Q2 2022 Aerojet Rocketdyne Holdings Inc Earnings Call
Operator: Hello, and welcome to the Aerojet Rocketdyne second quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance, please press star zero on your telephone keypad. It's now my pleasure to introduce Kelly Anderson, Vice President of Investor Relations. Please go ahead.
A question and answer session will follow the formal presentation.
If anyone should require operator assistance, please press star zero on your telephone keypad.
Kelly Anderson: Thank you. Good morning, and welcome to the Aerojet Rocketdyne second quarter 2022 earnings results conference call. Leading our discussion today are Eileen Drake, Chief Executive Officer, and President, and Dan Bailey, Chief Financial Officer.
Following their prepared remarks, we will open the line for your questions. Before we begin the call, I'd like to remind you that our remarks this morning may contain forward-looking statements that relate to the future performance of the company and these statements are intended to qualify for the safe harbor protection from liability established by the Private Securities Litigation Reform Act. Any such statements are not guarantees of future performance and factors that could influence our results are highlighted in today's press release and others are contained in our filings with the Security Exchange Commission.
and factors that could influence our results are highlighted in today's press release and others are contained in our filings with the Security Exchange Commission.
Such statements are based upon information available to the company as of the date hereof and are subject to change for future developments. Except as required by law, the company does not undertake any obligation to update such statements. Our remarks this morning and in today's press release also contain non-GAAP financial measures within the meaning of regulation G promulgated by the Securities and Exchange Commission. Included in such release is a reconciliation of these non-GAAP financial measures to the comparable financial measures calculated in accordance with GAAP.
The Securities and Exchange Commission included in such release is a reconciliation of these non-GAAP financial measures to the comparable financial measures calculated in accordance with GAAP.
With that, I'd like to turn the conference call over to Eileen Drake, Chief Executive Officer, and President of Aerojet Rocketdyne. Please go ahead, Eileen.
Eileen Drake: Thank you, Kelly. Good morning, everyone and welcome to Aerojet Rocketdyne second quarter 2022 earnings call. Before we kick things off, I wanted to say how pleased I am to be hosting our company's first earnings conference call as Aerojet Rocketdyne.
Our new board has in place and along with management is refining our strategy to strengthen our company, increase value for shareholders, and provide affordable, highly reliable, and innovative products for America's national security and space programs. Today, I'll discuss our second quarter results at a high level and then I'll touch on some of our longer-term objectives for the business with the understanding that we'll be providing additional details in the coming quarters given the board's ongoing work. I'll then turn it over to Dan for a review of Q2 financial results and macro trends.
then I'll touch on some of our longer-term objectives for the business with the understanding that we'll be providing additional details in the coming quarters given the board's ongoing work. I'll then turn it over to Dan for a review of Q2 financial results and macro trends.
The fundamentals of our business remains strong. Robust orders drove book- to-bill of 1.2 and contributed to our quarter-end backlog of $6.9 billion, $2.3 billion of which we expect to convert to sales over the next 12 months.
We also expanded adjusted EBITDA margins, excluding EAC adjustments. We remain confident in our ability to hit our revenue and adjusted EBITDA targets, excluding EAC adjustments, and meaningfully increase free cash flow in the second half of 2022.
We remain confident in our ability to hit our revenue and adjusted EBITDA targets, excluding EAC adjustments and meaningfully increase free cash flow in the second half of 2022.
That said, we're experiencing some near-term headwinds, including supply chain delays, contract adjustments, and some discrete issues that negatively impacted our second quarter results.
Let me talk a little bit about what we're doing in the near-term to address the challenges we're facing and then I'd like to spend some time talking about longer-term focus areas as we look to the future.
First, we are experiencing supply chain issues like the rest of the industry. Delays in the RS-25 program, which impacted our first quarter results have continued. Those delays are not related to lack of raw materials or components, but rather they're related to delays in the first article qualification testing as we continue to ramp up our supply chain again after several decades without any RS-25 production. We're working closely with our suppliers and we're confident we'll manage through these issues and see accelerated sales growth for the second half of the year.
To ramp up our supply chain again after several decades without any RF twenty-five production.
We're working closely with our suppliers and we're confident we'll manage through these issues and see accelerated sales growth for the second half of the year.
Second, we've had disruption to our supplies of certain materials and components, and we're making necessary technical and manufacturing changes on a portion of the standard missile program in order to increase production capacity and accelerate unit deliveries throughout the remainder of our contract period of performance. Dan will speak to the accounting implications of this which significantly impacted year-to-date results. While this particular contract is creating a headwind for us, we have a diverse portfolio of development contracts and legacy production contracts that we are advancing aggressively.
Dan will speak to the accounting implications of this which significantly impacted year to date results.
This particular contract is creating a headwind for us we have a diverse portfolio of development contracts and legacy production contracts that we are advancing aggressively.
Lastly, like many other companies in our industry and beyond we're impacted by a highly competitive labor market, which is affecting our rate of hiring for skilled workers needed to support the impressive sales growth we foresee in the second half of the year. We're intently focused on attracting and retaining talent and this is a core area of focus for us going forward.
We're intently focused on attracting and retaining talent and this is a core area of focus for us going forward.
Stepping back from the quarter, we see exciting and enduring opportunities ahead to provide affordable, highly reliable, and innovative products for America's national security and space programs. To do that, we're focused on investing in line with our nation's space and defense priorities and driving competitive improvements to create value for our shareholders. I'll walk through our progress against these objectives today.
to create value for our shareholders. I'll walk through our progress against these objectives today. We're humbled to play a significant role in many of the most important space and defense programs in the United States.
We're humbled to play a significant role in many of the most important space and defense programs in the United States on.
We're humbled to play a significant role in many of the most important space and defense programs in the United States. On the defense side, one area of particular importance is our work to advance the nation's hypersonic capabilities. Aerojet Rocketdyne is an industry leader that delivers a broad range of capabilities to support hypersonic production, including Scramjet, solid rocket motors, warheads, and missile defense technologies.
Rock and I and as an industry leader that delivers a broad range of capabilities to support hypersonic production, including Scramjet solid rocket motors warheads and missile defense technologies.
To provide some additional color on the role we play, compared to the history-making scramjet engine that power the United States Air Force X 51 wave rider to sustain hypersonic speed, our Scramjets today take 75% less time to produce and the cost to manufacture them is 75% less. And thanks to a greater design flexibility, we manufacture those Scramjets with 95% fewer parts.
And thanks to a greater design flexibility, we manufacture those scram jets with 95% fewer parts.
In April, we announced an advanced Aerojet Rocketdyne Scramjet engine powered as successful flight test of the hypersonic air-breathing weapon concept known as Hock in a joint effort with the Defense Advanced Research Projects Agency or DARPA, the Air Force Research Laboratory in [inaudible]. This test set a record for Scramjet endurance, and we strongly believe that advancing hypersonic missile defense technologies contributes to the next generation of defense programs and empowers our nation to reclaim leadership and hypersonic weapons.
Test set a record for scramjet endurance, and we strongly believe that advancing hypersonic missile defense technologies contributes to the next generation of defense programs and empowers our nation to reclaim leadership and hypersonic weapons.
Furthermore, in May, we announced that Lockheed Martin selected Aerojet Rocketdyne to build an advanced solid rocket motor booster for the second stage of a [inaudible] hypersonic weapon system known as operational fires or op fires. The project is proceeding according to schedule and our teams are excited to help advance this important work.
to help advance this important work.
Our company won a significant role in Sentinel, the Air Force's next-generation strategic deterrent system. We're also participants on the two remaining teams competing for the Missile Defense Agency's next-generation Interceptor program.
We're expanding our capacity at multiple sites to accommodate the growth from these programs, which includes production of the solid rocket motor and advanced post-boost propulsion systems we'll provide for the second program.
Apart from our investments in hypersonic, we're also advancing against other critical defense priorities. Recently, we've officially opened our center of excellence for undersea propulsion to support the U.S. Navy's next-generation torpedoes. The facility will be used to produce the innovative undersea propulsion known as Stored Chemical Energy Propulsion system or SCEPS and the entire torpedo after body and I'm proud to say that this is the first of its kind in the nation for industry.
known as Stored Chemical Energy Propulsion system or SCEPS and the entire torpedo after body and I'm proud to say that this is the first of its kind in the nation for industry.
Aerojet Rocketdyne propulsion is also playing a role in the US efforts to reassure our NATO allies, who are close to the war zone in Ukraine. What's more, the Ukrainian government has described how their military is successfully using stinger air defense missiles, and anti-armor javelin missiles to defeat Russian helicopters and tanks attacking their cities. We produced both the launch motor and flight motor for US-made stinger missiles and make the advanced propulsion unit for javelin. We also manufacture the motives of power the battle-proven Patriot missile.
Those to defeat Russian helicopters and tanks are attacking their cities.
We produced both the launch motor in flight Motor for U S made stinger missiles and make the advanced propulsion unit for javelin. We also manufacture the motives of power the battle proven Patriot missile.
Turning to space, a large segment of the space business unit is focused on NASA exploration, which for us includes low Earth orbit and beyond low Earth orbit. And for the Artemis program, our nation is poised to return astronauts to the moon, while laying the groundwork for sending humans to Mars.
We're advancing our efforts across a number of priorities, supporting Boeing's commercial crew system to transit astronauts to the space station, supporting the Artemis mission, and supporting robotic missions like Mars 2020 that delivered the perseverance Rover to the surface of the Red planet. As the National Security space community shifts its focus to increasing the resiliency of our space assets, proposal will become increasingly important.
As the National security space community shifts its focus to increasing the resiliency of our space assets proposal will become increasingly important.
With respect to launch, we're working with new and traditional customers by offering affordable, innovative propulsion solutions to meet small to heavy lift needs with new [inaudible] 10 offerings, our AR-1 engine, and our low-cost family [inaudible].
Our work so far has been quite successful. United Launch Alliance recently awarded Aerojet Rocketdyne the largest RL-10 contract ever to deliver 116 RL-10 CX engines for its Vulcan Centaur rocket. The new engines will support ULA as it works to fulfill its commitments under a contract they recently received from Amazon as a part of the largest commercial launch contract in history to support the launch of its hyper satellite constellation.
The new engines will support ULA as it works to fulfill its commitments under a contract they recently received from Amazon as a part of the largest commercial launch contract in history to support the launch of its hyper satellite constellation.
Another priority for the business unit is in space propulsion. We're a world leader in electric propulsion systems, and our chemical propulsion is present in almost every domestic spacecraft. With space transportation constantly evolving, there is an increasing need for more in space maneuvering capabilities. In order to meet this demand, we're maturing and advancing our medium power solar electric propulsion offerings and extending our solar electric propulsion to smaller satellites. We're also working on high-power electric thrusters for NASA's Gateway program. And beyond electric propulsion solutions, we're expanding our chemical propulsion offerings to support module acute sets as well as green alternatives.
With space transportation constantly evolving there is an increasing need for more in space maneuvering capabilities.
In order to meet this demand, we're maturing and advancing our medium power solar electric propulsion offerings and extending our solar electric propulsion to smaller satellites. We're also working on high power electric thrusters for NASA as Gateway program and beyond electric propulsion solutions, we're expanding our chemical proposed.
And offerings to support module acute sets as well as green alternatives.
In addition, we're providing advanced technologies for future NASA and DOD missions, including nuclear thermal propulsion, nuclear-powered additive manufacturing. And this is all to say that we're playing a central role in a broad range of major programs, which is both exciting for our business and personally rewarding for our team who every day get to come in and work to expand the boundaries of space and technology.
In addition to our strong alignment with National Defense and space priorities, we're working to position our company for a strong and successful future and to increase our competitive edge. This includes our investments in R&D, production, facilities, and operations.
R&D, production, facilities, and operations.
We're also investing to advance our manufacturing processes and capabilities and modernize our facilities to increase our development contracts, which have always been a reliable and strong area of our business. And the work we're doing in all of these critical areas underpins our long-term financial success.
The Board and I are committed to ensuring that we remain intentional about pursuing strategies that create significant value for our shareholders and we're confident in our ability to hit our revenue and adjusted EBITDA targets, excluding EAC adjustments, and meaningfully increase free cash flow in the second half of 2022. We look forward to sharing more as our work progresses. In just a minute, Dan will go into greater detail regarding our quarterly financial results.
Half of 2022, we look forward to sharing more as I work progresses in just a minute Dan will go into greater detail regarding our quarterly financial results.
I just want to say before handing the call over to him, while the last few months have not been easy, we continue to execute on our goals and play a valuable role in providing innovative and reliable technology that supports our nation's defense and space exploration priorities. We are continuing to drive improvements to increase our competitive edge and we have a strong financial position and outlook that will support our efforts to create value for our shareholders. And with that, I'll turn the call over to Dan and join you later to answer your question.
Kris our competitive edge and we have a strong financial position and outlook that will support our efforts to create value for our shareholders and with that I'll turn the call over to Dan and John you added to answer your question.
Dan Bailey: Thank you, Eileen and thank you all for joining us for our first earnings conference call. This is an important day and I look forward to taking you through our financial results and highlighting some of the more significant initiatives underway regarding our second quarter financial performance.
This is an important day and I look forward to taking you through our financial results and highlighting some of the more significant initiatives underway regarding our second quarter financial performance.
As Eileen outlined, we continue to win important new programs and finished the quarter with near-record total backlog of $6.9 billion. We also remain focused on operational execution and improved our adjusted EBITDA margin, excluding EAC adjustments versus a year ago.
We also remain focused on operational execution and improved our adjusted EBITDA margin, excluding EAC adjustments versus a year ago.
Today, I will discuss year-over-year results for our key metrics and also actions we are taking to mitigate the industry-wide challenges we are currently facing. We will not provide formal guidance on this call, but that is something we will endeavor to do in the future. With that, I'll jump right in.
We will not provide formal guidance on this call, but that is something we will endeavor to do in the future.
With that I'll jump right in.
Our second quarter sales of $528.5 million were down approximately 5% from the prior year and up approximately 3% from the prior quarter. On a year-to-date basis, sales of approximately $1.04 billion were comparable to prior year with a decrease of about 1%. Sales for the quarter were negatively impacted by a reversal of revenue on a portion of the standard missile program as the contracts moved into a loss position.
On a year to date basis sales of approximately $1 4 billion were comparable to prior year with a decrease of about 1%.
Sales for the quarter were negatively impacted by a reversal of revenue on a portion of the standard missile program as the contracts moved into a loss position.
Supply chain issues on a portion of the standard missile program and on the RS-25 program also impacted revenue during the quarter. As Eileen discussed, we're working closely with our customers and suppliers and are confident we will manage through these issues and see accelerated sales growth for the second half of the year. Overall, the remainder of our portfolio of programs in both defense and space are performing quite well on revenue and we continue to expect mid-single digit top-line growth by year-end.
As I've discussed, we're working closely with our customers and suppliers and are confident we will manage through these issues and see accelerated sales growth for the second half of the year.
Overall, the remainder of our portfolio of programs in both defense and space are performing quite well on revenue and we continue to expect mid single digit top line growth by year end.
Also as Eileen discussed in her remarks, as with many other companies in our industry and even more broadly, one of the challenges we face in achieving sales for the year will be hiring skilled workers at the rate required to support anticipated sales growth in the second half of the year. We are closely monitoring this and are working to attract and retain top talent.
Mostly monitoring this and are working to attract and retain top talent.
Switching now to backlog, our book-to-bill ratio was 1.2 in the first six months of the year, bringing total backlog to $6.9 billion, close to a record high and equal to approximately three times our annual sales. This is an increase of 100 million from December 2021 and 200 million from a year ago.
Bringing total backlog to $6 9 billion close to a record high and equal to approximately three times our annual sales.
This is an increase of 100 million from December 2021, and 200 million from a year ago.
This strong backlog position reflects the major wins that Eileen discussed, including the largest ever RL-10 contract signed with ULA for Amazon's project [inaudible] satellite broadband system as well as a number of key multiyear contracts such as GBS, Fad, standard missile, RS-25, and [inaudible] III, which were signed over the past couple of years.
These large contract wins demonstrate the confidence that our customers have in our diverse portfolio of propulsion products and emphasize the continued importance of our products in the defense of our nation and our allies as well as space exploration.
Moving on to adjusted EBITDA, our adjusted EBITDA for the second quarter of $41.5 million was a decrease of 52% from the prior year and a decrease of 40% from the prior quarter. Year-to-date adjusted EBITDA of $110.8 million was a 24% decrease from the prior year.
Year to date adjusted EBITDA of $110 8 million was a 24% decrease from the prior year.
The current quarter and year-to-date profit results were greatly impacted by the unfavorable cumulative contract adjustment in the second quarter related to a portion of the standard missile program.
Excluding EAC adjustments from sales and adjusted EBITDA for all periods, the underlying adjusted EBITDA margin increased year-over-year from 11.8% to 13.0% from the second quarter and 12% to 13.5% for the six months period, respectively.
Supply chain issues on a portion of the standard missile program, combined with an outlook from the US government and the customer that they would like to increase annual production rates led to the conclusion that substantially increasing the annual capacity was the best course of action.
Led to the conclusion that substantially increasing the annual capacity was the best course of action.
The investment in increased capacity not only allows us to complete our current contract within the period of performance, but also puts the capacity in place to address anticipated quantity increases starting in 2024 to 2025. The investment in capacity and the estimated total cost of the technical and manufacturing changes drove the contract into a loss position this quarter. And as required by contract accounting rules, this resulted in the reversal of prior profit and the recognition of the total anticipated contract loss in the current period.
The investment in capacity and the estimated total cost of the technical and manufacturing changes drove the contract into a loss position this quarter.
And as required by contract accounting rules. This resulted in the reversal of prior profit and the recognition of the total anticipated contract loss in the current period.
In addition, the second quarter of last year of 2021 included a significant favorable adjustment from completion of the RF-68 program, which provided a comparative headwind for the current period.
Including the significant accounting adjustment, we saw a 7.9% adjusted EBITDA margin for the second quarter, bringing the year-to-date margin rate to 10.7%.
Excluding the EAC adjustments, the adjusted EBITDA margin was 13% for the second quarter and 13.5% for the year-to-date period respectively.
We have a diverse portfolio of new development contracts and legacy production contracts, which continue to perform very well and we believe with a continued focus on execution, we can achieve our long-term goal of 14% adjusted EBITDA, excluding EAC adjustments.
The strength of the portfolio is evident when we analyze the profit margin without the effect of the net contract EAC adjustments. For the second quarter of 2022, the net contract EAC adjustments were unfavorable to profit by $29.5 million compared with favorable adjustments totaling $24 million in the second quarter of the prior year. And for the year-to-date period of 2022, the net contract EAC adjustments were unfavorable to profit by $32.2 million compared with favorable adjustments of $21.6 million in the six-month period of the prior year.
For the second quarter of 2022, the net contract EAC adjustments were unfavorable to profit by $29 5 million compared with favorable adjustments totaling $24 million in the second quarter of the prior year.
And for the year to date period of 2022, the net contract EAC adjustments were unfavorable to profit by $32 2 million compared with favorable adjustments of $21 6 million in the six month period of the prior year.
When you remove the net contract EAC adjustments from sales and adjusted EBITDA for all periods, the underlying adjusted EBITDA margin increased 120 basis points in the second quarter from 11.8% last year to 13% this year and 150 basis points for the year-to-date period from 12% last year to 13.5% this year respectively, as compared with the same periods in the prior year. So the underlying profit margin run rate is continuing to improve across our program portfolio.
As compared with the same periods in the prior year so.
So the underlying profit margin run rate is continuing to improve across our program portfolio.
For the year-to-date, the primary drivers of the increase in adjusted EBITDA, excluding EAC adjustments were increased profitability on the [inaudible] and the remaining portions of the standard missile.
Lastly, our free cash flow for the second quarter was an outflow of $43.1 million, as compared to an inflow of $81.1 million in the same period of the prior year.
For the six months year-to-date, we have had an outflow of $120.3 million, as compared to an inflow of $7.9 million in the same period of the prior year.
The current year negative free cash flow is largely impacted by working capital growth on a large multi-year fixed price contract in the defense business unit.
The large multi-year contract wins for Fad standard missile and Pac three drove very strong free cash flow for 2019 through 2020 as milestone-based payments generated cash advances that are subsequently being deployed.
In general, multi-year contracts in the defense industry create lumpiness in cash flows because the cash advances take longer to replenish upon signing of the mixed multi-year contract, which could be two to three years later.
Our stated target for free cash flow is to meet or exceed 100% of net income each year. However, these multi-year contracts resulted in an average ratio of more than 160% over the past three years. That makes 2022 and 2023 more challenging as we complete those prior multi-year contracts and begin the upward cycle again with new multi-year contracts beginning in 2024.
That makes 2022 and 2023 more challenging as we complete those prior multi year contracts and begin to upward cycle again with new multiyear contracts beginning in 2024.
In addition to the programmatic drivers, year-to-date free cash flow reflects higher cash taxes in the prior year given by the change in treatment for research and development expenditures, which is an item affecting everyone in the industry and some normal fluctuations and year-over-year timing of cash receipts and cash payments. Nevertheless, we ended the quarter with total cash and short-term investments of $572.4 million, a net cash position of $115 million and we continue to manage the balance sheet working capital to generate predictable free cash flow results over the long term.
Which as an item affecting everyone in the industry.
And some normal fluctuations and year over year timing of cash receipts and cash payments.
Nevertheless, we ended the quarter with total cash and short term investments of $572 4 million a.
The net cash position of $115 million and we continue to manage the balance sheet working capital to generate predictable free cash flow results over the long term.
In terms of broader balance sheet management, I should mention the subsequent event that is disclosed in the 10-Q. On July 15th, we announced that the company issued a notice of redemption to all holders of its outstanding two-in-a-quarter convertible notes, stating our intention to redeem all outstanding two-and-a-quarter notes in full on September 19th, 2022. We will settle conversions of these notes using all cash. We decided to call these notes to eliminate negative interest carry and eliminate the impact of the $5.6 million share dilution and our diluted EPS calculation. This is expected to be 3 cents accretive to our diluted EPS for the year, [inaudible] accretive on a full-year basis going forward.
On July 15th we announced that the company issued a notice of redemption to all holders of its outstanding two in a quarter convertible notes, stating our intention to redeem all outstanding two and a quarter notes in full on September 19, 2022, we.
We will settle conversions of these notes using all cash we decided to call. These notes to eliminate negative interest carry and eliminate the impact of the $5 6 million share dilution and our diluted EPS calculation.
This is expected to be <unk> <unk> accretive to our diluted EPS for the year intensive it's accretive on a full year basis going forward.
As a closing thought, we remain enormously confident in the business based on the strong demand for our innovative products and the execution of our team. Looking ahead, as Eileen discussed, we are investing in line with the nation's top defense and space priorities, we're driving improvements to enhance our competitive edge, and deploying balance sheet cash to capture accretion for our shareholders and positioning the business to create value for our shareholders. With that operator, please open the line for questions.
And positioning the business to create value for our shareholders.
With that operator, please open the line for questions.
Operator: Thank you. We'll now be conducting a question and answer session. If you'd like to be placed in the question queue, please press star one on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star two if you're line is in the question queue. One moment, please while we poll for questions.
One moment, please while we poll for questions.
Our first question is coming from Greg Konrad from Jefferies. Your line is now live.
Greg Konrad: Good morning. Maybe just to start, if you can square the topline commentary with the next 12-month backlog, I think you reiterated mid-single digit growth revenue for the year but is the next 12-month backlog still a good guide or is there some slippage from the headwinds you called out?
Maybe just to start.
You can square the topline commentary with the next 12 month backlog I think you.
Iterate it mid single digit growth revenue for the year, but is the next 12 month backlog is still a good guide or is there some slippage from the headwinds you called out.
Dan Bailey: Good morning, Greg. Good question. The next 12 months is pretty good guidance for what we think the year-end, where our topline growth is so it's consistent.
The next 12 months is pretty good guidance for what we think.
The year end, where our topline growth is so it's consistent.
Greg Konrad: Okay. And then you mentioned positive margin performance in the quarter ex EAC's, do the negative charges in the quarter limit the opportunity in the second half around EAC's, just given they've been a pretty big contributor in the past that kind of second half performance?
Formats.
Dan Bailey: Sure, Greg. They do limit obviously, the full-year performance, but we do expect on average over the last three to five years, we've seen about 10 million of positive EAC adjustments per quarter, averaging up to about 40 million per year. So we do expect there to be some upside in the second half of the year, obviously, we had a pretty large charge this quarter. But going forward, I don't see that there are any reasons for expected challenges on some of the other projects in our portfolio as they have in the past. So to your point, we do see generally back end improvements in both profit and cash, especially towards the fourth quarter.
Obviously, the full year performance, but we do expect.
On average over the last three to five years, we've seen about 10 million of positive EAC adjustments per quarter, averaging up to about 40 million per year. So we do expect there to be some upside in the second half of the year, obviously, we had.
Pretty large charge this quarter.
But going forward I don't see that there's any reasons for expected challenges on some of the other some of the other.
And our portfolio.
As they have in the past.
To your point reduce jet.
Generally back end.
Improvements in both profit and cash, especially towards the fourth quarter.
Greg Konrad: And then just last one for me just in terms of general capital deployment, obviously, there has been some restrictions as the proxy fight was ongoing. But now that that's behind you, you called out paying off the convertible, but it still seems like there's quite a bit of capacity, how are you thinking about capital deployment going forward, whether M&A or share repurchases, and kind of the outlook there?
Some restrictions.
The proxy was.
It was ongoing but now that thats behind you you called out paying off the convertible, but it still seems like theres quite a bit of capacity. How are you thinking about capital deployment going forward, whether M&A or share repurchases.
The outlook there.
Eileen Drake: Hey, Greg. So one of the Board's immediate actions, as you mentioned, was to approve the call of the outstanding two-and-a-quarter notes and so these notes were maturing at the end of next year, but we believe that this was the right time to act in order to remove the debt from our balance sheet and really eliminate the impact of this convertible instrument on our diluted EPS calculations. But outside of that, working with our board, we're certainly looking at the right level of internal investment to support our program needs as well as potential to return capital to shareholders through a share buyback. And also in addition to that obviously, we're viewing the M&A landscape to determine where the opportunities exist for inorganic growth. So the new board and the management team will work together, evaluate all options, and together we'll set those capital allocation priorities with our primary intention of creating maximum value for our shareholders. As a matter of fact, I'm excited. In about four hours, we have our very first Board meeting with our new Board and that is certainly a topic of discussion today.
So one of the Boyd's immediate actions as you mentioned was to approve the call of the outstanding two and a quarter notes and so these notes were maturing at the end of next year, but we believe that this was the right time to act in order to remove the debt from our balance sheet and really eliminate the impact of this convertible.
On our diluted EPS calculations, but outside of that.
Working with our board, we're certainly looking at the right level of internal investment to support our program needs as well as <unk>.
Potential to return capital to shareholders through a share buyback and also in addition to that we're obviously, we viewing the M&A landscape to determine where the opportunities exist for inorganic growth. So the new board and the management team will work together evaluate all options and together we'll set those.
Capital allocation priorities with our primary intention of creating maximum value for our shareholders matter of fact I'm excited.
And about four hours, we have a very first board meeting with our new board and that is certainly a topic of discussion today.
Greg Konrad: Thank you.
Eileen Drake: Thanks, Greg.
Operator: The next question is coming from Seth Seifman from JP Morgan. Your line is now live.
Seth Seifman: Hey, thanks very much. Good morning, everyone. Thanks for doing the call today. So just thinking about the rest of the year, Dan it sounds like you talked about aiming to get back to mid-single digit growth by the end of the year, so let's say that's 620 million bucks or something like that in the fourth quarter. Just given the labor headwinds and supply chain risks out there, how do you assess the feasibility of that? How do you assess the risk around that level of sales by the time you are exiting the year?
Good morning, everyone. Thanks for doing the call today.
So just thinking about the rest of the year, Dan It sounds like talks.
<unk> talked about.
Aiming to get back to mid single digit growth by the end of the year, So let's say that.
620 million bucks or something like that in the fourth quarter.
Just given the labor headwinds and supply chain risks out there.
How do you assess the feasibility of that how do you assess the risk for around <unk>.
Around that level of sales by by the time you are exiting the year.
Dan Bailey: Thanks, Seth, good questions. Certainly there are headwinds in both the supply chain as well as hiring and we're having the same challenges as others in our industry, broader than our industry. But on the supply chain side, we are primarily domestic-based supply chain, so we don't have some of the global issues that some folks are having on a larger scale. So we only have about I think 75% of our overall supplies coming from 25 key suppliers. So we can closely manage that supply chain, we work very closely with them. We have our supply chain engineers that are onsite with our key suppliers and so that's how we're managing it. For the second half of the year, a large driver of those sales will be some of the catch-up on RS-25, as I mentioned in both the first and second quarter. [inaudible] delays have slowed that program on the sales side and then the volume coming through on the profit. That's a key focus for us. And then on the defense side of that, you have some new development programs that are bringing growth such as hypersonic NGI and those are going to need hiring, so we need to hire people and we're very focused on that. So the same issues as others, and you're right, we got to have a very clear focus on those two items, but we do have a line of sight to those sales in the second half.
Certainly there are headwinds in both the supply chain as well as.
Youre hiring so we're having the same challenges others in our industry.
Broader than our industry, but on the supply chain side, we are primarily domestic based supply chain. So we don't have some of the global.
Issues that some folks are having on a larger scale. So we only have about.
I think 75% of our overall supplies coming from 25 key suppliers.
So we can closely manage those suppliers that supply chain, we work very closely with them we have.
Our supply chain engineers that are onsite with our key suppliers and so that's how we're managing it for the second half of the year a large driver of those sales will be some of the catch up on August 25, as I mentioned in both the first and second quarter.
Gerald delays have slowed that program on the sales side and then the volume coming through on the profit.
That's a key focus for us and then on the defense side of that you have some new development programs that are bringing growth.
Microsoft Ax in Gi and those are going to need higher rate right. So we need to hire people and we're very focused on that same issues as others and youre right. We got to have a.
Very clear focus on those two items, but we do have a line of sight to those those sales in the second half.
Seth Seifman: Great, thanks. Is there sort of a target level of employees that you are looking to add by whether it's year-end or some other point in the future?
Is there sort of a target level of <unk>.
Employees that.
You are looking to add by whether it's year end or some other point in the future.
Eileen Drake: Yes, this is Eileen, and good morning. So it's a good problem when you need more employees and it's a positive sign obviously of the demand of our products. So there's a need for about 400 employees and I would say that's mostly on the labor side and it's mostly in defense due to growth. So we have a huge effort working with recruiting firms and also internal recruiting and partnering with the different organizations around, Camden, Arkansas, Huntsville, Alabama, primarily where we're doing our hiring. So total focus on it and it's just an issue that's in the industry but laser-focused on it.
So.
It's a good problem and you need a more employees and it's a positive sign obviously.
<unk> of our products. So there's a need for about 400 employees and I would say that's mostly on the labor side and it's mostly in defense due to growth.
So we have a.
A huge effort working with recruiting firms.
Firms and also internal recruiting and partnering with.
The different organisations around Camden, Arkansas, Huntsville, Alabama, primarily where we're doing a hiring so.
Total focus on it and it's just an issue that's in the industry by laser focused on it.
Seth Seifman: Great, thanks. And then if I could maybe squeeze in one on the execution. And so just thinking about the standard missile from here, it's something I think Raytheon is been fairly vocal about. Do you feel like these changes that you're making kind of get your arms around the issues and enable you to execute on the contract? And then should we think about this as being let's say zero margin, but when the next standard missile contract comes in 2024 that will be a positive contributor to earnings and cash flow?
And then if I could maybe.
And.
One on the <unk>.
Execution.
And so just thinking about <unk>.
Standard muscle from here.
Yes.
<unk>.
I think Raytheon is been fairly vocal about.
Do you feel like these changes that you're making kind of get your arms around the issues at.
That enable you to execute on the contract and then.
Should we think about this as being let's say zero margin, but when the next.
Standard missile contract comes in 2024 that will be.
Positive contributor to earnings and cash flow.
Eileen Drake: Yeah, great question. So first I'd like to just point out that of course growth really gave rise to the negative EAC in this quarter is only a portion of the program. So we have several different products that we supply for standard missile family of missiles and parts of this portfolio are performing extremely well. So when you see that cost growth it's not on 10% of the business is to think about it as rather just a subset of that. So we mentioned we had some supply chain issues and we fell behind deliveries on one of the contracts and we also had some impact due to COVID also combined as Dan mentioned with an outlook from the government and the customer that they wanted to increase its production rate. We really sat back and said in order to substantially increase the annual capacity the best course of action was to make an investment in tooling, training, hiring, and really reengineering of the manufacturing process. So these investments, not only do they allow us to complete our current contract within the period of performance, in fact, it actually allows us to shorten the period of performance by about six months.
Missiles and parts of this portfolio are performing extremely well showing you see that cost growth its not on 10% of the business is to think about it and it's rather just a subset.
That so we mentioned we had some supply chain issues and we fell behind deliveries on one of the contracts and we also had some impact due to.
Cologuard.
Also combined as Dan mentioned with an outlook from the government and the customer that they wanted to increase its production rate, we really sat back and said.
In order to substantially increase the annual capacity the best course of action.
With to make an investment in tooling training hiring and really reengineering of the manufacturing process. So these investments not only do they allow us to complete our current contract within the period of performance in fact, it actually allows us.
To shorten the period of performance by about six months.
It also gives confidence to our customers that we have the capacity in place to address the quantity increase that we expect to start in 2024/2025. So although EAC adjustments are never an easy decision to accept, in this case the investment in capacity really allows us to better keep our commitments to the customer, but also prepare for the growth market demand. And I just want to maybe end that piece of the question with we're performing very well throughout the rest of our portfolio. So all the components of the standard missile that [inaudible] and other tactical programs performing well, which is really evident when you look at the EBITDA margins, excluding this one-time EAC adjustment. So with the one-time impact of EAC adjustment on a portion of standard missile behind us, we really see a return to more normalized margins in the second half of the year. And obviously, we're in active discussions for next future contracts to your point with all of our customers on these programs, but I think putting in these changes really allow any follow-on contracts to be even stronger.
In this case the investment in capacity really allows us to better keep our commitments to the customer, but also prepare for the growth market.
Jim and I, just want to maybe in that piece of the question with <unk>.
Performing very well throughout the rest of our portfolio. So all the components of the Stena missile that <unk> and other tactical programs performing well, which is really evident when you look at the EBITDA margins, excluding this onetime EAC adjustment.
So with the onetime impact of EAC adjustment on a portion of standard missile behind US, we really see a return to more normalized margins in the second half of the year and obviously, we're in active discussions for Nexium future contracts to your point with all of our customers on these.
Programs, but I think putting in these changes really allow any follow on contracts to be even stronger.
Seth Seifman: Great, thanks very much. And then maybe just a final, final one for me to follow-up on Craig's question about capital deployment, I guess, we see the cash balance now if we pro forma for the redemption of the convertibles, I think it's something like 400 and change million and then it sounds like you intend to generate cash in the second half of the year. So maybe if you could give us a sense of the magnitude of that cash generation expected in the second half, Dan, and also what's an appropriate level of cash to kind of have on the balance sheet going forward.
Thanks very much.
And then maybe just a final final one for me.
To follow up on Craig's question about capital deployment, I guess, we see the cash balance.
Now if we pro forma for the redemption of the convertibles I think it's something like 400 and change million and then it sounds like you intend to generate cash in the second half of the year. So maybe if you could give us a sense of the magnitude of that cash generation expected in.
And second half, Dan and also whats the whats an appropriate level of cash.
I have on the balance sheet.
Going forward.
Dan Bailey: Sure, thanks Seth. So over the time, we've kind of analyzed where we think is the minimum level of cash. We think that we can operate with about $150 million to $200 million of cash on the balance sheet. To your point about the second half of the year, our working capital has grown quite a bit so we're going to be working to burn that down toward the second half of the year. This year has trailed a bit but the pattern is similar to our historical pattern that most of our cash will come in the fourth quarter. Depending upon the contract mix, our working capital growth can fluctuate from year to year and as I mentioned in my discussion, we had multi-year contracts that drove quite a bit of negative working capital through cash advances through 2019 and 2020. Those large contracts are now earning downloads advances so 2022, and 2023 will be challenging years. I can tell you this year, we're not going to meet our 100% net income goal.
So.
Over the time, we've kind of analyzed where we think is the minimum level of cash.
We think that we can operate with about $150 million to $200 million of cash on the balance sheet.
To your point about.
The rest of the second half of the year, our working capital has grown quite a bit so we're going to be working to burn that down toward the second half of the year. This year has trailed a bit.
But the pattern is similar to our historical pattern that most of our cash will come in the fourth quarter.
Depending upon the contract mix, our working capital.
Growth or can can be quite slow can fluctuate from year to year and as I mentioned in my discussion, we had multiyear contracts that drove quite a bit of negative working capital through cash advances through 19 and 20 those.
Large contracts are now earning downloads advances so.
2022, and 2023 would be challenging years I can tell you. This year, we're not going to meet our.
100% of net income goal.
In addition to the working capital, we also have some headwinds as everyone else in the industry from the R&D tax changes, which will drive probably $40 million to $50 million of additional cash taxes this year unless they reveal that. So currently, we're generating probably all of our cash for the year in the fourth quarter, we're going to trail until then. But it will be below our net income goal. We'll probably get closer to that next year, but then in 2024, when we do our new multi-year contracts we will start seeing an uptick again.
Changes, which will drive probably $40 million to $50 million of additional cash taxes this year unless they reveal that.
So currently.
We're generating probably.
All of our cash for the year in the fourth quarter, we're going to trail until then.
But it will be below our R. R.
Net income goal.
Probably.
Get closer to that next year, but then in 2024, when we do our new multiyear.
Contracts will start seeing an uptick again.
Seth Seifman: Great. Thanks very much for taking all the questions.
Thanks, very much for taking all the questions. Thank you.
Multiple speakers: [Eileen Drake] Thank you. [Dan Bailey] Thanks Seth.
Operator: Thank you. As a reminder, that's star one to be placed in the question queue. Our next question today is coming from Michael Ciarmoli from [inaudible] Securities. Your line is now live.
Mike Ciarmoli: Hey, good morning, guys. Thanks for taking the questions. Maybe Dan just to kind of stay on free cash flow and thinking about the current levels of inflation, your ability to flow those higher costs through contracts, you mentioned you've got I guess 400 new hires, presumably they are coming in under higher wages. Should we expect some inflationary headwinds on the EBITDA margins until you're able to free up contracts, current kind of fixed price contracts come to a conclusion?
Maybe Dan just to kind of stay on free cash flow and thinking about.
Current levels of inflation your ability to flow those higher costs through contracts you mentioned you've got.
I guess 400, new hires presumably they are coming in under higher wages should we expect some some inflationary headwinds on the EBITDA margins until Youre able to.
We up contracts.
Current kind of fixed price contracts come to a conclusion.
Dan Bailey: Yes, sure, you hit it on the head. Obviously, where we have current fixed price contracts our prices are locked in so we're not seeing that in the near term. And then on our cost type contracts, obviously the cost plus the fee there's a lot to be charged through, so no real risk there. As we negotiate our upcoming annual buys and then our multi-year buys on the fixed price contracts there'll be pressure from our suppliers. Their costs are going up and so that inflationary pressure will drive our potential cost up. But we'll deal with that in the next level of negotiations and that could put pressure on our margins going forward but [inaudible] suppliers on that so we're not seeing it in the near term, in the next couple of years.
You hit it on the Ed, obviously, where we have current fixed price contracts.
Our prices are locked in so we're not seeing that in the near term.
And then on a cost type contracts, obviously the cost plus he has a lot to be charged through so.
No real risk there as we negotiate our upcoming annual buys and then our multiyear buys on the new fixed price contracts there'll be pressure from our suppliers.
Their costs are going up and so that inflationary.
Pressure will drive our potential cost up so.
But we'll deal with that in the next level of negotiations and that could that could put pressure on our margins going forward.
And. Got it. With our suppliers on that so we're not seeing it in the near term. In the next couple of years.
Got it.
With our suppliers on that so we're not seeing it in the near term.
In the next couple of years.
Mike Ciarmoli: Okay, so presumably the 14% kind of target EBITDA margin contemplates some of these higher cost pressures.
Moving to 14% kind of target EBITDA margin contemplates some of these higher cost pressures.
Dan Bailey: Yes, so that's our long-term goal Mike and we haven't given guidance, right? So as I mentioned at the beginning of my comments, as we go forward, we'll try to give you some more specific guidance, but the 13.5% to 14% is our long-term range. We do expect to see uptick towards the second half of this year. As I mentioned earlier, the one contract that we had a large charge on this quarter is one contract diverse portfolio that is performing quite well and the 14% is a long-term goal, but we do see that as achievable.
Mike we haven't given guidance right. So.
As I.
And at the beginning of my comments as we go forward, we'll try and give you some more specific guidance, but the 13, 5% to 14% is our long term range, we do expect to see uptick towards the second half of this year as I mentioned earlier.
The one one contract at a large charge on this quarter is one contract diverse portfolio that is performing quite well.
And the 40% is a long term goal, but we do see that as achievable.
Mike Ciarmoli: Got it. And then just back to standard missiles, obviously the kind of challenges there, but the broader portfolio of your tactical missile systems motors, are there any supply chain constraints with some of those higher volume programs, especially maybe what we're seeing in the context of demand from Ukraine, and the ability to potentially surge production there?
Standard missile obviously.
The kind of challenges there, but the broader portfolio of your tactical.
Mitchell systems Motors are there any supply chain constraints with some of those higher volume programs, especially maybe what we're seeing in the context of demand from Ukraine, and the ability to potentially surge production there.
Eileen Drake: We don't see any major supply chain issues. As we mentioned there was a bit on this one program and as well as the RS-25, really around first article inspections and starting up those programs again, but I haven't seen any major supply chain issues on the defense side that would hold back any orders.
As we mentioned there was a bit on this one.
Program and as well as the IRS 25, really around first article inspections and starting up.
Those programs again, Havent havent seen any major supply chain issues on the defense side.
That would hold back any orders.
Mike Ciarmoli: Got it. And then just on the backlog and the bookings, was the biggest driver to backlog growth sequentially the 116 engine orders for the Balkan or were there any other sort of orders you could talk to that maybe came in that contributed?
On the backlog and the bookings, what's the biggest driver to backlog growth sequentially.
The 116 engine orders for for the Balkan or were there any other sort of orders you could talk to that maybe came in that.
<unk>, yes.
Eileen Drake: Yes, so the bump in the quarter from the $6.4 billion at Q1 is in large part due to the ULA Awards that we announced in April and that was our largest RL-10 awards to date as Dan mentioned. With that award, our year-to-date book-to-bill is 1.2. Other large components of that backlog number are the SLS, Pac III, standard missile and [inaudible].
Dan and Michelle and that.
Mike Ciarmoli: Got it. Last one Eileen, just as it relates to what has been the proxy battle, should we expect everything to kind of totally put to bed now? I know, obviously, steel still owns 5%. Do you guys have any clarity as to what they expect to do with their position or just how should we think about any residual impact going forward here?
Last one I mean, just.
As it relates to what has been the proxy battle.
Should we expect everything to kind of totally put to bed now I know, obviously steel still owns 5% do we.
You guys have any clarity as to what they expect to do with their position or just.
How should we think about any any residual.
Impact going forward here.
Eileen Drake: Yeah, I don't have a crystal ball, but I don't see any impact. I think most of our shareholders realized the value of Aerojet Rocketdyne and the strength of this business. The fundamentals of the business are very strong and obviously our shareholders know that we're focused on the right areas by investing in line with our nation space and defense priorities in driving competitive improvement. So I don't know of any changes with that one shareholder but we will certainly let you know if something pops up.
I don't have a crystal ball, but I don't I don't see any impact.
Most of our shareholders are realized the value.
<unk> and the strength of this business the fundamentals of the business.
Very strong and obviously.
Shareholders know that we're focused on the right areas by investing in line with our nation space and defense priorities in driving competitive improvement so I.
I don't know of any changes with that one shareholder but but.
We will certainly let you know if something pops up.
Multiple speakers: [Mike Ciarmoli] Perfect. Thanks, guys. Thanks for hosting the call. [Eileen Drake] Thank you. [Dan Bailey] Thanks a lot.
Operator: Thank you. We have reached the end of our question-and-answer session, I would like to turn the floor back over for any further or closing comments.
Eileen Drake: Thank you. And before we end the call, I would like to say how incredibly proud I am of our Aerojet Rocketdyne team that has maintained a steadfast focus on delivering our innovative products for the critical defense and space missions that our company is very proud to support. I would also like to thank our new Board of Directors. I look forward to working with them and I look forward to our first board meeting this afternoon. And thanks to everyone for your time today and I look forward to speaking with you soon. Have a great day.
I look forward to working with them and I look forward to our first board meeting this afternoon.
And thanks to everyone for your time today and I look forward to speaking with you soon have a great day.
Operator: Thank you. That does conclude today's teleconference webcast. You may disconnect your lines at this time and have a wonderful day. We thank you for your participation today.