TransDigm Group Inc (TDG) 2018 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Third Quarter 2018 TransDigm Group Earnings Conference Call. (Operator Instructions)

As a reminder, this call will be recorded.

I would now like to introduce your host for today's conference, Ms. Liza Sabol, Director, Investor Relations. You may begin.

Thank you. Welcome to TransDigm's Fiscal 2018 Third Quarter Earnings Conference Call. Presenting on the call this morning are TransDigm's Executive Chairman, Nick Howley; President and Chief Executive Officer, Kevin Stein; and Senior Vice President of Finance, Jim Skulina.

A replay of today's broadcast will be available for the next 2 weeks, and replay information is contained in this morning's press release and on our website at transdigm.com. It should also be noted that our Form 10-Q will be filed tomorrow and will also be found on our website.

Before we begin, we'd like to remind you that the statements made during this call, which are not historical in fact, are forward-looking statements. For further information about important factors that could cause actual results to differ materially from those expressed or implied in the forward-looking statements, please refer to the company's latest filings with the SEC found through the Investors section of our website or at sec.gov.

We'd also like to advise you that during the course of the call, we will be referring to EBITDA, specifically EBITDA As Defined, adjusted net income and adjusted earnings per share, all of which are non-GAAP financial measures. Please see the tables and related footnotes in the earnings release for a presentation of the most directly comparable GAAP measures and a reconciliation of EBITDA, EBITDA As Defined, adjusted net income and adjusted earnings per share to those measures.

I will now call -- I will now turn the call over to Nick.

Good morning, and thanks, everybody, for calling in today. Today, I'll start off with a brief overview of our recent organization announcements, some summary and comments on our consistent strategy, a quick overview summary of the third quarter and fiscal year '18. Kevin will review the business performance for the quarter and the year, and Jim will then run through the financials.

As you may have seen, we recently announced 3 significant organization changes. Mike Lisman has been elected by the board to be our new Chief Financial Officer. Mike brings a very attractive set of skills and experience to the new job. His experience in private equity and investment banking provides a key element to our new management team. Mike has worked with us for about 3 years in both operations and M&A roles. He knows the company and culture well. Interestingly, Mike has a degree in aerospace engineering. So like Kevin, Bernie, Jorge and I, he can help with engineering work in a pinch. That's a joke, by the way. Not that he has a degree, but that he can help. Mike's a good cultural fit and a great candidate. Kevin and I both believe he's going to do a fine job.

Bernie Iversen will continue to report to me and remains Executive Vice President of Merger and Acquisition. Jim Skulina has agreed to continue as Senior Vice President of Finance and Chief Accounting Officer for a 6- to 12-month period to assist Mike in the transition. Jorge Valladares has been elected by the Board of Directors as the Chief Operating Officer of our Power System segment. Jorge comes to TransDigm -- came to TransDigm almost right out of college and has been with the company in a broad range of operating positions for about 20 years. Jorge is a proven executive and an outstanding cultural fit. Kevin will expand on this a little.

Now to reiterate, we believe our business model is unique in the industry, both in its consistency and its ability to create intrinsic shareholder value through all phases of the cycle. To summarize why we believe that, about 90% of our net sales are generated by proprietary products. Over 3/4 of our net sales come from products for which we believe we are the sole source provider. Most of our EBITDA comes from aftermarket sales. Aftermarket revenues have historically produced a higher gross margin and have provided relative stability in the downturns. Our long-standing goal is to give our shareholders private equity-like returns with the liquidity of a public market. To do this, we have to stay focused on both the details of value creation as well as careful allocation of our capital. To do that, we follow a consistent, long-term strategy. We own and operate proprietary aerospace businesses with significant aftermarket content. Second, we have a simple, well-proven, value-based operating methodology. Third, we maintain a decentralized organization structure and a unique compensation system that very closely aligns our management with the shareholders. Fourth, we acquire businesses that fit our strategy and where we see a clear path to PE-like returns. And lastly, we view our capital structure and allocation as a key part of our value-creation methodology.

As you know, we regularly review our choices for capital allocation. We basically have 4, and our priorities are typically as follows: one, invest in our existing business; two, make accretive acquisitions consistent with our strategy and return requirements. These are almost always our first choices. Our third is to give extra money back to the shareholders, either through a special dividend or a stock buyback; and our last priority is to pay off the debt. Given the low cost of debt, this is still likely our last choice in the current capital market conditions.

Depending on the specific business and capital market, we'll allocate our capital and structure our balance sheet in a manner we think has the best chance to maximize the return to our shareholders. So far, in fiscal year 2018, we have spent about $660 million on acquisitions. In March of fiscal year '18, we announced 2 acquisitions, Kirkhill and Extant, for about $575 million, that both fit our strategy well. In July, we announced the acquisition of Skandia for about $84 million. All these deals meet our PE-like return requirements.

We continue [to be] active in M&A with a pretty good pipeline, but as usual, I cannot predict or comment on possible closings or any specific business situations.

We'll continue to look at our options for capital allocation. The credit market remains strong and reasonably accommodating. Our fiscal year ends on September 30. We'll see where things stand after the start of our new fiscal year and likely make some decisions on capital allocation during the first quarter of our next fiscal year.

Our liquidity is strong. We had $1.85 billion of cash at the end of Q3. And absent any additional acquisitions beyond Skandia or other capital market activities, we expect to have about $2 billion in cash at 9/30/18. We also have roughly $600 million of undrawn revolver and room under our credit agreement.

Our Q3 and year-to-date operations, that is revenue, EBITDA as adjusted and EPS as adjusted, were strong and up nicely over last year. Commercial aftermarket revenues are encouraging. On a year-to-date basis, they're up about 11% versus the prior year. As we told you, the first half seemed to be running a bit hot to us. The rate of growth slowed down a little in Q3, but the underlying drivers still look good.

Year-after-year, defense bookings are also up nicely. Based on the year-to-date results, we have adjusted our revenue and EBITDA As Defined guidance midpoint up a bit. This primarily reflects improved operating performance of our businesses.

In summary, fiscal year '18 looks like a good year. I'm confident, though, with our consistent value-focused strategy and strong mix of businesses, we can continue to create long-term intrinsic value for our shareholders.

And now let me hand this over to Kevin, who will discuss in more color and detail about the quarter and the year-to-date performance as well as expand on the year-to-date guidance. Kevin?

Thanks, Nick, and thanks for joining the call this morning. As you've seen, we had a strong third quarter. Jim will provide more details on the financials. But our third quarter and year-to-date operations in revenue and EBITDA As Defined were up nicely over last year and ran a little ahead of our expectations. Q3 GAAP revenues were up 9% versus prior year Q3 and up 7% versus prior year-to-date. EBITDA As Defined margin ran close to 50% of revenue in both periods.

Now let's review our revenues by market category. For the remainder of the call, I will provide some commentary on a pro forma basis compared to the prior year period in 2017, that is assuming we own the same mix of businesses in both periods. Please note, this analysis excludes the recent acquisitions of Kirkhill and Skandia. In the commercial markets, which makes up close to 70% of our revenue, we will split our discussion into OEM and aftermarket.

In our commercial OEM market, Q3 revenues increased approximately 1% when compared with Q3 of fiscal year 2017. Commercial transport OEM revenues, which make up the majority of our commercial OEM business, were down slightly in Q3 when compared to the prior year period. As was the case last quarter, the vast majority of the softness is attributed to weakness in the wide-body market and the impact these reductions or delays have on the extended supply chain. As was the case in previous quarters, commercial transport OEM sales can fluctuate from time to time, but at its core, our shipset content remains robust. So any softness is simply timing-related.

Business jet and helicopter OEM revenues make up about 15% of our commercial OEM revenues. In total, year-to-date revenues in this market grew in the low teens percentage range compared to the same period in 2017. Growth was driven by strength in both business jet and helicopter segments, with the helicopter market picking up significantly in the quarter. Year-to-date bookings versus shipments were up even more than revenue growth.

Now moving on to our commercial aftermarket business. Total commercial aftermarket revenues grew by an approximate 8% in the quarter. Commercial transport aftermarket, which makes up about 85% of our total commercial aftermarket, revenues in Q3 fiscal year '18 were up 7% over the prior year period and up 11% year-to-date. For the freight aftermarket, we are running year-to-date ahead of the average, with the interiors aftermarket below average but starting to show signs of recovery. In general, continued global revenue passenger mile growth and a generally positive economic environment seem to provide a backdrop of improved market dynamics.

Finally, for the business jet/helicopter aftermarket, which accounts for the final 15% of revenue in our total commercial aftermarket, year-to-date sales growth was up in the high single-digit percentage range. This was the second sequential quarter of solid growth in this end market after an extended period of softness. Business jet takeoff and landing cycles and used business jet inventories continue their modest improvement from previous quarters, albeit still well off of their peak performance. But clearly, key market indicators have improved. As a reminder, the aftermarket in this segment tends to go through the OEM, and as such, we do not have the same level of insight into this market segment. So cautious optimism remains for this market segment.

Now let me speak about our defense market, which is just over 30% of our total revenue. The defense market, which includes both OEM and aftermarket revenues, was up slightly more than 4% over the prior year Q3. Once again, strong defense aftermarket revenue growth was tempered by slower defense OEM shipments, although the OEM was stronger than we have seen in recent quarters. The vast majority of the defense OEM market softness can be tied to declines in A400M build rates.

Total defense bookings continue to provide an encouraging narrative, as bookings were up nicely year-to-date over prior year and have similarly outpaced sales year-to-date. This expansion is characterized by modest OEM bookings growth and stronger aftermarket bookings performance. Year-to-date, total defense market sales and bookings are well distributed and appear to be coming from most businesses that support defense-related platforms. Defense orders can be booked as far out as 2 years, so the timing of the related shipments can be difficult to predict as actual shipment dates can be delayed based upon a number of factors.

Now moving on to profitability. I'm going to talk primarily about our operating performance or EBITDA As Defined. EBITDA As Defined of about $487 million for Q3 was up 9% versus prior Q3 and $1.35 billion or up 8% on a year-to-date basis. The As Defined adjustments in Q3 were primarily noncash compensation expense and acquisition-related costs and amortizations. Q3 2018 EBITDA As Defined margin came in just under 50% of revenues at 49.7%. This includes about 1 margin point of dilution from the recent acquisitions of Kirkhill and Extant. Excluding the acquisitions, margins improved over 0.5 percentage point year-over-year for the same period. Margin improvement progress is always important to us and indicates that our base businesses continue to find opportunities to drive improvement within our value drivers.

Now let me turn to 2018 guidance, which is found on Slide 6 of your presentation. Based on our year-to-date results and expectations for the fourth quarter, we are adjusting our guidance for the year. The midpoint of our fiscal year 2018 revenue guidance has increased by $20 million to $3.8 billion, reflecting -- primarily reflecting improvement in our base business. This revenue guidance is based on the following slightly revised market channel growth rate assumptions: We now expect commercial aftermarket revenue growth of high single-digit percent versus prior year. This is an increase from our assumptions from last quarter. Commercial OEM revenues are now expected to be roughly flat with prior year. This is a modest decrease from our prior guidance. And we are maintaining defense military revenue growth at -- up mid-single-digit percent versus prior year.

The midpoint of fiscal year 2018 EBITDA As Defined guidance increased by $15 million to $1.87 billion. Again, most of this increase is due to improved operational performance across our businesses. The midpoint of our adjusted EPS is now anticipated to be $17.61 per share, decreased by $0.06 per share from our last guidance. This decrease in guidance is due to improved EBITDA As Defined, offset by higher interest expense. Jim will discuss in more detail shortly.

I would now like to comment on a few items, including Boeing's latest Partnering for Success agreements, executive leadership changes and Skandia.

First, I am pleased to announce that in July, we successfully completed negotiations and have executed commercial agreements that last into the next decade with Boeing. This was part of Boeing's Partnering for Success initiative. The new agreements continue a long-standing partnership between our companies, encompassing aircraft production and aftermarket support. While the specific details of our agreements are confidential, they represent a win-win for both parties, for both of our companies, and reinforce our commitment to operational excellence and the focus on maximizing performance and providing innovative engineered products for existing and future Boeing platforms. We do not expect that this will have any material impact on our financial performance as a result of this mutually beneficial agreement. Again, due to our confidentiality agreement, this will be our only comment on the subject, similar to our last Boeing PFS agreement.

Secondly, as Nick mentioned, we have recently announced a few executive management changes. I will not comment further on our promotion of Mike Lisman to CFO but to say how excited I am to have him in this new role as it further augments our private equity-like, value-driven culture.

I would like to expand on the promotion of Jorge Valladares to Chief Operating Officer of our Power Group. All of our Power Group businesses now report to Jorge, along with several executive vice presidents. Jorge will continue to report directly to me as will the remaining businesses in the airframe group and the other EVPs. This will keep me intimately involved in our operations while we continue our deliberate succession plan. Jorge is steeped in our TransDigm culture and moves into this position after serving 4 years as an Executive Vice President. Prior to that, Jorge held a position of President at AvtechTyee and AdelWiggins. Jorge initially started with the AdelWiggins Group and held various positions of increasing levels of management responsibility in engineering, manufacturing and sales.

Now finally, in July, we closed the acquisition of Skandia, a leading provider of highly engineered seating foam, foam fabrication, flammability testing and acoustic solutions for the business jet market. Headquartered in Davis Junction, Illinois, Skandia's annual revenues are approximately $26 million, and the company currently employs about 70 people. It is too early in our integration process to provide any specific color on this acquisition. However, we do expect this business to create equity value well in line with our long-term private equity-type return objectives.

Next quarter, we will provide you an update on the integration progress of Kirkhill and Extant and our initial thoughts on Skandia.

So let me conclude by stating, all in all, Q3 of fiscal year 2018 was another solid quarter for TransDigm.

With that, I would now like to turn it over to our Senior Vice President of Finance, Jim Skulina.

Thank you, Kevin. I will now review the third quarter financial results. Third quarter net sales were $981 million, up $83 million or approximately 9% greater than the prior year. Organic sales were up 4.4%. The balance of the sales increase was from our recent acquisitions, primarily Kirkhill and Extant.

Our third quarter gross profit was $570 million, an increase of approximately 10%. Our reported gross profit of 58.1% was modestly higher than the prior year margin of 57.9%. This was due to several puts and takes. First, dilutive impact of the acquisition mix and the acquisition-related costs decreased gross profit percent by just under 2 margin points. This was offset by the margin expansion in our existing businesses due to the strength of our proprietary products as well as a favorable product mix.

Our selling and administrative expenses were 11.5% of sales for the current quarter compared to 12% in the prior year. Interest expense increased by approximately $15 million, up 10% versus the prior year quarter. This is a result of an increase in the weighted average total debt of $12.4 billion in the current quarter versus $11.2 billion in the prior year.

During the quarter, we were very busy in the capital markets. We successfully raised $1.2 billion of incremental debt, including $500 million of new senior subordinated notes and $700 million in additional Tranche E term loans. The proceeds were used to replenish cash used to fund the purchase price of Kirkhill and Extant, with the remainder of the net proceeds to be used for general corporate purposes, which include future acquisitions, dividends or share repurchases. In addition, we repriced $5.1 billion of existing term loans to lower rates, from LIBOR plus 2.75% to LIBOR plus 2.5%. We extended the term of our Tranche E term loans and revolver, and we entered into additional hedges to align the new term loans and extended maturities on existing debt to remain at approximately 75% fixed through 2025.

We now expect our full year interest expense to be approximately $670 million. This estimate reflects the impact of all of our third quarter financing activities.

Now moving on to taxes. The U.S. enacted the Tax Cuts and Job Act in December 2017. That significantly reduced our expected effective tax rate for fiscal 2018. As a result, the effective GAAP tax rate was 18.1% for the current quarter compared to 28% in the prior year quarter. We are now estimating our full year GAAP tax rate to be approximately 4%, the adjusted tax rate to be approximately 9% and the cash tax rate to be approximately 15%. The estimated GAAP and cash tax rates were lowered this quarter, primarily due to higher excess tax benefits and stock option exercises. In fiscal 2019, we expect our effective tax rate to be between 21% and 23%.

Our net income from continuing operations in the quarter increased $48 million or 28% to $217 million, which is 22% of sales. This compares to net income of $170 million or 19% of net sales in the prior year. The increase in net income primarily reflects the increase in net sales and lower effective tax rate, partially offset by higher interest expense versus the prior period.

GAAP EPS from continuing operations was $3.91 per share in the current quarter compared to $3.09 per share last year. Our adjusted net income for the quarter rose 20.8% to $223.2 million or $4.01 per share from $184.7 million or $3.37 per share in the comparable quarter a year ago.

Adjusted earnings per share in the current fiscal year includes $0.42 of favorable impact from the enactment of the tax reform. Excluding this favorable tax impact, current earnings per share of $3.59 increased 6.5% over the prior year. Please refer to Table 3 of this morning's press release, which compares and reconciles GAAP EPS to adjusted EPS.

Switching gears to cash and liquidity. We generated approximately $691 million of cash from operating activities year-to-date and ended the quarter with approximately $1.85 billion of cash on the balance sheet. This quarter-end cash balance does not reflect the payment of approximately $84 million for the acquisition of Skandia, which occurred in July. Our net debt leverage ratio for the quarter end was 6.1x pro forma EBITDA As Defined, and gross leverage was 7.1x pro forma EBITDA.

With regards to our guidance, we now estimate the midpoint of our GAAP earnings per share to be $15.84, and as Kevin previously mentioned, we estimate the midpoint of our adjusted earnings per share to be $17.61. The increase at the midpoint of the GAAP EPS is due to the increase in EBITDA As Defined and lower effective tax rate, partially offset by higher interest expense. The increase at the midpoint of the adjusted EPS was due to 2 factors. The largest was the increase in EBITDA As Defined. This was partially reduced by higher interest expense. Please see Slide 9 for a bridged detail on the $1.77 of adjustments between GAAP to adjusted earnings per share related to our guidance.

I will now hand this back to Liza to kick off the Q&A.

Thank you. (Operator Instructions) Operator, we are now ready to open the lines.

(Operator Instructions)

Our first question comes from Robert Spingarn with Crédit Suisse.

A couple of things. First, on the organic sales, I think you said those were 4%-plus growth in the quarter. But assuming fair amount of that is pricing, is it fair to conclude that volumes were flattish overall?

I think so. I think it's fair to assume that the volumes are flattish overall.

Okay. And then, Kevin, following up on that. If volumes are flattish and reconciling to this wide-body pressure that you showed in your results and you've talked about, how is that possible with 87 and 350 ramping? The OE also includes ramping narrow-body. I'm just struggling to reconcile where the pressure is coming from. Is it timing? Is it 777?

It's timing. It's 777. It's some other program delays. I think it's across the board. We've gone through and looked at all the places that we've missed versus expectations, and everything correlates back to A380 declines and inventory adjustments, 777 declines and adjustments and on it goes. The encouraging piece for us is that bookings in the commercial transport OEM are starting to improve a little bit. We saw some nice rebound in bookings in Q3 there. So I think this is just a timing-related function that -- our shipset content hasn't changed on these. And it just has to come through the system.

And just to follow up, Kevin. Is another element of this where you get pricing on the aftermarket, you're getting the opposite on the OE? So to the extent that we see 10% type increases in narrow-bodies and on a couple of those wide-body lines, something similar, you're actually going the other way on pricing?

Yes. We don't comment on the individual pieces of price. So I don't want to get into the slicing and dicing that. But again, I think we're looking forward and saying this should be a better story going forward due to the bookings.

And our next question comes from Robert Stallard with Vertical Research.

Nick or Kevin, first, on the aftermarket. Strong result year-to-date, up 11%. How much of that do you think is being influenced by the unusually low rates of old aircraft retirement and the lack of surplus parts that are out there at the moment?

It's hard for me to comment. It would just be speculation. But I'm positive it doesn't hurt our case to have less retirements out there. But I don't know the exact correlation.

I think I might just add on the surplus stuff. We did a fair amount of work on that whenever it was, Kevin, a year or 2 ago and talked about it. The amount of surplus sold for our product is very small. So it's hard to believe that has any significant impact.

Right. And secondly, on the quarter-end cash balance, unusually high for TransDigm. Does that reflect some opportunistic timing in terms of taking out the debt here? Or was there something else going on?

I don't -- I'm not -- Rob, I'm not sure I quite follow your question. We borrowed, as you know, a little more than -- we borrowed and essentially replenished what we spent for the $600 million of acquisition. Reloaded that again. We'll do what we normally do, we'll have about -- if we don't buy anything, we'll have a couple of billion dollars at the end of the year. We'll see where things stand. If we don't see a good use for it, we'd probably pay something out at the beginning of next year.

Okay. So it's just a normal practice then is the way to [think about it]?

Yes, right. And we'll see what comes along. I mean, we're fairly busy. We see opportunity. We'll see how things unwind here. As I think you know, we don't sit on money too long.

And our next question comes from Noah Poponak with Goldman Sachs.

Nick, just following up on that. In your prepared remarks, you actually specifically said that you'll make some decisions on capital allocation during the first quarter of next fiscal year. So should we read that to mean you will make -- that you will either be making an acquisition or announcing a special dividend by the end of 1Q '19?

Yes, I wouldn't -- no, I wouldn't want to get nailed down that much. I'd say we make a decision. A decision could be we'll make a decision next quarter. As you know, if we don't see something moving along -- I mean, that's the best I can tell you. If we don't see something moving along, we don't sit on the money very long. If we have $2 billion and significant capacity and we don't see some decent deals, we'll do something. I hate to be backed into a corner (inaudible)

(inaudible). Yes, I didn't mean to attempt to back you into a corner. I actually was just a little surprised by the specificity of the comment in your prepared remarks. But (inaudible).

Yes, that may be a good point. What I really was trying to say is we probably aren't going to do anything for the next 60 days or so. That's probably -- I maybe oversold the point.

Got it. Glad to clarify that. And then just one other. On the defense business, if I strip out what I believe you do roughly in price in the business, it looks like units were kind of flattish in the quarter and has maybe been flattish a few quarters in a row. And I was just kind of reading back through your order commentary on the end market, and it's now been several quarters in a row where the order commentary has been quite robust. DoD Treasury outlays were up well into the double digits in the quarter. Maybe you could parse that a little bit more. I mean, there can be long lead times in the business. You mentioned the A400M. But perhaps you could give us a little more on why it looks like you're trailing market a little bit there right now.

Yes. I will comment on what I see in our business. The defense aftermarket is strong in sales and in bookings. Defense OEM, a little less so. You -- the defense business bookings and including shipments can be very lumpy. You can be impacted by delays in contracts, in budgets. There's a number of factors that go into this. So it's always difficult to predict when these bookings will come out as sales. Clearly, this is a good position to be in that we're building up some backlog, specifically in the aftermarket side, but -- and in on the OEM side of defense. This will eventually come out. It just takes time. And it's why we don't emphasize the defense side as much because it's difficult to predict when this will all come out as shipments. There are many delays and movements in when things can be shipped, even though there are bookings associated with it. So we -- I don't know about trailing markets or not. For our shipset of business, this continues to look robust and encouraging as we look into the future.

So Kevin, do you feel you have a reasonably high probability of the rate of organic growth in that segment accelerating for you next year versus this year?

I think, yes. I think we should expect that. So given -- all of these bookings have to come out sometime. I am as curious about it as you are as to when all this will come out. We do look at this regularly, and it's just difficult to predict. But I would anticipate things will get better here.

And we'll have a -- you'll have a forecast when you go through next year's guidance.

That's right. Next quarter, we'll give you some guidance.

Our next question comes from Gautam Khanna with Cowen and Company.

I was wondering [whether] if you could comment on aftermarket trends more recently? Because I heard of some capacity cuts being planned (inaudible).

You're breaking up. I can't really hear the question. Can your repeat that?

Sure. Can you hear me now?

You're still fading in and out.

Okay. I'll try one last time. Hopefully, it works. Wondering if you had any comments on trends and aftermarket bookings late in the quarter and early in this quarter, just given some of the capacity cuts announced by U.S. Airlines.

I believe you're asking about have we seen a difference in aftermarket bookings or activity because of slowdowns at the end of the quarter, beginning of this quarter. Is that your question?

Yes.

I don't believe we've seen any of that. But I'm not sure I look at it granularity enough on the week-to-week basis to have seen that. But there's nothing that's been highlighted, that there has been any difference that I have seen in the aftermarket at the end of the quarter.

Our next question comes from Ronald Epstein with Bank of America Merrill Lynch.

Kevin, can you talk a little bit about Kirkhill and how that's going? And when you look out in the market for other opportunities, that one seems like it was pretty low-hanging fruit. Are there other opportunities, and maybe more specifically, are there other opportunities from that same tree?

Yes, I don't know. I'll let Nick comment on whether there's other opportunities from the tree. I think Kirkhill has been a good acquisition for TransDigm, and we believe it will deliver the private equity-like returns we're looking for. So we're confident in that. I would tell you that it's still taking some time to understand some of the market segmentation and to determine where some of the opportunities are to improve. I will tell you that so far, so good. I'll give you more of an update next quarter as we have more to update. We've only owned the business for a short period of time. Really took control at the beginning of June, if I remember right. So there are -- there's a limit on how much we can comment so far. There's still a lot of the integration ongoing. But everything we've seen, this is encouraging, and we would certainly entertain other opportunities like that.

And maybe as a follow-on question from -- a couple of other people tried to ask this different ways, but I'll just be more direct. I think investors are trying to get their head around, we're seeing the commercial aftermarket business broadly surging for a lot of different companies. Why isn't it surging for you guys?

It's not? We're up double digits year-to-date in aftermarket. Hard for me to comment on that, defend that, but our total commercial aerospace aftermarket is up 11% year-to-date. And I think our POS so far, year-to-date, we're seeing modest improvements over what we've seen in prior quarters on POS. So it's running above the 11% rate that I discussed. I think we're seeing it. I'm not sure that we're not.

Our next question comes from Seth Seifman with JPMorgan.

Kevin, when you mentioned some of the pressure that you're seeing, you mentioned both wide-body production rate reductions and delays as pressuring OE sales. Did the delays refer solely to the wide-body programs as well? Or is that a broader phenomenon?

It refers to wide-bodies. We've seen some selective slowdowns in narrow-bodies here and there, but nothing to really comment on. The main driver is wide-body. And it's true across all -- really, all wide-body platforms. Yes.

Okay. And then maybe just following up a little bit on Ron's question. It seems like the guidance implies kind of a 6%-ish growth number for aftermarket in the fourth quarter. And so when you look at what makes that up, kind of where is the deceleration coming from in terms of the double-digit growth we saw in the first half to the kind of 6% to 8% for the second half?

I understand the question where you're coming from on that, and maybe we're being too conservative in this. But my goal is to not get out ahead of ourselves. We told everyone last quarter that we thought things were running a little too hot, and we were a little bit lower this last quarter. I don't know where it's going to come in. The order book continues to look strong. This is just our forecast from what we see and our desire to be a little conservative in this market segment.

Our next question comes from David Strauss with Barclays.

Just following up there on the aftermarket. Obviously, the comp was more difficult here year-over-year in the third quarter. Sequentially, Kevin, was the aftermarket up, flat or down in the quarter?

Was it up, flat or down? I'm looking at that. Aftermarket was up a little. A little.

Got it. Okay. And then following up on Seth's questions. On the narrow-body side, are you seeing anything related to kind of the ramp-up issues that both Airbus and Boeing seem to be having on the -- on narrow-bodies in general but also, in particular, on the new narrow-body side?

Not really. I would say that I'm not hearing any trends or concerns across the company that any kind of engine delays or issues in this extended supply chain are causing us any problems that I can see on narrow-bodies. Yes. So nothing that we've seen.

Okay. And last one for me. Your margin performance in the quarter was really good. I think you said adjusted EBITDA margins from the base business were up 50 bps. Was that just mix? Or was there anything kind of exceptional in that number?

I think it's mix and operational performance. It's ongoing what we do day in and day out to drive value, drive our performance in our business, productivity and the like. So I can't point to any one thing, which is good. It goes across all of our businesses in the organization.

Our next question comes from Peter Arment with Baird.

Kevin, I guess this is just more of a clarification because we've talked a lot about the OEM. So just circling back to, I think, Rob's original question. So it sounds like the takeaway is this is all timing-related and that, ultimately, I know you're not giving '19 guidance, but you would expect commercial OEM to be up when we're thinking about these rate increases next year.

We'll provide next year's guidance next quarter. I haven't seen it all come in. But yes, this is a wide-body phenomenon. We haven't -- again, we haven't lost any shipset content. This is 100% timing-related. And we'll give you some more guidance next quarter for the following year. But I see this as a timing-related phenomenon.

Okay. And then just as a follow-up. Just, Nick, just a bigger-picture question. I guess, defense is now 35% of the mix, and I know M&A is very deal-specific and has to meet your criteria. But is there a natural cap on how big you would let the defense exposure get if you saw the right deals?

Yes. I mean, we don't look at deals based on whether it's defense or commercial. We look at them whether they meet our proprietary aerospace significant aftermarket, our criterion whether we get the return. We have obviously seen more attractive defense stuff the last year so than we did in the past, not surprisingly. I don't know that we have a hard limit. We sure wouldn't want to -- we don't want to turn this into a defense company. So I mean, I think we kind of like the range we're in. Whether it's 35 or 37 or 32, I don't know it makes a whole lot of difference.

Our next question comes from Michael Ciarmoli with SunTrust.

[Les] in for Michael. Just to go on to the A220 Airbus C Series, Airbus commenting that they're asking for 20% price concessions from current suppliers. Any impact for you guys there?

I've read that as well, but I have not heard of any request or changes for us. The C Series is a great program. We hope that it's a very successful platform. But I have not heard of any concrete requests or changes for us.

Okay. On the aftermarket interior side, you commented that you've seen some color on recovery there. What's driving it? I mean, is it interior retrofit activity? Any impacts on the Pexco and the Schneller product lines for you?

Well, the interiors business is really Schneller and Pexco largely. So as we look at that, we've seen a slowdown in some of the OEM programs on the interior side as they are doing fleet refurbishments, rebranding campaigns and the like as well as some of those refurbishments. But what we are seeing pick up quite dramatically is the repairs and upkeep of the interiors that were put in over the last couple of years. So our interiors business has -- from the aftermarket side, has recovered nicely in the last quarter and having a decent year. I think really ahead of our expectations on the interior side on the aftermarket.

Okay, got it. Actually one more, if I may. On the supply chain side, I mean, we've heard a number of industry participants commenting that they're seeing some constraints or, perhaps, bottlenecks. Any impact for you guys, perhaps, looking at raw materials, maybe even components? Any impact, any color there that we can add?

No. I don't have any color that concerns -- we monitor our on-time delivery, our days delinquent, how we're doing in servicing our customers across the business. And we're not seeing any dramatic dips across the company in on-time delivery performance. We're not seeing problems sourcing raw materials. But yes, you have to also understand where we are in the supply chain, maybe simpler at the beginning and so maybe not an issue for us. So I'm not hearing any real complaints on capacity or ability to produce right now at the rates that we have.

I think it's safe to say, Kevin, we're not having to stretch out our lead times significantly or anything like that.

We are not.

Which you would see -- which you'd think you'd see if that was happening.

And you might also see your online delivery dip, and you do see that once in a while in a business that has a surge, but everyone recovers quickly. I don't -- I haven't seen any problem here.

Our next question comes from Hunter Keay with Wolfe Research.

Nick, what kind of a correlation have you seen between fuel prices and commercial aftermarket spend as in the level of correlation or maybe a lag? And how are you planning for higher fuel prices as you think about how your customers budget their own discretionary spend for 2019?

I don't know how to correlate it, and I don't know that we've seen a great correlation. Obviously, when your customer is not as profitable, you'd prefer your customer will be more profitable. But I don't know that we've seen any particular correlation, and I don't know how we'd really plan for it. I guess, that's about all I know to say about it.

Yes, I mean, we react to the orders that come in and deal with it. In terms of predicting that, it's difficult. There doesn't seem to be a lot of correlations possible.

And we haven't seen any [there].

Right. I guess, I was just wondering if you were in regular contact with your customers around their own planning process so you're not sort of caught by surprise because it can be a lumpy business.

We are in constant contact with our customers, but we're not talking about their -- necessarily planning needs long-term on this and how fuel prices may impact them. But we certainly are talking about what they need, what their issues are and how we can help them. But that hasn't been an overwhelming point of discussion.

Okay. And then maybe a little bit more on that. Can you tell us a little bit about discretionary spend to the extent that you can? Maybe how much your sales come through, like, multi-quarter -- under the umbrella of this all being discretionary, like multiquarter improvement projects versus sort of like one-off things that may kind of be lumpy and coming through sort of like master purchase agreements or something that you might have with a customer?

I don't know how to answer that question. We don't look at our data that way. So -- and I don't want to speculate or guess on that. So I don't really have a good answer for you.

But I think we can say the vast majority of our aftermarket is not lumpy special project business. It's stuff they order due to activity.

And [anything] -- one business is lumpy one year, but someone else may be lumpy the next. So it has the tendency to average out. But beyond that, I don't know how to answer that question.

Our next question comes from Sheila Kahyaoglu with Jefferies.

EBITDA grew 9% in the quarter in line with the top line. How do we think about timing of EBITDA acceleration? And are there any material costs or mix headwinds or offsets with Kirkhill we should be thinking about?

I don't know of any headwinds or issues that we have to think about right now. So I continue to see us improving margins as we go forward in line with our guidance that we've provided. We -- the value drivers continue to show the same level of engagement as always on price productivity and profitable new business. So I don't see any change.

And then just one more on aftermarket. Is it sort of a normalized type single-digit rate we should be think about now that interiors is picking up and freight is probably normalizing off the high?

Can your repeat that question, Sheila? I missed a couple of words there.

No, no, no. It's my fault. On commercial aftermarket, is the high single-digit growth rate what we should be thinking about on a normalized basis now that interiors is picking up off the bottom and freight is normalizing off of very high levels?

Yes. We'll give -- Sheila, we'll give next year's guidance next year. There's a lot to think about in that as we unpack it and go forward. So can I get back to you on that and give you some more concrete guidance on that as we go forward? Clearly, this isn't a bad situation as we go forward, but we need to unpack that and give you some exact numbers.

Now we've given -- we gave at the Investor Day, we've given some sense of long-term growth kind of numbers that makes sense, and I don't know of any reason that they don't still make sense.

Yes.

Our next question comes from Drew Lipke with Stephens.

I guess, can you remind us how much of your commercial aftermarket sales are engine-related? And then just tied to that, on the aftermarket settlement that CFM signed last week to allow the use of third-party PMA parts, how do you think this could change the aftermarket competitive landscape just in the engine piece of the aftermarket itself?

Well, we don't slice and dice the aftermarket by engine and nonengine sellers. I would tell you that, although the engine side is important for us, it's not a driver for us. So there are opportunities there, but I don't know how to think about it beyond that. And in terms of the settlement, I don't believe there will be any impact to us in our business going forward as that segment isn't a huge segment for us. [Just] naturally for our products.

Okay. And the better growth in aftermarket that you saw in the second quarter, I think you're up 15%. How much was tied to the distribution agreement that Adams Rite signed with Wencor? How much was kind of the pull-forward there?

There was some movement of distributors over the last several quarters for 2 businesses specifically, but I wouldn't say that, that has a material impact on our aftermarket. It's in those numbers, but I don't think it has a material impact.

Our next question comes from Carter Copeland with Melius.

Wondered if you could give us just a clarification on one of those earlier answers, Kevin, on the volumes. If you split that out and said -- I think you would imply that OEM volumes were down modestly, and aftermarket volumes were up modestly if we correct for price. Maybe a little bit better than that on the aftermarket, depending on military volumes. But just wanted that clarification, if you could.

Yes, I don't disagree with your clarification.

Okay, good. And then just another one on -- this kind of gets to Hunter's question a little bit. When you look at buying behavior among the customer set globally in the aftermarket, are there any notable differences in behavior as you take a step around the world and look at various regions? Or are we seeing relatively coordinated activity among the customer set?

I would say that each region has its own idiosyncrasies. So they have different practices and -- but it's still directionally accurate. The procedures, processes, the way people go-to-market, their ordering practices, I haven't seen any changes. Yes, there are some subtle differences when you go, like I said, region-to-region. But I haven't seen any differences in anyone's approach to the market, their buying practices, their inventories, stocking. Whether it's airlines or distribution, I really haven't seen any market changes.

Yes, just trying to understand, you said directionally. So when you look at bookings trends in Asia versus Europe versus U.S. versus LatAm or whatever, take your pick. Directionally, they're all similar is what you're saying or not?

[I would] say they're all directionally similar and dependent on the air fleet that's present in the region. So -- but I think they're all directionally equal. I'm not seeing any -- if your question is, are they -- is one region more PMA activity than another and you don't see the same growth? We don't see those kinds of changes region-to-region. It's amazingly robust around the world and follows pretty similar practices.

I think it's safe to say, in the last [3 to 6], you don't see any discontinuity.

I haven't seen any.

Discontinuity, whatever the practice was [or is].

Yes, nothing has really changed. Do I -- am I interested in Asia and inventory practices there and the like? Sure. But I really haven't seen anything manifest itself differently.

And I'm showing no further questions at this time. I'd like to turn the call back to Liza Sabol for any closing remarks.

Thank you again for calling in to listen this morning. And please look for our 10-Q, which will be filed tomorrow.

Ladies and gentlemen, thank you for participating in today's conference. This concludes today's program. You may all disconnect. Everyone, have a great day.