AAR Corp (AIR) 2015 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to AAR's FY15 first quarter earnings call. Before we begin, I'd like to remind you that comments made during the call may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. As noted in our news release and the Risk Factors Section of the of the Company's form 10-K for the fiscal year ended May 31, 2014. In providing forward-looking statements, the Company assumes no obligation to provide updates or reflect future circumstances or anticipated or unanticipated events. At this time, I would like to turn the call over to AAR's Chairman and Chief Executive Officer, David Storch.

Thank you, sir. And I'd like to welcome all participants and say, I hope you're having a nice day. Thank you for joining us for today's discussion of our FY15 first-quarter results. We're here in Wood Dale, Illinois. I'm joined by Tim Romenesko, our Chief Operating Officer, John Fortson, our Chief Financial Officer, and Mike Sharp, our Chief Accounting Officer.

Just to share some of the highlights from the quarter, as we indicated, sales were down in both of our segments. Sales in our aviation service segment were lower, primarily due to softness in our airlift operations and lower engineering activity in our airframe repair facilities. However, I would like to point out supply-chain sales to commercial and defense customers increased about approximately 20% during the period, and we had growth in both to the commercial markets and to the defense markets.

We continue to build on our industry-leading positions in this business. And as -- in addition, we had success extending our operations internationally with our new operations in Brussels.

In the technology products segment, lower sales in mobility products contributed to the sales decline. So consolidated sales, commercial and customers across the board increased by 2.4%, and now represents 65% of our total revenue.

Consolidated sales to the government defense customers decreased by 24% from the prior-year period, but what I'd like to share with you is kind of an overview of how we look at our government defense businesses. And we really think of it in three buckets. Bucket one would be fleet sustainment. This would be characterized by supply chain and maintenance activity. And in this piece of our defense business, we did see growth in the period.

New production, we benefited from the increased production of the A400M cargo systems. And lastly, our businesses tied to the operational tempo suffered declines. And principally, that group of defense businesses is made up of our mobility and airlift businesses. And they're tied to activity, principally in theaters such as Afghanistan and the Middle East.

In aviation services, sales in the first quarter were down 8% versus prior year. And despite the overall lower sales for the segment, our commercial and defense supply-chain operations performed well in the quarter. As mentioned, sales were up 20%, and we also saw an improvement in operating margins, and an improvement by 300 basis points. And as we've shared in prior communications, we have an enhanced focus on return on invested capital. And in this group of businesses, we saw 400% -- a 400 basis point improvement.

The business continues to gain momentum with our expanded partnerships, most recently with Eaton. And we also have kicked off some of the supply-chain programs supporting airlines that we discussed, as well as new government support programs. And as I indicated earlier, our Brussels facility allows us to expand our reach deeper into Europe, Middle East and Africa.

Airframe repair this quarter had a tough comparable period, due to the sale of an aircraft last year that ran through our maintenance facilities, as well as a slightly slower summer than we had seen in the past. Give you a sense, we had an average about 42 -- not about. We had an average of 42 aircraft in our hangars during the summer. And to give you a sense as to the trend, today, we have 55 aircraft in our facilities, and are expecting a nice rebound in Q2.

As mentioned in our release, we were awarded two new contracts with two major US carriers for narrow and wide body maintenance work to perform at our Lake Charles facility. So the Lake Charles facility, you may recall, a year ago we signed the leases. We commenced work roughly less than a year ago, and business has been operating at a deficit. And we expect, with some of the new wins here, that that business will start operating profitably here very soon. And if you liken it to our experience with Indianapolis, it took us a good year and a half in Indianapolis before we could start getting a decent return on that facility.

As for airlift, the business is down significantly from last year. Last year at this time, we had 40 operating positions. And you may recall, we had -- we were experiencing excellent operational performance.

This year, still experiencing excellent operating performance. However, we are down to 19 aircraft positions. We are working hard at transitioning the aircraft that came out of Afghanistan, and you may note that we've had some recent wins in Africa, both for rotary wing aircraft as well as fixed wing aircraft. Unfortunately, the implementation of these contracts were delayed due to protests by the incumbent. But those protests have since cleared in our favor, and the work begins on in November 1 for one of the contracts and December 1 for the other contract.

We're also bidding -- I think we have discussed in the past -- we're also bidding on a very large State Department contract for this business. And we'll have a sense as to whether we're successful or not in the January/February time frame.

As for technology products, here, sales were down 13%, driven predominantly by softer demand for mobility products. You may have caught recently that we formed a cargo group, which includes the acquired Telair and Nordisk businesses, with the AAR cargo business. That group has been performing quite well of late. However, in this period, we had a slight reduction in sales, due to Boeing's reduction of the 747-8 production line.

We do expect cargo systems to ramp as the year progresses, and Airbus starts delivery of the A-350s. We are the cargo system provider on that aircraft, and our content is worth approximately 400,000 per ship. Keep in mind, there is over 750 orders for that aircraft.

So if I may, at this stage, what I'd like to do is turn the call over to John to fill you in on some of the financial details.

Thanks, David. I trust that each of you have had a chance to read our Earnings Release. On this call, I'd like to review a few key points with regard to our performance.

Our consolidated gross profit margin in the first quarter was 16%, down from 16.5% in the prior-year period. This performance translated into a 16.3% margin for aviation services, and 15.3% for technology products. SG&A as a percentage of sales in the first quarter was 9.6%, slightly higher than the 9.3% in the prior-year period. SG&A expense, however, declined $2.8 million over the prior-year period, reflecting continued cost control efforts, but increased slightly as a percentage of sales.

Our operating margin for the quarter was 6.6%. Our margins were negatively impacted by the reduced contribution of airlift. During the fourth quarter, we generated $15 million of cash from operations, and our capital expenditures were $9 million. We paid out $0.075 per share in dividends this quarter, as well.

We continue to focus on balance sheet management. As you may have seen, we initiated the process to call $30 million of our 1.625% convertible notes due in February. We hope to conclude this exercise in the early part of October.

Net interest expense for the fourth quarter declined to $9.5 million from $10.8 million in the prior-year. Our net interest expense numbers continued to decline as we focus on paying down debt. Depreciation and amortization, including amortization of stock-based compensation, was $19.1 million during the fourth quarter -- first quarter. For the first quarter in this fiscal year, our effective tax rate was 32.7%, per our guidance in July. We expect this to be the rate for the remainder of the fiscal year. And we ended the quarter with 39.2 million shares in the diluted share count.

As noted in the earnings press release, we are also revising our earnings guidance. Our previous earnings guidance included assumptions on a number and mix of contracted airlift positions that have yet to materialize, due to the political uncertainty in Afghanistan. Therefore, we are lowering our earnings-per-share guidance from a range of $1.80 to $1.90 to a range of $1.65 to $1.75, and our sales guidance from a range of $2.1 billion to $2.15 billion, to a range of $2 billion to $2.05 billion.

Thank you for your attention, and I will now turn the call back over to David.

Thanks, John. Just in summary, we tried to capture it in the Earnings Release, as well as that, our supply chain businesses are performing very well. MRO had a tough Q1, but we expect recovery in Q2 through Q4. Matter of fact, we're looking for improvement on a year-over-year basis for those businesses.

One of the things I'd like to stress in supply-chain is, we do see strength, both from the commercial and defense side of that business. And in total, we see those businesses, as I've said, performing quite well.

Unfortunately, the drop-off in business in airlift has come at a faster clip than we had hoped for. I still have a high level of confidence in the team we have in place, and the opportunity pool that we're looking at for that business. But we're, at this stage, based on what we know, and you may recall in the past, we've announced the contract award that was referred to as an [8018]. Although the successful contract winter, we have yet to receive any task orders. And as we sit here today, we're not -- we have a high enough level of uncertainty that we've chosen to reduce our forecast for this type of activity.

So I think it's the prudent thing to do at this stage. We still feel very good about our businesses and our positions. We still maintain leadership positions in everything that we do. And we'll continue to stay very focused on taking market share, generating cash, and giving a good accounting for ourselves and a good return to our shareholders.

We also are looking -- continue looking at underperforming businesses. We still have a couple of those. And as I have committed at the last conference call, we will have action against those businesses before the fiscal year is out.

So with that, what I'd like to do is open up the call for any questions that you may have at this stage.

(Operator Instructions)

Larry Solow, CJS Securities.

Can you maybe just discuss, just a little bit, on airlift and then mobility? Those -- airlift is -- everything actually that you say is qualitatively in line. It sounds like commercial is humming along, as you expected, and improving. And I think the one question I have is, does airlift -- could it stay at these levels, or even go lower? Could that take a couple of years to play itself out? And then on mobility, has that's taken another little bit of a lay-down, or is it just bouncing on the bottom?

Yes, so airlift has probably taken a little bit further move down, not meaningfully as it has, say, last year over the prior year. But it continues to be challenged. As it relates to airlift, it's a little unpredictable at this stage, because we are responding to a fair amount of RFQ's. And I still remain relatively optimistic that we can have a nice, successful performance coming out of business. But keep in mind, Larry, last year this quarter, and last year, their performance was exceptional.

Absolutely.

And it's -- we would need more positions to go -- we'd have to get a tremendous increase in usage to approximate last year's performance. So I wouldn't -- we're not counting on last year's performance to be duplicated. But we do see we see, in -- we see next quarter, also, or the quarter that we are currently in, being a little tough. Because the Africa positions. We are going to -- we were hopeful -- we were awarded those in last fiscal year. We were hopeful that that work would have kicked in Q1.

It didn't, because of the protest. As I indicated, the protests have been cleared. But the work doesn't begin until November 1 on one of the contracts and December on the other contract. So as we sit here planning right now, we're thinking Q2 is the trough period, and then we get -- we start seeing an uptick in Q3 and Q4.

And my concern, actually, is, I realize that the near-term is, with all the [assist placed on], it's not easy to -- with delays as well. Just as you look out, two, three years, you mentioned the State Department contract, which I imagine is -- I don't know if you can help us on the size of that one. But are you bidding? Are there other -- I know there are other opportunities that you have discussed in the past, more globally. But are you attempting to get into other of those areas? Is Afghanistan even, best case, you'll still have several aircraft to [utilize]?

Yes, I -- so we see the Africa market expanding. So we see opportunities there. We see more opportunities around supporting the Navy, and we will be deploying some assets for additional Navy contracts here shortly. So yes, I think we see a nice pool of opportunities. Of course, we've had a fair amount of aircraft come back at us, so some that we didn't expect, and some that we did expect. But yes, I think the team is looking at quite a few opportunities.

The State Department opportunity is very sizable. And hopefully, we'll give a good accounting for ourselves in this bidding process. But of course, on that one, it's the winner takes all. You either win it or you don't. And if we win it, it's pretty, and if you don't win it, it's not.

Right, exactly. What's why I guess you got to try multiple shots on goal. I guess some of them hopefully reach the net.

That's exactly right. So we're out there, the guys are slugging way. Just to be clear, still a profitable business.

Right.

And still making a nice contribution, just not the levels it has in the past. And it's hard for us to make up for the dip across our businesses, although we did to some extent.

Right. And just one quick, if I may, just on the expanded Eaton deal. Is -- you said it should ramp within about a year, so it is actually seems pretty fast. Is this deal similar in size to the one you did on the defense side with them? Is it a similar type arrangement? And how is that ramping?

Yes, it's a smaller transaction; that's a different customer base. But it's a nice piece of business. It leverages our relationships there. And it will ramp here fairly quickly.

Got you. Great. Thanks.

Tyler Hojo, Sidoti & Company.

Just going back to airlift for a second, could you help us a little bit in terms of sizing that business today, in terms of revenues? And I'm also curious, I guess we've got 19 positions today. What is the expectation and -- for guidance? Is it that that 19 positions remains stable? Or does it go up or down from there?

So we're thinking that the low point is, this quarter, in the 19 range. We may come off a couple here in November, and then we replace with others elsewhere. So we have a few more coming back from Afghanistan, but then we have a few going out to Africa. But we are expecting, by Q3, to be at 23 aircraft.

23 aircraft. Okay, great. And then, just as this airlift relates to the overall business, I think historically speaking, Q1 has been your weakest quarter. But with this airlift dynamic, is Q2 expected to be down sequentially, in terms of earnings?

No, we are looking at the Q2 being relatively flat with Q1, is how we're seeing it.

Okay. Great. And maybe just transitioning over to MRO, certainly nice to hear about the progress at Lake Charles. Maybe, David, you could provide a little bit of commentary as to where utilization is with the wins? And where utilization needs to be, or needs to go to, in order to make some of those ROIC bogeys that you have set for yourself?

So as we're sitting here today, we're strong in Oklahoma, Duluth, Miami, and Indianapolis. We have a room for improvement at Lake Charles and in Hot Springs.

Okay. And in terms of timing on Lake Charles, did these wins kind of get you to where you want to be? Or do you need to win some more to fill it to a more steady-state level?

Yes. Tim, maybe you can answer that?

So Lake Charles is in good shape, in terms of our outlook and our commitments from our customers. What we're doing there is, some of the work that we're doing now is lighter hours, as we get our burn-in set. And then, as we go into the second half of the fiscal year, with additional aircraft that come on, with heavier manpower utilization, then we'll see that ramp up more significantly.

Okay. Great.

But in terms of actual iron in the facility, we're in good shape. It's just that the hours that we're working on them now are light compared to some of the other facilities.

Yes. That's great to hear. And actually just one follow-up, going back to airlift. How many aircraft are currently available for sale there? And I guess I'm just curious on your perspective, in regards to how those assets are being received in the marketplace. Are they desirable aircraft? Or are you getting pushed back?

So there are 15 aircraft that we have determined are for sale. Those aircraft are, for the most part, fairly niche-oriented aircraft. So it's the type of asset that, if you have the right asset when somebody needs it, it's very valuable. And we've had a series of discussions with prospective customers. We've got to do a better job on re-marketing.

The team has been very focused on repositioning aircraft into different theaters, but we're in the process of trying to onboard an individual to go ahead and have his exclusive responsibility the re-marketing of these aircraft. We don't have that person on board right now. Right now, we're handling it through our -- actually, through our purchasing department down there. We don't have an aircraft sales department. But as a result of the buildup of inventory, we will be focused on that.

All right. Great. That's all I had. Thanks a lot, gentlemen.

Julie Yates, Credit Suisse.

This is Krishna Vege filling in for Julie. Just wanted to ask, it seems free cash flow to net income conversion was light this quarter, compared to the last couple of 1Qs. Just was wondering, what are some of the puts and takes on this? And how does this compare with where you'd like it to be? Thanks.

Yes. So what you might note that we also -- we commented that we made investments in our supply-chain businesses. So we have a net increase of invested capital, even though our return on capital is up 400 basis points. We have a net increase in invested capital there of approximately $25 million. So yes, we're looking to fund -- invest, if you will, in the growth of those businesses. So there's a little pressure short-term here on cash, but I think we're investing it wisely.

Okay. Thank you.

J.B. Groh, D.A. Davidson.

I just want to follow up on Tyler's question. I didn't hear you really size that airlift business from the old segmentation to the new segmentation. Can you give us a little help there?

Yes, no, we've never really sized that business precisely. So I don't think it's in our public information. So I think the way that we've been sizing it is really around the number of positions. We may change it -- we may decide to do that differently, but for now at least, J.B., we're sizing it by the number of aircraft.

Okay. That's fair enough. And then just a question on, you've been asked a lot (multiple speakers) --

And J.B., just to be clear, that is for competitive purposes. We know we have a leadership position. And we're not looking to educate our competitors.

Yes, completely understand. Just on the new deal that you have won, and the small acquisition, how much of that is in the guidance? In terms of the new deals, when do they start to contribute on the MRO side?

We should start seeing contribution this quarter.

Okay. So that's baked into the guidance? The updated guidance? Okay.

Yes, that's correct.

Okay. Thank you.

Thank you.

(Operator Instructions)

Kevin Ciabattoni, KeyBanc Capital Markets.

Just one housekeeping on airlift. I think last quarter, you had mentioned 28 positions by the end of the year. Just wondering where that stands now? I know you mentioned 23 by the end of 3Q.

Yes. So Kevin, it's John. Look, there were a number of aircraft positions tied to some contracts that we thought we were going to get awarded. And we had a high level of confidence. But over the last, call it 30 to 45 days, the situation has deteriorated, and we no longer think that those contracts are going to materialize. Right? So ultimately, we're losing nine slots to that, but then we're picking up an incremental four. Right?

Okay.

Yes, just to clarify, we did win those contracts, and we just haven't received any task orders.

Right.

Okay. So assuming that the NATO 18 contract largely -- it seems like the power-sharing agreement has been signed there. Do you guys have any visibility into when you're thinking the security agreement might get signed? Maybe kick off some of those task orders?

Yes, unfortunately, we do not. You have as much visibility as we do at this point. We tried to gain some of that yesterday, in preparation for the release, but we were not successful. So we were hopeful that the love-in there would create some opportunities for us, but we haven't -- it hasn't trickled down to us yet.

Okay. That's helpful. And then shifting over to the commercial side, could you maybe walk us through the process you went through looking at building the new Rockford facility? And what we can expect there, in terms of CapEx contributions from you guys between now and when that --

So when we looked at the global market, and zeroed in on the US market, we see a need for a -- maintenance hangars there capable of managing these new generation aircraft, where the tails are a little bit higher and the wings are a little bit longer. And there aren't many facilities in North America capable of handling these aircraft. The state of Illinois was very helpful in allocating funds to build a state-of-the-art facility that would accommodate these new generation aircraft.

And we are able to -- they put together a very attractive package for us. And we have -- we'll probably start commence building in about six months. It will probably take 18 months from there. So by that stage, some of these aircraft, the 777-X and the 787, will be getting to the point where they'll be entering the maintenance cycle. And we should be in a good position to capture some of that work. And the facility will go a long way towards helping.

In addition to the maintenance facilities that they are building, they are also building a mechanics training facility next door. So we're hopeful that they'll be graduating somewhere between 100 and 150 mechanics a year that would be -- provide us with a wealth of trained folks to work on these aircraft.

Yes. I know that's been a headwind for you guys in the past, finding talent. So that's promising.

Right.

How about a little bit --

I get give the state of Illinois credit. Not really thought of as a business-friendly environment. In this case, I think they thought this through very intelligently, in terms of combining the training with the facilities, with selecting what they considered to be the best MRO provider in North America. And going ahead and pulling the trigger and putting the capital behind this idea.

Okay. Thanks. And then just turning to Europe quick. Maybe if you have any color you can give us on what kind of -- what type of opportunities you're seeing there via the Brussels operation? Sounds like it's going well. Just curious as to what -- maybe if you can give some more specifics?

Yes. So the -- we're touching customers that we haven't touched in the past. So clearly, we're, in addition to providing them the contracted services that they've already agreed to with the predecessor entity, we're seeing opportunities to provide other AAR products and services to these customers. So we're fairly optimistic that we can get a fair share of business from that market.

See some growth, take some of the activities deeper into the Middle East, where you're seeing growth, particularly in new generation aircraft without the infrastructure, let's say. And then, the African market, we're looking on that fairly positively as well. So we have a fair level of dialogue in all three markets, and are relatively encouraged by -- with near-term, mid-term and longer-term opportunities.

Great. Thank you. I'll jump back in queue.

We have no further questions at this time. I'd like to turn the call over to Management for any closing remarks.

Thank you for your participation today. And I wish everybody a good day, and look forward to chatting with everybody in December when we release second-quarter results. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may now disconnect. Have a wonderful day.