Ducommun Inc (DCO) 2018 Q1 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the First Quarter 2018 Ducommun Earnings Conference Call. (Operator Instructions)

I would now like to turn the conference over to your moderator, Mr. Chris Witty.

Thank you, and welcome to Ducommun's 2018 first quarter conference call. With me today are Steve Oswald, Chairman, President and CEO; and Doug Groves, Vice President, CFO and Treasurer.

I'm going to discuss certain limitations to any forward-looking statements, regarding future events, projections or performance, that we may make during the prepared remarks or the question-and-answer session that follows. Certain statements that are not historical facts, including any statements as to future market conditions, results of operations, our restructuring plan and financial projections are forward-looking statements under the Federal Private Securities Litigation Reform Act of 1995, and therefore, our perspective. These forward-looking statements are subject to risks, uncertainties and other factors, which could cause actual results to differ materially from future results expressed or implied by such forward-looking statements.

Although we believe that the expectations reflected in our forward-looking statements are reasonable, we can give no assurance that such expectations will prove to be correct. In addition, estimates of future operating results are based on the company's current business, which is subject to change.

Particular risks facing Ducommun include, among others, the cyclicality of our end-use markets, the level of U.S. government Defense spending, legal and regulatory risks, management changes, the cost of expansion and acquisitions and competition. These risks and others are described in our annual report on Form 10-K and filed with the SEC, and our forward-looking statements are subject to those risks. Statements made during this call are only as of the time made, and we do not intend to update any statements made in this presentation, except if and as required by regulatory authorities.

In addition, all comparisons on today's call recognize the implementation of the FASB Accounting Standards Codification or ASC, Topic 606, covering revenue recognition policies on current results. Please see the company's filings for further description of this change and a comparison to the prior policy, ASC 605. This call also includes non-GAAP financial measures. Please refer to our filings with the SEC for a reconciliation of the non-GAAP measures, referenced in this call, to the most similar GAAP measures.

We filed our Form 10-K with the SEC today, and you will find a link to all our filings on the company's website under the Investor Relations tab.

I would now like to turn the call over to Mr. Steve Oswald for a review of the operating results. Steve?

Thanks, Chris, and thank you everyone for joining us today for our 2018 first quarter conference call.

I'll begin by providing an overview of the recent developments at the company, after which Doug will review our financial results in detail.

First, I'm very pleased to give an update on the many changes taking place at Ducommun, as we drive to position the business for higher growth and stronger operating results going forward. We continue to rationalize our footprint this quarter, resulting in $2.2 million of restructuring charges, on top of the $8.8 million taken last year.

Our most recent actions involved the write-down or consolidation of additional assets, along with severance cost, similar to Q4, as we work to reduce about 17% of our total manufacturing floor space, along with staff reductions above 6% by the end of 2018. As previously discussed, we are on track to take restructuring charges of approximately $20 million to $22 million over the entire life of the program. And we will meet the committed savings of roughly $14 million annually, beginning in 2019.

We do not take these actions lightly. And I also want to share that the team has done a very effective job implementing the changes, which will strengthen the company today and the many years ahead. At the same time, we haven't let our actions impact our customer performance or our internal organization as we strive to provide the very best customer service, quality and on-time product delivery.

As proof of our actions, Ducommun's backlog surged again this quarter to roughly $820 million. That's up nearly 13% or $94 million sequentially from Q4 and more than $200 million over this time a year ago. This is truly exciting and speaks to our capabilities and trust that customers have put in us to provide high-value innovative solutions as the aerospace defense markets continue to grow.

We are also winning new orders across a multitude of products and platforms, including engine components as well as benefiting from the Lightning Diversion Systems acquisitions, leaving us extremely well positioned for faster growth in the years to come.

I'm also pleased to see the continued sequential improvement in our Structural segment margins. As Doug will review in a moment, structures adjusted operating margin rose to 5.8% this quarter from 4.8% in Q4, an increase of 100 basis points. We expect to see further margin expansion going forward.

As I mentioned last year, the margins for structures were unacceptable and through cost reductions, leadership changes, a favorable mix and higher volumes, we are now seeing the results.

Overall for the company, total adjusted operating income rose over $1.4 million or 33% from Q1 of 2017. And we also generated $10.3 million of cash during the quarter, which is great news for investors. We also recently completed, in April, a second bolt-on acquisition following the purchase of LDS last year. This latest transaction of Certified Thermoplastics, also known as CTP, bolsters our capability in extruded assemblies of resins, compounds and alloys for a wide range of commercial aerospace, defense, medical and industrial applications.

As I mentioned in the past, one of my goals for Ducommun is to strengthen our profile in high value-added products and components, leveraging our existing intellectual property, while augmenting and expanding our engineering expertise.

CTP adds to the company's proprietary capabilities in aerostructures and expands our footprint into an entirely new market, aircraft interiors, as well as provide the opportunity for very important aftermarket sales.

CTP's current President and major shareholder, Robert Duncan, has agreed to stay on for a while to assist with the integration and ensure a successful transition. We're happy with the organization, and pleased at how quickly Robert and his team have adapted to being part of the Ducommun family, and things are moving in a positive direction.

Now let me provide you some additional color on end markets, products and programs.

Beginning with our military and space sector, we posted first quarter revenue of $66.3 million, and continue to see strong missile and defense deliveries such as the Raytheon MK 48 and MK 54 missile systems. We anticipate good growth going forward across this sector, and are pleased with the Defense Department's current spending priorities.

Having a budget finally in place provides transparency and greater predictability to forward demand, and perhaps not coincidentally, our military and space cycle grew to nearly $319 million during the quarter. This is our highest it has been in 5 years. So we're extremely pleased.

In our Commercial Aerospace operations, first quarter sales rose nearly $14 million year-over-year to $72.5 million. It's its highest level ever. We again saw significant growth across our large fixed-wing aircraft applications, particularly on the Boeing 737 platforms and A320 family. We also posted gains with Gulfstream and are making steady progress ramping up production for many platforms at our recently expanded Parsons facility, along with Ducommun's Coxsackie, New York facility.

We expect to see a great deal of operating leverage this year as these locations increase their output for the Boeing 737 MAX, 787 and certain Airbus models, including the A320 and A330 as well as Gulfstream G500, G600 and G650.

Given our advanced manufacturing methods and the titanium components produced, both performances serve as the centerpiece for our next-generation capabilities. In addition, we now have new leaders at both sites. And stay tuned for the many improvements this year and in 2019.

Our Commercial Aerospace backlog at the end of Q1 hit another record, nearly $470 million, bolstered by some large orders in structural components on the Boeing 737 MAX. In addition, the correlated booking does not yet reflected certain entry related wins that we hope to announce in the very near future. That said, the share magnitude of our backlog speaks volumes about our customer relationships, teamwork and core capabilities. We continue to see solid sequential growth across our Commercial Aerospace business, driven by platforms that encompass nearly all of our customer and product segments.

It's clearly an exciting time to be a key supplier in the aerospace industry. So we remain focused on the fundamentals, as I have been talking about, hiring top talent, demanding excellence in every area of Ducommun, streamlining the company, positioning it for higher production volumes and improved operating performance in the quarters ahead. I'm optimistic about the outlook for 2018 and beyond, and look forward to greater returns for our dedicated shareholders.

With that, I'm going to have Doug review our financial results in detail. Doug?

Thank you, Steve, and good day, everyone. As was mentioned during the safe harbor introductory statements, all of our comparisons on today's call are on a year-over-year basis and recognize the implementation of the FASB Accounting Standards Codification, ASC, Topic 606, covering revenue recognition policies on current year results.

We are using the modified retrospective method of adoption since the past financial results have not been adjusted for comparison purposes. Please see the company's filings and today's press release for further description of this codification versus the prior policy, ASC 605.

So turning to the first quarter results. Revenue for the first quarter of 2018 was $150.5 million versus $136.3 million in the first quarter of 2017. This performance primarily reflects $14.1 million of higher sales with the company's Commercial Aerospace customers due to increased shipments for large fixed-wing platform, such as the Boeing 737.

Ducommun's backlog rose to nearly $820 million at the end of the quarter, its highest level ever, up nearly $94 million sequentially from Q4 and over $200 million from a year ago, as Steve just mentioned.

Moving to gross profit. Our gross margin was 17.8% in the first quarter versus 18.3% in the prior year's comparable period. The decline in gross margin year-over-year was primarily due to higher other manufacturing costs, partially offset by higher manufacturing volume.

SG&A was $19.3 million in the first quarter versus $20.8 million in 2017, with the decrease primarily reflecting lower compensation and benefit costs as a result of the restructuring activities, and that was partially offset by higher professional service fees.

The company reported operating income for the first quarter of $5.3 million or 3.5% of revenue, versus operating income of $4.3 million or 3.1% of revenue in the prior year period. On an adjusted basis, operating income was $5.6 million or 4.1% of sales, compared to 4.3% or 3.1% of revenue, up nearly 33% as Steve mentioned quarter-over-quarter.

Our Q1 restructuring initiatives included approximately $1.6 million of charges within our Structural Systems segment; $0.5 million within our Electronic Systems segment; and $0.1 million at the corporate level which, taken together, add to the $2.2 million in the quarter. These charges were taken as the company continues to consolidate its footprint and reduce headcount such that by year-end we expect to have 17% less manufacturing square footage and approximately 6% fewer staff.

We're on track to eliminate approximately $14 million in annualized expenses by 2019, and currently anticipate taking $5 million in restructure charges during the second quarter as we continue through all our restructuring initiatives.

As noted previously, these charges will be a mix of cash outlays, typically for severance and facility consolidation, and noncash items including the write-off of machinery and equipment. As Steve mentioned, we expect the total restructuring charges of approximately $20 million to $22 million over the life of the entire program, which runs through the end of 2018.

Interest expense was $2.9 million in the first quarter of 2018 versus $1.7 million last year due to a higher utilization of our revolving credit facility for the acquisition of the LDS, as previously discussed. We anticipate, with the purchase of CTP, interest expense will be approximately $3 million next quarter.

The company reported net income for the first quarter of $2.6 million or $0.22 per diluted share compared to $2.1 million or $0.18 per diluted share for the first quarter of 2017. The year-over-year increase in GAAP net income reflects the higher revenue, lower SG&A, partially offset by the restructuring charges and higher interest expense I just mentioned.

Adjusted net income for Q1 was $2.9 million or $0.25 per diluted share. Our expected tax rate will be approximately 17% to 18% this year before any restructuring charges.

Adjusted EBITDA for the quarter -- of 2018 was $14.5 million or 9.6% of revenue compared to $11.9 million or 8.7% for the comparable period in 2017.

Now let me turn to the segment results. Electronic Systems segment. Our Electronic Systems segment posted revenue of $82.4 million in the first quarter versus $78.7 million in the prior year. These results reflect $5.6 million of higher sales to military and space customers, slightly offset by modest declines in our industrial markets. Electronic Systems posted operating income for the first quarter of $5.7 million or 7% of revenue versus $7.1 million or 9% of revenue in the prior year. As Steve mentioned, the 2000 (sic) [2018] first quarter was negatively impacted by some product mix but we expect margins to bounce back to more normal levels in Q2. The electronics adjusted operating margin was 8.9% for the 2018 first quarter.

Turning to the Structural Systems segment. Our Structural Systems segment posted revenue of $68 million in the first quarter of 2018 versus $57.6 million last year. The year-over-year increase was due to $13.2 million of higher sales across our Commercial Aerospace applications, particularly on large jet single aisle platforms, which more than offset $2.0 million decline in our Military and Space markets just reflecting shipment timing. Structural Systems posted operating income for the quarter of $4.4 million or 6.5% of revenue compared to operating income of $2.8 million or 4.8% of revenue last year. The year-over-year increase was primarily due to higher volumes, even given the restructuring charges of 1.6.

The structure's adjusted operating margin was 5.8% for the first quarter and up 100 basis points, as Steve mentioned, from the prior quarter. As Steve discussed, we anticipate margins will trend higher as the year progresses based upon our ongoing streamlining activities and initiatives to improve asset utilization. Margins will also continue to benefit from the ramp-up of new programs at our Parsons facility and associated operating leverage.

CG&A, corporate general administrative expenses for the first quarter was $4.9 million or 3.2% of company revenue compared to $5.6 million or 4% of revenue last year. The decline in CG&A expense was primarily due to lower compensation and benefit cost as a result of our restructuring activities and was partially offset by higher professional service fees.

Turning to liquidity and capital resources, we generated $10.3 million of cash from operations in the first quarter of 2018 versus $13.2 million in 2017. We also paid down $6.6 million of debt in the quarter, and expect to pay down $25 million to $30 million in 2018, absent any additional acquisitions.

In terms of CapEx, we spent $3.2 million during the quarter, and we anticipate spending approximately $15 million to $17 million in 2018, much less than the $27.6 million in 2017, as we've largely completed the investment related to our Parsons facility expansion.

Overall, we're pleased with our restructuring progress, new business wins and the acquisitions recently consummated. We believe the company is on solid footing to post higher growth and improve financial results in the quarters to come.

I'll now turn it back over to Steve for his closing remarks. Steve?

Thanks, Doug. As I said earlier, I'm proud of the steady improvement here at Ducommun. I think it should be noted by investors that we reduced cost by $14 million this year. We're expanding margins, driving top line and bottom line improvements, winning new business. We're going through acquisitions and reaching record backlog levels.

In that spirit, I want to thank our employees for all their efforts and results, as we are off to a very good start. I'm confident that our investors will see the benefits as we lay the groundwork for improved operating results this year and in 2019.

With that, operator, we'll now open the call for questions.

(Operator Instructions) And our first question comes from Edward Marshall from Sidoti.

So listen, I just want to ask, did you guys redefine your backlog in any way?

So yes, so with the adoption of 606, you'll see our 10-Q, under 606, we defined backlog for 606 purposes as customer from fixed price POs. The backlog that we're reporting as the consistent reporting we've had over a number of years, which is from fixed price PO, open POs, plus firm fixed price, firm delivery dates on LTAs that go out 24 months. So the definition that we're using has remained consistent as we've put into the press release.

So there's no change in policy aside from the 606, which isn't the 800?

No, the 606 number on the 10-Q is substantially less.

Right, okay. So -- and CTP, by the way, wasn't in backlog at all, that happened after the quarter?

No -- yes, exactly. That happened in April.

Okay. Just, I mean, I'm looking at a pretty aggressive ramp-up last year. And I guess that's a testament to some of the projects that you've already called out.

Well, I was going to say if you look at the commercial backlog, 2/3 of that is on the single aisle platform, which really correlates well with the build rates that we're seeing, right, 52 to 57 to 60 over the next couple of years here or so. And that's largely in our structures business.

Got it. And just one more point of clarification, and I think this is probably adjusted by the 606. But are these firm delivery dates? Or is this just predicted backlog that you have which was what you reported?

No, these are firm delivery dates, especially on the structures stuff because there -- the supply chain, they go out that far because of the nature of the products. So firm delivery dates, firm fixed prices.

Got it. And then the second question I have was the structures adjusted looks good. I want to understand, you're including the adjustments for 606. I understand y-v-y for comparison reasons, year-over-year, but you probably lost profits and revenue in the quarter that went to last year as well. And this is a more smoothing effect for the rest of the year. So am I right to think that, I guess, if you kind of leave the adoption of 606 in there, that the margin looks closer to, I think, it's 8.5 or 9 for the structures business?

Well, no, not yet, Ed. I mean, with the adoption of 606, what that means is that we are now recognizing revenue on things that are in work-in-progress and finished goods in our inventory. So we have to go to a full estimate to complete accounting. So recognizing revenue over time, versus as a point in time under 605. In 605, you would generally recognize revenue when it left the warehouse, depending upon the shipping terms. Now we're recognizing revenue as we complete our performance obligations. So I think the numbers that are represented here are just -- the structures...

100 basis points.

Yes.

Yes. And I understand the GAAP numbers that are reported include that they are 606, correct? And you extract that number from the margin profile but on a go forward...

Exactly.

But on a go-forward, you're kind of smoothing out, so this is kind of the representation of what this business is going to be doing on a go-forward basis with the 606 adjustment included in that numbers. Is that the right way to think about it?

It is. I mean, Ed, we've said, with all the restructuring that we're doing and the improvements in the business, we're going to get this business back up to high-single digits. We've been pretty consistent in that message.

And it looks like (inaudible) here today is basically what the reporting structure says today.

Right.

100 basis points.

Yes.

Okay, yes. And then the electronics adjusted margin was a little bit lower than anticipated. Was there anything, in particular, that might have happened? It looks like maybe 606, kind of, adjusted some of that revenue that you may recognize in this particular quarter on prior years. I'm just trying to look at that because it's a little bit lower than over the last year.

No. As we've talked about in previous calls, the Electronics business has the shorter cycle -- it's a shorter cycle business. And we tend to have margins that move around depending upon the product mix in the quarter, and we did have some timing issues as well. So we don't see this as anything that's a problem. And if you looked at the margins in that business, it's somewhere between 9 and 11, pretty consistently quarter-over-quarter. So small dip here, but we don't see anything that's problematic.

We'll be back there.

Yes.

Any comments you can make on CTP about the, maybe size or profitability from that business?

Sure, yes. So as you know, it's a relatively small business. I mean, the revenue is less than 4% of the total structures revenue, which is where we're going to be reporting that business going forward. But it is -- the margin profile is substantially better than the current margin profile of our structures business. So at an operating level the margins are roughly 3 times better than what we see in the current structures business that we have.

And that's on an EBIT or an EBITDA basis?

EBIT.

Our next question comes from Ken Herbert from Canaccord.

This is actually [Perry] on for Ken. Can I ask you to talk about your pipeline a little bit? Just -- it would help if -- a little bit more color on where you're seeing the most potential opportunity, and also maybe something you're focusing on right now.

[Perry], just acquisition or sales, which?

Sales.

CTP.

Acquisitions.

So look, I'll take this. This is Steve. So we have (inaudible) with us now, and so we continue, as we have been talking about, at least, as we go on our journey here and get started in 2018. I mean, we're still focused on these bolt-on acquisitions. We're looking, as we file with CTP and LDS, okay, we're looking for products that -- or product producers that have a niche and that have a good position in the marketplace and have aftermarket opportunity. So we use that funnel, obviously, we also like low capital intensity businesses, so we also have that in our model. And I think that at least for the next -- at least for this year, early into next year, that's sort of a posture with our pipeline and our follow through on acquisitions.

Got it. Also, would you mind speaking a little bit to gross margin and how you maybe, sort of, see it trending sequentially through 2018, considering restructuring activities and likely volume increases such as your 737?

Sure. So we would expect the margins to continue to increase as we go through the year. As we mentioned, our restructuring impacts really start to show up in the second half of the year. We're less -- we're about halfway through with those activities now, we're continuing. So I mean, historically, if you look at Ducommun's margins, they've been in the 19-plus range, and we would expect them to get back there over the next couple of quarters.

(Operator Instructions) And our next question comes from Aman Gulani from B. Riley FBR.

So I just wanted to know, do you have any insight on potential helicopter volume or other platforms relevant to Ducommun from the House Armed Services Committee markup yesterday?

Well, I'll just say we're very encouraged. I mean, the Black Hawk is a very large platform for us. We have a number of different applications, both structural and electronics on that platform. Of course we've been manufacturing rotor blades for the Apache for decades. So we're certainly encouraged to see the funding for that as well as the support for retrofit in some of those birds as well. So I think it's all boding very positively. And I think we're encouraged by what we've seen.

I think also just to comment as well, what we're thrilled with is now we're doing repairs on the Apache blades, okay. So we're thrilled with that business as well. That's just starting to get going on Monrovia facility, but -- so I think everything is sort of moving in our direction in a positive light.

Got it. That's very helpful. And then just last question for me. So with -- now that you've got 2 acquisitions under your belt since September, are you still looking to do more bolt-on acquisitions? And if so, are you able to sort of comment on the type of capabilities you're looking for?

Okay. Yes, I'll take that again. Look, as you know, acquisitions are optimistic, right. So it has to be -- we have to -- everything has to come together and appropriately so. We're certainly still looking. We're certainly active. As I mentioned earlier, we're really looking for these interesting companies that have good niche positions in the marketplace that have aftermarket opportunities, that's something we can really do something with. And I think both probably these companies we bought, I think, are -- the only thing I just tell investors is that we're going to integrate CTP just like LDS, and it's going to be fine, okay. So we've got the right team. We have people on the staff that have integrated companies that are over $1 billion. So these things are something we can handle. And I think that, that's a good thing for investors, a good thing for our customers. So I'd say that.

And I am showing no further questions in the queue, so I will turn it back to Mr. Oswald for any closing remarks.

Okay, thanks. Let me just wrap up here. Again, as I mentioned in my remarks, certainly pleased with where we are. We have a lot of work to still do, but I think we're really seeing a lot of benefit through lots of our actions, and I'm optimistic about 2018. I like our market. I like where we are. I like a lot of the momentum we've picked up. So I think, again, just to close, I want to thank our team and thank our dedicated shareholders as well, okay, who have really supported Ducommun. So I'll leave it there. Again, thank you for your time, and hope to speak to you soon.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.