Curtiss-Wright Corporation

Ladies and gentlemen, thank you for standing by, and welcome to the Curtis Wright Fourth Quarter 2020 Financial Results. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask the question during this session, you will need to press star then 1 on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star then 0. I would now like to hand the conference over to your speaker for today, Jim Ryan, Senior Director of Investor Relations. You may begin.

Thank you, Tawanda, and good morning, everyone. Welcome to Curtis Wright's fourth quarter 2020 earnings conference call. Joining me on the call today are Executive Chairman Dave Adams, President and Chief Executive Officer Lynn Bamford, and Vice President and Chief Financial Officer Chris Farkas. Our call today is being webcast. and the press release, as well as a copy of today's financial presentation, is available for download through the investor relations section of our company website at www.curtiswright.com. A replay of this webcast also can be found on the website. Please note, today's discussion will include certain projections and statements that are forward-looking as defined in the Private Securities Litigation Reform Act of 1995. These statements are based on management's current expectations, and are not guarantees of future performance. We detail those risks and uncertainties associated with our forward-looking statements and our public violence with the SEC. As a reminder, the company's results include an adjusted non-GAAP view that excludes certain costs in order to provide greater transparency into Curtis Bright's ongoing operating and financial performance. Reconciliations for current and prior year periods are available in the earnings release at the end of this presentation and on our website. Any references to organic growth exclude the effects of restructuring, foreign currency translation, acquisitions, and divestitures unless otherwise noted. Now I'd like to turn the call over to Dave to get things started. Dave?

Thanks, Jim. Good morning, everyone. I'll begin today with an update on the leadership transition plan announced in early December. Then I'll turn the call over to Lynn and Chris to take you through Curtis Wright's financial results and guidance. As I reflect upon my career at Curtis Wright, I'm reminded of how fortunate I am to have been a part of this iconic institution. It has truly been a rewarding experience over the last 21 years for me. As CEO for just over the past seven years, I have witnessed firsthand the dedication of our employees who have continued to press forward with their unyielding commitment to the one Curtis Wright vision and our march to achieve top quartile financial performance. Thank you to all our employees who have helped us earn this lofty achievement. My time spent with our investment community has also been extremely rewarding to me personally. I'd like to thank each and every analyst, shareholder, and prospective shareholder for your confidence in our leadership team. Your encouragement over the years was meaningful and motivating. I will surely miss the interactions. Now I'd like to congratulate Lynn on her new role as Curtis Wright's president and chief executive officer. Lynn's appointment to CEO is incredibly well-deserved. Since joining Curtis Wright in 2004, she has established herself as a respected leader with a longstanding track record of success. This includes her progression through the organization from the leader of our defense electronics businesses to her most recent role as president of the defense and power segments. She has experienced in executing our strategic growth initiatives, driving significant financial performance, and integrating numerous defense acquisitions. Lynn has been a catalyst in driving tremendous value for CourageRite and our shareholders, which in turn solidified her reputation as the ideal choice to lead the company. She has also been actively engaged with our analysts and investors over the past few years, many of whom are dialing in today. and I'm certain that you will all enjoy getting to know Lynn more in the years ahead. Lynn's appointment to CEO, like Chris's appointment before her and the COO transition announced yesterday, is a reflection on our deeply ingrained succession planning process. I would like to congratulate Kevin Raymond, again, who many of you have met as the president of our commercial industrial segment, on being named the next Chief Operating Officer. Kevin is replacing Tom Quindley, who will retire in April. Tom has had a very successful tenure at Curtis Wright, leading the company's drive for operational excellence and discipline to achieve top quartile financial performance, particularly in terms of operating margin expansion. We wish Tom well in his retirement. In summary, I'd like to thank you all for your continued interest in Curtis Wright over the years. I'm very excited for the opportunities that are ahead for this great organization and look forward to serving as executive chairman. On behalf of the board, I'm confident that we are in great hands with Lynn and her management team leading the way. Now I'll turn the call over to Lynn. Lynn?

Thank you, Dave, and good morning, everyone. It is my distinct pleasure to be appointed to the role of president and CEO. I look forward to continuing to advance the one Curtis Wright vision that Dave set out more than seven years ago and build upon the strong track record of top quartile performance. I would like to thank Dave for his leadership and mentorship all these years. I would also like to congratulate Kevin on his appointment to COO this coming April. This is a clear reflection of his effective contribution to our strong operational execution. I look forward to continuing to work closely with Kevin in his new role. Since being named CEO, I've spent considerable amounts of time with the leadership team discussing the future of Curtis Wright. We have tremendous operational and financial leadership and continue to build upon the company's strong foundation and decades of engineering expertise. In recent years, the team has done a fantastic job to enhance the operations and push boundaries of our financial performance beyond what we committed to in 2013. In May, we will host an investor day where we will lay out our detailed strategic plan with new long-range targets that will propel us forward in the next phase of our journey. Today, I am pleased to share some initial details of that strategy, including our pivot to growth. In this new, renewed focus on top-line acceleration, we will build upon our core strengths and our position within key markets. We will advance those initiatives through continued internal investments, building upon top quartile performance for the purpose of driving solid growth in EPS and pre-hash flow. Before we move on to the review of our 2020 performance, I did want to extend a thank you to our investors and analysts who participated in the recent perception study. The feedback helped to confirm our planned simplification of the segment and end market structure, which we will share with you today. This is the first of many steps that we will begin taking over the next year, focused on simplifying the Curtis Wright story, enhancing our communication, and strengthening investors' understanding of our long-term value proposition. We look forward to sharing more details at our upcoming Investor Day on May 26th. Turning to slide four, since the onset of the pandemic, our top priority has been protecting our employees' health and ensuring safe and productive working environments. Thankfully, and through our diligence, all of our manufacturing sites remain operational today, and we have been able to largely mitigate the impact to our 8,000-plus employees. We committed to controlling our costs to preserve profitability and free cash flow, and as you can see on this slide, we took many actions in 2020 to position ourselves for the future. We remain encouraged by the speed of the vaccine distribution and are hopeful that we will return to more normal operating conditions as the vaccinations become more broadly available. On behalf of the entire leadership team, I'd like to thank our employees for their unwavering dedication and commitment to Curtis Wright's success through what has been an especially challenging year for all of us. Next, I would like to highlight some of the key drivers of our fourth quarter and full year 2020 results. We had a very strong finish to 2020 where we met or exceeded all of the full-year guidance that we reestablished on the second quarter earnings call. Starting with the fourth quarter 2020 adjusted results, sales increased 2% year-over-year and 17% sequentially relative to our third quarter results. We exhibited strong growth in our defense market, which increased 15% organically or 27% overall. We achieved sequentially higher sales across all commercial markets based on improved demand and economic conditions in the fourth quarter. We produced an operating margin of 19.8%, up 100 basis points year over year, due in large part to the savings generated by our cost containment and restructuring initiatives. We also achieved record reported fourth quarter free cash flow, despite the pandemic driven by our intense focus on collections and working capital. Turning to the full year 2020 highlights, we achieved strong 17% sales growth in our defense markets, 10% of which was organic. These gains nearly offset the challenges impacting our commercial markets resulting from the pandemic and subsequent reduction in manufacturing activity. Adjusted operating margin of 16.3% was nearly flat with the prior year as we were able to mitigate the majority of the commercial market challenges through restructuring and cost containment actions. We continue to strengthen our innovation pipeline through sustained, steady investments in R&D, which increased 3% in 2020. Adjusted diluted EPS of $6.87 exceeded our expectations last driven by the solid fourth quarter performance, as well as the benefit from ongoing share repurchase activity. We completed our second opportunistic share repurchase program of 2020 in the fourth quarter, which raised the full-year buyback to $200 million and reduced our shares outstanding by 2.5%. This activity, along with the activity acquisitions completed in 2020 are a reflection on both our strong free cash flow and commitment to our balanced capital allocation strategy. We generated a record $394 million in adjusted free cash flow, equating to 137% free cash flow conversion. This performance reflects our company-wide efforts to reduce working capital and and represents our eighth consecutive year of achieving more than 100% free cash flow conversion. Overall, book-to-bill was a solid one-time sales in 2020, with 1.1 times in our defense markets, fueled by our strong orders in naval defense. Additionally, we experienced sequential improvement in commercial market orders as demand continues to recover from the second quarter lows. we remain optimistic for a continued solid rebound in 2021 order activity. Now, I would like to turn the call over to Chris to provide a more thorough review of our fourth quarter performance, the outlook for 2021, and the new segment and end market structure. Chris?

Thank you, Lynn, and good morning, everyone. I'll begin today with a review of our fourth quarter operating performance. In the commercial industrial segment, sales improved sequentially, but were lower year-over-year as anticipated based upon reduced demand in our commercial markets. Despite unfavorable absorption on lower sales, we achieved a 230 basis point improvement in fourth quarter operating margin, driven by the benefits of our restructuring actions. In the defense segment, the strong 26% growth in revenues reflects the contribution from our acquisitions and a 5% increase in organic growth principally in naval defense. Adjusted operating income increased 20%, while adjusted operating margin was very strong at 24.2%. The year-over-year reduction in margin principally reflects our investment in growth as we increased RMD spending in the fourth quarter. In the power segment, higher revenues driven by the timing of production on naval defense programs and the benefits of our 2020 restructuring actions resulted in an operating margin increase of 70 basis points to 21.1%. Overall, fourth quarter adjusted operating income increased 8% on a 2% increase in sales, while adjusted operating margin increased 100 basis points to 19.8%. This performance included fourth quarter restructuring savings of $14 million, raising our full year 2020 benefit to $25 million, in line with our expectations. Our swift actions following the onset of the pandemic helped us to protect our margins, limiting our full year 2020 decremental margin to approximately 20%, which as a reminder, exceeded our initial estimates of 25 to 30%. And as a result, we are well positioned heading into 2021. Turning to slide seven. As announced in our earnings release, and in an effort to make Curtis Wright's diversified portfolio less complex and easier to follow, we've updated and simplified both our segment and end market structures. I'll begin with the transition to our new segment structure, where we have realigned and renamed our three segments. Starting from left to right, there are two changes which I'd like to highlight. First, in the division realignment column, we elected to shift all of our valves businesses from both the former commercial industrial and defense segments into a new naval and power segment. This change establishes a consistent product alignment across our three segments. The second change reflects our decision to exit certain non-core operations in the fourth quarter. This included our build-to-print actuation product line supporting the Boeing 737 MAX program as well as our German VALS business, which was classified as held for sale in the fourth quarter. We acquired this VALS business back in 2013. However, we have not been able to achieve expected synergies and leverage its full growth outside of the European market. We are excluding these operations from our adjusted 2020 results and 2021 guidance to provide greater transparency into the growth rates and profitability within our continuing businesses. After these changes, the company will report under the following three segments, aerospace and industrial, defense electronics, and naval and power. And I'd like to spend the next few minutes walking you through each of these new segments. I'll begin with the transition to the new defense electronics segment. Under the realignment, we will shift our valves business into the new naval and power segment, removing a portion of this segment's naval defense market exposure while eliminating the power generation market exposure. As the new name suggests, this segment now represents 100% of our defense electronics capabilities serving defense markets, as well as the crossover of similar technologies into commercial aerospace. Over the past few years, we have been consistently asked for a deeper dive into our defense electronics portfolio for comparison to other peers in the industry. This new segment provides that clarity. Please note that on the right-hand side of the slide and the subsequent two slides, that we are providing key industry drivers and metrics that should help to clarify the growth vectors for each of our segments. Next, I'll review the transition to the new aerospace and industrial segment. Similar to the prior slide, we are moving the segment's valves business into the new naval and power segment and eliminating both the naval defense and power generation market exposure in this segment. From a market perspective, this segment now includes all of the aerospace products outside of the defense electronics segment, serving both commercial and defense customers. We've also reorganized and created a new general industrial market, reduced to two major areas of focus, industrial vehicles and industrial automation and services. I'll discuss this market change in greater detail on the following slide. Moving forward, all of Curtis Wright's general industrial market sales will be concentrated in this segment. Next, I'll review the transition to the new naval and power segment. This segment now includes all naval defense products sold outside of the defense electronics segment, and with the shift in valves concentrates all of our nuclear naval propulsion equipment revenue into this segment. It also reflects all of our nuclear and process-related revenues, where both are similarly and largely focused on a steady aftermarket presence of severe service applications. Through this realignment, we've also created a new power and process market, and all of those revenues will be concentrated into this segment. Turning to our 2021 end market sales waterfall chart. We've historically provided this information as a supplement to help you better understand our overall end market exposure. Building on the segment updates, we have also greatly simplified this end market structure. Our waterfall now consists of two primary markets with two-thirds of our revenue in aerospace and defense and one-third in commercial. We feel this more accurately reflects our business and product portfolio as well as our A&D focus. As you look across the new waterfall, we have made several changes to align the submarkets to the relevant growth vectors of our business, for example, OEM versus aftermarket. On the right-hand side, you can see our new commercial market breakdown. The new power and process market reflects sales of our valves, pumps, and monitoring and control solutions sold into nuclear power and process markets. The new nuclear submarket includes all revenue to the aftermarket and new build reactors. The new process sub-market combines all oil and gas, chem, petrochem, and natural gas sales into one larger market. Again, and to further aid in the alignment to our new structure, the new power and process revenues are concentrated within the new naval and power segment. The new general industrial market has been consolidated to two major areas of focus. Industrial vehicles focuses solely on the on- and off-highway commercial and specialty vehicle markets, all leveraging similar technologies. Industrial automation and services collectively reflects our most economically sensitive businesses aligned to global GDP and industrial production. And once again, all general industrial sales are concentrated in the new aerospace and industrial segment. Next, I'll review our 2021 end market sales guidance and then dive into our segment outlook. Overall, we expect sales growth of 6% to 8%, of which 2% to 4% is organic. In the aerospace and defense markets, we expect growth of 6% to 8% overall, and to once again grow our defense revenues faster than the base DOD budget. In aerospace defense, we expect sales growth to be driven by higher demand for embedded computing equipment on various C5ISR and helicopter programs, partially offset by the timing of production on UAVs. In ground defense, strong growth will be principally driven by the contribution from the PACSTAR acquisition. In naval defense, we expect the ramp up on the CVN-81 aircraft carrier program to be mainly offset by the timing of Virginia-class submarine revenues. As a reminder, this follows our exceptionally strong 22% growth rate in 2020, which far exceeded typical naval defense growth rates across our industry. as our customers made efforts to stabilize their supply chains and production flow. Overall, our long-term trend and outlook for growth in this market remains strong. In commercial aerospace, we expect sales to stabilize as improving demand on narrow-body jets, including the 737 and A320, as well as higher demand for electronics equipment, will be offset by lower sales on wide-body jets, notably the 767 and 787. While the short-term outlook for the commercial aerospace industry remains tenuous, we are hopeful that the global deployment of vaccines will begin to accelerate the long-term growth outlook for this industry. Moving to the commercial markets, where we expect growth of 6 to 8% overall. In power and process, we are expecting 3 to 5% growth, mainly due to higher valve sales to process markets. This outlook is based on both the recovery of previously postponed 2020 maintenance activity as well as an increased CapEx spending tied to improving capital markets. In the nuclear sub-market, we expect a recovery in domestic aftermarket revenues as well as higher sales to the Department of Energy, which will be partially offset by reduced revenues on the Cap 1000 program as we wind down and complete production on this contract. In the general industrial market, which we expect to grow 9% to 11%, we anticipate solid growth across all of our industrial markets based upon improved economic activity and a widespread rebound in manufacturing demand. Continuing with our Outlook price segment, on slide 13, I'll begin in the aerospace and industrial segment, where we expect sales to grow 1% to 3%. We expect the growth in this segment to be led by higher general industrial sales, which will be partially offset by the timing of aerospace defense sales that were accelerated into 2020. Full-year segment operating income is projected to grow 14 to 18 percent, while operating margin is expected to grow 170 to 190 basis points, mainly reflecting the benefits of our prior restructuring initiatives. Segment profitability is projected to be above 2019 levels despite $140 million in lower revenues and a $3 million increase in R&D investments this year. Next, in the defense electronics segment, we're expecting strong sales growth of 21% to 24% driven by a combination of 3% to 6% organic growth, principally in aerospace defense, and the contribution from PacStar. We continue to expect that PacStar will be diluted to overall Curtis Wright margins in year one, but that it will also deliver high single-digit sales growth this year for its tactical battlefield communications equipment. Full-year segment operating income is projected to grow 9% to 12%, while operating margin is projected to range from 21.2% to 21.4%. The year-over-year margin impact aside from PacStar is due to two factors. First, a $6 million increase in R&D investments as we continue to position this business for long-term success via organic growth, and second, unfavorable mix due to a ramp-up in lower-margin systems outsourcing from our customers, which typically increases during periods of challenging budget environments. Sales and profitability for this segment will be weighted to the second half of the year, which is typical for our defense electronics businesses. In the new naval and power segment, we're expecting sales and operating income to grow modestly in 2021, led by higher sales to the power and process markets. As previously noted, naval defense sales volumes will be relatively stable year over year due to the acceleration of defense revenues into 2020. Full-year segment operating margins projected to improve to a range of 18 to 18.1% as the benefit of our prior year restructuring actions will more than offset the impact of unfavorable mix on lower cap 1,000 revenues. Also note, as a supplement to this slide, we have provided two years of quarterly historical segment financials in the new segment structure in the earnings press release and on our website. So summarizing our full year 2021 financial outlook, we expect adjusted operating income to grow 7% to 10% overall on a 6% to 8% increase in sales. Operating margin is expected to improve 20 to 30 basis points to 16.5 to 16.6% despite a $10 million increase in R&D as we continue to drive strategic investments to support our long-term organic growth. And I would like to emphasize that we remain committed to achieving our 17% operating margin target in 2022. Continuing with our 2021 adjusted financial outlook, We expect full year 2021 adjusted diluted EPS guidance to range from $7 to $7.20 of 6% to 9%. We expect to achieve these results despite the increase in R&D, which equates to 18 cents per share. We expect our 2021 quarterly EPS to follow a similar cadence to prior years, with the first quarter expected to be our lightest and slightly below Q1 2020. For the remainder of 2021, we expect sequential quarterly improvement, with the fourth quarter being our strongest. And further, we expect approximately 40% of our full-year diluted EPS in the first half of the year. Turning to our strong full-year free cash flow outlook, where we are projecting a range of $330 to $360 million, with an expected conversion rate of nearly 120%. Several factors are expected to impact our year-over-year performance, including higher capital expenditures as we return to more normal operating conditions, the timing of advanced payments received late in 2020 related to the accelerated defense revenues, and approximately $20 million associated with non-core operations that we exited in Q4. Despite those impacts, we expect to exceed our long-term free cash flow conversion target of 110% again in 2021 and which would also represent our ninth consecutive year exceeding 100% conversion. Now I'd like to turn the call back over to Lynn for some closing remarks. Lynn?

Thank you, Chris. As we've demonstrated today, our organization is well positioned for profitable growth in 2021 and beyond. We are driving solid execution and leveraging the benefits of our 2020 restructuring actions while continuing to invest in our future through increased R&D funding. We continue to outperform in our defense markets, driven by our position as a critical supplier to the defense industry with long-term visibility on key platforms. We also expect to benefit from improved conditions in several of our commercial-facing businesses, especially in the industrial markets. We have line of sight to achieve our goal of 17% operating margin, albeit delayed slightly due to the impact of COVID-19. Following a year in which we closed on the largest transaction in our history, M&A remains a core to our capital allocation strategy, and we continue to have an active acquisition pipeline. We remain committed to providing a consistent return to shareholders and a plan to repurchase at least $50 million of stock this year against our $200 million board authorizations. We continue to maintain a healthy and balanced capital allocation strategy to support our top and bottom line growth. Regarding our May Investor Day, we look forward to communicating our new vision and strategy while reinforcing Curtis Wright's focus on delivering long-term value for shareholders. Please be on the lookout for more details in the coming weeks, and we hope that you can participate. At this time, I would like to open up today's conference call for questions.

Thank you. Ladies and gentlemen, as a reminder to ask the question, you will need to press star then 1 on your telephone. To withdraw your question, press the pound key. Again, that's star 1 to ask the question. Please stand by while we compile the Q&A roster. Our first question comes from the line of Michael Tremoli with Tourist Securities. Your line is open.

Hey, good morning, guys. Thanks for taking the questions. Nice results. Dave, congrats. Been with you the whole way here since I think the stock was maybe below 40. And Lynn, likewise, congrats. Looking forward to it. Maybe, Lynn, you've obviously been here for quite some time. And given you grew up in defense, what's sort of your view on how the new segment realignment positions you guys? I know we're still waiting for the new administration, but you've seen and managed through a budget downturn. You know, you've got some timing pressures, you know, this year on defense. But what's the general view on sort of the defense environment, how you guys are positioned? You obviously have a little bit more ground exposure now, which I know might raise some yellow flags for investors. But what are the general thoughts?

Well, I'd say, first, we remain very optimistic about our defense's future revenues growth. I think it's important to reflect on the fact that we've demonstrated a very successful track record in growing our defense markets over the past 20 years through multiple administrations and have continued to be able to grow even in years when the defense budget was down. A lot of what we do, we stay very focused on making sure our investments are well aligned with the priorities of the various branches of the military and and that really has protected us during periods of up and down. I think it's also important to know that, you know, we are well-positioned with several very high-priority class forms, such as the CDN 8081s and onward, the Columbia class and the Virginia class, and the F-35, and these programs do have pretty strong bipartisan support. So, you know, we feel that, you know, our core base business is in a very good spot. As I just mentioned, you know, we really do watch where the priorities of, you know, the various branches of the Army are and the Defense Department and really assure that we make our investments aligned with those. And, you know, if I speak to just some priorities in the electronics portion, our new defense electronics segment, we've invested in things such as operating in a GPS-denied environment, hypersonics, security, things such as commercial systems for classifieds. Cyber, you know, the Next Century Connected Battlefields, you mentioned Paxar, is one of the top six priorities of the Army. And, you know, their business is in the beginning of a 10-year, multi-year build-out of their capabilities and is, you know, very clearly we think has a very clear line of sight of funding. And some other things in the electronics, you know, we've always been a leader, and you've heard us talk about it in the past, or me even specifically, about participating in open standards, which drives outsourcing. We're right at the forefront of kind of the next generation of this, which is called Modular Open Systems Architecture, or MOSA. And we've invested heavily. We can spend a lot of our R&D dollars over the past couple of years to really be well-positioned with the products that are required in it. And, you know, even outside the R&D investments, we've set ourselves up to be able to service the defense acquisition policy regarding the other transaction authorities or OTAs, which is a lot of money is being driven through. And we have set ourselves up as a business to be able to participate in that type of business. If I flip from the defense electrics side, just one other comment on the label. We really do see this as our lowest risk business in all of our defense business. And there is a return to a major competition. Even the Biden administration has confirmed that they see China as the pacing threat as they go forward. And you're right, we don't know. Hopefully in the next month or two we'll have the first glance at where their defense priorities are. But we think the initial signals around pointing to China as this pacing threat should indicate strong support for the naval build-out plan. There's a reason there are optimistic. Thanks. Sorry, Mike.

No, that's helpful. What about, you know, you mentioned the pivot to growth. You've obviously, you know, done some acquisitions here. If I look at the new simplified, you know, 21 waterfall. You know, are there, you know, needs? You know, are you looking at certain end markets? We've obviously seen you, you know, make some moves in defense. You know, if you're thinking about, you know, continuing with margin expansion, you know, are certain areas more attractive? You look at something like commercial aerospace where the aftermarket might be underexposed. Any color, you know, you kind of mentioned earlier. you know, just on the M&A front and the pipeline there. But, you know, any color you can give around maybe where you're looking to expand on the certain end markets?

Well, I think I'd open by saying that our rigor and discipline that we apply before we acquire will not change. And, you know, we do hope to pivot more of our capital dollars towards M&A, but that won't be at the expense of the type of properties that we target. As always, we prefer non-auctions, and we have a solid track record of being able to cultivate and encourage companies to join Curtis Wright as being a great place to work. And our track record of making acquisitions successful is known and established in the industry. And anything we bring in, we will have a line of sight for the long term that it will be marked in a three shifts. We are right now – you know, I would say defense is the primary focus right now with various areas of interest. You know, we will continue to look for things that can enhance our embedded computing capabilities, both hardware and software, as we've made several moves in that area recently. Major naval safety and power propulsion systems is also a focus, and we're keenly watching any properties that might be divested due to some of the – prime consolidations. But there is non-defense areas that we are interested in and looking for. You know, we've talked about owning the cab for quite some time, and, you know, specialized industrial sensors and electronic systems are an area of interest, as well as power electronics for electrification for on- and off-highway vehicles. We see that as a very interesting area as we see the electrification move you know, going into not just the current kind of on and off highway vehicles, but being extended into aviation and moving into our defense markets. And then we're always open to industrial valves that serve the chemical and energy processing market, but, you know, not oil and gas completely oriented, but, you know, some of the more specialty markets.

Got it. Helpful. Last one for me, and then I'll jump off here. You mentioned on the defense electronics, more systems, um you know seeing more outsourcing during periods of a flattening budget is that expected to be a you know multi-year margin headwind do you expect that mix to continue to shift over time here and you know any any kind of plans to offset some of that mix yeah i'll take that one mike i mean as we kind of look forward uh you know to 2021 i mean there will be some you know mix as a result mixed issues as a result of the system's outsourcing

You know, we also have, you know, a very, very, you know, strong, you know, growth across the defense electronics business. You know, so that sales volume and absorption will help to kind of offset, you know, a lot of what we're seeing there. You know, as you look at defense electronics in 2021, I mean, it's really a combination of two things, right? It's PACSTAR, which we said would be diluted to Curtis Wright. in year one, you know, as we integrate that business into the Curtis Wright way and bring it up to our minimum expectations. And then, you know, also for this next year, we're investing about $6 million more in research and development in that segment. So as you look at the, you know, the margin projection for 2021, which is still a very strong 21%, Mix is part of the story, but not something that we think is detracting from the overall business. Got it. Thanks a lot, guys. Yep. Thanks, Mike.

Thank you. Our next question comes from the line of Nathan Jones with Stiefel. Your line is open.

Good morning, everyone. Good morning. Good morning. Maybe you could just give us a little more commentary on the re-segmenting issue. Maybe talk about what are the primary things you want to highlight to investors out of this resegmenting, and does this in any way change the structure of the business, the way you're managing the business, or is it just a change in the way you're reporting it out to investors?

I'll start off, and then let Chris maybe add some color to what I'd say. First, with the creation of the A&D market focuses, As much as this may feel like a change, it's really not a change. It is the path that we've been on for several years. If you think of our acquisitions since 2017, four of the five acquisitions have been A&D focused between TTC, DRG, TCG, and PacStar. If that's not an alphabet soup, I don't know what is. This has been where we've been building the business, and we believe this new structure – shows a better representation of our product portfolio. Also, aligning the commercial aero under the A&D umbrella highlights some product synergies across our defense and commercial aerospace markets, things such as high-temperature sensors, different types of actuation, flight test instruments, and the avionics, where we do see common products being leveraged into both end markets. And so that's you know, something that we're intending to accentuate going forward. And I don't know if you would have happened to see the press release that we received our 25-hour EASA and hence FAA certification on our recorder that we developed in partnership with Honeywell. So, you know, one of the things with, obviously, prior to this change, Kevin was the president of the commercial and industrial segment, and I was the president of the defense and power segment. You know, with Kevin returning, to being the COO and having all the segments report into them, he really has a broad hand with a mandate for growth to really make sure we're maximizing the collaboration and technology sharing, customer context types of things across the segments. And so there's no immediate shifts in how we're reporting, but we do think, you know, the focus on these end markets and Kevin taking on the role as COO will enhance our ability to accelerate growth.

Yeah, and I would just add, you know, on top of that, I mean, as you take a look at the new end market, you know, waterfall that we've provided, I mean, it really does have a closer alignment to the way that we run the business internally. So we thought that that was an advantage, really, just in ensuring a consistent, you know, communication and thought process to you guys as we talk about the business. You know, as you look at – and I'll just pick out one example here, maybe in the process, you know, markets – You know, there are synergies that we will be able to leverage between products and customers. And over the past several years, we've really been cultivating kind of increasing our focus on technology and innovation and sharing those technologies across businesses and trying to kind of maximize what we do in various markets. Okay. just within power and process, as you look at maybe product synergy, the nuclear division, which has monitoring technologies to nuclear power plants, we can take some of that, we can bundle it with valves and motors that are ultimately sold to process markets. And similarly, when we look at valves and valves that are being sold into various energy or process markets, taking that same technology and then bringing it back over to the customers that maybe the nuclear division is interacting with. So I think that there are certain synergies in technology sharing and then also customer sharing that we can leverage across each of these end markets.

So does that imply that you're changing some of how you manage the businesses here to generate those kinds of synergies? Is this de-siloing that's going on here in order for you to better optimize the synergies that you can get across these businesses?

So, you know, Dave started us on this journey to One's Curtis, right, that, you know, began seven years ago, and I very much have seen the benefits of that. and tend to continue to extend it. And, you know, the first wave of this was a lot of maybe you would call more back office types of capabilities that allowed us to drive the op margin achievement that we had over the past seven years. You know, with this pivot to growth, a lot of the one Curtis Wright movement will be towards things that accelerate growth. And, you So, you know, things that we've done recently is we launched our innovation operating system last year to give better visibility across the entire corporation to innovative projects and ideas that could be visible to all the employees and people can kind of in a gamification manner comment on and have visibility to what's going across the organization. These are some of the things we'll be talking about more. in the May investor day, but there is definitely things we're doing that are new and different within Curtis Wright to try and, you know, to build on our goal of accelerating growth.

That's helpful. Carla, thanks for taking my questions. I'll pass it on. Thank you.

Thank you. Our next question comes from the line of Peter Arment with Bayer. Your line is open.

Hi. Thank you very much. Good morning, everyone. Congratulations, Lynn, Dave. Hey, Chris, I wanted to start with you. Just a question on the – if I look at incremental kind of margins on your 2021 guidance, you know, we're getting around 20%, at least based on the math. But I thought it would be higher, but maybe is that just a function of the acquisition and the higher R&D spending? Maybe you could just help me there.

Yeah, I mean, as you look out into 2021, it really is a function of, you know, we've got sales volume and absorptions. there's going to be about $17 million of restructuring savings that carry over into the year. And then you do have $10 million of prior research and development. So, you know, we're still, you know, healthy, you know, 30 basis points improvement year over year. But, you know, we're going to continue to invest so that we can grow the top line while we're marching to 17%. Okay.

That's helpful. And, Chris, and then also on the – you mentioned, you know, kind of just the timing around the lower sub revenues – with naval defense. Can you remind us kind of what your lead time is in kind of when thinking about subs, just because obviously we know that Columbia is going to continue to ramp and layer in?

Right, yeah. I mean, it's pretty typical as you look across, whether it's the aircraft carriers or whether you're looking at the Columbia-class submarine program, You know, we usually begin our production 18 to 24 months ahead of the ship construction start. You know, the same is true for the Virginia-class submarine, but we've been building those for so long that it kind of hits a point of stabilization, you know, for us. But, yeah, we do receive our long-lead materials and content in advance of ship construction start. Okay.

And then just quickly, Lynn, on – You know, you've talked a lot about M&A and M&A priorities. When I look at the new kind of resegmentation in the waterfall, you know, one area that still jumps out at me that's just not as what I consider the high tech that, you know, that you've been focused on for so long is the surface treatment oriented businesses. How do you think about those businesses going forward? Is that something that is part of the vision for Curtis Wright?

You know, it's very good, stable financial business. I mean, it's you know, subject to some of the GDP pressure that we had in 2020, and we're hoping for a rebound. You know, it really does provide customer access and solid cash generation. So from that standpoint, you know, it is an accretive, good, solid part of our business. So there's no thoughts of a change in that area right now.

Okay. That's helpful. I'll pass it on. Thanks so much. Thank you.

Thank you. Our next question comes from the line of Miles Walton with UBS. Your line is open.

Thanks, and good morning. Congrats, Dave and Lynn. Look forward to the analyst day in May. Maybe to touch on the R&D. So you're putting $10 million to work, about a 13% growth or so on the total R&D spend. Is this a one-year more material step-up? Should we expect it? to continue to some sort of targeted percent of sales basis, and also maybe just touch on where it's specifically going and what the payback that you're looking for from it is.

Yeah, I mean, I can just touch upon it from a financial perspective, and then I think Lynn can comment a little bit more about the strategic priorities. I mean, as As we continue that drive to 17%, I mean, we've been emphatic that we need to grow the business. So as we're looking at this investment in research and development, which is about, you know, 10 basis points on sales, you know, we have, you know, it's a $10 million investment, roughly 40 basis points to overall Curtis Wright. the majority of that is really focused on defense electronics. So we've got about 6 million of the 10 that's in our defense electronics segment, and it's really focused on things like encryption, GPS protection, cyber. And then the next greatest, you know, increase is going to be in the aerospace and industrial segment, you know, where we're increasing, you know, our investments in electrification, the Internet of Things, and HMI technologies. And then, you know, to a lesser extent, naval and power, as we continue subsea pump development and, you know, we're also starting to see some interesting opportunities, you know, come out of the DOE. So, you know, we're going to be focused on increasing our R&D investment and supporting really that pivot to growth going forward. And, you know, Lynn, I don't know if you want to add anything.

Yeah, thanks for that, Chris, and some of the detail. I guess, you know, I would definitely go on. First, I'd like to say that, you know, we're not committing to any specific annual increase, you know, you really need to spend your R&D as opportunities present themselves and not just force feed a specific number. And we are continually evaluating R&D investments relative to the potential growth opportunities both in technologies and program pursuits. And we will continue with that. I'd just like to comment on two other things that we've done that are really coupled with this increase in R&D. I mentioned our launch of the innovation operating system to really make sure that we can gain visibility to the best ideas that could, you know, propel us forward in the future across the organization. You know, being the very diverse and, you know, many business unit organization that we are, it's, I think, a very important part of us assuring that we're funding the best ideas in the organization. And, you know, also, you know, we updated our incentive compensation programs in 2019 to to focus more on growth, both in revenue and EPS. And, you know, I know, you know, we talked about the R&D and, you know, without – in very big buckets. And I just thought, you know, it might be interesting to just mention a few things that we've done over the past couple years and what they've made available for us as we see our growth in the future. I mentioned actually just a few minutes ago the Honeywell Fortress Recorder. that has received approval. And we think that investment, which was, you know, very low compared to $100 million lifetime value, it's got growth going forward and will spawn other types of recorder activities where we have a great capability, one that's really world class. The subsea pump investments that we've made, you know, we're working with two major oil customers, and the first one alone has the potential of over $100 million of business. And, you know, then speaking across the aerospace and industrial group, we've invested in proximity sensors that will replace wound foil devices. It also has a lifetime value of over $100 million. And recently, more on the industrial side, we've developed armrests for a lead customer, and it has a lifetime value of $24 million. You know, we're a diverse company. We invest in a lot of different technologies, and I think it's something that we really have honed our ability to evaluate opportunities, ensure we're spending those R&Ds at the best dollars in the best places to propel our growth.

Okay, got it. And just to clarify, Lynn, I think you mentioned incentives tied to growth. That's organic growth, right? There's no incentives that are simply a sales growth metric. Is that fair?

It's overall growth, and we continue to believe that our growth will come through a balance of organic and acquisitions, and we like them both.

Yeah, and just for a little bit more color on that, Miles, back in 19, you know, with the board, you know, the long-term plans were modified to double down on growth, and that was really sales growth and EPS. So, you know, as we're looking at that, I mean, that's got to come from both organic and acquisitions. and acquisitive growth. So I think we're targeting both of those areas aggressively.

Okay. And the last one, within the power and process, I think you're looking for 3% to 5% growth in there. I think that's all organic, but also could you just specify within there the nuclear bucket? I think it may have been down mid-teens in 2020. What does that look like in 2021?

Yeah, I mean, as you look out into 2021, I mean, we will see overall a positive ramp in the domestic aftermarket. We'll also see some improvements or increases in revenues to the DOE. You know, I'm sure you're up to speed on the DOE's new strategic plan that they issued here in January and some of the opportunities that are presenting itself over the next, you know, three to ten years. So we'll see some increased activity there. And then we're expecting that that will be offset by lower cap 1,000 revenues. So, you know, domestic aftermarket, you know, as we look at that, I mean, a lot of what we're seeing this next year is related to deferred maintenance work, you know, that's really being pushed out of 2020 into 2021 in the next cycle. International aftermarket, you know, as we look at it, it's really more flat or stabilizing. You know, some of the work that got pushed out here in Q4, that could take a little bit more time to kind of come back. It's really all just driven based upon the customer's schedules. Okay. All right. Thank you.

Thank you. I'm sure no further questions in the queue. I will now turn the call back over to Lynn Bamford, President and Chief Executive Officer, for closing remarks.

Thank you for joining us today. We look forward to speaking with you again during our first quarter 2021 earnings calls. Have a great day.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.