Second Quarter Conference Call, Fiscal Year 2016
April 29, 2016
Before we begin, we call your attention to the fact that we may make forward-looking statements during the course of this conference call. These forward-looking statements are not guarantees of our future performance and are subject to risks, uncertainties and other factors that could cause actual performance to differ materially from such statements. A description of these risks, uncertainties and other factors is contained in our news release of April 29, 2016 our most recent Form 8K filed on April 29, 2016 and in certain of our other public filings with the SEC.
We've provided some financial schedules to help our listeners better follow along with the prepared comments. For those of you who do not already have the document, a copy of today's financial presentation is available on our investor relations investor webcast page at www.moog.com.
Good morning. Thanks for joining us. This morning we’ll report on the second quarter of fiscal ‘16 and affirm our EPS guidance for the full year. As usual, I’ll start with the headlines before diving into the business.
• First, it was a good quarter, with earnings per share of $0.85 cents at the high end of our guidance.
• Second, we took a restructuring charge of $0.14 cents in the quarter, mostly the result of a decision to exit a product line in our Aircraft segment.
• Third, it was a good quarter for cash flow.
• Fourth, we purchased over 500,000 shares of our stock in the quarter for
• Finally, we’re forecasting full year sales of $2.47 billion and earnings per share of $3.35, plus or minus $0.15 cents, unchanged from 90 days ago.
Now let me move to the details starting with the second quarter results.
Sales in the quarter of $611 million were down 4% from last year. Approximately one third of the decline was due to currency effects. Sales were up marginally in Aircraft and down marginally in Space and Defense, Industrial and Medical. The big drop was in our Components Group where sales were off 18% compared to
Q2 fiscal ’15, but up nicely from the low point last quarter.
Taking a look at the P&L, our gross margin was up over 200 basis points from last year. In the second quarter last year, we had an accounting correction in one of our Space and Defense operations which depressed gross margins. R&D was up in the quarter driven by the heavy workload on our major commercial aircraft programs. Our SG&A expenses were down as we continue our focus on cost management across the company. We incurred $8 million of restructuring in the quarter, with three quarters of the expense in our Aircraft Group. Our effective tax was relatively low at 23.9%. The overall result was net earnings of $31 million and earnings per share of $.85 cents.
We’re leaving our forecast unchanged from 90 days ago with full-year sales of
$2.47 billion and full-year earnings per share of $3.35 plus or minus $0.15 cents. We’re tweaking the margin performance in a couple of our segments as we allocate the restructuring expense we took in the quarter. Otherwise, at the half-way mark, the year is on track to meet our guidance. As in previous quarters, this outlook does not include any positive impact from further share repurchase activity.
Now to the segments. I would remind our listeners that we’ve provided a 2-page supplemental data package, posted on our webcast site, which provides all the detailed numbers for your models. We suggest you follow this in parallel with the text.
Sales in the quarter of $255 million were down 4% from last year. Sales were lower on both the military and commercial side of the house. On the military OEM side, lower sales on the V-22 and the F-18 were partially offset by higher F-35 sales. The V-22 benefited last year from a catch up in deliveries while the lower F-18 sales reflect the slowing production rates. Sales were also lower in the military aftermarket as the C-5 refurbishment closes out.
On the commercial side, OEM sales were down across the legacy book at both Boeing and Airbus and also in our business jet product line. Higher A350 sales remained a bright spot as production continues to ramp up. Sales in the commercial aftermarket were off 6% as 787 initial provisioning slowed.
Aircraft Fiscal ‘16
We’re making some small adjustments to our sales forecast for the year. We’re moderating our military forecast by $10 million across a range of programs. We’re also moderating our commercial forecast by $10 million, reflecting the slow start to the year. On the other hand, we’re adding $20 million to our commercial OEM forecast as we incorporate the sales from our Additive Manufacturing acquisition under this segment. Net-net, no change to the total sales number for our Aircraft segment.
Margins in the quarter were 7.1%, down from 9.2% last year. The lower margin in the quarter is a combination of higher R&D expense and the anticipated unfavorable mix, including lower aftermarket sales in both military and commercial. R&D in the first quarter ran a couple of million dollars ahead of our plan and we anticipate that this spend rate will continue through the year. We’re therefore increasing our full year forecast for R&D by $5 million. The net impact is a reduction in our full year margin forecast to 9%. From the slow start in Q1, margins will improve as we move through the year due to stronger foreign military sales.
Space and Defense Q2
Sales in the quarter of $89 million were down 4% from last year. The weakness was all on the space side of the business as we had less work on various satellite programs than last year. Over the last 12 months, we’ve closed out several space contracts and therefore our business has been temporarily down as we awaited the follow on orders. These orders are now starting to materialize, and our satellite business is up from the first quarter. We’re anticipating it will continue to improve as we move through the second half of the year, so we believe the low point of the present cycle may be behind us. In the defense market, we had higher sales on military vehicles. In general, we’re seeing a recovery in our vehicle businesses both in the U.S. and Europe as spending increases from a low point a couple of years ago.
Space and Defense Fiscal ‘16
We’re maintaining our full-year sales forecast of $375 million. This forecast assumes a slightly stronger second half, with higher sales on satellites, military vehicles and in our naval product line.
Space and Defense Margins
Margins in the quarter were 15.0%, up from 5.3% last year. Second quarter margins last year included an accounting correction which depressed margins by 840 basis points. Even adjusting for this correction, margins this quarter were above last year on lower sales – a very strong performance.
Last quarter we forecasted full-year margins in this segment of 12%. This margin projection included over $2 million of restructuring which we anticipated would occur in the second half of the year. Based on our incoming order rate, we no longer believe this restructuring will be necessary and hence are increasing our forecast for full-year margins to 12.7%.
Our industrial business is driven by three very different end market dynamics. The simulation business is strong as investment in new airplanes and more extensive pilot training continues. Our industrial automation business is holding its own in a soft economy both in Europe and Asia, but there is little or no growth. Finally, our energy business is suffering as a result of the price of oil, and the volatility in our wind markets. Looking out a year or two, we anticipate our investment in new products for our wind business will drive a recovery in our energy sector.
Industrial Systems Q2
Sales in the quarter of $128 million were essentially flat with last year. Our simulation and test business was up nicely on strong sales to our major flight simulation customers. We also had higher sales for components used on gas and steam turbines. In our energy markets, we had lower wind sales in both Europe and Brazil, as well as lower sales into the oil and gas exploration markets. Industrial automation sales were slightly lower on reduced sales to steel mills.
Industrial Systems Fiscal 16
Our forecast for full-year sales is unchanged at $495 million.
Industrial Systems Margins
Margins in the quarter were 10.3%, which included $1 million of restructuring charges. For the full year, we’re maintaining our margin forecast at 9.2%.
Our Components Group is slowly coming out of the perfect storm that hit in Q1. There is still a lot or work to do, and it will probably be sometime in fiscal ’17 before the business is back to full health, but Q2 was a step in the right direction. Even though sales in Q2 were down relative to a year ago, they were up nicely over Q1.
Sales in the quarter of $94 million were 18% lower than last year. Comparing to the same quarter a year ago, sales were down in every market segment. It’s a similar picture to what we described in our call 90 days ago. In our A&D markets we continue to see lower sales in our aftermarket businesses and on helicopter programs. In our energy market sales are down almost 50% from last year while our industrial sales are lower on a general slowdown across a range of programs. Finally, our medical sales are lower as our customer for sleep apnea equipment moves to a lower-cost next generation product. On a positive note, sales in the second quarter were up nicely from our first quarter with improvements in every market we serve. As we move through the remainder of this year, we believe we will continue to see further improvement from the low point in the first quarter.
Components Fiscal ‘16
We’re keeping our full year forecast unchanged from 90 days ago at $365 million. Second half sales should be up from the first half driven by some specific aircraft and defense vehicle programs.
Margins in the quarter of 8.9% included $1 million of restructuring charges. These margins were significantly lower than last year, but up from the first quarter. We believe the first quarter was the low-point for this business and we’re slowly recovering as we resize the operations and see a gradual recovery in the sales. For the full year, we’re maintaining our margin forecast at 10.0%.
It was another good quarter for our medical devices business, continuing the trend of the last 2 years of organic growth and healthy margins.
Medical Devices Q2
Sales in the quarter of $24 million were down 5% from last year. However, in the second quarter last year we had almost $2 million in sales from our Life Sciences operations which we divested in March 2015. Excluding these Life Science sales, shipments of pumps and sets were about flat with last year. Through the first 6 months of the year, excluding sales from our Life Science operations, sales are up 11% organically over the same period last year.
Medical Devices Fiscal ‘16
We’re maintaining our full year forecast at $102 million. This forecast assumes a second half very similar to the first.
Medical Devices Margins
Margins in the quarter were 10.6%. Margins for the first 6 months of the year were 11.6%. For the full year, we’re maintaining margin forecast at 11.4%.
After a significant revision to our forecast 90 days ago, we’re pleased to report a quarter where we came in at the high end of our guidance and are maintaining our sales and EPS forecast for the full year. To reiterate, we’re forecasting full-year sales of $2.47 billion. 90 days ago, we forecasted $5 million of restructuring for the full year. We’re now forecasting $9 million of total restructuring, of which we took over $8 million in the second quarter. This higher restructuring expense is compensated by a lower tax rate and slightly lower share count. The net result is no change in our EPS forecast of $3.35 plus or minus 15 cents. At the half way mark, we have $1.56 in the bank. We anticipate the third and fourth quarters will be in the range of 85 to 95 cents. As usual, this forecast does not assume any impact from further share buyback activity.
Before I pass you to Don, I’d like to inform our listeners of a change we are making in our timing of providing forward looking guidance to the street. Traditionally, we’ve provided a first look at the next fiscal year when we reported our results at the end of our third quarter. This year, we’re changing that practice to align it with most of our peers and will provide our first look at fiscal ’17 at the end of our fourth quarter.
Now let me pass you to Don who will provide some color on our cash flow and balance sheet.
Thanks, John. Good morning.
Free cash flow in our second quarter was $64 million bringing our YTD free
cash flow to $51 million, or a cash conversion ratio of 89%. Net debt decreased by $52 million. For the full year 2016, we’re affirming our previous free cash flow forecast of $130 million, or a conversion ratio of 106%.
During the second quarter, we repurchased 526,000 shares under our share buyback program for about $22 million. We have 3.7 million shares remaining under the outstanding Board authorization. As we’ve previously described, if our leverage (defined by net debt divided by EBITDA) exceeds 2.5X, our bank covenants constrain our share repurchase activity to 30% of our prior year’s net earnings. We monitor our leverage weekly to insure our compliance. As of the end of the quarter, we had $17 million of our 2015 “carryover basket” remaining if our leverage exceeds 2.5X. We’ll continue to report our repurchasing activity at the end of each quarter.
Capital expenditures in the quarter were $15 million and depreciation and amortization totaled $25 million. CapEx spend for the first six months of 2016 was $28 million compared with D&A of $50 million. For all of 2016, we’re leaving our CapEx forecast at $80 million. In the second half of 2016, our projected CapEx spend will increase largely due to expected tooling and test equipment investments on some major commercial aerospace programs. D&A in 2016 will be about $103 million.
Cash contributions to our global retirement plans totaled $24 million in the quarter compared to last year’s $23 million. For all of 2016, we’re planning to make contributions into our global retirement plans totaling $95 million, unchanged from our forecast three months ago. Global retirement plan expense in the quarter was $16 million, up just slightly from a year ago. In 2016, our expense for retirement plans is projected to be $66 million compared with $61 million in 2015, up largely because of the effects of updated mortality assumptions.
Our effective tax rate in the second quarter was 23.9% compared with last year’s 22.5%. These relatively low tax rates in both years reflect the reversal of accruals for certain tax exposures outside of the U.S. whose statutes of limitations have now expired. This was a discreet item in the second quarter that won’t repeat in 2016. For all of 2016, we’re forecasting an effective tax rate of 27.6%, down slightly from our forecast 90 days ago and from 2015’s tax rate of 28.3%.
Our leverage ratio increased to 2.5X at the end of the quarter compared with 2.3X a year ago. Net debt as a percentage of total capitalization was 42% vs. 40% last year. At quarter-end, we had $324 million of available, unused borrowing capacity on our $1.1 billion revolver that terms out in 2019.
With that, I’d like to turn you back to John for any questions that you may have.
Note: The Q&A is not available