CAE Inc.

Good day, ladies and gentlemen. Welcome to the CAE second quarter conference call. Please be advised that this call is being recorded. I would now like to turn the meeting over to Mr. Andrew Arnovitz. You may now proceed, Mr. Arnovitz.

Good afternoon, everyone, and thank you for joining us today. Before we begin, I'd like to remind you that today's remarks, including management's headbook for fiscal year 20 and answers to questions contained forward-looking statements, These forward-looking statements represent our expectations as of today, November 13, 2019, and accordingly are subject to change. Such statements are based on assumptions that may not materialize and are subject to risks and uncertainties. Actual results may differ materially unless there is a caution not to place undue reliance on these forward-looking statements. A description of the risks, factors, and assumptions that may affect future results is contained in CDA's annual MD&A, available on our corporate website and our filings with the Canadian Securities Administrators on CDAR, and with the U.S. Securities and Exchange Commission on EDGAR. On the call with me this afternoon are Mark Powell, C.S. President and Chief Executive Officer, and Sonia Branco, our Chief Financial Officer. After remarks from Mark and Sonia, we'll take questions from financial analysts and institutional investors. Following the conclusion of that Q&A period, we'll open the lines to calls from members of the media. Let me now turn the call over to Mark.

Thank you, Andrew, and good afternoon to everyone joining us on the call. I'll first discuss some of the highlights of the quarter, and then Sonia will review the detailed financials. I'll come back at the end to talk about our outlook. CAE had good growth in the second quarter, with revenue up 21%, segment operating income up 28%, and we secured nearly $1 billion of orders for a 1.11 times book-to-sales ratio. seized total backlog at the end of the quarter with $9.2 billion. Our performance continues to be led by Civil, which delivered very strong operating income growth, higher margins, and continued to have strong order intake. The integration of the Bombardier business and aircraft training acquisition has gone very well and is substantially complete. And we're continuing to win the confidence of our airline and business customers with our expanded and highly innovative training solutions. Defense performance improved from last quarter. However, it reflects continued delays of orders for our higher margin defense products and the timing of program milestones on contracts that we're currently working on from backlog. These are largely timing issues, and I'm encouraged by the 1.08 times book to sales ratio for the quarter. which gives confidence, to our view, a stronger second half in defense. And in healthcare, our expanded sales force secured a higher level of interest in our latest products, which we'll begin delivering over the next few quarters. Looking more closely at civil, we booked $603 million of orders in Q2, including new long-term training agreements with Sunwing Airlines, Logan Air, and FlightWorks. We also sold 11 full-flight simulators during the quarter for a total of 20 for the first half of the year. To address the global demand for new pilots, we launched a new cadet pilot training program to train more than 700 new professional pilots over the next 10 years for Southwest Airlines' Destination 225 program. And just this week, we signed a long-term exclusive training agreement with EasyJet to train more than 1,000 new EasyJet cadet pilots under a multi-crew pilot license program. Also involving EasyJet, we inaugurated new training facilities during the quarter in Gatwick, Manchester, and Milan in support of our comprehensive 10-year training agreement. In business aviation, we entered a strategic partnership and exclusive 15-year training outsourcing with Directional Aviation Capital and its affiliates. Directional is one of the largest, fastest growing, and the most innovative corporate aviation service companies globally. And in connection with this agreement, just last week, we concluded the acquisition of a 50% stake in SimCom Holdings. Overall training center utilization was 69% this quarter on our network of nearly 300 full flight simulators. Airlines train a bit less during the busy summer travel months, and we've used this opportunity of this usual seasonality to perform some similar updates and relocations coincident with the opening of our new three training centers during the quarter. The utilization rate also reflects the effect of some of our recently added capacity that's just beginning now to ramp up. In defense, we booked orders for $362 million, including KC-135 air crew training services and similar upgrades for the U.S. Air Force. and additional fixed-wing flight training and support services for the U.S. Army at the CAE Dothan Training Center. We also received orders to upgrade the U.S. Navy's MH-60 Seahawk helicopter simulators and to provide air crew training on the Navy's T-44C aircraft. Other notable orders include a contract with Boeing to provide upgrades on P-8A simulators, a contract to upgrade the German Eurofighter and Tornado aircraft simulator and a contract for Abrams Tank Maintenance Trainers for the United States Army. As well, to further bolster our position in the United States, we entered a strategic collaboration with Leonardo to offer integrated helicopter training solutions together. And in healthcare, we continue to pursue larger segments of the healthcare simulation market with our expanded sales force. In line with our strategy to expand our reach within hospitals, we ventured into an agreement with Premier, a leading healthcare improvement company aligned with approximately 4,000 U.S. hospitals and health systems. We also launched new products, including Vinix 3.0 ultrasound simulator, and together with the American Society of Anesthesiologists, we launched a new anesthesia SIMS staff module which is latest in a series of interactive screen-based courses to prove for maintenance of certification in anesthesiology credits. With that, I'll now turn the call over to Sonia, who will provide a detailed look at our financial performance. I'll return at the end of the call to comment on our outlook.

Sonia? Thank you, Mark, and good afternoon, everyone. Consolidated revenue for the second quarter was $896.8 million, up 21% compared to $743.8 million in the second quarter last year. and segment operating income before specific items was $126 million, of 28% from $98.7 million last year. Quarterly net income before specific items was $74.7 million, or 28 cents per share, which is 22% higher than the 23 cents we reported in the second quarter last year. Net finance expense for the second quarter was $34.3 million, up from $19.9 million in the second quarter of the fiscal 2019. We had higher interest resulting from the long-term debt that we issued at the end of last year, higher interest on lease liabilities because of the adoption of IFRS 16, as well as higher investment in non-cash working capital in the first half of the year. Income taxes this quarter were $15.5 million, representing an effective tax rate of 17%, which is down from 19% for the second quarter last year. The lower tax rate was mainly due to a change in the mix of income from various jurisdictions. Free cash flow was negative $7.1 million in the quarter compared to positive $137.7 million last year. Cash provided by operating activities increased compared to second quarter last year, while free cash flow decreased, mainly from a higher investment in non-cash working capital accounts. Most of the increase is timing related, as we usually see a higher investment in non-cash working capital accounts in the first half. This increase reflects the timing of cash flows involving accounts payable and contract liabilities, It also reflects higher inventory from recent strategic investments in simulator advanced builds to preempt customer demand that we anticipate for certain simulator products. As in previous years, we expect a significant portion of the non-cash working capital investments to reverse in the second half. Uses of cash in Q2 included funding capital expenditures for $58.8 million, mainly for growth, and specifically to add capacity to our global training network, to deliver on the long-term exclusive training contracts in our backlog. We continue to expect total capital expenditures for the year to be about 10% to 15% higher than in prior years. Other uses of cash include the distribution of $28.4 million in cash dividends, and we used another $18.2 million to repurchase stock at a weighted average price of $34.06 per common share under the NCIB program. Our financial position continued to be solid with a net debt of $2.4 billion at the end of the quarter for a net debt to capital ratio of 51%. This reflects the issuance of the unsecured senior notes for the Bombardier-backed business acquisition and the higher uses of cash to fund working capital in the first half of the year. Since we adopted IFRS 16 effective April 1, 2019, net debt now also includes obligations under lease contracts, which were previously accounted for as operating leases and therefore not included in debt. Excluding this impact, the net debt to capital ratio would have been 47.5% this quarter. We continue to expect to be at the lower end of our target leverage range, which is 35 to 45% on a pre-IFRS basis within the next 18 to 30 months. Return on capital employed for four specific items and excluding the impacts of IFRS 16 was 11.7% this quarter compared to 12% last quarter and 12.8% last year. As we ramp up the large Bombardier-backed business acquisition and our other growth investments, we expect to reach 13% return on capital employed by fiscal year 2022. Now looking at our segmented performance. In civil, we had strong double-digit organic growth in the second quarter, and in addition, we benefited from the integration of the Bombardier business aircraft training business, which also performed very well. Second quarter revenue was up 35% year-over-year to $529.9 million on 18 full flights simulator deliveries, and continued strong demand for our training services with our expanded capacity. Operating income before specific items was up 60% to $101.4 million for a margin of 19.1%. On the order front, the civil book to sales ratio for the quarter was 1.14 times, and for the trailing 12-month period, it was 1.45 times. In defense, second quarter revenue of $336.5 million was up 5% over Q2 last year, while operating income was down 24% to $26 million, for an operating margin of 7.7%. In defense, product margins are typically higher than services, and while we did see a more balanced mix compared to last quarter, it was still more weighted for services. The lower segment operating income in the second quarter also reflects delays on product orders we expect to conclude this year, as well as timing-related factors related to reaching program milestones on some of the product contracts in our backlog. These include our execution on R&D programs and external factors including customer inputs and the readiness of their training facilities. The defence book to sales ratio was higher this quarter at 1.08 times and was 0.81 times for the last 12 months. Lastly, in healthcare, second quarter revenue of $30.4 million was stable compared to Q2 last year and segment operating loss was $1.4 million in the quarter compared to segment operating income of $1.3 million in Q2. We had a higher investment in SG&A to support a larger future business, and we also had some higher expenses related to launch of new products. With that, I will ask Mark to discuss the way forward.

Thanks, Sonia. We continue to see good momentum with our training strategy, which is supported by secular growth trends across all of our markets, which underpins CAE's investment thesis. In civil, the market fundamentals for commercial aviation remain supportive, with continued long-term passenger traffic growth, an expanding global in-service fleet of aircraft, and, specific to our business, a significant need to attract and create new pilots to meet long-term demand. CAE is the world leader in civil aviation training, and is a brand that's become synonymous with training and increasingly with pilots. We're maintaining very good momentum in a large addressable market. And as we look ahead, we expect to see more airline outsourcing opportunities materialize from a large pipeline of long-term training partnerships. We expect another good year for full flight simulator sales and to maintain our leading share of the market. In business aviation, We've significantly bolstered our position with the successful integration of Bombardier business aviation training and with our recent strategic partnership with Directional Aviation Capital. In this market segment, SEAS business is driven mainly by the ongoing training requirements that involve the already in-service fleet of business aircraft globally. We also expect to benefit from demand for training involving the entry into service of major large cabin business jets. For civil overall, we expect to perform a bit better than our original outlook, now with operating income growth closer to 30% for the year on strong demand for our training solutions, as underscored by a 1.4 times trailing book-to-sales ratio and a continued high ratio going forward, even on a growing revenue base. In defense, we continue to expect a stronger second half, which is a view supported by a healthy book-to-sales ratio in the quarter and a robust pipeline. Our revised outlook for modest growth for the year takes into account our progress here today and our current expectations for reaching milestones on programs in backlog. We also expect to conclude several more contracts in the remainder of the year, and although we don't control the timing of government decision-making, I take confidence in knowing that we've already been down-selected for most of them. Our long-term prospects in the large addressable defense market remains positive, and I'm encouraged by approximately $4 billion of defense proposals we've already written that are currently in the hands of customers pending decisions. Finally, as previously announced with news of Gene Colabatisto's upcoming retirement, we're actively in the process of recruiting a new group president. who will be responsible for our defense growth strategy and execution in our global markets. And lastly, in healthcare, I'm encouraged by the potential for CE to leverage our leadership in aviation training and make healthcare safer. We're positioning the business to leverage the growing opportunities with hospitals, which now have major incentives in the United States specifically to address preventable medical errors. And they see simulation as a logical way to ensure their practitioners are adequately trained in procedures. The increased imperative on patient safety recently highlighted in no small way by the World Health Organization initiating the world's first patient safety day is just but one important factor that gives me confidence in the long-term prospects for CAE in this market. We're continuing to roll out the most innovative products in the market And with our strengthened front-end organization and new team in place, we continue to expect double-digit percentage growth this year. In summary, our overall outlook for CAE this fiscal year is largely unchanged, with expected higher growth in civil, offsetting the lower expected growth in defense. We benefit from a strong position in secular tailwinds in each of our core markets, and we look forward to superior top- and bottom-line growth in the years ahead. With that, I thank you for your attention, and we're now ready to answer your questions.

Thanks, Mark. Operator, we'd now like to open the line to members of the financial community.

Thank you. If you would like to register a question, please press the one followed by the four on your telephone. You will hear a three-tone prompt to acknowledge your request. If your question has been answered and you would like to withdraw your registration, please press the one followed by the three. One moment, please, for the first question. Our first question coming from the line of Konar Gupta with Scotiabank. Please proceed with your question.

Hi, this is Amina, a corner group of associates. I do have a question on the defense segment. You revised the guidance, which implies a strong growth in the second half. Do you expect growth to be skewed in the third quarter or the fourth quarter? As well, should revenue growth accelerate at the same time as delayed orders materialize in the second half?

Well, I think that we're guiding on the outlook the role for the business in line with what we've talked about in the remarks. And yes, we expect a stronger Q3 and Q4 in that, probably more in Q4 than Q3. But overall, we expect a much stronger second half as you would expect to be able to, as you said, achieve the modest growth that we highlighted in our outlook for sure.

I do have a question on working capital. Do you expect a reversal in working capital in the third quarter, and are there any other one-timers this year that wouldn't drag on to working capital changes next year?

So as we see historically, there's usually an investment, a higher-level investment in the first half of the year of non-cash working capital accounts, and usually we see a partial reversal in the second half, and that's no different this year. We don't really call it out on a quarterly basis. We look at this quarterly. on an annual basis. And a lot of that investment, which is higher than last year, is driven in part by timing, impact on accounts payable and contract liabilities. But in addition, we've called out a higher deliberate investment in inventory. Some of it is work-in-progress inventory, and that's inventory that's tagged to customer orders and deliveries, which is in line with our view on expected deliveries, which is higher in the second half. But we've also invested deliberately on some pre-bills, so some whitetails to address expected demand. Most of these are 737 MAX simulators. And when the situation and timing of aircraft deliveries clarifies, we are positioned to address that customer demand.

Okay.

Operator?

Thank you.

Can you hear me now?

Yeah.

Sorry. I do have a question on the civil segment. What is the cadence for the simulator deliveries for the next two quarters, and do you expect EBITDA growth in the second half to be driven by joint ventures, or can we expect material margin expansion to take place in the first half, that took place in the first half?

Well, I'll just start with deliveries. I think we don't expect the... the market drivers to be different with regards to simulator sales, which are basically, you know, the strong catalyst is delivery of aircraft out of the OEMs. And, you know, with Stanley, I think the only, maybe, if you like, anomaly in this market right now is the delayed deliveries of 737 MAXs. But other than that, I think the There's no reason to expect that the market will be different, and we're not seeing that. We're seeing that the simulator orders in line with, as I said, delivery of aircraft. At least for us, anyway. Do you want to add anything?

On your question, Ani, but ultimately, I think our revised outlook speaks to our view on operating income that was a little higher than with our previous outlook, and with operating income growth coming in closer to 30%.

Thank you. Our next question coming from the line of Kevin Cheng with CIBC. Please proceed with your question.

Hi, this is Krista on for Kevin. If I could just go back to defense, you're calling for a strong second half. I'm just wondering how this plays into 2021. I know you're not providing guidance, but any reason not to expect the growth rate in defense to return to a normalized level?

Well, I don't think we've ever called out a normalized level to be specific. We call out an outlook every year, but yes, I would continue good growth in defense because the market fundamentals and our position in the market and the demand for our services and probably most importantly on the pipeline of opportunity that we see. As I mentioned, we have about $4 billion of proposals that we've submitted to customers already, so those As I always say, we don't control the pan of decision makers as to when they decide, but I think a lot of them will materialize in the next few months. So that gives me confidence in our own prospects in the market. And when you look as well at the market itself, the market itself is growing, and we continue to expect to exceed the organic market goal for the longer term in defense.

Great, thanks. And if I could also just ask another one. With the addition of Bombardier's business aviation training assets and the strategic partnership with Directional, how does that shift the mix of wet hours and dry hours versus what we've seen historically?

Well, I don't have the numbers, but no, I don't think we do. But clearly, Bombardier is essentially all wet. So clearly, it will increase the amount of wet hours we do.

Yeah, business aviation represents about a third of our civil activity, Krista. It's all wet, and of the commercial activity that we do, probably about a third of it is wet and growing.

Perfect. Thank you. And then if I could just ask one on health care. Margins have been impacted by elevated costs related to growth and launching new products. When do you think you'll lap these costs, and should we expect this for the remainder of fiscal 2020?

Well, I think we expect it to reverse what's continued to increase this year as testimony by companies outlook for double-digit growth. Obviously, that implies a strong second half, and that's what we see in front of us. Perfect. Thank you.

Thank you. Our next question, coming from the line of Benoit Poirier with Desjardins Capital Markets. Please proceed with your question.

Good afternoon, everyone. Could you provide more color with respect to the civil guidance that has been revised upward on what are the main drivers for the guidance increase?

Well, I think it's performance here today, and, you know, orders going forward. If you look at, as I mentioned, just in terms of orders, the trailing book to bill is 1.45 on top of, you know, quite exceptional revenue growth. So even though we're We're growing a lot. We're just continuing to fill the pipeline quite substantially. We know what capacity we have. We're not capacity limited. We can see that we're going to be able to generate more business and the associated profit in this second half. That's a large part. The other part is that we've been very happy with the integration of our bombarding business jet business. I think we're honestly firing on all cylinders there. And so we feel confident in the second half with regards to that business. So that's really where we're coming from, to be able to constantly increase that outlook.

Okay, that's perfect, Mark. And are you confident to still deliver a similar number of full-flight simulators this year comparable to last year, which was around 58, Mark?

You're talking about deliveries now?

Yeah, yeah, yeah.

Yeah, so what we see is that it will be higher in the second half, as it was last year, probably in the 50s. And that's been incorporated into our outlook and our outlook of closer to 30% operating income growth over the years.

Okay, perfect. And could you provide an update on the 737 MAX, whether you have more color on the upcoming training requirement and the impact so far we've seen for CAE?

Not really. We don't have any more because the aircraft has returned to service, so I think we don't know, nor does anybody else, exactly what the training requirements will be. I think it's, you know, in terms of our position that we're coming to support the operators, continue to support Boeing, and support the regulators to the extent that they want our support in all jurisdictions. Our assumptions that there obviously is going to be a lot of pent-up demand when those airplanes start flying, and that emphasizes a number of whitetails that we've created to be able to secure that demand, and also sales continue to do well of the MAX cylinders, and deliveries go well. I mean, so far this year, if you look at, maybe remind me of the numbers we've delivered.

So five orders to date and delivered nine deliveries to date on the 737 MAX, and expect a similar number in the second half as well.

And if you look at, you know, we've sold 48 737 MAXs, you know, so far, and that's the majority of market share. So, you know, hopefully the airplane will fly again relative, you know, in the near future, but we're well positioned when that happens.

Okay, that's great color, Mark. And with respect to the utilization rate, the 3% decline year over year, is it fair to say that it was mostly driven by the acquisition of VAT that typically, where business jet utilization is typically lower, given the nature of the business, Mark?

That's certainly part of it. There's a normal seasonality, as you know, but I mean, even if you look at last year's 72%, some of it is what you said, business account for sure, because we, you know, they all train in midnight hours. Now, however, I would caution that we don't assume them to, when we estimate a utilization, we don't necessarily assume you know, full utilization like that on a business aircraft. A lot of it has to do as well with, you know, remember we opened up three new training centers, Milan, Manchester, Gatwick. So we relocated a bunch of simulators and updated. We take the advantage of the summer months, updates, simulators, and while we're doing that, either in transit or an update, they're not earning revenue. and they're part of that utilization. And some of it, there's 37 pilot train deferrals. So all of that, I think, gives you the 69%, which to me is not surprising with everything we've done this quarter.

Okay, that's perfect. And last one for me, Sonia, in terms of working cap, you expect a good reversal in the second half, but In terms of working capital usage for fiscal 20, could you provide maybe a range or what kind of dollars we could expect for the full year in fiscal 20, Sonia?

Well, we expect a significant part of that to reverse in the second half. So that will be as we kind of continue to optimize non-cash working capital, convert some of that inventory investment in the second half, But we will have some investment. One, some of that inventory won't necessarily convert completely before March 31st. But also, as we continue to see strong growth on the services side, that services model drives the investment in AR, which is usual because the services get built and collected after the services are rendered. So we won't necessarily give a range, but it's a substantial proportion that will be reversed in the second half.

Okay. Thank you, Sonia. Thank you.

Thank you. Our next question coming from the line of Fadi Shamoon with BMO Capital Markets. Please proceed with your question.

Yes, hi. Thank you for taking my question. Maybe first on... quickly on directional aviation. Can you offer up kind of how you think about the contribution you would expect from this once you close it? Is it kind of consistent with what we would be attributing kind of ROIC for this business, like a low, a double-digit ROIC basically on that $85 million? Is that a fair way to think about it?

Well, I'd start by saying maybe it's slightly accretive. We expect it to be slightly accretive in the next 12 months as we open up our new training center and we start populating it with simulators and as we go into the integration. Andy, do you have something you want to add?

Yeah, I think that it really begins to take loft year two, year three and beyond. The biggest value in that fatty is really the 15-year exclusive with directional, which is a really large fleet in aggregate with all its affiliates of 175 business jet aircraft. So it's almost like a really large airline outsourcing. So for us, you know, the returns really begin to take hold year two, three, and beyond. First full year will be sort of modestly accreted.

Okay. And is there any contribution assumed for this year from Directional?

It's very small and it's already in the near 30% growth outlook that we provided.

Okay. My second question on defense, I mean I can appreciate the lumpiness quarter over quarter and these kind of things, but if I take a kind of look at the last few years in defense, You've had a very strong improvement in revenues. You've deployed over $300 million of capital in that division. But the incrementals have been kind of the low single-digit, both in terms of ROIC and margin. Can you offer up any kind of insights into what's really kind of driving this? Is it all mixed? and whether there is an opportunity that can improve over the next couple of years, I guess, if these are programs that are in an early ramp-up stage.

I think maybe just a high level. Definitely, you know, I think what you've seen in a large, you know, in a macro level is increasingly a shift to services. And product-services mix has changed. And that's caused, you know, a lot of that, you know, the lower margins overall. Now, going forward, I would tell you that, you know, we stick to our view that, you know, we should be able to deliver an 11%, 12% range. That would be our expectation for the longer term. And that's in terms of accretive to the overall returns of CE. So certainly not dilutive and contributing. to value creation. That's our position, and that's the way we're bidding in the market. Sonia, do you want to add anything to that?

Yeah, it's really a reflection and a transition between the products and services mix. But as you grow the size scope on services and drive the product program, it will drive higher margins and contribution on return.

Okay, great. And maybe one last question. Are you prepared to share how many whitetails have you built for Max?

Well, I think we will share the number. We think that's competitively sensitive, but maybe I don't know.

No, I was going to say the same.

So no. Okay, thank you.

Thank you. Our next question coming from the line of Cameron Dorkson with National Bank Financial. Please proceed with your question.

Yeah, thanks. Good afternoon. Just to follow up on the 737 MAX and the whitetails, I mean, I guess maybe I'm reading too much into this, but the fact that You've maybe built some Whitetail 737 MAX sims. Is that suggestive that maybe airlines are telling you that they might have a requirement for new sims as opposed to using their existing 737NG sims?

Well, I think it's prudent to say that you have both 737 MAX operators and a lot of airplanes sitting on the ground right now. and they're going to have to come up to speed with regards to pilot training, and you just don't ramp that up overnight. So we want to be there, being able to support all the demand, and the long-term prospects of this aircraft are very good. Boeing's got a very strong backlog of aircraft. This will get fixed in the shorter term. So we want to be ready, and we're taking assumptions with regards to what training happens in what jurisdictions, But, you know, I think we have no crystal ball any more than you do, anyway, that we would share our assumptions on what training will be done. But, no, customers aren't guiding us one way or another. I think our experience, though, is that, you know, airlines rarely do just, you know, the minimum that their regulars will ask them. So, you know, we fully expect that, as has already happened, even should the – training requirements be exactly the same as before. I fully expect that some airlines, a lot of airlines will move beyond that because they'll want to have dedicated 737 MAX simulators for their own reasons. So, you know, we'll be ready for that.

Okay, no, that's great. Just secondly, just on M&A, I mean, you've done a couple of acquisitions here in the last 12 months just in the business aviation training segment. I'm just wondering if there's anything else out there that maybe you feel underrepresented, either civil or defense, that could be an M&A opportunity?

Well, the way that we look at M&A, you know, it's really focusing on training outsourcings and partnerships and whether they become organic opportunities like EasyJet outsourcing or M&A like this recent SimCom transaction. really develops with that partnership. So we continue to focus on outsourcing and continue to have, you know, a good pipeline of conversations with airlines and partners. And if there are any other strategic opportunities that enable expanded market access, some technology capabilities or client programs, we keep an eye out for these and always kind of a value buyer if there's something that is of interest.

Okay, thank you.

Thank you.

Thank you.

Picking up on Cameron's last question, I would also add that even though it's hard to pick out in our defense results to date, I would tell you that we're quite happy with the acquisition we've done in defense last year in the top-sequel world. I think that's performing quite nicely, and a lot of the revenue growth, you see a good portion is actually coming We feel good about that.

Thank you. Our next question coming from the line of Ronald Epstein with Bank of America, Mary Lynch. Please proceed with your question.

Hey, good afternoon, guys. It's Christine Lewag.

Hi, Christine.

Hello, Christine. For the 737 MAX, since the aircraft hasn't been recertified yet, How does the timing work for when you get the final software package from Boeing and when you can deliver your first full flight simulator?

Look, I think it'll probably be coincidence. I think we're working in lost step with Boeing, and I'm quite confident that as soon as the software loads that we need to be able to upgrade the simulator come from Boeing, and, you know, as I mentioned, we're in lost step with them, and I don't expect any delays. with regards to having to update SIMs from that standpoint.

And in fact, Christine, we've delivered nine MAX so far in the first half of the year. So even what we're delivering currently will have to be updated with the new aircraft system load. A lot of that is software, I guess. Software, which comes out pretty fast.

I see. And for the simulator advanced builds that you're doing right now, How many of those already have basically indication from your customers that they will order it versus a speculative build on your part?

Yeah, I think when we say whitetails, it means that it's not attributed, it's not tagged to a customer. So we're building them and they wind up either in our training centers so we can serve the market better As I said, for customers buying 737 MAX or in our training network, or we'll have airlines buying simulators and we'll deliver to them. But when we talk about whitetails, we mean they have been attributed at this moment.

I see. So not even a soft indication of interest. So it's all purely speculative, just to confirm.

It isn't that unusual for us to do some advanced building, especially on high-volume platforms like the A320 or the MAX. But here, yes, we are making some call in terms of there being a pent-up demand given the fact that the aircraft's been out of commission for as long as it has been in the deliveries as well. So that's what we see. So it's not a particularly bold measure on our part. We think it's just smart preempting the demand that we expect.

That's helpful. And maybe switching gears to health care, Mark, can you walk us through what you need to achieve for health care to be profitable in the long term?

Well, I think it's a question of revenue, revenue growth. It's not a question of the profitability of our products and services. They're actually very profitable. In fact, more profitable on a unit basis than probably certainly a lot of the products that we have in the rest of our business. The issue is volume. We need to grow the business, and that's why you see us investing in new products and investing in Salesforce, SG&A, which is mainly Salesforce, and I would say a stronger team. And we started with Rekha Ranganathan, who's a seasoned executive from the healthcare sector. We're now growing the team, the leadership team, and that's part of what we're doing, and that's where you're seeing reflecting in cost. You know, it's change in our strategy with the new theme in place, which is really going after the hospital business. When you look at value-based care in the United States, that is driving, as we said in our remarks, that is driving hospitals to be able to have to invest more into training to make sure that they reduce the amount of medical errors that are happening as a result of, if you like, less than perfect training. We demonstrate that in space and aviation industry. As I've said many times before, the healthcare industry at large is looking to aviation as the model as they look at this. That's really where we're at. When we look at the certainly short term, rest of the year, we certainly expect that based on the orders we've gotten to date. We don't monitor. We don't report out the size of the business to build in the healthcare business, but I already in this quarter, we're seeing, if we were to report backlog, we'd be showing a backlog that's increasing. Now, it's not all delivering for a number of reasons. The time to basically complete an order on the hospital sector is a bit longer than it is in our traditional teaching hospitals, for example. So that's reflected, but having said all that, I feel confident in the growth outlook that we've set up, top and bottom line, double-digit growth this year. implying a stronger second habit. It's certainly a larger business going forward or else we wouldn't be in this business.

Sure. And I don't want to hold you to some sort of long-term guidance, but I kind of just want to get a perspective from how you think about this business. Do you think this business will be a $100 million revenue business on a quarterly basis in the next two, three years? And then Also, I'm just understanding the size that this could be. And then at what point do you have a threshold in which you decide to sell it and walk away from health care?

Well, on the last part, we're committed to the business. And so I'm not going to comment on that. We're sticking to it. But as we've done in any business, you saw it in mining a few years ago, if we feel that there's going to be a, it's not going to be the market opportunity we expect or that we think it's going to take too long, Then we'll reevaluate our options in that regard. But that's certainly not our thinking at this moment. So in the end of the day, right now, I'm not going to commit to in terms of any kind of quarterly revenue targets at this moment. I can tell you that we won't be satisfied until this business is substantially ordered. in concert with our expectations of the market. I'm certainly not bloody-minded about it, though. Thank you, guys. And, you know, I think that, you know, we're very confident that there's a societal need here, and we're the ones that are in our best position to be there to support, you know, the increase in patient safety.

Great. Thank you for the call, Mark.

Thank you.

Thank you. Our next question is a follow-up question coming from the line of Fadi Shamoon with BMO Capital Markets. Please proceed with your question.

Yeah, thanks for squeezing me in again. Sonia, on the working capital, if I look at this $300 million working capital investment so far this year, half of it is declining kind of liabilities and payables, and half is kind of from the asset side, including inventories and What's the driver behind this liability and payables decline? I'm just trying to understand how much of that really comes back in the back half a year.

Yeah. So on the inventory, we spoke about that. It's a combination of work in progress, and that's inventory that's pegged to customers. And that's, you know, as we build the simulators to deliver in the back half. as well as the whitetails that we've invested is preemptive for demand that we see. Now on accounts payable side, it's really a question of timing on different types of payments. So there's some annual payments, that get paid in the first half of the year that are higher than last year. And then some new payments that are larger related to interest and so on, new profiling, so that get paid out in the first half of the year. And there's always a bit of variation that's driven by the shift in volume, whereas the second half usually has a higher volume than the first half. So it kind of contributes to that investment in the first half. So all to say that it's a slightly higher investment, but we do expect a substantial part of all of that coming from payables, the inventory, and liabilities, probably around, call it three-quarters of that to reverse in the second half of the year.

Okay, that's helpful. Thanks.

Operator, we'll now conclude the session with investors and open the line to members of the media should there be any questions.

Thank you. As a reminder, to register for a question, please press the one followed by the four. One moment, please. We do have a question coming from the line of Ross Merowitz with the Canadian Press. Please proceed with your question.

Yes, hi. I'm wondering if you could talk a little bit about what the impact, both financial and otherwise, has been on TAE from the MAX issues and the grounding?

Well, I think it's mainly, you know, in terms of the impact, it hasn't been really consequential to date in our numbers. In terms of deliveries of our simulators, they're continuing. We've delivered a number of them this year already in line with our expectations. We fully expect to deliver... Actually, the number total is 19 that we've delivered to date. So we fully expect to continue to deliver this year because airlines will need them as the match comes back. So the impact hasn't been, as I mentioned, consequential to see results. And we know what expected them to be based on what is expected to be the return to service date. It's not public. What you read in public regards in terms of when that aircraft will start flying again. So I think that's what, basically that's kind of what characterizes it.

And I guess the flip side to that or addition is, what impact are you expecting? You've built some whitetails, so what impact are you expecting once it resumes?

Well, I think, and I should have said actually because we repeated what we said during the analyst questions. I mean, the one impact obviously is working capital because we have these simulators that we built that are white tails, which means that they're sitting at work in process inventory. And what will happen is when the airplanes start to deliver and start entering service back into, or reflying with airlines, obviously some of those will deliver because we fully expect people to order some and we will be in a position to put, add those simulators to our training network and expect that extra capacity to be useful to make sure that the airplane regains service flying status quickly as the need to retrain a lot of pilots come to form. And all of them will require software updates? Well, the simulators that are done certainly will have to be, as is always the case, will have to be representative of the aircraft So whatever the final configuration of the aircraft, you know, we will resupply those changes by the manufacturer and we'll incorporate them. So every simulator will have to represent the final, you know, configuration. So, yeah, we'll have to update them all. But as I said, I wouldn't expect, because we've been updating as we go along, I wouldn't expect that to be a long process.

Okay, thank you.

You're welcome.

Thank you. Our next question coming from the line of Julien Arsenault with La Presse. Please proceed with your question.

Oui, bonjour à vous deux. Monsieur Parent, juste sur le 737, pouvez-vous nous donner le portrait exact? Vous avez dit que jusqu'à présent, vous avez livré 19 simulateurs. Est-ce que c'est l'entièreté des simulateurs livrés pour le 737? Et vous avez combien de commandes en tout pour cela?

On a, oui, on a livré 19 simulateurs de 737 MAX jusqu'à date, puis on en a vendu 48.

OK. Donc, c'est 48, dont 19 livrés, c'est ça?

Oui, exactement.

OK. Une fois que l'interdiction de vol va être levée, mon collègue vous a posé des questions sur l'impact à l'heure actuelle, Je présume que la demande va prendre un peu une pointe. Est-ce que vous allez devoir prendre des mesures spéciales quand l'interdiction de vol va être levée pour répondre à la demande que vous risquez d'avoir?

C'est-à-dire qu'on est proactif en ce moment. Quand on parle de fabriquer des simulateurs qu'on a mis en expression anglaise « white tails », That is to say, we have created simulators that will be ready to be deployed either in our training centers all over the world or sold to customers, which will allow us to deliver training that will be definitely, I believe, that will have to be a point of requirement of training because there will be a lot of planes that will come into service

Operator, that's all the time we have for the call today. I want to thank members of the media and, of course, members of the investment community for joining us this afternoon. A transcript of today's call will be made available later today on CAE's website. Thank you very much.

Thank you. That does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.