Q3 2022 Howmet Aerospace Inc Earnings Call
Good day and welcome to the Howmet Aerospace third quarter 2022 earnings Conference call. All participants will be in a listen only mode should you need assistance. Please signal conference specialist by pressing the star key followed by zero.
After todays presentation, there will be an opportunity to ask questions and please note that this event is being recorded I would now like to turn the call over to Paul Luther Vice President of Investor Relations. Please go ahead.
Thank you Cole good morning, and welcome to the Howmet Aerospace third quarter 2022 results Conference call I'm joined by John Plant Executive Chairman, and Chief Executive Officer, and Ken Giacobbe, Executive Vice President and Chief Financial Officer.
After comments by John and Ken We will have a question and answer session I would like to remind you that today's discussion will contain forward looking statements relating to future events and expectations.
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 today's presentation references to EBITDA and EPS mean, adjusted EBITDA, excluding special items and adjusted EPS. Excluding special items. These measures are among the non-GAAP financial measures that we have included in our discussion.
Reconciliations to the most directly comparable GAAP financial measures can be found in today's press release and in the appendix in today's presentation with that I'd like to turn the call over to John .
Thanks P T and welcome everyone.
Let's move to slide four.
<unk> continued to perform well in the third quarter.
Sure well in line with guidance midpoint, and EBITDA margin was strong at 22.5%.
Revenue EBITDA and earnings per share grew for the fifth consecutive quarter.
Q3 revenue was 1.433 billion almost fractionally lower compared to the midpoint of guidance of $1 4 billion.
All aerospace segments showed strong performance with sequential growth in the third quarter.
Commercial transportation was lower reflecting normal seasonality.
And the fact that the wheels, Bob cast House, Bill, which has not been resolved.
On the production side walk back fully online.
Third week locked out at all.
In September we saw commercial aerospace customers rebase, the schedules, notably in energy products, reflecting two dynamics.
Firstly, a low a narrow body engine build over the summer.
Paul that was originally envisaged.
Due partially to the availability of structural castings.
Secondly, customers, bringing a full inventory levels in line by year end.
I'll provide further commentary in the outlook section of my remarks.
EBITDA was $323 million.
Further progression on Q1 and Q2 of the year.
Free cash flow was positive.
Full cost however impacted by carrying higher commercial aerospace inventory levels again due to the scheduled the balances of our customers.
Q3, ending cash was a healthy $454 million after repurchasing approximately two 8 million shares for $100 million. That's an average price of $36.17 per share and also paying the quarterly dividend.
Legacy pension liabilities continue to be reduced which resulted in a reduced year to date cash contributions of approximately 45%.
I'll now pass the call to Ken for commentary by end market and by each business segment.
Thank you John .
Please move to slide five for an overview of the markets.
Third quarter revenue was up 12% year over year, the commercial aerospace recovery continued in the third quarter with commercial aerospace revenue up 23% year over year, and 7% sequentially driven by the engine products segment and the narrow body recovery.
Commercial aerospace has grown for sixth consecutive quarter and stands at 47% of total revenue, but continues to be far short of the pre COVID-19 level.
Which was 60% of total revenue.
Defense Aerospace was down 4% year over year, driven by continued customer inventory corrections for the F 35, which was in line with our expectations.
Commercial transportation, which impacts both the forged wheels and fastening systems segment was up 13% year over year, driven by higher aluminum prices and higher volumes, partially offset by foreign currency.
Finally, the industrial and other markets, which is composed of IGT oil and gas and general industrial was down 2% year over year.
Within the industrial and other markets oil and gas was up 11%.
T was down 2% and general industrial was down 9% on a year over year basis now.
Now, let's move to slide six.
As usual, we will start with the P&L and the focused on enhanced profitability.
In the third quarter revenue EBITDA EBIT margin and earnings per share were all in line with guidance.
Revenue was up 12% year over year, including material pass through of approximately $70 million.
EBITDA was $323 million and EBIT margin was a healthy 22, 5% if.
If we exclude the $70 million impact of higher material pass through EBITDA margin was 120 basis points higher to 23, 7%.
Adjusting for material pass through the flow through of incremental revenue in the quarter to EBITDA was strong at 39%.
During Q3, we continued to recruitment of head count by approximately 350 employees primarily in engines.
Year to date, we've increased head count by approximately 1575 employees focused in engines and fasteners in Q4, we do not expect significant head count additions.
Adjusted earnings per share was 36 cents up 33% year over year.
For the quarter the impact of foreign currency was minimal.
Moving to the balance sheet free cash flow year to date was $130 million, including inventory build of approximately $270 million primarily for the commercial aerospace recovery.
Cash on hand was healthy at $454 million after buying back $100 million of common stock and funding the quarterly dividend.
The average diluted share count improved to a Q3 exit rate of 419 million shares.
Year to date net.
Pension and <unk> liabilities were reduced by approximately $85 million in cash contributions were reduced by approximately 45% or $35 million.
Discount rates continued to be favorable and will be re measured at the end of the year, which should further reduce net pension liabilities.
We continue to expect annual cash contributions to be approximately $60 million versus expense of $20 million.
Finally, net debt to EBITDA remains at three times.
All bond debt is unsecured and fixed rates, which will provide stability of our interest rate expense.
Our next bond maturity is in November of 2024.
Moving to capital allocation, we continue to be balanced in our approach.
Capital expenditures continue to be less than depreciation at approximately 65% in the third quarter.
Productivity Capex continues to focus on automation products projects and the engines and fasteners business to improve yields enhanced quality reduce outsourcing and mitigate labor risk.
We purchased approximately two 8 million shares of common stock in the quarter for $100 million.
Year to date, we have repurchased approximately $9 7 million shares of common stock for $335 million with an average acquisition price of $34 60 per share.
Sure.
Buyback authority from the board of director stands at $1 billion.
Lastly, we continue to be confident in free cash flow.
The dividend was double the four cents per share per quarter with the first higher payment can be made in November of 2022.
Now, let's move to slide seven to cover segment results.
Q3 was another solid quarter for engines year over year revenue was 14% higher than the third quarter with commercial aerospace up 30% driven by the narrow body recover.
Aerospace was down 5% IGT was down 2% and oil and gas was up 11%.
EBITDA increased 23% year over year and margin improved 200 basis points to 22.7 2027, 2%.
Spike, adding approximately 260 employees in the third quarter.
Year to date net head count additions for the engine business was approximately 1040 employees.
Well the head count additions are preparing us for the future commercial aerospace growth. It does unfavorably impact near term results due at the time and cost required to train new employees, which could take several months depending on the position.
Now, let's move to slide eight.
Fastening systems year over year revenue was 15% higher in the third quarter.
Commercial aerospace was 24% higher driven by the narrow body recovery somewhat offset by continued production declines for the Boeing 787.
Defense Aerospace was up 16%.
Year over year segment, EBITDA increased 8%. Despite the addition of employees to support future growth year to date head count additions for fasteners was approximately 410 employees sequentially EBITDA margin improved 100 basis 180 basis points to 22%.
Now, let's move to slide nine.
Engineered structures year over year revenue was down 3% in the quarter.
Defense Aerospace was down 14% year over year, driven by customer inventory corrections for the F 35 as expected.
Commercial aerospace was 5% higher as the narrow body recovery offset the impact of production declines for the Boeing 787.
Segment, EBITDA increased 8% year over year, EBITDA margin improved 140 basis points to 14, 5%. Despite the inventory burn down of the F. 35 continues zero to low builds on the 787 and inflationary cost pressures.
Structures Q3, 2022, EBITDA margin of 14, 5% with greater than the 2019 annual rate of 14, 2%. When 2019 revenues were over one point to $5 billion.
Finally, let's move to slide 10.
As expected forged wheeled year over year revenue was 15% higher than the third quarter to $35 million increase in revenue year over year was almost entirely driven by higher aluminum prices.
Commercial transportation demand remains strong, but volumes continue to be impacted by customer supply chain issues limiting commercial truck production.
Segment, EBITDA decreased 11% due to the impact of unfavorable foreign currency, primarily driven by the euro while.
While the pass through of the higher aluminum prices did not impact EBIT dollars did unfavorably impact margin by approximately 340 basis points.
The impact on EBITDA margin increases to more than 550 basis points. If you also include the unfavorable margin impact of passing through higher inflationary costs like the European energy costs, and the unfavorable impact of foreign currency.
Before turning it back over to John .
I'll remind you that the impact of foreign currency to howmet and total is minimal as the aerospace segments provided natural foreign currency hedge against the forged wheels segment.
Lastly, in the appendix, we've updated assumptions, including an improvement in the annual operational tax rate to approximately 23, 5%, which translates into a Q4 operational tax rate of approximately 22%.
Also we have updated annual assumptions.
The improvements in our cash tax rate net pension liabilities, depreciation and amortization capex and diluted share count.
Now, let me turn that back over to John .
Thanks, Ken So let's move to slide number 11.
First let me comment on the wider picture in commercial aerospace.
Recovery continues.
With increasing airline schedules on load factors, especially in Europe , and North America.
Airline profits are rebounding well, a new aircraft are being Gordon, especially narrow body aircrafts.
International travel has also rebounded during the year and is showing strength, which is leading to modest increase production as you move into 2023, notably for the Airbus a 350 and the Boeing seven Eighths Oh Rich recent certification.
Specially the aftermarket also continued to increase.
This trend provides optimism.
House Bill volume will continue to strengthen throughout 2023 and 2024.
Recent aircraft build rates issues has been more the result of parts availability.
Especially but not confined to engines.
Well, we have to be cautious at this time pending more visibility of unrestricted bills, allowing us to reach that build levels of 55 two months for the <unk> hundred 20.
I'm going to reach that build levels of 31 per month on the 737 Max.
We do envisage admission.
Commercial aerospace revenue should be up around 20% in 2023.
Consolidated Hamas, including commercial aerospace I think the other sectors of defense industrial.
Industrial gas turbine oil and gas and commercial transportation is expected to be up approximately 10% plus or minus 2% and revenue.
Further refine that will be provided in February 2023 upon release of Q4 earnings.
In the more immediate timeframe of Q4, we do envision the sequential growth.
However, approximately $17 million of lower revenue compared to previously envisaged primarily and engine products as a result of the lower engine build achieved on customer inventory draw down toward the end of year to my earlier comments.
This results in an annual guide of $5 six 2 billion due to a small offsets in other business areas beyond engine.
And earnings per share of 38 cents in the fourth quarter, which again is another sequential increase unless you've shown in each quarter of 2022.
Higher inventory will not be needed at year end to accommodate the snapback and increasing build starting in the first quarter of next year once you've gone through this inventory correction.
More specifically the guidance for Q4 is as follows.
Revenue 1.47 billion.
30 million minus 20 million E.
EBITDA 330 million, plus 6 billion minus 5 million and earnings per share of 38 cents plus or minus a penny.
For the full year revenue of $5 six 2 billion plus 13 minus 20 billion EBITDAR of one point to 7 billion plus six minus $5 million.
Earnings per share.
Adult 40, plus or minus the same as we've narrowed the range from previous guidance.
Free cash flow of 560 million, plus 20 million minus 40 million and this is driven this reduction compared to probably God, just driven by the higher year end inventory carried into 2023.
Continued commercial growth aerospace growth in the first quarter.
Let's move to slide 12 for summary.
2022 as another solid year with increases in revenue and profit building in each quarter and sequentially in Q4.
Momentum just continue into 2023. These commercial aerospace expects you to perform above normal growth rates in 2023, 2024, and also 2025 before.
Getting to a more normal 4% per year growth for aerospace.
We look forward to the future. So that's now to take your questions.
Yeah.
We will now begin the question and answer session. You ask a question you May Press Star then one on your Touchtone phone.
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Yeah.
Okay.
Uh huh.
And our first question today will come from Robert Spingarn with Melius Research. Please go ahead.
Hi, good morning.
John .
Good morning, everybody, John there seems to be a bit of a disconnect and and commercial aero and the messaging.
But you know from Boeing and Airbus So engine deliveries for Pratt and CFM were up significantly in Airbus as the Oems and Oems are catching up a Boeing says talks about the bottleneck, which you referred to earlier. So are you seeing you know.
More volumes for leap, one a versus b, how do we make sense of this difference.
That we think is occurring on the week.
Okay.
So.
First of all let me agree with you that it is confusing I.
I think it's confusing for everybody at the moment.
Well, let's start off with a broad picture and then talk about how much before any commentary on on a wider basis.
So.
The Big picture is.
You know commercial aerospace continues to grind higher everybody's trying to do the right things.
Airlines are improving.
I think aerospace manufacturers are improving the throughput.
And the engine manufacturers supporting those aircraft builds are also.
Doing that part of the whole thing I guess I'll say everything is going perfectly.
<unk> seen from some of the numbers and sometimes the disconnects apparent from commentary on Cole's last week.
Yeah, Let me deal with have met first and say, we've been really well per pad through the loss.
Yeah and beyond as you would know we start to recruit.
But.
In the second quarter of last year, and HUD almost a thousand people last year.
Through year to date I think we're approaching now something like 5800 people through the end of the third quarter.
And then I think the most salient fact for ourselves with that during September .
Compared to the schedules and delivery requirements that we felt we would see full both September and the fourth quarter.
We saw a complete re basing of those requirements, where we've had areas, which should build and built up according to I think the anticipated engine builds in particular.
As we know the anticipated engine builds would not as high as the the actual was not as high as anticipated and you saw Airbus commenting on the fact that they had gliders.
In 70 at one point then it was down to maybe 10 or 20, so while I'll.
I'll say deliveries of engines did improve.
I don't think anybody believes that the quantity of engines that was originally envisaged to be built.
Well built.
In terms of the splits of whatever was deliberate on leap between one a one day you want to see we don't have any visibility into that I mean, we do note that.
The call last week, a problem G aviation, which provides a lot of those engines is that they were significantly up with an improved deliveries I think in the neither is 350 engines. How many went to a semi went to Boeing commack.
And indeed, how many of those engines, which we also sometimes forget they go to airlines of spares and also aircraft leasing companies and spares I don't really know.
It's difficult to judge.
Suddenly you see it as the new there was enough engines and the whole system.
Maybe they.
They are at about so but difficult to really know.
Nevertheless, the big picture is.
Those actual bills, both by CFM engines on leap engines.
And the bid envisaged.
I think we've heard in the past about restrictions around structural castings in particular, which probably not confined just do that.
And that whole when customers look touch where daiwa.
They expect it to finish the year with and also where they had received for myself for example, all of the airfoils they required.
And more maybe he's the to balance their own inventories for the end of the year is that a they will cut back.
And so despite still sequential growth quarter on quarter that growth is not as high as we had envisaged.
So right now we've a draw on our labor recruitment down significantly so it will be probably be recouped selectively in a few areas in the fourth quarter essentially the rest will go to zero.
No because we don't want to suddenly stopped production are we gonna carry about 17 million of additional inventory, which you will see that our cash balance. We ended the year and then of course, we need that caused the inventory to carry us through into the first quarter, where we do expect those requirements.
Will be placed back on us significantly engine build will improve and hopefully at Kraft our production will improve.
So we try to smooth themselves out so we'll utilize all of the labor that we've recruited carry on with production.
It into inventory. So we have a smooth start up into the start of next year. So we keep all of our customers happy.
Does it enable us to stop our sales hiring a lot of people and so we'll be able to eliminate some of that cost, albeit as you can imagine we were holding that cost in the in the month of September .
All you know into the balance of year.
That's the big picture.
In terms of exact.
Exactly what the rate of production of the 737 days.
M a N.
In the 320.
Don't think we are best placed to lots of them I believe that most people are heading off I'm a sell side too to Seattle. This week, so you've probably got a clearer picture during those visits so I think that covers it out for you, Rob, but I'll try to give you a sweep through the whole situation.
That's really helpful John and even with what you just said and I am heading out there with the others. Just on the 87 are you still looking for 15 chipsets for this year and do you have any insight into next year.
We have a revised skyline for next year, we don't have much for this year. It's I think it's going to be de Minimis a bet. He production on the 87. My guess is it's probably just the one month that we've seen previously I don't I don't really know pretty opaque to us.
You mean as inventory in the system for that.
We do have sky lines are showing it.
Clear improvements on the 787 build during the course of next year.
And I think from doing it from memory, it's probably the backend of the year at around about five aircraft per month.
I do have confidence that there is a market requirement for that because when I look at the sort of international demand.
For travel I'm, just look at I'll say, the cutbacks that were made in wide body.
During the last few years and if anything my guess is there's going to be a highly depend on wide body, which will support a rate for bugs Airbus or.
Will Boeing for their I used to be 50 is 787 above that rate, so I'm actually turning towards the optimistic side of fundamental demand.
The only question that we have is in terms of our own guidance as you know.
To have conservative should we be because you know we do hear this noise that you referred to about exactly how many were made.
Where the parts are one of the constraints and so that also causes us to be just a little bit cautious given the a the fact is that we've encountered in the last month or two and rolling into the end of the year will be I think as you know, we see that spiking up in the first quarter.
Thank you John I appreciate all the detail.
Okay.
Yeah.
And our next question will come from Gautam Khanna with Cowen. Please go ahead.
Okay.
Good morning can you hear me guys.
Can he had clearly golf I'm all good.
Terrific.
I wanted to ask if you could talk about share.
Share gain opportunity so anything incremental on titanium and are any of these pinch points on engine accruing to your benefit.
Our customers are engaging them on Caspian reported.
If you could just speak to that.
The I mean, the biggest pinch points for engine was I think has been around the structural castings, there's probably some.
Engine controllers, as well, but I don't really know that its probably lots of other things, which are not fully aware of.
So I think the commentary around structural cost things is pretty widely publicized.
And in the short term.
Really prevent it presents an opportunity to us because they were specific tooling and certification procedures, which are required and so it really is a case of getting the structural casting somebody from the supplier.
In terms of ourselves.
While we have been tighter than we'd like structural castings is that are we don't believe that we've caused any engine build issues.
They are beginning to see in that segment.
The significant improvements in our throughput and abilities.
And I'm, just not quite as good as the flow of F. Wells that we've been seeing because that's been a really a I'll say a high class a plus for us during the year, but short term nothing we can point to I think in the medium to longer term.
We'll see a benefit on the structural casting side.
Across the various sectors of the industry, but nothing for us to put into a let's say 'twenty two 'twenty three planning at all.
On titanium, which was your other question is that are those orders continue to to improve.
So we spoke to additional orders for your you know during the fourth quarter.
And that's looking a bit.
Better for us.
Albeit there's still you know significant areas to go because we still have in particular, one of the airframe manufacturers, which has got a lot of inventory and hasn't yet moved to.
Or those loose.
On the supply base, so more to come on that subject as we move into into next year.
Thank you.
And our next question will come from David Strauss with Barclays. Please go ahead.
Thanks, Good morning.
Hi, David.
John so to to try to simplify this.
Are you at.
No 31, a month on the Max on the engine side are you add 45 to 50 on the aluminum side for Air Boston. That's just really has to do with a shortage of other parts and as a result, the manufacturers kind of slowed down things to get everything else.
And given that they are building and below the rate that you are currently producing that.
Yeah, we've been building out rates so we've taken.
The requirements.
Our engine customers on the airframe manufacturers and we've just been more or less in line with that Oh, I'll say 50, plus four three twentyish as an example, probably with some attempted inventory for gainful rate build increases next year.
And in the case of a Boeing we were you know.
Fully planning on the 31, a month and had anticipated that they would.
Is it according to let's say verbal communication not any scheduled commitments.
Originally we were planning to rise during the first quarter of 2023.
As we all know that those production levels, probably have not been achieved.
And you know both the airframe manufacturers and certainly on the engine side, and so where we've been in line or even a I'll say a meeting for rate increases next year is that that inventory is being taken back out of our system to bring it down.
And to what actually has been produced and the recliner seat for years.
In particular, the engine manufacturers here towards that one year and then the inventory that they're carrying so there's not much point in carrying let's say additional inflows. When you don't have some of the other parts to go with the engine.
It's pretty static.
Simple David.
And John do you see at least from your side, where you sit any constraints you know whether it be you know hiring additional head count training head count raw material anything do you see do you see constraints to go up to the.
The mid fifties to 60 that Airbus is talking about on narrow body and Boeing going up to let's say low Forty's do you do you see a constraint from your side of things.
Not for my side.
We think our part going to change structural castings.
Oh, all being addressed them. So that's in good shape we.
I'm going to pull back on our hiring as I said again selective Lisa.
They will continue for example, hiring and training in our store.
Casting plots, but are you at the moment you should take a apples you no we don't.
Just staying with the labor we had at the end of the third quarter and pulls this two bought outside of a requirement. So so far we've been able to to increase.
Our.
The quantity of people and it hasn't really presented a great impediment to us sometimes the turnover of those people has been higher than we'd like but the quantity of labor has not been an issue for us so far.
Thanks very much.
Yeah.
And our next question will come from US Tomorrow Walton with UBS. Please go ahead.
Thanks, Good morning, I'm looking sequentially into four here it looks like.
It looks like your are you looking for a 4 million EBITDA growth bundle.
On the $40 million of sales growth.
Just curious is that.
The lower incremental driven by something like FX or mix. It sounds like labor is is probably a help and raw material pass through might be a push.
So can you.
And once again, if you wouldn't mind yeah.
Yeah sure thing John So if I just look sequentially from three Q4, Q, you've got pretty minimal EBITDA growth of about $4 million on the 40 million sales growth I'm, just curious, though right, though okay, holding you back if labor and raw materials aren't pasture aren't the issue.
So.
Let me start with commentary regarding the quota first I mean adjusted for the material pass through Incrementals were really strong, 79%, which was above the I'll say the midpoint of where we choose to previously you said, which is 35.
Plus or minus five.
So I think that was a really strong quarter.
The reason why we are being cautious about the fourth quarter.
Is that a weird carrying that labor into the full school. So that's we probably don't need enough for that reduced level.
Build and so there's a labor drag plus also the preparation of I'll say lots of other production part some facilities that go along with that and so that's the reason why you're not seeing the same level of incremental pull through.
For the fourth quarter.
So I think you should look at that that's just a.
Rebalancing of ourselves as we have drawn down.
17 million plus of engine products, which as you know a high margin business for us.
So I think it's completely in line with the commentary I gave him.
Okay Fair enough and then in that 10% growth sales in 'twenty three.
Flavor for what we should think about from incremental margins there.
I think we'll talk more about that in the AR in the February call.
I know that last year I gave the revenue guide because I thought it was important for 'twenty. Two I think the same is important so we really understand the wider picture around the company.
And having the confidence that we should be anywhere from say 10, plus or minus two 8% to 12% is a it is.
It is a statement of confidence that we're on the trajectory.
My only guess debating the angle of the recovery.
Either which way above the normal for aerospace.
C P. I understated nuomi four 5% is a it's more than double lot right and so it's a it's pretty healthy.
But not so we're not ready to give any margin guidance at this point.
Okay fair enough. Thank you.
Thank you.
And our next question will come from Seth <unk> with J P. Morgan. Please go ahead.
Hey, Thanks, very much and good morning, everyone Morningstar John .
I wonder yeah, so the 10% growth outlook for next year.
If aerospace is growing 20, and that's let's say, 45% of the sales base. This year. It implies really minimal growth in the rest of the portfolio. So if you could just talk about the you know what's happening in the other end markets.
And then specifically maybe help us around forged wheels, I mean between the the currency and energy pass throughs and aluminum pass throughs. There's you know a lot of ups and downs, especially in terms of the revenue numbers and the margin rate, but if we think about the you know the baseline of EBITDA dollars.
There.
And what this quarter says about what that might be going forward.
Any help there would be appreciated as well.
Okay. So in terms of.
The defense business and oil and gas and the industrial gas turbine I think all of those we'll see.
At this point to low single digit growth.
My guess is.
Maybe oil and gas will be how it might be defense or below but still expecting some growth in.
So if you plan for that some late across the did the commercial Aero.
Then the the one segment, where I think we're going to see a revenue decrease will be in a in the forged wheeled business for the commercial transportation segment. So let me try to explain what we see there.
I mean, the the first thing is of course, the headline number is is affected.
By the price of aluminum because its aluminum has fallen during the course of this year from its peak of $4500, a ton, including Midwest premiums or Rotterdam premiums.
It's like it's more like probably 2800, now and as we rebound on.
The pricing because we pass that back.
And you get a couple of effects those those new prices go into effect in the first of January .
Is that so you know there was a revenue decline, which doesn't affect the EBITDA dollars and therefore, there is a margin rate improvements from that.
At the same time, let me think about what do we expect by the way of volumes you know, we do notice that the order intake for example for class eight truck.
Was the highest its ever been in September I think 53000, plus trucks, which is really I'll say, great number probably peaking.
Plagued by the fact that many I'll say.
Manufactures haven't been willing to take or take hold as for next year until they were clear regarding the input prices of raw materials.
So it's difficult to separate out what's really going on except that the fourth quarter should see solid production improved compared to where we've been and I think that will continue in the first and second quarters next year then.
And then my my caution at the moment is in the second half of next year.
When I think we will see the effect of the higher interest rates bad on the economies, particularly in Europe , which as you know overlaid with energy prices.
And so I think there'll be a dampening of demand and it's probably around more of the distribution on the trade a segment of the business and so my anticipation is that the second half of next year it will be tougher.
Comparison to the second half of this year.
And I mean, obviously, it's only speculation stakes I want to be cautious about it but I think the correct planning assumption is solid performance through the next three quarters.
Then anticipate a bit of a draw down depending on how the economy is really doing it doesn't go into a recession or not.
And then try to make the assessment.
The best I can do at this stage is that when I look at it.
My guesstimate as being something like on a volume basis.
We could be.
Let's say I'll just give you. An example in the fourth at the moment is on the year may be three or 400000 wheels down in volume, we will probably pull half of that back by additional penetration of aluminum versus steel and and I'll say another.
I'll say programs, we have to increase our share.
Net I'm thinking that a little bit of volume caution in the second half.
With the effect of the alumina production, we will produce.
A drawdown of revenue or.
B the only effect on EBITDA will be a net drawdown of volume should it occur and I don't think there's a reason to be optimistic and say Oh, all is great and it will continue.
I don't think it's going to we're going to we're going to be affected.
By the emissions legislation for 'twenty full because there's an inability to build ahead.
So.
It's all down to that second half assumption of next year. So really just a guess on commercial real estate did nobody nobody knows but why put it out that it's going to be good.
Great that's very helpful.
So if you put that wheel thing that's a down.
The other single digit in commercial I think you can get to the guidance range of eight to 12 I'll give you.
Great.
Yeah.
Thank you and our next question will come from Kristine <unk> with Morgan Stanley . Please go ahead.
Oh, Thanks Johnny.
Johnny you've been clear that you now have the labor in place to ramp up next year. So when you think about how their training is that six months or so how much have they pressured margins to have labor. This early and how should we think about incremental margins next year, when we actually get the benefit of volume are coming through.
Okay.
We're gonna pulse for the main in Q4 for recruitment I'm, not totally and there'll be two or three or four plants that will continue.
Not a complete neck network you know we are choosing to pause that at this stage until we know more.
The additional people that before would you recruited during this recovery, which is some I'll say two and a half thousand Nit.
Up to rate and let that let's see productivity improve.
Depending on the job it can take anywhere from I'm going to say three months to bring in somebody into the plants and to be I'll say reasonably effective all the way up to two years.
So something like skilled areas and we have to move people around to try to balance all that out.
So I think there will be a benefit for that.
Stabilized so you shouldn't.
How much is it's difficult to say at this stage.
And it obviously depends on the growth next year, we will commence recruitment again in larger numbers in January as we expect the build rate to increase in January will go for the first quarter, taking somebody who's out of inventory from the fourth quarter, but we'll continue them.
Restart, our and Fi up to to recruit people again.
And so that's I'll say countervailing.
But if you gave any commentary about margins for 2023 at this point.
Thanks, Don and maybe following up on the inventory build I mean, the casting since there's a shortage in castings and forgings have been well publicized and you know that your Oems have been very clear that there is strong demand for aircraft out there I guess I would've thought that we'd be in an environment of full steam ahead for it.
Demand for your product.
What's causing the uncertainty and also with the 80 million dollar.
Inventory headwind that you highlighted are in this quarter when does this unwind and you know what we're could peak balanced view.
Okay, I think everybody expected continued buoyancy as we did for Oh for increases in build and I think they are recurring it's if it's only a question of degree.
And said if if we haven't built the stadia craft has it been sort of it seems to be a case, where that's correct yeah.
Going off the the earnings calls last year from the airframe manufacturers.
Well you know there's a notable.
And a real improvement in engine build you know it still is an accurate so I think a little bit lower than people that are probably planning for them.
So I mean, and what he's trying really hard throughout the whole system. You know airlines are doing well and improve not trying hard to get people.
Meaning aircraft back into service.
The engine manufacturers trying really hard now I think the airframe manufacturers everybody's trying really hard to get up this ramp and deal with all the factors that they've had to cope with in terms of which starts with COVID-19 and supply shortages in freight rates.
And just training of labor and availability and then I'll.
Other I'll say impediments and other materials in the supply chain. So there's been a lot going on so I think everybody is trying to do the right thing and I think all we're talking about here will have methods.
Well.
Some of our parts are being brought into line with what so what they cost elsewhere and maybe just a little bit of a less ambitious plan in terms of bill rates, just because I mean, we I think you can see that.
Probably we havent built that has not been as many Max's bill or maybe as many of you know narrow body, but she's built originally envisaged is my guess, but.
I'm trying to assess the information available.
Some.
And what's been said publicly on our on the the earnings calls of other companies.
Thank you for the color John .
Thank you.
And our next question will come from Elizabeth Grenfell with Bank of America.
Hey.
Hi, good morning.
What are the different customers prioritized in your queue are our more profitable customers prioritize first and then.
I'll start with that.
Okay No we are.
We treat every customer requirements with equal respect so there's no no prioritization.
I don't think that would be appropriate or that you're either a customer and we make a commitment and when we do that we are.
We did.
They live it to you to the very best of our abilities.
Alright, So if you had a certain number to ship out.
And the demand was mismatched there would be no prioritization in terms of who got what.
Yeah.
No I don't think so I don't think we should again respect.
It is a requirement of our customers have placed on us.
I I I don't think that we have a policy.
Nor apply them, nor even the ability. So if you think about our shipping docks.
They operate to the MLP schedule across many bonds when they ship they don't say Oh sneak a few extra boxes of parts to to somebody who's not a real profitable new.
People, who do that they don't have that information. So no. We are we will.
We supply to that where she was convicted and.
You would know instruction to to say, please send to discuss them because they're more profitable.
Okay. Thank you very much.
Thank you.
Yeah.
And our next question will come from Noah <unk> with Goldman Sachs. Please go ahead.
Hi, good morning, everybody.
No.
John could you, maybe just give us a broader update on where your market share gain efforts stand seem.
It seems like that's maybe happening in part related to these.
Supply chain challenges across the engine supply chain and then also you know titanium sourcing and I know you've talked about sort of being in different RF.
Our RFP processes I'm trying to write longterm contracts.
I'm curious how that's gone.
Yeah.
So it was a a more general note if we go through our own.
Planning routines during the course of the year.
And we.
Try to run through our intensive review each of our customers and where those opportunities may lie.
And ER and then we have our planning rounds, where we looked at so wherever he is the best place to place our resources, both engineering and then capital deployment.
And with a view that's our job as a set of executives is to is to basically grow above the market rate.
And my view is that if we only grow at market rates. They were not adding the value that we should be because we should be seeking to do more than that and.
Well not just nothing in terms of margin performance, but in particular the opportunity to grow.
Sure I'll take content.
So that's the basic stance that we have Noah and and then once we've gotten off when we see before us all of the opportunities.
Then at that point, we can make her own resource decisions, whether we allocate more capital to this area or.
Oh not area. According to the prospect of returns for us and clearly at that point.
We resource allocation so it isn't a massive just bottoms up we just you know this is.
The processing everybody wants more capital move resources me and everybody gets a fair shake on it. It's it's it's not that at all it's more these are all the opportunities and then our job as the leadership of the company used to then determine how do we allocate so whereas on the last question from Elizabeth.
She was asking do we prioritize in the short term and immediacy of deliveries no. We don't see in the long term absolutely. We do so we do resource allocate to those.
I have a clear process process for doing so.
And with the objective of meeting the target to be above above the rate of normal increase for those end markets we serve.
Yeah.
Okay and.
And last quarter, I think you specified adding $20 million of revenue to the fourth quarter.
You know fairly specifically related to a titanium sourcing.
Any any update on on that specifically and how that looks beyond this year.
It clearly continues to improve we've booked more orders in the AR.
This third quarter into the fourth quarter and that continues to be a positive for us.
It's still continuing and we have one major manufacturer, where we've engaged but still yet to really move in in terms of any significant orders essentially because there's a lot of inventory of titanium and the system at the moment without reduced.
The wide body builds will be Oh, he talked about.
So more to come I'm hopeful that we'll give you some proved assessments in in February .
But at the moment if you just say if you just assume that we are on track to achieve that 20 million.
A little slightly better for the fourth quarter.
And they will continue to improve in 2023 and 2024.
Okay.
Thank you.
Thank you.
And our next question will come from Matt Akers with Wells Fargo. Please go ahead.
Yeah, Hey, good morning. Thanks for the question could you touch on the defense decline in the quarter and specifically I guess the F 35 some of the.
Inventory corrections your thoughts how much longer does that still have to go on.
Yeah.
So our assumption is that the lucky do produce somewhere in the 145 to 55 range. This year and if anything probably let's say just take them 150 or little bit less is probably the the assumption.
Which will be you know an increase on.
And in last year.
We do note that the order intake for F 35 seems particularly strong and so that long 50, plus rates should continue we think probably for the rest of the decade and so that's all good news.
For us specifically because for the last two years.
'twenty 2020 'twenty, one we did produce a higher rate.
The customer sort of schedule requirements.
Anticipating as needed I think they would make.
And the closer to the 150 aircrafts since we never they produced probably not 130 to 140 range and therefore, they carry the inventory into into this year, which we said we would correct for the most part during twin.
2022 so in particular for the airframe and bulkheads part of the aircraft is that we've seen that downdraft and we've commented on that's affecting our structures business and Ken called it out again in Q3 as a major factor on our impact on defense.
Sales the continued.
Continued inventory correction.
Our view is that that will continue in Q4 and on into Q1 next year.
Were hopeful by the second half of next year at the latest.
In balance and so our production will be coming up.
On a on the F 35 to match rates, which were built to be a significant improvement for us and he starts combined with the increasing rates for the 787, then we should see some very positive.
Demand requirements for our structures business.
In particular and and that's also.
Part of my expectation, but in that range of guidance given to you for 2023.
Thanks, that's helpful. And then if I could do one more on pension I get that I know you mentioned.
With the higher rates that the liability gets a little bit better, but you know I guess when you factor in asset returns year to date.
Is it meaningfully different kind of next year versus 2022.
Yeah, I'll pass it across to Ken to give you a little bit more color on the essentially.
As interest rates move have moved up then.
So the down draft on the liability side a significance.
Returns this year, all lighter and some.
Lola.
And last year and in fact, I don't have the exact numbers to hand.
Can be a negative for that.
So situation.
And then when you put the two together is the along with the cash contributions. We have made we have a net liability reduction.
My anticipation is that we will show further reduction of liability in the fourth quarter.
To to make a meaningful change in the reduction of those legacy liabilities.
And I think all in net basis, it was probably down too.
When it gets around 700 million ish, plus or minus so it's a pretty de minimis number for the company now they're very different than it was two or three years ago.
Let me pass it across to Ken to comment specifically on the expected liabilities and assets.
Yeah. So Matt you know we've been doing a lot of work on the a.
Pension and OPEC program. So if you compare to where we are today.
Proved around $85 million in terms of net liability a lot of that's driven by actions. We started taking to clip off gross liabilities going back to Q2 of 2020, I believe it or not.
When we took out some U K.
And buyout programs, but from Q2 of 2020 to current we've taken off about $600 million of actions right. So that's helping drive the net liability.
But as John mentioned at the end of the year will snap the line again in terms of where we're at we get a nice favorability around discount rates because discount rates have moved from around two 7% at the end of last year to mid five percents right now so you're going to get a nice good guy on.
The liability side to your point.
Assets are mature even just track the S&P 500, there will be negative you pushed the two of them together, though going to get a nice reduction in terms of net liability also.
We've got to get to the end of the year, but we anticipate cash contributions next year.
<unk> be the same if not less based on all the work that we've done over the years.
Maybe I'll just that's really helpful to.
To give you a bit of a broader perspective, so when.
When I think about.
The environment, we're in where interest rates are going up rapidly and its possible. This week, you'll see a further 75 basis points increase in federal funds rate.
I mean that generally is bad news for most companies.
In the case of ourselves on a net basis is that if I look at our.
That then essentially all of our debt is fixed rate.
So Tony can impact us.
Financing and the next tranche of bonds, depending on what we've paid down if those bombs as well so I'm not anticipating that our interest rates costs go up that's all in the next two or three years. So that's good.
Pension liabilities will go down and that's good.
When I think about the markets. We serve I think we've already had a recession and the time of 'twenty 'twenty 2021 and the effects of Covid and then overlay that with the specific issues that Boeing had regarding production of say 737 and 787.
And so we wish should be set for and maybe uniquely as a sector set for growth.
Next two or three years.
And ER and that growth should come through.
Our balance sheets should improve as a result of the interest rate movement.
Is it pretty unique and good set of circumstances.
Yeah.
Okay.
And this month.
That's my optimism coming through.
Right.
Sorry carry on.
And this will conclude our question and answer session and also concluding today's call we'd like to thank you for attending today's presentation. At this time you may now disconnect your lines.
Yeah.
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