Woodward Inc (WWD) 2014 Q4 法說會逐字稿

Thank you for standing by. Welcome to the Woodward Incorporated fourth-quarter FY14 earnings call.

At this time, I would like to inform you that this call is be recorded for rebroadcast.

(Operator Instructions)

Joining us today from the Company are Mr. Tom Gendron, Chairman and Chief Executive Officer, and Mr. Bob Weber, Vice Chairman, Chief Financial Officer and Treasurer. I would now like to turn the call over to Mister Weber.

Thank you, operator. We would like to welcome all of you to Woodward's fourth-quarter FY14 earnings conference call. In today's call, Tom will comment on our markets and related strategies, and I will discuss our financial results as outlined in our earnings release. At the end of our presentation, we will take questions.

For those who have not seen today's earnings release, you can find it on our website at woodward.com. We have again included some presentation materials to go along with today's call, that are also accessible on our website. An audio replay of this call will be available by phone or on our website through November 24, 2013. The phone number for the audio replay is on the press release announcing this call, and will be repeated by the operator at the end of the call.

Before we begin, I would like to refer to and highlight our cautionary statement as shown on slide 3. As always, elements of this presentation are forward-looking, or based on our outlook and assumptions for global economy and our businesses, more specifically. Those elements can and do frequently change. Please consider our comments in light of the risks and uncertainties surrounding those elements.

We also direct your attention to the reconciliations of certain non-US GAAP measures included in today's slide presentation and our earnings release and related schedules. Management uses these non-US GAAP measures in monitoring and evaluating the ongoing performance of Woodward and each business segment.

Turning to our results, we had a solid fourth quarter, in line with a very strong fourth quarter in the prior year. Record net sales for FY14 were $2 billion compared with $1.9 billion in the prior year. Earnings per share were $2.45 for the year compared to $2.10 for the prior year, also a record.

Total EBIT for the year was $250 million compared to $226 million for the prior year. Operating cash flow for the year was $268 million, an increase of approximately $45 million from the prior year.

Now I will turn the call over to Tom to comment further on our results, strategies, and markets.

Thank you, Bob. Welcome to those joining us today. We delivered solid results for the fiscal year. While sales were up 3%, earnings per share were up 17% from the prior year. Our focus on cost control and operational execution continues to show in our improved earnings. Many of our markets, such as commercial aerospace and gas turbines, showed improvement during the year, but were tempered by softness in military sales and natural gas, bus, and truck systems in China.

In the coming year, we anticipate the majority of our markets to continue improving, although moderated by a global economy that is still volatile and unpredictable. More specifically, in aerospace, the overall aerospace market remains strong, as air traffic continues to grow, major new programs are nearing launch, and backlogs are at record levels.

We have seen a strong recovery in the regional jet market with new aircraft replacing an aging Asian fleet. Sales of large cabin business jets continue to grow, while small cabin jets have been slower to recover. We expect growth in this growth market as a result of new aircraft launches. The commercial rotorcraft market has been strong, mainly as a result of the oil and gas industry; however, this market is expected to soften as oil and gas companies moderate their capital expenditures.

While defense remains challenging, we did see significant improvement in the quarter as a result of the previously mentioned contract awards. In the next fiscal year, we expect moderate recovery in our defense sales, predominantly in the aftermarket, as pent-up repair demand is addressed.

The A320neo flew with Pratt & Whitney PurePower engine and the CFM LEAP engine took its first flight, as well. These are strategically important programs for Woodward. We have been investing in these programs for many years and they will represent significant growth in both revenue and earnings, as they enter into service. Our new aerospace facilities in Rockford and Niles, Illinois, as well as our energy facility in Fort Collins, Colorado, have been designed using lean principles, which will provide enhanced productivity and reduce waste as they become operational.

Turning to our energy segment, the demand for emission-friendly natural gas is increasing, while gas infrastructure development continues. The increasing availability in globalization of natural gas and the increase in domestic oil production continue to drive growth in many of our markets.

Demand for new heavy frame gas turbines remains soft; however, the industrial gas turbine aftermarket continues to improve and has resulted in increased sales for Woodward compared to the prior-year quarter. The aero-derivative gas turbine and gas engine markets are strong as a result of demand for the oil and gas industry for power generation and compression. In addition, our focus on penetrating the compressor controls market is yielding new opportunities.

We continue to experience volatility related to the natural gas bus and truck market in China as a result of government incentives, natural gas supplies, and other factors. We believe this market has significant ongoing potential and Woodward has a strong market position. The wind turbine market continues to recover from the 2013 market collapse. We expect moderate growth in the near term.

In summary, sales for the year were up slightly, but we delivered a significant increase in earnings as a result of our focus on implementation of lean principles, operational execution, and cost control initiatives. Looking to our next fiscal year, we expect improved sales and earnings growth, as many of our market continue to improve.

The significant investments in technology and process innovation we have made over the last decade are yielding market share gains across many of our markets and have positioned us to future growth as new aerospace programs launched and natural gas globalization accelerates.

Now let me turn it back to Bob for the financials.

Thank you, Tom.

This year's sales and earnings set new records and our fourth quarter was solid compared to a robust prior-year quarter. Similar to the third quarter, and as we expected, variable compensation was a significant headwind in the quarter and fiscal year, reflecting our improved full-year financial and operational performance. Our variable compensation plan applies to substantially all members worldwide and had a significant impact across our segments this quarter. In FY15, we expect variable compensation expense to be comparable with 2014.

In aerospace, commercial OEM and aftermarket sales continued to show steady growth compared to the prior-year quarter. Commercial aftermarket increased 7% for the full year and 3% for the quarter, compared to a strong prior-year quarter. Defense sales showed significant improvement, both sequentially and compared to a very strong prior-year quarter, although finishing down approximately 11% for the full year.

Aerospace segment earnings for the quarter were strong at 17.9% of sales. Improved manufacturing margins and higher sales were partially offset by higher research and development expenses. We will continue to see variability in research and development expenses as we deliver prototype hardware and execute on deliverables related to new program launches. Aerospace segment earnings as a percent of net sales for the full year 2014 was 14.7%.

In our energy segment this quarter, lower sales of fuel systems for natural gas buses and and trucks in China, offset improved sales in many other markets. Earnings as a percent of sales were 14.2% for the quarter, compared to 15.3% in the same quarter of the prior year.

Segment earnings for the quarter were unfavorably impacted by higher research and development expenses, partially offset by favorable foreign currency exchange, and continued operational improvements. Energy segment earnings as a percent of net sales for the full year 2014 were significantly improved at 14.6%.

At the Woodward level, research and development expenses were $38 million for the fourth quarter of 2014 compared to $31 million for the fourth quarter of 2013, primarily reflecting higher quarterly spent. As a percentage of net sales, research and development was 6.7% in the fourth quarter of 2014 compared to 5.5% in the fourth quarter of 2013.

For FY14, research and development was 6.9% of sales compared to 6.7% for the same period of 2013. For 2015, we expect our R&D expense as percent of sales to be similar to 2014. We will continue to see quarterly variability, primarily due to the timing of achieving development milestones and related testing.

Selling, general, and administrative expenses were $42 million, or 7.5% of net sales, for the fourth quarter of 2014, compared to $48 million or 8.5% of net sales in the fourth quarter of 2013, primarily due to cost control initiatives. The effective tax rate for the fourth quarter of 2014 was 31.2%, compared to 30.2% for the fourth quarter of 2013.

Our full-year effective tax rate was 27%, consistent with the prior year. For FY15, we expect the effective tax rate to be consistent with the current year, including the anticipated reinstatement of the Research and Experimentation tax credit during FY15 and the retroactive impacts.

Looking at cash flows, we generated $268 million of cash flow from operations for FY14 compared to $223 million for the same period of the prior year, primarily the result of improved earnings and working capital management. Free cash flow for FY14 was $61 million compared to $81 million for the same period in the prior year.

Capital expenditures were $207 million for FY14 compared to $142 million the same period of the prior year, reflecting growth in spending related to our capacity expansion projects. For FY15, we anticipate capital expenditures to be approximately $270 million, subject to the inherent variability of large-scale construction projects.

All facility projects are on schedule, with Rockford and Niles, Illinois expected to be completed by the end of this calendar year. Also in FY14, we repurchased [$141 million -- unclear if this is stock valued at $141 milliion, or 141 million shares] of Woodward stock under our current $200 million share authorization.

We anticipate FY15 sales to be between $2.05 billion and to $2.15 billion, earnings per share to be between $2.65 and $2.90 for FY15, assuming approximately 67 million fully diluted shares of outstanding. Overall, our markets continue to improve, and we expect increased sales growth and earnings leverage to positively impact our FY15 performance. We expect overall segment margins to improve by approximately 100 basis points.

I would like to point out that on December 12, Woodward will host an investor and analyst day in New York City, as mentioned in a press release issued in October. Tom and I, as well as other members of the executive team, will review Woodward's markets, strategies, and financial performance, as well as answer your questions. We look forward to seeing many of you there.

This concludes our comments on the business and results for the fourth quarter and full year of 2014, and our FY15 outlook. Operator, we are now ready to open the call to questions.

(Operator Instructions)

Tyler Hojo, Sidoti & Company.

Hi. Good evening, everyone.

Just firstly, I want to talk a little bit about the energy segment revenue performance in the quarter. Looking back historically, I don't think you have ever had a down sequential quarter in terms of revenue. I know you were coming off a pretty strong Q3, but could you maybe just talk about what some of the drivers for that were?

Sure, Tyler. I'm not positive about historical down sequential, but we've always talked about quarterly variability and this quarter really was no difference to that. We've had a strong quarters. We've had the wind being a lot of variability. We've had China CNG system being a lot of variability.

Those two things are the predominant reason why we had the sequential drop this time, but we anticipate that sales will continue to show this relatively slow, moderate growth, but will continue to experience quarterly variability for those two main reasons.

Okay. But predominantly, if you look at Q4 over Q3, the biggest drop-offs were China bus and wind. Is that correct?

Yes.

Okay. Can you remind us how big of a business is China bus today? I know we've talked about it a lot in the past?

I wouldn't want to -- one thing we've said is our predominant customer there is a company called [Waixai] and they have been right up there as one of our largest customers in our energy business. So it's a substantial business.

Okay. Got it.

Just when we talk about the FY15 guidance, you gave a couple of puts and takes. Military, you're expecting to be up modestly next year. Could you maybe talk about some of the other end market drivers, maybe IGT or maybe, within the response, you could just talk about segment growth rates and margins that are baked into your guidance?

Sure. I will start with energy, since that's where we were focusing. We did mention IGT OEM side continues to remain not on the healthiest side, but our aftermarket has been quite strong. We anticipate that will continue. We anticipate our wind business will continue to show some growth. We're seeing some interesting growth in some areas of the market, from our reciprocal engine business, that we have not seen significant growth in the past.

So we've called out that many of our businesses seem to be strengthening in the energy side and we believe we will continue to see that. There is nothing that is showing the wild growth of the early wind days, but everything is showing nice, stable growth.

On the aerospace side, we continue to see strong aftermarket overall. You saw the 7% for the year, or 6%, it was for the full year, and that will have some quarterly variability, but the commercial side, whether it's large transport, regionals have been showing some nice growth and large cabin business jets.

You mentioned defense; yes, we expect that to be a modest improvement next year. That remains to be seen, with respect to everything that is currently going on, as to what impact that may have for 2015. That is an area of some uncertainty.

Got it. How about margins? You said 100 basis points. Was that 100 basis point improvement per segment?

Yes.

Okay. Got it. I'll hop back in the queue. I appreciate it.

Peter Skibitski, Drexel Hamilton.

Hi guys. Nice quarter.

Just maybe to be a little picky on energy, back last time we talked to you, when you were talking about your revenue range of $1.95 billion to $2.05 billion, I think you were expecting things to come in at the upper. I'm just wondering if you can give us a sense of what has softened since then or maybe something slid right?

It was just more a little bit of timing as the end of the quarter occurred. If anything, as Bob highlighted earlier, we see the market is improving, and as we go into 2015 here, we see the revenue growth overall in the Company increasing.

We're still in this modest growth environment. Little bit later, as some of the new programs launch, we start seeing higher growth, but there's nothing special there. It is just little bit of a push-out on some of the sales.

Okay.

Hey, Tom, with the actions the US is taking in the Middle East against ISIS, it seems like it's an the air-driven activity, and you guys, it seems like, are on all the fighters that are operating over there. Have you seen -- maybe the demand isn't coming through yet -- but have you seen an increased pick-up yet on the military aftermarket side as a result of that?

We're definitely seeing some increased pick-up, both on fleet readiness, as well as on the smart weapon side of our business. As Bob highlighted earlier, there is uncertainty there, but no doubt it's a volatile old world out there and if the campaigns continue to go, we would expect some increase in the defense sales.

Okay. Then just my last question, on CapEx guidance for FY15, Bob, did I hear you right? Did you say $270 million for CapEx?

I did.

Okay. I thought 2014 was supposed to be the peak?

No. We really never went -- I think we said 2014, 2015 would be similar, but just the timing of these major projects is causing that to be a little bit off from what we originally anticipated. But we have all three facilities coming to a head here in 2015, so it's a little steeper than 2014.

Okay. And how should we think about the drop-off when those three facilities complete? I imagine they're going to actually complete in FY15?

No. Two will largely complete. The aerospace facilities will be largely complete in 2015, but the energy facility will be pretty much, most of that will be 2015, 2016 and not completing until 2016.

So we've still got a ways to go, but we anticipate the -- I'm not going to call it a drop-off, but obviously a significant reduction starting in 2017. Then we'll see what maintenance is after that. We've targeted this $80 million number but we will see.

Okay. Thanks guys.

William Bremer, Maxim Group.

Good evening, gentlemen.

Can we speak about initial provisioning in the aerospace side? Have you guys started shipping based upon the commentary? Can you give some type of granularity of the magnitude of that in your numbers?

I would say the larger initial positioning that we've seen, that was in 2014 and will carry over into 2015 was really tied around 787, 747-8, those programs, with their ramp-ups. You start -- initial provisioning is really tied to new fleet operators and new routes and so those are still on the ramp up and we think those will continue for several years.

The newest programs they haven't launched yet, so those, there's no IP sales until you actually get launched, but today the main driver is, like I said, around 787.

Okay. You voiced 100 bps year over year on both segments. Do you expect it to be more back-end loaded or are we going to start to see the tangible benefits of this in the first half, as well?

Yes, you will see a steady progress through the whole year.

Okay.

Remembering, of course, that our first quarter is always our most challenging. Coming after that, then we get more in the consistency.

Right.

Hey, Bob, you mentioned that the China bus market is a substantial business for you guys. How do you compare that to wind?

They are pretty close.

I'm trying, gentlemen. I'm trying (laughter).

They are pretty close in size, when you take all of -- not just the single customer Bob highlighted, but all the natural gas trucks and buses. They are pretty similar.

Okay. Can you give me a little color on the pipeline industry within energy?

We're seeing demand. A lot of that, when we highlighted aero-derivative, gas turbines up, and [resipped] gas engines up, a lot of that is in the pipeline area.

Okay. Thank you.

JB Groh, DA Davidson.

Thanks, guys. My questions have been asked and answered.

Michael Ciarmoli, Keybanc Capital Markets.

Good afternoon, guys. Thanks for taking my questions.

Just maybe back into the CapEx question and expectations for free cash flow next year. Should we expect great cash flow to be down year over year?

Yes.

Okay.

And just, again, trying to think about -- will we see a progression -- with the new aerospace facilities and maybe this dovetails into my next question, how should we think about -- as you go live in these new facilities, you start to spend, to progressively throughout the year, on maybe machining and equipment. How should we be thinking about the margins coming out of those facilities?

You are modeling for 100 basis points of improvement, so it sounds like you've got a pretty good comfort level of what any either new product or legacy product would do on that new, call it, assembly line, with a new lean footprint.

We do think we have a good handle on it. The new facility, and maybe for clarity, and it's when we look at the total CapEx expenditure, the facility -- the two facilities in Illinois, the buildings are done, but we have a fair amount of time still to get the equipment in there and the lines up and running. So as we break it -- the facilities there, we will still be optimizing those lines over the next 18 months, as new programs get ready to launch.

So we've modeled it. We're going to see productivity out of those facilities. We will also be managing the ramp-up, and we believe, the ramp-up and the depreciation expense will balance off against each other and we expect to continue to expand our margins over the next couple years.

Okay. Perfect. That's helpful.

And then maybe staying with the margin theme. You said R&D as a percent of revenue should be similar next year. How should we think about the still ongoing bid and proposal activity for the 777X? Is that incorporated into that assumption or would that be some sort of incremental spend?

We've been spending already on that. It's already -- it's in the last half of 2014 and you see probably efforts -- our efforts on 777X will be through most of 2015, because we're starting to see the first awards coming and they'll be spread over the next year. So major initiative for us, but it's all built into our numbers.

Got it. Perfect. Last one for me and this might -- maybe it's a little more challenging to pinpoint, but as we watch the global energy markets, how should be thinking about the sensitivity to your energy portfolio if oil prices continue to fall here? Again, I would think there would be parts of your business, aftermarket, might be a little bit more insulated, but have you guys tried internally to size up some of that volatility or sensitivity with the movement in oil prices?

We have a little bit. If you -- there's a couple key areas. If we see oil -- a lot of times the question has been asked of me and Bob, what would throw off the was the aerospace backlog? That would be if you had sustained, my opinion is, sustained oil prices below $60 a barrel. They could dip, but sustained below could have an effect on our aircraft orders. The reason for that is that older aircraft become more economical to fly.

So we watch for that. We don't really believe, any outlook I see, that we're going to have sustained oil prices that low. So as such, I don't think we're going to see -- the bigger concern for me there would be the bigger aircraft business. Otherwise, we're talking to customers and like and we really believe, dropping down below $70 a barrel and like, we can still see the production occurring.

As we see, lower natural gas positive, that's positive for the use of gas turbines and natural gas engines, that helps our aftermarket because you see higher utilization. We have a natural balancing effect, that if you see a drop-off in exploration or drilling, you would correspondingly see an increase in utilization, and that's a positive for us. Right now we don't have any real high concerns about the commodity prices.

Okay. Perfect. Thanks a lot, guys. I'll jump back in the queue here.

(Operator Instructions)

Sheila Kahyaoglu, Jefferies.

Thank you. Great quarter, guys.

Just a follow-up on this energy theme. You mentioned, both on the rotorcraft side and the aero-derivative side, CapEx expectations may come down for next year. Have any of your customers come back to you over the quarter and held off or is that an assumption you're making?

It's more of an assumption that could happen. We're actually seeing the whole portfolio sales increasing, so it's just little bits and various niches where we see some movement, really as the whole infrastructure gets developed out. So it's an expectation as we've been doing our planning. But overall, we still see positive sales growth in the new oil and gas market.

Okay.

And then maybe within the power gen portfolio within energy, you identified power gen as 60% to 65% of sales. What portion of that is aero-derivative versus IGT?

We usually just lump them together, Sheila, on that one, in terms of the [natural] gas turbines, we take as a whole. The aero-derivatives are used more in distributed power, whereas the IGTs are more base load. Some of those could be still be [self distributive] but that's primarily the split.

Sometimes we track and see what parts of the world are some of the new power going into and is it 50 megawatts or below or 50 megawatts or above? In total, when we look at it, we just lump them together. On power gen, they are both doing well.

Okay.

In terms of utilization. We do anticipate over the next couple of years, you see the last large gas turbines increasing in OE sales. They have been slightly down and flattish, but they will -- the order book is starting to pick up, and as we move into 2016, 2017, we expect those orders to start increasing.

Got it.

Then in terms of organic growth progression throughout the year for both aerospace and energy, should we expect weakness within energy to continue as incentives play out for [Waixai] and aerospace progress at a 5% to 6% organic growth rate? How do we think about that?

First, I would take exception to weakness in energy. There's little bit of timing issue. We actually think energy is fine, strong, it's just a quarter-to-quarter variability. We are expecting a good year in natural gas trucks and buses. We don't see weakness there and the rest of the energy business is increasing in sales growth, solid single-digits, so I actually think it's progressing well.

We still have this volatile global economy. Nothing has taken off in robust, huge -- as Bob highlighted earlier, nothing is taking off in huge growth, but it's solid growth, and on that solid growth, we're going to have margin expansion and good leverage on net sales.

Got it.

And then just one clean-up item, if you don't mind, I don't know if you mentioned it, but you said CapEx is $270 million next year. What should we assume for 2016?

Probably too early to call it out. It should come down from that level. I didn't recall 2014 being called out as the highest, but clearly 2015 should be, as all three facilities are going on now, so it will come down in 2016.

Okay. Got it. Thank you.

Steve Levenson, Stifel.

Thank you. Hi Tom and Bob.

Just a question, there have been number of new business jets announced recently. Do you think some of your acquisitions are going to help you to pick up content on the new ones, similar to what you picked up on some of the more recent redesigns, especially with the change in engine providers?

Yes, if you actually look, we've had to be quiet about the applications, but we're on all the new jets. So when you are looking at the new Bombardier Global Express with the GE Passport, we're on the engine, as well as the aircraft; the new Dassault 5X, we're on the engine, as well as the aircraft; and with a Gulfstream, the new launch, with the Pratt 800, we're on both the engine and the airframe.

In terms of large cabin business jets, we are really well-positioned, as we are on smaller ones. But smaller ones haven't recovered as much, but the big jets, we feel real good about our position and actually higher content. And then also, as you asked from the acquisitions, we have more content, also because of the acquisitions, so it's all playing well together.

Got it. Thank you. Just one other.

Are you seeing any destocking among jet engine customers or do you think that is pretty much done?

No, we're not seen that.

Great. Thank you very much.

Michael Ciarmoli, Keybanc Capital Markets.

Thanks for taking the follow-up, guys.

Just one more on maybe the free cash flow. How should we think about, clearly the CapEx, maybe being a bit above expectations, working capital has continued to climb as a percent of sales, should we think -- is there any flexibility to start getting that number lower next year, or with the new facilities coming online, is there going to have to be maybe incremental investments in inventory as you guys make these transitions?

I'm just trying to understand if there could be some offset on improved working capital management next year?

That clearly is a focal point for us. In a period of growth, and obviously the growth numbers we're putting out are not phenomenal, but they are nice solid, as Tom said, growth figures that are causing the AR side to pop up a little. Actually, we've done a pretty good job on the inventory side during this past year and bringing it down a bit in the fourth quarter.

We would continue to drive those. That's a clear focal point for us and so continued working capital management would be a high point.

The other thing I would point out is that where we ended up on CapEx for 2014 is a little bit below where we anticipated it being. So you can see a little bit offset 2014 low, 2015 a little high, and it's really just -- we mentioned there would be a lot of volatility on these programs.

Got it. Perfect. That's helpful. Thanks, guys.

Mr. Gendron, there are no further questions at this time. I will now turn the conference back to you.

Okay. I do appreciate everybody joining us today and I hope you'll be able to make our investor conference in December, where we'll be going into, as always, a lot more detail on the business, more detail on our applications, and more detail on positive outlook for the Company. Hope you can join us in December and thanks again for your questions today. We'll see you soon.

Ladies and gentlemen, that concludes our conference call today. If you would like to listen to our rebroadcast of the conference call, it will be available today at 7:30 PM Eastern Daylight Time by dialing 1-888-266-2081 for a US call, or 1-703-925-2533 for a non-US call, and by entering the access code 164-6127.

A rebroadcast will also be available at the Company's website at www.Woodward.com for 14 days. We thank you for your participation on today's conference call and ask that you please disconnect your line.