Haynes International Inc (HAYN) 2023 Q2 法說會逐字稿

Greetings. Welcome to the Haynes International, Inc. Second Quarter Fiscal 2023 Financial Results Conference Call. (Operator Instructions) Please note, this conference is being recorded.

I will now turn the conference over to your host, Controller and Chief Accounting Officer, David Van Bibber. You may begin.

Thank you very much for joining us today. With me today are Mike Shor, President and CEO of Haynes International; and Dan Maudlin, Vice President and Chief Financial Officer.

Before we get started, I would like to read a brief cautionary note regarding forward-looking statements. This conference call contains statements that are forward-looking within the meaning of the Private Securities Litigation Reform Act of 1995 and Section 21E of the Securities and Exchange Act of 1934. The words believe, anticipate, plan and similar expressions are intended to identify forward-looking statements.

Although we believe our plans, intentions and expectations regarding or suggested by such forward-looking statements are reasonable, such statements are subject to a number of risks and uncertainties, and we can provide no assurances such plans, intentions or expectations will be achieved. Many of these risks are discussed in detail in the company's filings with the Securities and Exchange Commission, in particular Form 10-K for the fiscal year ended September 30, 2022. 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.

With that, let me turn the call over to Mike.

Thank you, Dave. Good morning, everyone. I've also noted that we've made fundamental and sustainable changes to our business. I'll start off my comments today highlighting those changes and talking through the positive impact they've had on this organization. First, we are distinctive in that the combination of products and services we offer provide our customers with value that we believe is difficult to be delivered consistently by others in the industry.

Our value proposition includes our mill and service center combination, our outstanding people providing technical and sales service, our deep and in many cases, long-term relationships with our customer base, our excellent alloy development and application engineering expertise, our ability to produce and ship small volumes of unique alloys and sizes, our consistent product quality, our ability to ship cut pieces and near net shapes out of our service centers and our just-in-time inventory capability. Because our customers truly need and value these services and product attributes, we have been able to continue to price our products based on the value we provide. 

Next, our alloy and application development capability give us a valuable access to engine developers and plant engineers where we provide uncommon and in many cases, proprietary alloy solutions to the current and future needs of the end users of our products. Our technical capabilities help us work with our customers and the end users so they can identify high-quality, long-term and cost-effective solutions for their processes. As I've stated on previous calls, the best news here is that our current pipeline of new alloys and applications under development is as strong as it's ever been and involves new potential alloys across all of our major markets.

Continuing on, our efforts related to variable cost reductions through process change and yield improvement continue at all of our facilities. We are often asked if we are near the end of our cost reduction initiatives. Our collective view is that we have so much more that we can do. We all believe that we have the technical, engineering and operations talent to continue to increase our yields and improve our process efficiency and costs. Including my intro, our financial goals from almost 5 years ago were to significantly improve both our gross margin and our breakeven point and establish the fundamentals to allow our company to be consistently profitable. We have now accomplished what we set out to do via alloy and application development, product mix enhancements, variable cost improvement and pricing for the high-value differentiated products and services we provide. I'm proud of our team for performing very well and for achieving our goals. Our gross margin has gone from high single digits and very low double digits to at neutral raw materials now consistently being over 21%, and our breakeven point is now confirmed to be 25% below where it was when we started our improvement journey. 

Now transitioning to our second quarter performance. Year-on-year, our revenue increased 30.5% with strong gains in each of our end markets. In addition, our order entry was close to $190 million for the quarter, which drove our backlog to a record $446.7 million, up over 59% from last year. Our book-to-bill based on revenue was 1.3% last quarter, led by aerospace and IGT, which were both 1.4. Our gross margin was 20.2%. And when removing the raw material headwind impact, our calculated raw material neutral gross margin was 21.3%.

This all resulted in net income for the quarter of $12.3 million, up 45% year-on-year. From a market perspective, in our aerospace market, our second quarter year-on-year revenue improved by 25.9%, with volume up 9.6% and our average selling price up $4.34 per pound or 14.8%. For the first 6 months of the fiscal year, our year-on-year revenue increased 29.4% with volumes increased 13.5%. In addition, our aerospace backlog increased 11.5% with, as I said, a book-to-bill of 1.4 over the quarter. Our backlog now stands at $277 million in our aerospace market. We continue to believe that we will set a revenue record for aerospace in fiscal year '23.

 A few other points worth noting here. Single-aisle build schedules remain high with LEAP engine builds projected to set a new record in 2023. In addition, we are beginning to see demand increases for the components we supply for multi-isle aircraft engines. Finally, we believe the majority of the aerospace product being shipped by Haynes today is being consumed immediately with little to no safety stock being built at this time. For our IGT market, our second quarter year-on-year revenue improved by 30.8% with volume up 1% and average selling price increasing $5.16 per pound or 29.5%. For the first 6 months of the fiscal year, our year-on-year revenue increased 48.4% and volumes generating capacity continue to be retired. Natural gas is projected to remain one of the most consumed sources of energy in the United States through 2050.

For our CPI market, our second quarter year-on-year revenue increased by 25.2% with 2.9% lower volumes, but a $7.59 per -- these numbers confirm our strategy of supplying high-value differentiated products and services, selling less of the commoditized portion of our mix and focusing on the sale of high-value specialty alloys and products within this market. A significant component of this involves sales of our special project orders based on our continued strong applications development efforts is in revenue in a month. We now expect to average over $50 million in sales over the second half of our fiscal year.

Part of this increase is obviously helped by the impact of raw materials, but the most significant part of the story is that we believe we will achieve this level of revenues while being at the gross margin level, assuming neutral raw materials consistently at or above 21%. Related to our most recent ESG initiatives, we continue to provide and complete ESG-related surveys and collect and report additional ESG data. In addition, our second solar installation, a 300-megawatt rooftop installation at our Arcadia Louisiana 2 plant is now operational.

Next, Haynes innovative alloys and applications are at the heart of our company and represent both a core competency and a long-term differentiator. We develop and bring to market niche, highly differentiated products that are the result of long-term research and applications development efforts. 4 of our newest alloys are at different stages of commercialization and have shown clear signs of market acceptance. They are for your information, HAYNES 233 alloy, HAYNES 244 alloy, HASTELLOY HYBRID-BC1 alloy and HAYNES HR-235 alloy. I would do our alloy and application development efforts a disservice, but I didn't also mention HAYNES 282 alloy.

HAYNES 282 has had tremendous success in many aerospace, space, industrial gas turbine, automotive and power generation industry applications. Most recently, an improved newly patented heat treatment for HAYNES 282 alloy has resulted in greater intermediate temperature toughness, opening the door to new potential applications for hot gas path engine components and other power generation applications. In addition, due to the acceptance of 282 alloy into the American Society of Mechanical Engineers, or ASME code, the alloy is on the verge of getting specified in clean emerging technologies such as supercritical CO2 and waste recycling projects. 

One final point on our alloy and application development efforts. You've heard us mention that we have our proprietary alloys already specified into the Pratt & Whitney 1000 series engine and in the GE9X engine that powers the 777X. Wrapping up my comments as an example of what our team can accomplish. On April 4, the south side of our Kokomo plant was hit with what we call a severe wind event. During the storm, we lost much of the roof on one large manufacturing building and much to no impact on quarterly shipments because of this event.

Okay. I'll now hand this over to Dan for his comments on our business and our financial results.

Thank you, Mike. We continue to see strong profitability leverage as our volumes and average selling prices grew. This quarter's pound shipped to 4.7 million pounds with an overall average selling price per pound of $32.7 of over 20% and solid net income of $12.3 million. Volume shipped to 4.7 million pounds was at a level that we previously would have struggled to make money. Now with our lower breakeven point, 4.7 million resulted in a $12.3 million net profit. That's a big change.

And we expect this profitability leverage to continue as we are now just beginning to hit our stride as far as the volume improvement. The example he provided of the month of March cold-finished flats production being 22% higher than the average volume produced over the prior 6 months is significant, especially combined with the future utilization of outside conversion than melting to help. The momentum within operations is increased or raw material prices for nickel and cobalt and the impact it has had on our results. Last year was a significant benefit, which we pointed out during each of those quarterly calls. 

This year was the opposite, with Q1 a significant unfavorable headwind of $5.6 million and Q2 a more moderate headwind of $1.7 million. We were forecasting Q2 to be neutral by the end of the quarter. However, cobalt continued to fall, causing the $1.7 million headwind. Nickel was neutral for the quarter. These estimates were derived from a model developed by the company to measure how the commodity prices change and how those flow through net revenues and cost of sales. Our press release Schedule 4 shows the result of this raw material impact on gross margins and describes this non-GAAP measure fully in Schedule 6.

The key takeaway is our adjusted gross margins, which are neutral of this raw material impact have been greater than 21% for the past 4 quarters, showing our core margins are solid. This margin strength, combined with the projected higher second half volumes and revenue is expected to drive improving second half earnings. This is expected even in light of significant cost inflation in items such as electricity, water, natural gas, property insurance and labor costs. Our goal continues to be offsetting inflationary pressure with price increases and/or cost reductions, such as improving yields, productivity enhancements and process improvements. Our solid margins show that it's working. 

Our SG&A, including research and technical expense, was 9% of net sales for the quarter as compared to last year's Q2 of 10.9%. SG&A dollars were a bit higher than expected with an uncollectible receivable from a small U.K. customer and sequentially higher foreign currency costs. Operating income was $17.1 million this quarter, which is over 60% higher than last year's second quarter. Our effective tax rate for the second quarter was 21%, driven slightly down due to stock compensation vesting and option exercises. Current estimates for the remaining quarters of fiscal '23 are moderately higher, in line with federal and state statutory rates. All of this resulted in net income of $12.3 million, up 45.6% from the same period last year. I would also like to provide a status of our U.S. pension plan strategy.

As we previously commented, our net liability and funding percentage has improved significantly over the past few years, a couple of years ago in early fiscal year 2020. Given this higher backlog, we continue to melt at high levels to meet demand. We are now beginning to achieve the higher revenue numbers that better match with our investment in inventory that we have made over the past year. We believe that our $108 million in borrowings against the revolver has reached its peak and should begin to moderately decline. Our expenditures for fiscal '23 are expected to be between $18 million and $22 million. 

Outlook for next quarter and full fiscal year 2023. Given the strength of the company's record backlog, along with the workforce additions and work in process inventory investments, the company expects revenue and earnings in the third quarter of fiscal '23 to be higher than the second quarter of fiscal '23. Further, the company continues to expect the full year of fiscal '23 to be 15% to 20% higher than fiscal '22 for both revenue and earnings. In conclusion, it is exciting as we transition into the second half of fiscal year with 3 notable significant factors: number one, improving production momentum, including expanded VIM capacity; number 2, strong demand in our primary markets, as evidenced by our $190 million order entry in our record backlog; and 3, pricing and gross margin strength. These factors fuel our optimistic view of continued growth and are expected to continue to provide the return on invested capital higher than our cost of capital, which is a key driver in shareholder value creation.

Mike, with that, I will now turn the discussion back over to you.

Thank you, Dan. Our team continues to be encouraged by both the progress we've made and the future potential of our business. Thanks to all of you for your continued interest in our company. And with that, Holly, let's open the call to questions.

(Operator Instructions) Your first question for today is coming from Mark Reichman at Noble Capital Markets.

With the strong order backlog, would you please comment on additional investments you may need to make, also SG&A expense trends and then your plan to pay down the revolving credit facility?

Sure. On the capital side, what this company did leading up to 2020 is make significant investments where we felt we had constrained areas. So we wanted to prepare for the future. We didn't want to say no to customers. So those 2 areas really ahead of the game. We expanded our capacity. As we sit here today, there are 2 areas that we watch very carefully as far as capacity. One is a cleaning line called the ANK line. That line we've already allocated and the board's approved a little under $6 million in capital.

So towards the supplement what we can melt inside to expand there. Beyond that, we're in very good shape. So we feel very good about being able to keep up with what's coming at us. Before I hand it over to Dan on the SG&A side, we feel an investment in people is critical, and we will continue to invest in people in our company. We've done that. We've begun that, and we've done that pretty much across the board. And even with increased spending of dollars, our percent of SG&A is down fairly significantly year-on-year.

Yes. 9% SG&A, including research and technical costs, I combine that together, is much better than it has been certainly with the increase in revenue driving that down. As far as core spending, there's some components of SG&A that are somewhat variable. There's distribution shipping costs, commissions and those types of things. But we do expect SG&A going forward to not quite be as high as Q2 necessarily, but close, a little down from the 13 -- I'm sorry, the 13.7% that you saw this quarter. You had also mentioned cash and the cash flow over the year and the paying down of the revolver.

As I mentioned, we do expect to be a bit more in balance with our melting versus our sales with the higher sales in the second half of the year. That, combined with raw material prices generally stabilizing a bit from where they once were, that's going to help our cash generation over the second half of the year. So we expect a moderate decline in the revolver. Backlog keeps surprising us. Backlog keeps going up. So we certainly want to keep up with that and keep melting at that level. But we do expect generally to generate cash in the second half of the year and begin to pay that down over the second half of this year.

Just one follow-up. There were just a couple of anomalies in terms of when you listen to like the Airbus and Boeing calls, for example, I think Airbus said they've got like 70 to 150 planes at backlog, and I think for Boeing, it was 4,500. But like when you look sequentially in the aerospace market, pricing was high, was up, but volumes sequentially were down a little bit. And then if you look at like the other markets, the volume was up. I mean other markets was as a small part of it, but pricing was down, which was kind of odd given the volumes were up. And so I was just kind of wondering the sequential and the year-over-year revenue trends have been outstanding. But based on sequential and leading edge shipments by market and the average selling price per pound, kind of what are your expectations for the remainder of the year for each of those segments?

We continue to pursue in the 2 markets you mentioned, incremental price increases wherever possible. Sequential is a difficult way to look at it because of the lumpiness of certain orders, what comes in, the mix of products within there. We were very pleased in other markets because what happened in other markets is our largest piece of that, quite frankly, is as commoditized as it gets, which is what's called the flue-gas desulfurization market. And that was down for us intentionally fairly significantly, but we saw significant increases in what we see as incubator or growing markets for us such as automotive, electronics, nuclear, wear and even some waste incineration.

And one thing I would caution on looking at average selling price. Certainly, pricing is in there, but product mix can move those numbers around quarter-to-quarter as well. So when you see an average selling price maybe stepping down a little bit, that's likely more product mix than anything else. We have different alloys in different product forms that have a very different margin profile. So it really depends on what we ship that particular quarter, and that can move the average selling price around quite a bit.

Your next question is coming from Steve Ferazani at Sidoti.

When I think about the kind of the cadence of shipments last year, IGT peaked in 2Q. And then I know that lower ASP came down in the second half, and then we saw a much stronger aerospace, which is the higher ASP. Would you expect that type of trend in '23?

We expect the second half of the year volumes overall to be up fairly significantly from the first half of the year. The thing that Dan and I both touched on in the call is our main product in aerospace called cold-finish flex. And we've had to get manpower in here. We now feel we're either at or very close to fully staffed. And when we talk about a 20% increase in one of our major product forms in aerospace, that's as far as production. That's fairly significant for us. And on the power generation market, 2 things have happened there. We've talked about the share gain. We're seeing that come through. And the other part of power generation, which we believe will continue to power it for us, if you will, is positive substitution of our alloys. There's an alloy that we have that I mentioned in the call, called 282, which is being substituted because of its increased temperature capability for some that are in there. So we expect growth in the second half of the year.

And certainly, as we look at inventory levels, we have ramped up melting rates quite a few months ago, and that's increased our inventory. Of course, that stays in WIP and semi-finished for quite some time since we just produced kind of the high-end type alloys, it takes quite a long time to produce through the mill. So now that we've made that investment in inventory, along with these headcount increases, that really is going to be a positive driver for the second half of the year, as Mike mentioned. And obviously, the strong backlog, the orders are there. So we are optimistic on what we can do in the second half of the year.

When I think about the average selling price, what you have in backlog and then the assumption being the inflationary pressures are easing. How should we think about what this can do to margins? Or is it that you work through more of the lower ASP in the first half?

One of the things that we have pushed very hard on is that we are not going to allow inflation to be the reason for our margins to come down. So we have continued to push that whatever inflation we face, and every business is facing inflation, that we need to at least offset, if not be greater than the inflation with our pricing actions. With that, we continue to pursue incremental gains. We're thrilled with where we are with gross margin. You look at our non-raw material impact of gross margin of 21% compared to others who do what we do, it's at the top of the list. So we're thrilled with that, but we think we can incrementally gain from there.

Great. And if I could just squeeze one more in. I know you guys are always closely watching cobalt and nickel prices. How are you thinking about second half of the year given price trends?

Price trends, in particular, in nickel are so variable. It's very difficult to project. And so what we continue to do in our raw materials is through our sales organization, we continue to make sure that we have the adjusters we need, which can offset any increases which could occur and then obviously also deal if they would go down. So we are very prepared for whether it goes either way. Cobalt, I'll tell you the truth, I've been very surprised on how far it's come down. But we will -- as we always do, we'll deal with the ups and the downs of this and follow along as best we can. But what I'm very confident in is in is the pricing mechanisms that our team has in place to make sure that raw materials because of pricing, we follow up, we follow down and make sure that we're getting what we need to get to related to our pricing related to raw materials.

Your next question for today is coming from Samuel McKinney at KeyBanc Capital Markets.

Firstly for me, to achieve that guidance of the 15% to 20% year-over-year growth, is there any way you can frame how much of that is reliant upon volumes versus the contribution from the price increases you guys have instituted?

I'll give you a general answer. We'll start there. We have very strong average selling price in our backlog. We have a very strong average selling price in the bookings that are coming in, but also the key for us is getting back to that 5 million pounds a quarter. It's a combination of the 2. We -- everyone coming out of COVID had issues related to manpower. We did also. I've been so darn proud of our ability to hire people, and we can now say we're fully staffed, but it takes a while to get those people trained. We now feel really good based on what we saw in March about the volumes going up incrementally from what we reported this past quarter. So I really think it's a combination of the 2.

I agree and as we look over the second half of the year, the unknown is what will commodities do and how that might impact headwinds or tailwinds on that as well. So Q1 was difficult with that $5.6 million headwind. It's moderating. And if that stays stable for the second half of the year, that's great. if it turns into a headwind, which who knows where raw materials may go, that could make things more challenging. But of course, it could go the other way as well. So that's the big wildcard, I think, going forward. But I think volume is a key contributor. I think our sales, pricing and cost reductions are showing its great effect already and the profitability leverage that I was speaking of in my script really is driven by that higher volume that we expect.

Okay. And then on that volume side, with backlogs at record levels, the demand for your products is obviously there. But when do you expect to eclipse that 5 million pound quarterly volume rate. Do you think that's achievable this year?

We definitely think it's achievable in the second half of the year. We've got the backlog. I know you didn't ask about cash, and I know we've already addressed cash, but what's been fascinating for this business is the fact that we have been booking well over $50 million a month. but it wasn't until March of the last quarter that we started shipping $50 million. So we now have gained significant momentum and are gaining momentum. So we feel that it is very achievable in the back half of the year.

Okay. And then lastly for me, the release last night mentioned some higher spending on outside costs related to information systems. Could you provide any cadence on that spending for us and if that's expected to be a recurring charge?

Yes. What our company continues to do is we want to make sure we have the proper tools in the hands of all of our employees to be able to manage our business effectively. We've got an IT system right now that's 10 years old. And so we have been analyzing what makes the most sense as we move forward as far as next step with ERP. And this was an expense to continue to do that.

Your next question for today is coming from Chris Olin at Northcoast Research.

So I want to touch a little bit on the surprising backlog strength that you referred to. And looking at turbine and aerospace markets in particular, I guess I was wondering first, I know you kind of mentioned a bit, but in terms of the IGT strength, is there a way to think about how much of that is coming from core demand versus market share? Or I think you referred to like a material replacement.

I think there's 3 ways, Chris, or 3 items that are involved with the increase in IGT. We -- a couple of years ago, we were able to secure a significant share that we've talked about on calls and that has helped us significantly. That's part 1. Part 2 is what I've talked about with positive alloy substitution. And I mentioned it in my script as far as 282. That is an alloy which continues to replace older alloys because of its tenure capability, which will allow these engines to run cleaner. And the third thing in IGT, Chris, is, from my view, for the first time in a long time, everyone is talking about it's single digit, it's low single digit, but it's growth in the power generation sector. People are no longer saying that wind and turbines are going to replace natural gas powered generation. It's certainly going to replace coal and potentially nuclear. But we see the market trending up to see. So I think it's a combination of the 3.

Got you. And then aerospace, I think everyone is pretty familiar with kind of the underlying story there. But you referenced the GE9X engine and then your content win there. I was wondering if that volume is reflected in prudent backlog? Or would that be potentially be a second tailwind to think about in the future?

I would say it's not material enough right now to say it's really in the backlog. I would say it's coming, it's starting, but I would not say it's there yet. But in general, we are seeing a pickup in double oil aircraft, okay? We're seeing a fairly significant other and that we're seeing the start of something very good. So it should continue to add on to what we have.

Do you differentiate between aftermarket demand on this deal or OEM?

In general, what we're saying about 15% is MRO. Balance is original equipment. That's a general statement. It's very difficult for us to refine these numbers because, again, we're selling typically to those that are bending the metal, making the metal parts that go into the aircraft. And so it's tough to differentiate sometimes. But in general, it's about 15%, 85%.

Okay. So a little bit of a switcher. The special revenues business. I know that's a lagging indicator, I guess, for your business, and it's been down because of kind of what's happened in the past. I was wondering if you could talk a little bit about the pipeline though and how we should think about that turning around or revenues?

Sorry, Chris, was that -- you're talking about special projects?

Yes, sorry.

We feel good about where we are with special projects. As I talked about in the script, this is where application engineering people, our research people excel. Being able to bring these things in and I look at special projects really as an incubator for us. But when you take a step back and look at what's happening, we are growing year-on-year, okay, in special projects. It is higher than typical margins. And when you take a step back and look at where it's being used, hypersonic aviation, acetic acid projects, plastics manufacturing, clean energy, linear generators, refinery, new processes for refineries. There's so many new applications coming at us. And as you know, they start small. But what we get excited about is when some of the concern in a much larger.

And then I guess just lastly for me, I know you were touching a lot on this capacity and expansion. I just wanted to make sure on the tubing side, you did expand capacity. You still have sufficient capacity for the rest of the cycle? And is there any potential issues with sourcing titanium?

No issues with sourcing titanium. We have long-term contracts agreements. We have an excellent relationship with our supplier that. And what we have done is we have looked at the capacity that the airframe manufacturers have said that they've needed for the hydraulic tubing.

(Operator Instructions) Your next question is a follow-up question coming from Mark Reichman.

I just had 2 follow-ups. The first is the percentage of undistributed income allocated to common shares, I think it was 99.2% this quarter. Some quarters, it's been 100%. It's kind of bounced around at 99%. I was just kind of curious, it's kind of a small question, but what would kind of be your expectation for the remainder of the year on that?

Yes. It would be similar to what you're seeing this quarter. I think when you see it back at 100%, that it really depends on the size of the net income. And in those years, many years ago, when it's negative, a net loss, then you're going to see 100% there as well. So what you saw this quarter should be pretty indicative of what you'll see going forward.

Okay. And then the second question is at the meeting, I guess, investors voted on the 5 directors and then you basically announced 2 new directors or 2 new director appointments. And I was just wondering if you could just comment on the Board composition.

Sure. The outside directors, we had just 4 and we wanted to make sure that we had the breadth of knowledge that we needed. Both directors that we brought in have financial expertise, and we are thrilled to have a Board of now 6 plus 6 outside directors. So I feel good about what the people that have come in. In fact, one just completed a full day of touring and meeting in Kokomo and the other one is set up for at some point in the next 6 or 8 weeks.

So 7 with 6 outside directors?

Yes. 7 total.

Okay. No, they look like very, very well qualified directors, but I was just kind of curious on the decision to add the 2 additional.

We have reached the end of the question-and-answer session, and I will now turn the call over to Mike Shor for closing remarks.

Thank you, Holly. Thanks, everyone, for your time today, and thank you for your ongoing interest and support of our company. We'll talk to you again in the quarter. Thanks, everyone.

This concludes today's conference, and you may disconnect your lines at this time. Thank you for your participation.