Q2 2023 L3Harris Technologies Inc Earnings Call
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At this time, it's now my pleasure to introduce your host Mark Kratz, Vice President Investor Relations. Thank you you may now begin.
Thank you Rob good morning, and welcome to today's call joining me or Chris Good basic to our CEO and Michele Turner our CFO .
During our discussion we may reference the Investor letter that we published to the website yesterday as always this call will primarily be focused on answering questions.
As you can imagine given the news we have a busy day, so we're going to hold the call. It 40 minutes. This morning.
I will be available throughout the day for follow ups.
During the call we may discuss certain matters that constitute forward looking statements. These statements involve risks assumptions and uncertainties that could cause actual results to differ materially for more information. Please reference the safe Harbor provision down in the Investor letter and our SEC filings. We will also discuss discuss non.
GAAP financial measures, which are reconciled to comparable GAAP measures in the investor letter.
Lastly, we conducted an investor perception study in the second quarter and recently reviewed the results with the board I want to thank those who participated and we are incorporating your feedback.
Before moving to questions I'd like to turn it over to Chris for some opening remarks, okay. Thanks, Mark and good morning, everyone yesterday marked a significant milestone for L. Three Harris and our acquisition of Aerojet Rocketdyne.
Our investor letter disclosed the T F T C will not block or acquisition.
This is one of the final closing conditions for the transaction and we are moving forward to close in the next day or so.
I look forward to extending a warm welcome to arrow Jets team of over 5000 employees, who will soon become part of L. Three Harris.
This acquisition represents a pivotal moment for both our company and the defense industry and is poised to generate shareholder value beyond initial expectations.
Budgets are increasing from munitions and the D. O D is committed D. P. A defense production act funding for the expansion and modernization of Aerojet Rocketdyne as operations.
Upon closing this acquisition will strengthen the defense industrial base Foster healthy competition and accelerate innovation and supported the war fighter.
In conjunction with this exciting news, we continue to focus on execution across the enterprise and have delivered on our financial commitments again in the second quarter.
Our results reflect the momentum we have been building over the last year as the team delivered the fourth consecutive quarter of top line growth, which accelerated to 13% with increases in each segment.
We don't talk much about our sectors, but 13 of the 14 grew their top line in Q2, and 13 of 14 had a book to bill greater than one Oh.
This gives me confidence that we've been investing in the right technologies and we're aligned with customer priorities.
Operating income was up 7% and margins expanded 50 basis points sequentially as we had anticipated.
Total we delivered earnings of $2 and $92.97 per share ahead of consensus.
And free cash flow was positive in line with prior commentary had over $300 million.
Given our performance to date, we are increasing revenue and EPS guidance for the year and reiterating our free cash flow commitment.
With easing supply chain constraints operational improvement initiatives and accelerating sequential growth in product centric businesses. We remain focused on delivering second half results for 2023.
With that let's open the line for questions Rob.
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One moment, please while we poll for questions.
Thank you. Our first question is from Peter Arment with Baird. Please proceed with your question.
Yes, Thanks, Good morning, Chris Michel Mark.
Chris Congratulations on the Aerojet deal if it's okay I wanted to kind of focus on that versus asking a question about the quarter, but maybe to start maybe you could just give us high levels of walk us through kind of the go forward plan on Aerojet and did you have to sign any consent agreements and any comments you would like to talk about on integration would be held.
Thanks again.
Okay well. Thanks, Thanks, Peter just as a reminder, we we announced the signed and announced the deal back back in December .
We received our second request in mid March and here, we are seven and a half months later.
Ready to to close the transaction. So it really was a great a great team effort I'm not sure everyone appreciates, how much time and effort. It takes to to go through that process. So a special call out to the to the L. Three Harris team because all of this was a you know in addition to their day jobs, the I T organization going.
Back years searching emails tax legal finance contracts and a lot of our external partners. So very proud of the team to be where we are in a relatively pretty pretty short period of time.
No. It was a very thorough review by the F. T C. As you can imagine.
And obviously the a D O D Department of defense would've had some input. So we responded to all inquiries and we are where we are today. So we put out that announcement.
The.
There's a waiting period had expired yesterday over the next day or so you know we have to finalize the financing and then and close the transaction.
We're gonna be in a good shape to hit the ground running relative.
Relative to your question about the consent agreement we did not.
Negotiate or sign a consent agreement, we gave assurances to the D. O D that we would be a merchant supplier of rocket motors and rocket engines. Yeah, we have a long legacy of being a merchant supplier and we will continue with that model.
Once we close Aerojet Rocketdyne I can assure you we are highly motivated to sell rocket engine rocket motors to anyone who wants to buy them.
The new rules are globally so are.
Some of the theories that were bound surround never made a heck of a lot of sense to me to be honest to you. We bought this company to sell engines in motors and that's what we're gonna do.
We'll be ready to hit the ground running on day, one we did have our integration our office with representatives from both teams a lot of time and effort.
On planning and.
Again, given the L. Three Harris.
Merger, we had a playbook that will use this is obviously an acquisition, but every function every decisions been made we're ready to go on on day. One so thanks, Peter I appreciate the kind comments.
The next question comes from the line of Seth <unk> with Jpmorgan. Please proceed with your question.
Okay. Thanks, very much good morning, everyone and yeah, Congratulations Chris and Michelle.
Maybe I'll just continue along that the Arabs outline here.
I guess, Chris it kind of seems to me that the defense Department has had a problem solver sourcing solid rocket motors and Ellsbury Harris has kind of raised their hand, and you know volunteered to help solve that problem. So you know now it's kind of get solved and so you know as you think about aerojet and we've seen.
Various complaints from their customers over the years and kind of a perceived lack of investment.
If you could talk to US about you know how you plan to address those issues you know both from an operational standpoint, and then from an investment standpoint, I think we've all seen that the $215 million.
God I think that's focused primarily on Daimler shovlin Stinger, but theres also standard missile Pac three THAAD. So you know thinking about those programs as well and what the investment requirements are.
Okay now again, thanks. Thanks that's.
Yeah, we we we did raise our hands, but took to help but you know we had.
It's a pretty active M&A process and you know there were several companies for a handful of companies that we thought made a lot of sense and one of those of course was the T. D. L line of Viasat and of course, Aerojet Rocketdyne as I've said before and I know there was feedback.
It was kind of unusual that both properties came to market in the same quarter. So you know it fits in strategically and in my opinion. So you know we're always <unk>.
Available to us to help the D O D. But you know the strategic rationale for Aerojet Rocketdyne continues to be you know entry into new markets. These are growth markets as you well know with especially on the weapons side and it's well aligned with the government priorities I already mentioned you know from when we announced it to where we are today significant increases in <unk>.
The budget and as you mentioned the DPA money you know it was over and above.
Maybe what we had planned so I think that makes it makes a lot of sense. We've been impressed as we've gone out to the sites with the talent and the skill of the workforce at these sites and you know as you would.
Spec the majority of those key individuals' hopefully all of them will be will be staying with the merger and I think as of last night, our you know the top.
100, or so individuals', we identified over 98% have agreed to stay with the company. So I was excited to see that.
Think a hypersonic you know I was going to be a capability that is very exciting it doesn't get a whole lot of press, but longer term you know when I look at where things are headed I think the.
The or soon to be our capability and hypersonic it actually sounds pretty good our hypersonic capability is going to be a differentiator in man I think continue to disrupt the market.
The we used to answer lots of questions about the backlog and whether a short cycle long cycle, but this clearly brings some long cycle backlog to L. Three Harris gives us more earnings visibility.
The business case that we laid out.
Back in December with the accretion of EPS and free cash flow.
First full year and first.
Full second year continue continue to remain in place or maybe slightly a slightly better so relative to your question on operations you know we.
We'd be obviously comply with the rules here is this a concept known as gun jumping, which is something you don't want to do so we did not gun jump, which means we really couldn't get too involved in in their businesses, but through the diligence process, we were able to engage with their team you know they have a plan.
To go forward that we've reviewed it's a real focus on our deliveries and quality as critical missile programs, you mentioned, a fair amount of those and most of that surrounds the the modernization of the Camden.
Arkansas production operations and expanding production across other sites and as you mentioned the D. P. A the $215 million.
Looked at that plan that money will go.
Mainly to those facilities and the programs you mentioned, but it also money in there too.
Digitize their engineering, so where we're quite excited about that so you know we've developed some some tools since the merger to improve operations and processes. You know we utilized capability modeling we have zero defect planning just there's a couple of examples.
So we're going to take those are processes.
And merge them into what the Aerojet has and will be ready to hit the <unk> hit the ground running on day, one will be at the key sites and we have a plan to execute its going to take some time as you would imagine but.
They're excited about the acquisition, we're excited about it and.
Next 48 hours or so we just want to close it and get ready to to go from there. So thanks Seth.
Our next question is from the line of Robert Spingarn with Melius Research. Please proceed with your question.
Hi, good morning.
Good morning, Thank you money.
Sticking with the topic at hand, I wanted to ask a financial question.
Given that you've just updated guidance, but yet youre going to close this in the next day or two I was wondering Chris if either you or Michel could talk about the guidance with Aerojet included for the rest of the year both from a P&L perspective, and then just maybe to follow on to Seth's question or on a capex.
X or investment perspective for the rest of 'twenty three and then in that Capex vein, how do you think about that long term.
Yeah, So I'll start Rob good morning, and thanks for joining so as Chris pointed out we're focused on closing the deal first and then we'll convene oven your arrows yacht employees for that the day. One celebratory events are we certainly are going to get to the guide we do plan to update the guidance in October for the five months remaining as part of our Q3 earnings call.
Of course for 2024 that'll be part of our January update consistent with the rest of our portfolio.
And once we have officially close we will be reviewing the forecast and the assumptions, but high level. We do anticipate revenue to be around 1 billion for the remainder of the year, but we don't anticipate a material contribution to earnings as we anticipate the income contribution will offset the interest expense from the incremental debt.
Do Christmas point around the value creation I Didnt do you just want to remind everybody. What we had shared previously which is consistent with where we stand today EPS accretion within year, one along with free cash flow within year Kale.
Yeah, and I think will give give more and more details you know what the hit the next at the next earnings call. You know, we will have two months of actual results and we can give a guidance for the remainder of the year, which of course is only only three three more months and I think it's all of the hall.
January of 24, when we give guidance for 'twenty four for L. Three Harris and this will be a separate segment as we've said before so you'll have visibility to that.
The growth and the profitability for for all four segments and.
I was gonna mentioned this at the end, but I know, there's several calls going on.
So I'll just do it now we are going to have a investor day in December something that we've wanted to do but we didn't want to schedule until we had confidence that the the deal was going to close. So we will we will get something out here in the weeks ahead on a on a date in the location, but at that time, we're going to give you a deeper insight.
Aerojet Rocketdyne update and refresh our how our trusted disruptor strategy is performing and then some of the other organic growth drivers that we have in our portfolio. So so more to come but look forward to seeing hopefully everybody in person in December .
Our next question comes from the line of Doug Harned with Bernstein. Please proceed with your question.
Good morning, Thank you.
Doug.
Yeah, one thing I want to switch gears, a little bit here when.
If you look at at where a lot of things are going right now in D O D and elsewhere.
With the T D L acquisition.
In principle, having link 16 combined with other assets you've got in comms space I am as it should.
Put you in a pretty interesting position to provide some really integrated system solutions now I'm just interested in how you see the opportunity there how large could that be if in fact, you see that and then.
Trying to assuming you do trying to make that work how do you go after something when this is a company that historically you've operated in many small silos as businesses and this would involve.
Really an integrated approach that I don't think we've seen so much in the past here.
Yeah.
Okay, well thanks, Thanks, Doug.
Yeah, a lot of questions. There look I think the you know the bottom line here is the are the T. D. O acquisition is is really looking better than maybe we had expected it's probably too early to declare success, but we're off to a real real strong start al I'll just pick up on the operations first and then.
Over the last year or so on some significant classified programs on the optionally <unk> fighting vehicle on on spear for the Navy and each and every one of these have in excess of seven or eight different health re Harris.
Entities working collaboratively crossing multiple segments. So we've thank all the challenges the companies have working internally, whether it's the internal accounting the cost transfer.
Who gets credit for the bonuses all the reasons why people have a hard time working collaboratively we've been able to fix and I think that's.
Kind of really set us up well for for exactly what you're talking about I mean, a customer interest.
Has been been very very strong.
And and and most of the discussions are focused on how we integrate the BCS way forms with the link 16 capabilities talk about link 16, having a footprint in over 20000 platform. So.
The boxes to put it.
Crudely are already there and it's just a matter of taken those capabilities and integrating them and then also possibly enhancing the feeling 16 capabilities.
Think well that sounds like a lot of words, you know what we were excited about and we put in the Investor letter is that near the end of the quarter we won.
Specifically T V. L 150 million dollar competitive Prime award for Meds, and misses the multi functional information distribution system.
As part of the joint Tactical Radio program. This was the largest production order ever is about three times larger than anything we've ever received and I think that's tangible.
Example, the customer excitement and the capabilities. Obviously, we have strong backlog as a result of that that order in that one one business and as I said you know it couldn't be more pleased with this acquisition.
Still more to do but everything is looking good so far so hopefully that helps Doug.
Our next question comes from the line of Sheila Tangle with Jeffries. Please proceed with your question.
Okay.
<unk>. Thank you.
And I wanted to ask.
<unk> in the corner and how long you think about the second half so I guess our stop on <unk>.
Tapping ahead of your call Yeah, how do we think about next benefactor normalization of supply chain and sustainability of 25% margin thing the App and then additionally, if we can take into the operational items, but then I am math and what time.
Step up in the second half thank you.
Good morning, Sheila and thanks for the question. So I'll start with our overall enterprise margins and then kill the onion a bit from a segment perspective cause there's a lot of good work that's happening across the portfolio. So do your part in our queue to margin said come in at 14. Eight. This is a 50 basis point improvement from Q1 and I just want to note that this.
Also consistent with what we've previously communicated in terms of sequential margin improvement expected throughout the year and this will land us in a place from our updated guidance of getting us two or 15% expectations, which again continues to be industry, leading in terms of margin performance one thing I want a highly.
<unk> from Ah overall portfolio perspective is key to this resolved within coupon and it's also been a drag over the last couple of years as our overall EAC performance and this is important because 75 per cent of our portfolio is driven by programs right, which is driven by E. CS and so it impacts our bottom line so aligned with.
S Q2 was the first quarter that we saw R. E C trying trajectory start to improve since the second half of 2021. So you may recall. This is when the macro environment challenges started across all industries. It started to permeate within supply chain. Then we saw the issues with labor and <unk>.
Asian that permeated throughout 2022, and so where are we set today specifically within C. S. N. You know kudos to Sam that on the C. S team delivered really strong margins within the quarter at 200 basis point improvement from Q1 really driven by all the resilience supply chain actions that we've taken you've heard us talk.
About this over the last 12 to 18 months, but also the easing of the electronic component shortages and we also have the benefit of increase software mixed within the corner. So really strong delivery for two two as we look at full year, we expect second half for C. S to be consistent with first half.
With Q3 being a bit lighter in terms of domestic Max without rampion within fourth quarter.
From a I M. S perspective, we did continue to see an impact from increased domestic ISR mix. This along with some operational challenges on fixed price development programs at a couple of our remote sites permeated and haven't had an impact within the quarter, John Rambo and our I M. S team are addressing these issues.
They are predominantly related to talent and learning loss and efficiencies and we respect expect the results of these actions to have a positive impact as we progress towards the end of the year.
In regards to the second half ramp again. This is consistent in terms of the initial guidance that we laid out but it's really driven by two things. One is around this continual improvement in terms of E. C performance as I noted we saw this start to uhm trend upward within Q2, we expect that trend to continue as we are working through that fixed.
Price backlog that has been impacted by these macro issues over the last 12 to 18 months and the second is driven by our product deliveries consistent with what we've experienced in the past week spect, our product delivery needs to be higher in the second half high single digits, which is going to be able to deliver on that the margin expectations. The other thing I would note.
Is within two four we do have a higher mix of our international product sales and so you'll see this play out both within T com and west Cam. So from a modeling perspective expect that fourth quarter margins are gonna be better than a Q3.
And I was just shy man I think we we try to highlight you know within a I M S.
The challenges on these these two select programmed or or within the I S. R and the mayor of time sectors I will say that there continues to be a lot of demand.
For those products and capabilities you know, we do a fair amount of under C test ranges for the U S Navy and we've been successful in winning the work just recently for the similar capability in Australia, We've talked about compas call here for the U S. Air Force you know there's there's.
Similar capabilities for a European country that will be mainly focused on modernizing.
The aircraft, which will have higher margins since the aircraft have already been procured we're continuing to pursue undersea test range and sensing capability here in the U S. Navy kind of a follow on to something that we started winning four or five years ago, we're talking about the business jets and the straw.
<unk> years ago to start Missionize in business Jets, we have an opportunity to <unk> to have another opportunity in Europe and then here in the U S. You saw that we one the Athena our program.
Which we're very excited about I think the other day, we announced that were teeming with another Oh, yeah I'm on the thenar S. We'd kind of hoped to win one of the two and now we're gonna go to for two and then the Army's has a program note as haiti's, which could be up to 10 aircraft. So there's a lot of opportunities and and how I want to tell you. This.
Back to the margins is I M. S has the the longer cycle backlog relative to the other businesses. They see us in particular, there are a lot of fixed price contract, probably some fixed price development process programs, which I think I've publicly said, we're probably gonna be selective on on a bidding going.
Forward, especially when the customers asking for a fixed price.
Production or low rate production simultaneous with development. That's just bad business. It makes no sense and we're gonna continue to push back in my bid those because.
Very hard to price something that you haven't developed but.
I have discussions on that topic regularly with our customers and we will continue to know bed those until the contracting the vehicle is appropriate so.
I throw that in that some of these challenges, which Michelle laid out well. It was really the lagging effect, you know of attrition and inflation because of the long cycle of business.
Taken those lessons that we've learned or we've more bluntly clearly updated you know these beds based on the latest performance. The latest cost. So every single program I mentioned.
As a double digit and sometimes more than double digit.
Margins are higher double digit so we'll get those winds will get those in backlog and that gives me confidence that we'll be able to improve the margins.
I M S with John and his team.
Yeah. The only other thing I would add to that is just as a reminder, when we cut out our guidance. This year, we were purposeful not including any international binary events can still have a strong pipeline that we're chasing they're just the recognition that we know we've disappointed historically when we put those in and then not been able to get them over the goal line because of the timing constraints and so.
We we continue to have a strong backlog there as we've ever pipeline as we look into 2024 and beyond.
Our next question is from the line of Pizza Kubicki Olympic Oval. Please proceed with your question.
Hey, good morning, guys.
Cause I was wondering if you could add more color on the strong first half booked a bill that space in particular.
No you guys have obviously done well with some of the lower orbit awards, but it seems like there's a lot of other things going on for you in space as well. So I'm wondering if you could talk more about what you're winning there and kind of your approach how you're winning ads and you know how big the opportunity said is there.
Yeah. Thanks, Thanks paid.
Talking about this trusted disruptor strategy at the Oh, three Harris level and as you would expect it really flows down to each and every one of the sectors and I mentioned, we have 14 sectors. When we are closed aerojet rocketdyne will will be up to 16 sectors is is they'll have two sectors within within.
That segment, but it's hard to think of a better example than maybe space, where they've really.
Unable to embrace this this strategy and execute upon it and at the highest level. We talk about you know doing more prime work.
At the end users being more innovative being more agile and I would just sounds like like buzzwords, but is clearly working in space.
When to back it up at the time of the merger.
We we had five satellites, mainly experimental demo satellites.
Under contract and today, we have over 50 contracts for satellites I mean, that's a tenex and four years, which I think reinforces you know what what's implied in your question that what we're doing is working we actually have two classified operational constellations again.
You know five years ago, we didn't have any we might have have parts on other people's satellites on their constellations. So we we really have.
Quote disrupted this this market and we're viewed as a prime and a and a legit legitimate competitor and we're winning and we're performing.
We've invested a fair amount in R&D to get us in this position and capital.
We're actually.
Facilities, and we have two facilities one in Fort Wayne, Indiana that we expanded in one here down in Palm Bay, Florida for satellite manufacturing so.
We're investing capital for growth, which will allow us to continue continue to perform I mean, just since the merger our revenue was up in space alone over 50%. We have record backlog, we have solid execution. We can always do better you know we've had some challenges.
With certain suppliers, we don't call anybody out by name, but we just kind of work with those but those companies to to bring him along so.
And the space World. It all comes down to launches we have a bunch of launches coming up in in October and you know, that's where where the money.
The money hits the road, where we're excited about launch we have a co manifested payloads, both or S. T. A.
[noise] Traunch zero satellites will be going up with the M. B, a H B T. S. S. Satellite. So I think that worked out real real well upcoming opportunities. We do a lot of work going back decades for Noah further weather satellites about 700 million dollar opportunity coming up this year.
<unk>, we feel really good about that it's called the sounder.
Program.
It was always a lotta classified opportunities, which I know was never satisfying for you and others to European but they are there the SDA traunch too for tracking the RFP is coming out so we'll be prepared to to respond there and I think at the end of the day. You know you hear me talk a lot about <unk>.
Organization and the lining with customers needs you know Secretary Kendall. The Air Force you know there are a number one operating imperative is all about space. So we have a mission steps we have the phenomenology as we've adapted to the rapid acquisition process and we've been quite successful so it couldn't be more proud of the team and.
It's just one example, where the strategy has been laid out so it's been executed and it's working so.
More to come.
I would just add to that because along with the top line. This team is also fully embracing our performance first initiative. They're also driving really strong cash performance as well so nine day working capital improvement within from Q1, Q2, and so kudos to add and Kelly in this space channel because sometimes.
Sometimes it's easier to grow the top line without doing the the cash along with it and they fully embraced all the financial metrics to really drive this business.
Robin the interest of time in too.
Stop at 40 minutes, we'll go ahead and take the last question. This morning.
My final question is from miles Walton with Wolf Research. Please proceed with your question.
Thanks, Good morning <unk>.
Chris I wanted to ask about T B L. But the sales in the margin inside I think the sales your date since you've gone too down about 10%.
Did the mids contract you mentioned turn that around and get you back above.
400 million sort of run right, where you're required it and then on the margin side, if I strip out some of the market and last meeting contracts to March in the margins look a bit like is there a case for a significant margin expansion once those myths drop in thanks.
Yeah. Thanks, Thanks miles no. Good good questions. Yeah, we we we see a path to.
400 million or more of revenue for T V. L. There's a little bit of a slower start but with with the myths when I mentioned and some of the other opportunities where we're pursuing we definitely see a second half Ram.
Coming with minutes I think this is lot number 11, so it's been a long production cycle.
We've mentioned or a long legacy program and I think same similar the on the on the margins as part of the move you know we're gonna have some efficiencies not only in labor, but overhead and facilities. So we'll start to see the synergies if you will kick in and further further upward.
Upward margin potential and again this will all be mainly in our Salt Lake City. It's all about base and you know the ability to win new new programs I'll also throw in there that you know one of my programs I've talked about for years Nexgen jammer that work would be done install.
Lake City, as well and that's been a several year process is you know there was an independent review team that finally came out with a report with no substantive changes we've turned in our proposal and we're hoping to hear by the end of September . So I just throw that in miles because it's in the same facility and gives us a larger base.
If you will to absorb the overhead thereby.
Creating other opportunities for margin expansion. So thank you very much.
I guess with that we'll just wrap up the call again apologies to cut it a little bit short, but mark and his team will be available all day and I'm showing I have to go work some acquisition related task cause I hope you can appreciate so thanks for dialing in and again, we will get you more information about the Investor day in December .
And have a great rest of the week.
This concludes today's teleconference. We disconnect your lines at this time. Thank you for your participation and have a wonderful day.
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