HEICO Corp (HEI.A) 2007 Q2 法說會逐字稿

Welcome to HEICO Corporation fiscal 2007 second quarter earnings results conference call. At this time all participants are in a listen-only mode. Later we'll conduct a question and answer session. (OPERATOR INSTRUCTIONS) I would now like to introduce our host for today's call, Laurans Mendelson. Mr. Mendelson, you may begin.

Thank you and good morning to everyone on the call. We welcome you to the HEICO second quarter fiscal '07 earnings announcement teleconference. I am Larry Mendelson, the CEO of HEICO Corporation, and I am joined here this morning by Eric Mendelson, President of HEICO's Flight Support Group; Victor Mendelson, President of HEICO's Electronic Technologies Group and our General Counsel, and Tom Irwin, HEICO's Executive Vice President and CFO. Before we begin, Victor Mendelson will read a statement. Thank you. Certain statements made in today's conference call will constitute forward-looking statements which are subject to risks, uncertainties, and contingencies. HEICO's actual results may differ materially from those expressed in or implied by those forward-looking statements as a result of factors including but not limited to, lower demand for commercial air travel or airline fleet changes which could cause lower demand for our goods and services, product specification costs and requirements which could cause an increase to our costs to complete contracts, governmental and regulatory demands, export policies and restrictions, reductions in defense or space spending by U.S. and/or foreign customers or competition from existing and new competitors which could reduce our sales, HEICO's ability to introduce new products and product pricing levels which could reduce our sales or sales growth. HEICO's ability to make acquisitions and achieve operating synergies from acquired businesses, customer credit risk, interest rates and economic conditions within and outside of the Aviation Defense Space and Electronics industries which would negatively impact our cost and revenues and HEICO's ability to maintain effective internal controls which could adversely affect our business and the market price of our common stock.

Parties receiving this -- excuse me, Parties listening to today's call are encouraged to review all of HEICO's filings with the Securities & Exchange Commission including but not limited to filings on Forms 10-K, 10-Q, and 8- K. We undertake no obligation to you publicly update or revise any forward-looking statements whether is a result of new information, future events or otherwise. Thank you. Okay, Victor. Thank you very much. Now, before reviewing our second quarter operating results in detail, I would like to take a few moment to say summarize the highlights. One, both our flight support and electronic technologies groups reported higher sales and earnings in the second quarter of '07 and that combined for an overall 32% improvement in consolidated sales and a 27% increase in consolidated operating income over the second quarter of the prior year. Next, our consolidated second quarter net sales and operating income represent all time record quarterly results for your company. The higher sales contributed to a 25% increase in consolidated net income over the prior year's second quarter.

In April 2007, we completed our 31st acquisition since 1990 with the addition of Ferris Shield Inc. Ferris Shield designs and manufacturers radio frequency, interference and electro magnetic frequency interference suppressor for a wide variety of markets. We believe this acquisition fits well with HEICO's Electronic Technologies Group criteria of offering niche subcomponents, supplied on multiple platforms in multiple industries. Ferris Shield's operations are being consolidated into Leader Tech's Tampa operations. Next, I am pleased to report that Eric Mendelson, the President of our Flight Support Group was awarded the Coveted Nuts and Bolts Award by the Air Transport Association of America, last month. This prestige award has for 41 years annually recognized leaders in the Aerospace Supply and Maintenance industry. All of us at HEICO are proud of this recognition. Earlier in this month HEICO entered into a strategic alliance with British Airways, our 7th such unique relationship with a major international carrier.

Under the new agreement HEICO will exclusively manage British Airways alternative parts program, helping the airline to maximize savings through the use of alternative parts in the most timely way. We believe that each of these events are further indication of the concentrated efforts for long-term sustainable growth at HEICO. Now drilling down into the details, our consolidated net sales in the second quarter of '07 increased by $29.1 million or up 32% from the second quarter of '06 reflecting revenue growth of 45% within flight support and 2% within Electronic Technologies. Net sales of Flight support increased to do a record $92.4 million in the second quarter of '07, up from 63.8 in the second quarter of '06. The increase in Flight support revenue represents strong organic growth of approximately 19% as well as the acquisitions of Arger Enterprises in May '06 and Prime Air in September '06. The organic increase in Flight support's revenue, reflects our success in developing and bringing to market new products and services as well as the continued increased demand for after-market replacement parts and repair and overhaul services within the commercial airline industry.

Net sales of electronic technologies increased to 28.8 million in the second quarter of '07, up from 28.3 in the second quarter of '06, and this reflects principally organic growth which were consistent with our near-term expectations. Overall, the consolidated net sales increased 30% to a record 234.9 million in the first half of '07, up from 180.2 million in the prior year. The $55 million increase is represented by approximately 30 million attributable to organic growth and 25 million attributable to acquisition. Our consolidated operating income in the second quarter of '07 increased 27% to a record 21.1 million, up from 16.6 in the second quarter of '06. Consolidated operating income in the first half of '07 increased 20% to a record 38.2 million and this was up from 31.9 in the first half of '06. Operating income of Flight support in the second quarter of '07 increased what I think is a phenomenal 66% to a record 17.9 million, up from 10.7 million in the second quarter of '06, and increased 44% in the first half of '07 to a record 32.3 million. That's up from 22.4 in the first half of '06. These increases reflect an increase in net sales and higher operating margins resulting principally from improved operating efficiencies and favorable product mixes.

Operating income of electronic technologies in the second quarter of '07 totaled 7.4 million versus 8.9 in the second quarter of '06 and 13.1 in the first half of '07 versus 15.3 million in the first half of '06, and this reflects a less favorable product sales mix. Corporate expenses in the second quarter of '07 were 4.2 million versus 3.1 in the second quarter of '06 and 7.2 in the first half of '07 versus 5.8 in the first half of '06. The increases principally reflect higher accrued performance awards based on the improvement in consolidated operating results. Operating margins of Flight support improved to 19.3% for the second quarter of '07 up very nicely from 16.8 in the second quarter of '06, and they increased to 17.9% in the first half of '07, up from 17.5 in the first half of '06. Operating margins of Electronic technologies were 25.6 for the second quarter of '07 versus 31.6 for the second quarter of '06. They were 24.1% for the first half of '07 versus 29.1 for the first half of '06.

Although the operating margins of Electronic technologies are down from last year principally as a result of a less favorable product mix, we are pleased to note that the group's operating margins in the second quarter of '07 increased by 3.1% over the first quarter of '07. As we've commented before, electronic technologies operating margins vary somewhat from quarter to quarter based on the timing of product shipment and product mix. Based upon the improving trends exhibited in the second quarter, and recent sales orders, and the current backlog of unshipped orders, we do continue to expect higher quarterly sales and improved operating margins over the balance of '07. Consolidated operating margins were 17.4% for the second quarter of '07 versus 18% for the second quarter of '06, and they were 16.3 for the first half of '07 versus 17.7 in the first half of '06. This of course reflects the lower operating margins within electronic technologies. We do expect the improved trend in operating margins in the second quarter of fiscal '07 to contribute to higher consolidated margins for the second half of fiscal '07.

Our diluted earnings per share increased a strong 25% to $0.35 in the second quarter of '07, up from $0.28 in the second quarter of '06. Depreciation and amortization increased to 3 million in the second quarter of '07, up from 2.2 in the second quarter of '06 and this is primarily due to increased amortization of acquired intangible assets relating to recent acquisitions. Moving onto research and development, total expense was 4 million in the second quarter of '07 versus 4.4 million in the second quarter of '06. That decrease mainly reflects efficiencies realized in certain ongoing R&D expenditures as well as the completion of some multi-year development projects since last year. The addition of new FAA PMA approvals continues to be critical to our long-term growth, and we now have over 5,000 parts approved by the FAA, and new parts released by our R&D group in the second quarter of '07 continued at a very strong level and generally as budgeted for the period. With are targeting a range of 350 to 400 new PMA certifications in fiscal '07. We also have a number of new products under development in electronic technologies.

As I mentioned many times before, we believe that our focus on continuing new product development is fundamental to our growth strategy, and this strategy has proven very effective over the years. SG&A expense as a percentage of net sales increased slightly to 18.6% for the second quarter of '07, up from 18.4 in the second quarter of '06 and they were 18.3 in the first half of '07 and this was down from 18.7 in the first half of '06. The increase in SG&A expense to 22.6 million in the second quarter, up from 16.9 in the second quarter of '06 is due principally to higher operating costs primarily personnel related associated with growth in sales including the impact of Arger and the Prime Air acquisitions. Interest expense was approximately 860,000 in the second quarter of '07 and '06, and the interest expense has remained low reflecting the Company's low leverage ratio. Interest and other income in the second quarters of '07 and '06 were not significant, and I won't comment on them. Income taxes.

The Company's effective tax rate of 34% for the second quarter of '07 and 32.3 for the first half of '07 are down from 36.2 for the second quarter of '06 and 35.2 for the first half of '06. These decreases are principally due to an income tax credit for qualified research and development activities that the Company recognized in fiscal '07 for the full fiscal 2006 year, pursuant to the retroactive extension in December '06 of the underlying provision of the Internal Revenue Code. The '06 tax credit, net of expenses, increased net income by approximately $0.05 million or $0.02 per diluted share for the first half of '07 and by about $200,000 or $0.01 per diluted share for the second quarter of '07. The minority interest share of our consolidated income was 4 million in the second quarter of '07 and 2.7 in the second quarter of '06. The minority interest relate principally to the ownership interest that are held by [Luftans] in our flight Flight Support Group and by others in certain subsidiaries of flight support and electronic technologies. The increase from the second quarter of '06 is attributable of course to the higher earnings within flight support. Moving onto our financial position and balance sheet and cash flow, our balance sheet and cash flow remain extremely strong. Cash flow from operating activities in the first half of '07 totaled almost 22 million including 18.8 million generated in the second quarter of '07, up from 7.4 million in the first half of '06. Our working capital ratio strengthened even further to 3.2 as of April 30 versus 2.7 on October 31, '06. DSOs of receivables equaled 50 days as of April 30, '07, versus 54 days as of both January 31, '07 and October 31, '06, and as I've said to you before, we carefully continued to closely monitor receivable collection efforts in order to manage our credit exposure carefully.

The inventory turnover rate as of April 30, equaled 126 days compared with 120 as of January 31, and 142 days as of October 31, '06. Inventory levels of flight support have increased since October 31, '06 and are attributable to higher number of new parts being developed, but the overall turnover rates have improved. No one customer accounted for more than on 10% of our sales, and our top five customers represent approximately 21% of consolidated net sales in the second quarter of '07 and this versus about 20% in the second quarter of '06. Long-term debt to capitalization decreased to 13%, as of the second quarter of '07 versus 15.3 on January 31, '07, and 14.8 in October '06. This reflects the net year-to-date payments of $4 million under our revolving credit facility, and as you all know our leverage continues to remain extremely low. Capital expenditures in the first half of '07 were 5.7 million, and our net capital expenditures for the year are projected to be approximately 18 million although some of this could shift and roll into 2008. Looking forward, as we look to the balance of '07 and beyond, we continue to believe our commitment to develop new products and services, increasing product demand from customers, our strong financial position and our ability to identify select acquisition opportunities provide the foundation for continued growth in sales and earnings. The same drivers that we've looked upon for the past 17 years, and they've stood us very well.

Based on current market conditions, we are raising our targeted fiscal '07 net sales to a range of 475 to 480 million, diluted net income per share in the range of $1.39 to $1.41, operating income for '07 is expected to approximate 81 million representing a consolidated operating margin of about 17%. These targets of course exclude the impact of additional acquisitions if any. We continue to target fiscal '07 cash flow from operating activities in a range of 50 to 54 million. In closing, we continue to adhere to our long-term strategy of developing and marketing new products and services which provide our existing customers with improved technology and substantial cost savings and allows to us expand our markets. We believe that this strategy has resulted in the strong financial performance we have reported since 1990. It also positions us with the opportunity for ongoing substantial forward growth. We do remain very confident of our disciplined business model and that will provide us and the Company the opportunity for long-term sustainable growth, and those are the extent of my prepared comments, and I would like to open the floor for any questions which you may have.

(OPERATOR INSTRUCTIONS) Our first question comes from Arnold Ursaner from CJS Securities. Please state your question.

Good morning, Larry.

Good morning, Arnie.

On Ferris Shield was there any revenue contribution in the quarter?

Small amount. It was not a large transaction, but there is a small contribution in the quarter, very little.

I would say it is really de minimus in the quarter, quarter, Arnie.

My second question relates to the ETG Group, again, in Q1 you indicated timing was an issue there, and yet the revenue growth there was again somewhat on the disappointing side. You indicate the backlogs are strong, your trends are positive, can you perhaps freshen up the three or four-month period to indicate what is holding up the revenues hitting the bottom line if you will?

I am going to ask Victor to respond to that because he is the President of that division, Arnie. Good morning, Arnie. The answer to your question, where we came up short in the business primarily was at two business units during the quarter, and those were -- one of them was really defense related revenue as a result of delays on our part in product development, and basically completing some of the programs, not some of the programs but some of the R&D portion of the programs that we're working on. That has started to change, and will continue to improve over the course of the year, we believe. The other part of it, I think, is in one of our high voltage businesses where I think we've lost some customers, and we've been disappointed with that, and we're taking steps now to change the operation in order to improve it, and that one, I think, will be a longer haul to improve, but we still believe overall with the strength in the other businesses in the group that it will continue to improve over the year, and I will let Tom Irwin add to that.

Just to make a note of, we did make substantial progress in the second quarter as anticipated in our first quarter conference call in that revenue was up in the second quarter over the first quarter with NETG by about 3.2 million, and the operating income contribution of that additional revenue is about 1.6 million, so that indicates the substantial operating leverage of that business unit has, and so with anticipated continued progress in terms of revenue growth, we're still confident that ETG will have a strong full fiscal year.

Can you give us a feel for backlog? You had done that when you reported your full year results in March. You indicated, then, that the backlog had actually jumped 23%.

And it continues to be strong. Overall backlog at the end of April is up about 25% over the end of last year, so it continues -- it has grown again a little bit more and continues to be a strong indication of why we believe the continued progress in the second half particularly within ETG, about 25% increase is overall backlog, both business segments, but if I recall the ETG is up about 20% just by itself.

Sure. My final question relates to your margin guidance given what you've just said about ETG which really sounds like it is a timing issue, and that's a much higher margin business if you look at what you reported so far in flight safety group you're well above your normalized 17 to 18% margin range. ETG typically is much, much higher, so what are the factors guiding you to a lower margin goal for the year versus what you already reported given the highest margin business hasn't even kicked in yet?

This is Thomas Irwin again. Given the full year guidance of 17%, you are correct, and that would entail as we previously stated some overall slight margin improvement in corporate. I am speaking of year-over-year, the full 17% for the full fiscal '07 versus full fiscal '06.

Right.

Would entail overall improvement in Flight Support Group somewhat and Corporate somewhat and as we've commented before, we do not expect to maintain the 30% operating margins in ETG that we did in '06 for the full '07, so I think what we're saying is in the second half Flight Support Group we're not comfortable that we'll realize the 19% margins that we did in the second quarter. That was a very good strong mix of business overall it is going to show improvement for the full fiscal year, again based on our expectations, but probably not at that 19% range.

I haven't finalized the math, but to be 17% for the overall company are to the full year would imply Flight Support Group has to drop to something in the 15, 16 range, and you haven't been anywhere near there for quite a while. What are you trying to signal if anything other than your conservatism?

Well, just looking at our expectations, I don't believe they would go down that far, no.

I just don't think your math works, guys. I think your margin guidance appears extremely conservative. Congratulations on a great quarter.

Arnie, thank you.

Our next question comes from Christine Min from Calyon Securities. Please state your question.

Hi. Good morning.

Good morning.

On the ETG side with the backlog up about 20%, how long does it usually take for the backlog to show through the revenue line?

It probably turns on average of six to nine months.

Okay. And then on the Flight Support Group with the impressive gain in the margin improvement in the quarter, you mentioned that you you don't expect it to be at this high level going forward, but where does most of these efficiency -- these gains come from? Was it efficiency in the distribution business from the acquisition or better product mix from the expansion of the platform or even mix from both?

Christine, this is Eric Mendelson. I will go ahead and answer that. We had great strength in all of the businesses this quarter. I wouldn't say that there was any one particular area that drove the results. You asked typically about distribution. I can tell you that distribution with certain of our principles is extremely strategic to the direction of the business. I think that's helping drive some of these results, but it is really coming from across the businesses as well as from our -- some industrial work we do in the aerospace segment. Just a comment, Christine. We believe that the entire aerospace industry, and I think you probably subscribe to this, too, that the entire aerospace industry is very, very strong and probably it likely to be -- we have visibility out into 2010, 2011. I was at the recent AIA meeting in Williamsburg and talking to a number of CEOs of aerospace companies, and they all a free that the visibility is very, very great, perhaps greater than its ever been in the history of recent aerospace industry, and we're seeing this reflected in our results right across the board, and it is just a very strong industry, and we believe that it is likely to continue and actually as you know Boeing predicts over the next 20 years that the commercial fleet will go from 17,000 to 36,000 aircraft, and that means that MRO and parts and OEM deliveries and everything else is just going to be very strong for the next 20 years if we can see out that far, and we're seeing it reflected in our business right across the board.

Great. My last question is with the strong organic growth in Flight support, do you expect that high teen range to 20% range organic growth going forward into the next couple quarters?

Well, we try to look at things in the most conservative light because you never can know when the X factor may happen, but we think that over all we have a budgeting problem because our guys like to truthfully they like to sand bag us, and we have to push them to get their projections to more realistic levels, but I think that internally we think maybe it is going to slow down, but we don't see any signs of it slowing down at this point.

Great. Thanks very much.

Our next question comes from Chris Quilty with Raymond James. Please state your question.

Good morning, gentlemen, congratulations on the quarter and congratulations to Eric for his award. I am probably going to ask the same question in a different way with regard to the Flight Support Group margins. Would you look at it any differently from a PMA parts versus overhaul in terms of the margin contribution in the quarter or from historical trends?

Yes. I am going to let Eric answer that question, Chris. As you know, there are normal fluctuations in the businesses, and each of the units within Flight support run at a different-- run at different operating margins, but I would say that in the quarter everything was very strong. We saw great strength throughout the entire business, great interest in our products, and that really drove this, drove these numbers.

Okay. And anything we should expect in terms of seasonal demand or peak demand coming into the summer here? I know sometimes in the past 10 years you've seen softer periods of parts demand because load factors were too high, high, getting any visibility on those sort of issues you might have to deal with?

No, nothing really in particular other than of course the second quarter frankly surprised us and was very strong, but we don't see anything that happened really in the second quarter that was particularly unique. I mean, we did have -- everything was firing on all cylinders in this time period, so we're very happy about that, but I think maintaining this margin that we had in the second quarter will clearly be difficult, but if everything falls in line then it is more likely to have these higher numbers, but Tom can comment on historically where we've been running in the Flight support, and add some color on that.

This is Tom, Chris. There have been individual quarters from time to time. Sometimes it's been the second quarter, sometimes it's been the third quarter with worldwide distribution and worldwide marketing particularly in our Flight Support Group, it does move around as to some of the these peaks and valleys in terms of short-term demand. That's again one of the reasons we have avoid quarterly guidance and stick to our annual results, and that along with the things we've spoken about many times on the ETG group. It is difficult to predict quarter by quarter what might happen, the top 30 or 40 airlines of the world.

Okay. Switching gears, we haven't had a chance to talk with this since the announcement in a public forum, but the British Airways announcement, can you give us a little background on how long those negotiations may have been occurring and importantly, sort of what level of business preexisting business did you have with BA before this agreement, and can you give us a sense of order of magnitude expectations for what kind of contribution it may give on a go-forward basis?

Sure, Chris. This is Eric. We had said in the past that out of the world's 20 largest airlines, 16 of them bought HEICO's proprietary parts. Now that number has increased to 17 with British airways being perhaps the most high profile non-former buyer of HEICO's proprietary parts. We sold British Airways for many years, other parts and services. However, they did not have a PMA program or a robust PMA program before this. They decided to work with us, and we agreed to this strategic deal where we would implement their entire alternative parts program, and they are looking to frankly reduce their costs and increase the reliability just as our other major customers are, so I think that there is great opportunity for us in that area, and frankly right now we're working with them to get our arms around the opportunity to figure out what is possible to do.

We don't give out specific information on specific customers for obvious competitive reasons, but we think that the opportunity is tremendous, and also it even as significant as the opportunity is the message that it sends to the world's airlines that they're not in this alone and that HEICO parts are broadly accepted and that this is the standard way of doing business in the industry, and I think it is going to continue to help us with penetration of our parts around the world and convince some of the smaller operators that don't use our parts that this is something that they really should do because this was a major step forward for British Airways. They did a lot of due diligence into HEICO and really satisfied themselves of the technical competence. They're a very capable and technically savvy airline, and I think it sends a good message. Chris, I would like to add to that. This is Larry. I would like to add a little color from my perspective. As you know, we run HEICO really for the long-term, the long medium-term to the long-term picture because we can't make things change over night, and in that regard I think we're seeing indicators that clearly show that the business that we're in, the alternative parts, PMA business, is an item whose time has really come. If you take individually they're interesting, but collectively you put them together, and I think it paints a much broader picture of what's happening. You take British Airways. British Airways forever has been no PMA, no matter what, we bang our head against the wall, we're not interested, didn't want to hear about it. They've changed. You take a thing like Eric's receiving this Nuts and Bolts Award. This is given by the airline industry, and historically it has been given one airline person and an industry person, and that industry person historically has always been an OEM supplier or subcontractor to the OEM and that supply chain.

We believe that that's quite a statement when they gave it to Eric and HEICO in alternative parts. I think that's a message that the airlines are sending to the world that they now recognize HEICO in particular as a source equal to the OEM, and in awarding this, so when you look at all the different kind of indicators going on, the growth in our revenue, the acceptability in the Far East, you've seen the chart where we show over the past 10 years how our revenue has moved from predominantly North America, some extent Europe, now to the Middle East and to the Far East, how the percentage of sales, so we are getting acceptance throughout the world and throughout the world's airlines, and I think on a macro basis to me this is much more important than the day-to-day and quarterly results because it is like a snowball coming down the hill. Anyway, that's the way I see it.

Great. Speaking of the international exposure, it has been almost a year-and-a-half from the China aviation agreement. Can you give us any update on advances you may have made in that market and with that relationship?

At the time we made this we said that this again was a very important longer-term process because China probably has the entire country of China today has less aircraft, commercial aircraft as I understand it than American Airlines, so China is now building. They're getting their infrastructure together, so their market for parts at this moment is not that enormous. The new planes that they're buying won't present opportunity for us as you know four, five years out, but the fact that we're developing those relationships over a long period of time I believe will serve us very well, but in the numbers that we reported there are no big results there from China, but this is the long-term picture and we're setting the ground work for revenue production in China, between four and ten years out. So there is not a lot in it as of now.

Great. All right. Thank you very much, gentlemen.

Thank you, Chris.

Our next question comes from J.B. Groh with D.A. Davidson. Please state your question.

Good morning, guys.

Good morning.

A couple of housekeeping items. On the corporate expense 4.2 versus roughly 3 last quarter, is there anything in there that one-time or is that -- give me some color on the increase there.

J.B., this is Tom Irwin. I would say generally it is things that are occurring earlier had in this year including the accrual performance based on incentive plans, et cetera, that have been formalized and budgets in large measure some of those performance awards weren't earned until late last year where as they're being accrued earlier based on the performance to date, so I say that because we're still targeting overall a slight reduction in corporate expenses from last year again bringing it down to that roughly 3% of sales range, so it is not -- it is happening earlier as opposed to an ongoing amount.

So for the full year you expect around 3% of sales, so it wouldn't come down as an absolute number but as a percentage of sales?

Exactly.

And then, Larry, maybe you can talk about acquisition pipeline and what you're seeing in terms of valuations? Obviously there has been a lot of private equity moves around, and can you maybe just talk about what you're seeing in terms of opportunities?

Yes. We -- our pipeline is full. We're looking at a number of acquisitions. As a general rule the pricing has increased, so we're probably paying a little bit more or the asking prices are a little bit more right now than they have been over the past three or four years, not a major amount, but maybe 1 EBIT turn, maybe 1.5, but it is still a little more expensive. We have lots of opportunity. We're very, very careful as you know. We're very disciplined, and so that's why it takes a long time, but there is a big opportunity there. In the aerospace side there is definitely an increase in P.E. multiples of public companies in the aerospace group which as you know, and that's because of the visibility that I believe that the earnings have out to 2010, and I spoke about that earlier, and the M&A multiples are increasing with the P.E. multiples, so everything is getting more expensive. I would assume that just based statistically I would assume we would make the same number of acquisitions that we have done over the past few years on average, but until it is closed, you know, it is not closed, and we've had lots of glitches, so overall I think it is kind of normal, but the pricing is a little bit higher.

Okay. And then a couple for Eric. Eric, in terms of the parts that you're developing currently, I ask this question every quarter. Is the potential value of those parts similar to say the average in the catalog? Is there a trend there? Is it relatively constant? How do you view that in terms of what's being developed new versus kind of the average?

I think it is pretty consistent. I am not aware of any significant change in the average -- the value of the average part that we're doing now.

Are there emerging platforms that -- which platforms are getting more attention? Is it mostly the narrow body stuff or have you started to develop maybe some wide body product?

We have both. We have both engine parts and component parts for both narrow body as well as wide body products, so I wouldn't say we try to focus on one over the other. It is pretty well broad based across both of them.

And one of the things I gathered from some recent Boeing meetings is some of these new planes, they're trying to sell sort of a total care type of package, and I know it is quite a ways out, but what sort of implications do you think that has for your business?

Well, the OEMs have been offering basically total care packages now for, I don't know, 20 years, and in particular in the last 10 years they've been much more aggressive. I think it is just continuing more of the same. Our customers realize -- each of our customers has the opportunity to accept the total care package, and every single dollar of product we sell is because our customers have decided they don't want to go to a total care package, and they want to maintain the independence and the flexibility, the competition, to be able to get better prices and better quality, better services elsewhere, and that frankly drives some of the total care providers to provide an improved and more competitive product. I think they want us in the marketplace, and I think that that is going to continue.

Great. Thanks for your color on that Nuts and Bolts Award. I think it is real relevant that Eric won that. Congratulations.

Thank you very much.

Our next question comes from Jim Foung from GAMCO and Company. Please state your question.

Good morning, gentlemen, good quarter.

Good morning, Jim.

Larry, maybe you can give us a little timing in terms of this British Air maintenance contract? How soon do you think you might begin to see some revenues coming from this agreement?

I would say we're going to start to see it open up almost immediately, and I think through the balance of this year and then next year we'll see even -- it builds because they do have inventory, and it takes awhile for that inventory to be used, and then we step in, so I think it will be gradual, some this year. This is not the like the China analogy. This is immediate use because they have these aircraft, they're older and so forth, so they will use them and I think we'll see a much bigger impact of course next year and as we move forward I think it will continue to grow.

I guess when you compare this maintenance agreement with the others that you have, how does this one stack up? Does this one potentially one of your top three or is it going to be in the middle of the pack? Could you just give us relative size and scope of this?

Jim, as a general rule, we don't comment on sales to any one particular airline. As a rule, though, the size of the airline, the number of aircraft and engines and everything generally determines the size of the business we'll do with them, so British Airways is a pretty big airline, and I think it will become a good customer, but I couldn't tell you where it would stack up.

Right. Potentially sounds like it is a nice big -- could be a fairly large business for you.

Again, we don't like to say tha it will be large or not. We think it is very important to have their confidence. We've worked very hard to gain their confidence. We think that it will and it should have an impact on some of the other non-PMA users. Remember, we said we do 17 of the 20 largest airlines in the world in alternative parts, I would think that by having British Airways which was a big hold out, that should be an influence on the others although I can't guarantee it, but I think that having another major quality airline using our parts is a very big positive for the whole -- for the whole product line.

Right. Congratulations in that win.

Thank you, Jim.

Just second question is could you just talk about the relationship between fuel prices for the airlines and then the desire for PMA parts? Is there any relationship as with fuel prices being at these current levels? Does that encourage them to seek out more PMA parts as they seek lower costs?

I think the answer is yes, because the higher their costs of operation, the more places they're looking to save costs, and they can't save it on fuel because fuel is-- the world price of fuel is what it is. So the one place they can save it is in parts cost, and this is significant cost for them, and I think that this is bringing Pratt and Whitney into the picture when they said they're going to make parts, too, they must have figured this out, that the parts, the alternative parts would be in bigger and bigger demand, and most people are knowledgeable in the industry do believe whether it is fuel prices, whether it is labor prices, whatever costs are going up, the one place, the respite in all of this, the oasis, is that there is a company out there, HEICO, that is able to cut your parts price 25 to 35%, and that's a lot of money. These airlines saving millions and millions of dollars on parts where as every other cost is going up, up, so they're very interested.

That's probably one of the factors that British Airways was looking at as they look the next 10, 20 years in saying we have to look at ways to cut costs, and I don't see fuel prices coming down any time soon, so it is more airlines looking at direction, that's positive for you guys?

Absolutely. One of the low cost carriers without mentioning names, but you are all well aware of the company I am talking about, but when they first came on the scene, they said we're going to have cradle to grave and let the OEM do it, we're not going to be bothering with it, and then about a year ago they said we have to study this thing because all of a sudden as they grew and as their problems grew to the same size as larger airlines, then they started to scramble around and say, well, we better start focusing on those other costs that might be controllable and we can do something about, so ultimately they all come to that realization, and quite honestly if they don't, it is really a very short sided management that doesn't see this.

Great.

This is like shooting fish in a barrel for an airline. This is absolute give or take 25, 30 30% savings on 70% of the overhaul costs of engines and accessories, so a big savings.

A big number here. Just lastly on the electronic technologies group, sounds like the second half you've seen a turn here on the margin or seeing improvement. What do you think you might end the quarter on the margin basis as you get out of '07 and going into '08?

I will let Tom respond to that.

Jim this is Tom Irwin. Relative to long-term margins within Electronics group as I mentioned earlier last year they were 30 and we were clearly going into the career not comfortable with that. I think we indicated in the foreseeable future, the next up to three years, that the ETG Group operating margins are more likely in the mid-to 20s, 25, of 26%, something like that, so, again, we did reach that in the second quarter. If we can remain there or even improve a little bit, then for the full year we should be in the 25, 26% range which is our near-term targets. I think as we look out longer, there may be opportunities and we'll comment on that as we go forward, but at this point that's where we're comfortable.

Okay. Seems like to get to that average level for this year, you probably end the year with like a 28% margin just the way the math works some.

Well, again, since the first quarter was only about 22%, if we're going to hit our targets of 25, 26, then, yes, the second half has to be higher than the first half, and again consistent with what we said in the first quarter as we look at our backlog and the margins on those backlog products that we expect to ship over the next six months, that's the basis for our expectations.

Okay. Would that continue to build as you go into fiscal '08 or is that -- variations of it that kind of cause it to swing back and forth?

I think at this point we're not comfortable predicting annual operating margins in ETG above our '07 numbers. There are opportunities for that, and we'll speak to longer-term margins as we look at what our mix is of backlog, what our additional acquisition margins look like, as we buy businesses, some of them may be averaging above the 25. Some may be averaging below the 25, so that will impact it as well.

Okay. Good quarter. Eric, again, congratulations on the Nuts and Bolts Award.

Thank you very much, Jim. Thanks, Jim.

Our next question comes from Tyler Hojo from Sidoti and Company. Please state your question.

Good morning, everybody.

Good morning.

I was actually wondering if we could go back to the British Airways deal. Just maybe looking at a little bit differently, out of the roughly 1,000 engines that British Airways currently maintains, how many of those engines does your current PMA parts catalog currently address?

Jim, I don't have -- I am sorry, Tyler, I don't have that information in front of me, but most of British Airways engines are Rolls Royce, most of their aircrafts are Rolls Royce powered, and our offering at the moment is very small on Rolls Royce engines. I would say of their -- you said about 1,000 engines, I would think we could do about 20% of them right now, but obvious there is huge opportunity in the other ones as well. Also, in addition, as you know they've got some 60, 7400s, and a whole bunch of 777, 767, 8320 and our controls and accessories product line really fits very nicely with their fleet.

Very interesting. Okay. Thanks for that, and then going over to the Flight Support Group margin kind of a little bit more, is it possible to kind of provide us with an underlying operating margin? I know you have a couple of lower margin acquired businesses in that number, maybe 11, $12 million worth. If you were to strip those out, it seems like the margin performance or one could reasonably assume the margin performance in FSG was maybe higher than you have seen in the past three, four years, is that a good way of looking at it?

Tyler, this is Tom Irwin. As we've commented in the past within the Flight Support Group, we have the higher margin businesses developed by the PMA parts, and then below that the component and repair group margins, and then below that the distribution margins being the lowest. As you're pointing out we added distribution in '06 and '07 which had an impact of while raising operating income absolute amounts, putting pressure on the or lowering the margins. The improvement in margins we're seeing this year in fact do reflect improved margins year-over-year out of our PMA parts business and our repair group business that is happening as we've added portfolio and added new parts, and efficiencies of scale, et cetera, et cetera, so you underlying the overall margin improvement is an improvement at our -- what we consider our core business of the PMA parts business and new parts business as well as some improvement in repair.

Also just to add on that while the distribution margins in general are lower, again it is an extremely strategic business for us. There is a lot of value that we believe we can bring to some in particular our larger principles on the distribution side, and really be able to offer a product which is very competitive and something that our customers are really want and adds tremendous value.

Did the fact that you had a distribution kind of capability within your business, did that play into getting this relatively unique reward from British Airways?

I would say that definitely helped. That HEICO is more than just our parts that we do have the strategic principle that is we work with that we can add value and really make this work for everybody.

Okay. Good. Just a couple more housekeeping questions I guess for Tom. What is the tax rate you have baked into the guidance, Tom?

What we realized in just the second quarter, that is as you may recall in the first quarter we had an '06 R&D tax benefit when the law changed, so a bit lower. In the 34% it was a more normalized 34% if you do the math and if we go forward for the rest of this year our guidance is based somewhere in the more normal 34% range.

Good. And do you have an expectation in regards to D&A expense for FY '07?

The D&A for the full year should continue at its current pace which would equate to about 12 million for the full year.

Great. Thanks a lot, guys. Really appreciate it.

Thank you.

Our next question comes from Arnie Ursaner from CJS Securities. Please state your question.

A quick follow-up to Tyler's question. On Boeing you mentioned-- I'm sorry, on British Airway you mentioned that most of their engines are Rolls Royce engines but my understanding of your agreement with them is you were going to manage the entire PMA process to the extent the 80% you don't have direct parts, am I incorrect you will also be trying to work with British Air to find other PMA suppliers for their Rolls Royce parts?

You're right on the Rolls does have some many hundred engines in the British Airways fleet that we do not offer many parts for at the moment, and I think it is important to stress at the moment. There may not be many available from anybody else right now either. I think that that is a huge untapped opportunity for us in that area as well as we're going to be able to provide our parts as well as other people's parts for the components, you know, that go across their fleet, we'll be able to provide the HEICO engine parts if they want them for the engines where we do offer a product.

Okay. I guess a follow-up to that, to the extent you don't have Rolls Royce parts in your current portfolio, is there a reason why you have? Is there anything unique about their parts or to the extent you now have a customer that could clearly use a fair amount of PMA parts, do you try to reverse engineer these and build them into your portfolio? I would say there is nothing unique about the Rolls Royce products from a technical perspective whatsoever. If we've got customers who want to buy them, we are certainly more than technically capable of developing them. And in a situation like this where you know you have a potentially sizable order, again, you can never predict R&D, but typically what sort of time frame might it take for you to create these parts for them? Is it a year process, a three-month process? Give us some feel for the R&D process typically.

Arnie, I have to be very careful to not speak about any particular customer or any particular product line for obvious competitive and confidential reasons.

Sure.

I can tell you that to develop a part is anywhere from six to eighteen months depending on the type of product, could even go longer than eighteen months, with the average part around the twelve-month area from the time we in-deduct it into real R&D until we have a product which is available, so you could use that, say, one year as realistic expectation.

Perfect. Thank you.

You're welcome.

At this time we have no further audio questions.

Well, I would like to thank you all for your interest in HEICO. The management remains open to your questions and inquiry, you know where to reach us by e-mail or telephone if you have further questions please call me or Tom Irwin, Eric or Victor, and we will try to be responsive to your requests, and until the next third quarter conference teleconference I wish you all a very good summer, and we will speak to you at the third quarter if not before. Thank you.

This concludes today's conference call. Thank you for attending.