Good day, and welcome to the Mayville Engineering Third Quarter 2020 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Nathan Elwell. Please go ahead.

Thank you. Welcome, everyone, and thank you for joining us on today's call. A few quick items before we begin. First, please note that some of the information that you will hear during this call will consist of forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended. Such statements express our expectations, anticipations, beliefs, estimates, intentions, plans and forecasts. Because these forward-looking statements involve risks, assumptions and uncertainties, our actual results could differ materially from those in the forward-looking statements. For more information regarding such risks and uncertainties, please see our filings with the Securities and Exchange Commission, including our Form 10-K for the period ended December 31, 2019, and our filing on Form 10-Q for the period ended June 30, 2020. We assume no obligation and do not intend to update any such forward-looking statements, except as required by Federal Securities Laws. Second, this call will involve a discussion of certain non-GAAP financial measures. Reconciliation of these measures to the closest GAAP financial measure is included in the earnings press release, which is available at mecinc.com. Joining me on the call today is Bob Kamphuis, Chairman, President and Chief Executive Officer; Todd Butz, Chief Financial Officer; and Ryan Raber, EVP of Strategy, Sales and Marketing. First, Bob will provide an overview of our performance, then Todd will review our financial results. Bob, please go ahead.

Thank you, Nathan. Good morning, everyone. Before we discuss our third quarter results, I wanted to provide a brief update regarding the health and well-being of our employee shareholders. We've been operating effectively under pandemic conditions for several months, and I'm pleased to report we've done a good job of creating a safe environment for our workforce and have avoided any widespread outbreaks at any of our facilities so far. We're certainly not taking this for granted and remain vigilant with our protocols to do everything we can to ensure the health and safety at all of our facilities. With that said, let's now turn to results. After navigating a very challenging second quarter when many customers were shut down, we delivered improved results during the third quarter as customers started to get back to work. All things considered, we're pleased with our performance. Despite ongoing COVID risks and challenges, we delivered encouraging top line results as many of our customers ramped up production during the quarter, which led to volume returning for MEC. From a cost management perspective, we're pleased with the progress we've made in optimizing our manufacturing operations. We continue to implement measures to maximize our efficiency, productivity and the impact of these initiatives and beginning to flow down to our bottom line. For the third quarter, we generated net sales of $91.1 million and adjusted EBITDA of $9.8 million. While we're encouraged by the sequential improvement of our financial performance, we see even more improvement potential and continue to strive to improve our results going forward. Throughout 2020 as a whole, we've made great strides in improving the operational efficiency of our organization in 3 main ways: first, by realizing full year benefits from the acquisition synergies with DMP; second, by realizing efficiencies from our recent…

Thanks, Bob. I'll begin with a look at our third quarter financial performance before providing commentary on our balance sheet, liquidity and our thoughts on guidance. As noted in our press release, we recorded third quarter net sales of $91.1 million, as compared to $128.5 million for the same prior year period, a decrease of 29%. The decline is due to manufacturing volume reductions driven by the pandemic and continued customer destocking activities, particularly in the agriculture and construction access equipment end markets. Despite the lower volumes, it is important to note that all customer relationships, manufacturing programs and components produced remain intact. Manufacturing margins were $9.7 million for the third quarter of 2020 as compared to $14.6 million for the same prior year period, a decline of 33%. The comparative decline was mostly driven by the aforementioned volume declines. Although our cost reduction efforts helped realign our business, volume reductions resulted in under-absorbed fixed overhead. Additionally, the company incurred a $0.7 million charge, the cost of sales during the quarter related to the finalization of the Greenwood facility closure. Manufacturing margin percentages were 10.7% for the third quarter of 2020 as compared to 11.3% for the 3 months ended September 30, 2019, a decline of 60 basis points. On its own, the volume declines negatively impacted the manufacturing margin percentage results by approximately 300 basis points. The good news is that a significant portion of this decline was offset by a combination of cost-cutting measures associated with our continuous improvement initiatives, investments in new technology and automated that requires less direct labor and the full impact of the finalization of the DMP synergies. Based on the aforementioned improvements, manufacturing margin percentages are expected to improve beyond historical averages when volumes return to prepandemic levels. Profit sharing bonus and deferred…

Thank you, Todd. While familiar challenges have continued to affect us, we are very proud of the progress that we have continued to make over the past 3 months. We've learned a great deal during these difficult times and are confident that we are coming out of this situation, a stronger company. We are encouraged that the volumes are returning with many of our key customers and are glad to see signs of stabilization across many of our end markets. As I said before, we believe that we are positioned to end the year on a high note. And if the economy doesn't deteriorate, it should be able to sustain this momentum heading into the new year. Before I open up the call for Q&A, I just wanted to take a moment to thank our employee shareholders for the performance they have delivered to our customers over the past several months. Everybody has played a role in helping our organization respond to the challenges we face by displaying ingenuity, adaptability, consistency, grit and determination to win. It has never been clear to me that the future for MEC looks bright and the best is certainly yet to come. With that said, operator, we'd like to open up the call for questions.

[Operator Instructions] The first question today comes from Mig Dobre of R.W. Baird.

It's Joe Grabowski on for Mig this morning. Can you talk about how demand and perhaps capacity utilization trended during the quarter? Was there sort of an improvement through the quarter? And then maybe any color you can give in October?

Well, I guess we're withholding our forecasting for October, but -- and for the quarters going forward at this time. But suffice it to say that we have seen continued strengthening. We -- our third quarter, I think, brought us into a range of somewhere around a 60% to 65% utilization of our capacities. So we -- and more towards the end of the quarter than the beginning of the quarter. So we're continuing to see that build. And we've got a shortened quarter because of days in the fourth quarter. But we're moving in the right direction. We're cautiously optimistic. And I think that's the right position to be in at this time.

Got it. Okay. And then maybe switching to ag equipment demand. Other component suppliers that we follow have talked about seeing some recent strength in the ag equipment channel. I guess, do you think maybe demand for components in the Ag equipment is going to pick up shortly, kind of specifically, what are you seeing in that end market?

I'll make a couple of general comments, and then I'll ask Ryan to comment. Generally, we're seeing some very modest strengthening. But I think there's there's more potential out there, just we haven't seen that show itself yet. Ryan, do you have anything to add to that?

Yes. I think kind of, Joe, the smaller ag & turf segment for hobby farmers maybe a similar demand profile to what we would see in the powersports market with stronger retail sales, certainly coming into the year, there needed to be some pretty extensive destocking on small ag. And as we exited, I'll say Q2, a lot of that work was kind of behind, and the retail environment was pretty good on the large side. And we see that fairly stable for us, our bigger tasks have been capturing market share just through a lot of the technology advances that our customers are making to continue to grab additional products and share that will benefit revenues in the years ahead.

Got it. Okay. And then maybe switching to powersports. I assume there's sort of a seasonal pattern to powersports demand? Maybe not, but I'm assuming there's more demand over the summer. Do you think maybe that season is going to get elongated this year just based on the consumer demand and where dealer inventory levels are?

Yes. It's been an unusual year because of the inventory reductions at our customers' dealerships. So at this point, they're not only rebuilding inventory, they're meeting pretty robust demand. We would likely see that the inventory will be getting to better position sometime next year. And then the consumer demand will be what's driving our production volume.

Got it. Okay. And then if I could just maybe sneak in one more. CapEx about $5.5 million year-to-date, the guidance is for $10 million to $13 million for the year? Just wondering what is driving the pickup in Q4?

Todd, do you want to take that one?

Yes, certainly. So as you know, the second quarter was definitely our role point. And we did preserve cash flow at that time to preserve the balance sheet with things relatively uncertain at that point. Now that we're seeing a little more clarity into this year in a little more stabilization. We're just rebuilding upon the plans we had earlier this year and executing on our continued theme and investment, new technology and automation. And so in the fourth quarter, I do expect it to be a little more robust on the spending side.

The next question today comes from Andrew Kaplowitz of Citi.

This is Eitan Buchbinder on for Andy. So adjusted EBITDA margin was down only 20 basis points despite a 29% decline in sales. And given the benefit from cost actions that are still layering in and revenue that could be similar between Q3 and Q4 would it be fair to assume adjusted EBITDA margin improving sequentially from 10.8%? Or would there still be a seasonal dip in Q4?

We would expect a bit of a seasonal dip because yes, fewer working days and you couple that with the holiday pay that also occurs. But otherwise, we're very pleased with the progress we've made on the cost-cutting side and what we're seeing on the financials.

That's helpful. And free cash flow generation of $14.5 million was up significantly both year-over-year and sequentially. So how are you thinking about free cash flow conversion for 2020 potentially coming in above 50% conversion on adjusted EBITDA? And is that still the right long-term expectation for the company now that 2019's investments in automation have been completed?

Yes. I mean, if you look at historical averages, it's been around 50%, in some years, a little better than that on conversion rate. So I do expect this year to be above 50%. And as we look forward, I would expect that same sort of conversion going forward.

[Operator Instructions] Showing no further questions. This does conclude our question-and-answer session. I would like to turn the conference back over to Bob Kamphuis for any closing remarks.

All right. Well, thank you for your time today. We appreciate your interest in MEC, and we'll look forward to seeing some of you at the Baird Virtual Conference next week. Have a great day today and make sure you get out there and vote. Thank you.

The conference has now concluded. Thank you for attending today's presentation.