Kaman Corp (KAMN) 2021 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Kaman Corporation Third Quarter 2021 Conference Call. At this time, all participants lines are in a listen-only mode. Later, we'll conduct a question-and-answer session and instructions will be given at that time. (Operator Instructions)

As a reminder, this conference call is being recorded. (Operator Instructions) I would now like to hand the conference over to your host today, Rebecca Stath, Vice President, Controller. Please go ahead.

Good morning. I'd like to welcome everyone to Kaman's Third Quarter 2021 Earnings Call. Conducting the call today are Ian Walsh, Chairman, President and Chief Executive Officer; and Jamie Coogan, Senior Vice President and Chief Financial Officer.

Before we begin, I'd like to note that some of the information discussed during today's call will consist of forward-looking statements, setting forth our current expectations with respect to the future of our business, the economy and other future events. These include projections of revenue, earnings and other financial items, statements on plans and objectives of the company or its management, statements of future economic performance and assumptions underlying these statements regarding the company and its business.

The company's actual results could differ materially from those indicated in any forward-looking statements due to many factors. The most important of which are described in the company's latest filings with the Securities and Exchange Commission, including the company's third quarter 2021 results included on Form 10-Q and the current report on Form 8-K filed yesterday evening together with our earnings release.

We also expect to discuss certain financial measures and information that are non-GAAP measures as defined in applicable SEC rules and regulations. Reconciliations to the company's GAAP measures are included in the earnings release filed with yesterday's 8-K. Finally, we posted an earnings call supplement to our website that is designed to provide additional context on our financial performance, key events for the period and additional information on the makeup of our sales. You can find this presentation at www.kaman.com/investors/presentations.

With that, I'll turn the call over to Ian Walsh.

Good morning, everyone, and thank you for joining our third quarter 2021 earnings call. I'd like to begin today's call with a brief summary of the quarter, followed by updates on operations and several of our strategic R&D growth initiatives. I'll then turn the call over to Jamie for a more detailed discussion of our financial results.

Our business continues to perform extremely well, and we are on target to deliver to our revised full year expectations. Third quarter revenue was $179.8 million compared to $214 million in the prior year period. As we continue to recover from the impact of the pandemic, we are seeing stronger volume in key areas like medical and industrial platforms. The third quarter also marked the first time we have demonstrated year-over-year growth in our bearings business since the start of the pandemic and total sales for our springs, seals and contacts are now fully recovered and outpacing pre-pandemic levels. Gains in these areas were offset by anticipated declines in Safe and Arm Devices, as we had record JPF deliveries in the prior year.

Our commercial aerospace products continue to operate below pre-pandemic levels. Notably, all of our higher margin highly engineered products are performing well. This has translated into strong profit performance in the period with adjusted EBITDA of $27.8 million or 15.5% as a percentage of sales in the quarter. This result was up 70 basis points sequentially, driven by strong gross margin performance in the quarter, but trailed the prior year of $35.5 million or 16.6% due to lower fuze deliveries year-over-year.

Turning to our products and beginning with bearings. Demand continued to improve during the quarter, and we delivered growth across the majority of the portfolio. Our sales volume to Boeing and Airbus increased sequentially for self-lubricating bearings, and we saw an increase in engine aftermarket components. As commercial airline traffic continues to rebound, we anticipate this trend to continue.

Moving to spring, seals and contacts, volume and performance continued to improve in the third quarter. We remain well ahead of pre-pandemic levels and are now beginning to see the full benefit from the Bal Seal acquisition, with strong profit contribution. We are confident in the continued growth we'll see for the remainder of the year in these products.

Looking at our K-MAX program, recall that the last quarter, we shifted the second K-MAX delivery to the second half of the year due to a customer financing and timing of their fleet. I'm excited to announce we recently signed contracts with 2 customers for K-MAX aircraft for anticipated delivery in the fourth quarter.

Finally, in our structures programs, we continue to be below pre-pandemic levels as a result of the commercial aerospace recovery and some challenges related to workforce levels in some of our facilities. Despite these headwinds, profitability was up sequentially as we benefit from the deployment of our operations excellence model.

Turning to our business development efforts. We are very enthusiastic with the progress we are making on several key initiatives. The core of Kaman is innovation, and Kaman has a rich 75-year history of delivering highly engineered custom solutions to our customers. Today, we believe there are significant opportunities as our industries embrace new technologies that will transform A&D and space travel at a pace not seen since the early days of human flight.

I am proud to say that we are investing in and well positioned to participate in this wave of innovation in autonomous flight, eVTOL and the space economy. Given our broad product portfolio, we are serving many of the leading companies in these markets, and we expect to continue to be a trusted partner.

Beginning with the autonomous flight, I am pleased to report that during the quarter, we unveiled KARGO UAV aerial system, a purpose-built, medium lift, autonomous aircraft and an event held on our Bloomfield campus in September. This cargo hauling system's compact design makes it easy to transport to overseas operating sites, but is also highly capable with 800 pounds of payload capacity. Our initial addressable market is the U.S. military, which represents a strong use case and a straightforward path to production. Longer term, the platform capabilities lend themselves to a wide range of commercial applications and was designed to be upgradable to EV capability as next-generation battery technologies improves.

A link to a video of the event can be found on our website. We continue to make progress on TITAN UAV aerial system, an unmanned heavy lift logistics helicopter in support of our customers' requirements. Last week, we successfully demonstrated the autonomy and obstacle avoidance technology that has been integrated into our K-MAX aircraft for the United States Marine Corps. We received positive feedback from this demonstration, validating our efforts as we continue to upgrade the software and prove out this autonomous heavy lift capability.

As I previously highlighted, products manufactured using our proprietary titanium diffuse hardening process provides us with several opportunities to expand our customer base and provide meaningful solutions to a broad range of end markets. This process opens up new engineered applications by providing the lightweight and high strength benefits of titanium alloys, while improving the service hardness, durability and wear characteristics.

Our proprietary process hardens the titanium service in order to benefit from the properties of titanium with sustainable hardness in more rugged applications. Customer interest to date has been very strong, and we already have products using TDH process in space, eVTOL and A&D applications, but we believe there is a much wider commercial use case for this process beyond these markets. We have asked our team to identify the total addressable market, and we look forward to sharing those details as they become available.

Next, I'd like to touch on some specific high-growth end markets where we're gaining traction. Beginning with eVTOL, Kaman is very well positioned to become a trusted partner to a range of emerging eVTOL manufacturers. We are platform-agnostic as our technologies such as titanium diffuse hardening process, seals, springs and contacts and self-lubricating bearings aid in reducing weight for these next-generation vehicles.

For example, our rotary steel applications are currently used in a vertical takeoff unit of a leading eVTOL manufacturers propeller system, and we recently received another award from the same eVTOL provider to deliver specialty bearings technologies made from our TDH material. We expect to deliver these bearings in the fourth quarter with validation testing expected for the first quarter of 2022. Additionally, we have been approached or in active discussions with several emerging eVTOL companies across the globe.

Turning to end market opportunities and space applications, our focus on highly engineered solutions have positioned us well with emerging space exploration companies as space and launch companies continue to commercialize and build volume, we anticipate we will gain a growing share of content across manufacturers and launch service providers. We currently have applications on every major commercial launch vehicle in the United States.

Now I'll turn the call over to Jamie for a closer look at the numbers. Jamie?

Thank you, Ian, and good morning, everyone. Today, I will highlight our third quarter results before turning to our outlook for the remainder of 2021.

During the third quarter, net sales from continuing operations were $179.8 million, down 15.9% from the $214 million in the prior year period. Organic sales, which excludes sales associated with our former U.K. operation, were down 14.8%. Lower year-over-year sales was primarily the result of lower JPF deliveries in the period compared to record deliveries in the prior year period. While the commercial aerospace products continue to see pressure, we saw growth in our medical and industrial business where volumes have returned to pre-pandemic levels or above.

Turning to our product lines. Defense sales were down 27.6% in the third quarter of 2021 compared with the prior year period and 5.5% lower sequentially. The year-over-year and sequential decline was primarily the result of lower JPF revenue. For the quarter, we delivered a total of 4,000 JPF units compared to almost 14,300 units in the prior year period and 8,200 units in the second quarter of 2021. We expected to deliver 28,000 to 30,000 fuzes for the full year, slightly below our prior expectations. However, given the overtime revenue recognition method related to our USG contract, the reduction in deliveries does not result in a change to our sales expectations for this product. Our current JPF pipeline remains strong, and we are looking to secure additional DCS orders in the near term.

Additionally, we continue to make progress in R&D efforts related to our Safe and Arm devices. In October, we had 2 successful flight demonstrations of our FireBurst enhanced fusing device, a command patented height of burst sensor that brings an all new capability to our existing family of Safe and Arm devices.

Sales in our commercial and general aviation businesses were 15.4% lower compared to the year ago period but increased 8.8% sequentially. The year-over-year decline was due to lower commercial bearings volume, particularly with OEM customers, as OEM customers continue to be affected by the impact of COVID-19. We also shipped 1 additional K-MAX aircraft in the prior year, which contributed to the decline. Sequentially, improvement was almost entirely driven by higher volumes of commercial bearings to our OEM customers. We expect this momentum to continue as commercial aerospace end markets continue to recover. We have seen order intake at a slightly slower rate than we had previously anticipated and a higher volume of orders with delivery dates into 2022.

Sales in our medical end market increased significantly by 25.6% when compared to the prior year. Higher volume of bearing products and growth in medical implantable and analytical devices drove this improvement. Sequentially, sales for these products were modestly lower. However, we continue to be encouraged by the performance of these products for the first 9 months of the year. Order rates for our medical products remain strong, which provides us confidence in our expectations for the fourth quarter and continued growth into 2022.

Finally, sales in our industrial end markets rose 29.4% from the year ago period and were relatively flat sequentially. The demand for springs, seals and contacts as well as for bearings and measuring products improved against the backdrop of ongoing economic recovery. We continue to benefit from the economic recovery and expect to see strong order rates for these products through the balance of the fiscal year and into 2022.

Gross margin for the quarter improved on a year-over-year and sequential basis. Gross margin rose to 35.1% from 31.3% in the prior year period and 34.0% in the previous quarter as we continue to focus on driving improved performance through the deployment of our operations excellence model. In addition, the year-over-year improvement benefited from the sale of our U.K. composites business in the prior year, improved K-MAX spares and support performance and stronger profitability for our seals, springs and contacts.

SG&A for the period was 21.9% as compared to 17.2% in the year-ago period and 21.2% in the prior quarter. These increases were largely due to higher employee-related costs as we saw an increase in group health expense and higher incentive compensation costs resulting from our improved year-over-year performance.

As part of our continued effort to manage costs, we've undertaken a facilities rationalization plan at our structures manufacturing sites. We expect this to result in cost savings beginning in the first half of 2022, with total realization of approximately $4 million by 2024.

On a consolidated basis, our operating income was $16 million compared to an operating loss of $38.9 million in the third quarter of the prior year. Higher profitability stem from the absence of the goodwill impairment charge and costs related to the acquired retention plans incurred in the prior year period as well as lower TSA costs associated with our former distribution business. We completed these TSA activities during the third quarter of 2021.

Adjusted EBITDA from continuing operations in the third quarter was $27.8 million or 15.5% of sales compared to $35.5 million or 16.6% of sales in the prior year period. The year-over-year decline in EBITDA margin was largely due to the previously mentioned employee-related costs, partially offset by the absence of U.K. losses and the improvement we saw in gross margin. We are proud of the fact that adjusted EBITDA margin improved sequentially from 14.8% of sales in the previous quarter as a result of our ability to maintain gross margin on lower sales volume, slightly offset by the higher employee-related costs. We continue to aggressively target our efforts at maximizing gross margin and controlling G&A while making smart R&D investments to drive future growth.

Diluted earnings per share from continuing operations were $0.53 on a GAAP basis compared to diluted loss per share from continuing operations of $1.39 in the third quarter of 2020, which included a goodwill impairment charge. On an adjusted basis, diluted earnings per share from continuing operations were $0.60 compared to $0.70 in the prior year period. The primary adjustment in the current quarter included restructuring and severance costs.

During the quarter, we generated adjusted free cash flow of $25.6 million, improving our adjusted year-to-date free cash flow generation to $27.9 million. This compared to free cash flow generation of $22.4 million in the prior year quarter and free cash flow usage of $66.6 million for the 9 months ended October 1, 2020. This improvement is primarily driven by strong cash collections and improved working capital management as a function of our operations excellence focus.

Moving to the outlook. We are revising our full year guidance for 2021. We now expect full year revenue in the range of $710 million to $720 million due to the shift of a K-MAX sale into 2022 and lower-than-expected sales from our structures programs. However, we are raising the low end of our prior expectations for adjusted EBITDA to $92.5 million to $97.5 million and adjusted earnings per diluted share to $1.84 to $1.95. This reflects the continued strong performance expected in our medical and industrial end markets, the anticipated incremental recovery of commercial business and general aviation products through the balance of the year and overall improvements in operational forecasting, planning and execution. The increase in margin is largely the result of mix as strength in our higher margin engineered solution products more than offset the expected volume declines in our lower margin products.

Finally, before turning the call back over to Ian, we are in the process of finalizing our evaluation of our management and reporting structure. We expect to conclude this analysis in the fourth quarter, which will likely result in our full year 2021 results being reported in more than 1 segment.

With that, I will now turn the call back over to Ian for closing remarks.

Thanks, Jamie. With 1 quarter left to go in 2021, we are pleased with our profitability and remain encouraged by the improvements we're seeing in the end market conditions, especially as commercial aircraft backlogs are reduced and production rate increase. We continue to win more profitable programs, shed unprofitable work, we focus our growth strategies on global developing markets and reposition our new autonomous technology around the needs of our military war fighters.

We are well positioned to deliver on our revised full year earnings targets. We will continue to work diligently to expand our capabilities to innovate and organically grow all our businesses while relentlessly improving our operations and achieving excellence in all that we do. Our future is dependent on our talent, and I'm thankful to our workforce of more than 3,000 dedicated employees whose commitment has been instrumental in our success.

With that, I'd like to open the line for questions. May we have the first question, please.

(Operator Instructions) our first question comes from the line of Steve Barger with KeyBanc Capital Markets.

Ian, you talked a lot about innovation and future growth programs. I know it's early to talk about next year. But if I look at revenue from 2018 through consensus '22, it's basically flat for 5 years. Do you have enough confidence in the cycle in new programs to say '22 revenue will be up from this year and that you can break out of this range?

Yes. No, I do, Steve. And I think we're obviously in the planning phase right now. A couple of factors. One is looking at our end markets and what's happening with the commercial recovery and the timing of that is a key part of it. We've already seen, I think, very strong growth in industrial and medical this year. We expect that to continue through next year.

And obviously, with JPF volumes, we have line of sight through JPF volumes through Option 15 and 16 through '22 and 2023 we've got a great pipeline there of DCS that we continue to work. So I mean, organically, I do expect to see year-over-year improvements. We're just going to -- if the variable here is going to be relative to certain programs that we're working on, and we'll see how that goes. I think the bigger more exciting part to me is, quite frankly, is the story that -- and again, this is what we shared with a lot of folks already, we've got a very nice story to tell that's taking shape and we're excited to kind of tell that story early next year.

So I'll just follow up with a similar question on operating margin. Given the mix that you see and the programs that you said you're working on, and just whatever you can control internally, can you start to drive operating margin expansion in a sustainable way and get out of this kind of mid- to high single-digit range?

Yes, absolutely. I think that's really what the thrust of the new operations excellence model is all about. It is a function of the type of programs we've had. And just to be quite frank, we've been in some programs that weren't as profitable as they needed to be, and we've exited those programs, and we're bidding more profitable work, winning more profitable work because it's more sophisticated in nature. So I think that's very much in our control.

I mean Jamie talked about just overall net working capital that we're pressing hard on. A lot more training that we've implemented at all of our business unit specific training around lean and cost out and waste elimination and variation reduction, those things is taking root. This is the first full year, just to be clear, that we've had that training in place. So we're expecting to realize even more benefit from it next year and beyond. And I think just the overall program execution planning has gotten much, much better. Again, those are all different pillars in our operations excellence model.

And I'll ask one more and get back in line. Is your R&D spend more focused on specific end markets like medical or aerospace or more product line focused around bearings for the helicopter and UAV systems? I'm just trying to understand how you're prioritizing the organization for opportunities.

Yes. Fair question. I would say that your second part of that is the right answer, which is we really are focusing on the bearings businesses, our precision products businesses, certainly autonomous technology that we think is a great growth market. What's nice though is when you focus on those parts of our business, the end markets are very diverse. So our bearings businesses cuts across, right, not just aerospace, but industrial and medical. So we're really kind of seeing the benefits play out in the inside, but the investment is focused on the parts of our business that really drives that return.

Our next question comes from the line of Seth Seifman with JPMorgan.

There were some very good gross margin performance in the quarter. And so I guess if you could dig into that a little bit more in terms of what enabled that in terms of mix, your price, cost, sort of what the drivers were and how to think about that going forward?

Yes. A lot of that, Seth, a lot of that comes down to -- there were some -- we had some favorable mix for sure in the quarter that helped to offset some of the declines when you look over that year-over-year performance. We did have strong JPF DCS in the prior year where we delivered the gross margin percentage there. That was a nice one. But this year, we did better than that despite the lower volumes on DCS and that speaks again to the value that we see in our Bal Seal acquisition and the products that they bring to us with the spring, seals and contacts and seeing that come back in a really nice way with good strong growth year-over-year out of that business as well as some favorable product mix we had at our specialty bearings business with some of our product mix there.

As we've taken -- we've talked about this in the past, we've taken a number of steps to really right size the cost structure at the organization. And we expect to have some meaningful drop-through opportunities as volumes continue to increase. So we think this is a good sign for gross margin performance going forward. Obviously, quarter-to-quarter depending on when we might sell a K-MAX, right, or if the portfolio shifts a little bit more towards structures sales and deliveries, you could see a little bit of ebb and flow there. But when we look at the engineered, highly engineered product space, we are seeing those nice gross margins come through.

Yes. And I'd add, Seth, just on pricing. Obviously, we're ending this year. We've made certain price adjustments where necessary. I think looking forward, the teams are very focused on the value pricing propositions not just as a function of the type of program just in general. So we expect to keep pushing on that one hard.

And Jamie mentioned the cost out. We've really seen some nice efforts certainly in our structures businesses where there was the most opportunity, and we really focused on those businesses to get them healthier and more profitable. And the bearings business have naturally been very, very profitable. And now we're sitting in this -- in the -- with K-MAX and KARGO and some other really exciting programs starting to take root, we've the opportunities there as well.

Great. Great. I guess we don't want to let a conference call go by this quarter without asking about the supply chain issues, and I think there was -- there's a small mention of it in the 10-Q. So maybe if you guys can start to tell us where things stand there? What the potential risks are there and how you're mitigating them?

Yes. A couple of things on that. We watch this very closely, naturally, everybody is. We have -- just by the nature of our businesses and the materials we buy, we are seeing lead times push out and that is being countered with just, again, one of our pillars of operational excellence is looking at our supply chain or the way we plan. So they're really incorporating that into our planning. So we're handling that, I think, very nicely.

From a pricing perspective, we're not seeing anything dramatic or material. We are seeing things like adhesives. We're seeing some stuff now with composites coming through. But again, that's, I think, being able to price that through and pass it through, deal with it from cost out. We're handling it very nicely from a margin perspective. But we're not seeing anything dramatically yet. We're always watching it very carefully but it's really the lead times that we're watching mostly.

Yes. And just to add on the wage side, right, as we think about the labor portion of that, we are seeing a little bit of wage inflation probably at our entry-level positions as we are competing for those folks to come into the organization to help with assembly and tasks as they begin to develop, we are working to try to retain the workforce. We haven't had any real material results, costs associated with the retention just yet, but that is top of mind for us we move through the remainder of this year for sure. But as Ian has said, we've been able to manage that pretty nicely so far through the year and still deliver on our results, but we're absolutely mindful of it as we enter the fourth quarter of this year and then looking at 2022.

Right. Okay. Okay. Great. And then just one more for now. I think Jamie said at the end of your remarks looking at offering some segments going forward. And so yes, maybe what -- I guess, what those would be and how to kind of -- what you guys are looking to sort of highlight by doing that?

Yes. I'll just start real quick. I mean we've heard loud and clear, and we've had this on our agenda. And we are, as Jamie mentioned in his remarks, we're focused on it. We're planning on doing it. It will be more than 1 segment for sure. I think it's going to highlight some really important things that we want our community -- our investor community to know about our business which really is, I think, fundamental to where we're going.

Yes. And you get into at that point, part of that process, Seth, as you know, is really evaluating the management structure, and we've talked about that for some time as Ian gets his feet underneath him here and he's just passed his 1-year mark September of this year. So we're really evaluating what that management structure needs to look like and making sure we've got that put in the right place.

We are being mindful of cost, though, as we go through that. So I don't want that to come across as if we're going to create these bloated management structure here to support that. But we are -- that's an important pillar for us to be able to determine exactly what those look like. So we're in the stages of finalizing that. It's probably too soon for me to share specifically what those segments will look like. But as Ian noted, will be certainly more than 1. And we plan to let you guys know sooner rather than later what that might look like once we finished our evaluation.

(Operator Instructions) Our next question comes from the line of Pete Skibitski with Alembic Global.

Guys, on the shortfall with the fuzes in the third quarter, it's a little unclear to me. Was there an issue with the Delta strain coming through and so workers not showing up? Or was it just something else, supply chain? I just want to make sure I was clear on that.

Yes. No, it's funny. There was nothing to do with any disruption or anything like that at all. Quite frankly, just to remind you, we said this in the remarks. Last year, overseas customer was basically going through a massive reorg and the paperwork, the payments were all being delayed, and that all shook itself out and quite frankly, in a very positive way. So we wanted to make sure we got our deliveries in last year in the third quarter as we mentioned, so we kind of overdrove there relative to this quarter, we're in a much steadier consistent cadence. And as you can imagine, when you're level loading your plants and delivering in a stable way makes for a lot more efficiencies that we look for. So -- and the customer has been paying very reliably and consistently. So that's why there's a difference there.

Okay. Okay. And then just on the FireBurst, obviously, interesting being a new product, but how should we envision this? Is this planned to be maybe sort of an upgrade to prior fuzes or maybe who would the first customer be? How are you guys thinking about that?

So first of all, kudos to the team, this has been a development program that it's been to work for a while, and a huge milestone was achieved with live drops of the weapon, it went flawlessly. This is an enhancement to the basic marketing to bombs. And what it does is it creates a high diverse capability that didn't exist before on these laser-guided bombs, all different sizes of bombs that can be deployed and configurable from the cockpit, et cetera. So it's an enhanced capability on a historically non-sophisticated weapon. So it really provides a lot more capability working with an overseas customer on that. We've got an initial order that we're working on right now. And the upside here, I think, is very exciting. Too early to tell, but the milestone has been met. The product has been designed and now it's been validated, so we're excited to move forward.

Is there any further testing left to do or...

There'll be some refinement here and there, but really now it's about moving into production with our initial order. So down the road, obviously, there's enhancements and things like that, but we've demonstrated the capability as it is today very successfully.

Okay. Okay. That's great. I appreciate it. I guess last one for me. Similar question on the KARGO UAV. I know there's a lot of, I don't know, early -- a lot of expressions of interest in unmanned lift in DoD. Are we to the point yet, Ian, where there's kind of a formal program of record and a competition that's ready to go? Or is that maybe a year out? How should we think about the timing there with that opportunity?

Yes. No, I can tell you exactly kind of where we are. Again, very, very excited about the launch of KARGO this year. The engineering team here at KAV did a marvelous job in a short period of time of taking a concept that was driven, as we've expressed before, directly from our customers, specifically the Marine Corps. Obviously, other services now we were with the Army. We've got conversations with SOCOM coming up, Special Operations Command. And we're also expecting, as I mentioned, a lot of commercial applications. We've got some initial calls and things like that happening.

Bottom line is that from a military perspective, which is exactly where we wanted to be, we are in the requirements formulation stage with the customer as we speak. So that actually is supposed to be done by next year, probably mid-year. So imagine the requirement is finally getting kind of finalized for a medium and possibly a heavy lift as well that's where K-MAX TITAN comes in.

We just had another very successful demonstration, huge milestone that the team has been working on for over a year. Just recently at Fort Pickett in Virginia that went exceptionally well. So now we're expecting that next year, those requirements get detailed out, and then at some point, probably late next year or into the next -- the following year, there would be an RFI or an RFP floated.

Okay. Great. I appreciate that. And I'm going to backtrack. I'm going to ask one last one, I apologize, too. This one to Jamie. Jamie, I apologize, I always seem to get confused about the K-MAX orders and deliveries. But were there no delivery this quarter and you're expecting 1 or 2 in the fourth quarter. Can you just clarify?

Yes, yes. So let me just -- point of reference. In the Q3 of 2020, we had 1 delivery of K-MAX, right? Q3 of 2021, we had 0. We just announced sort of with our press release last evening that we had received contracts for 2 K-MAXs, which are expected to be delivered in the fourth quarter of this year. And in the fourth quarter of last year, we had 1 K-MAX aircraft. Now our expectation -- our prior expectation was for 4 K-MAXs through the course of this year. But we did -- you know we did bring down our top line revenue expectations due in part to the potential for that fourth aircraft to shift into 2022.

We do have a follow-up question from the line of Steve Barger with KeyBanc Capital Markets.

Just a couple of modeling questions. Do you expect commercial business in general will be down again in 4Q against that comp from last year? Or I guess, sequentially, if that's easier. Just how are you thinking about that business for 4Q?

Yes, Steve, it should be up. I mean, there's a couple of things there. One, with the K-MAX deliveries, those flow through that commercial business in general aviation. So when you look at that line item on a quarter-by-quarter that can impact a little bit of that year-over-year comparison that you might be looking at, but we do expect those to flow through there. I mean, we do expect to see continued strength in our commercial business and general aviation products, specifically as we look at like our bearings technologies and their ability to deliver to the order rates. Again, we've seen order rates increase in that -- for those products and we expect to see an increase there. So we're working through that now with the team.

Got it. And will medical and industrial stay flat into 4Q in that same range as 2Q and 3Q? Or will seasonality cause those to be lower sequentially?

It's going to be a little bit higher, right? So we should see an increase there. I won't -- the specific amount, right, is hard for me to predict right now, but we do expect that to be up just based on what we're seeing with orders.

Okay. And on Slide 4, under the industrials, there's a bullet that says Industry 4.0 and artificial intelligence. Can you just expand on what that means?

Yes. No, I'm happy to. For our bearings businesses, one of the things that's the next level performance for highly machined, very automated processes and connecting with ERP systems, connecting with customer demand is to effectively push into what we call Industry 4.0. What is Industry 4.0, we just did an assessment at our K-MAX facility, and we're starting effectively with them, which is a very strong business to start with, they have very strong processes. It's connecting all of those value streams together in an automated way. So all the data systems coming in. If you can imagine traditionally very manual processes, even though you're using ERP systems, it's a relative manual process.

Now we're getting a much deeper understanding and ability to kind of streamline the flow through those product lines and that get cuts all the way again from our suppliers to our customers. As an example, I was -- I just visited Spirit AeroSystems and was there for a day and talking with their leadership, and they've done a very nice job. They're about 3 years into Industry 4.0.

And to give you an example, it's optimizing every single machine. So in the past, if you think about disruptions and bottlenecks and things like that, that are, again, dealt with on a daily or manual basis, you now have a system that can predict from a planning perspective, how to optimize every single machine that you have and those kinds of things. So that's where you get that next level of efficiency. That's what Industry 4.0 is.

Yes. And then for the opportunity for us really relies on as people roll that out more meaningfully into their operations. We're positioned with the vendors who are going to provide some of that automation technology whether it'd be robotic arms and others for industrial manufacturing, food and beverage, manufacturing and those types of applications. So we've got nice positions with our technology to be able to support that.

What do you think the timing gap is between seeing a big sophisticated customer like Spirit do that versus smaller people in the supply chain?

Let me make sure you said that the timing...

Yes, I guess just like how pervasive is this how -- is it something that you're pushing or that your -- it's a pull from other customers? Or presumably, you'll do this upstream as well?

Yes. I'll just be clear to being an ops guy here and having spent a lot of time in this environment, this is not a one-size-fits-all. This is not pushing anything down. This is really adapting kind of the next level of planning in automation and digitization to our processes to continually optimize, optimize, optimize and level load and really understand how we're driving efficiencies through operations. It's us -- it's a standard that's now precipitating itself across industry. And there's those have, again, have been early adopters and they're moving along and seeing really nice improvements in their costs and their operational metrics.

And so for us, we're not blanketing it. We're starting with one of our strongest businesses. We've got very strong processes to really test it out. We just finished what they call a smart industry readiness assessment just to see where the gaps are. So we're stepping into it very mindfully because at the end of the day, I'll tell you this, I told the team that we're not doing this for the sake of doing it. We're doing it because we want to optimize margins. We want to generate cash. We want to show faster returns and really drive quality metrics across our product lines. And so that's what it's all about.

Got it. And that's actually a nice segue into my last question. You spent a lot of time talking about K-MAX and now KARGO UAV. And just thinking about those in the context of your goals to maximize EBITDA margin, free cash flow conversion and ROIC, can you talk about what size those programs need to be additive to those metrics? And just the time line for how you see them really being stronger contributors?

Yes, I'll start. I think, again, having spent a lot of time in these worlds in the defense contracting world and new product development side of things, I'll just be upfront. I think K-MAX, like I said, we just finished a massive milestone. The requirements are still being worked with the Marine Corps. It is specifically a Marine Corps program. Although like we've talked about, we've actually have a relatively strong commercial interest in the unmanned variant for natural reasons when we talk about firefighting.

So when I look at the kind of the commercial market, I think it will reflect kind of what we're doing today, which is hopefully, it will be more units per se because it's a different capability. On the military side, certainly with the marines, I'd say easily within the next, probably 2 years, we'll have a real understanding if they're going to move forward with this capability.

And by the way, it's not just heavy lift with K-MAX TITAN in the autonomous capability. There's a lot going on with networking and other things. KARGO to me is potentially a much, much larger program, quite frankly, because it's -- again, it's purely autonomous, it's purpose-built. The mission sets for these are limitless in my perception and certainly from what our services are asking. We have got a lot of meetings coming up here with all the services who have expressed interest. We've got commercial operators as well.

And I'd say, as I've said before, our goal here is with -- and by the way, we're trying to fast-track this. We're not trying to go through normal acquisition process. There's ways to fast track these types of programs. It can be a very meaningful program for us, certainly within 5 years is kind of my time line on that. That's the goal we're setting for ourselves to really have something that's in production on both the K-MAX and KARGO potentially.

And I'll also say that that's the beginning state. We talk about having a family of autonomous capabilities. That's kind of where we're headed, and that's beyond that probably the 5-year window. But very strong reception right now with KARGO UAV and certainly with the latest K-MAX demos.

And I think you had mentioned this in your prepared comments, but if you do an Analyst Day or you'll have some numbers in terms of addressable market to be able to update us sometime next year?

Absolutely. I mean that's -- our game plan is to early next year as we talked about, we've got acquisitions in work. We've got commercial recovery, really strong operational excellence. And honestly, just to put a fine point on this, we had a really great quarter overall, if you look at FireBurst and K-MAX and KARGO launch. We've had some of our facilities one, in particular, just got a massive manufacturing award. Margins are strong. Cash is strong. I think we're really positioning ourselves well to share and with segmentation coming to really share where we're headed as a company, which is very exciting and to tell that story and talk about the addressable markets and lining out for you guys early next year.

Since you brought it up, any more color on the massive manufacturing award?

Well, yes, it was Jacksonville. It was an industry -- excuse me, it was an award called the -- it's called the First Coach Manufacturer of the Year. And that was a -- it's a regional award. There was about 200 companies that are part of it. It's a real function of their operational excellence improvement and lean journey, and they just got that award.

We do have a follow-up question from the line of Seth Seifman with JPMorgan.

Just a follow-up, I had one on the defense business and sort of the places in defense where you're a supplier. I know there's various puts and takes going on or some declines on the Black Hawks, but some growth on new helicopters like CH-53K. So I guess when you look out for that, excluding the Safe and Arm, but that sort of defense business, how do you think about the progression there as we move into '22?

I'll start with one of our facilities, Jacksonville has a Black Hawk cockpits. I mean, I think a lot of the OEMs early this year as a function of COVID, we're going through the exercise of trying to figure out what they wanted to continue sourcing and outsourcing and things like that. That really was a function of their own capacity and what happened with COVID and trying to fill their factories.

What we did and what we are doing is we're demonstrating to them that we are best-in-class at what we do. And as an example, the relationship with Sikorsky, the Black Hawk cockpits, which we've been doing for many years, the Jacksonville facility was struggling on that program. We brought in a lot of great professional health part of our lean journey, part of our operational excellence model to the extent now where they're -- they've actually come back to us and said that we are key to their success going forward. So we're expecting more work there, same with -- I met with my colleagues at Bell Helicopter in Textron Aviation and really outlining our capabilities with those folks. But on the defense side, I think where the helicopter industry is going, for sure, we're very well positioned with Kamatics and things like that in our bearings businesses.

We've got some really exciting work that's going on in our structures businesses. CH-47 fuel probe is a great example of a program that's extremely profitable that we're very excited about. So I think, like I said earlier, we're repositioning ourselves in the right ways relative to certain defense programs. Now we're also very well positioned on the future vertical lift and those upcoming big programs, which is also going to be upside for us.

Just add in Columbia class submarines, the Joint Strike Fighter, we've got content on that across the business in our engineered products space. So there are some really nice, again, growth programs inside of our defense portfolio. And again, that really just speaks to the broad proliferation of our products across that where we have structures, we've got bearings, we've got ceiling technologies across a broad range of those defense products, right, in various stages of their life cycles. And then because of the extension of use, Seth, that we're seeing with certain platforms, they're running into the problems today and they're coming to us to help solve those problems on some, we'll call legacy aircraft.

Another example is our facilities, Jacksonville, for example, just got their Part-145 certificate. So there's a lot of aftermarket work that's very profitable that those folks are very good at doing. So that's another growth opportunity for us.

There are no further questions. I will now turn the call back to Rebecca Stath for closing remarks.

Thank you joining us on today's conference call. We look forward to speaking with you again when we report our fourth quarter results.

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.