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spk17: good day and thank you for standing by welcome to trans dime group incorporated first quarter 2024 earnings conference call at this time all participants are in a listen only mode after the speaker's presentation there will be a question and answer session to ask a question during the session you'll need to press star 1 1 on your telephone you will then hear an automated message advising your hand is raised to withdraw your question please press star 1 1 again Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Jamie Seaman, Director of Investor Relations. Please go ahead.
spk18: Thank you, and welcome to TransDyme's Fiscal 2024 First Quarter Earnings Conference Call. Presenting on the call this morning are TransDyme's President and Chief Executive Officer, Kevin Stein, Co-Chief Operating Officer, Joel Reese, and Chief Financial Officer, Sarah Wynn. Also present for the call today is our Co-Chief Operating Officer, Mike Listman. Please visit our website at transign.com to obtain a supplemental slide deck and call replay information. Before we begin, the company would like to remind you that statements made during this call, which are not historical in fact, are forward-looking statements. For further information about important factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements, Please refer to the company's latest filing with the SEC available through the investor section of our website or at sec.gov. The company would also like to advise you that during the course of the call, we will be referring to EBITDA, specifically EBITDA as defined, adjusted net income, and adjusted earnings per share, all of which are non-GAAP financial measures. Please see the tables and related footnotes in the earnings release for a presentation of the most directly comparable gap measures and applicable reconciliation. I will now turn the call over to Kevin.
spk08: Good morning. Thanks for joining us on the call today. First, I'll start off with the usual quick overview of our strategy, a few comments about the quarter, and discuss our fiscal 24 outlook. Then Joel and Sarah will give additional color on the quarter. To reiterate, we believe we are unique in the industry in both the consistency of our strategy in good times and bad, as well as our steady focus on intrinsic shareholder value creation through all phases of the aerospace cycle. To summarize, here are some of the reasons why we believe this. About 90% of our net sales are generated by unique proprietary products. Most of our EBITDA comes from aftermarket revenues, which generally have significantly higher margins and, over any extended period, have typically provided relative stability in the downturns. We follow a consistent long-term strategy. Specifically, first, we own and operate proprietary aerospace businesses with significant aftermarket content. Second, we utilize a simple, well-proven value-based operating methodology. Third, we have a decentralized organizational structure and unique compensation system closely aligned with our shareholders. Fourth, we acquire businesses that fit this strategy and where we see a clear path to PE-like returns And lastly, our capital structure and allocations are a key part of our value creation methodology. Our long-standing goal is to give our shareholders private equity-like returns with the liquidity of a public market. To do this, we stay focused on both the details of value creation as well as careful allocation of our capital. As you saw from our earnings release, we had a strong quarter. Our Q1 results ran ahead of our expectations and we have raised our sales and EBITDA's defined guidance for the year. Commercial aerospace market trends remain favorable as the industry continues to recover and progress towards normalization. Global air traffic is closing in on pre-pandemic levels and demand for travel remains high. Airline demand for new aircraft also remains high and the OEMs are working to increase aircraft production. However, total air travel demand remains slightly below pre-COVID levels and OEM aircraft production rates remain well below pre-pandemic levels. There is still progress to be made for the industry and our results continue to be adversely affected in comparison to pre-pandemic levels. In our business during the quarter, we saw a healthy growth in our revenues and bookings for all three of our major market channels, commercial OEM, commercial aftermarket, and defense. Our EBITDA as defined margin was 51% in the quarter, contributing to the strong Q1 margin is the continued recovery in our commercial aftermarket revenues, along with diligent focus on our operating strategy. Additionally, we had strong operating cash flow generation in Q1 of over 630 million and ended the quarter with over 4.1 billion of cash. We expect to steadily generate significant additional cash throughout the remainder of 2024. Next, an update on our capital allocation activities and priorities. As we discussed on our last earnings call, we agreed on November 9th to acquire the electron device business of communications and power industries, also known as CPI, for approximately $1.385 billion in cash. CPI's electron device business is a leading global manufacturer of electronic components and subsystems, primarily serving the aerospace and defense markets. The products manufactured by this business are highly engineered proprietary components with significant aftermarket content and a strong presence across major aerospace and defense platforms. Our team is working diligently through the approval process in the US and UK, and the acquisition is expected to close this fiscal year. We remain very excited about adding this proprietary business as one of our Trans-Ime operating units. Regarding the current M&A pipeline, we continue to actively look for M&A opportunities that fit our model. As we look out over the next 12 to 18 months, we continue to see a target-rich environment for our focused acquisition strategy. As usual, the potential targets are mostly in the small and midsize range. I cannot predict or comment on possible closings, but we remain confident there is a long runway for acquisitions that fit our portfolio. The capital allocation priorities at Transdime are unchanged. Our first priority is to reinvest in our business. Second, do accretive, disciplined M&A. And third, return capital to our shareholders via share buybacks or dividends. A fourth option, paying down debt, seems unlikely at this time, though we do still take this into consideration. We are continually evaluating all of our capital allocation options, but both M&A and capital markets are difficult to predict. As always, we continue to closely monitor the capital markets and remain opportunistic. As mentioned earlier, we ended the quarter with a sizable cash balance of over $4.1 billion, which includes the $2 billion of cash from the new debt issued during our first quarter. Sarah will comment on this in more detail later. We have significant liquidity and financial flexibility to meet any likely range of capital requirements or other opportunities in the readily foreseeable future. Moving to our outlook for fiscal 24, As noted in our earnings release, we are increasing our full fiscal year 24 sales and EBITDA as defined guidance to reflect our strong first quarter results and our current expectations for the remainder of the year. At the midpoint, sales guidance was raised $85 million and EBITDA as defined guidance was raised $45 million. The guidance assumes no additional acquisitions or divestitures and is based on current expectations for a continued recovery in our primary commercial end markets throughout fiscal year 24. Our current guidance for fiscal 24 is as follows and can also be found on slide six in the presentation. Note that the pending acquisition of CPI's Electron device business is excluded from this guidance until acquisition close. The midpoint of our fiscal 24 revenue guidance is now 7.665 billion or up approximately 16%. In regards to the market channel growth rate assumptions that this revenue guidance is based on, for the defense market, we are updating the full year growth rate assumptions as a result of our strong first quarter results and current expectations for the remainder of the year. For defense, we now expect revenue growth in the high single digit to low double digit percentage range. This is an increase from our previous guidance of mid to high single digit percentage range. We are not updating the full year market channel growth rate assumptions for commercial OEM and commercial aftermarket, as underlying market fundamentals have not meaningfully changed. Commercial OEM and commercial aftermarket revenue guidance is still based on our previously issued market channel growth rate assumptions. We expect commercial OEM revenue growth around 20%, and commercial aftermarket revenue growth in the mid-teens percentage range. The midpoint of our EBITDA's defined guidance is now 3.985 billion, or up approximately 17%, with an expected margin of around 52%. This guidance includes about 100 basis points of margin dilution from our recent CALSPAN acquisition. We anticipate EBITDA margins will move up throughout the remainder of the year. The midpoint of our adjusted EPS is decreasing versus our prior guide, primarily due to the higher interest expense associated with the incremental debt we took on to fund CPI. The midpoint of adjusted EPS is now expected to be $30.85 or up approximately 19% over prior year. Sarah will discuss in more detail shortly the factors impacting EPS, along with some other fiscal 24 financial assumptions and updates. We believe we are well positioned for the remainder of fiscal 24. We'll likely continue to closely watch how the aerospace and capital markets continue to develop and react accordingly. Let me conclude by stating that I am very pleased with the company's performance this quarter and throughout the recovery of the commercial aerospace industry. We remain focused on our value drivers, cost structure, and operational excellence. Now let me hand it over to Joel Reese, our Transdime Group Co-COO, to review our recent performance and a few other items.
spk13: Good morning. I'll start with our typical review of results by key market category. For the remainder of the call, I'll provide commentary on a pro forma basis compared to the prior year period in 2023. That is, assuming we own the same mix of businesses in both periods. In the commercial market, which typically makes up close to 65% of our revenue, we will split our discussion into OEM and aftermarket. Our total commercial OEM revenue increased approximately 25% in Q1 compared with the prior year period. Bookings in the quarter were strong compared to the same prior year period. Our strong bookings continue to support the commercial OEM guidance of revenue growth around 20% for fiscal 24. OEM supply chain and labor challenges persist but appear to be progressing. We continue to be encouraged by the steadily increasing commercial OEM production rates and strong airline demand for new aircraft. Supply chains remain the primary bottleneck in this OEM production ramp-up. The FAA's recently announced production rate freeze at 38 per month for the Boeing 737 MAX will likely slow the expected MAX ramp, and time will tell how this plays out. The commercial OEM guidance given today takes into account an appropriate level of continued risk around Boeing's production build rate. While risks such as this and others remain towards achieving the ramp up across the broader aerospace sector, we are optimistic that our operating units are well positioned to support the higher production targets as they occur. Now, moving on to our commercial aftermarket business discussion. Total commercial aftermarket revenue increased by approximately 22% compared with the prior year period. Growth in commercial aftermarket revenue was primarily driven by the continued strength in our passenger submarket, which is by far our largest submarket. We also saw good growth in our interior submarket compared to prior year Q1, and BizJet was up slightly year over year as well. These increases were very minimally offset by a very slight decline in our freight submarket, driven by the return of belly capacity and consistent with what we discussed on last quarter's earnings call. Commercial aftermarket bookings for this quarter were strong compared to the same prior year period. The strong booking levels in commercial aftermarket continue to support our commercial aftermarket guide for revenue growth in the mid-teens percent range for fiscal 24. As a reminder, when forecasting our commercial aftermarket, we always look at a rolling historical 12-month average booking trend, never just the most recent quarter due to lumpiness that we often see in this end market. Turning to broader market dynamics and referencing the most recent IATA traffic data for December, global revenue passenger miles still remain lower than pre-pandemic levels, but only slightly. December 2023 air traffic was about 2.5% below pre-pandemic, and full 2023 traffic was about 6% below. Globally, a return to 2019 air traffic levels is expected in 2024, and IATA currently expects traffic to reach 104% of 2019 levels in 2024. Domestic travel continues to surpass pre-pandemic levels. In the most recently reported traffic data for December, global domestic air traffic was up 2% compared to pre-pandemic. Domestic air travel in China also continues to improve and was up 8% in December compared to pre-pandemic levels. This is a significant improvement from China being down 55% a year ago in December 2022. Shifting over to the U.S., domestic air travel for December came in about flat with pre-pandemic traffic. International traffic has continued to make steady improvement over the past few months. A quarter ago, at the end of September, international travel globally was depressed about 7% compared to pre-pandemic levels, but in the most recently reported data for December, international travel was only down about 5%. This is a significant improvement over being down 25% a year ago in December 2022. In summary, for the commercial aftermarket, we continue to see strong growth in our passenger and interior submarkets, indicative of the continuing positive trends in the post-COVID passenger traffic recovery. Our bizjet and freight submarkets are performing in line with their underlying markets and also in line with our expectations at this point in the year. Shifting to our defense market, which traditionally is at or below 35% of our total revenue. The defense market revenue, which includes both OEM and aftermarket revenues, grew by approximately 28% compared with the prior year period. Q1 defense revenue growth was well distributed across our businesses. However, bear in mind that the comparable prior year period was an easy comp. We would not expect to see defense revenue growth rates at this level continuing throughout the balance of the year. We expect some moderation here, as you can tell from the guidance. Defense bookings are also up significantly this quarter compared to the same prior year period. While the defense revenue growth this quarter was pretty broadly distributed across our customer base, we continue to see improvements in the U.S. government defense spending outlays during Q1. We are hopeful we will continue to see steady improvement, but as we have said many times before, defense sales and bookings can be lumpy. We know the bookings and sales will come, but forecasting them with accuracy and precision is difficult. As Kevin mentioned earlier, we now expect our defense market revenue growth for this year to be in the high single digit to low double digit percentage range. This updated guidance for defense primarily reflects the stronger than expected Q1 defense sales, as well as the good Q1 bookings. In closing, Q1 was a good start to the fiscal 2024 fiscal year, and I was pleased with our operational performance. We will remain focused on our consistent operating strategy and servicing the strong demand for our products as we continue throughout the balance of the year. With that, I would like to turn it over to our Chief Financial Officer, Sarah Wendt.
spk00: Thanks, Joel, and good morning, everyone. I'll recap the financial highlights for the first quarter and then provide some more information on the guidance update. First, on organic growth and liquidity. In the first quarter, our organic growth rate was 23.5%, and all market channels contributed to this growth, as Kevin and Joel have just discussed. On cash and liquidity, free cash flow, which we traditionally define as EBITLF cash interest payments, capex, and cash taxes, was roughly $660 million for the quarter. This is a higher than average free cash flow conversion for the quarter, primarily due to the timing of our interest and tax payments. Cash interest and tax payments will pick up again in the next quarter, and for the full fiscal year, our free cash flow guidance is unchanged. We expect to continue to generate free cash flow of close to $2 billion in fiscal 24. Below that free cash flow line, networking capital consumed a smaller amount of cash than in prior years, coming in close to flat. For the past two years, we saw a large influx of cash into our working capital as our primary commercial end markets experienced strong rebounds post-COVID. We were obviously very happy to support this increase. Going forward, we expect our annual dollars invested in net working capital to moderate from the elevated levels seen over the prior two years, but pinpointing an exact dollar amount of investment for fiscal 24 is difficult. As you know, the rebound of the OEM market channel does impact our accounts receivable as customers in that bucket typically have slightly longer payment terms. We ended the quarter with approximately $4.1 billion of cash on the balance sheet and our net debt to EBITDA ratio was five times, down from 5.4 at the end of last quarter when proformed for the $35 dividend. As a reminder, we are comfortable operating in the five to seven net debt EBITDA ratio range And while we are currently sitting on the low end of this range, our go-forward strategy of capital deployment has not changed. Our EBITDA to interest expense coverage ratio ended the quarter at 3.3 times on a pro forma basis, which provides us with comfortable cushion versus our target range of two to three times. During the first quarter, we went to the markets and proactively raised $2 billion of debt for the acquisition of CPI's Electron device business, which is still subject to regulatory approval with the rest going towards general corporate purposes. As a result of the additional debt, our interest expense estimate for fiscal 24 increased by $130 million, as you can see in today's updated interest expense guidance. Regarding our debt, we expect to continue both proactively and prudently managing our maturity debt stacks, which for us means pushing out any near-term maturities well in advance of the final maturity date. Our nearest term maturity is now 2026, and we remain approximately 75% hedged on our total $22 billion gross debt balance through our fiscal 2026. This is achieved through a combination of fixed rate notes, interest rate caps, swaps, and collars. This provides us adequate cushion against any rise in rates, at least in the immediate term. With regard to guidance, as Kevin mentioned, we increased our midpoint sales in EBITDA by $85 million and $45 million, respectively. given the strong quarter and current expectations for the year. Our EPS guidance is now $30.85 compared to prior guidance of the $31.97. The reduction is due to the additional interest expense. Without that, it would be $32.57. As we sit here today, from an overall cash, liquidity, and balance sheet standpoint, we think we remain in good position with adequate flexibility to pursue M&A or return cash to our shareholders via dividends or share repurchases. With that, I'll turn it back to the operator to kick off the Q&A.
spk17: As a reminder, to ask a question, please press star 1-1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1-1 again. Please stand by while we compile the Q&A roster. And our first question comes from David Strauss of Barclays. Your line is open.
spk03: Great. Thanks. Good morning, everyone. Good morning. Kevin, could you talk about maybe what you saw in terms of the aftermarket growth on a sequential basis, Q4 versus Q1? And then it looks, you know, you have a very tough aftermarket comp in Q2. Any range on kind of how we should calibrate, you know, aftermarket growth in Q2?
spk08: You know, I think, you know, we're forecasting – mid-teens percentage? It might revise up. We'll have to see how the year unfolds. It was a strong quarter in Q1. The bookings are there. We saw a sequential increase in shipments in Q1, and we anticipate that that will continue.
spk03: Okay. A quick follow-up. Is there any, has there been any change in the timing around closing on the CPI deal? I think previously you said by the end of Q3. I think now you're saying before the year end. I don't know if there was meaningful, you know, a meaningful change there at all. Thanks.
spk08: Yeah, we're still incredibly positive on the CPI acquisition. There's zero overlap with anything we do. Right now it's going through the approval process. And yeah, we're very positive about it happening. It's just difficult to predict timing. As you know, things are taking a little bit longer. But we anticipate this fiscal year.
spk03: Great. Thanks very much.
spk17: Our next question comes from the line of Noah Popanek with Goldman Sachs. Your line is open.
spk21: Hey, good morning, everyone. Morning. Maybe you could elaborate on how the M&A pipeline looks and ability or opportunities to deploy capital after CPI because you mentioned being at the low end of the target balance sheet leverage range and you're basically going to generate the CPI cost over the remaining quarters of the year in free cash, so that's not actually going to raise your leverage. How are you looking at managing that and how much more opportunity is there to deploy capital in the near term?
spk08: I think we'll look at deploying capital during the fiscal year, probably closer to the end of the fiscal year as we sort out the M&A pipeline. The M&A pipeline, there's a lot going on. There's a lot of targets, much like usual, a ton of names that we didn't see coming. And we continue to evaluate. I think the point about Transdyn is we're incredibly disciplined in our M&A. We're not going to acquire something that doesn't match our criteria of highly engineered products in aerospace and with access to the aftermarket. I mean, that's something we're going to continue to stay disciplined on. And it's extremely encouraging that there's so many
spk21: targets on the list now they there's a lot of small and medium-sized targets those are the easiest ones for us to you know exercise okay in the aerospace aftermarket has there been any deceleration in the rate of increase in price as broader inflation has decelerated or has that rate of change held in despite that decel?
spk13: There's really been no change to our overall philosophy and approach. We continue to look to market-based value the product and to offset the inflationary pressures that the sites see. Obviously, not all operating units see the same level of inflationary pressures, but that's generally what they're trying to do is to offset that.
spk21: Okay. Is there a window of time here, though, where the cost side is decelerating but the pricing is not? Or are they pretty marked to each other pretty quickly?
spk13: Yeah. I think they're generally going to be pretty close to one another. Obviously, our teams are focused on driving productivity. It's the same team. Our teams are trying to make sure that we've priced the product appropriately.
spk21: Okay. Appreciate it. Thank you.
spk17: Our next question comes from the line of Robert Spingarn with Milius Research. Your line is open.
spk06: Hi, good morning. You know, as a follow-up on that last answer on Noah's question on inflation, we think about commercial OE and defense, which I would think would be different than commercial aftermarket where you can price in real time. How much of that revenue base is tied to long-term agreements and that may have some stale pricing still to work through and can be renegotiated, let's say over the next year or two. So what I'm asking you is if there's upside in those two groups because of LTAs.
spk08: Yeah, I would say the bulk of our OEM business is on LTAs and those continue to roll off and be renegotiated. So that's really a constant thing throughout the space. So yeah, there's opportunity to improve clawback
spk06: uh inflation that you haven't been able to over and you had to eat for a couple years so yeah that that is always a possibility okay and and kevin just high level question on your workforce um you guys are just you know consistently executing the margins are you know where we'd be where we would expect or better but for everyone else in the industry there are workforce issues and recovering workforce or labor from COVID, getting people trained and so on. Is it fair to characterize those folks as different than Transdime, or are there things that we can't see?
spk08: Yeah, I think people, you know, there's different business models. I think our ability to pass along inflation means that we ought to be able to respond to labor in the marketplace and make sure that we always have the best people and adequate resources to drive our business. But let's not forget that Transdyn is also an incredible operations excellence machine, and we drive productivity every day in our businesses, and we're constantly investing in that. Anything else to add to that, Joel?
spk13: Yeah, the only thing I'd add to what Kevin said, I mean, fortunately, I think the labor markets continue to improve, which is certainly helpful. And we had some locations where we saw higher turnover a couple years ago. I think that's really kind of gone back to more normal levels, but we put a lot of time and effort into training our folks. And as Kevin said, we've worked over the last few years to put more and more automation in place, which certainly mitigates what the impact of that is. And so I think we're We're well positioned going forward.
spk06: Thank you both for the color.
spk17: Our next question comes from the line of Louis Rossetto with Wolf Research. Your line is open.
spk22: Hey, good morning. Thank you. Good morning. So I know within defense, you said aftermarket growth outpaced OE. Just curious, was like magnitudes different there or just pretty similar?
spk13: Defense aftermarket was up more. It was not significant, but defense aftermarket did outpace defense OEM.
spk22: And was there anything sort of, I don't want to say one time, but that stood out and that drove that growth? I know you said easy comp to some extent, but anything else in there?
spk13: Yeah, so, you know, first we just have the normal kind of lumpiness within the defense sector similar to commercial aftermarket. Obviously, as we mentioned, the kind of easier comp, It was pretty broad across our businesses. I mean, the vast majority of our businesses actually saw a pretty good increase year over year for Q1 versus Q1. If I was kind of calling out one business, and it wasn't a one-time set of work, it was Armtek. Our flare countermeasures business had a really solid Q1 shipments, certainly in comparison to where they were a year ago at the same time.
spk22: All right, that's great. Thank you.
spk17: Our next question comes from the line of Robert Stallard with Vertical Research. Your line is open.
spk01: Thanks so much. Good morning. Good morning. It's probably a question for Sarah. On the debt issuance, I was wondering if you could comment on why you did it now, given it could be still some time until the Electron Devices acquisition closes.
spk00: Yeah, I mean, we're always going to be proactive at having cash ready for pending acquisitions. We want to be opportunistic on that front. And we don't want to be, obviously, up against any timeline if ever the markets weren't open.
spk01: Okay. And then as a follow-up, you know, we're probably in a changing interest rate environment. Rates could be coming down over the next 12 months. How do you think you're going to be adjusting the balance sheet and the interest rate derivatives you have in place to try and make the most of that?
spk00: Yeah, obviously we're always looking at the markets and trying to be opportunistic with our debt structure. We do have the benefit of hedges, so from that perspective, we're fortunate they're over 75% hedged. You know, we've got some stuff coming up and we'll continue to look and be opportunistic as and when we can with our debt going forward.
spk01: Okay, thanks so much.
spk17: Our next question comes from the line of Gautam Khanna with TD Cowan. Your line is open.
spk04: Hey, good morning, guys. Morning. I was wondering if you could talk a little bit about the things in the M&A pipeline. You mentioned small to midsize. Is it still kind of skewed to hardware-oriented stuff, or are you also entertaining some of these service assets? And maybe if you could just give us an update on how CalSpan has done, you know, relative to what you guys were thinking originally, given it's quite a different system.
spk08: You know, on the M&A pipeline, small, medium-sized businesses, mostly in hardware, although we're looking also at, you know, some services businesses, if they would meet our criteria, It's not always clear that some of those do, but we're open as long as it's within aerospace and defense. I don't think we see the need of going outside of aerospace and defense, not for a while. There's still so many great targets to go after in this business. On Calspan, I'll let Joel comment.
spk13: Yes, I think we're encouraged by where we're at at this point in the integration. We've got our leadership team in place. We've put our business unit team structure in place. We're going through the value generation strategy that we employ. And as of right now, I think we're running a bit ahead of the model, and we're encouraged by what we're seeing.
spk04: Just as a follow-up, in the M&A hardware pipeline, is it mostly defense-oriented stuff? I mean, just is there any skew to what you're doing?
spk08: No, it's actually – it has a nice blend of – commercial and defense assets. It's not only just defense. It's hard to control. You can't really dictate what pitches will be thrown at you, so you just have to react to them when they come along. Right now, we see a nice balance. That isn't always the case, but today it is.
spk04: Just my last one. In the commercial aero aftermarket, any discernible differences between growth rates to the distribution channel versus direct to customer. Thank you.
spk13: So distribution represents about 20% to 25% of our commercial aftermarket shipments. As we look at it, the point of sale that our distribution partners are seeing in comparable markets is pretty close to one another. There's no significant difference.
spk04: Thank you, guys.
spk17: Our next question is, It comes from the line of Christine Lewag with Morgan Stanley. Your line is open. Hey, good morning, everyone.
spk20: Good morning. You know, Kevin, another question on the pipeline. You know, you've mentioned the target-rich environment and assets are coming up that weren't available before. You know, in the past, you've mentioned that you're open to doing deals that have some industrial exposure. Can you update us on your current thinking and, you know, what – What proportion, maximum industrial, would you be willing to entertain at this point based on what's available?
spk08: Interesting question and gets me into speculation. I don't know if there's a certain percentage that would kick a deal out. We want to be in aerospace and defense. If there are non-aerospace and defense products or business, that's okay. We don't thumb our nose at it. but we look at a business in its totality, can it achieve our 20% plus internal rate of return for that acquisition? Yeah, we don't look scantly at those businesses, but we don't want to go after anything that's industrial only. So I would guess it has to be predominantly aerospace.
spk20: Great. Thanks for the color. And maybe on the aftermarket, if I could have a follow-up question. With customer behavior, I mean, there's clear scarcity of aircraft assets out there. How much of the volume that you're seeing are coming from, you know, an ad hoc break and fix type thing versus airlines potentially proactively purchasing product?
spk13: I don't think we have any real meaningful way to understand that. You know, the vast majority of our commercial aftermarket orders are booked to ship. They come in over the transom. They're typically not, you know, advanced bookings, and we don't get the color in terms of why they're buying. We try to watch to make sure there's no inventory significant moves, but hard to get that kind of level of granularity.
spk17: Great. Thank you, guys. Our next question comes from the line of Matt Akers with Wells Fargo. Your line is open.
spk09: Hey, guys. Good morning. Thanks for the question. I guess the M&A deals that you've looked at that haven't closed, what's the main thing preventing? Is it the valuation? Is it strategic? It seems like you're looking at the deals and you get the balance sheet to do more.
spk08: Yeah. Do they meet our disciplines criteria? We want to see aftermarket content. We want it to be aerospace and defense. We prefer commercial over defense. But the biggest reason is whether they really have IP, whether they're highly engineered intellectual property. That's the key. So that's what we look for, and that's what we screen against. And when deals fall apart, it's because things aren't as proprietary as we would like them to be, and so we walk away from them. We're not interested in being in the Me Too product space like everyone else. I mean, you know, we're not trying to do build the print business. We want high IP, high engineering content in aerospace and defense that has access to the aftermarket.
spk09: Got it. Thanks. And then I guess, you know, back to your comments on some of the aerospace OE supply chain issues, is that More around your supply chain, your suppliers, or more just sort of Boeing and Airbus in general slowing down? And is it possible to comment kind of what you're assuming for 737 MAX for this year?
spk13: Yeah, so it's not specific for us, the comments around the supply chain. I think that's just what we're generally hearing from others. I think our supply chain teams have done a really solid job of working through the challenges that have persisted for the last couple years. You know, last year we were talking about castings and then electronic components. I think largely those have gone away. I do think we're in some level of a new normal where there's more kind of issues that pop up randomly in comparison to where we were from a pre-pandemic level, although I think that too is getting better, but likely that's going to persist for the next couple of years. I don't think any of that's material. I think right now our assumption is based not so far off of what Boeing's current stated rate is in terms of what the FAA's numbers are. We always put a little bit of level of conservatism around the number, and I think we think our guidance is pretty well set around what we're hearing Airbus and Boeing are doing.
spk03: Okay, thank you.
spk17: Our next question comes from the line of Sheila Caglioglu with Jefferies. Your line is open. Good morning, everyone. Thank you.
spk18: Good morning. Good morning. I wanted to ask about margins, first with CalSpan. It looks like for the first quarter you guys had owned it, it was about 20% margins, and now you're at 28% for this quarter. So you're still guiding to it to be 100 basis points dilutive, which obviously is conservative, because it would imply you're going to end the year at 16% margins for that business. So I guess, what did you guys do to raise margin 700 bits in the last quarter? And you know, where can this business be organically?
spk13: Well, I'm not sure I know where it's going to go long-term. Our goal is to implement our value generation strategy. You know, we think it's a good business. We'll continue to work to maximize the value. In terms of any other guidance beyond that, I mean, I think we've highlighted, we think it's dilutive, obviously, at the level that it's at in comparison to overall trans time, and we'll continue to work to improve the value over a long ownership.
spk18: Okay. And then I want to ask about defense aftermarket again, or defense just given it's not often you see it outperform commercial aftermarket. You mentioned Armtech. What percentage of your business is maybe more short cycle weapons oriented? And where do we think about defense relative to commercial OE margins perhaps?
spk13: Defense margins are, comparable defense margins are lower than their kind of equivalent commercial markets. We typically offer a discount to the defense world. In terms of weapon systems, I don't have any good detail split for what that looks like. In some ways, as I said, the lumpiness of the orders in the defense world is not so different than the commercial aftermarket in the standpoint that we don't get a lot of visibility of an order coming in. We'll get a solicitation. We work to respond. When outlays are good, that generally helps us out. But beyond that, I'm not sure there's any more kind of color I have on that.
spk17: Okay. Thank you. Our next question comes from the line of Ken Herbert with RBC Capital Markets. Your line is open.
spk05: Yeah. Hi. Good morning. Thank you. Hey, Kevin, in the past, you've talked about the business organically supporting about 100 basis points of margin expansion each year across the cycle. As we think about maybe aftermarket mixing down over the next couple of years relative to defense or commercial OE and just with where margins are today, is that still the right framework as we think about organically for the business?
spk08: I think it still is. I don't think it's going to change. I know that there's math involved here and you've got to work your way through it, but You know, what I always say is 100 to 150 basis points of improvement. And, you know, we've been running higher than 150. Yeah, it may be back down at 100, but it's still, I believe, going to sequentially expand.
spk05: Okay. That's great. And as you look at the business today, just to that point, Obviously, you've always run a pretty lean ship and kept costs pretty tight. Operationally, as you look across the business, are there still significant areas where you see opportunities for improvement, or can execution be maybe a bigger piece of the mix moving forward relative to volume or price?
spk13: Well, for productivity, I, you know, this is again, one of our three value generating strategies are our teams are challenged themselves to work, to offset inflation over the entire cost structure of the business. And so. Automation continues to come down in price things that we would have looked at two and three years ago that didn't make sense or the capability wasn't there. Those come across. We continue to look at opportunities to how we resource materials where possible. So I think we continue to believe there's a lot of opportunity for us in productivity. I'm always encouraged when I can see a long-term Transdyn business, 10, 15, 20 years since we acquired it, and they are still achieving as good or better at times level of productivity. Is that partially because things that they looked at before weren't there? We also want a sizable amount of new business. And one of the great things about new business, it continues to give you an opportunity to find new ways to reduce the cost of those new products as well. So I think we think all three value drivers are where we want to focus.
spk05: Great. Thanks, Joel.
spk17: Our next question comes from the line of Jason Gursky with Citi. Your line is open.
spk14: Hey, good morning, everybody. Good morning. Just a quick question on working capital moving forward. I'm just kind of curious, what kind of contractual terms do you have with some of your commercial OEM customers on the need to hold inventory? You know, one of the things we've got potentially going on here with Boeing is them asking the supply chain to continue producing at rate that they're going to be producing at something to the master schedule that might be actually above their production rates. and that inventory's got to go somewhere. So I'm just kind of curious where that inventory might land, and from a contractual perspective, might some of it land on your balance sheet? Just kind of curious how it all works.
spk00: Yeah, I don't think we have any of that for Boeing. It would be small, very noise level, and especially if you're asking from a bigger picture perspective, with working capital as a whole, you know, we project future networking capital needs And I would just model fairly flat for that as a percent of sales as we go forward through the year, with that being noise level, if anything.
spk14: Right. Okay. That's helpful. And then just a quick follow-up on the aftermarket side and the strong bookings that you saw in the quarter. You suggested it's hard to know exactly where all of that demand is coming from, whether it's break-fix or kind of planned demand. stocking by the airlines but i am kind of curious if you've gotten kind of any feedback from your airline customers on how they're kind of grappling with what's going on with the gts and the planned um you know um oags that we're likely to see here um you know this calendar year going into uh 2024 is that from your perspective um you know helping your aftermarket bookings here in the near term. Is that kind of what we're seeing in the strength that you've seen here recently? And Kevin, you mentioned, you know, the potential for upward pressure on the guidance for the year. Just kind of curious if that's what's driving that statement that you made there. Thanks.
spk13: Yeah, we've tried to take a look at it. We think it probably has a slight tailwind for the business. For a few of our businesses, it's helping out. Obviously, those platforms that were older planes are flying more. This is helpful, but We're also getting fewer hours on the GTF engine, so some other sites that would start to see some benefit of longer flight hours on those are kind of missing out. I think net for net, as we've looked at it, we think it's a slight tailwind for the business.
spk07: Okay, great. I'll leave it there.
spk17: Our next question comes from the line of Mariana Perez-Mora with Bank of America. Your line is open.
spk19: Thank you very much. Good morning, everyone.
spk17: Good morning.
spk19: My question is, I like to kill the onion a little bit on the commercial aftermarket. On this mid-teens guidance that you have, how much of that is driven by volumes? How much is pricing? And in that pricing, how much is passing through inflation and labor costs and this supply chain disruption things? And how much is actually being able to price this excess demand environment in the aftermarket?
spk08: We don't comment on price and volume and split that out. kind of difficult for us to assess that anyway. So, yeah, we don't give that kind of color. You know, for volume, you know, what we can offer is, you know, looking at takeoff and landings, RPMs, clearly volume is going to continue to grow and expand. And I believe we all gave you in our prepared comments that we think, you know, volumes are going to return in 2024 here and we may actually then see growth ahead of where we were pre-COVID. But we don't get into parsing out how much is price and how much is volume.
spk19: And are you able to discuss how open are customers to have price increase conversations at least?
spk08: You know, I think that our focus on operational excellence and performance means that you know the pricing part of the conversation is often quite simpler because you can provide products on time to their needs thank you and my second question if I may on M&A why are so many M&A deals available right now has something changed I don't know if anything's changed I think it just comes in waves sort of a sine wave you have periods of time where it's up and periods of time where it's lower. It's been an encouraging time over the last, I think, year or so. We've seen some good deals. Unfortunately, we've seen some things not work out and we have to pass on. But I'm not aware of any outside forces, you know, moving more deals to the table. It's just the way it is.
spk19: Great. Thanks so much.
spk17: Our next question comes from the line of Peter Arment with Baird. Your line is open.
spk11: Hey, good morning, everyone. Nice results. Hey, Kevin, maybe just a quick one on defense. I know it's about 38% of your mix. Do you have much exposure from international defense? And if you do, just kind of what you're seeing there.
spk08: Yeah, we do have international defense exposure. You know, we provide products... to our allies, and we also have manufacturing facilities in Europe that provide products directly to European defense contractors.
spk11: Any rate of change differences there, or just kind of still at normalized rates? Have you seen any, Joel?
spk13: I'm not sure there's anything significant versus the U.S. I mean, the U.S. in many cases is buying foreign military and they're supporting the same. So it ends up to some level of kind of commingled and hard to separate one versus the other.
spk08: Clearly, I think international defense is improving. Whether it is improving faster than the U.S. rate, I'm skeptical.
spk11: Okay, that's helpful. Joel, and just a quick follow-up, when you gave the color on kind of the max rates, and just in general, I was wondering if you could provide a little more color, like what you're seeing on your suppliers. Does everyone seem to be synced up and just broadly on the OEM kind of published rates, or are you seeing any kind of suppliers that are still behind, and this is an opportunity to catch up?
spk13: When you're saying suppliers, as in like, because we obviously sell to the air framers as well as frontier suppliers. Yeah, yeah. Our suppliers to us. I don't think that there's anything significant. I mean, we're still well, as Kevin put in his opening remarks, we're still well below the peak we were at pre-COVID. 787, I think, was running at 14 aircraft per month. And so... I don't think from that standpoint our suppliers have that issue. I think it's just been very sporadic. They can't get a certain component in. They've got to ramp it up. I don't know that there's anything specific material, but I think we believe right now we're well positioned for where we are and can support a higher ramp-up rate. Appreciate the details. Thanks, guys.
spk17: Our next question. comes from the line of Michael Syarmali with Truist Securities. Your line is open.
spk16: Hey, good morning, guys. Nice results, and thanks for taking the question. Kevin, maybe just back to the aero, the commercial aftermarket. Anything you could parse out from demand trends or actual booking sales, wide-body, narrow-body, airframe engine? I know you've flagged interiors. Is that maybe a function of just more retrofit activity or any noticeable trends?
spk13: I think on the interior side, we're really just in the early innings of refurbishment. We're starting to see a few of those programs. Again, I think we're anticipating seeing more of that likely as we get to the end of this year and into early next year. A few of them we originally thought might have happened earlier have slid to the right In terms of passenger, I don't know we have any specific data to tell you a single aisle versus wide body. Certainly we're encouraged by the continuing improving trends in the international market, so that still lags the single aisle market, but continues to be on a good rate of growth. I don't know that we have any specific data. I mean, with the number of part numbers we sell, it's too difficult to try to come back to some specific around single IOY body, unfortunately, at that level of granularity. Got it. Got it.
spk16: And then maybe, Kevin, just one last one on M&A. you know, you keep talking about the small and kind of medium-sized pipeline. You know, what is sort of your definition? I mean, CPI, I guess, 300 million. You know, how big is sort of the upper range of a medium-sized transaction?
spk08: Yeah, probably somewhere around billion-plus, but, you know, not four billion. That becomes big for us. So hopefully that gives you some There's no science here.
spk22: Yeah.
spk08: Got it.
spk07: All right. Perfect. Thanks, guys. Sure.
spk17: Our next question comes from the line of Gavin Parsons with UBS. Your line is open.
spk07: Thanks, guys. Yeah. Maybe on CapEx, what's driving the big step up this year?
spk00: Yeah, on the capex, obviously, we're always looking to add infrastructure to our op units and provide cash for productivity improvements, much like what Joel just mentioned, with machinery and other efficiencies in the op units to help drive the value drivers. There's nothing specific. There's no big one thing in there. It's just the usual capex that we provide to the op units based on their needs and driving the value.
spk08: Yeah, our process, these requests come from the site. So our goal is to keep them fully funded. And if they see great productivity projects, that's where the bulk of our capex goes to. But I would also say one thing that's different from years past is we're now doing more solar types of programs that we wouldn't have done in the past. They have great payback, but that has been an added need for us on the capex side.
spk07: Interesting. Appreciate that detail. And I know a lot of aerospace work needs to be manual, but how much automation do you think you can get in the business over time?
spk13: I don't know that we have any specific number. As I kind of highlighted, you were asking me the same question five years ago. I probably have a very different answer. I continue to be impressed by the ways that we've been able to incorporate. I was one of our businesses in the U.K., last month, and they've automated painting operations, polishing operations, brazing operations. I think we continue to be optimistic that as automation costs come down, as the cobot prices come down, is that it becomes easier and easier for us to incorporate it. Our challenges, we're a high-mix, low-volume manufacturer. the challenge is to be able to do automation, but be able to do it for many, many part numbers, not just one very small subset of, of parts. And I think we believe there's still a lot of opportunity for that.
spk07: Got it. And I think Noah asked about, you know, kind of the price cost spread. Have you guys seen your input costs starting to ease or not yet?
spk13: I think we're still in the early innings for that. Um, I, uh, Labor costs, I think, are probably starting to, as you see in the overall market, but I don't know that there's anything significant at this point. It's really too early in the fiscal year for us to have seen something dramatically different than planned.
spk07: Makes sense. Thank you.
spk17: Our next question comes from the line of Seth Seifman with J.P. Morgan. Your line is open.
spk12: Hey, thanks very much, and good morning, everyone. Morning. Morning. I wanted to ask about, I may be misremembering here, but if we go back to sort of the pre-COVID days, maybe even pre-Esterline days, I think kind of the cash balance to think about was something in the 750 range. A lot of stuff has changed since then. I think if we do pro forma for the pending acquisition, probably at about $2 billion right now, how do we think about what's the appropriate cash balance now and going forward?
spk00: Yeah, we're not anchored into a specific amount, as you can obviously see. We're happy to keep cash on the balance sheet. And like you pointed out, we would have $2 billion after the pending CPI acquisition, which is obviously more than we need to run the business, but we're happy to have that cash on hand to support any other opportunities, M&A, or any other investments that pop up for us.
spk12: Okay, great. And then maybe just a quick follow-up. I thought that last answer to Gavin's question was interesting. I mean, think about, I think when we hit the pandemic and all the rates came down, most of the more labor-intensive part of your business is in the commercial OE piece. And so there was probably an expectation that as rates came up, you'd be adding employees. And so we're certainly far from fully back up, but we've kind of come off the bottom of Has the amount of labor that you've added off the bottom, has it been kind of consistent with what you might have expected, you know, less or more? And why?
spk13: I think our teams have worked hard over the last three, four years to continue to find good productivity projects. And so, I don't have any specific numbers in front of me. I would think that we're probably trending better than what we would have anticipated if we were looking at the same thing three, four years ago. We had some learning curves, as I said, with turnover a couple years ago, but I think the good news is with the lower rates that we've had, we've had a good opportunity to get those folks up to speed. So I think we think we're positioned well going forward.
spk12: Okay, very good. Thank you.
spk17: Our next question comes from the line of, Scott Ditchell with Deutsche Bank. Your line is open.
spk02: Hey, good afternoon.
spk08: Good afternoon.
spk02: Joel, is F-35 aftermarket a significant portion of defense aftermarket revenue at this point? And then can you comment at all on how quickly that's been growing recently?
spk13: I don't have any specifics around any platform to give you. I think as we said, the defense aftermarket was a good solid quarter for us. I think considering the number of business it was distributed, I think we saw many, many platforms benefiting from it in the quarter, not just a single one. Certainly as F-35 continues to fly, that's beneficial for us. We're on effectively every... And so certainly the more things are used, the more that's good for us in general.
spk02: Okay. And then Sarah, sort of following up on Jason's question, can you clarify what the outlook is on working capital this year? It was a pretty big headwind last year. You had a strong first quarter here. I was just curious where things go from here on. Thanks.
spk00: Yeah, you're right. We had an influx of about, I think it was 500 million last year. So we think we're now in a good position so that going forward we'd expect new working capital to follow the revenue. It's a percent of sales staying fairly flat as the revenue goes up as a percentage.
spk02: Okay. And then last question, Kevin. It's been a while since the last Investor Day. Any plans for another one sometime soon? Thanks.
spk08: Yeah, this summer.
spk18: Expect it.
spk08: Yeah, we more than expect it. We're planning on it. So I think it's not officially announced, but sometime soon. This summer, we will have another one. Stay tuned. It will be announced shortly.
spk02: All right, great. We can finally meet in person. Sounds good.
spk08: Oh, that would be nice. You can always come to Cleveland, though.
spk17: And our next question comes from the line of Bert Subin with Steeple. Your line is open.
spk10: Hey, good morning, and thank you for the question. I guess good afternoon now. Sorry. Yeah, it's now afternoon, isn't it? I know. Tracking it. So I guess my first question, you know, airlines have been calling out maintenance-related expenses as headwinds. They're trying to get down this year, just, you know, broader unit costs have been inflating there. Are you seeing any impact from competition, be it USM or PMA, as they seek to do that? Or is that not really showing up on your radar, just given those markets are smaller?
spk13: I don't think we've seen any material changes here. USM is typically not a big factor for us. USM is typically for systems that are going for $25,000 and more, which really is a very, very small percentage of what our products are. And I don't think I've heard of any specific kind of changes in the PMA world from what we have seen in the past.
spk10: Got it. Okay. And just as a follow-up, I know cargo is a small part of what you guys do, but it sounded like the increase in belly space had been a little bit of a drag. What's your view toward cargo as you go through the balance of FY24? Are you expecting that to improve at all?
spk13: So I'm not sure to give you the specifics. I mean, the passenger for us, I mean, belly cargo obviously was a big thing that popped up during the year. Overall, the last year, the traffic within the cargo market was down a little bit from 2023. I think most folks anticipate that moving back up a little bit in 2024, and we think we're going to follow the underlying market. Great. Well, thanks so much for the call.
spk17: I'm showing no further questions at this time. I would now like to turn the conference back to Jamie Seaman for closing remarks.
spk18: Thank you all for joining us today. This concludes the call. We appreciate your time and have a good rest of your day.
spk17: This concludes today's conference call. Thank you for participating. You may now disconnect.
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