertain time right now around, their outlooks and how it may impact you in the back half of this year?

Jeffrey Niew

Yeah, so first I would say, Bob, as I kind of said, we've not seen any change in demand. In fact, obviously our expectations for Q2 are incrementally higher than they say were a quarter ago for Q2. I don't think any of this, we've been kind of debating. We talked to a number of customers this pull forward. I don't think it is a lot of our product is custom, a lot of new designs, especially in MedTech and Defense.
So I think in the MedTech space, let me take that first. I think if you think about most of the devices we sell to, they're essential devices and maybe you can like with COVID, put off a medical device for a quarter, but ultimately if you need a pacemaker, right? And I think this falls in the same category.
A large percentage of hearing aids are sold are actually customers that already have them, and they need new ones because they're either very old or they're not working anymore and you become reliant. You need hearing aids to have either moderate to severe hearing loss, you're going to go by your hearing aids. So generally speaking, Bob, I don't think we see that there's a lot of exposure.
Defense, I think most of the programs we're on are very insulated. We're not seeing any change in our Defense. Now that being said, I think the one area that you know we do probably have a little bit more exposure like generally is Industrial.
Now here's what I would say about that. I've talked over the last few quarters about the inventory levels at our distributors which service the majority of our Industrial customers. Quarters ago, I was talking about there were 6 months of inventory, then I said there was 4 to 5, then I said 4.5. We're seeing that inventory level gets to the 3- to 3.5-month level, which is normalized inventory and we're starting to see because of that an increase in order activity because as they see the demand. They're going to start falling into a dangerously low position on inventory.
So I think from our perspective, right now as we look through the rest of the year, we feel pretty good right now about the rest of the year. Now, all things being said, somebody could wake up tomorrow there could be something new, but the way the tariffs are today and how it's impacting our business, it feels like there's like very minimal impact to us right now.

Bob Labick

Okay, great, appreciate the extra color. That's wonderful.
And then in terms of the growth drivers of the business, obviously you have this you talked about last quarter, the 75 million-plus capacitor order starting next year into an energy and market, any, updates or any changes and any impact from that since it's, a little bit to us, from the macro environment or is that still strong and you're confident in that as well?

Jeffrey Niew

Well, I mean, we received a pretty substantial prepayment in the first quarter which drove our cash flow to be above the high end of the guided range. So this customer is fully committed and we don't see any impact on delivery starting in 2026. I think we've said in the past expect something in the neighborhood of about $25 million of shipments on that order in 2026.

Bob Labick

Super. All right, I will jump back in the queue. Thank you.

Operator

Anthony Stoss, Craig-Hallum Capital Group.

Anthony Stoss

Hey guys, nice results. Let me just get a housekeeping one out of the way. John, can you, maybe I missed it, can you talk about kind of gross margin trajectory starting with Q2 and where you think it ends up in Q4?

John Anderson

Yeah Tony, you're talking about for the total business, total company?

Anthony Stoss

Yes. Total company. Yes.

John Anderson

Yeah. So if you think about the results that we just issued just above slightly above 41% in gross margins, we're going to see pretty significant sequential improvement in that, and you really have to look business by business, but the main drivers are going to be again with demand moving up our capacity utilization is going to improve both in the PD business as well as the MSA business. Both are increasing capacity.
In addition, there's some mixed improvement that is going to benefit us going into -- beginning in Q2. And really, we expect sequential improvement. Jeff mentioned this, we expect a stronger, given the uncertainty out there, we still expect a stronger back half and front half and again that's going to drive sequential, expected to drive sequential gross margin improvement throughout 2020.

Jeffrey Niew

I just add one piece, I think we've talked about this in the past, Tony, about how capacity utilization has been really a hold back, especially in the Precision Device area, in terms of gross margin over the last year and a half, and we're starting to see that start to dissipate as the demand is coming back.
I didn't mention this in the prepared remarks, but the book to bill for Precision Devices was above 1.15 in Q1. I mean it was strong. We had very, very strong orders for Precision Devices and that's of course not counting the $75 million energy order.

Anthony Stoss

Right, can you give us like a range exit, gross margin to a company in Q1.

John Anderson

I would say 45% to 47% as we exit the year in gross margin.

Anthony Stoss

Perfect. And for you, Jeff, I mean, it's awesome that most of your production of PD is in the US. Do you think you might be able to pick up share from some of your competitors that don't produce much in the US. I'm just curious your thoughts, how do you think the rest of the year plays out. Are you seeing the inbound calls? Anything would be helpful.

Jeffrey Niew

Tony, I'm saving that for the next call, but I'll give you a little color here. Here's the situation, I think, with the dynamic and bottle nature of what's going on, I'm a little hesitant to start, putting that out there to say yes, but we are definitely getting calls that says.
Okay, with these tariffs, normally we had said, we had walked away from some of these bit lower margin businesses like and now they're saying maybe we should consider buying with you and it's also security supply and so it would primarily really in the like in more in the Industrial space than MedTech or Defense.
I mean, I don't think we're seeing anything like that, but in the Industrial space, we're definitely seeing A number of customers initiate conversations with us. It's more than a handful and saying, okay, we should start having some discussions. I want to see how this all plays out over the next quarter, but that definitely could be an upside in the back half of the year. That's not factored into what we're saying today.

Anthony Stoss

That's really good news. I would lock them in a long-term supply agreements, get them down quick. Thanks. Great execution, guys. I'll jump back in queue.

John Anderson

Thanks Tony.

Operator

(Operator Instructions)
Christopher Rolland, Susquehanna.

Christopher Rolland

Hey guys, congrats on the results.
So my question is if you could perhaps add some commentary around bookings, that's the book to bill above 1.5 is pretty incredible for PD. So what are we seeing for the back half? Are these really starting to fill out now and then perhaps associated with that? I saw receivables were up. Does that kind of speak to the linearity in the quarter? Would you just describe things as kind of accelerating?

Jeffrey Niew

I'll do a little checking on the receivables, but for a minute just to be clear, the bookings were above 1.15.

Christopher Rolland

1.15. Okay, I thought I heard 15. Okay, yeah, 1.15.

Jeffrey Niew

But not counting the $75 million order we received from energy, right? So if you could count that, the book the bill would be a crazy number. So we tried to, but it was pretty broad based in PD, across our capacitor products, filters, and both the legacy PD business as well as formerly the Cornell business. So it's been pretty broad based.
I think, as I kind of said, what was most encouraging in the quarter is to see another step down of inventory at the distributors where it's now getting. We're starting to see that demand is going up, inventory is coming down, so we're getting very close to what I would sit there and say is like. There's risk and that's why we're seeing more orders from distributors because they're starting to say their inventories are going to start falling below where they feel comfortable and hence, why we're getting strong bookings there.
I would also add, beyond the distributors, and we'll talk more about some of the applications at the Investor Day, but we have a lot of new products, from specialty film, a lot of new products going into production, so very good. That's very all positive PD. The second piece, I would just talk about, MSA MedTech and especially Audio, we expect, pretty strong sequential and year over year growth in Q2. And it's driven by, and the customer mix should be a little bit better in Q2.
We talked about it, kind of impacting the gross margins a little bit, but it should be better the customer mix in Q2. So I think, I want to be cautious here. But Chris, but right now if I look through the year and a lot of the orders we're getting, especially in MedTech and Defense, they're not orders like these are not turns orders like we get an order to deliver it, and you're done. These are orders that are being booked for the rest of the year and so we feel pretty good about the full year.

John Anderson

Yeah, your question on receivables. Nothing unusual here. It's just timing of customer collections. Our receivables were at the end of Q1 kind of flat with 12.31, but you're right, they were up a fair amount from March 31, 2024. And again, nothing special. It's not like we're having collection issues or anything. It's just timing of payments. We have some customers, larger customers that have 3.31 year ends. Sometimes they pay before year end, sometimes it slips into Q2, but nothing alarming there.

Christopher Rolland

Excellent, and I do not want to steal any thunder from the analyst day, but it seems like the business is solidifying, so I was wondering kind of what's next for Knowles, like how much focus is there on inorganic growth opportunities like in in in new product segments. And then how much opportunity or how much of your focus is spent on inorganic opportunities outside of the company.

Jeffrey Niew

Yeah, I think that's really great good question, Chris. First, let me talk about the organic opportunities. Each one of our business unit leaders who will be presenting are going to go into these opportunities that they have, over the next one, two, three years of where growth could come from. So they're all going to do that.
On the inorganic side, we are going to have, I don't know if we've announced the officially the presenters list, but our Head of Corporate Development is going to be presenting at the investor day and to talk about our inorganic opportunities. I would sit there and say, and he would probably our guy who does this, said a pretty significant portion of his time during the Cornell acquisition was also dedicated towards the divestiture of the consumer microphone business.
He's freed up now to spend more time with his team on inorganic opportunities. And I think I want to caution, right now, like with the market the way it is, I think things are like a lot of people are pausing on M&A right now. I'm glad our balance sheet looks great. We're in a great position, but you know they we're ready when the right opportunity comes along to move that forward, and we're going to go into more detail about what we're looking for and you know the kind of metrics we're looking for, the type of products. We'll go into more detail on that at the investor day.

Christopher Rolland

Fantastic. Thanks, Jeff, and congrats.

Jeffrey Niew

Thanks.

Operator

At this time no one else has signaled, (Operator Instructions)
And at this time there are no (technical difficulty). That does conclude our question-and-answer session as well as our conference for today. We would like to thank you all for your participation. You may not disconnect.