First Quarter Conference Call, Fiscal Year 2022
(INTRODUCTION FOR CONFERENCE CALL)
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 January 28, 2022, our most recent Form 8K filed on January 28, 2022, 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 webcast page at www.moog.com.
Good morning. Thanks for joining us. This morning we’ll report on the first quarter of fiscal ‘22 and provide color on what we are thinking for the remainder of the year.
Let me start with the key financials. Earnings per share of $1.44 included a $0.33 net gain from our portfolio shaping activities. Adjusted earnings per share of $1.11 were in line with our guidance from last quarter. Omicron made this quarter more challenging than we had projected 90 days ago. It further exasperated the difficulties associated with labor availability, supply chain constraints and inflationary pressures. Despite these additional headwinds, we achieved our plan. Adjusted free cash flow in the quarter, excluding the impact of our new securitization facility, was $31 million, a conversion ratio of 86% on adjusted net earnings. There is no change to our guidance for the full year. Full year sales will be $3 billion with adjusted earnings per share of $5.50, plus or minus $0.20.
Now let me move to the headlines.
There were several exciting product announcements since we last reported including a major production win, a strategic collaboration and a technology demonstrator.
1) First, we reached final agreement on the full order of our RIwP® turret for the SHORAD program. Over the last year, we have been working on the initial order for 30 units, including non-recurring development. The full order for 124 units, including NRE and options, totals almost $250 million in sales and is our largest defense booking ever, outside our aircraft business. SHORAD is just the first major win for our reconfigurable turret and we anticipate further wins in the future.
2) Second, in early January we formally launched our Moog construction initiative, with the announcement at the CES show in Las Vegas of a strategic collaboration with Doosan Bobcat. Moog will supply all the controls and actuation on the world’s first all-electric track loader, the T7X. Our controls platform opens the future opportunity to augment the operators’ capabilities through automation and eventually fully autonomous operation. Bobcat’s launch customer is Sunbelt Rentals who wants to build a fleet of all-electric vehicles. We look forward to getting the first units into the field over the next 6 months. Converting professional equipment from diesel and hydraulics to electrics is a significant challenge – the type of challenge our company has solved in other industries in the past. The electric construction vehicle market is in its infancy and autonomous vehicle operation is still experimental. However, the longer-term market potential for Moog is enormous.
3) Third, Moog hardware played a critical role in the DARPA Gremlins program this quarter. In early October, the military ran a successful test to recover an unmanned air vehicle into a conventional airplane. Moog provided flight controls technology for both the air vehicle and the recovery system – demonstrating again our capability to solve our customers’ most challenging technical problems.
These programs demonstrate our commitment to organic investments that fuel long-term growth. Over the last few years, we have continued to look for strategic acquisitions but have struggled to justify the price levels that others are paying. We have therefore decided to double down on internal investments that will create significant long-term value. These investments come in 2 categories:
· First, investments in new markets, products and technologies to drive the top line. We have already described some of our growth investments, including our RIwP turret which is now in full production, our space vehicles which are starting to ramp production, and our construction equipment initiative which is in the pre-production phase.
· Second, investments in infrastructure, facilities, advanced manufacturing systems and portfolio shaping to build a platform for longer-term growth at higher margins.
Note that our forecast for FY22 includes these investments.
Now let me move to the details starting with the first quarter results.
Q1 Fiscal ‘22
Sales in the quarter of $724 million were 6% higher than last year. Sales were up in each of our 3 operating groups, with particular strength in the commercial aircraft and space markets. Taking a look at the P&L, our gross margin was down on operational inefficiencies attributable to the pandemic. R&D is in line with last year. Selling and admin expenses are up on increased customer interactions, but in line with our plan for the year. Interest was slightly lower on lower debt levels. This quarter includes the benefit from the sale of our NAVAIDS business. The effective tax rate this quarter was 24.7% resulting in net income of $46 million and earnings per share of $1.44. Excluding the impact of our portfolio actions in the quarter, adjusted net income was $36 million and adjusted earnings per share were $1.11.
Fiscal ’22 Outlook
Our first quarter was in line with our guidance from 90 days ago. We anticipated a slow start to the year with increasing sales and earnings as we move through the quarters. Our outlook remains unchanged and therefore we are affirming our full year guidance of $3 billion in sales, up 6% from last year, and adjusted earnings per share of $5.50 plus or minus $0.20.
Now to the segments. I’d remind our listeners that we’ve provided a 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.
Aircraft
The underlying market dynamics in our Aircraft business were somewhat mixed this quarter. Global political tensions with Russia and China continue to mount and there is strong support for defense spending across both sides of the aisle. On the other hand, the continuing resolution and a slower level of activity in the military aftermarket are causes for caution. The recovery in the commercial aircraft market was partially interrupted this quarter by the Omicron variant, but should resume as the virus wanes. China flew the 737 max which hopefully means a return to full service sometime in the near future. Less positive is the fact that the 787 continues to have challenges and deliveries to airlines are not forecasted to resume for several more months.
Aircraft Q1
Sales in the quarter of $303 million were 6% higher than last year. This quarter, the commercial sales were way up with military sales down from a year ago. We saw strong growth in both the commercial OEM and commercial aftermarket portfolios. On the OEM side, we experienced higher sales across most of our portfolio of programs. We had particular strength on the A350 and in business Jets. The 787 was also up from a year ago. We had $3 million of additional sales from our Genesys acquisition which we completed in the last month of Q1 last year. Growth in the commercial aftermarket was driven primarily by the 787, with more modest sales increases on the A350 and in our business jets portfolio.
On the military side, we saw decreases in both the OEM book and in the aftermarket. OEM sales on the F-35 were down over 20% as a result of supply chain challenges. In addition, we saw sharply lower sales on some foreign military programs. Partially compensating for these reductions were increases in our helicopter product line, higher funded development and additional sales from Genesys. In the military aftermarket we saw decreases across much of the portfolio with the exception of the V-22.
As part of our wider portfolio shaping program, we completed the divestiture of our NAVAIDS business in the first quarter. We received $39 million in cash and booked a gain of $16 million on the sale. This gain contributed over 500 basis points of operating margin to the aircraft business in the quarter. Sales of our NAVAIDS business in fiscal ’21 were $25 million.
Aircraft Margins
Excluding the gain from the sale of our NAVAIDS business, adjusted margins in the quarter were 8.5%. These margins were ahead of our average for fiscal ’21. However, they were down from the same quarter a year ago. Last year we had a particularly positive mix in the first quarter as a result of unusually strong sales on some foreign military programs.
Aircraft fiscal 22
We are keeping our full year sales forecast unchanged from 90 days ago at $1.25 billion, up 7% from fiscal ’21. We are also keeping the mix between military and commercial unchanged. Our full year forecast assumes some acceleration on the military side from the run rate of the first quarter. Easing supply chain bottlenecks on the F-35 and a modest pick-up in the military aftermarket will drive the growth. On the commercial side, we are already slightly ahead of our projected run rate coming out of the first quarter. We had some favorable timing of material receipts in Q1 which drove the beat. We anticipate this will level out over the coming 3 quarters.
As we go through the remainder of the year we anticipate margins will strengthen to yield full year adjusted margins of 10.1%, unchanged from our forecast of 90 days ago.
Space & Defense
Underlying demand for our legacy components across both the space and defense markets remains strong. Global investment in space, both commercial and military, continues to create opportunities for growth in our business. In particular, our growth is being fueled by our newer, more integrated product offerings in both markets – the vehicles for space and the reconfigurable turret in defense.
Space & Defense Q1
Sales in the quarter of $208 million were 10% higher than last year. This quarter we enjoyed nice growth in both the space and the defense portfolios. On the space side, sales were up over 10% on continued growth in our space vehicles product line. Sales in this product line more than doubled to over $20 million in the first quarter this year. Increases in our avionics and legacy valves business made up for lower sales on hypersonic development programs. Several of our hypersonic development programs are winding down and we now have to wait to see which move to the next stage of early production.
On the defense side the growth was driven by our RIwP turret on the SHORAD program. As I mentioned in my opening, this quarter we agreed the remaining stages of our contract with DRS and celebrated a total program value over several years of almost $250 million. We saw some slowdown in our tactical missiles business this quarter but this was compensated by higher component sales.
Over the last few years, in both the space and the defense markets, we have followed a strategy of combining our components into more integrated solutions to address the needs of the end customer – primarily the defense department. We call this strategy Agile Prime. Our major growth drivers this year – space vehicles and our turret offering – are examples of the success of this strategy. Going forward, we will continue to offer world-class components as a sub-tier supplier to all the major primes. In parallel, we will look to partner with the primes to offer more cost effective and flexible solutions that address some of the challenges of their customers.
Similar to our aircraft business, our portfolio shaping continued in Space & Defense this quarter. We took a $2 million charge associated with exiting a product line in our security business.
Space & Defense Margins
Adjusting for the portfolio shaping charge, underlying margins in the quarter were 11.0%. These margins were down from a few years ago for a combination of reasons. First, as in all our businesses, COVID is putting operational pressure on our facilities, both in terms of labor efficiencies as well as supply chain disruption. Second, our new growth vectors of turrets and space vehicles are in the early stages of production and are at lower margins that our more mature businesses. We expect the margins on these new businesses to improve over the coming years.
Space & Defense fiscal ‘22
There is no change to our forecasted sales for the year. Full year space sales will be $350 million – in line with the run rate of the first quarter. Full year defense sales will be $530 million, an acceleration from the first quarter as the SHORAD program continues to grow.
For the full year, we are keeping our adjusted margin forecast unchanged at 11.5%.
Industrial Systems
The major global economies are showing real strength, despite the on-going pandemic. We see this strength reflected in our industrial bookings. Across every market, from cars to materials to electronics, demand is buoyant, while the supply chain is struggling to keep up. Capital spending is up, driving strong demand for our automation components. With oil prices firming, and flight training on the increase, we’re feeling positive about the remainder of our fiscal year. It’s too early to tell if the present high level of demand is transitory, as a result of constrained supply chains, or whether is it sustainable longer-term.
Industrial Systems Q1
Sales in the quarter of $213 million were marginally higher than last year. Sales were up in 3 of our submarkets, energy, industrial automation and simulation & test. Sales into medical applications were down from a year ago. Energy sales were up across much of the portfolio as oil prices continue to edge upwards. Industrial automation sales were up reflecting the increasing confidence in the global recovery. Sales into simulation & test applications were up as we delivered on some large test projects in China. Sales of flight simulation systems remained muted again this quarter, down from a year ago. On a more positive note, we are starting to see stronger demand for flight simulation systems as the airline market recovers. Finally, sales into medical applications were down in the quarter as the underlying business continues to settle after the COVID surge.
Industrial Systems Margins
Margins in the quarter of 8.1% were down from a year ago, but in-line with expectations. This quarter, we incurred moving expenses and production disruption as we continued to refine our footprint and consolidate facilities in both Europe and the U.S. We also increased our investments in future growth vectors – in particular our electric construction vehicle initiative. We are confident that these investments will pay off on both the top line and the bottom line over the coming years. In the shorter term, our strong backlog gives us confidence that the remainder of this fiscal year will see a pickup in both sales and margins.
Industrial Systems fiscal 22
There is no change to our sales forecast from last quarter. For the full year we anticipate sales of $910 million, with an acceleration as we move through the quarters. The risk to meeting this plan will not be on the demand side, we already have the backlog. Our primary concern remains the supply chain’s ability to meet this increased level of activity.
We’re forecasting full year margins of 9.5%.
Summary Guidance
Overall it was a solid quarter, in line with our guidance, despite the unexpected arrival of the Omicron variant. Business sentiment remains very positive across all our markets, while supply challenges are tempering our growth on both the top and bottom lines. It was an exciting quarter for product announcements with the SHORAD production program, the Bobcat strategic collaboration and the Gremlins technology demonstrator. We continued to generate healthy free cash flow and returned some of that cash to our investors through our dividend and share buyback programs.
Growth on both the top and bottom lines remains our focus. Our search for strategic acquisitions is on-going but the last few years have taught us to be wary of over-paying. In addition, our portfolio review has shown that internal investments have often created more long-term value than some of our acquisitions. As a result, we are accelerating the pace of internal investment this year, both in terms of capex as well investments in new market opportunities.
We’re very excited about the long-term opportunities for our business. Climate change is opening opportunities for us in construction vehicles and demographic shifts are creating the need for additional automation. The availability of ever lower cost sensors and advanced computing platforms is enabling transformational change. At our core we are an engineering and technology company. Our greatest strength is working with our customers to solve their most difficult technical challenges. We have both the components technology and systems integration capability to make things work. Our collaboration with Bobcat came from demonstrating this capability – within 6 months of our first conversation we had a fully operational vehicle.
For the second quarter, we anticipate earnings per share of $1.30, plus or minus $0.15. Our range is relatively wide as we remain unsure about the evolution of the virus and the potential impact of vaccine mandates and further supply chain issues on our business. However, these are transitory issues and they will resolve over the coming quarters. Our underlying business remains strong and we are very optimistic about the long term.
Now let me pass you to Jennifer who will provide more color on our cash flow and balance sheet.
Thank you, John. Good morning, everyone.
Inflation and interest rates are getting a lot attention these days. We’re feeling the effects of inflation now. We’re seeing the economic growth that comes with inflation. It’s also impacting the cost of labor and purchased materials. With the Fed likely to hike interest rates soon, we may see the tapering effects of inflation. We can expect higher interest costs, but since we’re not highly levered, we are well positioned to take advantage of acquisition opportunities should prices moderate. Workforce mobility and labor shortages are also affecting us, both directly and through the supply chain. It’s an interesting backdrop for everyone these days.
Moving to Moog-specific activity, we just announced a 4% increase in our dividend to $0.26 per share for our upcoming quarterly dividend payment. This quarter we also amended our securitization facility. This facility provides us with lower interest costs compared to those we would incur with borrowings under our revolving credit facility. We essentially sell receivables of up to $100 million on the amended securitization facility such that those receivables are derecognized from our balance sheet. This new structure reduces our working capital and debt levels. To provide a comparable look at our cash generation and financial position with previous periods, I’ll first share free cash flow, net working capital metrics and debt balances without the benefit of the new securitization facility. I’ll also include the metrics as calculated off our financial statements near the end of my comments for your reference.
Free cash flow continues to be a good story. We averaged 100% free cash flow conversion since the beginning of last year. In our first quarter this year, free cash flow was $31 million, or 86% conversion on adjusted net earnings. Customer advances were particularly strong, driven by large advances on military programs. In addition, we continued to see inventories as a source of cash.
The $31 million of free cash flow in Q1 compares with a $44 million decrease in our net debt. During the first quarter, we received $39 million of proceeds from the sale of the navigation aids business. Partially offsetting these proceeds were $13 million of share repurchases and $8 million for the quarterly dividend payment.
Net working capital (excluding cash and debt) also showed a nice improvement this quarter. As a percentage of sales, net working capital was 27.6% at the end of the first quarter, down from 29.1% a quarter ago. Cash advances from defense customers were very strong and drove this improvement. Partially offsetting this was a growth in receivables.
Capital expenditures in the first quarter were $37 million, in line with our spend over the past couple of quarters. We’re recapitalizing for next generation manufacturing capabilities that will provide us with a strong platform for growth. We’re also consolidating some of our operations into new facilities. We’re in a solid financial position to be comfortably making these investments.
At quarter end, our net debt was $759 million, including $107 million of cash. The major components of our debt were $500 million of senior notes and $272 million of borrowings on our U.S. revolving credit facilities, as well as $90 million associated with the securitization facility that does not show up on our balance sheet.
We have $797 million of unused borrowing capacity on our U.S. revolving credit facility. Our ability to draw on the unused balance is limited by our leverage covenant, which is a maximum of 4.0x on a net debt basis. Based on our leverage, we could have incurred an additional $635 million of net debt as of the end of our first quarter. We are confident that our existing facilities provide us with the flexibility to invest in our future.
We’re in good shape from a leverage perspective. Our leverage ratio was 2.2x on a net debt basis as of the end of the first quarter, compared to 2.6x a year ago. Strong cash generation drove this improvement. Our target zone is between 2.25x and 2.75x, so we’re just below that. We’re comfortable with our leverage falling below that range for a few quarters or even a year. We have the full spectrum of options available to us for capital deployment. Currently, we’re very focused on internal investments that will serve to provide growth opportunities as well as efficiency gains. We continue to explore acquisition targets while remaining disciplined on pricing that’s still generally quite high. In addition, we may return capital to shareholders by buying back shares. We also have our dividend policy in place.
Shifting to global retirement plans, cash contributions totaled $16 million in the quarter, compared to $13 million in the first quarter of 2021. Contributions have increased for our defined contribution plans as participation grows in our US plan. Global retirement plan expense in the first quarter was $21 million, up from $18 million the first quarter of 2021, also driven by our defined contribution plans.
Our effective tax rate was 24.7% in the first quarter, compared to 24.9% in the same period a year ago. Adjusting for divestiture activities, our effective tax rate was 24.0% in the first quarter. The lower effective tax rate this quarter was largely the result of a more favorable earnings mix.
We expect free cash flow conversion in 2022 to be about 45% on adjusted net earnings. Customer advances and inventories will be sources of cash, while receivables and payables will be uses of cash. We expect $160 million of capital expenditures in 2022, with a slight uptick in spend from our first quarter spending level. Capital expenditures reflects investments in facilities and infrastructure to support future growth and operational improvements in the business. Depreciation and amortization are expected to be $97 million. While free cash flow moderates this year, we’re also generating cash through our portfolio reshaping activities, such as cash generated from the sale of the navaids business this past quarter.
Before I wrap up, I’d like to share some of the metrics and amounts you’ll be able to calculate from our financial statements. These reflect US GAAP accounting for the securitization facility. Free cash flow in the quarter was $120 million, and is projected to be $179 million for the year, which is about 100% conversion on adjusted net earnings. Net working capital was 24.5% of sales at the end of the quarter, and net debt was $669 million.
In summary, our financial position is strong. We’re generating cash to fund investments that will provide for our long-term sales growth and margin objectives. We remain optimistic in our future.
With that, we’ll turn it back to John for any questions you may have.
John……