Q2 2022 Howmet Aerospace Inc Earnings Call

Good morning, ladies and gentlemen, and welcome to Howmet Aerospace second quarter 2022 results Conference call. My name is Ian and I'll be your operator for today as a reminder, today's conference is being recorded for replay purposes I would now like to turn the conference every your host for today, Mr. Paul Luther Vice President of Investor Relations.

Please go ahead thank.

Thank you Ian good morning, and welcome to the Howmet Aerospace second quarter 2022 results Conference call I'm joined by John Plant Executive Chairman, and Chief Executive Officer, and Kenji Kobe Executive Vice President and Chief Financial Officer.

After comments by John and Ken We will have a question and answer session I.

I would like to remind you that today's discussion will contain forward looking statements relating to future events and expectations you can.

You can find factors that could cause the company's actual results to differ materially from these projections listed in today's presentation and earnings press release and in our most recent SEC filings.

In addition, we've included some non-GAAP financial measures in our discussion.

I witnessed the continuing recovery in commercial aerospace, which was up 34% year on year and 7% sequentially.

Total revenue was $1 393 billion and was up 17% year on year, and 5% sequentially, which was at the top end of our guidance range.

Revenue increased in each business segment, both year over year and sequentially.

Similarly, how much Q2, EBITDA grew year over year and sequentially to $316 million.

<unk> net head count additions of approximately 740 employees.

Moreover, we are particularly pleased with the continuing healthy EBITDA margin performance of 22, 8%, which is also at the high end of guidance.

Inflationary cost, whereas it recovered from customers or offset with efficiency improvements.

Finally earnings per share was strong at 35 cents, an increase of 59% year over year.

Moving to the balance sheet and cash flow free.

Free cash flow was a positive 114 million in the quarter, including an inventory build of approximately $105 million primarily to accommodate the commercial aerospace recovery.

Free cash flow was positive for the first half and we expect to have positive free cash flow in both Q3 and Q4.

The cash balance at the end of Q2 increased to $538 million, including common stock repurchases of $60 million and bond repurchases of $60 million.

She having bond repurchases with cash on hand, and continue to reduce share count and interest expense drag and hence improved free cash flow yield.

Legacy pension and <unk> liabilities are trending favorably with a net liability improvement of 60 million year to date.

[noise] associated cash contributions are down 65% in the first half compared to last year.

Lastly, net leverage improved to three times.

As expected just accelerates by year end to move towards two five times EBITDA.

Segment details will be covered by Ken.

However, I would like to note the small continuing EBITDA margin increase in our engines business and then improvements in structures.

Commendable stretches in the lives of both the inventory burn down of F 35, and the continuing low to zero Bell of the Boeing seven Knights.

Now over to Kent.

Thank you John please move to slide five for an overview of the markets.

Second quarter revenue was up 17% year over year.

The commercial aerospace recovery continued in the second quarter with the commercial aerospace revenue up 34% year over year, and 7% sequentially driven by the engine products segment and the narrow body recovery.

Commercial aerospace was up 45 commercial aerospace was 45% of total revenue.

And although an improvement from 2021 it continues to be far short of the pre COVID-19 level, which was 60% of total revenue.

Defense Aerospace was essentially flat year over year as well as sequentially driven by continued customer inventory corrections for the F 35.

Commercial transportation, which impacts both forged wheels, and fastening systems segment was up 19% year over year, and 11% sequentially driven by higher aluminum prices and higher volumes.

Finally, the industrial and other markets, which is composed of IGT oil and gas and general industrial was down 4% year over year.

Going deeper into this market IGT was essentially flat oil and gas was up 24% and general industrial was down 20% on a year over year basis.

Now, let's move to slide six.

So let's start with the P&L with a focused on enhanced profitability.

In the second quarter revenue and adjusted EBITDA were at the high end of guidance as both metrics were up 17% year over year.

Adjusted EBITDA was $317 million.

Adjusted EBITDA margin was also at the high end of guidance as it increased 10 basis points sequentially to 22, 8%.

Excluding the $60 million year over year revenue impact of higher material pass through EBITDA margin was 100 basis points higher at 23, 8%.

Adjusting for material pass through the flow of the incremental revenue to EBITDA was in line with expectations at approximately 33%.

We've been able to maintain our strong margins despite the impact of higher material pass through and inflation as well as head count additions to support future growth.

During the second quarter, we continued to recruitment of head count by approximately 740 employees, including net additions of approximately 455 and engines and 245 in fasteners as preparations are made for continued growth in the second half adding to the.

<unk> already experienced in Q2.

Year to date, we've increased head count by more than 200 employees and that's been focused in engines and fasteners.

Adjusted earnings per share exceeded the high end of the guidance at 35 per share up 59% year over year.

For the quarter the impact of foreign currency on earnings was minimal.

Moving to the balance sheet free.

Free cash flow in the second quarter was a positive $114 million, which excluded $44 million of proceeds generated from the sale and associated lease back of our corporate headquarters in Pittsburgh.

Cash on hand increased to $538 million after buying back $60 million of common stock repurchasing $60 million of our 2024 bonds and funding the quarterly dividend.

The average diluted share count improved to a Q2 exit rate of 421 million shares net pension and <unk> liabilities were reduced by approximately $60 million in the first half of 2022 and cash contributions were reduced by approximately 65% to $13 million on a year.

Over year basis.

Discount rates continue to be favorable and we will re measure at the end of the year, which further reduced the net pension liabilities.

Annual cash contributions are estimated to be approximately 60 million versus expense of $20 million.

Finally, net debt to EBITDA improved to three times as John mentioned earlier, we expect net debt to EBITDA to accelerate by year end and move towards two five times.

Moving to capital allocation, we continue to be balanced in our approach.

Capital expenditures continue to be less than depreciation at approximately 67% in the second quarter.

Productivity Capex continues to be a focus on automation in both the engines and fasteners business to improve yields enhanced product quality reduce outsourcing and mitigate labor risks.

We purchased approximately one 8 million shares of common stock in the quarter for $60 million in the first half of 2022, we repurchased approximately $6 9 million shares of common stock for $235 million.

I would also note that we purchase 0.9 million shares of common stock in July which increases the July year to date repurchases to $265 million for seven 8 million shares with an average acquisition price of $33 76 per share.

Board authorization for share repurchases is currently $1.082 billion.

Moving to debt, we repurchased $60 million of our 2020 for bonds in the quarter with cash on hand in.

And this will reduce our annualized interest costs by approximately $3 million.

Lastly, we continue to be confident in free cash flow and paid a quarterly dividend of <unk> <unk> per share of common stock.

Now, let's move to slide seven to cover the segments.

Q2 was another solid quarter for the engineered products segment.

Year over year revenue was 20% higher in the second quarter with commercial aerospace up 39% driven by the narrow body recovery, both IGT and defense aerospace were essentially flat year over year, but oil and gas was up 24%.

Adjusted EBIT increased 38% year over year and margin improved 360 basis points to a record 27, 5%, despite adding approximately 455 employees in the second quarter.

Year to date net head count additions for engines was approximately 780 employees.

Please move to slide eight.

Fasting system year over year revenue was 6% higher than the second quarter <unk>.

Commercial aerospace was 20% higher driven by the narrow body recovery, but somewhat offset by continued production declines for the Boeing 787 <unk>.

Industrial was down 26% driven by strong Q2 last year, we expect growth in industrial in the second half.

Segment, adjusted EBITDA decreased 11% in the quarter and was impacted by inflationary costs and the addition of approximately 245 employees to support future growth.

Year to date head count additions for fasteners was approximately 380 employees now.

Now, let's move to slide nine.

Engineered structures year over year revenue was 16% higher than the second quarter <unk>.

Commercial aerospace was 37% higher as the narrow body recovery more than offset the impact of production declines for the Boeing 787.

Segment, adjusted EBITDA increased 8% year over year, despite the inventory burn down of the F 35, and continued zero to low bills on the Boeing 787, and inflationary cost pressures.

The structures team delivered a Q2 EBITDA margin of 14, 1%.

I would note that the Q2 adjusted EBITDA margin was equal to the 2019 annual margin despite revenue being down approximately 40% using this quarter's annualized revenue. This was solid performance by the structures team.

Finally, let's move to slide 10.

As expected forged wheels year over year revenue was 22% higher than the second quarter to $50 million increase in revenue year over year was driven by higher aluminum prices of $36 million and volume increases of $14 million or 7%.

Commercial transportation demand remains strong, but volumes continue to be impacted by customer supply chain issues limiting commercial truck production.

Segment, adjusted EBITDA increased 7%, despite the impact of unfavorable foreign currency driven primarily by the Europe .

While the pass through of higher aluminum prices did not impact adjusted EBIT of $1. It did on favorably impact EBIT margins by approximately 400 basis points.

Before I turn it back to John to discuss guidance, you'll note that we called out unfavorable foreign currency and the wheel segment is a good portion of that segment's revenue is production cost and revenue in local currency for how that in total the aerospace segments provide a natural currency hedge.

While the aerospace segments also have a production a production a portion of their production costs in local currency. The majority of the revenue is in U S dollars for the quarter, how much overall foreign currency earnings impact was less than $1 million.

Now, let me turn it back over to John .

Thanks, Ken and let's move to the outlook, but first let me provide some commentary about the state of end markets and the customers that we serve.

The narrow body aircraft production increases will continue and we expect to have us to continue to lead with second half <unk> hundred 20 production rates in the mid $50 per month.

Boeing should lift the 737 Max production to approximately 32 months in the second half.

Widebody aircraft production is viewed as stable in the second half and we are.

I'll begin to see spares demand increased due to improvements in international travel.

Our view is that the build of wide body aircraft improves as you move through into 2023, especially with the production of the Boeing 730, 787, restarting and combine that with the increases have had less of the <unk> hundred 30, and <unk> hundred 50.

The forecast for 787 production in 2022 is cut again from 25 aircraft I talked about in the last quarter's earnings call to 15 of our best estimates.

Although we are not optimistic about the future given the clearance by the FAA to restart deliveries.

During the second half we expect the F 35 inventory burn off to continue, albeit defense revenue should show a modest improvement compared to the first half of the year.

IGT is expected to improve and we are seeing improvements we ship signaled in the oil and gas market for the second half.

Commercial production is expected to improve our supply chains improved component availability, albeit at a more muted level than we had previously expected.

Regarding titanium orders, we expect to execute revenue opportunities as a result of the Ukraine situation and we've added $20 million of revenue to our fourth quarter sales.

Further updates for 2023 and beyond should become more clear and secure during the next quarter or so as we not only assess the order intake, but also customer inventory burned, especially for wide body aircraft production.

Moving to guidance.

2020 to annual revenue midpoint is increased to 568 billion.

Which reflects the volume recovery commentary noted above.

Material inflation.

Which is now expected to be in excess of $200 million.

Other inflationary costs, such as energy electricity transportation services. Another production parts are additive to this number.

For the third quarter revenues expected to be $1 4 billion, plus or minus <unk> 15 EBITDA.

EBITDA $326 million plus five minus full EBITDA margin 22, 6% plus or minus 10 basis points and earnings per share 36 cents plus or minus a penny.

For the year, we've also tightened our guidance range and cool that revenue at $5, six 8 billion plus or minus 35 million, which is an increase of 40 million from the prior midpoint guidance EBITDA at 129 million plus 9 million minus <unk> 14, EBITDA margin of 22, 7%.

Earnings per share of $1 41.

Plus or minus two cents, an increase of two cents from prior guidance at the midpoint and free cash flow $650 million, plus or minus 25 billion, an increase of $25 million from prior guidance.

Free cash flow conversion of net income is expected to be approximately 110%.

In summary, how much Q2 year over year and sequential.

Profit improvement continues.

And we've demonstrated how much unique and differentiated assets.

We've been making strong and consistent progress against the choppy backlog.

Liquidity continues to be strong with Q2 free cash flow to $114 million, including an inventory build in excess of 100 million for the commercial aerospace recovery.

In the first half total inventory build is close to $200 million.

Cash on hand has increased to $538 million and thats after the common stock and bond repurchases.

The first half on July approximately $343 million.

Has been deployed for common stock and bond repurchases as well as dividend.

Capital allocation has been balanced and we've also been improving net net net leverage as we spoke about.

To do so again by the end of the year.

Regarding guidance revenue for the Aries is raised reflected.

The inflation recovery, but also modest net volume improvements EBITA margin continues to be healthy.

Flex the benefits of strong cost control efficiency material pass through inflation recovery and pricing with timely head count additions to prepare for the future and the future left into 2023.

In the second half, we expect to continue to add head count in engines and begin recruitment in our structures business.

Finally, they havent annual dividend of <unk> <unk> per share or <unk> <unk> per quarter.

And to be doubled to four cents per share per quarter with the first higher payment made in November of this year.

Before moving to your questions I'd like to I'd like to encourage you to visit our website at <unk> Com. If you look at the how much how.

How much technology day slides.

As a brief introduction I'd like to highlight three slides beginning with slide 14.

What I wanted to know how much he is a trusted brand with differentiated technologies and a rich IP portfolio with deep process Knowhow.

Mission critical and growing markets with the ability to supply 90% of structural and rotating aero engine parts.

Oh, sorry, componentry, approximately 70% of aerospace revenue is under long term contracts, which is complemented by strong spares demand.

On slide 15, 85% of revenue is generated from markets, where we hold either we're number one and number two position driven by our customer relationships and differentiated assets.

Lastly on slide 16, how much strategy has four pillars.

To grow above market rates.

Talk to the prioritization of differentiated products with.

Discerning allocation of capital and resources.

Commercial and operational discipline, and finally, a disciplined capital allocation strategy.

This additional information is available in the full presentation, which is in our on our website in the investors section.

Now we can move to questions.

Yes.

Okay.

Okay.

Well now begin the question and answer session.

Management requests that you limit yourself to one question.

And then ask a question press Star then one on your telephone keypad, if youre using a speakerphone. Please pick up your handset before pressing the keys.

So Charlie a question. Please press Star then two at this time, we will pause momentarily and with some of our roster.

Our first question comes from Cristina Wang of Morgan Stanley . Please go ahead.

Okay.

Okay.

John maybe I'll make it start with a question on production rates I mean, Airbus deferred it step up of the <unk> hundred 20, Neo production rate to <unk> 65 per month to early 2024 versus their previous expectation of second half of 'twenty. Three we're seeing Boeing faced challenges to maintain 31 per month for them.

As well so in a period, where OEM production lines are changing and your businesses in the longer lead time sided supply chain, how do you balance investing to meet production rate increases and not be an industry bottleneck versus preserving the cost structure and maintaining margins.

Well certainly it's a it's a tough bonds at the moment and so far we've tried to invest.

Invest in adding people in training to get ready for the production increases.

And as you've seen from the last quarter continued to do so in preparing for the second half.

But as I noted in my comments, the Backcloth is pretty choppy we saw.

In May the 737 production halted for maybe 10 days or so than.

Then maybe 20 buses cut from the second half.

And now next year maybe.

A delay in the in the ramp of the <unk> 'twenty two as you say 2020 full so we find ourselves constantly having to readdress. The I'll say the the slope of the recovery, albeit you've seen we've been pretty consistent in how we've been able to deliver against that backlog.

Uh huh.

And hope to do so in the future.

I still think it's important to consider.

Fundamental premise of where we are which is we are in a period of recovery, particularly for commercial aerospace.

And defense is solid.

We are improving for us and then we've seen the the recent buoyancy in the oil and gas sector plus the anticipated.

The anticipated recovery, although I did say it more muted in commercial trucks. So.

What we're continually doing is balancing between how we see the addition of in particular head count, it's not really affecting our fundamental capital expenditure plans at this point given we have capacity late in capacity from from previous investments, but you know.

We adjust.

I'm trying not to get too far ahead, but trying to be in line for our requirements to customers.

When I think about one of the fundamental questions in the sector, which is the availability of castings and forgings, which you didn't mention but implied in your question was that.

At that point.

Again.

If you think back to the investments we made in two new engine plants in the 2019 period, then that has largely solved or if not completely solved the issue, which was very significant in and present in 17, 18, and 19, which is the.

The capacity available for airfoils castings.

And I think one thing we've heard and increasingly heard is that the focus.

Our focus is more on availability of structural castings raws on a turbine airfoil castings and so we've been able to step up to that the.

At the same time as I tried to say on previous calls we are we have tens of thousands of parts inevitably we are tight on a few.

And that would apply to a few structural casting parts, but nothing that we are aware of that's fundamentally holding engine production or delivery of engines to and air frame manufacturers. So.

We're trying to balance be ahead of it.

Again investing in people equipment training them to.

To be ready, but are you now I recognize that we do keep re addressing that labor intake as we see our customers plans do change.

And ER and then the anticipated slope of recovery.

Importantly, with broadening that one stage further is that we are clear that 2023 is going to be another growth year for Matt.

And we look forward to that.

And I'll give more I'll say guide on that towards the end of the year was not in the Oh, the next year, but essentially what we're playing for is the angle of the increase not the fundamental principle.

Hope that covers it Christine.

Great I'll stick to one question. Thank you John Thank you.

Okay.

Our next question comes from Noah <unk> of Goldman Sachs. Please go ahead.

Hi, good morning, everyone.

No.

It looks like the updated guidance for the year implies.

EBITA margins would be relatively.

A relatively flat in the back half versus the first and I think the business segment margin actually down of what all the way the corporate DNA shake out.

And that would be on higher revenue and I assume.

Youre passing through cost while pricing.

You keep so maybe just if you could walk me through why.

Why that would be the case.

Yeah.

A major influence on it has been.

The fact, we've kicked off our assumptions regarding the inflationary costs.

And we said just for the metals element alone. If you remember we started out at the beginning of the year and calling it somewhere I think in the region of $100 million to $150 million and now we're saying I just sent him the my mic.

Box is that we see north of 200 million now and so.

Significant inflation element and then not ignoring of course, the inflationary elements of <unk>.

Utilities, I mean natural gas in Europe in particular, where I think all of US are familiar with the energy crisis in Europe and the pricing.

<unk> energy has reached and so there's a lot to play for in terms of recovery of that so we're offsetting it and as you know if we are if we are cover a dollar for dollar which is where we believe we are is that that has a dampening effect on margin and the more we kick up losing inflation assumptions.

Then you see that Melisa.

Fundamentally I believe that the if we were to adjust for that you'll see gross margin year on year, but again, that's like saying it's changed the assumptions I choose not to I think the important thing is it will.

Holding.

Margin rates through quite extraordinary times of inflationary pressures and also the choppiness that are referred to in answering to christine's question.

And really I think that.

Delivery of consistent margins.

It's really important.

Now I will say we.

Yeah.

Lastly, a fairly pleased with it.

Yeah, No I'd add I'd add to that as well we did bring down the 787 guide as well that's a that's a very profitable.

Program for US now we did replace with some titanium.

So that sort of lower margins, so you've got a bit of a mix component there.

So I just wanted to clarify as well so.

We said for Q3 EBIT of 326, it's minus six on the down to $3 25.

For the high side in Q3, that's all on slide 11.

And then the earnings per share I, just want to clarify we have it on the slide there.

$1 41 is the mid.

We're down <unk> on the low end up one on the high but just wanted to clarify.

Ken how much titanium and did you add into that.

$20 million.

Revenue for the fourth quarter.

I chose not to provide a guide for 'twenty three at this point because we're still in the process of order acquisition.

And also even upon the acquisition and completion of our call.

Contracts with customers then the next part is to balance out the inventory against new titanium supplied as.

Brought onstream. So again, we're trying to get a more accurate picture of what inventory is held at customers.

Security stocks from <unk> and so we've got to assess that when we provide you with a 2023 number.

And if I gave you one today I wouldnt feel confidence in.

In doing so.

We really shouldn't extrapolate or anything from that 'twenty. That's helpful. No I mean, the important thing is the fact that we are getting orders.

Yeah, well in the game.

And.

Clearly it will be more than that in 'twenty three.

Sorry, but.

Just want to get all that sorted before we are.

Clearly, it's more of a discussion too.

And if the year early next year.

Thank you.

Okay.

Yeah.

Alright. This question comes from pardon.

Pardon me come from Datacom corner of Cowen. Please go ahead.

Yeah. Good morning, I have a multipart question.

With the one but does your comment is a tricky theres multipart one of them.

Yeah, I know, it's kind of unfair but the question is on share gain broadly kind of the opportunity. So on the forging side you guys don't seem to be a pinch point are you seeing emergent demand there.

Does that benefit the quarter or just bookings given the lead times and secondly on the titanium share opportunity. The 20 million you referenced does that just one OEM is it across several and have you seen any change in urgency for Airbus and Safran.

To source given the EU sanction was taken off of the S&P up thank you.

Okay. So let me there's a lot of hot for us.

But it's fresh in my mind.

It is several Oems both.

Engine manufacturers and also.

And air frame manufacturer.

So even though.

Let's say European sanctions are not placed upon V. S. M P.

And then not surprisingly.

Uh huh.

Choosing to to secure a long term saw some security and so we've begun to book orders with them.

Still working elsewhere with other manufacturers.

And so still a lot to playful.

And it's also on the call that surgeons have completion is also influenced by the inventories in the system.

So I think that disposes of titanium commentary.

In terms of sports I did say the spot would be a feature more of a feature in the second half, it's always difficult to call. It by the fact that these sponsored not on a L. P. A.

We are seeing some spot business.

Is available and coming to us and we have you know have unsecured some of it.

And some of it is already going in because of the long lead times, because you have mental availability into into 2023.

Metal lead times go out and see those going out nine months 12 months and therefore, some input orders. It's it's it's getting towards 12 months already.

In terms of a save the pinch points in the industry, there's very little that can be done in the short term because for example on structural costs things, it's all about the tooling.

And the assets that go with it.

So really it is a there's limited ability to cross over on those sort of areas and we've got our hands full just dealing with the orders that we have currently for ourselves.

At the same time.

I do believe that over the next two or three years that there will be opportunities to to to further balance that supply.

Yeah.

Thank you Kevin.

You raised I think all of them.

Yes, I appreciate it thanks.

Yeah.

Our next question comes from Robert store of vertical Research partners. Please go ahead.

Thanks, so much and good afternoon.

Oh.

John .

The metal posture, we've started to see some of these are industrial metal prices come down.

How does that flow through to you in terms of timing and you see the mathematical calculation basically the other way round. So you should have a margin expansion.

As the metal pass through reduces.

We would certainly like not to occur I mean, you have seen some small.

Small improvements in metals.

Metals.

And with the most notable of which is been aluminum.

So that's not price has come down, let's say peak to the fore.

$4500, a ton, including Midwest premiums in the U S.

It has probably fallen closer to say $3131 50 at the moment, it's a significant move down, albeit still significantly above where it started with less than $2000 a ton.

<unk> months ago.

So the.

Assuming it stays there and of course, none of us know exactly what's going to happen with it.

It stays are then suddenly went up price resets.

On the first of January then if it stays where it is then you will see for example, our wheels business.

Gain margin expansion.

As those prices are reset.

And if it comes down across the board elsewhere, where again its fairly a fairly small at this point than they would be a tailwind to margin as well, but we haven't really called those out on the way up and so I doubt I'll call them on the way down the most significant it has been the aluminum move.

Which is impacted as Ken talked about in our reels business by over 400 basis points from where we started in the <unk> to go down the other side of that would be very welcome.

And so that would impact how much overall and you'll begin to see a margin benefit if metals stay where they all will continue to further improve which we obviously you were hoping for but.

We don't know because it's a future event.

Yeah that makes sense. Thanks John .

Yeah.

Our next question comes from David Strauss with Barclays. Please go ahead.

Yeah.

Thanks, Good afternoon.

David.

So.

Just wanted to get an update on our you know the wheels business how are how the inventory situation looks there.

Yeah in terms of.

In terms of the semiconductors in the inventory or the backlog starting to deliver out and how do you. How do you feel about the class eight truck business overall.

You know if we're headed into a macro slowdown recession, whatever you whatever you want to call it.

Obviously, what we've seen in the past is that despite big backlogs on the class eight truck side that business can.

Can't shrink pretty dramatically.

Yeah.

I don't think we've been in normal times for class eight truck.

In either the U S or Europe .

Certainly the last 18 months.

And therefore.

I'm going to say I think I'd like to believe that this time. It is different so we don't see the same cyclicality in close up my ring hollow, because we don't know.

But my my view is that the availability of trucks has been so restricted for so long.

The fundamental demand for fleets and despite low order intake because people who've, just given up putting orders into the system, but when those order books open for 2023 in September , but we're going to see a significant spike in orders, particularly from the larger fleets where demand is it's played there because of the age.

King of the fleet and also to improve fuel efficiency.

So you've regulations, which are particularly onerous and in Europe .

So the MISO is the the.

<unk> supply chain.

The smaller easing so a lot of the trucks that are being built are called red tagged with not the complete parts that have.

Have been play it to some degree there are still significant shortages across a range of commodities, which are restricting build in the second half of this year.

And we've trimmed inside our guidance we've trimmed.

Sure.

Because by five or 10000 trucks in North America as an example for this year because of a more conservative assumption regarding parts availability.

It doesn't mean I think they will see the same sort of percentage increase I talked about before between 'twenty, two and 'twenty three.

And given the fact that I don't even though we're going to build more next year.

He was just going to build more extreme will supply more wheels that won't be the opportunity because again because of parts availability to draw forward.

Build out of 24 when people try it has historically tried to build and buy ahead of the emissions changes that are coming.

My thought is that those emission changes will occur in 'twenty full trucks are built in the relevant calendar year and maybe even the people who are interested in taking the improved fuel efficiency from the trucks anyway. So.

Im hoping that what we're going to see is a.

An improvement in overall revenues in our wheels business in 'twenty three.

Stability in May.

We've an improvement into 24 as well.

And that's despite the calming macro and microeconomic backcloth of rising interest rates to fundamentally deplete supply and demand the supply situation that we've had which has been extreme.

So it's a long way of saying I feel inherently optimistic about it's all bad.

Calm down.

A little bit of the assumptions in 'twenty two.

Yes.

Alright, thanks very much.

Yeah.

Our next question comes from Matt Akers with Wells Fargo. Please go ahead.

Hi, good morning. Thanks.

I wanted to ask about F 35.

Any kind of a defense business more broadly and I guess you know what.

Sort of the lower outlook from Lockheed just kind of where you are on that 35 stocking and Destocking I guess any other big moving pieces within the defense business.

You talked about second half improvement over the first half.

But yeah, just any thoughts there.

Yeah. So first defense is a little bit seasonal given the relatively large aftermarket component within it and that.

That's why it gives some confidence to second half stability at the same time.

Talking about the F 35, as a single item, which is about 35, 40% of our.

Defense sales than.

We've been incurring the I'll say the skull destocking by our customer.

In the first half and that will continue in the second half so the whole of this year.

We are clear that we are under supplying.

Lockheed's build of aircraft.

We do notice the cuts the build assumption from 156 them too.

147, 149 or something.

It was an assumption for this year and next and therefore again it at places like this.

A bit more of a burden upon us for inventory takeout, which again may fall over into the early part of next year, but the fundamental picture is is one way.

Our supply situation in 2023, we expect will be our best.

Better and improve compared to 2022 and again, what we're playing for is the angle of recovery just as I commented about commercial aerospace earlier, so again I just want to keep the big picture in mind.

The revenue increases and we're just debating the angle at this point in time.

Okay.

Thank you.

Yeah, Matt.

That's right.

And our next question comes from George Shapiro of Shapiro Research. Please go ahead.

Oh, yes, good morning.

George.

John of the $200 million for material pass through.

You tell us how much of that goes to the wheels business and then just for this quarter of the $40 million increase in revenues how much of that was from the increase in the material cost.

I'm going to say sequentially. This quarter was fairly minimal as it quarter on quarter, but I'm going to look to Ken in a second to cover that.

I don't think we've broken down the $200 million between our segment.

But it's sufficient to say that John .

<unk> of that 200 million relates to aluminum.

And I'm going to look to Ken.

To see whether he has that level of detail, Joe just to be able to respond to you.

So if you just hold for a second.

Sequentially, it's really not material impact George.

We haven't given the that 200 million to your question.

Pound of aluminum, but as you can imagine aluminum is a big chunk of it right. When you look at what we've talked about so far in this quarter, we said $60 million of.

Material pass through of that we had about 36 I believe I called out in my prepared comments was aluminum second kind of give you a guide.

Okay and then just one quick one can you break out the aerospace increased by how much with OE and look.

I look at it how much was aftermarket.

All I can say aftermarket, we generally don't call the numbers out but.

Aftermarket was a small improvement in the first half.

We are expecting a bigger improvement in the second half, but you can assume the first half was within a single digit percentage of what we were supplying in the second half of last year George.

Expecting bigger things to achieve what we believe will be a 30% plus year on year improvement in may and the spares business for us.

Okay. Thanks very much.

Cute.

Okay.

Our next question comes from them.

Satisfy some of J P. Morgan. Please go ahead.

Good morning, everyone.

Yeah.

Just looking at the fasteners business, we saw the revenues kind of bottom out and that in the second half of 'twenty one.

<unk> start to inflect higher here in the first half.

But yes, there's been some you know some pressure on the on the EBITDA I guess from from the second half of last year into the first half of this year is it.

Are the some of these additional inflationary pressures outside of materials, you know showing up more in the fasteners or it does it does it have to do with.

Bringing on people that know that revenue is growing again.

And how do we think about the incrementals here going forward.

Yeah the inflation.

Suddenly materials inflation is not the biggest part of it is presence of course across let's say titanium and some.

Some steel and aluminum for sure, but it's not the biggest part of it.

When I stand back and say.

It is our fastest segment underperforming.

It's always a good question to ask yourself.

I don't believe so.

There are two significant factors, which are going on which go to the mall.

Margin.

One is the are the reduced build a composite aircraft and so if you look.

In the sequential margins of the business when the 787 was basically taken down.

Then too.

I'll say one to zero.

Then I think as we've explained before the effects of a composite aircraft, replacing a metallic metallic aircraft is.

A significant value accretion for us and therefore, we always look forward to that and that's why we were looking forward to the triple seven X and the composite wings.

Albeit obviously, that's pushed a little bit now, but essentially if you think about mix.

Because the 787.

Hopefully as soon as we turned the year.

Because even though let's say I think moving will begin to deliver from.

From inventory and I think they may begin to build.

A little bit higher rate in the second half of I don't know.

But a lot of that build is going to come from inventory and you know there are multiple tiers because of the distributed I'll say supply base around the world.

Many of the components.

To get an accurate picture of holdout inventories difficult. So that's why we've taken the assumption of 787 down to the 15 for the year from the 25, and therefore not mix effects will continue to weigh on our fastener business in the in the second half.

And then the second thing is we've taken on a significant amount of people in our fastener business during the last quarter.

Preparing for volume.

<unk> as we go forward.

We did see volume pick up in Q2, and we are planning for further volume increases in Q3, and Q4, which basically is better than our guidance because we have also seen lifted revenue guidance.

Rates of client continue so when you when you look at it you shouldn't look at it compared to whether we beat consensus or beat guide or not but you need to look at a more consistent track through the last year of consistent quarter on quarter like we've put on 100 million in Q3 of last year then.

Poor than another $100 million in Q1.

You know, we've just guide you to like another 100 million sort of.

Average improvement so.

It's coming and we are recruiting and so when you combine both the recruitment costs that we've incurred in fasteners in Q2, plus that mix effect that really it goes to the heart of the margin issues.

Not an issue, but the margin change and then clearly as it is.

Employees become more productive and it's also going to be influenced by a rate of <unk>.

Hiring as we prepare for next year, but I'm, hoping that begins to improve.

Because of the denominator will get bigger of the employee base.

Then 787 begins to start getting built in the first part of next year then.

I do see things beginning to improve for that segment.

Great. Thank you very much.

Yeah.

That's sort of monitor if you have a question. Please press star then one.

Our next question comes from Phil Gibbs with Keybanc capital markets. Please go ahead.

Yeah.

Hey, good afternoon, John and team how are you.

Oh good thanks so.

Good.

Oh within the guidance are there any more buybacks are implied in that meeting from what you've already announced through July .

What I would do is to guide you to what we've said by way of <unk>.

Coaching approaching two and a half times net leverage by the yeah yeah.

So you can reverse engineer it from the cash flows we've given you.

The assumption around.

Any problems capital allocation between I'll do them in maybe in reverse order the dividend increase which I want you to note that shows confidence in our cash flows and I think it's an important thing to do for our shareholders.

The same time, we will.

So the addressing.

Hopefully.

Some improvement in our debt structure.

And also hopefully some continued.

Say buyback of stock, but you couldn't you mustn't, assuming it's all at one or anything it's a balanced approach in the second half.

Can get you can get it is the whatever assumption you make in terms of whatever approaching two five years, so slightly better than three.

And I'm hopeful that that will also reflect into the credit ratings of the company.

And also in our approach.

Uh huh.

Our SaaS shareholders are also pleased with our with that as well.

Thanks, John and you guys have gotten to.

Be a public company now for several quarters. We're we're clearly on the other side of the the demand cycle here for your key key markets.

Balance sheet looks like it's in good shape is there any any thoughts to doing M&A or are there opportunities out there available in the things that you would you would like to.

To do strategically.

Okay.

Picking up on your theme is the.

Post separation.

Wednesday meeting to the I'll say COVID-19 pandemic, but within two quarters, we've restored our margins we've been consistent in performance and cash flow all the way since then and as you've seen putting the balance sheet and in really great shape and are approaching eventually probably more of a target leverage around that too.

It's a lot better.

So everything is progressing very satisfactorily.

We are open to considering.

Any any M&A moves, but I've always said, it's more than that bolt on.

He is scale, which we can do with it within a quarter or so of cash flow and so no immediate thoughts to doing that's got a high hurdle to overcome which is does it provide a good return on capital for any such investments.

Can we gain not only cost synergy revenue synergy.

And therefore does it go with the strategic intent of the.

The company we've aimed at more if we said if we're going to do is probably more likely in our engine or our fastener business Rob.

Elsewhere.

But at the same time again try and try and be disciplined about it at all but nothing immediately would pass any hurdles compared to the relative risk free.

Also the action of buying our own stock back, which we obviously know well feel confident in and have been consistent in buying back.

Video almost every quarter over the last couple of years, but only probably pause for a quarter or so in 2020, just after the I'll say the onslaught of the pandemic.

Solid thanks, gentlemen.

And our next question comes from Michael ceremony of Truth Securities. Please go ahead.

Hey, good afternoon, guys. Thanks for taking our questions here.

Just I guess.

John or Ken how should we think about inventory into the second half of 'twenty, two and maybe overall working capital as you know.

What do you think about 'twenty three I mean, it seems like there is a number of moving parts with the F 35 burn going on it sounds like and it seems like 787 is going to be ramping not sure. If you need much or need to plan much for for some of the titanium and then I guess the trucks a little bit slower than you. Initially planned can you can you just give us any color on.

Where inventories might go.

Yeah, I mean, I'll deal with our own inventory first before I comment on anything to do with that cost of inventories.

And we built a couple of hundred million dollars of inventory in the first half and we've tried to aim the majority of that towards finished goods.

So, but not exclusively but a lot of it towards finished goods all certainly very advanced stage of work in progress so.

So that we can and have tried to keep pace and be able to start.

Obviously, our customers have the ability to deliver out of stocks to meet their needs.

We only tied to one or two places.

Now, having put that while I called a stock for hopefully improve supply security in the face of the the lift in demand is.

Is the.

I.

We will try to replicate that again.

In the second half you know there may be some but nothing of the scale of the first half.

Trying to plan on a steady level of production throughput improvements from the hiring we've done as we exit this year into 2023.

Obviously, we'll make those judgments exactly how.

How much inventory you will carry into next year. According to what the final shape of the increase in revenues for next year is.

So I think all good on that front.

So more of a let's say, it's a less of a build in more of a pause, but maybe some selective improvements in inventory.

In the second half.

In terms of our customer inventories that it's difficult to really comment I've said 787, despite we could assume that.

They will be build of aircraft in the second half an eye on.

You have a feeling that maybe we may see a higher increase in build than we thought because it may prove to be a good way of supplying those 780 sevens into the.

Clearly the airline demand, which is there compared to the the mentioned which is we used to have but we don't know that and we've just said you know this is clean the inventory in the pipeline this inventory around whether it's our sub suppliers in Europe or in Japan or elsewhere in the world or in the U S and so let's be relatively safe.

And therefore, we chose to take down.

Our our view.

787 for the second half given the fact that you know the.

You know it has been delayed from last year to Q1 to Q2, but all seems to be set well now and as I've said in previous calls the aircraft is a great aircraft, there's clearly demand the need for it the international travelers coming back and so I think that plus I've read the bus.

Considering even looking at possibly improving their wide body rates as we go into next year and beyond more than they've already signaled in skyline.

You know I have some optimism.

But really choose to say.

The improvement picking the wide body will be more of a 'twenty three feature.

And and also for our commercial truck business.

Got it up to say that.

Nick.

Yeah got it thanks guys.

This concludes today's conference call. Thank you for participating you may now disconnect.

Okay.

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