Heroux Devtek Inc
TSX:HRX
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Heroux Devtek Inc
Earnings Call Analysis
Summary
Q2-2024
Heroux-Devtek delivered $141 million in Q2 sales, a 6.6% increase from the previous year, driven by a robust civil market and favorable exchange rates, boosting their 12-month sales to nearly $580 million. Gross profits improved to $22.5 million, up from $18.4 million, reflecting efficient operations and strategic pricing, despite supply chain challenges. Adjusted EBITDA rose to $18.2 million (12.9% of sales), and operating income reached $9.1 million, with a commitment to restoring historical margins and ongoing work to optimize profitability. Net income stood at $4.6 million, slightly down from $4.8 million in the previous year, while cash flow saw increased use due to inventory investments to support sales growth. The company is buoyed by strong aerospace demand, with bright prospects driven by rising passenger traffic, geopolitical factors spurring defense industry growth, and recent contracts such as the partnership with ITP Aero. Share repurchases continued under the NCIB program initiated in August.
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Good morning. My name is Sylvie, and I will be your conference operator today. At this time, I would like to welcome everyone to Heroux-Devtek's Fiscal 2024 Second Quarter Results Conference Call. [Operator Instructions]
Before turning the meeting over to management, please be advised that this conference call will contain statements that are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from those anticipated. We refer you to the press release available on the company's website for the complete forward-looking statement.
I would like to remind everyone that this conference call is being recorded today, Friday, November 10, 2023, at 8:30 a.m. Eastern Time.
I will now turn the conference over to Mr. Martin Brassard, President and Chief Executive Officer; and to Mr. Stéphane Arsenault, Vice President and Chief Financial Officer of Heroux-Devtek. Mr. Brassard, please go ahead.
Thank you very much, Sylvie, and good morning, everyone, and welcome to our second quarter earnings conference call for fiscal 2024. I invite you to follow along by referring to the financial statements, MD&A and press release, which can be found in the Investors section on our website.
We are happy to report that we delivered $141 million of sales this past quarter, continuing our positive momentum and bringing our trailing 12-month sales to just under $580 million. We delivered 14% more sales than during the first half of last year, and we expect to continue our improvements during the seasonally stronger second half of the fiscal year.
This performance is a remarkable accomplishment, given the seasonal shutdowns and vacation that occurred during the second quarter, and it attests to the hard work and dedication of our teams. Our adherence to the plan we put in place also drove stronger profitability compared to last year. We took another step towards restoring our margin to historical levels, but there remains work to be done.
Linearity remains a challenge, as our industry continues to operate in a difficult supply chain environment. While working hard to adapt to it, as our customers and suppliers, but we expect the condition to remain for some still -- for some time still. Outside of the immediate headwinds, however, the future for our industry has rarely looked this bright.
I'll develop on that later, but first, I would like to turn it to Stephane for a detailed review of our second quarter performance.
Thank you, Martin, and good morning, everyone.
As usual, please be aware that we will be referring to certain non-IFRS measures during the call, including adjusted EBITDA, adjusted net income and adjusted EPS. All non-IFRS measures are defined and reconciled in the MD&A issued earlier today.
Our consolidated sales in Q2 increased by 6.6% to $141.5 million, compared to $132.7 million last year, reflecting a 29.8% growth in the civil market segment as well as a 4.1% positive impact of foreign exchange. Gross profit increased to $22.5 million or 15.9% of sales from $18.4 million or 13.8% of sales last year, due to higher throughput and pricing initiatives, partly offset by the effect of inflation on labor and general production supplies as well as a less favorable product mix.
Operating income increased to $9.1 million or 6.4% of sales from $8.6 million or 6.5% of sales last year, reflecting higher gross profit, partly offset by higher employee-related costs. For the same reason, adjusted EBITDA increased to $18.2 million or 12.9% of sales from $16.2 million or 12.2% of sales. Net income for the second quarter of fiscal '24 stood at $4.6 million or $0.14 per diluted share, compared to $4.8 million or $0.14 per diluted share last year, and up from $3.6 million or $0.10 per share on an adjusted basis.
Cash flow related to operating activity represented a usage of $15.6 million in the second quarter compared to $8.3 million generated last year. The use of cash reflects continued investment in inventory to stabilize our production system and sustain future sales growth. Our improved profitability partly offset the effect of these investments on our net debt to adjusted EBITDA ratio, which stood at 3.1 compared to 2.7 at March 31, 2023.
Back to you, Martin.
Thank you, Stephane. We are quite pleased with our performance, and we can already see the positive outcomes of our efforts to return to historical levels of volume and profitability.
Aerospace demand continue to increase. Passenger traffic levels are very nearly back to the pre-pandemic levels globally. And domestic travel is, in fact, 9% higher. The return on travel demand is, once again, driving new aircraft orders. And this, combined with long-term fleet replacement forecast, is pushing OEMs to increase production rates.
Geopolitical tension have also added urgency to the defense industry's effort to maintain, develop and launch new aircraft programs, both in the United States and Western Europe. The expertise of our engineers and the excellence of our manufacturing teams are attracting very strong demand for our services. As a result, we are well positioned to participate in many programs across the world that should drive our revenue for years to come.
The contract we announced last week with ITP Aero is a great example of this. We will be partnering with them to develop a nozzle actuator technological demonstrator for the next-generation fighter engine to kick off our participation in the F-Gas program. We're entering the seasonally stronger second half of our fiscal year with great momentum, and we are having many positive discussions with our clients and partners.
In closing, I'd like to thank our team again for their efforts throughout the summer months, and I'm confident that the best is yet to come.
Sylvie, we are now ready to answer questions.
[Operator Instructions] And your first question will be from Konark Gupta at Scotiabank.
This is [ Ellie ] filling in for Konark. Congrats on the good results and margin progression. Two questions on my behalf. So the 12.9% margin is the highest you've achieved in the last 6 quarters. How does it compare to your expectations in August? And what does the EBITDA bridge look like from Q1's 11.6%?
Yes. Well, it's a very good remark. Obviously, this is the trail and the effort we have put in the last few quarters, right, reestablishing our throughput. And obviously, the volume and pricing is contributing to the margin. So we're on a path to bring back the margin to historical levels. I think Martin has been pretty clear on that, in the past few quarters. So this is, again, a step in the right direction.
And the bridge, compared to Q1 and last year, is reflective of what I've just said, right? Volume, pricing, partly offset by the inflation, right, that we had versus last year on our supplies and utilities and freight, but it's getting better compared to Q1.
All right. That's helpful. And my last question is, what are your top capital allocation priorities at this time given the ongoing improvement in margin?
The #1 priority has been to invest in our working capital, right, to reestablish our throughput. But also, you see, as Martin said, our trailing 12-month sale has increased again this quarter to $580 million.
So this is going in the right direction on our goal to exceed $600 million of revenue, right? That's the goal. And -- so that's the priority that we have done since the past 3 quarters, and we have bought back shares, right, through the NCIB program announced in August. So that remained the same priority as the previous quarter.
Next question will be from Cameron Doerksen at National Bank Financial.
So I want to follow up on your commentary around the working capital. Obviously, another significant investment in the second quarter here, another $16 million in inventory. I guess maybe two questions from this.
I mean how much more do you have to invest in to get comfort around the throughput? And how much do you think is excess inventory at this point? I mean I'm just trying to think about when this unwinds what kind of cash generation that might produce?
Okay. So good question. So we're more at the end than at the beginning to answer your question. So we are in a very good place to have a very strong second half of this fiscal year. So that's we've done to put that in place.
We don't have excess inventory, but we have inventory to support the issue we have within the production system. So if you go back to fiscal '20, right, pre-pandemic, right, when the pandemic hit, we were at about $240 million, right? So -- and we were trending to sales at the time that are similar to what we foresee in the next couple of quarters.
So probably we have anywhere between $40 million, $50 million of inventory additional, right, to manage through the production environment, but this will be an opportunity, right -- not in the short term, but will be an opportunity eventually when things stabilize.
Okay. No, that's helpful. And maybe you can just update us on where things are on discussions you're having with customers around repricing? I know this is -- it's a long game to do this. But how are the -- how is the tone of those conversations you're having with some of your customers to try to get pricing up to offset inflation?
Yes, very good, Cameron. So we work transparently with our customer. We are ready to share information, and the initiative that we took last year is bearing fruit. It's in line with our expectation. And we have very constructive discussion and positive discussion. And we haven't been able to readjust the pricing, right, or to structure better the pricing to reflect the condition environment.
So there's still work to be done. We still have contracts that are -- that will be expiring in a few years to come. That will give us another opportunity to review our pricing there. But all in all, it's going well. We're starting to see the effect of that, like Stephane said, in our margin, but we should see a greater impact towards the end of the fiscal year.
Next question will be from Jonathan Lamers at Laurentian Bank Securities.
Just a follow up on that last point. Could you share with us a little more color about the portion of revenue? It's subject to repricing. And maybe what portion you've already completed the negotiations on? And what portion will be expiring over the coming year?
It's a very touchy question. It's a difficult question to answer. What I can tell you is the contract that we were allowed to do and that we had an opportunity, they're done, right? So a portion of it, to clearly evaluate based on our percentage of our sales, it's very difficult to answer at this point, Jonathan.
[Operator Instructions] And your next question will be from Tim James at TD Cowen.
I'm wondering if you could talk about any -- if there are any aftermarket -- new opportunities in terms of aftermarket revenue or aftermarket business development over the next couple of years that you see -- you kind of touched on new platform opportunities? Are there any -- it's a little tougher to see from the outside, but are you seeing any opportunities to build and take market share effectively in the aftermarket business?
Well, we -- our order book for aftermarket sales or aftermarket order is very, very strong. Well, I would say closely to the strongest that it's ever been. We're busy with the product that we developed, our RFP products and people want to fly their assets. So it's a healthy situation that we have in the aftermarket as we speak.
And with the geopolitical tension, there's going to be some demand also with the aftermarket of the U.S. and Westerners countries to replace and to maintain aircraft and other systems -- or the different systems given the situation that we have. So that's what we see in the aftermarket today. So yes.
Then maybe following on that question. If I think forward to a couple of years, 2 to 3 years out when hopefully, a lot of the supply chain and logistics challenges are behind you and more of the inflation has been passed on through contracts, could you talk about how your product mix and your service mix might be different than it was pre-pandemic?
Again, I'm thinking about the actuation business, sort of its contribution aftermarket versus new platform. Just anything, from a product mix perspective, that we should think about when comparing kind of longer-term margins to historical margins?
Well, I would say that the -- because of the defense, demand is going up. And 777 will take some time to get to historical level or pre-pandemic level. That's 66 airplanes or 70 airplanes a year.
Aside of that, the percentage should remain approximately the same because we're booking business as we speak, an OE and aftermarket. Like I said, we're solicited with many projects on the defense side in the U.S., in the U.K., in Europe and even in South Korea. So we're going to be busy. So we're in a good position today.
So to give you a straight percentage, you can use approximately the same percentage than what we're living today, but the nominal -- the value will increase -- the total will increase. But in percentage, it should be as we are today, right, Stephane?
Yes. Contributing to that, Tim, we have products that we have developed in the past few years, like the Praetor and other program, right? These eventually will see aftermarket.
Yes, and that's one of the factors I'm trying to consider. I'm thinking back to pre-pandemic, you did have some products in development, which would have buy us margins, lower than a bit of a headwind. And those should be in more of a production or a higher margin phase going out a couple of years. So I would think that would actually help the comparison slightly, but that's helpful.
My last question just on capital expenditures. Correct me if I'm wrong, but there's nothing in your pipeline of deliveries over the next couple of years that should require a significant growth CapEx. Is there -- or like you should be -- your CapEx should be reasonable. And if there is a need for additional, or a step-up in CapEx, it would probably come hand in hand with a new business opportunity? Is that a good way of thinking about your CapEx over the next 2 or 3 years?
Absolutely. That's a fair statement. Of course, if we have big opportunities -- really big opportunities, CapEx will have to be revised. But today, it's a normal trend. Again, free cash flow between 3% to 5% of sales should be a good number.
And at this time, Mr. Brassard, we have no other questions registered.
I'm sorry. We do have a follow-up from Jonathan Lamers.
I just wanted to also ask about the opportunity going forward on single-aisle jets. At what point do you believe that you'll have opportunities to increase your content on those? Do you see -- how is the bidding pipeline looking over the next year?
So on the single-aisle -- so the line is not very good, Jonathan. So I believe I understood the question. And the question was to -- if we see any opportunities on the single-aisle market in our part, and we see it. So on the single-aisle market, so Airbus is looking for new airplanes.
That -- so -- to be launched with the new propulsion strategy or greener airplanes. So before they launch new airplanes in the single-aisle, we ain't going to look -- we cannot touch that market because the IP belongs to Safran. As opposed to the 737 MAX, which is the other platform, the other single-aisle, this one is a built-to-print contract, but the contract expires in 2030.
So when are we going to have the chance is depending of the customer needs, and the opportunity will come with the launch of a new platform by Boeing and by Airbus. And I expect, and when I read between the line, their communication is towards the end of the decade. So probably in the time frame between 2027 to 2030. But obviously, we would be called slightly before that to be invited to propose our solution for these programs.
Does that answer your question? Did I understand well?
Yes, that's interesting. And I'll fix my line.
Thank you. Again, Mr. Brassard, we have no other questions registered at this time. Please proceed.
Okay. Thank you very much, everyone, and I thank you for your confidence. And looking forward to have other discussions with you and update you on our business. Thank you very much, and have a great day.
Thank you. Ladies and gentlemen, this does indeed conclude your conference call for today. Once again, thank you for attending. And at this time, we do ask that you please disconnect your lines.