Heroux Devtek Inc
TSX:HRX
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Heroux Devtek Inc
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Good morning. My name is Jilly, and I will be your conference operator today. At this time, I would like to welcome everyone to the Héroux-Devtek's Fourth Quarter 2019 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 risk and uncertainties that could cause actual results to differ materially from those anticipated. We refer you to Slide 2 to the accompanying presentation available on the company's website for the company's forward-looking statements. I would like to remind everyone that this conference call is being recorded today, Thursday, May 23, 2019, at 8:30 a.m. Eastern Time.I will now turn the conference over to Mr. Gilles Labbé, President and Chief Executive Officer; Mr. Martin Brassard, Executive Vice President and Chief Operating Officer; and Mr. Stéphane Arsenault, Chief Financial Officer of Héroux-Devtek. Mr. Labbé, please go ahead.
Good morning and welcome to Héroux-Devtek conference call for the fourth quarter and fiscal year ended March 31, 2019. [Foreign Language] Our press release was issued earlier this morning. It can be found along with the financial statement and the MD&A on our website at www.herouxdevtek.com. Please note that we also post a PowerPoint presentation on our website that summarize the key points of this conference call.Our full year results for 2019 were strong on all fronts. Sales grew by 25.2%, reaching $484 million, up from $387 million last year. This is on account of a strong performance from our acquired business and the ramp-up of our delivery for Boeing 777 and 777X, from higher sales in the business jet market from the ramp-up of the delivery for the Embraer 450/500 program and from higher sales of spares to the U.S. government. This led us to exceed the upper end of our revenue guidance for fiscal 2019 by over $13 million.During the year, our operating profitability also improved. Operating income reached 7.7% of sales, up from 6% and adjusted EBITDA reached $15.3 million, up from $14.7 million last year. These results from the contribution of our acquisition of CESA and Beaver, which we concluded on October 1, 2018 and July 2, 2018, respectively, and from higher throughput, leading to improved absorption of manufacturing costs. We also generated strong cash flow from operations and record free cash flow, resulting mainly from the positive contribution of the financial performance of our fiscal 2019 acquisitions. These strong cash flow are allowing us to diligently reimburse our debt. Our net debt position now stand at $228.1 million, down from $257.3 million at the end of the third quarter of fiscal 2019, representing a decrease of almost $30 million. Now I would like to formally introduce Martin Brassard, who will become -- replacing me as President and Chief Executive Officer effective June 1, 2019. We also announced in today's press release that he has been nominated to join the Héroux-Devtek Board of Directors. Martin has been with the corporation for many years and has taken on increasing responsibilities, most recently as Executive Vice President and Chief operating Officer. Many of you already know Martin, and since he will be taking the [ amour ] in 1 week, I think this is a great opportunity for him to participate in this call. Martin?
Well, thank you, Gilles. Yes, I have been with the company for 25 years now, taking on many roles that have given me the experience needed to lead the company. I am very fortunate to continue working with Gilles and with the help of our exceptional group of employees and seasoned executives, we will continue to expand our global customer base and portfolio of product and services. I am highly confident that we have and will continue to have everything in place to deliver additional shareholder value.Now please turn to Page 4. Since the beginning of fiscal 2019, we recorded a significant increase in the value of our backlog. Our funded backlog stood at $624 million as of March 2019, up from $466 million at the end of 2018, due to the contribution by CESA and Beaver, totaling $114 million and an organic increase of $44 million. As you all know, we complete 2 milestone acquisitions in 2018 that have broadened our product offering and reach. These 2 new businesses have performed extremely well, and we are already building on their existing customer relationships.Furthermore, in the fourth quarter, we invested in growing our surface treatment capacity by acquiring 60% of the share of Tekalia Aeronautik, a supplier of surface treatment services to aerospace sector for a cash consideration of $3.5 million. The acquisition of Tekalia will allow us to further secure surface treatment capacity to support our North American customer base.On the commercial front, we expanded our relationship with Boeing as we announced last July that we have been selected to manufacture the main landing gear system for the F-18 Super Hornet aircraft. And subsequent to the end of the last quarter, we expanded the scope of this agreement to include the manufacturing of the nose and the main landing gears for the Boeing Advanced F-15 program. This expanded scope will also include the supply of spare parts and aftermarket services for both defense aircraft programs and cover a period of performance of 5 years. Also, during the fourth quarter, we were selected by Boeing to supply the landing gear system for the MQ-25 unmanned aerial refueling program. Becoming a key system manufacturer for these 3 such aircraft programs for Boeing is a testament to the strength of our long-standing relationship with the world's largest aerospace company.On the key delivery front, we delivered the first 777X landing gear shipset to Boeing, and our production is ramping up nicely on the 777 program, having delivered a record of 15 landing gear shipset in the fourth quarter of last fiscal year.I would like -- I would now like to turn the call over to Stéphane, who will review our Q4 results and financial position.
Thank you, Martin. Before I begin, please be aware that we will refer to certain indicators that are non-IFRS measures, such as adjusted EBITDA, adjusted net income and free cash flow. These measure are defined and reconciled to the most comparable IFRS measure in our MD&A.Let's start with our financial result on Page 5 of the presentation. Consolidated sales grew 39.7% to $157.9 million, up from $113 million last year, mainly driven by our CESA and Beaver acquisition, which contributed $43.5 million. Commercial sales grew 35.6% to $78 million, up from $57.5 million last year. The strong increase was driven by CESA and Beaver. Excluding the impact of foreign exchange, Héroux-Devtek legacy commercial sales were relatively in line with last year fourth quarter.Defense sales grew 43.9% to $79.9 million, up from $55.5 million. The strong increase was driven by CESA and Beaver, while Héroux-Devtek legacy sales decreased by $1.5 million, resulting from the net effect of the end of the U.S. Air Force repair & overhaul contract, which was partly offset by the ramp-up of the corresponding contract with AAR and from lower manufacturing sales for the CH-47 contract.Turning to Page 6. Gross profit increased to $29.7 million or 18.8% of sales, up from $19 million or 16.8% of sales last year. The increase is attributable to the impact of the Beaver and CESA acquisitions and also from higher throughput, leading to improved absorption of manufacturing costs. Operating income increased to $15.2 million or 9.6% of sales, up from $6.7 million or 5.9% of sales last year. This quarter's operating income included $1 million of nonrecurring item, resulting from acquisition-related costs, down from $5.4 million of nonrecurring item in the equivalent quarter last year, resulting from acquisition-related costs and restructuring charge related to the workforce adjustment. Adjusted EBITDA, which exclude these nonrecurring item, stood at $25.9 million or 16.4% of sales compared with $19.4 million or 17.1% of sales 1 year ago.Turning to Page 7. Net income for the fourth quarter of fiscal 2019 stood at $12 million or $0.34 per diluted share, up from $5.9 million or $0.16 per diluted share last year. Excluding nonrecurring item net of taxes, adjusted net income reached $12.8 million or $0.36 per share, up from $10.4 million or $0.29 per share last year.Now let's turn to our cash flow and financial position on Page 8. Cash flow related to operating activity amounted to $37.2 million in the fourth quarter of fiscal 2019, up from $18.5 million in the fourth quarter of fiscal 2018. This variation mainly reflects the favorable contribution of CESA and Beaver and positive net change in noncash working capital item, mainly from an increase in accounts payable. Fourth quarter free cash flow grew to $31.7 million, up from $20 million last year.And now on Page 9. As Gilles pointed out in his initial comment, our strong cash flow in the fourth quarter allowed us to allocate capital through reimbursement of debt, reducing our net debt position to $228.1 million, down from $257.3 million at the end of the third quarter. The increase as compared to the net debt of $38.8 million as at March 31, 2018, mainly reflect the acquisition of CESA and Beaver during the fiscal year.I will now turn the call back to Gilles.
Thank you, Stéphane. Let's now turn to Page 10 of the presentation to discuss our updated guidance for fiscal 2020 and fiscal 2022. For our fiscal 2020, we expect sales to reach between $560 million to $580 million, resulting from the contribution of the acquired business as well as the increased deliveries related to Boeing 777 and 777X program. Long-term growth prospect remain solid, based on the same underlying assumptions. We are reiterating our fiscal 2022 revenue objective of reaching between $620 million to $650 million. We are now ready to answer your questions.
[Operator Instructions] Your first question comes from the line of Cameron Doerksen from National Bank Financial.
So just a question on the acquisition you've announced this morning, the Tekalia. I know, it's quite small. I guess 2 things. One, why only acquire 60%? And I guess, second, I mean, the revenues you've indicated about $12 million. Will that be consolidated on your income statement? I assume, yes. And were these guys a customer of yours, so that $12 million of revenue be all additive to your revenue? Or will some of that just be now go away from the cost?
Well, maybe just to point out, as I note, Cameron, the $12 million is annual basis. Yes, it will be fully consolidated in our result and it was also for the fourth quarter. And the reason for the acquisition, Cameron, is there is a lack of expertise in that field, in the aerospace segment. And Tekalia was a supplier of ours and it's a very -- they have all the capability necessary to -- for landing gear surface treatment. So it's a one-stop shop. There is not many in North America. And that will allow us to de-risk our program by having that capability in-house and around the company.
Okay. And of that $12 million, I mean, is that all your expectation, all third party? Or is -- you mentioned they were a customer of yours, so then we shouldn't just kind of add $12 million to your forecast?
Yes.
Mainly third party, Cameron.
Okay. Perfect.
So it's open, Cameron, for our supply chain also, important that our supply chain have access to a good surface treatment house.
Okay. No, that's great. Second question for me, just on the 777 program. Just looking at your forecast for revenue growth in fiscal 2020, it does sound like you're expecting a little bit more contribution from the 777. Can you maybe just talk about your expectations there? And now that you've got all the surface treatment processes approved, are we kind of at the full margin contribution from 777 at this point? Or is there still some ramp-up to do on that?
Well, some of margin, I think, will gradually -- I think this year as we repatriate most of the workload, the plating as is done outside, in-house. So gradually over the 2020, we will be able to achieve our full potential of margin on this program. In term of quantity, of course, we expect -- we did 52 ship last year, so we expect, let's say, around 60 ship this year and then moving up to the other quantity. But it's -- we're still trying to be realistic on the quantity and basically we'll see a -- the airplane is selling well. As you know recently, Boeing sold to British -- some 777X, additional 777X, so the program is going in the right direction.
Okay. Perfect. And just 2 very quick, I guess, modeling questions. Stéphane, what are your expectations for CapEx in fiscal 2020? And also the expectations for tax rate?
Well, the fourth quarter CapEx, as you know, on this, we don't provide the guidance, but I think it's correctly have -- a good idea how much CapEx we do for per year. So we know that we'll be also diligent with the increase in our sales, so we're going to have to put some more CapEx than what we did in the past 2 years. So we foresee increasing CapEx compared to the number we had in fiscal [ '20 ]. And referred to the tax rate, so this quarter was at around 13% and 14% at year-to-date. So it will grow gradually, more around 17% to 18%, 19% rate.
Your next question comes from the line of Benoit Poirier from Desjardins.
Congratulations for the strong finish. Just looking at the organic growth, you mentioned some color about the ramp-up of the 777. We also saw the strong marketing campaigns, but organically, given the loss of aftermarket contract, organic growth was kind of negative for the legacy business in Q4. But moving in fiscal '20, what should we expect in terms of organic growth for the legacy business, Beaver and CESA? What type of organic growth we might see going forward?
Well, we have provided guidance, Benoit, $560 million to $580 million. And all that includes the organic growth. So as far as the legacy business with the loss of the R&O contract last year, now we're seeing some more activity from the new incumbent, as you know, that we announced the AAR contract if that's what you were referring to. So activity looks good on that segment too. And as Gilles alluded, 777 rate is -- we have delivered 15 complete shipset last quarter, so it's a rate of 60. That's what we want to maintain next year. And that would be -- and we have 3 new programs, so it will not in our figure -- it will not be in our figure next year, but it should be in year 2 of our fiscal year. So fiscal -- we should start delivering F-18 in fiscal 2021...
'21.
'21, yes.
Starting the year with a very strong backlog and things are going in the right direction.
Yes, exactly.
Okay. Perfect. And when looking at the EBITDA margin, could you maybe provide some color about the impact of the surface treatment in the quarter. If it has been reduced? Or I would assume that it will not be material at one point in time?
Yes, well, essentially, it -- yes, we started for the second quarter in a row to have some benefit, its about 0.2% in our EBITDA margin. So we still see a 0.6% of improvement. As Gilles explained earlier, as we enter with the full surface treatment, we will have the full benefit during the fiscal -- the current fiscal year.
I see. And the 0.3% improvement is a year-over-year. Okay. I see. I see. And now when we look at the integration of CESA and Beaver, it seems to be well advanced and a very good contribution on the bottom line. Looking at your EBITDA margin, you finish at 15.3% for the full year. So given the improvement in the bumpiness or the improvement in the surface treatment for fiscal '20 and the improved contribution from CESA, what type of margin improvement we might see in fiscal '20?
Sorry, Benoit, in term of CESA?
Overall, you're -- you finished the year with 15.3% EBITDA margin. But given the improvement expected with the surface treatment and even improved integration with CESA and Beaver, what type of margin -- EBITDA margin we might see in fiscal '20?
Gilles, its the fan in front of me. Benoit has been looking at me. So we do provide any guidance on the type of margin, but we should see a slight improvement in the plan, given the nature of the timing and the phasing of the repatriation. And we still have to work on our cost structure to improve the margin, but we should expect on the -- close to -- or an improvement compared to this year.
We cannot wait for -- to see your revise reports. So we'll see what type of margin you're going to put in your report and in your analysis.
Okay. Okay. And looking at your balance sheet, big improvement in Q4, obviously driven by free cash flow. Could you provide some color about some items to take into account when we look at the free cash flow expectation for fiscal '20, either in terms of working cap? You mentioned a slight bump in CapEx. And also that one point there is a intention to introduce a dividend.
Our focus, Benoit, has been to reduce the debt, right? And it will continue this year, so we have to be consistent with what we have provided as guidance and expectation there. So we had very good free cash flow, 12% of sales this year, very good last year. So 2 years in a row with cumulative over $100 million of free cash flow. So this is what we told the market and after the investment on the 777, and this is what we are delivering. So we'll continue in the same direction. But as I indicated in my message earlier regarding CapEx, we'll have to put more CapEx in order to -- for the upcoming growth that we have in our plan.
But Benoit, we are well within our covenant. As you know, I mean, when we look at our covenant with our bank syndicate, I mean, we -- the loan fund our -- the government of -- which amounted close to $100 million excluded from the calculation. So if you would take $228 million minus that $100 million, we're down to $128 million. And then if you take the EBITDA on a full year basis, we just closed the year -- last year at $74 million EBITDA, but next year, we'll do more because we will have the full contribution of CESA and full contribution of Beaver and improvement in the legacy. So I mean if you do the maths, I mean, we are under 2 to 2x, so it's a -- and we will continue to basically drive the bus through free cash flow and reduce the debt next year.
What, Gilles, is kind of your comfortable level? Or where would you like to bring the ratio from the close to 2x you are right now excluding the loan agreement?
Well, let's say, we want to continue to drive the free cash flow like we did pretty much in 2019. So another year like this will give us enough room to provide the -- consider some more important acquisition.
Your next question comes from the of line of Tim James from TD Securities.
Just a little further on the Tekalia purchase. Could you talk about what the process treatments are specifically that it provides? And I assume these are processes that Héroux doesn't currently have. Or is this -- some of this just incremental capacity in some existing treatment process that you already have in-house?
Yes, good morning, Tim. This is all of the above. So it's versus all its surface treatment. It's very good capability from [indiscernible] to, cad-plating, and they have the HVOF also capability. They have all the approve -- they are approved by Boeing on all the processes. They are already approved, so it's a shop that is running since maybe 2010 or earlier than that. So they have the tooling, the technique and the infrastructure in place to surface treatment all landing gear part for many customer specs. As you know that this industry has been consolidated in the past few years and have been acquired by great companies, reducing the capacity for our supply chain and for our needs to -- because we need to have these capacities. So it was a bottleneck of the industry, and we took the opportunity to buy this so that to de-risk our operation and making sure that we deliver product to our customer and also for our supply chain, like Gilles said earlier in the -- during the call. Does that answer your question, Tim?
Yes. Yes, that's helpful. And just one follow-up just to clarify. The approximately $12 million in annual run rate revenue, so a small percentage of that or a small proportion of that came from Héroux previously. Is that right? Or is the Héroux revenue that Tekalia would have generated in addition to the $12 million that you talked about?
So it's about $1 million on the $12 million, Tim, that we have -- that we were sending. But obviously we had many other suppliers that we could also consolidate or generate some synergies there.
Okay. Okay. Then your -- with revenue for the year reaching, in fact, exceeding really the top end of your guidance fairly significantly. Could you talk about where the surprise came from your perspective?
Well, all the star were aligned. So sometimes we're lucky. We have all the business unit delivered as expected for the deliveries, and we had good spare orders also to deliver during the quarter. So that's mainly the reason why we exceed the guidance by $30 million.
Okay. Okay. Then just the new work that you've recently announced or updated on the F-18 platforms and the F-15, could you update us on how that new work compares with existing work that you already have on those programs? Is all of it totally new? Or was some of that work -- were you under contract for some of that already? I just don't remember.
Everything is new. The [ A-18 ] we had no business on the F-18 E and F.
E and F. We had some on C&D for spare with the Navy, but E and F, we never had any manufacturer on E and F version.
And the 15, look, it's a product that we know because we build spares for the U.S. Air Force and we build also major component for another landing gear supplier. But now we have the full F-15 and the good news on the 15 is, as you may know, if you look at the most recent defense budget in the U.S., the Air Force has decided that basically they want to buy additional F-15 directly, and we know that other country are looking at the other 15. So people thought that maybe the 15, it will be out of production in 2023, but it looks likes it's got long leg and now we are going to build part of the F-15, I mean, I think this could be at least another 100, but we'll see what -- how Boeing is selling the airplane, but I think it's a program with -- we will continue in the future, so that's a good news for Boeing and we certainly will support them in their objective.
And the MQ-25, the design program too, right? And also, Tim, with the MQ-25 that's another good win for our team there. That's a new program. Its air refueling tanker aircraft that will land on the carrier without human intervention. So we're very proud to be on that platform with its technology -- the high end of the technology. So the...
[Operator Instructions] Your next question comes from the line of Ben Cherniavsky from Raymond James.
I guess first of all, just congratulations, both to Gilles and Martin on the changes. I guess this isn't a retirement per say as you all, but you've got a solid run here and thank you for that. Martin, I guess, over to you, the question sort of at a -- on a strategic or philosophical level, if you want to call it that. What priorities do you have for the -- for your organization as you take over on CEO? Is there -- are there any changes or tweaks you hope to make and maybe if this is a -- you're here for another 5 or plus years, like what kind of legacy do you envision for the company? What direction do you want to take it in from where it's been going?
Well, the direction -- we will continue on the direction, Ben. I've been working with the company for the 25 past year. Gilles and I know each other very, very well. The good -- for the good and the bad. And Gilles gave me the leading of the landing gear in 2005, the landing gear division in 2005 and with the team, we're very fortunate that we have a very seasoned executive team that has been working for us for very long time. So the direction is pretty much done, so we're going to follow that direction. So we have transformed the business over the years from a Tier 2 to a Tier 1. We have now more proprietary product, and we have more value-added product and thinking about the CH-47, the B-777 and now the F-18 and the F-15, so its -- that's -- we have work on the sustainability of the revenue. I intend to continue that. We're going to stay focused. We're going to continue to work on our cost structure and to -- in our production system to make sure that we deliver quality product on time. That's the recipe that we have been -- that we have and we will continue to have. As far as the acquisition, again, focus will be very important. We will make the acquisition that we understand. We will make some strategic acquisition. But first, we need deliver it and then give us some room to make the right acquisition in due time.
So sort of steady as she goes.
Yes, sir.
And there are no further question at this time. I will turn the call back over to the presenters.
Thank you, operator, and thank you all for listening to us today. We are very proud of our 2019 fiscal year and fourth quarter result. Our growing funded backlog demonstrate the strength of our long-term relationship with leading aircraft manufacturer and OEM around the world. And with the integration of the acquisition of Beaver and CESA, we are well positioned to build on new relationship. The global aerospace market has proven to be very resilient over the years, with air traffic doubling in size every 15 years, passenger traffic is expected continue growing at the average rate of the last 20 years and defense remains a solid growth market with spending on the rise. Our recent contract awards with The Boeing Company for the F-18 and the MQ-25 and as announced earlier this week, for the advanced F-15 are positioning us well for future growth in the significantly growing market. I would like to thank you for listening to us today. We look forward to meeting some of you at our upcoming meeting of shareholder to be held on August 10, at the Westin Hotel in Montréal. Have a great day. Thank you for your time. Merci.
Bonjour.
This concludes today's conference call. You may now disconnect.