Graham Corporation

Greetings and welcome to the Graham Corporation third quarter fiscal year 2022 financial results conference call. At this time, all participants are in a listen-only mode. The 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. Please note that this conference is being recorded. I will now turn the conference over to our host, Debra Pawlowski, Investor Relations for Graham Corporation. Thank you. You may begin.

Thank you, Diego. And good afternoon, everyone. We certainly appreciate your time today and your interest in Graham Corporation. Joining me on the call are Dan Thorin, our President and CEO, and Jeff Gleick, our Chief Financial Officer. You should have a copy of the third quarter fiscal 2022 financial results, which just released a few minutes ago. If not, you can access the release as well as the other slides that will accompany our conversation today at our website, grammanufacturing.com. And I also want to point out that we also have now ir.gramcorp.com to access the investor information. If you'll turn to slide two in the deck, I will first review the safe harbor statement. You should be aware that we may make some forward-looking statements during the formal discussions as well as during the Q&A session. These statements apply to future events that are subject to risks and uncertainties, as well as other factors that could cause actual results to differ materially from what is stated here today. These risks and uncertainties and other factors are provided in the earnings release, as well as with other documents filed with Securities and Exchange Commission. These documents can be found on our website or at sec.gov. During today's call, we will also discuss some non-GAAP financial measures. We believe these will be useful in evaluating our performance. You should not consider the presentation of this additional information in isolation or as a substitute for results prepared in accordance with GAAP. We have provided reconciliation of non-GAAP measures with comparable GAAP measures in the tables that accompany today's release and the slides for your information. So with that, it's my pleasure to turn the call over to Dan to begin. Dan?

Thank you, Debbie. Good afternoon, everyone. I am starting on page three. As you might imagine, having just assumed the role of CEO in September, reporting this fiscal third quarter's results is a little bit rough. Revenue has increased to 28.8 million, but we have a loss of 35 cents per share. The loss was driven by Navy project cost overruns in our Batavia operations. As a result of decisions we made during the quarter, to ensure timely execution of our high profile submarine and carrier projects. The multiple decisions that led to the loss were for long-term gain over short-term pain and were not made lightly. Our Navy business is very important for our future. We had to protect this business and ensure our customers knew we were committed to hitting their need dates even though we took a significant financial hit in the quarter and over our fiscal year, 2022. Jeff and I will provide more detail on subsequent slides. As a result of the quarter loss, we were out of compliance on our financial covenants, which required suspending our dividend. Jeff will talk more about the waiver we obtained and the coming amendment of our credit facility. While this was a disappointing quarter and has been a very challenging year, we are deeply committed to our strategy to diversify beyond refining at Petrochem with our defense work. The pivot towards defense has been successful as indicated by bookings and revenue. Our defense revenue is now over half our total revenue. We had a huge bookings quarter at $68 million. Over half of these bookings were at Barbara Nichols. Now that we have the bookings, we have to execute this work profitably. Final point on this page is that Barbara Nichols' performance is exceeding our expectations. They are building a larger backlog and delivering strong margins. Jeff will provide more detail in the financial discussion. But first, I'd like to provide more detail on our Navy challenges in Batavia. We'll move to slide four. So let me first address what led up to our third quarter performance. To date, Graham Manufacturing has been very successful in winning the trust and confidence of the US Navy and its prime shipbuilders with its high quality heat exchange and vacuum products used in the nuclear Navy power plants. Navy orders and backlog continue to climb and have now significantly exceeded our commercial backlog and will soon exceed our commercial revenue. As of December 31st, 2021, our Navy backlog in Batavia was over $100 million. Those orders come with big expectations. As we have worked over the last two years to continue to win new business and meet those expectations, a perfect storm brewed in our third quarter. There were several events that led to our need to readjust in Q3. After getting started on Columbia, there was a Navy-wide reset of quality requirements that caused delays with welder and quality recertification. This was followed by the impact of COVID-19, the ongoing limited skill workforce in the welding trades, and the sheer magnitude of work running through our shop combined with first article learning curve. All of these items caused us to get behind on our Navy jobs. We do continue to have first article challenges. This is quite typical with defense projects. and we would have expected this on the Columbia project. We've reviewed this with you in the past. Now, while the CVN 80 work is not a true first article job for us, the lack of process documentation from the previous work combined with severe labor challenges and use of contract welders new to the equipment caused challenges on the carrier work as well. Even as we worked to catch up on hours, our equipment became the pacing item associated with our nation's most strategic ship and submarine build schedules. The pressure to expedite was extreme. Let's turn to page five. The chart on page five shows our labor plan with blue bars, Our actual labor application in gray bars and the resulting deficit of hours caused by actual being less than our planned hourly expenditure. The depth of our deficit occurred around May of 2021. In past calls, we talked about redirecting commercial welders to Navy and hiring contract welders to address this deficit. In third quarter, we redirected even more commercial welders, outsourced more commercial work, hired more contract welders, and even added some of our new welders that completed our training programs. These actions helped to reverse the Navy labor deficit, but they came at additional cost. Outsourcing commercial work results in less margin. We also realized less third quarter revenue as the outsource suppliers were not able to ramp up quickly. The contract welder costs were high, the specialized training required by the Navy took a long time, and retention of the contract welders was poor. Ultimately, we've been able to reduce our Navy program labor deficit by doubling our Navy workforce, mitigating the schedule slips, and keeping our customer relationships strong. The deficit should be erased in the first half of fiscal 23, but we expect to start reducing high-cost contract welders as we enter the next fiscal year. In the end, the actions we took to stay on track in the last quarter resulted in revising estimates on labor hours and material, and we booked loss conversion costs that were recorded in the quarter and impacted our results as well. Jeff will cover that detail in the financial briefing. Certainly we've learned a lot from this experience and have or will institute corrective and preventative actions to ensure that we continue to grow our Navy business and can deliver quality products in a timely fashion and earn a fair return for our efforts. Our customers have been very appreciative of our efforts and we do not see any negative consequences if we hold current deliveries. This equipment is built into the bowels of these ships and they will never come out. Thus, quality is paramount and Graham has not disappointed. As we catch up on these programs and reduce our labor deficit, we can reclaim margins. by eliminating contract welders, reassigning our commercial welders back to our commercial product, and reduce the outsourcing that we're doing today. Our people pipeline continues to be critical and our welder training program will be continued. Looking back, we could have done a better job in predicting and mitigating this situation with better developed FP&A, financial planning and analysis. and project management skills. We are adding new talent with defense expertise in Batavia to better manage these processes. In fact, we're adding a new position and Batavia will have a Navy business leader beginning February 28th. As we look forward, our processes need to advance to enable our ability to document and optimize all of our fabrication processes. to prevent a recurrence of this first article issues that we've seen. We see opportunities to increase future profits with investment in time-saving automated welding, and we're evaluating current contract margins and revisiting pricing on future production opportunities. In summary, our Batavia defense business was hit by a perfect storm at a very inopportune time. We made decisions to protect our strategic Navy business. It cost us in the short term, but proved our dedication to our customers for the long term. With that, I'll turn it over to Jeff to discuss the financial details, starting on slide six.