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spk13: Ladies and gentlemen, thank you for standing by. Welcome to the fourth quarter 2022 Textron Earnings Release Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. If you have a question, please press 1, then 0. Once again, for questions, please press 1, then 0. If you should require assistance on the call, please press star, then 0. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Vice President, Investor Relations, Mr. Eric Salander. Please go ahead.
spk11: Thanks, Greg, and good morning, everyone. Before we begin, I'd like to mention we will be discussing future estimates and expectations during our call today. These forward-looking statements are subject to various risk factors, which are detailed in our SEC filings and also in today's press release. On the call today, we have Scott Donnelly, Textron's Chairman and CEO, and Frank Conner, our Chief Financial Officer. Our earnings call presentation can be found in the investor relations section of our website. Revenues in the quarter were $3.6 billion, up from $3.3 billion in last year's fourth quarter. Segment profit in the quarter was $317 million, up $7 million from the fourth quarter of 21. During this year's fourth quarter, we reported income from continuing operations of $1.07 per share. Manufacturing cash flow before pension contributions totaled $368 million in the quarter, up $70 million from last year's fourth quarter. For the full year, revenues were $12.9 billion, up $487 million from last year. In 2022, segment profit was $1.2 billion, up $89 million from 2021. Income from continuing operations was $4.01 per share, compared to $3.30 in 2021. Manufacturing cash flow before pension contributions was $1.2 billion, up $29 million from 2021. With that, I'll turn the call over to Scott.
spk02: Thanks, Eric, and good morning, everyone. Our business closed out the year with another strong quarter. In the quarter, aviation grew revenue and segment profit, reflecting higher aircraft deliveries, increased aftermarket volume, and strong pricing net of inflation as compared to last year's fourth quarter. Also in the quarter, we continue to see solid order flow, customer demand across our aircraft product portfolio, ending the year with $6.4 billion of backlog. For the year, we delivered 178 jets, up from 167 last year, and 146 commercial turboprops, up from 125 in 2021. Texturing Aviation Defense delivered 10 T-6 aircraft for the year, up from five a year ago. Throughout 2022, strong aircraft utilization within the Texturing Aviation product portfolio resulted in a 16% growth in aftermarket revenues. At Bell, as expected, revenues were down slightly in the quarter on lower military revenue, reflecting the continued wind down of the H-1 program, partially offset by higher commercial revenues. In December, the U.S. Army announced that Bell's V-280 Valor was selected as the winner of the future long-range assault aircraft program competition. This award is a testament to the hard work of the Bell team that designed, built, flew the V-280 prototype over the last 10 years in support of this win. The initial Florida contract award of up to $1.3 billion over the first 19 months, with an initial funding of $232 million, for engineering and manufacturing development-related activity is currently on hold pending the outcome of a protest that was filed at year end by the competing vendor. On the commercial side of Bell, we delivered 179 helicopters in 2022, up from 156 in 2021. Moving to Textron Systems, revenues were essentially flat with last year's fourth quarter. During the fourth quarter, Systems awarded another anti-vehicle munition contract from the U.S. Army. The award is valued at $162 million over a five-year period of performance. In December, systems announced the delivery of the Cottonmouth to the U.S. Marine Corps for testing through 2023. This vehicle was purpose-built for the Marines' Advanced Reconnaissance Vehicle Program. Also in the quarter, systems delivered the sixth ship-to-shore connector to the U.S. Navy after its successful completion of its acceptance trials. Moving to industrial, we saw higher revenue in the quarter driven by higher volume at both Caltechs and specialized vehicles and favorable pricing principally at specialized vehicles. Moving to e-aviation, we delivered six VELOS Electro aircraft in the fourth quarter, including the first unit into Canada. For the year, Pipistrelle delivered 61 aircraft following the completion of the acquisition in April 2022. In summary, we saw strong demand across our commercial product lines, and the teams executed well despite supply chain and labor constraints. At aviation, the team executed very well with a full-year segment profit margin of 11.5%. It was above the high end of our original guidance range. Aviation's backlog grew 55% to $6.4 billion at year-end on strong order activity and customer demand. On the new product front, we received FAA certification for the Cessna Skycarrier and delivered six units to our launch customer, FedEx, during 2022. At Textron Aviation and Defense, the light attack AT-6 Wolverine achieved military-type certification from the U.S. Air Force, enabling the first international sale of eight aircraft. At Bell, the December 2022 FLIR contract Award has solidified the long-term outlook for the segment and should provide an increasing revenue stream that we expect will drive growth well into the future. On FARA, the 360 Invictus is nearly complete, and we expect first flight in 2023, pending delivery of the ITEP engine. At Techshon Systems, we advanced our weapons programs with the award of our anti-vehicle munitions programs, continued work on the robotic combat vehicle and armed reconnaissance vehicle development programs. Systems also obtained airworthiness certifications for four additional F-1s at ATAC, bringing the total operational F-1 fleet to 23 aircraft in support of increased demand across U.S. military tactical air programs. At Textron Specialized Vehicles, the company continued its leadership in the development and production of zero-emission golf vehicles, turf maintenance equipment, and ground support equipment markets. At Caltex in 2022, we were awarded contracts on 14 hybrid electric vehicle programs for our fuel system. At eAviation, the Pipistrel VELS Electro continued to receive certifications from around the world and is now certified in more than 30 countries. Looking to 2023, at aviation, we are projecting growth driven by increased deliveries across all product lines and higher aftermarket volume. At VEL, we're projecting revenue growth in 2023 on higher military revenues from the FLORA program and higher commercial revenues. At systems, we're expecting mid-single-digit revenue growth across our businesses. At Industrial, we're expecting revenue growth at specialized vehicles and Caltechs. At eAviation, we plan to continue investments in the development of technologies and products supporting sustainable flight solutions for unmanned cargo, next-generation electric trainers, eVTOLs, and general aviation. With this overall backdrop, we're projecting revenues of about $14 billion for Textron's 2023 financial guidance, projecting adjusted EPS in the range of $5 to $5.20, and Manufacturing cash flow before pension contributions is expected to be in a range of $900 million to $1 billion. With that, I'll turn the call over to Frank.
spk16: Thanks, Scott. Good morning, everyone. Let's review how each of the segments contributed, starting with Textron Aviation. Revenues at Textron Aviation of $1.6 billion were up $223 million from a year ago, reflecting higher jet and defense volume and higher pricing. Segment profit was $169 million in the fourth quarter, up $32 million from last year's fourth quarter due to favorable pricing, net of inflation of $29 million, and higher volume and mix, partially offset by an unfavorable impact from performance. Performance includes unfavorable manufacturing performance, largely related to inefficiencies from supply chain disruptions and increased staffing associated with higher production, partially offset by lower selling and administrative costs. Backlog in the segment ended the quarter at $6.4 billion. Moving to Bell, revenues were $816 million, down $42 million from last year, reflecting lower military revenues, partially offset by higher commercial revenues. Segment profit was $71 million. Of $71 million, it was down $17 million from a year ago, primarily reflecting lower military volume and mix, partially offset by a favorable impact from performance. Backlog in the segment ended the quarter at $4.8 billion. At Textron Systems, revenues were $314 million, up $1 million from last year's fourth quarter. Segment profit of $40 million was down $5 million from a year ago, backlog in the segment end of the quarter at $2.1 billion. Industrial revenues were $907 million, up $126 million from last year, reflecting higher in volume and mix of $95 million, and a $59 million favorable impact from pricing, largely at Specialized Vehicles product line. partially offset by an unfavorable impact of $28 million from foreign exchange rate fluctuations. Segment profit of $42 million was up $4 million from the fourth quarter of 2021, primarily due to higher volume and mix, partially offset by an unfavorable impact from performance. Text on e-aviation segment revenues were $6 million, and segment loss was $10 million in the fourth quarter of 2022, which reflected the operating results of Pipistrel along with research and development costs for initiatives related to the development of sustainable aviation solutions. Finance segment revenues were $11 million and profit was $5 million. Moving below segment profit, corporate expenses were $43 million in the fourth quarter. Interest expense net for the manufacturing group was $17 million. Our manufacturing cash flow before pension contributions was $368 million in the quarter. For the year, manufacturing cash flow before pension contributions totaled $1.2 billion, up $29 million from the prior year, despite higher cash tax payments of $284 million in 2022 related to the R&D tax law change. In the quarter, we repurchased approximately 3.3 million shares, returning $228 million in cash to shareholders. For the full year, we repurchased approximately 13.1 million shares, returning $867 million in cash to shareholders. Beginning in the first quarter of 2023, we will change how we measure our segment results. Going forward, we will exclude from segment profit the LIFO inventory provision, intangible asset amortization, and the non-service component of pension and post-retirement income or expense. These items will be separately reported on the income statement below segment profit. We believe these changes will provide a more consistent method of measuring and evaluating business performance across our segments, while also aligning our reporting results more consistently with other companies within our industry. On slides 15 and 16 in the investor presentation posted to our website, you will find prior year results reflecting the recast of segment profit. Also effective with the first quarter of 2023 results, We will report earnings per share on an adjusted basis that excludes the LIFO inventory provision and intangible asset amortization, both non-cash items. Turning now to our 2023 outlook on slide nine, we're expecting adjusted earnings per share to be in a range of $5 to $5.20 per share. We're also expecting manufacturing cash flow before pension contributions to be about $900 million to a billion dollars. Moving to segment outlook on slide 11 and beginning with text-run aviation, we're expecting revenues of about $5.7 billion. Segment margin is expected to be in a range of approximately 12% to 13%. Looking to Bell, we expect revenues of about $3.3 billion. We're forecasting a margin in a range of 8.25% to 9.25%. At systems, we're estimating revenues of about $1.25 billion with a margin in a range of about 10 and 3 quarters to an 11 and 3 quarter percent. At industrial, we're expecting segment revenues of about 3.6 billion and margin to be in a range of about 5 to 6 percent. At e-aviation, we expect revenues of 45 million and a segment loss of 65 million, largely reflecting our continued investments in sustainable aviation solutions. Lastly, at finance, we're forecasting profit of about $15 million. Looking at slide 12, we're projecting about $150 million of corporate expense. We're also projecting about $90 million of net interest expense, $130 million of LIFO inventory provision, $35 million of intangible asset amortization, and $235 million of non-service pension income. We expect a full-year effective tax rate of approximately 17.5%. Turning to slide 13, R&D is expected to be about $585 million, down from $601 million last year. We're estimating CapEx will be about $425 million, up from $354 million in 2022. Our outlook assumes an average share count of about 205 million shares in 2023. That concludes our prepared remarks. So, Greg, you can open the line for questions.
spk13: Okay. Once again, if you have a question, please press 1 and 0. Your first question comes from the line of Sheila from Jefferies. Please go ahead.
spk00: You've definitely had a busy quarter between Flora, so congratulations on that. And I think you threw in an Aerojet bid in as well. So I wanted to focus on aviation margins. In Q4, I think you ended at 10.7, potentially lower, including the recasting for LIFO. How do we think about the walk to the 12.5% margins in 2023?
spk02: Well, I think she'll, so first of all, you know, the quarter we knew that we were going to have, you know, some headwind with supply chain. And obviously we brought a lot of new people on board, which is a good thing, but had a lot of impacts, you know, just getting all those folks on and training and those kinds of interruptions. So in the quarter, we did take, you know, a lot of those unusual impacts right to expense in the quarter rather than putting it into inventory. So we did take a hit on that. LIFO was still in there, obviously, in that reported number. So obviously on a recast basis going forward, but that won't be there. So I think when we think about what happens as we go into 2023, obviously you're going to not have the LIFO in there. And I think we're going to see, again, we're guiding probably almost half a billion dollars of higher revenue, and that converts at good margins. So I think we're pretty bullish on our ability to drive higher margins as we go through 2023.
spk00: And maybe just as a follow-up to that longer term, how do you think about peak trough margins in aviation? Is it just steady as it goes from here? Can it just be a 20% incremental margin business?
spk02: Well, as you know, Sheila, based on analyst pressures, we've been striving to get above 10% margins in the aviation business. And we feel pretty good about that. So I think it's going to be very much volume-driven. You guys know we tend to convert somewhere in that 20%, 25% range. I expect we can continue that as we go forward. Certainly, we're guiding that in our conversion for 2023. And, you know, because we go beyond that, we'll just have to, you know, see where the market is. The good news is demand has remained strong. The fourth quarter demand remains strong. We had good bookings in a Q4. So, environment I think we feel pretty good about. But, you know, in terms of what margins do change, on a go-forward basis. I think we kind of remain in that neighborhood of expecting sort of a 20%, 25% conversion on our revenue growth.
spk07: Great. Thank you.
spk02: Sure.
spk13: Your next question comes from the line of David Strauss from Barclays. Please go ahead.
spk09: Thanks. Good morning. Good morning, David. Scott, could you talk through the... The forecasted bell, so up revenue, down margins, decent amount. You mentioned it includes flora. So what exactly is your assumption for flora? Does that assume you win it post the protest, just if you get out there?
spk02: Sure, David, it does. So the protest period ends the first week of April. So we've baked that into our estimates, assuming that will be resolved by that period of time. Um, obviously, you know, the dynamics in terms of margin is that we, you know, we'll continue to see a decline on the, on the military revenue side. There'll be some offset on the commercial revenue side. We've had a good year in terms of bookings and expect to see nice growth on the commercial side. And then obviously we'll have three quarters of the flower program coming in, which is good, but that is, you know, a lower margin, you know, business. I mean, EMD programs tend to be lower margin and that's what we've, uh, forecast in our, in our guide for you for 23.
spk09: Can you, Scott, can you say specifically how much revenue is in there for FLOR and how would we expect to ramp beyond 2023 in terms of revenue?
spk02: No, we're not going to break out the specifics of the, you know, individual programs, but I think, you know, clearly it will ramp, you know, as we go into 24, 25. And obviously, I think probably for quite some time. I mean, I think this program will be a terrific, you know, boon for the business. It's going to start out obviously with a lot of the cmd which as we said is is great volume and and good revenue but not a whole lot of margin and then obviously we'll expect to see it you know continue to grow and turn into better margins as you get into production programs and farm military sales and you know all the things that we would expect will come along with a successful farm program okay and and last one on the aero supply chain can you just update us there and
spk09: Your deliveries, I think, came in a fair amount lighter for the full year than we were originally anticipating at the beginning of the year. So how many additional deliveries could you have done this year if you didn't have supply chain bottlenecks? Thanks.
spk02: Well, I don't know if we'll go into express numbers, David, but look, we've been kind of forecasting here since the mid part of the year that we expected we would end up a few hundred million dollars light versus our initial guide based on the fact that we continue to see supply chain bottlenecks challenges and some labor issues. I think labor has certainly improved through the balance of the year, although a lot of that's new folks and training and it has an efficiency impact, but at least we're making some progress on that front. I think we've had, you know, a number of suppliers that were challenged or getting better, but you always have a couple out there that are still struggling. So, you know, that was a, you know, we kind of anticipated that in the back half of the year. That's why we kind of tried to provide some color that we expected this to be a few hundred million off of our guide. But I think that, you know, we've taken that into consideration. So as we think about next year's, you know, guide for 23, there are still going to be supply chain challenges all along the way. But we think we've taken that into proper consideration in terms of the 23 guide.
spk09: Thanks very much.
spk13: Your next question comes from the line of Robert Stellard from Vertical Research.
spk07: Please go ahead. Thanks very much. Good morning.
spk08: Good morning.
spk07: I'll start with Frank. I was wondering if you could give us some sort of walk on the manufacturing cash flow and why you expect it to modestly decline in 2023.
spk16: Yeah, it's just a reflection of an expectation that we'll continue to see good performance from a working capital standpoint. But we do have the continuation of the higher cash taxes associated with the R&D tax credit change. And also, we're just expecting... a slightly lower V in deposit activity from commercial volumes. So we're kind of framing it in terms of kind of one-to-one book-to-bill type expectation as it relates to deposit activity. And that kind of has a little bit of a headwind on cash relative to where we have been.
spk07: Okay. And then maybe one for Scott. There's been a lot of commentary around and about in the business jet industry about some of the lead indicators starting to slow down. Have you seen any impact of, say, activity leveling off or used inventory increasing having any impact on order activity for you?
spk02: No, we haven't seen that, Robert. I mean, I think our order rate in the fourth quarter was consistent with the third quarter. It remains quite healthy. I think when people look at some of these leading indicators, it's hard to keep track of when you see a little bit of an increase in used available for sale. you know, what kind of aircraft are those? What are their vintages? You know, we think, you know, obviously the market's been very strong, so people are looking to put some aircraft on the market. They're still very low level, so we're not seeing that, you know, the knock-on effect into the market for new aircraft. So we haven't seen a material change in the level of activity that's going out there in terms of order activity. I mean, there's lots of people writing reports that Frankly, hard to understand sometimes. There's so many comparisons of flying by region, by size of aircraft, compared to 19, compared to last quarter, compared to 22. It's, you know, but it's in the round. So we haven't seen any of that have a meaningful impact on order activity.
spk13: That's great. Thanks so much. Sure. Your next question comes from the line of Peter Arment from Baird. Please go ahead.
spk05: Yeah, thanks. Good morning, Scott, Frank. Scott, just circling back on David's question regarding just the supply chain and maybe just tacking in inflation. So it sounds like, you know, I mean, it sounds like things are holding in there or are they getting a little better? And then just also just could you maybe talk a little bit how you're passing on any higher input costs right now?
spk02: Well, as on the supply chain side, Peter, I think we have some suppliers where we've had challenges and we clearly see them getting healthy and getting better. But You know, we have other areas where suppliers are still struggling. I mean, I don't want to go into too much detail, but it's very specific components, you know, very specific suppliers. Obviously, we're working with them and trying to get them healthy and do a better job in terms of getting parts into the factory. And obviously, from our standpoint, we do lots of out-of-sequence work and swapping parts around. We'd like to stop doing that. It's an efficiency hit to us. Our guys have to work through every day. So it's, you know, I think it's about the same, right? As I said, there's some suppliers that are getting better, but then you've got one that's just, you know, having a hard time catching up. I don't know that we're seeing a lot of new suppliers coming in and say, hey, I've got a big problem. We have a couple that are, you know, we've been struggling all year and we're trying to get them back on schedule. They're working at it, but they're just not quite there yet. And, again, we factored that into how we think, you know, 2023 will play out. In terms of the pricing side of things, Peter, you know, we continue to get price, you know, net of inflation. We're very focused on that. You know, as these input costs, you know, increase, we have to drive price to get that back. I think the guys are doing a pretty good job of that.
spk05: And just as a quick follow-up on systems, I mean, just could you talk a little bit, post the Amos bill and defense, you know, kind of looking funding pretty robust as we go forward. You know, how are you looking at, you know, we're showing modest growth for systems this year, but how do you think longer term?
spk02: Well, look, I think when we look at the FIDAP numbers, they seem fine to us. When you look at what came through on the Omnibus in terms of this current fiscal year's budget, it was in line with our expectations. So I think we're fine. The growth, the good news at systems is it's really kind of across almost all the product lines. It's not just one particular thing. Obviously, we've had some new wins in the munition side, which is great. That's put that business back to growth. Sentinel program continues to do well. Our ship's sure. As I said, we've made deliveries. We'll start negotiating the next production buy here shortly, but we'll finish the ED&C this year and start production deliveries. The ATAC business has had nice growth. Our electronics business has had nice growth. It really is kind of across all of the businesses within systems, and the omnibus budget that was appropriated is consistent with obviously what we're guiding to you guys. Appreciate the call. Thanks. Thanks, Scott.
spk13: Sure. Your next question comes from the line of Pete Skibitsky from Olympic Global. Please go ahead.
spk03: Hey, good morning, guys. Hey, Scott, you know, fair to say, I think, you know, some of your businesses have a cyclical component to them. And I'm just wondering, I'm sure you guys see, I think the consensus out there for the macro guys is that we'll have some sort of mild recession this year, maybe later this year. So as you guys see that and whether you agree with it or not, you know, is it prudent for you to maybe even kind of slow the top line growth in those type of businesses and maybe like citation, maybe TSV to kind of protect your margins and not over hire? Are you guys thinking about your businesses that way or not necessarily, you know, right now?
spk02: Oh, we absolutely look at that, Peter. I mean, as I said, there's cyclicality in almost every business, right? So some have more and others, those that we think are going to be, you know, more recession sensitive. We've kind of factored in thinking we'll have a mild recession. I don't think it's going to be dramatic. We're certainly not thinking about something in the scope of back in the 2000, you know, 9, 10 kind of timeframe, you know, but I don't think we have an economic, you know, situation that's going to lead to something like that. I'd say, you know, look, I think that we need to look back at previous, you know, modest recessions, the area that has always, you know, impacted us the most difficult has been in slowdown in the aviation business. And I think we're in a very different place than we've been in those previous sessions because we have a pretty significant backlog. So, you know, I think that, you know, the nature of that will allow us to, you know, even if you were to see a slowdown in bookings, which is entirely possible, I would expect that if you really go into a modest recession, you know, you'll see a slowdown in booking, but you've got, you know, almost two years of backlog sitting there that you'll continue to you know, to execute on. And I think that'll help you ride through it. And we haven't, you know, we haven't had that for a bunch of years, Peter, as you know. So I think that it's, you know, it's one that would translate to a slowdown in bookings, but not something that would, you know, slow us down in terms of our revenue and margin generation.
spk03: Okay, that's fair. Just one last one for me. Scott, are you guys any closer to signing that AH1 deal with Nigeria?
spk02: Well, I mean, it's in the kind of government contracting process, right? So that ends up being, you know, because of the FMS nature of that, that would be signed, you know, between ourselves and the U.S. government. And as you know, Peter, that can take a little while.
spk03: Okay. Fair enough. Thank you.
spk13: Sure. Your next question comes from the line of George Shapiro from Shapiro Research. Please go ahead.
spk10: Good morning. Frank, if you could just fill in a couple of numbers. How much was aftermarket up in the quarter?
spk16: Well, at aviation, aftermarket is a percent of the sales was 27%. So you can kind of do the V based on that. It was 11%. 16% for the year. I think it was 10%. And aftermarket was 33% of total sales for the year at aviation.
spk10: Okay. And, Scott, you didn't specifically mention, but I assume you're looking at deliveries based on the revenue forecast for 23, somewhere 200, 205 deliveries. Is that fair?
spk02: Yeah, it's going to be in that neighborhood, George. And so, you know, we've had a lot of dialogue, I think, about when do you back to 19 and Obviously, the mix of aircraft is quite different, right? I mean, we're certainly heavier on the super mids and the mids than we would have been a few years ago. But if you look at our revenue guide, it's probably going to be somewhere around that couple hundred aircraft.
spk10: And, Scott, I looked at the fourth quarter, and even if I added back the $16 million that you mentioned for supply chain issues, the margin was still weaker than the last couple of quarters. So what else was going on there?
spk02: Well, I know we're the 16, the inefficiencies that we, you know, took through and WIFO, which was around probably about $10 million or something, the impact is largely what drove us to the margin rates that we reported.
spk10: Okay. Very good. That's it for me. Thanks.
spk13: Okay.
spk02: Thanks, George.
spk13: Your next question comes from the line of Noah Popanek from Goldman Sachs. Please go ahead.
spk14: Hi. Good morning, everyone. Scott, you've alluded to it, but your backlog is several multiples of what it was just a few years ago, and the production is not. So what's the average wait time at this point, and how are you thinking about managing how long you're making customers wait for an airplane?
spk02: Well, look, you know, I mean, it does vary from model to model, right? When you look at the longitudes and latitudes, the larger aircraft in the family, you know, we think those should be out a couple of years. And that's generally, you know, where they are. When you get into some of the smaller, you know, aircraft, those tend to be, you know, a shorter cycle order of deliveries. But, you know, again, those probably should be in that 12 to 18 month kind of window. So when we think about production volumes and what we're laying into our our forecast, which is then, you know, that then drives what our sales team has in terms of, you know, available, you know, slots and timeframes. That's kind of how we're managing it.
spk14: Okay. How does the, how does pricing that's entering the backlog now compared to pricing that's hitting the PNL now in the, in the aviation jet business? It's better. Is the gap increasing or stable?
spk02: I'm not sure. We don't measure a gap. You mean price net of inflation?
spk14: I guess what I'm wondering is, I know you've been taking price as the market's been stronger. Was there a period of time as the market was strengthening where you were not taking as much price to allow the backlog to extend first before you now take more price? Is that the strategy or has it been pretty consistent for the last few years?
spk02: It's been pretty consistent. I think the pricing, you know, obviously demand is strong, right, which is very helpful from a pricing standpoint. But, you know, our opinion, this market's been mispriced for a long time. You know, I mean, this is a business which, as you guys know, it's a lot of R&D. It's expensive to develop these things and get them through certifications. And, you know, you need to have fair pricing to generate these kind of margins. We always believe this business had to be back as a as a double-digit profit margin business, and we've been driving price to make sure that that's the case.
spk14: Okay. And what would be a credible protest case on Flora from your competition?
spk02: I don't think there would be one.
spk14: Okay.
spk13: Thank you. Sure. Your next question comes from the line of Ron Epstein from Bank of America. Please go ahead.
spk15: Hey, good morning, guys. Just a quick one. Can you help me think through this LIFO adjustment you guys are making? I mean, isn't it sort of unfair to not include inflation in your costs?
spk02: Well, yeah, so Ron, that's a good question. Look, just to make sure we understand the LIFO. So actual inflation is still in the segments. That's very much a cash impact. It remains in the segment. The only thing we're taking out of the segment is this LIFO provisioning, right? So LIFO accounting, which and I'm just a simple engineer, Ron, but the LIFO provisioning phenomenon is that I've bought parts at one price, and now I have a new contract with a supplier. I have a higher price for that part. As soon as that first part shows up, the LIFO provision is basically taking the actual price I paid for those other parts and raising them up to the price of that new part. So it's an accounting... provisioning process. It's not an actual cost. So when I get to where that higher dollar part gets consumed by an aircraft, that's going to be in my cost. That real inflation is in the segment, it is cash, and it is in performance. It's only that provisioning of that, the nature of this last in first out accounting, that is what we're pulling out of the segment.
spk15: But I guess another way to frame the question, though, is if we were to look at your margins pro forma back to GAAP for 2023, what would they be if you didn't do that adjustment?
spk02: Well, you'll have that full disclosure, right? You'll see that LIFO number.
spk16: You'll see the total LIFO. Right. But Ron, no one else in our space is on LIFO. So we're on LIFO for accounting. You need to conform that between tax and accounting. So we derive a benefit from a tax standpoint in an inflationary environment by essentially accelerating those costs for book and tax purposes. But as Scott said, it's not a true economic cost. And we have basically hung up about $600 million of effectively LIFO provision on our balance sheet that was profit never realized because of this accounting that is not consistent with everyone else in the space. So as inflation has accelerated here and LIFO has become a bigger number, we felt it was important to highlight that. And certainly from a segment performance perspective, take it out of the segment performance because it is not a true economic cost to the business. It is essentially a function of the accounting treatment that we have, but it will never, that inflation, that LIFO inflation will never turn into true economic cost in the business.
spk02: So this, Ron, this has been an issue, we've always been on LIFO, the Textron has always been on LIFO. So in a non-inflationary environment, it's always been a bit of a drive. It's a small number. It's not been an issue. But with an inflationary environment, all of a sudden you have these big non-economic bookings. And again, as Frank said, other companies, everybody else in our space does LIFO accounting instead of LIFO accounting. So we get a lot of questions from investors about what are these differences. And so I think taking this out makes sense. And look, the reality is, we don't manage the business that way, right? I mean, when we sit down with the business, when we're doing our plans, we're managing, we do our operating calls that, you know, life, it's not something they control, right? It's not economic. And so that's not how we manage the businesses, right? We, we, we don't look at that. So it makes sense to also not, you know, report that in that segment since that's not how we manage these guys either. They don't have, they don't, they don't control that lifeboat. They do control and they do get held accountable for actual real inflation on that, on those higher part counts, right? So that's, you know, we're not taking anything operational out of the segment, but managing it on what they control and the real financial impact. Got it, got it.
spk13: Okay, thank you. Your next question comes from the line of Kai Von Rumer from Cohen.
spk12: Please go ahead. Yes, thanks so much for taking the question. As Sheila mentioned, you know, allegedly you guys went after AJRD. You did buy Pipistrel. You've won Flora. So it looks like, you know, your business is becoming more A&D. If we kind of look at valuations across, you know, the space, it looks like valuations tend to be higher for pure plays. Either you're doing aerospace or you're doing air conditioning, whatever. So as you think of your business, Scott, are you thinking of any strategic initiatives? At one point, I think you considered spinning off Caltechs. How are you thinking about that now?
spk02: Well, look, I don't think we're going to talk about portfolio, you know, shaping or changes as part of the, It's something we're always looking at, and I think we'll leave it at that.
spk12: Okay, great. And can you give us any help on the, you know, I don't know, but, you know, what the case Lockheed is making as to, you know, why they're protesting? Because certainly on paper, it looks like your vehicle is very substantially better than theirs.
spk02: Well, look, I mean, obviously, you know, that process is going on between, you know, the Army and Lockheed, so we probably can't comment too much. I guess I would just say that this, as you all know, this process has been going on for a decade, right? There's been, you know, an enormous amount of work between, you know, both suppliers and the Army from design, development, test, prototype, flight, you know, it's been an unbelievably robust process. And so I don't, it's hard for me to understand what flaw, you know, would have been in the process. It's kind of inconceivable to me, but, you know, we'll leave that to the Army and Lockheed. And needless to say, we think they made the right choice. I'm proud of what our team did, and we're Excited to get this thing behind us and get on with the program as I'm sure the Army is.
spk12: Terrific. And the last one is cash deployment. I mean, you've got good cash flow even though down year over year. You've got a good balance sheet. You've basically been heavily focused on share repurchase. I mean, really a lot of leverage there. But, you know, you also bought Pipistrel. As you think about where the cash is going – Maybe give us some thoughts about M&A versus share repurchase, dividends, all of that.
spk02: Well, look, I mean, we always look at opportunities that are out there, Kai, and I would say relative to your earlier question and comment, yes, we would view our focus in the world to be within the A&D space in terms of most of our capital deployment. Pipistrel's turned out to be a great little business, brought some great technology into the company, and is now kind of important to us in terms of the future of sustainable flight. But if opportunities like that come along, then that's great. We've done some other smaller deals, again, in the A&D space, and we would continue to look at that. But our principal deployment of our capital has been, for the last number of years, in the share buyback, we've been doing kind of 5%, 6%. We did another 5%, 6% this past year, and I would expect that's probably the track we're on in 2023 as well.
spk12: Thank you very much.
spk13: Your next question comes from the line of Christine Leeweg from Morgan Stanley. Please go ahead.
spk01: Scott, for the demand environment for aviation, can you give us an update in terms of the customer profile that you're seeing that are placing these aircraft orders? Are they corporates, individuals, fractionals? Are they gearing more for growth, replacement, or are they new buyers? Any additional context would be helpful in understanding the demand environments.
spk02: Sure. We haven't seen much of a change. It continues to be that same mix. There are still new buyers coming into the marketplace. Fractional is certainly strong. There are a lot of buyers on the fractional side. It's a particularly attractive place, I think, for new people to go. It's not easy to necessarily know how to own this asset. The fractionals provide a great option for people that want to get in. That's doing well, but we still see robust whole aircraft sales. It's a mix of public companies, private companies, family-held companies. It really is kind of our usual customer base, I would say. It remains also kind of the same as we've seen around jets largely being driven by the North American market, probably 70-30 to 80-20 in that range, which is normal. Turbo props are more robust internationally. Again, we see stronger activity, again, like 60% plus international versus domestic on King Airs, for instance. So the trend in terms of that, who is that customer, is kind of our traditional buyers.
spk01: Great. Thanks for the color. And maybe following up on the supply chain issues that you mentioned, I mean, for some of these suppliers that continue to struggle for a few years now, what's the long-term solution? What can you do to mitigate their problems so you can actually deliver on the strong demand for BizJet. Are there other solutions, like you need to vertically integrate your supply chain or anything like that to alleviate some of the pressure? What other actions can you take?
spk02: Yeah, that's a good question. Look, it's a mix, right? I mean, in some cases, we have some smaller suppliers and technologies where they basically kind of were us, and we did acquire them and integrated them as part of our of our business. You know, we have a good track record of doing that in the past around some critical areas, interiors we did. That's been a home run for us. You know, we just did a deal this past year in the actuation space. Again, a very unique aerospace technology. Most of the volume was ours. It's a critical supplier and a critical technology for us in the future. And, you know, these aren't big numbers, but it was a great acquisition. And so far it's working out really, really well for us. It's helped to get us back on track. But there's always going to be some guys out there, you know, that are suppliers where it's, you know, we're a small percentage of their sales. It's very capital intensive. It's a technology that, you know, doesn't make sense for us to vertically integrate that. And so in those cases, we just, you know, keep working those folks. I think those suppliers are all trying to get back up to speed. Obviously, it's a good business for them. So there's, you know, I'd say, you know, we don't have suppliers that I'm aware of that are, are obstinate or don't want to perform, you know, it's a matter of, you know, them getting the resources back in place and sub tier suppliers getting in place. And, you know, those are folks that just, you know, take a fair bit of work, but I think they will get there again. We've seen some of them have already recovered, you know, but there's still a couple of problem children out there that are, that are working on getting there.
spk01: Great. Thanks, Scott.
spk13: Sure. Your next question comes from the line of Seth Seifman from JP Morgan. Please go ahead.
spk06: Hey, thanks very much, and good morning. I'll just stick to one here, kind of a follow-up on the last question Christine asked. I think from a mixed perspective, you know, while the deliveries in total are still down from 2019, I think the deliveries to NetJets are probably higher. And so, as you think about delivery growth from here, You know, do you think about the incremental growth coming, you know, more with that top customer or, you know, more, you know, kind of diversifying the mix a little bit more? And then I'd also imagine that the order for 200 latitudes, the NETJETS has probably come into a conclusion pretty soon. And, you know, whether you think about how you think about expectations for the next slug of latitudes from them.
spk02: Well, so first of all, I don't know what percent of sales back to 2019, what it was on fractional versus today. But look, I think fractional, you know, when you talk about diversification, the sale of a fractional aircraft is a more diversified sale, frankly, than a single jet. Remember that this is not a concentration of, you know, a buyer in net jets. Remember, net jets is out there. selling that aircraft to eight or so people, right? So every sale that we make to NetJet is a sale from NetJet to, you know, a whole bunch of different customers. So it's quite diversified. So, you know, I don't expect NetJets or any fraction for that matter to track wildly different than the overall market demand, right? If the market is strong and people are wanting to fly private, you're going to see this mix of people that choose, you know, to do it through, a fractional, which is actually a lot more people because again, they're buying a fraction of an aircraft, not a whole aircraft. So, so when I look at our mix, I think of the mix associated with the nutshell business as being very good mix, right? That's a very diversified sale. It's a very diversified, you know, market. And that's kind of, that's what they do every day, right? They're out working and talking to, you know, lots and lots of customers and, you know, in a broad range of, you know, customer base for, for selling that fraction of, an aircraft and obviously as you guys know one of these we do now is you know we work very closely with net jets and looking out roughly about a year that these things come into backlog based on you know how their sales team's doing out there selling these aircraft so it's it's a great part of our of our backlog and it's a great part of our business it is as you guys know tends to be at a lower margin because we you know it's kind of a wholesale sale you know but they're the ones that are out there you know, spend the money on sales forces and reaching out and selling to that, you know, large customer population. So, you know, NetJets remains, as do other fractionals, a really important part of the business. And, you know, it's a really, really important part of our customer base are these fractional owners. As far as the deal with NetJets, you know, we are in constant discussions in terms of forecasting unit volumes. As you get to where you get towards the end of a particular quantity buy, obviously we'll work with NetJets to work on what comes next. But that's kind of a business arrangement between the two of us, obviously. But the actual forecast and backlog that's reflected in our numbers is really kind of a rolling one-year process, regardless of what the size of the overall – you know, arrangement is between ourselves and net jets on, you know, latitude and longitude volumes.
spk06: Great. That's very helpful. Thanks, Scott.
spk13: Sure. And your last question today comes from the line of Doug Harned from Bernstein. Please go ahead.
spk04: Good morning. Thank you. I wanted to go back to the discussion around the size of the backlog as it clearly has grown quite a bit over the years. When you look at backlog as it slowed sequentially in this quarter, how do you compare, how do you contrast the demand you're seeing for new aviation sales to basically the wait time that's there? In other words, there's a point where you just flat out are going to lose customers if they have to wait too long. So do you see a constraint on the growth from that at this point?
spk02: Well, you know, we really haven't seen that. You know, I mean, I think the whole industry is in a similar situation, right? If we were in a situation where you couldn't get an aircraft for 18 months to two years and somebody else had an aircraft they can get tomorrow, then yeah, you could lose that customer. And I think, you know, obviously somebody could go buy a used aircraft or something of that nature. But I think right now the whole industry is in this situation. And frankly, it's where this industry should be, right? I mean, these are you know, complicated assets. A lot of times customers already have aircraft. They need to sell their used aircraft. So, you know, look, I think the, remember the, this industry actually worked like this way for a very, very, very long time. The aberration has been since 2008 to the last two years ago where you didn't have much of a backlog in this class. Generally speaking, you know, this industry has been, you know, a backlog business. It should be a backlog business. By the time you specify aircraft and, and, configure aircraft and customize the aircraft. This really, where we're sitting today, is what normal should look like, not what we've seen in the past 10, 12 years.
spk04: When you get to this situation, though, which is clearly a good situation, the solution always is to add capacity, and we've seen that happen in past cycles as well. When you look out today... What things would you want to see to make material increases in your production capacity?
spk02: Look, I don't think it's our production capacity so much. I mean, obviously, we're struggling through some of these supplier issues here tactically. But remember, as we talk about the delivery times, what our team's out there selling, as we look at that backlog, they're selling aircraft and serial numbers that are to be delivered at certain dates. So that's how you manage that. you know, this backlog, and then you've got to make sure that you dial in your production schedule to match, you know, what those committed delivery dates are. So if you start to see, you know, a softening in the order rate, then you're going to sell out fewer of those slots in the future, and then you would adjust, you know, your production. If you all of a sudden say, hey, 2025, it looks like, you know, you could have five more latitudes or, you know, 10 more M2s, then you do that and you modulate your production capacity accordingly. But I think as long as you're out there looking at these sort of 12, 18-month, two-year kind of timelines, it gives you the ability to do that. And again, that's how this industry has always worked.
spk04: Well, and just one last thing. When you look at the constraints coming from the supply chain, are there some specific areas right now that you would point to as most difficult? Yes.
spk02: Yes. I mean, I could tell you a couple of part numbers that are our biggest challenges. We're not going to do that. I'm not going to throw particular suppliers under the bus. But, you know, yeah, there's a couple of particular products, a couple of particular technologies from a couple of particular suppliers that are our biggest constraint. I mean, there's always a bunch of little stuff going on, but for sure, if you get a couple of these guys, you know, back in line, that would be, Very helpful. And again, that doesn't mean we turn that into all of a sudden delivering a lot more aircraft because, again, we've committed dates to our customers. It's a lot more for us right now about getting rid of all the inefficiencies in our production runs where we're having to build aircraft and swap parts around and do things out of sequence. It's very, very harmful to running a good, smooth production operation when you've got to go chase all the stuff around.
spk04: Okay.
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