HEICO Corp (HEI) 2003 Q3 法說會逐字稿

Good morning and welcome to the HEICO Corporation third quarter fiscal 2003 earnings conference call. I will now turn the call over to your host Mr. Laurans Mendelson, Chairman, President and CEO.

Thank you and good morning to everyone on this call. We welcome you to the HEICO third quarter fiscal 2003 earnings announcement teleconference. I'm Larry Mendelson, 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 HEICO's 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 in this conference call will constitute forward-looking statements which may involve risks and uncertainties. HEICO's actual experience may differ materially from that discussed 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 our costs to complete contracts to increase, governmental and regulatory demands, export policies and restrictions, military program funding by U.S. and non-U.S. government agencies or competition on military programs, which could reduce our sales. HEICO's ability to introduce new products and 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 the Aerospace defense electronics industries which could negatively impact our costs and revenues. Parties receiving listening to this 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 10-K, 10-Q, and 8-K. We undertake no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events or otherwise. Thank you.

Thank you, Victor. Now, before reviewing our third quarter operating results in detail, I would like to take a few moments to summarize the highlights. In general, we were pleased with the quarter. We think that we are beginning to see signs of an improvement in the general Aerospace industry and the Aerospace parts business. We are seeing some strengthening in commercial Aerospace resulting from the end of the military conflict in Iraq and also the subsiding impact of SARS. You have all read in the newspaper that travel is picking up and airlines are booking more flights also. Our flight support group reported higher sales and operating margins in the third quarter of '03, and this was based on the sales of new products and services as well as the strengthening within the commercial aviation industry and we noticed it both domestically and internationally.

We continue to generate strong cash flow at HEICO. Positive cash flow from operations has allowed us to reduce the amount outstanding on the revolving credit facility by $12 million in fiscal '03 through July 31. We paid our 50th consecutive semi-annual cash dividend since 1979. We believe that these successes are a direct result of a consistent strategy of remaining focus on medium to long-term growth opportunities. Also, sales of non-JT8D FAA approved replacement parts were up approximately 20 percent in the first nine months of '03 versus '02. And new product approvals almost all of which were for non-JT8D powered aircraft in the first nine months of '03 approximated our planned results and we are on target to meet our new parts approval goal of about 300 parts in fiscal '03. We now have approvals for over 3000 parts.

Moving on to the specific areas that we cover in our earnings announcement. Consolidated revenues in the third quarter of '03 increased by about $2.8 million or 7 percent from the third quarter of '02. The increase in revenue primarily reflects improved sales within the Flight Support Group. Revenue as a flight support increased 10 percent to 32.7 million in the third quarter of '03, up from 29.7 million in the third quarter of '02. This was driven by an increase in the sales of new products and services and the recently improved demand within the commercial Aerospace industry.

Sales of Electronic Technologies in Q3 of '03 were 12.8 million and approximated the $13 million of sales in Q3 of '02. Sales of Electronic Technologies were up about $1.5 million over the second quarter of '03 reflecting the shipments of products whose delivery was delayed as we had discussed during the previous fiscal '03 quarterly calls. Moving on to operating income, in the third quarter of '03, it increased about 23 percent and was 6.1 million versus 5 million in the third quarter of '02. Operating income in the third quarter of '03 primarily reflects higher earnings in flight support. Operating income of flight support increased 34 percent to 4.8 million in the third quarter of '03, versus 3.6 million in the third quarter of '02. Primarily reflecting the impact of improved sales from new products and services as well as lower new product development costs.

The operating income of Electronic Technologies remained approximately level at 2.7 million in both the third quarter of '03 and '02. But increased about $800,000 or 42 percent over the operating income in the second quarter of '03. The operating margins consolidated, totaled 13 percent in the third quarter of '03, up from 12 percent in the third quarter of '02 and the second quarter of '03. This was due to higher Flight Support Group margins. The improved operating margins within flight support which were 15 percent in the third quarter of '03 versus 12 percent in the third quarter of '02, are principally due to higher sales volumes in lower new product development expenses. Operating margins of Electronic Technologies were a strong 21 percent in the third quarter of '03 and in the third quarter of '02, and they improved from 17 percent in the second quarter of '03, and this was due to higher sales volumes previously discussed.

Diluted earnings per share was 15 cents in the third quarter of '03, versus 13 cents in the third quarter of '02. The higher earnings per share in the current quarter versus the third quarter of '02 reflects higher net income in the third quarter of '03 of 3.2 million, compared to 2.8 million in the third quarter of '02, and this of course was due to increased operating income. Depreciation and amortization were up slightly from to 1.3 million up from 1.2 million in the prior year. Moving on to R&D. Total R&D expense was 2.3 million in Q3 of '03, compared to 3 million in the third quarter of '02. The third quarter year-over-year decrease in R&D is in line with a small budgeted decrease within flight support for fiscal '03. We do not expect this budgeted decrease to negatively affect our new product development results, because our development groups have really become more efficient and have reduced costs pretty much consistent with our expectation.

The addition of new FAA PMA approvals, particularly for non-JT8D aircraft continues to be a fundamental part of our long-term strategy in light of the accelerated retirements in the JT8D standard fleet after 9/11. We currently have approximately 800 parts in the development process, 98 percent of which are for non-JT8D powered aircraft. We now have approximately 3000 parts approved by the FAA and over 70 percent of those are non-JT8D powered aircraft.

New parts released by our R&D groups in the first nine months of fiscal '03 continued at a strong level and pretty much as we had budgeted. Moving over to SG&A. Expenses of the third quarter of '03 decreased by about $950,000 from the third quarter of '02 and that decrease is mainly due to lower commission expense within Electronic Technologies based primarily on the sales mix consisting of fewer commissionable products. SG&A expense as a percentage of sales decreased to 20 percent for the third quarter of '03, down from 23 percent for the third quarter of '02 due to the impact of higher sales volumes within flight support on the fixed cost components of SG&A expenses, as well as the lower commissions within Electronic Technologies.

Interest expense in the third quarter decreased by $1660,00 versus the third quarter of '02. This was due principally to a lower weighted average balance outstanding under the company's credit facility as well as lower interest rates. As I mentioned before, our strong cash flow from operations has allowed us to pay down the outstanding balance on our credit facility by 12 million in the first nine months of '03. I won't comment on interest in other income. That was pretty minimal in both periods. And I comment on our income taxes. The tax rate did increase from 32.8 percent in the third quarter of '02 to 36.3 percent in the third quarter of '03, and essentially that was the result of reduced foreign sales and increased state income taxes which we had to pay. The minority interest of $464,000 in the third quarter of '03 represents principally the minority interest of Lufthansa and American Airlines in our Flight Support Group.

Commenting on our balance sheet and cash flow, I have already said that our financial position remains extremely strong. Cash flow from operating activities was strong and totaled 4.6 million in the third quarter of '03, versus 4.3 million in the third quarter of '02 and it was 18.1 million for the first nine months of '03 compared to 14.6 for the first nine months of '02. The year-to-date cash flow approximated about 200 percent of net income in the first nine months of '03. As you all know from listening to prior calls, I place considerable emphasis on cash flow as an indication of the quality of HEICO's earnings, and consistently HEICO has been a cash flow generating company, and we continue to expect the same type of performance in the future.

Our working capital ratio increased to 4.6 percent as of July 31, versus 3.4 as of October 31, '02 and that reflects the new revolving credit facility. Days sales outstanding or DSOs of accounts receivable as of July 31 '03, improved by two days to 55 days compared to 57 as of October 31, '02. The improvement reflects our continuing efforts to closely manage receivable collection and maximize cash flow from operations in the current business environment. We continue to work very diligently to manage our credit exposure in light of the financial challenges facing some of our customers and you are all aware of these. No customer represented more than 10 percent of consolidated sales in the third quarter, and the top five customers represented approximately 27 percent.

Inventories have decreased slightly since October 31, '02 and the inventory turnover rate of 163 days as of July 31, '03 has improved by nine days compared to 172 days as of October 31, '02. Our focus on optimizing inventory levels has resulted in a reduction in inventory even as we continue to add numerous new products. This effort has enhanced our cash flow and has resulted in improved inventory turns based on an increase in sales driven by the new products.

Our low debt-to-capital ratio decreased even further by four points to 17 percent as of July 31, '03 versus 21 percent as of October 31, '02. As we used positive cash flow to reduce the revolver loan balance by 12 million during the first nine months of '03. Capital expenditures in the first nine months of '03 were 3.1 million, slightly below our annual budget of 5 to 6 million for fiscal '03. That is the historical, and now a few comments on our outlook.

We are pleased to report continued improvements in year-over-year results for flight support which reflects our ongoing new product development efforts, and also some recovery within the commercial aerospace industry. Also, while the third quarter of '03 sales and earnings of Electronic Technologies was about the same as the third quarter '02, a significant increased compared to the second quarter of '03. This increase reflects the shipments of some of the products whose delivery was delayed in the first half. Based on the recent strengthening of demand, and it is pretty clear to us within the commercial aerospace industry and our continued success in introducing new products and new services, we continue to target fiscal '03 earnings at the high end of our previously reported range of 50 to 55 cents per share, on a sales growth of 2 to 3 percent over fiscal '02.

In closing, while we are pleased to see the signs of recovery in the aviation industry, we recognize that the industry still has a way to go for full recovery. That is why we remain committed to our well-known strategy of focusing on medium to long-term growth opportunities, such as developing and marketing new products and repair services, practicing financial prudence in developing new revenue sources through internal growth as well as selected acquisitions. We continue to believe that this approach best positions us for substantial forward growth. That is the end of my prepared comments. We are all here to respond to any questions which the callers may have. So, I turn the floor over to the operator, and we will now entertain any questions.

(OPERATOR INSTRUCTIONS) Keith Hugh.

Keith Hugh, SunTrust, Robinson Humphrey. Two quick questions,you have given us an update in terms of approved parts of JT8D versus non. Where you stand on revenues in commercial aviation between those two sets of parts? Roughly?

Well, Eric is trying to find some of that information here.

Let me move onto the second question while he does that. You were showing a little bit of optimism in your commercial aviation business.

Truthfully, I don't welcome that question not because it comes from you, but because it discloses to our competition things that we really don't love to disclose.

Okay.

That is why there is a lot of hemming and hawing about that question.

If you don't want to answer it, I understand.

I would like to give you comfort so you see that the trend is definitely changing, but Eric is kind of framing an answer for you, but hopefully it will satisfy you and give you the information you do want.

I can tell you that parts which are eligible for only the JT8D standard engine which powers the 727, 737 100 and 200 and the DC 9 are represented approximately 5 percent of our PMA sales. If that gives you an idea.

Gives me an idea, okay.

Understand and there is a significant move away from JT8D. That is a movement in the company; it is both in R&D and new products and we're seeing it in the revenue, too.

Okay. The second question, you are showing a little more confidence in the commercial aviation. Is that more of a rate of what you see the macroeconomy or is this, are these some discussions you're having with your customer base there where they perhaps see better business coming, maybe not in the next couple months but into next year?

I think it is clearly both. We see it, its happening. We see the same things that you do in reading the newspaper and we see United putting on full flights to the Far East and Lufthansa and on and on and on. They are telegraphing to us what we know that when you fly airplanes you need parts. So, we are just interpolating that and I think it is very reasonable. Also their comments internally from the people we deal with are essentially the same.

Thank you very much.

Tom Lewis.

Good morning, guys. I can't tell you what a pleasure it was, it is in light of how things have been this year to read about this performance. This is great.

Thank you very much. You sort of looked into the crystal ball before it turned around, didn't you?

We just have to go with the best probabilities we can. I guess, 90 days ago, we were characterizing the industry in terms of a lot of aircraft going into the desert. Have you seen any indication in talking with your customers? Might a portion of the improved demand you are seeing in recent weeks come from planes being brought back into service?

Eric will answer that I think.

There is no question we are seeing a return of some of the newer aircraft that were temporarily parked in the desert. There still is a considerable number of aircraft parked out there. We do expect that the newer generation equipment, basically the aircraft which are less than 10 years old, possibly even less than 15 years old will come back to service, but we are not forecasting a return to service of the older equipment say the plus 15 year age aircraft. Obviously the newer the aircraft the more efficient and that is the one that will return to service most quickly. If there were an extreme increase in demand and they had to return the older equipment they would, but we don't forecast that happening.

Okay. In the moment, do I understand you are seeing some of the new equipment actually starting to require parts?

Definitely.

Can we talk a little bit about where the opportunities are going to be, year ahead for the Electronic Technologies Group now that we don't have the prospect of a war burning up a lot of equipment out there in the customer base?

Sure. The answer is, our Electronic Technologies business benefits from both consumption and hardware, longer-term hardware purchases. So, while for example we are the leading independent producer of laser range finder receivers, some of which do get as they say eaten up, more of our sales actually come from testing in calibration equipment that is not expended and is generally a longer-term purchase. So, it is not tied directly to deployments. It is tied to weapon system development, things relating to let's say the F35 or ballistic missile defense, are two examples of the things we work on.

Okay. Is there much in the pipeline prospectively for avionics repair foreign (ph) military?

That is beginning to improve for us. Some of the things that we talked about on the last conference call where we have been held up, we are beginning to see actually within the last few weeks starting to flow again, so we have seen improvement there. I don't know for how long it will continue but I am cautiously optimistic at the moment that we should see some progress.

Okay. Last question. Could you talk a little bit about the extent to which increased volume, setting aside the other factors, might be able to drive margin improvement in the year ahead if we are correct that demand is indeed picking up on a sustainable basis?

I am going to turn it back over to Larry Mendelson for that.

We again are trying to look out and the outlook is a little bit hazy at this moment. We have not finished doing all of our budgeting. We do it bottoms up budget, we have some estimated projections which are not in the detailed and wandered form that we normally like and that we use for our budgets and our budgets will not be finalized until later in this fourth quarter. But, certainly we see that operating margins should be up -- I hate to make this prediction, but I think we should see a significant improvement. Our first pass at it shows that our projections and operating margins will be substantially stronger in '04. Now that is dependent upon certain assumptions of volume and throughput. It is also based upon hopefully that we don't have another tragic 9/11 type event or a SARS event or something like that which we are unable to predict. But, we do see a strengthening in margins for fiscal '04.

If the volume comes the margins go up?

If the volume comes, I would say the margins certainly should definitely go up. Yes.

Great. Keep up the good work guys.

Also, as you probably saw, the revenue increase in the fourth quarter, I'm sorry in the third quarter, over the first and second quarters has been fairly significant. If you were to annualize the fourth quarter we would be at an annual of about 190 million. I don't know if you can just do that but a kind of a rough pass at it. We have certainly seen strengthening in revenue at the top-line, and we expect that to be reflected in the bottom line.

On that, I would think looking at traffic data that the first half of the quarter was markedly weaker than the second half of the quarter. Is that a correct assumption?

I think that is accurate, yes.

Great. Keep it up guys.

Thank you very much.

Neil Matlin.

Good morning. With the strengthening in your cash flows, and your revenues, and the lowering in your CAPEX perhaps through increased productivity and SG&A, you have the opportunity to pile up some money on the balance sheet, and that money could be used for a variety of purposes. From what I understand you have not really found any acquisitions that you consider worth paying for here lately. What is your plan to use that additional cash, perhaps through stock buybacks, dividends, or acquisitions?

The answer is that we have been looking very carefully at acquisitions. We have a number of them on a shortlist right now that we are doing due diligence for. We never make predictions because as as you know in acquisitions anything can happen at the last minute the deal can blow up. We are really earmarking, we are saving those funds by reducing our credit line, and so we're just keeping the money in the bank. And at this moment we are earmarking it for some future acquisitions and hopefully some of these acquisitions after we do the due diligence will prove to be very worthwhile. But I would say of the three that you mentioned, dividend buyback, and acquisition, clearly our focus at this point would be acquisition.

Thank you.

I have no further questions at this time.

Okay. I want to thank everybody for their interest in HEICO. We continue to remain available to our shareholders and the public to respond to any question that they may have in between conference call. We look forward to speaking to you at the fourth quarter conference call.

Excuse me, sir. I do have two more questions that just popped in. Chris Quilty.

Good morning, gentleman. Question for you on the military side of the business. Specific to the ETG Group. Last quarter you said that you were just taking out that expected order that has not come through, I hate to put you back on the blocks for it but have you gotten any better visibility on that particular program?

Some of that has started to appear, that is what I was referring to earlier, Chris.

Second question. Can you give us an idea given the product portfolio on some of the military programs which is fairly diverse, what you would view as important ongoing investment items that the DOD is looking at that we should probably focus on as a good opportunity for you?

They are really spread out. I think that is the good news in our business. There are so many different programs, but of course all of them related really to some sort of vision or targeting system. They are spread out along different aircraft lines, shipboard as well. It is really a good diverse group and of course, a missile targeting too. I wish, it is not good news for your question, but it is good for HEICO in that it gives us diversity should any one program be cut, we don't get slammed.

Let me turn around the earlier question about acquisitions given some pretty nice valuations that have been passing in the defense side, is there any piece of that business that you would be willing to sell? Or have you been approached on some of the operations?

We would always consider an offer if somebody brought one, and I think Chris, as you know in the past when we felt something did not fit properly or we could get such a value that the company could not resist parting with the business that we would. So we are always open to it, but right now there is nothing on the table.

Just to comment further, that defense business really is, we're building it, it has good margins as you can see. The whole group we think can have considerably better margins and we are working on it. But the margins are very strong, excellent cash flow and we would like to build that business a little bit more. So we're not in a hurry to divest anything out of that business.

I missed a portion of the earlier call when you were doing your commentary. Did you give any indication of what the how specifically, not the new parts business, but the repair overhaul was performing?

I think it is performing pretty well. The answer is no nobody asked that question, but it is a good question, and that business is doing quite nicely. It is doing very well and we made a few add-on tack-on acquisitions out in California that are building up and doing better, and overall I think that business is doing quite nicely.

Should you -- do you see any sort of a leading trend coming out of what is happening in the repair overhaul business to the new parts or is there any correlation in there?

Between our new parts and the repair and overhaul? In other words, utilizing our parts in the repair and overhaul?

I know that is something you have been working on -- if it looks like low hanging fruit, you will go ahead and reverse engineer the parts for overall purposes. But I meant does the overhaul business and the strength or weakness give any sort of a leading trailing indicator from what has happened or should happen in the new parts demand?

Let me have Eric respond to that because he is closer to that.

Chris, you're right. We have been developing parts for our overhaul and repair businesses that we as well sell to competitors of our overhaul and repair business. But make sure that our businesses remain competitive on their own, their labor and overhead structures. And we do see tremendous opportunity there and we're continuing to do it. We have seen an increase in the parts sales as well as the component overhaul sales due to the strengthening of the industry over the last couple of months.

Okay. Final question for Victor. Status of the DVR backup power? Anything?

Unfortunately there is nothing new there. We understand that the FAA is looking over a way to put out a rule that would be more cost-efficient to airlines. Our portion of the rule is a relatively small part; it was important to us, but it was encompassed in a greater rule which was going to be somewhat expensive to airlines and they are just looking for a way to bring the cost down on that. So at this point it is not in our projections and we continue to hope to succeed.

Okay. Thank you very much.

Thank you Chris.

Jim Larkin.

Good morning. Another question about the Electronics Technologies Group. Given that you had some backlog that came through this quarter, can we assume then sequentially those revenues and margins will be down again in the fourth quarter?

No, I don't think it came through in the third quarter.

It was more of a broad pickup then not just getting rid of backlog?

Correct.

Can you give some guidance on your tax rate for the year and maybe longer-term going forward?

Sure. Our current estimates for the current year are consistent with what we report for the year-to-date number which is around 35.6. Going forward, we see a slight movement going up, maybe half of a percent per year in our modeling under the assumption that our biggest tax savings are related to our foreign sales Corporation, which two things, one is foreign sales even if it increases proportionally the tax benefit does not increase proportionally so that is why the rate goes up a little bit. We are monitoring closely what is happening in Congress relative to foreign sales corporation which again is about a 2 percent tax benefit to us and there is potential for that foreign sales corporation tax benefit to be phased out over some 2, 3 maybe 4-year process. So, that could impact the out years depending on what happens in that law change.

Great. Thanks a lot.

I have no further questions.

Again, I thank you all and we are available should you have questions in the future. So we will talk to you again at the December meeting telephone conference. Goodbye all.