Moog Inc (MOG.A) 2017 Q1 法說會逐字稿

Good day and welcome to the Moog first-quarter FY17 earnings conference call.

Today's conference is being recorded.

At this time I would like to turn the conference over to today's speakers, Ms. Ann Luhr. Please go ahead.

Good morning.

Before we begin we call your attention to the fact that we may make forward-looking statements during the course of this conference call. These forward-looking statements are not guarantees of our future performance and are subject to risks, uncertainties, and other factors that could cause actual performance to differ materially from such statements. A description of these risks, uncertainties, and other factors is contained in our news release of January 27, 2017, our most recent Form 8-K filed on January 27, 2017, and in certain of our other public filings with the SEC.

We provided some financial schedules to help our listeners better follow along with the prepared comments. For those of you who do not already have the document, a copy of today's financial presentation is available on our Investor Relations homepage and webcast page at www.moog.com.

John?

Thanks, Ann. Good morning. Thanks for joining us. This morning we report on the first quarter of FY17 and affirm our guidance for the full year. Overall it was a good quarter and a healthy start to the new year.

Let me start with the headlines. First, on the technical front the A350-1000 had a successful first flight on November 24, 2016, marking another important development milestone for our Aircraft group. Second, earnings per share on the quarter of $0.84 was above our guidance from 90 days ago, and up 18% from last year. It was a good start to the year which puts us on track for our full year guidance. Third, free cash flow in the quarter of $36 million is also on target for our full year guidance of $130 million.

Fourth, we made progress on the sale of four small European space facilities. The sale of one facility is completed and the other three are held for sale with the outlook that the sale will be completed within the next quarter or so. These actions are part of the portfolio review of our space assets which we announced some 18 months ago. These sales essentially complete that process and we are very comfortable with the remaining space business lines. The European facilities have annual sales in FY16 of $15 million and as a result of these sales we incurred an operating loss of $0.25 in the quarter, partially offset by an $0.18 tax benefit.

Finally, we're affirming our full year guidance of FY17. We anticipate earnings per share in the range of $3.50 plus or minus $0.20, on marginally lower sales as a result of the stronger dollar.

Now let me move to the details starting with the first quarter results. Sales in the quarter of $590 million were up 4% from last year. Sales were up nicely in Aircraft, Space and Defense, and Components, but down in Industrial where we saw softness in each of our major markets.

Taking a look at the P&L, our gross margin is up on a favorable mix in each of the groups except Aircrafts. Our R&D expense is down as a percentage of sales, while SG&A expenses also slightly lower on a percentage basis.

The loss on the disposal of the European entities resulted in a slightly lower operating profit than last year, but reduced the effective tax rate to only 17.6%. The overall result was net earnings of $31 million and earnings per share of $0.84.

FY17 outlook. We're moderating our sales forecast by $20 million to reflect the impact of the strengthening dollar over the last 90 days. The impact is all in our Industrial group. Excluding this foreign exchange adjustment, we're keeping the sales forecast for each operating group unchanged. And as I said, we're also maintaining our EPS guidance from last quarter at $3.50, plus or minus $0.20.

Now to the segments. I'd remind our listeners that we provided a two-page supplemental data package posted on our website which provides all the detailed numbers for your models. We suggest you follow this in parallel with the text.

Starting with Aircraft Q1. Sales in the quarter of $268 million were 6% higher than last year. Sales were up on both the military and commercial side of the house. On the military side, OEM sales were up, led by a strong performance on the F-35, and an increase in funded development programs. The military aftermarket was down slightly on lower B-2 and C-5 sales.

On the Commercial side, the sales increase was driven by a 72% increase on the A350, as production volume ramped up. Sales to Boeing were about flat with last year, and commercial aftermarket sales were down slightly on lower 787 and A350 initial provisioning. For FY17, we're leaving our sales forecast for aircraft for the full year unchanged from 90 days ago at $1.11 billion.

Margins. Aircraft margins in the quarter up 8.6%, were up from 7.3% last year. The combination of lower R&D and lower SG&A expenses contributed to the margin improvements, but these gains were tempered by the slightly more negative sales mix due to lower foreign military sales and a lower aftermarket. For the full year we're maintaining our margin forecast at 9.5%.

Turning now to Space and Defense. Sales in the first quarter of $93 million were up 11% from last year. We saw double-digit increases in both the Space and Defense markets.

In the Space business we saw nice increases in our satellite engines and space avionics businesses. These businesses have recovered from the low point of the business cycle a year ago. On the Defense side, our vehicle business was particularly strong, driven by the [LAD] turret upgrade program. We also had higher sales in missiles and naval systems.

Space and Defense FY17. There's no change to our sales forecast for the year. We anticipate full year sales of $367 million, split evenly between Space and Defense.

Margins. Margins in the quarter of 7.6% were negatively impacted by the loss associated with selling our European space operations. Exclusive of this loss, margins in the quarter were very strong at 17.3%. This quarter we benefited from a particularly favorable mix. We're keeping our full year margin forecast, exclusive of the unusual loss, unchanged at 13.2%. Inclusive of the loss, margins for the full year will be 10.7%.

Turning now to Industrial Systems Q1. Our Industrial businesses are off to a slow start, although we believe recently implemented restructuring and organizational changes, combined with our new products in the wind market, will turn our fortunes around by the end of this year.

Sales in the quarter of $112 million were 10% lower than last year. The reduction is across our three major markets. In the energy markets, sales of wind products into Brazil were way down as a result of the GE takeover of Alstom, and the subsequent change in wind strategy in Brazil. The industrial automation market was also soft, particularly in the US.

And our simulation and test markets tend to be a little lumpy with big orders that can ship in one quarter or the next. We saw this trend last year where the first quarter was unusually strong, but this year's first quarter was a little softer.

Industrial Systems FY17. We're moderating our full year forecast by $20 million, down to $470 million. This reduction captures the effect of a strengthening US dollar relative to our other trading currencies. The reduction is spread fairly evenly across each of the major markets and corresponds to a 4% sales reduction in each market.

Industrial margins. Margins in the quarter were 9.5%, down from 10.9% last year as a result of the lower sales volume. We anticipate this business will improve from a slow start and are therefore keeping our full year operating profit forecast unchanged, yielding full year operating margins of 10.4%.

Now to Components. I'd remind our listeners that we've integrated our former medical devices segment into our Components group. Components Q1. We're off to a good start in FY17, and have a positive story to tell. Sales in the quarter of $116 million were 10% higher than last year. Sales were up nicely across each of our three major markets: A&D, industrial, and medical.

In aerospace and defense, the higher sales were driven by additional shipments on the Guardian program, a system mounted to the belly of an aircraft to protect it from shoulder-fired missiles. In the industrial market, sales were up to a broad range of speciality customers. Sales to offshore oil customers were again lower than last year but only by 4%, so we're optimistic that we may be finding a floor for this business.

Finally, sales to our medical customs are up nicely on stronger sales of our medical pumps and related products. For FY17, we're keeping our full year sales forecast unchanged at $477 million. Components margins in the quarter were 9.9%, up nicely from the low point of 7.5% last year. We anticipate margins will pick up slightly as we move through the year to yield full year margins of 10.4%, unchanged from 90 days ago.

So in summary, we're off to a good start in FY17. Earnings per share were above our guidance, and cash flow was very respectable. Our businesses have stabilized since this time last year, albeit at lower levels of activity in several markets, in particular energy and industrial automation.

One unusual item in the quarter was the loss associated with the sale of our European space operations, but we enjoyed the tax benefit from the transaction with the result that the net impact was only $0.07 negative. These divestitures complete the space portfolio cleanup we started a couple of years ago, and the stronger margins we're enjoying in our Space and Defense segment reflect the positive impact of that strategy.

In total, it was a pretty quiet quarter, and we're pleased to keep our outlook for the year unchanged from 90 days ago. As we look out to the next three quarters, we think the risks and opportunities are about balanced. On the risk side we think our Industrial businesses could turn out slightly weaker than planned, but on the opportunity side we believe our Space and Defense group could have a compensating upside. Our full year EPS forecast remains unchanged at $3.50 plus or minus $0.20, and we expect the second quarter to be in the range of $0.75 to $0.85.

Now let me pass it to Don to provide some color on our cash flow and balance sheet.

Thank you, John, and good morning, everybody. We had a solid start to our new fiscal year with free cash flow in our first quarter of $36 million. That is a 119% conversion factor. We expect to achieve 100% free cash flow conversion for all of 2017 or $130 million, and that's unchanged from our last forecast.

Net debt decreased by $12 million as our positive $36 million of free cash flow was largely offset by foreign currency effects on the translation of our offshore cash into US dollars. Net working capital, excluding cash and debt, as a percentage of sales was down to 25.4% at the end of the first quarter, compared to 27.0% a year ago, on sales that were 4% higher.

We've restated the comparable historical numbers to conform to the first quarter adoption of a new accounting standard that now requires us to show all deferred tax accounts as long-term, whereas before they were split between current and non-current. We had 370 basis points worth of net current deferred tax assets as a percentage of trailing 12 month sales in the old version of our net working capital. And as we've shared before, we've seen a rather steady decline in this working capital metric since we peaked at almost 34% of sales back in 2009. We continue to focus on improvements to managing our balance sheet in order to bring our investment working capital down.

During the first quarter we had no share repurchase activity. Our capital deployment focuses on smart top line growth, including acquisitive growth. We've not had much to report in the last three years with respect to M&A, but we're increasing our efforts to target strategic growth in all of the broader markets that we serve.

Capital expenditures in the quarter were $15 million, and depreciation and amortization totaled $22 million. For all of 2017, our CapEx forecast remains unchanged at $80 million. D&A in 2017 will be about $94 million.

Cash contributions to our global retirement plans totaled $17 million in the quarter compared to last year's first quarter of $22 million. For all of 2017 we're planning to make contributions into our global retirement plans totaling $92 million, unchanged from our forecast three months ago. Global retirement plan expense in the first fiscal quarter of 2017 was $16 million, similar to last year. Our global expense for retirement plans is projected to be $64 million, nearly the same as in 2016.

Before I tackle the topic of our effective tax rate, I'd like to dive a little deeper into the divestitures of the European space businesses that had an impact on our operating profit and tax rate in the quarter. The European space entities that I'm referencing include Bradford Engineering in the Netherlands, that makes satellite attitude and orbit control subsystems, propulsion and thermal subsystems, and components. This business was sold in November. Also included are three other space businesses that make liquid propulsion systems and components for satellites and missile defense systems located in the UK and Ireland, that are currently held for sale.

Net net, as John said, there's an EPS loss of $0.07 in the first quarter of 2017 as a result of these disposals. This net loss is $0.07 is comprised of a pretax loss on the disposition of the assets of $9 million, reflecting the operating results of our Space and Defense segment. We also generated an offsetting tax benefit of $6.5 million.

Stripping out the $9 million loss included in operating profit, our adjusted consolidated operating margin in the first quarter of 2017 is 10.4%, compared to the 8.9% we reported, and compared with last year's first quarter consolidated margin of 9.1%.

As John mentioned earlier, these combined European space businesses had annual sales in 2016 of $15 million, and were not material to our bottom line. Our updated 2017 sales and EPS forecast reflect the effects of these disposals.

Now on to our effective tax rate. In the first quarter of 2017 we had an unusually low rate of 17.6%, stripping out the effect of these divestitures just described, our clean effective tax rate in Q1 was 28.7%, compared with last year's rate of 26.6%.

Last year's first quarter tax rate was comparably low, as Congress had enacted tax legislation that included the permanent reinstatement of the R&D tax credit during the first quarter of 2016. For all of 2017 we're now forecasting an effective tax rate of 28.5%, and excluding the effects of the divestitures, the 2017 tax rate will be 31.0%. This compares with our tax rate in 2016 of 28.5%, and with our 2017 forecast of 90 days ago of 31.5%.

The 2017 tax rate is higher compared to 2016 due to the lower R&D tax credits associated with the timing of the US tax law change in late 2015, which was our first quarter of FY16, and due to the 2016 favorable impact of lower corporate rates in the UK on our deferred tax liability that doesn't repeat in 2017.

Our leverage ratio, net debt divided by EBITDA, decreased to 2.1 times at the end of the quarter, compared with 2.6 times a year ago. Net debt as a percentage of total cap was 40.8%, down from 44.6% a year ago. At quarter end, we've had $458 million of available, unused borrowing capacity on our $1.1 billion revolver that terms out in 2021.

With that, I'd like to turn it back to John and take any questions you may have. Kayla, can you help us out with facilitating the questions?

(Operator instructions)

Kristine Liwag.

Hi, good morning, guys. I was thinking maybe going a little bit in a different direction for my question today. It seems like the current administration is keen on bringing back some manufacturing into the US. I was wondering if you're starting to see any pickup in industrial automation sales. From my perspective, if we were to bring manufacturing back into the US with the labor arbitrage around the world, it seems like automation is one way we'd be able to do that.

That's a really interesting question, Kristine, and there's probably so many nuances in terms of what might impact what. But I'll offer you a couple of thoughts. One, I think part of bringing manufacturing back is jobs. It's not automation but it's jobs, so I think there's a desire to create jobs. But I agree with you, the labor arbitrage would force you to do a lot more automation in the US.

And then the second question becomes whether or not the automation equipment, which is what we would [sell to], would be actually manufactured in the US. So it's kind of a second order effect that you'd have to see there.

A lot of that type of automation equipment typically comes out of Europe or Asia, because the US, we have machines [under our base that's not great]. So it could be a positive. We'd like to see it, but I think it would take a while for that to filter through, Kristine.

The first thing you can do is you can also -- moving plants take years, because big decisions and stuff so we would be delighted if we saw an impact from that, but I think it's a second or third order effect and it would be hard to quantify, and it's definitely not something we've seen anything of so far.

And a follow-up for that would be, so far you've diversified your cost structure. You've utilized your Philippines plant for a lot of commercial manufacturing. With the rhetoric going on right now, and there's talks of [border adjusted] tax, does that change your planned cost footprint at all going forward, particularly in commercial aerospace?

Again, it's one of those -- so there's a lot of border tax discussions going on right now. There's corporate tax rate discussions going on right now. I think it's too early to see how that's all going to play out.

We have, as you know, a very significant investment in the Philippines. Most of our commercial aircraft manufacturing comes out of the Philippines. It goes directly to our customers. It doesn't actually come back to us here in Buffalo, it goes directly to our customers. Some of it goes indirectly, so for instance some stuff goes to Japan where it gets integrated to wings and then passed on to our major customers.

How that would play out, I'm not sure. It is definitely not practical for us and/or sensible to even consider thinking about picking up a factory like that and somehow relocating it, that just is not something that could be considered. So again, we honestly don't know if there was tariffs on imports from the Philippines, who would pay it, where would it affect, how does that all play through, I don't know.

We're watching it carefully. If and when there's legislation that changes some of those things, we will see how we can respond, but there's a certain natural cycle associated with buildings and machinery and equipment and capabilities and all that. And the commercial aircraft business is a very, very long-term business. So I think the overreaction in the short-term is not something that we could do or would be a sensible thing to do.

Thank you very much.

(Operator instructions)

Michael Ciarmoli.

Hey, good morning, guys, nice quarter. Thanks for taking my question.

Maybe John, just on Space and Defense. Obviously you had the divestiture in there, but the margin number you put up was phenomenal. It's the highest it's been in many quarters, maybe one of the highest I've seen. I know you talked about mix, but how should we think about that going forward?

I think you guys talked about satellites doing a little bit better. I've heard smaller companies talk about that, to get some tailwinds on defense. Could you guys see this margin stay at an elevated level?

Well, so for the year we have the margins in our Space and Defense group pegged. I think if you back out the effects of the disposal, we're in the 13%, 14% range. So that's pretty good historically. That would be the best margin performance we'd have across the company. Yet the first quarter was particularly strong.

In that business, every now and again you've contracts [closed off], you've got some unusual things. And over the years we've done a good quarter, good mix, bad quarter, not so good mix. So you do have this natural fluctuation in the margin quarter to quarter. So we're not prepared yet to say that the rest of the year is going to be anything as strong. So we're sticking with our forecast from 90 days ago.

But what I did say in my remarks is if you asked me, so where would you have worries and where would you have optimism? I'd say the worries is Industrial. That's just -- seems to be really difficult to find a flow and to get better. And on the other side, our Space and Defense business is doing pretty well, and that might have some upside.

Now I would say part of what we are also doing is investing a little bit more in the Space and Defense business, more R&D. So R&D spend will go up a little bit there, not dramatically but it'll go up a couple of million dollars over the next few quarters. So that will draw a little bit away from the margins, but we think it's sensible long-term investment.

One of the things that happens, Michael, in the Space and Defense business is because we have both paid developments work and R&D work, if you have a lot of work for customers, the same engineers go and they work on customer related stuff which drives both sales and sometimes margins, and it definitely -- and it comes out of the R&D expense line. So as that shifts backwards and forwards, you can see that margin move up and down, and if our engineers go back to R&D, they're not only not generating sales and potentially any margin, but they're actually a pure cost.

So as that shifts around a little bit, you'll see some of those margins moving up and down. This quarter was particularly favorable though, so we will take it and we'll [move forward].

Okay. Yes. Because if I run -- look at the numbers, look at the adjustments, it looks like your tax rate even after normalizing and stripping out, you'd probably get 50 basis points of tailwind. It seems like after this quarter you could be more on the high end of the guidance range, but I guess the conservatism around Industrial, not finding the floor, what you just said on the R&D would explain -- keeping the EPS guide where it is.

Yes. Plus you know we lost -- the net impact of the transaction with the loss of $0.07 in the quarter. So we're making that up. And so we're trying not to -- we've had too many quarters, Michael, were we kept explaining that we were getting ahead of ourselves, so we're trying not to do that this time.

So maybe in another 90 days maybe we'll have a better sense of how the rest of the year is looking. But there's a lot of uncertainty as well in the macro environment out there, and a good start, we're feeling good about the start to the year, but one quarter doesn't make a year.

Yes, I totally agree, I think that's the right approach. Just the last one for me and I'll jump off here. It looks like your Boeing forecast for 2017 didn't change at all. The additional 777 rate cuts, did you contemplate that? Or how are you thinking about the step down to 7 and then 5? Obviously the 5 might be more of an impact as you go into your FY18, given your fiscal year, but how should we think about that?

Yes, so obviously Boeing cut the rates. The way I describe it, Michael, is there's a lot of puts and takes across all of the aircraft business, so we might see a little bit of pressure on the Boeing sales number, but there's some other pieces here and there that we decided, rather than start getting into moving a couple of million dollars here and there, we'd just keep with it. And we did heading into the year. We did anticipate a little bit of softness, and obviously we didn't know exactly what Boeing was going to do.

The third dimension as you mentioned is the fact that we do long-term contract accounting. It really is, for us, in FY18 that Boeing's shipment rate will drop off. You put all that together and you say, the changes were in the noise, and it wasn't worth getting all of you folks to change all your model numbers. We thought, it's there or thereabouts.

There's going to be ups and downs as we go through the year. Perhaps at the end of next quarter, halfway through, we'll make an adjustment. But for the moment we thought it was in the noise.

Got it. That's helpful. Thanks, guys, nice quarter.

(Operator instructions)

There are no further questions. I'll turn it back to our hosts for closing remarks.

Thank you very much, folks, for joining us. Overall as I said quite a quarter. Good start of the year. Look forward to giving you an update in 90 days time. Thank you.

That concludes our conference for today. Thank you so much for your participation. You may now disconnect.