Q1 2020 Earnings Call
Good afternoon, ladies and gentlemen, and welcome to <unk>.
Fiscal 2021st quarter earnings call.
We have joined today by John Holmes, President and Chief Executive Officer, and Sean Guillen, Chief Financial Officer.
Before we begin I would like to remind you that the comments made during the call may include forward looking statements as defined in the private Securities Litigation Reform Act of 1995.
Nobody in our news release and.
As noted in our news release and though.
Risk factor section of the company's Form 10-K for the fiscal year ended may 31st 2019.
And providing a forward looking statement the company assumes no obligation to provide updates to reflect future circumstances, all anticipated or unanticipated events.
At this time, a reluctance on the calls today ours piece, President and CEO John Holmes.
Great. Thank you very much and good afternoon, everybody I really appreciate you all being here to joining us today to discuss our Q1 at war 20 result.
Our positive momentum continued with another quarter of double digit sales growth in the first quarter about why 20 sales grew 16% 466.3 million to 541.5 million our adjusted diluted earnings per share from continuing operations increased from 54 cents per share to 57 cents for sure.
We continue to see exceptional performance more parts supply in government programs activities and M. Aro as you know we took several actions last year to address labor shortages, such as enhancing our recruiting efforts partnering with various schools and repositioning elements of our workforce across our network. We're pleased with the positive impact of these actions, which.
Resulted in our third quarter of improvement in MRM.
We're also pleased with support that we received from our customers to better level load the maintenance scheduled throughout the year, that's allowed us to keep more of the workforce and played during the slower summer season.
During the quarter, we were awarded 118 million dollar contract from the Naval Air Systems Command supported the U.S. Marine Corps for the procurement modification and delivery of to see 40 aircraft. This award demonstrates the power of our integrated services model by combining the strength of our parts supply government programs MRO an engineer.
During teams to deliver a creative solutions to the U.S. Marine Corps, the ability to deliver an overhaul versus factory new solution not only differentiate say our from our competitors in the defense space, but also demonstrates our ability to once again apply commercial best practices to deliver a more cost effective solution to the U.S. government we begin work.
Track, we began work on to this contract this past quarter and we expect to deliver the aircraft in our fiscal 2021.
Subsequent to the quarter end, we announced a new parts distribution award from Leach Corporation, which is a wholly owned subsidiary of Transdigm as part of this agreement a our OEM solutions will be the company's main distributor for electromechanical installed they switch gears to OEM for new production as well as to the both commercial and military.
Targets.
This is an important win for the company reaffirms the strength of our value whopper value proposition and parts supply and distribution.
We also announced new agreement with Mitsubishi heavy industries Aero engines to supply PW 4000 engine parts and supported their engine overhaul business. This is our largest commercial contract in Japan today, we're particularly proud about this win because it allows us to support the demand for engine parts in this growing market.
We continue to execute on our growth strategy. We're pleased with the progress as we continue to secure and execute on new business wins and we're very excited about the strong start to F. watch wondering where that I'll turn it over to our CFO Star Gill.
Thanks, John .
Sales in the quarter of 541.5 million were up 16% for 75.2 million year over year.
This included a 73.4 million were 17% increase in aviation services revenues driven by execution on new contract awards and strong demand in our parts supply activities.
40 Award contributed approximately 19 million of sales in the corner.
Gross profit increased 14.6% for 10 million to 81.6 million gross margin was 15.1% versus 15.3% in the prior year period, primarily due to expeditionary services.
Gross margin within aviation services, however, improved from 15.3% to 15.6%.
I would note that the C 40 award of a relatively in line with operating income margins and accretive ROI steep is a bit dilutive to gross margin.
<unk> expenses were 10.7% of sales versus 10.3% in the prior period, which reflects increased investigation and compliance related cost mentioned in the previous quarter as well some additional sales in quality resources.
Excluding the investigation and severance costs, which totaled 3.6 million actually in a would've been 10.1% of sales in the corner.
Regarding the investigation, we have received requests for information from the government agencies involved which we are fully cooperating with beyond that we cannot provide further detail at this time.
Our income tax expense during the quarter was favorably impacted by tax benefits of 1.4 million related to the vesting of restricted shares of stock option exercises. This compares to a similar tax benefit of 2.5 million related to stock compensation prior years quarter.
Net interest expense was 2.1 million compared to 1.6 million last year during the quarter, our cash flow used from operating activities from continuing operations was 30 million, which improved 20 million from the prior year, excluding the impact of the accounts receivable financing program, which was flat in this quarter.
The cash used in this quarter was primarily driven by investments in inventory to support our parts supply activities as well some normal seasonality in our MRO.
We feel good about the strength of the balance sheet net debt ended the quarter at 163.4 million with net leverage below one turn.
In addition, I am pleased to share that we entered into an extension of our revolving credit facility, which will add an additional three years to the term at 100 million of borrowing capacity.
Our lowest pricing will also decrease from LIBOR, plus 100 basis points to LIBOR, plus 87.5 basis points with no other significant changes.
Sales of the extension will be filed this week.
Finally, we are still on target to close the seller cocoa business before the end of calendar 2019. The exit of this business is consistent with the realignment of our strategy to go cool.
Thank you for your attention and Alan I'll turn the call back over to John Great. Thank you, Sean we're very pleased with our Q1 results and as you saw on the earnings release, we are reaffirming our at why 20 guidance for sales to be between 2.1 billion in $2.2 billion and adjusted earnings per share from continuing operations to be in the range of $2 and 45 census.
There are $2.65 to share we continue to expect DNA expenses to be approximately 10.5% of sales and anticipate an effective tax rate of 24% enough. Why 20, we will continue to reassess our guidance and modified if the necessary as the year progresses.
We're really excited about the strong start to the year or parts supply activities continue to deliver exceptional performance. We are executing on our government programs. When we're very pleased with the recovery that we see any MRO business. We had a full pipeline of new business opportunities and we look forward to a very successful left why 20.
Thank you for your time and interest in a aren't at this point, we'll turn it back it over to the operator for questions.
Thank you, ladies and gentlemen, if you'd like to ask the question. At this time you may do so by pressing Star then one key on your Touchtone phone.
That's all wants to ask the question if you'd like to withdraw. Your question you may do so by pressing the pound cake.
Please standby wow, okay on a roster comes out.
First question comes from the line of Rob It's been God with Credit Suisse. Your line is open.
Hi, good afternoon.
Hey, Rob how are you.
Pretty good thanks, John and high Sean I wanted to start and maybe I missed it and I appreciate that.
Nice turbo run through of the quarter.
Nice and compact I, just wanted to ask but the expeditionary margins and what what's what's happening there. The C. 40 is not there right that's in innovation services.
Yes, that's correct that the 40 is a is in aviation services and you know Expeditionary, we saw a margin compression year over year, primarily due to product mix than what we ship shipped in the quarter. We also saw a a increase in a raw material costs for our manufacturing business up and mobility.
And that had a a that had an adverse impact on the margins that business.
So one when we think about the year, maybe this is for Sean to how to what do those margins due within your.
What's contemplated in your guide for the next three quarters.
Yeah, I think for we haven't gotten to the specifics on that but I think for the balance of the year. We would expect some recovery in the margins and then in the back ended the year to have kind of a strong here and get back to where it where it was closer to last year.
Okay, and then just on the outsized growth if I could call it that in aviation services, obviously quite good.
In the in the mid higher teens, there could we.
Maybe talk about that are deconstruct that a little bit into parts supply.
Which which sounds like it's a real growth area for you versus the traditional businesses is that the right way to think about this and and these more aggressive contract to acquisition then.
And perhaps.
Talk about how that drives the growth going forward and aviation.
Yes, sure. So you know the growth came.
You know from from a lot of areas in the company and again, we're really excited about the strong start the year.
Our supply a as we've talked about in the last several quarters has has really performed exceptionally well and that's both parts supply in the aftermarket business the trading business as well as parts supply in the new parts business the distribution business and.
We've announced a number of contracts, including too that we just referenced with Mitsubishi as well as with Leach in those businesses a new in the aftermarket parts, we've announced the number of contracts over the last several quarters and so you know those contracts they take a little while to ramp up but once they do they really contribute so that's been that's been driving a lot of.
Growth.
Also during the quarter, we had a very nice improvement in our MRO business last year. If you recall, our summer was a particularly particularly slow which led to a number issues that we've been felt throughout the year as we as we look to go back into the labor markets to to get technicians back on board, we had a very nice recovery.
In this summer and that was a real nice contributor to the the growth and that also sets us up well for the balance of the year, because if we think about where we were a year ago. At this point of at this point in time, we're in the market recruiting for lots of technicians, because we're coming off of the soft summer given the fact that we've had a stronger summer.
Our demand for technicians at this point are much less than they were a year ago. So we're set up well there.
Then as Sean mentioned, the the C 40 win.
In early days of that contract and it's not a you know we don't have a full picture yet on how that revenue will pace.
Quarter to quarter throughout the next two years, but as Sean said, we recognized about 18 million in the quarter. This this quarter.
And that obviously contributed to the revenue growth as well.
So if all in that's about a 70 million dollar plus increase 18 million of it as see 40. The other 50 odd million. If I wanted to think about parts supply versus kind of the core business because of parts supply is growing if I understand probably from a very small base everything you add leach and so forth.
As meaningful.
No I wouldnt.
Yeah, we don't want to get into specific growth of the specific operating units, but parts of lies not growing off of a small base.
Not okay. It's now it's a meaningful base than it's been meaningful growth on a meaningful base for several several quarters now.
Anything we can say about that other 50 odd million, whether its MRO parts supply how do we think about that.
Yeah No I.
I don't think we want to get a good good get into details on that on that element of it but I would I would reiterate that yeah. We saw a very nice recovery and MRO.
And we continue to see parts supply, both new and aftermarket do extremely well.
Last thing is in the pasture last quarter, we didn't talk so much about cash flow guidance because of the investment and new opportunities like parts supply is does that continue to be the case, you're not done at this point there.
It does then.
I will note that we did see as Sean mentioned, we did see a nice improvement in net cash flow. We were still consumers of cash this quarter, we consumed about 30 million of cash, but if you take out the impact of the accounts receivable securitization that the 20 million dollar improvement over last year seasonally we do see cash consumption in the first.
Quarter.
Largely as a result of MRO, but we are very focused on cash generation and we expect to see a improved cash generation as we move throughout the year similar to what we did last year, but you know again relative to guidance, we want to give ourselves the space the demand for parts.
In the aftermarket is extremely strong right now and one of our most significant differentiators is our ability to move quickly and close on large buys of material and so we want to give ourselves the flexibility to do that and then your point on distribution is right on when you. When these distribution contracts typically there is.
And upfront biomaterial.
And that cash goes out and as I said before it does take a little while for those programs to ramp up at once they do they become nights contributors to ER to margin as well as <expletive> and as well as the turn cash flow positive.
Okay. Thank you Bill.
Great. Thanks, Rob.
Thank you.
Next question comes from the line of Joseph Denardi with Stifel. Your line is open.
Hey, thanks.
Doing well thank you.
John to the extent that the labor market in MRO is driven by supply growth I mean, this year domestic airlines supplies, probably growing 3% next year, it's probably going to grow closer to 7%, but the Max coming back.
So why shouldn't there be kind of additional strain again put on the labor market next year as the growth rate accelerates or do you think you've kind of.
Properly de risk that portion of the business for the foreseeable future.
I think we've done a nice job in de risking and I think your points are right on the macro environment has not improved for what we do but we then as we talked about throughout last year.
Very aggressive in terms of the kinds of things that we're doing.
To get out ahead of a labor market a lot of that is developing proprietary relationships with tech schools et cetera. So that we can develop our own a.
Pipeline of talent and that that is working you know there's an additional ramp up there because that allows you to get fresh talent in the door and we're seeing some ics. Some some success there which contributed to the results this quarter and will contribute throughout the year.
But with that fresh talent, there is a bit of a learning curve when you get a bad and that learning curve translates to.
<unk> increased productivity in the hangar so.
We've got a a good team kind of in place we're definitely in the market now because we will have a more demand in the second quarter versus the fourth quarter as we do every year. So we're in the market right now recruited for talent, but once we get through this quarter will have largely the team in place, but we'll need for the year to handle the workload that we that we have.
As it relates to growth next year, we do a floor space. So we have in a few of our facilities. We do have for space available and to the extent that we have demand for customers and and I should mention that.
Yes, we're extremely proud of our customer base and MRO, we've got a blue chip customer base, they're extremely supportive of us the recognize the value of the service that we we provide they worked.
Very closely with us throughout the summer to keep a fuller and the hangers than they did last year. So that we wouldn't have the labor challenges in the west of the year as a as we saw last year and a lot of them did that are actually Max operator, so even though they are under significant pressure to have a if we their fleet working harder there were still able to support us by.
But keep in a fuller during the summer when they needed the aircraft so.
Thinking about next year to the extent that we see demand.
For the customer base that we have and we can layer and additional lines of maintenance, we're certainly going to continue to extend the these recruiting techniques that have been working to meet additional demand.
In behaviors that we have a there we have built for space.
Okay. That's helpful done and then just in terms of kind of the pipeline of good sized opportunities I mean, just given what you've booked recently are there similar bigger type opportunities out there that you're targeting.
In the nearest term.
Yes, so I would say that the pipeline and we gave a little we get some numbers on that back in July at the Investor Day, I would say that that pipeline is as strong as it was when we talked about it back in Investor day, and there are definitely meaningful opportunities out there particular on the government side that.
Could have positive impacts in the way that see 40 well.
But.
The challenge for the government businesses, it's difficult to predict when those are when those are going to occur.
So you know to say that.
We've got opportunities in the near term, yes, there are plenty that could hit anytime now other bids have been out there for awhile, but it's difficult to predict when those will happen.
Okay, and then Sean just just on the M&A pipeline. If you could just kind of maybe talk about that qualitatively what it looks like if it's changed all over the past a quarter or two and whether the opportunities are more in the commercial air defense business. Thank you.
Yes, I'd say the pipeline continues to be pretty active, but but a consistent with what it's done at least last couple of quarters.
There is some assets in market. This massive that we think are interesting that could be coming to market and I'd say the split is pretty balanced between commercial and government I think we see the opportunity to add to both parts of our business and as we've talked about at the Investor Day, We're really looking to add IP to the business whether it be.
In kind of the parts supply distribution business, we're enhancing some capabilities on the government side, So I'd say, it's active and pretty well balanced across the portfolio.
Thank you.
Our next question comes from the line of Ken Herbert with Canaccord. Your line is open.
Hi, good afternoon, John and Sean.
Okay.
Hey, John I, just wanted to first again follow up on on the MRO business.
Did you hit the inflection you talked about him was that business profitable than the fiscal first quarter.
Yes, yes, and yes and.
As it relates to inflection it was.
Because it is a big improvement in the first quarter versus last quarter and that improvement has not only important as it relates to the results for the quarter itself, but as I mentioned earlier it sets us up well for for the rest of the year.
Being able to maintain that team throughout the summer being in the market now we're still in the market for mechanics, as we enter the busy season here, but we're in the market for a lot fewer than we were a where last year. So we're in an important time right now as we go out there and recruit we're very encouraged by the by the results that were seeing even as we start this the second quarter.
And yeah, I think I think routes are very start.
Okay very helpful.
And as I look theres, a lot of growing or where a lot of speculation that with the Max returning to service at some point over the next period of time here and with what's happened with.
Narrow bodies and new deliveries that theres going to be a real step up in retirements or maybe in calendar 2000 and in a 21 and.
And I know that generates puts and takes in your business when I think about certainly the park trading and maybe.
Some lower demand for some of the new material, perhaps on the distribution side, but can you just talk about how we should think about that if there is a step up from retirements and the impact on the various pieces of aviation services, whether it be sort of a net positive or the risks might be.
I think that's a great question and we're certainly thinking about dynamic that dynamic I think overall, we would characterize it as a net positive because.
Today, there is particularly on the aftermarket parts by around engines, there is considerably more demand and more demand forecasted for the next several years.
For our current generation Seventhree seven a shop visits and to the extent that we're able to get more material and we will be able to get more material as we see more retirements and that fleet, we've got demand for it and we're the largest in the world for that that market.
We've got as we keep saying tremendous balance sheet capacity, which were excited about and a one or want to maintain and you know our our our goal would be to be it a position where we can move quickly as material becomes available and we got outlets for that material. So that's the biggest driver of all of all of this our heavy maintenance contract.
Next our for those that fleet there longer term and the curious several years out so we feel good about the planned maintenance visits there.
But.
Yeah, generally speaking I would say that we view that as a net positive.
Okay, and then if I could just finally and maybe I don't expect you to get to specific on this but think about your comments around parts supply in the very strong demand for material today, both both new material through distribution then of course.
You know maybe help alternative materials through the the parks trading side.
It seems like it's clearly a favorable environment from a pricing standpoint, and I'm. Just wondering if you can just aggregate a little bit some of the trends you're seeing on on pricing within parts supply versus volume and you know it maybe maybe even just to sort of if you're seeing any changes sequentially or you're getting better pricing.
Sequentially without you don't maybe giving more specifics as to how the growth breaks out, but any color around the price versus volume and trends you're seeing with very helpful.
Yeah, I wouldn't want to get you got it I wouldn't want to get to specific just.
For competitive reasons, but given the tightness of mateer of availability of material on the market you definitely have had some some pricing.
Pricing favorability out there and you've also seen that in terms of the price that you pay for assets and that again is where we believe we excel is our ability to find material make the by right.
Which often come down to speed of being able to close transactions and then command a the best price availability that that began in the market. So you know.
In terms of trends that we've seen that over the last several quarters. You know this quarter, particularly I don't know that we saw necessarily a any sort of meaningful change from where we were in Q2 in Q4, and I don't know that we necessarily see a change in the near term there as well.
Okay, and just one final clarification within trading.
As I think about your agreement say with with Delta another large customers what percentage of your trading business do you sell into sort of your long term contracts versus.
Sort of spot market or or book and ship, if I can think about it that way.
Yeah, I don't know that we want to get into the that specific but what I can tell you is that it's been a focus of ours to to increase the amount of.
Business under contract in the a into trading business and so that's a much greater percentage of that business than it was a few years ago, but I wouldn't want to get into specifics there.
Got it well thank you very much for the color and not really nice quarter.
Great. Thanks, Ken.
Thank you next question comes from the line of Michael Ciarmoli with Suntrust. Your line is open.
Hey, good afternoon, Sean Sean a great cool great quarter. This is George on for Mike.
Great. Thanks.
About the three major things ongoing kind of the three mega trends.
Yes.
The 737.
What's going on with the Deo D. and we seem to have a lot of airline pressure I guess I wanted to start my questions with.
What was announced last week.
It looks like we're going to have entire retirements of squadrons out of the Air Force a 25 billion dollar cut into the budget.
Do you have any opinion on what kind of impact that has on a are.
Positives negatives at all.
Yeah, we we don't have a strong view on that at the moment for the contract that we are on and for the contracts that we.
Plan, you know our bidding.
None of that would have a having impact anything that we're looking at.
What we can say is that.
We think that hey, our solutions for the government and the C. 40 is really an outstanding example of the if the government is looking to save money going after.
Solutions like what we just offer with the C. 40 is a wonderful opportunity for them and as we mentioned that is that's a situation where the government came out they wanted to buy two aircraft they were planning to buy new aircraft.
Our was able to.
Present, a solution that allow them to buy used aircraft.
And ER and actually get those delivered sooner than they would have that they bought new aircraft for considerably less and you can bet that we're going to take that example, and market at all.
All over the place to the U.S. government as an opportunity for them to to save money and not just in whole aircraft purchases and we believe that theres more out there like this but also as it relates to just used serviceable material as a source of savings in a in all areas of procurement. So.
That's a big part of our strategy.
Were there any PBL opportunities with the sale of the aircraft in terms of the maintenance also or was that not offered as you proceed to see 40 opportunity.
That's a great question. It was not offered a in this particular case, but I will point out that we do have another see 40 contract with the with the Navy, where we perform the maintenance and certain supply chain services as well so while it wasn't part of this transaction, it's something that we've done successfully elsewhere.
Yes, it sounds very exciting.
It almost seems like the cost reduction focuses our tailwind for a our would you characterize it that way.
Yes, I would I would.
Okay.
Would you say that that also applies with the pressure on there we're seeing with the airlines right now.
We've had I think a slew of airlines bankruptcies and in the last 30 days.
Also.
In emerging tailwind from a are.
We certainly we certainly are keeping our eye on that and the credit worthiness of our a ever customers and obviously there's been some news just in the last few days in a couple airlines. So that's definitely something we're focused on.
I am in touch with our customers almost everyday and often at very senior levels and while there they're seeing a and I'm talking about North America particular, while the you know the definitely seeing pressure in certain areas.
Their businesses, our still historically extremely strong and the day to day demand both for parts and for maintenance out of the customers is also very strong coming back to your point I do think yes, as our customers look for more cost effective solutions versus buying from OEM.
There are other suppliers the aftermarket solutions today are off offers represent a great opportunity to get a quality products and services at a better cost.
Excellent.
It's going to.
We.
On the electronic power side is this your first distribution agreement and this kind of product set or do you service other products like this with other companies.
Again, great question, there's a there's a few first with this deal most notably this is actually the first where we are distributing parts. It will be used in new OEM manufacturing. So we kind of moved one step up in the supply chain here, where we're disturbing parts will actually be where the customer bases not any use.
There is like the airlines that the government customer base is.
Actually in this case the majority of the customer base is going to be Oems that use the parts in their own manufacturing process. So that opens doors for us and we're excited about that we've already started ramping up nicely on that contract and and which can bring with it the other opportunities as well.
Great. So would you expect that then to expand with.
Other trends I'm subsidiaries or would that does that in the cards do you think.
Well I certainly would help though transdigm as you.
As you know with their operating model they are fairly decentralized so.
The the subsidiary as make a make their own decisions, but certainly we're focused on being successful, but the contract. We just signed with Leach and we would do the best we can to leverage that success with the other companies like like Leach and certainly other companies within the Transdigm group.
Excellent.
Just wrapping up adjusted EBITDA margin adjusted EBITDA guidance still in the 165 to 170 range.
No. So we didn't give adjusted EBITDA guidance for this year guidance for the year as sales. If you ask them, we gave some color on M&A and tax.
Okay.
I think.
It is and I look forward to hearing about your next military acquisition.
Okay all right. Thank you.
Thank you have a follow up question from Robert It's been gone.
Your line is open.
Hi, I just wanted to ask about the SGN, a guide the 10.5% and whether or not that contemplates any more of these non-GAAP costs in other words that what you saw the first quarter.
Yes, so its or the attendant at present would exclude any any of those kind of compliance and investigation costs.
Okay that was it thank you.
Thanks, Ron.
Thank you.
Im showing no further questions indicate.
Okay, what would that we really want to thank everybody for the participation in the call in your time and interest in A.R. Thank you.
Ladies and gentlemen that concludes the conference. Thank you for participating you may now disconnect everyone have a wonderful day.
Yes.