HEICO Corp (HEI.A) 2009 Q2 法說會逐字稿

Welcome to the Heico Corporation fiscal 2009 second quarter earnings conference call. I will turn your call over to Laurans Mendelson.

Thank you very much, and good morning to everybody on this call. Again, we thank you for joining us and welcome you to Heico's second quarter fiscal '09 earnings announcement teleconference. I'm Larry Mendelson. I'm the CEO of Heico Corporation, and I'm joined here this morning by Eric Mendelson, President of Heico's Flight Support Group, Victor Mendelson, President of Heico's Electronic Technologies Group, Tom Irwin, Heico's Executive Vice President and CFO. And before we begin, Victor Mendelson will read a statement.

Thank you. Certain statements 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 demands for commercial air travel or airline fleet changes which could cause lower demand for our goods and services, product specification cost and requirements, which could cause increase to our cost to complete contracts, governmental and regulatory demands, export policies and restrictions, reductions in defense, space or homeland security spending by US 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 could negatively impact our costs 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. Those listening to today's conference call are encouraged to review all of Heico's filings with the Securities and Exchange Commission including, but not limited to, filings on forms 10K, 10Q and 8K. We undertake no obligation to publicly update or revise any forward-looking statement whether as a result of new information, future events or otherwise. Thank you.

Thank you, Victor. Now, before reviewing our second quarter operating results in detail, I would like to take a few moments to summarize the highlights of what we consider a very challenging but successful second quarter in which the continued effects of the slowdown in global economic activity were significant factors, but in which operating results approximated those reported in the first quarter. Consolidated net income was $10.5 million or $0.39 per diluted share for the second quarter of '09 compared to $11.9 million or $0.44 diluted share in the second quarter of '08 and $11.3 million or $0.42 per diluted share for the first quarter of '09. That quarter included $1.1 million or $0.04 per diluted share benefit from the settlement of an income tax audit. Within Flight Support, we are facing challenges caused by the global airline capacity reductions and shrinking MRO spending.

Typically in market downturns such as the current one, our market share expands as customers are more committed to our cost saving offering. Although this does not happen instantly, we do believe that our medium to long-term growth potential is enhanced in difficult times. Within Electronic Technologies, we are generally seeing strength in our defense and space related businesses which favorably impacted technologies' operating margins for both the second quarter and the first half of '09, offset by continued weakness in customer demand due to the recession for certain of our medical, telecommunication and electronic products. As we have pointed out in the past, revenue and profits of Electronic Technologies may vary considerably from quarter to quarter due to variations in shipping schedules and product margins. Historically, these variations have balanced out over a full fiscal year. Even in the face of these economic challenges, our consolidated net sales, operating income and operating margins approximated the levels reported in the first quarter of '09. Our cash flow and balance sheet remain extremely strong and as of April 30, company net debt to equity ratio was only 6% with total -- with net debt, which is total debt less cash, of $28 million, and we have no significant debt maturities until fiscal 2013.

Given our strong capitalization, we invested over $8 million in repurchasing our own shares during the second quarter of '09 at prices we believe provided significant value for Heico and its shareholders. Furthermore, in March '09, we announced that our Board of Directors approved an increase in our share repurchase program by an aggregate 1 million shares of either or both of Class A common stock and common stock, bringing the total authorized for repurchase to 1,024,742 shares. This expansion of our share repurchase program demonstrates our continued confidence in Heico's long-term growth prospects and financial strength as well as our commitment to enhancing shareholder value. Also as announced earlier this month, we completed our thirty-ninth acquisition since 1990 with the acquisition of VPT, a leading designer and provider of innovative power conversion products principally serving defense, space and aviation industries. While we did not disclose the financial terms of our VPT acquisition, the acquisition is generally consistent with our previously outlined acquisition strategy of targeting well managed companies with customer focused, highly engineered niche products with annual revenues approximating $10 million to $30 million, strong operating margins and which companies can be acquired in a range of five to six times EBIT. Despite the economic challenges we continue to face, we do remain true to our long-term principle of growth driven primarily through the development of new products and services.

While we are aggressively pursuing cost efficiencies and cost reductions, we actually increased new product development spending in the second quarter of '09 by approximately $600,000 or 14% over the second quarter '08. We believe that these increased expenditures will benefit Heico in the future by driving sales and earnings higher while lowering the operating costs of our airline partners and other customers. Moving into the specific categories on the financial statements, our consolidated net sales in the quarter -- second quarter '09 were $130.2 million compared to $144 million in the second quarter of '08 and $130.4 million in the first quarter of '09. As you can see, sales in the first and second quarter '09 were approximately the same. Overall consolidated net sales totaled $260.6 million in the first half '09 compared to $278 million in the prior year. Flight Support reported net sales of $100.7 million and $200.3 million respectively for the second quarter and the first half '09 as compared to $108 million and $210.3 million respectively for the same period in '08. Electronic Technologies reported net sales of $29.5 million and $60.5 million respectively for the second quarter and first half '09 compared to $36.1 million and $68 million respectively for the same periods in '08. The net sales decline in both the second quarter and first half of '09 in both Flight Support and Electronic Technologies reflects the continued effect of the slowdown in global economic activity. Our net sales for the first half of '09 by market were comprised approximately 71% from the commercial aviation industry, 16% from defense and space and 13% from other markets including medical, telecommunications and electronics.

Our consolidated operating income in the second quarter '09 was $21.3 million compared to $26.4 million in the second quarter of '08, reflecting lower operating income in Flight Support and Electronic Technologies, partially offset by a decrease in corporate expense. Consolidated operating income in the first half '09 was $42.8 million versus $49.6 million in the first half of '08. Operating income of Flight Support second quarter '09 was $15.9 million compared to $20.4 million in the second quarter of '08, Flight Support's operating income in the first half '09 was $31.5 million compared to 31 -- I'm sorry, $39.3 million in the first half of '08, and this, of course, reflects the lower sales volume and variations in the product mix. Operating income of Electronic Technologies second quarter '09 was $8 million versus $9.8 million in the second quarter '08, also reflecting lower sales volume and Electronic Technologies' operating income in first half of '09 was $16.6 million, down slightly from $16.9 million in the first half of '08, reflecting strong operating margin due to a more favorable product mix. Corporate expenses in the second quarter '09 decreased $2.6 million from $3.8 million in the second quarter of '08 and decreased to $5.3 million in the first half of '09 compared to $6.7 million in the first half of '08. Operating income of both business segments for the second quarter of '09 approximated the levels reported in the first quarter of '09. Operating margins of Flight Support were $15.8 million in the second quarter '09, compared to $18.9 million in the second quarter '08 and were $15.7 million in the first half of '09 compared to $18.7 million in the first half of '08, principally reflecting the impact of lower sales volume and variations in product mix. Due to the higher incremental margins of Flight Support, particularly in our PMA part sales, the lowered sales volume had a disproportionate effect on our gross profit margin. Operating margins of Electronic Technologies continued to be very strong at 27.2% in the second quarter of '09, up slightly from 27.1% in the second quarter of '08 and strengthened to 27.4% for the first half of '09, up from 24.9% in the first half of '08. This reflects a favorable product mix.

As I indicated earlier, net sales and operating income of Electronic Technologies may and will vary a great deal from quarter to quarter. Operating margins of both business segments in the second quarter of '09 approximated the levels reported in the first quarter of '09. As a result of lower margins within Flight Support, our consolidated operating margin for the second quarter and the first half of '09 was 16.4% compared to 18.3% and 17.8% for the second quarter and first half of '08, but remained level with consolidated operating margins reported in the first quarter of '09. Diluted earnings per share was $0.39 in the second quarter '09 compared to $0.44 in the second quarter '08 and $0.42 in the first quarter of '09. I want to point out that the first quarter '09 did include a $0.04 per diluted share benefit related to the settlement of an income tax audit. Diluted earnings per share was $0.81 in both the first half of '09 and the first half of '08. Depreciation and amortization expense decreased slightly to $3.4 million for the second quarter of '09, down from $3.8 million in the second quarter of '08. This was a result of lower intangible asset amortization expense related to prior year acquisition. Research and development, as mentioned earlier, expense increased 14% to $4.9 million in the second quarter '09, up from $4.3 million in the second quarter '08. Our investment in new products and services reached almost $10 million in the first half of '09, an increase of 15% from the same period in '08. Again, we are confident that these increased expenditures will be well rewarded in the future and will help lower the cost of our airline partners and other customers while at the same time making it possible for us to gain market share and increase unit volumes.

I want to point out to you that after the 9/11 disaster when revenue fell, we also significantly increased R&D expenditure with the confidence that having more parts on the shelf in the future to offer to our customer would be the best strategy for Heico to adopt. That strategy paid off in the following six years by having a growth of approximately 29% compound annual growth for the years -- six years that ended in 2008. We are following exactly the same strategy again. We feel very confident and that this will enure to the benefit of Heico and its shareholders, and we also feel that the -- we do not engage in financial engineering. If we did, we would reduce R&D. We would show higher earnings per share as a result of lower R&D, and that would benefit the short term. We do not operate the company that way. The addition of new FAA parts, PMA approvals continues to be a critical strategy to support our medium and long-term growth. We continue to target approximately 500 new PMA certifications for fiscal '09, up from 400 that we did in fiscal '08. We also have several exciting new products under development in Electronic Technologies.

As I mentioned many times before, we believe our focus on continuing new product development is fundamental to our growth strategy, and we remain committed to this long-term strategy, even as we continue to face the near term challenges of the slowdown in global economic activity. In selling, general and administrative, we are aggressively pursuing cost efficiencies and reductions in all of our businesses. SG&A expense decreased by $4.8 million or 18% to $21.2 million for the second quarter '09, down from $26 million second quarter '08. SG&A spending as a percentage of net sales decreased to 16.3% in the second quarter of '09, down from 18% in the second quarter '08. Interest expense in the second quarter '09 decreased to a de minimis $112,000, down from $645,000 in the second quarter '08, principally due to lower interest rates and a lower average balance outstanding under our revolver credit facility. As I referenced earlier, our net debt was only $28 million as of April 30, '09. Other income in the second quarters of '09 and '08 was not significant, and the Company's effective tax rate decreased to 32.7% in the second quarter '09 and 30.2% in the first half of '09, down from 34.8% in the second quarter '08 and 34.5% for the first half of '08. The decrease in the first half of '09 is principally due to the audit settlement reached with the IRS in the first quarter of '09 relating to the company's qualified R&D tax credits which increased net income by $1.083 million or $0.04 a diluted share in the first quarter of '09, as well as a lower effective state income tax. The minority interest share of our consolidated income was $3.8 million in the second quarter '09, compared to $4.8 million in the second quarter '08. The decrease from the second quarter '08 is attributable to the acquisition of additional equity interest in certain Flight Support subsidiaries in which minority interest exists as well as lower earnings of Flight Support.

Moving over to the balance sheet and cash flow, as you know, our financial position remains extremely strong and very healthy. Cash flow from operating activities in the first half of '09 totaled $26.6 million, of which $21.4 million was generated in the second quarter of '09, compared to $35.2 million for the first half of '08. We do expect our full '09 cash flow from operating activities to approximate $70 million, and this is comparable to the $73 million generated in fiscal '08. Working capital continued to be extremely strong. The ratio was 4.0, current assets to current liabilities as of April 30. DSOs and receivables were 49 days on April 30, down from 53 days as of January 31, '09 and 52 days as of October 31, '08. Receivable collection efforts are being closely monitored as they always are in order to manage credit exposure in light of financial challenges facing many of our customers. The inventory turnover rate on April 30, '09 was 145 days compared to 149 in January 31, '09 and 123, October 31, '08. Inventory levels have increased since October 31, '08 as a result of lower sales volume in '09. We are continuing to review and adjust production schedules to better match customer demands while at the same time managing production efficiency. I want to expand a little more on that.

During times of slowing sales, we determine that it's important to continue to build our inventory for what we perceive will be the eventual turnaround. We believe that airlines normally take planes out of service. Which planes have the most time on the engines and those planes, when they ultimately come back into service, will be the first once to go to the repair shop and need repair and overhaul and will need parts. Heico must be in a position to supply those parts promptly, quickly to our customers. And even though we are building inventory now because of our high profit margins and low carrying costs, we are paying less than 1% inventory -- I'm sorry, bank debt at our very low debt level. This is a strategy we are fully aware of, Inventories are not obsolete, there is no obsolescence in the inventory, so we determine that this is an excellent strategy and will permit us to service our customer, which is the most critical mission that we have. No one customer accounted for more than 10% of net sales. The top five customers represented approximately 22% of consolidated net sales in the second quarter. Our net debt to equity was just 6% as of April 30 compared to 8% in January '09 and 6% again in October '08. And you know that our leverage continues to remain extremely low. As I mentioned earlier, we invested over $8 million in our own shares in March '09 at prices we believe provide significant value to Heico and its shareholders. CapEx in the first half of fiscal '09 was approximately 5. -- I'm sorry, $5.4 million, in line with our current estimate of $10 million to $12 million for the full fiscal '09. I want to point out that we funded the share repurchase, capital expenditure, acquisition payments of $13.5 million without any additional borrowing. It was all done out of cash flow generated by the company and the cash flow, which is one of the key measurements that management follows, is extremely strong.

The outlook, we are operating in an extremely difficult economic environment. You all know that. Since the beginning of fiscal '09, airlines have continued to reduce worldwide capacity as the impact of global recession curtails demands for passenger travel as well as cargo traffic. Current market forecasts of worldwide airline capacity reductions in '09 range from decreases of 5% to 10% from '08 with forecasted levels of MRO spending down as much as 10% to 20% for the same period. Comparable market estimates earlier this year forecast worldwide airline capacity reductions in the range of 0% to 5% and MRO spending down 5% to 10%. Our Electronic Technologies has also seen lower demands for certain of its medical, telecommunications and electronic products. Even in the face of these challenges, we remain confident of the value proposition that Heico products represent, and we have accelerated our commitment to develop new products and services to increase market penetration of our existing and new customers. I expanded on that before.

We also expect to continue our successful strategy of identifying select acquisition opportunities that will complement our existing business platform such as our recently announced acquisition of 82.5% interest in DPT. I also want to point out that our bank lines and our debt capacity, the bank line is very -- the drawn upon portion of the bank line is very low. We have plenty of available capital at very advantageous interest rates, and we are actively looking for acquisitions and we have many of them on our list and we are doing a lot of due diligence and as you know, an acquisition doesn't close until it closes and at this point, I can't give any further color on that. But there are many, many in the pipeline. In recent months, there have been some signs that airline capacity reductions are moderating as evidenced by available seat miles, parked aircraft, airline bookings. However, the near term visibility still remains pretty opaque. And accordingly, at this time, we do not expect our full fiscal '09 sales and diluted earnings per share to fall by more than 5% to 10% when compared to fiscal '08 levels despite many economic challenges facing Heico and industrial companies today.

I'm going to preempt what I believe will be many questions on this subject of our outlook and our guidance and say the following. Recently, there have been a number of articles in newspapers as well as financial analyst reports from many, many firms where they are indicating that the drop in airline traffic, both passenger and cargo, is moderating. And some research analysts go as far as to say that the time to invest in aerospace -- the aerospace industry might not be now, but it's coming close because they see the turn coming. I'm not making any predictions or recommendations that people buy aerospace stocks, and so that's not what my comment is aimed at. My comment is, we are trying to figure this out. In the event that the analysts are correct, that this economic recession is bottoming and some people say have bottomed and some even say it's turned already, if that is correct, we would expect a turnaround in the third and more likely the fourth quarter of this year and then certainly for our fiscal 2010, which would start on November 1, '09. If the recession continues and gets worse, our sales could become worse and our earnings could be down more than 5% or 10%. We, at this point, our best ability to judge the future tells us that it will not be, and we do believe that there is a turnaround occurring. We see the number of planes coming out of service, the reduction in number of planes coming out of service, and we think that it is possible if this turns quickly, that it could be less than 5% or 10%. So at this point, we are just giving you our very, very best considered judgment based on everything that we know, and we do think that the turn is at hand, and it's a question of how quickly it will happen.

In closing, we remain committed to the long-term operating strategy that we've managed for many years, and it focuses on medium and long-term growth, and we believe that this strategy sets the solid foundation from which to best reward Heico and its shareholders. This is the very same disciplined business model that we have followed since 1990, a period over which Heico has delivered and achieved a 20% compound annual growth in net income. That is the extent of my prepared remarks, and I would like to open the floor for questions and if appropriate, I will ask the question of Tom, Eric, Victor, as the case may be. Operator?

The lines are now open for questions. (Operator Instructions) Our first question comes from the line of Arnie Ursaner CJS Securities. You may proceed with your question.

Yes, good morning, gentlemen. This is actually Fred Buonocore calling in for Arnie. How are you today?

Okay, Fred, thank you. And you?

Wonderful, thank you. Just wanted to go through with you on your top line guidance as it relates to the VPT acquisition. You hadn't mentioned if VPT is included in that or not but just based on the numbers that you put out there of this being within your typical $10 million to $30 million range, and if we assume say the midpoint of your guidance and assume the midpoint of that range for acquisitions on VPT incremental revenue for the end of the year, it would seem to imply then that organic growth for the year would be down, say toward the lower end or near 10% of your top line guidance range. Does that make sense?

I think that does, that's accurate.

Okay, great, excellent. Thank you for that. And then just secondly a follow up as relates to your view of the market, it's kind of two parts. First of all, MRO down as much as it seems it could be down this year, seems like an unprecedented drop, maybe with the exception of the post 9/11 period, but as it relates to Heico, could you give us a little more granularity on the specific factors that are affecting your business in terms of, are you seeing predominantly inventory destocking still? Is it maintenance deferrals in addition to the aircraft being taken out of service? And is this driving OEMs to try and take back some share from PMA players?

That's a very good question. I am going to let Eric respond to it, because he's closer to the grounds on that, but that's a very good question. We'll start with the last part of your question, with respect to OEM players getting more aggressive. We have not seen that. The OEMs have a very adequate tool kit and do a very good job of protecting their market share. So we don't see anything different than we've seen over the last five years or so on that. Remember, we only go for a minority market share on each of the parts that we sell. We size our productive capacity only to satisfy a minority of the market. We leave a majority for the OEMs. The OEMs are able to price that wherever they want to price it and if they are going to have the competitor, it's really the best type of competition that they could probably have. So we have not seen any change in OEM behavior in terms of going after our market.

As far as the inventory destocking, yes, airlines are doing every single thing they can to save cash. The biggest part of maintenance expense is engine overhaul and since parts typically account for about 70% of engine overhaul, airlines are doing whatever they can to reduce induction of engines, even if that means having employees literally do nothing but paint the floors and the walls. Because even if they don't want to send their employees home and they want to maintain their direct hourly cost as well as their overhead, still, they can avoid the cash outlay by deferring engines, and they can defer roughly 70% of that cash outlay. So we have seen around the world this phenomenon occur. First it was drawing down inventory and inventory destocking and then literally, we've seen that when they run out of inventory, they just have the people doing various maintenance projects. That couldn't go on forever, because if you see the numbers, the aircraft, ASMs are down whatever they are down in both the commercial and the freight market, and they are not going to be able to continue this indefinitely. So there should be a rebound.

Having said that, we are not counting on a rebound in our business and not just sitting back expecting volumes to increase, but we are out there trying to obviously sell more parts, and that's been met with tremendous enthusiasm and tremendous support. And I can tell you that airlines in the past who had been lukewarm to the PMA concept have really changed their approach and attitude towards PMA and now view it as an essential part of doing business. Again, we are not trying to take a minority market share. We are not trying to sell them everything from a particular OEM. We are just trying to provide savings on the parts that we provide and provide them with a tool to moderate these OEM price increases that the OEMs keep on throwing out. We have certain engine manufacturers increasing prices high single digits, and the airlines are not happy about that because obviously, their yields and load factors are down, so how can they possibly pay more money for parts just because it comes from a sole source supplier? So our concept has been meeting with a lot of support, and I would say is gaining, as my dad said, tremendous momentum through this downturn. I don't know if I covered all of your questions in there.

Yes, thank you, that's, extremely helpful. Just as an extension to that if I may, if inventories have come down to the levels where they appear to have maybe be drawn to, in the event of a turnaround when it does come, whether it's Q3 or Q4 or sometime into 2010, with respect to the trajectory of the recovery, would you think then it would have to be more V-shaped, given the fact that if planes start flying again and maintenance starts to take place again, they will need parts urgently?

I think from a lot of the things that I read in the newspaper, they are expecting more of like a modified L-shape recovery with a slight upward slope. I think you're right, that on the kind of parts that we supply, in particular the engine business, there is going to have to be a steeper slope to that, but I don't think people see the market getting back to where it was a year and a half ago any time soon. I'm talking the worldwide economy. So for us it's going -- we are going to be ready to be able to support with inventory. We have too much inventory now. It's unacceptable. Our turns need to improve. But I think that we are going to be able to support them, and we will take advantage of that when the time comes.

Great. Thank you very much.

You're welcome.

Next question comes from the line of Tyler Hojo with Sidoti & Company. You may proceed with your question.

Good morning, everybody.

Good morning, Tyler.

I wanted to talk a little bit about going back to the Flight Support group again, down 7%, I guess to your prepared remarks, certainly not surprising given where the global air traffic numbers have been. But I think it might be helpful if maybe you could talk about that growth just in context of maybe what the PMA portion of that is doing relative to maybe MRO?

Tyler, this is Tom Irwin. The -- as Eric mentioned, in the downturn when planes are parked and Larry as well, in terms of maintenance deferrals, the PMA parts business has been significantly impacted. Our MRO business has -- is down some, but not as dramatically, and that's partly where you see the margin change as referenced that our PMA business being a higher margin business has had a more significant impact on the operating margins.

So actually, the MRO business is more stable than the PMA business currently,.

It's down less, yes.

Okay, and I guess just in regards to 500 new parts still on track, where do we stand now in terms of new parts developed year-to-date?

We don't public those numbers monthly or quarterly because they can swing. Typically, we have a large percentage of our PMAs obtained in the year attained in the final months of the year, actually in the final quarter, just the way that it ends up stacking up. So we are comparable to where we have been at this point in the year for the last many years, last, I'm guessing three, four, five years, so we are on track for that number.

Okay. Sounds good. Just then just lastly, just in terms of the conversation in regards to building market share and coming out of the downturns in a stronger position, is there any sort of maybe detail you could put around that, just in terms of quantifying that maybe?

Sure. There are airlines who typically, I would say -- I'm not talking top 20 airlines, but probably top -- the next tier of 20 airlines, where a number of those guys didn't do their own engine maintenance and -- but -- and don't even necessarily do their own component maintenance, where we have started working with them and shown them the discrete savings they can get from our parts as well as how we could help them moderate price increases from sole source suppliers going forward. And there's been a tremendous amount of enthusiasm and support coming from those people, and I think we are on the cusp of a number of very important deals there where they realize that they need to get more involved, number one. Number two, we've also seen for Heico parts somewhat of a breakthrough in the leasing market. Lessors, the balance of power now has shifted, and it is no longer a lessors market, but it is a lessees market. And lessors in the past, aircraft lessors who didn't want to permit the use of PMA parts have cost their customers a lot of money. So one of the ways that we are seeing leaving companies now pick up market share and maintain their fleets and keep their fleets out there and not end up losing them to competitors is by permitting them to use Heico parts. And we've met with success in that field and again, that's been driven by this downturn in the market. So those are the reasons why we think we are going to come out of this much stronger than when we entered into it.

Great. Thanks a lot.

You're welcome.

Our next question comes from the line of Eric Hugel with Stephens. You may proceed with your question.

Good morning, guys.

Good morning, Eric.

Can you tell us about maybe some trends in the business? As you went through the quarter, you talk about you're starting to see some improvement in ASM trends. Are you actually seeing correlating improvement in the trends in your business that would match that, or is it still way too early to tell here as we went through the quarter and as we go through May?

I think, Eric, it's still a little too early, as I indicated. I said the outlook is rather opaque. All the reports, I'm sure you know, because you follow this closely, show that the fall off, the number of planes taken out of service, the reduction in passengers flying and so forth has slowed significantly, so that's pointing to a turnaround which we see -- we believe we see coming, and a number of analysts agree with that. It has not come yet. We haven't seen the upswing yet, and we haven't seen them starting to put planes back into service which would be the trigger point that we need to see the reversal and the scramble which we think will be inevitable, the scramble for parts. We have not seen it yet. We are waiting to see it. I think that the second quarter was about flat with the first quarter in terms of parts, not a significant difference to us, but we have not seen the turn yet. We are waiting for the turn.

Do you think, I guess in terms of conversations with your customers, that oil prices creeping up could, as they bring back capacity, could keep them from bringing back some of the older like MD 80s and classic types of aircraft which you are very prevalent on?

All of our parts have a lifecycle and typically, Heico is on, I'd say the -- we are not on an airplane the first five to maybe even seven, eight years, ten years, and we are on the back end. So if some of these aircraft come back into service, yes, they are going to need parts, and we will be in position to be able to supply them. Whether they do come back into service, that really depends on a lot of things including fuel prices, availability of capital and what the airlines are able to do. But after 9/11, people didn't expect a lot of these aircraft to come back and they did come back. So we'll be ready if they do.

With regards to acquisition, when we had talked last you were seeing lots of opportunities, but the sellers weren't willing to sell at multiples that you thought were reasonable, and that was hurting your ability to close on deals. Are you still seeing that, or is that improving? Have expectations come down to more reality level?

I think they are going exactly in that direction, Eric. I think that we are in continual discussion with some of these people, and we are very disciplined as you know, and we are not going to change our pricing multiples, and we are seeing some movement towards sellers becoming more realistic in this market. So I think yes, that's happening in a number of negotiations that have been ongoing, put on the shelf, are now coming off the shelf because the sellers are becoming more realistic.

And finally, Tom, I guess this is more of a housekeeping question for you, we have always looked at the tax rate minority interest combined at a 52% to 53% rate and it's been sort of lower than that of late. Is that reflective of you buying back more of the minority interest shares and that should be in that maybe 50% to 51% going forward? How should we think about that?

Eric, yes, this is Tom Irwin. I think on a go forward basis, it's more in the 50% range, you're right, it is down. There's a couple of things and you really pointed to them. Number one, we did by some minority -- additional minority interest shares in the first half of this year and secondly, our tax rate was artificially low, if you will, in the first half of this year by the R&D tax settlement. Our tax rate was around 28% in the first quarter and about 33% in the second quarter. I think on a go forward basis, our tax rate would be, a "more normal rate". If you looked last year, tax rate was around 34.5%. So the combination of a slight higher effective tax rate and a slightly lower effective minority interest rate by buying some stock should average around the 50 go forward.

But if I -- so going forward, if I look at Q3 and Q4, I should still see that combined sort of 50.

Yes,.

Not for the full year though, because I sort of back out the tax benefit and stuff like that, so I'm more looking at it going forward. So 50 have a good number?

Yes.

All right. Thanks a lot, Tom.

Our next question comes from the line of JB Groh with DA Davidson. You may proceed with your question.

Good morning, guys.

Good morning, JB.

You mentioned there's no obsolete inventory. Is there a way to maybe draw out a stat about the aging or that kind of thing to give us a little more comfort there?

JB, this is Tom Irwin. Yes, I think it reflects to our evaluation of inventory and obsolescence and slow moving and so forth. Number one, remember, our product doesn't have a shelf life, so it doesn't -- it's not like a drug or something that you have to refurbish it. Number two, the economic life of a part is 20 to 40 years. This is once we get the PMA part developed and approved, that particular part number is going to be active in flying for so on, for again, that 20 to 30 year period. We do do analysis on slow moving. We do -- we are very conservative, actually, in terms of slow moving reserve, and we carry reserves based on quantities on hands in excess of X- so many months worth of supply, and we do carry that, and so we have that provision. But in terms of even that is like a percentage reserve, and we don't scrap the inventory. We don't destroy it because it will potentially be salable and often is salable despite the fact that it may be reserve.

Okay, that' helpful. And then just a couple of housekeeping items. Obviously, the corporate expense was down. Is that $2.5 million, $2.7 million kind of a good run rate number to look at for the balance of the year?

JB, this is Tom Irwin again. Yes, basically that's a relatively fixed cost number. We've lowered some compliance costs. We've talked about that in the past, and the rest is primarily personnel savings that we would expect compensation costs that would be relatively stable the rest of this year.

Okay. And then would we --should expect debt levels to continue to creep down? I know it's sort of irrelevant from an EPS standpoint, but.

Well, I think in terms of absolute dollars, it would probably be relatively constant quarter-by-quarter in the near term.

Okay. And then your comments other down, potentially 5%to 10% that's a GAAP EPS number, right? So you are including the benefit of the $0.04 n Q1?

Yes, basically, just to keep it simple, down 5% would be 5% off $1.78, and there would be a net of everything, yes.

Right. Okay. Thanks a lot.

JB, this is Larry Mendelson. I want to clarify something to make sure it's communicated correctly. When you mention debt levels, we closed the VPT transaction on May 1, so -- but it's not a significant number, but I didn't want everybody to think it's going to be the same as it was on April 30 and so forth. However, as we look at our cash flow, I'm predicting -- assuming no further acquisitions which may or may not be correct, but assuming we don't have any more than the VPT, the debt level will do just what you suggested and will continue to creep down. And it's not a significant number in our overall financial structure.

Right, okay. All right. Thank you, Larry.

Also, JB, this is Eric, just to clarify one thing, of course we have some inventory that ultimately will not sell. However, debt -- what Tom said is those are currently reserved and what my dad was referring to, saying we don't have obsolete inventory, he of course means net of any reserves. There's been (inaudible) net, obviously. It's written, if it's bad, it ain't there. It's not on (inaudible). It's not carrying any value.

Okay, understood, understood.

Our next question comes from Chris Quilty with Raymond James & Associates. You may proceed with your question.

Good morning, gentlemen.

Good morning, Chris.

Most of my questions have been answered but a clarification, Tom, on the sort of worst case scenario down 5%, 10%, did that assume about equal performance between the two business segments? FSG and ETG?

Basically on an annual basis, because of the lumpiness that we referenced in the ETG, yes, I think in terms of revenue mix for the full year, it's going to approximate the typical 75%, 25%, 75% within Flight Support group and 25% within ETG, is that what you're referring to?

Yes, yes, just the -- if you hit the worst case scenario, it's not because the Flight Support is all down and ETG is flat for a year-over-year basis, it would be down by an equal percentage.

Right.

Okay, and more specifically, I guess for Victor, sort of the outlook here on the ETG business, again, not on a quarterly but on a full year and two year out basis, what do you see as the drivers for the business and sort of business visibility improving at any point here?

Chris, this is Victor, the answer is as to whether visibility is improving, I think it's stabilized recently. And it had been sort of a straight ride down on a number of fronts, medical, electro optical, some other general markets that we serve. I don't expect over the next quarter or two much of an improvement in that for us. I believe though, based on some new business that it appears we've won, we would start to see improvement maybe toward the end of this fiscal year or the early part of next fiscal year. And I think the dynamics overall, the outlook, where we are on our defense products, our strategy is to be broadly based across many different platforms, not on highly exposed to any individual programs where we are subjected to the major cutting, we are on, I think as Secretary Gates would say, what does he call them, the 80% or 75% solution as opposed to the 100% solution, that's where we have much more participation. So I feel pretty good about those going forward. On the medical side, I feel pretty good about where we are, the comps as we get out a year or so, a year or two is as you inquired about, and I would continue to believe that overall, we should look for the mid single digits growth organically out of the business. Not this year, I would not expect that at all this year. But I think as we move forward, I would expect that given the general mix of what we have. Of course in terms of margins by the way something that I've been emphasizing lately is as we make acquisitions, we may be making acquisitions of companies that are very healthy margin but not quite as high margin as the overall margin in the group has been historically. So that would dilute the margin slightly, but still be pretty healthy margin business.

Okay. And final question, you talked a couple times about gaining market share with customers, and I know it's probably hard to quantify, but maybe if you could give us at least a vignette of a customer or a sample of customers who have made a distinct change and what kind of benefit accrues to you, have they gone from using a dozen parts to now they're using hundreds of thousands, any of those that come to mind?

Chris, are you talking about ETG or Flight Support?

Sorry, I switched gears from Victor to Eric, Flight Support.

Chris, the opportunity for us is really in both sides. In the customers to whom we're currently selling a lot of parts, they need to buy a lot more parts in order to increase their savings levels. So I would say that's just sort of standard business where we are increasing the number of parts that they are buying from us, number one. Number two would be, as I mentioned earlier, what I would say if not the top 20 largest airlines in the world but the next 20 where we maybe didn't have as much exposure to those guys and we are in now working with them on their spend and they realize -- they see that Heico has a very broad portfolio to offer from engines, components, all around the airplane, airframe, so we are able to propose solutions to them on what makes sense for their current strategy and we are able to pick up that market share. They are in the analysis phase, contract signing phase, adding parts, and all of that is going very well.

Great, thanks a lot, gentlemen.

Thank you, Chris.

Our last question comes from the line of Jim Foung with Gambelli and Company. You may proceed with your question.

Good morning, Larry and everyone.

Good morning, Jim.

Yes, I guess I have one question left here. I guess I don't understand why the PMA parts were down more than the MRO business in the quarter.

Jim, this is Eric. I would say probably because the area where the airlines can make immediate cash savings is in engine overall. So if they can avoid inducting an engine, using a spare engine, drawing it down or taking a good engine off of an aircraft that has been parked, that's what they do. They park the aircraft that are closest to needing service so therefore, they are able to immediately reduce the engine expenditures. And then I mentioned there are even shops around the world where they are not even buying parts and they instead are having their employees do miscellaneous tasks, rearranging the shop, literally painting the walls, the floors, all that kind of stuff. So since the engine business is the place where the airlines can save cash, that's the place where they first look. And that's the place that's been impacted the most. Components also have been impacted but just not as much. And so therefore, since we don't overhaul engines in our overhaul business, we don't see the drop in the engine overhaul. That doesn't factor into our MRO business numbers.

I see, okay. And so the key indicator would be the airlines bringing their airplanes back into service, that would kind of be the best indicator to look for a pick up in your business?

We, that would be -- even if they don't bring them back into service and they just fly what's currently flying, they are going to have to buy more than they've been buying because they can't keep on taking good engines off of parked airplanes and they can't stop buying parts forever. So there should be some rebound there. We really haven't seen signs of it yet but intuitively, you would think that it's going to come. Jim, we are normally the first one in the replacement parts, the first one to see get hit when they pull planes out of service because they don't want to invest money in new parts to park planes and repair planes in airport -- in the desert. Similarly, when they put those planes back on, normally those are the planes of that the greatest time on engines and on equipment and accessories and to put them back, they are going to have to do some work, otherwise they have timed out aircraft going into service. So I think we are first to get hit and we are probably first to see it come back.

I think, Larry, you mentioned in the past that you kind of saw that after 9/11 where in the beginning of downturn, your business dropped and then over time, it kind of picked back up again and even greater that what you lost. How long does that take? I mean after 9/11, let's say, what was the period of time before you saw --

Jim, it's very hard to judge because in our case, after 9/11, before 9/11, we probably had 85% of our content or revenue came from JTAD, and they pulled so much JTAD out and a lot of that JTAD didn't return, although as Eric pointed out earlier, a lot more ultimately did return than anybody expected. But in that case, we had to build non-JTAD and get that share of the market. That took us about a two-year period. This time is very different. This time we have very little content on JTAD so even if they put MD 80s out and don't return them and so forth, the impact would be considerably less, so we believe that the turnaround would come much sooner, and that's what I said earlier. As they start to put planes into service, I think we are going to see some immediate results and that could be, maybe some in the third, fourth quarter of this year, but I would think in our fiscal 2010 which starts November, I certainly, based on everything we are reading today, would believe we are going to see a dent, and maybe we will see some pickup in the third and fourth quarter a little bit.

So things could start improving in the second half of your fiscal year and into 2010?

We believe that to be the case.

Great. Thank you very much.

Jim, thank you.

We have no further questions in queue at this time.

Okay. Well, I want to thank everyone for their interest in Heico. I want to remind you that our next Q3 earnings call will be some time in the latter part of August. And if you have any questions or comments, I'm available, Tom Irwin, Victor, Eric, give us a call and we will try to be responsive. Otherwise, we wish you all a good summer. Thank you.