Kaman Corporation
Q4 2022 Earnings Call Transcript

Published: 24 Feb 2023

[Operator:]

Good day and thank you for standing by. Welcome to the Kaman Corporation Q4 2022 Conference Call. At this time, all participants are in listen-only mode. After the speakers' presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. And I would now like to hand the conference over to your speaker today, Ms. Becky Stath, Vice President and Controller. Ms. Stath, please go ahead.

[Rebecca Stath:]

Good morning. Welcome to Kaman's fourth quarter 2022 earnings call. Leading the call today are Ian Walsh, Chairman, President and Chief Executive Officer; and Jamie Coogan, Senior Vice President, Chief Financial Officer and Treasurer. Before we begin, please note that some of the information discussed during today's call will consist of forward-looking statements setting forth our current expectations with respect to the future of our business, the economy and other events. These include projections of revenue, earnings and other financial items, statements on plans and objectives of the company or its management, statements of future economic performance, and assumptions underlying these statements regarding the company and its business. The company's actual results could differ materially from those indicated in any forward-looking statements due to many factors, the most important of which are described in the company's latest filings with the Securities and Exchange Commission, including the company's fourth quarter 2022 results included on Form 10-K and the current report on Form 8-K filed yesterday evening together with our earnings release. We also expect to discuss certain financial measures and information that are non-GAAP measures as defined in applicable SEC rules and regulations. Reconciliations to the company's GAAP measures are included in the earnings release filed with yesterday's 8-K. Finally, we posted an earnings call supplement on our website, which provides additional context on our financial performance. You can find this presentation at www.kaman.com/investors/quarterly-earnings-call. Now I'll turn the call over to Ian Walsh.

[Ian Walsh:]

Thank you, Becky. Good morning, everyone, and thank you for joining us for our fourth quarter 2022 earnings call. I'll start by providing a summary of the quarter, followed by the decisive actions we have taken to improve our operations and position us for success in 2023 and beyond. I will then pass the call over to Jamie for a more detailed discussion of our financials and outlook. Our teams worked hard to overcome multiple challenges in 2022. We finished the year ahead of the revised EBITDA expectations we communicated in the third quarter earnings call, primarily driven by continued strength in our Engineered Products segment, coupled with meaningful progress on initiatives to enhance our overall operational performance. Our fourth quarter sales came in at $197.1 million compared to $175.1 million in the prior year. And for the full year, we reported sales of $688 million compared to $709 million in the prior year. Both the quarter and the full year results benefited from strength in our Engineered Products segment that grew organically at 12% year-over-year, and contributions from Aircraft Wheel & Brake acquisition, offset by the planned reduction in volume on our JPF program. Our adjusted fourth quarter EBITDA was $31 million, which was up 31.4% from $23.6 million in the prior year. For the full year, our adjusted EBITDA was $80.2 million, which was above the range we communicated in November. This resulted from initiatives we launched during the year to improve execution and cost control. Performance in the quarter was further supported by strength in our Engineered Products segment as we continue to see steady recovery in the commercial aerospace market and growth in medical and industrial end markets. In addition, we benefited from the contributions of our Aircraft Wheel & Brake acquisition. We are very pleased with the integration and performance of this new business, and we look forward to their full year contribution in 2023. 2022 had several challenges that emerged with a couple of our businesses and their suppliers, which the teams have been working to correct. We also had the anticipated reduction in JPF volume. As we head into 2023, we continue to have a clear path forward on more stable footing with strong backlogs in our highest growth businesses. We have consciously reduced the primary sources of variation in our performance with our recent announcements on JPF and K-MAX. Our 2023 outlook, which sets forth our expectations for the year is based on the following assumptions

[Jamie Coogan:]

Thank you, Ian, and good morning, everyone. Today, I will walk you through our fourth quarter results before turning to our outlook for 2023. Our fourth quarter sales were $197.1 million, which was higher than the prior year period of $175.1 million. For the full year, total sales were $688 million compared to $709 million in the prior year. Higher sales in the quarter stemmed primarily from organic growth in our Engineered Products segment, and contributions from Aircraft Wheel & Brake acquisition. Lower sales for the year were due to lower JPF shipments. Adjusted EBITDA in the fourth quarter increased 31.4% to $31 million, or a margin of 15.7%, compared to $23.6 million, or a margin of 13.5% in the fourth quarter of 2021. Higher EBITDA in the period mostly stemmed from the performance in Engineered Products and the addition of Aircraft Wheel & Brake. For the full year, adjusted EBITDA was $80.2 million compared to $95.5 million in 2021. Lower EBITDA resulted from lower sales in our safe and arm device programs and at our structures programs at Jacksonville and Wichita. This decrease was a function of program inefficiencies and supply chain matters that we communicated last quarter. As Ian mentioned, we've implemented a range of measures to lower our cost base and eliminate programs, which historically have caused significant variation in performance. In the aggregate, we expect the cost reduction and program termination initiatives to produce approximately $22 million to $25 million in annualized savings by 2024, with approximately $12 million to be realized in 2023. These savings are comprised of the following

[Ian Walsh:]

Thanks, Jamie. As I mentioned earlier, we are entering 2023 in a much stronger position and a clear path forward as a result of planned and deliberate actions to create a more stable company with more predictable results. We continue to develop a culture with greater internal discipline, controls and leadership. We are very proud to work alongside such a talented team of professionals with capabilities to design and develop highly engineering and sophisticated solutions for our customers. Our future is dependent on our talent, and I'm thankful to our workforce of more than 3,000 dedicated employees whose commitment has been instrumental in our success. With that, I'd like to open the line for questions. May we have our first question please?

[Operator:]

Thank you [Operator Instructions] And our first question will come from Steve Barger of KeyBanc Capital Markets. Your line is open.

[Steve Barger:]

Thanks, good morning.

[Ian Walsh:]

Hey, good morning, Steve.

[Jamie Coogan:]

Hey, good morning, Steve.

[Steve Barger:]

Just first question on gross margin, when we think through JPF wind down, exiting K-MAX and restructuring, do you expect gross margin will exceed last year's low 30% range? And then longer term, what do you think the appropriate gross margin should be for this portfolio as you focus on Engineered Products?

[Jamie Coogan:]

So I'll start off with that one, Steve. We do expect gross margin to be higher than what we anticipated last year, probably somewhere in the range of maybe 200 to 300 basis points higher overall as we look to 2023, just given the incremental addition of Aircraft Wheel & Brake into the portfolio and the absence of the K-MAX sales.

[Ian Walsh:]

Yes and Steve, looking forward, I mean, we have clear targets, as we've mentioned before, relative to what we feel is best class performance for each of our segments. Those businesses all know what those numbers are. So - and that's the first piece. And the second piece is, we're working hard with all of our activities relative to our supply chain and how we build, assemble and deliver products. So, we continue to chip away at that gross margin. We want gross margin expansion year-over-year.

[Steve Barger:]

And presumably, as you look further out, you'll exceed the couple of hundred basis points that you expect this year, as you continue to optimize the portfolio?

[Jamie Coogan:]

Absolutely.

[Ian Walsh:]

Yes, we do indeed.

[Jamie Coogan:]

Yes Steve, one of the key drivers there is organic growth in the base business, especially on the engineered product side, comes through with very significant drop-through relative to earnings. So as that business continues to grow, we would expect to see incremental gross margin gains.

[Steve Barger:]

Yes, got it. And a similar question on SG&A, when you have the portfolio you want, revenue is growing, things are running efficiently, what do you think the right SG&A percentage is? Because it seems like that's the biggest opportunity for cost savings as I look at the income statement?

[Jamie Coogan:]

Yes, we agree with you on that, Steve. There's still a lot of work that we're going to do around cost and looking at cost overall in the organization. I think optimally, we want to be closer to 20% and in the long run, get down below that 20% if we - if possible, with some incremental scale. So the team's working hard to think through ways to be more efficient, more productive, on the G&A front.

[Ian Walsh:]

Yes, I think the team is - yes, has done a nice job just again, offsetting a lot of those material - or excuse me, the SG&A inbound costs that have crept up in the last couple of years. So fundamentally, our target is to get close to 20% and definitely below 20%.

[Steve Barger:]

And I hear you on the scale aspect of that. Does - do you need $1 billion in revenue to be at 20% or can you frame it up at all just from an accountability standpoint?

[Jamie Coogan:]

Yes I mean, I think - no, we don't think we need to be at $1 billion to get to that 20% threshold. I think there's a significant level of efficiencies as we can obtain at a slightly lower level than that. But again, it - we'd be close - we'd be higher than we are today, but probably not at $1 billion.

[Ian Walsh:]

Yes and the scale will definitely help. But again, we've got activities going on right now this year is a function of what we started 1.5 years ago to really go after SG&A. So that continues.

[Steve Barger:]

Okay. I'll ask one more and then jump back in line. You had planned to fulfill - full scale test flight of KARGO UAV towards the end of last year, and I think that's now first half of '23. Can you talk about time line changes and just your updated thinking on the program?

[Ian Walsh:]

Sure. So, we actually said it was close to end of year, early this year and actually just checked in with the team the other day. So we're very close to our first flight. As you can imagine, that's a very important milestone for us. Team has done a marvelous job. So we're very close taking that first flight. And once we do, we'll make sure everybody knows about it. In terms of going forward, we've had significant success, not just funding from Congress, but also funding from the Marine Corps as we've announced with the MULS-A program. So that is now a funded program that we're working towards with the Marine Corps. They were just in last week. Very excited in the direction and kind of what their expectations are with that. Our anticipation is by early next year, we're the - it's an 18-month window. The Marine Corps will take the next big step, which is to say, whoever demonstrates the capability that they need and we're confident we'll be there, then they're going to fund a series of prototypes to mature the technology. From that point forward, they will then push prototypes into the field with customers, a.k.a. [ph] the Marines, who really give us the last kind of level of ingredients that we need to kind of finalize that first iteration. And then they want to go to full rate production. Full rate production is still targeted for the '26, '27 timeframe. And they've told us if we can move that in, they would be excited about that. So we're full steam ahead with cargo, which has been great.

[Steve Barger:]

As you go through the gating process here, how many competitors will be down selected for further testing, do you know?

[Ian Walsh:]

Right now, there's, two in the MULS-A program. So - and we don't know if they would kind of take two the next step or not, so we'll see. So it's literally down to just two of us right now.

[Steve Barger:]

Got it, thanks, I'll get back in line.

[Ian Walsh:]

Okay, thanks Steve.

[Operator:]

Thank you. And one moment please for our next question. Our next question will come from Larry Solow of CJS Securities. Your line is open.

[Larry Solow:]

Good morning Jamie and Ian. Thanks for taking the questions. Just a follow-up on the KARGO UAV question, how about commercial sales would you expect? Is there a potential to get commercial sales before that '26, '27 timeframe or is it kind of going to fall in line after the military moves first?

[Ian Walsh:]

The answer is yes. We already have a tremendous amount of interest from several commercial customers. And we feel confident that they will move faster than the military, which by the way helps the military out tremendously. It's all about building hours and maturity on the aircraft. So, we've got some exciting things happening right now that hopefully we'll be able to announce this year to demonstrate the interest of KARGO. And again, there's - if you think about whether it's oil and gas and offshore, and you mention relief and some other things, there's just a tremendous amount of interest in the capability of what KARGO brings. I will say the addressable market on the commercial side is orders of magnitude higher relative to the military. We've got interest right now obviously, as I said, the Marine Corps. But we also have strong interest in working right now with U.S. SOCOM and the Army. We know the Navy has already kind of been talking to us and the Air Force as well. So the services are really trying to think about distributed logistics. That is a big problem for them to solve, and we are on the forefront of that. Commercial side, just as much, I just read an article recently about what's happening with Walmart and how they've demonstrated almost 6,000 flights on small stuff already. All of those prime and big boxes, and some of the - certainly, the offshore oil and other companies are going to be looking for KARGO.

[Larry Solow:]

Okay, great. I appreciate that color. And just on switching gears back to Engineered Products. Obviously, we've had a nice recovery in commercial aviation. The economy has held up pretty well for the last couple of years. And this is certainly your biggest segment, probably your biggest driver for growth? Does the current economic situation, as we look out, does that concern you at all? That we - if they're getting a slowdown of the pretty strong '22, and I know backlog is strong as well. Do you have any concerns just over the economy and how that relates to your performance over the next few quarters even?

[Ian Walsh:]

Yes, I'll start. The nice part about Engineered Products, quite frankly, is they cover a very wide range of our end markets. So certainly, we're heavily loaded on the commercial and aviation and GA, helicopter side, but also medical and industrial. And we're seeing strong growth rates in all of those. We track the Boeing and Airbus build rates. We have - everybody knows what's going on there. We have seen a nice recovery. I would tell you that from all the data I've seen, I think 2024, for the single aisle, is going to really be back to pre-pandemic. Double aisles I think will be before the '28, '29 timeframe, because we're seeing an uptick there and we've got really strong content on the double aisles. On the business jet market, we've made really strong inroads, if you look at what thematics and some of our other businesses like Aircraft Wheel & Brake. Military side, we've got a strong position on a lot of future contracts, CH-53. We're still working some stuff right now in V-280, which everybody knows was a big program win for Bell. So I'm relatively optimistic on our end markets for our Engineered Products. And we saw, as we mentioned, really strong organic growth last year. We anticipate the same thing this year, mid double-digit growth. And that drop-through for our Engineered Products is just fabulous.

[Jamie Coogan:]

Yes, I just I'll provide some more clarity there, right. Where we are year-to-date on orders specifically out of our specialty bearings products, we are at pre-pandemic levels relative to order rates given at this time of the year so very, very strong fill rates for this year's book of business. And we've got a high level of confidence there that, that's going to kind of continue as we move through the year. And to Ian's point, that low mid-teens sort of organic growth rate expected for 2023 out of Engineered Products with the incremental drop-through in earnings power of that business is going to be well received, we believe.

[Larry Solow:]

Awesome. And excluding the wheel and brake business, obviously, that's a new business. But how about - you guys have talked about a couple of some new products coming out, I think, in the titanium area and Engineered Products. Any update on that or when we might be hearing some things about new product introduction?

[Ian Walsh:]

Yes, we've actually made steady progress when we talk about titanium diffuse hardening process for the K-MAX business, which is our new proprietary technology. So for example, we've got 30 parts that are now either approved or in testing that cover everything from space propulsion. There's a huge movement as everybody knows, about limiting chrome plating right, overseas in the EU and titanium diffuse hardening can do that. So the Airbus has been talking to us. We've got stuff already in work right now in the medical industry, and it's just joint after class teams [ph] some other things. So the teams do - and these take obviously a while to certify, right? So the team continues to develop, I think, a really strong testing portfolio of TDH that will migrate itself in time over time. And we're just going to be looking to really start to accelerate that growth here in the out years.

[Larry Solow:]

Great, I appreciate the color, thanks guys.

[Ian Walsh:]

Yes, thanks Larry.

[Jamie Coogan:]

Thanks Larry.

[Operator:]

Thank you. One moment please for our next question, our next question will come from Seth Seifman of JPMorgan. Your line is open.

[Seth Seifman:]

Okay, thanks very much and good morning guys.

[Ian Walsh:]

Good morning, Seth.

[Seth Seifman:]

So I wanted to start off asking about the revenue guide. And I think if we look at '22 and we've pro forma for wheel and brake, its $740 million so basically looking at flat sales at the midpoint in 2023. And it looks like, based on what's in the backlog for JPF, it looks like there's about a $100 million headwind from that in the guidance. And so, if you took JPF out of both years, you'd probably be growing like 17% pro forma from '22 to '23. What are the main pieces that are driving that 17%?

[Jamie Coogan:]

Yes, so - I like your math, Seth. The one other piece I might add to that is we did have some K-MAX sales in 2022 as well that we are not planning to repeat year-over-year. So it's about call it, right [ph] about $14 million or so related to that as well. So where the growth is coming in, absent Aircraft Wheel & Brake, absent JPF, absent K-MAX, is really coming from Engineered Products, a significant portion of organic growth there, as we talked about, probably low to mid-teens rate of growth there, structures on year-over-year is expected to grow. We've got some really nice volumes coming out of our Vermont facility and with the expected recovery on our A-10 and BLACK HAWK. But as we mentioned, as part of our guide, right? We're not counting any incremental contribution margin from those businesses this year. We need to make sure that we get them healthy and that those will be opportunity and upside to our plan overall.

[Seth Seifman:]

Right, okay, okay, got it, got it. And then so when we think about - I guess, when we think about what Precision Products looks like, on a go-forward basis, like in the out years, pro forma without any JPF contribution that business will get to a place where it's kind of sub-100 and then kind of start growing from there in terms of the top line?

[Jamie Coogan:]

Yes. And that's where you're going to see things like - we do have a very strong portfolio of missile fuze programs. And as you know, with the defense spending and the support that's happening sort of around the world to kind of increase defense spending we would expect and have seen some incremental orders come through for that, as well as our new fire burst technology here that is going to - is expected to be a contributor over the course of this year.

[Seth Seifman:]

Yes. I would guess the remaining fuzing portfolio would see some pretty strong demand right now, okay?

[Jamie Coogan:]

Yes.

[Seth Seifman:]

And then the last one for me, maybe just turning to the balance sheet and kind of the thought process around 2024, still over a year away until maturities are coming up, but they will go current during this year. So how do you think about preparing to address those during 2023?

[Jamie Coogan:]

Yes., we are working on that right now, Seth, talking with our trusted bank partners here as we work forward with that. We know the bank markets are open as of right now, that there's ample opportunity for us to refi. Our goal here is to make the assessment, make a determination and sort of move to take care of those refinancings. As you know, with the converts though, it's a pretty attractive coupon rate right now. We do have sufficient capacity underneath our credit agreement to sort of handle any incremental with that, but we'll have more information on our expected refinancings as we proceed through the year. But absolutely, with that is a processing and project we're working through right now.

[Seth Seifman:]

Right, okay, okay great. Thanks very much.

[Ian Walsh:]

Yes.

[Jamie Coogan:]

Thanks Seth.

[Operator:]

Thank you [Operator Instructions] One moment for our next question. Our next question is a follow-up from Steve Barger of KeyBanc. Your line is open.

[Steve Barger:]

Thanks. Jamie, cumulative free cash flow over the past few years has been kind of a tough story. Can you talk to your confidence in this forecast?

[Jamie Coogan:]

Yes. I mean we are - we feel good about our forecast for this year, Steve. We do have some opportunities like we had talked about in the prepared remarks relative to the incremental sales of the three white tails. We've got three white tail K-MAX inventory today. We do have the opportunity to convert those to cash that is not included as part of our forecast for the full year. In addition to that, we - like we talked about, we are focused on working capital and incremental cost outs in order to drive improved cash flow performance. And so as we move through the course of the year, this year, we'll have - hopefully, have some more information for you on that, to kind of further shore up our current period cash flow as well as maybe provide incremental opportunities above the range.

[Steve Barger:]

And do you - this is more of a forward-looking - sorry, go ahead?

[Jamie Coogan:]

No, I was just going to mention, just for everybody's sake, as we think about cash flow performance over the course of the year, Q1 is typically right a little bit more of a use for us. And we would expect the cash flows to sort of turn positive as we move through the course of the year.

[Steve Barger:]

Yes, understood. And looking forward, I asked a question on SG&A, similar question on free cash flow margin. Do you have a view yet on what this portfolio should produce? Is it - trends more towards Engineered Products or whatever it's ultimately going to look like? How should free cash flow margin flow through?

[Jamie Coogan:]

Yes, we would expect it to be akin to probably the peer group set, right, that we would look at from an Engineered Products perspective, Steve. So the goal here is to get that cost structure in line, move that inventory in a way, in a manner that's consistent with those folks that think about an RBC, think about those types of businesses and their ability to generate cash. That's where our goal is and target is for Kaman.

[Steve Barger:]

So high single, low double digit, does that seem right?

[Jamie Coogan:]

Yes, yes.

[Steve Barger:]

And the business plan approval letter for the fire burst manufacturing and assembly facility, can you talk through how that works from a cash use standpoint and when that turns to revenue?

[Jamie Coogan:]

Yes, so what that is, is - you may recall, we got some footnote disclosures on this inside of our 10-K. When we had our initial award with the UAE, we entered into some commitments there to provide offset credits associated with that program. So the fire burst agreement and joint venture is our way of satisfying those offset requirements. There will be some incremental cash contribution, but we don't really expect that to be anything meaningful until 2024 as we move forward.

[Ian Walsh:]

Yes and Steve, just to add something to that. We would just add IDEX. We just got our joint venture in place, which was a huge milestone to move fire burst forward, but also relative to potential future DCS orders, thinking about that part of the world. The other thing from a cash flow perspective, I was going to mention was we had another huge milestone. Just this week, we had a production readiness review approval. This was back to our A-10 program, which we've been waiting on and working towards. So that's another, again, upside for us this year as we start to really get product out the door with the A-10 program from Wichita and Jacksonville.

[Steve Barger:]

Sounds good. And I'll just ask one more. Jamie, you were going pretty fast on guidance, so I can check the transcript. But I think you said EBITDA is heavier in the back half. Is that true for revenue as well?

[Jamie Coogan:]

Not as much. What happens, Steve, as we get through the course of the year, we moved through some of the accounting right that happens in like the first, second quarter of the year, whether it be vacation accruals, whether it be other types of accruals that we're establishing. We start to work our way through. And as the volume builds over the course of the year, we get better absorption. So that's the sort of natural cadence that we have through our process. So that inherently will always probably have us - have be a little bit back-end weighted relative to performance. But our goal - and as we are trying to demonstrate this year, is that we're trying to make that a little bit more even on a quarterly basis.

[Steve Barger:]

Right, so revenue a little more even, but EBITDA a little heavier because of the accruals and such in the front half?

[Jamie Coogan:]

Yes, more or less.

[Steve Barger:]

Okay, got it. Thank you.

[Jamie Coogan:]

Yes.

[Operator:]

Thank you. I'm seeing, no further questions in the queue. I would now like to turn the conference back to Ms. Becky Stath for closing remarks.

[Rebecca Stath:]

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

[Operator:]

This concludes today's conference call. Thank you all for participating. You may now disconnect. Have a pleasant day, and enjoy your weekend.