Ducommun Inc (DCO) 2009 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Q4 2009 Ducommun earnings conference call. My name is Sally and I will be your operator for today. (Operator Instructions). I would now like to turn the conference over to your host for today, Mr. Chris Witty. Please proceed.

Thank you and welcome to Ducommun's fourth quarter conference call. With me today is Tony Reardon, President and CEO, and Joe Bellino, Vice President and CFO.

I would now like to provide a brief safe harbor statement. This conference call may include forward-looking statements that represent the company's expectations and beliefs concerning future events that involve risks and uncertainties and may cause the company's actual performance to be materially different from the performance indicated or implied by such statements. All statements other than the statements of historical fact included in this conference call are forward-looking statements.

Although the company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations will prove to have been correct. Important factors that could cause actual results to differ materially from the company's expectations are disclosed in this conference call and in the company's annual report and form 10-K for the fiscal year ended December 31, 2009.

All subsequent written and oral forward-looking statements attributable to the company or persons acting on its behalf are expressly qualified in their entirety by the cautionary statements. Unless otherwise required by law, the company undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise after the date of this conference call.

I'd now like to turn the call over to Ducommun's President and CEO, Tony Reardon for a review of the operating results. Tony.

Thank you, Chris. Thank you, everyone, for joining us today. I'd like to give you a brief overview, after which I'll turn the call over to Joe Bellino for the financial review.

Let me start out by saying that 2009 certainly was a year with its fair share of challenges. Ducommun, along with the rest of the aerospace and defense industry, faced a number of headwinds with regard to our end markets. The company reacted by increasing our focus on both cost controls and new business development.

We've talked a lot about our benefits of lean manufacturing in the past, but it's clearly worked to our advantage this year as we've been able to generate solid cash flow and stabilize margins even as our top line revenue was impacted by near-term economic conditions.

Ducommun AeroStructures had some major challenges this year with maintaining our margin performance, but at the same time we cannot lose sight of the new program development efforts undertaken by this business. These new business development efforts included the RUAG Bombardier fuselage assembly production program, the engineering and design and development of wing mobiles for the Embraer new 450 and 550 series aircraft and the co-development of the exhaust system with Pratt & Whitney on the UCAS program.

Another solid example of our continuous improvement efforts lies within our Technologies unit, DTI, where operating margins rose to 9.4% from 5.9% year over year on a 6% decline in revenue. We believe Ducommun is well positioned as our market begins to rebound.

I'd like to review a few trends that we see impacting Ducommun and the market as a whole going forward. We expect our fixed wing and rotary wing businesses to remain strong in 2010. While the Apache production has come down to more normalized pre-war levels we see continued strong demand for the Blackhawk and the Chinook helicopter programs. This is a reflection of the Afghan war, which is more suited to their mission profiles.

In addition, I have said before, the C-17 remains funded into the mid 2011. As we look forward on the C-17, we see additional demand driven by higher foreign sales and lower U.S. sales which have the potential to fund a lower production rate for the program into 2012 and 2013. The F/A-18 also continues to be a strong program for Ducommun and we see further room for additional growth.

On the commercial side, we are cautiously optimistic about the consistent demand for large fixed wing aircraft. Commercial air traffic is expected to grow somewhere between 2% and 4% depending on the model you use. But both Boeing and Airbus have strong backlogs. We expect the major programs such as the Boeing 737 and the A320 to continue their current projected production rates into the end of 2010. However, with only 400 aircraft ordered worldwide in 2009, the airline recovery is important to the future build rates. We'll monitor these trends as the year progresses.

We've witnessed the airlines reducing their cash expenditures, particularly in the purchase of inventory for spares which impacted some of our DTI order base and our backlog in 2009. As they continue to deplete their spares inventory, we expect that there will be a need to replenish supply during the second half of 2010. This should lead to a potential uptick in our spares business, which typically represents approximately 5% to 7% of our revenue but has been running on lower than normal levels.

We're cautiously optimistic about the recovery of the regional jet market, but not until later this year and possibly running into 2011. We do expect the overall general aviation market to recover in 2010 but with some pickup --- or excuse me. We do not expect it to recover in 2010, but with some pickup later in the years on companies such as Gulfstream. These markets have historically represented about 10% to 15% of our business and we're keeping an eye on the end user demand.

As the global economy continues to recover, we believe demand will further stabilize and likely see improvement as we head into the next year. Joe Bellino is going to give you the financial overview, but let me briefly talk about the fourth quarter and the year.

We were extremely disappointed in the goodwill impairment charge we took in the fourth quarter. The pre-tax non-cash charge was taken in the amount of $12.9 million, which equates to $0.74 per diluted share after tax. This charge was taken in recognition of the changing defense market demands on our Ducommun Miltec business. We took the impairment charge as a result of our reassessment of the unit's multiyear sales and cash flow forecast, given recent government trends in the RDT&E budgeting, lower plus-up and earmark spending, and trends towards government insourcing.

We do have a solid strategy to keep the business in this challenging market and to grow this business. We're optimistic that the unit focuses on new customer initiatives will be able to navigate the coming quarters and improve Miltec's margins and long-term potential.

For the fourth quarter, excluding the goodwill impairment charge, Ducommun grew net income to $4.6 million or $0.44 per diluted share from $3.8 million or $0.36 per diluted share a year ago. For the quarter, our cash flow from operations was nearly $40 million, and the yearly number was $31 million, reflecting sound working capital management.

Even given the tough operating environment and the number of one-time events that impacted operating income in the quarter and in the year, Ducommun achieved solid operating margins while generating consistent cash flow. Now I'd like to turn the phone call over to Joe Bellino for the financial review. Joe?

Thank you, Tony. And good morning, everyone. Our fourth quarter results, as Tony just discussed, were reported results before goodwill impairment charge during the quarter, posting net income of $0.44 per diluted share versus $0.36 per diluted share a year ago before a goodwill impairment charge in 2008.

Typically, our business is seasonal, with the fourth quarter having a reduced number of operating days due to the holidays, and this causes unabsorbed overhead allocations impacting our operating margins. That typical scenario did certainly occur in our fourth quarter here in 2009.

I'd like to give you some more color on the quarter in terms of talking first about sales. Our overall sales for the quarter of $106 million were 4% year over year increased. We experienced a significant increase in sales within our Ducommun AeroStructures segment, DAS, where revenues rose 17% year over year, due largely to a nearly $9 million in sales from the late 2008 acquisition of DAS-New York and from increases in both commercial and military fixed wing products. Somewhat offsetting this growth was softer sales in business and regional jets and general aviation commercial products along with lower deliveries for the Apache helicopter program.

In the Technologies segment, DTI, we experienced a 15% decline in sales, a portion of which reflected our conscious efforts to exit certain unprofitable lines later in 2008, which carried over into 2009, and lower regional jet and aftermarket product sales. The remaining decline was primarily attributable to lower service revenues from the Miltec unit that Tony commented upon as a result of the reduced government funding in certain military markets.

As you see on our P&L statement, our service revenues were $11 million in the quarter, versus about $16 million a year ago. You'll see that we started to feel the impact of that in the fourth quarter and we expect that kind of run rate to carry over into a good part of 2010.

If we look at operating income by business segment. Ducommun's operating income for the quarter, if we exclude the goodwill charges, it rose to $7.2 million or 6.8% of revenues from $3.9 million or 3.9% of revenues a year ago. Last year's operating income also excludes a goodwill impairment charge.

In Ducommun AeroStructures' operating business segment, its operating income improved to $7.7 million or 11% of revenues compared to $5.4 million or 9% of revenues a year ago. This is a result of higher sales and continued productivity gains from our lean manufacturing efforts, which more than offset the impact from the decline in Apache helicopter blade sales and lower demands from business and regional jets and general aviation products.

Ducommun Technology, DTI's operating income, despite lower sales that I commented upon earlier, and excluding the aforementioned impairment charge, the operating income increased to $4.2 million versus $2.9 million a year ago as a result of improved product mix. We were pleased that the operating margins were 11.7% of sales, up nearly 500 basis points from the 6.9% posted in the fourth quarter of 2008.

Selling, general and administrative expenses for the quarter. As we look at SG&A it's a combination of business segment SG&A, which is part of the operating income as reported, and unallocated corporate expenses. These overall SG&A expenses decreased significantly this quarter and it primarily reflects the corporate-wide cost controls that we have had in place since the first part of 2009, along with reduction in environmental reserves that had been established in previous years. Somewhat offsetting these reductions were additional expenses we incurred with the DAS-New York acquisition, primarily related to amortization of intangibles.

I'd like to comment a little further on the goodwill impairment charges that Tony discussed previously that involves our recording in the fourth quarter $12.9 million non-cash goodwill impairment charge, which equates to $0.74 per diluted share. The effective tax rate for this charge was approximately 39%. You might recall in the fourth quarter of 2008, we recorded a pre-tax non-cash goodwill impairment charge of $13.1 million, which equated to about $0.76 per diluted share. Again, the effective tax rate was approximately 39%.

As Tony noted, the 2009 impairment charge was related to external market factors and decreases in government funding related to the Miltec operation. This contrasts significantly from the 2008 impairment charge, which was driven by the weakness in the overall equity markets. Having recorded these charges, going forward we are very confident in Miltec's future opportunities.

If we turn to the full year 2009 results, our net income excluding goodwill was $18 million, or $1.71 per fully diluted share in fiscal 2009. This compares to $21.1 million, or $1.99 per share, again excluding the goodwill charge.

Our full year sales in 2009 increased 7% to $431 million from $404 million last year. The 2009 increase in revenue largely reflects sales tied to our acquisition of DAS-New York. Ducommun AeroStructures' sales increased to $286 million from $250 million, and DTI sales were down about 6% overall, reflecting shortfalls in the regional jet and aftermarket sales and the elimination of the unprofitable lines this year compared to a year ago.

Looking at full year operating income by business segment, Ducommun's operating income excluding the goodwill impairment charge was $29 million in 2009, compared to $31 million a year ago. Full year 2009 results also include the impact of a $5.8 million expenses related to the Eclipse reserve, inventory valuations and sales tax reserves that we've commented upon in the press release as well as the 10-K.

DAS's operating income was $29 million compared to $35 million a year ago. On a pro-forma basis if we back out those inventory adjustments I just mentioned, the 2009 DAS operating income as a percentage of sales would have been nearly 12%. That does compare to nearly 14% of revenues in 2008. The reduction in Apache helicopter deliveries, business and regional jets and higher levels of unabsorbed operating costs were the primary factors impacting the decline in this adjusted DAS segment operating profitability.

DTI's realized higher operating income in 2009 excluding the goodwill impairment charge resulted in operating income rising to $13.5 million or 9.3% of revenues from $9 million or 5.9% of revenues. This, again, as the quarter was --- as depicted earlier, was a result of improved product mix, elimination of unprofitable lines and improved operations. We are pleased to see the sustainability of higher operating margins in the DTI segment, reflecting a successful execution of our strategies in 2009.

Overall selling, general and administrative expenses, as I defined it earlier, those for the full year were slightly lower year over year as a result of the aforementioned cost controls, reduction in the environmental reserves; and these were partially offset by the year over year higher amortization expenses related to our acquisition. As a key measure that we monitor closely, SG&A as a percentage of sales was 11.5%, down 100 basis points from the 2008 numbers.

Turning to our backlog and our business mix, in the current economic environment, we have seen our business mix continue to shift to a greater increase in military sales; and, for the year, our business was comprised of 62% military, 36% commercial and 2% space.

At year end 2009, our backlog stood at $367 million. We have had no major program losses, some delays, but have experienced delays in follow-on orders for a number of programs, including the F-18, Apache, Blackhawk, 737 and regional jets. We expect that follow-on orders and new program wins that Tony spoke about will favorably impact our backlog levels going forward.

Finally, in terms of liquidity and capital resources, we generated strong positive cash flow from operations. And for the full year cash from operations was $31 million, which is about equal to our five year average of $30 million per year since 2005. We finished the year with very effective working capital management, which, along with our normalized earnings, was a large contributor to our strong cash generation. We are managing our working capital levels very aggressively in these softer markets.

Along with the new credit facility that we put in place last June of 2009, we continue to maintain a low leverage position. At year end, our net debt to capital ratio was just 4%. We feel that given the current economic environment and uncertainty in the credit markets, this is an excellent position for us to be in.

We expect CapEx for fiscal 2010 to be in the $11 million range; that compares to slightly less than $8 million for 2009. And most of that increase in investment is into new business development programs.

Before turning the call back over to Tony, I would just like to comment that as we enter 2010, we believe our strong financial position and credit profile will allow us to take advantage of several market opportunities, positioning the company for future growth and improved operating performance. Now I'd like to ask Tony Reardon to make some additional remarks. Tony.

Thank you, Joe. Before turning the call over to questions, let me just summarize a few things. We see 2010 as one of correction, with overall market improvement coming in the second half of the year.

Most importantly, as we continue to generate strong cash flow and expand our margins, we are positioning the company for even stronger performance in 2011, which should benefit from some late improvement in the regional jet market, growth in aftermarket demand, and the success of such programs as the 787. We are very optimistic about the outlook of the Boeing 787, believing that another redesign looks less likely and the timing of deliveries is becoming more certain. If the FAA gives certification in September as anticipated, this program should be a solid contributor to our growth going into 2011.

Thus while we are currently facing some headwinds with the Apache and the C-17 in particular, we believe our aggressive efforts to cut costs, improve productivity and win new contract awards will result in solid growth as the global economy moves forward. Sally, I think now we could turn it over for some questions, please.

(Operator Instructions). Your first question comes from the line of Troy Lahr with Stifel Nicolaus. Please proceed.

Thanks. I am wondering if you could just elaborate a little more on the margins at Technologies. How much of this is sustainable and maybe could you give us a little understanding of this mix shift? Is this just some near-term mix shift issues or does this go back to you consciously trying to move away from some of those lower margin programs?

Troy, this is Tony. I think a couple of issues, first of all, the margins are sustainable. And some of the mix issues are subject to the changes that we made with regards to exiting some of the lower margin business. But in addition, we've got some new business growth there. We also have some new development going on there that we see from a spares standpoint should put us in a position to be more competitive in that marketplace.

So we've seen a little bit of that in 2009. We anticipate that there will be some more growth on that side of the business in 2010. So as we look forward, we think that from a margin standpoint, you know, we believe we can sustain the margins and improve the margins that we have in place

Okay. I guess, just digging deeper into that, how all of a sudden -- you guys had been running at 8.5% margins almost all year. How does the mix shift issue just occur in one quarter and it ramps up that materially? And so just so I'm clear, this is a -- we should now think of Ducommun Technologies segment as an 11%, 12% type margin business?

Troy, when Tony talked about mix shift, we did experience that. When we look at the overall sales in the fourth quarter of the Technologies segment of a little over $35 million, that was comprised of $24 million of our Technologies' manufactured product segment and $11 million of the service revenue segment, which you can pull the service revenues off of our consolidated P&L.

That compares to about $35 million the quarter before. But in the quarter before, certainly the service revenues were in the $16 million range. So, broad stroke we had $5 million worth of manufactured product sales and we had $5 million less of service revenues, which the service revenues, like most government businesses, are lower operating margin part of the business. So that was a favorable mix.

And I commented that we're running at the rate of $11 million to $12 million a quarter in the service revenues going forward here for what we see in the first half at least of 2010, but we still see sustainability with the manufactured products. And in addition to operating improvements that we've made and we've repositioned the portfolio, our orders for products on the F-18 and other ones, aftermarket products, look very good here in the near term. Most of those are replacement for military products. So we do believe that that number of 11.8% is certainly a more realistic number than the mid 8%s that we experienced in the first half of '09.

Okay. Thanks. And did I read in your K right that your amortization expense is going up by about $1 million next year?

Yes. Our amortization expense really kicked in, in the second half of 2009. It's up -- yes. Once we washed through the DAS acquisition purchase accounting, we flushed through the step-up basis of inventory the first half. Then after we replenished that, depleted that, excuse me, then we started amortizing the goodwill. We've scheduled that in the footnotes.

Okay. And then just one last question. I'll jump back in the queue. Why the delay in the orders that you mentioned like Blackhawk and some other programs? And do you think that that comes through kind of next quarter -- I mean, the current quarter that we're in?

It looks to be spread out. Troy, a couple of things. One is, you know, as we look at each one of the programs, it depends on where they sit. The Blackhawk program, we would anticipate probably in the second quarter more than the first quarter, the way the request for quote is being managed.

And then with regards to the Apache program, what's happening there is that will probably be the second quarter also. I believe we're scheduled to finalize our package there with them in April.

And then as you look at the 737, they've actually changed their model in terms of order releases. So what we see in the 737 now is releases quarter over quarter. So you'll see, as opposed to seeing a one-time large order that we've had in the past, like we did at the end of 2008, we're seeing quarterly releases to pick up the annual buy. So we'll get a release at the end of the third quarter -- excuse me, the first quarter, to cover the second quarter of 2011. So those will be pushed out a little bit.

We should pick up hopefully the F-18 follow-on order this quarter. And so I'm going to say probably half the orders will come in in this quarter and then the other half will be in the second quarter.

Okay. Thanks, guys.

Thank you.

Your next question comes from the line of Michael Lewis with BB&T Capital Markets. Please proceed.

Thanks so much. Joe, just a follow-up on Troy's question. On the backlog, would you anticipate to have a full year book-to-bill in excess of 1 times when we exit out of 2010?

Yes.

Okay. Then if I can just kind of dig in a little bit more on the Miltec issue and the impairment. If we look back to 2006, I think you paid about $48 million for the property. At that time the company, Miltec, had I believe around $43 million in revenue. Over the past two years we've seen about a $20 million writedown on this asset. And you have reevaluated the long-term plan that you have outlined for this company.

Can you talk to us a little bit about what that plan looks like, what the expectation is with regard to specific top line growth over the next two to three years? Is this a 3% to 5% grower, a 5% to 7% grower? Can you help us understand what the revision looked like and help us quantify this a little bit better?

Sure. Mike, let me start out by saying that as you look at the analysis of the goodwill impairment, it's certainly based off your long-range plan. So in 2008, we had specific programs that actually some were cancelled and some were defunded, if you will. They stopped funding.

And so what happened to us in terms of the forecast going forward was that we had a pretty good adjustment for 2010. So the base actually dropped in 2010 from the 2009 original forecast. And we executed a growth strategy that puts us at about somewhere between 5% and 8% per year, year over year, going forward.

But that was lower than the previous anticipated forecast in terms of the outyear, the terminal year. And that's what actually drives the goodwill analysis. Not only the revenue forecast, but of course the cash flow, the resulting cash flows from that. So the analysis is taken from the terminal year and in perpetuity.

So as we look at that, we put a forecast together based on a realistic projection of what 2010 would look like. And the forecasted growth rate has some particular targeted programs, a little shift in our engineering development technology base. And then we look at about 5% to 8% going forward.

Okay. That's very helpful. And then, just with regard to the margin expectation, because we've seen some of this lower margin services work exit out, this is what's having this beneficial impact to the margin profile in DTI?

And again I want to just clarify that you do anticipate a north of 11% margin as the sustainable level. Can you just reiterate that for us?

Yes. When we looked at the -- if you would go back and review the trends for the Technologies segment in the first three quarters, it was actually very steady at about 8.5% of sales. And that compared to about 5.5% of sales in the first three quarters of '08, reflecting those really strategic changes to the portfolio that I talked about.

In terms of, we do get quarterly variations depending on the orders and deliveries and the pulls by our customers. So I would look at it as a longer term view. For the full year, we certainly would expect to be in that 11% range, although recognizing that seasonality and cyclicality within quarters may not make it a flat line 11% each quarter.

Of course, of course. Okay. That's helpful. Two more quick questions for you. With regard to tax expectations, what should we be modelling in 2010?

And also, with regard to the CapEx of $11 million in 2010. Will this be the last big year for additional investment? And can we expect to see this rate lessen in 2011 from 2010?

The question on the tax rate, if you're modelling it, I would probably use 31% for the full year. But we internally are modelling at 33% each quarter including the first quarter, until the federal R&D tax credits are approved by Congress. I read something just last Friday where Senator Reid is working on a smaller jobs bill and they're going to address that first and get through that legislation and the next priority is the R&D.

So I can't tell exactly when that will be approved. It goes back to the Reagan days, as you know. So it could be the first quarter, could be the second quarter.

But in terms of our own accounting properly, we'll record the 33% and not reflect the benefit of that until that legislation's passed. And then --- but the full year, it will be 31%.

Your question on the CapEx, a lot of it's driven by new program development. As you might know, our depreciation and amortization is probably about $11 million to $12 million. So we've been very modest with our CapEx and we can grow our base without having to have substantial increases in investments in capacity. But most of our CapEx above a minimum level of maintenance within our whole operations, which is really relatively small, is for growth oriented programs and business development.

Your question about in the future, while we don't see it going to a quantum leap if we stay in this general range of businesses, we do see it probably in this $10 million to $12 million range.

I would say. Mike, let me just give you a little color. The jump this year into 2010 is directed at a particular investment that we're making into a market. And as we looked at that market and we were successful in some of our prototype developments, we anticipated that to fully be able to take advantage of the marketplace we put the capital equipment in place to do that.

As we go forward, there's some new programs that we're looking at. But we would anticipate that capital would be in the $9 million to $10 million to $11 million range, assuming that we're successful going forward. We always try to take creativity before capital, so it's the last thing that we look at. But as we look at the business and run through the advantages that we have on the new business side, there are opportunities and we'll take advantage of them.

Okay. Thank you very much.

Thank you.

Your next question comes from the line of Edward Marshall with Sidoti & Company. Please proceed.

How are you guys doing?

Good, Ed. How are you today?

Not too bad, thanks. Quick question. The follow-up on the previous question on CapEx. You said you're expanding into a new market. Is that a market that you already have business for or recently have won business for, or is this something that you're building out capacity to fit?

We have business in that marketplace, and what we're doing is we're enhancing our capability to grow that.

Okay. Could I ask if it's similar to titanium?

Yes.

Okay. The next question, you had highlighted the headwinds that you faced rolling into 2010 especially with the Apache programs and other programs coming down as a percent of sales. But can you discuss -- I think you touched on it, but kind of reiterate what you see first half, the second half. Is second half improving and first half? And then the pitfalls that may happen on that as we move into the remainder of this year.

Okay. We do see the second half stronger as we go forward. A couple of the pitfalls that we have in front of us are the recovery of the spares business. We're looking forward to that. That impacted us actually in the fourth quarter last year and coming into the first quarter. And also the Miltec, the drop in their revenue base is something that we had forecasted forward.

So we think we're relatively solid there. So I don't see any major, you know, anything that we have in front of us right now, other than the things that we mentioned with regards to a possible C-17 slowdown. We're looking at that. And then the 737 market is a possibility if the order base doesn't come in. So right now we're not anticipating either one of those things in our plan, but those are opportunities for us to be creative.

And then I guess on the pipeline, you know you've booked quite a bit of new business recently, a lot of new work, especially at the top of the year. Is that it or should we expect this trend to continue? Obviously we hope it continues; but realistically, will it continue throughout the remainder of 2010 and into 2011?

So let me talk -- first of all, we do have some unannounced orders that we have in the queue right now that we're waiting for approval from the customer to announce. So we do have some business that we've been awarded.

We also have a number of RFQs, open quotes, that we've been downselected on major applications across the board. So I would anticipate that we will see some other awards this year that would be significant. So we have a couple of packages that we're very close on right now and we're working on.

The programs are the usual suspects. We have open RFQs that we're working on, on the 787, the JSF, the A350, we have an A321 program that we're working on. So we have a number of applications that we're working across the board on commercial as well as some of the military aircraft.

Okay. Then following up to that I guess, is it associated with -- the RFQs, the major applications, the unannounced orders that you have talked about. Is it related to the core base of business that Ducommun has or is it through the acquisition that you made last year of now DAS-New York?

Most of it's through the core but some of it's affiliated with the acquisition because we're utilizing the One Ducommun philosophy. So we have two business units that we combined at the end of the year that are operating. New York has been combined with our Parsons facility from a management standpoint.

And we're actually sharing some work right now with the V-22 program that we just announced, part of the materials being manufactured in our Parsons facility and as being completed in the assembly at our New York facility. So, some will come out of the New York but there's growth on both sides.

And then you talked about -- you just touched on the assembly piece, which is part of my next question. As you move more into the assembly role, I understand that that's going to bring a little bit more pricing power, and probably a little bit higher margin. Understanding the rolloff of the Apache and that brings, as we roll into 2010 and into 2011 -- when do you start to see the kind of double digit margins that we've talked about as the business as a whole develops? Is it something that could hit in 2011 or is it more like a 2012 event?

The issue that we have is we're still in development on a couple of programs going into '10 and into '11. Embraer in particular. The RUAG program we're coming down the learning curve and we're actually performing pretty well on that program, so that's moving forward.

So in terms of moving into the double digits, we certainly would like to have that in 2011. But I would anticipate that our goal is to get there before 2012.

To add to that further, through the first three quarters of 2008, we were averaging nearly 9.5%. We had said our goal longer term was to get on a sustainable basis above 10%.

We think most likely when the next commercial cycle expands, it will be coincident with the increase in builds of the 787. And that could be either latter part of 2011 or 2012. We think that's the best opportunities for us to expand our overall operating margins. Until that time, it will be somewhat of a challenge for us as Tony noted.

And on the 787, you know, have you defined your exposure there? And if not -- I mean if you have, can you add some additional color, or probably reiterate how you see that program ramping up for you?

You know, as I think we indicated before, we've actually delivered about 30 shipsets on average on the equipment that we're on right now. And so we would anticipate that some of that will be ramping down. We don't actually have a high volume of revenue anticipated on the 787 for 2010 but we do ramp up in 2011. So we would expect to see possibly in the fourth quarter some pickup on the 787.

We actually have the varying applications that we have. We're actually doing some work right now. They've realigned their engine requirements. We're working on some of the cell work right now that we hadn't anticipated for Rolls Royce engines versus the GE engine. So there's some work that's coming out right now, but I would anticipate that we'll get into steady rate production in 2011 and then pretty solid rampup in 2012.

Okay. Thank you guys very much.

Thank you.

Your next question is a follow-up from Troy Lahr with Stifel Nicolaus. Please proceed.

For Technologies, you pointed out that you'd like to be in the 11% range. How should we think about AeroStructures next year? Is this 12% margins? Is that kind of what we should expect?

In my prepared remarks I talked about when we sort out some of the noise, 12% is. And put a context on it, that it wasn't too long ago in '08 where our margins for the AeroStructure business were fairly sustainable in the 14% to 15% range. But certainly the impact of Apache and the overhang of potential reduced builds for the C-17 affects that.

So while we have goals, the 12% is probably not a bad range, 11.5% to 13% depending on the quarter and the cyclicality. Those are the kind of things we target. Recognizing, again, till the commercial builds come up substantially, which gives us an opportunity to increase our incremental margins, we'll be living in that range for the foreseeable future.

Okay. And I know you generally don't give guidance, but on the sales line, could you maybe just say directionally how you think that's flowing? Are you just trying to keep sales flat? Do you think you might give up a little bit of sales, sales might decline in 2010 for the full year?

It's important when you model sales, Troy, as I talked about it, if you go to our consolidated income. Our product sales, that's one model you would build. And the service revenue is another. In the service revenue, as we said, the $11 million to $12 million in the fourth quarter of 2009, we look at that as that kind of run rate going forward here in 2010.

But your product revenue sales, I think I'd just suggest, and Tony will add to this, but I suggest you go back and review the comments that we talked about, the outlook for these markets, and then build your models from our commentary.

Let me just give you a little color, Troy, so that it will help you take a look at it. As we look into 2010, as Joe indicated, there's some headwinds on the service side of the business. We've adjusted and talked to that.

But in terms of the product business going forward, the things that we look at is, from the marketplace standpoint, we talked about the Apache program coming down a little bit more. So there's a steady state there that would be going forward. But as you look at some of the other programs on the horizon, pretty much they stay from a production standpoint on a steady rise.

We did see a dip. What we're looking at on the regional jet side, as you look at the programs, is pretty steady state from the third and fourth quarter. I wouldn't back up to the first two quarters of 2009 because they were at higher rates than we'd anticipate going forward.

So, the marketplace -- and then we had a couple of major one-time sales like the UCAS program in 2009, which will not repeat itself. We anticipate that program to start again about late 2010 or mid 2011 depending on how the testing goes on that program. So those are things that we look at from a standpoint of going forward.

But as you look at the conversation that we had about the marketplace, and you understand that the regional jet business typically was about 10% to 15% of our base, that should give you a good picture of what the revenue should look like.

Okay. But to drill down then on the programs, is Blackhawk ramping up or is that kind of a steady $9 million, $10 million a quarter?

They're trying to ramp up. Whether or not they have the ability to do that has yet to be seen. But right now I would anticipate that it's -- our forecast is it's pretty flat.

Okay. And then also, Chinook? I guess I'm trying to figure out, you look at the DOD budget that came out, a lot of focus Secretary Gates was talking about, the importance of helicopters. And then those budgets were actually up nicely.

But then you're saying these programs are actually going to be flat, not growing?

Here's the problem, Troy. It's a function of how well Sikorsky and Boeing can ramp up. So the issue becomes their rampup capability not whether or not we think the program's going to grow.

Clearly on the Chinook, if they can ramp up their schedule and improve, then we would see higher revenue. Same thing with the Blackhawk. It's solely dependent on how well Sikorsky can ramp up and hit their production rates.

Okay. Thanks. Then what are you hearing from the business jet customers? Do you think that there's still some production cuts left out there or do you think that they feel a little more comfortable?

You know, I would say that it's stabilized somewhat. There could be production cuts coming. But it all depends on the airline industry and what we're seeing from them. They've --- they are certainly hoarding their cash. They're putting themselves in a position from a capitalization standpoint that if they're profitable and they need those aircraft, they're going move out on them.

But right now I would say it's relatively stable. You have to remember that they carried a lot of inventory so they will be bleeding some inventory down. So we may see fluctuation in the revenue base from that standpoint on the production side. But we think they're at a rate where they'll probably maintain. That's what I would guess.

Okay. Lastly then, again on the Apache, I think you did about $7 million this quarter. Is that the low point here or do you think that the quarterly run rate continues to decline below that?

We actually did $8.6 million of sales on the Apache in the fourth quarter and almost $30 million for the year. We believe that that number will be probably $6.5 million to $7 million a quarter going forward. They're at reduced levels, even slightly lower than the pre-Iraq war levels, on the main rotor blades.

However, there is good content on the tail rotor blades and some other parts. So just because the blades, the main rotors came down from a peak of 50 that we had for about three or four years to the 25 level by the end of the fourth quarter and then we see some further reductions, it's not a proportionate drop.

Okay. Thanks, guys.

Thank you.

(Operator Instructions). Your next question comes from the line of David Cohen with Midwood. Please proceed.

I just wanted to ask a housekeeping question in terms of the different nonrecurring charges occurred that you realized during the year. Obviously the goodwill impairment which hit this quarter. But can you identify other nonrecurring items that you've recorded throughout the year? Because I'm coming up with numbers that are actually somewhat greater than you alluded to in the press release.

Hi, David. Good morning. I commented upon it and we put it in our release in the K. The total amount of inventory adjustments came to $5.8 million. That was a combination of three things. One is the Eclipse charge; we wrote off the inventories there in our first quarter. That was $4.3 million.

Okay.

Second quarter we had about an $800,000 inventory valuation adjustment at one of our operations.

And then here in the fourth quarter, we changed our accounting treatment on tooling and we've actually put that on to our balance sheet to show the investment community the investments that we're making in more complex assemblies for customers. On the balance sheet we call that production cost of contracts; generically it's tooling investment.

But on that, in the quarter it triggered a sales tax reserve of about $700,000 I believe. So that comes up to the $5.8 million.

There were a couple other things that we noted. When we flushed through the inventory from the DAS-New York acquisition through the first half of the year which I mentioned earlier, that amount was about $1.5 million.

Okay. That's the part that I was trying to track.

We had also, as scheduled, we had increases in amortization of expenses. On the other side, we had lower -- I think you'll have to dig for it. We had lower accrued compensation because of lower operating performance this year versus last year. We also had a change in our environmental reserves of $2.2 million from previous reserves in the quarter.

So you have a bunch of pluses and minuses, but those are the major ones. I think some of that information's detailed in the K more extensively to confirm.

Okay. And on a go-forward basis, also looking at your D&A, excluding the amortization of intangibles, and that number stepped up from $8.8 million to $10.7 million. In your footnotes you highlight that the depreciation of fixed assets was $8.7 million. So what's the additional $2 million of depreciation that gets you to the $10.7 million?

On our statement of cash flows we have two things. We have the D&A and then we have the amortization of intangible assets which is related to New York and other ones like our Miltec business. But in the D&A it's not only traditional depreciation from fixed assets, but it's amortization of some of that tooling that's embedded in there.

You are not including that in fixed assets? Where is that on your balance sheet?

No, no. In looking at the balance sheet, the tooling is synonymous with production cost of contract.

Yeah, okay.

There's $12 million on the books. So when we look at cash flow year to year, it's our additional investment in tooling less the amortization of customer tooling based on deliveries of shipsets; and it comes up with the residual amount.

Okay. All right. That's helpful. All right. Thanks. I'll go back in queue.

Thank you.

Your next question comes from the line of Michael Lewis with BB&T Capital Markets. Please proceed.

Thanks for taking the follow-up. If I look at RUAG, this was a revenue item that was probably less than 1% of total sales. If you look out to 2010 and '11 it starts to approach a little bit less than 5% of total revenue. Is that a correct assumption to make on our part? That type of ramp?

Yes.

Okay. Have you disclosed exactly what you think the RUAG will look like in 2010?

No, I don't think so.

Can I take a shot? Is it around $15 million of contribution?

Wait, our baseline is we ship -- we had some shipments in the fourth quarter. Our total shipments of RUAG were $2 million last year.

Okay.

Right. Here's what I think's going to happen on that program. We have a rampup that we have to hit, so you'll see some higher revenue in the first half of the year. Then that will flatten out a little bit in the last two quarters as we get to rate.

So we have some catch-up to do. We picked the program up from another supplier, and so we're working at a higher rate right now than would be a level loaded for the -- it goes on the Bombardier 700 and 900. It's a common fuselage. So you can check those rates out, and that's pretty much what we would look at from a rate standpoint. But we anticipate that we would be a little lower than the $15 million.

Okay. But the sustainable level of that spend looking further out in the contract term would be appropriate to the 2010 level?

I would think so, yes.

Okay, that's helpful.

Depending on the rate of the aircraft, right.

Of course. Of course. We'll check that. But just for general purposes on figuring out the different components of the revenue in '10.

One more question for you. Joe, I was wondering if you could talk a little bit about the free cash flow expectation. We are seeing some increase. Well, a sustainable level of the CapEx at let's say $11 million per year. However, you made a comment earlier talking about operating cash flow should be sustainable around $30 million.

I would expect that we would see an incremental upward move in free cash flow generation as you invest more. Am I looking at this correctly? Should we expect to see free cash flow improve sequentially on a year over year basis?

When we define, let's make sure we have the same definition; free cash flow would be the cash flow from operations less CapEx, less dividends. Correct?

Yes.

Joseph Bellino. Yes, and we pay about current rate of $0.075 a quarter at $3 million; and we said $11 million. So you have $14 million you need to subtract from our net cash from operations.

There's two factors in addition to net income that impacts our cash flow from operations. It's our effective working capital management. In softer cycles we can pare our inventories and we'll have lower levels of receivable and convert the previous year's to cash. So that's certainly good.

But when we expand our business like we saw in '06 and '07, those are working capital users. So your model, you would play with that, depending on what your expectations of where our sales are going and where our business is going.

The other component has to do with primarily on our Technologies side, Michael, is when we receive what we call milestone payments, customer deposits in advance of doing work. And in '08 we received about $15 million of those in the fourth quarter and in '09 we received about $7 million of those in the fourth quarter.

It just depends on our ability to obtain those. That's a function of backlogs and getting purchase orders to do that kind of work. It's primarily the replacement radar rack type of business. So that's really the big swing.

Okay. Got you. Thanks so much.

You're welcome.

There are no more questions in queue at this time, Mr. Reardon.

Okay, thank you, Sally. I would just like to close. I wanted to say that Ducommun looks forward to announcing new additional business wins in 2010. We see strengthening of our business heading into 2011. We'll continue to effectively manage our working capital and believe that the company is in excellent financial shape with just 4% net debt to capital to position us for continued growth as the global economy improves.

Our goals this year are four-fold. Drive margin improvement, continue to penetrate new programs, generate strong levels of cash, and look for some great acquisitions that will enhance our product portfolio going forward. I'd like to thank each and every one of you for joining the call today. Thank you, Sally.

Thank you. Ladies and gentlemen that concludes today's conference. Thank you for your participation. You may now disconnect and have a great day.