This conference call transcript was computer generated and almost certianly contains errors. This transcript is provided for information purposes only.EarningsCall, LLC makes no representation about the accuracy of the aforementioned transcript, and you are cautioned not to place undue reliance on the information provided by the transcript.
spk06: Greetings and welcome to the SIRCOR International's third quarter 2022 earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. As a reminder, this conference is being recorded. I will now turn the conference over to Mr. Scott Solomon, Senior Vice President of the company's investor relations firm, Sharon Merrill Associates. Thank you, sir. You may begin.
spk04: Thank you, and good morning, everyone. Before we begin, let me remind you that our earnings release and presentation are available on CIRCOR's website at investors.circor.com. If you'd like to receive copies of the materials, please email CIR at investorrelations.com, and our IR team will provide them for you. Turning to slide two, Today's discussion will contain forward-looking statements as they are defined under the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. These statements represent the company's views only as of today, November 14, 2022. These expectations are subject to known and unknown risks, uncertainties, and other factors, and actual results could differ materially from those anticipated or implied by today's remarks. While SERCOR may choose to update these forward-looking statements at a later date, the company specifically disclaims any duty to do so. You can find a full discussion of the factors in SERCOR's 10-K, 10-Qs, and other SEC filings also located on our website. As referenced on slide three, on today's call, management will refer to GAAP and non-GAAP financial measures. The reconciliation of the non-GAAP measures to the comparable GAAP measures are available in our earnings press release. Please turn to slide four. Joining me on today's call are Tony Najjar, SERCOR's President and Chief Executive Officer, and A.J. Sharma, Chief Financial Officer and Senior Vice President of Business Development. Tony will begin with a strategic overview and the highlights of our third quarter performance. A.J. will review the financials and discuss our guidance for full year 2022. Tony will provide our market outlook, and then management will be happy to take your questions. Now, please turn to slide five as I hand the call over to Tony.
spk05: Thank you, Scott. Good morning, everyone, and thank you for joining us to discuss our third quarter 2022 financial results. Before we review our results, I want to thank our teams across the globe for their continued focus on execution and for their resilience in the face of a challenging macroeconomic environment. Since our Q2 earnings call, I have spent most of my time with our teams and customers, including having the opportunity to spend time with our global defense sales team and customers at the EuroNaval exhibition in Paris and with our industrial sales team and customers at the Abu Dhabi International Petroleum Exhibition and Conference. I continue to be delighted by the level of customer intimacy that our teams are driving and by the strength of the SOCOR family of brands throughout the industries we serve. Our team performed extremely well in the third quarter and delivered excellent results. We navigated ongoing supply chain disruptions, the inflationary environment, and rising energy costs to deliver 26% organic quarters growth, 3% revenue growth, or 10% on an organic basis, as well as 550 basis points of margin expansion. Our results underscore continued success in executing on our strategic priorities These include, first, margin expansion, which includes value pricing, simplification, best-cost country sourcing and manufacturing, and factory modernization. Second, organic growth through new product development and leverage of our strong aftermarket position. And third, reducing our leverage, which we accomplished in Q3 through adjusted EBITDA growth and further monetization of our real estate portfolio. AJ will provide more details on our improved leverage and outlook in his prepared remarks. Turning to our third quarter highlights on slide six, organic orders increased 26% versus prior year, driven by growth in both segments. Orders in A&D were exceptionally strong, growing over 74% organically. The strength in A&D was driven by the defense aftermarket, various missile programs, medical products, the continued recovery in commercial aerospace, and pricing. Industrial orders were up 8% organically, supported by strength in our aftermarket, pricing, and downstream oil and gas, primarily in the aftermarket and capital projects in India. Pricing was strong in both segments, which is indicative of the power of our brands and our team's focus on maximizing value from the products and services we provide. Backlog at the end of Q3 was up 14% from the same period last year to $497 million, positioning us well for the remainder of the year and into 2023. On the top line, we reported year-over-year revenue growth of 3%, or 10% on an organic basis, with A&D up in the high teens and industrial up mid-single digits. We accomplished this despite the continued supply chain challenges, which impacted some of our largest businesses in the quarter. Our 70% increase in AOI was primarily driven by our industrial segment, supported by our core industrial business and downstream oil and gas. The margin expansion was heavily driven by our value pricing initiatives and cost out actions that our teams have executed in the businesses and at corporate. AJ will provide additional color on the margin drivers and the quarter during his prepared remarks. The demand environment for our products continue to be positive as evidenced by sustained order strength and our healthy backlog. We are positive about our business as we move through the fourth quarter of 2022 and look ahead into 2023. Moving to slide seven, each quarter, I like to highlight specific growth areas that our teams are driving. In Q2, we focused on new and adjacent markets where we are leveraging our core technologies and manufacturing capabilities. Today, I'll highlight a couple of key growth areas that our A&D team and Industrial Pumps EMEA team are driving. In AMD, we are highlighting two product lines for missile applications. First, our mechanical kinetic switches used in missile and bomb fusing applications. Designed to sustain extreme conditions, these are reliable, quick response switches used to sense motion and acceleration for safe in arm and impact. We expect the growth of this product line to continue with new products for fusing applications as well as applications for hypersonic missiles that we are currently developing. Second, our brushless DC motors, where we have won several new applications for various missile programs, which are currently in various stages of development. Our motors are used in the missile control actuation system, which is a core part of the missile guidance and control system. With heightened geopolitical tension around the world, advanced air defense technology is expected to play an increasingly important role in defending the U.S. and its allies. We expect to be part of supporting these critical applications with the current programs we are working, as well as future applications that we are pursuing. In total, we have generated over $17 million from these products year-to-date, up almost 40% over last year. Some of these programs are still in the early stages of development with modest revenues in the current year, but they are expected to deliver significant long-term growth for our A&D segment. The second growth area that I would like to highlight is from our largest pump business in EMEA and APAC, where we enjoy a strong aftermarket position. Our dedicated aftermarket team has been driving various initiatives, leveraging 80-20 principles and value-based pricing to drive growth and expand margins. We are forecasting over 22% growth year-over-year, with a significant portion of this growth coming from pricing. We expect the growth in this area to continue with our team's continued focus to maximize value from the products and services we provide. Before I turn the call over to AJ, I would like to provide you a quick update on our strategic review process. Our board, supported by our external advisors and the management team, continues to progress with the review. We are in the final stages in preparing for the formal launch and expect this to happen in the near future. At this time, we are not able to provide any additional details. Now, let me turn the call over to AJ to cover the financial results in more detail.
spk02: Thank you, Tony, and good morning, everyone. Let's turn to third quarter financial highlights on slide eight. We delivered step change performance in 3Q. Excluding previously divested businesses, we posted the highest backlog industrial AOI margin and consolidated AOI margins in at least the past three and a half years. We are beginning to see the financial benefits of the transformation that was kicked off early in the year. We're in the early stages of this transformation and see strong runway for continued growth and margin expansion. Organic orders were up 26%, primarily driven by A&E and supported by broad-based growth across industrial. We saw orders growth in most of the regions and markets and in both the aftermarket and foremarket. The orders trend remains robust, but speaks to the power of our brands and the strength of our technologies. On the top line, our business teams mitigated supply chain disruptions and labor constraints to deliver double-digit organic revenue growth. Each one of our businesses across industrial and aerospace and defense posted organic sales growth in the quarter. We continue to execute value pricing, maintain cost controls, drive growth, and reduce corporate cost. These efforts helped generate a 70% year-over-year increase in adjusted operating income and 550 basis points of AOI margin expansion. We delivered 69 cents of adjusted EPS up 103% and grew adjusted EBITDA 62% to 33 million. Adjusted free cash flow was negative 14 million. Cash flow was primarily impacted by select investments in working capital in our industrial pumps and Navy business. FX headwinds And expenses related to the restatement and our ongoing strategic review also contributed to the negative cash flow performance. Turning to slide nine and our aerospace and defense segment results. Organic orders were up 74%. At 90 million, Q3 marked our highest aerospace and defense orders quarter in the past 14 quarters. We saw broad-based growth across all AMD markets, supplemented by large orders in medical, switches for missile programs, and Navy spares. Organic revenue grew 18% with all aerospace and defense businesses posting revenue growth in the quarter. AOI growth of 6% reflected compressed margins due to a difficult prior year compare against a particularly strong mix in Q3 2021. Sequentially, AOI margins improved 320 basis points. On both a dollar and margin basis, we expect AOI to improve sequentially again in Q4. Moving to our industrial segment results on slide 10, organic orders were up 8% with good traction across all markets and regions. The exit from pipeline engineering adversely impacted orders growth by five points. We were especially pleased to see continued momentum in our industrial aftermarket, which posted organic orders growth of 14%. Within industrial aftermarket, our European pumps aftermarket orders grew 20%. We are laser focused on growing this high margin part of our business and see tremendous opportunity to leverage value pricing and take share. Our downstream business saw organic orders growth of 25%. This is the second successive quarter of orders growth. We are starting to see more robust sales funnel and project activity. While we expect order intake to remain lumpy, we are increasingly optimistic of the outlook and now expect to post flat orders growth for the full year in downstream. Organic revenue grew 6% with broad-based strength across the platform. that more than offset headwinds from supply chain constraints and the exit of pipeline engineering. Industrial posted exceptional AOI growth of 121% and AOI margin expansion of 720 basis points. The margin performance was made possible by a relentless focus on pricing, cost optimization, growing aftermarket, and solid execution. Turning to slide 11, Net leverage and compliance leverage have continued to improve throughout the year. We ended 3Q at net leverage of five times, which was 0.9 turns lower than 2Q. With our expectation of continued expansion of EBITDA and debt paydown, we now expect to exit 2022 with net leverage in the high fours and compliance leverage in the mid fours. This does not include closing any subsequent sale leaseback transactions. Going to slide 12 and our expectations for full year 2022. Based on our strong 3Q performance and positive momentum, we are increasing our guidance for the full year. We continue to see growth in industrial aftermarket and medical orders and benefit from the recovery in commercial aerospace and our position on defense platforms. With record backlog exiting 3Q, we now expect organic revenue growth of 9% at the midpoint of our range, up from a previous expectation of 7%. Pricing will remain a strong driver of AOI growth and margin expansion. We are seeing signs of easing of supply chain constraints and moderating inflationary pressures. We continue to simplify our cost structure and now expect to realize $13 million in annualized cost savings this year, and $6 million of carryover benefits in 2023. Two of our factories in Germany are affected by regional wage negotiations between the unions and industry representatives. The low end of our guidance seeks to account for the potential impact of the labor walkout or slowdown. Looking at 4Q. Segment AOI performance is expected to be consistent with the exceptional 3Q performance. We expect industrial to be largely flat to 3Q and A&E to improve sequentially. Corporate costs are expected to be up in 4Q as a result of higher benefits cost, audit fees, and consulting. For the full year, however, we expect corporate costs to be down from prior year and to further reduce into 2023. As a result of volume growth, pricing, OPEX optimization, and accounting for continuation of supply chain constraints, we now expect full year AOI growth of 42% at the midpoint of our range, up from our previous midpoint growth of 36%. We expect full year adjusted EPS to be in the range of $1.37 to $1.52, a 40% increase at the midpoint of our range. FX headwinds are impacting full-year AOI by $7 million and EPS by $0.25. And the losses of pipeline engineering are impacting AOI by $4.4 million and EPS by $0.16. Overall, we are bullish about the fourth quarter and continue to build a strong foundation for delivering and improving performance in 2023. I'll hand the call back to Tony to discuss a market outlook for orders on slide 13.
spk05: Thank you, AJ. Based on our year-to-date performance and our outlook for Q4, we now expect organic orders growth in the range of 8% to 10% in the year, driven by A&D and core industrial products. This represents an increase from the previous range of 2% to 4% we provided on our Q2 earnings call. At the segment level, we now expect industrial organic orders growth of 3% to 5% compared to prior years. Core industrial orders are expected to grow about 7%, with downstream oil and gas being relatively flat. In our general industrial business, we expect 9% to 11% organic growth compared to prior year, driven by power generation, midstream oil and gas, as well as new business activities and pricing in both our foremarket and aftermarket. In commercial marine, we expect about 10% to 12% organic growth, driven mostly by the aftermarket, supported by increased utilization and pricing. In downstream oil and gas, our outlook has improved significantly since our Q2 earnings call. We now expect orders to be relatively flat compared to prior year, compared to the 25 to 30 percent decline that we communicated in our Q2 earnings call a few weeks ago. The improvement is driven by a large order that our team has been pursuing in North America and now expect to book in Q4. Elsewhere in the segment, we expect about 19% to 22% orders decline due to not repeat of a multi-year large defense order for the U.S. Navy. Turning to aerospace and defense, for the full year 2022, we expect about 18% to 20% organic orders growth in the segment. In our defense business, we now expect 19 to 21% organic growth, which is significantly higher than the 10 to 12% that we communicated during our Q2 earnings call. This growth is driven by increased activities in the aftermarket, new products for missile fusing devices and space applications, and pricing with some offset from the timing of large defense orders. In commercial aerospace, we expect about 19 to 20% organic growth primarily driven by the market recovery for the single aisle platforms at Airbus and Boeing, as well as the increased activity in the aftermarket supported by pricing and the rebound in air travel. Elsewhere in the segment, we expect about 16 to 18% organic growth driven by new products for the hydrogen market and increased activities in our medical business. Turning to slide 14, in summary, we are very pleased with our results through the first nine months of 2022 and are advancing through the final quarter of the year with strong momentum. We expect to continue to leverage our strong aftermarket position in our industrial segment and deploy our value-based pricing and 80-20 principles across the organization, generating margin expansion and staying ahead of inflation despite the current macroeconomic climate. We continue to benefit from the ongoing rebound of the commercial aerospace market and look for further momentum in our defense business, driven by our positions on key platforms, new product development, and the strength in the aftermarket. We strive to maximize value creation for our shareholders, pursuing organic revenue and margin growth through new product development, value-based pricing, simplification and cost-out actions, while at the same time pursuing the parallel path of a potential strategic transaction. Our value-based pricing initiative is expected to deliver about $35 million of pricing benefit in 2022, heavily driven by our core industrial segment, and we expect our value pricing strategy to continue to drive growth and margin expansion as we look ahead to 2023 and beyond. Our simplification initiative will deliver about $13 million of analyzed savings, with more opportunities being evaluated for future implementation. While our industry continues to be affected by the inflationary environment, rising energy costs, and supply chain disruptions, we remain focused on the areas within our control to minimize the impact from these headwinds. Now, AJ and I would be happy to take your questions. Operator, please open the line for Q&A.
spk06: Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. The confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we call for questions.
spk07: Thank you.
spk06: Our first question is from Jeff Hammond with KeyBank Capital Markets. Please proceed with your question.
spk00: Hey, guys. Good morning. This is Mitch Moore. I'm for Jeff.
spk05: Good morning, Mitch.
spk00: Good morning. I was just wondering if you could give some color on some of the commodity inflation headwinds and if you could parse out price-cost by segment here.
spk05: So an A&D, basically what we're seeing from a material perspective, we're seeing that benefit, you know, with our sourcing savings with some offset from inflation. But overall, for the full year, we expect to be positive from a material sourcing perspective. The headwind is primarily from logistics, which is, you know, taking away from the price benefit. But overall, pricing is more than offsetting all of the inflation, including the logistics cost. On the industrial side, there is some material impact. We do have savings in what we've accomplished, but we do have some material inflation. So there's a net impact from material. And then there's also some impact from freight and logistics. But the pricing is quite significant, offsetting all of that and obviously adding to the margin expansion, as we discussed in our prepared remarks.
spk00: Okay, great. That's helpful. And then, you know, great quarter in orders for A&D. I was just wondering, was there a single large order driving most of that improvement, or was that kind of broad-based? And kind of in a similar vein, have you seen supply chain get any better, particularly in aerospace and defense? It just seems like things are starting to get a little bit better, particularly outside of Europe.
spk05: Yeah, the order growth was broad-based. A lot of activities in the defense aftermarket, specifically with our naval programs, The medical was strong as well, which is reported in our airspace and divest numbers. Commercial airspace continues to recover, still not at the 2019 levels, so there's a lot more room there, but that continued to recover. On the supply chain side, our biggest challenge on the airspace and defense side is primarily with our naval programs. And it's really around some of the very challenging castings that recur by and the quality of these castings. So, we have been working with our customers, looking for solutions, and we are starting to see improvements. Where we did see some supply chain challenges on an aerospace was in Europe. Our supply base in Europe is struggling to keep up with the recovery, but it was not meaningful. It was very manageable.
spk07: Okay, great. Thank you. Thank you. Our next question is from Andy Kaplowitz with Citigroup. Please proceed with your question.
spk01: Hey, good morning, everyone. Good morning. Good morning, Andy. Good morning. So obviously you displayed a good margin expansion in Q3, but could you give us a little more color in terms of your initiatives and how you're thinking about them going into 23? I know you mentioned simplification tailwind, but How could all of your transformational initiatives impact margin as you go into 23, specifically an industrial margin in the low teens now? Can you consistently deliver that low to mid-teens margin in that segment?
spk02: So, Andy, looking at the Q3 performance and specific to industrial, it's really two things for us. One is OPEX. We're keeping OPEX flat to down, and you can see it in the year-to-date trend, and that's an expectation for the full year as well for the industrial segment. And then a lot of leverage on pricing. This year, we are seeing probably 40% to 45% of pricing drop through to AOI. There's a lot of headwinds and offsets against pricing, such as inflation, as well as just inefficiency in the factories tied to material availability, labor availability. So we feel pretty good about the margin performance in Q3 being sustainable. In Q4... We expect industry to perform in line with Q3, both in terms of dollars, AOI, and margin performance. And then as we look into next year, we see reasonable expansion in both AOI dollars and margins again in 2023. Again, you know, on the same principles of keeping OPEX flat to down, driving pricing and minimizing offsets against that pricing.
spk01: Got it. That's helpful. And so I think last quarter, Tony, you suggested you were, you could, or maybe we're starting to see some decelerating growth in industrial, you know, downstream was expected to be down meaningfully in orders. Obviously you just talked about this bigger order that you're going to get. Have you not started to see any weakness in any of your sort of geographic markets? Maybe you could talk about Europe and China in particular. And, you know, what do you see headed in by region going into 23?
spk05: So, based on current order activities and our quote activities and customer discussions, we do expect continued orders growth in Q4 as well as into 2023. Our commercial teams have not indicated any measurable slowdown anywhere in our segments. We did see some slowdown in the foremarket, but it's still growing compared to prior year. And the aftermarket continues to be quite strong. And we believe that's sustainable. Thanks for that. And as far as the regions, Europe this year, we expect to grow about 10% to 12% compared to prior years. So still quite strong in Europe. China, a little bit down. It's not a huge exposure for us, but it's a little bit down compared to prior year. But Europe, quite strong. And North America is quite strong in our industrial business as well.
spk01: And Tony, you haven't seen this deceleration yet in Europe. Is that what you're saying?
spk05: No, we haven't.
spk01: Got it. And then, AJ, maybe I could ask you about cash flow. Can you give us a little more color into how to think about sort of the drags on your cash flow and when we would expect you to generate cash and improve cash conversion?
spk02: Yeah, so, you know, there are two attributes impacting cash in a negative way this year. One is I would classify as one-timers, and these are the impact of FX, the unwinding of the Russia project, and all the special expenses tied to the restatement and strategic review process. Collectively, these account for about $25 to $30 million of cash drag this year. We're also building working capital, and that's about $30 million through this year. It's tied to two specific areas. One is in our pumps business. So these pumps businesses run at about low teens as percentage of sales of working capital. And we've had to selectively make investments in inventory so that we could safeguard our customers against supply chain disruptions. And the other area where we've built up working capital is Navy. And that's tied to both the order growth we're seeing in Navy, but also just the supply chain constraints, including the ones Tony mentioned in his response. So it's those two, you know, building up a working capital as we grow sales, but also to safeguard our customers on the pump side and on the Navy side. As we look into next year, the one-timers go away. And I would say, generally speaking, in a flat sales growth environment, you should see about 90% of our adjusted net income convert to free cash flow. And then depending on how we grow sales, year-over-year that eats into with growth in working capital.
spk01: Self-willed, thank you.
spk06: As a reminder, if you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will confirm your line is in the question queue. Our next question is from Brett Carney with Gabelli Funds. Please proceed with your question.
spk03: Hi, guys. Good morning. Thanks for taking my question.
spk05: Good morning, Brett.
spk03: Good morning, Brett. Good performance in the corridor, particularly in aerospace and defense. You guys provide a lot of great color on the products in the missile fusing device area. Also mentioned the slide deck growth in space applications for CIRCOR. Could you help us think about what parts of the space market CIRCOR is involved in, I guess from a defense and kind of private sector standpoint and opportunities you're seeing for the company there?
spk05: We're developing products both in the defense and commercial space areas of the business, primarily with cryogenic-type valves out of our business in Long Island. It's still in the early stages of it. We did see some good development late last year and this year, and we expect that to continue looking ahead. It's still not a meaningful part of our business, so we see a lot of upside in that part of the market. And we do have a product pedigree. We're improving that pedigree with every product that we develop and continue to see good activities, good activities from our customers.
spk03: Great.
spk07: Thanks so much, Troy. Thank you. There are no further questions at this time.
spk06: This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation and have a great day.
Disclaimer