Elbit Systems Ltd.

Ladies and gentlemen, thank you for standing by. Welcome to Elbit Systems' first quarter 2021 result conference call. All participants are present in a listen-only mode. Following management's formal presentation, instructions will be given for the question and answer session. As a reminder, this conference is being recorded. You should have all received by now the company's press release that is available in the news section of the company's website at www.elbitsystems.com. I would now like to hand over the call to Rami Meyerson, Elbit Systems Investor Relations Director. Rami, please go ahead.

Thank you, Bracha. Good day, everyone, and welcome to our first quarter 2021 earnings call. On the call with me today are Butsy Machlis, our President and CEO, and Yossi Gaspar, our Chief Financial Officer. Before we begin, I would like to point out that the safe harbor statement in the company's press release issued earlier today also refers to the contents of this conference call. As we do every quarter, we will provide you with both our regular GAAP financial data as well as certain supplemental non-GAAP information. We believe that this non-GAAP information provides additional detail to help understand the performance of the ongoing business. You can find all the detailed GAAP financial data as well as the non-GAAP information and the reconciliation in today's press release. The OC will begin by providing a discussion of the financial results, followed by Bootsy who will talk about some of the significant events during the quarter and beyond. We will then turn the call over to a question and answer session. With that, I would like now to turn the call over to Yossi.

Thank you, Rami. Hello, everyone, and thank you for joining us today. The results of our first quarter reflect the sustained demand for LBIT system solutions and services from our customers around the world as reflected in the growth in revenues and the backlog. The results also reflect the impact of COVID-19 in the quarter that led to lower commercial aerospace sales as well as lower sales and marketing expenses in the quarter. Countries around the world are gradually opening up following the rollout of COVID-19 vaccines. We continue to monitor the situation closely while adhering to the instructions of the governments of the various countries in which we operate. I will now highlight and discuss some of the key figures and trends in our financial results. First quarter revenues of $1,118,000,000 increased 4.4% year-over-year. In terms of annual revenue breakdown across the areas of operation, airborne systems accounted for 37% of total annual sales and increased year-over-year mainly due to precision-guided munition sales. Land system sales accounted for 27% of total revenues, a similar level to 2021. C4ISR, 23% of sales increased year over year, primarily due to UAS sales to Asia Pacific. Electro-optics accounted for 9% of total sales and declined year over year, mainly due to the phasing of LBIT night vision programs in the U.S. Other sales were 4.5% of revenues and increased significantly year over year due to growth at our U.S. medical device subsidiary. Our diverse geographic revenue base is important to the long-term sustainability of our business. In the first quarter, North America was the largest, contributing 31% of our revenues. Israel was 25%, Asia-Pacific 21%, and Europe 17%. The growth in Israel was due primarily to UAS and security systems, and Asia-Pacific sales increased mainly due to sales of UAS and precision-guided information. The decline in North America was primarily due to lower commercial aerospace and night vision sales. The non-GAAP gross margin for the first quarter was 25.6% compared to the first quarter of 2020 at 27.6%. GAAP gross margin in the first quarter of 2021 was 25.2% of revenues compared with 27% in the first quarter of 2020. Low gross margin in the first quarter reflect the impact of a stronger shekel versus the US dollar relative to the first quarter of 2020. and a less favorable program mix of revenues. We continue with our long-term plan of cost control measures to help mitigate the financial impact of the stronger shekel. The first quarter non-GAAP operating income was 92.9 million, or 8.3% of revenues, compared with 90.4 million, or 8.4% of revenues, light years. GAAP operating income for the first quarter was $83.8 million versus $80.4 million in the first quarter of last year. Operating margins in the quarter were similar to the first quarter of 2020, as lower marketing and sales expenses helped offset lower gross margins. The operating expenses breakdown in the first quarter was as follows. Net R&D expenses were 7.5% of revenues, similar to the first quarter of 2020. Marketing and selling expenses declined to 4.6% of revenues versus 6.6% last year due to the reduced level of travel, marketing support, and trade exhibition expenses. G&A expenses were 5.5% of revenues, similar to last year. Financial expenses were $200. in the first quarter compared with $12.5 million in 2020. The lower level of financial expenses was mainly a result of weakening of the Israeli shekel versus the U.S. dollar between December 2020 and March 2021. The recorded tax expense of $10.8 million in the first quarter compared with $8.8 million in 2020. The effective tax rate in the first quarter was 13.4% compared with 12.6% in 2020. Our non-GAAP diluted earnings per share was $1.72 in the first quarter compared with $1.62 last year. The GAAP diluted EPS was $1.64 compared with $1.44 last year. Our backlog of orders as of March 31st, 2021 was approximately 11.8 billion, one billion higher than the backlog at the end of March 2020, and 770 million higher than that at the end of 2020. Approximately 59% of the current backlog is scheduled to be performed during 2021 and 2022. and the rest is scheduled for 2023 and beyond. This ratio is similar to that at the first quarter last year. The order backlog is equivalent to more than two years of revenues and provides good visibility for future revenues. Cash flow from operating activities for the first quarter was 13 million outflow compared with 10 million outflow in the same quarter last year. Cash flow from investing activities included a $61 million deferred payment for the IMI acquired in 2018. The Board of Directors declared a dividend of $0.44 per share for the first quarter of 2021. I will now turn the call over to Mr. Maklis. Putzi, please.

Thank you, Yossi. Before I begin a review of the results, I would like to thank the thousands of employees of Elbit Systems and our suppliers in Israel that have worked tirelessly to support our customers in Israel and around the world during an extremely challenging period. Turning back to the first quarter, I am pleased with the growth in the order backlog that includes many of the contracts we discussed at our fourth quarter results and our investor day in April. Revenue and backlog growth in the quarter provide a good indication of the strong demand from our customers around the world. Elevated geopolitical tensions in Europe and Asia Pacific have contributed to this demand. Many governments around the world are increasing defense spending to mitigate the impact of the COVID-19 pandemic and prefer to spend the increased defense budget domestically. Elbit's system is well positioned to benefit from this trend due to our multi-domestic strategy and subsidiaries in dozens of countries. In April, we were awarded a US$1.65 billion 20-year contract from the Hellenic Ministry of National Defense to establish and operate the International Flight Training Center of the Hellenic Air Force. This follows the This follows the selection announced in January after an international competitive tender. The contract is part of an agreement between the defense ministries of Israel and Greece. Under the contract, Elbit Systems will supply new Leonardo M346 aircraft and will maintain the internal training fleet comprised of dozens of M346 and T6 aircraft. We will also provide our embedded virtual avionics, or EVA, on board the training aircraft, networked flight simulators and ground-based training stations, as well as a command and control system to enable efficient management of the flight training operations. We believe that militaries around the world are keen to expand their simulator and training capabilities to provide more realistic training that better prepares the soldiers for a wide range of scenarios at a lower cost. Elbit Systems has developed a broad portfolio of market-leading training and simulation solutions, and over the last year, we have been awarded training contracts in Israel, the UK, and in Asia Pacific. In April, Elbit Night Vision in the US received a $40 million $41 million contract from the U.S. Marine Corps for Squad Binocular Night Vision Goggles, or SBNVG systems. This was part of the $249 million IDAQ contract from September 2019. LB Night Vision, acquired in 2019, is the single sole supplier of SBNVG systems to the U.S. Marine Corps. In March, Elbit System Deutschland was selected to provide exact NV33 night vision goals for the special forces and special operations units of the German Federal Police. These kinds of night vision goggles are already in service with the German Air Force. I am optimistic about the potential to generate synergies between our legacy thermal imaging night vision portfolio and the image-intensified night vision business over the coming years. This is clearly the future of advanced systems for night operations, and Elbit Systems is well-positioned to benefit from the demand for integrated night vision systems. In April, we completed two acquisitions, Spartan Corporation and Rocar. Our U.S. subsidiary, Elbit Systems of America, completed the acquisition of Spartan Corporation from Seravus Capital Management for $380 million. Spartan develops and supplies electronic sensors that support undersea warfare for the U.S. Navy and allied military forces. Spartan is one of two suppliers for thermoboys to the U.S. Navy. Spartan will expand and enhance Elbit Systems' portfolio of maritime capabilities and integrated solutions that includes maritime unmanned systems, communication, combat management, and weapon systems, as well as sonars and maritime electronic warfare solutions. In April, we also completed the acquisition of Focor International from BAE Systems for $31 million. Rokar is based in Jerusalem and develops and manufactures high-end GPS receivers and guidance systems for advanced defense applications. I would like to welcome the hundreds Spartan and Rokar employees to Elbit Systems. I look forward to getting to know you and your contribution to the long-term success of Elbit Systems. In summary, Our workflow continues to provide us with good visibility, and we continue to see significant potential around the world for our leading high-technology solutions. And with that, I will be happy to take your questions. Operator?

Thank you. Ladies and gentlemen, at this time, we will begin the question-and-answer session. If you have a question, please press star 1. If you wish to cancel your request, please press Start To. If you are using speaker equipment, kindly lift the headset before pressing the numbers. Your questions will be pulled in the order they are received. Please stand by while we pull for your questions. The first question is from Ellen Page of Jefferies. Please go ahead.

Good morning. Thanks for the question. Just wanted to ask about the organic decline in electro-optics. It was weak in H220 as well. And I just wanted to get a sense of when growth might return in that business and how to think about the conversion of the recent $41 million night vision contract with the U.S. Marine Corps.

Well, we have seen a temporary delay in some of the development processes at Elbit Night Vision. This has been already solved, and we expect to see the result of that in the revenues of the second quarter and on. So that is regarding your first question. The second question is just an ongoing question. multi-year program with over $250 million potential, and we are getting sequential purchase orders. We record in our backlog only the firm-funded purchase orders, although in the IDIQ program, we are quite certain that all of that will come through during the future.

Okay, thank you. That's it for me.

Thanks, Adam.

The next question is from Pete Skibitsky of Alembic Global. Please go ahead.

Yes, hello, Butsy and Yossi and Rami, and good afternoon. I hope everyone is doing well. Good afternoon, Pete. Butsy, it sounds like the global demand environment is very strong right now. You mentioned Europe and Asia Pacific. I was just wondering if COVID is still – you know, sort of slowing things down at all, particularly with India being a sort of a COVID hotspot. Are you seeing any problems closing deals because of COVID still?

We see an improvement in the overall situation, which is related to COVID all around the world. We are starting to travel and to meet customers. However, in some countries, like in India and in Brazil, for example, it is still difficult to meet customers and because of that there are still some delays to deliver programs and to conclude contracts. However, I believe that the situation is improving and in the coming quarters we will continue to do business as we used to do in the past and and the situation in these countries will improve as well. So it is impacting us, but we certainly see an improvement, and I believe and I hope that it will improve in the coming quarters.

Okay, understood. And then any color on what drove the sequential improvement and backlog? It looked to be up nicely. I wasn't sure if the Greek deal got booked in the first quarter or if that won't get booked into the second quarter.

The Greek, the $1.6 billion contract we got from the Greek Ministry of Defense is not yet in the backlog of the first quarter. We got it only in April, so you will see it as part of the result of the second quarter. The same answer is also... relevant for the two acquisitions we made, the Spartan as well as the Rocara acquisition. The results of these subsidiaries are not yet included as well. In the results of the first quarter, you will see them embedded in the results of the second quarter.

Okay, so first quarter was just pure organic backlog growth. Right. Okay. And then on the headwinds to gross margin question, from the shekel strength. Should we expect maybe another one or two quarters of headwind there before things kind of level out? What's the right way to think about that?

Hi, Pete. We expect this over the year, over the rest of the year, to improve our growth margins gradually. we expect to have an improved number in the second quarter. As you know, we do not give guidance or will not say anything about the specific number, but the improvement will come.

Okay, got it. Yossi, just a couple more for you. The decline in marketing expenses this quarter was fairly substantial for that particular line. Was that just kind of a one-off? you know, spending save there? Or, you know, do you expect that spend to return to kind of that $70 million or so per quarter level? Or is that more of a permanent kind of a step down in expense for the marketing line?

No, this quarter was an extraordinarily low number. Low travel, low marketing expenses, essentially no... no meetings face-to-face, no shows, and so on and so forth. So looking forward, we see that we will catch up on this in the second, third, and fourth quarter, gradually grow over the year. And essentially, I would not be surprised if we come back to to the average levels of the 2019 numbers that we have seen in marketing and sales.

Okay, got it. And just last one from me. On the IMI payment that you mentioned in the quarter, is that the last payment for IMI? I had actually modeled a payment in in 2022, so I wasn't sure if you had one more left or not.

Yes, this payment that you see that we did it in January, we paid it on January. Initially, it was planned to be paid in December, so it moved a couple of days into this year, and the next payment will be towards the end of 2022. It may move also into 2023, but right now it's planned for the end of 2022.

Okay, and that's the last one.

And that is... And that is, yes, it is the last one. There is one item there in our agreement with them that if we have an extraordinary business performance by IMI due until the period of 2026, we might need to do another small payment to the government. Right now, we hope we'll be doing it in the future, but right now it is in the out years. Okay.

Okay, understood. Thanks so much for the help, guys. Thank you.

The next question is from Dina Koshnov of Leader Capital Markets. Please go ahead.

Hi, guys. Good afternoon. How are you?

Good afternoon, Dina.

I have two questions. My first question is if you can tell us a bit about the civil aviation regarding the COVID-19. Do you see any recovery in this field?

The worldwide expectations and plan right now is that the recovery will be gradual and will come back to the levels of 2019 somewhere in 2024. And that is the overall opinion of most of the analysts of that business area. In our operation in the US, we do see some recovery. It is not yet at the rate that shows us significant growth. However, we do see positive numbers compared with what happened during 2020. But we are still planning, our multi-year plan is to be like what the overall expectations are to come back or maybe even grow more than 2019 levels by 2023 or 2024. I understand.

Thank you. And the second question, can you tell a bit about IMI implementation? What about it? Where does it stand?

Organization. As you know, we combined IMI with the land division in Elbit. So in this division, we are producing platforms like Hobbiters and Mortars and upgrading tanks, and we are also developing and delivering guided munitions. Recently, we announced reorganization in Elbit, and under this organization, actually, we We are combining all our guidance capabilities under this new land division. So I'm quite convinced that this new division will be a world leader to provide fire support solutions and the platform upgrade for many customers around the globe. When we acquired IMI, most of their activities were in Israel, and I'm happy to say that last year, more than 50% of their new business came from the international market, and we did it via the Elbit marketing capabilities and via our subsidiaries. I'm also happy to say that we have first very nice contracts for active protection systems here in Israel as well as in the Netherlands and we are also progressing in the US and the Australian market as well with this system and we see a growing demand for the new portfolio which we have and we are also working hard on the margins to improve the margins of IMI, and we are progressing according, and we are even ahead of the plan we had when we did the acquisition. And we are also progressing in the new facilities for IMI that we are establishing in the south part of the country, and right now we are planning to move IMI, or a big part of IMI, to these facilities around 2024.

Great, I understand. Thank you very much, guys.

Thank you. Thank you, Dina.

The next question is from Ella Freed of Bank Lumi. Please go ahead. Good afternoon.

I have also a couple of questions. The first is what immediate or long-term impact, if any, I think from the recent operation in Gaza and the results on the local scene and maybe results concerning potential exports, will it affect in some way the bookings from local and foreign customers?

As you know, the Israeli customer, the IDF, is a very important customer to Elbit and we are working with the IDF to develop and to deliver new systems for many years. Of course, we supported our troops during the last operation in Gaza. I'm happy to say that the solutions that we provided were relevant and effective. and we continue to develop new technologies and new systems to the Israeli customer, and based on the experience we gathered here, to deliver this solution also to other customers. Just to touch one area which is very relevant, and even more relevant than ever, is the high-power lasers that we are developing for the Israeli MODs. high-power laser, we are really a world leader in this technology. There is a breakthrough in the technology. So we believe that we can provide a solution to protect Israel as well as our other customers against missiles and rockets via a high-power laser. We have been... that the Israeli MOD have chosen us to develop this system and we are working hard to do so and it will for sure be a growth engine for Elbit in the future and I believe it will change also the way Israel defends itself as well as it can be relevant also for other customers as well. But this is only just one example.

I have a question. I know that the army is very much waiting for this high-power laser. When do you think, I mean roughly, it will become operational? Is it about two years, three years, or is there any deadline?

No, this is more or less the timeline. We are actually waiting for the defense budget, for the Israel defense budget to... to continue the development of the production. I hope that this budget will be found soon. And I believe that everyone is convinced right now that there is a need to find a way to finance this program and to bring it to the field as soon as possible. It will take, to answer your question, it will take a few years until the development will be completed.

A few years meaning more than two. More or less. There is no precise deadline. And I have another question. Actually more on price surroundings and I really would like to learn from your experience because as we all know here locally in Israel the Israeli shekel strength is... hurting most exporters in Israel but not only in Israel the weakening of dollar is actually affecting many other exporters in dollar so from your experience and also there's some inflation expected in the next two years, quite prominent inflation versus what we had in the U.S. In your experience, can the prices in such surroundings be adjusted for all these currency exchange influences, or do you think that they very much remain the same? steady dollar dominated because I think it's very important for forecasting many companies who are not operating in the U.S.

Hi, this is Yossi.

Hi Yossi, good to hear you.

I would give you two aspects of that answer. One is on contracts that we have. In quite a lot of them, we have elements of indexing so that they do protect us, maybe not 100%, but quite significantly material protection against inflation.

Relating dollar index or specific inflation?

It depends on the customer and on the currency. So it varies, of course. So that is regarding what we call the backlog of orders. Regarding future contracts, we do take into consideration when we price our proposals we do take into consideration expected inflation rates and expected internal labor rates, which are dependent on the expected local currency versus the dollar value. So to some extent, we do mitigate through that future medium and longer term impact. In parallel with that, Of course, we do every effort possible in order to reduce our cost base and in order to improve our competitiveness on one hand and our profitability on the other end. These processes take some time. I did mention in the past the implementation of the 1ERP system that we do implement worldwide in our subsidiaries. We do look at additional aspects that we have initiated in order to move some of the production activities and even some of the engineering activities to low-cost countries. So in that way, we do mitigate the increase in the cost basis of the company. So all this is going on. These are multi-year plans. The company executes them and we are optimistic that we will be able to mitigate the impact of the currency exchange rate.

First, it's good to hear that many aspects are protected because the exchange rate changes were quite dramatic as we know here. And on the other hand, do you think we'll see also the time you're collecting payments from your customers becoming shorter or because you are mentioned as one of the companies with the longer collecting time, or we will still use it as a marketing tool?

No, I think we did complete that strategic cycle that you referred to about using the payment terms as marketing tool. We stopped that, actually, or significantly reduced that last year already. And then came Corona. And then came Corona, that's right. But one of our major customers, the Ministry of Defense in Israel... did pay nicely towards the end of last year. They continue to pay, although there's still a material debt that they have not completed yet, the payment of, looking for the upcoming budget that is going to be approved somewhere this year, hopefully, and then this will be resolved as well. In other places worldwide, we are in a process of reducing, as we just said, reducing the terms that we give our customers of payment. And actually, if you have looked at our recent two or three quarters, and you look at the number of the customer advances in our contracts, you can see a constant increase in the advances, and that is part as a result of the change of policy that we have here in putting more emphasis on cash flow and getting more initial down payments and progress payments from our customers. So this is an ongoing process with focus on cash flow.

Okay, thank you very much for taking my questions. It was nice to talk to you.

Thank you, Eran. Thank you, Eran.

If there are any additional questions, please press star one. If you wish to cancel your request, please press star two. Please stand by while we poll for more questions. There are no further questions at this time. Before I ask Mr. Maklis to go ahead with his closing statement, I would like to remind participants that a replay of this call will be available two hours after the conference ends In the U.S., please call 1-888-782-4291. In Israel, please call 03-925-5900. And internationally, please call 972-3925-5900. A replay of this call will also be available on the company's website at www.albitsystems.com. I would now like to let Ella ask another question. Please go ahead.

Okay. Thank you. It's not that important. I just was late in reacting on the call. So I would like to ask you about factoring as we spoke about cash flow actually. Are you still using it and is it a higher rate now than you used to use it or it's the same level more or less?

Occasionally we use it. In the first quarter we had a relatively low level of factoring and if you look at the trend, Compared to last year, we have a lower level in overall, and we plan to have a lower level during the year as well. In our assessment, the payments from the customer will come in time and will not need that element or reduce it significantly.

Okay, thank you. Again. Mr. Machlis, would you like to make your concluding statements?

I would like to thank all our employees again for their continued hard work, particularly in these challenging times. To everyone on the call, thank you for joining us today and for your continued support and interest in our company. Have a good day and goodbye.

Thank you. This concludes the Elbis Systems Limited First Quarter 2021 Results Conference Call. Thank you for your participation. You may go ahead and disconnect.